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ENZN > SEC Filings for ENZN > Form 10-Q on 9-Nov-2012All Recent SEC Filings

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Form 10-Q for ENZON PHARMACEUTICALS INC


9-Nov-2012

Quarterly Report


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

Unless the context requires otherwise, references in this Quarterly Report on Form 10-Q to "Enzon," the "Company," "we," "us," or "our" and similar terms mean Enzon Pharmaceuticals, Inc. and its subsidiaries.

Overview

We are a biotechnology company dedicated to the research and development of innovative therapeutics for patients with high unmet medical needs. We are managed as a single operating unit. Our drug development programs utilize two platforms - Customized PEGylation Linker Technology (Customized Linker Technology®) and third-generation messenger ribonucleic acid (mRNA) antagonists utilizing the Locked Nucleic Acid (LNA) technology. We currently have four compounds in human clinical development: PEG-SN38, a PEGylated version of the active metabolite of the cancer drug irinotecan, and mRNA antagonists targeting Androgen Receptor (AR), Hypoxia-Inducible Factor-1? (HIF-1?) and Survivin. In addition, we have other novel LNA targets in various stages of preclinical research. We receive royalty revenues from licensing arrangements with other companies related to sales of products developed using our proprietary Customized Linker Technology - primarily PEGINTRON, marketed by Merck & Co., Inc. (Merck).

We have completed enrollment in both of our Phase II PEG-SN38 trials in metastatic colorectal and metastatic breast cancer, our Phase I PEG-SN38 trial in pediatric patients, and our Phase I clinical trials for HIF-1? and Survivin. At this time, we do not intend to proceed with the clinical development of Survivin. We are currently enrolling for our Androgen Receptor mRNA antagonist Phase I trial in patients with castration-resistant prostate cancer. The enrollment of patients for clinical trials is an inherently uncertain process and there can be no assurance we will be able to complete the enrollment of patients for our clinical trials within the timeframe anticipated. During the second quarter of 2012, we licensed PEG-SN38 to Zhejiang Hisun Pharmaceutical Co., Ltd. (Hisun) for development and commercialization in China. We are currently seeking strategic partners to further develop and commercialize PEG-SN38 in other territories. Absent such partnerships, we do not intend to fund further development of PEG-SN38.

Throughout Management's Discussion and Analysis, the primary focus is on the results of operations, cash flows, financial condition and future outlook of our business. The percentage changes throughout the following discussion are based on amounts stated in thousands of dollars and not the rounded millions of dollars reflected in this section.

Results of Operations



Revenues:



Royalties (in millions of dollars):



                    Three Months Ended         Nine Months Ended
                       September 30,             September 30,
                          Percent                   Percent
                  2012    Change    2011    2012    Change    2011
Royalty revenue   $10.9     7%      $10.2   $31.0     0%      $31.1

We receive income from royalties on sales of products by other companies that use our proprietary PEGylation technology, including PEGINTRON, marketed by Merck; Macugen, marketed by Pfizer, Inc. outside the U.S. and Valeant Pharmaceuticals International, Inc. in the U.S.; and CIMZIA, marketed by UCB Pharma. Notification from the third-party licensee of the royalties earned under the license agreement is the basis for royalty revenue recognition. This information generally is received from the licensees, and royalty revenue is recognized, in the quarter subsequent to the period in which the sales occur. Royalty revenue for the three months ended September 30, 2012 increased 7% to $10.9 million from $10.2 million for the three months ended September 30, 2011. For the nine months ended September 30, 2012, royalty revenue remained flat compared to the same period in 2011.

Sales of PEGINTRON by Merck continue to constitute the most significant source of our royalty revenues. The following table summarizes our PEGINTRON royalties earned:

                      Three Months Ended                                    Nine Months Ended
(in millions of
dollars)                September 30,           Dollar       Percent          September 30,          Dollar       Percent
PEGINTRON
royalties from:       2012           2011       Change       Change          2012         2011       Change       Change
US sales           $     1.78       $  1.26     $  0.52            41 %   $     5.75     $  3.92     $  1.83            47 %
Foreign sales -
Europe                   3.48          2.50        0.98            39 %         8.84        8.14        0.70             9 %
Foreign sales -
Japan                    2.23          2.54       (0.31 )         -12 %         5.97        8.73       (2.76 )         -32 %
Foreign sales -
Other                    2.87          3.05       (0.18 )          -6 %         8.68        8.40        0.28             3 %
Total              $    10.36       $  9.35     $  1.01            11 %   $    29.24     $ 29.19     $  0.05             0 %

