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TMCNet:  BIOSPECIFICS TECHNOLOGIES CORP - 10-Q - : Management's Discussion and Analysis of Financial Condition and Results of Operations

[August 11, 2014]

BIOSPECIFICS TECHNOLOGIES CORP - 10-Q - : Management's Discussion and Analysis of Financial Condition and Results of Operations

(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion should be read in conjunction with the consolidated financial statements and the related notes thereto included elsewhere in this Report and is qualified by reference to them.


12 -------------------------------------------------------------------------------- Table of Contents Overview We are a biopharmaceutical company involved in the development of an injectable collagenase for multiple indications. We have a development and license agreement with Auxilium Pharmaceuticals, Inc. ("Auxilium") for injectable collagenase (which Auxilium has named XIAFLEX®) for marketed indications and collagenase clostridium histolyticum ("CCH") for indications in development.

Auxilium has an option to acquire additional indications that we may pursue, including human and canine lipoma. Auxilium is currently selling XIAFLEX in the U.S. for the treatment of Dupuytren's contracture and Peyronie's disease.

Following the termination of the agreement between Auxilium and Pfizer, Inc.

("Pfizer"), Auxilium entered into an agreement with Swedish Orphan Biovitrum AB ("Sobi") pursuant to which Sobi has marketing rights for XIAPEX® (the EU trade name for CCH) for Dupuytren's contracture and Peyronie's disease in Europe and certain Eurasian countries. Sobi is currently selling XIAPEX in Europe for the treatment of Dupuytren's contracture. In addition, Auxilium has an agreement with Asahi Kasei Pharma Corporation ("Asahi") pursuant to which Asahi has the right to commercialize XIAFLEX for the treatment of Dupuytren's contracture and Peyronie's disease in Japan. Auxilium also has an agreement with Actelion Pharmaceuticals Ltd. ("Actelion") pursuant to which Actelion has the right to commercialize XIAFLEX for the treatment of Dupuytren's contracture and Peyronie's disease in Canada, Australia, Brazil and Mexico.

Operational Highlights On April 7, 2014, our partner Auxilium and Sobi announced that Sobi became the Market Authorisation Holder ("MAH") for XIAPEX in 28 EU member countries, Norway, and Iceland on April 3, 2014. As the MAH, Sobi has now elected to file for market authorization for XIAPEX for the treatment of Peyronie's disease and work is on-going for that filing in the EU.

On April 14, 2014, our partner Auxilium and Sobi announced that encore data were presented from multiple clinical trials evaluating the use of XIAFLEX /XIAPEX in adult patients with Peyronie's disease. This data were presented at the 29th Annual European Association of Urology Congress held April 11-15, 2014 in Stockholm, Sweden.

On May 19, 2014, our partner Auxilium announced that new analyses of data evaluating the use of XIAFLEX in adult men with Peyronie's disease were presented at the 2014 Annual Meeting of the American Urological Association being held in Orlando, Florida on May 16-21, 2014.

On June 25, 2014, our partner Auxilium announced that Sobi has filed for an extension of the label for XIAPEX (the EU trade name for CCH) with the European Medicines Agency to include the indication of Peyronie's disease. XIAPEX is currently approved for the treatment of Dupuytren's contracture in adult patients with a palpable cord. Auxilium has partnered with Sobi for the marketing of XIAPEX in 71 Eurasian and African countries for the treatment of Dupuytren's contracture, and Peyronie's disease pending applicable regulatory approvals.

On June 27, 2014, we announced that effective at the close of the U.S. markets on June 27, 2014, BioSpecifics will be added to the Russell 3000® and Russell Global Indexes as part of Russell Investments' annual reconstitution of its U.S.

and global equity indexes.

Outlook For the quarter ended June 30, 2014, we generated revenue from one primary source: in connection with the Auxilium Agreement. Under the Auxilium Agreement, we receive license, sublicense income, royalties, milestones and mark-up on cost of goods sold payments related to the sale and approval of XIAFLEX as described above.

Significant Risks We are dependent to a significant extent on third parties, and our principal licensee, Auxilium, may not be able to continue successfully commercializing XIAFLEX for Dupuytren's contracture and Peyronie's disease, successfully develop CCH for additional indications, obtain required regulatory approvals, manufacture XIAFLEX at an acceptable cost, in a timely manner and with appropriate quality, or successfully market products or maintain desired margins for products sold, and as a result we may not achieve sustained profitable operations. For more information regarding the risks facing the Company, please see the risk factors discussed under the heading "Risk Factors" under Item 1A of Part 1 of our Annual Report on Form 10-K for the year ended December 1, 2013.

