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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

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FORM 10-Q

 

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☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

 

For the quarterly period ended March 31, 2016

 

or

 

☐	TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

 

For the transition period from              to             

 

Commission File Number: 001-35068

 

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ACELRX PHARMACEUTICALS, INC.

(Exact name of registrant as specified in its charter)

 

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Delaware	41-2193603
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)

 

351 Galveston Drive

Redwood City, CA 94063

(650) 216-3500

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

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Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer	☐	Accelerated filer	☒
Non-accelerated filer	☐ (Do not check if a smaller reporting company)	Smaller reporting company	☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2)    Yes  ☐    No  ☒

 

As of April 21, 2016, the number of outstanding shares of the registrant’s common stock was 45,312,242.

 

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ACELRX PHARMACEUTICALS, INC.

 

QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 2016

 

Table of Contents

 

			Page
Part I. Financial Information			1
	Item 1.	Financial Statements	1
		Condensed Consolidated Balance Sheets as of March 31, 2016 and December 31, 2015	1
		Condensed Consolidated Statements of Comprehensive Loss for the three months ended March 31, 2016 and 2015 (unaudited)	2
		Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2016 and 2015 (unaudited)	3
		Notes to Condensed Consolidated Financial Statements (unaudited)	4
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk	28
	Item 4.	Controls and Procedures	28
Part II. OTHER Information			29
	Item 1.	Legal Proceedings	29
	Item 1A.	Risk Factors	29
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	58
	Item 3.	Defaults Upon Senior Securities	58
	Item 4.	Mine Safety Disclosures	58
	Item 5.	Other Information	58
	Item 6.	Exhibits	59

 

Unless the context indicates otherwise, the terms “AcelRx,” “AcelRx Pharmaceuticals,” “we,” “us” and “our” refer to AcelRx Pharmaceuticals, Inc. “ACELRX” and “ACCELERATE, INNOVATE, ALLEVIATE” are U.S registered trademarks owned by AcelRx Pharmaceuticals, Inc. This report also contains other trademarks and trade names that are the property of their respective owners.

  

 

  

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

AcelRx Pharmaceuticals, Inc.

 

Condensed Consolidated Balance Sheets

(In thousands, except share data)

 

 

(1)	The condensed consolidated balance sheet as of December 31, 2015 has been derived from the audited financial statements as of that date included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

 

See notes to condensed consolidated financial statements.

 

  

AcelRx Pharmaceuticals, Inc.

 

Condensed Consolidated Statements of Comprehensive Loss

(Unaudited)

(In thousands, except share and per share data)

 

 

See notes to condensed consolidated financial statements.

  

 

  

AcelRx Pharmaceuticals, Inc.

 

Condensed Consolidated Statements of Cash Flows

(Unaudited)

(In thousands)

 

 

See notes to condensed consolidated financial statements.

  

 

  

AcelRx Pharmaceuticals, Inc.

 

Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

  

 

 

 

 

 

 

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

 

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, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, which are subject to the “safe harbor” created by those sections. Forward-looking statements are based on our management’s beliefs and assumptions and on information currently available to them. In some cases you can identify forward-looking statements by words such as “may,” “will,” “should,” “could,” “would,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “projects,” “predicts,” “potential” and similar expressions intended to identify forward-looking statements. Examples of these statements include, but are not limited to, statements related to the process and timing of anticipated future development of AcelRx's product candidates, ARX-04 (sufentanil sublingual tablet, 30 mcg) and Zalviso™ (sufentanil sublingual tablet system), including the anticipated timing of the completion of the Phase 3 SAP302 and SAP303 studies for ARX-04; ability to fund ARX-04 development from the contract with the Department of Defense; anticipated submission of the New Drug Application, or NDA, for ARX-04 to the U.S. Food and Drug Administration, or FDA; AcelRx’s pathway forward towards gaining approval of Zalviso in the U.S.; the anticipated timing, design and results of IAP312 clinical trial for Zalviso; anticipated resubmission of the Zalviso NDA to the FDA including the scope of the resubmission and the timing of the resubmission, and FDA review time; the status of the Collaboration and License Agreement with Grünenthal or any other future potential collaborations, including potential milestones and royalty payments under the Grünenthal agreement; and the therapeutic and commercial potential of AcelRx’s product candidates, including ARX-04 and Zalviso. These forward-looking statements are based on AcelRx Pharmaceuticals’ current expectations and inherently involve significant risks and uncertainties. AcelRx Pharmaceuticals’ actual results and timing of events could differ materially from those anticipated in such forward-looking statements, and as a result of these risks and uncertainties, which include, without limitation, risks related to AcelRx Pharmaceuticals’ ability to complete Phase 3 clinical development of ARX-04 and support ARX-04 development under the contract with the Department of Defense; AcelRx’s ability to successfully execute the pathway towards a resubmission of the Zalviso NDA to the FDA, including the initiation and completion of the IAP312 clinical study for Zalviso; any delays or inability to obtain and maintain regulatory approval of its product candidates, including ARX-04 in the United States and Europe, and Zalviso in the United States; AcelRx’s ability to receive any milestones or royalty payments under the Grünenthal agreement and the timing thereof; ability to manufacture and supply sufficient quantities of Zalviso to Grünenthal on a timely basis; the commercial success of Grünenthal’s launch of Zalviso in the European Union, or EU; the uncertain clinical development process, including adverse events; the risk that planned clinical trials may not begin on time, have an effective clinical design, enroll a sufficient number of patients, or be initiated or completed on schedule, if at all; the success, cost and timing of all development activities and clinical trials, including the Phase 3 ARX-04 SAP302 and SAP 303 trials, and the additional clinical trial for Zalviso, IAP312; the fact that the FDA may dispute or interpret differently clinical results obtained to date from the Phase 3 SAP301 study of ARX-04; the market potential for AcelRx’s product candidates; the accuracy of AcelRx’s estimates regarding expenses, capital requirements and the need for financing. Our actual results could differ materially from those anticipated in these forward-looking statements for many reasons, including the risks faced by us and described in Part II, Item 1A of this Quarterly Report on Form 10-Q and our other filings with the SEC. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report on Form 10-Q. You should read this Quarterly Report on Form 10-Q completely and with the understanding that our actual future results may be materially different from those we expect. Except as required by law, we assume no obligation to update these forward-looking statements, whether as a result of new information, future events or otherwise.

 

The following discussion and analysis should be read in conjunction with the unaudited financial statements and notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q and with the audited consolidated financial statements and related notes thereto included as part of our Annual Report on Form 10-K for the year ended December 31, 2015.

 

About AcelRx Pharmaceuticals

 

We are a specialty pharmaceutical company focused on the development and commercialization of innovative therapies for the treatment of acute pain. Our lead product candidates, ARX-04 and Zalviso, utilize sublingual sufentanil, delivered via a non-invasive route of administration. We intend to commercialize our product candidates in the United States and license the development and commercialization rights to our product candidates for sale outside of the United States through strategic partnerships and collaborations. We may also consider the option to enter into strategic partnerships for our product candidates in the United States.

 

 

 

ARX-04 (sufentanil sublingual tablet, 30 mcg)

 

ARX-04 is an investigational product candidate consisting of a single tablet delivered via a disposable, pre-filled, single-dose applicator, or SDA. We are developing ARX-04 for the treatment of moderate-to-severe acute pain to be administered by a healthcare professional to a patient in medically supervised settings of acute pain. If approved, examples of potential patient populations and settings in which ARX-04 could be used include: emergency room patients; patients who are recovering from short-stay or ambulatory surgery and do not require more long-term patient-controlled analgesia; post-operative patients who are transitioning from the operating room to the recovery floor; patients being treated and transported by paramedics; and for battlefield casualties.

 

In October 2015, we initiated an open-label Phase 3 study, SAP302, of ARX-04 for the treatment of adult patients who present in the emergency room with moderate-to-severe acute pain associated with trauma or injury. The primary efficacy endpoint is the summed pain intensity difference, or SPID, over 1-hour, or SPID-1. Safety endpoints, such as adverse events and vital signs will also be assessed, as will the patients’ and healthcare providers’ satisfaction with the method of pain control. Based on discussions with the FDA, we initiated the extension phase of the SAP302 study of ARX-04 in March 2016. This ongoing open-label Phase 3 study has completed the initial phase, enrolling 40 patients who each received a single dose of ARX-04. Patients treated with one dose of ARX-04 experienced a mean decrease from baseline pain intensity difference, or PID-1, of 2.7 points on a 0 – 10 point numeric rating scale for pain intensity one hour after dosing. Based on published literature, a PID-1 of 1.3 points has been shown to be the minimal clinically significant difference in pain. The most frequently reported adverse events, nausea and somnolence, were each reported in two of the 40 patients. In the extension phase, up to an additional 60 patients may be enrolled, each of whom may receive multiple doses of ARX-04, given hourly as needed for pain, for up to four doses. The SAP302 study is expected to be completed by the third quarter of 2016.

 

We held a pre-NDA meeting with the FDA in December 2015 to review plans for an NDA for ARX-04. Based on discussions with the FDA, we expanded the clinical program for ARX-04 by approximately 160 additional patients to include individuals from specific populations and settings, in order to increase the ARX-04 safety database. Enrollment in the ongoing SAP302 open-label study in the emergency room will be increased as described above, and a new study, known as SAP303, was initiated in March 2016 in post-operative patients with moderate-to-severe acute pain. SAP303 will focus on enrolling approximately 100 patients greater than 40 years of age and will allow for administration of ARX-04 for up to 12 hours. With these modifications, AcelRx anticipates submitting the NDA for ARX-04 in the fourth quarter of 2016.

 

On May 11, 2015, we entered into an award contract supported by the United States Army Medical Research and Materiel Command, or USAMRMC, within the U.S. Department of Defense, or the DoD, in which the DoD agreed to provide up to $17.0 million to support the development of ARX-04, referred to as the DoD Contract. Under the terms of the contract, the DoD will reimburse us for costs incurred for development, manufacturing, regulatory and clinical costs outlined in the contract in order to submit an NDA to the FDA, including reimbursement for certain personnel and overhead expenses. The period of performance under the DoD Contract began on May 11, 2015. The contract gives the DoD the option to extend the term of the contract and provide additional funding. On March 2, 2016, the DoD Contract was amended to approve enrollment of additional patients in the SAP302 study, approve the addition of the SAP303 study, and extend the contract period of performance by four months from November 10, 2016 to March 9, 2017, to accommodate the increased SAP302 patient enrollment and the SAP303 study. The costs for these changes will be absorbed within the current contract value. If ARX-04 is approved by the FDA, the DoD has the option to purchase a certain number of units of commercial product pursuant to the terms of the contract.

 

We have also held various meetings with Health Authorities in Europe to discuss the submission of a Marketing Authorization Application, or MAA, for ARX-04. Based on feedback from these discussions, we intend to submit for a label indication for ARX-04 in the EU for acute pain following surgery, or as a result of trauma. At the time of the anticipated submission of the MAA, we will have only completed one study in the emergency room for acute pain patients. We may need an additional study in the emergency department with ARX-04 to include pain associated with trauma in the indication. In addition, we believe we will need a comparator study in the EU to ensure reimbursement in certain countries.

 

We anticipate submitting the NDA for ARX-04 in the fourth quarter of 2016 and the MAA for ARX-04 in the first half of 2017.

 

 

 

Zalviso™ (sufentanil sublingual tablet system)

 

Our product candidate, Zalviso, is intended for the management of moderate-to-severe acute pain in hospitalized adult patients. Zalviso consists of sufentanil sublingual tablets, 15 mcg, delivered by the Zalviso System, a needle-free, handheld, patient-administered, pain management system, or together, Zalviso.

 

Zalviso is a pre-programmed, non-invasive, system to allow hospital patients with moderate-to-severe acute pain to self-dose with sufentanil sublingual tablets, 15 mcg, to manage their pain. Zalviso is designed to help address certain problems associated with post-operative intravenous patient-controlled analgesia. Zalviso allows patients to self-administer sufentanil sublingual tablets via a pre-programmed, secure system designed to eliminate the risk of programming errors.

 

On December 16, 2013, AcelRx and Grünenthal, entered into a Collaboration and License Agreement, or the License Agreement, and related Manufacture and Supply Agreement, or the MSA, and together with the License Agreement, the Agreements. The License Agreement grants Grünenthal rights to commercialize Zalviso, the Company’s novel sublingual patient-controlled analgesia, or PCA, system, or the Product, in the countries of the European Union, Switzerland, Liechtenstein, Iceland, Norway and Australia, or the Territory, for human use in pain treatment within, or dispensed by, hospitals, hospices, nursing homes and other medically-supervised settings, or the Field. The Company retains rights with respect to the Product in countries outside the Territory, including the United States, Asia and Latin America. Under the MSA, the Company will exclusively manufacture and supply the Product to Grünenthal for the Field in the Territory. On July 22, 2015, the Company entered into amendments to the License Agreement, or the License Amendment, and together with the License Agreement, the Amended License Agreement, and the MSA, or the MSA Amendment, and together with the MSA, the Amended MSA, between the Company and Grünenthal, each effective as of July 17, 2015, and together, the Amended Agreements. For additional information on the Amended Agreements, see Note 5 “Collaboration Agreement” in the accompanying notes to the condensed consolidated financial statements.

 

Grünenthal will be responsible for all commercial activities for Zalviso, including obtaining and maintaining pharmaceutical product regulatory approval in the Territory. We will be responsible for obtaining and maintaining device regulatory approval in the Territory and the manufacturing and supply of Zalviso to Grünenthal for commercial sales.

 

In April 2016, Grünenthal completed the first commercial sale of the Zalviso system. Grünenthal is expected to deploy the Zalviso system initially in a limited number of hospitals in Germany under a pilot program, whereby the hospital will use Zalviso in a small number of post-operative patients. The pilot program, which is expected to last approximately two months at each institution, will be made available to additional hospitals in Germany over the next several months. Pending success with the pilot program, Grünenthal expects to make the product widely available in Germany.

