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SCLN > SEC Filings for SCLN > Form 10-Q on 9-Aug-2013All Recent SEC Filings

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Form 10-Q for SCICLONE PHARMACEUTICALS INC


9-Aug-2013

Quarterly Report


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

Special Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements are based on our current expectations, estimates and projections about our business, industry, management's beliefs and certain assumptions made by us. Words such as "anticipate," "expect," "intend," "plan," "believe" or similar expressions are intended to identify forward-looking statements including those statements we make regarding our future financial results; anticipated product sales of current or anticipated products; the sufficiency of our resources to complete clinical trials and other new product development initiatives; government regulatory actions that may affect product reimbursement, product pricing or otherwise affect the scope of our sales and marketing; the timing and outcome of clinical trials; prospects for ZADAXIN® and our plans for its enhancement and commercialization as well as our expectations regarding other products; future size of the hepatitis B virus ("HBV") and hepatitis C virus ("HCV") and other markets, particularly in China; research and development and other expense levels; the ability of our suppliers to continue financially viable production of our products; cash and other asset levels; the allocation of financial resources to certain trials and programs, and the outcome and expenses related to litigation and regulatory investigations. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors including, but not limited to, those described under the caption "Risk Factors" in this Quarterly Report on Form 10-Q. We undertake no obligation to revise or update publicly any forward-looking statements for any reason.

Overview

SciClone Pharmaceuticals, Inc. (NASDAQ: SCLN) is a revenue-generating, United States ("US")-based, China-focused, specialty pharmaceutical company with a substantial commercial business and a product portfolio of therapies for oncology, infectious diseases, cardiovascular, urological, respiratory and central nervous system disorders. We are focused on continuing to grow our revenue and profitability in the future. Our business and corporate strategy is focused primarily on the People's Republic of China ("China") where we have built a solid reputation and established a strong brand through many years of experience marketing our lead product, ZADAXIN (thymalfasin). In addition, we have an established product promotion business model with large pharmaceutical partners and we are focused on establishing profitability in all of these collaborations. We believe our sales and marketing strengths position us to benefit from the long-term expansion of the pharmaceutical market in China. This pharmaceutical market currently ranks third among the global pharmaceutical markets, and we believe China will rank second among global pharmaceutical markets by 2020. We seek to expand our presence in China and increase revenues by growing sales and profitability of our current product portfolio, launching new products from our development pipeline, adding new, profitable product services agreements and leveraging our strong cash position to in-license additional products.

We operate in two segments which are generally based on the nature and location of our customers: 1) China and 2) the rest of the world which includes our US and Hong Kong operations.

We have two categories of revenues: "product sales revenues" and "promotion services revenues." Our product sales revenues result from our proprietary and in-licensed products, including our lead product, ZADAXIN, and products from Pfizer Inc. ("Pfizer") and Correvio LLC. ZADAXIN has the highest margins in our portfolio as it is a premium proprietary product sold exclusively by SciClone. Aggrastat®, an intervention cardiology product launched in China in 2009, is an in-licensed product with higher margins than the products we promote under services agreements and we anticipate revenues from this product will grow significantly as it further penetrates the China market. In addition, we anticipate that new marketed products, when and if introduced, can increase the future revenues and profitability of our pharmaceutical business in China over the coming years. Our "promotion services revenues" result from fees we receive for exclusively promoting products under services agreements with certain pharmaceutical partners, including Sanofi Aventis S.A. ("Sanofi") and Baxter International, Inc. ("Baxter") in China. We refer to these agreements as promotion agreements, service agreements and distribution contract rights agreements. We recognize promotion services revenues as a percentage of our collaborators' product sales revenue for these exclusively promoted products, such as the anti-epileptic drug Depakine®, the hypnotic Stilnox® (marketed as Ambien® in the US) and the ACE inhibitor Tritace®. Over time, as additional proprietary or in-licensed products come to the market, we aim to shift our product mix towards those products providing higher margin for us.


