This Annual Report on Form 10-K contains forward-looking statements concerning future events and performance of the Company. When used in this report, the words "intend," "estimate," "anticipate," "believe," "plan" or "expect" and similar expressions are included to identify forward-looking statements. These forward-looking statements are based on our current expectations and assumptions and many factors could cause our actual results to differ materially from those indicated in these forward-looking statements. You should review carefully the factors identified in this report in Item 1A, "Risk Factors". We disclaim any intent to update or announce revisions to any forward-looking statements to reflect actual events or developments. Except as otherwise indicated herein, all dates referred to in this report represent periods or dates fixed with reference to the calendar year, rather than our fiscal year ending September 30.

In August 2007, we sold our FazaClo business and related support operations to Azur Pharma, Inc. We have reflected the financial results of this business as discontinued operations in the consolidated statements of

operations for the year ended September 30, 2008. Unless otherwise noted, this Management's Discussion and Analysis of Financial Condition and Results of Operations relates only to financial results from continuing operations.

Executive Overview

We are a pharmaceutical company focused on acquiring, developing and commercializing novel therapeutic products for the treatment of central nervous system disorders. Our lead product candidate, Zenviatm (dextromethorphan hydrobromide/quinidine sulfate), has successfully completed three Phase III clinical trials for the treatment of pseudobulbar affect ("PBA") and has successfully completed a Phase III trial for the treatment of patients with diabetic peripheral neuropathic pain ("DPN pain"). In addition to our focus on products for the central nervous system, we also have a number of partnered programs in other therapeutic areas which may generate future income for the Company. Our first commercialized product, docosanol 10% cream, (sold in the United States and Canada as Abrevaฎ by our marketing partner GlaxoSmithKline Consumer Healthcare) is the only over-the-counter treatment for cold sores that has been approved by the U.S. Food and Drug Administration ("FDA"). In 2008, we licensed all of our monoclonal antibodies and we remain eligible to receive milestone payments and royalties related to the sale of these assets. Avanir was incorporated in California in August 1988 and was reincorporated in Delaware in March 2009.

The following is a summary of significant accomplishments in fiscal 2009 and subsequent to the end of fiscal 2009 through the date of this filing that have materially affected our operations, financial condition and prospects:

• In March 2009, we enrolled the last of 326 patients into the confirmatory Phase III STAR trial. The final number of patients exceeded the original target by approximately 20% allowing a larger safety database and increased statistical power for the study.

• In April 2009, we completed additional preclinical and clinical studies that were conducted to enhance the complete response to the approvable letter and to assist with planned label discussions with the FDA.

• In June 2009, we were added to the broad-market Russell 3000ฎ Index, an investment tool comprised of 3,000 of the country's largest and most liquid stocks.

• In July 2009, we completed enrollment of the open label extension of the confirmatory Phase III STAR trial. In total, 282 of 326 patients (or 86.5%) completed the 12-week double-blind phase of the study and were eligible to enroll in the open label extension phase. A total of 253 (or 89.7%) of eligible patients chose to enroll in the 12-week open label safety extension.

• In August 2009, we announced the results of the double-blind phase of the confirmatory Phase III STAR trial which demonstrated that both doses of Zenvia met the primary efficacy endpoint in the treatment of patients with PBA and that Zenvia demonstrated an improved safety and tolerability profile relative to the original formulation.

• In August 2009, we raised gross proceeds of approximately $10.6 million through the sale of approximately 4.5 million shares of common stock. The shares were sold into the open market at prevailing prices through our financing facility with Cantor Fitzgerald & Co.

• In October 2009, we received a "Notice of Allowance" from the United States Patent and Trademark Office ("USPTO") thereby extending the period of commercial exclusivity for Zenvia into 2025. Upon issuance, the patent will provide Avanir with patent protection for low-dose quinidine formulations of Zenvia used to treat patients with PBA.

• In November 2009, we announced results of the 12-week open label phase of the confirmatory phase III STAR trial which demonstrated that the following patient groups displayed statistically significant improvement in their CNS-LS scores: 1) patients maintained on Zenvia 30/10 mg, 2) patients who titrated from Zenvia 20/10 mg to Zenvia 30/10 mg and 3) patients originally placed on placebo that initiated Zenvia 30/10 mg.

We have historically sought to maintain flexibility in our cost structure by actively managing several outsourced functions, such as clinical trials, legal counsel, documentation and testing of internal controls, pre-clinical development work, and manufacturing, warehousing and distribution services, rather than maintaining all of these functions in house. We believe that at this stage of our development the benefits of outsourcing, which include flexibility and rapid response to program delays or successes, far outweigh the higher costs often associated with outsourcing.