Sale of In-process Research and Development

When we sold our specialty pharmaceutical business in January 2010, we retained our research and development organization. We had been engaged in studies oriented towards the next-generation formulations of Oncaspar and Adagen, two products that were among those sold as part of the specialty pharmaceutical business. The in-process research and development related to Oncaspar and Adagen was sold to the purchaser of the specialty pharmaceutical business, and the selling price represented management's best estimate of its standalone fair value based on the stage of development and consideration of future milestone payments at that time potentially amounting to $27.0 million. All necessary technology and know-how was transferred to the purchaser at the time of the sale, and the purchaser could resell the in-process research and development asset. At the time of the sale, the activities necessary to complete the work on Oncaspar and Adagen next-generation formulas could have been performed by the purchaser or others.

During the first quarter of 2011, the Company earned a $5.0 million milestone payment from the purchaser of the specialty pharmaceutical business resulting from FDA approval for SS Oncaspar. This milestone payment relates to our transfer of technology that was included in the 2010 sale of in-process research and development. In late 2010, circumstances emerged that made it unlikely that the $5.0 million due for accelerated EMA approval for SC Oncaspar would be achieved. The following are the remaining potential milestone payments:

· $7.0 million due for FDA approval for SC Oncaspar; and

· $10.0 million due for non-accelerated EMA approval for SC Oncaspar.

Of the remaining $17.0 million of potential milestone payments, it is very unlikely that any will be received in 2012 and there can be no assurance that we will receive any such payments in the future.

Contract Research and Development

There was no contract research and development revenue for the third quarter of 2012 and minimal revenue for the nine months ended September 30, 2012. Pursuant to a transition services agreement entered into at the time of the sale of the specialty pharmaceutical business, we began performing product-support research and development, consulting, and technology transfer functions for the purchaser effective with the close of the sale transaction on January 29, 2010. The transition services associated with product-support research and development are being reported in continuing operations since they are consistent with our on-going research and development activities. We are being compensated at actual cost plus a mark-up per the terms of the transition services agreement. Our contractual obligation is to assist with these transition services for a period of up to three years subsequent to the date of the sale, although we do not anticipate any such activity over the remainder of 2012.

Miscellaneous Income

Miscellaneous income was $0.2 million for the third quarter of 2012 and $0.8 million for the nine months ended September 30, 2012. Miscellaneous income consists of rental receipts from the sublease of unused manufacturing and excess office space for which we have on-going lease commitments. The underlying lease expense is reflected in general and administrative expenses. In addition, during the second quarter of 2012, we received a non-refundable, non-creditable upfront payment specifically related to the licensing of PEG-SN38 as part of the Collaboration Agreement with Hisun.

Operating Expenses:



Research and Development(in millions of dollars):



                                       Three Months Ended September 30,      Nine Months Ended September 30,
                                                   Percent                               Percent
                                         2012      Change       2011        2012          Change         2011
Research and development -
pipeline                                 $4.0       (62%)       $10.4       $16.5         (47%)          $31.0

Research and development -
specialty and contracted services        $0.0       n.m.        $0.0        $0.1           n.m.          $0.9

n.m. - not meaningful

Research and development - pipeline

During the third quarter of 2012, total spending on our research and development programs decreased by $6.4 million, or 62%, to $4.0 million compared to $10.4 million for the third quarter of 2011. Clinical development expenses declined by $4.2 million, and salaries and benefits expenses declined by $1.7 million as a result of the restructuring implemented in the fourth quarter of 2011. During the first three quarters of 2012, total spending on our research and development programs decreased by $14.5 million, or 47%, to $16.5 million compared to $31.0 million for the first three quarters of 2011. Clinical development expenses declined by $7.5 million, and salaries and benefits expenses declined by $6.0 million as a result of the restructuring implemented in the fourth quarter of 2011. Clinical development expenses have declined for the three and nine months ended September 30, 2012 compared to the same three and nine month periods of 2011 due to the completion of enrollment in both of our PEG-SN38 Phase II clinical trials, as well as our Phase I clinical trials for the HIF-1? and Survivin mRNA antagonists.