 

On September 18, 2015, we sold a portion of the expected royalty stream and commercial milestones from the sales of Zalviso in the EU by Grünenthal to PDL, or the Royalty Monetization. AcelRx received gross proceeds of $65.0 million in the Royalty Monetization. PDL will receive 75% of the European royalties under the Amended License Agreement with Grünenthal, as well as 80% of the first four commercial milestones worth $35.6 million (or 80% of $44.5 million), subject to the capped amount of $195.0 million. For additional information on the Royalty Monetization with PDL, see Note 7 “Liability Related to Sale of Future Royalties” in the accompanying notes to the condensed consolidated financial statements.

 

We submitted an NDA for Zalviso in September 2013, which the FDA accepted for filing in December 2013. On July 25, 2014, the FDA issued a Complete Response Letter, or CRL, for the Zalviso NDA. The CRL contains requests for additional information on the Zalviso System to ensure proper use of the device. The requests include submission of data demonstrating a reduction in the incidence of optical system errors, changes to address inadvertent dosing, among other items, and submission of additional data to support the shelf life of the product. Although there were no requests for additional clinical studies in the CRL, in March 2015, we received correspondence from the FDA stating that, in addition to the work we had performed to address the items in the CRL, a clinical study would be required to test modifications to the Zalviso device.

 

Our IAP312 study is designed to evaluate the effectiveness of changes made to enhance performance of the Zalviso device and takes into account comments from the FDA on the protocol. The IAP312 study is expected to include approximately 315 post-operative patients and collect information requested by the Division of Anesthesia, Analgesia, and Addiction Products, or the Division, of the FDA to supplement the three positive Phase 3 trials already completed. We decided to postpone the start of IAP312, originally planned for the first quarter of 2016, as we considered recent testing comparing Zalviso clinical and commercial supplies and determined that commercial supplies may better optimize system functionalities for the conduct of IAP312. This testing focused on the healthcare professional initiation of the system during set-up and would not be expected to affect patient safety or dosing. The use of Zalviso systems from our commercial vendors in the IAP312 study may also reduce review time for any potential post-approval changes with supply manufacturers and software updates. We are planning to initiate IAP312 once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission.

 

 

 

Financial Overview

 

We have incurred net losses and generated negative cash flows from operations since inception and expect to incur losses in the future as we continue our research and development activities and pre-commercialization activities. As we pursue development of our product candidates, including regulatory review and potential commercial development, subject to FDA approval, of our product candidates, we expect the business aspects of our company to become more complex. In the future, we plan to add personnel and incur additional costs related to the maturation of our business and the potential commercialization of ARX-04 and Zalviso in the United States. In addition, we believe that continued investment in research and development is critical to attaining our strategic objectives. In order to develop our product candidates as commercially viable therapeutics, we expect to expend significant resources for expertise in manufacturing, regulatory affairs, clinical research and other aspects of pharmaceutical development.

 

To date, we have funded our operations primarily through the issuance of equity securities, borrowings, payments from our commercial partner, Grünenthal, monetization of certain future royalties and commercial sales milestones from the sales of Zalviso by Grünenthal, and funding from the DoD.

 

Our revenues since inception have consisted primarily of revenues from our Amended License Agreement with Grünenthal and our research contracts with the USAMRMC within the DoD. As mentioned above, in May 2015, the DoD agreed to provide us up to $17.0 million to support the development of ARX-04. Under the terms of the contract, the DoD will reimburse us for costs incurred for development, manufacturing, regulatory and clinical costs outlined in the contract in order to submit an NDA to the FDA, including reimbursement for certain personnel and overhead expenses.

 

There can be no assurance that we will enter into other collaborative agreements or receive research-related contract awards in the future. We expect revenues to continue to fluctuate from period-to-period. There can be no assurance that our relationship with our existing commercial partner, Grünenthal, will continue beyond the initial term, or that we will be able to meet the milestones specified in the Amended License Agreement, or that the funding provided by the DoD Contract will be sufficient for an NDA submission for ARX-04, or that we will obtain marketing approval for any of our product candidates outside of Zalviso in the EU and EEA and subsequently generate revenue from those product candidates in excess of our operating expenses.

 

Our net losses were $11.0 million and $10.0 million during the three months ended March 31, 2016 and 2015, respectively. As of March 31, 2016, we had an accumulated deficit of $214.2 million. As of March 31, 2016, we had cash, cash equivalents and investments totaling $107.2 million compared to $113.5 million as of December 31, 2015.

 

Critical Accounting Estimates

 

The accompanying discussion and analysis of our financial condition and results of operations are based upon our financial statements and the related disclosures, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates, assumptions and judgments that affect the reported amounts in our financial statements and accompanying notes. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. To the extent that there are material differences between these estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows will be affected. Our critical accounting policies and estimates are detailed in our Annual Report on Form 10-K for the year ended December 31, 2015. There have been no significant changes in our critical accounting policies and estimates during the three months ended March 31, 2016 from those previously disclosed in our Annual Report on Form 10-K.

 

Recently Issued Accounting Standards

 

In April 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2016-10, Identifying Performance Obligations and Licensing (Topic 606), which amends certain aspects of the FASB’s new revenue standard, ASU 2014-09, Revenue from Contracts with Customer (Topic 606). ASU 2016-10 identifies performance obligations and provides licensing implementation guidance. The effective date for ASU 2016-10 is the same as the effective date of ASU No. 2014-09. ASU No. 2015-14 (Revenue from Contracts with Customers (Topic 606): Deferral of Effective Date) defers the effective date of ASU No. 2014-09 by one year, for fiscal years beginning after December 15, 2017. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.

 

In March 2016, the FASB issued ASU No. 2016-09, Compensation - Stock Compensation (Topic 718), which is part of the FASB's Simplification Initiative. The updated guidance simplifies the accounting for share-based payment transactions. The amended guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016, with early adoption permitted. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.

 

 

 

In March 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customer (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), or ASU 2016-08, that clarifies how to apply revenue recognition guidance related to whether an entity is a principal or an agent. ASU 2016-08 clarifies that the analysis must focus on whether the entity has control of the goods or services before they are transferred to the customer and provides additional guidance about how to apply the control principle when services are provided and when goods or services are combined with other goods or services. The effective date for ASU 2016-08 is the same as the effective date of ASU No. 2014-09. ASU No. 2015-14 defers the effective date of ASU No. 2014-09 by one year, for fiscal years beginning after December 15, 2017. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.

 

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which establishes a new lease accounting model for lessees. The updated guidance requires an entity to recognize assets and liabilities arising from a lease for both financing and operating leases, along with additional qualitative and quantitative disclosures. The amended guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018, with early adoption permitted. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.

 

Results of Operations

 

Three Months Ended March 31, 2016 and 2015

 

Revenue

 

In September 2015, the European Commission, or EC, granted marketing approval for Zalviso in the European Union to our commercial partner, Grünenthal. In April 2016, Grünenthal completed the first commercial sale of the Zalviso system. Grünenthal is expected to deploy the Zalviso system initially in a limited number of hospitals in Germany under a pilot program, whereby the hospital will use Zalviso in a small number of post-operative patients. The pilot program, which is expected to last approximately two months at each institution, will be made available to additional hospitals in Germany over the next several months. Pending success with the pilot program, Grünenthal expects to make the product widely available in Germany. We anticipate that royalty revenues and non-cash royalty revenues from the commercial sale of Zalviso in 2016 will be minimal. Revenue during the three months ended March 31, 2016, was $3.0 million, including $1.8 million in collaboration agreement revenue recognized under our Amended Agreements with Grünenthal, plus $1.2 million in revenue under the DoD Contract.

 

Revenue for the three months ended March 31, 2015 was $0.2 million, related to our collaboration agreement with Grünenthal.

 

Collaboration Agreement Revenue

 

Below is a summary of revenue recognized under the Amended Agreements during the three months ended March 31, 2016 and 2015 (in thousands):

 

		Three Months Ended March 31,
		2016				2015
Manufactured product		$	1,400			$	—
Joint steering committee, research and development services and demonstration devices			393				181
Collaboration agreement revenue		$	1,793			$	181

 

In preparation for the launch of Zalviso in Europe by our licensee, Grünenthal, we delivered $1.4 million of commercial inventory. Delivered product consists of devices, drug product and accessories. As the first commercial sale happened in April 2016, we did not recognize any royalty revenue or non-cash royalty revenue in the first quarter of 2016. Beginning in the third quarter of 2016, we will receive quarterly royalty reports from Grunenthal for the prior quarter. As the royalty amounts are not currently reasonably estimable without the royalty reports, we will recognize royalty revenue and non-cash royalty revenue on a quarterly basis, one quarter in arrears beginning in the third quarter of 2016.

 

As of March 31, 2016, we had current and non-current portions of the deferred revenue balance under the Amended Agreements of $1.4 million and $2.4 million, respectively. Our long-term deferred revenue balance increased during the first quarter of 2016 from $0.6 million to $2.4 million. The estimated margin we expect to receive on transfer prices under the Amended Agreements, was deemed to be a significant and incremental discount on manufacturing services, as compared to market rates for contract manufacturing margin. The value assigned to this portion of the total allocated consideration was $4.4 million. We anticipate that the long-term deferred revenue balance will peak at approximately $4.0 million, as we complete invoicing Grünenthal in connection with the Amended Agreements in 2016, and decline on a straight-line basis through 2029, as we recognize collaboration revenue under the Amended Agreements.

 

 

 

Contract and Other Revenue

 

During the first quarter of 2016, AcelRx recognized revenue of $1.2 million related to work performed under the DoD contract for ARX-04.

 

Cost of goods sold

 

Total cost of goods sold was $3.6 million for the three months ended March 31, 2016. As mentioned above, the EC approved Zalviso in late September 2015. We have commenced commercial production for Grünenthal’s European launch. Under the Amended Agreements with Grünenthal, we will sell Zalviso to at a predetermined transfer price that approximates the direct cost of manufacture at our contract manufacturers. We will not recover internal indirect costs as part of the transfer price. Cost of goods sold for Zalviso delivered to Grünenthal includes the inventory costs of API, third-party contract manufacturing costs, estimated warranty costs, packaging and distribution costs, shipping, handling and storage costs. The indirect costs to manufacture include internal personnel and related costs for purchasing, supply chain, quality assurance, depreciation and related expenses. Prior to the initiation of commercial production in October 2015, these costs were included in research and development expenses as period costs.

 

Research and Development Expenses

 

Conducting research and development is central to our business model. The majority of our operating expenses to date have been for research and development activities related to Zalviso; however, in 2016 we anticipate that research and development expenses for ARX-04 will be greater than those for Zalviso. Research and development expenses included the following:

 

•

expenses incurred under agreements with contract research organizations and clinical trial sites;

 

•

employee-related expenses, which include salaries, benefits and stock-based compensation;

 

•

payments to third party pharmaceutical and engineering development contractors;

 

•

payments to third party manufacturers;

 

•

depreciation and other allocated expenses, which include direct and allocated expenses for rent and maintenance of facilities and equipment, and equipment and laboratory and other supply costs; and

 

•

costs for equipment and laboratory and other supplies.

  

Product candidates in late stages of clinical development generally have higher development costs than those in earlier stages of clinical development, primarily due to the increased size and duration of late stage clinical trials. We will incur substantial future research and development expenditures as we seek to continue development of ARX-04 and Zalviso, including the expenses associated with the extension arm of the SAP302 clinical study, the completion of the SAP303 study, and the anticipated submission of the NDA for ARX-04, in addition to preparing for and conducting IAP312, the additional clinical trial for Zalviso.

 

We track external development expenses on a program-by-program basis. Our development resources are shared among all of our programs. Compensation and benefits, facilities, depreciation, stock-based compensation, and development support services are not allocated specifically to projects and are considered research and development overhead. Below is a summary of our research and development expenses during the three months ended March 31, 2016 and 2015 (in thousands):

  

		Three Months Ended March 31,
		2016				2015
ARX-04		$	1,155			$	1,162
Zalviso			910				1,669
Overhead			2,106				3,475
Total research and development expenses		$	4,171			$	6,306

 

Due to the inherently unpredictable nature of product development, development timelines and the probability of success, development costs can differ materially from expectations. While we are currently focused on advancing ARX-04 and the continued development of Zalviso, our future research and development expenses will depend on the clinical success of each product candidate as well as ongoing assessments of the commercial potential of our product candidates. In addition, we cannot predict which product candidates may be subject to future collaborations, when these arrangements will be secured, if at all, and to what degree these arrangements would affect our development plans and capital requirements.

 

 

 

Total research and development expenses for the three months ended March 31, 2016 and 2015 were as follows (in thousands, except percentages):

 

														Percentage
		Three Months Ended March 31,								Increase/				Increase/
		2016				2015				(Decrease)				(Decrease)
Research and development expenses		$	4,171			$	6,306			$	(2,135	)			(34	)%

 

The $2.1 million decrease during the three months ended March 31, 2016, as compared to the three months ended March 31, 2015, was primarily attributable to a $1.4 million decrease in overhead costs, primarily as a result of the cost reduction plan implemented in March 2015 and the allocation of certain personnel and related expenses to cost of goods sold, plus a $0.7 million decrease in Zalviso-related expenses due to the slowing of development activities as we clarified the development path forward with the FDA. Costs related to ARX-04 remained constant due in part to the completion of the SAP301 study in 2015, offset by incremental spending on the SAP302 study and the initiation of the SAP303 study in March 2016.

 

General and Administrative Expenses

 

General and administrative expenses consisted primarily of salaries, benefits and stock-based compensation for personnel in administration, finance, pre-commercialization and business development activities. Other significant expenses included legal expenses related to litigation and patent protection of our intellectual property, allocated facility costs and professional fees for general legal, audit and consulting services. We expect general and administrative expenses for the remainder of 2016 to remain comparable to 2015 expenses, as we focus our efforts on further development and seeking marketing approval for ARX-04, and the continued development of Zalviso.

