kmph20170630_10q.htm
 


 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


 

FORM 10-Q

 


 

(Mark One)

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

 

For the quarterly period ended June 30, 2018

 

OR

 

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

 

For the Transition Period From                        to

 

Commission File No. 001-36913

 


 

KemPharm, Inc.

(Exact Name of Registrant as Specified in Its Charter)

 


 

Delaware

 

20-5894398

(State or Other Jurisdiction of Incorporation or Organization)

 

(I.R.S. Employer Identification No.)

 

 

 

2500 Crosspark Road, Suite E126, Coralville, IA

 

52241

(Address of Principal Executive Offices)

 

(Zip Code)

 

(319) 665-2575

(Registrant’s Telephone Number, Including Area Code)
 
 
(Former Name, Former Address, and Former Fiscal Year if Changed Since Last Report)

 

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       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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes       No  

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.:

 

Large accelerated filer

Accelerated filer     

Non-accelerated filer

   (Do not check if a smaller reporting company)

Smaller reporting company

 

 

Emerging growth company

      

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.    

 

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

 

Total shares of common stock outstanding as of August 9, 2018: 16,042,018

 



 

 

 
 

INDEX

 

 

KEMPHARM, INC.

FORM 10-Q

 

    Page
     

 

PART I — FINANCIAL INFORMATION

 

 

 

 

Item 1.

Financial Statements

 

 

Condensed Balance Sheets as of JUNE 30, 2018 (UNAUDITED) and December 31, 2017

3

 

UNAUDITED Condensed Statements of Operations for the three AND SIX months ended JUNE 30, 2018 and 2017

4

 

Unaudited condensed Statements of Cash Flows for the three AND SIX months ended JUNE 30, 2018 and 2017

5

 

Notes to unaudited Condensed Financial Statements

6

Item 2.

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

15

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

25

Item 4.

Controls and Procedures

25

 

 

 

 

PART II — OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

26

Item 1A.

Risk Factors

26

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

76

Item 3.

Defaults Upon Senior Securities

76

Item 4.

Mine Safety Disclosures

76

Item 5.

Other Information

76

Item 6.

Exhibits

77

 

 

 

 

Signatures

78

 

 

 

 

 

PART I — FINANCIAL INFORMATION

 

Item 1.

Financial Statements

 

KEMPHARM, INC.

CONDENSED BALANCE SHEETS

(in thousands, except share and par value amounts)

 

   

June 30,

 

December 31,

   

2018

 

2017

   

(unaudited)

       

Assets

               

Current assets:

               

Cash and cash equivalents

  $ 16,497     $ 10,871  

Restricted cash

    1,100       1,100  

Marketable securities

    11,702       31,358  

Trade date receivables

          2,005  

Prepaid expenses and other current assets

    1,610       1,662  

Total current assets

    30,909       46,996  

Property and equipment, net

    1,841       2,004  

Long-term investments

          3,250  

Other long-term assets

    1,250       206  

Total assets

  $ 34,000     $ 52,456  
                 

Liabilities and stockholders' deficit

               

Current liabilities:

               

Accounts payable and accrued expenses

  $ 13,967     $ 7,875  
Current portion of convertible notes     3,333       3,333  

Current portion of capital lease obligation

    190       189  

Other current liabilities

    113       112  

Total current liabilities

    17,603       11,509  

Convertible notes, less current portion, net

    86,845       89,398  

Derivative and warrant liability

    11,888       7,709  
Capital lease obligation, less current portion     466       562  

Other long-term liabilities

    743       794  

Total liabilities

    117,545       109,972  
                 

Commitments and contingencies (Note D)

               
                 

Stockholders’ deficit:

               

Common stock, $0.0001 par value, 250,000,000 shares authorized, 15,905,146 shares issued and outstanding as of June 30, 2018 (unaudited); 14,657,430 shares issued and outstanding as of December 31, 2017

    2       1  

Additional paid-in capital

    117,391       107,209  

Preferred stock, $0.0001 par value, 10,000,000 shares authorized, no shares issued or outstanding as of June 30, 2018 (unaudited) or December 31, 2017

           

Accumulated deficit

    (200,938 )     (164,726

)

Total stockholders' deficit

    (83,545 )     (57,516

)

Total liabilities and stockholders' deficit

  $ 34,000     $ 52,456  

 

See accompanying notes to unaudited condensed financial statements

  

3

 

 

 

KEMPHARM, INC.

UNAUDITED CONDENSED STATEMENTS OF OPERATIONS

(in thousands, except share and per share amounts)

  

    Three months ended June 30,   Six months ended June 30,
    2018   2017   2018   2017
Revenue   $     $     $     $  
Operating expenses:                                
Research and development     10,488       4,650       22,125       8,764  
General and administrative     3,420       3,574       6,552       6,840  
Total operating expenses     13,908       8,224       28,677       15,604  
Loss from operations     (13,908 )     (8,224 )     (28,677 )     (15,604 )
Other (expense) income:                                
Interest expense related to amortization of debt issuance costs and discount     (390 )     (390 )     (780 )     (780 )
Interest expense on principal     (1,419 )     (1,443 )     (2,861 )     (2,884 )
Fair value adjustment related to derivative and warrant liability     5,562       3,523       (4,179 )     (3,693 )
Interest and other income, net     123       13       238       114  
Total other (expense) income     3,876       1,703       (7,582 )     (7,243 )
Loss before income taxes     (10,032 )     (6,521 )     (36,259 )     (22,847 )
Income tax benefit     39       4       47       8  
Net loss   $ (9,993 )   $ (6,517 )   $ (36,212 )   $ (22,839 )
                                 
Net loss per share:                                
Basic   $ (0.65 )   $ (0.44 )   $ (2.41 )   $ (1.56 )
Diluted   $ (0.91 )   $ (0.44 )   $ (2.41 )   $ (1.56 )
                                 
Weighted average number of shares of common stock outstanding:                                
Basic     15,317,536       14,649,586       15,056,161       14,648,291  
Diluted                  16,548,751       14,649,586       15,056,161       14,648,291  

 

See accompanying notes to unaudited condensed financial statements

 

4

 

 

 

KEMPHARM, INC.

UNAUDITED CONDENSED STATEMENTS OF CASH FLOWS

(in thousands)

 

   

Six months ended June 30,

   

2018

 

2017

Cash flows from operating activities:

               

Net loss

  $ (36,212 )   $ (22,839 )

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

               

Stock-based compensation expense

    2,659       2,254  

Non-cash interest expense

    2,195       2,220  

Amortization of debt issuance costs and debt discount

    780       780  

Depreciation and amortization expense

    166       164  

Fair value adjustment related to derivative and warrant liability

    4,179       3,693

 

Loss on sublease           102  

Change in assets and liabilities:

               

Prepaid expenses and other assets

    (1,030 )     (151 )

Accounts payable and accrued expenses

    4,063       (2,318

)

Other liabilities

    (51 )     101  

Net cash used in operating activities

    (23,251 )     (15,994

)

                 

Cash flows from investing activities:

               

Purchases of property and equipment

          (143

)

Purchases of marketable securities and long-term investments

          (20,922

)

Maturities and sales of marketable securities

    24,911       32,806  

Net cash provided by investing activities

    24,911       11,741

 

                 

Cash flows from financing activities:

               

Proceeds from at-the-market offering, net of commissions

    3,992        
Repayment of obligations under capital lease     (94 )     (77 )

Payment of deferred offering costs

          (50

)

Proceeds from exercise of common stock options     68       4  

Net cash provided by (used in) financing activities

    3,966       (123 )

Net increase (decrease) in cash, cash equivalents and restricted cash

    5,626       (4,376

)

Cash, cash equivalents and restricted cash, beginning of period

    11,971       17,862  

Cash, cash equivalents and restricted cash, end of period

   $ 17,597     $ 13,486  
                 

Supplemental cash flow information:

               

Cash paid for interest

   $ 2,863     $ 2,857  
Conversion of Deerfield Convertible Note principal and interest     3,502        
Fixed assets financed under a lease agreement           284  
Deferred offering costs included in accounts payable and accrued expenses           60  

Fixed assets included in accounts payable and accrued expenses

    3       7  

 

See accompanying notes to unaudited condensed financial statements.

 

5

 

 

KEMPHARM, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

 

 
A. Description of Business and Basis of Presentation

 

Organization

 

KemPharm, Inc. (the “Company”) is a specialty pharmaceutical company focused on the discovery and development of proprietary prodrugs to treat serious medical conditions through its Ligand Activated Therapy ("LAT™") platform technology. The Company utilizes its proprietary LAT platform technology to generate improved prodrug versions of U.S. Food and Drug Administration (the "FDA") approved drugs in the high need areas of attention deficit hyperactivity disorder ("ADHD"), pain and other central nervous system ("CNS") disorders. The Company was formed and incorporated in Iowa on October 30, 2006 and reorganized in Delaware on May 30, 2014.

 

The accompanying unaudited condensed financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") for interim financial information and with the instructions to Form 10-Q and Rule 8-03 of Regulation S-X. Accordingly, they do not include all of the information and related notes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included in the accompanying financial statements. Operating results for the three and six months ended June 30, 2018 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2018.

 

This interim information should be read in conjunction with the audited financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2017, filed with the Securities and Exchange Commission (“SEC”) on March 30, 2018.

 

Going Concern

 

The unaudited condensed financial statements have been prepared on a going concern basis which assumes that the Company will be able to realize its assets and discharge its liabilities in the normal course of business for the foreseeable future. The Company has experienced recurring losses from operations and negative operating cash flows due to its ongoing research and development of its product and product candidates. The Company also has an accumulated deficit as of June 30, 2018. Various internal and external factors will affect whether and when product candidates become approved drugs and how significant the market share of those approved products will be. The length of time and cost of developing and commercializing these product and product candidates and/or failure of them at any stage of the drug approval or commercialization process will materially affect the Company’s financial condition and future operations.

 

Management believes these conditions raise substantial doubt about the Company’s ability to continue as a going concern within the twelve months after the date these unaudited condensed financial statements are issued. The Company's ability to continue as a going concern is dependent upon profitable future operations, positive cash flows and additional financing.

 

Management intends to finance operating costs over the next twelve months with existing cash and cash equivalents and marketable securities, as well as, financing through the Company's active registration statement on Form S-3 covering the sale of up to $150.0 million of the Company's common stock, preferred stock, and debt and/or warrants. The registration statement on Form S-3 included a prospectus covering the offering up to $20,000,000 of shares of common stock through an "at-the-market offering."

 

Entry into ATM Agreement

 

On October 3, 2016, the Company entered into a Common Stock Sales Agreement (the “ATM Agreement”) with Cowen and Company, LLC (“Cowen”) under which the Company may offer and sell, from time to time, in its sole discretion, shares of common stock having an aggregate offering price of up to $50,000,000 through Cowen as the Company's sales agent. The Company’s registration statement on Form S-3 contemplated under the ATM Agreement was declared effective by the SEC on October 17, 2016. The registration statement on Form S-3 included a prospectus covering the offering up to $20,000,000 of shares of common stock in accordance with the ATM Agreement.

 

Cowen may sell common stock under the ATM Agreement by any method permitted by law deemed to be an “at the market offering” as defined in Rule 415 of the Securities Act or 1933, as amended ("Securities Act"), including without limitation sales made by means of ordinary brokers’ transactions on the NASDAQ Global Market or otherwise at market prices prevailing at the time of sale, in block transactions, or as otherwise directed by the Company. Cowen will use commercially reasonable efforts to sell the common stock from time to time, based upon instructions from the Company (including any price, time or size limits or other customary parameters or conditions the Company may impose). The Company will pay Cowen a commission of up to three percent (3.0%) of the gross sales proceeds of any common stock sold through Cowen under the ATM Agreement, and also has provided Cowen with customary indemnification rights.

 

The Company is not obligated to make any sales of common stock under the ATM Agreement. The offering of shares of common stock pursuant to the ATM Agreement will terminate upon the earlier of (i) the sale of all common stock subject to the ATM Agreement, or (ii) termination of the ATM Agreement in accordance with its terms. As of June 30, 2018, the Company had deferred offering costs recorded within prepaid expenses and other current assets in the amount of $0.2 million.

 

As of June 30, 2018, the Company has sold 625,466 shares of common stock under the ATM Agreement, resulting in gross proceeds of $4.1 million.

 

6

 

 

 
B. Summary of Significant Accounting Policies

 

Use of Estimates

 

The preparation of financial statements in conformity with GAAP requires the Company to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

 

On an ongoing basis, the Company evaluates its estimates, including those related to the useful lives of property and equipment, and assumptions used for purposes of determining stock-based compensation, income taxes, and the fair value of the derivative and warrant liability, among others. The Company bases its estimates on historical experience and on various other assumptions that it believes to be reasonable, the results of which form the basis for making judgments about the carrying value of assets and liabilities.

 

Application of New or Revised Accounting Standards—Adopted

 

From time to time, the Financial Accounting Standards Board (the “FASB”) or other standard-setting bodies issue accounting standards that are adopted by the Company as of the specified effective date.

 

On April 5, 2012, President Obama signed the Jump-Start Our Business Startups Act (the “JOBS Act”) into law. The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for an emerging growth company. As an emerging growth company, the Company could have elected to adopt new or revised accounting standards when they become effective for non-public companies, which typically is later than public companies must adopt the standards. The Company has irrevocably elected not to take advantage of the extended transition period afforded by the JOBS Act and, as a result, will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for non-emerging growth companies.

 

In May 2014, the FASB issued guidance codified in the Accounting Standards Codification ("ASC") Topic 606, Revenue Recognition—Revenue from Contracts with Customers ("ASC 606"), which amended the guidance in former ASC 605, Revenue Recognition, and became effective beginning January 1, 2018. This guidance did not have a material impact on the Company's financial statements and disclosures upon adoption since the Company is not generating revenue at this time.

 

In January 2016, the FASB issued Accounting Standards Update ("ASU") 2016-01, Financial Instruments Overall – Recognition and Measurement of Financial Assets and Liabilities (Topic 825-10) (“ASU 2016-01”), which provides several updates related to Topic 825-10. This update applies to all entities that hold financial assets or owe financial liabilities. This guidance is effective for financial statements issued for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The adoption of ASU 2016-01 did not have a material impact on the Company's financial statements and disclosures.

 

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows – Classification of Certain Cash Receipts and Cash Payments (Topic 230) (“ASU 2016-15”), which addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice. This update applies to all entities that are required to present a statement of cash flows under Topic 230. This guidance is effective for financial statements issued for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The adoption of ASU 2016-15 did not have a material impact on the Company's financial statements and disclosures.

 

In May 2017, the FASB issued ASU 2017-09, Compensation – Stock Compensation (Topic 718) – Scope of Modification Accounting ("ASU 2017-09"), which provides guidance about which changes to the terms or conditions of a stock-based payment award require an entity to apply modification accounting in Topic 718. This update applies to any entity that changes the terms or conditions of a stock-based payment award. This guidance is effective for financial statements issued for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The adoption of ASU 2017-09 did not have a material impact on the Company's financial statements and disclosures.

 

Application of New or Revised Accounting Standards—Not Yet Adopted

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) (“ASU 2016-02”), which requires lessees to recognize assets and liabilities for operating leases with lease terms greater than twelve months in the balance sheet. The update also requires improved disclosures to help users of financial statements better understand the amount, timing and uncertainty of cash flows arising from leases. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, with early adoption permitted. The Company is currently evaluating the impact of the adoption of ASU 2016-02 on its financial statements and disclosures.

 

In July 2017, the FASB issued ASU 2017-11, Earnings Per Share (Topic 260), Distinguishing Liabilities from Equity (Topic 480), Derivatives and Hedging (Topic 815) – I. Accounting for Certain Financial Instruments with Down Round Features and II. Replacement of the Indefinite Deferral for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests with a Scope Exception ("ASU 2017-11"), which addresses the complexity of accounting for certain financial instruments with down round features and addresses the difficulty of navigating Topic 480 because of the existence of extensive pending content in the ASC as a result of the indefinite deferral of accounting requirements about mandatorily redeemable financial instruments of certain nonpublic entities and certain mandatorily redeemable noncontrolling interests. This update applies to all entities that issue financial instruments that include down round features and entities that present earnings per share in accordance with Topic 260. This guidance is effective for financial statements issued for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. If early adopted in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. The Company is currently evaluating the impact of the adoption of ASU 2017-11 on its financial statements and disclosures.

 

7

 
 

 

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C. Debt Obligations

 

Deerfield Facility Agreement

 

On June 2, 2014, the Company entered into a $60 million facility agreement (the “Deerfield Facility Agreement”) with Deerfield Private Design Fund III, LP (“Deerfield”). The first payment to the Company under the terms of the Deerfield Facility Agreement consisted of a term loan of $15 million (the “Term Note”) and a senior secured loan of $10 million (the “Deerfield Convertible Note”). As of June 30, 2016, Deerfield was no longer obligated to provide the Company any additional disbursements under the Deerfield Facility Agreement. All loans issued under the Deerfield Facility Agreement bear interest at 9.75% per annum. Deerfield may convert any portion of the outstanding principal and any accrued but unpaid interest on the Deerfield Convertible Note into shares of the Company’s common stock at an initial conversion price of $5.85 per share (the "Deerfield Note Put Option").

  

The Company also issued to Deerfield a warrant to purchase 14,423,076 shares of Series D redeemable convertible preferred stock (“Series D Preferred”) at an exercise price of $0.78 per share, which is exercisable until June 2, 2024 (the “Deerfield Warrant”). Upon completion of the Company's initial public offering (the "IPO"), the Deerfield Warrant automatically converted into a warrant to purchase 1,923,077 shares of the Company’s common stock at an exercise price of $5.85 per share. This warrant qualifies as a participating security under ASC Topic 260, Earnings per Share, and is treated as such in the net loss per share calculation (Note I). If a Major Transaction occurs, as defined below, Deerfield may require the Company to redeem the Deerfield Warrant for a cash amount equal to the Black-Scholes value of the portion of the Deerfield Warrant to be redeemed (the “Warrant Put Option”). A Major Transaction is (i) a consolidation, merger, exchange of shares, recapitalization, reorganization, business combination or other similar event; (ii) the sale or transfer in one transaction or a series of related transactions of all or substantially all of the assets of the Company; (iii) a third-party purchase, tender or exchange offer made to the holders of outstanding shares, such that following such purchase, tender or exchange offer a change of control has occurred; (iv) the liquidation, bankruptcy, insolvency, dissolution or winding-up affecting the Company; (v) the shares of the Company’s common stock cease to be listed on any eligible market; and (vi) at any time, the shares of the Company’s common stock cease to be registered under Section 12 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).

 

In addition, the Company issued to Deerfield 1,923,077 shares of Series D Preferred as consideration for the loans provided to the Company under the Deerfield Facility Agreement. Upon completion of the IPO, these shares automatically reclassified into 256,410 shares of the Company’s common stock. The Company recorded the fair value of the shares of Series D Preferred of $1.5 million, to debt issuance costs on the date of issuance. The Company recorded the fair value of the Deerfield Warrant and the embedded Warrant Put Option to debt discount on the date of issuance. The debt issuance costs and debt discount are amortized over the term of the related debt and the expense is recorded as interest expense related to amortization of debt issuance costs and discount in the statements of operations.

 

Pursuant to the Deerfield Facility Agreement, the Company may not enter into specified transactions, including a debt financing in the aggregate value of $750,000 or more, a merger, an asset sale or any other change of control transaction or any joint venture, partnership or other profit sharing arrangement, without the prior approval of Deerfield. Additionally, if the Company were to enter into a major transaction, including a merger, consolidation, sale of substantially all of its assets or other change of control transaction, Deerfield would have the ability to demand that prior to consummation of such transaction the Company repay all outstanding principal and accrued interest of any notes issued under the Deerfield Facility Agreement. Under each warrant issued pursuant to the Deerfield Facility Agreement, Deerfield has the right to demand that the Company redeem the warrant for a cash amount equal to the Black-Scholes value of a portion of the warrant upon the occurrence of specified events, including a merger, an asset sale or any other change of control transaction.

 

The Company must repay one-third of the outstanding principal amount of all debt issued under the Deerfield Facility Agreement on the fourth and fifth anniversaries of the Deerfield Facility Agreement. The Company is then also obligated to repay the balance of the outstanding principal amount on February 14, 2020. The Company prepaid all outstanding interest and principal on the Term Note in February 2016. The outstanding principal amount due on the fourth anniversary of the Deerfield Facility Agreement and the related accrued but unpaid interest as of such date was converted in common stock of the Company in accordance with the provisions of the Deerfield Convertible Note. Refer to the section entitled Facility Agreement Waiver and Fifth Amendment to Senior Secured Convertible Note below. 

 

Interest accrued on outstanding debt under the Deerfield Facility Agreement is due quarterly in arrears. Upon notice to Deerfield, the Company had the option to have one or more of the first eight of such scheduled interest payments added to the outstanding principal amount of the debt issued under the Deerfield Facility Agreement, provided that all such interest was due on July 1, 2016. The Company elected this option on all eight of the scheduled interest payments through June 30, 2016. The accrued interest added to outstanding principal, was paid to Deerfield on July 1, 2016.

 

In connection with the IPO, on March 6, 2015, the Company entered into a First Amendment (the “First Amendment) to the Deerfield Facility Agreement, the Deerfield Convertible Note and Deerfield Warrant, by and between the Company and Deerfield. The First Amendment, among other things, clarified that all references to the conversion of shares of Series D Preferred into the Company’s common stock in the Deerfield Facility Agreement, the Deerfield Convertible Note and Deerfield Warrant shall include any reclassification of the outstanding shares of Series D Preferred into shares of the Company’s common stock

 

Second Amendment to Senior Secured Convertible Note and Warrant

 

On January 6, 2016, the Company entered into a Second Amendment (the “Second Amendment”) to the Deerfield Convertible Note and Deerfield Warrant, by and between the Company and Deerfield. The Second Amendment, among other things, clarified the calculation of an anti-dilution adjustment of the conversion price and exercise price of the Deerfield Convertible Note and Deerfield Warrant, respectively, in the event that the Company effects a firm commitment underwritten public offering of its securities.

 

8

 

 

Issuance of 5.50% Senior Convertible Notes and Third Amendment to Facility Agreement, Senior Secured Convertible Note and Warrant

 

On February 9, 2016, the Company issued $86.3 million aggregate principal amount of its 5.50% Senior Convertible Notes due 2021 (the “2021 Notes”) to Cowen and RBC Capital Markets, LLC, as representatives of the several initial purchasers (the “Initial Purchasers”), who subsequently resold the 2021 Notes to qualified institutional buyers (the “Note Offering”) in reliance on the exemption from registration provided by Rule 144A under the Securities Act.

 

The net proceeds from the Note Offering were approximately $82.8 million, after deducting the Initial Purchasers’ discount and estimated offering expenses. Concurrent with the Note Offering, the Company used approximately $18.6 million of the net proceeds from the Note Offering to repay in full the Term Note, plus all accrued but unpaid interest, a make-whole interest payment and a prepayment premium on the Term Note. This principal, accrued but unpaid interest, make-whole interest payment and prepayment premium on the Term Note is reflected as a cash outflow from financing activity in the statements of cash flows.  

