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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

 

FORM 10-Q

 

 

 

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

For the quarterly period ended March 31, 2015

or

 

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

For the transition period from                      to                     

Commission File Number: 001-35614

 

 

HYPERION THERAPEUTICS, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   61-1512713

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer

Identification No.)

2000 Sierra Point Parkway, Suite 400

Brisbane, California 94005

(650) 745-7802

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

 

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

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

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

As of April 30, 2015, the number of outstanding shares of the registrant’s common stock was 20,976,592

 

 

 


Table of Contents

TABLE OF CONTENTS

 

         Page  

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

     ii   

PART I. FINANCIAL INFORMATION

     1  

Item 1.

 

Condensed Consolidated Financial Statements (Unaudited)

     1  
 

Condensed Consolidated Balance Sheets

     1  
 

Condensed Consolidated Statements of Operations

     2  
 

Condensed Consolidated Statements of Comprehensive Income (Loss)

     3   
 

Condensed Consolidated Statements of Cash Flows

     4  
 

Notes to Condensed Consolidated Financial Statements

     5-19   

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     20  

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

     31  

Item 4.

 

Controls and Procedures

     31  

PART II. OTHER INFORMATION

     32  

Item 1.

 

Legal Proceedings

     32  

Item 1A.

 

Risk Factors

     32  

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

     34  

Item 3.

 

Defaults Upon Senior Securities

     34   

Item 4.

 

Mine Safety Disclosures

     34   

Item 5.

 

Other Information

     34   

Item 6.

 

Exhibits

     34   

In this report, unless otherwise stated or the context otherwise indicates, references to “Hyperion,” “we,” “us,” “our” and similar references refer to Hyperion Therapeutics, Inc. and our wholly owned subsidiary. The names Hyperion Therapeutics, Inc. TM , RAVICTI ®, BUPHENYL ®, AMMONAPS ® and DiaPep277 ® are our trademarks. All other trademarks, trade names and service marks appearing in this report are the property of their respective owners.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements. In some cases you can identify these statements by forward-looking words such as “believe,” “may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “could,” “would,” “project,” “plan,” “expect,” or similar expressions, or the negative or plural of these words or expressions. These forward-looking statements include, but are not limited to, statements concerning the following:

 

    future sales of RAVICTI, BUPHENYL and AMMONAPS or any other future products or product candidates;

 

    our expectations regarding the commercial supply of our urea cycle disorders (“UCD”) products;

 

    our expectations regarding the level of competitive protection afforded by our intellectual property portfolio and orphan drug designation;

 

    the cost, timing or estimated completion of our post-marketing clinical studies;

 

    third-party payor reimbursement for RAVICTI and BUPHENYL;

 

    our estimates regarding anticipated capital requirements and our needs for additional financing;

 

    the UCD patient market size and market adoption of RAVICTI by physicians and patients;

 

    the hepatic encephalopathy (“HE”) patient market size and FDA approval and market adoption of glycerol phenylbutyrate (“GPB”) by physicians and patients;

 

    the timing or cost of a Phase III trial in HE;

 

    the development and approval of the use of GPB for additional indications or in combination therapy;

 

    our expectations regarding licensing, acquisitions and strategic relationships;

 

    whether Clal Biotechnology Industries, Ltd. exercises its option to purchase Andromeda Biotech Ltd (“Andromeda”) from us and whether Andromeda ever generates revenues resulting in royalty payment obligations to us;

 

    the ongoing litigation with Par Pharmaceutical, Inc.;

 

    impact of accounting standards;

 

    repayment of notes payable

 

    our estimates of attaining sustained profitability; and

 

    the completion by Horizon Pharma, Inc. of its offer to acquire us.

These statements are only current predictions and are subject to known and unknown risks, uncertainties, and other factors that may cause our or our industry’s actual results, levels of activity, performance or achievements to be materially different from those anticipated by the forward-looking statements. We discuss many of these risks in this report in greater detail under the heading “Risk Factors” and elsewhere in this report. You should not rely upon forward-looking statements as predictions of future events.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Except as required by law, we are under no duty to update or revise any of the forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this report.

 

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Hyperion Therapeutics, Inc.

Condensed Consolidated Balance Sheets

(In thousands, except share and per share amounts)

(unaudited)

 

     March 31,
2015
    December 31,
2014
 

Assets

    

Current assets

    

Cash and cash equivalents

   $ 88,894      $ 102,796   

Short-term investments

     39,742        34,487   

Accounts receivable, net

     21,548        14,864  

Inventories, net

     5,597        4,621  

Prepaid expenses and other current assets

     2,686        2,632   
  

 

 

   

 

 

 

Total current assets

  158,467      159,400   

Long-term investments

  25,014      9,226   

Property and equipment, net

  1,071      1,116   

Intangible asset, net

  7,923      8,816   

Other non-current assets

  2,555      1,858   
  

 

 

   

 

 

 

Total assets

$ 195,030    $ 180,416   
  

 

 

   

 

 

 

Liabilities and Stockholders’ Equity

Current liabilities

Accounts payable

$ 9,478    $ 4,669   

Accrued liabilities

  26,614      25,509   

Deferred revenue

  240      224  

Notes payable, current portion

  1,529      —     
  

 

 

   

 

 

 

Total current liabilities

  37,861      30,402   

Notes payable, net of current portion

  16,663      18,124   

Deferred rent

  326      338   
  

 

 

   

 

 

 

Total liabilities

  54,850      48,864   
  

 

 

   

 

 

 

Commitments and contingencies (Note 13)

Stockholders’ equity

Preferred stock, par value $0.0001 — 10,000,000 shares authorized at March 31, 2015 and December 31, 2014; none issued and outstanding

  —       —    

Common stock, par value $0.0001 — 100,000,000 shares authorized at March 31, 2015 and December 31, 2014; 20,971,678 and 20,747,013 shares issued and outstanding at March 31, 2015 and December 31, 2014, respectively

  2      2   

Additional paid-in capital

  261,622      260,225   

Accumulated other comprehensive loss

  (35   (50

Accumulated deficit

  (121,409   (128,625
  

 

 

   

 

 

 

Total stockholders’ equity

  140,180      131,552   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

$ 195,030    $ 180,416   
  

 

 

   

 

 

 

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

 

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Hyperion Therapeutics, Inc.

Condensed Consolidated Statements of Operations

(In thousands, except share and per share amounts)

(Unaudited)

 

     Three months ended March 31,  
     2015     2014  

Net product revenue

   $ 31,193      $ 19,483   

Costs and expenses:

    

Cost of sales

     3,833        2,382   

Research and development

     6,799        3,217   

Selling, general and administrative

     14,976        11,171   

Amortization of intangible asset

     893        1,014   
  

 

 

   

 

 

 

Total costs and expenses

  26,501      17,784   
  

 

 

   

 

 

 

Income from operations

  4,692      1,699   

Interest income

  160      138   

Interest expense

  (245   (300

Other income (expense), net (Notes 4 and 10)

  4,164      (190
  

 

 

   

 

 

 

Income before income taxes

  8,771      1,347   

Income tax expense

  1,555      88   
  

 

 

   

 

 

 

Net income

  7,216      1,259   
  

 

 

   

 

 

 

Net income per share:

Basic

$ 0.35    $ 0.06   
  

 

 

   

 

 

 

Diluted

$ 0.33    $ 0.06   
  

 

 

   

 

 

 

Weighted average number of shares used to compute net income per share of common stock:

Basic

  20,780,059      20,191,190   
  

 

 

   

 

 

 

Diluted

  22,079,460      21,518,526   
  

 

 

   

 

 

 

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

 

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Hyperion Therapeutics, Inc.

Condensed Consolidated Statements of Comprehensive Income

(In thousands)

(Unaudited)

 

     Three Months Ended
March 31,
 
     2015      2014  

Net income

   $ 7,216       $ 1,259   

Other comprehensive income:

     

Unrealized gain on investments arising during the period

     15         45   
  

 

 

    

 

 

 

Other comprehensive income

  15      45   
  

 

 

    

 

 

 

Comprehensive income

$ 7,231    $ 1,304   
  

 

 

    

 

 

 

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

 

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Hyperion Therapeutics, Inc.

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

 

     Three Months Ended
March 31,
 
     2015     2014  

Cash flows from operating activities

    

Net income

   $ 7,216      $ 1,259   

Adjustments to reconcile net income to net cash provided by operating activities

    

Depreciation and amortization

     124        103   

Loss on disposal of fixed asset

     18        —     

Amortization of debt discount

     67        139   

Stock-based compensation expense

     2,361        1,366   

Amortization of intangible asset

     893        1,014   

Change in acquisition related contingency (Note 10)

     (4,115     —     

Amortization of discount on available-for-sale investments

     97        104   

Unrealized loss on foreign currency remeasurement adjustments

     4        —     

Excess tax benefit from stock-based compensation

     (124     (44

Changes in assets and liabilities

    

Accounts receivable

     (6,688     2,065   

Inventories

     (929     696   

Prepaid expenses and other assets

     (751     302   

Accounts payable

     4,809        747   

Deferred revenue

     16        195   

Accrued liabilities and other

     2,615        (1,150

Deferred rent

     (12     180   
  

 

 

   

 

 

 

Net cash provided by operating activities

  5,601      6,976   
  

 

 

   

 

 

 

Cash flows from investing activities

Acquisition of property and equipment

  (97   (29

Purchase of available-for-sale investments

  (34,415   (1,440

Maturity of available-for-sale investments

  13,290      480   
  

 

 

   

 

 

 

Net cash used in investing activities

  (21,222   (989
  

 

 

   

 

 

 

Cash flows from financing activities

Proceeds from issuance of common stock from stock option exercises

  1,595      887   

Income tax benefit on exercise of stock options

  124      44   

Principal payments under notes payable

  —       (1,367
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

  1,719      (436
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

  (13,902   5,551   

Cash and cash equivalents, beginning of period

  102,796      74,232   
  

 

 

   

 

 

 

Cash and cash equivalents, end of period

$ 88,894    $ 79,783   
  

 

 

   

 

 

 

Supplemental cash flow information

Cash paid for interest

$ 180    $ 171   

Cash paid for income tax

  1,073      —     

Stock-based compensation capitalized into inventories

  47      8   

Supplemental disclosure of noncash investing and financing activities

Unrealized gain on available-for-sale investments

  15      45   

Deferred gain (Note 4)

  2,595      —     

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

 

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Hyperion Therapeutics, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

 

1. Formation and Business of the Company

Hyperion Therapeutics, Inc. (the “Company”) was incorporated in the state of Delaware on November 1, 2006. The Company is a commercial biopharmaceutical company focused on the development and commercialization of novel therapeutics to treat disorders in the areas of orphan diseases. The Company’s products RAVICTI ® (glycerol phenylbutyrate) Oral liquid, BUPHENYL ® and AMMONAPS ® (sodium phenylbutyrate) Tablets and Powder, are designed to lower ammonia in the blood. Ammonia is produced in the intestine after a person eats protein and is normally detoxified in the liver by conversion to urea. Elevated levels of ammonia are potentially toxic and can lead to severe medical complications which may include death. The Company developed RAVICTI, which was launched during the first quarter of 2013, to treat most urea cycle disorders (“UCD”) and is developing glycerol phenylbutyrate (“GPB”), the active pharmaceutical ingredient in RAVICTI, to treat hepatic encephalopathy (“HE”). UCD and HE are diseases in which blood ammonia is elevated. UCD are inherited rare genetic diseases caused by a deficiency of one or more enzymes or transporters that constitute the urea cycle, which in a healthy individual removes ammonia through its conversion to urea. HE may develop in some patients with liver scarring, known as cirrhosis, or acute liver failure and is a chronic complication of cirrhosis which fluctuates in severity and may lead to serious neurological damage.

On March 13, 2013, the Company completed its follow-on offering. The Company received net proceeds from the offering of $63.7 million, after deducting underwriting discounts and commissions of $4.1 million and expenses of $0.8 million.

On August 14, 2013, the Company filed a shelf registration statement on Form S-3, which was declared effective by the Securities and Exchange Commission (“SEC”) on September 13, 2013. The shelf registration statement permits: (a) the offering, issuance and sale by the Company of up to a maximum aggregate offering price of $150.0 million of its common stock, preferred stock, debt securities, warrants and/or units; (b) the sale of up to 8,727,000 shares of common stock by certain selling stockholders; and (c) the offering, issuance and sale by the Company of up to a maximum aggregate offering price of $50.0 million of its common stock that may be issued and sold under a sales agreement with Cantor Fitzgerald & Co. As of March 31, 2015, there were no sales of any securities registered pursuant to the shelf registration statement.

At March 31, 2015, the Company had an accumulated deficit of $121.4 million. The Company expects to incur increased research and development expenses when the Company initiates a Phase III trial of GPB for the treatment of patients with episodic HE. In addition, the Company expects to incur increased sales and marketing expenses with the continued commercialization of RAVICTI and marketing of BUPHENYL in UCD. Management’s plans with respect to these matters include utilizing a substantial portion of the Company’s capital resources and efforts in completing the development and obtaining regulatory approval of GPB in HE, expanding the Company’s organization, and commercialization of RAVICTI and marketing of BUPHENYL.

On March 29, 2015, Horizon Pharma, Inc. (“Horizon”) and the Company entered into a definitive Agreement and the Plan of Merger (the “Merger Agreement”), pursuant to which Horizon will commence an offer (the “Offer”) to acquire all the outstanding shares of the Company for $46.00 per share in cash, without interest, subject to any withholding of taxes. The Completion of the Offer is subject to several conditions, including (i) there shall have been validly tendered and not validly withdrawn Shares that represent one more than 50% of the sum of (A) the total number of Shares outstanding at the time of the expiration of the Offer plus (B) the aggregate number of Shares issuable to holders of stock options of the Company and warrants to purchase shares of common stock of the Company from which the Company has received notices of exercise prior to the consummation of the Offer (and as to which Shares have not yet been issued to such exercising holders of the Company’s Options); (ii) the expiration or termination of any applicable waiting period relating to the Offer under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended; (iii) the absence of a material adverse effect on the Company; (iv) subject to certain materiality exceptions, the truth and accuracy of certain representations and warranties of the Company contained in the Merger Agreement; (v) Horizon’s receipt of debt financing pursuant to the debt commitment letter (or any alternative financing) or Horizon’s receipt of confirmation from its lenders the debt financing (or an alternative financing) will be available at the consummation of the Offer; and (vi) certain other customary conditions. The offer will expire at 12:01 A.M. on May 7, 2015.