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In January 2013, our promotion agreement with Sanofi was renewed until December 31, 2013 under the same terms as previously negotiated. Revenues for 2011 and 2012 related to our agreement with Sanofi were approximately $19.7 million and $30.8 million, respectively. We are actively negotiating the further renewal or extension of this agreement. In June 2013, we renewed our promotion agreement with Baxter for a 5 year term, through December 2017. Our other significant promotion agreement with Pfizer International Trading (Shanghai) Ltd. ("Pfizer") will be expiring August 31, 2013 unless renewed, extended or renegotiated. Revenues for 2011 and 2012 related to our agreement with Pfizer were approximately $5.5 million and $8.8 million, respectively. We are actively negotiating the renewal or extension of this agreement. We continue to assess the financial performance of the products we promote under our agreements and their overall value within our entire portfolio of products. As part of this process, we have recently discontinued promotion of our oncology products Adriamycin and Daunoblastina for Pfizer, and Perenan a primary care product for Sanofi. Revenues related to these products were approximately $2.7 million and $1.5 million in 2011 and 2012, respectively. Over time, we anticipate the product mix that we promote will change which may affect our revenues and profitability in the future. If any of these agreements are determined to no longer be beneficial to us and are allowed to expire, or if third parties will not renegotiate, renew or extend the agreements on terms acceptable to us, our revenues would be adversely affected and our profitability may be adversely or beneficially affected.

ZADAXIN is approved in over 30 countries and may be used for the treatment of HBV, HCV, and certain cancers, and as a vaccine adjuvant according to the local regulatory approvals we have in these countries. In China, thymalfasin is included in the treatment guidelines issued by the Ministry of Health ("MOH") for liver cancer, as well as guidelines for treatment of chronic HBV (issued by both the Chinese Medical Association and the Asian-Pacific Association for the Study of the Liver) and invasive fungal infections of critically ill patients (issued by the Chinese Medical Association). Our sales force is focused on increasing sales to the country's largest hospitals (class 3 with over 500 beds) as well as mid-size hospitals (class 2). These hospitals serve Tier 1 and Tier 2 cities located mostly in the eastern part of China which are the largest and generally have the most affluent populations. We are widening our market strategies by targeting numerous smaller hospitals as well as hospitals that are in more rural areas. We are also seeking to expand the indications for which ZADAXIN could be used, including sepsis.

We are also pursuing the registration of several other therapeutic products in China. These include: DC Bead®, an embolic acting bead with drug loading capabilities that can be used for targeted delivery of cancer chemotherapy drugs directly to the tumor; Loramyc®, a mucoadhesive tablet formulation of miconazole lauriad to treat oropharyngeal candidiasis; Rapinyl®, a sublingual tablet formulation of fentanyl to treat breakthrough cancer pain; and RapidFilm®, an oral film formulation of ondansetron to treat nausea induced by chemotherapy.

We continue to seek in-licensing arrangements for approved or late-stage branded, well-differentiated products which if not yet approved, have a clear regulatory approval pathway in China based on existing regulatory approval outside of China. Our objective is to in-license products that provide us with higher margins, augmenting our product sales revenue and profitability, and we continue to explore opportunities to optimize our promotion services revenues. In May 2013, we entered into a binding term sheet with Zensun (Shanghai) Science & Technology Co., Ltd. ("Zensun") for the exclusive promotion, marketing, distribution and sale of NeucardinTM in China, Hong Kong and Macau. Neucardin is a novel, first-in-class therapeutic for the treatment of patients with intermediate to advanced heart failure, for which a New Drug Application was submitted to and accepted for review by the China Food and Drug Administration ("CFDA") in 2012.

In June 2013, we entered into a license agreement with Taiwan Liposome Company ("TLC") which granted us a license and the exclusive rights in China, Hong Kong and Macau to promote, market, distribute and sell ProFlow® for the treatment of peripheral arterial disease ("PAD") and other indications. PAD is a serious cardiovascular condition in which blood flow to the limbs (usually the legs) is restricted due to arterial plaque build-up. Under the terms of the agreement, TLC will be responsible for the continued development including potential clinical trials and regulatory activities, as well as the manufacture and supply of ProFlow, and we will be responsible for all aspects of commercialization including pre-and post-launch activities. ProFlow has been submitted to CFDA for approval, and it is expected that some additional clinical testing may be required prior to approval. The agreement provides for the principal terms of the arrangement between SciClone and TLC, and the companies have agreed to negotiate a supplemental license and supply agreement.


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We believe that these licensing agreements for Neucardin and ProFlow provide us the opportunity to use our considerable sales and marketing expertise to expand our product portfolio with differentiated, high quality products that have significant therapeutic advantages and near-term commercial potential, and that can contribute to our long-term growth.