Critical Accounting Policies, Estimates and Assumptions The preparation of unaudited consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates are based on historical experience and on various other assumptions that we believe are reasonable under the circumstances. The information at June 30, 2014 and for the three and six months ended June 30, 2014 and 2013 is unaudited, but includes all adjustments (consisting only of normal recurring adjustments) which, in the opinion of management, are necessary to state fairly the financial information set forth herein. The December 31, 2013 balance sheet amounts and disclosures included herein have been derived from the Company's December 31, 2013 audited consolidated financial statements. The interim results are not necessarily indicative of results to be expected for the full fiscal year. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2013 included in the Company's Annual Report on Form 10-K and with the unaudited consolidated financial statements included in our Quarterly Report on Form 10-Q for the first quarter of 2014 filed with the SEC. While our significant accounting policies are described in more detail in the notes to our unaudited consolidated financial statements, we believe the following accounting policies to be critical to the judgments and estimates used in the preparation of our unaudited consolidated financial statements. Actual results have differed in the past, and may differ in the future, from our estimates and could impact our earnings in any period during which an adjustment is made.

13 -------------------------------------------------------------------------------- Table of Contents Revenue Recognition. We recognize revenues from product sales when there is persuasive evidence that an arrangement exists, title passes, the price is fixed and determinable, and payment is reasonably assured. We currently recognize revenues resulting from the licensing, sublicensing and use of our technology and from services we sometimes perform in connection with the licensed technology.

We enter into product development licenses and collaboration agreements that may contain multiple elements, such as upfront license and sublicense fees, milestones related to the achievement of particular stages in product development and royalties. As a result, significant contract interpretation is sometimes required to determine the appropriate accounting, including whether the deliverables specified in a multiple-element arrangement should be treated as separate units of accounting for revenue recognition purposes, and if so, how the aggregate contract value should be allocated among the deliverable elements and when to recognize revenue for each element.

We recognize revenue for delivered elements only when the fair values of undelivered elements are known, when the associated earnings process is complete and, to the extent the milestone amount relates to our performance obligation, when our licensee confirms that we have met the requirements under the terms of the agreement, and when payment is reasonably assured. Changes in the allocation of the contract value between various deliverable elements might impact the timing of revenue recognition, but in any event, would not change the total revenue recognized on the contract. For example, nonrefundable upfront product license fees for product candidates for which we are providing continuing services related to product development are deferred and recognized as revenue over the development period.

Milestones, in the form of additional license fees, typically represent nonrefundable payments to be received in conjunction with the achievement of a specific event identified in a contract, such as completion of specified clinical development activities and/or regulatory submissions and/or approvals.

We believe that a milestone represents the culmination of a distinct earnings process when it is not associated with ongoing research, development or other performance on our part. We recognize such milestones as revenue when they become due and payment is reasonably assured. When a milestone does not represent the culmination of a distinct earnings process, we recognize revenue in a manner similar to that of an upfront product license fee.

Royalty/ Mark-up on Cost of Goods Sold / Earn-Out Revenue. For those arrangements for which royalty, mark-up on cost of goods sold or earn-out payment information becomes available and collectability is reasonably assured, we recognize revenue during the applicable period earned. For interim quarterly reporting purposes, when collectability is reasonably assured but a reasonable estimate of royalty, mark-up on cost of goods sold or earn-out payment revenues cannot be made, the royalty, mark-up on cost of goods sold or earn-out payment revenues are generally recognized in the quarter that the applicable licensee provides the written report and related information to us.

Under the Auxilium Agreement, we do not participate in the selling, marketing or manufacturing of products for which we receive royalties and a mark-up on the cost of goods sold revenues. The royalty and mark-up on cost of goods sold revenues will generally be recognized in the quarter that Auxilium provides the written reports and related information to us, that is, royalty and mark-up on cost of goods sold revenues are generally recognized one quarter following the quarter in which the underlying sales by Auxilium occurred. The royalties payable by Auxilium to us are subject to set-off for certain patent costs.