 

2. Summary of Significant Accounting Policies

Basis of Presentation

The accompanying interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and on a basis consistent with the annual consolidated financial statements, and in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary for a fair statement of the periods presented. These interim financial results are not

 

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necessarily indicative of the results to be expected for the year ending December 31, 2015, or for any other future annual or interim period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the related notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

Principles of Consolidation

The consolidated financial statements include the Company’s accounts and those of its wholly-owned subsidiaries: Hyperion Therapeutics Ltd., Hyperion Therapeutics Ireland Holding Ltd., Hyperion Therapeutics Ireland Operating Ltd., Hyperion Therapeutics Israel Holding Corp. Ltd., Hyperion Therapeutics International Holding Co. (formerly Penville Limited) and Andromeda Biotech Ltd. All intercompany accounts and transactions have been eliminated.

Use of Estimates

The preparation of the interim condensed consolidated financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, the Company evaluates its estimates, including those related to fair value of assets and liabilities, intangible asset valuation, stock-based compensation expense, income taxes, revenue recognition and product sales allowances. Management bases its estimates on historical experience or on various other assumptions, including information received from its service providers, which it believes to be reasonable under the circumstances. Actual results could differ from those estimates.

Concentration of Credit Risk and Significant customers

The Company’s cash and cash equivalents and investments are maintained with financial institutions located in the United States. Deposits in these institutions may exceed the amount of insurance provided on such deposits. The Company has not recognized any losses from credit risks during the periods presented and management does not believe that the Company is exposed to significant credit risk from its cash and cash equivalents or investments.

The Company is also subject to credit risk from its accounts receivables related to its product sales. The Company monitors its exposure within accounts receivable and records a reserve against uncollectible accounts receivable as necessary. The Company extends credit to a specialty distributor in the United States and to international distributors, pharmacies and hospitals outside the United States. Customer creditworthiness is monitored and collateral is not required. As of March 31, 2015, there were no credit losses on the Company’s accounts receivable. As of March 31, 2015 and December 31, 2014, the specialty distributor in the United States accounted for 94% and 87%, respectively, of the accounts receivable balance. As of March 31, 2015 no international distributor accounted for more than 10% of the accounts receivable balance. At December 31, 2014, one international distributor accounted for 10% of the accounts receivable balance.

The specialty distributor in the U.S. accounted for 90% and 92%, respectively, of the net product revenue for the three months ended March 31, 2015 and March 31, 2014. No other distributor in the U.S. accounted for more than 10% of the net product revenue for the three month periods ended March 31, 2015 and 2014, respectively.

Fair Value of Financial Instruments

The Company measures certain financial assets and liabilities at fair value based on the exchange price that would be received for an asset or paid for to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants. The carrying amounts of the Company’s financial instruments, including cash equivalents, short-term investments, accounts payable, and accrued liabilities, approximate fair value due to their short maturities. The carrying amounts of long-term investments, the acquisition-related contingent consideration represent their estimated fair values. The Company’s debt obligations are carried at historical cost, which approximates fair value.

Business Combinations

The Company allocates the purchase price of an acquired business to the tangible and intangible assets acquired and liabilities assumed based upon their estimated fair values on the acquisition date. Any excess of the purchase price over the fair value of the net assets acquired is recorded as goodwill. Acquired in-process research and development (“IPR&D”) is recognized at fair value and initially characterized as an indefinite-lived intangible asset, irrespective of whether the acquired IPR&D has an alternative future use. The purchase price allocation process requires management to make significant estimates and assumptions, especially at the acquisition date with respect to intangible assets. Direct transaction costs associated with the business combination are expensed as incurred.

 

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Cash and Cash Equivalents

The Company considers all highly liquid investments with original maturities of three months or less at the date of purchase to be cash equivalents. Cash and cash equivalents include money market funds and various deposit accounts.

Investments

The Company determines the appropriate classification of its investments in debt and equity securities at the time of purchase. All of the Company’s securities are classified as available-for-sale and reported in short-term investments or long-term investments based on maturity dates and whether such assets are reasonably expected to be realized in cash or sold or consumed during the normal cycle of business. Available-for-sale investments are recorded at fair value, with unrealized gains or losses included in Accumulated Other Comprehensive Loss on the Company’s Consolidated Balance Sheets, exclusive of other-than-temporary impairment losses, if any. Short-term and long-term investments are comprised of corporate notes, commercial paper, U.S. federal government agency securities and certificates of deposit.

Accounts Receivable

Trade accounts receivable are recorded net of product sales allowances for prompt-payment discounts, chargebacks, and doubtful accounts. Estimates for chargebacks and prompt-payment discounts are based on contractual terms, historical trends and expectations regarding the utilization rates for these programs. At March 31, 2015, the Company had no allowances for doubtful accounts.

Inventories

Inventories are stated at the lower of cost or market value with cost determined under the first-in-first-out (FIFO) cost method and consists of raw materials, work-in-progress and finished goods. Costs to be capitalized as inventories include third party manufacturing costs, associated compensation related costs of personnel indirectly involved in the manufacturing process and other overhead costs such as ancillary supplies. Subsequent to FDA approval of RAVICTI on February 1, 2013, the Company began capitalizing RAVICTI inventories as the related costs were expected to be recoverable through the commercialization of the product. Costs incurred prior to the FDA approval of RAVICTI have been recorded as research and development expense in the condensed consolidated statements of operations. If information becomes available that suggest that inventories may not be realizable, the Company may be required to expense a portion or all of the previously capitalized inventories.

Products that have been approved by the FDA or other regulatory authorities, such as RAVICTI, are also used in clinical programs, to assess the safety and efficacy of the products for usage in diseases that have not been approved by the FDA or other regulatory authorities. The form of RAVICTI utilized for both commercial and clinical programs is identical and, as a result, the inventory has an “alternative future use” as defined in authoritative guidance. Raw materials and purchased drug product associated with clinical development programs are included in inventory and charged to research and development expense when the product enters the research and development process and no longer can be used for commercial purposes and, therefore, does not have an “alternative future use”.

Intangible Assets

Intangible assets are recorded at acquisition cost less accumulated amortization and impairment. Intangible asset with finite lives are amortized over their estimated useful life using the economic use method, which reflects the pattern that the economic benefits of the intangible asset are consumed as revenue is generated. The pattern of consumption of the economic benefits is estimated using the future projected cash flows of the intangible asset.

Impairment of Long-lived Assets

The Company reviews its property and equipment, intangible assets subject to amortization and other long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset class may not be recoverable. Recoverability is measured by comparing the carrying amount to the future net undiscounted cash flows that the assets are expected to generate. If such assets are considered impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value determined using projected discounted future net cash flows arising from the assets.

Preclinical and Clinical Trial Accruals

The Company’s clinical trial accruals are based on estimates of patient enrollment and related costs at clinical investigator sites as well as estimates for the services received and efforts expended pursuant to contracts with multiple research institutions and clinical research organizations that conduct and manage preclinical and clinical trials on the Company’s behalf. The Company accrues expenses related to clinical trials based on contracted amounts applied to the level of patient enrollment and activity according to the protocol. If timelines or contracts are modified based upon changes in the clinical trial protocol or scope of work to be performed, the Company modifies the estimates of accrued expenses accordingly. To date, the Company has had no significant adjustments to accrued preclinical and clinical trial expenses.

 

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Revenue Recognition

The Company recognizes revenue in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 605, Revenue Recognition, when the following criteria have been met: persuasive evidence of an arrangement exists; delivery has occurred and risk of loss has passed; the seller’s price to the buyer is fixed or determinable and collectability is reasonably assured. The Company determines that persuasive evidence of an arrangement exists based on written contracts that defined the terms of the arrangements. In addition, the Company determines that services have been delivered in accordance with the arrangement. The Company assesses whether the fee is fixed or determinable based on the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment. The Company assesses collectability based primarily on the customer’s payment history and on the creditworthiness of the customer.

Product Revenue, net: The Company’s product revenue represents sales of RAVICTI and BUPHENYL which are recognized once all four revenue recognition criteria described above are met. The Company recognizes revenue net of product sales allowances. Product shipping and handling costs are included in cost of sales. Prior to June 2014, revenue from the sale of RAVICTI was recognized based on the amount of product sold through to the end user consumer. Starting June 2014, the Company could reasonably estimate and determine sales allowances, therefore the Company began recognizing RAVICTI revenue at the point of sale to the specialty distributor.

Product Sales Allowances: The Company establishes reserves for prompt-payment discounts, government and commercial rebates, product returns and chargebacks. Allowances relate to prompt-payment discounts and are recorded at the time of revenue recognition, resulting in a reduction in product sales revenue and a decrease in trade accounts receivables. Accruals related to government rebates, product returns and other applicable allowances such as distributor fees are recognized at the time of revenue recognition, resulting in a reduction in product sales and an increase in accrued expenses or a reduction in the related accounts receivable.

 

    Prompt-payment discounts: The specialty distributor and specialty pharmacies are offered prompt payment discounts. The Company expects the specialty distributor and specialty pharmacies will earn prompt payment discounts and, therefore deduct the full amount of these discounts from total product sales when revenues are recognized. The Company records prompt-payment discounts as allowances against accounts receivable on the condensed consolidated balance sheet.

 

    Rebates: Allowances for rebates include mandated discounts under the Medicaid Drug Rebate Program. Rebate amounts are based upon contractual agreements or legal requirements with public sector (e.g. Medicaid) benefit providers. Rebates are amounts owed after the final dispensing of the product to a benefit plan participant and are based upon contractual agreements or legal requirements with public sector benefit providers. The allowance for rebates is based on statutory discount rates and expected utilization. The Company estimates for expected utilization of rebates based on historical data and data received from the specialty pharmacies. Rebates are generally invoiced and paid in arrears so that the accrual balance consists of an estimate of the amount expected to be incurred for the current quarter’s activity, plus an accrual balance for known prior quarter’s unpaid rebates. If actual future rebates vary from estimates, the Company may need to adjust prior period accruals, which would affect revenue in the period of adjustment. Allowance for rebates are recorded in accrued liabilities on the condensed consolidated balance sheet.

 

    Chargebacks: Chargebacks are discounts that occur when contracted customers purchase directly from a specialty distributor. Contracted customers, which primarily consist of Public Health Service institutions, non-profit clinics, and Federal government entities purchasing via the Federal Supply Schedule, generally purchase the product at a discounted price. The specialty distributor, in turn, charges back to the Company the difference between the price initially paid by the specialty distributor and the discounted price paid to the specialty distributor by the customer. For BUPHENYL, the allowance for chargebacks is based on historical sales data and known sales to contracted customers. For RAVICTI, the allowance for chargebacks is based on known sales to contracted customers. For qualified programs that can purchase the Company’s products through distributors at a lower contractual government price, the distributors charge back to the Company the difference between their acquisition cost and the lower contractual government price.

 

    Medicare Part D Coverage Gap: Medicare Part D prescription drug benefit mandates manufacturers to fund 50% of the Medicare Part D insurance coverage gap for prescription drugs sold to eligible patients. The Company estimates for the expected Medicare Part D coverage gap are based on historical invoices received and in part from data received from the specialty pharmacies. Funding of the coverage gap is generally invoiced and paid in arrears so that the accrual balance consists of an estimate of the amount expected to be incurred for the current quarter’s activity, plus an accrual balance for known prior quarters. If actual future funding varies from estimates, the Company may need to adjust prior period accruals, which would affect revenue in the period of adjustment. Estimates of the Medicare Part D coverage gap are recorded in accrued liabilities on the condensed consolidated balance sheet.

 

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    Distribution Service Fees: The Company has a written contract with the specialty distributor that includes terms for distribution-related fees. Distributor fees are calculated at percentage of gross sales based upon agreed contracted rate. The Company accrues distributor fees at the time of the revenue recognition, resulting in reduction of product sales revenue and the recording of accrued liabilities on the condensed consolidated balance sheets. The Company records distribution and other fees paid to its customers as a reduction of revenue, unless it receives an identifiable and separate benefit for the consideration and it can reasonably estimate the fair value of the benefit received. If both conditions are met, the Company records the consideration paid to the customer as an operating expense. These costs are typically known at the time of sale.

 

    Product Returns: Consistent with industry practice, the Company generally offers customers a limited right to return. The Company accepts returns of products from patients resulting from breakage as defined within the Company’s returns policy. Additionally, the Company considers several other factors in the estimation process including the expiration dates of product shipped, third party data in monitoring channel inventory levels, shelf life of the product, prescription trends and other relevant factors. Provisions for estimated product returns are recorded as accrued liabilities on the condensed consolidated balance sheet.

 

    Co-payment assistance: The Company provides a cash donation to a non-profit third party organization which supports patients, who have commercial insurance and meet certain financial eligibility requirements, with co-payment assistance and travel costs. The amount of co-payment assistance is accounted for by the Company as a reduction of revenues.

Cost of sales

Cost of sales includes third-party manufacturing cost of products sold, royalty fees, and other indirect costs related to personnel compensation, shipping and supplies. Costs incurred prior to FDA approval of RAVICTI have been recorded as research and development expense in the Company’s consolidated statement of operations. The Company expects that cost of RAVICTI sales as a percentage of revenue will increase in future periods as product manufactured prior to FDA approval, and therefore fully expensed, has been utilized.

Stock-Based Compensation

The Company accounts for stock-based employee compensation arrangements in accordance with provisions of ASC 718, Compensation — Stock Compensation. ASC 718 requires the recognition of compensation expense, using a fair-value based method, for costs related to all share-based payments including stock options. ASC 718 requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The Company calculates the fair value of stock options using the Black-Scholes method and expenses using the straight-line attribution approach.

Income Taxes

The Company accounts for income taxes under the liability method. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized.

The Company accounts for uncertain tax positions in accordance with ASC 740-10, Accounting for Uncertainty in Income Taxes. The Company assesses all material positions taken in any income tax return, including all significant uncertain positions, in all tax years that are still subject to assessment or challenge by relevant taxing authorities. Assessing an uncertain tax position begins with the initial determination of the position’s sustainability and is measured at the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement. As of each balance sheet date, unresolved uncertain tax positions must be reassessed, and the Company will determine whether (i) the factors underlying the sustainability assertion have changed and (ii) the amount of the recognized tax benefit is still appropriate. The recognition and measurement of tax benefits requires significant judgment. Judgments concerning the recognition and measurement of a tax benefit might change as new information becomes available.

