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OREX > SEC Filings for OREX > Form 10-K on 13-Mar-2014All Recent SEC Filings

Show all filings for OREXIGEN THERAPEUTICS, INC.



Annual Report

Item 7. Management's Discussion And Analysis Of Financial Condition And Results Of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with "Item 6-Selected Financial Data" and our financial statements and related notes appearing elsewhere in this annual report. In addition to historical information, this discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including but not limited to those set forth under "Item 1A-Risk Factors" and elsewhere in this annual report.



We are a biopharmaceutical company focused on the development of pharmaceutical product candidates for the treatment of obesity. Our product candidates are NB32 (formerly referred to as Contrave®), which has completed Phase III clinical trials and which is currently being studied in a cardiovascular outcomes trial, and Empatic™, which has completed Phase II clinical trials. Each of these product candidates is a combination of generic drug components, each of which has already received regulatory approval for other indications and been commercialized in the United States and in a majority of the member countries of the European Union. We are developing these combinations in an effort to demonstrate adequate efficacy and safety for potential regulatory approval. We have not yet received regulatory approval in the United States or the European Union for either product candidate

In January 2011, we received a complete response letter, or CRL, from the United Stated Food and Drug Administration, or FDA, regarding our New Drug Application, or NDA, for NB32. A CRL is issued by the FDA when the review of an NDA is completed and questions remain that preclude the approval of the NDA in its current form. The CRL for NB32 indicated that the FDA could not approve the NDA in its present form primarily due to concerns regarding the cardiovascular safety profile of NB32 when used long-term in a population of overweight and obese patients. The CRL stated that before our NDA could be approved, we must conduct a randomized, double-blind, placebo-controlled trial of sufficient size and duration to demonstrate that the risk of MACE in overweight and obese patients treated with NB32 does not adversely affect the drug's benefit-risk profile.

In September 2011, following a meeting with senior officials in the FDA's Office of New Drugs, or OND, we received written correspondence from the director of the OND detailing the OND's design requirements for a randomized, double-blind, placebo-controlled cardiovascular outcomes trial, or CVOT, for NB32 that would address the CRL. We initiated the CVOT, which we refer to as the Light Study, in June 2012 and completed screening in December 2012, which resulted in approximately 8,900 patients randomized to treatment. We enrolled a patient population that we predicted would have an annualized MACE rate between 1% and 2%. The FDA previously agreed that if the interim analysis of the Light Study meets the specified criteria to exclude cardiovascular risk, NB32 could be approved. The pre-specified criteria for the interim analysis is to exclude a hazard ratio of 2.0, using the upper bound of the 95% confidence interval, for excess risk MACE in patients receiving NB32 as compared to placebo. In November 2013, we announced successful results of the interim analysis of the Light Study. In addition to meeting the pre-specified criteria for excluding cardiovascular risk, no new safety signals were observed.

In December 2013, we resubmitted the NDA for NB32 to the FDA, seeking approval for NB32 and in January 2014, the FDA assigned a Prescription Drug User Fee Act, or PDUFA, goal date of June 10, 2014 for its review of the resubmission. Pursuant to an agreement with the FDA, the independent Data Monitoring Committee's summary report of the interim analysis from the Light Study formed the basis of the resubmission of the NDA, and the clinical study report for the interim analysis was supplied to the FDA in February 2014.

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In December 2013, we issued $115.0 million in aggregate principal amount of 2.75% Convertible Senior Notes due 2020, or the 2020 Notes, in an offering to qualified institutional buyers conducted in accordance with Rule 144A under the Securities Act of 1933, as amended. Net cash proceeds from the issuance of the 2020 Notes were approximately $110.5 million, after deducting initial purchasers' discounts and commissions and estimated offering expenses payable by us.