Research and development - specialty and contracted services

As a result of the sale of our specialty pharmaceutical business in January 2010, the programs related to the next-generation Oncaspar and Adagen formulations became the responsibility of the purchaser. We continue to assist in the development of these programs through a transition services arrangement. During 2011 and through the first three quarters of 2012, our efforts and spending related to these products decreased substantially, as expected, as the purchaser assumed greater control. These costs were minimal during the first three quarters of 2012 and are not expected to be significant during the remainder of 2012. Our assistance is provided only on an as-needed basis.

General and Administrative(in millions of dollars):



                                        Three Months Ended September
                                                     30,                    Nine Months Ended September 30,
                                                   Percent                              Percent
                                         2012      Change       2011       2012          Change         2011
General and administrative               $3.2       (22%)       $4.1       $11.2         (19%)          $13.8

General and administrative expenses declined by $0.9 million, or 22%, to $3.2 million for the third quarter of 2012 from $4.1 million for the third quarter of 2011. For the nine months ended September 30, 2012, general and administrative expenses declined by $2.6 million, or 19%, to $11.2 million from $13.8 million for the first three quarters of 2011. Several factors have contributed to this decline in costs. By the second quarter of 2011, we completed the reduction in force announced in the fourth quarter of 2010. During the third and fourth quarters of 2011, we eliminated two executives included in general and administrative expenses. The compensation costs for these positions included in the third quarter and first three quarters of 2011 results are no longer incurred. At the end of the first quarter of 2011, we relocated our corporate headquarters from the former Bridgewater, New Jersey facility and consolidated our operations into our Piscataway, New Jersey research facility. The rent and related operating costs for the Bridgewater facility included in the first quarter of 2011 results are no longer incurred. The remainder of the period-to-period decrease in general and administrative expenses was attributable to our on-going efforts to reduce costs such as contracted services and consulting fees, accounting fees, and legal fees.

Restructurings

During the first, second and third quarters of 2012, we adjusted previously estimated 2011 restructuring charges as more accurate information became available. During the third quarter of 2011, we incurred $3.6 million total of restructuring charges, made up of $2.9 million of employee separation benefits and $0.7 million of lease termination costs. During the second quarter of 2011, we recorded a restructuring charge of $0.6 million primarily related to the severance payments and benefits due to the former Executive Vice President, Human Resources & Administration. During the first quarter of 2011, we completed the planned relocation of our corporate offices from Bridgewater, New Jersey to our Piscataway, New Jersey research facility. As a result of having vacated the excess office space in Bridgewater, we incurred a charge of approximately $0.4 million during the first quarter of 2011, which represented the excess of committed lease costs over potential sublease income.

Other Income (Expense)(in millions of dollars):

                                          Three Months Ended September 30,         Nine Months Ended September 30,
                                                     Percent                                   Percent
                                         2012         Change          2011        2012         Change         2011
Other income (expense):
 Investment income, net                  $1.4          241%           $0.4        $2.4           91%          $1.2
 Interest expense                       (1.3)         (14%)          (1.5)        (4.1)         (9%)          (4.4)
 Other, net                               -            n.m.            -          (0.2)          n.m.          0.1
                                         $0.1          n.m.          $(1.1)      $(1.9)          n.m.        $(3.1)

n.m. - not meaningful

Net investment income was $1.4 million for the third quarter of 2012, as compared to $0.4 million for the third quarter of 2011. For the nine months ended September 30, 2012, net investment income was $2.4 million, as compared to $1.2 million for the first three quarters of 2011. During the third quarter of 2012, we sold long-term marketable securities in our portfolio and realized $0.9 million of gains. During the fourth quarter of 2011, we began investing our excess cash on hand in marketable securities, although at much lower yields than we were previously earning due to the current historically low interest rate environment. While the invested balance has increased substantially compared to the third quarter of 2011, the interest income generated has remained relatively flat.

Interest expense was $1.3 million for the third quarter of 2012, as compared to $1.5 million for the third quarter of 2011. Interest expense was $4.1 million for the first three quarters of 2012, as compared to $4.4 million for the first three quarters of 2011. From November 2011 to May 2012, we repurchased $18.7 million principal amount of our outstanding notes payable, and the declining interest costs are reflective of the lower principal amounts outstanding.