 

The 2021 Notes were issued pursuant to an Indenture, dated as of February 9, 2016 (the “Indenture”), between the Company and U.S. Bank National Association, as trustee. Interest on the 2021 Notes is payable semi-annually in cash in arrears on February 1 and August 1 of each year, beginning on August 1, 2016, at a rate of 5.50% per year. The 2021 Notes mature on February 1, 2021 unless earlier converted or repurchased. The 2021 Notes are not redeemable prior to the maturity date, and no sinking fund is provided for the 2021 Notes.

 

The 2021 Notes are convertible at an initial conversion rate of 58.4454 shares of the Company’s common stock per $1,000 principal amount of the 2021 Notes, subject to adjustment under the Indenture, which is equal to an initial conversion price of approximately $17.11 per share of common stock. Upon conversion, the 2021 Notes will be settled in shares of the Company’s common stock, together with a cash payment in lieu of delivering any fractional share. The conversion rate will be subject to adjustment in some events but will not be adjusted for any accrued and unpaid interest. In addition, following certain corporate events that occur prior to the maturity date, the Company will increase the conversion rate for a holder who elects to convert its 2021 Notes in connection with such a corporate event in certain circumstances.

 

If the Company undergoes a “fundamental change” (as defined in the Indenture), holders may require that the Company repurchase for cash all or any portion of their 2021 Notes at a fundamental change repurchase price equal to 100% of the principal amount of the 2021 Notes to be repurchased, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date. In addition, holders who convert their 2021 Notes on or after the date that is one year after the last date of original issuance of the 2021 Notes may also be entitled to receive, under certain circumstances, an interest make-whole payment payable in shares of the Company’s common stock. The Company is bifurcating the fundamental change and make-whole interest payment provisions as embedded derivatives and marking them to fair value each reporting period (Note H).

 

The Indenture includes customary terms and covenants, including certain events of default after which the 2021 Notes may be due and payable immediately.

 

In connection with the Note Offering, on February 3, 2016, the Company entered into a Third Amendment (the “Third Amendment”) to the Deerfield Facility Agreement, Deerfield Convertible Note and Deerfield Warrant with Deerfield. The Third Amendment, among other things, eliminated the Company’s ability to require Deerfield to convert the Deerfield Convertible Note into Company common stock.  In addition, pursuant to the Third Amendment, Deerfield consented to the prepayment of the Term Note and the issuance of the 2021 Notes.

 

Fourth Amendment to Senior Secured Convertible Note and Warrant

 

In connection with entering into the ATM Agreement, on October 3, 2016, the Company entered into a Fourth Amendment (the “Fourth Amendment”) to the Deerfield Convertible Note and the Deerfield Warrant with Deerfield. The Fourth Amendment, among other things, clarifies the calculation of an anti-dilution adjustment of the conversion price and exercise price of the Deerfield Convertible Note and Deerfield Warrant, respectively, in the event that the Company effects an “at the market offering” as defined in Rule 415 of the Securities Act of its common stock.

 

Facility Agreement Waiver and Fifth Amendment to Senior Secured Convertible Note

 

On June 11, 2018, the Company entered into the Facility Agreement Waiver and Fifth Amendment (the "Fifth Amendment") to the Deerfield Convertible Note with Deerfield. The Fifth Amendment, among other things, provided that (i) $3,333,333 of the principal amount, plus $168,288 of accrued interest, of the Deerfield Convertible Note issued pursuant to the terms of the Deerfield Facility Agreement was converted into 598,568 shares of the Company’s common stock, with such principal conversion amount being applied against and in full satisfaction of the amortization payment due June 2, 2018; (ii) Deerfield waived specified rights under the Deerfield Facility Agreement with regards to such principal and interest amount; and (iii) amended specified provisions of the Deerfield Convertible Note as they relate to the delivery of shares of the Company’s common stock in connection with any conversion of the Deerfield Convertible Note.

 

Except as modified by the First Amendment, Second Amendment, Third Amendment, Fourth Amendment and Fifth Amendment, all terms and conditions of the Deerfield Facility Agreement, Deerfield Warrant and Deerfield Convertible Note remained in full force and effect.

 

Line of Credit

 

During the second quarter of 2016, the Company opened a line of credit with a total borrowing capacity of $1.1 million with City National Bank of Florida (the "Line of Credit Agreement") to support several irrevocable letters of credit issued by the bank on behalf of the Company. As of June 30, 2018, the Company had unused letters of credit in the amount of $0.4 million. The line of credit had a maturity date of January 31, 2018. On January 31, 2018, the line of credit was renewed for an additional two-year term and will now mature on January 31, 2020. As of June 30, 2018, the Company had no outstanding balances under the line of credit. The Line of Credit Agreement is collateralized by a restricted money market account, equal to the total amount of the borrowing capacity under the line of credit, held by the same bank institution. The money market account is reported as restricted cash on the condensed balance sheets. The line of credit contains no financial covenants. Borrowings under the Line of Credit Agreement carry interest at a rate equal to the 1-month London Interbank Offered Rate plus 2.00% per annum. The interest rate under the Line of Credit Agreement was 3.98% as of June 30, 2018.

  

9

 

 

 
D. Commitments and Contingencies

 

From time to time, the Company is involved in various legal proceedings arising in the normal course of business. For some matters, a liability is not probable, or the amount cannot be reasonably estimated and, therefore, an accrual has not been made. However, for such matters when it is probable that the Company has incurred a liability and can reasonably estimate the amount, the Company accrues and discloses such estimates. As of June 30, 2018 and December 31, 2017, no accruals have been made related to commitments and contingencies.

 

In  December 2016, a class action suit was filed against the Company in the Iowa District Court in Johnson County by a stockholder alleging that the Company, certain of its senior executives and directors who signed the registration statement in connection with its IPO, and each of the investment banks that acted as underwriters for the offering negligently issued untrue statements of material facts and omitted to state material facts required to be stated in the registration statement and incorporated offering materials that the Company filed with the SEC in support of the offering.

 

On June 27, 2018, the Iowa District Court dismissed the case without prejudice to members of the putative class.

 

 
E. Preferred Stock and Warrants

 

Authorized, Issued, and Outstanding Preferred Stock

 

As of June 30, 2018 and 2017, the Company had 10,000,000 shares of authorized and undesignated preferred stock, and did not have any preferred stock outstanding.

 

Warrants

 

During 2013, the Company issued $3.8 million of convertible notes and the warrants (the “2013 Warrants”) to purchase 1,079,453 shares of equity securities in a future financing meeting specified requirements (a “Qualified Financing”). The 2013 Warrants allow the holders to purchase shares of the same class and series of equity securities issued in the Qualified Financing for an exercise price equal to the per share price paid by the purchasers of such equity securities in the Qualified Financing. When the Company entered into the Deerfield Facility Agreement, the 2013 Warrants became warrants to purchase 1,079,453 shares of Series D Preferred. Upon completion of the IPO, the 2013 Warrants automatically converted into warrants to purchase 143,466 shares of the Company’s common stock at an exercise price of $5.85 per share. The 2013 Warrants, if unexercised, expire on the earlier of June 2, 2019, or upon a liquidation event.

 

On June 2, 2014, pursuant to the terms of the Deerfield Facility Agreement, the Company issued the Deerfield Warrant to purchase 14,423,076 shares of Series D Preferred (Note C). The Company recorded the fair value of the Deerfield Warrant as a debt discount and a warrant liability. The Deerfield Warrant, if unexercised, expires on the earlier of June 2, 2024, or upon a liquidation event. Upon completion of the IPO, the Deerfield Warrant automatically converted into a warrant to purchase 1,923,077 shares of the Company’s common stock at an exercise price of $5.85 per share. The Company is amortizing the debt discount over the term of the Deerfield Convertible Note and the expense is recorded as interest expense related to amortization of debt issuance costs and discount in the condensed statements of operations.

 

The Company determined that the 2013 Warrants and Deerfield Warrant should be recorded as a liability and stated at fair value at each reporting period upon inception. As stated above, upon completion of the IPO, the 2013 Warrants and the Deerfield Warrant automatically converted into warrants to purchase the Company’s common stock. The Company marked the 2013 Warrants to fair value and reclassified them to equity upon closing of the IPO. The Deerfield Warrant remains classified as a liability and is recorded at fair value at each reporting period since it can be settled in cash. Changes to the fair value of the warrant liability are recorded through the condensed statements of operations as a fair value adjustment (Note H).

 

10

 
 

 

 
F. Common Stock and Warrants

 

Authorized, Issued, and Outstanding Common Shares

 

In April 2015, the Company amended and restated its Certificate of Incorporation to increase the number of its authorized shares of common stock to 250,000,000 shares. Of the authorized shares, 15,905,146 and 14,657,430 shares of common stock were issued and outstanding as of June 30, 2018 and December 31, 2017, respectively.

 

As of June 30, 2018 and December 31, 2017, the Company had reserved authorized shares of common stock for future issuance as follows:

 

 

   

June 30,

2018

 

December 31,

2017

Conversion of Deerfield Convertible Note

    1,148,124       1,751,410  

Conversion of 2021 Notes

    5,040,914       5,040,914  

Outstanding awards under equity incentive plans

    3,682,996       2,853,924  

Outstanding common stock warrants

    2,027,763       2,027,763  

Possible future issuances under equity incentive plans

    675,897       944,700  

Total common shares reserved for future issuance

    12,575,694       12,618,711  

 

Common Stock Activity

 

The following table summarizes common stock activity for the six months ended June 30, 2018:

 

   

Shares of

Common Stock

Balance as of December 31, 2017

    14,657,430  

Common stock sold under the ATM Agreement

    625,466  
Common stock issued as a result of Deerfield Convertible Note principal and interest conversion     598,568  

Common stock options exercised

    23,682  

Balance as of June 30, 2018

    15,905,146  

 

As of June 30, 2018, the Company has sold 625,466 shares of common stock under the ATM Agreement, resulting in gross proceeds of $4.1 million.

 

 
G. Stock-Based Compensation

 

The Company maintains a stock-based compensation plan (the “Incentive Stock Plan”) that governs stock awards made to employees and directors prior to completion of the IPO.  

 

In November 2014, the Board of Directors of the Company ("the Board"), and in April 2015, the Company’s stockholders, approved the Company’s 2014 Equity Incentive Plan (the “2014 Plan”), which became effective in April 2015. The 2014 Plan provides for the grant of stock options, other forms of equity compensation, and performance cash awards. The maximum number of shares of common stock that may be issued under the 2014 Plan is 4,018,480 as of June 30, 2018. The number of shares of common stock reserved for issuance under the 2014 Plan will automatically increase on January 1 of each year, beginning on January 1, 2016, and ending on and including January 1, 2024, by 4% of the total number of shares of the Company’s capital stock outstanding on December 31 of the preceding calendar year, or a lesser number of shares determined by the Board. Pursuant to the terms of the 2014 Plan, on January 1, 2018, the common stock reserved for issuance under the 2014 Plan automatically increased by 586,297 shares.

 

During the three and six months ended June 30, 2018, stock options were exercised for a total of 22,375 and 23,682 shares of common stock, respectively. During the three and six months ended June 30, 2017, stock options were exercised for a total of 9,750 shares of common stock.

 

Stock-based compensation expense recorded under the Incentive Stock Plan and the 2014 Plan is included in the following line items in the accompanying condensed statements of operations (in thousands):

  

    Three months ended June 30,  

Six months ended June 30,

    2018   2017  

2018

 

2017

Research and development

  $ 412      $ 340     $ 787     $ 631  

General and administrative

    968       825       1,872       1,623  
Total stock-based compensation expense     1,380       1,165       2,659     $ 2,254  

 

There was no stock-based compensation expense related to performance-based awards recognized during the three or six months ended June 30, 2018 or 2017.

 

11

 
 

 

 
H. Fair Value of Financial Instruments

 

The accounting standard for fair value measurements provides a framework for measuring fair value and requires disclosures regarding fair value measurements. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, based on the Company’s principal or, in absence of a principal, most advantageous market for the specific asset or liability.

 

The Company uses a three-tier fair value hierarchy to classify and disclose all assets and liabilities measured at fair value on a recurring basis, as well as assets and liabilities measured at fair value on a non-recurring basis, in periods subsequent to their initial measurement. The hierarchy requires the Company to use observable inputs when available, and to minimize the use of unobservable inputs, when determining fair value. The three tiers are defined as follows:

 

 

Level 1—Observable inputs that reflect quoted market prices (unadjusted) for identical assets or liabilities in active markets; 

     

 

Level 2—Observable inputs other than quoted prices in active markets that are observable either directly or indirectly in the marketplace for identical or similar assets and liabilities; and

     

 

Level 3—Unobservable inputs that are supported by little or no market data, which require the Company to develop its own assumptions.

 

The carrying amounts of certain financial instruments, including cash and cash equivalents, restricted cash and accounts payable, approximate their respective fair values due to the short-term nature of such instruments.

 

The fair value of the Deerfield Convertible Note was $8.6 million and $11.0 million, respectively, as of June 30, 2018 and December 31, 2017. The fair value of the 2021 Notes was $60.5 million and $51.9 million, respectively, as of June 30, 2018 and December 31, 2017. Both the Deerfield Convertible Note and 2021 Notes fall within Level 3 of the fair value hierarchy as their value is based on the credit worthiness of the Company, which is an unobservable input. The Company used a Tsiveriotis-Fernandes model to value the Deerfield Convertible Note and 2021 Notes as of June 30, 2018 and December 31, 2017.

 

12

 

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis

 

The Company evaluates its financial assets and liabilities subject to fair value measurements on a recurring basis to determine the appropriate level in which to classify them for each reporting period. This determination requires significant judgments to be made. The following table summarizes the conclusions reached regarding fair value measurements as of June 30, 2018 and December 31, 2017 (in thousands):

 

   

Balance as of

June 30,

2018

 

Quoted Prices

in Active

Markets for

Identical Assets

(Level 1)

 

Significant 

Other

Observable

Inputs

(Level 2)

 

Significant

Unobservable

Inputs

(Level 3)

Deerfield Warrant liability

  $ 8,461     $     $  —     $ 8,461  

Embedded Warrant Put Option

    577              —        577  

Fundamental change and make-whole interest provisions embedded in 2021 Notes

    26              —        26  
Embedded Deerfield Note Put Option     2,824                   2,824  

Total liabilities

  $ 11,888     $      —     11,888  

Trading securities:

                               

Certificates of deposit

  $ 1,217     $ 1,217     $ —      $ —   

U.S. Treasury securities

    10,485       10,485       —        —   

Total assets

  $ 11,702     $ 11,702     $ —      —   

 

   

Balance as of

December 31,

2017

 

Quoted Prices

in Active

Markets for

Identical Assets

(Level 1)

 

Significant

Other

Observable

Inputs

(Level 2)

 

Significant

Unobservable

Inputs

(Level 3)

Deerfield Warrant liability

  $ 5,115     $     $     $ 5,115  

Embedded Warrant Put Option

    365                   365  
Fundamental change and make-whole interest provisions embedded in 2021 Notes     14                   14  

Embedded Deerfield Note Put Option

    2,215                   2,215  

Total liabilities

  $ 7,709     $     $     $ 7,709  

Trading securities:

                               

Certificates of deposit

  $ 5,616     $ 5,616     $     $  

U.S. Treasury securities

    25,988       25,988              

U.S. government-sponsored agency securities

    3,004             3,004        

Total assets

  $ 34,608     $ 31,604     $ 3,004     $  

 

The Company’s Deerfield Warrant liability, embedded Warrant Put Option, the fundamental change and the make-whole interest provisions embedded in the 2021 Notes and the embedded Deerfield Note Put Option, as well as the trading securities are measured at fair value on a recurring basis. As of June 30, 2018 and December 31, 2017, the Deerfield Warrant liability, embedded Warrant Put Option, the fundamental change and make-whole interest provisions embedded in the 2021 Notes, and the embedded Deerfield Note Put Option are reported on the condensed balance sheets in derivative and warrant liability, while the trading securities are reported on the condensed balance sheets in marketable securities and long-term investments. The Company used a Monte Carlo simulation to value the Deerfield Warrant liability, embedded Warrant Put Option, the fundamental change and make-whole interest provisions embedded in the 2021 Notes, and the embedded Deerfield Note Put Option as of June 30, 2018 and December 31, 2017. Significant unobservable inputs used in measuring the fair value of these financial instruments included the Company’s estimated enterprise value, an estimate of the timing of a liquidity or fundamental change event, a present value discount rate and an estimate of the Company’s stock volatility using the volatilities of guideline peer companies. Changes in the fair value of the Deerfield Warrant liability, embedded Warrant Put Option, the fundamental change and make-whole interest provisions embedded in the 2021 Notes, and the embedded Deerfield Note Put Option are reflected in the condensed statements of operations for the three and six months ended June 30, 2018 and 2017 as a fair value adjustment related to derivative and warrant liability.

 

A reconciliation of the beginning and ending balances for the derivative and warrant liability measured at fair value on a recurring basis using significant unobservable inputs (Level 3) is as follows (in thousands):

   

    Three months ended June 30,   Six months ended June 30,
    2018   2017   2018   2017

Balance as of beginning of period

  $ 17,450     $ 11,834     $ 7,709     $ 4,618  

Adjustment to fair value

    (5,562 )     (3,523 )     4,179       3,693  

Balance as of end of period

  $ 11,888     $ 8,311     $ 11,888     $ 8,311  

 

13

 

 

 
I. Net Earnings Per Share

 

Under the two-class method, for periods with net income, basic net income per common share is computed by dividing the net income attributable to common stockholders by the weighted average number of shares of common stock outstanding during the period. Net income attributable to common stockholders is computed by subtracting from net income the portion of current year earnings that participating securities would have been entitled to receive pursuant to their dividend rights had all of the year’s earnings been distributed. No such adjustment to earnings is made during periods with a net loss as the holders of the participating securities have no obligation to fund losses. Diluted net earnings per common share is computed under the two-class method by using the weighted average number of shares of common stock outstanding plus, for periods with net income attributable to common stockholders, the potential dilutive effects of stock options and warrants. In addition, the Company analyzes the potential dilutive effect of the outstanding participating securities under the if-converted method when calculating diluted earnings per share in which it is assumed that the outstanding participating securities convert into common stock at the beginning of the period. The Company reports the more dilutive of the approaches (two-class or if-converted) as its diluted net earnings per share during the period.

 

Diluted net loss per share was the same as basic net loss per share for the six months ended June 30, 2018 and the three and six months ended June 30, 2017, because the effects of potentially dilutive items were anti-dilutive for the respective periods. The following securities, presented on a common stock equivalent basis, have been excluded from the calculation of weighted average number of shares of common stock outstanding because their effect is anti-dilutive:

 

    Three months ended June 30,  

Six months ended June 30,

    2018   2017  

2018

 

2017

Warrants to purchase common stock

    104,686       2,027,763       2,027,763       2,027,763  

Awards under equity incentive plans

    3,682,996       2,873,344       3,682,996       2,873,344  

Deerfield Convertible Note

          1,750,954       1,148,124       1,750,954  

2021 Notes

    5,040,914       5,040,914       5,040,914       5,040,914  

Total securities excluded from the calculation of weighted average number of shares of common stock outstanding

    8,828,596       11,692,975       11,899,797       11,692,975  

 

The following table reconciles basic net loss per share of common stock to diluted net loss per share of common stock for the three months ended June 30, 2018 (in thousands, except per share data):

 

    Three months ended
    June 30, 2018

Basic net loss per share of common stock:

       

Net loss

  $ (9,993 )

Less: Net loss allocable to participating securities

   

 

Net loss allocable to shares of common stock

    (9,993 )

Less: Dividends declared or accumulated

     

Undistributed net loss allocable to shares of common stock, basic

  $ (9,993 )

Weighted average number of shares of common stock outstanding

    15,318  

Basic net loss per share of common stock

  $ (0.65 )

Diluted net loss per share of common stock:

       

Net loss

  $ (9,993 )
Less: Fair value adjustment income related to Deerfield Warrant liability     (2,615 )
Add back: Total interest expense related to Deerfield Convertible Note     409  

Less: Fair value adjustment income related to embedded Deerfield Note Put Option

    (2,923

)

Net loss allocable to shares of common stock, diluted

  $ (15,122

)

Weighted average number of shares of common stock outstanding

    15,318  
Dilutive effect of Deerfield Warrant     79  

Dilutive effect of Deerfield Convertible Note

    1,152  

Weighted average number of shares of common stock outstanding, diluted

    16,549  

Diluted net loss per share of common stock

  $ (0.91

)

 

14

 

 

 

Item 2.

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

 

You should read the following discussion and analysis of our financial condition and results of operations together with our unaudited condensed financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q. Some of the information contained in this discussion and analysis or set forth elsewhere in this Quarterly Report on Form 10-Q, including information with respect to our plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties. As a result of many factors, including those factors set forth in the “Risk Factors” section of this Quarterly Report on Form 10-Q, our actual results could differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

 

Unless the context otherwise requires, we use the terms “KemPharm,” “Company,” “we,” “us” and “our” in this Quarterly Report on Form 10-Q to refer to KemPharm, Inc. We have proprietary rights to a number of trademarks used in this Quarterly Report on Form 10-Q that are important to our business, including KemPharm, APADAZ, LAT and the KemPharm logo. All other trademarks, trade names and service marks appearing in this Quarterly Report on Form 10-Q are the property of their respective owners. Solely for convenience, the trademarks and trade names in this Quarterly Report on Form 10-Q are referred to without the ® and ™ symbols, but such references should not be construed as any indicator that their respective owners will not assert, to the fullest extent under applicable law, their rights thereto.

 

Forward-Looking Statements

 

This Quarterly Report on Form 10-Q, including the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933, as amended, or the Securities Act, and the Securities Exchange Act of 1934, as amended, or the Exchange Act. Forward-looking statements relate to future events or our future financial performance. We generally identify forward-looking statements by terminology such as “may,” “will,” “would,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “target,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “assume,” “intend,” “potential,” “continue” or other similar words or the negative of these terms. We have based these forward-looking statements largely on our current expectations about future events and financial trends that we believe may affect our business, financial condition and results of operations. The outcome of the events described in these forward-looking statements is subject to risks, uncertainties and other factors described in “Risk Factors” and elsewhere in this report. Accordingly, you should not place undue reliance upon these forward-looking statements. We cannot assure you that the events and circumstances reflected in the forward-looking statements will be achieved or occur, the timing of events and circumstances and actual results could differ materially from those anticipated in the forward-looking statements. Forward-looking statements contained in this report include, but are not limited to, statements about:

 

 

the progress of, timing of and expected amount of expenses associated with our research, development and commercialization activities;

     

 

the expected timing of our clinical trials for our product candidates and the availability of data and result of those trials;

     

 

our expectations regarding federal, state and foreign regulatory requirements;

     

 

the potential therapeutic benefits and effectiveness of our product and product candidates;

     

 

the size and characteristics of the markets that may be addressed by our product and product candidates;

     

 

our intention to seek to establish strategic collaborations or partnerships for the development or sale of our product and product candidates;

     

 

our expectations as to future financial performance, expense levels and liquidity sources; and

     

 

the timing of commercializing our product and product candidates.