Our principal focus is currently on gaining regulatory approval for Zenvia for the PBA indication. We believe that cash and cash equivalents and restricted investments of approximately $32.0 million at September 30, 2009 will be sufficient to fund our operations for at least the next twelve months and through the date by which we expect that the FDA will render an approval decision with respect to Zenvia for PBA. For additional information about the risks and uncertainties that may affect our business and prospects, please see Item 1A, "Risk Factors."

Critical Accounting Policies and Estimates for Continuing Operations

Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make a number of assumptions and estimates that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reported periods. Significant estimates and assumptions are required in the determination of revenue recognition in certain royalties. Significant estimates and assumptions are also required in the appropriateness of amounts recognized for inventories, income taxes, contingencies, estimates on the net working capital adjustment and stock-based compensation. We base our estimates on historical experience and various other assumptions that are available at that time and that we believe to be reasonable under the circumstances. Some of these judgments can be subjective and complex. For any given individual estimate or assumption made by us, there may also be other estimates or assumptions that are reasonable. These items are monitored and analyzed by management for changes in facts and circumstances, and material changes in these estimates could occur in the future. Changes in estimates are recorded in the period in which they become known. Actual results may differ from our estimates if past experience or other assumptions do not turn out to be substantially accurate.

Share-Based Compensation

We grant options, restricted stock units and restricted stock awards to purchase our common stock to our employees, directors and consultants under our stock option plans. The benefits provided under these plans are share-based payments that we account for using the fair value method.

The fair value of each option award is estimated on the date of grant using a Black-Scholes-Merton option pricing model ("Black-Scholes model") that uses assumptions regarding a number of complex and subjective variables. These variables include, but are not limited to, our expected stock price volatility, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends. Expected volatilities are based on historical volatility of our common stock and other factors. The expected terms of options granted are based on analyses of historical employee termination rates and option exercises. The risk-free interest rates are based on the U.S. Treasury yield in effect at the time of the grant. Since we do not expect to pay dividends on our common stock in the foreseeable future, we estimated the dividend yield to be 0%.

If factors change and we employ different assumptions in calculating the fair value in future periods, the compensation expense that we record may differ significantly from what we have recorded in the current period. There is a high degree of subjectivity involved when using option pricing models to estimate share-based compensation. Because changes in the subjective input assumptions can materially affect our estimates of fair values of our share-based compensation, in our opinion, existing valuation models, including the Black-Scholes and lattice binomial models, may not provide reliable measures of the fair values of our share-based compensation. Consequently, there is a risk that our estimates of the fair values of our share-based compensation awards on the grant dates may bear little resemblance to the actual values realized upon the exercise, early termination or

forfeiture of those share-based payments in the future. Certain share-based payments, such as employee stock options, may expire worthless or otherwise result in zero intrinsic value as compared to the fair values originally estimated on the grant date and reported in our financial statements. For awards with a longer vesting period, such as the three-year cliff vesting awards issued to certain officers, the actual forfeiture rate and related expense may not be known for a longer period of time, which can result in more significant accounting adjustments once the awards are either vested or forfeited.

Alternatively, values may be realized from these instruments that are significantly in excess of the fair values originally estimated on the grant date and reported in our financial statements. There is no current market-based mechanism or other practical application to verify the reliability and accuracy of the estimates stemming from these valuation models, nor is there a means to compare and adjust the estimates to actual values. Although the fair value of employee share-based awards is determined using an option-pricing model, the value derived from that model may not be indicative of the fair value observed in a willing buyer/willing seller market transaction.

The application of the fair value method of accounting for share-based compensation may be subject to further interpretation and refinement over time. There are significant differences among valuation models, and there is a possibility that we will adopt different valuation models in the future. This may result in a lack of consistency in future periods and materially affect the fair value estimate of share-based payments. It may also result in a lack of comparability with other companies that use different models, methods and assumptions.

Theoretical valuation models and market-based methods are evolving and may result in lower or higher fair value estimates for share-based compensation. The timing, readiness, adoption, general acceptance, reliability and testing of these methods is uncertain. Sophisticated mathematical models may require voluminous historical information, modeling expertise, financial analyses, correlation analyses, integrated software and databases, consulting fees, customization and testing for adequacy of internal controls. Market-based methods are emerging that, if employed by us, may dilute our earnings per share and involve significant transaction fees and ongoing administrative expenses. The uncertainties and costs of these extensive valuation efforts may outweigh the benefits to investors.

Share-based compensation expense recognized during a period is based on the value of the portion of share-based payment awards that is ultimately expected to vest amortized under the straight-line attribution method. As share-based compensation expense recognized in the consolidated statements of operations for fiscal 2009 and 2008 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. The fair value method requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. We estimate forfeitures based on our historical experience. Changes to the estimated forfeiture rate are accounted for as a cumulative effect of change in the period the change occurred. In the fourth quarter of fiscal 2009, we reviewed our estimated forfeiture rate considering recent actual data resulting in a reduction to our estimated forfeiture rate from 30.0% to 12.6%. Additionally, we reduced our estimated forfeiture rate on certain restricted stock unit awards from 30.0% to zero percent, as we expect all the awards to vest. These changes in the estimated forfeiture rates resulted in an increase in share-based compensation expense of $935,000 and an increase to the diluted loss per share of $0.01 for fiscal 2009.

