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EX-10.3 - EXHIBIT 10.3 - Sucampo Pharmaceuticals, Inc.exh_103.htm
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EX-10.5 - EXHIBIT 10.5 - Sucampo Pharmaceuticals, Inc.exh_105.htm
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EX-31.1 - EXHIBIT 32.1 - Sucampo Pharmaceuticals, Inc.exh_321.htm
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EXCEL - IDEA: XBRL DOCUMENT - Sucampo Pharmaceuticals, Inc.Financial_Report.xls
EX-31.2 - EXHIBIT 31.2 - Sucampo Pharmaceuticals, Inc.exh_312.htm
EX-31.1 - EXHIBIT 31.1 - Sucampo Pharmaceuticals, Inc.exh_311.htm
EX-10.1 - EXHIBIT 10.1 - Sucampo Pharmaceuticals, Inc.exh_101.htm
EX-10.2 - EXHIBIT 10.2 - Sucampo Pharmaceuticals, Inc.exh_102.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Form 10-Q
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
 
For the quarterly period ended September 30, 2014
   
OR
   
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
 
For the transition period from          to

Commission File Number: 001-33609

SUCAMPO PHARMACEUTICALS, INC.
(Exact name of registrant as specified in its charter)

 
Title of each class
 
Name of each exchange on which registered
 
 
Class A common stock, par value $0.01
 
The NASDAQ Global Market
 
         
 
Delaware
 
30-0520478
 
 
(State or other jurisdiction of
 
(I.R.S. Employer
 
 
incorporation or organization)
 
Identification No.)
 
         
 
4520 East-West Highway, 3rd Floor
 
20814
 
 
Bethesda, MD
 
(Zip Code)
 
 
(Address of principal executive offices)
     
         
 
(301) 961-3400
 
 
(Registrant’s telephone number,
 
 
including area code)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities 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.   þ Yes   o 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).   þ Yes   o No
 
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.

Large accelerated filer o
 
Accelerated filer þ
 
Non accelerated filer o
 
Smaller reporting company o
       
(Do not check if a smaller reporting company)
   

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

As of October 31, 2014, there were 44,349,465 shares of the registrant’s class A common stock outstanding.
 


 
 

 
Sucampo Pharmaceuticals, Inc.

Form 10-Q Index

 
Page
Part I. FINANCIAL INFORMATION
1
  1
  2
  3
  4
  5
24
37
38
Part II. OTHER INFORMATION
39
39
39
39
39
39
40
 
 
 
 
 
 

 
PART I — FINANCIAL INFORMATION
SUCAMPO PHARMACEUTICALS, INC.
(In thousands of U.S. dollars, except share data)
 
 
   
September 30,
2014
   
December 31,
2013
 
ASSETS
           
             
Current assets:
           
Cash and cash equivalents
  $ 56,087     $ 44,102  
Investments, current
    8,857       16,003  
Product royalties receivable
    16,811       14,829  
Unbilled accounts receivable
    2       1  
Accounts receivable, net
    8,453       5,407  
Prepaid and income taxes receivable
    3,678       9  
Deferred tax assets, current
    -       2,028  
Deferred charge, current
    377       673  
Restricted cash, current
    26,114       26,115  
Inventory
    133       209  
Prepaid expenses and other current assets
    3,550       3,977  
Total current assets
    124,062       113,353  
                 
Investments, non-current
    13,046       7,219  
Property and equipment, net
    882       1,156  
Intangible assets, net
    157       6,438  
Deferred tax assets, non-current
    1,436       1,212  
Deferred charge, non-current
    2,261       4,540  
Restricted cash, non-current
    2,313       2,471  
Other assets
    461       488  
Total assets
  $ 144,618     $ 136,877  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
               
                 
Current liabilities:
               
Accounts payable
  $ 5,924     $ 7,614  
Accrued expenses
    7,160       5,682  
Deferred revenue, current
    2,047       1,365  
Income tax payable
    -       701  
Notes payable, current
    26,342       26,892  
Other current liabilities
    2,436       358  
Total current liabilities
    43,909       42,612  
                 
Notes payable, non-current
    21,741       25,828  
Deferred revenue, non-current
    5,457       6,169  
Deferred tax liability, non-current
    343       2,066  
Other liabilities
    1,512       1,233  
Total liabilities
    72,962       77,908  
                 
                 
                 
Stockholders' equity:
               
Preferred stock, $0.01 par value; 5,000,000 shares authorized at September 30, 2014 and December 31, 2013; no shares issued and outstanding at September 30, 2014 and December 31, 2013
    -       -  
Class A common stock, $0.01 par value; 270,000,000 shares authorized at September 30, 2014 and December 31, 2013; 44,330,465 and 43,315,749 shares issued and outstanding at September 30, 2014 and December 31, 2013, respectively
    443       432  
Class B common stock, $0.01 par value; 75,000,000 shares authorized at September 30, 2014 and December 31, 2013; no shares issued and outstanding at September 30, 2014 and December 31, 2013
    -       -  
Additional paid-in capital
    80,897       72,109  
Accumulated other comprehensive income
    15,643       15,601  
Treasury stock, at cost; 524,792 and 524,792 shares
    (2,313 )     (2,313 )
Accumulated deficit
    (23,014 )     (26,860 )
Total stockholders' equity
    71,656       58,969  
Total liabilities and stockholders' equity
  $ 144,618     $ 136,877  
 
 
The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements.
 
 
1

 
SUCAMPO PHARMACEUTICALS, INC.
(In thousands of U.S. dollars, except per share data)
 

   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
   
2014
   
2013
   
2014
   
2013
 
Revenues:
                       
Research and development revenue
  $ 1,797     $ 2,027     $ 5,281     $ 16,288  
Product royalty revenue
    16,811       13,595       44,200       37,271  
Product sales revenue
    11,717       5,378       25,572       10,994  
Co-promotion revenue
    936       -       2,021       61  
Contract and collaboration revenue
    202       163       619       490  
Total revenues
    31,463       21,163       77,693       65,104  
                                 
Costs and expenses:
                               
Costs of goods sold
    4,974       6,267       12,163       9,457  
Intangible assets impairment
    5,631       -       5,631       -  
Research and development
    5,297       4,474       14,684       14,528  
General and administrative
    8,117       5,440       23,571       18,635  
Selling and marketing
    3,801       6,026       11,461       15,967  
Total costs and expenses
    27,820       22,207       67,510       58,587  
                                 
Income (loss) from operations
    3,643       (1,044 )     10,183       6,517  
Non-operating income (expense):
                               
Interest income
    26       20       106       63  
Interest expense
    (384 )     (461 )     (1,176 )     (1,449 )
Other income (expense), net
    519       183       143       2,203  
Total non-operating income (expense), net
    161       (258 )     (927 )     817  
                                 
Income (loss) before income taxes
    3,804       (1,302 )     9,256       7,334  
Income tax (provision) benefit
    (2,324 )     2,825       (5,410 )     (2,641 )
Net income
  $ 1,480     $ 1,523     $ 3,846     $ 4,693  
                                 
Net income per share:
                               
Basic
  $ 0.03     $ 0.04     $ 0.09     $ 0.11  
Diluted
  $ 0.03     $ 0.04     $ 0.09     $ 0.11  
Weighted average common shares outstanding:
                               
Basic
    43,796       41,863       43,613       41,644  
Diluted
    43,796       42,787       43,613       42,662  
                                 
Comprehensive income:
                               
Net income
  $ 1,480     $ 1,523       3,846     $ 4,693  
Other comprehensive income (loss):
                               
Unrealized gain (loss) on investments, net of tax effect
    (5 )     18       -       (16 )
Foreign currency translation
    287       (253 )     42       (387 )
Comprehensive income
  $ 1,762     $ 1,288     $ 3,888     $ 4,290  
 
 
The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements.
 
 
2

 
SUCAMPO PHARMACEUTICALS, INC.
(In thousands of U.S. dollars, except share data)
 

   
Class A
Common Stock
   
Additional
Paid-In
   
Accumulated
Other
Comprehensive
   
Treasury Stock
   
Retained
Earnings
(Accumulated
   
Total
Stockholders'
 
   
Shares
   
Amount
   
Capital
   
Income (Loss)
   
Shares
   
Amount
   
Deficit)
   
Equity
 
Balance at December 31, 2013
    43,315,749     $ 432     $ 72,109     $ 15,601       524,792     $ (2,313 )   $ (26,860 )   $ 58,969  
Employee stock option expense
    -       -       1,379       -       -       -       -       1,379  
Stock issued under exercise of stock options
    472,640       5       2,162       -       -       -       -       2,167  
Stock issued under employee stock purchase plan
    3,555       -       23       -       -       -       -       23  
Stock issued under "at-the-market" offering
    538,521       6       5,321       -       -       -       -       5,327  
Foreign currency translation
    -       -       -       42       -       -       -       42  
Windfall tax benefit from stock-based compensation
    -       -       (97 )     -       -       -       -       (97 )
Net income
    -       -       -       -       -       -       3,846       3,846  
Balance at September 30, 2014
    44,330,465     $ 443     $ 80,897     $ 15,643       524,792     $ (2,313 )   $ (23,014 )   $ 71,656  

 
The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements.
 
 
3

 
SUCAMPO PHARMACEUTICALS, INC.
(In thousands of U.S. dollars)
 

   
Nine Months Ended September 30,
 
   
2014
   
2013
 
Cash flows from operating activities:
           
Net income
  $ 3,846     $ 4,693  
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
               
Depreciation and amortization
    984       1,117  
Intangible assets impairment
    5,631       -  
Deferred tax provision
    48       (201 )
Deferred charge
    2,576       504  
Stock-based compensation
    1,379       1,376  
Amortization of premiums on investments
    69       81  
Unrealized currency translations
    (301 )     (815 )
Changes in operating assets and liabilities:
               
Accounts receivable
    (3,047 )     (1,334 )
Unbilled accounts receivable
    (2 )     732  
Product royalties receivable
    (1,982 )     581  
Inventory
    74       (218 )
Prepaid and income taxes receivable and payable, net
    (4,091 )     (2,159 )
Accounts payable
    (1,682 )     (2,428 )
Accrued expenses
    1,501       (4,231 )
Deferred revenue
    18       (3,039 )
Accrued interest payable
    304       395  
Other assets and liabilities, net
    2,207       (2,247 )
Net cash provided by (used in) operating activities
    7,532       (7,193 )
Cash flows from investing activities:
               
Purchases of investments
    (12,224 )     (7,910 )
Proceeds from the sales of investments
    1,700       -  
Maturities of investments
    11,750       5,760  
Purchases of property and equipment
    (62 )     (153 )
Changes in restricted cash
    -       (9,561 )
Net cash provided by (used in) investing activities
    1,164       (11,864 )
Cash flows from financing activities:
               
Proceeds from notes payable
    -       10,600  
Repayment of notes payable
    (3,905 )     (3,725 )
Proceeds from exercise of stock options
    2,167       1,543  
Proceeds from employee stock purchase plan
    23       17  
Proceeds from "at-the-market" stock issuance
    5,327       -  
Purchase of treasury stock
    -       (336 )
Windfall benefit from stock-based compensation
    (97 )     304  
Net cash provided by financing activities
    3,515       8,403  
Effect of exchange rates on cash and cash equivalents
    (226 )     (1,457 )
Net increase (decrease) in cash and cash equivalents
    11,985       (12,111 )
Cash and cash equivalents at beginning of period
    44,102       52,022  
Cash and cash equivalents at end of period
  $ 56,087     $ 39,911  

 
The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements.

 
4

 

Description of the Business
 
Sucampo Pharmaceuticals, Inc. (the Company) is a global biopharmaceutical company focused on innovative research, discovery, development and commercialization of proprietary drugs to treat gastrointestinal, ophthalmic, neurologic, and oncology-based inflammatory disorders. Over the next five years, we intend to expand our management, organizational and operational capabilities, expand our global partnerships, develop our diversified product pipeline, acquire non-prostone clinical candidates, and enhance our capital structure.

The Company currently generates revenue mainly from product royalties, development milestone payments, product sales and clinical development activities. The Company expects to continue to incur significant expenses for the next several years as the Company continues its research and development activities, seeks regulatory approvals and additional indications for approved products and other compounds, seeks global partnering opportunities for its approved products and compounds, and seeks strategic opportunities for non-prostone clinical candidates.

In the United States (U.S.) 8 mcg and 24 mcg AMITIZA® (lubiprostone) capsules are marketed for three gastrointestinal indications under the October 2004 collaboration and license agreement (the Takeda Agreement) with Takeda Pharmaceutical Company Limited (Takeda). These three indications are: 1.) 24 mcg capsules for the treatment of chronic idiopathic constipation (CIC) in adults, 2.) 8 mcg capsules for the treatment of irritable bowel syndrome with constipation (IBS-C) in adult women, and 3.) 24 mcg capsules for the treatment of opioid-induced constipation (OIC) in adults suffering from chronic non-cancer pain. Under the Takeda Agreement the Company is primarily responsible for clinical development activities, while Takeda is primarily responsible for the commercialization of AMITIZA in the U.S. and Canada. Takeda also holds marketing rights to AMITIZA in Canada and the Company filed for regulatory approval in Canada at the end of October 2014. The Company and Takeda initiated commercial sales of AMITIZA in the U.S. for the treatment of CIC, IBS-C, and OIC in April 2006, May 2008 and May 2013, respectively. In September 2014, the Company and Takeda launched a pilot direct-to-consumer advertising campaign for AMITIZA in select U.S. markets for adults with CIC.

In Japan, 24 mcg AMITIZA capsules are marketed under a license, commercialization and supply agreement (the Abbott Agreement) with Abbott Japan Co. Ltd. (Abbott Japan) for the gastrointestinal indication of chronic constipation (CC), excluding constipation caused by organic diseases. Abbott Japan initiated commercial sales of AMITIZA in Japan for the treatment of CC in November 2012. AMITIZA is Japan’s only prescription medicine for CC. The Company has been informed that Abbott Laboratories, Inc. has entered into an asset purchase agreement with Mylan, Inc. (Mylan), pursuant to which the Abbott Agreement will be sold to Mylan. The Company expects the transfer of the Abbott Agreement to Mylan will be completed in the first half of 2015, and the Company does not expect any significant changes in the commercialization of AMITIZA in Japan as a result of such transfer.
 