 

Total general and administrative expenses for the three months ended March 31, 2016 and 2015 were as follows (in thousands, except percentages):

 

														Percentage
		Three Months Ended March 31,								Increase/				Increase/
		2016				2015				(Decrease)				(Decrease)
General and administrative expenses		$	3,777			$	4,521			$	(744	)			(16	)%

 

The $0.7 million decrease in general and administrative expenses during the three months ended March 31, 2016, as compared to the three months ended March 31, 2015, was primarily due to a decrease in headcount-related expenses, primarily as a result of the cost reduction plan implemented in March 2015.

 

Restructuring Costs

 

In March 2015, we received correspondence from the FDA stating that in addition to the bench testing and two Human Factors studies we had performed in response to the issues identified in the CRL, a clinical trial is needed to assess the risk of inadvertent dispensing and overall risk of dispensing failures. On March 19, 2015, our Board of Directors, in connection with our efforts to reduce operating costs, conserve capital, focus the Company's financial and development resources on working with the FDA to seek marketing approval for Zalviso, and continuing development of ARX-04, implemented a cost reduction plan. The cost reduction plan reduced our workforce by 19 employees, approximately 36% of total headcount, in the first quarter of 2015.

 

		Three Months Ended March 31,								Increase/
		2016				2015				(Decrease)
Restructuring costs		$	—			$	754			$	(754	)

 

Restructuring costs in the three months ended March 31, 2015 consist of employee termination benefit costs of $0.8 million which has been fully disbursed.

 

 

 

Other (Expense) Income

 

Total other (expense) income for the three months ended March 31, 2016 and 2015 was as follows (in thousands, except percentages):

 

														Percentage
		Three Months Ended March 31,								Increase/				Increase/
		2016				2015				(Decrease)				(Decrease)
Interest expense		$	(680	)		$	(806	)		$	126				16	%
Interest income and other income (expense), net			419				2,180				(1,761	)			(81	)%
Non-cash interest expense on liability related to sale of future royalties			(2,196	)			—				(2,196	)			—	%
Total other (expense) income		$	(2,457	)		$	1,374			$	(3,831	)			(279	)%

 

Interest expense consisted primarily of interest accrued or paid on our debt obligation agreements and amortization of debt discounts. Interest expense for all periods pertains to interest on our Loan and Security Agreement with Hercules. In December 2013, we entered into the Amended Loan Agreement with Hercules, which amends and restates the Loan and Security Agreement. The overall debt facility was increased to $40.0 million, and the maturity was extended to October 1, 2017. On June 16, 2014, we borrowed the second tranche of $10.0 million. We did not have access to the third tranche, of up to $15.0 million, as we did not receive FDA approval of Zalviso by August 1, 2015. As a result of the lower principal balance in the three months ended March 31, 2016 as compared to the three months ended March 31, 2015, the amount of interest expense incurred decreased. As of March 31, 2016, the balance due to Hercules was $21.1 million.

 

On September 18, 2015, concurrently with the closing of the Royalty Monetization, the Company entered into a Consent and Amendment No. 2, or Amendment No. 2, to the Amended Loan Agreement. Amendment No. 2 provided for an interest only period from October 1, 2015 through March 31, 2016, with the potential for further extension to September 30, 2016 upon satisfaction of certain conditions, which have since been satisfied.

 

Interest income and other income (expense), net, during the three months ended March 31, 2016 and 2015, consisted primarily of the change in the fair value of our warrants, or PIPE warrants, issued in connection with our private placement of our common stock, which was completed in June 2012.

 

The decrease in interest income and other income (expense), net, during the three months ended March 31, 2016 as compared to the three months ended March 31, 2015, was primarily attributable to fewer PIPE warrants outstanding at March 31, 2016, as compared to March 31, 2015, and a smaller decrease in our stock price during the three months ended March 31, 2016, as compared to the three months ended March 31, 2015, which is a primary driver in the Black-Scholes valuation model used to estimate the fair value of the PIPE warrants. 

 

The increase in non-cash interest expense on liability related to the Royalty Monetization during the three months ended March 31, 2016 as compared to the three months ended March 31, 2015, is attributable to the royalty sale transaction that we completed in September 2015. As described above, the Royalty Monetization has been recorded as debt under the applicable accounting guidance. We impute interest on the liability and record interest expense based on the amount and timing of royalty and milestone payments expected to be received by PDL over the life of the arrangement. There are a number of factors that could materially affect the estimated interest rate and we will assess this estimate on a periodic basis. As a result, future interest rates could differ significantly and any such change in interest rate will be adjusted prospectively. We anticipate that we will incur an additional $7.1 million in non-cash interest expense related to the Royalty Monetization in the year ended December 31, 2016, for a total of $9.3 million in 2016.

 

Liquidity and Capital Resources

 

Liquidity

 

We have incurred losses and generated negative cash flows from operations since inception. We expect to continue to incur significant losses in 2016 and may incur significant losses and negative cash flows from operations for the foreseeable future. We have funded our operations primarily through issuance of equity securities, borrowings, payments from our commercial partner, Grünenthal, monetization of certain future royalties and commercial sales milestones from the sales of Zalviso by Grünenthal, and our contracts with the DoD.

 

As of March 31, 2016, we had cash, cash equivalents and investments totaling $107.2 million compared to $113.5 million as of December 31, 2015. The decrease was primarily due to cash required to fund our continuing operations, as we continue our research and development activities. We anticipate that our existing capital resources will permit us to meet our capital and operational requirements through at least the first half of 2017. While we believe we have sufficient capital to meet our operational requirements through at least the first half of 2017, our expectations may change depending on a number of factors. For example, based on their review of the protocol we have submitted for the requested clinical trial for Zalviso, the FDA may in the future, require a scope or design change that is beyond what our current and estimated future capital resources can support. We believe that together with the support from the DoD Contract, we have sufficient resources to complete the Phase 3 development program for ARX-04 through submission of the NDA to the FDA. However, our existing capital resources will not be sufficient to fund our operations until such time as we may be able to generate sufficient revenues to sustain our operations.

 

 

 

On September 18, 2015, we sold a portion of the expected royalty stream and commercial milestone payments from the sales of Zalviso in the EU by Grünenthal to PDL. As mentioned above, we received net proceeds of $61.2 million in the Royalty Monetization. PDL will receive 75% of the European royalties under the Amended License Agreement with Grünenthal, as well as 80% of the first four commercial milestones worth $35.6 million (or 80% of $44.5 million), subject to the capped amount of $195.0 million. We are entitled to receive all remaining amounts under the Amended License Agreement which include 25% of the European royalties, 20% of the first four commercial milestones, 100% of the remaining commercial milestones and all development milestones of $43.5 million, including the $15.0 million payment for the EC approval of the MAA for Zalviso, which we received in the fourth quarter of 2015. The total liability related to sale of future royalties to PDL as of March 31, 2016 was $65.8 million.

 

On December 16, 2013, AcelRx and Grünenthal entered into the License Agreement, and related Manufacture and Supply Agreement, or the MSA, and together with the License Agreement, the Agreements. The License Agreement grants Grünenthal rights to commercialize Zalviso, or the Product, in the Territory for human use in the Field. We retain rights with respect to the Product in countries outside the Territory, including the United States, Asia and Latin America. On July 22, 2015, the Company entered into amendments to the License Agreement, or the License Amendment, and together with the License Agreement, the Amended License Agreement, and the MSA, or the MSA Amendment, and together with the MSA, the Amended MSA, between the Company and Grünenthal, each effective as of July 17, 2015, and together, the Amended Agreements.

 

Under the terms of the Amended Agreements, we received an upfront cash payment of $30.0 million, a milestone payment of $5.0 million related to the MAA submission in the third quarter of 2014 and an additional $15.0 million milestone payment related to the EC approval of the MAA for Zalviso in September 2015. In addition, under the terms of the Amended Agreements, we are eligible to receive approximately $194.5 million in additional milestone payments, based upon successful regulatory and product development efforts ($28.5 million) and net sales target achievements ($166.0 million).  Grünenthal will also make tiered royalty, supply and trademark fee payments in the mid-teens up to the mid-twenties percent range, depending on the level of sales achieved, on net sales of Zalviso in the Territory. A portion of the tiered royalty payment, exclusive of the supply and trademark fee payments, will be paid to PDL in connection with the Royalty Monetization, as discussed above.

 

On December 16, 2013, AcelRx entered into an Amended and Restated Loan and Security Agreement with Hercules Technology II, L.P. and Hercules Technology Growth Capital, Inc., together, the Lenders, or the Amended Loan Agreement, under which AcelRx may borrow up to $40.0 million in three tranches. The loans are represented by secured convertible term promissory notes, collectively, the Notes. The Amended Loan Agreement amends and restates the Loan and Security Agreement between AcelRx and the Lenders dated as of June 29, 2011. We borrowed the first tranche of $15.0 million upon closing of the transaction on December 16, 2013, and the second tranche of $10.0 million on June 16, 2014. We used approximately $8.6 million of the proceeds from the first tranche to repay our obligations under the Loan and Security Agreement with the Lenders. We recorded the new debt at an estimated fair value of $24.9 million as of December 31, 2014.

 

On September 24, 2014, we entered into Amendment No. 1 to the Amended Loan Agreement with Hercules. Amendment No. 1 extended the time period under which we could draw down the third tranche, of up to $15.0 million, from March 15, 2015 to August 1, 2015, subject to AcelRx obtaining approval for Zalviso from the FDA. We did not receive FDA approval of Zalviso by August 1, 2015 and as such, did not have access to the third tranche.

 

On September 18, 2015, concurrently with the closing of the Royalty Monetization, we entered into a Consent and Amendment No. 2, or Amendment No. 2, to the Amended Loan Agreement with the Lenders. Amendment No. 2 includes an interest only period from October 1, 2015 through March 31, 2016, with the potential for further extension to September 30, 2016 upon satisfaction of certain conditions, which have since been satisfied. Loans under the Amended Loan Agreement mature on October 31, 2017. As of March 31, 2016, the balance due to Hercules was $21.1 million.

 

Our cash and investment balances are held in a variety of interest bearing instruments, including obligations of U.S. government agencies, money market funds and time deposits. Cash in excess of immediate requirements is invested with a view toward capital preservation and liquidity.

 

 

 

Cash Flows

 

The following is a summary of our cash flows for the periods indicated and has been derived from our condensed consolidated financial statements which are included elsewhere in this Form 10-Q (in thousands):

 

		Three Months Ended March 31,
		2016				2015
Net cash used in operating activities		$	(6,229	)		$	(10,749	)
Net cash provided by (used in) investing activities			3,615				(514	)
Net cash provided by financing activities			121				369

   

Cash Flows from Operating Activities

 

The primary use of cash for our operating activities during these periods was to fund the development of our product candidates, including commercial readiness activities for our product candidates, ARX-04 and Zalviso. Our cash used for operating activities also reflected changes in our working capital, net of adjustments for non-cash charges, such as depreciation and amortization of our fixed assets, stock-based compensation, non-cash interest expense related to the sale of future royalties, interest expense related to our debt financings and the revaluation of our PIPE warrant liability and the contingent put option liability.

 

Cash used in operating activities of $6.2 million during the three months ended March 31, 2016, reflected a net loss of $11.0 million, partially offset by aggregate non-cash charges of $3.8 million, and a net change of $1.0 million in our net operating assets and liabilities. Non-cash charges included $2.2 million in non-cash interest expense on the liability related to the royalty monetization and $1.2 million for stock-based compensation, and $0.5 million in depreciation expense, partially offset by $0.4 million for the change in fair value of our PIPE warrant liability and contingent put liability. The net change in our operating assets and liabilities was primarily the result of an increase in accounts payable of $2.1 million, primarily due to the timing of payments, partially offset by a decrease in accrued liabilities of $1.5 million, largely due to the payment of compensation-related expenses.

 

Cash used in operating activities of $10.7 million during the three months ended March 31, 2015, reflected a net loss of $10.0 million, partially offset by aggregate non-cash charges of $0.1 million, and a net change of $0.8 million in our net operating assets and liabilities. Non-cash charges included $1.5 million for stock-based compensation, offset by $2.2 million for the change in fair value of our PIPE warrant liability and contingent put liability. The net change in our operating assets and liabilities was primarily a result of a decrease in accrued liabilities of $0.9 million, largely due to payment of compensation-related expenses.

 

Cash Flows from Investing Activities

 

Our investing activities have consisted primarily of our capital expenditures and purchases and sales and maturities of our available-for-sale investments.

 

During the three months ended March 31, 2016, cash provided by investing activities of $3.6 million was primarily a result of $3.8 million in proceeds from maturity of investments, offset by $0.2 million for purchases of property and equipment.

 

During the three months ended March 31, 2015, cash used in investing activities of $0.5 million was primarily as a result of $2.5 million for purchases of investments and $0.5 million for purchases of property and equipment, partially offset by $2.5 million in proceeds from maturity of investments.

 

Cash Flows from Financing Activities

 

During the three months ended March 31, 2016, cash provided by financing activities of $0.1 million as a result of stock purchases made under our 2011 Employee Stock Purchase Plan.

 

During the three months ended March 31, 2015, cash provided by financing activities of $0.4 million as a result of stock purchases made under our 2011 Employee Stock Purchase Plan.

 

 

 

Operating Capital and Capital Expenditure Requirements

 

We expect our rate of cash usage to increase in the future, in particular to support our product development activities, including continued development of ARX-04, Zalviso and the potential commercialization of our product candidates, if approved outside of the Grünenthal Territory. Our future cash needs anticipate the receipt of reimbursement for qualified expenses under the DoD Contract. We anticipate that our existing capital resources will permit us to meet our capital and operational requirements through at least the first half of 2017. Our current operating plan includes the continued development of ARX-04, specifically the filing of the NDA in 2016. These assumptions may change as a result of many factors. For example, based on feedback from the FDA, we expanded the planned clinical program for ARX-04 by approximately 160 additional patients to include individuals from specific populations and settings. As a result, the completion of the Phase 3 clinical program for ARX-04 has been extended and our clinical trial expenses will increase. In addition, although the FDA has provided feedback on both the ARX-04 clinical program and reviewed the protocol for IAP312, the additional clinical trial for Zalviso, pending the results of these clinical trials, the FDA may in the future require us to complete additional work to submit the NDA for ARX-04 and/or to resubmit the NDA for Zalviso. As discussed above we have delayed the initiation of the IAP312. If we are unable to initiate the IAP312 study before the end of 2016, we may not have sufficient resources to complete the study and resubmit the Zalviso NDA. We will continue to evaluate the work necessary to gain approval of ARX-04 and Zalviso in the U.S. and intend to update our cash forecasts accordingly. Our forecast of the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement that involves risks and uncertainties, and actual results could vary materially. Additional capital may not be available on terms acceptable to us, or at all. If adequate funds are not available, or if the terms underlying potential funding sources are unfavorable, our business and our ability to develop our product candidates would be harmed.