ZADAXIN Inventories and Sales

ZADAXIN revenues for the first half of 2013 were within our operating plan, but were lower compared to the same period in 2012. During the third quarter and particularly in September 2012, we estimate that there was a substantial increase in ZADAXIN channel inventory levels, and we believe that sales to our customers, importers and distributors exceeded the pace at which they were able to sell ZADAXIN through to hospital pharmacies and other parties, resulting in lower commercial sales to our importer in the fourth quarter of 2012 and first half of 2013. As anticipated, as a result of reduced sales to our importer, and of continued demand for ZADAXIN in the market, we believe ZADAXIN channel inventory returned to normal levels as of June 30, 2013. We have made significant organizational and management enhancements designed to improve our sales and marketing performance going forward, including the hiring of an experienced Chief Executive Officer for China Operations. We continue to believe that we will grow hospital demand for ZADAXIN in the future through increased penetration in the market. We believe ZADAXIN revenues for the second half of 2013 will increase approximately 50% compared to the first half of 2013, although we anticipate ZADAXIN revenues for the full year 2013 will be lower than ZADAXIN revenues for 2012.

Other Matters

The US Securities and Exchange Commission ("SEC") and the US Department of Justice ("DOJ") are each conducting formal investigations of SciClone regarding a range of matters, including the possibility of violations of the Foreign Corrupt Practices Act ("FCPA"). We will continue to cooperate fully with the SEC and DOJ in the conduct of their investigations. In response to these matters, our Board of Directors appointed a Special Committee of independent directors (the "Special Committee") to oversee our response to the government inquiry. The Special Committee substantially concluded its original investigation, and on May 4 and 5, 2011 reported its findings and recommendations to the Board of Directors. The Special Committee has also reported findings to the SEC and DOJ. The SEC's and DOJ's formal investigations are continuing and the Company is continuing to cooperate with those investigations, including undertaking a review or investigation of additional matters, primarily related to our NovaMed Pharmaceuticals (Shanghai) Co. Ltd. ("NovaMed") operations and certain sales and marketing expenses.

In our Form 10-Q for the period ended September 30, 2012, filed with the SEC on November 9, 2012, we disclosed, among other things, a non-cash impairment loss to fully write down the value of intangible assets recorded as part of the NovaMed acquisition; a remeasurement of the valuation of the contingent consideration expense recorded as part of the NovaMed acquisition; a significant increase in ZADAXIN channel inventory levels; and internal control issues primarily within the NovaMed organization that was concluded to represent a material weakness in internal control over financial reporting. Following our disclosure of these items, we received a subpoena from the SEC requesting documents related to these and various other matters regarding the NovaMed acquisition and our operations in China. After review of the subpoena, and in order to respond to inquiries from the DOJ and SEC and to determine if any wrong-doing occurred, our Audit Committee determined to undertake an additional independent investigation as to additional matters including, but not limited to, matters related to our acquisition of NovaMed and FCPA matters, including certain sales and marketing expenses.

We are unable to predict what consequences any investigation by any regulatory agency or the Special Committee or the Audit Committee may have on us. Our cooperation with these investigations has resulted in substantial legal and accounting expenses, has diverted management's attention from other business concerns and could harm our business. The ongoing investigations and any other regulatory investigations that might be initiated in the future will result in similar substantial expenses, management diversion and harm to our business. If we fail to comply with regulations or to carry out controls on our Chinese or other foreign operations in a manner that satisfies all applicable laws, our business would be harmed. Any civil or criminal action commenced against us by a regulatory agency could result in administrative orders against us, the imposition of significant penalties and/or fines against us and/or the imposition of civil or criminal sanctions against certain of our officers, directors and/or employees. The investigations, results of the investigations, or remedial actions we have taken or may take as a result of such investigations may adversely affect our business in China. If we are subject to adverse findings resulting from the SEC and DOJ investigations, or from our own independent investigation, we could be required to pay damages or penalties or have other remedies imposed upon us. In addition, we will incur additional expenses related to remedial measures we are undertaking, and could incur fines or other penalties. The period of time necessary to resolve the investigations by the DOJ and the SEC is uncertain, and these matters are requiring significant management and financial resources which could otherwise be devoted to the operation of our business. We cannot predict what the outcome of those investigations will be, or the timing of any resolution.