Revenue Recognition

General. We recognize revenue when all of the following criteria are met:
(1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) our price to the buyer is fixed and determinable; and (4) collectability is reasonably assured.

Certain product sales are subject to rights of return. For products sold where the buyer has the right to return the product, we recognize revenue at the time of sale only if (1) our price to the buyer is fixed and determinable; (2) the buyer has paid us, or the buyer is obligated to pay us and the obligation is not contingent on the resale of the product; (3) the buyer's obligation to us would not be changed in the event of theft or physical destruction or damage of the product; (4) the buyer has economic substance apart form that provided by us;
(5) we do not have significant obligations for future performance to directly bring about resale of the product by the buyer; and (6) the amount of future returns can be reasonably estimated.

Revenue Arrangements with Multiple Deliverables. We have revenue arrangements whereby we deliver to the customer multiple products and/or services. Such arrangements have generally included some combination of the following: antibody generation services; licensed rights to technology, patented products, compounds, data and other intellectual property; and research and development services. We analyze our multiple element arrangements to determine whether the elements can be separated. We perform our analysis at the inception of the arrangement and as each product or service is delivered. If a product or service is not separable, the combined deliverables will be accounted for as a single unit of accounting.

A delivered product or service (or group of delivered products or services) can be separated from other elements when it meets all of the following criteria:
(1) the delivered item has value to the customer on a standalone basis;
(2) there is objective and reliable evidence of the fair value of the undelivered item; and (3) if the arrangement includes a general right of return relative to the delivered item, delivery, or performance of the undelivered item is considered probable and substantially in our control. If an element can be separated, we allocate revenue based upon the relative fair values of each element. We determine the fair value of a separate deliverable using the price we charge other customers when we sell that product or service separately; however if we do not sell the product or service separately, we use third-party evidence of fair value. We consider licensed rights or technology to have standalone value to our customers if we or others have sold such rights or technology separately or our customers can sell such rights or technology separately without the need for our continuing involvement.

License Arrangements. License arrangements may consist of non-refundable upfront license fees, data transfer fees, or research reimbursement payments and/or exclusive licensed rights to patented or patent pending compounds, technology access fees, various performance or sales milestones and future product royalty payments. Some of these arrangements are multiple element arrangements.

Non-refundable, up-front fees that are not contingent on any future performance by us, and require no consequential continuing involvement on our part, are recognized as revenue when the license term commences and the licensed data, technology and/or compound is delivered. Such deliverables may include physical quantities of compounds, design of the compounds and structure-activity relationships, the conceptual framework and mechanism of action, and rights to the patents or patents pending for such compounds. We defer recognition of non-refundable upfront fees if we have continuing performance obligations without which the technology, right, product or service conveyed in conjunction with the non-refundable fee has no utility to the licensee that is separate and independent of our performance under the other elements of the arrangement. In addition, if we have continuing involvement through research and development services that are required because our know-how and expertise related to the technology is proprietary to us, or can only be performed by us, then such up-front fees are deferred and recognized over the period of continuing involvement.

Payments related to substantive, performance-based milestones in a research and development arrangement are recognized as revenue upon the achievement of the milestones as specified in the underlying agreements when they represent the culmination of the earnings process.

Royalty Revenues. We recognize royalty revenues from licensed products when earned in accordance with the terms of the license agreements. Net sales figures used for calculating royalties include deductions for returned product, pricing allowances, managed care charge backs, cash discounts, freight/warehousing, and miscellaneous write-offs.

Certain royalty agreements require that royalties are earned only if a sales threshold is exceeded. Under these types of arrangements, the threshold is typically based on annual sales. The company recognizes royalty revenue in the period in which the threshold is exceeded.

Revenues from Sale of Royalty Rights. When we sell our rights to future royalties under license agreements and also maintain continuing involvement in earning such royalties, we defer recognition of any upfront payments and recognize them as revenue over the life of the license agreement. We recognize revenue for the sale of an undivided interest of our Abreva license agreement to Drug Royalty USA under the "units-of-revenue method." Under this method, the amount of deferred revenue to be recognized as revenue in each period is calculated by multiplying the following: (1) the ratio of the royalty payments due to Drug Royalty USA for the period to the total

remaining royalties that we expect GSK will pay Drug Royalty USA over the term of the agreement by (2) the unamortized deferred revenue amount.