 

Our future capital requirements may vary materially from our expectations based on numerous forward looking factors, including but not limited to the following:

 

•

the outcome, timing and cost of regulatory approvals for ARX-04 and Zalviso;

 

•

the initiation, progress, timing and completion of clinical trials for our product candidates, including ARX-04;

 

•

expenditures related to the activities required in support of the anticipated NDA submission for ARX-04;

 

•

expenditures related to the activities required in support of our resubmission of the Zalviso NDA, including an additional clinical trial for Zalviso, as requested by the FDA;

 

•

expenditures related to our commercialization preparation of ARX-04;

 

•

future manufacturing, selling and marketing costs related to ARX-04 and Zalviso, including our contractual obligations to Grünenthal for Zalviso;

 

•

changes in the focus and direction of our business strategy and/or research and development programs;

 

•

milestone and royalty revenue we receive under our collaborative development and commercialization arrangements;

 

•

delays that may be caused by changing regulatory requirements;

 

•

the number of product candidates that we pursue;

 

•

the costs involved in filing and prosecuting patent applications and enforcing and defending patent claims;

 

•

the timing and terms of future in-licensing and out-licensing transactions;

 

•

the cost and timing of establishing sales, marketing, manufacturing and distribution capabilities;

 

•

the cost of procuring clinical and commercial supplies of our product candidates;

  

•

the extent to which we acquire or invest in businesses, products or technologies, and;

 

•

the expenses associated with any possible litigation.

 

We will need substantial funds to:

 

•

commercialize any products we market, including ARX-04 and Zalviso, if approved outside of the Grünenthal Territory;

 

•

manufacture and market our product candidates;

 

•

conduct preclinical and clinical testing of our product candidates, and;

 

•

conduct research and development programs.

 

 

 

Our existing capital resources may not be sufficient to fund our operations until such time as we may be able to generate sufficient revenues to sustain our operations. To the extent that our capital resources are insufficient to meet our future capital requirements, we will have to raise additional funds through the sale of our equity securities, monetization of current and future assets, issuance of debt or debt-like securities or from development and licensing arrangements to continue our development programs. We may be unable to raise such additional capital on favorable terms, or at all. If we raise additional capital by selling our equity or convertible debt securities, the issuance of such securities could result in dilution of our shareholders’ equity positions. If adequate funds are not available we may have to:

 

•

significantly curtail or put on hold commercialization or development efforts of our product candidates or other operations;

 

•

obtain funds through entering into collaboration agreements on unattractive terms, and/or;

 

•

delay, postpone or terminate planned clinical trials.

 

Contractual Obligations

 

During the three months ended March 31, 2016, there were no material changes to our contractual obligations, other than the fulfillment of existing obligations in the ordinary course of business, described under Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in Part II, Item 7 of our Annual Report on Form 10-K for our fiscal year ended December 31, 2015.

 

Off-Balance Sheet Arrangements

 

Through March 31, 2016, we have not entered into any off-balance sheet arrangements and do not have any holdings in variable interest entities.

 

 Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Our cash, cash equivalents and short-term investments as of March 31, 2016, consisted primarily of money market funds and U.S. government agency securities. We do not have any auction rate securities on our Consolidated Balance Sheet, as they are not permitted by our investment policy. Our cash is invested in accordance with an investment policy approved by our board of directors which specifies the categories, allocations, and ratings of securities we may consider for investment. We do not believe our cash, cash equivalents and short-term investments have significant risk of default or illiquidity.

 

Our primary exposure to market risk is interest income sensitivity, which is affected by changes in the general level of U.S. interest rates, particularly because the majority of our investments are in short-term marketable debt securities. The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. In an attempt to limit interest rate risk, we follow guidelines to limit the average and longest single maturity dates, place our investments with high quality issuers and follow internally developed guidelines to limit the amount of credit exposure to any one issuer. Some of the securities that we invest in may be subject to market risk. This means that a change in prevailing interest rates may cause the value of the investment to fluctuate. For example, if we purchase a security that was issued with a fixed interest rate and the prevailing interest rate later rises, the value of our investment may decline. If a 10 percent change in interest rates were to have occurred on March 31, 2016, this change would not have had a material effect on the fair value of our investment portfolio as of that date. In general, money market funds are not subject to market risk because the interest paid on such funds fluctuates with the prevailing interest rate.

 

In addition, domestic and international equity markets have experienced and may continue to experience heightened volatility and turmoil based on domestic and international economic conditions and concerns. In the event these economic conditions and concerns continue and the markets continue to remain volatile, our results of operations could be adversely affected by those factors in many ways, including making it more difficult for us to raise funds if necessary and our stock price may further decline. In addition, we maintain significant amounts of cash and cash equivalents that are not federally insured. If economic instability continues, we cannot provide assurance that we will not experience losses on these investments.

 

Item 4. Controls and Procedures

 

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports under the Securities Exchange Act of 1934, as amended, or the Exchange Act, and the rules and regulations thereunder, is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

 

 

 

Evaluation of disclosure controls and procedures. As required by Rule 13a-15(b) under the Exchange Act, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at the reasonable assurance level.

 

Changes in internal control over financial reporting. There have been no changes in our internal control over financial reporting during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

Part II. Other Information

 

Item 1. Legal Proceedings

 

On October 1, 2014, a securities class action complaint was filed in the U.S. District Court for the Northern District of California against AcelRx and certain of our current and former officers. On April 17, 2015, lead plaintiff filed an amended complaint. The amended complaint alleged that between September 30, 2013 and July 25, 2014, AcelRx and certain of our current and former officers violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 in connection with statements related to our lead drug candidate, Zalviso. On November 25, 2015, the Court granted our Motion to Dismiss. Plaintiffs had the opportunity to file an amended complaint within 30 days’ which they declined to do. On January 18, 2016, the Court issued an order dismissing the case with prejudice.

 

From time to time we may be involved in additional legal proceedings arising in the ordinary course of business.

 

Item 1A. Risk Factors

 

This Quarterly Report on Form 10-Q contains forward-looking information based on our current expectations. Because our actual results may differ materially from any forward-looking statements made by or on behalf of us, this section includes a discussion of important factors that could affect our actual future results, including, but not limited to, our revenues, expenses, net loss and loss per share. You should carefully consider these risk factors, together with all of the other information included in this Quarterly Report on Form 10-Q as well as our other publicly available filings with the U.S. Securities and Exchange Commission, or SEC.

 

We have marked with an asterisk (*) those risks described below that reflect substantive changes from, or additions to, the risks described in our Annual Report on Form 10-K for the year ended December 31, 2015.

 

Risks Related to Clinical Development and Regulatory Approval

 

We depend substantially on the success of ARX-04, which may not receive regulatory approval in the United States or in Europe.*

 

Since our inception in 2005, we have focused primarily on development of our product candidate, Zalviso™; however, given the delay in the potential approval of Zalviso in the United States, we believe the importance of ARX-04 (sufentanil sublingual tablet, 30 mcg) to our future success has increased. ARX-04 is a non-invasive investigational product candidate consisting of a single tablet delivered sublingually via a disposable, pre-filled, single-dose applicator, or SDA.

 

As part of our development program, we met with the United States Food and Drug Administration, or FDA, in December 2015 to review plans for a New Drug Application, or NDA, for ARX-04. We have also held various meetings with Health Authorities in Europe to discuss the submission of a Marketing Authorization Application, or MAA, for ARX-04. Based on feedback from the FDA, we expanded the clinical program for ARX-04 by approximately 160 additional patients to include individuals from specific populations and settings, in order to increase the ARX-04 safety database. As a result, the completion of the Phase 3 clinical program for ARX-04 has been extended and our clinical trial expenses will increase. Based on feedback from discussions with the Health Authorities in Europe, we intend to submit for a label indication for acute pain following surgery, or as a result of trauma. At the time of submission of the MAA we will have only completed one study in the emergency room for acute pain patients. We may need an additional study in the emergency department with ARX-04 to include pain associated with trauma in the indication. In addition, we believe we will need a comparator study in the European Union to ensure reimbursement in certain countries. With these modifications, we anticipate submitting the NDA for ARX-04 in the fourth quarter of 2016 and the MAA in the first half of 2017. However, while we have announced positive top-line results from SAP301, SAP302 and SAP303 may not achieve positive results, or may not be completed by the third quarter of 2016 as anticipated. Even if we believe the results from SAP301, SAP302 and SAP303 support an NDA and MAA submission for ARX-04, the FDA and European Medicines Agency, or EMA, may not agree, or may interpret the study results differently, which would delay the timing of our commercialization of ARX-04 and adversely affect our business operations. If ARX-04 is not approved for sale in the United States or Europe, it could have a significant impact on our ability to generate cash flows from product sales or to enter into a collaboration agreement. If we are not able to receive approval to commercialize ARX-04 in the United States, we would be required to find alternative sources of capital to continue operations. If ARX-04 is not approved for sale in the United States, and we are unsuccessful in finding alternative sources of capital, it will be difficult for us to continue under our current operating plan.

 

 

 

Any disagreement with the FDA or EMA as to the results from SAP301, SAP302, and SAP303, and therefore any additional requirements imposed by the FDA or EMA prior to our ability to submit an NDA or MAA, as well as any delay in approval by the FDA or EMA of the ARX-04 NDA or MAA, if and when it is submitted, may negatively impact our stock price and harm our business operations. If and when the ARX-04 NDA is submitted, the FDA may hold an Advisory Committee meeting to obtain committee input on the safety and efficacy of ARX-04. Typically, Advisory Committees will provide responses to specific questions asked by the FDA, including the Committee’s view on the approvability of the drug under review. Advisory Committee decisions are not binding but an adverse decision at the Advisory Committee may have a negative impact on the regulatory review of ARX-04. Any delay in obtaining, or inability to obtain, regulatory approval would prevent us from commercializing ARX-04 in the United States or Europe, generating revenues and potentially achieving profitability. If any of these events occur, we may be forced to delay or abandon our development efforts for ARX-04, which would have a material adverse effect on our business and could potentially cause us to cease operations.

 

We depend substantially on the success of Zalviso, which may not receive regulatory approval in the United States.*

 

While ARX-04’s importance has increased for our future success, Zalviso remains an important product candidate for us. Zalviso consists of sufentanil sublingual tablets, 15 mcg, delivered by the Zalviso System, a needle-free, handheld, patient-administered, pain management system, or together, Zalviso. The success of our business depends primarily upon our ability to develop, receive regulatory approval in the United States for, and commercialize Zalviso for the management of moderate-to-severe acute pain in adult patients in the hospital setting.

 

To date, our Phase 3 program for Zalviso has consisted of three Phase 3 clinical trials. We reported positive top-line data from each of these trials and submitted an NDA for Zalviso to the FDA in September 2013, which the FDA then accepted for filing in December 2013. On July 25, 2014, the FDA issued a Complete Response Letter, or CRL, for our NDA for Zalviso. The CRL contains requests for additional information on the Zalviso System to ensure proper use of the device. The requests include submission of data demonstrating a reduction in the incidence of optical system errors, changes to address inadvertent dosing, among other items, and submission of additional data to support the shelf life of the product. Furthermore, in March 2015, we received correspondence from the FDA stating that in addition to the bench testing and two Human Factors studies we had performed in response to the issues identified in the CRL, a clinical trial is needed to assess the risk of inadvertent dispensing and overall risk of dispensing failures. Based on the results of the Type C meeting with FDA, which took place in September 2015, we submitted a protocol to the FDA for a clinical study in post-operative patients designed to evaluate the effectiveness of changes made to enhance Zalviso device performance. We have completed the protocol review with the FDA and we decided to postpone the start of IAP312, originally planned for the first quarter of 2016. We are planning to initiate IAP312 once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission. If we are unable to initiate the IAP312 study before the end of 2016, we may not have sufficient resources to complete the study and resubmit the Zalviso NDA. 

 

There is no guarantee that the additional work we perform related to Zalviso, including the IAP312 trial, will be supportive of, or guarantee, an NDA resubmission, or result in our successfully obtaining FDA approval of Zalviso in a timely fashion, if at all. For example, the trial might not meet its objectives or the FDA could still have concerns regarding the performance of the device, inadvertent dosing (dropped tablets), or other issues. At any future point in time, the FDA could require us to complete further clinical, Human Factors, pharmaceutical, reprocessing or other studies, which could delay or preclude any NDA submission or approval of the NDA and could require us to obtain significant additional funding. There is no guarantee such funding would be available to us on favorable terms, if at all. If the Zalviso NDA is resubmitted, the FDA may hold an Advisory Committee meeting to obtain committee input on the safety and efficacy of Zalviso. Typically, Advisory Committees will provide responses to specific questions asked by the FDA, including the Committee’s view on the approvability of the drug under review. Advisory Committee decisions are not binding but an adverse decision at the Advisory Committee may have a negative impact on the regulatory review of Zalviso. Additionally, we may choose to engage in the dispute resolution process with the FDA.

 

Our proposed trade name of Zalviso has been approved by the FDA, which must approve all drug trade names to avoid medication errors and misbranding. However, the FDA may withdraw this approval in which case any brand recognition or goodwill that we establish with the name Zalviso prior to commercialization may be worthless.