 

The forward-looking statements made in this report relate only to events as of the date on which the statements are made. We have included important factors in the cautionary statements included in this report, particularly in the section entitled “Risk Factors” that we believe could cause actual results or events to differ materially from the forward-looking statements that we make. Our forward-looking statements do not reflect the potential impact of any future acquisitions, mergers, dispositions, joint ventures or investments we may make. Except as required by law, we do not assume any intent to update any forward-looking statements after the date on which the statement is made, whether as a result of new information, future events or circumstances or otherwise.

  

15

 

 

Overview

 

We are a specialty pharmaceutical company focused on the discovery and development of proprietary prodrugs to treat serious medical conditions through our Ligand Activated Therapy, or LAT™, platform technology. We intend to utilize our proprietary LAT platform technology to generate improved prodrug versions of drugs approved by the U.S. Food and Drug Administration, or FDA, in the high need areas of attention deficit hyperactivity disorder, or ADHD, pain and other central nervous system, or CNS, disorders. Our co-lead clinical product candidates are KP415 and KP484, both based on a prodrug of methylphenidate, but with differing extended-release, or ER, effect profiles for the treatment of ADHD. In addition, we have received FDA approval for APADAZ®, an immediate-release, or IR, combination product of benzhydrocodone, our prodrug of hydrocodone, and acetaminophen, or APAP, for the short-term (no more than 14 days) management of acute pain severe enough to require an opioid analgesic and for which alternative treatments are inadequate. We are also advancing KP201/IR, an APAP-free IR formulation of our benzhydrocodone prodrug for the treatment of acute pain severe enough to require an opioid analgesic and for which alternative treatments are inadequate.

 

To date, we have not generated any revenue. We have incurred operating losses since our inception and, as of June 30, 2018, had an accumulated deficit of $200.9 million. Our losses from operations for the three and six months ended June 30, 2018 and 2017 were $13.9 and $8.2 million and $28.7 and $15.6 million, respectively.

 

We expect to continue to incur significant expenses and operating losses for the foreseeable future, and those expenses and losses may fluctuate significantly from quarter-to-quarter and year-to-year. We anticipate that our expenses will increase substantially as we:

 

 

continue our ongoing preclinical studies, clinical trials and our product development activities for our pipeline of product candidates;

 

 

 

 

seek regulatory approvals for any product candidates that successfully complete clinical trials;

 

 

 

 

continue research and preclinical development and initiate clinical trials of our other product candidates;

 

 

 

 

seek to discover and develop additional product candidates either internally or in partnership with other pharmaceutical companies;

 

 

 

 

potentially establish a commercialization infrastructure and scale up external manufacturing and distribution capabilities to commercialize APADAZ and any of our other product candidates for which we may obtain regulatory approval;

 

 

 

 

adapt our regulatory compliance efforts to incorporate requirements applicable to marketed products;

 

 

 

 

maintain, expand and protect our intellectual property portfolio;

 

 

 

 

incur additional legal, accounting and other expenses in operating as a public company; and

 

 

 

 

add operational systems and personnel, including systems and personnel, if needed, to support any future commercialization efforts.

 

Our commercial revenue, if any, will be derived from sales of APADAZ or any other prodrug product candidates for which we obtain regulatory approval and we do not currently know when, if ever, APADAZ or our other product candidates will be commercially available. Accordingly, we will need to continue to rely on additional financing to achieve our business objectives. Adequate additional financing may not be available to us on acceptable terms, or at all. To the extent that we raise additional capital through the sale of equity or debt, the terms of these securities may restrict our ability to operate. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may be required to relinquish valuable rights. If we are unable to raise capital when needed or on attractive terms, we could be forced to delay, reduce or altogether cease our research and development programs or future commercialization efforts.

    

16

 

 

Our Prodrug Product and Product Candidates

 

We have employed our LAT platform technology to create a portfolio of product candidates that we believe will offer significant improvements over FDA-approved and widely-prescribed drugs. On February 23, 2018, we announced that the FDA approved our New Drug Application, or NDA, for APADAZ for the short-term (no more than 14 days) management of acute pain severe enough to require an opioid analgesic and for which alternative treatments are inadequate.

 

On July 9, 2018, we announced top line results from our pivotal efficacy and safety clinical trial of KP415. Results from the trial, or KP415.E01, indicated that KP415 successfully met the primary efficacy endpoint in patients with ADHD between the ages of 6 and 12 years. The trial was a multicenter, randomized, parallel, double-blind, placebo-controlled analog laboratory classroom clinical trial in 150 children aged 6-12 years old with a diagnosis of ADHD to assess the efficacy and safety of KP415. Subjects who received KP415 met the trial’s primary and secondary efficacy endpoint, showing statistically significant improvement on both the Swanson, Kotkin, Agler, M-Flynn, and Pelham Scale and the Permanent Product Measure of Performance scale.

 

Our product and pipeline of product candidates is summarized in the table below:

 

Selected KemPharm Prodrug Product and Product Candidates

 

 

 

Product

 

Development

 

Key

Indication / Parent Drug

 

Candidate

 

Status

 

Milestone

ADHD

 

 

 

 

 

 

Methylphenidate (ER)

 

KP415

 

Clinical

 

NDA Submission - Q1 2019

Oral and Intranasal Human Abuse Potential Data - 2H 2018

Methylphenidate (ER)   KP484   Clinical  

NDA Submission - 2019

Pivotal Efficacy Trial Data - 2019

PAIN

 

 

 

 

 

 

Hydrocodone/APAP   APADAZ   FDA Approved   Potential Commercial Partnerships

Hydrocodone

 

KP201/IR

 

Clinical

 

NDA Submission with Expected Priority Review - 2019

Intranasal Human Abuse Potential Data - 2019

Hydromorphone

 

KP511/ER

 

Clinical

 

NDA Submission with Expected Priority Review - 2020

Human Proof of Concept Data - 2019

Hydromorphone

 

KP511/IR

 

Clinical

 

NDA Submission with Expected Priority Review - 2019

Bioequivalence and Human Abuse Potential Data - 2019

Oxycodone

 

KP606/IR

 

Preclinical

 

 

Oxymorphone

 

KP746

 

Preclinical

 

 

MULTIPLE CNS DISORDERS

 

 

 

 

 

 

Quetiapine

 

KP303

 

Preclinical

 

 

 

Achievement of key milestones and potential NDA submissions listed in the table above for KP201/IR, KP511/ER and KP511/IR are in-part dependent upon the status of commercialization efforts for APADAZ.  

 

17

 

 

Third-Party Agreements

 

In November 2009, we entered into a supply agreement with Johnson Matthey Inc., or JMI, whereby JMI has agreed to supply us with all the KP201 necessary for clinical trials and commercial sale for a price equal to JMI's manufacturing cost and to provide process optimization and development services for KP201. In exchange, we issued shares of our common stock to JMI, provided that the commercial supply arrangement for KP201 would be exclusive to JMI in the United States and agreed to pay JMI royalties on the net sales of any products that utilize KP201 as the active pharmaceutical ingredient, or API. The percentage royalty rate ranges from the high teens at low volumes to the mid-single digits at higher volumes. Our FDA-approved drug, APADAZ, and product candidate, KP201/IR, both contain KP201.

 

We are responsible for all costs of any KP201 manufactured during a specified validation process for APADAZ and KP201/IR. After completion of the validation process, but prior to the commercial launch of any products that utilize KP201 as the API, JMI will manufacture batches of KP201 at a price to be negotiated. Failure to agree upon this pricing would result in JMI supplying these batches to us free of charge and we would pay JMI an additional royalty payment on such batches. The percentage royalty rate ranges from the low teens at low volumes to the low single digits at higher volumes and is additive to any minimum royalty we may owe JMI on such batch. JMI will manufacture and supply KP201 at a price equal to JMI's fully allocated manufacturing cost after commercial launch of APADAZ, as well as for KP201/IR should we obtain approval for marketing from the FDA.

 

We must purchase all our U.S. KP201 needs from JMI and JMI cannot supply KP201 to other companies. After the commercial launch of any product that utilizes KP201 as the API, JMI is required to identify a secondary manufacturing site and qualify and validate that site to produce KP201.

 

The term of the supply agreement extends as long as we hold a valid and enforceable patent for KP201 or until the tenth anniversary of the commercial launch of any product that utilizes KP201 as the API, whichever date is later. Upon the expiration of such term, the agreement will automatically renew for a period of two years unless either party provides 12 months' prior notice of its intent not to renew.

 

Under our March 2012 asset purchase agreement with Shire Pharmaceuticals, LLC, or Shire, has a right of first refusal to acquire, license or commercialize KP415 and KP484.

 

Under our March 2012 termination agreement with Aquestive Therapeutics (formerly known as MonoSol Rx, LLC), or Aquestive, Aquestive has the right to receive an amount equal to a percentage in the low teens of any value generated by KP415 or KP484, and any product candidates arising therefrom, including royalty payments on any license of KP415 or KP484, the sale of KP415 or KP484 to a third party, the commercialization of KP415 or KP484 and the portion of any consideration that is attributable to the value of KP415 or KP484 and paid to us or our stockholders in a change of control transaction.

 

18

 

 

Results of Operations

 

Comparison of the three months ended June 30, 2018 and 2017 (in thousands):

 

   

Three months ended June 30,

 

Period-to-

   

2018

 

2017

 

Period Change

Revenue

  $     $     $  

Operating expenses:

                       

Research and development

    10,488       4,650       5,838  

General and administrative

    3,420       3,574       (154 )

Total operating expenses

    13,908       8,224       5,684  

Loss from operations

    (13,908 )     (8,224 )     (5,684 )

Other (expense) income:

                       

Interest expense related to amortization of debt issuance costs and discount

    (390 )     (390 )      

Interest expense on debt principal

    (1,419 )     (1,443 )     24  

Fair value adjustment related to derivative and warrant liability

    5,562       3,523       2,039  

Interest and other income, net

    123       13       110  

Total other (expense) income

    3,876       1,703       2,173  

Loss before income taxes

    (10,032 )     (6,521 )     (3,511 )

Income tax benefit

    39       4       35  

Net loss

  $ (9,993 )   $ (6,517 )   $ (3,476 )

 

Net Loss

 

Net loss for the three months ended June 30, 2018 was $10.0 million, an increase of $3.5 million compared to net loss for the three months ended June 30, 2017 of $6.5 million. The increase was primarily attributable to an increase in loss from operations of $5.7 million, partially offset by an increase in fair value adjustment income related to changes in the derivative and warrant liability of $2.0 million and net interest income and other items of $0.2 million.

 

Research and Development

 

Research and development expenses increased by $5.8 million, from $4.7 million for the three months ended June 30, 2017, to $10.5 million for the three months ended June 30, 2018. This increase was attributable to an increase in net third-party research and development costs primarily related to our clinical trials for KP415.

 

General and Administrative

 

General and administrative expenses decreased by $0.2 million, from $3.6 million for the three months ended June 30, 2017, to $3.4 million for the three months ended June 30, 2018. This decrease was primarily attributable to a decrease in general and administrative costs related to overhead.  

 

Other (Expense) Income

 

Other (expense) income increased by $2.2 million, from income of $1.7 million for the three months ended June 30, 2017, to income of $3.9 million for the three months ended June 30, 2018. This period-to-period increase in income was primarily attributable to the increased fair value adjustment related to changes in derivative and warrant liability.

 

19

 

 

Comparison of the six months ended June 30, 2018 and 2017 (in thousands):

 

   

Six months ended June 30,

 

Period-to-

   

2018

 

2017

 

Period Change

Revenue

  $     $     $  

Operating expenses:

                       

Research and development

    22,125       8,764       13,361  

General and administrative

    6,552       6,840       (288

)

Total operating expenses

    28,677       15,604       13,073  

Loss from operations

    (28,677

)

    (15,604

)

    (13,073

)

Other (expense) income:

                       

Interest expense related to amortization of debt issuance costs and discount

    (780

)

    (780

)

     

Interest expense on debt principal

    (2,861

)

    (2,884

)

    23

 

Fair value adjustment related to derivative and warrant liability

    (4,179

)

    (3,693

)

    (486

)

Interest and other income, net

    238       114       124  

Total other (expense) income

    (7,582

)

    (7,243

)

    (339

)

Loss before income taxes

    (36,259

)

    (22,847

)

    (13,412 )

Income tax benefit

    47       8       39  

Net loss

  $ (36,212

)

  $ (22,839

)

  $ (13,373 )

 

Net Loss

 

Net loss for the six months ended June 30, 2018 was $36.2 million, an increase of $13.4 million compared to net loss for the six months ended June 30, 2017 of $22.8 million. The increase was primarily attributable to an increase in loss from operations of $13.1 million and an increase in fair value adjustment expense related to changes in the derivative and warrant liability of $0.5 million. These increases in expenses were partially offset by an increase in net interest income and other items of $0.2 million.

 

Research and Development

 

Research and development expenses increased by $13.3 million, from $8.8 million for the six months ended June 30, 2017, to $22.1 million for the six months ended June 30, 2018. This increase was attributable to an increase in net third-party research and development costs primarily related to our clinical trials for KP415.

 

General and Administrative

 

General and administrative expenses decreased by $0.2 million, from $6.8 million for the six months ended June 30, 2017, to $6.6 million for the six months ended June 30, 2018. This decrease was primarily attributable to a decrease in general and administrative costs related to overhead.  

 

Other (Expense) Income

 

Other (expense) income increased by $0.4 million, from expense of $7.2 million for the six months ended June 30, 2017, to expense of $7.6 million for the six months ended June 30, 2018. This period-to-period increase in expense was primarily attributable to the increased fair value adjustment related to changes in derivative and warrant liability.

 

20

 

 

Liquidity and Capital Resources

 

Sources of Liquidity

 

Through June 30, 2018, we have funded our research and development and operating activities primarily through the issuance of $115.9 million of debt, $25.3 million of private placements of redeemable convertible preferred stock and the sale of common stock in our initial public offering, or IPO, and through our Common Stock Sales Agreement, or the ATM Agreement, with Cowen and Company, LLC, or Cowen. As of June 30, 2018, we had cash and cash equivalents of $16.5 million, restricted cash of $1.1 million and marketable securities of $11.7 million. We completed the closing of our IPO in 2015, pursuant to which we received net proceeds, including net proceeds from the underwriters' exercise of their option to purchase additional shares, of $59.9 million, after deducting underwriting discounts and commissions of $4.5 million. In addition, we incurred offering expenses totaling $2.8 million.

 

We filed a registration statement on Form S-3 covering the sale from time to time of up to $150.0 million of our common stock, preferred stock, debt and/or warrants, which was declared effective by the Securities and Exchange Commission, or SEC, on October 17, 2016.

 

On October 3, 2016, we entered into the ATM Agreement with Cowen under which we may offer and sell, from time to time, in our sole discretion, shares of common stock having an aggregate offering price of up to $50,000,000 through Cowen as our sales agent. The registration statement on Form S-3 included a prospectus covering the offering up to $20,000,000 of shares of common stock in accordance with the ATM Agreement. As of June 30, 2018, we have sold 625,466 shares of our common stock under the ATM Agreement resulting in gross proceeds of $4.1 million.

 

We have incurred operating losses since our inception and, as of June 30, 2018, had an accumulated deficit of $200.9 million. We anticipate that we will continue to incur operating losses for at least the next several years. We expect that our operating expenses will continue to increase and, as a result, we will need additional capital to fund our operations, which we may obtain through one or more equity offerings, debt financings or other third-party funding, including potential strategic alliances and licensing or collaboration arrangements.

 

Convertible Debt

 

As of June 30, 2018, we had $93.0 million of convertible notes outstanding, consisting of the 9.75% senior secured loan due 2020, or the Deerfield Convertible Note, in the principal amount of $6.7 million and the 5.50% Senior Convertible Notes due 2021, or the 2021 Notes, in the aggregate principal amount of $86.3 million.

 

Deerfield Facility Agreement

 

In June 2014, we entered into the $60.0 million multi-tranche credit facility, or the Deerfield Facility Agreement, with Deerfield Private Design Fund III, LP, or Deerfield. At the time we entered into the Deerfield Facility Agreement, we borrowed the first tranche, which consisted of a $15.0 million term note and the $10.0 million convertible note. We used approximately $18.6 million of the net proceeds from the offering of the 2021 Notes to repay in full the $15.0 million original principal amount on the term note issued under the Deerfield Facility Agreement plus all accrued but unpaid interest on the term note, a make whole interest payment on the term note and a prepayment premium on the term note. Deerfield is no longer obligated to provide us any additional disbursements under the Deerfield Facility Agreement. 

 

All loans issued under the Deerfield Facility Agreement, including the Deerfield Convertible Note, bear interest at 9.75% per annum. Interest accrued on outstanding debt under the Deerfield Facility Agreement is due quarterly in arrears. Upon notice to Deerfield, we may choose to have one or more of the first eight of such scheduled interest payments added to the outstanding principal amount of the debt issued under the Deerfield Facility Agreement, provided that all such interest was due on July 1, 2016. We elected this option on all eight of the scheduled interest payments through June 30, 2016 and paid all such interest on July 1, 2016. We must repay one-third of the outstanding principal amount of all debt issued under the Deerfield Facility Agreement on the fourth and fifth anniversaries of the Deerfield Facility Agreement. We are then obligated to repay the balance of the outstanding principal amount on February 14, 2020.

 

On June 11, 2018, the Company entered into the Fifth Amendment with Deerfield. The Fifth Amendment, among other things, provided that (i) $3,333,333 of the principal amount, plus $168,288 of accrued interest, of the Deerfield Convertible Note issued pursuant to the terms of the Deerfield Facility Agreement was converted into 598,568 shares of our common stock, with such principal conversion amount being applied against and in full satisfaction of the amortization payment due June 2, 2018; (ii) Deerfield waived specified rights under the Deerfield Facility Agreement with regards to such principal and interest amount; and (iii) amended specified provisions of the Deerfield Convertible Note as they relate to the delivery of shares of the Company’s Common Stock in connection with any conversion of the Deerfield Convertible Note.

 

Prepayment of the outstanding balance is not allowed without written consent of Deerfield. However, in connection with our offering of the 2021 Notes, on February 3, 2016, we entered into an amendment to the Deerfield Facility Agreement in which Deerfield consented to the prepayment of its $15.0 million term note and the issuance of the 2021 Notes.

 

Pursuant to the Deerfield Facility Agreement, we issued to Deerfield 1,923,077 shares of our Series D redeemable convertible preferred stock, or Series D Preferred, as consideration for the loans provided to us thereunder. Upon closing of our IPO, these shares of Series D Preferred reclassified into 256,410 shares of our common stock.

 

21

 

 

We also issued to Deerfield a warrant to purchase 14,423,076 shares of our Series D Preferred at an initial exercise price of $0.78 per share, or the Deerfield Warrant. Upon closing of our IPO, this warrant converted into a warrant exercisable for 1,923,077 shares of our common stock at an exercise price of $5.85 per share.

 

Pursuant to the Deerfield Facility Agreement, we may not enter into specified transactions, including a debt financing in the aggregate value of $750,000 or more, a merger, an asset sale or any other change of control transaction or any joint venture, partnership or other profit-sharing arrangement, without the prior approval of Deerfield. Additionally, if we were to enter into a major transaction, including a merger, consolidation, sale of substantially all of our assets or other change of control transaction, Deerfield would have the ability to demand that prior to consummation of such transaction we repay all outstanding principal and accrued interest of the Deerfield Convertible Note. Deerfield has the right to demand that we redeem the Deerfield Warrant for a cash amount equal to the Black-Scholes value of a portion of the warrant upon the occurrence of specified events, including a merger, an asset sale or any other change of control transaction.

 

The Deerfield Facility Agreement also includes high yield discount obligation protections that go into effect in June 2019. After this time, if at any interest payment date our outstanding indebtedness under the Deerfield Facility Agreement would qualify as an "applicable high yield discount obligation" under the Internal Revenue Code of 1986, as amended, or the Internal Revenue Code, then we are obligated to prepay in cash on each such date the amount necessary to avoid such classification.

 

2021 Notes

 

In February 2016, we issued the 2021 Notes in aggregate principal amount of $86.3 million. The 2021 Notes were originally issued to Cowen and RBC Capital Markets, LLC as representatives of the several initial purchasers, who subsequently resold the 2021 Notes to qualified institutional buyers in reliance on the exemption from registration provided by Rule 144A under the Securities Act.  

 

The 2021 Notes were issued pursuant to an indenture, dated as of February 9, 2016, or the indenture, between the Company and U.S. Bank National Association, as trustee. Interest on the 2021 Notes is payable semi-annually in cash in arrears on February 1 and August 1 of each year, beginning on August 1, 2016, at a rate of 5.50% per year. The 2021 Notes mature on February 1, 2021 unless earlier converted or repurchased.  

 

The 2021 Notes are not redeemable prior to the maturity date, and no sinking fund is provided for the 2021 Notes. The 2021 Notes are convertible at an initial conversion rate of 58.4454 shares of our common stock per $1,000 principal amount of the 2021 Notes, subject to adjustment under the indenture, which is equal to an initial conversion price of approximately $17.11 per share of our common stock. Upon conversion, the 2021 Notes will be settled in shares of our common stock, together with a cash payment in lieu of delivering any fractional shares. The conversion rate will be subject to adjustment in some events but will not be adjusted for any accrued and unpaid interest. In addition, following certain corporate events that occur prior to the maturity date, we will increase the conversion rate for a holder who elects to convert its 2021 Notes in connection with such a corporate event in certain circumstances. These notes are not considered participating securities.

 

If we undergo a "fundamental change" (as defined in the indenture), holders may require that we repurchase for cash all or any portion of their 2021 Notes at a fundamental change repurchase price equal to 100% of the principal amount of the 2021 Notes to be repurchased, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date.

 

Holders who convert on or after the date that is one year after the last date of original issuance of the 2021 Notes may also be entitled to receive, under certain circumstances, an interest make-whole payment payable in shares of our common stock.

 

The indenture includes customary terms and covenants, including certain events of default after which the 2021 Notes may be due and payable immediately.

  

22

 

 

Cash Flows

 

The following table summarizes our cash flows for the six months ended June 30, 2018 and 2017 (in thousands):

 

   

Six months ended June 30,

   

2018

 

2017

Net cash used in operating activities

  $ (23,251   $ (15,994

Net cash provided by investing activities

     24,911        11,741  

Net cash provided by (used in) financing activities

     3,966        (123 )

Net increase (decrease) in cash, cash equivalents and restricted cash

   5,626     (4,376

 

Operating Activities

 

For the six months ended June 30, 2018, net cash used in operating activities of $23.3 million consisted of a net loss of $36.2 million, primarily attributable to our spending on research and development programs, partially offset by $10.0 million in adjustments for non-cash items and $2.9 million in changes in working capital. The adjustments for non-cash items primarily consisted of stock-based compensation expense of $2.7 million, a non-cash loss related to the change in the fair value of our derivative and warrant liabilities of $4.2 million, non-cash interest expense of $2.2 million, amortization of debt issuance costs and debt discount of $0.8 million, and $0.1 million related to depreciation, amortization and other items. The changes in working capital consisted of $4.0 million related to an increase in accounts payable and accrued expenses, partially offset by a change of $1.0 million related to an increase in prepaid expenses and other assets and a change of $0.1 million related to a decrease in other liabilities.

