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APRI > SEC Filings for APRI > Form 10-K on 18-Mar-2013All Recent SEC Filings

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Form 10-K for APRICUS BIOSCIENCES, INC.


18-Mar-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Forward-looking Statements

This report includes "forward-looking statements" within the meaning of
Section 21E of the Exchange Act. Those statements include statements regarding the intent, belief or current expectations of Apricus Biosciences, Inc. and Subsidiaries ("we," "us," "our" or the "Company") and our management team. Any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and actual results may differ materially from those projected in the forward-looking statements. These risks and uncertainties include but are not limited to those risks and uncertainties set forth in Item 1A of this Report. In light of the significant risks and uncertainties inherent in the forward-looking statements included in this Report, the inclusion of such statements should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. Further, these forward-looking statements reflect our view only as of the date of this report. Except as required by law, we undertake no obligations to update any forward-looking statements and we disclaim any intent to update forward-looking statements after the date of this report to reflect subsequent developments. Accordingly, you should also carefully consider the factors set forth in other reports or documents that we file from time to time with the Securities and Exchange Commission.

General

We are a Nevada corporation and have been in existence since 1987. On September 10, 2010, the Company changed its name from "NexMed, Inc." to "Apricus Biosciences, Inc." We have operated in the pharmaceutical industry since 1995, initially focusing on research and development in the area of drug delivery and are now primarily focused on product development in the area of sexual health. Our proprietary drug delivery technology is called NexACT® and we have one approved drug using the NexACT® delivery system, Vitaros®, which is approved in Canada for the treatment of erectile dysfunction, which we expect will be launched in the first half of 2013 by our partner Abbott. Also in the area of sexual health is our Femprox® product candidate for female sexual arousal disorder. Additionally the Company has MycoVa™ for onychomycosis excluding tinea pedis (nail fungal infection), and RayVa™ for Raynaud's Syndrome as product candidates using the NexACT ® permeation enhancer.

We continue to enter into and are seeking additional commercialization partnerships for our existing pipeline of products and product candidates, including Vitaros ®, and Femprox® and we are enhancing our business development efforts by offering potential partners clearly defined regulatory paths for our products under development.

Our lead product, Vitaros®, was approved for commercialization in Canada in November, 2010 and is now partnered in the United States, Canada, Germany, the United Kingdom, Italy, certain countries in the Middle East, the Gulf countries and Israel. Our near term focus for Vitaros® is to commence sales in Canada in the first half of 2013 through our commercial partner, Abbott, and to continue to generate revenue from partnerships for the product with other commercial partners. We also expect payment from certain of our partners on the approval of Vitaros® in Europe and other territories. Typically, in our partnership arrangements we receive up-front payments in exchange for license rights to our products plus sales milestones and royalties to be paid upon commercialization of the product.

We filed for marketing approval for Vitaros® in Europe in the second quarter of 2011 and we expect to receive an approval decision in Europe in the first half of 2013.

The Company operated in three segments during 2012:

• Pharmaceuticals-designs and develops pharmaceutical products including those with its NexACT ® platform;


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• Diagnostic Sales-sells diagnostic products and, prior to June 30, 2011, provided pre-clinical CRO services through the Company's former subsidiary, Bio-Quant; and

• Contract Sales-provides contract sales for third party pharmaceutical companies through the Company's subsidiary, Finesco.

As previously announced, we made the strategic decision in December 2012 to focus on our core product candidates associated with sexual health and the underlying NexACT® technology. As a result, we chose to divest our United States based oncology supportive care business which was aggregated into our Pharmaceuticals segment and is presented as a discontinued operation at December 31, 2012.

Additionally, we announced in March 2013 that we ceased funding Finesco, which could result in the dissolution of these entities, in which case we will receive little or no return on our investment. These subsidiaries are presented in the Contract Sales segment during 2012.

Liquidity, Capital Resources and Financial Condition.