 

 

 

Any delay in approval by the FDA of the Zalviso NDA, if, and when, it is resubmitted, may negatively impact our stock price and harm our business operations. Any delay in obtaining, or inability to obtain, regulatory approval would prevent us from commercializing Zalviso in the United States, generating revenues and potentially achieving profitability. If any of these events occur, we may be forced to delay or abandon our development efforts for Zalviso, which would have a material adverse effect on our business and could potentially cause us to cease operations.

 

Positive clinical results obtained to date for our product candidates may be disputed in FDA review, do not guarantee regulatory approval and may not be obtained from future clinical trials.*

 

We have reported positive top-line data from our first Phase 3 clinical trial for ARX-04, or SAP301, the interim analysis from SAP302, each of our three Zalviso Phase 3 clinical trials completed to date, in addition to all of our Phase 2 clinical trials for ARX-04 and Zalviso. However, even if we believe that the data from clinical trials is positive, the FDA has and in the future could determine that the data from our trials was negative or inconclusive or could reach a different conclusion than we did on that same data. Negative or inconclusive results of a clinical trial or difference of opinion could cause the FDA to require us to repeat the trial or conduct additional clinical trials prior to obtaining approval for commercialization, and there is no guarantee that additional trials would achieve positive results or that the FDA will agree with our interpretation of the results. Any such determination by the FDA would delay the timing of our commercialization plan for ARX-04 and Zalviso, or further development of our other product candidates, and adversely affect our business operations. For example, although we had achieved the primary endpoints in each of our three Phase 3 clinical trials for Zalviso which were included in our NDA filed in 2013, in March 2015, we received correspondence from the FDA stating that in addition to the bench testing and two Human Factors studies we had performed in response to the issues identified in the CRL, a clinical trial is needed to assess the risk of inadvertent dispensing and overall risk of dispensing failures.

 

Delays in clinical trials are common and have many causes, and any delay could result in increased costs to us and jeopardize or delay our ability to obtain regulatory approval and commence product sales.*

 

We have experienced and may in the future experience delays in clinical trials of our product candidates. While we have completed one Phase 3 clinical trial for ARX-04, three Phase 3 clinical trials for Zalviso, and several Phase 2 clinical trials both for ARX-04 and Zalviso, current and potential future clinical trials may not begin on time, have an effective design, enroll a sufficient number of patients or be completed on schedule, if at all. For example, in June 2014, we completed a pharmacokinetic study in support of the ARX-04 development program. In this study of healthy volunteers, it was shown that two sublingual administrations of a Zalviso sufentanil sublingual tablet, 15 mcg, dosed 20 minutes apart were equivalent to one sublingual administration of a sufentanil sublingual tablet, 30 mcg. Based on the pharmacokinetic equivalency of two Zalviso tablets to one ARX-04 tablet, the FDA has agreed to accept 323 Zalviso patients into the ARX-04 safety database; however, the FDA also required that the ARX-04 safety database comprise 350 patients dosed with at least one dose of ARX-04. Based on this feedback from the FDA, we expanded the clinical program for ARX-04 by approximately 160 additional patients to include individuals from specific populations and settings, in order to increase the ARX-04 safety database. As a result, the completion of the Phase 3 clinical program for ARX-04 has been extended and our clinical trial expenses will increase. In addition, a new study, known as SAP303, was initiated in March 2016 in post-operative patients with moderate-to-severe acute pain and is also expected to be complete by the third quarter of 2016. As a result, the completion of the Phase 3 clinical program for ARX-04 has been extended and our clinical trial expenses will increase.

 

Finally, we have decided to postpone the start of IAP312, originally planned for the first quarter of 2016. We are planning to initiate IAP312 once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission, which will delay our development timeline for Zalviso even further. If we are unable to initiate the IAP312 study before the end of 2016, we may not have sufficient resources to complete the study and resubmit the Zalviso NDA.

 

Our clinical trials for any of our product candidates could be delayed for a variety of reasons, including:

 

•

inability to raise funding necessary to initiate or continue a trial;

 

•

delays in obtaining regulatory approval to commence a trial;

 

•

delays in reaching agreement with the FDA on final trial design;

 

•

imposition of a clinical hold by the FDA, IRBs or other regulatory authorities;

 

•

delays in reaching agreement on acceptable terms with prospective contract research organizations, or CROs, and clinical trial sites;

 

•

delays in obtaining required institutional review board approval at each site;

 

•

delays in recruiting suitable patients to participate in a trial;

 

•

delays in the testing, validation, manufacturing and delivery of the tablets and device components of our product candidates;

 

 

  

•

delays in having patients complete participation in a trial or return for post-treatment follow-up;

 

•

clinical sites dropping out of a trial to the detriment of enrollment or being delayed in entering data to allow for clinical trial database closure;

 

•

time required to add new clinical sites; or

 

•

delays by our contract manufacturers to produce and deliver sufficient supply of clinical trial materials.

 

If any future clinical trials are delayed for any of the above reasons, our development costs may increase, our approval process could be delayed and our ability to commercialize and commence sales of our product candidates could be materially harmed, which could have a material adverse effect on our business.

 

We have not yet responded to the Zalviso Complete Response Letter nor resubmitted the Zalviso NDA. Activities that we undertake to address issues raised in the CRL may be deemed insufficient by the FDA.*

 

We completed bench testing and additional Human Factors studies that we believed addressed certain items contained in the CRL. However, before the results from these studies were submitted as a part of the proposed NDA resubmission, the FDA, in March 2015, notified us of the need for a clinical trial prior to the resubmission of the Zalviso NDA. In early September 2015, we had a Type C meeting with the FDA to discuss the FDA’s request for an additional clinical trial and our planned response to the CRL. In response to discussions with the FDA, we have agreed to complete an additional open-label study with Zalviso in post-operative patients, known as IAP312. We have completed the protocol review for IAP312 and we are planning to initiate this trial once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission. There is no guarantee that the trial results, even if successful, will address the issues raised by the FDA. Any delay in obtaining, or inability to obtain, regulatory approval would prevent us from commercializing Zalviso in the United States, generating revenues and achieving profitability. If any of these events occur, we may be forced to delay or abandon our development and commercialization efforts for Zalviso in the United States, which would have a material adverse effect on our business and could potentially cause us to cease operations.

 

If we are able to resubmit an NDA for Zalviso with new clinical data, there is no guarantee that such data will be deemed sufficient by the FDA. While we designed the protocols for bench testing and the Human Factors studies to address the issues raised in the CRL, and designed the protocol for the additional Zalviso clinical trial to further address these issues, there is no guarantee that the FDA will deem such protocols and results sufficient to address those issues when they are formally reviewed as a part of an NDA resubmission.

 

Lastly, even if we believe that the test results from our bench testing and Human Factors studies are positive, and we are able to conduct and achieve positive results from the IAP312 study, the FDA may hold a different opinion and deem the results insufficient. The FDA may provide review commentary at any time during the resubmission and review process which could adversely affect or even prevent the approval of Zalviso, which would adversely affect our business. We may not be able to identify appropriate remediations to issues that the FDA may raise, and we may not have sufficient time or financial resources to conduct future activities to remediate issues raised by the FDA.

 

Our product candidates may cause adverse effects or have other properties that could delay or prevent their regulatory approval or limit the scope of any approved label or market acceptance.

 

Adverse events, or AEs, caused by our product candidates could cause us, other reviewing entities, clinical trial sites or regulatory authorities to interrupt, delay or halt clinical trials and could result in the denial of regulatory approval. In our Phase 3 active comparator clinical trial (IAP309), 7.9% of Zalviso-treated patients dropped out of the trial prematurely due to an AE, and we observed one serious adverse event, or SAE, that was assessed as possibly or probably related to Zalviso. In our Phase 3, double-blind, placebo-controlled, abdominal surgery trial (IAP310), adverse events reported in the trial were generally mild or moderate in nature and similar in both placebo and treatment groups. In addition, one patient in the trial, who was in the sufentanil sublingual tablet group, experienced an SAE, which was determined to be unrelated to the trial drug. In our Phase 3, double-blind, placebo-controlled, orthopedic surgery trial (IAP311), treatment-emergent adverse events were generally mild-to-moderate in nature and similar for the majority of adverse events between sufentanil sublingual tablet- and placebo-treated patients. Two patients (one each in the sufentanil sublingual tablet group and placebo group) experienced a serious adverse event considered possibly or probably related to the trial drug by the investigator.

 

In our Phase 2 ARX-04 trial, two serious adverse events (SAEs), both in the 20 mcg dose group, occurred one week after the study (surgical infections) and were deemed unrelated to study drug. All but two adverse events reported in the study were mild-to-moderate in nature with 58 patients (58%) reporting a total of 135 adverse events. The most frequently reported adverse events for all patients were nausea (30%), vomiting (17%), dizziness (14%) and somnolence (11%). Two patients discontinued treatment, one unrelated to study drug (anxiety/chest pain) and the other probably related to study drug (somnolence/respiratory depression); however, both patients recovered without medical intervention.

 

Phase 2 clinical trials we have conducted with Zalviso did generate some AEs, but no SAEs, related to the trial drug.

 

 

 

Further, if any of our future products, including Zalviso or ARX-04 cause serious or unexpected side effects after receiving marketing approval, a number of potentially significant negative consequences could result, including:

 

•

regulatory authorities may withdraw their approval of the product or impose restrictions on its distribution in the form of a modified Risk Evaluation and Mitigation Strategy, or REMS;

 

•

regulatory authorities may require the addition of labeling statements, such as warnings or contraindications;

 

•

we may be required to change the way the product is administered or conduct additional clinical trials;

 

•

we could be sued and held liable for harm caused to patients; or

 

•

our reputation may suffer.

 

Any of these events could prevent us from achieving or maintaining market acceptance of the affected product candidate and could substantially increase the costs of commercializing our product candidates.

 

Additional time may be required to obtain U.S. regulatory approval for ARX-04 and Zalviso because they are drug/device combination.*

 

ARX-04 and Zalviso are combination product candidates with both drug and device components. The FDA requires both the drug and device components of combination product candidates to be reviewed as part of an NDA submission. There are very few examples of the FDA approval process for drug/device combination products such as ARX-04 and Zalviso. As a result, we have in the past, and may in the future, experience delays in the development and commercialization of Zalviso due to regulatory uncertainties in the product development and approval process, in particular as it relates to a drug/device combination product approval under an NDA, and we may experience similar delays and regulatory uncertainties when, and if, we submit the NDA for ARX-04.

 

We cannot predict when we will obtain regulatory approval to commercialize any of our product candidates, if at all, and we cannot, therefore, predict the timing of any future revenue.*

 

We cannot commercialize any of our product candidates, including ARX-04 or Zalviso, until the appropriate regulatory authorities, such as the FDA or the EMA, have reviewed and approved the product candidate. The regulatory agencies may not complete their review processes in a timely manner, or we may be unable to obtain regulatory approval for our product candidates. As part of our development program, we met with the FDA in December 2015 to review plans for an NDA for ARX-04. Based on feedback from the FDA, we expanded the clinical program for ARX-04 by approximately 160 additional patients to include individuals from specific populations and settings, in order to increase the ARX-04 safety database. As a result, the completion of the Phase 3 clinical program for ARX-04 has been extended and our clinical trial expenses will increase. We have also held various meetings with Health Authorities in Europe to discuss the submission of an MAA for ARX-04. Based on feedback from discussions with the Health Authorities in Europe, we intend to submit for a label indication for acute pain following surgery, or as a result of trauma. At the time of submission of the MAA we will have only completed one study in the emergency room for acute pain patients. We may need an additional study in the emergency department with ARX-04 to include pain associated with trauma in the indication.

 

In addition, we believe we will need a comparator study in the European Union to ensure reimbursement in certain countries. In September 2015, the European Commission, or EC, approved Grünenthal’s, MAA for Zalviso for post-operative pain; however, we cannot predict the commercial success of Zalviso. We received a CRL for Zalviso on July 25, 2014, which contains requests for additional information on the Zalviso System. In addition, in March 2015, we received correspondence from the FDA stating that in addition to the bench testing and two Human Factors studies we had performed in response to the issues identified in the CRL, a clinical trial is needed to assess the risk of inadvertent dispensing and overall risk of dispensing failures. Based on our Type C meeting with the FDA in early September 2015 to discuss the FDA’s request for an additional clinical trial and our planned response to the CRL, we submitted a protocol to the FDA for a clinical study in post-operative patients designed to evaluate the effectiveness of changes made to enhance the Zalviso device. We have completed the protocol review and we are planning to initiate IAP312 once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission. Although the FDA has provided feedback on the ARX-04 clinical program and reviewed the protocol for IAP312, and we have incorporated feedback from Health Authorities in Europe concerning the submission of the MAA for ARX-04, pending the results of our clinical trials, the FDA or EMA may in the future require us to complete additional clinical work prior to submitting the NDA for ARX-04, resubmitting the NDA for Zalviso or submitting the MAA for ARX-04. Additional delays may result if any of our product candidates is taken before an FDA Advisory Committee which may recommend restrictions on approval or recommend non-approval. In addition, we may experience delays or rejections based upon additional government regulation from future legislation or administrative action, or changes in regulatory agency policy during the period of product development, clinical trials and the review process.

 

The FDA and other foreign regulatory agencies, such as EMA, can delay, limit or deny marketing approval for many reasons, including:

 

•

a product candidate may not be considered safe or effective;

 

 

 

•

the manufacturing processes or facilities we have selected may not meet the applicable requirements; and

 

•

changes in their approval policies or adoption of new regulations may require additional work on our part.

 

 Part of the regulatory approval process includes compliance inspections of manufacturing facilities to ensure adherence to applicable regulations and guidelines. The regulatory agency may delay, limit or deny marketing approval of our product candidates as a result of such inspections. In June 2014, the FDA completed an inspection at our corporate offices. We received a single observation on a Form 483 as a result of the inspection. In addition, in January 2015, EMA conducted a pre-approval inspection of our Zalviso contract manufacturer’s manufacturing and packaging site, and provided its observations. Although we believe we have adequately addressed these observations in revised standard operating procedures, we, our contract manufacturers, and their vendors, are all subject to preapproval and post-approval inspections at any time. The results of these inspections could impact our ability to obtain FDA approval for Zalviso and, if approved, our ability to launch and successfully commercialize Zalviso in the United States. In addition, results of EMA inspections could impact our ability to maintain EC approval of Zalviso, and Grünenthal’s ability to expand and sustain commercial sales of Zalviso in the EU.