 

For the six months ended June 30, 2017, net cash used in operating activities of $16.0 million consisted of a net loss of $22.8 million primarily attributable to our spending on research and development programs and $2.4 million in changes in working capital; partially offset by $9.2 million in adjustments for non-cash items. The changes in working capital consisted of $2.3 million related to a decrease in accounts payable and accrued expenses and $0.2 million related to and increase prepaid expenses and other assets; partially offset by $0.1 million of other liabilities. The adjustments for non-cash items primarily consisted of a non-cash loss related to the change in the fair value of our derivative and warrant liabilities of $3.7 million, stock-based compensation expense of $2.3 million, non-cash interest expense of $2.2 million, amortization of debt issuance costs and debt discount of $0.8 million and $0.2 million related to depreciation and amortization.

 

Investing Activities

 

For the six months ended June 30, 2018, net cash provided by investing activities was $24.9 million, which was entirely attributable to maturities and sales of marketable securities.

 

For the six months ended June 30, 2017, net cash provided by investing activities was $11.7 million, which was primarily attributable to maturities of marketable securities of $32.8 million; partially offset by purchases of marketable securities and long-term investments of $20.9 million and purchases of property and equipment of $0.2 million.

 

Financing Activities

 

For the six months ended June 30, 2018, net cash provided by financing activities was $4.0 million. This consisted of net proceeds from the issuance of common stock under the ATM agreement of $4.0 million and proceeds from the exercise of common stock options of $0.1 million, partially offset by repayment of $0.1 million of obligations under capital lease arrangements.

 

For the six months ended June 30, 2017, net cash used in financing activities was $123,000, which was primarily attributable to repayments of obligations under capital lease arrangements of $77,000 and payments of deferred offering costs of $50,000; partially offset by proceeds from the exercise of common stock warrants of $4,000.

  

23

 

 

Future Funding Requirements

 

To date, we have not generated any revenue. We do not know when, or if, we will generate any revenue. We do not expect to generate significant revenue unless or until we commercialize APADAZ and/or we obtain regulatory approval of and commercialize one of our product candidates. In addition, we expect our expenses to increase in connection with our ongoing development activities, particularly as we continue the research, development and clinical trials of, and seek regulatory approval for, product candidates. We also have not determined our strategy for commercializing APADAZ, and we cannot guarantee that any strategy we adopt will be successful. We also expect to continue to incur additional costs associated with operating as a public company. In addition, we expect to incur significant commercialization expenses for product sales, marketing, manufacturing and distribution of APADAZ and any of our other product candidates that achieve regulatory approval. We anticipate that we will need substantial additional funding in connection with our continuing operations.

 

Our unaudited condensed financial statements for the quarter ended June 30, 2018 include an explanatory paragraph stating that out recurring losses and negative operating cash flows raise substantial doubt about our ability to continue as a going concern. While we believe that we will be able to raise the capital we need to continue our operations, there can be no assurances that we will be successful in these efforts or will be able to resolve our liquidity issues or eliminate our operating losses.

 

Based upon our current operating plan, existing cash resources as of June 30, 2018 are not expected to be sufficient to fund operating expense and capital investment requirements through the first quarter of 2019. We have based our estimates on assumptions that may prove to be wrong, and we may use our available capital resources sooner than we currently expect and we cannot guarantee that we will be able to generate sufficient proceeds from our ATM offering or other funding transactions to fund our operating expenses. To meet any additional cash requirements, we may seek to sell additional equity or convertible securities that may result in dilution to our stockholders. Because of the numerous risks and uncertainties associated with the development and commercialization of products and product candidates, we are unable to estimate the amounts of increased capital outlays and operating expenditures necessary to complete the commercialization and development of any of our product or product candidates.

 

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

 

 

the progress and results of our preclinical studies, clinical trials and other product development and commercialization activities;

 

 

 

 

the ability to obtain differentiating claims in the labels for our product candidates;

 

 

 

 

the number and development requirements of product candidates that we may pursue;

 

 

 

 

the costs, timing and outcome of regulatory review of our product candidates;

 

 

 

 

the efforts necessary to institute post-approval regulatory compliance requirements for APADAZ and our product candidates;

 

 

 

 

the costs and timing of commercialization activities, including product manufacturing, marketing, sales and distribution, for APADAZ and any of our other product candidates for which we receive marketing approval;

 

 

 

 

the revenue, if any, received from commercial sales of APADAZ and any other product candidates for which we receive marketing approval, which may be affected by market conditions, including obtaining coverage and adequate reimbursement of APADAZ and our product candidates from third-party payors, including government programs and managed care organizations, and competition within the therapeutic class to which APADAZ and our product candidates are assigned;

 

 

 

 

the costs and timing of preparing, filing and prosecuting patent applications, maintaining and enforcing our intellectual property rights and defending any intellectual property-related claims; and

 

 

 

 

the extent to which we acquire or in-license other products or product candidates and technologies.

 

Our commercial revenue, if any, will be derived from sales of APADAZ or our prodrug product candidates and we do not currently know when, if ever, APADAZ or our product candidates will be commercially available. Accordingly, we will need to continue to rely on additional financing to achieve our business objectives. Adequate additional financing may not be available to us on acceptable terms, or at all. To the extent that we raise additional capital through the sale of equity or debt, the terms of these securities or this debt may restrict our ability to operate. The Deerfield Facility Agreement includes, and any future debt financing and equity financing, if available, may involve agreements that include, covenants limiting and restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures, entering into profit-sharing or other arrangements or declaring dividends. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may be required to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or to grant licenses on terms that may not be favorable to us.

 

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Off-Balance Sheet Arrangements

 

During the periods presented, we did not have, nor do we currently have, any off-balance sheet arrangements as defined under SEC rules.

 

Critical Accounting Policies and Significant Judgements and Estimates

 

This management’s discussion and analysis of our financial condition and results of operations is based on our financial statements, which we have prepared in accordance with accounting principles generally accepted in the United States. The preparation of our financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of our financial statements, as well as the reported revenues and expenses during the reported periods. We evaluate these estimates and judgements on an ongoing basis. We base our estimates on historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgements about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

 

Our critical accounting policies have not changed materially from those described in Note B of our Annual Report on Form 10-K for the fiscal year ended December 31, 2017, filed with the SEC on March 30, 2018.

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

 

Not applicable.

 

Item 4.

Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

We maintain "disclosure controls and procedures," as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.

 

Our management, with the participation of our chief executive officer and our chief financial officer, evaluated the effectiveness of our disclosure controls and procedures as of June 30, 2018. Based on the evaluation of our disclosure controls and procedures as of June 30, 2018, our chief executive officer and our chief financial officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.

 

Changes in Internal Control Over Financial Reporting

 

There was no change in our internal control over financial reporting identified in connection with the evaluation required by Rules 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during our fiscal quarter ended June 30, 2018 that 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

 

In December 2016, a class action suit was filed against us in the Iowa District Court in Johnson County by a stockholder alleging that we, certain of our senior executives and directors who signed the registration statement in connection with our IPO, and each of the investment banks that acted as underwriters for the offering negligently issued untrue statements of material facts and omitted to state material facts required to be stated in the registration statement and incorporated offering materials that we filed with the SEC in support of the offering. The plaintiff did not quantify any alleged damages in his complaint but, in addition to attorneys' fees and costs, the plaintiff sought to recover damages and obtain other relief on behalf of himself and all other persons who purchased our common stock pursuant or traceable to the offering and the registration statement and who were allegedly damaged thereby.

 

In January 2017, the suit was removed to the U.S. District Court for the Southern District of Iowa. The plaintiff subsequently filed a motion to remand the case to the Iowa District Court, and that motion was granted. In January 2018, the Iowa District Court issued an order postponing all deadlines and the setting of any schedule in the case pending a decision by the United States Supreme Court in Cyan, Inc. v. Beaver County Employees Retirement Fund. In March 2018, the Supreme Court issued its decision in Cyan and held that state courts have subject matter jurisdiction over putative class actions like the one filed against us, which assert claims arising under the Securities Act. Accordingly, the case proceeded in Iowa District Court. On May 14, 2018, the defendants filed a motion to stay all discovery pending resolution of the defendants’ forthcoming motions to dismiss. On May 22, 2018, the defendants filed a motion requesting special assignment of judge.  Plaintiff opposed both motions. On May 29, 2018, we (and certain of our officers and directors) and the underwriters filed separate motions to dismiss. On June 27, 2018, plaintiff filed an unopposed motion for voluntary dismissal of the action. On June 27, 2018, the Iowa District Court dismissed the case without prejudice to members of the putative class.

 

From time to time, we may be involved in routine legal proceedings, as well as demands, claims and threatened litigation, which arise in the normal course of our business. As of the date of this report we are unable to predict whether the pending litigation described above could have a material adverse effect on our results of operations or financial condition.

 

Item 1A.

Risk Factors

 

You should carefully consider all the risk factors and uncertainties described below, in addition to other information contained in this Quarterly Report on Form 10-Q, including the section of this report titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our condensed financial statements and related notes, before investing in our common stock. If any of the following risks materialize, our business, financial condition and results of operations could be seriously harmed. This Quarterly Report on Form 10-Q also contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward-looking statements because of factors that are described below and elsewhere in this Quarterly Report on Form 10-Q.

  

Risks Related to Our Financial Position and Capital Needs 

 

We have incurred significant operating losses since our inception. We expect to incur operating losses over the next several years and may never achieve or maintain profitability.

 

We have incurred operating losses since our inception and, as of June 30, 2018, had an accumulated deficit of $200.9 million. Our loss from operations for the three and six months ended June 30, 2018 and 2017, were $13.9 and $8.2 million and $28.7 and $15.6 million, respectively. We have financed our operations through June 30, 2018 with $25.3 million raised in private placements of redeemable convertible preferred stock, $115.9 million in convertible promissory notes and term debt, $59.9 million in aggregate net proceeds from our initial public offering and $4.1 million in gross proceeds under our ongoing ATM offering with Cowen.

 

We have devoted substantially all of our financial resources and efforts to research and development, including preclinical studies and clinical trials. We are still in the early stages of development of many of our product candidates, and we have only completed development of, and received regulatory approval for, one product, APADAZ. We expect to continue to incur significant expenses and operating losses over the next several years. Our net losses may fluctuate significantly from quarter to quarter and year to year. We anticipate that our expenses will increase substantially as we:

 

 

continue our ongoing preclinical studies, clinical trials and our product development activities for our pipeline of product candidates;

     

 

seek regulatory approvals for product candidates that successfully complete clinical trials;

     

 

continue research and preclinical development and initiate clinical trials of our product candidates;

     

 

seek to discover and develop additional product candidates either internally or in partnership with other pharmaceutical companies;

     

 

potentially establish a commercialization infrastructure and scale up external manufacturing and distribution capabilities to commercialize APADAZ and any of our product candidates for which we may obtain regulatory approval; 

     

 

increase chemistry, manufacturing and controls, or CMC, activities related to the potential commercialization of APADAZ and any of our product candidates for which we may obtain regulatory approval;

     

 

adapt our regulatory compliance efforts to incorporate requirements applicable to marketed products;

     

 

maintain, expand and protect our intellectual property portfolio;

     

 

incur additional legal, accounting and other expenses in operating as a public company; and

     

 

add operational systems and personnel, if needed, to support any future commercialization efforts.

 

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To become and remain profitable, we must succeed in developing and eventually commercializing prodrugs that generate significant revenue. This will require us to be successful in a range of challenging activities, including completing preclinical studies and clinical trials and obtaining regulatory approval of our product candidates, and manufacturing, marketing and selling APADAZ and any of our product candidates for which we may obtain regulatory approval, as well as discovering and developing additional product candidates. We are only in the preliminary stages of most of these activities. For instance, we have not yet determined our strategy for commercializing APADAZ, and we cannot guarantee that any strategy we adopt will be successful. We may never succeed in these activities and, even if we do, may never generate revenue that is significant enough to achieve profitability.

 

Because of the numerous risks and uncertainties associated with prodrug development, we are unable to accurately predict the timing or amount of expenses or when, or if, we will be able to achieve profitability. If we are required by regulatory authorities to perform studies in addition to those currently expected, or if there are any delays in the initiation and completion of our clinical trials or the development of any of our product candidates, our expenses could increase.

 

Even if we achieve profitability, we may not be able to sustain or increase profitability on a quarterly or annual basis. Our failure to become and remain profitable would depress our value and could impair our ability to raise capital, expand our business, maintain our research and development efforts, obtain product approvals, diversify our product offerings or continue our operations. A decline in our value could also cause you to lose all or part of your investment.

 

Our audited financial statements for the fiscal year ended December 31, 2017, included in our annual report on Form 10-K, contained an explanatory paragraph relating to our ability to continue as a going concern.

 

Our audited financial statements for the year ended December 31, 2017 included an explanatory paragraph stating that our recurring losses from operations and negative operating cash flows raise substantial doubt about our ability to continue as a going concern. While we believe that we will be able to raise the capital we need to continue our operations, there can be no assurances that we will be successful in these efforts or will be able to resolve our liquidity issues or eliminate our operating losses. If we are unable to obtain sufficient funding, we would need to significantly reduce our operating plans and curtail some or all of our product development, commercialization and strategic plans, and even then, we might be unable to continue as a going concern. If we are unable to continue as a going concern, we may have to liquidate our assets and may receive less than the value at which those assets are carried on our audited consolidated financial statements, and it is likely that investors will lose all or a part of their investment. If we seek additional financing to fund our business activities in the future and there remains substantial doubt about our ability to continue as a going concern, investors or other financing sources may be unwilling to provide additional funding on commercially reasonable terms or at all.

 

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We will need substantial additional funding to pursue our business objectives. If we are unable to raise capital when needed, we could be forced to delay, reduce or altogether cease our prodrug development programs or commercialization efforts.

 

Based on our current operating plan, existing resources are not expected to be sufficient to fund operating expense and capital investment requirements through the first quarter of 2019. Because of this, our audited financial statements for the year ended December 31, 2017, included an explanatory paragraph stating that our recurring losses from operations and negative cash flows raise substantial doubt about our ability to continue as a going concern. We will need to obtain substantial additional funding in connection with our continuing operations from one or more equity offerings, including our ongoing ATM offering, debt financings or other third-party funding, including potential strategic alliances and licensing or collaboration arrangements, and we cannot guarantee that we will be able to generate sufficient proceeds from our ongoing ATM offering, or be successful in completing other transactions, that will fund our operating expenses. Our future capital requirements will depend on many factors, including:

 

 

the progress and results of our preclinical studies, clinical trials, CMC and other product development and commercialization activities;

     

 

the scope, progress, results and costs of preclinical development, laboratory testing and clinical trials for our product candidates;

     

 

the ability to obtain differentiating claims in the labels for our product candidates;

     

 

the number and development requirements of other product candidates that we may pursue;

     

 

the costs, timing and outcome of regulatory review of our product candidates;

     

 

the efforts necessary to institute post-approval regulatory compliance requirements;

     

 

the costs and timing of future commercialization activities, including product manufacturing, marketing, sales and distribution, for APADAZ and any of our product candidates for which we receive marketing approval;

     

 

the revenue, if any, received from commercial sales of APADAZ or our product candidates for which we receive marketing approval, which may be affected by market conditions, including obtaining coverage and adequate reimbursement of APADAZ or our product candidates from third-party payors, including government programs and managed care organizations, and competition within the therapeutic class to which APADAZ or our product candidates are assigned; 

     

 

the costs and timing of preparing, filing and prosecuting patent applications, maintaining and enforcing our intellectual property rights and defending any intellectual property-related claims; and

     

 

the extent to which we acquire or in-license other product candidates and technologies.

 

Identifying potential product candidates and conducting preclinical studies and clinical trials is a time-consuming, expensive and uncertain process that takes years to complete, and we may not generate the necessary data or results required to obtain regulatory approval for our product candidates or claims necessary to make such candidates profitable and achieve product sales. In addition, APADAZ or our product candidates, if approved, may not achieve commercial success. Our commercial revenue, if any, will be derived from sales of prodrug products and we do not currently know when, APADAZ or any of our product candidates will be commercially available. We have not yet determined our strategy for commercializing APADAZ, and we cannot guarantee that any strategy we adopt will be successful. Accordingly, we will need to continue to rely on additional financing to achieve our business objectives. Adequate additional financing may not be available to us on acceptable terms, or at all. To the extent that we raise additional capital through the sale of equity or debt securities, the terms of these securities or this debt may restrict our ability to operate. On June 2, 2014, we entered into the Deerfield Facility Agreement. The Deerfield Facility Agreement includes, and any future debt financing and equity financing, if available, may involve agreements that include, covenants limiting and restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures, entering into profit-sharing or other arrangements or declaring dividends. Additionally, in February 2016, we issued the 2021 Notes. We are required to make periodic interest payments to the holders of the 2021 Notes and to make payments of principal upon maturity. In this regard, if holders of the 2021 Notes do not convert their 2021 Notes prior to the maturity date, we will be required to repay the principal amount of all then outstanding 2021 Notes plus any accrued and unpaid interest. We may also be required to repurchase the 2021 Notes for cash upon the occurrence of a change of control or certain other fundamental changes involving us. If our capital resources are insufficient to satisfy our debt service obligations, we will be required to seek to sell additional equity or debt or to obtain debt financing. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may be required to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or to grant licenses on terms that may not be favorable to us. In addition, we may seek additional capital due to favorable market conditions or strategic considerations even if we believe we have sufficient funds for our current or future operating plans. If we are unable to raise capital when needed or on attractive terms, we could be forced to delay, reduce or altogether cease our research and development programs or future commercialization efforts.

 

28

 

 

Our operating history may make it difficult for you to evaluate the success of our business to date and to assess our future viability.

 

We commenced active operations in 2006, and our operations to date have been largely focused on raising capital, identifying potential product candidates, broadening our expertise in the development of our prodrugs, undertaking preclinical studies and conducting clinical trials. To date, we have only one product approved by the FDA, APADAZ for the short-term (no more than 14 days) management of acute pain severe enough to require an opioid analgesic and for which alternative treatments are inadequate. We have not yet demonstrated an ability to manufacture a prodrug on a commercial scale, or arrange for a third party to do so, or conduct sales and marketing activities necessary for successful commercialization or enter into a collaboration for that purpose. We have not yet determined our strategy for commercializing APADAZ, and we cannot guarantee that any strategy we adopt will be successful. Consequently, any predictions you make about our future success or viability may not be as accurate as they could be if we had a longer operating history.

 

We may encounter unforeseen expenses, difficulties, complications, delays and other known or unknown factors in achieving our business objectives. We will need to transition at some point from a company with a research and development focus to a company capable of supporting commercial activities. We may not be successful in such a transition.

 

We expect our financial condition and operating results to continue to fluctuate significantly from quarter to quarter and year to year due to a variety of factors, many of which are beyond our control. Accordingly, you should not rely upon the results of any quarterly or annual periods as indications of future operating performance.

 

29

 

 

Risks Related to the Development of Our Product Candidates

 

Our research and development activities are focused on discovering and developing proprietary prodrugs, and we are taking an innovative approach to discovering and developing prodrugs, which may never lead to marketable prodrug products.

 

A key element of our strategy is to use our LAT platform technology to build a pipeline of prodrugs and progress product candidates based on these prodrugs through clinical development for the treatment of a variety of diseases and conditions. The scientific discoveries that form the basis for our efforts to discover and develop prodrugs are relatively new. As our scientific efforts are primarily focused on discovering novel prodrugs with new molecular structures, the evidence to support the feasibility of developing product candidates based on these discoveries is both preliminary and limited. Although our research and development efforts to date have resulted in a pipeline of prodrug product candidates in addition to APADAZ, we may not be able to develop those product candidates into prodrugs that are bioequivalent, safe and effective and that have commercially significant improvements over already approved drugs. Even if we are successful in continuing to build our pipeline, the potential product candidates that we identify may not be suitable for clinical development, for reasons including being shown to have harmful side effects, a lack of efficacy, or other characteristics that indicate that they are unlikely to be prodrugs that will receive marketing approval and achieve market acceptance. For instance, in June 2016, we received a Complete Response Letter, or CRL, from the FDA for our APADAZ NDA. Following a Formal Dispute Resolution Request, or FDRR, process and detailed discussions with the FDA, we responded to the CRL by submitting an amended NDA for APADAZ. On February 23, 2018, we announced that the FDA approved our NDA for APADAZ. If we do not successfully commercialize APADAZ and develop and commercialize our product candidates based upon our LAT platform technology, we will not be able to obtain product revenue in future periods, which likely would result in significant harm to our financial position and adversely affect our stock price.

 

30

 

 

If we are not able to obtain required regulatory approvals for our product candidates, we will not be able to commercialize them and our ability to generate revenue or profits or to raise future capital could be limited.

 

The research, testing, manufacturing, labeling, packaging, storage, approval, sale, marketing, advertising and promotion, pricing, export, import and distribution of drug products are subject to extensive regulation by the FDA and other regulatory authorities in the United States and other countries, which regulations differ from country to country and change over time. We are not permitted to market any of our product candidates in the United States until we receive approval of an NDA from the FDA, or in any foreign countries until we receive the requisite approvals in such countries. In the United States, the FDA generally requires the completion of non-clinical testing and clinical trials of each drug to establish its safety and efficacy and extensive pharmaceutical development to ensure its quality and other factors before an NDA is approved. Regulatory authorities in other jurisdictions impose similar requirements. Of the large number of drugs in development, only a small percentage result in the submission of an NDA to the FDA and even fewer are approved for commercialization.

 

Even if regulatory approval is obtained, subsequent safety, efficacy, quality or other issues can result in a product approval being suspended or withdrawn. On February 23, 2018, we announced that the FDA approved our NDA for APADAZ for the short-term (no more than 14 days) management of acute pain severe enough to require an opioid analgesic and for which alternative treatments are inadequate. Even with the regulatory approval of APADAZ by the FDA, we cannot guarantee that the FDA will approve any of our other product candidates for commercial sale. If our development efforts for our product candidates, including regulatory approval, are not successful for their planned indications or are delayed, or if adequate demand for our product candidates that are approved for marketing, if any, is not generated, our business will be harmed.

 

The success of our product candidates will depend on the receipt and maintenance of regulatory approval and the issuance and maintenance of such approval is uncertain and subject to a number of risks, including the following:

 

 

the FDA or comparable foreign regulatory authorities, institutional review boards, or IRBs, or ethics committees may disagree with the design or conduct of our clinical trials;

     

 

the results of our clinical trials may not meet the level of statistical or clinical significance required by the FDA or other regulatory agencies for marketing approval or for us to receive approval for claims that are necessary for commercialization;

     

 

the dosing in a particular clinical trial may not be at an optimal level;

     

 

patients in our clinical trials may suffer adverse effects for reasons that may or may not be related to our product candidates;

     

 

the data collected from clinical trials may not be sufficient to support submissions to regulatory authorities or to obtain regulatory approval in the United States or elsewhere;

     

 

the FDA or comparable foreign regulatory authorities may fail to approve the manufacturing processes or facilities of third-party manufacturers with which we contract for clinical and commercial supplies or may later suspend or withdraw such approval;

     

 

the approval policies or regulations of the FDA or comparable foreign regulatory authorities may significantly change in a manner rendering our clinical data insufficient for approval; and 

     

 

even if we obtain marketing approval in one or more countries, future safety or other issues could result in the suspension or withdrawal of regulatory approval in such countries.