Foreign Currency Remeasurements

The Company has cash and accounts receivable denominated in foreign currency that are remeasured at the rate of exchange in effect on the balance sheet date. Revenue and expenses denominated in foreign currency are remeasured at the weighted average rate of exchange prevailing during the period. Any gains and losses resulting from foreign currency remeasurement are included in other income (expense)-net in the condensed consolidated statements of operations.

 

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Comprehensive Income

Comprehensive income is comprised of net income and other comprehensive income. Other comprehensive income includes changes in stockholders’ equity that are excluded from net income, specifically changes in unrealized gains and losses on the Company’s available-for-sale securities.

Net Income per Share of Common Stock

Basic earnings per share is computed by dividing the net income by the weighted average number of shares of common stock outstanding during the periods presented. The computation of diluted earnings per share is similar to the computation of basic earnings per share, except that the denominator is increased for the assumed exercise of dilutive options and other potentially dilutive securities using the treasury stock method unless the effect is antidilutive.

Recent Accounting Pronouncements

In May 2014, FASB issued Accounting Standards Update 2014-09 (ASU 2014-09), Revenue from Contracts with Customers. ASU 2014-09 will supersede the revenue recognition requirements in Revenue Recognition (Topic 605) and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period, which for the Company is January 1, 2017. Early adoption is not permitted. The Company is currently evaluating the potential impact the adoption of ASU 2014-09 will have on the Company’s condensed consolidated financial statements.

In February 2015, the FASB issued ASU 2015-02, Amendments to the Consolidation Analysis (Topic 810) and requires entities to reevaluate under the revised consolidation model if they should consolidate certain legal entities. ASU 2015-02 is effective for annual and interim periods beginning on or after December 15, 2015 and early adoption is permitted. The Company does not expect the adoption of ASU 2015-02 to have a material effect upon its condensed consolidated financial statements.

In April 2015, the FASB issued ASU 2015-03, Interest-Imputation of Interest (Subtopic 835-30). ASU 2015-03 simplifies the presentation of debt issuance costs. ASU 2015-03 is effective for annual and interim periods beginning on or after December 15, 2015 and early adoption is permitted. The Company does not expect the adoption of ASU 2015-03 to have a material effect upon its financial statements.

 

3. Collaboration Agreement with Ucyclyd Pharma, Inc.

In March 2012, the Company entered into the purchase agreement with Ucyclyd under which the Company purchased the worldwide rights to RAVICTI and into an amended and restated collaboration agreement (the “restated collaboration agreement”) under which Ucyclyd granted the Company an option to purchase all of Ucyclyd’s worldwide rights to BUPHENYL and AMMONUL at a fixed price at a future defined date, plus subsequent milestone and royalty payments, subject to Ucyclyd’s right to retain AMMONUL for a predefined price. The restated collaboration agreement superseded the collaboration agreement with Ucyclyd, dated August 23, 2007, as amended. The entry into the purchase agreement and the restated collaboration agreement resolved a dispute that the two parties had with respect to their rights under the prior collaboration agreement.

The Company will also pay tiered mid to high single digit royalties on global net sales of RAVICTI and may owe regulatory milestones of up to $15.8 million related to approval of GPB in HE, regulatory milestones of up to $7.3 million per indication for approval of GPB in indications other than UCD or HE, and net sales milestones of up to $38.8 million if GPB is approved for use in indications other than UCD (such as HE) and all annual sales targets are reached.

In addition, the intellectual property license agreements executed between Ucyclyd and Dr. Marshall L. Summar, (“Summar”) and Ucyclyd and Brusilow Enterprises, LLC, (“Brusilow”) were assigned to the Company, and the Company has assumed the royalty and milestone obligations under the Brusilow agreement for sales of RAVICTI in any indication and the royalty obligations under the Summar agreement on sales of GPB to treat HE. The Brusilow and Summar agreements provide that royalty obligations will continue, without adjustment, even if generic versions of the licensed products are introduced and sold in the relevant country.

 

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4. Completion of Phase 3 Clinical Trial, Option and Mutual Release Agreement

On February 16, 2015 the Company entered into Completion of Phase 3 Clinical Trial, Option and Mutual Release Agreement (“Agreement”) with CBI and Yeda Research and Development Company Ltd (“Yeda”), the company from which Andromeda licenses the underlying DiaPep277 technology (the Company, CBI and Yeda are referred as a “Party” and collectively the “Parties”). Under the Agreement the Parties agreed to the following:

 

    The Parties released the DiaPep277 related claims against one another.

 

    The parties have appointed a steering committee to oversee the completion of the clinical trial with representatives of CBI and Yeda and a non-voting member appointed by the Company.

 

    The Company committed to complete the Phase 3 clinical trial of DiaPep277. The Company’s estimated budget from October 1, 2014 through the completion of the trial remains unchanged at $10.5 million. Any increase to this budget beyond $2.25 million, if incurred as a result of the direction of the steering committee, shall require CBI to reimburse those expenses in shares of the Company’s common stock or cash if shares are not available.

 

    CBI will transfer to the Company $2.5 million in shares of the Company’s common stock it holds, valued at the average closing price of the Company’s common stock for the fifteen trading days ending on February 11, 2015.

 

    The Company granted CBI an option to acquire all of the outstanding stock of Andromeda (“Option”). The Option is exercisable through September 30, 2015 for $3.5 million payable in shares of the Company’s common stock, valued at the average closing price of the Company’s common stock for the fifteen trading days ending on February 11, 2015. In addition, if the Option is exercised, then Andromeda will be obligated to pay the Company future contingent payments if and to the extent it or its shareholders receive revenues or certain other proceeds, which are capped at $36.5 million. This amount, together with the Option exercise price that the Company may receive, approximates the total amount the Company will have invested in Andromeda by the Option exercise date. If CBI does not exercise the option, (i) CBI shall pay the Company $0.4 million in share of the Company’s common stock, valued at the average closing price of the Company’s common stock for the fifteen trading days ending on February 11, 2015, and (ii) the underlying DiaPep277 technology will revert to Yeda under the license agreement between Andromeda and Yeda.

The Company determined that the Agreement should be evaluated as a multiple element arrangement in accordance with ASC 605-25 Revenue Recognition — Multiple-Element Arrangements, with each element accounted for individually. Accordingly, the Company recorded the right to receive Initial Shares of the Company’s common stock at its fair value of $2.6 million in the stockholders’ equity and as a deferred gain in accrued liabilities on the Company’s consolidated balance sheet. The Company also determined that the Option to acquire the outstanding stock of Andromeda was a derivative instrument measured at fair value until the Option is exercised or expired with changes in fair value recorded in earnings. There was no significant impact on the Company’s condensed consolidated financial statements as a result of applying fair value measurement to the Option during the period ended March 31, 2015.

 

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5. Investments

All investments were classified as available-for-sale at March 31, 2015 and December 31, 2014, respectively. The principal amounts of investments by contractual maturity at March 31, 2015 and December 31, 2014 are summarized in the tables below:

 

     Contractual Maturity Date for the
Period Ending March 31,
     Total Book
Value at
    March 31, 2015   
     Unrealized
Loss
    Aggregate
Fair Value at
   March 31, 2015   
 
     2016      2017                      

Certificates of deposit

   $ 24,645       $ 6,960       $ 31,605       $ (7   $ 31,598   

Corporate notes

     7,700         18,075         25,775         (26     25,749   

U.S. government agency securities

     3,915         —           3,915         (1     3,914   

Commercial paper

     3,496         —           3,496         (1     3,495   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

$ 39,756    $ 25,035    $ 64,791    $ (35 $ 64,756   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

 

     Contractual Maturity Date for the
Years Ending December 31,
     Total Book
Value at
December 31, 2014
     Unrealized
Loss
    Aggregate
Fair Value at
December 31, 2014
 
     2015      2016                      

Certificates of deposit

   $ 18,405       $ 6,240       $ 24,645       $ (35   $ 24,610   

Corporate notes

     12,613         3,011         15,624         (12     15,612   

Commercial paper

     3,494         —           3,494         (3     3,491   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

$ 34,512    $   9,251    $ 43,763    $ (50 $ 43,713   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

The Company evaluated its investments and determined that there were no other-than-temporary impairments as of March 31, 2015.

The aggregate amounts of unrealized losses and related fair value of investments with unrealized losses as of March 31, 2015 and December 31, 2014 were as follows:

 

     Less Than 12 Months to
Maturity
    12 Months or More to
Maturity
      Total at March 31, 2015    
     Aggregate
Fair Value
     Unrealized
Gain (loss)
    Aggregate
Fair Value
     Unrealized
Loss
    Aggregate
Fair Value
     Unrealized
Gain (loss)
 

Certificates of deposit

   $ 24,636       $ (9   $ 6,962       $ 2      $ 31,598       $ (7

Corporate notes

     7,697         (3     18,052         (23     25,749         (26

U.S. government agency securities

     3,914         (1     —           —          3,914         (1

Commercial paper

     3,495         (1     —           —          3,495         (1
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

$ 39,742    $ (14 $ 25,014    $ (21 $ 64,756    $ (35
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

     Less Than 12 Months to
Maturity
    12 Months or More to
Maturity
    Total at December 31, 2014  
     Aggregate
Fair Value
     Unrealized
Loss
    Aggregate
Fair Value
     Unrealized
Loss
    Aggregate
Fair Value
     Unrealized
Loss
 

Certificates of deposit

   $ 18,386       $ (19   $ 6,224       $ (16   $ 24,610       $ (35

Corporate notes

     12,610         (2     3,002         (10     15,612         (12

Commercial paper

     3,491         (3     —           —          3,491         (3
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

$ 34,487    $ (24 $   9,226    $ (26 $ 43,713    $ (50
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

6. Fair Value Measurements

The Company follows ASC 820-10, “Fair Value Measurements and Disclosures,” which among other things, defines fair value, establishes a consistent framework for measuring fair value and expands disclosure for each major asset and liability category measured at fair value on either a recurring or nonrecurring basis. Fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, a three-tier fair value hierarchy has been established, which prioritizes the inputs used in measuring fair value as follows:

 

    Level 1 — Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.

 

    Level 2 — Inputs (other than quoted prices included in Level 1) are either directly or indirectly observable for the asset or liability through correlation with market data at the measurement date and for the duration of the instrument’s anticipated life.

 

    Level 3 — Inputs reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model.

 

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The following table presents the Company’s fair value hierarchy for assets and liabilities measured at fair value on a recurring basis as of March 31, 2015 and December 31, 2014 (in thousands):

 

     Fair Value Measurements at March 31, 2015  
     Quoted Price in
Active Markets
for Identical Assets

(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
     Total  

Assets:

           

Cash equivalents:

           

Money market funds

   $ 38,286       $ —         $ —         $ 38,286   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total cash equivalents

$ 38,286    $ —      $ —      $ 38,286   
  

 

 

    

 

 

    

 

 

    

 

 

 

Available-for-sale securities:

Short-term:

Certificates of deposit

$ —      $ 24,636    $ —      $ 24,636   

Commercial paper

  —        3,495      —        3,495   

Corporate notes

  —        7,697      —        7,697   

U.S. Government agency securities

  —        3,914      —        3,914   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total short-term investments

  —        39,742      —        39,742   
  

 

 

    

 

 

    

 

 

    

 

 

 

Long-term:

Certificates of deposit

  —        6,962      —        6,962   

Corporate notes

  —        18,052      —        18,052   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total long-term investments

  —        25,014      —        25,014   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale securities

$ —      $ 64,756    $ —      $ 64,756   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     Fair Value Measurements at December 31, 2014  
     Quoted Price in
Active Markets
for Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
     Total  

Assets:

           

Cash equivalents:

           

Money market funds

   $ 38,532       $ —         $ —         $ 38,532   

Certificates of deposit

     —           720         —           720   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total cash equivalents

$ 38,532    $ 720    $ —      $ 39,252   
  

 

 

    

 

 

    

 

 

    

 

 

 

Available-for-sale securities:

Short-term:

Certificates of deposit

$ —      $ 18,386    $ —      $ 18,386   

Commercial paper

  —        3,491      —        3,491   

Corporate notes

  —        12,610      —        12,610   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total short-term investments

  —        34,487      —        34,487   
  

 

 

    

 

 

    

 

 

    

 

 

 

Long-term:

Certificates of deposit

  —        6,224      —        6,224   

Corporate notes

  —        3,002      —        3,002   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total long-term investments

  —        9,226      —        9,226   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale securities

$ —      $ 43,713    $ —      $   43,713   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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The following table presents the carrying value and estimated fair value of the Company’s notes payable as of March 31, 2015 and December 31, 2014 (in thousands):

 

     March 31, 2015  
     Carrying
Value
     Estimated
Fair Value
 

Term Loans

   $ 16,192       $ 16,759   

 

     December 31, 2014  
     Carrying
Value
     Estimated
Fair Value
 

Term Loans

   $ 16,124       $ 16,746   

Valuation Techniques

Level 1 Inputs

The Company classifies money market funds, which are valued based on quoted market prices in active markets with no valuation adjustment, as Level 1 assets within the fair value hierarchy.

Level 2 Inputs

Items classified as Level 2 within the valuation hierarchy consist of commercial paper, corporate notes, U.S. government agency securities and certificates of deposit. The Company estimates the fair values of these marketable securities by taking into consideration valuations obtained from third-party pricing sources. These pricing sources utilize industry standard valuation models, including both income and market-based approaches, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include market pricing based on real-time trade data for the same or similar securities, issuer credit spreads, benchmark yields, and other observable inputs. The Company validates the prices provided by our third-party pricing sources by obtaining market values from other pricing sources and analyzing pricing data in certain instances.

Level 3 Inputs

The Company has determined that its notes payable would be classified as a Level 3 item in the fair value hierarchy. The fair value of these notes is based on the present value of expected future cash flows and assumptions about current interest rates and the credit worthiness of the Company.