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On February 22, 2013, we announced that our reported financial results for each of the second and third quarters of 2011, the year ended December 31, 2011, and the first three quarters of fiscal 2012 could not be relied upon and that we would restate them. Subsequently, we received a purported derivative litigation naming certain of our officers and directors as defendants. Our management believes the claims lack merit and will vigorously defend against them.

Refer to Part I, Item 1 "Notes to Unaudited Condensed Consolidated Financial Statements" Note 9 "Other Corporate Matters" and Part II, Item 1 "Legal Proceedings" in this Form 10-Q for further information regarding the investigation and remedial measures, and related litigation.

We believe our cash, cash equivalents, and investments as of June 30, 2013 and ongoing revenue generating business operations will be sufficient to support our current operating plan for at least the next 12 months. Our results may fluctuate from quarter to quarter and we may report losses in the future.

Results of Operations

Revenues:

The following table summarizes the period over period changes in our product
sales and promotion services (in thousands):



                         Three Months Ended                        Six Months Ended
                              June 30,                                 June 30,
                          2013          2012        Change         2013         2012        Change
  Product Sales        $   21,683     $ 33,284          -35 %    $ 42,216     $ 66,447          -36 %
  Promotion Services        7,609        8,085           -6 %      16,882       15,990            6 %

  Total Net Revenues   $   29,292     $ 41,369          -29 %    $ 59,098     $ 82,437          -28 %

Product sales were $21.7 million for the three-month period ended June 30, 2013, compared to $33.3 million for the corresponding period in 2012, a decrease of $11.6 million, or 35%, for the three-months ended June 30, 2013, compared to the same period in the prior year. ZADAXIN sales were $21.8 million for the three-month period ended June 30, 2013, compared to $30.4 million for the corresponding period of 2012, a decrease of $8.6 million. The decrease in ZADAXIN revenue for the three-month period ended June 30, 2013, compared to same period in the prior year was substantially all attributable to a decrease in unit sales. The additional decrease of $3.0 million related to oncology and Aggrastat product sales. Product sales were $42.2 million for the six-month period ended June 30, 2013, compared to $66.4 million for the corresponding period in 2012, a decrease of $24.2 million, or 36%, for the six-months ended June 30, 2013, compared to the same period in the prior year. ZADAXIN sales were $40.8 million for the six-month period ended June 30, 2013, compared to $60.2 million for the corresponding period of 2012, a decrease of $19.4 million. The decrease in ZADAXIN revenue for the six-month period ended June 30, 2013, compared to same period in the prior year was substantially all attributable to a decrease in unit sales. The additional decrease of $4.8 million related to oncology and Aggrastat product sales.

During the third quarter of 2012 and particularly in September 2012, we estimate that there was a substantial increase in ZADAXIN channel inventory levels and we believe that our sales to our customers exceeded the pace at which our customers were able to sell ZADAXIN through to other parties, primarily hospital pharmacies. As anticipated, as a result of reduced sales to our importer, and of continued demand for ZADAXIN in the market, we believe ZADAXIN channel inventory returned to normal levels as of June 30, 2013. We have made significant organizational and management enhancements designed to improve our sales and marketing performance going forward, including the hiring of an experienced Chief Executive Officer for China Operations. We believe ZADAXIN sales for the second half of 2013 will increase approximately 50% compared to the first half of 2013, although we anticipate ZADAXIN revenues for the full year 2013 will be lower than ZADAXIN revenues for 2012. We continue to believe that we will grow future hospital demand for ZADAXIN through increased penetration in the market.


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Promotion services revenue was $7.6 million, for the three-month period ended June 30, 2013, compared to $8.1 million for the corresponding period in 2012, and related to the distribution of products under promotional contracts. Promotion services revenue was $16.9 million, for the six-month period ended June 30, 2013, compared to $16.0 million for the corresponding period in 2012. The $0.5 million and $0.9 million decrease in promotion services revenue for the three and six month periods ended June 30, 2013, respectively, were primarily as a result of weaker demand for our primary care products Xatral® and Tritace®, and the discontinuance of Perenan®.

Total China revenues were $28.2 million, or 96% of total revenues for the three-month period ended June 30, 2013, compared to $40.5 million, or 98% of total revenues for the corresponding period in 2012. Total China revenues were $57.0 million, or 96% of total revenues for the six-month period ended June 30, 2013, compared to $80.9 million, or 98% of total revenues for the corresponding period in 2012.

