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Human Genome Sciences 10-Q 2011
FORM 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For quarterly period ended June 30, 2011

Commission File Number 001-14169

 

 

HUMAN GENOME SCIENCES, INC.

(Exact name of registrant)

 

 

 

Delaware   22-3178468
(State of organization)  

(I.R.S. Employer

Identification Number)

14200 Shady Grove Road, Rockville, Maryland 20850-7464

(Address of principal executive offices and zip code)

(301) 309-8504

(Registrant’s telephone number)

 

 

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  x    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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    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.

 

Large accelerated filer   x    Accelerated filer   ¨
Non-accelerated filer   ¨    Smaller reporting company   ¨

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

The number of shares of the registrant’s common stock outstanding on June 30, 2011 was 190,669,002.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

         Page
Number
 
PART I.   FINANCIAL INFORMATION   
Item 1.   Financial Statements   
  Consolidated Statements of Operations for the three and six months ended June 30, 2011 and 2010      3   
  Consolidated Balance Sheets at June 30, 2011 and December 31, 2010      4   
  Consolidated Statements of Cash Flows for the six months ended June 30, 2011 and 2010      5   
  Notes to Consolidated Financial Statements      7   
Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations      24   
Item 3.   Quantitative and Qualitative Disclosures about Market Risk      36   
Item 4.   Controls and Procedures      37   
Item 5.   Other Information      37   
PART II.   OTHER INFORMATION   
Item 1A.   Risk Factors      38   
Item 6.   Exhibits      58   
  Signatures      59   
  Exhibit Index      Exhibit Volume   

 

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PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

HUMAN GENOME SCIENCES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

 

     Three months ended June 30,     Six months ended June 30,  
     2011     2010     2011     2010  
     (in thousands, except share and per share amounts)  

Revenue:

        

Product sales

   $ 20,644      $ 13,120      $ 34,754      $ 26,668   

Manufacturing and development services

     4,000        5,380        16,264        9,500   

Research and development collaborative agreements

     214        20,292        412        49,138   
                                

Total revenue

     24,858        38,792        51,430        85,306   
                                

Costs and expenses:

        

Cost of product sales

     11,609        7,527        21,608        15,095   

Cost of manufacturing and development services

     6,741        3,112        18,340        4,025   

Research and development expenses

     33,403        51,390        117,887        108,861   

Selling, general and administrative expenses

     39,436        23,755        74,557        42,092   

Commercial collaboration expenses

     2,163        —          5,248        —     

Facility-related exit credits

     —          —          (1,717     —     
                                

Total costs and expenses

     93,352        85,784        235,923        170,073   
                                

Income (loss) from operations

     (68,494     (46,992     (184,493     (84,767

Investment income

     2,922        5,087        6,174        9,703   

Interest expense

     (15,452     (14,794     (30,728     (29,460

Other income (expense)

     364        (164     (2,608     (217
                                

Income (loss) before taxes

     (80,660     (56,863     (211,655     (104,741

Provision for income taxes

     —          —          —          —     
                                

Net income (loss)

   $ (80,660   $ (56,863   $ (211,655   $ (104,741
                                

Basic and diluted net income (loss) per share

   $ (0.42   $ (0.30   $ (1.12   $ (0.56
                                

Weighted average shares outstanding, basic and diluted

     190,276,862        187,677,541        189,680,061        186,909,903   
                                

The accompanying Notes to Consolidated Financial Statements are an integral part hereof.

 

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HUMAN GENOME SCIENCES, INC.

CONSOLIDATED BALANCE SHEETS

 

     June 30,
2011
    December 31,
2010
 
     (in thousands)  

Assets

  

Current assets:

    

Cash and cash equivalents

   $ 53,693      $ 155,691   

Short-term investments

     139,876        282,016   

Accounts receivable

     38,344        25,958   

Collaboration receivables

     31,462        18,856   

Inventory

     38,846        43,091   

Prepaid expenses and other current assets

     5,579        5,569   
                

Total current assets

     307,800        531,181   

Marketable securities

     429,707        416,165   

Property, plant and equipment (net of accumulated depreciation)

     250,390        253,122   

Restricted investments

     80,044        79,510   

Collaboration receivables, non-current

     18,240        29,225   

Inventory, non-current

     60,008        —     

Other assets

     2,264        5,826   
                

TOTAL ASSETS

   $ 1,148,453      $ 1,315,029   
                

Liabilities and Stockholders’ Equity

    

Current liabilities:

    