14 -------------------------------------------------------------------------------- Table of Contents Under the DFB Agreement, pursuant to which we sold our topical collagenase business to DFB, we had the right to receive earn-out payments based on sales of certain products. This right to receive payments on Santyl sales expired in August 2013. Generally, under the DFB Agreement we would receive payments and a report within ninety (90) days from the end of each calendar year after DFB had sold the royalty-bearing product. DFB provided us earn-out reports on a quarterly basis. In 2013, BioSpecifics recognized all income from the Santyl sales under the DFB agreement, and, in March 2014 we received the corresponding cash payment for the income recognized in 2013.

Reimbursable Third Party Development Costs. We accrue patent expenses for research and development that are reimbursable by us under the Auxilium Agreement. We capitalize certain patent costs related to estimated third party development costs that are reimbursable under the Auxilium Agreement. As of June 30, 2014, our estimated net reimbursable third party patent costs accrual was approximately $15,000.

Receivables and Deferred Revenue. Accounts receivable as of June 30, 2014 is approximately $2.0 million, which consists of royalties and mark-up on costs of goods sold due from Auxilium in accordance with the terms of the Auxilium Agreement. Deferred revenue of $0.2 million consists of licensing fees related to the cash payments received under the Auxilium Agreement in prior years and amortized over the expected development period of certain indications for XIAFLEX.

Third Party Royalties and Royalty Buy-Down. We have entered into licensing and royalty agreements with third parties and agreed to pay certain royalties on net sales of products for specific indications. We accrue third party royalty expenses on net sales reported to us by Auxilium. Third party royalty costs are generally expensed in the quarter that Auxilium provides the written reports and related information to us, that is, generally one quarter following the quarter in which the underlying sales by Auxilium occurred. Third party royalty expenses were $254,545 and $191,902, respectively, for the six months ended June 30, 2014 and 2013. We expect our third party royalty expense under General and Administrative expenses will continue to increase as net sales by Auxilium for XIAFLEX increase and potential new indications for CCH are approved.

On March 31, 2012, we entered into an amendment to our existing agreement with Dr. Martin K. Gelbard, dated August 27, 2008, related to our future royalty obligations. The amendment enables us to buy down a portion of our future royalty obligations in exchange for an initial cash payment of $1.5 million and five additional cash payments, one of which was paid in December 2013. The Company amortizes long-term contracts with finite lives in a manner that reflects the pattern in which the economic benefits of the assets are consumed or otherwise used up. Dr. Gelbard's agreement is amortized based on an income forecast method by estimating sales of XIAFLEX for Peyronie's disease on an annual basis as measured by the proportion to the total estimated sales over the five year period. For the quarter ended June 30, 2014, we amortized approximately $40,000 related to this agreement. As of June 30, 2014, the remaining capitalized balance was $3.30 million. We perform an evaluation of the recoverability of the carrying value to determine if facts and circumstances indicate that the carrying value of the assets may be impaired and if any adjustment is warranted. Based on our evaluation as of June 30, 2014, no impairment existed.

Stock Based Compensation. Under ASC 718, we estimate the fair value of our employee stock awards at the date of grant using the Black-Scholes option-pricing model, which requires the use of certain subjective assumptions.

The most significant assumptions are our estimates of the expected volatility of the market price of our stock and the expected term of an award. Expected volatility is based on the historical volatility of our common stock. When establishing an estimate of the expected term of an award, we consider the vesting period for the award, our historical experience of employee stock option exercises (including forfeitures) and the expected volatility. As required under the accounting rules, ASC 718, we review our valuation assumptions at each grant date and, as a result, we are likely to change our valuation assumptions used to value future employee stock-based awards granted, to the extent any such awards are granted.

Further, ASC 718 requires that employee stock-based compensation costs be recognized over the requisite service period, or the vesting period, in a manner similar to all other forms of compensation paid to employees. The allocation of employee stock-based compensation costs to each operating expense line are estimated based on specific employee headcount information at each grant date and estimated stock option forfeiture rates and revised, if necessary, in future periods if actual employee headcount information or forfeitures differ materially from those estimates. As a result, the amount of employee stock-based compensation costs we recognize in each operating expense category in future periods may differ significantly from what we have recorded in the current period.