Under the terms of the Abbott Agreement, Abbott Japan agreed to pay the Company a commercial milestone payment of $2.5 million within forty-five (45) days after the end of the month during which the first occurrence of annual net sales of lubiprostone in Japan exceeded ¥5.0 billion. On October 6, 2014, after confirming the October 2014 notification by Abbott Japan that annual net sales had exceeded ¥5.0 billion by the end of September 2014, the Company invoiced Abbott Japan $2.5 million for the commercial milestone payment. This revenue was recorded in the third quarter of 2014.

The Company holds license agreements for RESCULA® (unoprostone isopropyl ophthalmic solution) 0.15% in the U.S. and Canada and the rest of the world, with the exception of Japan, Korea, Taiwan and the People’s Republic of China. RESCULA is approved in the U.S. for the lowering of intraocular pressure (IOP) in patients with open-angle glaucoma or ocular hypertension. The Company has ceased marketing RESCULA, and in the third quarter of 2014 incurred a $5.6 million intangible assets impairment related to RESCULA (see Note 5.)

The Company’s other clinical development programs include the following:
 
Pediatric Functional Constipation
 
As previously disclosed, two of the four planned phase 3 studies for the Company’s pediatric functional constipation development program are ongoing, both of which are testing the 24 mcg soft gelatin capsule formulation of lubiprostone in patients 6 to 17 years of age: a 12-week, randomized, placebo-controlled trial that initiated in December 2013 and a follow-on, long-term safety extension study that initiated in March 2014.
 
 
5

 
Alternate Formulation Lubiprostone
 
As previously disclosed, the Company has been developing a new dosage form of lubiprostone for patients who will not swallow the soft gelatin capsule. Takeda has agreed to fund 100% of the costs for the alternate formulation work for lubiprostone. Feasibility testing for this alternate formulation work is ongoing and is expected to be completed in the first quarter of 2015.  If successful, the alternate formulation will enable future studies of lubiprostone in adults and younger children who will not swallow the current soft gelatin capsule formulation.
 
Intravenous and Oral Ion Channel Activators for Lumbar Spinal Stenosis
 
Two ion channel activators, in both the intravenous, or IV, and oral, or PO, forms, are in clinical development for the treatment of lumbar spinal stenosis (LSS). Positive top-line results from a phase 1b trial evaluating the safety and pharmacokinetics of the orally administered ion channel activator demonstrated the compound to be generally well-tolerated. The Company plans to initiate a phase 2a study with the orally administered compound in the second half of 2015 to evaluate the clinical effectiveness of the PO ion channel activator in patients with LSS. The Company has decided not to proceed with the IV version at this time.
 
Cobiprostone as an Oral Spray for Oral Mucositis
 
The Company has completed a phase 1b clinical trial for the target indication of prevention and/or treatment of oral mucositis. The results of this phase 1b trial showed that cobiprostone was well-tolerated and revealed low systemic exposure. The next phase of clinical development, a phase 2 trial, is expected to begin in the first half of 2015.
 
Cobiprostone for Non-Erosive Reflux Disease (NERD)
 
The Company announced it will begin a development program for cobiprostone to treat non-erosive reflux disease (NERD) for patients who have a non-satisfactory response to proton pump inhibitors.  The Company plans to initiate a phase 2 program in NERD by the end of 2014.
 
Unoprostone isopropyl for Retinitis Pigmentosa (RP)
 
The Company has received orphan drug designation for unoprostone isopropyl from the FDA for the treatment of retinitis pigmentosa (RP) and from European Medicines Agency.  In the first quarter of 2015 the Company will obtain interim, one-year data from the two-year Phase 3 study for RP in Japan, which is being funded by the Company's partner R-Tech Ueno.  The Company continues to work with clinical experts and regulators in the U.S. and Europe to determine a go-forward plan for development of RP in these markets.  Taken together, these will provide the Company with the information needed to decide on next steps in RP by mid-2015, with the aim to expand to a global program.  Additionally, the Company is evaluating opportunities in other retinal diseases, such as geographic atrophy, the advanced stage of age-related macular degeneration.
 
Basis of Presentation
 
The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with generally accepted accounting principles in the United States of America, or GAAP, and the rules and regulations of the U.S. Securities and Exchange Commission, or SEC, for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements and should be read in conjunction with the Company’s Consolidated Financial Statements as of and for the year ended December 31, 2013 included in the Company’s Annual Report on Form 10-K, which was filed with the SEC on March 12, 2014. The financial information as of September 30, 2014 and for the three and nine months ended September 30, 2014 and September 30, 2013 is unaudited. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. In the opinion of the Company’s management, all adjustments, consisting only of normal recurring adjustments or accruals, considered necessary for a fair statement of the results of these interim periods have been included. The results of the Company’s operations for any interim period are not necessarily indicative of the results that may be expected for any other interim period or for a full fiscal year.

The Condensed Consolidated Financial Statements include the accounts of the Company and its wholly owned subsidiaries: Sucampo AG (SAG) based in Zug, Switzerland, through which the Company conducts certain of its worldwide and European operations; Sucampo Pharma, Ltd. (SPL) based in Tokyo and Osaka, Japan, through which the Company conducts its Asian operations; Sucampo Pharma Americas LLC, (SPA) based in Bethesda, Maryland, through which the Company conducts its North and South American operations; and Sucampo Pharma Europe, Ltd., (SPE) based in Oxford, United Kingdom. The Company liquidated Ambrent Investments S.à.r.l., based in Luxembourg, at the end of 2013. All significant inter-company balances and transactions have been eliminated.

The preparation of financial statements in conformity with GAAP requires management to make estimates that affect the reported amounts of assets and liabilities at the date of the financial statements, disclosure of contingent assets and liabilities, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Recent Accounting Pronouncements
 
In April 2014, the Financial Accounting Standards Board (the FASB) issued Accounting Standards Update 2014-08, “Presentation of Financial Statements and Property, Plant and Equipment”. Under the new standard, only disposals representing a strategic shift in operations that have a major effect on the organization's operations and financial results, or a business activity classified as held for sale, should be presented as discontinued operations. Additionally, it expands the disclosure requirements for discontinued operations to provide more information regarding the assets, liabilities, income and expenses of discontinued operations. This update is effective for interim and annual periods beginning after December 15, 2014, and early adoption is permitted. The adoption of this standard is not expected to have a material impact on the Company's consolidated financial statements.

In May 2014, the FASB issued Accounting Standards Update 2014-09, "Revenue from Contracts with Customers." While the standard supersedes existing revenue recognition guidance, it closely aligns with current GAAP. Under the new standard, revenue is recognized at the time a good or service is transferred to a customer for the amount of consideration received for that specific good or service. It is effective for annual reporting periods beginning after December 15, 2016, including interim reporting periods, and early adoption is not permitted. Entities may use a full retrospective approach or report the cumulative effect as of the date of adoption. The Company is currently evaluating the impact the adoption of this standard will have on the Company’s consolidated financial statements.

In August 2014, the FASB issued Accounting Standards Update 2014-15, “Presentation of Financial Statements-Going Concern”. The new standard provides guidance regarding management's responsibility to evaluate whether there is substantial doubt about an entity's ability to continue as a going concern and to provide related footnote disclosures. The new standard is effective for annual reporting periods beginning after December 15, 2016, including interim reporting periods, and early adoption is permitted. The Company is currently evaluating the impact of adopting this standard, but does not expect it will have a material impact on the Company’s consolidated financial statements.

 
6

 
Revision to Previously Issued Financial Statements
 
While preparing historical financial statements for the year ended December 31, 2013 and periods ended March 31, 2014 and June 2014, the Company identified certain immaterial errors in the presentation of certain line items in the previously reported financial statements. In accordance with ASC Topic 250, Accounting Changes and Error Corrections, ASC Topic 250-10-S99-1, Assessing Materiality, and ASC Topic 250-10-S99-2, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements, the Company evaluated these errors and, based on an analysis of quantitative and qualitative factors, determined that they were not material, individually or in aggregate to any previously issued financial statements and, therefore, amendment of previously filed reports with the SEC was not required.

The Company has revised certain comparative periods to correct for these errors; however, certain account balances have not yet been revised. As a result, the Company is including herein the correction of all such immaterial errors that have not been revised in its previous periodic filings. The Company has revised the Condensed Consolidated Statements of Operations and Comprehensive Income for the three and nine months ended September 30, 2013 to correct errors in the presentation of gross profit.  As a result of this revision, gross profit was removed as a sub-total and costs of goods sold was disclosed as an operating cost under the heading “Costs and expenses”. Gross profit was presented on the Condensed Consolidated Statements of Operations and Comprehensive Income beginning in the year ended December 31, 2012 and for periods ended March 31, June 30 and September 30, 2013.

In addition, the Company has revised the Consolidated Statements of Operations and Comprehensive Income for the year ended December 31, 2013 and 2012, the three months ended March 31, 2013 and March 31, 2014, the three and nine months ended September 30, 2013 and the Consolidated Balance Sheet as of December 31, 2013 and 2012 to correct errors in the recognition of indirect taxes at its Swiss subsidiary. The errors affect the years ended December 31, 2012 and 2013 and the periods ended March 31, 2013, June 30, 2013, September 30, 2013 and March 31, 2014. During those periods, the Company overstated its indirect tax liability and understated net income.

The Company has also revised the Consolidated Statements of Cash Flows for the year ended December 31, 2013 and the nine months ended September 30, 2013 to correct errors in the classification of foreign exchange gains and losses in net cash used in operating activities, investing activities and the effect of exchange rates on cash and cash equivalents and the change in net income. The errors in classification affect the year ended December 31, 2013 and the periods ended September 30, 2013, June 30, 2013 and March 31, 2013. These errors have no effect on the balances of cash and cash equivalents.
 
 
 
7

 

Selected Items - Annual
 
As
Previously
Reported
   
Revision
Adjustment
   
As Revised
 
                   
Consolidated Balance Sheet
                 
(In thousands)
 
Presentation as of December 31, 2012
 
Other liabilities
  $ 1,253     $ (225 )   $ 1,028  
Total liabilities
    84,766       (225 )     84,541  
Accumulated deficit
    (34,100 )     225       (33,875 )
Total stockholders' equity
    43,030       225       43,255  
 
Consolidated Statements of Operations
and Comprehensive Income
                       
(In thousands)
 
Presentation as of the year ended December 31, 2012
 
Other income (expense), net
  $ 1,602     $ 225     $ 1,827  
Total non-operating income (expense), net
    (565 )     225       (340 )
Income (loss) before income taxes
    7,752       225       7,977  
Net income
    4,836       225       5,061  
Comprehensive income
    3,148       225       3,373  
                         
 
Consolidated Statements of Operations
and Comprehensive Income
                       
(In thousands, except per share data)
 
Presentation as of the year ended December 31, 2013
 
Other income (expense), net
  $ 2,921     $ 596     $ 3,517  
Total non-operating income (expense), net
    1,151       596       1,747  
Income (loss) before income taxes
    10,347       596       10,943  
Net income
    6,419       596       7,015  
Net income per share: Basic
    0.15       0.02       0.17  
Net income per share: Diluted
    0.15       0.01       0.16  
Comprehensive income
    5,854       596       6,450  
 
Consolidated Statements of Cash Flows
                       
(In thousands)
 
Presentation as of the year ended December 31, 2013
 
Net cash provided by (used in) operating activities
  $ (5,418 )   $ 1,209     $ (4,209 )
Net cash provided by (used in) investing activities
    (13,881 )     1,265       (12,616 )
Effect of exchange rates on cash and cash equivalents
    798       (2,474 )     (1,676 )
 
 
8

 
 
Selected Items - Quarterly
 
As
Previously
Reported
   
Revision
Adjustment
   
As Revised
 
                   
Consolidated Balance Sheet
                 
(In thousands)
 
Presentation as of March 31, 2014
 
Other Assets
  $ 455     $ 28     $ 483  
Other liabilities
    1,596       (917 )     679  
Total liabilities
    78,839       (917 )     77,922  
Accumulated deficit
    (27,006 )     945       (26,061 )
Total stockholders' equity
    65,406       945       66,351  
 
Consolidated Statements of Operations
and Comprehensive Income
                       
(In thousands)
 
Presentation as of the three months ended March 31, 2014
 
Other income (expense), net
  $ (323 )   $ 124     $ (199 )
Total non-operating income (expense), net
    (666 )     124       (542 )
Income (loss) before income taxes
    1,939       124       2,063  
Income tax benefit (provision)
    (1,264 )     (44 )     (1,308 )
Net income
    675       80       755  
Comprehensive income
    564       80       644  
 
Consolidated Balance Sheet
                       
(In thousands)
 
Presentation as of March 31, 2013
 
Other liabilities
  $ 1,210     $ (293 )   $ 917  
Total liabilities
    93,348       (293 )     93,055  
Accumulated deficit
    (37,245 )     293       (36,952 )
Total stockholders' equity
    40,003       293       40,296  
 
Consolidated Statements of Operations
and Comprehensive Income
                       
(In thousands, except per share data)
 
Presentation as of the three months ended March 31, 2013
 
Other income (expense), net
  $ 1,081     $ 69     $ 1,150  
Total non-operating income (expense), net
    605       69       674  
Income (loss) before income taxes
    (2,003 )     69       (1,934 )
Net income
    (3,145 )     69       (3,076 )
Net income per share: Basic
    (0.08 )     0.01       (0.07 )
Net income per share: Diluted
    (0.08 )     0.01       (0.07 )
Comprehensive income
    (3,108 )     69       (3,039 )
 
 
9

 

Selected Items - Quarterly
 
As
Previously
Reported
   
Revision
Adjustment
   
As Revised
 
                   
Consolidated Balance Sheet
                 
(In thousands)
 
Presentation as of September 30, 2013
 
Other liabilities
  $ 1,296     $ (651 )   $ 645  
Total liabilities
    79,923       (651 )     79,272  
Accumulated deficit
    (29,834 )     651       (29,183 )
Total stockholders' equity
    49,797       651       50,448  
 
   
As Previously Reported
   
Revision Adjustment
   
As Revised
 
Condensed Consolidated Statements of Operations
and Comprehensive Income
 
Three
Months
Ended
   
Nine
Months
Ended
   
Three
Months
Ended
   
Nine
Months
Ended
   
Three
Months
Ended
   
Nine
Months
Ended
 
(In thousands, except per share data)
 