Liquidity and Capital Resources

Total cash reserves, which consist of cash, cash equivalents and marketable securities, were $288.7 million as of September 30, 2012, as compared to $323.3 million as of December 31, 2011. The decrease was primarily attributable to the resumption of the share repurchase program and the repurchase of outstanding notes payable.

For the nine months ended September 30, 2012, net cash provided by operating activities was $2.1 million compared to $8.7 million of cash used in the same period of 2011. We earned net income of $2.4 million through the first three quarters of 2012. Adjustments for non-cash expenses and changes in various working capital accounts comprised the offsetting $0.3 million.

Net cash provided by investing activities was $69.9 million for the first three quarters of 2012 as we sold marketable debt securities with a view toward shortening the duration of our portfolio. This compares to $32.4 million of cash provided by investing activities during the first three quarters of 2011, which was primarily attributable to proceeds from maturities of marketable debt securities we chose to allow to mature without reinvesting the proceeds.

Net cash used in financing activities was $35.3 million for the first three quarters of 2012 versus $116.3 million used in the first three quarters of 2011. During the first three quarters of 2012, we utilized $21.5 million to repurchase 3.2 million shares of our outstanding common stock under a $200.0 million share repurchase program initiated in December 2010, suspended during the third quarter of 2011, and resumed during the second quarter of 2012. In addition, we utilized $13.9 million to repurchase $13.7 million principal amount of our outstanding notes payable during the first three quarters of 2012. During the first three quarters of 2011, we utilized $121.1 million to repurchase 11.4 million shares of our outstanding common stock under the aforementioned share repurchase program. Fees incurred to purchase shares are included in cash flows from operating activities. Share repurchases under this program may be made through open market or privately negotiated transactions at such times and in such amounts as we deem appropriate, based on a variety of factors such as price, corporate and regulatory requirements and overall market conditions. There can be no assurance as to the number of shares we will repurchase, if any. The share repurchase program may be modified, suspended or terminated at any time without prior notice.

As of September 30, 2012, we had outstanding $115.8 million of convertible senior notes that mature on June 1, 2013 and bear interest at an annual rate of 4%. Interest on these notes is payable on June 1 and December 1 of each year. Accrued interest on these notes was $1.5 and $0.4 million as of September 30, 2012 and December 31, 2011, respectively.

Our current sources of liquidity are our cash reserves, interest earned on such cash reserves and royalties - primarily those related to sales of PEGINTRON. In January 2011, we earned and received a $5.0 million milestone payment in connection with the sale of the specialty pharmaceutical business in January 2010. No further milestones related to the sale of the specialty pharmaceutical business are expected in 2012, and there can be no assurance that any of these milestones will be received in the future.

Based upon our current planned research and development activities and related costs, our current sources of liquidity, the expected cash outflows from operations and the repurchase of up to $57.0 million of our outstanding common stock remaining from the previously announced $200.0 million share repurchase program, we anticipate our current cash reserves, which were $288.7 million as of September 30, 2012, will be sufficient to meet our capital and operational requirements for the near future. We intend to continually evaluate potential uses of our cash reserves. As part of this on-going evaluation, we may decide to use a portion of our cash reserves to return cash to our stockholders through additional repurchases under our share repurchase program or, subject to the discretion of our board of directors and applicable law, the declaration and payment of a dividend. Although we may decide to use our cash reserves to return cash to our stockholders, there can be no assurance that we will do so, and any such decision would depend on our actual and anticipated liquidity requirements, prevailing market conditions and other relevant factors. In addition, as part of this on-going evaluation, we intend to continually consider options to address the June 1, 2013 maturity of our 4% convertible notes, of which $115.8 million in principal amount was outstanding at September 30, 2012. We may decide to use our available cash and cash equivalents, of which we currently have $140.9 million, to repay all or a portion of the notes, or we may decide to seek to refinance these notes prior to their maturity or pursue other options. Our ability to refinance these notes or our ability to pursue other options cannot be predicted and will depend on future economic conditions and financial, business, market and other factors that may be beyond our control. While we believe that our current sources of liquidity will be adequate to satisfy our capital and operational needs for the near future, it is likely that we will need to obtain additional financing or enter into a collaborative arrangement to sustain our research and development efforts prior to the time we are able to commercialize any of our product candidates. There can be no assurance, however, that we will be able to obtain additional funds or engage a collaborator on acceptable terms, if at all. If we are unable to obtain adequate financing or collaborative support, we may be required to curtail our research and development activities and/or license our product candidates to third parties.