 

We have only limited experience in filing the applications necessary to gain regulatory approvals and have relied, and expect to continue to rely, on consultants and third-party contract research organizations, or CROs, with expertise in this area to assist us in this process. Securing FDA approval requires the submission of extensive non-clinical and clinical data, information about product manufacturing processes and inspection of facilities and supporting information to the FDA for each therapeutic indication to establish a product candidate's safety and efficacy for each indication and manufacturing quality. Additionally, we cannot guarantee that regulators will agree with our assessment of the results of the clinical trials we have conducted or that any future trials will be successful. For example, in May 2016, the Anesthetic and Analgesic Drug Products Advisory Committee and the Drug Safety and Risk Management Advisory Committee of the FDA voted 16 to four for the approval of APADAZ but voted 18 to two against inclusion of abuse-deterrent labeling for APADAZ. Additionally, in June 2016, we received a CRL from the FDA for our APADAZ NDA. Following a FDRR process and detailed discussions with the FDA, we responded to the CRL we received in June 2016 by submitting an amended NDA for APADAZ for the short-term (no more than 14 days) management of acute pain severe enough to require opioid analgesic and for which alternative treatments are inadequate. On February 23, 2018, we announced that the FDA approved our NDA for APADAZ.

 

Any product candidates we develop may prove to have undesirable or unintended side effects, toxicities or other characteristics that may preclude our obtaining regulatory approval or prevent or limit commercial use with respect to one or all intended indications.

 

The process of obtaining regulatory approvals is expensive, often takes many years, if approval is obtained at all, and can vary substantially based upon, among other things, the type, complexity and novelty of the product candidates involved, the jurisdiction in which regulatory approval is sought and the substantial discretion of the regulatory authorities. Changes in the regulatory approval policy during the development period, changes in or the enactment of additional statutes or regulations, or changes in regulatory review for a submitted product application may cause delays in the approval or rejection of an application or may result in future withdrawal of approval. Regulatory approval obtained in one jurisdiction does not necessarily mean that a product candidate will receive regulatory approval in all jurisdictions in which we may seek approval, but the failure to obtain approval in one jurisdiction may negatively impact our ability to seek approval in a different jurisdiction. Failure to obtain regulatory marketing approval of our product candidates in any indication will prevent us from commercializing those product candidates for that indication, and our ability to generate revenue will be impaired.

  

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We are early in our development efforts and have only one product which has completed development and obtained regulatory approval by the FDA, APADAZ. All our other active product candidates are in clinical or preclinical development. If we are unable to commercialize APADAZ or our product candidates, or experience significant delays in doing so, our business will be harmed.

 

We are early in our development efforts and have only one product that has completed development and been approved by the FDA, APADAZ. All of our other active product candidates are in clinical or preclinical development. We currently generate no revenue from the sale of any prodrugs and we may never be able to commercialize a prodrug product. For instance, we have not yet determined our strategy for commercializing APADAZ, and we cannot guarantee that any strategy we adopt will be successful. We have invested substantially all our efforts and financial resources in the development of our LAT platform technology, the identification of potential product candidates and the development of our product candidates. Our ability to generate revenue from APADAZ and our product candidates will depend heavily on their successful development and eventual commercialization. The success of APADAZ and our product candidates will depend on several factors, including:

 

 

successful completion of preclinical studies and requisite clinical trials;

     

 

successful completion and achievement of endpoints in our clinical trials;

     

 

demonstration that the risks involved with APADAZ and our product candidates are outweighed by the benefits;

     

 

successful development of our manufacturing processes for APADAZ and our product candidates, including entering into and maintaining arrangements with third-party manufacturers;

     

 

successful completion of an FDA preapproval inspection of the facilities used to manufacture APADAZ and our product candidates, as well as select clinical trial sites;

     

 

receipt of timely marketing approvals from applicable regulatory authorities, including, if applicable, the determination by the U.S. Drug Enforcement Administration, or DEA, of the controlled substance schedule for APADAZ and a product candidate, taking into account the recommendation of the FDA;

     

 

obtaining differentiating claims in the labels for our product candidates;

     

 

obtaining and maintaining patent, trademark and trade secret protection and regulatory exclusivity for APADAZ and our product candidates and otherwise protecting our rights in our intellectual property portfolio;

     

 

maintaining compliance with regulatory requirements, including current good manufacturing practices, or cGMPs;

     

 

launching commercial sales of APADAZ and our product candidates, if and when approved, whether alone or in collaboration with others;

     

 

acceptance of APADAZ and our prodrug product candidates, if approved, by patients, the medical community and third-party payors;

     

 

competing effectively with other therapies;

     

 

obtaining and maintaining healthcare coverage and adequate reimbursement; and

     

 

maintaining a continued acceptable safety and efficacy profile of the prodrug products following approval.

 

Whether regulatory approval will be granted is unpredictable and depends upon numerous factors, including the substantial discretion of the regulatory authorities. If, following submission, our NDA for a product candidate is not accepted for substantive review or approval, the FDA or other comparable foreign regulatory authorities may require that we conduct additional studies or clinical trials, provide additional data, take additional manufacturing steps or require other conditions before they will reconsider our application. If the FDA or other comparable foreign regulatory authorities require additional studies, clinical trials or data, we would incur increased costs and delays in the marketing approval process, which may require us to expend more resources than we have available. In addition, the FDA or other comparable foreign regulatory authorities may not consider sufficient any additional required studies, clinical trials, data or information that we perform and complete or generate, or we may decide to abandon the program.

 

Although APADAZ obtained regulatory approval on February 23, 2018, it is possible that none of our other existing product candidates or any of our future product candidates will ever obtain regulatory approval, even if we expend substantial time and resources seeking such approval.

 

If we do not achieve one or more of these factors in a timely manner or at all, we could experience significant delays or an inability to successfully commercialize APADAZ or our product candidates, which would harm our business.

  

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Our ability to market and promote our products in the United States by describing their abuse-deterrent features will be determined by the FDA-approved labeling for them.

 

The commercial success of most of our product candidates will depend upon our ability to obtain FDA-approved labeling describing their abuse-deterrent features. Our failure to achieve FDA approval of product labeling containing such information will prevent our advertising and promotion of the abuse-deterrent features of our product candidates in order to differentiate them from other similar products. This would make our products less competitive in the market.

 

FDA approval is required to make claims that a product has an abuse-deterrent effect. In January 2013, the FDA published draft guidance with regard to the evaluation and labeling of abuse-deterrent opioids. This guidance was published in final form in April 2015. The FDA guidance provides direction as to the studies and data required for obtaining abuse-deterrent claims in a product label. The guidance describes four categories of label claims for abuse-deterrent products. Depending on product and study data, a combination of categories can be included in the label claims. The FDA guidance lists the following theoretical examples:

 

 

Category 1–in vitro data demonstrate the product has physical and chemical properties that are expected to deter intravenous abuse. However, abuse is still possible by the oral and nasal routes.

     

 

Category 1 and 2–in vitro data demonstrate that the product has physical and chemical properties that are expected to deter oral, nasal and intravenous abuse. However, abuse of intact product is still possible by the oral route.

     

 

Category 2 and 3–pharmacokinetic and clinical abuse potential studies indicate that the product has properties that are expected to deter abuse via the oral, intranasal and intravenous routes. However, abuse of product by these routes is still possible.

     

 

Category 4–data demonstrated a reduction in the abuse of the product in the community setting compared to the levels of abuse, overdose, and death that occurred when only formulations of the same opioid without abuse-deterrent properties were available. This reduction in abuse appears to be attributable to the product’s formulation, which deters abuse by injection or snorting of the manipulated product. However, such abuse of this product is still possible, and the product’s abuse-deterrent properties do not deter abuse associated with swallowing the intact formulation.

 

If a product is approved by the FDA to include such claims in its label, the applicant may use information about the abuse-deterrent features of the product in its marketing efforts to physicians.

 

There can be no assurance that any of our product candidates will receive FDA-approved labeling that describes the abuse-deterrent features of such products. The FDA may find that our trials do not support abuse-deterrent labeling or that our product candidates do not provide substantial abuse deterrence because, for example, their deterrence mechanisms do not address the way they are most likely to be abused. For instance, the final approved product labeling for APADAZ concluded that the overall results of the clinical program did not demonstrate abuse-deterrence by current measurement standards.

 

As with all claims, we will be required to provide adequate substantiation. For example, we will need to demonstrate that our product candidates have abuse-deterrent properties sufficient to achieve abuse-deterrent labeling.

 

Further, the FDA is not required to follow its guidance and could change this guidance, which could require us to conduct additional trials. If the FDA does not approve abuse-deterrent labeling, we will not be able to promote such products based on their abuse-deterrent features and may not be able to differentiate such products from other comparable products.

 

Even if we do receive FDA approval for abuse-deterrent claims, the claims may not be broad enough to demonstrate a substantial benefit to health care providers and patients. For instance, the claims may not encompass the more common forms of abuse for products like our product candidates. Moreover, continued investigation in Phase 4 studies following product approval may not support the continued use of abuse-deterrent claims.

  

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If we attempt to rely on Section 505(b)(2) of the Federal Food, Drug and Cosmetic Act and the FDA does not conclude that our product candidates are sufficiently bioequivalent, or have comparable bioavailability, to approved drugs, or if the FDA does not allow us to pursue the 505(b)(2) NDA pathway as anticipated, the approval pathway for our product candidates will likely take significantly longer, cost significantly more and entail significantly greater complications and risks than anticipated, and the FDA may not ultimately approve our product candidates.

 

A key element of our strategy is to seek FDA approval for most of our product candidates under Section 505(b)(2) of the Federal Food, Drug and Cosmetic Act, otherwise known as the 505(b)(2) NDA pathway with any NDA submitted thereunder a 505(b)(2) NDA, where possible. The 505(b)(2) NDA pathway permits the filing of an NDA where at least some of the information required for approval comes from studies not conducted by or for the applicant and for which the applicant has not obtained a right of reference. Such reliance is typically predicated on a showing of bioequivalence or comparable bioavailability to an approved drug.

 

If the FDA does not allow us to pursue the 505(b)(2) NDA pathway as anticipated, or if we cannot demonstrate bioequivalence or comparable bioavailability of our product candidates to approved products, we may need to conduct additional clinical trials, provide additional data and information, and meet additional standards for regulatory approval. Moreover, even if the FDA does allow us to pursue the 505(b)(2) NDA pathway, depending on the product candidate, we may still need to conduct additional clinical trials, including clinical trials to assess product safety or efficacy. For instance, we currently plan on relying on the 505(b)(2) pathway for any NDA we submit for KP415 or KP484 and KP201/IR. However, we do not anticipate that the 505(b)(2) pathway will be available for every product candidate. For instance, it is possible we will only be permitted to utilize the 505(b)(2) NDA pathway for either KP415 or KP484, but not both. If this were to occur, the time and financial resources required to obtain FDA approval for our product candidates, and complications and risks associated with our product candidates, would likely substantially increase.

 

Moreover, our inability to pursue the 505(b)(2) NDA pathway could result in new competitive products reaching the market more quickly than our product candidates, which could hurt our competitive position and our business prospects. Even if we are allowed to pursue the 505(b)(2) NDA pathway, we cannot assure you that our product candidates will receive the requisite approvals for commercialization on a timely basis, if at all. Other companies may achieve product approval of similar products before we do, which would delay our ability to obtain product approval, expose us to greater competition, and would require that we seek approval via alternative pathways, such as an abbreviated new drug application, or ANDA, which is used for the development of generic drug products.

 

In addition, notwithstanding the approval of several products by the FDA under 505(b)(2) over the last few years, pharmaceutical companies and others have objected to the FDA’s interpretation of 505(b)(2). If the FDA’s interpretation of 505(b)(2) is successfully challenged, the FDA may change its policies and practices with respect to 505(b)(2) regulatory approvals, which could delay or even prevent the FDA from approving any NDA that we submit under 505(b)(2).

 

Even if our product candidates are approved under 505(b)(2), the approval may be subject to limitations on the indicated uses for which the products may be marketed, including more limited subject populations than we request, may require that contraindications, warnings or precautions be included in the product labeling, including a black box warning, may be subject to other conditions of approval, or may contain requirements for costly post-marketing clinical trials, testing and surveillance to monitor the safety or efficacy of the products, or other post-market requirements, such as a Risk Evaluation and Mitigation Strategy, or REMS. The FDA also may not approve a product candidate with a label that includes the labeling claims necessary or desirable for the successful commercialization of that product candidate. Based upon currently approved products, we anticipate that we will be required to conduct Phase 4 studies and to implement a REMS and will have a black box warning for at least some of our product candidates.

 

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The FDA may determine that any NDA we may submit under the 505(b)(2) regulatory pathway for any of our product candidates in the future is not sufficiently complete to permit a substantive review.

 

If we were to submit an NDA under the 505(b)(2) regulatory for any of our product candidates, within 60 days of the agency’s receipt of our NDA, the FDA will make a threshold determination of whether the NDA is sufficiently complete to permit a substantive review. This 60-day review period is referred to as the filing review. If the NDA is sufficiently complete, the FDA will file the NDA. If the agency refuses to file the NDA, it will notify us and state the reason(s) for the refusal. The FDA may refuse to file our NDA for various reasons, including but not limited to, if:

 

 

the NDA is incomplete because it does not on its face contain the information required under the Federal Food, Drug and Cosmetic Act or the FDA’s regulations;

     

 

the NDA does not contain a statement that each non-clinical laboratory study was conducted in compliance with good laboratory practices requirements, or for each study not so conducted, a brief statement of the reason for the noncompliance;

     

 

the NDA does not contain a statement that each clinical trial was conducted in compliance with the IRB regulations or was not subject to those regulations, and the agency’s informed consent regulations or a brief statement of the reason for noncompliance; or

     

 

the drug is a duplicate of a listed drug approved before receipt of the NDA and is eligible for approval under an ANDA for generic drugs. 

 

In its procedures, the FDA has stated that it could find an NDA submitted under the Section 505(b)(2) regulatory pathway incomplete and refuse to file it if the NDA, among other reasons:

 

 

fails to include appropriate literature or a listed drug citation to support the safety or efficacy of the drug product;

     

 

fails to include data necessary to support any aspects of the proposed drug that represent modifications to the listed drug(s) relied upon;

     

 

fails to provide a bridge, for example by providing comparative bioavailability data, between the proposed drug product and the listed drug product to demonstrate that such reliance is scientifically justified;

     

 

uses an unapproved drug as a reference product for the bioequivalence study; or

     

 

fails to provide a patent certification or statement as required by the FDA’s regulations where the 505(b)(2) NDA relies on one or more listed drugs.

 

Additionally, the FDA will refuse to file an NDA if an approved drug with the same active moiety is entitled to five years of exclusivity, unless the exclusivity period has elapsed, or unless four years of the five-year period have elapsed, and the NDA contains a certification of patent invalidity or non-infringement. An active moiety is the molecule or ion, excluding those appended portions of the molecule that cause the drug to be an ester, salt (including a salt with hydrogen or coordination bond) or other noncovalent derivative (such as a complex, chelate, or clathrate) of the molecule, responsible for the therapeutic activity of the drug substance.

 

If the FDA refuses to file an NDA submitted by us, we may amend the NDA and resubmit it. In such a case, the FDA will again review the NDA and determine whether it may be filed. There can be no assurance that the FDA will file any NDA submitted by us in the future. If the agency refuses to file an NDA, we will need to address the deficiencies cited by the FDA, which could substantially delay the review process.

 

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Clinical drug development involves a lengthy and expensive process, with an uncertain outcome. We may incur additional costs or experience delays in completing, or ultimately be unable to complete, the development and commercialization of our product candidates.

 

The risk of failure for our product candidates is high. It is impossible to predict when or if any of our current product candidates will prove effective or safe in humans and will receive regulatory approval. Before obtaining marketing approval from regulatory authorities for the sale of any product candidate, we must complete preclinical development and then conduct clinical trials to demonstrate the safety and efficacy of our product candidates in humans. Clinical testing is expensive, difficult to design and implement, can take many years to complete and is uncertain as to outcome. A failure of one or more clinical trials can occur at any stage of testing. The outcome of preclinical studies and early clinical trials may not be predictive of the success of later clinical trials, and interim results of a clinical trial do not necessarily predict final results. Interpretation of results from early, usually smaller, studies that suggest positive trends in some subjects, requires caution. Results from later stages of clinical trials enrolling more subjects may fail to show the desired safety and efficacy results or otherwise fail to be consistent with the results of earlier trials of the same product candidates. Later clinical trial results may not replicate earlier clinical trials for a variety of reasons, including differences in trial design, different trial endpoints, or lack of trial endpoints in exploratory studies, subject population, number of subjects, subject selection criteria, trial duration, drug dosage and formulation and lack of statistical power in the earlier studies. Moreover, preclinical and clinical data are often susceptible to varying interpretations and analyses, and many companies that have believed their product candidates performed satisfactorily in preclinical studies and clinical trials have nonetheless failed to obtain marketing approval of their products. For instance, in June 2016, the FDA issued a CRL for our APADAZ NDA. In its CRL, the FDA advised us that it did not believe our proposed labeling included in the application accurately conveyed the outcome of our abuse-deterrent studies of APADAZ. Following a FDRR and detailed discussions with the FDA, we responded to the CRL we received in June 2016 by submitting an amended NDA for APADAZ. On February 23, 2018, we announced that the FDA approved our NDA for APADAZ for the short-term (no more than 14 days) management of acute pain severe enough to require an opioid analgesic and for which alternative treatments are inadequate. Despite this, the final approved product labeling for APADAZ concluded that the overall results of the clinical program did not demonstrate abuse-deterrence by current measurement standards.

 

We may experience numerous unforeseen events during, or as a result of, clinical trials that could delay or prevent our ability to receive marketing approval or commercialize our product candidates, including:

 

 

regulators or IRBs may not authorize us or our investigators to commence a clinical trial, conduct a clinical trial at a prospective trial site or amend clinical trial protocols as needed;

     

 

we may experience delays in reaching, or fail to reach, agreement on acceptable clinical trial contracts or clinical trial protocols with prospective trial sites and CROs;

     

 

clinical trials of our product candidates may produce negative or inconclusive results, including failure to demonstrate statistical significance in cases where that is required, and we may decide, or regulators may require us, to conduct additional clinical trials or abandon prodrug development programs; 

     

 

the number of subjects required for clinical trials of our product candidates may be larger than we anticipate enrollment in these clinical trials may be slower than we anticipate, or participants may drop out of these clinical trials at a higher rate than we anticipate;

     

 

our third-party contractors may fail to comply with regulatory requirements or trial protocols, or meet their contractual obligations to us in a timely manner, or at all;

     

 

regulators or IRBs may require that we or our investigators suspend or terminate clinical research for various reasons, including noncompliance with regulatory requirements or a finding that the participants are being exposed to unacceptable health risks;

     

 

the cost of clinical trials of our product candidates may be greater than we anticipate, including if we are not able to pursue the 505(b)(2) NDA pathway for approval of our product candidates;

     

 

we will need to pay substantial application user fees, which we may not be able to afford;

     

 

the supply or quality of our product candidates or other materials necessary to conduct clinical trials of our product candidates may be insufficient or inadequate;

     

 

we may abandon our development program or programs based on the changing regulatory or commercial environment;

     

 

regulatory authorities may not agree with our trial design or implementation; and

     

 

our product candidates may have undesirable side effects or other unexpected characteristics, causing us or our investigators, regulators or IRBs to suspend or terminate the trials.

 

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If we are required to conduct additional clinical trials or other testing of our product candidates beyond those that we currently contemplate, if we are unable to successfully complete clinical trials of our product candidates or other testing, if the results of these trials or tests are not positive or are only modestly positive or if there are safety concerns, we may:

 

 

be delayed in obtaining marketing approval for our product candidates;

     

 

not obtain marketing approval at all;

     

 

obtain approval for indications or patient populations that are not as broad as intended or desired;

     

 

obtain approval but without the claims necessary for us to successfully commercialize our product candidates;

     

 

obtain approval with labeling that includes significant use or distribution restrictions or safety warnings;

     

 

be subject to additional post-marketing testing, surveillance, or other requirements, such as REMS; or

     

 

have the product removed from the market after obtaining marketing approval.

 

Our prodrug development costs may also increase if we experience delays in testing or obtaining marketing approvals. We do not know whether any of our preclinical studies or clinical trials will begin as planned, will need to be restructured or will be completed on schedule, or at all. Significant preclinical study or clinical trial delays also could shorten any periods during which we may have the exclusive right to commercialize our product candidates or allow our competitors to bring products to market before we do and impair our ability to successfully commercialize our product candidates.

 

Changes in methods of product candidate manufacturing or formulation may result in additional costs or delay.

 

As product candidates are developed through preclinical studies to late-stage clinical trials towards approval and commercialization, various aspects of the development program, such as manufacturing methods and formulation, may be altered along the way in an effort to optimize processes and results. Such changes may not achieve these intended objectives. Any of these changes could cause our product candidates to perform differently and affect the results of planned clinical trials or other future clinical trials conducted with the altered materials. Such changes may also require additional testing, FDA notification or FDA approval. This could delay completion of clinical trials, require the conduct of bridging clinical trials or the repetition of one or more clinical trials, increase clinical trial costs, delay approval of our product candidates and jeopardize our ability to commence product sales and generate revenue.

 

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Our decision to seek approval of our product candidates under the 505(b)(2) NDA pathway, if available, may increase the risk that patent infringement suits are filed against us, which would delay the FDA's approval of such product candidates.

 

Regarding any NDA that we may submit under the 505(b)(2) NDA pathway, if there are patents that claim the approved drug contained in our product candidates and referenced in our 505(b)(2) NDA, we must certify to the FDA and notify the patent holder that any patents listed for the approved drug in the FDA's Orange Book publication are invalid, unenforceable or will not be infringed by the manufacture, use or sale of our prodrug. If a patent infringement lawsuit is filed against us within 45 days of its receipt of notice of our certification, the FDA is automatically prevented from approving our 505(b)(2) NDA until the earliest of 30 months, expiration of the patent, settlement of the lawsuit or a court decision in the infringement case that is favorable to us, or such shorter or longer period as may be ordered by a court. Such actions are routinely filed by patent owners. Accordingly, we may invest considerable time and expense in the development of our product candidates only to be subject to significant delay and patent litigation before our product candidates may be commercialized. We may not be successful in defending any patent infringement claim. Even if we are found not to infringe, or a plaintiff's patent claims are found invalid or unenforceable, defending any such infringement claim would be expensive and time-consuming, and would delay launch of our product candidates and distract management from their normal responsibilities.

 

We may not be successful in our efforts to develop a prodrug-based product that might allow us to seek a rare pediatric disease priority review voucher.