 

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7. Inventories

The following table represents the components of inventories (in thousands):

 

     March 31,
2015
     December 31,
2014
 

Raw Materials

   $ 2,556       $ 1,787   

Work-in-process

     867         543   

Finished goods

     2,174         2,291   
  

 

 

    

 

 

 

Total

$ 5,597    $ 4,621   
  

 

 

    

 

 

 

Reserves on the inventory balance was $0.3 million each for the period ended March 31, 2015 and year ended December 31, 2014.

 

8. Intangible Asset

In May 2013, the Company acquired BUPHENYL and as part of this transaction, the Company recognized $16.5 million of an intangible asset relating to BUPHENYL product rights. The intangible asset is amortized over the estimated useful life using the economic use method, which reflects the pattern that the economic benefit of the intangible asset is consumed as revenue is generated. The pattern of consumption of the economic benefit is estimated using the future projected cash flow of the intangible asset which is reviewed on a regular basis. The Company estimated the useful life of the BUPHENYL product rights to be 10 years. The average life remaining as of March 31, 2015 is 7.8 years.

Intangible asset amortization expense was $0.9 million and $1.0 million, respectively for the three months ended March 31, 2015 and March 31, 2014.

Estimated aggregate amortization expense for each of the five succeeding years ending December 31 is as follows (in thousands):

 

     2015      2016      2017      2018      2019  

Amortization expense

   $ 3,571       $ 975       $ 893       $ 871       $ 849   

 

9. Property and Equipment

The following table represents the components of property and equipment (in thousands):

 

     March 31,
2015
     December 31,
2014
 

Computers and Software

   $ 1,423       $ 1,202   

Furniture and Fixtures

     320         320   

Office Equipment

     53         53   

Capital work in progress

     33         181   
  

 

 

    

 

 

 
  1,829      1,756   

Less: Accumulated depreciation

  (758   (640
  

 

 

    

 

 

 

Total property and equipment, net

$ 1,071    $ 1,116   
  

 

 

    

 

 

 

Depreciation expense for each of the periods ended March 31, 2015 and 2014 was $0.1 million.

 

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10. Accrued Liabilities

The following table represents the components of accrued liabilities (in thousands):

 

     March 31,
2015
     December 31,
2014
 

Clinical and clinical trial expenses

   $ 1,247       $ 2,399   

Payroll and related expenses

     2,917         4,134   

Gross to net sales accruals

     13,197         10,142   

Royalty payable

     2,067         2,080   

Legal accrual

     994         410   

Taxes payable

     921         563   

Acquisition related accrual (see below)

     —           4,615   

Other (Note 4)

     5,271         1,166   
  

 

 

    

 

 

 

Total

$ 26,614    $ 25,509   
  

 

 

    

 

 

 

On February 16, 2015, the Company entered into Settlement Agreement and General Release with Evotec International GmbH (“Evotec”) pursuant to which Evotec released its previously asserted claims to a milestone payment from the Company in connection with the acquisition of Andromeda in exchange for a payment of $0.5 million from the Company. As of December 31, 2014, the Company had $4.6 million included in “Accrued liabilities” on the condensed consolidated balance sheets. In the first quarter of 2015, the Company recognized a gain of $4.1 million in “Other income (expense), net” in the condensed consolidated statements of operations resulting from the release of the accrued liabilities.

 

11. Notes Payable

On July 18, 2014, the Company entered into a new Loan and Security Agreement (the “Loan Agreement”) with Silicon Valley Bank (“SVB”), providing for two tranches of term loans of up to $16.0 million (the “Term Loans”) and a revolving credit line of up to $5.0 million (the “Revolving Loans”). In July 2014, the Company drew down both tranches of the Term Loans, of which approximately $5.8 million was used to pre-pay the Company’s existing April and September 2012 notes payable. In addition, the Company drew down $2.0 million from the revolving line of credit facility. The actual amount of the Revolving Loans that are available from time to time under the Loan Agreement is limited to a borrowing base amount that is determined according to, among other things, a percentage of the value of eligible accounts.

The Company’s obligations under the Loan Agreement are collateralized by a first priority security interest in substantially all of the Company’s assets, excluding its intellectual property. The Company has also agreed not to pledge or otherwise encumber its intellectual property assets, except that the Company may grant licenses of its intellectual property as set forth in the Loan Agreement.

The Company is required to pay interest only for the first 18 months of the Term Loans, followed by 30 equal monthly payments of interest and principal. The Term Loans will mature on June 30, 2018. The Revolving Loans will mature on July 18, 2017. The Loan Agreement provides for an interest rate of 4.0% per year on the Term Loans and the prime rate plus 0.75% per year on the Revolving Loans, with a minimum interest requirement on the Revolving Loans. Upon the maturity date of the Term Loans, a final payment fee of 6.75% of the original principal amount of such Term Loans (the “Final Payment”) will be due.

The Loan Agreement contains customary representations, warranties and covenants (including the requirement to meet one of two financial covenants) by the Company, as well as customary events of default and indemnification obligations of the Company. The financial covenants include maintaining liquidity ratio on a monthly basis and achieving revenue projections on a quarterly basis as defined in the agreement. The Loan Agreement also requires the Company to provide SVB reports and compliance certificate within 30 days of each month end, quarterly financial statements within 45 days of the end of the quarter and annual audited financials within 180 days of each fiscal year-end and annual approved financial projections. The Loan Agreement requires immediate repayment of amounts outstanding upon an event of default, as defined in the Loan Agreement, which includes events such as a payment default, a covenant default or the occurrence of a material adverse change, as defined in the Loan Agreement. Upon an event of default, after any applicable grace or cure period, all amounts owed under the Loan Agreement may be declared due and payable, including the original principal amount of the Loans, the accrued but unpaid interest thereon, the Final Payment and the prepayment fee. In addition, the Loan Agreement also requires the Company to maintain its depository accounts, operating accounts, securities accounts and all foreign exchange transactions with SVB and SVB bank’s affiliates which accounts shall represent at least the lesser of (i) seventy five percent (75%) of the dollar value of the Company and its Subsidiaries’ accounts at all financial institutions or (ii) $40.0 million; provided, however, that the Company’s obligation relating to foreign exchange transactions is subject to SVB providing commercially competitive exchange rates.

For each of the three month periods ended March 31, 2015 and March 31, 2014, the Company recorded amortization of debt discount of $0.1 million.

 

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Future minimum payments under the Loan Agreement as of March 31, 2015 are as follows (in thousands):

 

Years Ending December 31,

2015

$ 551  

2016

  6,822  

2017

  8,786  

2018

  4,450  
  

 

 

 

Total future minimum payments

$ 20,609  

Less: amount representing unamortized interest

  (1,528 )

Less: amount representing debt discount

  (889 )
  

 

 

 

Total minimum payments

$ 18,192  

Less: current portion

  (1,529 )
  

 

 

 

Non-current portion

$ 16,663  
  

 

 

 

 

12. Warrants

In connection with a Loan and Security Agreement entered into in October 2007, the Company issued warrants to purchase 274 shares of Series B convertible preferred stock. In June 2009, as part of the recapitalization, these warrants were converted into warrants to purchase shares of common stock. The warrants were exercisable at $1,913.05 per share and expire in October 2017 (the “October 2007 common stock warrants”). The October 2007 common stock warrants were outstanding as of March 31, 2015 and December 31, 2014.

 

13. Commitments and Contingencies

Contingencies

In the normal course of business, the Company enters into contracts and agreements that contain a variety of representations and warranties and provide for general indemnifications. The Company’s exposure under these agreements is unknown because it involves claims that may be made against the Company in the future, but have not yet been made. Further, the Company may be subject to certain contingent liabilities that arise in the ordinary course of its business activities. The Company accrues a liability for such matters when it is probable that future expenditures will be made and such expenditures can be reasonably estimated.

In accordance with the Company’s amended and restated certificate of incorporation and amended and restated bylaws, the Company has indemnification obligations to its officers and directors for certain events or occurrences, subject to certain limits, while they are serving at the Company’s request in such capacity. There have been no claims to date and the Company has a director and officer insurance policy that may enable it to recover a portion of any amounts paid for future claims.

The Company is contingently committed for development milestone payments as well as sales-related milestone payments and royalties relating to potential future product sales under the restated collaboration agreement and purchase agreement with Ucyclyd (Note 3). The amount, timing and likelihood of these payments are unknown as they are dependent on the occurrence of future events that may or may not occur, including approval by the FDA of GPB for HE.

Other Matters

From time to time, the Company is a party to or otherwise involved in legal proceedings, claims and government inspections and other legal matters arising in the ordinary course of business or otherwise.

On March 17, 2014, the Company received notification of a Paragraph IV certification from the generic drug manufacturer Par Pharmaceutical, Inc. (“Par”) that it had filed an Abbreviated New Drug Application with the FDA seeking approval for a generic version of RAVICTI Oral Liquid. The Paragraph IV certification alleges that certain of the Company’s patents are invalid and/or will not be infringed by Par’s manufacture, use or sale of the product for which the ANDA was submitted. The Company filed suit against Par on April 23, 2014 to protect its patents and to obtain a stay of the FDA’s approval of Par’s ANDA. On July 22, 2014, Par filed a motion to dismiss for lack of personal jurisdiction, or in the alternative, a motion to transfer the case to the Southern District of New York. The Company will oppose the motion. On April 29, 2015, Par filed petitions for Inter Partes Review of the ’215 patent and the ’012 patent with the United States Patent and Trademark Office. The petitions allege that the claims of the ’215 patent and ’012 patent are invalid as obvious for reasons similar to those alleged in the ongoing litigation. The United States Patent and Trademark Office has not yet decided whether to institute a review of either patent.

 

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14. Equity Incentive Plan and Stock-Based Compensation

Equity Incentive Plans

In April 2012, the board of directors of the Company adopted the 2012 Omnibus Incentive Plan (the “2012 Plan”). The Company’s stockholders approved the 2012 Plan in July 2012. The 2012 Plan provides for the grant of stock options, stock appreciation rights, restricted stock, unrestricted stock, stock units, dividend equivalent rights, other equity-based awards and cash bonus awards. The 2012 Plan became effective on July 25, 2012

On January 1, 2015, pursuant to the provisions of the 2012 Plan providing for an annual automatic increase in the number of shares of common stock reserved for issuance under the plan, the shares available for issuance under the 2012 Plan increased by 829,880 shares. As of March 31, 2015, the Company had 994,222 shares of common stock available for issuance and 1,903,719 options, 388,130 restricted stock units (“RSU’s”) and 8,662 performance stock units (“PSU’s) were outstanding under the 2012 Plan. During the three months ended March 31, 2015, the board of directors approved the grants of 246,700 stock options at exercise prices in the range of $24.94 - $25.97 and 289,127 RSU’s and 8,662 PSU’s under the 2012 Plan.

On July 25, 2012, the effective date of the 2012 Plan, the 2006 Equity Incentive Plan was frozen and no additional awards will be made under the 2006 Plan. Any shares remaining available for future grant were allocated to the 2012 Plan and any shares underlying outstanding options that terminate by expiration, forfeiture, cancellation, or otherwise without issuance of such shares, will be allocated to the 2012 Plan. As of March 31, 2015, there were 1,204,359 stock options outstanding under the 2006 Plan.

Stock-Based Compensation

The Company estimates the fair value of stock options using the Black-Scholes option valuation model. The fair value of employee stock options, RSU’s and PSU’s is being amortized on a straight-line basis over the requisite service period of the awards.

Total stock-based compensation expense related to options granted was allocated as follows (in thousands):

 

     Three Months Ended
March 31,
 
     2015      2014  

Cost of sales

   $ 24       $ 2   

Research and development

     493         147   

Selling general and administrative

     1,915         1,219   
  

 

 

    

 

 

 

Total

$ 2,432    $ 1,368   
  

 

 

    

 

 

 

Stock-based compensation of $47,000 and $8,000 was capitalized into inventories for the three months ended March 31, 2015 and 2014, respectively. Capitalized stock-based compensation is recognized as cost of sales when the related product is sold. Allocations to research and development, selling, general and administrative expenses are based upon the department to which the associated employee reported.

 

15. Income Taxes

At December 31, 2014, the Company had net operating loss carryforwards of approximately $36.4 million and $107.8 million available to reduce future taxable income, if any, for both federal and California state income tax purposes, respectively. In addition, the Company had $67.3 million of Israeli net operating loss carryforwards which do not expire. The net operating loss carryforwards will begin to expire in 2031 and 2028 for federal and state income tax purposes, respectively.

The Company was granted orphan drug designation in 2009 by the FDA for its products currently under development. The orphan drug designation allows the Company to claim increased federal tax credits for its research and development activities. The Company had $22.6 million of federal credit carryforwards of which $21.1 million relates to Orphan Drug Credit claims for 2009 through 2014.

For the period ended March 31, 2015 and 2014, the Company recorded an income tax expense of $1.6 million and $0.1 million, respectively. Expected taxable income in 2015 will largely be offset by federal and state net operating losses and credits.

There was no interest or penalties accrued through March 31, 2015. The Company’s policy is to recognize any related interest or penalties in income tax expense. The material jurisdiction in which the Company is subject to potential examination by tax authorities for tax years ended 2006 through the current period include the United States and California. The Company is not currently under income tax examinations by any tax authorities.

 

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16. Net Income per Share of Common Stock

The following table sets forth the computation of basic and diluted net income per share of common stock for the periods indicated (in thousands, except share and per share amounts):

 

     Three Months Ended
March 31,
 
     2015      2014  

Net income per share

     

Numerator:

     

Net income attributable to common stockholders

   $ 7,216       $ 1,259   
  

 

 

    

 

 

 

Denominator:

Weighted-average number of common shares outstanding – basic

  20,780,059      20,191,190   

Dilutive effect of stock-options and awards

  1,299,401      1,327,336   
  

 

 

    

 

 

 

Weighted average common shares outstanding – dilutive

  22,079,460      21,518,526   
  

 

 

    

 

 

 

Net income per share:

Basic

$ 0.35    $ 0.06   
  

 

 

    

 

 

 

Diluted

$ 0.33    $ 0.06   
  

 

 

    

 

 

 

The following outstanding potentially dilutive securities were excluded from the computation of diluted net income per share, as the effect of including them would have been antidilutive:

 

     Three Months Ended
March 31,
 
     2015      2014  

Stock options

     1,443,122         1,181,650   

October 2007 common stock warrants

     274         274   
  

 

 

    

 

 

 

Total

  1,443,396      1,181,924   
  

 

 

    

 

 

 

 

17. Related-Party Transaction

As part of the Company’s acquisition of BUPHENYL, the Company assumed the existing BUPHENYL distributor’s agreements, including the distribution agreement with Swedish Orphan Biovitrum AB (“SOBI”). Additionally, in the third quarter of 2013 SOBI was granted exclusive rights by the Company to distribute RAVICTI on a named patient basis for the chronic treatment of UCD in various territories in the Middle East. SOBI’s chairman, Bo Jesper Hansen, is a member of the Company’s Board of Directors. During the three months ended March 31, 2015 the Company recognized $1.6 million from sales to SOBI. As of March 31, 2015, trade receivable from SOBI amounted to $0.6 million.