RESULTS OF OPERATIONS THREE MONTHS ENDED JUNE 30, 2014 COMPARED TO THREE MONTHS ENDED JUNE 30, 2013 15 -------------------------------------------------------------------------------- Table of Contents Revenues Product Revenues, net Product revenues include the sales of the collagenase for laboratory use recognized at the time it is shipped to customers. We had a small amount of revenue from the sale of collagenase for laboratory use. For the three months ended June 30, 2014 and 2013 product revenues were $10,449 and $27,500, respectively. This decrease was primarily related to the amount of material required to perform testing and additional research by our customers.

Royalties Royalties consist of royalties and the mark-up on cost of goods sold under the Auxilium Agreement and earn-out revenues associated with the DFB Agreement.

Total royalty and mark-up on cost of goods sold for the three month period ended June 30, 2014 were $2.6 million as compared to royalty, mark-up on cost of goods sold and earn-out revenues of $3.2 million in the 2013 period, a decrease of $0.6 million or 18%. This decrease was mainly due to the expiration of the right to receipt earn-out payments on Santyl partially offset by increased XIAFLEX royalties and the mark-up on cost of goods sold revenue.

Royalty and the mark-up on cost of goods sold revenues recognized under the Auxilium Agreement were $2.6 million for the 2014 period compared to $1.7 million in the 2013 period. The increase of $0.9 million or 53% was due to increased net sales of XIAFLEX during 2014 period reported to us by Auxilium.

Under the earn-out payment provision of the DFB Agreement, we had the right to receive earn-out revenues from DFB after certain net sales levels were achieved.

This right to receive payments on Santyl sales expired in August 2013. Revenues recognized under the DFB Agreement were zero for the three months ended June 30, 2014 as compared to $1.5 million in the 2013 period. The change in revenue was entirely due to the August 2013 expiration of the right to receive payments on Santyl.

Licensing Revenue Licensing revenue consists of licensing fees, sublicensing fees and milestones.

For the three months ended June 30, 2014, we recognized total licensing revenue related to the development of XIAFLEX of approximately $17,282 as compared to $44,880 in the 2013 period. Certain licensing fees recognized are related to the cash payments received under the Auxilium Agreement in prior years and amortized over the expected development period.

Under current accounting guidance, nonrefundable upfront license fees for product candidates for which we are providing continuing services related to product development are deferred and recognized as revenue over the development period. The remaining balance will be recognized over the respective development periods or when we determine that we have no ongoing performance obligations.

Research and Development Activities and Expenses Research and development expenses include, but are not limited to, internal costs, such as salaries and benefits, costs of materials, lab expense, facility costs and overhead. Research and development expenses also consist of third party costs, such as medical professional fees, product costs used in clinical trials, consulting fees and costs associated with clinical study arrangements.

Research and development expenses were $286,332 and $470,044, respectively, for the three months ended June 30, 2014 and 2013, representing a decrease in 2014 of $183,712, or 39%. This decrease in research and development expenses was primarily due to the completion of the canine lipoma trial, pre-clinical costs associated with the uterine fibroid program and stock-based compensation.

We are currently working to develop CCH for the treatment of human and canine lipoma and have begun a pre-clinical study in uterine fibroids.

The following table summarizes our research and development expenses related to our clinical development programs.

Three Months Ended Three Months Ended June 30, 2014 June 30, 2013 Program Canine Lipoma $ 90,675 $ 180,646 Human Lipoma 36,036 39,184 Uterine Fibroids 17,232 54,435 16-------------------------------------------------------------------------------- Table of Contents Successful development of drugs is inherently difficult and uncertain. Our business requires investments in research and development over many years, often for drug candidates that may fail during the research and development process.

Even if the Company is able to successfully complete the development of our drug candidates, our long-term prospects depend upon our ability and the ability of our partners, particularly with respect to XIAFLEX and CCH, to continue to successfully commercialize these drug candidates.

There is significant uncertainty regarding our ability to successfully develop drug candidates in other indications. These risks include the uncertainty of: · the nature, timing and estimated costs of the efforts necessary to complete the development of our drug candidate projects; · the anticipated completion dates for our drug candidate projects; · the scope, rate of progress and cost of our clinical trials that we are currently running or may commence in the future with respect to our drug candidate projects; · the scope, rate of progress of our preclinical studies and other research and development activities related to our drug candidate projects; · clinical trial results for our drug candidate projects; · the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights relating to our drug candidate projects; · the terms and timing of any strategic alliance, licensing and other arrangements that we have or may establish in the future relating to our drug candidate projects; · the cost and timing of regulatory approvals with respect to our drug candidate projects; and · the cost of establishing clinical supplies for our drug candidate projects.