Accounts payable and accrued expenses

   $ 37,595      $ 41,798   

Accrued payroll and related taxes

     26,514        30,157   

Convertible subordinated debt

     193,208        188,620   

Collaboration payable

     24,073        12,984   

Deferred revenues

     5,811        5,134   

Accrued exit expenses

     —          1,238   

Other current liabilities

     1,013        1,013   
                

Total current liabilities

     288,214        280,944   

Convertible subordinated debt, non-current

     190,967        184,231   

Lease financing

     251,392        250,516   

Other liabilities

     12,429        13,575   
                

Total liabilities

     743,002        729,266   
                

Stockholders’ equity:

    

Preferred stock

     —          —     

Common stock

     1,907        1,890   

Additional paid-in capital

     3,028,969        2,996,645   

Accumulated other comprehensive income

     6,127        7,125   

Accumulated deficit

     (2,631,552     (2,419,897
                

Total stockholders’ equity

     405,451        585,763   
                

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

   $ 1,148,453      $ 1,315,029   
                

The accompanying Notes to Consolidated Financial Statements are an integral part hereof.

 

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HUMAN GENOME SCIENCES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

     Six months ended June 30,  
     2011     2010  
     (in thousands)  

Cash flows from operating activities:

    

Net income (loss)

   $ (211,655   $ (104,741

Adjustments to reconcile net income (loss) to net cash used in operating activities:

    

Stock-based compensation expense

     15,050        10,819   

Depreciation and amortization

     10,754        10,631   

Amortization of debt discount

     12,323        11,267   

Charge for impaired investment

     2,909        —     

Facility-related exit credits

     (1,717     —     

Accrued interest on short-term investments, marketable securities and restricted investments

     124        2,394   

Non-cash expenses and other

     1,969        229   

Changes in operating assets and liabilities:

    

Accounts receivable

     (12,386     5,433   

Collaboration receivables

     (1,621     (19,850

Inventory

     (52,621     (3,100

Prepaid expenses and other assets

     (309     1,900   

Accounts payable and accrued expenses

     (5,373     (251

Accrued payroll and related taxes

     (3,643     (13,021

Collaboration payable

     11,089        —     

Deferred revenues

     677        (47,102

Accrued exit expenses

     4        (760

Other liabilites

     (708     843   
                

Net cash used in operating activities

     (235,134     (145,309
                

Cash flows from investing activities:

    

Purchase of short-term investments and marketable securities

     (155,764     (479,438

Proceeds from sale and maturities of short-term investments and marketable securities

     283,900        313,416   

Capital expenditures - property, plant, and equipment

     (7,485     (4,338

Release of restricted investments

     —          100   
                

Net cash provided by (used in) investing activities

     120,651        (170,260
                

Cash flows from financing activities:

    

Purchase of restricted investments

     (33,490     (15,279

Proceeds from sale and maturities of restricted investments

     32,907        13,770   

Proceeds from issuance of common stock

     14,109        31,349   

Purchase of treasury stock

     (1,041     (1,025
                

Net cash provided by financing activities

     12,485        28,815   
                

Net decrease in cash and cash equivalents

     (101,998     (286,754

Cash and cash equivalents - beginning of period

     155,691        567,667   
                

Cash and cash equivalents - end of period

   $ 53,693      $ 280,913   
                

The accompanying Notes to Consolidated Financial Statements are an integral part hereof.

 

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SUPPLEMENTAL SCHEDULE OF CASH FLOW INFORMATION, NON-CASH OPERATING, INVESTING AND FINANCING ACTIVITIES

 

     Six months ended June 30,  
     2011      2010  
     (in thousands)  

Cash paid (received) during the period for:

     

Interest

   $ 16,820       $ 16,492   

Income taxes

   $ —         $ (1,165

During the six months ended June 30, 2011 and 2010, lease financing increased with respect to the Company’s leases with BioMed Realty Trust, Inc. (“BioMed”) by $876 and $1,020, respectively, on a non-cash basis. Because the payments are less than the amount of the calculated interest expense for the first nine years of the leases, the lease financing balance will increase through 2015.

The accompanying Notes to Consolidated Financial Statements are an integral part hereof.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

Note 1. Summary of Significant Accounting Policies

Basis of presentation

The accompanying unaudited consolidated financial statements of Human Genome Sciences, Inc. (the “Company” or “HGS”) have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information. In the opinion of the Company’s management, the consolidated financial statements reflect all adjustments necessary to present fairly the results of operations for the three and six months ended June 30, 2011 and 2010, the Company’s financial position as of June 30, 2011, and the cash flows for the six months ended June 30, 2011 and 2010. These adjustments are of a normal recurring nature.

Certain notes and other information have been condensed or omitted from the interim consolidated financial statements presented in this Quarterly Report on Form 10-Q. Therefore, these financial statements should be read in conjunction with the Company’s 2010 Annual Report on Form 10-K.

The results of operations for the three and six months ended June 30, 2011 are not necessarily indicative of future financial results.