 

18. Segment Reporting

The Company operates as one operating segment and uses one measurement of profitability to manage its business.

Net product revenue for RAVICTI and BUPHENYL for the three months ended March 31, 2015 and 2014 are as follows (in thousands):

 

     Three Months Ended
March 31,
 
     2015      2014  

RAVICTI

   $ 25,966       $ 15,516   

BUPHENYL

     5,227         3,967   
  

 

 

    

 

 

 

Total

$ 31,193    $ 19,483   
  

 

 

    

 

 

 

 

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Net product revenue for RAVICTI and BUPHENYL by geographic region are as follows (in thousands):

 

     Three Months Ended
March 31,
 
     2015      2014  

United States

   $ 28,212       $ 17,996   

Canada

     1,147         800   

Rest of the world

     1,834         687   
  

 

 

    

 

 

 

Total

$ 31,193    $ 19,483   
  

 

 

    

 

 

 

Long lived assets consist of property and equipment which at March 31, 2015 and 2014 are primarily in the U.S.

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

You should read the following management’s discussion and analysis of our financial condition and results of operations in conjunction with our unaudited condensed consolidated financial statements and notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q and with our audited consolidated financial statements and related notes thereto for the year ended December 31, 2014, included in our Annual Report on Form 10-K, filed with the U.S. Securities and Exchange Commission (“SEC”).

Overview

We are a commercial biopharmaceutical company focused on the development and commercialization of novel therapeutics to treat orphan diseases. Our products, RAVICTI ® (glycerol phenylbutyrate) Oral Liquid, BUPHENYL ® and AMMONAPS ® (sodium phenylbutyrate) Tablets and Powder, are designed to lower ammonia in the blood. Ammonia is produced in the intestine after a person eats protein and is normally detoxified in the liver by conversion to urea. Elevated levels of ammonia are potentially toxic and can lead to severe medical complications which may include death. We have developed RAVICTI, which we launched during the first quarter of 2013, to treat most urea cycle disorders (“UCD”) including 7 of the 8 and the most prevalent UCD subtypes, and are developing glycerol phenylbutyrate (“GPB”), the active pharmaceutical ingredient in RAVICTI, to treat hepatic encephalopathy (“HE”). UCD and HE are diseases in which blood ammonia is elevated. UCD are inherited rare genetic diseases caused by a deficiency of one or more enzymes or transporters that constitute the urea cycle, which in a healthy individual removes ammonia through its conversion to urea. We estimate there are approximately 2,100 cases of UCD in the United States of which approximately 1,100 have been diagnosed. However, we estimate that only about 675 patients are currently treated with an FDA approved medication. HE may develop in some patients with liver scarring, known as cirrhosis, or acute liver failure and is a chronic complication of cirrhosis which fluctuates in severity and may lead to serious neurological damage.

On February 1, 2013, the U.S. Food and Drug Administration (“FDA”) granted approval of RAVICTI for chronic management of UCD in adult and pediatric patients greater than two years of age who cannot be managed by dietary protein restriction and/or amino acid supplementation alone. Limitations of use include treatment of patients with acute hyperammonemia (“HA”) crises for whom urgent intervention is typically necessary, patients with N-acetylglutamate synthetase (“NAGS”) deficiency for whom the safety and efficacy of RAVICTI has not been established, and UCD patients under two months of age for whom RAVICTI is contraindicated due to uncertainty as to whether newborns, who may have immature pancreatic function, can effectively digest RAVICTI.

We originally obtained rights to develop RAVICTI in 2007 pursuant to a collaboration agreement with Ucyclyd Pharma, Inc. (“Ucyclyd”), a subsidiary of Valeant Pharmaceuticals International, Inc. In March 2012, we purchased the worldwide rights to RAVICTI for an upfront payment of $6.0 million, future payments based upon the achievement of regulatory milestones in indications other than UCD, sales milestones, and mid to high single digit royalties on global net sales of RAVICTI. Pursuant to an amended and restated collaboration agreement (the “restated collaboration agreement”), with Ucyclyd entered into in March 2012, we had an option to purchase all of Ucyclyd’s worldwide rights to BUPHENYL ® (sodium phenylbutyrate) Tablets and Powder, an FDA approved therapy for treatment of the most prevalent UCD and AMMONUL ® (sodium phenylacetate and sodium benzoate) injection 10%/10%, the only adjunctive therapy currently FDA-approved for the treatment of HA crises in UCD patients, for an upfront payment of $22.0 million, plus subsequent milestone and royalty payments. On April 29, 2013, we exercised our option to acquire BUPHENYL and AMMONUL from Ucyclyd and subsequently, Ucyclyd exercised its option to retain AMMONUL. On May 31, 2013, we completed the acquisition of BUPHENYL.

Although the price of BUPHENYL per gram is approximately one fifth that of RAVICTI and prices for both therapies vary among patients because doses are individualized based on a patient’s weight and disease severity, most patients cannot afford to pay for either medication themselves. We have engaged a dedicated team at a third party call center, which serves as an integrated resource for prescription intake and distribution, reimbursement adjudication, patient financial support, and ongoing compliance support for our UCD patients. Together with distribution via two specialty pharmacies, we believe these services provide important support to UCD patients and their physicians, and help them achieve more favorable outcomes in managing their disease. As part of our ongoing commitment to the patient community, we provide our UCD products at no cost to patients as we help them establish insurance coverage for our UCD products and donate to an independent foundation with an established track record of enabling patients to access medications affordably.

 

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RAVICTI was granted orphan drug exclusivity in the United States for the maintenance treatment of patients with UCD shortly after its FDA approval in 2013. This exclusivity extends through February 1, 2020. RAVICTI has also received orphan drug designation in the European Union (“EU”), although the right to marketing exclusivity cannot be determined until we are authorized to market it in the EU. In March 2013, U.S. Patent No. 8,404,215 entitled “Methods of Therapeutic Monitoring of Nitrogen Scavenging Drugs” issued from U.S. Patent Appl. No. 13/417,137 with claims directed to methods of optimizing the dosage of nitrogen scavenging drugs based on target fasting ammonia levels. This patent will expire in March 2032, and is currently listed in the FDA publication “Approved Drug Products with Therapeutic Equivalence Evaluations,” known as the Orange Book. In February 2014, U.S. Patent 8,642,012 entitled “Methods of Treatment Using Ammonia Scavenging Drugs” issued from U.S. Patent Appl. No. 12/350,111 with claims directed to methods of treating patients with UCD using phenylacetic acid (“PAA”) prodrugs based in part on target urinary phenylacetylglutamine (“PAGN”) levels. This patent will expire in September 2030 with Patent Term Extension (“PTE”) and is listed in the Orange Book.

On March 13, 2013, we completed a follow-on offering and issued 2,875,000 shares of our common stock at an offering price of $20.75 per share. In addition, we sold an additional 431,250 shares of common stock directly to our underwriters when they exercised their over-allotment option in full at an offering price of $20.75 per share. We received net proceeds from the offering of $63.7 million, after deducting underwriting discounts and commissions of $4.1 million and expenses of $0.8 million.

On August 14, 2013, we filed a shelf registration statement on Form S-3, which was declared effective by the SEC on September 13, 2013. The shelf registration statement permits: (a) the offering, issuance and sale of up to a maximum aggregate offering price of $150.0 million of our common stock, preferred stock, debt securities, warrants and/or units; (b) the sale of up to 8,727,000 shares of common stock by certain selling stockholders; and (c) the offering, issuance and sale of up to a maximum aggregate offering price of $50.0 million of our common stock that may be issued and sold under a sales agreement with Cantor Fitzgerald & Co. As of March 31, 2015, there were no sales of any securities registered pursuant to the shelf registration statement.

Merger with Horizon Pharma, Inc.

On March 29, 2015, we and Horizon Pharma, Inc. (“Horizon”) entered into a definitive Agreement and the Plan of Merger (the “Merger Agreement”), pursuant to which Horizon will commence an offer (the “Offer”) to acquire all of our outstanding shares for $46.00 per share in cash, without interest, subject to any withholding of taxes. The Completion of the Offer is subject to several conditions, including (i) there shall have been validly tendered and not validly withdrawn Shares that represent one more than 50% of the sum of (A) the total number of Shares outstanding at the time of the expiration of the Offer plus (B) the aggregate number of Shares issuable to holders of stock options and warrants to purchase shares of our common stock from which we received notices of exercise prior to the consummation of the Offer (and as to which Shares have not yet been issued to such exercising holders of our Options); (ii) the expiration or termination of any applicable waiting period relating to the Offer under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended; (iii) the absence of a material adverse effect on the Company; (iv) subject to certain materiality exceptions, the truth and accuracy of certain representations and warranties made by us in the Merger Agreement; (v) Horizon’s receipt of debt financing pursuant to the debt commitment letter (or any alternative financing) or Horizon’s receipt of confirmation from its lenders the debt financing (or an alternative financing) will be available at the consummation of the Offer; and (vi) certain other customary conditions. The offer will expire at 12:01 A.M. on May 7, 2015.

Financial Overview

Revenues

Our product revenues consist of the following:

 

    Revenues from the sale of RAVICTI which was approved by the FDA on February 1, 2013 and was commercially launched in the U.S. during the period ended March 31, 2013; and

 

    Revenues from the sale of BUPHENYL which we acquired from Ucyclyd on May 31, 2013, pursuant to the restated collaboration agreement. We currently distribute BUPHENYL in the U.S. and through third party distributors in certain countries outside the U.S.

See “Results of Operations” below for more detailed discussion on revenues.

Cost of sales

Our cost of sales includes third-party manufacturing costs, royalty fees payable under our restated collaboration agreement with Ucyclyd, and other indirect costs including compensation cost of personnel, shipping and supplies.

 

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The manufacturing costs we incurred prior to FDA approval of RAVICTI have been recorded as research and development expenses in our condensed consolidated statement of operations. For RAVICTI, we expect that cost of sales as a percentage of sales will increase in future periods as product manufactured prior to FDA approval is utilized, as these previously manufactured products have been fully expensed as research and development expenses in prior periods. The cost of BUPHENYL sales as a percentage of revenue was higher prior to the second quarter of 2014, due to the recording of the step-value on BUPHENYL inventories acquired from Ucyclyd which was expensed to cost of sales as the inventory was sold.

Research and Development Expenses

We recognize research and development expenses as they are incurred. Our research and development expenses consist primarily of:

 

    salaries and related expenses for personnel, including expenses related to stock options or other stock-based compensation granted to personnel in development functions;

 

    fees paid to clinical consultants, clinical trial sites and vendors, including clinical research organizations (“CROs”), in conjunction with implementing and monitoring our clinical trials and acquiring and evaluating clinical trial data, including all related fees, such as for investigator grants, patient screening fees, laboratory work and statistical compilation and analysis;

 

    other consulting fees paid to third parties;

 

    expenses related to production of clinical supplies, including fees paid to contract manufacturers;

 

    expenses related to license fees and milestone payments under in-licensing agreements;

 

    expenses related to compliance with drug development regulatory requirements in the United States, the European Union and other foreign jurisdictions; and

 

    depreciation and other allocated expenses; and

We expense both internal and external research and development expenses as they are incurred. We developed RAVICTI in UCD and GPB for HE in parallel, and we typically use our employees, consultants and infrastructure resources across our three programs. Thus, some of our research and development expenses are not attributable to an individual program, but rather are allocated across our three clinical stage programs and these costs were included in unallocated costs as detailed below. Allocated expenses include salaries, stock-based compensation and related benefit expenses for our employees, consulting fees and fees paid to clinical suppliers. The following table shows our research and development expenses for the three months ended March 31, 2015 and 2014 (in thousands):

 

     Three Months Ended
March 31,
 
     2015      2014  
     (unaudited)  

UCD Program

   $ 4,181      $ 2,352  

HE Program

     1,113        660  

DiaPep 277 Program

     908         —     

Unallocated

     597        205  
  

 

 

    

 

 

 

Total

$ 6,799   $ 3,217  
  

 

 

    

 

 

 

If Horizon does not complete its acquisition of us and we continue to operate as an independent company, we expect our research and development expenses to increase for the initiation of our Phase 3 trial of GPB for the treatment of patients with episodic HE and the completion of the DIA AID 2 clinical trial of DiaPep 277 and costs associated with the termination of this clinical program. Due to the inherently unpredictable nature of product development, we are currently unable to exactly predict the expenses we will incur or the duration of the HE trial. Based on our current discussions with FDA, our estimate of the cost of our Phase 3 trial of GPB in HE will be between $50.0 million to $55.0 million from initiation of the trial until submission of data to FDA. Our estimated cost for the completion of the DIA AID 2 Phase 3 clinical trial from April 2015 forward is between $3.0 million and $5.0 million.

Our research and development expenditures are subject to numerous uncertainties in timing and cost to completion. Development timelines, the probability of success and development expenses can differ materially from expectations. Clinical trials in orphan diseases, such as UCD and HE, may be difficult to enroll given the small number of patients with these diseases. Completion of clinical trials may take several years or more, but the length of time generally varies according to the type, complexity, novelty and intended use of a product candidate. The cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others:

 

    the number of trials required for approval;

 

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    the number of sites included in the trials;

 

    the length of time required to enroll suitable patients;

 

    the number of patients that participate in the trials;

 

    the drop-out or discontinuation rates of patients;

 

    the duration of patient follow-up;

 

    the number and complexity of analyses and tests performed during the trial;

 

    the phase of development of the product candidate; and

 

    the efficacy and safety profile of the product candidate.