 

The FDA has awarded rare pediatric disease priority review vouchers to sponsors of drug candidates to treat rare pediatric disease, if the treatment sponsors apply for this designation and meet certain criteria. Under this program, upon the approval of a qualifying NDA, for the treatment of a rare pediatric disease, the sponsor of such an application would be eligible for a rare pediatric disease priority review voucher that can be used to obtain priority review for a subsequent NDA. The priority review voucher may be sold or transferred an unlimited number of times.

 

We previously announced a technology licensing agreement with Genco Sciences, LLC to develop prodrug-based therapy for potential rare pediatric indications of Tourette’s Syndrome with ADHD. We cannot guarantee that we will be successful in this effort to develop such a prodrug-based therapy. Additionally, we cannot guarantee that the FDA would grant us a rare pediatric disease designation for such a prodrug-based product candidate. Even if the FDA grants us a rare pediatric disease designation for one of our prodrug-based product candidates, designation of a drug as a drug for a rare pediatric disease does not guarantee that an NDA for such drug will meet the eligibility criteria for a rare pediatric disease priority review voucher at the time the application is approved.

 

APADAZ is, and we anticipate most of our current product candidates, if approved by the FDA, will be, subject to mandatory REMS programs, which could increase the cost, burden and liability associated with the commercialization of APADAZ and certain product candidates.

 

The FDA has indicated that some opioid drugs formulated with the active ingredients hydrocodone, fentanyl, hydromorphone, methadone, morphine, oxycodone, oxymorphone and others will be required to have a REMS to ensure that the benefits of the drugs continue to outweigh the risks. The FDA has already approved a REMS for ER and long-acting opioids as part of a federal initiative to address inappropriate prescribing and prescription drug abuse and misuse, which the FDA continually updates. The Commissioner of the FDA previously announced his intention to expand the REMS program to include IR opioids in the near future. The REMS plan introduces new safety measures designed to reduce risks and improve the safe use of ER and long-acting opioids, while ensuring access to needed medications for patients in pain. The ER and long-acting opioid REMS affects more than 32 companies that manufacture these opioid analgesics. Under the new REMS, companies are required to make education programs available to prescribers. It is expected that companies will meet this obligation by taking specific steps to ensure that health care providers are aware of the availability of the training and by providing educational grants to continuing education providers, who will develop and deliver the training. The REMS program also requires companies to make available FDA-approved patient education materials on the safe use of these drugs. The companies must perform periodic assessments of the implementation of the REMS and the success of the program in meeting its goals. The FDA will review these assessments and may require additional elements to achieve the goals of the program. Independent audits must also be conducted of the educational efforts.

 

APADAZ is subject to REMS, and we anticipate that most of our product candidates, if approved by the FDA, are likely to also be subject to a REMS requirement. As part of the FDA's approval of the NDA for APADAZ in February 2018, they also approved our plan for the APADAZ REMS program. There may be increased cost, administrative burden and potential liability associated with the marketing and sale of these types of product candidates subject to a REMS requirement, which could increase the costs to us and reduce the commercial benefits to us from the sale of these product candidates.

  

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APADAZ and our product candidates contain controlled substances, the manufacture, use, sale, importation, exportation, prescribing and distribution of which are subject to regulation by the DEA.

 

Before we can commercialize any of our product candidates, if approved, the DEA will need to determine the controlled substance schedule, taking into account the recommendation of the FDA. This may be a lengthy process that could delay our marketing of a product candidate and could potentially diminish any regulatory exclusivity periods for which we may be eligible. For APADAZ, the DEA has completed its process for determining the controlled substance schedule and determined that it will be a Schedule II drug. We expect that most of our products and our product candidates, KP415, KP484, KP201/IR, KP511/ER, KP511/IR, KP606 and KP746, if approved, will be regulated as “controlled substances” as defined in the Controlled Substances Act, or the CSA, and the implementing regulations of the DEA, which establish registration, security, recordkeeping, reporting, storage, distribution, importation, exportation, inventory, quota and other requirements administered by the DEA. These requirements are applicable to us, to our contract manufacturers and to distributors, prescribers and dispensers of our product candidates. The DEA regulates the handling of controlled substances through a closed chain of distribution. This control extends to the equipment and raw materials used in their manufacture and packaging, in order to prevent loss and diversion into illicit channels of commerce. A number of states and foreign countries also independently regulate these drugs as controlled substances.

 

The DEA regulates controlled substances as Schedule I, II, III, IV or V substances. Schedule I substances by definition have no established medicinal use and may not be marketed or sold in the United States. A pharmaceutical product may be listed as Schedule II, III, IV or V, with Schedule II substances considered to present the highest risk of abuse and Schedule V substances the lowest relative risk of abuse among such substances. Schedule II drugs are those that meet the following characteristics:

 

 

the drug has a high potential for abuse;

     

 

the drug has a currently accepted medical use in treatment in the United States or a currently accepted medical use with severe restrictions; and

     

 

abuse of the drug may lead to severe psychological or physical dependence.

 

We expect that most of our current product candidates may be listed by the DEA as Schedule II controlled substances under the CSA. If our product candidates are listed as Schedule II controlled substances, then the importation of the APIs for our product candidates, as well as the manufacture, shipping, storage, sales and use of the products, will be subject to a high degree of regulation. In addition to maintaining an importer and/or exporter registration, importers and exporters of controlled substances must obtain a permit for every import of a Schedule I or II substance and a narcotic substance in Schedule III, IV and V, as well as every export of a Schedule I or II substance and a narcotic substance in Schedule III and IV. For all other drugs in Schedule III, IV and V, importers and exporters must submit an import or export declaration. Schedule II drugs are subject to the strictest requirements for registration, security, recordkeeping and reporting. Also, distribution and dispensing of these drugs are highly regulated. For example, all Schedule II drug prescriptions must be signed by a physician, physically presented to a pharmacist and may not be refilled without a new prescription. Electronic prescriptions may also be permissible depending on the state, so long as the prescription complies with the DEA’s requirements for electronic prescriptions.

 

Controlled substances classified in Schedule III, IV, and V are also subject to registration, recordkeeping, reporting and security requirements. For example, Schedule III drug prescriptions must be authorized by a physician and may not be refilled more than six months after the date of the original prescription or more than five times. A prescription for controlled substances classified in Schedules III, IV and V issued by a physician, may be communicated either orally, in writing or by facsimile to the pharmacies. Controlled substances that are also classified as narcotics, such as hydrocodone, oxycodone and hydromorphone, are also subject to additional DEA requirements, such as manufacturer reporting of the import of narcotic raw material.

 

Annual registration is required for any facility that manufactures, distributes, dispenses, imports or exports any controlled substance. The registration is specific to the particular location, activity and controlled substance schedule. For example, separate registrations are needed for import and manufacturing, and each registration will specify which schedules of controlled substances are authorized. Similarly, separate registrations are also required for separate facilities. Acquisition and distribution transactions must also be reported for Schedule I and II controlled substances, as well as Schedule III narcotic substances.

 

In addition, a DEA quota system controls and limits the availability and production of controlled substances in Schedule I or II. Because most of our product candidates may be regulated as Schedule II controlled substances, they may be subject to the DEA’s production and procurement quota scheme. The DEA establishes annually an aggregate quota for how much of a controlled substance may be produced in total in the United States based on the DEA’s estimate of the quantity needed to meet legitimate scientific and medicinal needs. Manufacturers of Schedule I and II controlled substances are required to apply for quotas on an annual basis. If we or our contract manufacturers or suppliers do not obtain a sufficient quota from the DEA, we may not be able to obtain sufficient quantities of these controlled substances in order to complete our clinical trials or meet commercial demand, if our product candidates are approved for marketing.

 

Because of their restrictive nature, these laws and regulations could limit commercialization of our product candidates containing controlled substances. States may also have their own controlled substance laws that may further restrict and regulate controlled substances. Failure to comply with these laws and regulations could also result in withdrawal of our DEA registrations, disruption in manufacturing and distribution activities, consent decrees, criminal and civil penalties and state actions, among other consequences.

  

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If we experience delays or difficulties in the enrollment of subjects in clinical trials, our receipt of necessary regulatory approvals could be delayed or prevented.

 

We may not be able to initiate or continue clinical trials for our product candidates if we are unable to locate and enroll a sufficient number of eligible subjects to participate in these trials as required by the FDA or similar regulatory authorities outside the United States. We cannot predict how successful we will be at enrolling subjects in future clinical trials. If we are not successful at enrolling subjects in one clinical trial, it may affect when we are able to initiate our next clinical trial, which could result in significant delays in our efforts to pursue regulatory approval of and commercialize our product candidates. In addition, some of our competitors have ongoing clinical trials to treat the same indications as our product candidates, and subjects who would otherwise be eligible for our clinical trials may instead enroll in clinical trials of our competitors. Subject enrollment is affected by other factors including:

 

 

the size and nature of the subject population specified in the trial protocol;

     

 

the eligibility criteria for the study in question;

     

 

the perceived risks and benefits of the product candidate under study;

     

 

the fact that the product candidate is a controlled substance;

     

 

severe or unexpected drug-related adverse events experienced by subjects in a clinical trial;

     

 

the availability of drugs approved to treat the diseases or conditions under study;

     

 

the efforts to facilitate timely enrollment in clinical trials;

     

 

the patient referral practices of physicians;

     

 

the severity of the disease or condition under investigation;

     

 

the ability to obtain and maintain subject informed consent;

     

 

the ability to retain subjects in the clinical trial and their return for follow-up;

     

 

the clinical trial design, including required tests, procedures and follow-up;

     

 

the ability to monitor subjects adequately during and after treatment;

     

 

delays in adding new investigators and clinical sites;

     

 

withdrawal of clinical trial sites from clinical trials; and

     

 

the proximity and availability of clinical trial sites for prospective subjects.

 

Our inability to enroll a sufficient number of subjects for clinical trials would result in significant delays and could require us to abandon one or more clinical trials altogether. Enrollment delays in these clinical trials may result in increased development costs for our product candidates, which could cause our value to decline and limit our ability to obtain additional financing.

 

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Our clinical trials may fail to demonstrate the safety and efficacy of our product candidates, or serious adverse or unacceptable side effects may be identified during the development of our product candidates, which could prevent or delay regulatory approval and commercialization, increase our costs or necessitate the abandonment or limitation of the development of some of our product candidates.

 

Before obtaining regulatory approvals for the commercial sale of our product candidates, we must demonstrate through lengthy, complex and expensive preclinical studies and clinical trials that our product candidates are both safe and effective for use in each target indication, and failures can occur at any stage of testing. Clinical trials often fail to demonstrate safety and efficacy of the product candidate studied for the target indication.

 

If our product candidates are associated with side effects in clinical trials or have characteristics that are unexpected, we may need to abandon their development or limit development to more narrow uses or subpopulations in which the side effects or other characteristics are less prevalent, less severe or more acceptable from a risk-benefit perspective. The FDA or an IRB may also require that we suspend, discontinue, or limit our clinical trials based on safety information. Such findings could further result in regulatory authorities failing to provide marketing authorization for our product candidates. Many product candidates that initially showed promise in early stage testing have later been found to cause side effects that prevented further development of the product candidate.

 

We may expend our limited resources to pursue a particular product candidate or indication and fail to capitalize on product candidates or indications that may be more profitable or for which there is a greater likelihood of success.

 

Because we have limited financial and management resources, we focus on research programs and product candidates that we identify for specific indications. As a result, we may forego or delay pursuit of opportunities with other product candidates or for other indications that later prove to have greater commercial potential. Our resource allocation decisions may cause us to fail to capitalize on viable commercial drugs or profitable market opportunities. Our spending on current and future research and development programs and product candidates for specific indications may not yield any commercially viable products. If we do not accurately evaluate the commercial potential or target market for a particular product candidate, we may relinquish valuable rights to that product candidate through collaboration, licensing or other royalty arrangements in cases in which it would have been more advantageous for us to retain sole development and commercialization rights to such product candidate.

 

Social issues around the abuse of opioids and stimulants, including law enforcement concerns over diversion and regulatory efforts to combat abuse, could decrease the potential market for APADAZ or our product candidates.

 

Media stories regarding prescription drug abuse and the diversion of opioids, stimulants and other controlled substances are commonplace. Law enforcement and regulatory agencies may apply policies that seek to limit the availability of opioids and stimulants. Such efforts may inhibit our ability to commercialize APADAZ or our product candidates. Aggressive enforcement and unfavorable publicity regarding, for example, the use or misuse of hydrocodone or other opioid drugs, the limitations of abuse-deterrent formulations, public inquiries and investigations into prescription drug abuse, litigation or regulatory activity, sales, marketing, distribution or storage of our products could harm our reputation. Such negative publicity could reduce the potential size of the market for APADAZ or our product candidates and decrease the revenue we are able to generate from their sale, if approved. Similarly, to the extent prescription drug abuse becomes a less prevalent or less urgent public health issue, regulators and third-party payors may not be willing to pay a premium for formulations with improved attributes of opioids or stimulants.

 

Additionally, efforts by the FDA and other regulatory bodies to combat abuse of opioids and stimulants may negatively impact the market for APADAZ and our product candidates. For example, in April 2014, the FDA approved class-wide labeling changes to the indications for use of all approved ER and long-acting opioids so that ER and long-acting opioids will be indicated only for the management of pain severe enough to require daily, around-the-clock, long-term opioid treatment and for which alternative treatment options are inadequate. It is possible that such changes could reduce the number of prescriptions for opioids written by physicians and negatively impact the potential market for APADAZ or our product candidates. The FDA also held a public meeting in October 2014, on the development and regulation of abuse-deterrent formulations of opioid medications. Further, the Centers for Disease Control and Prevention previously issued draft guidelines for the prescribing of opioids for chronic pain, providing recommendations for primary care providers prescribing opioids for chronic pain on when to initiate or continue opioids, opioid selection and discontinuation, and the assessment of the risk and addressing harms of opioid use, among other areas. It is possible that FDA, or other regulatory bodies, will announce new regulatory initiatives at any time that may increase the regulatory burden or decrease the commercial opportunity for APADAZ or our product candidates.

 

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Risks Related to Our Dependence on Third Parties

 

We rely on and expect to continue to rely on third parties to conduct our clinical trials for our product candidates, and those third parties may not perform satisfactorily, including failing to meet deadlines for the completion of such trials.

 

We have engaged and expect to continue to engage CROs for our planned clinical trials of our product candidates. We rely on and expect to continue to rely on CROs, as well as other third parties, such as clinical data management organizations, medical institutions and clinical investigators, to conduct those clinical trials. Agreements with such third parties might terminate for a variety of reasons, including a failure to perform by the third parties. If we need to enter into alternative arrangements, our drug development activities would be delayed.

 

Our reliance on these third parties for research and development activities reduces our control over these activities but does not relieve us of our responsibilities. For example, we remain responsible for ensuring that each of our clinical trials is conducted in accordance with the general investigational plan and protocols for the trial. Moreover, the FDA requires us to comply with regulatory standards, commonly referred to as good clinical practices, or GCPs, for conducting, recording and reporting the results of clinical trials to assure that data and reported results are credible and accurate and that the rights, integrity and confidentiality of trial participants are protected. Regulatory authorities enforce these GCPs through periodic inspections of trial sponsors, investigators and trial sites. We also are required to register specified ongoing clinical trials and post the results of completed clinical trials on a government-sponsored database, ClinicalTrials.gov, within specified timeframes. In addition, we must conduct our clinical trials with product produced under cGMP requirements. Failure to comply with these regulations may require us to repeat preclinical studies and clinical trials, which would delay the regulatory approval process. Failure to comply with the applicable requirements related to clinical investigations by us, our CROs or clinical trial sites can also result in clinical holds and termination of clinical trials, debarment, FDA refusal to approve applications based on the clinical data, warning letters, withdrawal of marketing approval if the product has already been approved, fines and other monetary penalties, delays, adverse publicity and civil and criminal sanctions, among other consequences.

 

Furthermore, these third parties may also have relationships with other entities, some of which may be our competitors. If these third parties do not successfully carry out their contractual duties, meet expected deadlines or conduct our clinical trials in accordance with regulatory requirements or our stated protocols, we will not be able to obtain, or may be delayed in obtaining, marketing approvals for our product candidates and will not be able to, or may be delayed in our efforts to, successfully commercialize our product candidates.

 

In addition, investigators for our clinical trials may serve as scientific advisors or consultants to us from time to time and may receive cash or equity compensation in connection with such services. If these relationships and any related compensation result in perceived or actual conflicts of interest, or the FDA concludes that the financial relationship may have affected the interpretation of the study, the integrity of the data generated at the applicable clinical trial site may be questioned and the utility of the clinical trial itself may be jeopardized, which could result in the delay or rejection of any NDA we submit by the FDA. Any such delay or rejection could prevent us from commercializing our product candidates. Further, our arrangements with investigators are also subject to scrutiny under other health care regulatory laws, such as the federal Anti-Kickback Statute.

 

We also rely on and expect to continue to rely on other third parties to store and distribute product supplies for our clinical trials. Any performance failure on the part of our distributors could delay clinical development or marketing approval of our product candidates or commercialization of our products, producing additional losses and depriving us of potential product revenue.

 

If the third parties with whom we contract do not successfully carry out their contractual duties or obligations or meet expected deadlines or if the quality or accuracy of the clinical data they obtain is compromised due to the failure to adhere to our clinical protocols or regulatory requirements or for other reasons, our clinical trials may be extended, delayed or terminated, we may need to conduct additional trials, and we may not be able to obtain regulatory approval for or successfully commercialize our product candidates. As a result, the commercial prospects for our product candidates would be harmed, our costs could increase and our ability to generate revenue could be delayed. To the extent we are unable to successfully identify and manage the performance of third-party service providers in the future, our business may be adversely affected.

 

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We contract with third parties for the manufacture of our product and product candidates that utilize KP415, KP484, KP201 and KP511 as the API used in our clinical trials and with a sole source supplier for the manufacture of bulk quantities of KP415, KP484, KP201 and KP511 used in products and product candidates that utilize these moieties as the API and we expect to continue to do so. This reliance on third-party manufacturers increases the risk that we will not have sufficient quantities of KP415, KP484, KP201 or KP511, or such quantities at an acceptable cost, which could delay, prevent or impair our development or commercialization efforts.

 

We do not have any manufacturing facilities. We procure the bulk drug substances for KP415, KP484, KP201 and KP511 from sole-source, third-party manufacturers and the products and product candidates that utilize these moieties as the API used in our clinical trials from other third parties. We anticipate we will continue to do so for the foreseeable future. We also expect to continue to rely on third parties as we proceed with preclinical and clinical testing of our product candidates, as well as for commercial manufacture or APADAZ or our product candidates should they receive marketing approval. This reliance on third parties increases the risk that we will not have sufficient quantities of KP415, KP484, KP201, KP511, other bulk drug substances or our products or product candidates, or such quantities at an acceptable cost or quality, which could delay, prevent or impair our ability to timely conduct our clinical trials or our other development or commercialization efforts.

 

We may be unable to establish any future agreements with third-party manufacturers or to do so on acceptable terms. Even if we are able to maintain our existing third-party relationships or establish any such agreements with other third-party manufacturers, reliance on third-party manufacturers entails additional risks, including:

 

 

reliance on the third party for FDA and DEA regulatory compliance and quality assurance;

 

 

 

 

the possible misappropriation of our proprietary information, including our trade secrets and know-how;

 

 

 

 

disruption and costs associated with changing suppliers, including additional regulatory filings;

 

 

 

 

the possible breach, termination or nonrenewal of the agreement by the third party at a time that is costly or inconvenient for us;

 

 

 

 

a delay or inability to procure or expand sufficient manufacturing capacity;

 

 

 

 

manufacturing and product quality issues related to scale-up of manufacturing;

 

 

 

 

costs and validation of new equipment and facilities required for scale-up;

 

 

 

 

the inability to negotiate manufacturing agreements with third parties under commercially reasonable terms;

 

 

 

 

termination or nonrenewal of manufacturing agreements with third parties in a manner or at a time that is costly or damaging to us;

 

 

 

 

the reliance on a limited number of sources, and in some cases, single sources for product components, such that if we are unable to secure a sufficient supply of these product components, we will be unable to manufacture and sell our product candidates in a timely fashion, in sufficient quantities or under acceptable terms; and

 

 

 

 

carrier disruptions or increased costs that are beyond our control.

 

Any of these events could lead to clinical trial delays, failure to obtain regulatory approval or impact our ability to successfully commercialize our products. Some of these events could be the basis for FDA action, including injunction, recall, seizure or total or partial suspension of production.

 

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The facilities used by our contract manufacturers to manufacture APADAZ and our product candidates must be approved by the FDA pursuant to inspections that will be conducted after we submit our marketing application to the FDA, and these facilities could fail to obtain FDA approval.

 

While we are ultimately responsible for the manufacturing of APADAZ and our product candidates, we do not, other than through our contractual arrangements, control the manufacturing process of, and are completely dependent on, our contract manufacturing partners for compliance with cGMP requirements and for manufacture of both active drug substances and finished drug products. If our contract manufacturers cannot successfully manufacture material that conforms to our specifications and the strict regulatory requirements of the FDA or other regulatory authorities, we will not be able to secure and maintain regulatory approval for their manufacturing facilities. In addition, other than through our contractual agreements, we have no control over the ability of our contract manufacturers to maintain adequate quality control, quality assurance and qualified personnel. If the FDA or a comparable foreign regulatory authority does not approve these facilities for the manufacturing of APADAZ or our product candidates or if it withdraws any such approval in the future, we may need to find alternative manufacturing facilities, which would significantly impact our ability to develop, obtain marketing approval for or market APADAZ or our product candidates, if approved.

 

Further, for APADAZ and our product candidates, if approved, our suppliers will be subject to regulatory requirements, covering manufacturing, testing, quality control and record keeping relating to APADAZ or our product candidates, if approved, and subject to ongoing inspections by the regulatory agencies. Failure by any of our suppliers to comply with applicable regulations may result in long delays and interruptions to our manufacturing capacity while we seek to secure another supplier that meets all regulatory requirements, as well as market disruption related to any necessary recalls or other corrective actions.

 

Third-party manufacturers may not be able to comply with current cGMP regulations or similar regulatory requirements outside the United States. Our failure, or the failure of our third-party manufacturers, to comply with applicable regulations could result in sanctions being imposed on us, including warning letters, clinical holds or termination of clinical trials, fines, injunctions, restitution, disgorgement, civil penalties, delays, suspension or withdrawal of approvals or other permits, FDA refusal to approve pending applications, product detentions, FDA or DEA consent decrees placing significant restrictions on or suspending manufacturing and distribution operations, debarment, refusal to allow import or export, product detentions, adverse publicity, dear-health-care-provider letters or other warnings, license revocation, seizures or recalls of product candidates, operating restrictions, refusal of government contracts or future orders under existing contracts and civil and criminal liability, including False Claims Act liability, exclusion from participation in federal health care programs, and corporate integrity agreements among other consequences, any of which could significantly and adversely affect supplies of our prodrugs.