Our primary activities since incorporation have been organizational activities, including recruiting personnel, conducting research and development, including clinical trials, and raising capital. We have incurred significant net losses since our inception. As of December 31, 2013, we had an accumulated deficit of $514.5 million. These losses have resulted principally from costs incurred in connection with research and development activities, primarily costs of clinical trial activities associated with our current product candidates, and general and administrative expenses. We expect to continue to incur losses for the next several years. Successful transition to attaining profitable operations is dependent upon achieving a level of revenues adequate to support our cost structure, and until that time, we may need to continue to raise additional equity or debt financing.


We generated approximately $3.4 million in revenue in 2013, resulting from the sublicensing of technology and amounts earned under our collaboration agreements. In September 2010, we entered into a collaboration agreement with Takeda Pharmaceutical Company Limited, or Takeda, to develop and commercialize NB32 in the United States, Canada and Mexico. Under the collaboration agreement, we received an upfront, nonrefundable cash payment of $50.0 million from Takeda and this amount is being recognized ratably over the estimated life of the agreement. For each of the years 2013, 2012 and 2011, we recognized revenue of $3.4 million, related to the Takeda agreement.

During 2005, we sublicensed technology to Cypress Bioscience, Inc., or Cypress, for an upfront payment of $1.5 million, and this amount was being recognized ratably over the estimated life of the sublicensed patent. In January 2011, Cypress exercised its right to terminate the agreement. The remaining deferred revenue of $971,000 was recognized in the first quarter ending March 31, 2011.

Other than the amortization of the upfront payment of $50.0 million from Takeda, we do not expect to generate any significant revenues from licensing, achievement of milestones or product sales unless and until we are able to obtain regulatory approval of, and commercialize, our product candidates.

Takeda accounted for 100%, 100% and 78% of revenue for the years ended December 31, 2013, 2012 and 2011, respectively. Cypress accounted for 0%, 0% and 22% of revenue for the years ended December 31, 2013, 2012 and 2011, respectively.

Research and Development Expenses

The majority of our operating expenses to date have been incurred in research and development activities. Our research and development expenses consisted primarily of costs associated with clinical trials managed by our contract research organizations, or CROs, product development efforts and manufacturing costs. License fees, salaries and related employee benefits for certain personnel, and costs associated with certain non-clinical activities such as regulatory expenses, are also included in this amount. Our most significant costs to date are expenses incurred in connection with the clinical trials for NB32 and Empatic. The clinical trial expenses included payments to vendors such as CROs, investigators, suppliers of clinical drug materials and related consultants. We charge all research and development expenses to operations as incurred because the underlying technology associated with these expenditures relates to our research and development efforts and has no alternative future uses.

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Our internal research and development resources are not directly tied to any individual research project and are primarily deployed across our NB32 and Empatic programs, both of which target the obesity market. We are developing our two obesity product candidates in parallel and, due to the fact that we use shared resources across projects, we do not maintain information regarding our internal costs incurred for our research and development programs on a program-specific basis. We use external service providers to manage our clinical trials, to manufacture the product supplies used in these trials and for formulations development, consulting and other activities.

The following table summarizes our research and development expenses for the year ended December 31, 2013. Costs that are not attributable to a specific research program are included in the "Other" category (in thousands):

Costs of external service providers:

                 Obesity                                $ 43,749
                 Other                                       333

                 Subtotal                                 44,082
                 Internal costs                            9,261
                 Stock-based compensation                  3,405