September 30, 2013
 
Gross profit
  $ 14,896     $ 55,647     $ (14,896 )   $ (55,647 )   $ 0     $ 0  
Total costs and expenses
    (15,940 )     (49,130 )     (6,267 )     (9,457 )     (22,207 )     (58,587 )
Other income (expense), net
    (49 )     1,776       232       427       183       2,203  
Total non-operating income (expense), net
    (490 )     390       232       427       (258 )     817  
Income (loss) before income taxes
    (1,534 )     6,907       232       427       (1,302 )     7,334  
Net income
    1,291       4,266       232       427       1,523       4,693  
Net income per share: Basic
    0.03       0.10       0.01       0.01       0.04       0.11  
Net income per share: Diluted
    0.03       0.10       0.01       0.01       0.04       0.11  
Comprehensive income
    1,056       3,863       232       427       1,288       4,290  
 
Condensed Consolidated Statements of Cash Flows
                 
(In thousands)
 
Presentation as of the nine months ended September 30, 2013
 
Net cash provided by (used in) operating activities
  $ (8,178 )   $ 985     $ (7,193 )
Net cash provided by (used in) investing activities
    (12,334 )     470       (11,864 )
Effect of exchange rates on cash and cash equivalents
    (2 )     (1,455 )     (1,457 )
 
Condensed Consolidated Statements of Operations
and Comprehensive Income
           
(In thousands, except per share data)
 
Presentation as of the three months ended December 31, 2013
 
Net Income (loss)
  $ 2,153     $ 170     $ 2,323  
Net income per share: Basic
    0.05       0.01       0.06  
 
Condensed Consolidated Statements of Operations
and Comprehensive Income
             
(In thousands, except per share data)
 
Presentation as of the three months ended December 31, 2012
 
Net Income (loss)
  $ 13,532     $ 225     $ 13,757  
Net income per share: Diluted
    0.32       0.01       0.33  
 
2.      Summary of Significant Accounting Policies

Restricted Cash
 
Restricted cash primarily represents collateral pledged to support a loan agreement with The Bank of Tokyo-Mitsubishi UFJ, Ltd., or the Tokyo-Mitsubishi Bank; a loan agreement with The Mizuho Bank, Ltd., or the Mizuho Bank; a loan agreement between Numab AG, or Numab, and Zurcher Kantonalbank, or the Numab Loan, under which the Company serves as guarantor; and operating leases with certain financial institutions. Restricted cash totaled approximately $28.4 million at September 30, 2014 and $28.6 million at December 31, 2013.

 
10

 
Certain Risks, Concentrations and Uncertainties
 
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist of cash and cash equivalents, restricted cash, investments and receivables. The Company places its cash, cash equivalents and restricted cash with highly rated financial institutions and invests its excess cash in highly rated investments. As of September 30, 2014 and December 31, 2013, approximately $21.2 million, or 19.9%, and $16.4 million, or 17.1%, respectively, of the Company’s cash, cash equivalents, restricted cash and investments were issued or insured by the United States government or United States government agencies. The Company has not experienced any losses on these accounts related to amounts in excess of insured limits.

Revenues from Takeda, an unrelated party, accounted for 62.4% and 73.9% of the Company’s total revenues for the three months ended September 30, 2014 and 2013, respectively, and 66.7% and 82.9% for the nine months ended September 30, 2014 and 2013, respectively. Accounts receivable, unbilled accounts receivable and product royalties receivable from Takeda accounted for 72.4% and 88.2% of the Company’s total accounts receivable, unbilled accounts receivable and product royalties receivable at September 30, 2014 and December 31, 2013, respectively.

Revenues from another unrelated party, Abbott, accounted for 36.2% and 24.5% of the Company’s total revenues for the three months ended September 30, 2014 and 2013, respectively, and 31.8% and 16.4% for the nine months ended September 30, 2014 and 2013, respectively.

The Company depends significantly upon its collaborations with Takeda and Abbott, and its revenues may be adversely impacted if these relationships are disrupted.

Fair Value of Financial Instruments
 
The carrying amounts of the Company’s financial instruments approximate their fair values based on their short maturities, independent valuations or internal assessments. The Company’s financial instruments include cash and cash equivalents, restricted cash, current and non-current investments, receivables, accounts payable and accrued expenses. The carrying amounts of the notes payable at September 30, 2014 and December 31, 2013 were less than the estimated fair values (see Note 9 below).

Accounts Receivable and Unbilled Accounts Receivable
 
The Company’s allowance for doubtful accounts related to certain disputed Takeda invoices totaled approximately $796,000 and $440,000 as of September 30, 2014 and December 31, 2013, respectively.
 
3.      Net Income per Share
 
Basic net income per share is computed by dividing net income by the sum of the weighted average class A common shares outstanding. Diluted net income per share is computed by dividing net income by the weighted average common shares and potential dilutive common shares outstanding. Diluted net loss per share, when applicable, is computed by dividing net loss by the weighted average common shares outstanding without the impact of potential dilutive common shares outstanding because they would have an anti-dilutive impact on diluted net loss per share.

 
11

 
The computation of net income per share for the three and nine months ended September 30, 2014 and 2013 is shown below:

   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
(In thousands, except per share data)
 
2014
   
2013
   
2014
   
2013
 
Basic net income per share:
                       
Net income
  $ 1,480     $ 1,523     $ 3,846     $ 4,693  
                                 
Weighted average class A common shares outstanding
    43,796       41,863       43,613       41,644  
                                 
Basic net income per share
  $ 0.03     $ 0.04     $ 0.09     $ 0.11  
                                 
Diluted net income per share:
                               
Net income
  $ 1,480     $ 1,523     $ 3,846     $ 4,693  
                                 
Weighted average class A common shares outstanding
    43,796       41,863       43,613       41,644  
Assumed exercise of stock options under the treasury stock method
    -       924       -       1,018  
      43,796       42,787       43,613       42,662  
                                 
Diluted net income per share
  $ 0.03     $ 0.04     $ 0.09     $ 0.11  
 
The following securities were excluded from the computation of diluted net income per share for the three and nine months ended September 30, 2014 and 2013 as their effect would be anti-dilutive:
 
   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
(In thousands)
 
2014
   
2013
   
2014
   
2013
 
Employee stock options
    1,759       576       438       576  

 
12

 
4.      Current and Non-Current Investments
 
At September 30, 2014 and December 31, 2013, current and non-current available-for-sale investments consisted of the following securities:
 
   
September 30, 2014
 
(In thousands)
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair Value
 
Current:
                       
Commercial paper
  $ 400     $ -     $ -     $ 400  
U.S. government agencies
    4,205       2       -       4,207  
Certificates of deposits
    4,250       -       -       4,250  
Total
  $ 8,855     $ 2     $ -     $ 8,857  
                                 
Non-current:
                               
U.S. government agencies
  $ 8,055     $ -     $ (24 )   $ 8,031  
Certificates of deposit
    4,000       -       -       4,000  
Corporate bonds
    1,018       -       (3 )     1,015  
Total
  $ 13,073     $ -     $ (27 )   $ 13,046  
 
   
December 31, 2013
 
(In thousands)
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair Value
 
Current:
                       
U.S. government securities
  $ 1,000     $ -     $ -     $ 1,000  
U.S. government agencies
    9,048       3       -       9,051  
Certificates of deposit
    3,500       -       -       3,500  
Corporate bonds
    752       -       -       752  
Municipal securities
    1,700       -       -       1,700  
Total
  $ 16,000     $ 3     $ -     $ 16,003  
                                 
Non-current:
                               
U.S. government agencies
  $ 4,212     $ -     $ (3 )   $ 4,209  
Certificates of deposits
    2,500       -       -       2,500  
Corporate bonds
    511       -       (1 )     510  
Total
  $ 7,223     $ -     $ (4 )   $ 7,219  
 
The Company performs fair value measurements in accordance with the Financial Accounting Standards Board’s guidance for fair value measurements and disclosures, which defines fair value as the exchange price that would be received for selling an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. A fair value hierarchy is established which requires the Company to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The Company classifies its investments into the following categories based on the three levels of inputs used to measure fair value:

Level 1: quoted prices in active markets for identical assets or liabilities;
Level 2: inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices in active markets for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; or
Level 3: unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

 
13

 
The Company’s assets measured at fair value on a recurring basis, including cash equivalents, which are subject to the fair value disclosure requirements, at September 30, 2014 and December 31, 2013, were as follows:
 
   
Fair Value Measurements at Reporting Date Using
 
(In thousands)
 
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
   
Significant
Other
Observable
Inputs
(Level 2)
   
Significant
Unobservable
Inputs
(Level 3)
   
Total
 
Commercial paper
  $ -     $ 8,499     $ -     $ 8,499  
U.S. government agencies
    -       12,239       -       12,239  
Certificates of deposit
    -       8,250       -       8,250  
Corporate bonds
    -       3,622       -       3,622  
Money market funds
    7,573       -       -       7,573  
Total assets measured at fair value
  $ 7,573     $ 32,610     $ -     $ 40,183  
 
   
Fair Value Measurements at Reporting Date Using
 
(In thousands)
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
   
Significant
Other
Observable
Inputs
(Level 2)
   
Significant
Unobservable
Inputs
(Level 3)
   
Total
 
U.S. government securities
  $ -     $ 1,000     $ -     $ 1,000  
U.S. government agencies
    -       13,260       -       13,260  
U.S. commercial paper
    -       6,449       -       6,449  
Municipal securities
    -       1,700       -       1,700  
Certificates of deposit
    -       6,000       -       6,000  
Corporate bonds
    -       5,533       -       5,533  
Money market funds
    5,955       -       -       5,955  
Total assets measured at fair value
  $ 5,955     $ 33,942     $ -     $ 39,897  
 
If quoted prices in active markets for identical assets and liabilities are not available to determine fair value, then the Company uses quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable, either directly or indirectly. This pricing methodology applies to the Company’s Level 2 investments.
 
5.      Intangible Assets
 
The Company reviews definite lived intangible assets for impairment when events or changes in circumstances indicate that the carrying value of its intangible assets may not be recoverable. The carrying value of an intangible asset is assessed for impairment whenever anticipated future undiscounted cash flows from an intangible asset are estimated to be less than its carrying value. The amount of impairment loss recognized is the amount the carrying value exceeds its fair value.

During the three months ended September 30, 2014 the Company made the decision to cease RESCULA direct commercialization activities and will no longer market RESCULA for its approved U.S. Food and Drug Administration (FDA) indication. During the three months ended September 30, 2014 the company recorded an impairment charge of $5.6 million which represented the full amount of the remaining balances of the unamortized intangibles related to its two RESCULA license agreements described below. Fair value was determined based on an income approach. Both license agreements were for the development and commercialization of RESCULA for its approved indication and for any new indications for unoprostone isopropyl. Of the total impairment charge, $1.5 million is included in the Company’s Americas segment, and $4.1 million is included in the Company’s Europe segment. There were no impairment charges recorded during the three months ended September 30, 2013.

In April 2009, the Company entered into an agreement with R-Tech (the 2009 R-Tech Agreement) to license all patents and other intellectual property rights related to RESCULA for its FDA approved indication and any new indications for unoprostone isopropyl in the United States and Canada. A supplemental new drug application for RESCULA (unoprostone isopropyl ophthalmic solution) 0.15% for the lowering of IOP in patients with open-angle glaucoma or ocular hypertension was approved by the FDA in December 2012 and the Company began commercializing the product in February 2013.

 
14

 
Under the terms of the 2009 R-Tech Agreement, the Company made upfront and milestone payments totaling $3.5 million, of which $3.4 million was allocated to an intangible asset. The $3.4 million is included in intangible assets, net in the accompanying Condensed Consolidated Balance Sheet as of December 31, 2013. During the three months ended September 30, 2014 the Company ceased direct commercialization activities of RESCULA and has fully impaired the unamortized value of this intangible asset resulting in a charge of $1.5 million. The Company had been amortizing the $3.4 million intangible over the 10-year life of the 2009 R-Tech Agreement, which the Company believed approximated the useful life of the underlying rights and data for the approved FDA indication. Amortization expense was approximately $57,000 and $85,000 for the three months ended September 30, 2014 and 2013, respectively, and approximately $227,000 and $256,000 for the nine months ended September 30, 2014 and 2013, respectively. The unamortized amount included in intangible assets was nil at September 30, 2014 and $1.8 million at December 31, 2013, respectively.

In March 2011, the Company entered into a license agreement with R-Tech for unoprostone isopropyl, or the 2011 R-Tech Agreement, expanding the Company’s development and commercialization rights as well as its territories beyond their previously agreed territory of the United States and Canada to the rest of the world, with the exception of Japan, Korea, Taiwan and the People’s Republic of China. Pursuant to the 2011 R-Tech Agreement, the Company made payments to R-Tech of $6.0 million, which is reflected in intangible assets, net in the accompanying Condensed Consolidated Balance Sheet as of December 31, 2013. The Company has fully impaired the unamortized value of this intangible asset during the three months ended September 30, 2014 resulting in a charge of $4.1 million. The Company had been amortizing the $6.0 million intangible over the 10-year life of the 2011 R-Tech Agreement which the Company believed approximated the useful life of the underlying rights and data for the indication previously approved in Europe. Amortization expense was approximately $102,000 and $153,000 for the three months ended September 30, 2014 and 2013, respectively, and approximately $409,000 and $460,000 for the nine months ended September 30, 2014 and 2013, respectively. The unamortized amount included in intangible assets was nil at September 30, 2014 and $4.4 million at December 31, 2013, respectively.
 
6.      Accrued Expenses
 
Accrued expenses consist of the following as of September 30, 2014 and December 31, 2013:
 
(In thousands)
 
September 30,
2014
   
December 31,
2013
 
Research and development costs
  $ 2,826     $ 1,775  
Employee compensation
    2,488       2,531  
Selling and marketing costs
    305       584  
Legal service fees
    983       14  
Other accrued expenses
    558       778  
Total
  $ 7,160     $ 5,682  
 
7.       Commitments
 
Operating Leases
 
The Company leases office space in the United States, Switzerland and Japan under operating leases through 2018. Total future minimum, non-cancelable lease payments under the Company's operating leases are as follows as of September 30, 2014:
 
(In thousands of U.S. dollars)
 
September 30,
2014
 
2014
  $ 354  
2015
    1,258  
2016
    1,290  
2017
    345  
2018
    204  
Total minimum lease payments
  $ 3,451  
 
Rent expense for all operating leases was approximately $343,000 and $323,000 for the three months ended September 30, 2014 and 2013, respectively, and $1.0 million for both the nine months ended September 30, 2014 and 2013, respectively.