 

APADAZ, our product candidates and any prodrugs that we may develop may compete with other product candidates and drugs for access to manufacturing facilities, and we may be unable to obtain access to these facilities on favorable terms.

 

There are a limited number of manufacturers that operate under cGMP regulations and that might be capable of manufacturing for us. Any performance failure on the part of our existing or future manufacturers could delay clinical development or marketing approval. We do not currently have arrangements in place for redundant supply or a second source for KP415, KP484, KP201 or KP511 bulk drug substance. If our current contract manufacturer for KP415, KP484, KP201 or KP511 bulk drug substance cannot perform as agreed, we may be required to replace such manufacturer and we may incur added costs and delays in identifying and qualifying any such replacement.

 

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We may seek collaborations with third parties for the development or commercialization of APADAZ or our product candidates. If those collaborations are not successful, we may not be able to capitalize on the market potential of APADAZ or these product candidates.

 

We have not yet determined our strategy for commercializing APADAZ, but we may seek third-party collaborators for the commercialization of APADAZ or the development or commercialization of our product candidates, including for the commercialization of any of our product candidates that are approved for marketing outside the United States. Our likely collaborators include large and mid-size pharmaceutical companies, regional, national and international pharmaceutical companies and biotechnology companies. In addition, we may seek alternative collaborative strategies with pharmacy benefit managers or generic pharmaceutical manufacturers to develop and implement non-traditional commercialization options of APADAZ. If we do enter into any collaboration arrangements with any third parties, we will likely have limited control over the amount and timing of resources that our collaborators dedicate to the development or commercialization of APADAZ or our product candidates. Our ability to generate revenue from these arrangements will depend on our collaborators’ abilities to successfully perform the functions assigned to them in these arrangements.

 

Collaborations involving APADAZ or our product candidates would pose the following risks to us:

 

 

collaborators have significant discretion in determining the efforts and resources that they will apply to these collaborations;

 

 

 

 

collaborators may not perform their obligations as expected;

 

 

 

 

collaborators may not pursue development and commercialization of APADAZ or any product candidates that achieve regulatory approval or may elect not to continue or renew development or commercialization programs based on clinical trial results, changes in the collaborators’ strategic focus or available funding, or external factors, such as an acquisition, that divert resources or create competing priorities;

 

 

 

 

collaborators may delay clinical trials, provide insufficient funding for a clinical trial program, stop a clinical trial or abandon a product candidate, repeat or conduct new clinical trials or require a new formulation of a product candidate for clinical testing;

 

 

 

 

collaborators could independently develop, or develop with third parties, products that compete directly or indirectly with APADAZ or our product candidates if the collaborators believe that competitive products are more likely to be successfully developed or can be commercialized under terms that are more economically attractive than ours;

 

 

 

 

product candidates discovered in collaboration with us may be viewed by our collaborators as competitive with their own product candidates or products, which may cause collaborators to cease to devote resources to the commercialization of APADAZ or our product candidates;

 

 

 

 

a collaborator with marketing and distribution rights to APADAZ or one or more of our product candidates that achieve regulatory approval may not commit sufficient resources to the marketing and distribution of such products;

 

 

 

 

disagreements with collaborators, including disagreements over proprietary rights, contract interpretation or the preferred course of development, might cause delays or termination of the research, development or commercialization of APADAZ or our product candidates, might lead to additional responsibilities for us with respect to APADAZ or our product candidates, or might result in litigation or arbitration, any of which would be time-consuming and expensive;

 

 

 

 

collaborators may not properly maintain or defend our or their intellectual property rights or may use our or their proprietary information in such a way as to invite litigation that could jeopardize or invalidate such intellectual property or proprietary information or expose us to potential litigation;

 

 

 

 

collaborators may infringe the intellectual property rights of third parties, which may expose us to litigation and potential liability; and

 

 

 

 

collaborations may be terminated for the convenience of the collaborator and, if terminated, we could be required to raise additional capital to pursue further development or commercialization of APADAZ or the applicable product candidates.

 

 

Collaboration agreements may not lead to development or commercialization of APADAZ or our product candidates in the most efficient manner or at all. If a present or future collaborator of ours were to be involved in a business combination, the continued pursuit and emphasis on our drug development or commercialization program could be delayed, diminished or terminated.

 

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If we are not able to establish collaborations, we may have to alter our development and commercialization plans.

 

Our prodrug development programs and the potential commercialization of APADAZ or our product candidates will require substantial additional capital. For some of our product candidates, we may need, and for APADAZ, we anticipate we will need, to collaborate with pharmaceutical and biotechnology companies for the development and potential commercialization of APADAZ or those product candidates.

 

We face significant competition in seeking appropriate collaborators. Whether we reach a definitive agreement for a collaboration will depend, among other things, upon our assessment of the collaborator’s resources and expertise, the terms and conditions of the proposed collaboration and the proposed collaborator’s evaluation of a number of factors. Those factors may include the design or results of clinical trials, the likelihood of approval by the FDA or similar regulatory authorities outside the United States, the potential market for APADAZ or the subject product candidate, the costs and complexities of manufacturing and delivering APADAZ or such product candidate to patients, the potential of competing products, the existence of uncertainty with respect to our ownership of technology, which can exist if there is a challenge to such ownership without regard to the merits of the challenge, and industry and market conditions generally.

 

The collaborator may also consider alternative product candidates or technologies for similar indications that may be available to collaborate on and whether such a collaboration could be more attractive than the one with us for APADAZ or our product candidate.

 

Collaborations are complex and time-consuming to negotiate and document. In addition, there have been a significant number of recent business combinations among large pharmaceutical companies that have resulted in a reduced number of potential future collaborators.

 

We may not be able to negotiate collaborations on a timely basis, on acceptable terms, or at all. If we are unable to do so, we may have to curtail the development of product candidates, reduce or delay one or more of our development programs, delay potential commercialization of APADAZ or our product candidates or reduce the scope of any sales or marketing activities of APADAZ or our product candidates, or increase our expenditures and undertake development or commercialization activities at our own expense of APADAZ or our product candidate. If we elect to increase our expenditures to fund development or commercialization activities on our own, we may need to obtain additional capital, which may not be available to us on acceptable terms or at all. If we do not have sufficient funds, we may not be able to further develop our product candidates or bring APADAZ or our product candidates to market and generate product revenue.

 

Provisions in our agreements with Shire and Aquestive may inhibit our ability to enter into future collaborations with third parties.

 

Under our asset purchase agreement with Shire, we granted Shire a right of first refusal to acquire, license or commercialize KP415 and KP484. The right of first refusal may be exercised by Shire for a period of 30 business days following Shire’s receipt of written notice from us of the existence of a bona fide offer from a third party to acquire, license or commercialize KP415 and KP484.

 

We are also party to a termination agreement with Aquestive that may limit the value of any sale, license or commercialization of KP415 or KP484. Under this termination agreement, Aquestive has the right to receive an amount equal to a percentage in the low teens of any value generated by KP415 or KP484, and any product candidates arising therefrom, including royalty payments on any license of KP415 or KP484, the sale of KP415 or KP484 to a third party or the commercialization of KP415 or KP484.

 

Provisions in our facility agreement with Deerfield may inhibit our ability to enter into specified transactions, including any joint venture, partnership or any other profit-sharing arrangement.

 

Pursuant to the Deerfield Facility Agreement, we may not enter into specified transactions, including any joint venture, partnership or any other profit-sharing arrangement, without the prior approval of Deerfield. Deerfield’s interests may not always coincide with our corporate interests or the interests of our other stockholders, and Deerfield may act in a manner with which you may not agree or that may not be in the best interests of our other stockholders. If Deerfield does not approve our entry into specified transactions, it could significantly delay or inhibit the commercialization APADAZ or our product candidates.

 

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Risks Related to Our Intellectual Property

 

If we are unable to obtain and maintain trade secret protection or patent protection for our technology, APADAZ and our product candidates or if the scope of the patent protection obtained is not sufficiently broad, our competitors could develop and commercialize technology and drugs similar or identical to ours, and our ability to successfully commercialize our technology, APADAZ and our product candidates may be impaired.

 

Our success depends in large part on our ability to obtain and maintain trade secret protection of our LAT platform technology as well as patent protection in the United States and other countries with respect to APADAZ and our product candidates. We seek to protect our proprietary position by filing patent applications in the United States and abroad related to our product technology and product candidates.

 

The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost or in a timely manner. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. We may not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the rights to patents, licensed to third parties by us.

 

Further, we may also not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the rights to patents, licensed from third parties to us. Therefore, any such patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. If such licensors or licensees fail to maintain such patents, or lose rights to those patents, the rights we have in- or out-licensed may be reduced or eliminated.

 

The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of foreign countries may not protect our rights to the same extent as the laws of the United States or visa-versa. For example, European patent law restricts the patentability of methods of treatment of the human body more than United States law. Publications of discoveries in the scientific literature often lag behind the actual discoveries, and utility, or equivalent, patent applications in the United States and other jurisdictions are typically not published until 18 months after the filing date of such patent applications, or in some cases not at all. Therefore, we cannot know with certainty whether we were the first to make the inventions claimed in our owned or licensed patents or pending patent applications, or that we were the first to file for patent protection of such inventions. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in patents being issued that protect our product candidates, in whole or in part, or which effectively prevent others from commercializing competitive technologies and drugs. Changes in either the patent laws or interpretation of the patent laws in the United States and other countries may diminish the value of our patents or narrow the scope of our patent protection.

 

Our patent position is subject to numerous additional risks, including the following:

 

 

we may fail to seek patent protection for inventions that are important to our success;

 

 

 

 

our pending patent applications may not result in issued patents;

 

 

 

 

we cannot be certain that we are the first to invent the inventions covered by pending patent applications or that we are the first to file such applications and, if we are not, we may be subject to priority disputes or lose rights;

 

 

 

 

we may be required to disclaim part or all of the term of certain patents or all of the term of certain patent applications;

 

 

 

 

we may file patent applications but have claims restricted or we may not be able to supply sufficient data to support our claims and, as a result, may not obtain the original claims desired or we may receive restricted claims; alternatively, it is possible that we may not receive any patent protection from an application;

 

 

 

 

even if our owned and licensed patent applications issue as patents, they may not issue in a form that will provide us with any meaningful protection, and may not be of sufficient scope or strength to provide us with any commercial advantage;

 

 

 

 

our competitors may be able to design around our owned or licensed patents by developing similar or alternative technologies or drugs without infringing on our intellectual property rights;

 

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we could inadvertently abandon a patent or patent application, resulting in the loss of protection of intellectual property rights in a particular country, and we, our collaborators or our patent counsel may take action resulting in a patent or patent application becoming abandoned which may not be able to be reinstated or if reinstated, may suffer patent term adjustments;

 

 

 

 

the claims of our issued patents or patent applications when issued may not cover our product candidates;

 

 

 

 

no assurance can be given that our patents would be declared by a court to be valid or enforceable or that a competitor’s technology or product would be found by a court to infringe our patents and our patents or patent applications may be challenged by third parties in patent litigation or in proceedings before the United States Patent and Trademark Office, or the USPTO, or its foreign counterparts, and may ultimately be declared invalid or unenforceable or narrowed in scope; 

 

 

 

 

there may be prior art of which we are not aware that may affect the validity or enforceability of a patent claim and there may be prior art of which we are aware, but which we do not believe affects the validity or enforceability of a claim, which may, nonetheless, ultimately be found to affect the validity or enforceability of a claim;

 

 

 

 

third parties may develop products that have the same or similar effect as our products without infringing our patents;

 

 

 

 

third parties may intentionally circumvent our patents by means of alternate designs or processes or file applications or be granted patents that would block or hurt our efforts;

 

 

 

 

there may be dominating patents relevant to our product candidates of which we are not aware;

 

 

 

 

obtaining regulatory approval for pharmaceutical products is a lengthy and complex process, and as a result, any patents covering our product candidates may expire before or shortly after such product candidates are approved and commercialized;

 

 

 

 

the patent and patent enforcement laws of some foreign jurisdictions do not protect intellectual property rights to the same extent as laws in the United States, and many companies have encountered significant difficulties in protecting and defending such rights in foreign jurisdictions; and

 

 

 

 

we may not develop additional proprietary technologies that are patentable.

 

Any of these factors could hurt our ability to gain full patent protection for our products. Registered trademarks and trademark applications in the United States and other countries are subject to similar risks as described above for patents and patent applications, in addition to the risks described below.

 

Further, a third party may misappropriate or reverse engineer our LAT platform technology, which could limit our ability to stop others from using or commercializing similar or identical technology and resultant product candidates, product technology or prodrugs, or limit the duration of the trade secret protection of our LAT platform technology.

 

Moreover, we may be subject to a third-party pre-issuance submission of prior art to the USPTO, or become involved in opposition, nullity, derivation, reexamination, inter partes review, post-grant review or interference proceedings challenging our patent rights or the patent rights of others. An adverse determination in any such submission, proceeding or litigation could reduce the scope of, or invalidate, our patent rights, allow third parties to commercialize our technology or drugs and compete directly with us, without payment to us or result in our inability to manufacture or commercialize drugs without infringing third-party patent rights. In addition, if the breadth or strength of protection provided by our patents and patent applications is threatened, it could dissuade companies from collaborating with us to seek patent protection or to license, develop or commercialize current or future product candidates.

 

In addition, the issuance of a patent is not conclusive as to its inventorship, ownership, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts, patent offices and tribunals in the United States and abroad. Such challenges may result in loss of exclusivity or in patent claims being narrowed, invalidated or held unenforceable, in whole or in part, which could limit our ability to stop others from using or commercializing similar or identical technology and drugs, or limit the duration of the patent protection of our product technology, product candidates and prodrugs.

  

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Patent reform legislation could increase the uncertainties and costs surrounding the prosecution of our patent applications and the enforcement or defense of our issued patents.

 

On September 16, 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law. The Leahy-Smith Act includes a number of significant changes to U.S. patent law. These include provisions that affect the way patent applications are prosecuted in the United States, redefine prior art and may also affect patent litigation. The USPTO recently developed new regulations and procedures to govern administration of the Leahy-Smith Act, and many of the substantive changes to patent law associated with the Leahy-Smith Act, and in particular, the first-to-file provisions, only became effective on March 16, 2013.

 

Accordingly, it is not clear what, if any, impact the Leahy-Smith Act will have on the operation of our business. However, the Leahy-Smith Act and its implementation could increase the uncertainties and costs surrounding the prosecution of our patent applications and the enforcement or defense of our issued patents. For instance, the Leahy-Smith Act established the inter partes review and post grant review procedures that has lowered the burden of proof for invalidity challenges to issued patents and limited the ability to amend patent claims in response to such challenges. In addition, patent reform legislation may pass in the future that could lead to additional uncertainties and increased costs surrounding the prosecution, enforcement and defense of our owned and licensed patents and/or patent applications.

 

We may become involved in lawsuits to protect or enforce our patents or other intellectual property, which could be expensive, time consuming and unsuccessful.

 

Competitors may infringe our issued patents or other intellectual property. To counter infringement or unauthorized use, we may be required to file infringement claims, which can be expensive and time consuming. Any claims we assert against perceived infringers could provoke those parties to assert counterclaims against us alleging that we infringe their intellectual property rights. In addition, in a patent infringement proceeding, a court may decide that a patent of ours is invalid or unenforceable, in whole or in part, construe the patent’s claims narrowly or refuse to stop the other party from using the technology at issue on the grounds that our patents do not cover the technology or its prior use by a third party. An adverse result in any litigation proceeding could put one or more of our patents at risk of being invalidated or interpreted narrowly, which would undermine our competitive position.

 

Third parties may initiate legal proceedings alleging that we are infringing their intellectual property rights, the outcome of which would be uncertain and could significantly harm business.

 

Our commercial success depends upon our ability, and the ability of any collaborators, to develop, manufacture, market and sell our product candidates and use our proprietary technologies without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. In particular, we are focused on developing product candidates based on widely used therapeutic agents or drugs, many of which may be protected by proprietary rights of third parties.

 

Although we seek to develop proprietary prodrug formulations that do not infringe the intellectual property rights of others, we may become party to, or threatened with, future adversarial proceedings or litigation regarding intellectual property rights with respect to our prodrugs or other aspects of our technology, including, for example, interference or derivation proceedings before the USPTO. Third parties may assert infringement claims against us based on existing patents or patents that may be granted in the future.

 

If we are found to infringe a third party’s intellectual property rights, we could be required to obtain a license from such third party to continue developing and marketing our technology and drugs. However, we may not be able to obtain any required license on commercially reasonable terms, or at all. Even if we were able to obtain a license, it could be non-exclusive, thereby giving our competitors access to the same technologies licensed to us. We could be forced, including by court order, to cease commercializing the infringing technology or product. In addition, we could be found liable for monetary damages, including treble damages and attorneys’ fees if we are found to have willfully infringed a patent. A finding of infringement could prevent us from commercializing our product candidates or force us to cease some or all of our business operations.

 

Competing products may also be sold in other countries in which our patent coverage might not exist or be as strong. If we lose a foreign patent lawsuit alleging our infringement of a competitor’s patent, we could be prevented from marketing our products in one or more foreign countries. As a result, our ability to grow our business and compete in the market may be harmed.

  

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Intellectual property litigation could cause us to spend substantial resources and distract our personnel from their normal responsibilities.

 

Even if resolved in our favor, litigation or other legal proceedings relating to intellectual property claims may cause us to incur significant expenses and could distract our technical and management personnel from their normal responsibilities.

 

In addition, there could be public announcements of the results of hearings, motions or other interim proceedings or developments. If securities analysts or investors perceive these results to be negative, it could hurt the price of our common stock. Such litigation or proceedings could substantially increase our operating losses and reduce the resources available for development activities or any future sales, marketing or distribution activities. We may not have sufficient financial or other resources to conduct such litigation or proceedings adequately. Some of our competitors may be able to sustain the costs of such litigation or proceedings more effectively than we can because of their greater financial resources. Uncertainties resulting from the initiation and continuation of patent litigation or other proceedings could compromise our ability to compete in the marketplace.

 

We may need to license intellectual property from third parties, and such licenses may not be available or may not be available on commercially reasonable terms.

 

A third party may hold intellectual property rights, including patent rights, which are important or necessary to the development of our product candidates. It may be necessary for us to use the patented or proprietary technology of third parties to commercialize our product candidates, in which case we would be required to obtain a license from these third parties. Such a license may not be available on commercially reasonable terms, or at all, and we could be forced to accept unfavorable contractual terms. If we are unable to obtain such licenses on commercially reasonable terms, our business could be harmed.

 

If we or our third-party licensors fail to comply with our obligations in our intellectual property licenses and funding arrangements with third parties, we could lose rights that are important to our business.

 

We are currently party to license agreements for technologies that we anticipate using in our product development activities. In the future, we may become party to licenses that are important for product development and commercialization. If we or our third-party licensors fail to comply with the obligations under current or future license and funding agreements, our counterparties may have the right to terminate these agreements, we may be forced to terminate these agreement or we may no longer effectively rely on any licenses to us under these agreements, in which event we might not be able to develop, manufacture or market any product or utilize any technology that is covered by these agreements or may face other penalties under the agreements. Such an occurrence could materially and adversely affect the value of a product candidate being developed under any such agreement or could restrict our drug discovery activities. Termination of these agreements or reduction or elimination of our rights under these agreements may result in our having to negotiate new or reinstated agreements with less favorable terms or cause us to lose our rights under these agreements, including our rights to important intellectual property or technology.

 

We may be required to reduce the scope of our intellectual property due to third-party intellectual property claims.

 

Our competitors may have filed, and may in the future file, patent applications covering technology similar to ours. Any such patent application may have priority over our patent applications, which could further require us to obtain rights to issued patents covering such technologies. If another party has filed a U.S. patent application on inventions similar to ours that claims priority to an application filed prior to March 16, 2013, we may have to participate in an interference proceeding declared by the USPTO to determine priority of invention in the United States. The costs of these proceedings could be substantial, and it is possible that such efforts would be unsuccessful if, unbeknownst to us, the other party had independently arrived at the same or similar invention prior to our own invention, resulting in a loss of our U.S. patent position with respect to such inventions. In addition, changes enacted on March 16, 2013, to the U.S. patent laws under the Leahy-Smith Act resulted in the United States changing from a “first to invent” country to a “first to file” country. As a result, we may lose the ability to obtain a patent if another party files with the USPTO first and could become involved in proceedings before the USPTO to resolve disputes related to inventorship. We may also become involved in similar proceedings in other jurisdictions.

 

Furthermore, recent changes in U.S. patent law under the Leahy-Smith Act allows for post-issuance challenges to U.S. patents, including ex parte re-examinations, inter partes reviews and post-grant reviews. There is significant uncertainty as to how the new laws will be applied. If our U.S. patents are challenged using such procedures, we may not prevail, possibly resulting in altered or diminished claim scope or loss of patent rights altogether. Similarly, some countries, notably Europe, also have post-grant opposition proceedings that can result in changes in scope or cancellation of patent claims.

 

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We may be subject to claims by third parties asserting that we or our employees have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property.

 

Many of our employees were previously employed at other biotechnology or pharmaceutical companies. Although we try to ensure that our employees do not use the proprietary information, show-how or know-how of others in their work for us, we may be subject to claims that these employees or we have inadvertently or otherwise used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. For example, in March 2012, we settled litigation regarding similar matters with Shire. We may also in the future be subject to claims that we have caused an employee to breach the terms of his or her non-competition or non-solicitation agreement. Litigation may be necessary to defend against these potential claims.

 

In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property.

 

If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. A court could prohibit us from using technologies or features that are essential to our products, if such technologies or features are found to incorporate or be derived from the trade secrets or other proprietary information of the former employers. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and could be a distraction to management. In addition, any litigation or threat thereof may adversely affect our ability to hire employees or contract with independent service providers. Moreover, a loss of key personnel or their work product could hamper or prevent our ability to commercialize our products.

 

Any trademarks we may obtain may be infringed or successfully challenged, resulting in harm to our business.

 

We expect to rely on trademarks as one means to distinguish APADAZ and any of our product candidates that are approved for marketing from the products of our competitors. We have solicited and applied for trademarks for APADAZ and LAT. For our other product candidates, we have not yet solicited trademarks and have not yet begun the process of applying to register trademarks. Once we select trademarks and apply to register them, our trademark applications may not be approved. Third parties may oppose or attempt to cancel our trademark applications or trademarks, or otherwise challenge our use of the trademarks. If our trademarks are successfully challenged, we could be forced to rebrand our products, which could result in loss of brand recognition and could require us to devote resources to advertising and marketing new brands. Our competitors may infringe our trademarks and we may not have adequate resources to enforce our trademarks.

 

If we are unable to protect the confidentiality of our trade secrets, our business and competitive position would be harmed.

 

In addition to seeking patent and trademark protection for our APADAZ and our product candidates, we also rely on trade secrets, including unpatented show-how, know-how, technology and other proprietary information, to maintain our competitive position. We seek to protect our trade secrets, in part, by entering into non-disclosure and confidentiality agreements with parties who have access to them, such as our employees, corporate collaborators, outside scientific collaborators, contract manufacturers, consultants, advisors and other third parties. We also enter into confidentiality and invention or patent assignment agreements with our employees and consultants. Despite these efforts, any of these parties may breach the agreements and disclose our proprietary information, including our trade secrets.