Our current resources and liquidity are sufficient to advance our significant current research and development projects and, Auxilium will have the option to exclusively license the canine and human lipoma indications upon completion of the appropriate opt-in study.

General and Administrative Expenses General and administrative expenses consist primarily of salaries and other related costs for personnel, consultant costs, legal fees, investor relations, professional fees and overhead costs. General and administrative expenses were $1.5 million and $1.2 million for the three months ended June 30, 2014 and 2013, respectively, an increase of approximately $0.3 million, or 21%, from 2013. The increase in general and administrative expenses was mainly due to increased legal fees, third party royalty fees and consulting services partially offset by professional fees and investor relations.

Other Income and expense Other income for the three months ended June 30, 2014 was $7,352 compared to $6,510 in the 2013 period. Other income in both periods consisted mostly of interest earned on our investments.

Provision for Income Taxes Our deferred tax liabilities, deferred tax assets and related valuation allowances are impacted by events and transactions arising in the ordinary course of business, research and development activities, vesting of nonqualified options, deferred revenues and other items. Deferred tax assets are affected by the valuation allowance which is dependent upon several factors, including estimates of the realization of deferred income tax assets, and the impact of estimated future taxable income. Significant judgment is required to determine the estimated amount of valuation allowance to record. Changes in the estimate of the valuation allowance could materially increase or decrease our provision for income taxes in future periods.

17 -------------------------------------------------------------------------------- Table of Contents For the three month period ended June 30, 2014 our provision for income taxes was $0.3 million. The provision for income taxes for the three month period ended June 30, 2014 is based on an estimated effective tax rate derived from an estimate of consolidated earnings before taxes, adjusted for nondeductible expenses and other permanent differences for the fiscal year 2014. For the three month period ended June 30, 2014, the valuation allowance with respect to our net deferred tax assets remained unchanged. As of June 30, 2014, our remaining deferred tax assets were approximately $1.5 million.

For the three month period ended June 30, 2013 our provision for income taxes was $0.5 million. The provision for income taxes for the three month period ended June 30, 2013 is based on an estimated effective tax rate derived from an estimate of consolidated earnings before taxes, adjusted for nondeductible expenses and other permanent differences for fiscal year 2013. For the three month period ended June 30, 2013, the valuation allowance with respect to our net deferred tax assets remained unchanged. As of June 30, 2013, our remaining deferred tax assets were approximately $1.5 million.

Net Income For the three months ended June 30, 2014 we recorded net income of $0.6 million, or $0.09 per basic common share and $0.08 per diluted common share, compared to a net income of $1.0 million, or $0.16 per basic and $0.15 per diluted common share, for the same period in 2013.

SIX MONTHS ENDED JUNE 30, 2014 COMPARED TO SIX MONTHS ENDED JUNE, 30, 2013 Revenues Product Revenues, net Product revenues include the sales of the collagenase for laboratory use recognized at the time it is shipped to customers. We had a small amount of revenue from the sale of collagenase for laboratory use. For the six months ended June 30, 2014 and 2013 product revenues were $14,127 and $29,743, respectively. This decrease was primarily related to the amount of material required to perform testing and additional research by our customers.

Royalties Royalties consist of royalties and the mark-up on cost of goods sold under the Auxilium Agreement and earn-out revenues associated with the DFB Agreement.

Total royalty and mark-up on cost of goods sold for the six month period ended June 30, 2014 were $5.4 million as compared to royalty, mark-up on cost of goods sold and earn-out revenues of $6.6 million in the 2013 period, a decrease of $1.2 million or 19%. This decrease was mainly due to the expiration of the right to receipt earn-out payments on Santyl partially offset by increased XIAFLEX royalties and the mark-up on cost of goods sold revenue.

Royalty and the mark-up on cost of goods sold revenues recognized under the Auxilium Agreement were $5.4 million for the 2014 period compared to $4.1 million in the 2013 period. The increase of $1.3 million or 32% was due to increased net sales of XIAFLEX for the treatment of Dupuytren's contracture and Peyronie's disease during the 2014 period reported to us by Auxilium.