Research and Development Costs
 
The Company routinely enters into agreements with third-party contract research organizations to oversee clinical research and development studies provided on an outsourced basis, and to assist in other research and development activities. The Company generally is not contractually obligated to pay the third party if the service or reports are not provided. Total future estimated costs under these agreements as of September 30, 2014 were approximately $6.9 million.

 
15

 
Numab Commitment
 
In the event that Numab defaults under the Numab Loan, the Company’s maximum contingent liability under the Numab Agreement (see Note 8) is $2.3 million. As of September 30, 2014, the potential amount of payments in the event of Numab’s default under the Numab Loan was $2.1 million.  At September 30, 2014 and December 31, 2013, the Company had a recorded liability of $1.0 million and $663,000, respectively, to meet a potential loan default by Numab.

8.      Related Party Transactions

R-Tech Ueno, Ltd.
 
The Company recorded the following expenses for the three and nine months ended September 30, 2014 and 2013 under all of its agreements with R-Tech, including the 2009 R-Tech Agreement, the 2011 R-Tech Agreement and various exclusive supply agreements with R-Tech:
 
   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
(In thousands)
 
2014
   
2013
   
2014
   
2013
 
Clinical supplies
  $ 88     $ 35     $ 254     $ 255  
Other research and development services
    139       75       170       181  
Commercial supplies
    4,507       3,173       12,133       7,906  
    $ 4,734     $ 3,283     $ 12,557     $ 8,342  
 
The following table summarizes the amounts included in deferred revenue resulting from the deferral of upfront payments relating to the exclusive supply agreements with R-Tech as of September 30, 2014 and December 31, 2013:
 
(In thousands)
 
September 30,
2014
   
December 31,
2013
 
Deferred revenue, current
  $ 369     $ 477  
Deferred revenue, non-current
    4,473       4,925  
    $ 4,842     $ 5,402  
 
The Company recognized approximately $160,000 and $105,000 of revenue relating to its agreements with R-Tech for the three months ended September 30, 2014 and 2013, respectively, and approximately $369,000 and $373,000 for the nine months ended September 30, 2014 and 2013, respectively. Such revenue was recorded as contract and collaboration revenue in the accompanying Condensed Consolidated Statements of Operations and Comprehensive Income.

Numab AG
 
In September 2011, the Company entered into a Loan Guarantee and Development Agreement, or the Numab Agreement, with Numab. Numab is a related party of the Company as a result of the Company hiring as an executive officer an individual who holds an ownership interest in Numab. Under the terms of the Numab Agreement, the Company provided Numab with CHF 5.0 million as collateral and serves as guarantor for Numab on a loan from a third party, Zurcher Kantonalbank. During the first quarter of 2013, the collateral amount was reduced to CHF 2.2 million, or approximately $2.3 million as of September 30, 2014. As of September 30, 2014, Numab has utilized CHF 2.0 million of its loan facility, or approximately $2.1 million.
 
9.      Notes Payable
 
In November 2010, the Company entered into a secured term loan agreement with the Tokyo-Mitsubishi Bank for ¥1.0 billion, approximating $11.6 million as of the closing date. The loan renews every November. The interest rate at September 30, 2014 was 1.21%. The outstanding loan balances included in the accompanying Condensed Consolidated Balance Sheets were $9.1 million and $9.5 million as of September 30, 2014 and December 31, 2013, respectively. A deposit of $14.9 million with the Tokyo-Mitsubishi Bank collateralizing the loan bears annual interest of 0.25%.

 
16

 
In March 2013, the Company entered into a secured term loan agreement with the Mizuho Bank for ¥1.0 billion, approximating $10.6 million as of the closing date. The interest rate at September 30, 2014 was 0.46%. The loan renews every March. The outstanding loan balances included in the accompanying Condensed Consolidated Balance Sheets were $9.1 million and $9.5 million as of September 30, 2014 and December 31, 2013, respectively. A deposit of $11.0 million with the Mizuho Bank collateralizing the loan bears annual interest of 0.30%.

In connection with the Company’s acquisition of SAG in 2010, the Company issued a subordinated unsecured promissory note to each of the Ueno and Kuno Trusts. The interest rate beginning June 1, 2014 is 4.32%.

Due to changes in LIBOR rates, the Company has estimated the fair value of the notes payable as shown in the table below.

Notes payable at their fair value and carrying value consist of the following as of September 30, 2014 and December 31, 2013:
 
   
Fair Value
   
Carrying Value
 
(In thousands)
 
September 30,
2014
   
December 31,
2013
   
September 30,
2014
   
December 31,
2013
 
Loan agreements
  $ 18,276     $ 19,008     $ 18,276     $ 19,008  
Promissory notes, Sellers of SAG
    30,984       34,889       29,807       33,712  
    $ 49,260     $ 53,897     $ 48,083     $ 52,720  
                                 
Notes payable, current
                  $ 26,342     $ 26,892  
Notes payable, non-current
                    21,741       25,828  
                    $ 48,083     $ 52,720  
 
The Company’s debt is subject to the fair value disclosure requirements as discussed in Note 4 above, and is classified as a Level 2 security.
 
10.      Collaboration and License Agreements

Abbott Agreement
 
Under the Abbott Agreement, the Company has received a total of $37.5 million in upfront, development and commercial milestone payments through September 30, 2014. Additionally, on October 6, 2014, the Company invoiced Abbott $2.5 million pursuant to the Abbott Agreement for a commercial milestone payment as a result of the first occurrence of annual net sales of lubiprostone in Japan exceeding ¥5.0 billion. This milestone payment was recognized in the third quarter of 2014 and is expected to be received in the fourth quarter of 2014.

The following table summarizes the cash streams and related revenue recognized or deferred under the Abbott Agreements for the nine months ended September 30, 2014:
 
(In thousands)
 
Amount
Deferred at
December 31,
2013
   
Cash Received
for the Nine
Months Ended
September 30,
2014
   
Revenue
Recognized for
the Nine
Months Ended
September 30,
2014
   
Change in Accounts
Receivable for the
Nine Months Ended
September 30,
2014
   
Foreign
Currency Effects
for the Nine
Months Ended
September 30,
2014
   
Amount
Deferred at
September 30,
2014
 
Collaboration revenue:
                                   
Up-front payment associated with the Company's obligation to participate in joint committees
  $ 555     $ -     $ 30     $ -     $ (20 )   $ 505  
                                                 
Product sales revenue
  $ -     $ 20,775     $ 22,206     $ 1,824     $ (393 )   $ -  
                                                 
Product sales milestone
  $ -     $ -     $ 2,500     $ 2,500     $ -     $ -  
 
Takeda Agreements
 
Under the Takeda Agreements, the Company has received a total of $160.0 million in upfront, development and commercial milestone payments through September 30, 2014.

 
17

 
The following table summarizes the cash streams and related revenue recognized or deferred under the Takeda Agreements for the nine months ended September 30, 2014:
 
(In thousands)
 
Amount
Deferred at
December 31,
2013
   
Cash Received
for the Nine
Months Ended
September 30,
2014
   
Revenue
Recognized for
the Nine
Months Ended
September 30,
2014
   
Change in Accounts
Receivable for the
Nine Months Ended
September 30,
2014*
   
Amount
Deferred at
September 30,
2014
 
Collaboration revenue:
                             
Up-front payment associated with participate in joint committees
  $ 1,029     $ -     $ 73     $ -     $ 956  
                                         
Research and development revenue:
                                       
Reimbursement of research and development expenses
  $ 419     $ 7,200     $ 5,281     $ 112     $ 2,450  
                                         
Product royalty revenue
  $ -     $ 42,218     $ 44,200     $ 1,982     $ -  
                                         
Co-promotion revenue
  $ -     $ 1,381     $ 2,021     $ 640     $ -  
*      Includes billed and unbilled accounts receivable.
 
11.      Stock Option Plans
 
   A summary of employee stock option activity for the nine months ended September 30, 2014 under the Company’s Amended and Restated 2001 Stock Incentive Plan, or the 2001 Stock Incentive Plan, is presented below:
 
   
Shares
   
Weighted
Average
Exercise Price
Per Share
   
Weighted
Average
Remaining
Contractual
Term (Years)
   
Aggregate
Intrinsic Value
 
Options outstanding, December 31, 2013
    146,200     $ 10.00              
Options expired
    (25,500 )     10.00              
Options outstanding, September 30, 2014
    120,700       10.00       1.59     $ -  
Options exercisable, September 30, 2014
    120,700       10.00       1.59     $ -  

A summary of employee stock option activity for the nine months ended September 30, 2014 under the Company’s Amended and Restated 2006 Stock Incentive Plan is presented below:
 
   
Shares
   
Weighted
Average
Exercise Price
Per Share
   
Weighted
Average
Remaining
Contractual
Term (Years)
   
Aggregate
Intrinsic Value
 
Options outstanding, December 31, 2013
    2,513,063     $ 5.03              
Options granted
    1,861,745       7.29              
Options exercised
    (405,140 )     4.36              
Options forfeited
    (209,493 )     4.59              
Options expired
    (193,275 )     4.81              
Options outstanding, September 30, 2014
    3,566,900       6.33       8.42     $ 3,085,216  
Options exercisable, September 30, 2014
    958,582       5.93       6.35     $ 1,402,961  
 
Performance-based stock options granted to the CEO totaled 200,000 and vest when the Company’s stock price meets or exceeds $16.00 over a continuous 30 day trading period. These options expire on the four year anniversary of the grant if not vested at that time, and if vested, expire on July 30, 2028. The Company used a Monte Carlo approach and a Geometric Brownian Motion stock-pricing model to estimate the fair value of these options. During the quarter ended September 30, 2014, the Company granted time-based stock options to all eligible employees. For certain eligible employees, the granted stock options had accelerated vesting conditions. Those accelerated-vesting conditions applied to 450,000 stock options and cliff vest after four years, but one third of the total award may vest each time certain pre-determined strategic objectives of the Company have been met. The granted stock options expire ten years from date of grant, and the Company used a Black-Scholes option-pricing model to estimate the fair value of these options. Time-based stock options granted totaled 341,745 and vest in equal annual installments over four years from date of grant and expire ten years from date of grant. The Company used a Black-Scholes option-pricing model to estimate the fair value of these options.

 
18

 
The weighted average grant date fair value of options granted during the nine months ended September 30, 2014 and the year ended December 31, 2013 was $7.29 and $7.36, respectively. As of September 30, 2014, approximately $5.3 million of total unrecognized compensation costs, net of estimated forfeitures related to non-vested awards, are expected to be recognized over a weighted average period of 3.32 years.
 
A summary of non-employee stock option activity for the nine months ended September 30, 2014 under the Company’s 2001 Stock Incentive Plan is presented below:
 
   
Shares
   
Weighted
Average
Exercise Price
Per Share
   
Weighted
Average
Remaining
Contractual
Term (Years)
   
Aggregate
Intrinsic Value
 
Options outstanding, December 31, 2013
    410,000     $ 5.85              
Options exercised
    (67,500 )     5.85              
Options outstanding, September 30, 2014
    342,500       5.85       0.58     $ 222,625  
Options exercisable, September 30, 2014
    342,500       5.85       0.58     $ 222,625  
 
Employee Stock Purchase Plan
 
Under the Company’s 2006 Employee Stock Purchase Plan, the Company received $9,670 and $6,416 upon employees’ purchase of 1,566 and 1,082 shares of class A common stock during the three months ended September 30, 2014 and 2013, respectively, and $22,896 and $17,411 upon employees’ purchase of 3,555 and 2,846 shares of class A common stock during the nine months ended September 30, 2014 and 2013, respectively.
 
12.      Income Taxes
 
For the three months ended September 30, 2014 and 2013, the Company recorded a tax provision of $2.3 million and a tax benefit of $2.8 million, respectively. For the nine months ended September 30, 2014 and 2013, the Company recorded tax provisions of $5.4 million and $2.6 million, respectively.  The tax provision for the three and nine months ended September 30, 2014 primarily pertained to the pre-tax income and losses generated by the Company’s U.S., Japanese and Swiss subsidiaries. The tax benefit for the three months ended September 30, 2013 primarily pertained to the pre-tax losses generated by the Company’s U.S. subsidiary. The tax provision for the nine months ended September 30, 2013 primarily pertained to pre-tax income generated by the Company’s U.S. and Japanese subsidiaries.

The Company evaluated the need for a valuation allowance in foreign jurisdictions and concluded based on the most recent forecast of future income that it is more likely than not that it will not realize the benefit of a portion of its deferred tax assets in Japan; therefore, a discrete tax expense of approximately $517,000 was recorded for the three months ended September 30, 2014 to increase the valuation allowance. The Company will continue to evaluate the need for a valuation allowance in all foreign jurisdictions. Any release of valuation allowance would have a positive impact on the effective tax rate for the period.

Uncertain Tax Positions
 
The Company had an outstanding non-current income tax liability of approximately $969,000, including interest, for uncertain tax positions as of September 30, 2014. The amount represented the aggregate tax effect of differences between tax return positions and the amounts otherwise recognized in the Company’s Condensed Consolidated Financial Statements. As of September 30, 2014, $969,000 is reflected as other liabilities in the accompanying Condensed Consolidated Balance Sheets. The liability for uncertain tax positions as of September 30, 2014 mainly pertained to the Company’s interpretation of nexus in certain states related to revenue sourcing for state income tax purposes. During the three and nine months ended September 30, 2014, the liability for income taxes has decreased approximately $2,000 and increased approximately $290,000, respectively. These changes in the liability are primarily related to the filing positions taken in various jurisdictions related to income tax nexus.
 