 

Monitoring unauthorized uses and disclosures of our intellectual property, including our trade secrets, is difficult, and we do not know whether the steps we have taken to protect our intellectual property will be effective. In addition, we may not be able to obtain adequate remedies for any such breaches. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets.

 

Moreover, our competitors may independently develop or reverse engineer knowledge, methods, show-how and know-how equivalent to our trade secrets. Competitors could purchase our products and replicate some or all of the competitive advantages we derive from our development efforts for technologies on which we do not have patent protection. If any of our trade secrets were to be lawfully obtained or independently developed by a competitor, we would have no right to prevent them, or those to whom they communicate such trade secrets, from using that technology or information to compete with us. If any of our trade secrets were to be disclosed to or independently developed by a competitor, our competitive position would be harmed.

 

Outside of the U.S. we cannot be certain that any country’s patent or trademark office will not implement new rules that could seriously affect how we draft, file, prosecute and maintain patents, trademarks and patent and trademark applications.

 

We cannot be certain that the patent or trademark offices of countries outside the United States will not implement new rules that increase costs for drafting, filing, prosecuting and maintaining patents, trademarks and patent and trademark applications or that any such new rules will not restrict our ability to file for patent protection. For example, we may elect not to seek patent protection in some jurisdictions or for some inventions to save costs. We may be forced to abandon or return the rights to specific patents due to a lack of financial resources.

  

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Risks Related to the Commercialization of Our Product and Product Candidates

 

If we are unable to establish sales, marketing and distribution capabilities for APADAZ or any other product candidates, if approved, we may not be successful in commercializing APADAZ or any approved product candidate in the United States.

 

We have only a limited sales and marketing infrastructure and have no experience in the sale, marketing or distribution of pharmaceutical products. To achieve commercial success for APADAZ, or any product candidate for which we may obtain marketing approval in the United States, we will need to enter into collaborations with one or more parties or establish our own sales and marketing organization. We have not yet determined our commercialization strategy for APADAZ or any of our product candidates. Should we decide to establish our own sales, marketing and distribution capabilities, we would encounter a number of risks. For example, recruiting and training a sales force is expensive and time consuming and could delay any product launch. If the commercial launch of APADAZ, or a product candidate for which we recruit a sales force and establish marketing capabilities is delayed or does not occur for any reason, we would have prematurely or unnecessarily incurred these commercialization expenses. This may be costly, and our investment would be lost if we cannot retain or reposition our sales and marketing personnel.

 

Factors that may inhibit our efforts to commercialize APADAZ, or our product candidates, on our own include:

 

 

our inability to recruit, train and retain adequate numbers of effective sales and marketing personnel;

 

 

 

 

our inability to access government and commercial health plan formularies or secure preferred coverage and adequate reimbursement levels;

 

 

 

 

the inability of sales personnel to obtain access to physicians or achieve adequate numbers of physicians to prescribe any future prodrug products;

 

 

 

 

the lack of complementary drugs to be offered by sales personnel, which may put us at a competitive disadvantage relative to companies with more extensive product lines;

 

 

 

 

liability for personnel, including sales personnel, failing to comply with applicable legal requirements; and 

 

 

 

 

costs associated with maintaining compliance with the FDA’s marketing and promotional requirements, including ongoing training and monitoring, as well as unforeseen costs and expenses associated with creating an independent sales and marketing organization.

 

If we decide not to or are unable to establish our own sales, marketing and distribution capabilities and, instead, enter into arrangements with third parties to perform these services, our product revenue and our profitability, if any, are likely to be lower than if we were to sell, market and distribute APADAZ, or any product candidates that we develop, ourselves. In addition, we may not be successful in entering into arrangements with third parties to sell, market and distribute APADAZ, or our product candidates, or may be unable to do so on terms that are favorable to us, including as a result of restrictions in the Deerfield Facility Agreement. We likely will have little control over such third parties, and any of them may fail to devote the necessary resources and attention to sell and market APADAZ, or our product candidates, effectively. Further, we may be liable for conduct of third parties acting on our behalf, including failure to comply with legal requirements applicable to sales and marketing of our products. If we do not establish sales, marketing and distribution capabilities successfully, either on our own or in collaboration with third parties, we will not be successful in commercializing APADAZ, or our product candidates.

  

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APADAZ, or any of our product candidates that may receive marketing approval, may fail to achieve the degree of market acceptance by physicians, patients, third-party payors and others in the medical community necessary for commercial success.

 

APADAZ, or any of our product candidates that may receive marketing approval, may fail to gain sufficient market acceptance by physicians, patients, third-party payors and others in the medical community. If APADAZ, or our product candidates, do not achieve an adequate level of market acceptance, we may not generate significant product revenue and we may not become profitable. The degree of market acceptance of APADAZ, or our product candidates if approved for commercial sale, will depend on a number of factors, including:

 

 

the efficacy and potential advantages compared to alternative treatments, including less expensive generic treatments;

 

 

 

 

the ability to obtain differentiating claims in the labels for most of our product candidates;

 

 

 

 

our ability to offer our prodrug products for sale at competitive prices;

 

 

 

 

the clinical indications for which our product candidates are approved;

 

 

 

 

the convenience and ease of administration compared to alternative treatments;

 

 

 

 

the willingness of the target patient population to try new therapies and of physicians to prescribe these therapies;

 

 

 

 

the cost of treatment in relation to alternative treatments;

 

 

 

 

the steps that prescribers and dispensers must take, since APADAZ and most of our product candidates are controlled substances, as well as the perceived risks based upon their controlled substance status;

 

 

the ability to manufacture our product in sufficient quantities and yields;

 

 

 

 

the strength of marketing and distribution support;

 

 

 

 

the availability of third-party coverage and adequate reimbursement or willingness of patients to pay out of pocket in the absence of third-party coverage;

 

 

 

 

the prevalence and severity of any side effects;

 

 

 

 

any potential unfavorable publicity;

 

 

 

 

any restrictions on the use, sale or distribution of APADAZ or our product candidates, including through REMS; and

 

 

 

 

any restrictions on the use of our prodrug products together with other medications.

 

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We face substantial competition, which may result in others discovering, developing or commercializing products before or more successfully than we do.

 

Our industry is characterized by rapidly advancing technologies, intense competition and a strong emphasis on proprietary products. We will face competition and potential competition from a number of sources, including pharmaceutical and biotechnology companies, specialty pharmaceutical companies, generic drug companies, drug delivery companies and academic and research institutions. Our competitors may develop or market drugs that are more effective, more convenient, more widely used and less costly or have a better safety profile than our products and these competitors may also be more successful than us in manufacturing and marketing their products.

 

If approved, KP415 and KP484 will compete against currently marketed, branded and generic methylphenidate products for the treatment of ADHD. Some of these currently marketed products include Johnson & Johnson's Concerta, Novartis AG's RITALIN, Pfizer's Quillivant, FOCALIN and Focalin XR, UCB S.A.'s METADATE CD, Noven Pharmaceuticals' Daytrana, AND nEOS tHERAPEUTICS' CONTEMPLA XR-ODT, in addition to multiple other branded and generic methylphenidate products marketed by companies including Allergan plc and Mallinckrodt plc. In addition, if approved, KP415 and KP484 will face potential competition from any other methylphenidate products for the treatment of ADHD that are currently in or which may enter into clinical development.

 

APADAZ and, if approved, KP201/IR, will compete against currently marketed, branded and generic IR hydrocodone/APAP combination products indicated for the short-term management of acute pain. Some of these currently marketed products include AbbVie's VICODIN, Allergan's NORCO, Shionogi's XODOL and UCB Pharma's LORTAB, in addition to multiple other branded and generic hydrocodone/APAP combination products marketed by companies including Allergan plc, Endo International plc and Mallinckrodt plc. In addition, APADAZ and, if approved, KP201/IR, will face potential competition from any IR or hydrocodone/APAP combination or other APAP-free products for the short-term management of acute pain that are currently in or may enter into clinical development.

 

If approved, KP511/ER and KP511/IR will compete against currently marketed, branded and generic, ER and IR hydromorphone products. KP511/ER would compete against products approved for use in opioid-tolerant patients for the management of pain severe enough to require daily, around-the-clock, long-term opioid treatment and for which alternative treatment options are inadequate. KP511/IR would compete against products approved for use in patients for the management of pain severe enough to require opioid analgesic and for which alternative treatments are inadequate. Some of these currently marketed products include Purdue Pharma L.P.’s DILAUDID, Mallinckrodt plc’s EXALGO and Daiichi Sankyo's MORPHABOND ER, in addition to multiple other branded and generic IR and ER hydromorphone products marketed by companies including Allergan plc, Mallinckrodt plc, Rhodes Pharmaceuticals L.P. and Roxanne Laboratories, Inc. In addition, if approved, KP511/ER and KP511/IR will face potential competition from any abuse-deterrent or other IR and ER hydromorphone products for the treatment of pain that are currently in or which may enter into clinical development.

 

If approved, our other opioid product candidates will face competition from commercially available branded and generic opioid drugs, including hydrocodone, hydromorphone, oxycodone, fentanyl, morphine, oxymorphone and methadone, as well as other marketed non-opioid products for the treatment of pain, and potential competition from opioid and non-opioid products for the treatment of pain that are currently in clinical development. In addition, our product candidates will face competition from approved and abuse-deterrent labeled opioid drugs and potential competition from abuse-deterrent opioid drugs that are currently in clinical development. We may compete with multiple companies that have developed and are developing abuse-deterrent technologies that may be applied to a variety of drugs, including those being developed for the short-term management of acute pain as well as for other indications that we are pursuing or may pursue in the future. If approved, our other opioid product candidates may face competition from opioid products or abuse-deterrent technologies from companies including Allergan plc, Acura Pharmaceuticals, Inc., Cara Therapeutics, Inc., Collegium Pharmaceutical, Inc., Depomed, Inc., DURECT Corporation, Egalet Corporation, Elite Pharmaceuticals, Inc., Endo International plc, Grünenthal Group, Inspirion Delivery Technologies, LLC, IntelliPharmaceutics International Inc., Mallinckrodt plc, Mylan Inc., Nektar Therapeutics, Pain Therapeutics, Inc., Pfizer Inc., Purdue Pharma L.P., Signature Pharmaceuticals, Teva Pharmaceutical Industries Ltd., Trevena Inc. and UCB S.A.

 

If approved, KP303 will compete against currently marketed, branded and generic, quetiapine and olanzine products approved for use in the treatment of multiple CNS disorders. Some of these currently marketed products include AstraZeneca's SEROQUEL and SEROQUEL XR and Eli Lilly's ZYPREXA and ZYPREXA ZYDIS, in addition to multiple other branded and generic quetiapine and olanzine products marketed by Teva Pharmaceutical Industries Ltd. and Dr. Reddy's Laboratories Ltd. In addition, if approved, KP303 will face potential competition from any abuse-deterrent or other quetiapine or olanzine products for the treatment of multiple CNS disorders which are currently in or which may enter into clinical development.

 

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Many of our potential competitors have substantially greater financial, technical and human resources than we do, as well as more experience in the development of product candidates, obtaining FDA and other regulatory approvals of products and the commercialization of those products. Consequently, our competitors may develop products for indications we are pursuing or may pursue in the future, and such competitors’ products may be more effective, better tolerated and less costly than our product candidates. Our competitors may also be more successful in manufacturing and marketing their products than we are. We will also face competition in recruiting and retaining qualified personnel and establishing clinical trial sites and patient enrollment in clinical trials.

 

Our competitors also may obtain FDA or other regulatory approval for their product candidates more rapidly than we may obtain approval for ours, which could result in our competitors establishing a strong market position before we are able to enter the market. If the competitor’s product were similar to our product candidates, we may be required to seek approval via alternative pathways, such as the ANDA, which is used for the development of generic drug products. We may also be blocked from product marketing by periods of patent protection or regulatory exclusivity.

 

In addition, our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic drugs or giving drugs with improved attributes sufficient weight in a comparative clinical cost effectiveness analysis. For some of the indications that we are pursuing, drugs used off-label serve as cheaper alternatives to our product candidates. Their lower prices could result in significant pricing pressure, even if our product candidates are otherwise viewed as a preferable therapy. Additional drugs may become available on a generic basis over the coming years.

 

Many of our potential competitors have substantially greater financial, technical and human resources than we do, as well as more experience in the development of product candidates, obtaining FDA and other regulatory approvals of products, and the commercialization of those products. Mergers and acquisitions in the pharmaceutical and biotechnology industries may result in even more resources being concentrated among a smaller number of our competitors. Smaller and other early stage companies may also prove to be significant competitors, particularly through collaborative arrangements with large and established companies.

 

Consequently, our competitors may develop products for the treatment of ADHD, pain or for other indications we may pursue in the future, and such competitors’ products may be more effective, better tolerated and less costly than our product candidates. Our competitors may also be more successful in manufacturing and marketing their products than we are. We will also face competition in recruiting and retaining qualified personnel and establishing clinical trial sites and subject enrollment in clinical trials.

 

We may not be able to obtain either five-year FDA regulatory exclusivity as a new chemical entity or three-year FDA regulatory exclusivity.

 

The FDA provides periods of regulatory exclusivity following their approval of an NDA, which provide the holder of an approved NDA limited protection from new competition in the marketplace for the innovation represented by its approved drug. Five-year exclusivity precludes approval of 505(b)(2) applications or ANDAs by delaying the submission or approval of the application, while three-year exclusivity precludes the approval of the application. We intend to seek new chemical entity, or NCE, status for any of our prodrug product candidates as appropriate. Five years of exclusivity are available to NCEs following the approval of an NDA by the FDA. An NCE is a drug that contains no active moiety that has been approved by the FDA in any other NDA. If a product is not eligible for the NCE exclusivity, it may be eligible for three years of exclusivity. Three-year exclusivity is available to the holder of an NDA, including a 505(b)(2) NDA, for a particular condition of approval, or change to a marketed product, such as a new formulation for a previously approved product, if one or more new clinical trials, other than bioavailability or bioequivalence trials, were essential to the approval of the application and were conducted or sponsored by the applicant.

 

There is a risk that the FDA may disagree with any claim that we may make that any of our prodrug product candidates are NCEs and therefore entitled to five-year exclusivity. The FDA may also take the view that the studies that we are conducting are not clinical trials, other than bioavailability and bioequivalence studies, that are essential to approval and therefore do not support three-year exclusivity. Further, to the extent that the basis for exclusivity is not clear, the FDA may determine to defer a decision until it receives an application which necessitates a decision.

 

If we do obtain either five or three years of exclusivity, such exclusivity will not block all potential competitors from the market. Competitors may be able to obtain approval for similar products with different forms of competitive differentiating mechanisms or may be able to obtain approval for similar products without a competitive differentiating mechanism.

 

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Even if we are able to commercialize APADAZ, or any of our product candidates, they may be subject to unfavorable pricing regulations, third-party coverage and reimbursement policies.

 

Our ability to commercialize APADAZ, or any of our product candidates successfully will depend, in part, on the extent to which coverage and adequate reimbursement for APADAZ, or our product candidates, will be available from government payor programs at the federal and state levels, including Medicare and Medicaid, private health insurers and managed care plans and other third-party payors. Government authorities and other third-party payors decide which medical products they will pay for and establish reimbursement levels, including co-payments. A trend in the U.S. healthcare industry and elsewhere is cost containment. Government authorities and other third-party payors have attempted to control costs by limiting coverage and the amount of reimbursement for particular medical products. Increasingly, third-party payors are requiring that drug companies provide them with predetermined discounts from list prices and are challenging the prices charged for drugs and products. Coverage and reimbursement may not be available for any product that we commercialize and, even if these are available, the level of reimbursement may not be satisfactory. Inadequate reimbursement levels may adversely affect the demand for, or the price of, APADAZ, or any product candidate for which we obtain marketing approval. Obtaining and maintaining adequate reimbursement for our prodrug products may be difficult. We may be required to conduct expensive pharmacoeconomic studies to justify coverage and reimbursement or the level of reimbursement relative to other therapies. Moreover, the trend has been for government and commercial health plans and their pharmacy benefit managers to commoditize drug products through therapeutic equivalence determinations, making formulary decisions based on cost. If coverage and adequate reimbursement are not available or reimbursement is available only at limited levels, we may not be able to successfully commercialize APADAZ, or any product candidates for which marketing approval is obtained.

 

There may be significant delays in obtaining coverage and reimbursement for newly approved prodrug products, and coverage may be more limited than the indications for which the product is approved by the FDA or similar regulatory authorities outside the United States. Moreover, eligibility for coverage and reimbursement does not imply that a product will be paid for in all cases or at a rate that covers our costs, including research, development, manufacture, sale and distribution expenses. Interim reimbursement levels for new prodrug products, if applicable, may also not be sufficient to cover our costs and may not be made permanent. Reimbursement rates may vary according to the use of the product and the clinical setting in which it is used, may be based on reimbursement levels already set for lower cost drugs and may be incorporated into existing payments for other services. Net prices for prodrug products may be reduced by mandatory discounts or rebates required by government healthcare programs or private payors and by any future relaxation of laws that presently restrict imports of drugs from countries where they may be sold at lower prices than in the United States. Private third-party payors often rely upon Medicare coverage policy and payment limitations in setting their own reimbursement policies. Except for certain government health care programs, such as the Department of Defense’s TRICARE Uniform Formulary, no uniform policy requirement for coverage and reimbursement for drug products exists among third-party payors in the United States. Even state Medicaid programs have their own preferred drug lists that may disadvantage non-preferred brand drugs. Therefore, coverage and reimbursement can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that will require us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that coverage and adequate reimbursement will be applied consistently or obtained at all. Our inability to promptly obtain coverage and adequate reimbursement rates from both government-funded and private payors for any approved prodrug products that we develop could significantly harm our operating results, our ability to raise capital needed to commercialize prodrugs and our overall financial condition.

 

The regulations that govern marketing approvals, pricing, coverage and reimbursement for new drugs vary widely from country to country. Current and future legislation may significantly change the approval requirements in ways that could involve additional costs and cause delays in obtaining approvals. Some countries require approval of the sale price of a product before it can be marketed. In many countries, the pricing review period begins after marketing or product licensing approval is granted. In some foreign markets, prescription pharmaceutical pricing remains subject to continuing governmental control even after initial approval is granted. As a result, we might obtain marketing approval for a product in a particular country, but then be subject to price regulations that delay commercial launch of the product, possibly for lengthy time periods, and negatively impact the revenue able to be generated from the sale of the product in that country. Adverse pricing limitations may hinder our ability to recoup our investment in one or more product candidates, even if our product candidates obtain marketing approval.

 

There can be no assurance that APADAZ, or our product candidates, if they are approved for sale in the United States or in other countries, will be considered medically reasonable and necessary for a specific indication, that they will be considered cost-effective by third-party payors, that coverage or an adequate level of reimbursement will be available, or that third-party payors’ reimbursement policies will not adversely affect our ability to sell APADAZ, or our product candidates profitably if they are approved for sale.

 

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We may be subject to enforcement action if we engage in improper marketing or promotion of our products.

 

The FDA closely regulates promotional materials and other promotional activities. Even if the FDA initially approves product labeling that includes a description of our improved attribute claims, the FDA may object to our marketing claims and product advertising campaigns. Failure to comply with the FDA’s promotional, marketing and advertising laws and regulations could lead to the issuance of warning letters, cyber letters, or untitled letters, adverse publicity, the requirement for dear-health-care-provider letters or other corrective information, fines and other monetary penalties, civil or criminal prosecution, including False Claims Act liability, restrictions on our operations and other operating requirements through consent decrees or corporate integrity agreements, debarment, exclusion from participation in federal health care programs and refusal of government contracts or future orders under existing contracts, among other consequences. Any of these consequences would harm the commercial success of our products.

 

Further, our promotional materials, statements and training methods must comply with the FDA’s prohibition of the promotion of unapproved, or off-label, use. Physicians may use our products off-label, as the FDA does not restrict or regulate a physician’s independent choice of treatment within the practice of medicine. However, if the FDA determines that our promotional materials, statements or training constitutes promotion of an off-label use, it could request that we modify our promotional materials, statements or training methods or subject us to regulatory or enforcement actions, such as the issuance of an untitled letter, a warning letter, injunction, seizure, civil fine, disgorgement of money, operating restrictions or criminal penalties. We may also be subject to actions by other governmental entities or private parties, such as the False Claims Act, civil whistleblower or “qui tam” actions. It is also possible that other federal, state or foreign enforcement authorities might take action if they consider our promotional or training materials to constitute promotion of an off-label use, which could result in significant fines or penalties under other statutory authorities, such as laws prohibiting false claims for reimbursement. In that event, our reputation could be damaged and adoption of the products could be impaired. In addition, the off-label use of our products may increase the risk of product liability claims. Product liability claims are expensive to defend and could divert our management’s attention, result in substantial damage awards against us and harm our reputation.

 

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Product liability lawsuits against us could cause us to incur substantial liabilities and to limit commercialization of APADAZ or any products that we may develop.

 

We face an inherent risk of product liability exposure related to the testing of our product candidates in human clinical trials and will face an even greater risk as we commercialize APADAZ, and any prodrug products that may be approved in the future. This includes the risk that our products may be misused. For example, APADAZ does, and we anticipate that our other product candidates if approved may, carry a boxed warning regarding lethality if our oral tablets are prepared for injection and hepatotoxicity, as is commonly done by abusers of opioids. If we cannot successfully defend ourselves against claims that APADAZ, and our product candidates or products caused injuries, we will incur substantial liabilities. Regardless of merit or eventual outcome, liability claims may result in:

 

 

decreased demand for APADAZ and any product candidates or products that we may develop;

 

 

 

 

injury to our reputation and significant negative media attention;

 

 

 

 

termination of clinical trial sites or entire trial programs;

 

 

 

 

withdrawal of clinical trial participants;

 

 

 

 

initiation of investigations by regulators;

 

 

 

 

significant costs to defend the related litigation;

 

 

 

 

a diversion of management’s time and our resources;

 

 

 

 

substantial monetary awards paid to trial participants or patients;

 

 

 

 

product recalls, withdrawals or labeling revisions and marketing or promotional restrictions;

 

 

 

 

loss of revenue;

 

 

 

 

reduced resources of our management to pursue our business strategy; and

 

 

 

 

the inability to commercialize APADAZ or any prodrug products that we may develop.

 

We currently hold $10.0 million in product liability insurance coverage in the aggregate, with a per incident limit of $10.0 million, which may not be adequate to cover all liabilities that we may incur. We may need to increase our insurance coverage as we expand our clinical trials or when we commence commercialization of APADAZ, or any other product approved in the future. Insurance coverage is increasingly expensive. We may not be able to maintain insurance coverage at a reasonable cost or in an amount adequate to satisfy any liability that may arise.

 

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A variety of risks associated with international operations could materially adversely affect our business.

 

We expect to engage in significant cross-border activities, and we will be subject to risks related to international operations, including:

 

 

different regulatory requirements for maintaining approval of drugs in foreign countries;

     
  differing payor reimbursement regimes, governmental payors or patient self-pay systems and price controls;