                 Total research and development costs   $ 56,748

At this time, due to the risks inherent in the drug development process, we are unable to estimate with any certainty the costs we will incur in the continued development, if any, of our product candidates for potential commercialization. Specifically, we cannot quantify the development expenses associated with completion of the Light Study for NB32 or the development of Empatic. Prior to its commencement, we anticipated that the costs to conduct the Light Study to the interim analysis would be approximately $100.0 million. We believe the costs we have incurred to date and expect to incur in the future in connection with the conduct of the Light Study are consistent with our original projection. With respect to Empatic, prior to initiating Phase III studies, we plan to seek a collaboration partner to help fund Phase III clinical development of and, if approved, commercialization of this product candidate. However, we cannot forecast with any degree of certainty whether such a collaboration arrangement will be secured, if at all, and to what degree such arrangement would affect our development plans and capital requirements. As such, until we finalize any future development plans for Empatic, including based on additional feedback from the FDA and our ability to secure a collaboration partner, we are not able to estimate the expenses required to further develop Empatic. Future development expenses will depend on the timing of the Light Study and any other additional clinical trials for NB32, if any, our financial resources, our ability to secure a collaboration partner for, as well as decisions made with respect to the development of, Empatic and ongoing assessments as to each product candidate's commercial potential. Clinical development timelines, the probability of success and development costs can differ materially from expectations. The lengthy process of completing our clinical trials, including the Light Study, and seeking regulatory approval for our product candidates requires the expenditure of substantial resources. Any failure by us or delay in completing our clinical trials, including the Light Study, or in obtaining regulatory approvals, could cause a delay in the commencement of product revenues and cause our research and development expenses to increase and, in turn, have a material adverse effect on our results of operations. We do not expect NB32 to be commercially available in any major market until the third quarter of 2014, at the earliest, if at all, and Empatic to be commercially available in any major market for at least several years, if at all.

General and Administrative

Our general and administrative expenses consist primarily of salaries and related costs for personnel in executive, finance, accounting and internal support functions. In addition, general and administrative expenses include professional fees for legal, consulting and accounting services. We anticipate general and administrative expenses to remain generally unchanged as we continue to pursue the development of NB32 and Empatic.

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Other Income (Expense)

Other income consists of interest earned on our cash, cash equivalents and investment securities. Interest expense consists principally of interest incurred in connection the 2.75% convertible senior notes and the amortization of the discount of the liability component of the convertible senior notes.

Income Taxes

At December 31, 2013, we have federal and state net operating loss carryforwards of approximately $422.2 million and $396.5 million, respectively. The federal and state net operating loss carryforwards begin to expire in 2024 and 2015, respectively, unless previously utilized. At December 31, 2013, we have federal and state research and development tax credit carryforwards of $16.9 million and $4.8 million, respectively. The federal research and development tax credit carryforwards begin to expire in 2024 unless previously utilized and the state tax credits carry forward indefinitely. Under Section 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Internal Revenue Code, substantial changes in our ownership may limit the amount of net operating loss carryforwards that could be utilized annually in the future to offset taxable income. The Company has completed an ownership change analysis in accordance with Section 382 from inception through December 31, 2013. As a result of the analysis, it was determined that the Company experienced several ownership changes during this period with the last one occurring in December 2011. The analysis to determine the limitation of NOLs and federal credits as a result of the ownership changes has not been finalized. Based on our preliminary analysis of the limitation of our net operating losses and federal credits, we have removed deferred tax assets for net operating losses of $254.1 million and $231.1 million for federal and state, respectively, and federal research and development credits of $9.6 million from our deferred tax asset schedule and have recorded a corresponding decrease to our valuation allowance. When this analysis is finalized, we will reassess the amount of net operating losses and federal credits subject to limitation under Section 382. Due to the existence of the valuation allowance, future changes in the deferred tax assets related to these tax attributes will not impact our effective tax rate.

Critical Accounting Policies and Estimates

Our management's discussion and analysis of our financial condition and results of operations is based on our financial statements, which have been prepared in conformity with generally accepted accounting principles in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, expenses and related disclosures. Actual results could differ from those estimates.

We believe the following accounting policies to be critical to the judgments and estimates used in the preparation of our financial statements.

Research and Development Expenses

A substantial portion of our ongoing research and development activities are or are expected to be performed under agreements we enter into with external service providers, including CROs, which conduct many of our research and development activities. We accrue for costs incurred under these contracts based on factors such as estimates of work performed, patient enrollment, patient visits to clinical sites for routine testing associated with the clinical trials, and progress of clinical studies and other events. However, the level of estimates can be significant. To date, we have not made any material adjustments to our estimates of clinical trial expenses. We make good faith estimates that we believe to be accurate, but the actual costs and timing of clinical trials are highly uncertain, subject to risks and may change depending upon a number of factors, including our clinical development plan.