 
19

 
13.           Segment Reporting
 
The following is a summary of financial information for the Company’s reportable geographic segments:

(In thousands)
 
Americas
   
Europe
   
Asia
   
Consolidated
 
Three Months Ended September 30, 2014
                       
Research and development revenue
  $ 1,797     $ -     $ -     $ 1,797  
Product royalty revenue
    16,811       -       -       16,811  
Product sales revenue
    170       142       11,405       11,717  
Co-promotion revenue
    936       -       -       936  
Contract and collaboration revenue
    141       51       10       202  
Total revenues
    19,855       193       11,415       31,463  
Costs of goods sold
    79       318       4,577       4,974  
Intangible assets impairment
    1,502       4,129       -       5,631  
Research and development expenses
    2,733       1,893       671       5,297  
Depreciation and amortization
    140       116       7       263  
Other operating expenses
    8,626       2,630       399       11,655  
Income (loss) from operations
    6,775       (8,893 )     5,761       3,643  
Interest income
    24       2       -       26  
Interest expense
    (343 )     -       (41 )     (384 )
Other non-operating income (expense), net
    29       (443 )     933       519  
Income (loss) before income taxes
  $ 6,485     $ (9,334 )   $ 6,653     $ 3,804  
Capital expenditures
  $ 13     $ -     $ -     $ 13  
                                 
Three Months Ended September 30, 2013
                               
Research and development revenue
  $ 2,027     $ -     $ -     $ 2,027  
Product royalty revenue
    13,595       -       -       13,595  
Product sales revenue
    170       17       5,191       5,378  
Co-promotion revenue
    -       -       -       -  
Contract and collaboration revenue
    141       12       10       163  
Total revenues
    15,933       29       5,201       21,163  
Costs of goods sold
    3,389       4       2,874       6,267  
Research and development expenses
    3,860       (305 )     919       4,474  
Depreciation and amortization
    309       47       8       364  
Other operating expenses
    8,893       1,646       563       11,102  
Income (loss) from operations
    (518 )     (1,363 )     837       (1,044 )
Interest income
    18       2       -       20  
Interest expense
    -       (417 )     (44 )     (461 )
Other non-operating income, net
    6       95       82       183  
Income (loss) before income taxes
  $ (494 )   $ (1,683 )   $ 875     $ (1,302 )
Capital expenditures
  $ 9     $ 4     $ -     $ 13  
 
 
20

 
 
(In thousands)
 
Americas
   
Europe
   
Asia
   
Consolidated
 
Nine Months Ended September 30, 2014
                       
Research and development revenue
  $ 5,281     $ -     $ -     $ 5,281  
Product royalty revenue
    44,200       -       -       44,200  
Product sales revenue
    551       297       24,724       25,572  
Co-promotion revenue
    2,021       -       -       2,021  
Contract and collaboration revenue
    424       165       30       619  
Total revenues
    52,477       462       24,754       77,693  
Cost of goods sold
    375       357       11,431       12,163  
Intangible assets impairment
    1,502       4,129       -       5,631  
Research and development expenses
    7,565       4,528       2,591       14,684  
Depreciation and amortization
    514       448       22       984  
Other operating expenses
    25,306       7,364       1,378       34,048  
Income (loss) from operations
    17,215       (16,364 )     9,332       10,183  
Interest income
    67       6       33       106  
Interest expense
    (1,054 )     -       (122 )     (1,176 )
Other non-operating income (expense), net
    31       547       (435 )     143  
Income (loss) before income taxes
  $ 16,259     $ (15,811 )   $ 8,808     $ 9,256  
Capital expenditures
  $ 58     $ 2     $ 2     $ 62  
                                 
Nine Months Ended September 30, 2013
                               
Research and development revenue
  $ 16,288     $ -     $ -     $ 16,288  
Product royalty revenue
    37,271       -       -       37,271  
Product sales revenue
    277       37       10,680       10,994  
Co-promotion revenue
    61       -       -       61  
Contract and collaboration revenue
    424       34       32       490  
Total revenues
    54,321       71       10,712       65,104  
Cost of goods sold
    3,465       12       5,980       9,457  
Research and development expenses
    6,446       4,307       3,775       14,528  
Depreciation and amortization
    543       548       26       1,117  
Other operating expenses
    27,368       3,374       2,743       33,485  
Income (loss) from operations
    16,499       (8,170 )     (1,812 )     6,517  
Interest income
    54       8       1       63  
Interest expense
    -       (1,326 )     (123 )     (1,449 )
Other non-operating income (expense), net
    (9 )     (169 )     2,381       2,203  
Income (loss) before income taxes
  $ 16,544     $ (9,657 )   $ 447     $ 7,334  
Capital expenditures
  $ 40     $ 110     $ 3     $ 153  
 
 
21

 
14.      Subsequent Events
 
On October 9, 2014, the Company and Takeda executed amendments to the Takeda Agreement as well as to the ancillary agreements which, in part, extended the term of the Takeda Agreement beyond December 2020. During the extended term, Takeda and the Company will share the profits of the branded AMITIZA products. Also, beginning in April 2015, Takeda will no longer reimburse the Company for the product details performed by the Company’s sales force or for promotional materials used by the sales force. As a result, the Company will not use a sales force to promote AMITIZA after the end of 2014.

Also on October 9, 2014, the Company and its affiliate, Sucampo AG, or SAG, (collectively, the Company), along with R-Tech, Takeda and certain affiliates of Takeda (collectively, Takeda Pharmaceutical) executed a settlement and license agreement, (Settlement and License Agreement) with Anchen Pharmaceuticals, Inc., Par Pharmaceutical, Inc. and Par Pharmaceutical Companies, Inc. (collectively, Par) that resolves patent litigation in the United States related to the Company’s AMITIZA (lubiprostone) 8 mcg soft gelatin capsule and 24 mcg soft gelatin capsule product. Under the terms of the Settlement and License Agreement, the Company and R-Tech will grant Par a non-exclusive license to market Par’s generic version of lubiprostone 8 mcg soft gelatin capsule and 24 mcg soft gelatin capsule (collectively, the licensed products) in the U.S. for the indications approved for AMITZA beginning on January 1, 2021, or earlier under certain circumstances.  Also beginning on January 1, 2021, Par will share with the Company the gross profits of the licensed products sold during the term of the Settlement and License Agreement, which continues until each of the Company’s patents has expired.  In the event Par elects to launch an authorized generic product, the Company will supply Par with the product under the terms of a manufacturing and supply agreement at a negotiated price.  Additionally, the Company, R-Tech, Takeda Pharmaceutical, and Par have agreed to dismiss with prejudice the patent litigation filed against Par in the U.S. District Court for the District of Delaware.
 
On October 17, 2014, SAG and Takeda’s affiliate, Takeda Pharmaceuticals International GmbH Limited, entered into an exclusive global license agreement (Global License Agreement) to develop and commercialize AMITIZA. The territories excluded from the Global License Agreement are Canada, the United States, Japan and the People’s Republic of China. Canada and the U.S. are covered by the Takeda Agreement, and Japan is covered by the Abbott Agreement. The Global License Agreement is effective until it expires on a country-by-country basis on the fourteenth (14th) anniversary of the date of first commercial sale in that country. Under the terms of the Global License Agreement, SAG will receive a nonrefundable upfront payment of $14 million from Takeda for exclusive rights to develop and commercialize AMITIZA in the global markets covered by the Global License Agreement. In addition, SAG will also be eligible for up to $35 million in additional commercial milestone payments contingent on the achievement of certain net sales revenue targets. Takeda will be responsible for all development activities and costs, with SAG assuming responsibility for the first $6 million in development expenses incurred by Takeda. SAG will supply Takeda with AMITIZA at a negotiated supply price. In addition, Takeda will become the marketing authorization holder and will be responsible for all commercialization and regulatory activities for AMITIZA in the territories covered by the Global License Agreement.
 
 
22

 

On October 21, 2014, the Compensation Committee of the Board of Directors approved a revision to the employment agreements applicable to certain executive officers.  The revision to the employment agreements changes the amount of the lump sum payment to such executive officers in the event the Company terminates the executive officer's employment by not renewing the employment agreement or without cause from six (6) months to twelve (12) months of then current base salary and in the event that the executive officer is terminated other than for cause or terminates for good reason within twelve (12) months following the occurrence of a change in control of the Company as the result of a change in control from twelve (12) months to eighteen (18) months of then current annual base salary. On November 4, 2014, the Company and Mr. Andrew Smith entered into a revision to the employment agreement of Mr. Andrew Smith, the principal accounting officer, which changed the amount of the lump sum payment to Mr. Smith in the event the Company terminates Mr. Smith's employment by not renewing the employment agreement or without cause from thirty (30) days to six (6) months of then current base salary and in the event that the executive officer is terminated other than for cause or terminates for good reason within twelve (12) months following the occurrence of a change in control of the Company as the result of a change in control to twelve (12) months of then current annual base salary. This revision had been previously approved by the Compensation Committee of the Board of Directors but had not been finalized or executed by the Company and Mr. Smith.
 



 
23

 

This Quarterly Report on Form 10-Q contains forward-looking statements regarding Sucampo Pharmaceuticals, Inc., or the Company, we, us or our, and our business, financial condition, results of operations and prospects within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements include those that express plans, anticipation, intent, contingency, goals, targets or future development and/or otherwise are not statements of historical fact. These forward-looking statements are based on our current expectations and projections about future events and they are subject to risks and uncertainties known and unknown that could cause actual results and developments to differ materially from those expressed or implied in such statements. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” included elsewhere in this Quarterly Report Form 10-Q and in our other filings with the Securities and Exchange Commission, or the SEC, including our Annual Report on Form 10-K for the fiscal year ended December 31, 2013, which we filed with the SEC on March 12, 2014. You should also read the following discussion and analysis of our financial condition and results of operations in conjunction with our Consolidated Financial Statements as of and for the year ended December 31, 2013 included in our Annual Report on Form 10-K.

Overview
 
We are a global biopharmaceutical company focused on innovative research, discovery, development and commercialization of proprietary drugs to treat gastrointestinal, ophthalmic, neurologic, and oncology-based inflammatory disorders. Over the next five years, we intend to expand our management, organizational and operational capabilities, expand our global partnerships, develop our diversified product pipeline, acquire non-prostone clinical candidates, and enhance our capital structure.

We currently generate revenue mainly from product royalties, development milestone payments, product sales and clinical development activities. We expect to continue to incur significant expenses for the next several years as we continue our research and development activities, seek additional regulatory approvals and additional indications for approved products and other compounds, and seek partnering opportunities for our approved products and compounds on a global basis.

Our operations are conducted through subsidiaries based in the United States, Japan, Switzerland and the United Kingdom. Our reportable geographic segments are the Americas, Asia and Europe and we evaluate the performance of these segments based primarily on income (loss) from operations, as well as other factors that depend on the growth of these subsidiaries. Such measures include the progress of research and development activities, collaboration and licensing efforts, commercialization activities and other factors.

Drs. Ryuji Ueno and Sachiko Kuno have direct or indirect interests in our controlling stockholder, S&R Technology Holding, LLC, and are married to each other. Drs. Ueno and Kuno, together, directly or indirectly, own a majority of the stock of R-Tech Ueno, Ltd (R-Tech), a pharmaceutical research, development and manufacturing company in Japan. R-Tech is responsible for the manufacture and supply of all of our drug products for commercial use and clinical development.

Product Pipeline
 
The table below summarizes the development status of lubiprostone, unoprostone isopropyl and several other product candidates. We currently hold all of the commercialization rights to the compounds in our product pipeline, other than for commercialization of AMITIZA globally, which is covered by our agreements with Takeda Pharmaceutical Company Limited (Takeda) and Abbott Japan Co. Ltd. (Abbott), and other than for RESCULA in Japan, Korea, Taiwan and the People’s Republic of China, or the R-Tech Territory. Commercialization of each product candidate may be implemented after successful completion of clinical studies and approval from appropriate governmental agencies.

 
24

 
 
Product/Product Candidate
 
Target Indication
 
Development Phase
 
Next Milestone
Lubiprostone (AMITIZA ®)
 
Chronic idiopathic constipation (CIC) (adults of all ages)
 
Marketed in the U.S.
 
_____
             
       
Marketed in Switzerland
 
_____
             
       
Marketed in the U.K.
Initiated mutual recognition process (MRP) for approval in other E.U. countries.
 
Consider seeking approval for AMITIZA in other E.U. countries following the MRP
             
   
Irritable bowel syndrome with constipation (adult women) (IBS-C)
 
Marketed in the U.S.
 
Initiate phase 4 study on higher dosage and with additional male subjects
             
   
Opioid-induced constipation (OIC) in patients with chronic non-cancer pain
 
Marketed in the U.S. and Switzerland
 
Discuss with MHRA regulatory options for obtaining OIC approval in the U.K.
             
   
Chronic constipation
 
Marketed in Japan
 
_____
             
   
Alternate formulation
 
In non-clinical development
 
Initiate phase 3 trial
             
   
Pediatric functional constipation
(6 years - 17 years)
 
Pivotal and open label Phase 3 trials ongoing
 
Complete pivotal and open label phase 3 trials
             
   
Pediatric functional constipation
(6 months - 6 years)
 
Alternate formulation in development
 
Initiate phase 3 program
             
Unoprostone Isopropyl (RESCULA ®)
 
Primary open angle glaucoma and ocular hypertension
 
Marketed in the U.S.
 
_____
             
Unoprostone Isopropyl
 
Retinitis pigmentosa
 
In phase 3 by development partner R-Tech Ueno. Orphan drug status obtained in the U.S. and E.U.
 
Meet with the U.S. and European regulators
PO Ion Channel Activator
 
Lumbar spinal stenosis
 
Phase 1b completed
 
Initiate phase 2 trial
             
Cobiprostone
 
Oral mucositis
 
Phase 1b completed
 
Initiate phase 2 trial
             
   
Non-erosive reflux disease (NERD)
 
Phase 1b completed
 
Initiate phase 2 trial
 
 
25

 

AMITIZA (lubiprostone)
 
United States (U.S.)
 
In the United States, we will cease co-promoting AMITIZA for OIC in adults with chronic, non-cancer pain after the end of 2014. In September 2014, we and Takeda launched a pilot direct-to-consumer advertising campaign for AMITIZA in select U.S. markets for adults with CIC. In October 2014, we signed an amendment to the Takeda Agreement which, in part, extended the term beyond December 2020. During the extended term, we will share the annual profits with Takeda on branded AMITIZA sales.  Also, as of April 1, 2015, Takeda will no longer reimburse us for the product detailings of healthcare professionals or for promotional materials used by us.

Japan
 
In Japan, upon the first occurrence of annual net sales of AMITIZA for CIC exceeding ¥5.0 billion, we recognized a $2.5 million milestone payment from Abbott in the third quarter of 2014, and will receive the milestone payment in the fourth quarter of 2014.
 
On July 14, 2014, Abbott announced that it had entered into a definitive agreement with Mylan Inc. (Mylan) whereby Mylan will acquire Abbott's non-U.S. developed markets specialty and branded generics business. We understand that under the license, commercialization and supply agreement, (the Abbott Agreement) with Abbott, pursuant to which AMITIZA is marketed, is one of the assets Abbott has agreed to sell to Mylan as part of this transaction. We expect to have discussions with Mylan about its performance of the Abbott Agreement and do not anticipate any adverse impact to sales of AMITIZA in Japan in 2014.