We have experienced net losses and negative cash flows from operations each year since our inception. Through December 31, 2012, we had an accumulated deficit of $251.1 million and our operations have principally been financed through public offerings of our common stock and other equity instruments, private placements of equity securities, debt financing and up-front license fees received from commercial partners. Funds raised in 2012 from common stock transactions include approximately $18.4 million in net proceeds from our February 2012 follow-on public offering, approximately $2.0 million from the sale of common stock through our "at-the-market" stock sales facility and approximately $0.04 million from the exercise of warrants outstanding. The receipt of this cash during 2012 was offset by our cash used in operations. Our net cash outflow from operations during the year was approximately $12.3 million, which resulted from the increase in expenditures for research and development activities while we commercialize our Vitaros® product for sale in Canada and obtain market approval in other regions. In November 2012, we extended the term of our $4.0 million convertible notes payable with private investors and the notes are now due in December 2014. These recent transactions should not be considered an indication of our ability to raise additional funds in any future periods. We operate in a rapidly changing and highly regulated marketplace and we expect to adjust our capital needs and financing plans as our operational objectives and market conditions dictate.

Our cash and cash equivalents at December 31, 2012 were approximately $15.1 million. We expect to require external financing to fund our long-term operations. In March of 2013 we closed the sale of our New Jersey facility resulting in net proceeds of approximately $3.6 million. As a result, we believe we have sufficient cash reserves to fund our on-going operations for the next twelve months, however, we expect to continue to have net cash outflows from operations in 2013 as we execute our market approval and commercialization plan for Vitaros®, develop and implement a regulatory and clinical trial program for Femprox ® for FSAD and further develop our pipeline products. We announced in March 2013 that we would cease funding Finesco. We expect our cash inflows during 2013 will be from licensing and milestone revenues received from commercial partners for our late stage product candidates and from royalty payments received from sales in Canada. We expect our most significant expenditures in 2013 will include development expenditures including continued regulatory and manufacturing activities related to Vitaros® and costs associated with the clinical development of Femprox®.

Based on our recurring losses, negative cash flows from operations and working capital levels, we will need to raise substantial additional funds to finance our operations. If we are unable to maintain sufficient financial resources, including by raising additional funds when needed, our business, financial condition and results of operations will be materially and adversely affected. There can be no assurance that we will be able to obtain the needed financing on reasonable terms or at all. Additionally, equity financings may have a dilutive effect on the holdings of our existing stockholders and may result in downward pressure on the price of our common stock.


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We have two effective shelf registration statements on Form S-3 filed with the SEC under which we may offer from time to time any combination of debt securities, common and preferred stock and warrants. One of the registration statements relates to our "at-the-market" common stock selling facility through Ascendiant Capital. This facility allows us ready access to cash through the sale of newly issued shares of our common stock. As of March 13, 2013, we have available $17.2 million under this at-the-market common stock selling facility. The Company's at-the-market common stock selling facility may be terminated by either party by giving proper written notice. The rules and regulations of the SEC or any other regulatory agencies may restrict our ability to conduct certain types of financing activities, or may affect the timing of and amounts we can raise by undertaking such activities.

Even if we are successful in obtaining additional cash resources to support further development of our products, we may still encounter additional obstacles such as our development activities may not be successful, our products may not prove to be safe and effective, clinical development work may not be completed in a timely manner or at all, and the anticipated products may not be commercially viable or successfully marketed. Additionally, our business could require additional financing if we choose to accelerate product development expenditures in advance of receiving up-front payments from development and commercial partners. If our efforts to raise additional equity or debt funds when needed are unsuccessful, we may be required to delay or scale-back our development plans, reduce costs and personnel and cease to operate as a going concern. These financial statements do not include any adjustments that might result from the outcome of this uncertainty.