 

Any delay in, or failure to receive or maintain, approval for any of our product candidates could prevent us from generating meaningful revenues or achieving profitability. Our product candidates may not be approved even if they achieve their endpoints in clinical trials. Regulatory agencies, including the FDA or EMA, or their advisors, may disagree with our trial design and our interpretations of data from preclinical studies and clinical trials. Regulatory agencies may change requirements for approval even after a clinical trial design has been approved. The FDA exercises significant discretion over the regulation of combination products, including the discretion to require separate marketing applications for the drug and device components in a combination product. To date, our product candidates are being regulated as drug products under the NDA process administered by the FDA. The FDA could in the future require additional regulation of our product candidates under the medical device provisions of the FDCA. We must comply with the Quality Systems Regulation, or QSR, which sets forth the FDA’s current good manufacturing practice, or cGMP, requirements for medical devices, and other applicable government regulations and corresponding foreign standards for drug cGMPs. If we fail to comply with these regulations, it could have a material adverse effect on our business and financial condition.

 

Regulatory agencies also may approve a product candidate for fewer or more limited indications than requested or may grant approval subject to the performance of post-marketing trials. In addition, regulatory agencies may not approve the labeling claims that are necessary or desirable for the successful commercialization of our product candidates. For example, as mentioned above, we intend to submit the MAA for ARX-04 for a label indication for acute pain following surgery, or as a result of trauma. We may need an additional study in the emergency department with ARX-04 to include pain associated with trauma in the indication. In addition, we intend to resubmit our NDA seeking approval of Zalviso for the management of moderate-to-severe acute pain in adult patients in the hospital setting; however, our clinical trial data was generated exclusively from the post-operative segment of this population, and the FDA may restrict any approval to post-operative patients only, which would reduce our commercial opportunity.

 

The process for obtaining approval of an NDA is time consuming, subject to unanticipated delays and costs, and requires the commitment of substantial resources.

 

If the FDA determines that any of the clinical work submitted, including the clinical trials, Human Factors studies and bench testing submitted for a product candidate in support of an NDA were not conducted in full compliance with the applicable protocols for these trials, studies and testing as well as with applicable regulations and standards, or if the FDA does not agree with our interpretation of the results of such trials, studies and testing, the FDA may reject the data and results. The FDA may audit some or all of our clinical trial sites to determine the integrity of our clinical data. The FDA may audit some or all of our Human Factors study sites to determine the integrity of our data and may audit the data and results of bench testing. Any rejection of any of our data would negatively impact our ability to obtain marketing authorization for a product candidate and would have a material adverse effect on our business and financial condition. In addition, an NDA may not be approved, or approval may be delayed, as a result of changes in FDA policies for drug approval during the review period. For example, although many products have been approved by the FDA in recent years under Section 505(b)(2) of the Federal Food, Drug and Cosmetic Act, or FDCA, objections have been raised to the FDA’s interpretation of Section 505(b)(2). If challenges to the FDA’s interpretation of Section 505(b)(2) are successful, the FDA may be required to change its interpretation, which could delay or prevent the approval of such an NDA. Any significant delay in the acceptance, review or approval of an NDA that we have submitted would have a material adverse effect on our business and financial condition and would require us to obtain significant additional funding.

 

Even if we obtain regulatory approval for ARX-04, Zalviso and our other product candidates in the United States, we and our collaborators face extensive regulatory requirements and our products may face future development and regulatory difficulties.

 

Even if we obtain regulatory approval in the United States, the FDA may impose significant restrictions on the indicated uses or marketing of our product candidates, or impose ongoing requirements for potentially costly post-approval trials or post-market surveillance. Additionally, the labeling ultimately approved for ARX-04, Zalviso and our other product candidates, if approved, will likely include restrictions on use due to the opioid nature of sufentanil.

 

 

 

ARX-04, Zalviso and our other product candidates, if approved in the future, will also be subject to ongoing FDA requirements governing the labeling, packaging, storage, distribution, safety surveillance, advertising, promotion, record-keeping and reporting of safety and other post-market information. The holder of an approved NDA is obligated to monitor and report AEs and any failure of a product to meet the specifications in the NDA. The holder of an approved NDA must also submit new or supplemental applications and obtain FDA approval for certain changes to the approved product, product labeling or manufacturing process. Advertising and promotional materials must comply with FDA rules and are subject to FDA review, in addition to other potentially applicable federal and state laws.

 

We must also register and obtain various state prescription drug distribution licenses and controlled substance permits, and any delay or failure to obtain or maintain these licenses or permits may limit our market and materially impact our business. In addition, manufacturers of drug products and their facilities are subject to payment of user fees and continual review and periodic inspections by the FDA and other regulatory authorities for compliance with cGMPs and adherence to commitments made in the NDA. If we, or a regulatory agency, discover previously unknown problems with a product, such as AEs of unanticipated severity or frequency, or problems with the facilities where the product is manufactured, a regulatory agency may impose restrictions relative to that product or the manufacturing facilities, including requiring recall or withdrawal of the product from the market or suspension of manufacturing.

   

If we fail to comply with applicable regulatory requirements following approval of our product candidates, a regulatory agency may:

 

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issue a warning letter asserting that we are in violation of the law;

 

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seek an injunction or impose civil or criminal penalties or monetary fines;

 

•

suspend or withdraw regulatory approval;

 

•

suspend any ongoing clinical trials;

 

•

refuse to approve a pending NDA or supplements to an NDA submitted by us;

 

•

seize product; or

 

•

refuse to allow us to enter into supply contracts, including government contracts.

 

Any government investigation of alleged violations of law could require us to expend significant time and resources in response and could generate negative publicity. The occurrence of any event or penalty described above may inhibit our ability to commercialize any future approved products and generate revenues.

 

Even if we obtain FDA approval for ARX-04, Zalviso or any of our product candidates in the United States, we may never obtain approval for or commercialize our products outside of the United States, which would limit our ability to realize their full market potential.

 

In order to market any products outside of the United States, we or our commercial partners, including Grünenthal in Europe, must establish and comply with numerous and varying regulatory requirements of other countries regarding safety and efficacy. On September 22, 2015, we announced that the European Commission had approved Grünenthal’s MAA for Zalviso for the management of acute moderate-to-severe post-operative pain in adult patients.

 

Outside of Europe, clinical trials conducted in one country may not be accepted by regulatory authorities in other countries, and regulatory approval in one country does not mean that regulatory approval will be obtained in any other country. Approval processes vary among countries and can involve additional product testing and validation and additional administrative review periods. Seeking foreign regulatory approval could result in difficulties and costs for us and require additional non-clinical trials or clinical trials, which could be costly and time consuming. Regulatory requirements can vary widely from country-to-country and could delay or prevent the introduction of our products in those countries. Our current clinical trial data may not be sufficient to support marketing approval in all territories. In addition, we lack the personnel, expertise and capabilities to gain regulatory approval of our product candidates on a global basis without a commercial partner. With Zalviso’s approval for sale in Europe, we are substantially dependent on Grünenthal to successfully commercialize it. While Grünenthal does have products approved in international markets, we do not have any product candidates approved for sales in any jurisdiction, including international markets, and we do not have experience in obtaining regulatory approval in international markets. Grünenthal’s experience in international markets does not guarantee regulatory approval or compliance with regulatory requirements in international markets. If we fail to comply with regulatory requirements in international markets or to obtain and maintain required approvals, or if regulatory approvals in international markets are delayed, our target market will be reduced and our ability to realize the full market potential of our products will be harmed.

 

 

 

ARX-04, Zalviso and our other product candidates will require Risk Evaluation and Mitigation Strategies.

 

Our product candidates, if approved in the United States, will require REMS. The REMS may include requirements for special labeling or medication guides for patients, special communication plans to health care professionals and restrictions on distribution and use. While we have received pre-clearance from the FDA regarding certain aspects of the proposed required REMS for Zalviso, we cannot predict the final REMS to be required as part of any FDA approval of Zalviso. Depending on the extent of the REMS requirements, any United States launch may be delayed, the costs to commercialize Zalviso may increase substantially and the potential commercial market could be restricted. ARX-04, if approved, will also require REMS programs that may significantly increase our costs to commercialize these product candidates. Furthermore, risks of sufentanil that are not adequately addressed through proposed REMS for our future product candidates, if approved, may also prevent or delay their approval for commercialization.  

 

Existing and future legislation may increase the difficulty and cost for us to commercialize ARX-04, Zalviso and any of our product candidates that may obtain commercial approval in the future, and affect the prices we may obtain.

 

In the United States and some foreign jurisdictions, the legislative landscape continues to evolve. There have been a number of legislative and regulatory changes and proposed changes regarding healthcare systems that could prevent or delay marketing approval of Zalviso outside the EU, or our other product candidates, including ARX-04, restrict or regulate post-approval activities for ARX-04 and Zalviso, and affect our ability to profitably sell any products for which we obtain marketing approval.

 

In the EU, the pricing of prescription drugs is subject to government control. In addition, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use.

 

In the United States, the Health Care Reform Law (as defined below) was enacted in an effort to, among other things, broaden access to health insurance, reduce or constrain the growth of healthcare spending, enhance remedies against fraud and abuse, impose new taxes and fees on the health industry and impose additional health policy reforms. Aspects of the Health Care Reform Law that may impact our business include:

 

•

extension of manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations;

 

•

expansion of the entities eligible for discounts under the Public Health Service pharmaceutical pricing program;

 

•

expansion of eligibility criteria for Medicaid programs, thereby potentially increasing manufacturers’ Medicaid rebate liability;

 

•

expansion of healthcare fraud and abuse laws, including the federal False Claims Act and the federal Anti-Kickback Statute, new government investigative powers and enhanced penalties for non-compliance;

 

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a requirement to annually report drug samples that manufacturers and distributors provide to physicians;

 

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a Patient-Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research; and

 

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creation of the Independent Payment Advisory Board which has authority to recommend certain changes to the Medicare program that could result in reduced payments for prescription drugs.

 

The Health Care Reform Law has the potential to substantially change health care financing and delivery by both governmental and private insurers, and may also increase our regulatory burdens and operating costs.

 

In addition, other legislative changes have been proposed and adopted in the United States since the Health Care Reform Law was enacted. Aggregate reductions of Medicare payments to providers of 2% per fiscal year went into effect on April 1, 2013 and will stay in effect through 2024 unless Congressional action is taken. The American Tax Payer Relief Act further reduced Medicare payments to several providers, including hospitals.

 

Moreover, the Drug Supply Chain Security Act of 2013 imposes new obligations on manufacturers of pharmaceutical products, among others, related to product tracking and tracing. Among the requirements of this new legislation, manufacturers will be required to provide certain information regarding the drug product to individuals and entities to which product ownership is transferred, label drug product with a product identifier, and keep certain records regarding the drug product.

 

Legislative and regulatory proposals have been made to expand post-approval requirements and further restrict sales and promotional activities for pharmaceutical products. We are not sure whether additional legislative changes will be enacted, or whether the FDA regulations, guidance or interpretations will be changed, or what the impact of such changes on the marketing approvals of our product candidates, if any, may be.

 

We expect that additional healthcare reform measures will be adopted within and outside the United States in the future, any of which could negatively impact our business. The continuing efforts of the government, insurance companies, managed care organizations and other payors of healthcare services to contain or reduce costs of healthcare may adversely affect the demand for any drug products for which we may obtain regulatory approval, our ability to set a price that we believe is fair for our products, our ability to obtain coverage and reimbursement approval for a product, our ability to generate revenues and achieve or maintain profitability, and the level of taxes that we are required to pay. 

 

 

 

Risks Related to Our Financial Condition and Need for Additional Capital

 

We have incurred significant losses since our inception, anticipate that we will continue to incur significant losses in 2016 and may continue to incur losses for the foreseeable future.*

 

Since our inception in 2005, we have focused primarily on development of our product candidate, Zalviso. While Zalviso remains an important asset to the Company, ARX-04 has become a focus. In September 2015, we announced that a pivotal Phase 3 study of ARX-04, SAP301, met all primary and secondary endpoints and in October 2015, we initiated SAP302, a Phase 3 study of ARX-04 in the emergency room. Based on feedback from the FDA, we expanded the clinical program for ARX-04 by approximately 160 additional patients to include individuals from specific populations and settings, in order to increase the ARX-04 safety database. Accordingly, we initiated the extension phase of the SAP302 study of ARX-04 in March 2016. In addition, a new study, known as SAP303, was also initiated in March 2016 in post-operative patients with moderate-to-severe acute pain. As a result, the completion of the Phase 3 clinical program for ARX-04 has been extended and our clinical trial expenses will increase. In addition, the FDA has requested an additional clinical trial for Zalviso, IAP312, prior to resubmission of the Zalviso NDA which will increase our development costs for the Zalviso program. We have incurred significant net losses in each year since our inception in July 2005, and as of March 31, 2016, we had an accumulated deficit of $214.2 million.

 

We have devoted most of our financial resources to research and development, including our non-clinical development activities and clinical trials. To date, we have financed our operations primarily through the sale of equity securities, debt, government contract funding, sale of royalty and milestones, and proceeds from our commercial partner, Grünenthal. The size of our future net losses will depend, in part, on the rate of future expenditures and our ability to generate revenues. We expect to continue to incur substantial expenses as we continue our research and development activities for our product candidates, including addressing issues raised by the FDA related to regulatory review of Zalviso, as well as to support manufacturing and supply of Zalviso in Europe for Grünenthal. To date, none of our product candidates have been commercialized, and if ARX-04, Zalviso, or our other product candidates are not successfully developed or commercialized, or if revenues are insufficient following marketing approval, we will not achieve profitability and our business may fail. Our success is also dependent on obtaining regulatory approval to market our product candidates outside of the United States through current and future collaborations which may not materialize or prove to be successful.