Global Markets
 
In February 2014 we announced that in Switzerland the Bundesamt fur Gesundheit (BAG) had revised several reimbursement limitations with which AMITIZA was first approved for reimbursement and inclusion in the Spezialitätenliste to allow all Swiss physicians to prescribe AMITIZA to patients who have failed previous treatments with at least two laxatives over a nine month period. In July 2014, we announced that Swissmedic, the Swiss Agency for Therapeutic Products, approved AMIITZA for the treatment of OIC in chronic, non-cancer adult patients. In September 2014, Swissmedic indicated that it would not permit reimbursement for OIC prescriptions. We are currently evaluating the appropriate next steps with the BAG.

In August 2014, we signed an exclusive global manufacturing and supply agreement with R-Tech for clinical and commercial supplies of AMITIZA in most global markets.

On October 17, 2014, we and Takeda’s affiliate, Takeda Pharmaceuticals International GmbH Limited, entered into an exclusive global license agreement (Global License Agreement) to develop and commercialize AMITIZA. The territories excluded from the Global License Agreement are Canada, the United States, Japan and the People’s Republic of China. Canada and the U.S. are covered by the Takeda Agreement, and Japan is covered by the Abbott Agreement. The Global License Agreement is effective until it expires on a country-by-country basis on the fourteenth (14th) anniversary of the date of first commercial sale in that country. Under the terms of the Global License Agreement, we will receive a nonrefundable upfront payment of $14 million from Takeda for exclusive rights to develop and commercialize AMITIZA in the global markets covered by the Global License agreement.  In addition, we will also be eligible for up to $35 million in additional commercial milestone payments contingent on the achievement of certain net sales revenue targets. Takeda will be responsible for all development activities and costs, with us assuming responsibility for the first $6 million in development expenses incurred by Takeda. We will supply Takeda with AMITIZA at a negotiated supply price. In addition, Takeda will become the marketing authorization holder and will be responsible for all commercialization and regulatory activities for AMITIZA in the territories covered by the Global License Agreement. There will be a transition period while the marketing authorization is transferred from us to Takeda in the United Kingdom and Switzerland, during which we will be progressing the Mutual Recognition Procedure for certain European Union (EU) countries selected by Takeda. We will also be responsible for the conduct of the European Pediatric Investigation Plan at our cost but will not be required to conduct any additional studies.
 
We filed AMITIZA for the CIC and OIC indications in Canada in October 2014 and we anticipate a decision in the second half of 2015.
 
RESCULA (unoprostone isopropyl)
 
Under the 2009 R-Tech Agreement and the 2011 R-Tech Agreement, we hold the exclusive rights to commercialize and develop unoprostone isopropyl worldwide, excluding the R-Tech Territory, for its approved indication and all new ophthalmic indications developed by us. However, we have ceased marketing RESCULA and in the third quarter of 2014 incurred a $5.6 million intangible assets impairment related to RESCULA (see Note 5.)
 
 
26

 
Our Other Clinical Development Programs
 
Lubiprostone
 
Pediatric Functional Constipation
 
As previously disclosed, two of the four planned phase 3 studies for our pediatric functional constipation development program are ongoing, both of which are testing the 24 mcg soft gelatin capsule formulation of lubiprostone in patients 6 to 17 years of age: a 12-week, randomized, placebo-controlled trial that initiated in December 2013 and a follow-on, long-term safety extension study that initiated in March 2014.
 
Alternate Formulation Lubiprostone
 
As previously disclosed, we have been developing a new dosage form of lubiprostone for patients who will not swallow the soft gelatin capsule. Takeda has agreed to fund 100% of the costs for the alternate formulation work for lubiprostone. Feasibility testing for this alternate formulation work is ongoing and is expected to be completed in the first quarter of 2015. If successful, the alternate formulation will enable future studies of lubiprostone in adults and younger children who will not swallow the current soft gelatin capsule formulation.
 
Intravenous and Oral Ion Channel Activators
 
Lumbar Spinal Stenosis
 
Two ion channel activators, in both the intravenous (IV) and oral (PO) forms, are in clinical development for the treatment of lumbar spinal stenosis, or LSS. Positive top-line results from a phase 1b trial evaluating the safety and pharmacokinetics (PK) of the orally administered ion channel activator demonstrated the compound to be generally well-tolerated. We plan to conduct an additional phase 2 study in the second half of 2015 to evaluate the clinical effectiveness of the PO ion channel activator in LSS. We have decided not to proceed with the IV version at this time.
 
Cobiprostone
 
Oral Spray for Oral Mucositis
 
Cobiprostone is in development for the target indication of prevention and/or treatment of oral mucositis. In the first quarter of 2014, we completed our phase 1b trial that evaluated the safety and PK of an oral spray formulation of cobiprostone. The results of this phase 1b trial showed that cobiprostone was well-tolerated overall and revealed low systematic exposure. The next phase of clinical development, a phase 2 trial, is expected to begin in the first half of 2015.
 
Cobiprostone for Non-Erosive Reflux Disease (NERD)
 
We announced we will begin a development program for cobiprostone to treat non-erosive reflux disease (NERD) for patients who have a non-satisfactory response to proton pump inhibitors.  We plan to initiate a phase 2 program in NERD by the end of 2014.
 
Unoprostone isopropyl for Retinitis Pigmentosa (RP)
 
We have received orphan drug designation for unoprostone isopropyl from the FDA for the treatment of retinitis pigmentosa (RP) and from European Medicines Agency.  In the first quarter of 2015 we will obtain interim, one-year data from the two-year Phase 3 study for RP in Japan, which is being funded by our partner R-Tech Ueno.  We continue to work with clinical experts and regulators in the U.S. and Europe to determine a go-forward plan for development of RP in these markets.  Taken together, these will provide us with the information needed to decide on next steps in RP by mid- 2015, with the aim to expand to a global program.  Additionally, we are currently evaluating opportunities in other retinal diseases, such as geographic atrophy, the advanced stage of age-related macular degeneration.
 
27

 
Results of Operations

Comparison of three months ended September 30, 2014 and September 30, 2013

Revenues
 
The following table summarizes our revenues:
 
   
Three Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Research and development revenue
  $ 1,797     $ 2,027  
Product royalty revenue
    16,811       13,595  
Product sales revenue
    11,717       5,378  
Co-promotion revenue
    936       -  
Contract and collaboration revenue
    202       163  
Total
  $ 31,463     $ 21,163  
 
Total revenues were $31.5 million for the three months ended September 30, 2014 compared to $21.2 million for the three months ended September 30, 2013, an increase of $10.3 million, or 48.7%.

Research and development revenue
 
Research and development revenue was $1.8 million for the three months ended September 30, 2014 compared to $2.0 million for the three months ended September 30, 2013, a decrease of $230,000.

Product royalty revenue
 
Product royalty revenue was $16.8 million for the three months ended September 30, 2014 compared to $13.6 million for the three months ended September 30, 2013, an increase of $3.2 million, or 23.7%. The increase was primarily due to higher net sales of AMITIZA as reported by Takeda for royalty calculation purposes.

Product sales revenue
 
Product sales revenue represents drug product net sales of AMITIZA in Japan and Switzerland, and drug product net sales of RESCULA in the United States. Product sales revenue was $11.8 million for the three months ended September 30, 2014 compared to $5.4 million for the three months ended September 30, 2013, an increase of $6.3 million, or 117.9%. The increase was primarily due to the increased volume of AMITIZA sales in Japan and a $2.5 million milestone payment earned in Japan as a result of the first occurrence of annual net sales of lubiprostone in Japan exceeding ¥5.0 billion.

Co-promotion revenue
 
Co-promotion revenue was $936,000 for the three months ended September 30, 2014 compared to nil for the three months ended September 30, 2013, an increase of $936,000. The increase resulted from our specialty sales force shifting back to co-promoting AMITIZA in 2014 after having shifted away from co-promoting AMITIZA in 2013.

Contract and collaboration revenue
 
Contract and collaboration revenue was $202,000 for the three months ended September 30, 2014 compared to $163,000 for the three months ended September 30, 2013, an increase of $39,000.

Costs of Goods Sold
 
The following table summarizes our costs of goods sold expenses:
 
   
Three Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Product purchases
  $ 4,886     $ 3,180  
Inventory write-off     -       3,041  
Distribution
    88       46  
Total
  $ 4,974     $ 6,267  
 
 
28

 
Total costs of goods sold for the three months ended September 30, 2014 were $5.0 million compared to $6.3 million for the three months ended September 30, 2013, a decrease of $1.3 million, or 20.6%. The decrease was primarily due to a $3.0 million non-cash write-off of RESCULA inventory in the prior year period which did not reoccur, partially offset by higher product purchases expenses as a result of increased volume of AMITIZA sales in Japan.

Research and Development Expenses
 
The following table summarizes our research and development expenses:
 
   
Three Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Direct costs:
           
Lubiprostone
  $ 3,238     $ 2,712  
Cobiprostone
    241       83  
Ion channel activators
    333       795  
Unoprostone isopropyl
    346       (396 )
Other
    392       239  
Total
    4,550       3,433  
                 
Indirect costs
    747       1,041  
Total
  $ 5,297     $ 4,474  
 
Total research and development expenses for the three months ended September 30, 2014 were $5.3 million compared to $4.5 million for the three months ended September 30, 2013, an increase of $823,000, or 18.4%. The increase was primarily due to increased costs of our lubiprostone pediatric trial.
 
General and Administrative Expenses
 
The following table summarizes our general and administrative expenses:
 
   
Three Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Salaries, benefits and related costs
  $ 2,551     $ 2,032  
Legal, consulting and other professional expenses
    3,727       1,527  
Stock option expense
    438       268  
Pharmacovigilance
    153       337  
Other expenses
    1,248       1,276  
Total
  $ 8,117     $ 5,440  
 
General and administrative expenses were $8.1 million for the three months ended September 30, 2014, compared to $5.4 million for the three months ended September 30, 2013, an increase of $2.7 million, or 49.2%. The increase was primarily due to a significant increase in legal fees incurred prosecuting a patent infringement lawsuit filed by us in February 2013.

 
29

 
Selling and Marketing Expenses
 
The following table summarizes our selling and marketing expenses:
 
   
Three Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Salaries, benefits and related costs
  $ 677     $ 1,652  
Consulting and other professional expenses
    1,409       1,245  
Samples expense
    87       1,632  
Contract fees
    515       71  
Data purchases
    209       194  
Promotional materials & programs
    302       471  
Other expenses
    602       761  
Total
  $ 3,801     $ 6,026  
 
Selling and marketing expenses were $3.8 million for the three months ended September 30, 2014, compared to $6.0 million for the three months ended September 30, 2013, a decrease of $2.2 million, or 36.9%. The decrease was primarily the result of a non-cash write-off of RESCULA samples in the prior year period of $1.5 million that did not reoccur this year, and the replacement in 2014 of our in-house sales force with a lower-cost contract sales force.

Non-Operating Income and Expense
 
The following table summarizes our non-operating income and expense:
 
   
Three Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Interest income
  $ 26     $ 20  
Interest expense
    (384 )     (461 )
Other income, net
    519       183  
Total
  $ 161     $ (258 )
 
Interest income was $26,000 for the three months ended September 30, 2014, compared to $20,000 for the three months ended September 30, 2013, an increase of $6,000.

Interest expense was $384,000 for the three months ended September 30, 2014, compared to $461,000 for the three months ended September 30, 2013, a decrease of $77,000, or 16.7%, primarily due to lower principal balances.

Other income, net was $519,000 for the three months ended September 30, 2014, compared to $183,000 for the three months ended September 30, 2013, an increase of $336,000, or 183.6%. The majority of the increase is due to increases in unrealized and non-cash foreign exchange gains.
 
Income Taxes
 
We recorded an income tax provision of $2.3 million for the three months ended September 30, 2014, and an income tax benefit of $2.8 million for the three months ended September 30, 2013. The income tax provision for the three months ended September 30, 2014 primarily pertains to the pre-tax income and losses generated by our U.S., Japanese and Swiss subsidiaries.  The income tax benefit for the three months ended September 30, 2013 primarily pertained to the pre-tax losses generated by our U.S. subsidiary.

 
30

 
Comparison of nine months ended September 30, 2014 and September 30, 2013

Revenues
The following table summarizes our revenues:
 
   
Nine Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Research and development revenue
  $ 5,281     $ 16,288  
Product royalty revenue
    44,200       37,271  
Product sales revenue
    25,572       10,994  
Co-promotion revenue
    2,021       61  
Contract and collaboration revenue
    619       490  
Total
  $ 77,693     $ 65,104  
 
Total revenues were $77.7 million for the nine months ended September 30, 2014 compared to $65.1 million for the nine months ended September 30, 2013, an increase of $12.6 million, or 19.3%.

Research and development revenue
 
Research and development revenue was $5.3 million for the nine months ended September 30, 2014 compared to $16.3 million for the nine months ended September 30, 2013, a decrease of $11.0 million, or 67.6%. The decrease was primarily due to the 2013 receipt of the $10.0 million milestone payment from Takeda upon the first commercial sale of AMITIZA for OIC.

Product royalty revenue
 
Product royalty revenue was $44.2 million for the nine months ended September 30, 2014 compared to $37.3 million for the nine months ended September 30, 2013, an increase of $6.9 million, or 18.6%. The increase was primarily due to higher net sales of AMITIZA as reported by Takeda for royalty calculation purposes.

Product sales revenue
 
Product sales revenue represents drug product net sales of AMITIZA in Japan and Switzerland, and drug product net sales of RESCULA in the United States. Product sales revenue was $25.6 million for the nine months ended September 30, 2014 compared to $11.0 million for the nine months ended September 30, 2013, an increase of $14.6 million, or 133.0%. The increase was primarily due to the increased volume of AMITIZA sales in Japan and a $2.5 million milestone payment earned in Japan as a result of the first occurrence of annual net sales of lubiprostone in Japan exceeding ¥5.0 billion.

Co-promotion revenue
 
Co-promotion revenue was $2.0 million for the nine months ended September 30, 2014 compared to $61,000 for the nine months ended September 30, 2013, an increase of $2.0 million. The increase resulted from our specialty sales force shifting back to co-promoting AMITIZA in 2014 after having shifted away from co-promoting AMITIZA in 2013.