Critical Accounting Estimates and Policies

Our discussion and analysis of our financial condition and results of operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Note 2 in the Notes to the Consolidated Financial Statements, includes a summary of the significant accounting policies and methods used in the preparation of our Consolidated Financial Statements. The preparation of these financial statements requires our management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent liabilities at the date of the financial statements, and the reported amounts of expenses during the reporting period. Some of our accounting policies require us to make difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. The following accounting policies involve critical accounting estimates because they are particularly dependent on estimates and assumptions made by management about matters that are highly uncertain at the time the accounting estimates are made. In addition, while we have used our judgements based on facts and circumstances available to us at the time to calculate our best estimates, different estimates reasonably could have been used. Changes in the accounting estimates we use are reasonably likely to occur from time to time, which may have a material impact on the presentation of our financial condition and results of operations.

Our most critical accounting estimates include the recognition of revenue, the assessment of recoverability of long-lived assets, which primarily impact operating expenses when we impair assets or accelerate depreciation, the assessment of contingent consideration, discontinued operations, stock-based compensation which impacts operating expenses; and income taxes, which primarily impacts our net loss. We review our estimates, judgments, and assumptions used in our accounting practices periodically and reflect the effects of revisions in the period in which they are deemed to be necessary. We believe that these estimates are reasonable; however, our actual results may differ from these estimates.

Revenue recognition: We have historically generated revenues from licensing of technology rights, product sales, performance of pre-clinical testing services, and contract sales services. Payments received under commercial arrangements such as the licensing of technology rights, may include non-refundable fees at the inception of the arrangements, milestone payments for specific achievements designated in the agreements, royalties on sales of products, and payments for the sale of rights to future royalties.


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License Arrangements. License arrangements may consist of non-refundable upfront license fees, regulatory and sales milestones, royalties upon sales of product, and the delivery of product and/or research services to the licensee. These arrangements are often multiple element arrangements.

Critical Estimate: Revenue from our license arrangements is determined by assessing the deliverables in the arrangement under the authoritative guidance for multiple element arrangements. Analyzing the arrangement to identify deliverables requires the use of judgment. Deliverables may include a right or license to use an asset, a performance obligation, or an obligation to deliver product and/or research services. Once we identify the deliverables under the arrangement, we determined whether or not the deliverables can be accounted for as separate units of accounting, and the appropriate method of revenue recognition for each element. Revenue is recognized upon delivery of the elements within the arrangement based upon the consideration allocated to each deliverable. The value of the license and associated upfront payments is based upon similar arrangements.

Long-lived and intangible assets: We review for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. An impairment loss would be recognized when estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition are less than its carrying amount. If such assets are considered impaired, the amount of the impairment loss recognized is measured as the amount by which the carrying value of the asset exceeds the fair value of the asset, fair value being determined based upon discounted cash flows or appraised values, depending on the nature of the asset. We recorded impairment charges related to our long-lived and intangible assets for the years ended December 31, 2012, 2011 and 2010 of $0.7 million, $0.0 million and $1.1 million, respectively.

Critical Estimate: We evaluated our building in East Windsor, New Jersey and management committed to a plan to sell the land, building and related equipment. These assets are categorized as assets held for sale on the balance sheet at December 31, 2012 and totaled $4.1 million. Equipment held for sale is no longer subject to depreciation, and is recorded at the lower of depreciated carrying value or fair market value less costs to sell. We incurred an impairment charge of $0.5 million based upon the expected net selling price less the associated environmental remediation costs related to our building in East Windsor, New Jersey. In addition to the impairment on the assets held for sale, the building was leased to a non-related party with escalating rent over a ten year period. We record this rental income on a straight-line basis with the difference between rental income and payments received recorded as a deferred rental income asset. As a result of the sale we will not amortize the deferred rental income over the term of the lease and accordingly an impairment in the amount of $0.2 million was recorded in 2012. These impairment charges were recorded in the statement of operations and comprehensive loss in general and administrative expenses. We completed the sale of these assets in March 2013.