Under the earn-out payment provision of the DFB Agreement, we had the right to receive earn-out revenues from DFB after certain net sales levels were achieved.

This right to receive payments on Santyl sales expired in August 2013. Revenues recognized under the DFB Agreement were zero for the six months ended June 30, 2014 as compared to $2.5 million in the 2013 period. The change in revenue was entirely due to the August 2013 expiration of the right to receive payments on Santyl.

Licensing Revenue Licensing revenue consists of licensing fees, sublicensing fees and milestones.

For the six months ended June 30, 2014 and 2013, we recognized total licensing and milestone revenue of approximately $34,565 and $589,761, respectively a decrease of $555,196 or 94%. Certain licensing fees recognized are related to the cash payments received under the Auxilium Agreement in prior years and amortized over the expected development period. For the six months ended June 30, 2014, we recognized licensing revenue related to the development of XIAFLEX of approximately $34,565 as compared to $89,761 in the 2013 period, a decrease of $55,196 or 61%. In the 2013 period, licensing fees recognized of $0.5 million were related to the exercise by Auxilium of its exclusive option to expand the field of its license for injectable collagenase to include the potential treatment of adult patients with edematous fibrosclerotic panniculopathy, commonly known as cellulite.

18 -------------------------------------------------------------------------------- Table of Contents Under current accounting guidance, nonrefundable upfront license fees for product candidates for which we are providing continuing services related to product development are deferred and recognized as revenue over the development period. The remaining balance will be recognized over the respective development periods or when we determine that we have no ongoing performance obligations.

Research and Development Activities and Expenses Research and development expenses include, but are not limited to, internal costs, such as salaries and benefits, costs of materials, lab expense, facility costs and overhead. Research and development expenses also consist of third party costs, such as medical professional fees, product costs used in clinical trials, consulting fees and costs associated with clinical study arrangements.

Research and development expenses were $0.7 million and $0.8 million, respectively, for the six months ended June 30, 2014 and 2013, representing a decrease in 2014 of approximately $0.1 million, or 20%. This decrease in research and development expenses was primarily due to lower stock-based compensation.

We are currently working to develop CCH for the treatment of human and canine lipoma and have begun a pre-clinical study in uterine fibroids.

The following table summarizes our research and development expenses related to our clinical development programs.

Six Months Ended Six Months Ended Accumulated Expenses June 30, 2014 June 30, 2013 Since January 1, 2010 Program Canine Lipoma $ 207,540 $ 270,717 $ 1,643,735 Human Lipoma $ 112,350 $ 83,021 $ 850,450 Uterine Fibroids $ 68,191 $ 56,075 $ 225,821 Successful development of drugs is inherently difficult and uncertain. Our business requires investments in research and development over many years, often for drug candidates that may fail during the research and development process.

Even if the Company is able to successfully complete the development of our drug candidates, our long-term prospects depend upon our ability and the ability of our partners, particularly with respect to XIAFLEX and CCH, to continue to successfully commercialize these drug candidates.

There is significant uncertainty regarding our ability to successfully develop drug candidates in other indications. These risks include the uncertainty of: · the nature, timing and estimated costs of the efforts necessary to complete the development of our drug candidate projects; · the anticipated completion dates for our drug candidate projects; · the scope, rate of progress and cost of our clinical trials that we are currently running or may commence in the future with respect to our drug candidate projects; · the scope, rate of progress of our preclinical studies and other research and development activities related to our drug candidate projects; · clinical trial results for our drug candidate projects; · the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights relating to our drug candidate projects; · the terms and timing of any strategic alliance, licensing and other arrangements that we have or may establish in the future relating to our drug candidate projects; · the cost and timing of regulatory approvals with respect to our drug candidate projects; and 19 -------------------------------------------------------------------------------- Table of Contents · the cost of establishing clinical supplies for our drug candidate projects.

Our current resources and liquidity are sufficient to advance our significant current research and development projects and, Auxilium will have the option to exclusively license the canine and human lipoma indications upon completion of the appropriate opt-in study.

General and Administrative Expenses General and administrative expenses consist primarily of salaries and other related costs for personnel, consultant costs, legal fees, investor relations, professional fees and overhead costs. General and administrative expenses were $2.7 million and $2.9 million for the six months ended June 30, 2014 and 2013, respectively, a decrease of approximately $0.2 million, or 10%, from 2013. The decrease in general and administrative expenses was mainly due to lower third party licensing fees, investor relations and professional fees partially offset by increased third party royalty fees and patent amortization.