Research Services Arrangements. Revenue from research services is recognized during the period in which the services are performed and is based upon the number of full-time-equivalent personnel working on the specific project at the agreed-upon rate. Reimbursements from collaborative partners for agreed upon direct costs including direct materials and outsourced, or subcontracted, pre-clinical studies are classified as revenue and recognized in the period the reimbursable expenses are incurred. Payments received in advance are recorded as deferred revenue until the research and development services are performed or costs are incurred. These arrangements are often multiple element arrangements.

Government Research Grant Revenue. We recognize revenues from federal research grants during the period in which the related expenditures are incurred.

Product Sales - Active Pharmaceutical Ingredient Docosanol ("API Docosanol"). Revenue from sales of our API Docosanol is recorded when title and risk of loss have passed to the buyer and provided the criteria for revenue recognition are met. We sell the API Docosanol to various licensees upon receipt of a written order for the materials. Shipments generally occur fewer than three times a year. Our contracts for sales of the API Docosanol include buyer acceptance provisions that give our buyers the right of replacement if the delivered product does not meet specified criteria. That right requires that they give us notice within 30 days after receipt of the product.

We have the option to refund or replace any such defective materials; however, we have historically demonstrated that the materials shipped from the same pre-inspected lot have consistently met the specified criteria and no buyer has rejected any of our shipments from the same pre-inspected lot to date. Therefore, we recognize revenue at the time of delivery without providing any returns reserve.

Cost of Revenues

Cost of revenues includes direct and indirect costs to manufacture product sold, including the write-off of obsolete inventory, reserves against inventory and to provide research and development services.

Recognition of Expenses in Outsourced Contracts

Pursuant to management's assessment of the services that have been performed on clinical trials and other contracts, we recognize expenses as the services are provided. Such management assessments include, but are not limited to: (1) an evaluation by the project manager of the work that has been completed during the period, (2) measurement of progress prepared internally and/or provided by the third-party service provider, (3) analyses of data that justify the progress, and (4) management's judgment. Several of our contracts extend across multiple reporting periods, including our largest contract, representing a $7.1 million Phase III clinical trial contract that was entered into in the first fiscal quarter of fiscal 2008. Management bases its assessments on estimates that it considers reasonable in the circumstances. Other estimates could result in different assessments and different expense recognition.

Research and Development Expenses

Research and development expenses consist of expenses incurred in performing research and development activities including salaries and benefits, facilities and other overhead expenses, clinical trials, contract services and other outside expenses. Research and development expenses are charged to operations as they are incurred. Up-front payments to collaborators made in exchange for the avoidance of potential future milestone and royalty payments on licensed technology are also charged to research and development expense when the drug is still in the development stage, has not been approved by the FDA for commercialization and concurrently has no alternative uses.

We assess our obligations to make milestone payments that may become due under licensed or acquired technology to determine whether the payments should be expensed or capitalized. We charge milestone payments to research and development expense when:

• The technology is in the early stage of development and has no alternative uses;

• There is substantial uncertainty regarding the future success of the technology or product;

• There will be difficulty in completing the remaining development; and

• There is substantial cost to complete the work.

Acquired contractual rights. Payments to acquire contractual rights to a licensed technology or drug candidate are expensed as incurred when there is uncertainty in receiving future economic benefits from the acquired contractual rights. We consider the future economic benefits from the acquired contractual rights to a drug candidate to be uncertain until such drug candidate is approved by the FDA or when other significant risk factors are abated.

Effects of Inflation

We believe the impact of inflation and changing prices on net revenues and on operations has been minimal during the past two years.

Results of Operations

We operate our business on the basis of a single reportable segment, which is the business of development, acquisition and commercialization of novel therapeutics for chronic diseases. Our chief operating decision-maker is the Chief Executive Officer, who evaluates our company as a single operating segment.

We categorize revenues by type of revenue in five different categories:
1) royalties and royalty rights, 2) licensing, 3) government research grant services, 4) research and development services and 5) product sales.

All long-lived assets for fiscal 2009 and 2008 are located in the United States.

Comparison of Fiscal 2009 and 2008

Revenues and Cost of Revenues


                                                      Year Ended September 30,
                                                       2009              2008            $ Change         % Change

PRODUCT SALES
Net revenues                                       $           -      $   129,820      $   (129,820 )          -100 %
Cost of revenues                                          73,135           21,714            51,421             237 %

Product gross (loss) margin                              (73,135 )        108,106          (181,241 )          -168 %

REVENUES AND COST OF RESEARCH SERVICES AND OTHER
Revenues:
Revenues from royalties and royalty rights             3,642,675        3,616,102            26,573               1 %
Revenues from license agreements                         533,834        2,205,724        (1,671,890 )           -76 %
Revenues from government research grant services               -        1,006,922        (1,006,922 )          -100 %

Revenues from research services and other              4,176,509        6,828,748        (2,652,239 )           -39 %

Costs:
. . .