For the three-month period ended June 30, 2013, revenues from two customers in China accounted for approximately 24% and 71% of our revenues. For the three-month period ended June 30, 2012, revenues from three customers in China accounted for approximately 34%, 31% and 18% of our revenues. For the six-month period ended June 30, 2013, revenues from two customers in China accounted for approximately 27% and 65% of our revenues. For the six-month period ended June 30, 2012, revenues from three customers in China accounted for approximately 51%, 18% and 17% of our revenues. Our experience with our largest customers has been good and we anticipate that we will continue to sell a majority of our product to them.

In China, pharmaceutical products are imported and distributed through a tiered method of distribution. For our proprietary product ZADAXIN, we manufacture our product using our US and European contract manufacturers, and we generate our product sales revenue through sales of ZADAXIN product to Sinopharm Lingyun Biopharmaceutical (Shanghai) Co. Ltd. ("Sinopharm"). Sinopharm and its affiliates act as an importer, and also as the top "tier" of the distribution system ("Tier 1") in China. Our ZADAXIN sales occur when Sinopharm purchases product from us without any right of return except for damaged product or quality control issues. Passage of title and risk of loss are transferred to Sinopharm at the time of shipment. After the sale, Sinopharm clears products through China import customs, sells directly to large hospitals and holds additional product it has purchased in inventory for sale to the next tier in the distribution system. The second-tier distributors are responsible for the further sale and distribution of the products they purchase from the importer, either through sales of product directly to the retail level (hospitals and pharmacies), or to third tier local or regional distributors who, in turn, sell products to hospitals and pharmacies.

Our other product sales revenues result from the sale of the Company's in-licensed products to importing agents. Our promotion services revenues result from fees received for exclusively promoting products for certain partners. These importing agents, distributors and partners are the Company's customers. It takes approximately seven weeks for our China importation customer to clear a shipment of ZADAXIN through the importation process for sale in China. Our customers tend to purchase infrequent large orders of ZADAXIN inventory to facilitate the distribution and sale to Chinese hospital pharmacies. The timing of infrequent large orders may significantly affect the ZADAXIN channel inventory levels and may cause fluctuations to our reported sales and profitability for each quarterly period.

In January 2013, our promotion agreement with Sanofi was renewed until December 31, 2013 under the same terms as previously negotiated. Revenues for 2011 and 2012 related to our agreement with Sanofi were approximately $19.7 million and $30.8 million, respectively. We are actively negotiating the renewal or extension of this agreement. In June 2013, we renewed our promotion agreement with Baxter for a 5 year term, through December 2017. Our other significant promotion agreement with Pfizer will be expiring August 31, 2013 unless renewed, extended or renegotiated. Revenues for 2011 and 2012 related to our agreement with Pfizer were approximately $5.5 million and $8.8 million, respectively. We are actively negotiating the renewal or extension of this agreement. We continue to assess the financial performance of the products we promote under our agreements and their overall value within our entire portfolio of products. As part of this process, we have recently discontinued promotion of our oncology products Adriamycin and Daunoblastina for Pfizer, and the primary care product, Perenan, for Sanofi. Revenues related to these products were approximately $2.7 million and $1.5 million in 2011 and 2012, respectively. Over time, we anticipate the product mix that we promote will change which may affect our revenues and profitability in the future. If any of these agreements are determined to no longer be beneficial to us and are allowed to expire, or if third parties will not renegotiate, renew or extend the agreements on terms acceptable to us, our revenues would be adversely affected and our profitability may be adversely or beneficially affected.


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Cost of Product Sales:

The following table summarizes the period over period changes in our cost of product sales (in thousands):

Three Months Ended Six Months Ended June 30, June 30, 2013 2012 Change 2013 2012 Change Cost of Product Sales $ 3,205 $ 5,664 -43 % $ 7,823 $ 11,196 -30 %

Cost of product sales was $3.2 million and $5.7 million for the three-month periods ended June 30, 2013 and 2012, respectively. A decrease of $1.0 million, or 24%, for the three-month periods ended June 30, 2013 compared to the same period in 2012 was attributable to a decrease in ZADAXIN cost of sales to $3.2 million for the three-month period ended June 30, 2013, compared to $4.2 million for the corresponding period in 2012, and related to a decrease in ZADAXIN unit sales. A decrease of $1.5 million in oncology and Aggrastat cost of sales related to a decrease in part to unit volumes and in part to unit price . . .

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