Contract and collaboration revenue
 
Contract and collaboration revenue was $619,000 for the nine months ended September 30, 2014 compared to $490,000 for the nine months ended September 30, 2013, an increase of $129,000.

Costs of Goods Sold
 
The following table summarizes our costs of goods sold expenses:
 
   
Nine Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Product purchases
  $ 11,963     $ 6,302  
Inventory write-off     -       3,041  
Distribution
    200       114  
Total
  $ 12,163     $ 9,457  
 
Costs of goods sold for the nine months ended September 30, 2014 were $12.2 million compared to $9.5 million for the nine months ended September 30, 2013, an increase of $2.7 million, or 28.6%. The increase was primarily due to the increased volume of AMITIZA sales in Japan, partially offset by a $3.0 million non-cash write-off of RESCULA inventory in the prior year period which did not reoccur.

 
31

 
Research and Development Expenses
 
The following table summarizes our research and development expenses:
 
   
Nine Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Direct costs:
           
Lubiprostone
  $ 7,981     $ 6,487  
Cobiprostone
    919       435  
Ion channel activators
    1,293       2,490  
Unoprostone isopropyl
    781       298  
Other
    1,250       1,997  
Total
    12,224       11,707  
                 
Indirect costs
    2,460       2,821  
Total
  $ 14,684     $ 14,528  
 
Research and development expenses for the nine months ended September 30, 2014 were $14.7 million compared to $14.5 million for the nine months ended September 30, 2013, an increase of $156,000, or 1.1%.

General and Administrative Expenses
 
The following table summarizes our general and administrative expenses:
 
   
Nine Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Salaries, benefits and related costs
  $ 6,584     $ 6,196  
Legal, consulting and other professional expenses
    10,603       4,779  
Stock option expense
    1,135       945  
Pharmacovigilance
    942       2,103  
Other expenses
    4,307       4,612  
Total
  $ 23,571     $ 18,635  

General and administrative expenses were $23.6 million for the nine months ended September 30, 2014, compared to $18.6 million for the nine months ended September 30, 2013, an increase of $4.9 million, or 26.5%. The increase is primarily due to a significant increase in legal fees incurred prosecuting a patent infringement lawsuit filed by us in February 2013, partially offset by a reduction in pharmacovigilance costs that were associated with launching AMITIZA in Japan in 2013.

Selling and Marketing Expenses
 
The following table summarizes our selling and marketing expenses:
 
   
Nine Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Salaries, benefits and related costs
  $ 2,052     $ 5,333  
Consulting and other professional expenses
    4,653       3,223  
Samples expense
    228       2,587  
Contract fees
    1,313       71  
Data purchases
    658       630  
Promotional materials & programs
    784       1,562  
Other expenses
    1,773       2,561  
Total
  $ 11,461     $ 15,967  
 
Selling and marketing expenses were $11.5 million for the nine months ended September 30, 2014, compared to $16.0 million for the nine months ended September 30, 2013, a decrease of $4.5 million, or 28.2%. The decrease was primarily due to the replacement of our in-house sales force with a lower-cost contract sales force in 2014 and a $1.5 million non-cash write-off of RESCULA samples in the prior year that did not reoccur this year, partially offset by increased commercialization costs for AMITIZA in Europe.

 
32

 
Non-Operating Income and Expense
 
The following table summarizes our non-operating income and expense:
 
   
Nine Months Ended
September 30,
 
(In thousands)
 
2014
   
2013
 
Interest income
  $ 106     $ 63  
Interest expense
    (1,176 )   $ (1,449 )
Other income, net
    143     $ 2,203  
Total
  $ (927 )   $ 817  
 
Interest income was $106,000 for the nine months ended September 30, 2014, compared to $63,000 for the nine months ended September 30, 2013, an increase of $43,000.

Interest expense was $1.2 million for the nine months ended September 30, 2014, compared to $1.4 million for the nine months ended September 30, 2013, a decrease of $273,000, or 18.8% primarily due to lower principal balances.

Other income, net was $143,000 for the nine months ended September 30, 2014, compared to $2.2 million for the nine months ended September 30, 2013, a decrease of $2.1 million, or 93.5%. The majority of the decrease related to the change from unrealized and non-cash foreign exchange gains in the prior year period, to unrealized and non-cash foreign exchange losses in the current year period.

Income Taxes

We recorded income tax provisions of $5.4 million and $2.6 million for the nine months ended September 30, 2014 and 2013, respectively. The tax provision for the nine months ended September 30, 2014 primarily pertains to the pre-tax income and losses generated by our U.S., Japanese and Swiss subsidiaries. The tax provision for the nine months ended September 30, 2013 primarily pertained to the pre-tax income generated by our U.S. and Japanese subsidiaries.



 
33

 
Reportable Geographic Segments
 
We have determined that we have three reportable segments based on our method of internal reporting, which disaggregates business by geographic location. These segments are the Americas, Europe and Asia. We evaluate the performance of these segments based primarily on income (loss) from operations, as well as other factors that depend on the growth of these geographies. Such measures include the progress of research and development activities, collaboration and licensing efforts, commercialization activities and other factors. The financial results of our segments reflect their varying stages of development. The following table summarizes the financial results and the identifiable assets of our reportable geographic segments:

   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
(in thousands)
 
2014
   
2013
   
2014
   
2013
 
Americas
                       
Total revenues
  $ 19,855     $ 15,933     $ 52,477     $ 54,321  
Income (loss) before income taxes
    6,485       (494 )     16,259       16,544  
Europe
                               
Total revenues
    193       29       462       71  
Loss before income taxes
    (9,334 )     (1,683 )     (15,811 )     (9,657 )
Asia
                               
Total revenues
    11,415       5,201       24,754       10,712  
Income before income taxes
    6,653       875       8,808       447  
Consolidated
                               
Total revenues
    31,463       21,163       77,693       65,104  
Income (loss) before income taxes
    3,804       (1,302 )     9,256       7,334  
 
(in thousands)
 
September 30,
2014
   
December 31,
2013
 
Identifiable assets
           
Americas
  $ 110,229     $ 95,350  
Europe
    12,679       23,843  
Asia
    21,710       17,684  
Consolidated
    144,618       136,877  
 
Our Americas segment recorded income before income taxes of $6.5 million and loss before income taxes of $494,000 for the three months ended September 30, 2014 and 2013, respectively, an increase of $7.0 million. The increase was primarily due to a $3.2 million increase in Product Royalty Revenue as a result of higher net sales of AMITIZA as reported by Takeda for royalty calculation purposes, as well as a $3.3 million decrease in Costs of Goods Sold due to a $3.0 million non-cash write-off of RESCULA inventory in the prior year period which did not reoccur. For the nine months ended September 30, 2014 and 2013, our Americas segment recorded income before income taxes of $16.3 and $16.5 million, respectively, a decrease of $285,000.

Our Europe segment recorded a loss before income taxes of $9.3 million and $1.7 million for the three months ended September 30, 2014 and 2013, a decrease of $7.7 million. For the nine months ended September 30, 2014 and 2013, our Europe segment recorded a loss before income taxes of $15.8 and $9.7 million, respectively, a decrease of $6.2 million, or 63.7%.

Our Asia segment recorded income before income taxes of $6.7 million and $875,000 for the three months ended September 30, 2014 and 2013, respectively, an increase of $5.8 million. For the nine months ended September 30, 2014 and 2013, our Asia segment recorded income before income taxes of $8.8 million and $447,000, respectively, an increase of $8.4 million. The increases in each period were primarily due to increased product sales of AMITIZA.

 
34

 
Financial Condition, Liquidity and Capital Resources

Financial Condition
 
Sources of Liquidity
 
We finance our operations principally with cash generated from revenues, cash and cash equivalents on hand, and to a lesser extent, cash generated from the issuance and sale of our class A common stock through “at-the-market” equity offerings or through the exercise of employee stock options. Revenues generated from operations principally consist of a combination of upfront payments, milestone and royalty payments, product sales, and research and development expense reimbursements received from Takeda, Abbott and other parties.

Our cash, cash equivalents, restricted cash and investments consisted of the following as of September 30, 2014 and December 31, 2013:
 
(In thousands)
 
September 30,
2014
   
December 31,
2013
 
Cash and cash equivalents
  $ 56,087     $ 44,102  
Restricted cash, current
    26,114       26,115  
Restricted cash, non-current
    2,313       2,471  
Investments, current
    8,857       16,003  
Investments, non-current
    13,046       7,219  
Total
  $ 106,417     $ 95,910  
 
Our cash equivalents are deposits in operating accounts and highly liquid investments with an original maturity at time of purchase of 90 days or less.

As of September 30, 2014 and December 31, 2013, our restricted cash consisted primarily of the collateral pledged to support a loan agreement with Tokyo-Mitsubishi Bank, a loan agreement with the Mizuho Bank, Numab’s loan with Zurcher Kantonalbank and operating leases with certain financial institutions.

As of September 30, 2014, our current investments consisted of U.S. government securities, certificates of deposit, and corporate bonds that mature in one year or less.
 
Cash Flows
 
The following table summarizes our cash flows:
 
   
Nine Months Ended September 30,
 
(In thousands)
 
2014
   
2013
 
Cash provided by (used in):
           
Operating activities
  $ 7,532     $ (7,193 )
Investing activities
    1,164       (11,864 )
Financing activities
    3,515       8,403  
Effect of exchange rates
    (226 )     (1,457 )
Net increase (decrease) in cash and cash equivalents
  $ 11,985     $ (12,111 )

Nine months ended September 30, 2014
 
Net cash provided by operating activities of $7.5 million for the nine months ended September 30, 2014 was primarily due to a net income of $3.8 million plus non-cash expenses totaling $10.4 million (including an intangible assets impairment of $5.6 million), plus cash provided by net changes in other assets and liabilities of $2.2 million, offset by increases in receivables of $9.1 million.

Net cash provided by investing activities of $1.2 million for the nine months ended September 30, 2014 was primarily due to proceeds from the sales of investments.

 
35

 
Net cash provided by financing activities of $3.5 million for the nine months ended September 30, 2014 was realized through the issuance of class A common stock through the “at-the-market” program totaling $5.3 million, exercised options totaling $2.2 million, offset by repayments of notes payable totaling $3.9 million.

The effect of exchange rates on the cash balances of currencies held in foreign denominations for nine months ended September 30, 2014 was a decrease of $226,000.
 
Nine months ended September 30, 2013
 
Net cash used in operating activities was $7.2 million for the nine months ended September 30, 2013. This reflected a net income of $4.7 million, a decrease in accounts payable and accrued expenses of $6.7 million, a decrease in deferred revenue of $3.0 million as well as changes in other operating assets and liabilities.

Net cash used in investing activities was $11.9 million for the nine months ended September 30, 2013. This primarily reflected an increase in restricted cash associated with collateral pledged to support loan agreements and purchase of investments, partially offset by our proceeds from the sales and maturities of investments.

Net cash provided by financing activities was $8.4 million for the nine months ended September 30, 2013. This primarily reflected proceeds from a loan agreement with the Mizuho Bank, partially offset by a payment of $3.7 million on our notes payable and purchases under our stock repurchase program.

The effect of exchange rates on the cash balances of currencies held in foreign denominations for the nine months ended September 30, 2013 was a decrease of $1.5 million.

Off-Balance Sheet Arrangements
 
As of September 30, 2014, we did not have any off-balance sheet arrangements, as such term is defined in Item 303(a)(4) of Regulation S-K under the Securities Act of 1933, as amended.

Funding Requirements
 
We may need substantial amounts of capital to continue growing our business. We may require this capital, among other things, to fund:
 
·
our share of the on-going development program of AMITIZA in the United States;
·
development, regulatory and marketing efforts in Europe and Asia for lubiprostone;
·
development and regulatory activities for unoprostone isopropyl in the United States and Canada and other countries excluding the R-Tech Territory;
·
development, marketing and manufacturing activities at SAG;
·
activities to resolve our on-going legal matters;
·
the costs involved in obtaining and maintaining proprietary protection for our products, technology and know-how, including litigation costs and the results of such litigation;
·
research and development activities for other prostone compounds, including cobiprostone, and other ion channel openers;
·
other business development activities, including partnerships, alliances and investments in, or acquisitions of, other businesses, products and technologies, and the integration of such acquisitions;
·
the continuing purchase of shares of our class A common stock up to $5.0 million pursuant to the repurchase program, which may be increased up to $10.0 million as previously approved by our Board of Directors; and
·
the payment of principal and interest under our loan note obligations.

The timing of these funding requirements is difficult to predict due to many factors, including the outcomes of our preclinical and clinical research and development programs and when those outcomes are determined, the timing of obtaining regulatory approvals and the presence and status of competing products. Our capital needs may exceed the capital available from our future operations, collaborative and licensing arrangements and existing liquid assets. Our future capital requirements and liquidity will depend on many factors, including, but not limited to:

·
the cost and time involved to pursue our research and development programs;
·
our ability to establish collaborative arrangements and to enter into licensing agreements and contractual arrangements with others; and
 
 
36

 
 
·
any future change in our business strategy.

To the extent that our capital resources may be insufficient to meet our future capital requirements, we may need to finance our future cash needs through at-the-market offerings, public or private equity offerings, debt financings or corporate collaboration and licensing arrangements.  Additional equity or debt financing, grants or corporate collaboration and licensing arrangements may not be available on acceptable terms, if at all. If adequate funds are not available, we may be required to delay, reduce the scope of or eliminate our research and development programs, reduce our planned commercialization efforts or obtain funds through arrangements with collaborators or others that may require us to relinquish rights to certain product candidates that we might otherwise seek to develop or commercialize independently. In addition, any future equity funding would dilute the ownership of our stockholders.

At September 30, 2014, based upon our current business plan, we believe we have sufficient liquidity for the next 12 months.

Effects of Foreign Currency
 
We currently incur a portion of our operating expenses in Switzerland, Japan and the United Kingdom. The reporting currency for our Condensed Consolidated Financial Statements is United States dollars. As such, the results of our operations could be adversely affected by changes in exchange rates either due to transaction losses, which are recognized in the statement of operations, or translation losses, which are recognized in comprehensive income. We currently do not hedge foreign exchange rate exposure via derivative instruments.

Recent Accounting Pronouncements
 
Refer to Note 1 of the Notes to Condensed Consolidated Financial Statements in this Quarterly Report on Form 10-Q.
 