Critical Estimate: In December 2012, the Company made the strategic decision to divest the oncology supportive care business and is currently seeking buyers for the business or the individual assets therein. The decision to sell the business was a triggering event that required us to evaluate our assets held for sale including our intangible assets for impairment by comparing the book values of the Company's co-promotion rights, technology licenses and trade names against their respective estimated fair value. We evaluated our oncology supportive care business with the assistance of a third party valuation firm, the estimated fair values of the Company's co-promotion rights, technology licenses and trade names were determined using a discounted cash flows model and a market approach based on multiple offers the Company received for certain assets of the business. The discounted cash flows model requires certain assumptions and judgments including but not limited to estimation of future cash flows, which is dependent on internal forecasts, estimation of the long-term rate of growth for the businesses, the useful life over which cash flows will occur, and determination of the Company's weighted average cost of capital. We determined that estimated future cash flows expected to result from the use of the assets used in that business and their eventual disposition are less than their carrying amount. We recorded an impairment charge of $1.8 million to write down our intangible assets to $1.9 million. This impairment charge has been recorded in discontinued operations in the consolidated statements of operations and comprehensive loss. We expect to sell these assets by the end of the second quarter of 2013. The economic terms of the sale are


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expected to include an up-front payment and potential earn out consideration based on the future performance by the buyer. Depending on the value of the up-front payment, we may record additional gains or losses associated with the intangible assets currently being held for sale. Any earn out consideration will be recorded as a recovery of the loss or additional gains when any contingency has lapsed. On December 31, 2010, we recorded an impairment charge of $1.1 million to write down the fair value of know-how related to Bio-Quant to $1.6 million. The 2010 impairment charge was recorded in the statement of operations and comprehensive loss in impairment of goodwill and intangible assets.

Goodwill: We review for impairment annually and between annual tests if we become aware of an event or a change in circumstances that would indicate the carrying amount may be impaired. We perform our annual impairment testing as of December 31 of each year. The first step of the impairment test requires that the Company determines the fair value of each reporting unit, and compare the fair value to the reporting unit's carrying amount. To the extent a reporting unit's carrying amount exceeds its fair value, an indication exists that the reporting unit's goodwill may be impaired and the Company must perform Step 2 of the goodwill impairment assessment. Step 2 of the assessment involves comparing the implied fair value of the reporting unit's goodwill to the carrying amount of goodwill to quantify an impairment charge as of the assessment date. We recorded impairment charges related to our goodwill for the years ended December 31, 2012, 2011 and 2010 of $9.4 million, $0.0 million and $9.1 million, respectively. $8.3 million of the impairment charge in 2012 is recorded as impairment on goodwill and intangible assets and $1.1 million is recorded in discontinued operations on the consolidated statements of operations and comprehensive loss.

Critical Estimate: Application of the goodwill impairment test requires significant judgments including estimation of future cash flows, which is dependent on internal forecasts, estimation of the long-term rate of growth for the businesses, the useful life over which cash flows will occur, and determination of the Company's weighted average cost of capital. Changes in these estimates and assumptions could materially affect the determination of fair value and/or conclusions on goodwill impairment for each reporting unit.

We made the strategic decision in March 2013, to no longer provide funding to Finesco primarily as a result of changes in reimbursement policies which now heavily favor generic drugs, which has resulted in a decrease in sales for pharmaceutical company's and contract sales organizations. Specifically, in the last quarter in 2012, Scomedica experienced a loss or interruption in certain key contract agreements related to this policy change. These combined developments have resulted in a meaningful decrease in the subsidiary's value potential. The Company has re-assessed the fair-value of the reporting unit as of December 31, 2012. As a result of the projected decrease in revenues the business is expected to incur substantial losses over the foreseeable future and the Company recorded a charge in the amount of $8.3 million and recognized a full impairment of the goodwill associated with the Finesco transaction.