Our expenses related to clinical trials are based on estimates of patient enrollment and related expenses at clinical investigator sites as well as estimates for the services received and efforts expended pursuant to contracts with multiple research institutions and contract research organizations that conduct and manage clinical trials on our behalf. We generally accrue expenses related to clinical trials based on contracted amounts applied to the level of patient enrollment and activity according to the protocol. If timelines or contracts are modified based upon changes in the clinical trial protocol or scope of work to be performed, we modify our estimates of accrued expenses accordingly on a prospective basis.

Selling, General and Administrative Expenses

Selling general and administrative expenses consist primarily of salaries, benefits and stock-based compensation for employees in administration, finance and business development, legal, investor relations, marketing, commercial and sales functions, including fees to third party vendors providing customer support services. Other significant expenses include consulting fees, allocated facilities expenses and professional fees for accounting and legal services, including legal services associated with obtaining and maintaining patents. We expect that our selling, general and administrative expenses will increase with the continued commercialization of RAVICTI and marketing of BUPHENYL. We expect these increases will likely include increased expenses for insurance, expenses related to the hiring of additional personnel and payments to outside consultants, lawyers and accountants.

On March 17, 2014, we received notification of a Paragraph IV certification from the generic drug manufacturer Par Pharmaceutical, Inc. (“Par”) that it had filed an Abbreviated New Drug Application with the FDA seeking approval for a generic version of RAVICTI Oral Liquid. The Paragraph IV certification alleges that certain our patents are invalid and/or will not be infringed by Par’s manufacture, use or sale of the product for which the ANDA was submitted. We filed suit against Par on April 23, 2014 to protect our patents and to obtain a stay of the FDA’s approval of Par’s ANDA. On July 22, 2014, Par filed a motion to dismiss for lack of personal jurisdiction, or in the alternative, a motion to transfer the case to the Southern District of New York. We will oppose this motion. On April 29, 2015, Par filed petitions for Inter Partes Review of the ’215 patent and the ’012 patent with the United States Patent and Trademark Office. The petitions allege that the claims of the ’215 patent and ’012 patent are invalid as obvious for reasons similar to those alleged in the ongoing litigation. The United States Patent and Trademark Office has not yet decided whether to institute a review of either patent.

Amortization of intangible asset

In 2014, the amortization of intangible asset pertains to the amortization expense of BUPHENYL product rights acquired on May 31, 2013. For additional information, see Note 8 to our unaudited condensed consolidated financial statements appearing elsewhere in this report.

Interest Income

Interest income consists of interest earned on our investments and cash and cash equivalents.

Interest Expense

Interest expense consists primarily of non-cash and cash interest costs related to our borrowings.

Other Income (Expense), net

During the three months ended March 31, 2015, other income (expense), net consisted mainly of $4.1 million gain due to the release of acquisition related liability (see Note 10 to our unaudited condensed consolidated financial statements appearing elsewhere

 

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in this report). This was partially offset by $0.1 million related to amortization of discount on available-for-sale investments and $0.1 million related to loss on foreign currency transactions.

During the three months ended March 31, 2014 other income (expense), net consisted of a $0.1 million related to amortization of discount on available-for-sale investments and $0.1 million related to loss on foreign currency transactions.

Income Taxes

We have been granted orphan drug designation by the FDA for our products currently under development. The orphan drug designation allowed us to claim increased federal tax credits for its research and development activities. We have $22.6 million of federal credit carryforwards of which $21.1 million relates to Orphan Drug Credit claims for 2009 through 2014.

We intend to continue maintaining a valuation allowance on our deferred tax assets until there is sufficient evidence to support the reversal of all or some portion of these allowances. However, considering our current assessment of income from potential future sales, there is a reasonable possibility that, within the next year, sufficient positive evidence may become available to reach a conclusion that a significant portion of the U.S. valuation allowance will no longer be needed. As such, we may release a significant portion of our U.S. valuation allowance against our U.S. deferred tax assets within the next 12 months. This release would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period such release is recorded.

For the period ended March 31, 2015 and 2014 our income tax expense was $1.6 million and $0.1 million respectively.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in accordance with United States generally accepted accounting principles. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Actual results could differ from those estimates.

Critical accounting estimates are necessary in the application of certain accounting policies and procedures, and are particularly susceptible to significant change. Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and could potentially result in materially different results under different assumptions and conditions. For additional information on our critical accounting policies, please refer to the information contained in Note 2 of the accompanying unaudited condensed consolidated financial statements and the Critical Accounting Policies and Estimates section of our Management’s Discussion and Analysis of Financial Condition and Results of Operations included in Annual Report on Form 10-K for the year ended December 31, 2014.

Business Combinations

We allocate the purchase price of an acquired business to the tangible and intangible assets acquired and liabilities assumed based upon their estimated fair values on the acquisition date. Any excess of the purchase price over the fair value of the net assets acquired is recorded as goodwill. The purchase price allocation process requires us to make significant estimates and assumptions, especially at the acquisition date with respect to intangible assets. Direct transaction costs associated with the business combination are expensed as incurred.

Accounts Receivable

Our trade accounts receivable are recorded net of product sales allowances for prompt-payment discounts, chargebacks and doubtful accounts. We estimate chargebacks and prompt-payment discounts based on contractual terms, historical trends and our expectations regarding the utilization rates for these programs.

 

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Inventories

Our inventories are valued at the lower of cost or market, with cost computed at standard cost (which approximates actual cost) on a first-in-first-out (FIFO) cost method and consists of raw materials, work in process and finished goods. Subsequent to the FDA approval of RAVICTI on February 1, 2013, we began capitalizing inventories as the related costs were expected to be recoverable through the commercialization of the product. Prior to the FDA approval of RAVICTI, we recorded the costs incurred as research and development expenses in the consolidated statements of operations. If information becomes available that suggest that our inventories may not be realizable, we may be required to expense a portion or all of the previously capitalized inventories.

The costs of our inventories consists mainly of third party manufacturing costs, associated compensation related costs of personnel indirectly involved in the manufacturing process and other overhead costs attributable to the manufacture of inventories.

Products that have been approved by the FDA or other regulatory authorities, such as RAVICTI are also used in clinical programs, to assess the safety and efficacy of the products for usage in diseases that have not been approved by the FDA or other regulatory authorities. The form of RAVICTI utilized for both commercial and clinical programs is identical and, as a result, the inventory has an “alternative future use”. Raw materials and purchased drug product associated with clinical development programs are included in inventory and charged to research and development expense when the product enters the research and development process and no longer can be used for commercial purposes and, therefore, does not have an “alternative future use”.

On May 31, 2013, we acquired BUPHENYL including inventory from Ucyclyd. We recorded these inventories at fair value in the amount of $3.9 million on the acquisition date. As of March 31, 2014, we sold the entire inventory acquired from the acquisition of BUPHENYL.

We evaluate for potential excess inventory by analyzing current and future product demand relative to the remaining product shelf life. We develop demand forecasts by considering factors such as, but not limited to, overall market potential, market share, market acceptance and patient usage.

Intangible Assets

We record intangible assets at acquisition cost less accumulated amortization and impairment. We amortize intangible assets with finite lives over their estimated useful lives. Our intangible asset pertains to BUPHENYL product rights acquired on May 31, 2013. We calculate the amortization of our intangible asset over its estimated useful life using the economic use method, which reflects the pattern that the economic benefits of the intangible asset is consumed as revenue is generated. The pattern of consumption of the economic benefits is estimated using the future projected cash flows of the intangible asset.

Impairment of Long-lived Assets

We review our property and equipment and long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset class may not be recoverable. Recoverability is measured by comparing the carrying amount to the future net undiscounted cash flows that the assets are expected to generate. If such assets are considered impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value determined using projected discounted future net cash flows arising from the assets.

Fair Value of Financial Instruments

We measure our financial assets and liabilities at fair value based on the exchange price that would be received for an asset or paid for to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants. The carrying amounts of our financial instruments, including cash equivalents, short-term investments, the option to purchase BUPHENYL and AMMONUL, accounts payable, and accrued liabilities, approximate fair value due to their short maturities. The carrying amounts of long-term investments represent their estimated fair values.

Income Taxes

We are subject to income taxes in the U.S. and we use estimates in determining our provision for income taxes. We use the liability method of accounting for income taxes, whereby deferred income tax assets or liability account balances are calculated at the balance sheet date using current tax laws and rates in effect for the year in which the differences are expected to affect taxable income.

Recognition of deferred income tax assets is appropriate when based on the weight of positive and negative evidence realization of such assets is more likely than not. We recognize a valuation allowance against our net deferred income tax assets if it is more likely than not that some portion of the deferred income tax assets will not be fully realizable. This assessment requires judgment as to the likelihood and amounts of future taxable income by tax jurisdiction.

 

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We apply the provisions of FASB’s guidance on accounting for uncertainty in income taxes. We assess all material positions taken in any income tax return, including all significant uncertain positions, in all tax years that are still subject to assessment or challenge by relevant taxing authorities. Assessing an uncertain tax position begins with the initial determination of the position’s sustainability and the tax benefit to be recognized is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. As of each balance sheet date, unresolved uncertain tax positions must be reassessed, and we will determine whether (i) the factors underlying the sustainability assertion have changed and (ii) the amount of the recognized tax benefit is still appropriate. The recognition and measurement of tax benefits requires significant judgment. Judgments concerning the recognition and measurement of a tax benefit might change as new information becomes available.

Revenue Recognition

We recognize revenue in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 605, Revenue Recognition, when the following criteria have been met: persuasive evidence of an arrangement exists; delivery has occurred and risk of loss has passed; and the seller’s price to the buyer is fixed or determinable and collectability is reasonably assured. We determine that persuasive evidence of an arrangement exists based on written contracts that define the terms of our arrangements. In addition, we determine that services have been delivered in accordance with the arrangement. We assesses whether the fee is fixed or determinable based on the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment. We assess collectability based primarily on the customer’s payment history and on the creditworthiness of the customer.

Product Revenue

We recognize revenue in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 605, Revenue Recognition, when the following criteria have been met: persuasive evidence of an arrangement exists; delivery has occurred and risk of loss has passed; and the seller’s price to the buyer is fixed or determinable and collectability is reasonably assured. We determine that persuasive evidence of an arrangement exists based on written contracts that define the terms of our arrangements. In addition, we determine that services have been delivered in accordance with the arrangement. We assesses whether the fee is fixed or determinable based on the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment. We assess collectability based primarily on the customer’s payment history and on the creditworthiness of the customer.

Our product revenues represent sales of RAVICTI and BUPHENYL in the U. S. and outside the U.S. We recognize revenue once all four revenue recognition criteria described above are met.

In 2013, we began distributing RAVICTI to two specialty pharmacies through a specialty distributor. The specialty pharmacies then in turn dispense RAVICTI to patients in fulfillment of prescriptions. As RAVICTI was our first commercial product, we could not reasonably assess potential product sales allowances at the time of sale to the specialty distributor. As a result, the price of RAVICTI was not deemed fixed or determinable. We deferred the recognition of revenues on product shipments of RAVICTI to the specialty distributor until the product was shipped to patients by the specialty pharmacies at which time our related product sales allowances could be reasonably estimated. Starting June 2014, we could reasonably estimate and determine sales allowances, therefore we began recognizing RAVICTI revenue at the point of sale to the specialty distributor

We sell BUPHENYL in the United States to a specialty distributor, who in turn sells this product to retail pharmacies, hospitals and other dispensing organizations. We recognize revenue from BUPHENYL sales upon receipt by the specialty distributor as we can reasonably assess potential product sales allowances at the time of sale. For product sales of BUPHENYL outside the United States, revenue is recognized once the product is accepted by the customer or once their acceptance period has expired whichever comes first.

We recognize revenue net of product sales allowances, including estimated rebates, chargebacks, prompt-payment discounts, returns, distribution service fees and Medicare Part D coverage gap reimbursements. Product shipping and handling costs are included in cost of sales.

Product Sales Allowances

We establish reserves for prompt-payment discounts, government and commercial rebates, product returns and chargebacks. Allowances relating to prompt-payment discounts and chargebacks are recorded at the time of revenue recognition, resulting in a reduction in product sales revenue and a decrease in trade accounts receivables. Allowances related to government rebates, product returns and other applicable allowances such as distributor fees are recognized at the time of revenue recognition, resulting in a reduction in product sales and an increase in accrued expenses or a reduction in the related accounts receivable depending on the nature of the sales deduction.

 

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Co-payment assistance

We provide cash donation to a non-profit third party organization which supports UCD patients, who have commercial insurance and meet certain financial eligibility requirements, with co-payment assistance and travel costs. We account for the amount of co-payment assistance as a reduction of product revenues.

The following table summarizes the provisions, and credits/payments, for the gross to net sales deductions:

 

(in thousands)    Rebates &
Chargebacks
     Prompt pay
discounts
     Other Sales-
Related
Deductions
     Total  

Balance as of December 31, 2014

   $ 9,612       $ —         $ 530       $ 10,142   

Provision related to current period sales

     6,710         1,394         402         8,506   

Credits/payments

     (3,689      (1,394      (368      (5,451 )
  

 

 

    

 

 

    

 

 

    

 

 

 

Balance as of March 31, 2015

$ 12,633    $ —      $ 564    $ 13,197   
  

 

 

    

 

 

    

 

 

    

 

 

 

Stock-Based Compensation

We recognize as compensation expense the fair value of stock options and other stock-based compensation issued to employees over the requisite service periods, which are typically the vesting periods. We determine the fair value of restricted stock units using the closing price of our common stock on the date of grant. We estimate the fair value of stock options using the Black-Scholes option valuation model. The fair value of employee stock options and restricted stock units is amortized on a straight-line basis over the requisite service period of the awards.

Results of Operations

Comparison of the Three Months Ended March 31, 2015 and 2014

 

     Three Months Ended
March 31,
     Increase/
(Decrease)
     %
Increase/
(Decrease)
 
(in thousands, except for percentages)    2015      2014                

Product revenue, net

   $ 31,193      $ 19,483      $ 11,710        60 %

Cost of sales

     3,833        2,382        1,451        61  

Research and development

     6,799        3,217        3,582        111  

Selling general and administrative

     14,976        11,171        3,805        34  

Amortization of intangible asset

     893        1,014        (121 )      (12 )

Interest income

     160        138        22         16   

Interest expense

     (245 )      (300 )      (55      (18 )

Other income (expense), net

     4,164         (190 )      (4,354 )      (2,292 )

Revenues

During the three months ended March 31, 2015 and March 31, 2014, we generated $31.2 million and $19.5 million of net product revenues, respectively. Product revenues from the sale of RAVICTI and BUPHENYL are recorded net of sales returns, co-pay assistance and estimated product sales allowances including government rebates, chargebacks, prompt-payment discounts and distributor fees.