Other Income and expense Other income for the six months ended June 30, 2014 was $15,473 compared to $12,376 in the 2013 period. Other income in both periods consisted mostly of interest earned on our investments.

Provision for Income Taxes Our deferred tax liabilities, deferred tax assets and related valuation allowances are impacted by events and transactions arising in the ordinary course of business, research and development activities, vesting of nonqualified options, deferred revenues and other items. Deferred tax assets are affected by the valuation allowance which is dependent upon several factors, including estimates of the realization of deferred income tax assets, and the impact of estimated future taxable income. Significant judgment is required to determine the estimated amount of valuation allowance to record. Changes in the estimate of the valuation allowance could materially increase or decrease our provision for income taxes in future periods.

For the six month period ended June 30, 2014 our provision for income taxes was $0.7 million. The provision for income taxes for the six month period ended June 30, 2014 is based on an estimated effective tax rate derived from an estimate of consolidated earnings before taxes, adjusted for nondeductible expenses and other permanent differences for the fiscal year 2014. For the six month period ended June 30, 2014, the valuation allowance with respect to our net deferred tax assets remained unchanged. As of June 30, 2014, our remaining deferred tax assets were approximately $1.5 million. Our taxes payable as June 30, 2014 were reduced by $1.3 million due to the windfall associated with the disqualified sale of incentive stock options and the exercise of nonqualified options For the six month period ended June 30, 2013 our provision for income taxes was $1.3 million. The provision for income taxes for the six month period ended June 30, 2013 is based on an estimated effective tax rate derived from an estimate of consolidated earnings before taxes, adjusted for nondeductible expenses and other permanent differences for fiscal year 2013. For the six month period ended June 30, 2013, the valuation allowance with respect to our net deferred tax assets remained unchanged. As of June 30, 2013, our remaining deferred tax assets were approximately $1.5 million.

Net Income For the six months ended June 30, 2014 we recorded net income of $1.3 million, or $0.21 per basic common share and $0.19 per diluted common share, compared to net income of $2.4 million, or $0.37 per basic common share and $0.34 per diluted common share for the same period in 2013.

Liquidity and Capital Resources To date, we have financed our operations primarily through product sales, debt instruments, licensing revenues and royalties under agreements with third parties and sales of our common stock. At June 30, 2014 and December 31, 2013, we had cash and cash equivalents and investments in the aggregate of approximately $16.6 million and $12.6 million, respectively.

Net cash provided by operating activities for the six months ended June 30, 2014 was $3.4 and $3.9 million in the 2013 period. Cash provided by operations in the 2014 period resulted primarily from our operating income for the period, a payment of earn-out royalties due under the DFB Agreement on an annual basis and royalties and mark-up on cost goods sold revenues under the Auxilium Agreement.

Cash provided by operations in the 2013 period resulted primarily from our operating income for the period, a payment of earn-out royalties due under the DFB Agreement on an annual basis and licensing fees, milestones, royalties and mark-up on cost goods sold revenues under the Auxilium Agreement.

20 -------------------------------------------------------------------------------- Table of Contents Net cash used in investing activities for the six months ended June 30, 2014 was $0.8 million as compared to $2.8 million for the 2013 period. The net cash used in investing activities in the 2014 reflects the maturing of $4.8 million and reinvestment of $5.6 million in marketable securities. The net cash used in investing activities in the 2013 reflects the maturing of $4.4 million and reinvestment of $7.3 million in marketable securities..

Net cash provided by financing activities for the six months ended June 30, 2014 was $0.7 million as compared to net cash used in financing activities of $0.4 million in the compared period of 2013. In the 2014 period, net cash provided by financing activities was mainly due to excess tax benefits related to share-based payments of $1.3 million and proceeds received from stock option exercises of $0.2 million partially offset by the repurchase of our common stock under our stock repurchase program of $0.8 million. In the 2013 period, net cash used in financing activities was mainly due to the repurchase of our common stock under our stock repurchase program.

Off-Balance Sheet Arrangements We do not have any off-balance sheet arrangements as defined in Item 303(a)(4) of Regulation S-K.

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