 

We are substantially dependent on our commercial partner, Grünenthal, to successfully commercialize Zalviso in Europe.*

 

On December 16, 2013, we entered into a Collaboration and License Agreement, or the License Agreement, and related Manufacture and Supply Agreement, or the MSA, and together with the License Agreement, the Agreements, with Grünenthal. On July 22, 2015, we entered into amendments to the License Agreement, or the License Amendment, and the MSA, or the MSA Amendment, with Grünenthal, each effective as of July 17, 2015, and together with the License Agreement, and the MSA, the Amended Agreements. The Amended Agreements grant rights to commercialize Zalviso in the European Union, or EU, Switzerland, Liechtenstein, Iceland, Norway and Australia, or the Territory, for human use in pain treatment within, or dispensed by, hospitals, hospices, nursing homes and other medically-supervised settings. In September 2015, the European Commission approved Grünenthal’s MAA for Zalviso for post-operative pain. In April 2016, Grünenthal completed the first commercial sale of the Zalviso system. Grünenthal is expected to deploy the Zalviso system initially in a limited number of hospitals in Germany under a pilot program, whereby the hospital will use Zalviso in a small number of post-operative patients. The pilot program, which is expected to last approximately two months at each institution, will be made available to additional hospitals in Germany over the next several months. Pending success with the pilot program, Grünenthal expects to make the product widely available in Germany; however, there is no guarantee that Grünenthal will achieve commercial success in its Zalviso launch in Germany, or anywhere in the European Union. In September 2015, we consummated a monetization transaction with PDL BioPharma, Inc., or PDL, pursuant to which we sold to PDL for $65.0 million 75% of the European royalties from sales of Zalviso and 80% of the first four commercial milestones under the License Agreement, subject to a capped amount, referred to as the Royalty Monetization. Even if Grünenthal is successful in the commercialization of Zalviso in the EU, we will receive only 25% of the royalties and 20% of the first four commercial milestones under the License Agreement, and 100% of the royalties after the capped amount is reached. Any failures in commercialization of Zalviso outside the United States could have a material adverse impact on our business, including an adverse impact on the development of ARX-04 or Zalviso in the United States, if related to issues underlying the sufentanil sublingual tablet technology, safety or efficacy. Additionally, we agreed to certain representations and covenants relating to the Amended Agreements under our agreements with PDL, and, if we breach those representations or covenants, we may become subject to indemnification claims by PDL and liable to PDL for its indemnifiable losses relating to such breaches. The amount of such losses could be material and could have a material adverse impact on our business.

 

 

 

We have never generated product revenue and may never be profitable.

 

Our ability to generate revenue from commercial sales and achieve profitability depends on our ability, alone or with collaborators, to successfully complete the development of, obtain the necessary regulatory approvals for, and commercialize our product candidates. We may never generate revenues from sales of ARX-04, Zalviso or our other product candidates in the United States. While we have a collaboration with Grünenthal for commercialization of Zalviso in Europe and Australia, we may not achieve all of the development milestones associated with the collaboration, and Grünenthal may not recognize commercial sales of Zalviso, for which we would receive sales milestone payments and product royalties. Even if Grünenthal is successful in commercialization of Zalviso, as a result of our sale to PDL of certain expected royalties from the sales of Zalviso by Grünenthal and a portion of our first four commercial sales milestones, we will receive only 25% of the sales royalties and 20% of the first four commercial milestones under the Amended License Agreement. In addition, we do not anticipate generating revenues from our other product candidates for the foreseeable future, if ever. Our ability to generate future revenues from product sales depends heavily on our success in:

 

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obtaining and maintaining regulatory approval for ARX-04 and/or Zalviso in the United States and/or in Europe;

 

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launching and commercializing ARX-04 and/or Zalviso, including building internally or through entering a collaboration, a hospital-directed sales force in the United States and with third parties internationally, including Grünenthal, which may require additional funding; and

 

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completing the clinical development of, obtaining regulatory approval for, and launching and commercializing ARX-04 and Zalviso, which may require additional funding or corporate partnership resources.

  

Because of the numerous risks and uncertainties associated with pharmaceutical product development and the regulatory environment, we are unable to predict the timing or amount of increased expenses, or when, or if, we will be able to achieve or maintain profitability. Our expenses could increase beyond expectations if we are delayed in receiving regulatory approval, or in launching ARX-04 and/or Zalviso in the United States, or if we are required by the FDA to complete activities in addition to those we currently anticipate or have already completed.

 

Even if one or more of our product candidates is approved for commercial sale, we anticipate incurring significant costs associated with commercializing any approved product candidate. Even if we are able to generate revenues from the sale of any future approved products, we may not become profitable and may need to obtain additional funding to continue operations.

 

We have a limited operating history that may make it difficult to predict our future performance or evaluate our business and prospects.

 

We were incorporated in 2005. Since inception, our operations have been primarily limited to organizing and staffing our company, developing our technology and undertaking pharmaceutical development and clinical trials for our product candidates, understanding the market potential for our product candidates and preparing for the potential commercialization of ARX-04 and Zalviso in the United States. We have not yet obtained regulatory approval of any of our product candidates in the United States. Consequently, any predictions that are made about our future success, or viability, or evaluation of our business and prospects, may not be accurate.

 

We will require additional capital and may be unable to raise capital, which would force us to delay, reduce or eliminate our product development programs and could cause us to cease operations.*

 

Developing pharmaceutical products, including conducting preclinical studies and clinical trials, is expensive. We expect to incur significant expenditures in connection with our ongoing activities, including conducting ARX-04 Phase 3 clinical trials, development activities associated with ARX-04, including regulatory costs in support of the potential NDA submission, and the remaining development activities associated with Zalviso, to respond to issues raised by the FDA. While we believe we have sufficient capital resources to continue planned operations through at least the first half of 2017, we may need additional capital to continue development and commercialization of ARX-04, and Zalviso will need additional capital to potentially pursue commercialization of any of our product candidates.

 

Future events and circumstances, including those beyond our control, may cause us to consume capital more rapidly than we currently anticipate. For example, in March 2015, we received correspondence from the FDA stating that we needed to complete an additional clinical trial of Zalviso. Any further development activities can be time consuming and costly. We submitted a protocol to the FDA for a clinical study in post-operative patients designed to evaluate the effectiveness of changes made to enhance Zalviso device performance. We received comments from the FDA on the protocol for the study, known as IAP312, and we are planning to initiate this study once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission. Clinical trials, regulatory reviews, and a potential launch of a commercial product are expensive activities. In addition, commercialization costs for ARX-04 and Zalviso in the United States may be significantly higher than estimated. We may experience technical difficulties in our commercialization efforts or otherwise, which could substantially increase the costs of commercialization. Revenues may be lower than expected and accordingly costs to produce such revenues may exceed those revenues. We will need to seek additional capital to continue operations. Such capital demands could be substantial. To raise capital, we may seek to sell additional equity or debt securities, monetize or securitize certain assets including future royalty streams and milestones, obtain a credit facility, or enter into product development, license or distribution agreements with third parties, or divest one or more of our product candidates. Such arrangements may not be available on favorable terms, if at all. Furthermore, any product development, licensing, distribution or sale agreements that we enter into may require us to relinquish valuable rights. We may not be able to obtain sufficient additional funding or enter into a strategic transaction in a timely manner. If adequate funds are not available, we would be required to reduce our workforce, delay, reduce the scope of, or eliminate, one or more of our research and development programs in advance of the date on which we exhaust our cash resources to ensure that we have sufficient capital to meet our obligations and continue on a path designed to preserve stockholder value.

 

 

 

Securing additional financing may divert our management from our day-to-day activities, which may adversely affect our ability to develop and commercialize our product candidates. In addition, we cannot guarantee that future financing will be available in sufficient amounts or on terms acceptable to us, if at all. If we are unable to raise additional capital when required or on acceptable terms, we may be required to:

 

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significantly delay, scale back or discontinue the development or commercialization of our product candidates;

 

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seek additional corporate partners for Zalviso on terms that might be less favorable than might otherwise be available; or

  

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relinquish, or license on unfavorable terms, our rights to technologies or product candidates that we otherwise would seek to develop or commercialize ourselves.

 

We may sell additional equity or debt securities to fund our operations, which may result in dilution to our stockholders and impose restrictions on our business.

 

In order to raise additional funds to support our operations, we may sell additional equity or debt securities which would result in dilution to our stockholders or impose restrictive covenants that may adversely impact our business. The sale of additional equity or convertible debt securities would result in the issuance of additional shares of our capital stock and dilution to all of our stockholders. The incurrence of indebtedness would result in increased fixed payment obligations and could also result in certain restrictive covenants, such as limitations on our ability to incur additional debt, limitations on our ability to acquire, sell or license intellectual property rights and other operating restrictions, such as minimum cash balances, that could adversely impact our ability to conduct our business. If we are unable to expand our operations or otherwise capitalize on our business opportunities, our business, financial condition and results of operations could be materially adversely affected and we may not be able to meet our debt service obligations.

 

We might be unable to service our existing debt due to a lack of cash flow and might be subject to default.

 

In December 2013, we entered into an amended loan and security agreement, or the Amended Loan Agreement, with Hercules Technology II, L.P. and Hercules Technology Growth Capital, Inc., collectively referred to as Hercules, under which we could have borrowed up to $40.0 million in three tranches, represented by secured convertible promissory notes. We drew the first tranche of $15.0 million at the closing of the new credit facility and the second tranche of $10.0 million on June 16, 2014. We did not have access to the third tranche of up to $15.0 million, as it was conditioned upon FDA approval to market Zalviso in the United States by August 1, 2015, which we did not obtain. We began making principal payments in April 2015. On September 18, 2015, we amended the Amended Loan Agreement with Hercules to extend an interest only period from October 1, 2015 through March 31, 2016, with the potential for further extension to September 30, 2016 upon satisfaction of certain conditions, which have since been satisfied. The scheduled maturity date is October 31, 2017.

 

We granted Hercules a first priority security interest in substantially all of our assets, with the exception of our intellectual property and those assets sold under the Royalty Monetization, where the security interest is limited to proceeds of intellectual property if it is licensed or sold.

 

If we do not make the required payments when due, either at maturity, or at applicable installment payment dates, or if we breach the agreement or become insolvent, Hercules could elect to declare all amounts outstanding, together with accrued and unpaid interest and penalty, to be immediately due and payable. Additional capital may not be available on terms acceptable to us, or at all. In addition, we recently sold a portion of the royalties and first four commercial sales milestone payments we are entitled to receive under the Amended Agreements with Grünenthal to PDL, which will decrease future cash flows available to us to repay the Hercules debt. Even if we were able to repay the full amount in cash, any such repayment could leave us with little or no working capital for our business. If we are unable to repay those amounts, Hercules will have a first claim on our assets pledged under the Amended Loan Agreement. If Hercules should attempt to foreclose on the collateral, it is unlikely that there would be any assets remaining after repayment in full of such secured indebtedness. Any default under the Amended Loan Agreement and resulting foreclosure would have a material adverse effect on our financial condition and our ability to continue our operations.

 

 

 

We may not receive all of the funding from the Department of Defense for the advancement of ARX-04.

 

On May 11, 2015, we entered into an award contract supported by the United States Army Medical Research and Materiel Command, or USAMRMC, within the U.S. Department of Defense, or the DoD, in which the DoD agreed to provide up to $17.0 million to support the development of ARX-04, referred to as the DoD Contract. Under the terms of the contract, the DoD will reimburse us for costs incurred for development, manufacturing, regulatory and clinical costs outlined in the contract in order to submit an NDA to the FDA, including reimbursement for certain personnel and overhead expenses. The period of performance under the contract began on May 11, 2015. The contract gives the DoD the option to extend the term of the contract and provide additional funding for the research. On March 2, 2016, the DoD Contract was amended to approve enrollment of additional patients in the SAP302 study, approve the addition of the SAP303 study, and extend the contract period of performance by four months from November 10, 2016 to March 9, 2017, to accommodate the increased SAP302 patient enrollment and the SAP303 study. The costs for these changes will be absorbed within the current contract value. Funding under this contract will be subject to audit by the DoD to ensure adherence to specific guidance, policies and procedures. The DoD may find deficiencies during the course of an audit which could jeopardize, or even eliminate, continued funding from the DoD, as well as require repayment of any funds they had provided us since inception of the contract. The lack of ARX-04 supportive funding, may adversely affect our ability to continue to advance the development of ARX-04.

 

Risks Related to Our Reliance on Third Parties

 

We rely on third party manufacturers to produce our preclinical and clinical drug supplies and intend to rely on third parties to produce commercial supplies of any approved product candidates.

 

Reliance on third party manufacturers entails many risks including:

 

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the inability to meet our product specifications and quality requirements consistently;

 

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a delay or inability to procure or expand sufficient manufacturing capacity;

 

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manufacturing and product quality issues related to scale-up of manufacturing;

 

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costs and validation of new equipment and facilities required for scale-up;

 

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a failure to maintain in good order our production and manufacturing equipment for our products;

 

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a failure to comply with cGMP and similar foreign standards;

 

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the inability to negotiate manufacturing agreements with third parties under commercially reasonable terms;

 

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termination or nonrenewal of manufacturing agreements with third parties in a manner or at a time that is costly or damaging to us;

 

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the reliance on a limited number of sources, and in some cases, single sources for product components, such that if we are unable to secure a sufficient supply of these product components, we will be unable to manufacture and sell our product candidates in a timely fashion, in sufficient quantities or under acceptable terms;

 

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the lack of qualified backup suppliers for those components that are currently purchased from a sole or single source supplier;

 

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operations of our third party manufacturers or suppliers could be disrupted by conditions unrelated to our business or operations, including the bankruptcy of the manufacturer or supplier;

 

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carrier disruptions or increased costs that are beyond our control; and

 

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the failure to deliver our products under specified storage conditions and in a timely manner.

