Note 2 –

Liquidity Risks and Management’s Plans

We have incurred substantial losses since inception, due to investments in research and development, manufacturing, and, more recently, commercialization and medical affairs activities, and we expect to continue to incur substantial losses over the next several years. Historically, we have funded our business operations through various sources, including public and private securities offerings, debt facilities, strategic alliances, committed equity financing facilities (CEFFs), at-the-market equity programs, and capital equipment financings.

As of December 31, 2014, we had cash and cash equivalents of $44.7 million and long-term debt of $30 million under our loan with affiliates of Deerfield Management Company, L.P. (Deerfield) (see, “ – Note 9 – Deerfield Loan”). For the next several years, we expect that our cash outflow requirements, for development programs, operations and debt service, will outpace the rate at which we may generate revenues. Therefore, to execute our business strategy, advance our development programs, pay debt obligations and fund our operations, we will require significant additional infusions of capital until such time as we are able to generate sufficient revenues from the sale of approved products, from potential strategic alliances and commercialization agreements, and from other sources that are sufficient to offset our cash flow requirements. Following the approval of SURFAXIN, we established our own specialty respiratory critical care commercial and medical affairs organization and made investments in manufacturing, quality systems, supply chain, and distribution capabilities. Notwithstanding, revenue growth has been slower than expected and we currently believe that more of our capital and resources than previously anticipated would have to be allocated to SURFAXIN. We also believe that our limited capital and resources should be invested in the development of aerosolized KL4 surfactant, beginning with AEROSURF. Therefore, we are pursuing, with the intention of promptly implementing, a strategic alternative for SURFAXIN that potentially could be (i) a strategic alliance or collaboration arrangement, which we expect would require a lease extension for our Totowa Facility and may require consent under our Deerfield Loan, or (ii) ceasing commercialization activities for SURFAXIN. We would prefer an alliance or collaboration arrangement with a pharmaceutical company that has existing commercial capabilities, including substantial sales, marketing and medical resources and experience in the introduction of hospital-based products. However, there can be no assurance that we will succeed in such efforts. In connection with either a strategic alliance or collaboration agreement for SURFAXIN or cessation of commercialization activities, we expect that we likely will incur one-time transition-related costs associated with such event. Before any additional financings and taking into account our plan to quickly reduce cash outflows related to SURFAXIN through either (i) a strategic alliance or, in the event we are unable to secure a strategic alliance in the near term, (ii) ceasing commercial activities, we anticipate that we will have sufficient cash available to fund our operations and debt service obligations through the first quarter of 2016.

To secure the necessary capital to fund our development programs, an important priority for us is to identify strategic transactions that could provide additional capital and strategic resources to support the continued development and commercial introduction of our RDS products in markets outside the U.S. For our AEROSURF development program, we seek a significant strategic alliance with a partner that has broad experience in markets outside the U.S., including regulatory and product-development expertise and, if AEROSURF is approved, an ability to support the commercial introduction of AEROSURF in the EU and other selected markets outside the U.S. Such alliances typically also provide financial resources, in the form of upfront payments, milestone payments, commercialization royalties and a sharing of research and development expenses. If our efforts to secure an alliance for SURFAXIN in the U.S. are successful, we may seek a strategic alliance that could provide regulatory expertise in designated markets where regulatory marketing authorization is facilitated by the information contained in our new drug application (NDA) approved by the FDA, support the commercial introduction of SURFAXIN in such markets and provide for a sharing of revenues. Under our Battelle Collaboration Agreement, at our discretion from time to time, we may elect to defer payment of amounts due to Battelle in respect of our share of development costs for up to 12 months. We currently have deferred certain payments and may continue to defer payments through the completion of the development project. In addition, under our ATM Program, subject to market conditions, we may sell up to approximately $23 million of common stock at such times and in such amounts that we deem appropriate, subject to a 3% commission. We also may consider public and private equity offerings or other financing transactions, including potentially secured equipment financing facilities or other similar transactions.

Our future capital requirements will depend upon many factors, including our efforts to (i) advance the AEROSURF development program to completion of the phase 2 clinical trials as planned; (ii) reduce or eliminate our capital and resources allocated to the commercialization of SURFAXIN in the U.S. (iii) assure long-term continuity of supply for our KL4 surfactant drug product, potentially at our manufacturing facility in Totowa, NJ (Totowa Facility) and with CMOs, (iv) further the development of our CAG for use in a planned phase 3 clinical program and, if approved, early commercial activities, (v) prepare for and conduct an AEROSURF phase 3 clinical program; and (vi) secure one or more strategic alliances or other collaboration arrangements to support our development programs and commercialization of our approved products, if any, in markets outside the U.S. We believe that we will be better positioned to enter into a significant strategic alliance for AEROSURF if we obtain encouraging results from the AEROSURF phase 2 clinical program.

Given the uncertainty associated with our business strategy as planned, there can be no assurance (i) that our AEROSURF development program will be successful within our anticipated time frame, if at all, (ii) that any of our approved products will be commercially viable, (iii) that we will be able to execute our long-term manufacturing plan to secure continuity of drug product supply, (iv) that we will be able to secure regulatory marketing authorization for AEROSURF and our other potential KL4 surfactant product candidates in the U.S. and other markets, or (v) that the ATM Program will be available when needed, if at all, or (vi) that we otherwise will be able to obtain additional capital when needed and on acceptable terms. We will require significant additional capital to execute our business strategy, pay debt service and sustain operations. Failure to secure the necessary additional capital when needed would have a material adverse effect on our business, financial condition and results of operations. Even if we succeed in our efforts and subsequently commercialize our products, we may never achieve sufficient sales revenue to achieve or maintain profitability.

As of December 31, 2014, we had outstanding warrants to purchase approximately 15.5 million shares of our common stock at various prices, exercisable on different dates into 2024. This includes warrants to purchase 7 million shares that were issued to Deerfield in connection with the Deerfield Loan at an exercise price of $2.81 per share (Deerfield Warrants). The Deerfield Warrants may be exercised for cash or on a cashless basis. In lieu of paying cash upon exercise, the holders also may elect to reduce the principal amount of the Deerfield Loan in an amount sufficient to satisfy the exercise price of the Deerfield Warrants. In addition to the Deerfield Warrants, we have outstanding warrants issued in February 2011 to purchase approximately 4.6 million shares of common stock that expire in February 2016 and contain anti-dilution provisions that adjust the exercise price if we issue any common stock, securities convertible into common stock, or other securities (subject to certain exceptions) at a value below the then-existing exercise price of the warrants. These warrants currently have an exercise price of $1.50 per share. If the market price of our common stock should exceed $1.50 at any time prior to the expiration date of these warrants (February 2016) and if the holders determine in their discretion to exercise these warrants (and we have an effective registration statement covering the warrant shares to be issued upon exercise of the warrants), we potentially could receive up to approximately $6.8 million. There can be no assurance that the price of our common stock will achieve the needed level, that holders of the Deerfield Warrants would choose to exercise their warrants for cash, or that holders of any of our outstanding warrants would choose to exercise any or all of their warrants prior to the applicable warrant expiration dates. Moreover, if our outstanding warrants are exercised, such exercises likely will be at a discount to the then-market value of our common stock and have a dilutive effect on the value of our shares of common stock at the time of exercise.

As of December 31, 2014, 250 million shares of common stock were authorized under our Amended and Restated Certificate of Incorporation, as amended, and approximately 135.7 million shares of common stock were available for issuance and not otherwise reserved.