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Revenue Recognition

We have a collaboration agreement with Takeda and prior to its termination in January 2011, had a license agreement with Cypress, which contain multiple elements, including nonrefundable upfront fees, payments for reimbursement of research costs, payments associated with achieving specific development milestones and royalties based on specified percentages of net product sales, if any.

Prior to the revised multiple element and milestone method of revenue recognition guidance adopted by us on January 1, 2011, nonrefundable, up-front license fees and milestone payments with standalone value that are not dependent on any future performance by us under the agreements were recognized as revenue upon the earlier of when payments are received or collection is assured, but were deferred if we had continuing performance obligations. If we had continuing involvement through contractual obligations under such agreements, such up-front fees were deferred and recognized over the period for which we continued to have a performance obligation. Both the Takeda and Cypress agreements had continuing obligations, and as a result the up-front fees were deferred upon receipt.

Effective January 1, 2011, for multiple element agreements entered into or materially modified after December 31, 2010, we follow the provisions of ASU No. 2009-13. In order to account for the multiple-element arrangements, we identify the deliverables included within the agreement and evaluate which deliverables represent separate units of accounting. Analyzing the arrangement to identify deliverables requires the use of judgment, and each deliverable may be an obligation to deliver services, a right or license to use an asset, or another performance obligation. A delivered item is considered a separate unit of accounting when the delivered item has value to the partner on a standalone basis based on the consideration of the relevant facts and circumstances for each arrangement. Factors considered in this determination include the research capabilities of the partner and the availability of research expertise in this field in the general marketplace. Arrangement consideration is allocated at the inception of the agreement to all identified units of accounting based on their relative selling price. The relative selling price for each deliverable is determined using vendor-specific objective evidence, or VSOE, of selling price or third-party evidence of selling price if VSOE does not exist. If neither VSOE nor third-party evidence of selling price exists, we use our best estimate of the selling price for the deliverable. The amount of allocable arrangement consideration is limited to amounts that are fixed or determinable. The consideration received is allocated among the separate units of accounting, and the applicable revenue recognition criteria are applied to each of the separate units. Changes in the allocation of the sales price between delivered and undelivered elements can impact revenue recognition but do not change the total revenue recognized under any agreement. Upfront license fee payments are recognized upon delivery of the license if facts and circumstances dictate that the license has standalone value from the undelivered items, which generally include research and development services and the manufacture of drug products, the relative selling price allocation of the license is equal to or exceeds the upfront license fee, persuasive evidence of an arrangement exists, our price to the partner is fixed or determinable, and collectability is reasonably assured. The adoption of this new accounting standard did not have a material impact on our results of operations or financial position.

Upfront license fee payments are deferred if facts and circumstances dictate that the license does not have standalone value. The determination of the length of the period over which to defer revenue is subject to judgment and estimation and can have a material impact on the amount of revenue recognized in a given period.

The terms of our collaboration agreements provide for milestone payments upon achievement of certain regulatory/development and sales-based events. Effective January 1, 2011, we adopted on a prospective basis the guidance under ASU No. 2010-17, "Revenue Recognition-Milestone Method". Under the Milestone Method of accounting, we recognize consideration that is contingent upon the achievement of a milestone in its entirety as revenue in the period in which the milestone is achieved only if the milestone is substantive in its entirety. A milestone is considered substantive when it meets all of the following three criteria: 1) The consideration is commensurate with either the entity's performance to achieve the milestone or the enhancement of the value of the delivered item(s) as a result of a specific outcome resulting from the entity's performance to achieve the

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milestone, 2) The consideration relates solely to past performance, and 3) The consideration is reasonable relative to all of the deliverables and payment terms within the arrangement. A milestone is defined as an event (i) that can only be achieved based in whole or in part on either the entity's performance or on the occurrence of a specific outcome resulting from the entity's performance,
(ii) for which there is substantive uncertainty at the date the arrangement is entered into that the event will be achieved and (iii) that would result in additional payments being due to us. The adoption of this new accounting standard did not have a material impact on our results of operations or financial position.