For the three months period ended March 31, 2015, net product revenues consisted of the following:

 

    net sales from RAVICTI in the amount of $26.0 million (of which $25.8 million relates to sales in the U.S. and $0.2 million sales outside the U.S.); and

 

    net sales from BUPHENYL in the amount of $5.2 million (of which $2.4 million relates to sales in the U.S. and $2.8 million sales outside the U.S.)

For the three months period ended March 31, 2014, net product revenues consisted of the following:

 

    net sales from RAVICTI in the amount of $15.5 million relating to sales in the U.S.; and

 

    net sales from BUPHENYL in the amount of $4.0 million (of which $2.5 million relates to sales in the U.S. and $1.5 million sales outside the U.S.)

 

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Prior to June 2014, revenue from the sale of RAVICTI was recognized based on the amount of product sold through to the end user consumer. Starting June 2014, we were able to reasonably estimate and determine sales allowances, therefore we began recognizing RAVICTI revenue at the point of sale to the specialty distributor.

Cost of Sales

Costs of sales were $3.8 million and $2.4 million for the three months ended March 31, 2015 and 2014, respectively. For the three months ended March, 2015, cost of sales consisted of BUPHENYL product costs of $1.3 million and RAVICTI product costs of $2.5 million. RAVICTI product costs included $2.1 million for royalty expenses payable under our restated collaboration agreement with Ucyclyd.

For BUPHENYL, cost of sales as of March 31, 2014 was higher due to the recording of the step-up value on BUPHENYL inventories acquired from Ucyclyd which will be expensed to cost of sales as the inventory is sold and is not indicative of cost of sales in future periods. Since the inventories were purchased as part of a business combination, they were recorded at fair value on the acquisition date. As of March 31, 2014, we have sold the entire inventory acquired from the acquisition of BUPHENYL.

Research and Development (R&D) Expenses

Research and development expenses increased by $3.6 million, or 111%, to $6.8 million for the three months ended March 31, 2015, from $3.2 million for the three months ended March 31, 2014. This increase was primarily due to increases of $0.8 million in compensation related expenses, $1.3 million increase in R&D manufacturing process development and formulation and related expenses, $0.7 million increase due to startup expenses for new clinical studies during the quarter and $0.9 million due to expenses incurred for the DiaPep277 Program.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased by $3.8 million, or 34%, to $15.0 million for the three months ended March 31, 2015, from $11.2 million for the three months ended March 31, 2014. This increase was primarily due to a $1.1 million in compensation expense including stock-based compensation expense as a result of hiring additional employees, $1.9 million related to legal costs and professional and consulting costs, $0.4 million related to office, administrative and information technology infrastructure expenses, $0.1 million related to regulatory and compliance work and $0.3 million due to expenses incurred by Andromeda.

Amortization of intangible asset

For the three months ended March 31, 2015 and 2014, amortization of intangible asset expense was $0.9 million and $1.0 million, respectively. The amortization of intangible asset expense pertains to the amortization expense for BUPHENYL product rights acquired as part of the BUPHENYL acquisition on May 31, 2013.

Interest Income

Interest income was $0.2 million and $0.1 million for the three months ended March 31, 2015 and 2014, respectively. Interest income for both periods primarily included interest earned from our investments and cash and cash equivalents.

Interest Expense

Interest expense was $0.3 million each for the three months ended March 31, 2015 and 2014 and primarily included interest on our loans.

Other Income (Expense), net

During the three months ended March 31, 2015, other income (expense), net consisted mainly of $4.1 million gain due to the release of acquisition related liability (see Note 10 to our unaudited condensed consolidated financial statements appearing elsewhere in this report). This was partially offset by $0.1 million related to amortization of discount on available-for-sale investments and $0.1 million related to loss on foreign currency transactions.

 

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During the three months ended March 31, 2014 other income (expense), net consisted of a $0.1 million related to amortization of discount on available-for-sale investments and $0.1 million related to loss on foreign currency transactions.

Liquidity and Capital Resources

During the three months ended March 31, 2015 and 2014, we generated net revenues of $31.2 million and $19.5 million.

As of March 31, 2015 and December 31, 2014, our principal sources of liquidity were our cash provided by operating activities and our cash and cash equivalents and investments.

On March 13, 2013, we completed our follow-on offering. We received net proceeds from the offering of $63.7 million, after deducting underwriting discounts and commissions of $4.1 million and expenses of $0.8 million.

On August 14, 2013, we filed a shelf registration statement on Form S-3, which was declared effective by the SEC on September 13, 2013. The shelf registration statement permits: (a) the offering, issuance and sale of up to a maximum aggregate offering price of $150.0 million of our common stock, preferred stock, debt securities, warrants and/or units; (b) the sale of up to 8,727,000 shares of common stock by certain selling stockholders; and (c) the offering, issuance and sale of up to a maximum aggregate offering price of $50.0 million of our common stock that may be issued and sold under a sales agreement with Cantor Fitzgerald & Co. As of March 31, 2015, there were no sales of any securities registered pursuant to the shelf registration statement.

On July 18, 2014, we entered into a new Loan and Security Agreement with Silicon Valley Bank, providing for two tranches of term loans of up to $16.0 million and a revolving credit line of up to $5.0 million. In July 2014, we drew down both tranches of the Term Loans, of which approximately $5.8 million was used to pre-pay the Company’s existing April and September 2012 notes payable. In addition, we drew down $2.0 million from the revolving line of credit facility. The actual amount of the Revolving Loans that are available from time to time under the Loan Agreement is limited to a borrowing base amount that is determined according to, among other things, a percentage of the value of eligible accounts.

At March 31, 2015, we had an accumulated deficit of $121.4 million. If the Horizon offer is not completed, we expect to incur increased research and development expenses from the Phase 3 trial of GPB for the treatment of patients with episodic HE. In addition, we expect to continue to incur research and development expenses relating to the completion of the DiaPep277 Phase 3 trial and the termination of the DiaPep277 development program through mid to late 2015. In addition, if we continue to operate as an independent company, we expect to continue to incur significant commercial, sales and marketing, and outsourced manufacturing expenses in connection with commercialization of RAVICTI and marketing of BUPHENYL in UCD. These increased expenses as compared to prior years include compensation expenses due to hiring additional employees, costs related to operation of our distribution network and marketing costs and general infrastructure expenses as we expand our organization. If we are not acquired by Horizon, our plans with respect to these matters include utilizing a substantial portion of our capital resources and efforts in completing the development and obtaining regulatory approval of GPB in HE and the identification and potential development of additional new product candidates. Further, as a result of our legal investigation of the serious misconduct at Andromeda, the legal disputes in which we are involved and the significant legal costs associated with the expansion of our business, our legal expenses increased significantly, and they may continue to increase in the future.

If we are not acquired by Horizon, we believe that our existing cash and cash equivalents and investments as of March 31, 2015, and our future forecasted product revenues will be sufficient to fund our operations for at least the next 12 months.

Cash Flows

The following table sets forth the major sources and uses of cash for the periods set forth below (in thousands):

 

     Three Months Ended
March 31,
 
(In thousands)    2015      2014  
     (unaudited)  

Net cash provided by (used in):

     

Operating activities

   $ 5,601       $ 6,976   

Investing activities

     (21,222 )      (989 )

Financing activities

     1,719         (436 )
  

 

 

    

 

 

 

Net increase (decrease) in cash and cash equivalents

$ (13,902 ) $ 5,551   
  

 

 

    

 

 

 

Net cash provided by operating activities of $5.6 million for the three months ended March 31, 2015 included our net income of $7.2 million, adjusted for non-cash items such as

 

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$0.1 million of amortization of debt discount, $0.9 million of amortization of intangible asset, $2.4 million of stock-based compensation expense, $0.1 million of depreciation expense, $0.1 million of amortization of discount on available-for-sale investments, and a net cash outflow of $0.9 million related to changes in operating assets and liabilities. Net cash provided by operating activities of $7.0 million for the three months ended March 31, 2014 included our net income of $1.3 million, adjusted for non-cash items such as $0.1 million of amortization of debt discount and debt issuance cost, $1.0 million of amortization of intangible asset, $1.4 million of stock-based compensation expense, $0.1 million of depreciation expense, $0.1 million of amortization of discount on available-for-sale investments, and a net cash inflow of $3.0 million related to changes in operating assets and liabilities.

Net cash used in investing activities was $21.2 million and $1.0 million for the three months ended March 31, 2015 and 2014, respectively. Net cash used in investing activities for the three months ended March 31, 2015 includes $21.1 million for purchases of investments, net of any maturities on investments and $0.1 million related to additions to fixed assets. Net cash used in investing activities for the three months ended March 31, 2014 primarily includes $1.0 million for purchases of investments, net of any maturities on investments.

Net cash provided by financing activities was $1.7 million for the three months ended March 31, 2015. Net cash used in financing activities was $0.4 million for the three months ended March 31, 2014. Net cash provided by financing activities for the three months ended March 31, 2015 primarily related to the proceeds from issuance of common stock due to exercise of stock options of $1.6 million. Net cash used in financing activities for the three months ended March 31, 2014 related to the payments of notes payable of $1.4 million partially offset by proceeds from issuance of common stock due to exercise of stock options of $0.9 million.

Future Funding Requirements

If we continue to operate as an independent company, we may need to obtain additional financing to fund our future operations, including supporting sales and marketing activities related to RAVICTI and BUPHENYL, funding a Phase 3 trial in HE, as well as the costs related to termination of the clinical development of DiaPep277 and the development and commercialization of any additional product candidates we might acquire or develop on our own. Our future funding requirements will depend on many factors, including, but not limited to:

 

    our revenues from RAVICTI and BUPHENYL;

 

    costs relating to the discontinuation of the DiaPep277 program, including potential liabilities from related litigation;

 

    the amount of sales and other revenues from other products and product candidates that we may commercialize, if any, including the selling prices for such products and the availability of adequate third-party reimbursement;

 

    selling and marketing costs associated with our UCD products;

 

    the progress, timing, scope and costs of our nonclinical studies and clinical trials, including the ability to timely enroll patients in our planned and potential future clinical trials;

 

    the time and cost necessary to obtain regulatory approvals and the costs of post-marketing studies that may be required by regulatory authorities;

 

    the costs of obtaining clinical and commercial supplies of RAVICTI, BUPHENYL and GPB;

 

    payments of milestones and royalties to third parties;

 

    cash requirements of any future acquisitions of product candidates or companies;

 

    the time and cost necessary to respond to technological and market developments;

 

    the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights;

 

    any new collaborative, licensing, acquisition and other commercial relationships that we may establish.

We have based these estimates on a number of assumptions that may prove to be wrong, and changing circumstances beyond our control may cause us to consume capital more rapidly than we currently anticipate. For example, we may not achieve or sustain the revenues we anticipated and our HE Phase 3 clinical trial may cost more than we expect. Because of the numerous risks and uncertainties associated with the development and commercialization of GPB or any other product candidates, we are unable to estimate with any certainty the amounts of increased capital outlays and operating expenditures associated with our current and anticipated clinical trials.

Additional financing may not be available when we need it or may not be available on terms that are favorable to us. We may seek to raise additional capital through a combination of private and public equity offerings and debt financings. To the extent that we raise additional capital through the sale of equity or convertible debt securities, the ownership interest of existing stockholders will be diluted, and the terms may include liquidation or other preferences that adversely affect the rights of existing stockholders. Debt financing, if available, would result in increased fixed payment obligations and may involve agreements that include covenants limiting or restricting our ability to take specific actions such as incurring debt, making capital expenditures or declaring dividends.

 

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If adequate funds are not available to us on a timely basis, or at all, we may be required to terminate or delay clinical trials or other development activities for RAVICTI and GPB, or delay our establishment of sales and marketing capabilities or other activities that may be necessary to successfully market BUPHENYL. We may elect to raise additional funds even before we need them if the conditions for raising capital are favorable.

Off-Balance Sheet Arrangements

We do not currently have, nor have we ever had, any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we do not engage in trading activities involving non-exchange traded contracts.

Jumpstart Our Business Startups Act of 2012

The Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”) permits an “emerging growth company” such as us to take advantage of an extended transition period to comply with new or revised accounting standards applicable to public companies. We are choosing to “opt out” of this provision and, as a result, we will comply with new or revised accounting standards as required when they are adopted. This decision to opt out of the extended transition period under the JOBS Act is irrevocable.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

We are exposed to market risks in the ordinary course of our business. These risks primarily include risk related to interest rate sensitivities and foreign currency exchange rate risk. During the three months ended March 31, 2015, our market risks have not changed materially from those discussed in Item 7A of our Form 10-K for the year ended December 31, 2014.

Item 4. Controls and Procedures

Evaluation of disclosure controls and procedures. Management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)), as of the end of the period covered by this report. Based upon the evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures were effective to ensure that information required to be disclosed in the reports we file and submit under the Securities Exchange Act of 1934, as amended, is (i) recorded, processed, summarized and reported as and when required and (ii) accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely discussion regarding required disclosure.