 

Any of these events could lead to stock outs, inability to successfully commercialize our products, clinical trial delays, or failure to obtain regulatory approval. Some of these events could be the basis for FDA action, including injunction, recall, seizure, or total or partial suspension of production.

 

As mentioned above, we have entered into the Amended Agreements with Grünenthal under which we are obligated to manufacture and supply Zalviso for use in the EU and their other licensed territories. If we are unable to establish a reliable commercial supply of Zalviso for Grünenthal’s Territory, we may be unable to satisfy our obligations under the Amended Agreements in a timely manner or at all, and we may, as a result, be in breach of the Amended Agreements.

 

We rely on limited sources of supply for the drug component of our product candidates and any disruption in the chain of supply may cause delay in developing and commercializing our product candidates.

 

Currently, we use two established suppliers of sufentanil citrate for our tablets. We only have one supplier qualified for our manufacture of Zalviso. For each product candidate, only one of the two suppliers will be qualified as a vendor with the FDA. If supply from the approved vendor is interrupted, there could be a significant disruption in commercial supply. The alternative vendor would need to be qualified through an NDA supplement which could result in further delay. The FDA or other regulatory agencies outside of the United States may also require additional trials if a new sufentanil supplier is relied upon for commercial production.

 

 

 

Manufacture of sufentanil sublingual tablets requires specialized equipment and expertise.

 

Ethanol, which is used in the manufacturing process for our sufentanil sublingual tablets, is flammable, and sufentanil is a highly potent, Schedule II compound. These factors necessitate the use of specialized equipment and facilities for manufacture of sufentanil sublingual tablets. There are a limited number of facilities that can accommodate our manufacturing process and we need to use dedicated equipment throughout development and commercial manufacturing to avoid the possibility of cross-contamination. If our equipment breaks down or needs to be repaired or replaced, it may cause significant disruption in clinical or commercial supply, which could result in delay in the process of obtaining approval for or sale of our products. Furthermore, we are using one manufacturer to produce our sufentanil sublingual tablets and have not identified a back-up commercial facility to date. Any problems with our existing facility or equipment, including ongoing expansion, may delay or impair our ability to complete our clinical trials or commercialize our product candidates and increase our cost.

 

Manufacturing issues may arise that could delay or increase costs related to product and regulatory approval, and commercialization.*

 

As we scale up manufacturing of our product candidates and conduct required stability testing, product, packaging, equipment and process-related issues may require refinement or resolution in order to obtain regulatory approval for commercial marketing. In the past we have identified impurities in our product candidates. In the future we may identify significant impurities, which could result in increased scrutiny by the regulatory agencies, delays in clinical program and regulatory approval, increases in our operating expenses, or failure to obtain or maintain approval for our products.

 

Early development and clinical trial manufacturing of Zalviso was conducted at Patheon in Toronto, Canada. Because the DEA requires that sufentanil be manufactured in the United States if our product candidates are marketed in the United States, we transferred our manufacturing capability in the third quarter of 2011 from Patheon in Toronto, Canada to Patheon’s production facility in Cincinnati, Ohio, where we have built out a suite within their existing buildings that will serve as a manufacturing facility for clinical and commercial supplies of sufentanil sublingual tablets. Late stage development and manufacture of registration stability lots, which were utilized in clinical trials, were manufactured at Patheon, Cincinnati While we have produced a limited number of commercial lots at Patheon to support Grünenthal’s launch in Europe, our experience is limited, which may impact our ability to deliver future commercial supplies to Grünenthal.

 

In January 2013, we entered into a Manufacturing Services Agreement, or the Services Agreement, with Patheon under which Patheon has agreed to manufacture, supply, and provide certain validation and stability services with respect to Zalviso for potential sales in the United States, Canada, Mexico and other countries, subject to agreement by the parties to any additional fees for such other countries. There is no guarantee that Patheon’s services will be satisfactory or that they will continue to meet the strict regulatory guidelines of the FDA or other foreign regulatory agencies. In addition, in January 2013, we entered into an Amended and Restated Capital Expenditure and Equipment Agreement, or the Amended Capital Agreement, with Patheon, relating to the manufacture of sufentanil sublingual tablets. Under the terms of the Amended Capital Agreement, we have made and may make certain future modifications to Patheon’s Cincinnati facility.

 

If Patheon cannot provide us with an adequate supply of sufentanil sublingual tablets, we may be required to pursue alternative sources of manufacturing capacity. Switching or adding commercial manufacturing capability can involve substantial cost and require extensive management time and focus, as well as additional regulatory filings which may result in significant delays. In addition, there is a natural transition period when a new manufacturing facility commences work. As a result, delays may occur, which can materially impact our ability to meet our desired commercial timelines, thereby increasing our costs and reducing our ability to generate revenue.

 

The facilities of any of our future manufacturers of sufentanil-containing sublingual tablets must be approved by the FDA or the relevant foreign regulatory agency, such as EMA, before commercial distribution from such manufacturers occurs. We do not fully control the manufacturing process of sufentanil sublingual tablets and are completely dependent on these third party manufacturing partners for compliance with the FDA or other foreign regulatory agency’s requirements for manufacture. In addition, although our third party manufacturers are well-established commercial manufacturers, we are dependent on their continued adherence to cGMP manufacturing and acceptable changes to their process. If our manufacturers do not meet the FDA or other foreign regulatory agency’s strict regulatory requirements, they will not be able to secure FDA or other foreign regulatory agency approval for their manufacturing facilities. Although European inspectors have approved our tablet manufacturing site, our third party manufacturing partner is responsible for maintaining compliance with the relevant foreign regulatory agency’s requirements. If the FDA or the relevant foreign regulatory agency does not approve these facilities for the commercial manufacture of sufentanil sublingual tablets, we will need to find alternative suppliers, which would result in significant delays in obtaining FDA or other foreign regulatory agency approval for ARX-04 and Zalviso outside the EU. These challenges may have a material adverse impact on our business, results of operations, financial condition and prospects.

 

 

 

Related to the Zalviso device, we have conducted multiple Design Validation, Software Verification and Validation, Reprocessing and Human Factors studies, and have manufactured for and completed Phase 3 clinical trials using the intended commercial device. As mentioned above, the CRL from the FDA contains a request for additional information on the Zalviso System to ensure proper use of the device. In March 2015, we received correspondence from the FDA stating that in addition to the bench testing and two Human Factors studies we had performed in response to the issues identified in the CRL, a clinical trial is needed to assess the risk of inadvertent dispensing and overall risk of dispensing failures. We have made modifications to the design of the Zalviso device subsequent to the original submission of the Zalviso NDA, which we plan to include as a part of any resubmitted NDA. In early September 2015, we met with the FDA to discuss their request for an additional clinical trial and our planned response to the CRL. In the Type C meeting minutes, the FDA provided some additional details about the type of clinical data they would like us to provide, as a complement to the other data we already have provided, to assess the overall performance of Zalviso. We submitted a protocol to the FDA for a clinical study in post-operative patients designed to evaluate the effectiveness of changes made to enhance Zalviso device performance. We have completed the protocol review with the FDA for the study, known as IAP312, and we plan to initiate this study once production and testing of the supplies are complete, and clinical sites are ready, in order to support our NDA resubmission. Furthermore, if any additional changes to the device are substantial, the FDA may require us to perform further clinical trials or studies in order to approve the device for commercial use.

 

We have manufactured Zalviso devices and supplies on a small scale, including those needed for our Phase 3 clinical trials, and process validation for some of the device components has been completed. We, however, have not yet manufactured Zalviso devices and supplies on a large scale, for commercial purposes. We have completed the process validation for the device components and have manufactured launch supplies for delivery to Grünenthal; however, our experience is limited. We will continue to rely on contract manufacturers, component fabricators and third party service providers to produce the necessary Zalviso devices for the commercial marketplace. We currently outsource manufacturing and packaging of the controller, dispenser and cartridge components of the Zalviso device to third parties and intend to continue to do so. Some of these purchases and components were made and will continue to be made utilizing short-term purchase agreements and we may not be able to enter into long-term agreements for commercial supply of ARX-04 or Zalviso devices with third-party manufacturers, or may be unable to do so on acceptable terms. In addition, we have encountered and may continue to encounter production issues with our current or future contract manufacturers and other third party service providers, including the reliability of the production equipment, quality of the components produced, their inability to meet demand or other unanticipated delays including the scale-up and automation process, which would adversely impact our ability to supply our customers with ARX-04, if approved, and Zalviso, in the EU, and if approved, in the U.S. and any other foreign territories.

 

We may not be able to establish additional sources of supply for sufentanil-containing sublingual tablets or device manufacture. Such suppliers are subject to FDA and other foreign regulatory agency’s regulations requiring that materials be produced under cGMPs or Quality System Regulations, or QSR, or in ISO 13485 accredited manufacturers, and subject to ongoing inspections by regulatory agencies. Failure by any of our suppliers to comply with applicable regulations may result in delays and interruptions to our product candidate supply while we seek to secure another supplier that meets all regulatory requirements. In addition, if we are unable to establish a reliable commercial supply of Zalviso for Grünenthal’s Territory, we may be unable to satisfy our obligations under the Amended Agreements in a timely manner or at all, and we may, as a result, be in breach of the Amended Agreements.

 

For ARX-04, we currently package the finished goods under a manual process at the Patheon facility. The capacity and cost to package the ARX-04 units under this manual process is not sufficient to support successful future sales of ARX-04. We will need to purchase, install and validate new equipment and processes to automate the ARX-04 manufacturing process. The purchase and subsequent installation of this equipment to automate the ARX-04 packaging process will require substantial resources and take several years. There is no assurance that we will be able to successfully purchase, install or validate the equipment necessary to automate the ARX-04 packaging process. If we are successful in the purchase, installation and validation of this equipment and process, there can be no assurance that we will be able to obtain the necessary regulatory approvals to manufacture product.

   

Reliance on third party manufacturers entails risks to which we would not be subject if we manufactured the product candidates ourselves, including the possible breach of the manufacturing agreements by the third parties because of factors beyond our control; and the possibility of termination or nonrenewal of the agreements by the third parties because of our breach of the manufacturing agreement or based on their own business priorities.

 

We rely on third parties to conduct, supervise and monitor our clinical trials, and if those third parties perform in an unsatisfactory manner, it may harm our business.

 

We utilized contract research organizations, or CROs, for the conduct of our Phase 3 clinical trials of Zalviso, the Phase 2 clinical trial of ARX-04, and our ongoing Phase 3 clinical program for ARX-04. We rely on CROs, as well as clinical trial sites, to ensure the proper and timely conduct of our clinical trials and document preparation. While we have agreements governing their activities, we have limited influence over their actual performance. We have relied and plan to continue to rely upon CROs to monitor and manage data for our clinical programs for ARX-04, Zalviso, and our other product candidates, as well as the execution of nonclinical and clinical trials. We control only certain aspects of our CROs’ activities. Nevertheless, we are responsible for ensuring that each of our trials is conducted in accordance with the applicable protocol, legal, regulatory and scientific standards and our reliance on the CROs does not relieve us of our regulatory responsibilities.

 

We, and our CROs, are required to comply with the FDA’s current good clinical practices, or cGCPs, which are regulations and guidelines enforced by the FDA for all of our product candidates in clinical development. The FDA enforces these cGCPs through periodic inspections of trial sponsors, principal investigators and clinical trial sites. If we or our CROs fail to comply with applicable cGCPs, the clinical data generated in our clinical trials may be deemed unreliable and the FDA may require us to perform additional clinical trials before approving our marketing applications. Upon inspection, the FDA may determine that our clinical trials do not comply with cGCPs. Accordingly, if our CROs or clinical trial sites fail to comply with these regulations, we may be required to repeat clinical trials, which would delay the regulatory process.

 

 

 

Our CROs are not our employees, and we cannot control whether or not they devote sufficient time and resources to our ongoing clinical and nonclinical programs. These CROs may also have relationships with other commercial entities, including our competitors, for whom they may also be conducting clinical trials, or other drug development activities which could harm our competitive position. We face the risk of potential unauthorized disclosure or misappropriation of our intellectual property by CROs, which may allow our potential competitors to access our proprietary technology. If our CROs do not successfully carry out their contractual duties or obligations, fail to meet expected deadlines, or if the quality or accuracy of the clinical data they obtain is compromised due to the failure to adhere to our clinical protocols or regulatory requirements, or for any other reasons, our clinical trials may be extended, delayed or terminated, and we may not be able to obtain regulatory approval for, or successfully commercialize ARX-04 and Zalviso, or our other product candidates. As a result, our financial results and the commercial prospects for ARX-04, Zalviso or any future product candidates for which we may obtain approval would be harmed, our costs could increase, and our ability to generate revenues could be delayed.

 

Risks Related to Commercialization of Our Product Candidates

 

The commercial success of ARX-04, and Zalviso outside the EU, if approved, as well as Zalviso in the EU, will depend upon the acceptance of these products by the medical community, including physicians, nurses, patients, and pharmacy and therapeutics committees.

 

The degree of market acceptance of ARX-04, and Zalviso outside the EU, if approved, as well as Zalviso in the EU, will depend on a number of factors, including:

 

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demonstration of clinical safety and efficacy compared to other products;

 

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the relative convenience, ease of administration and acceptance by physicians, patients and health care payors;

 

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the use of ARX-04 for the management of moderate-to-severe acute pain by a healthcare professional for patient types that were not specifically studied in our Phase 3 trials;

 

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the use of Zalviso for the management of moderate-to-severe acute pain in the hospital setting for patient types that were not specifically studied in our Phase 3 trials;

 

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the prevalence and severity of any AEs or SAEs;

  

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overcoming the perception of sufentanil as a potentially unsafe drug due to its high potency;

 

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limitations or warnings contained in the FDA- or EMA-approved label for ARX-04 or Zalviso;

 

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restrictions or limitations placed on ARX-04 or Zalviso due to the REMS;

 

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availability of alternative treatments;

 

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existing capital investment by hospitals in IV PCA technology;

 

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pricing and cost-effectiveness;

 

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the effectiveness of our or any future collaborators’ sales and marketing strategies;