 
Our market risks during the three months ended September 30, 2014 have not materially changed from those discussed in Part II, Item 7A of our Annual Report on Form 10-K for the year ended December 31, 2013, which was filed with the SEC on March 12, 2014.

Foreign Currency Exchange Rate Risk
 
We are subject to foreign exchange rate risk for revenues and expenses denominated in foreign currencies. Foreign exchange rate risk arises from the fluctuation of foreign exchange rates and the degree of volatility of these rates relative to the United States dollar. We do not currently hedge our foreign currency transactions.

Interest Rate Risk
 
Our exposure to market risks associated with changes in interest rates relates primarily to the increase or decrease in the amount of interest income earned on our investment portfolio. We ensure the safety and preservation of invested funds by attempting to limit default risk, market risk and reinvestment risk. We attempt to mitigate default risk by investing in investment grade securities. A hypothetical one percentage point decline in interest rates would not have materially affected the fair value of our interest-sensitive financial instruments as of September 30, 2014.

We do not use derivative financial instruments for trading or speculative purposes. However, we regularly invest excess cash in overnight repurchase agreements that are subject to changes in short-term interest rates. We believe that the market risk arising from holding these financial instruments is minimal.
 
Credit Risk
 
Our exposure to credit risk consists of cash and cash equivalents, restricted cash, investments and receivables. We place our cash, cash equivalents and restricted cash with what we believe to be highly rated financial institutions and invest the excess cash in highly rated investments. As of September 30, 2014 and December 31, 2013, approximately 19.9% and 17.1%, respectively, of our cash, cash equivalents, restricted cash and investments are issued or insured by the federal government or government agencies. We have not experienced any losses on these accounts related to amounts in excess of insured limits.
 
 
37

 

a) Evaluation of Disclosure Controls and Procedures
 
Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, performed an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act), as of September 30, 2014. In designing and evaluating such controls, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and management necessarily applies its judgment in evaluating the benefits of possible controls and procedures relative to their costs. Based upon the evaluation we carried out, our Chief Executive Officer and Chief Financial Officer have concluded that, as of September 30, 2014, our disclosure controls and procedures were effective to provide reasonable assurance that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified under the applicable rules and forms of the SEC, and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.

b) Changes in Internal Control Over Financial Reporting
 
There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter ended September 30, 2014 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
 
 
 
38

 
Part II — OTHER INFORMATION

 
On October 9, 2014, we and our affiliate, SAG (collectively, Sucampo), along with R-Tech, Takeda and certain affiliates of Takeda (collectively, Takeda Pharmaceutical) executed a settlement and license agreement (Settlement and License Agreement) with Anchen Pharmaceuticals, Inc., Par Pharmaceutical, Inc. and Par Pharmaceutical Companies, Inc. (collectively, Par) that resolves patent litigation in the United States related to Sucampo’s AMITIZA (lubiprostone) 8 mcg soft gelatin capsule and 24 mcg soft gelatin capsule product. Under the terms of the Settlement and License Agreement, Sucampo and R-Tech will grant Par a non-exclusive license to market Par’s generic version of lubiprostone 8 mcg soft gelatin capsule and 24 mcg soft gelatin capsule (collectively, licensed products) in the U.S. for the indications approved for AMITZA beginning January 1, 2021, or earlier under certain circumstances.  Beginning on January 1, 2021, Par will share with Sucampo the gross profits of the licensed products or an authorized generic sold during the term of the Settlement and License Agreement, which continues until each of the Sucampo patents has expired.  In the event Par elects to launch an authorized generic product, Sucampo will supply Par under the terms of a manufacturing and supply agreement at a negotiated price.  Additionally, Sucampo, R-T-tech, Takeda, and Par have agreed to dismiss with prejudice the patent litigation filed in the U.S. District Court for the District of Delaware. While we are awaiting approval of the settlement by the District Court, we also lodged with the Federal Trade Commission and Department of Justice the settlement documents and the company has not received any objections as of the filing date of third quarter Form 10-Q.

On October 3, 2014, or the Notice Date, Sucampo received a Paragraph IV certification notice letter, or the Notice Letter, regarding an abbreviated new drug application, or ANDA, submitted to the FDA by Dr. Reddy’s Laboratories, Inc., or Dr. Reddy’s, requesting approval to market, sell, and use a generic version of the 8 mcg and 24 mcg AMITIZA soft gelatin capsule, or the lubiprostone capsule, products. In the Notice Letter, Dr. Reddy’s alleges that U.S. Patent Nos. 6,414,016; 6,583,174; 7,064,148; 7,417,067; 8,026,393; 8,071,613; 8,088,934; 8,097,649; 8,114,890; 8,338,639; 8,748,481; 8,779,187; 7,795,312; 8,097,653; and 8,389,542 (collectively, the Patents), which cover compositions, formulations and methods of using AMITIZA, are invalid, unenforceable and/or will not be infringed by Dr. Reddy’s manufacture, use or sale of the product described in its ANDA.  The latest of the Patents expire in 2027. We are currently reviewing the Notice Letter.  By statute, if we initiate a patent infringement lawsuit against Dr. Reddy’s within 45 days of the Notice Date, the FDA would automatically stay approval of Dr. Reddy’s ANDA until the earlier of 30 months from the Notice Date or entry of a district court decision finding the Patents invalid or not infringed. The Company intends to vigorously enforce its intellectual property.
 
 
Our business is subject to certain risks and events that, if they occur, could adversely affect our financial condition and results of operations and the trading price of our common stock. For a discussion of these risks, please refer to the “Risk Factors” section of our Annual Report on Form 10-K for the fiscal year ended December 31, 2013, filed by us with the SEC on March 12, 2014. There have not been any material changes from the risk factors as previously disclosed in our Form 10-K for the fiscal year ended December 31, 2013.
 
 
(a) None.
(b) Not applicable.
(c) None.

 
 
(a) None.
(b) None.

 
 
None.

 
 
(a) None.
(b) None.

 
39

 
 
Exhibit
       
Number
 
Description
 
Reference
3.1
 
Certificate of Incorporation
 
Exhibit 3.1 to the Company's Current Report on Form 8-K (filed December 29, 2008)
         
3.2
 
Certificate of Amendment to Certificate of Incorporation
 
Exhibit 3.2 to the Company's Current Report on Form 8-K (filed December 29, 2008)
         
3.3
 
Amended and Restated Bylaws
 
Exhibit 3.1 to the Company's Current Report on Form 8-K (filed August 2, 2013)
         
4.1
 
Specimen Stock Certificate evidencing the shares of class A common stock
 
Exhibit 4.1 to Registration Statement No. 333-135133, Amendment No. 5 (filed February 1, 2007)
         
10.1*
 
Lubiprostone Exclusive Manufacturing and Supply Agreement, dated as of January 1, 2014, by and between Sucampo AG and R-Tech Ueno, Ltd.
 
Included herewith
         
10.2*
 
Settlement and License Agreement, dated September 30, 2014, by and among Applicant, Sucampo AG, R-Tech Ueno, Ltd., Takeda Pharmaceutical Company Limited, Takeda Pharmaceuticals USA, Inc., Takeda Pharmaceuticals America, Inc., Anchen Pharmaceuticals, Inc., Par Pharmaceutical, Inc. and Par Pharmaceutical Companies, Inc.
 
Included herewith
         
10.3*
 
Manufacturing and Supply Agreement, dated as of September 30, 2014, by and between Sucampo AG and Par Pharmaceutical, Inc.
 
Included herewith
         
10.4*
 
Amendment No. 1, dated September 30, 2014, to Collaboration and License Agreement dated October 29, 2004 and Supplemental Agreement, dated February 1, 2006, by and between Sucampo Pharma Americas, LLC and Takeda Pharmaceutical Company Limited
 
Included herewith
         
10.5
 
Amendment No. 1, dated September 30, 2014, to the Agreement dated October 29, 2004, by and between Sucampo Pharma Americas, LLC, Takeda Pharmaceutical Company Limited and Sucampo AG
 
Included herewith
         
10.6*
 
Amendment No. 1, dated September 30, 2014, to Supply Agreement dated October 29, 2004, Supply and Purchase Agreement dated January 25, 2006 and the Addendum to the Supply and Purchase Agreement dated November 6, 2013 by and among Sucampo Pharma Americas, LLC, Takeda Pharmaceutical Company Limited and R-Tech Ueno, Ltd.
 
Included herewith
         
31.1
 
Certification of Principal Executive Officer pursuant to Rules 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended
 
Included herewith
         
31.2
 
Certification of Principal Financial Officer pursuant to Rules 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended
 
Included herewith
         
32.1
 
Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This Certification accompanies this report and shall not, except to the extent required by the Sarbanes-Oxley Act of 2002, be deemed filed for purposes of §18 of the Securities Exchange Act of 1934, as amended.
 
Included herewith
         
32.1
 
Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This Certification accompanies this report and shall not, except to the extent required by the Sarbanes-Oxley Act of 2002, be deemed filed for purposes of §18 of the Securities Exchange Act of 1934, as amended.
 
Included herewith
         
101.[INS]†
 
XBRL Instance Document
 
Included herewith
         
101.[SCH]†
 
XBRL Taxonomy Extension Schema Document
 
Included herewith
         
101.[CAL]†
XBRL Taxonomy Extension Calculation Linkbase Document
 
Included herewith
         
101.[LAB]†
XBRL Taxonomy Extension Label Linkbase Document
 
Included herewith
         
101.[PRE]†
XBRL Taxonomy Extension Presentation Linkbase Document
 
Included herewith
         
* Confidential treatment has been requested for certain portions of this exhibit. The confidential portions of this exhibit have been omitted and filed separately with the Securities and Exchange Commission.
         
† Attached as Exhibit 101 to this report are documents formatted in XBRL (Extensible Business Reporting Language).  Users of this data are advised that, pursuant to Rule 406T of Regulation S-T, the interactive data file is deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and is otherwise not subject to liability under these sections.
 
 
 
40

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 

   
Sucampo Pharmaceuticals, Inc.
 
       
November 7, 2014
By:
/s/  PETER GREENLEAF
 
   
Peter Greenleaf
 
   
Chief Executive Officer
 
   
(Principal Executive Officer)
 
       
       
November 7, 2014
By:
/s/  CARY J. CLAIBORNE
 
   
Cary J. Claiborne
 
   
Chief Financial Officer
 
   
(Principal Financial Officer)
 
 
 
41

 
Sucampo Pharmaceuticals, Inc.

Exhibit
       
Number
 
Description
 
Reference
3.1
 
Certificate of Incorporation
 
Exhibit 3.1 to the Company's Current Report on Form 8-K (filed December 29, 2008)
         
3.2
 
Certificate of Amendment to Certificate of Incorporation
 
Exhibit 3.2 to the Company's Current Report on Form 8-K (filed December 29, 2008)
         
3.3
 
Amended and Restated Bylaws
 
Exhibit 3.1 to the Company's Current Report on Form 8-K (filed August 2, 2013)
         
4.1
 
Specimen Stock Certificate evidencing the shares of class A common stock
 
Exhibit 4.1 to Registration Statement No. 333-135133, Amendment No. 5 (filed February 1, 2007)
         
10.1*
 
Lubiprostone Exclusive Manufacturing and Supply Agreement, dated as of January 1, 2014, by and between Sucampo AG and R-Tech Ueno, Ltd.
 
Included herewith
         
10.2*
 
Settlement and License Agreement, dated September 30, 2014, by and among Applicant, Sucampo AG, R-Tech Ueno, Ltd., Takeda Pharmaceutical Company Limited, Takeda Pharmaceuticals USA, Inc., Takeda Pharmaceuticals America, Inc., Anchen Pharmaceuticals, Inc., Par Pharmaceutical, Inc. and Par Pharmaceutical Companies, Inc.
 
Included herewith
         
10.3*
 
Manufacturing and Supply Agreement, dated as of September 30, 2014, by and between Sucampo AG and Par Pharmaceutical, Inc.
 
Included herewith
         
10.4*
 
Amendment No. 1, dated September 30, 2014, to Collaboration and License Agreement dated October 29, 2004 and Supplemental Agreement, dated February 1, 2006, by and between Sucampo Pharma Americas, LLC and Takeda Pharmaceutical Company Limited
 
Included herewith
         
10.5
 
Amendment No. 1, dated September 30, 2014, to the Agreement dated October 29, 2004, by and between Sucampo Pharma Americas, LLC, Takeda Pharmaceutical Company Limited and Sucampo AG
 
Included herewith
         
10.6*
 
Amendment No. 1, dated September 30, 2014, to Supply Agreement dated October 29, 2004, Supply and Purchase Agreement dated January 25, 2006 and the Addendum to the Supply and Purchase Agreement dated November 6, 2013 by and among Sucampo Pharma Americas, LLC, Takeda Pharmaceutical Company Limited and R-Tech Ueno, Ltd.
 
Included herewith
         
31.1
 
Certification of Principal Executive Officer pursuant to Rules 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended
 
Included herewith
         
31.2
 
Certification of Principal Financial Officer pursuant to Rules 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended
 
Included herewith
         
32.1
 
Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This Certification accompanies this report and shall not, except to the extent required by the Sarbanes-Oxley Act of 2002, be deemed filed for purposes of §18 of the Securities Exchange Act of 1934, as amended.
 
Included herewith
         
32.1
 
Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This Certification accompanies this report and shall not, except to the extent required by the Sarbanes-Oxley Act of 2002, be deemed filed for purposes of §18 of the Securities Exchange Act of 1934, as amended.
 
Included herewith
         
101.[INS]†
 
XBRL Instance Document
 
Included herewith
         
101.[SCH]†
 
XBRL Taxonomy Extension Schema Document
 
Included herewith
         
101.[CAL]†
XBRL Taxonomy Extension Calculation Linkbase Document
 
Included herewith
         
101.[LAB]†
XBRL Taxonomy Extension Label Linkbase Document
 
Included herewith
         
101.[PRE]†
XBRL Taxonomy Extension Presentation Linkbase Document
 
Included herewith
         
* Confidential treatment has been requested for certain portions of this exhibit. The confidential portions of this exhibit have been omitted and filed separately with the Securities and Exchange Commission.
         
† Attached as Exhibit 101 to this report are documents formatted in XBRL (Extensible Business Reporting Language).  Users of this data are advised that, pursuant to Rule 406T of Regulation S-T, the interactive data file is deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and is otherwise not subject to liability under these sections.
 
 
42