Changes in internal control over financial reporting. There have been no changes in our internal control over financial reporting during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II. OTHER INFORMATION

Item 1. Legal Proceedings

On March 17, 2014, we received notification of the Paragraph IV certification from Par Pharmaceutical, Inc. (“Par”) advising us that it had filed an Abbreviated New Drug Application (an “ANDA”) with the FDA for a generic version of 1.1 gm/ml RAVICTI oral liquid. The Paragraph IV certification, filed on November 19, 2013, alleges that our U.S. Patent No. 8,404,215, titled “Methods of therapeutic monitoring of nitrogen scavenging drugs,” which expires in March 2032, and U.S. Patent No. 8,642,012, titled “Methods of treatment using ammonia scavenging drugs,” which expires in September 2030, are invalid and/or will not be infringed by Par’s manufacture, use or sale of the product for which the ANDA was submitted. Par did not challenge the validity, enforceablility, or infringement of U.S. Patent No. 5,968,979, our primary composition of matter patent for RAVICTI titled “Triglycerides and ethyl esters of phenylalkanoic acid and phenylalkenoic acid useful in treatment of various disorders,” which patent has received an interim term extension through February 7, 2016 as the United States Patent and Trademark Office determines the ultimate length of the patent’s term extension. We filed suit against Par on April 23, 2014 in Federal district court in the Eastern District of Texas in order to protect our patents. On July 22, 2014, Par filed a motion to dismiss for lack of personal jurisdiction, or in the alternative, a motion to transfer the case to the Southern District of New York. We will oppose the motion. On April 29, 2015, Par filed petitions for Inter Partes Review of the ’215 patent and the ’012 patent with the United States Patent and Trademark Office. The petitions allege that the claims of the ’215 patent and ’012 patent are invalid as obvious for reasons similar to those alleged in the ongoing litigation. The United States Patent and Trademark Office has not yet decided whether to institute a review of either patent.

On September 22, 2014, Clal Biotechnology Industries, Ltd., (“CBI”) filed suit against us in Superior Court of the state of Delaware for New Castle County (Case No. N14C-09-198 PRW) alleging breach of contract and breach of the implied covenant of good faith and fair dealing under our Share Purchase Agreement with CBI relating to our acquisition of Andromeda Biotech Ltd. (“Andromeda”), alleging $200.0 million in damages arising from our announcement on September 8, 2014 of our decision to terminate further development of DiaPep277 beyond completion of the ongoing clinical trial as a result of evidence we uncovered that certain employees of Andromeda engaged in serious misconduct that compromised clinical trial results. On January 16, 2015, CBI filed a Notice of Voluntary Dismissal to dismiss its claim against us without prejudice. On February 16, 2015 we reached an agreement with CBI and Yeda, the company from which Andromeda licenses the underlying DiaPep277 technology, to resolve DiaPep277 related claims against one another, and we granted CBI an option to acquire all of the outstanding stock of Andromeda. In connection with the agreement, CBI will transfer to us $2.5 million in shares of our common stock it holds, valued at the average closing price of the Company’s common stock for the fifteen trading days ending on February 11, 2015. The parties have appointed a steering committee to oversee the completion of the clinical trial with representatives of CBI and Yeda and a non-voting member appointed by us. The Company’s estimated budget from October 1, 2014 through the completion of the trial remains unchanged at $10.5 million. Any increase to this budget beyond $2.25 million, if incurred as a result of the direction of the steering committee, shall require CBI to reimburse those expenses in shares of the Company’s common stock or cash, if CBI no longer holds the Company stock. Under the agreement, CBI’s option is exercisable through September 30, 2015 for $3.5 million payable in shares of the Company’s common stock. In addition, if the option is exercised, then Andromeda will be obligated to pay Hyperion future contingent payments if and to the extent it or its shareholders receive revenues or certain other proceeds, which are capped at $36.5 million. This amount, together with the option exercise price that Hyperion may receive, approximates the total amount Hyperion will have invested in Andromeda by the option exercise date. Under the agreement, in the event that CBI does not exercise its option, the underlying DiaPep277 technology will revert to Yeda under the license agreement between Andromeda and Yeda. Also on February 16, 2015, we entered into a release with Evotec International GmbH (“Evotec”) pursuant to which Evotec released its previously asserted claims to a milestone payment from us in connection with our acquisition of Andromeda and that it had suffered harm from recent incidents in relation to Diapep277 in exchange for a payment of $0.5 million from us. As of December 31, 2014, we had $4.6 million included in “Accrued liabilities” related to the Evotec claim in the consolidated balance sheets. In the first quarter of 2015, we recognized $4.1 million as “Other Income” in the condensed consolidated statements of operations resulting from the release of the accrued liabilities.

Item 1A. Risk Factors

This Quarterly Report on Form 10-Q contains forward-looking information based on our current expectations. Because our business is subject to many risks and our actual results may differ materially from any forward-looking statements made by or on behalf of us, this section includes a discussion of important factors that could affect our business, operating results, financial condition and the trading price of our common stock. You should carefully consider the following risk factors and the additional risk factors included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 4, 2015, together with all of the other information included in this Quarterly Report on Form 10-Q as well as our other publicly available filings with the SEC.

Uncertainty about Horizon’s offer to acquire us may cause disruptions in our business and could have an adverse effect on our business and financial results if not completed.

 

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We and Horizon Pharma, Inc. (“Horizon”) have operated and, until the completion of Horizon’s offer to acquire all the outstanding shares of the Company (the “Offer”), will continue to operate independently. Uncertainty about the effect of the acquisition and whether and when it will be completed, among Hyperion’s vendors, prescribers, distributors, partners and customers may have an adverse effect on our business. These uncertainties could cause disruptions to our existing business relationships or delay or reduce the use of our products or otherwise impair our operations. Certain provisions in the definitive Agreement and Plan of Merger may limit our ability to recruit and hire new personnel and expand our business during the pendency of the Acquisition. In addition, during the negotiation of the terms of the acquisition and during the pendency of the acquisition, our management and key personnel have devoted much of their time to matters relating to the acquisition, diverting resources from the day to day operation of our business. This diversion of resources and potential constraints on our ability to expand our operations may adversely affect our relationships with business partners and harm our business if the acquisition is not completed.

The Offer may not be completed and failure of the Offer to close would have an adverse effect on our business and our stock price.

We cannot guarantee that the acquisition will be completed, as its completion is subject to various contingencies, including the tender of their shares by our stockholders and the obtaining of financing to complete the acquisition by Horizon. If the acquisition is not completed, our ongoing business may be adversely affected and we will be subject to a number of risks, including the following:

 

    the current price of our common stock reflects a market assumption that the acquisition will occur, meaning that a failure to complete the acquisition is likely to result in a decline in the price of our common stock; and

 

    matters relating to the acquisition including integration planning and preparation of regulatory filings have required substantial commitments of time and resources by our management and key personnel who would otherwise have devoted such resources to the operation and expansion of our business and to the identification of new business opportunities that may have been available to us.

If the acquisition is not consummated, these risks may materialize and stockholder suits may result.

We are involved in litigation with respect to certain patents on our product RAVICTI, which we expect will be costly and time-consuming and the outcome of which is uncertain.

On March 17, 2014, we received notice from Par Pharmaceutical, Inc. (“Par”), the generic drug manufacturer that it had filed an ANDA with the FDA seeking approval for a generic version of our product RAVICTI. The ANDA contained what is known as a “Paragraph IV certification.” The Paragraph IV certification alleges that two of our patents covering RAVICTI, U.S. Patent No. 8,404,215, titled “Methods of therapeutic monitoring of nitrogen scavenging drugs,” which expires in March 2032, and U.S. Patent No. 8,642,012, titled “Methods of treatment using ammonia scavenging drugs,” which expires in September 2030, are invalid and/or will not be infringed by Par’s manufacture, use or sale of the product for which the ANDA was submitted. Par did not challenge the validity, enforceability, or infringement of our primary composition of matter patent for RAVICTI, U.S. Patent No. 5,968,979 titled “Triglycerides and ethyl esters of phenylalkanoic acid and phenylalkenoic acid useful in treatment of various disorders,” which would have expired on February 7, 2015, but as to which we have been granted an interim term of extension until February 7, 2016. Upon notice of the Paragraph IV certification, we had 45 days to file suit to protect our patents in order to obtain a stay of the FDA’s approval of PAR’s ANDA for 30 months, or as lengthened or shortened by the court.

We filed suit against Par on April 23, 2014 and intend to vigorously protect our patents. However, we cannot predict the outcome of this or any litigation. On April 29, 2015, Par filed petitions for Inter Partes Review (“IPR”) of the ’215 patent and the ’012 patent with the United States Patent and Trademark Office. The petitions allege that the claims of the ’215 patent and ’012 patent are invalid as obvious for reasons similar to those alleged in the ongoing ANDA litigation. The United States Patent and Trademark Office has not yet decided whether to institute a review of either patent. If Par were to prevail in the ANDA litigation or in its petition for IPR and its ANDA were to receive FDA approval, RAVICTI would face generic competition when its orphan exclusivity expires in February 2020, and its sales would likely materially decline. Should sales decline, our results of operations and cash flows could be materially and adversely affected. Even if we successfully defend our patents against Par’s challenges, the litigation will be costly and time consuming and will require substantial time and attention from our management team, which could materially and adversely affect our financial condition and results of operations.

In addition, we may be sued by others who hold intellectual property rights who claim that their issued patents are infringed by RAVICTI, BUPHENYL or any of our future products or product candidates. Our patents and patent applications, or those of our licensors, could also face other challenges, such as interference proceedings, opposition proceedings, and re-examination proceedings. Any of these lawsuits and challenges, if successful, could result in the invalidation of, or in a narrowing of the scope of, any of our patents and patent applications subject to the suit or challenge. Any of these, regardless of their success, would likely be time consuming and expensive to defend and resolve and would divert our management’s time and attention.

 

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Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

On June 12, 2014, we issued 312,869 shares of its common stock valued at approximately $7.8 million to the former parent company of Andromeda, Clal as part of the consideration for the Company’s acquisition of Andromeda. The shares were issued without registration under the Securities Act of 1933, as amended (the “Securities Act”), in reliance upon an exemption from registration provided by Section 4(a)(2) of the Securities Act.

On July 31, 2012, we completed our initial public offering (“IPO”) and issued 5,000,000 shares of our common stock at an initial offering price of $10.00 per share. We sold an additional 750,000 shares of common stock directly to our underwriters when they exercised their over-allotment option in full at the initial offering price of $10.00 per share. We received net proceeds from the IPO of $51.3 million, after deducting underwriting discounts and commissions of $4.0 million and expenses of $2.2 million. None of the expenses associated with the IPO were paid to directors, officers, persons owning 10% or more of any class of equity securities, or to their associates, or to our affiliates. Leerink Swann LLC and Cowen and Company, LLC acted as joint book-running managers and Needham & Company, LLC acted as co-manager for the offering.

The shares were registered under the Securities Act on a Registration Statement on Form S-1 (Registration No. 333-180694) which was declared effective by the SEC on July 25, 2012. On July 31, 2012, following the sale of 5,750,000 shares of common stock, the offering terminated.

As of March 31, 2015, we have used approximately $44.4 million of the proceeds from our IPO to fund operations, capital expenditures, working capital and other general corporate purposes. There has been no material change in the planned use of proceeds from our IPO as described in our final prospectus filed with the SEC pursuant to Rule 424(b).

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

None.

Item 6. Exhibits

The exhibits filed as part of this Quarterly Report on Form 10-Q are set forth on the Exhibit Index, which are incorporated herein by reference.

 

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SIGNATURES

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

 

Hyperion Therapeutics, Inc.
Date: May 6, 2015

/s/ Donald J. Santel

Donald J. Santel

Chief Executive Officer and President

(Principal Executive Officer)

Date: May 6, 2015

/s/ Jeffrey S. Farrow

Jeffrey S. Farrow

Chief Financial Officer

(Principal Financial and Accounting Officer)


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EXHIBIT INDEX

 

Exhibit
No.

  

Description

    2.1    Agreement and Plan of Merger by and among Horizon Pharma, Inc., Ghrian Acquisition Inc. and the Company, dated March 29, 2015 (incorporated herein by reference to Exhibit 2.1 to the Company’s Amendment No. 1 to the Current Report on Form 8-K/A, File No. 001-35614, as filed with the SEC on April 9, 2015).
    2.2    Form of Tender and Support Agreement, by and among Horizon Pharma, Inc., Ghrian Aquistion Inc. and each of the Principal Stockholders, dated March 29, 2015 (incorporated herein by reference to Exhibit 2.2 to the Company’s Current Report on Form 8-K, File No. 001-35614, as filed with the SEC on March 30, 2015).
    3.1    Amended and Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, as filed with the SEC on July 31, 2012).
    3.2    Amended and Restated Bylaws of the Company (incorporated herein by reference to Exhibit 3.4 to the Company’s Registration Statement on Form S-1/A (File No. 333-180694), as filed with the SEC on May 24, 2012).
    4.1    Specimen Common Stock Certificate of the Company (incorporated herein by reference to Exhibit 4.1 to the Company’s Registration Statement on Form S-1/A (File No. 333-180694), as filed with the SEC on July 5, 2012).
    4.2    Amended and Restated Warrant issued pursuant to the Loan and Security Agreement by and between the Company and Comerica Bank, dated October 2, 2007, and as amended on July 6, 2012 (incorporated herein by reference to Exhibit 4.2 to the Company’s Registration Statement on Form S-1/A (File No. 333-180694), as filed with the SEC on July 13, 2012).
    4.3    Form of Secured Promissory Note issued pursuant to the Loan and Security Agreement by and among the Company, Silicon Valley Bank and the Lenders listed therein, dated April 19, 2012 (the “SVB Loan and Security Agreement”) (incorporated herein by reference to Exhibit 4.8 to the Company’s Registration Statement on Form S-1/A (File No. 333-180694), as filed with the SEC on May 24, 2012).
  10.1†    Completion of Phase III Clinical Trial, Option and Mutual Release Agreement, by and among the Company, Hyperion Therapeutics Israel holding Corp. Ltd., Andromeda Biotech Ltd., Clal Biotechnology Industries Ltd. and Yeda Research and Development Company Ltd., dated February 16, 2015.
  31.1    Certification of Principal Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as amended.
  31.2    Certification of Principal Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as amended.
  32.1*    Certifications of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
  32.2*    Certifications of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101    Financial statements from the Quarterly Report on Form 10-Q of Hyperion Therapeutics, Inc. for the quarter ended March 31, 2015, formatted in XBRL (eXtensible Business Reporting Language): (i) the Condensed Consolidated Balance Sheets, ii) the Condensed Consolidated Statements of Operations, (iii) the Condensed Consolidated Statements of Comprehensive Income (iv) the Condensed Consolidated Statements of Cash Flows and (v) Notes to Condensed Consolidated Financial Statements.

 

* Furnished herewith and not deemed to be “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Exchange Act.
Registrant has requested confidential treatment for certain portions of this agreement. This exhibit omits the information subject to this confidentiality request. The omitted portions have been filed separately with the SEC.