As part of the Company's annual impairment test at December 31, 2012 and as a result of the decision in December 2012 to sell the business, we determined the goodwill related to the acquisition of TopoTarget was fully impaired and a charge of $1.1 million was recorded to write off the carrying value of the goodwill. The Company analyzed the fair value using discounted cash flow models and comparing the results to offers made on the assets of the business. The fair value was significantly less than the carrying value and the asset failed Step
1. The Company then compared the fair value estimated in Step 1 to the fair value of the net assets less goodwill to calculate the implied value of Goodwill. The fair value of the net assets less goodwill was approximately the same as the fair value of the business. Thus the implied goodwill was determined to be $0 and the goodwill associated with the oncology supportive care business was fully impaired. Similarly, at December 31, 2010, we determined that the value of goodwill related to the acquisition of Bio-Quant was impaired and a charge of $9.1 million was recorded to write off the entire value of goodwill.


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Contingent Consideration: In the preparation of our Consolidated Financial Statements, we record the fair value of future contingent payments related to our TopoTarget acquisition as a liability based on the timing and probability of success of regulatory approvals and commercial milestones being met. On a quarterly basis, we revalue these obligations and record increases or decreases in the fair value as an adjustment to discontinued operations. Changes to contingent consideration obligations can result from adjustments to discount rates and changes in our estimates of the likelihood of or timing of achieving any regulatory or commercial milestones.

Critical Estimate:Application of the present value calculation requires significant judgment to establish probability and timing of the event as well as the risk associated with each event. Changes in these estimates and assumptions could materially affect the value of the acquired company as of the purchase date. The purchase consideration for TopoTarget contains six future milestones and two possible adjustment payments. Each of the remaining contingencies at December 31, 2012 has been evaluated for the probability of achieving the milestone and the timing of the milestone. The re-evaluation resulted in a reduction of this liability due to the expected delay in the timing of meeting the expected milestones. The result is a reduction in interest expense in the amount of $0.2 million and is recorded as a gain in discontinued operations on the consolidated statements of operations and comprehensive income. Interest rates associated with the various risks have been used along with the estimated event date to calculate the present value of the consideration. The contingent commercial milestones that support the recorded liabilities are based on future events. It cannot be assured that the obligations will be liquidated with the possible sale of the business and the ultimate outcome will be dependent on the terms of any future sale and on the future events which may result.

Income Taxes: We recognize deferred taxes by the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred income taxes are recognized for differences between the financial statement and tax bases of assets and liabilities at enacted statutory tax rates in effect for the years in which the differences are expected to reverse. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. In addition, valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. At December 31, 2012, we recorded a valuation allowance of $1.3 million to fully reserve our deferred tax asset in France. This amount was recorded in the statement of operations and comprehensive loss in tax expense.

Critical Estimate: In consideration of our accumulated losses and lack of historical ability to generate taxable income to utilize our deferred tax assets, we have determined it is not more likely than not we will be able to realize any benefit from our temporary differences and have recorded a full valuation allowance. If we become profitable in the future at levels which cause management to conclude that it is more likely than not that we will realize all or a portion of the net operating loss carry-forward, we would immediately record the estimated net realized value of the deferred tax asset at that time and would then provide for income taxes at a rate equal to our combined federal and state effective rates, which would be approximately 40% under current tax laws. Subsequent revisions to the estimated net realizable value of the deferred tax asset could cause our provision for income taxes to vary significantly from period to period.

Stock based compensation: In preparing our Consolidated Financial Statements, we must calculate the value of stock options and restricted stock issued to employees, non-employee contractors and warrants issued to investors. The fair value of each option and warrant is estimated on the date of grant using the Black-Scholes option-pricing model. The Black-Scholes option-pricing model is a generally accepted method of estimating the value of stock options and warrants.

Critical Estimate: The Black-Scholes option pricing model requires us to estimate the Company's dividend yield rate, expected volatility and risk free interest rate over the life of the option. Inaccurately estimating any one of these factors may cause the value of the option to be under or over estimated. See Note 11 in the Notes to the Consolidated Financial Statements for the current estimates used in the Black-Scholes pricing model.


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Comparison of Results of Operations between the Years Ended December 31, 2012 and 2011, and December 31, 2011 and 2010

Revenues and gross profit were as follows (in thousands):

. . .

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