Off-Balance Sheet Arrangements

As part of our ongoing business, we do not participate in transactions that generate relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities (SPEs), which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually limited purposes. As of September 30, 2012, we were not involved in any SPE transactions.

Our 4% notes payable are convertible into shares of our common stock at a conversion price of $9.55 per share and pose a reasonable likelihood of potential significant dilution. As of September 30, 2012, the maximum potential dilutive effect of conversion of the 4% notes is approximately 12.1 million shares using the conversion rate of 104.712 shares per $1,000 principal amount currently in effect. If we were to experience a fundamental change (as defined in the indenture agreement), the conversion rate could be enhanced for the benefit of the note holders which would yield greater dilution. Notes payable are discussed in greater detail in Liquidity and Capital Resources above and in the notes to our condensed consolidated financial statements.

In addition, stock options to purchase 2.9 million shares of our common stock at a weighted-average exercise price of $10.90 per share and 0.6 million restricted stock units (nonvested shares) were outstanding at September 30, 2012, which represent additional potential dilution.

Contractual Obligations

Our major outstanding contractual obligations relate to our operating leases, convertible debt, and license agreements with collaborative partners. There have been no material changes since December 31, 2011 with respect to our contractual obligations.

Critical Accounting Policies and Estimates

A critical accounting policy is one that is both important to the portrayal of a company's financial condition and results of operations and requires management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

Our condensed consolidated financial statements are presented in accordance with accounting principles that are generally accepted in the U.S. All applicable U.S. GAAP accounting standards effective as of September 30, 2012 have been taken into consideration in preparing the condensed consolidated financial statements. The preparation of condensed consolidated financial statements requires estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. Some of those estimates are subjective and complex, and, consequently, actual results could differ from those estimates. The following accounting policies and estimates have been highlighted as significant because changes to certain judgments and assumptions inherent in these policies could affect our condensed consolidated financial statements.

We base our estimates, to the extent possible, on historical experience. Historical information is modified as appropriate based on current business factors and various assumptions that we believe are necessary to form a basis for making judgments about the carrying value of assets and liabilities. We evaluate our estimates on an on-going basis and make changes when necessary. Actual results could differ from our estimates.

Revenues

Royalties under our license agreements with third-parties and pursuant to the sale of our specialty pharmaceutical business are recognized when reasonably determinable and earned through the sale of the product by the third-party and collection is reasonably assured. Notification from the third-party licensee of the royalties earned under the license agreement is the basis for royalty revenue recognition. This information generally is received from the licensees, and royalty revenue is recognized, in the quarter subsequent to the period in which the sales occur.

Contingent payments due under the asset purchase agreement related to the sale of the specialty pharmaceutical business are recognized as income when the milestone has been achieved and collection is assured. Such payments are non-refundable, and no further effort is required on the part of the Company or the other party to complete the earning process. Non-refundable payments received upon entering into license and other collaborative agreements where we have continuing involvement are recorded as deferred revenue and recognized ratably over the estimated service period.

The sale of the specialty pharmaceutical business involved the application of guidance regarding multiple deliverables in separating the revenues associated with the sale of in-process research and development from the other elements of the transaction, namely the assets sold as part of discontinued operations and our continuing involvement in contract research activities. We determined that the in-process research and development had value to the buyer of the specialty pharmaceutical business on a stand-alone basis and that there was objective and reliable evidence available to support the allocation of the total purchase price to the respective units of accounting.

Research and Development Expenses

We accrue expenses for the cost of work performed by contract research organizations, contract manufacturing organizations and others based upon the estimated amount of the total effort completed on each order, study or project using factors such as the number of lots produced, the number of patients enrolled, the number of active clinical sites and the duration for which the patients will be enrolled in the study. We base the estimates on the information available at the time. Additional information may become available at a later date that would enable us to develop a more accurate estimate. Such changes in estimate are generally recognized in the period when the information is first known.

Income Taxes

. . .

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