Royalties to be received based on sales of our licensed products by partners will be recognized as earned.

Convertible Senior Notes

In December 2013, we issued the 2020 Notes. The 2020 Notes are accounted for in accordance with Financial Accounting Standards Board, or FASB, ASC 470, formerly FSP APB 14-1, Accounting for Convertible Debt Instruments That May be Settled in Cash upon Conversion (Including Partial Cash Settlement). ASC Subtopic 470-20 requires the issuer of convertible debt that may be settled in shares or cash upon conversion at their option, such as the 2020 Notes, to account for the liability (debt) and equity (conversion option) components separately. The guidance requires the carrying amount of the liability component to be estimated by measuring the fair value of a similar liability that does not have an associated conversion feature. To measure the fair value of the liability component, we used an income approach, discounting the future contractual cash flows due under the 2020 Notes by a market interest rate. The market interest rate was determined to be 8.69%. Assumptions used in the estimate represent what market participants would use in pricing the liability component, including market interest rates, credit standing, and yield curves, all of which are defined as Level 2 observable inputs. The estimated implied interest rate was applied to the 2020 Notes, which resulted in a fair value of the liability component of $79.7 million upon issuance, calculated as the present value of implied future payments based on the $115.0 million aggregate principal amount. The $31.3 million difference between the cash proceeds of $111.0 million and the estimated fair value of the liability component was recorded in additional paid-in capital as the 2020 Notes. The liability component will be accreted to redemption value over the term of the 2020 Notes.

Stock-Based Compensation

We account for stock-based compensation to employees in accordance with the fair value method of accounting for stock-based compensation arrangements which requires us to expense the estimated fair value of non-cash, stock-based payments to employees. Share-based payment transactions with employees are recognized in the financial statements based on their fair value and recognized as compensation expense over the vesting period.

We grant options to purchase our common stock to our employees, directors and non-employees under our 2007 equity incentive award plan. Stock-based compensation expense for the years ended December 31, 2013, 2012 and 2011 was $11.6 million, $7.6 million and $6.6 million, respectively. At December 31, 2013, total unrecognized estimated stock-based compensation expense related to non-vested stock options granted prior to that date was $28.1 million, which is expected to be recognized over a weighted-average period of 2.1 years.

We calculate the fair value of stock option grants using the Black-Scholes option-pricing model. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of complex and subjective variables. These variables include, but are not limited to, our expected stock price volatility over the term of the awards, risk-free interest rate and the expected term of the awards.

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The weighted average expected life of options was calculated using the simplified method as prescribed by the Securities Exchange Commission. This decision was based on the lack of relevant historical data due to our limited historical experience. For options granted during the year ended December 31, 2013, we have calculated a weighted average expected term of 6.0 years. In addition, due to our limited historical data, the estimated volatility incorporates the historical volatility of comparable companies whose share prices are publicly available. For purposes of estimating the fair value of stock options granted during 2013, 2012 and 2011 using the Black-Scholes model, we used an estimated weighted average stock price volatility of 92.7%, 87.5% and 76.0%, respectively.

The risk-free interest rate assumption was based on the United States Treasury's rates for U.S. Treasury zero-coupon bonds with maturities similar to those of the expected term of the award being valued (weighted-average risk-free interest rate of 1.2% for the year ended December 31, 2013). The assumed dividend yield was based on our expectation of not paying dividends in the foreseeable future.

For 2013, 2012 and 2011, we have reduced stock-based compensation expense recognized in the Statement of Operations to reflect estimated forfeitures. Forfeitures are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Pre-vesting forfeitures were estimated to be approximately 10.0% for all years ended December 31, 2013, 2012 and 2011 based on historical experience.

Equity instruments issued to non-employees are recorded at their fair value and are periodically revalued as the equity instruments vest and are recognized as expense over the related service period.

Income Taxes

We follow the provisions of the Income Taxes Topic of the FASB Accounting Standards Codification, that defines a recognition threshold and measurement attributes for financial statement recognition and measurement of a tax . . .

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