Accounts receivable. Trade accounts receivable are recorded net of allowances for prompt payment discounts and doubtful accounts.

Non-current inventory. Inventory that is not expected to be utilized until more than twelve months from the balance sheet date is classified as non-current. Estimating the level of inventory utilization for the upcoming twelve months requires management to exercise significant judgment. The Company maintains inventory levels in excess of twelve months to mitigate risks such as product shortage due to higher than anticipated product demand, long lead times for manufacturing finished goods, supply interruptions for raw materials and risks of production disruptions at its sole FDA-approved manufacturing site due to contamination, equipment failure or other facility-related issues. Carrying such levels of inventory impacts the Company’s liquidity and cash flows since the inventory will not be converted to cash for more than one year from the balance sheet date.

Inventory is evaluated for impairment by consideration of factors such as lower of cost or market, net realizable value, obsolescence or expiry. Inventories have carrying values that do not exceed cost nor do they exceed net realizable value. The Company believes BENLYSTA® has limited risk of obsolescence at this time based on market research, which is used to estimate future demand.

The Company evaluates expiry risk by evaluating current and future product demand relative to product shelf life. The Company builds demand forecasts by considering factors such as, but not limited to, overall market potential, market share, market acceptance and patient usage. Currently, the shelf life of raw materials and work in process is approximately one to five years and three years, respectively. The shelf life for finished goods is three years. The product shelf life resets as inventory moves through each stage of completion.

The Company does not expect changes to current demand estimates at this time that would result in any excess or obsolete inventory.

Deferred revenue. Deferred revenue consists primarily of amounts related to raxibacumab and certain BENLYSTA shipments. The Company recognizes raxibacumab revenue based on the average contracted price as shipments occur and records the difference between the invoiced price and the average contracted price in deferred revenue. Revenue relating to BENLYSTA shipments to specialty distributors is deferred and recognized as revenue once product has been sold-through to healthcare providers.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 1. Summary of Significant Accounting Policies (continued)

 

Product sales. Product sales consist of U.S. sales of BENLYSTA and raxibacumab. Revenue from product sales is recognized when persuasive evidence of an arrangement exists, delivery has occurred and title to product and associated risk of loss have passed to the customer, the price is fixed or determinable, collection from the customer is reasonably assured, all performance obligations have been met and returns can be reasonably estimated. Product sales are recorded net of accruals for estimated rebates, chargebacks, discounts and other deductions (collectively, “sales deductions”) and returns. Amounts accrued for sales deductions and returns are adjusted when trends, significant events, or actual results indicate that adjustment is appropriate. With the exception of allowances for prompt payment, allowances for sales deductions and returns are included in accounts payable and accrued expenses in the accompanying consolidated balance sheets.

The Company does not record sales deductions and returns for sales of raxibacumab due to the absence of discounts and rebates and no right of return under the contract with the United States Government (“USG”). Aside from product recall, once delivery has occurred, product may not be returned to the Company for any reason, including failure to obtain U.S. Food and Drug Administration (“FDA”) approval. Furthermore, the Company has no obligation to replace existing Strategic National Stockpile (“SNS”) doses if the formulation changes during the FDA approval process.

The Company estimates BENLYSTA sales deductions and returns utilizing actual sales data, contracts with distributors and wholesalers and third-party market research. Company estimates and assumptions are subject to inherent limitations and may need to be adjusted accordingly on a prospective basis. Specific considerations for BENLYSTA sold in the U.S. are as follows:

 

   

With respect to BENLYSTA, the Company has determined that it qualifies as the principal based on various elements of the Company’s agreement with GlaxoSmithKline (“GSK”), including responsibility for manufacturing product for sale in the U.S., inventory risk and primary responsibility for changes to the product, including product specifications. The Company has an agreement with GSK whereby GSK provides distribution services.

 

   

BENLYSTA is distributed in the United States using specialty distributors and wholesalers. Under this model, exclusive distributors purchase and take physical delivery of product, and then sell to physicians or their clinics. Because the Company just received FDA approval in the first quarter of 2011, the Company currently cannot make a reasonable estimate of future product returns when product is delivered to distributors. Therefore, the Company currently does not recognize revenue upon product shipment to specialty distributors, even though the distributor is invoiced upon product shipment. Instead, the Company recognizes revenue through the specialty distributor channel at the time of shipment to the physicians or their clinics. Wholesalers supply product to all other healthcare providers (e.g. hospitals, pharmacies), however they do not take physical delivery of product. All wholesaler orders are drop-shipped directly to the healthcare providers. For wholesaler purchases, the Company currently recognizes revenue upon shipment to the healthcare provider.

 

   

Product returns. BENLYSTA customers are not offered a general right of return. However, the Company will accept product that is damaged or defective when shipped directly from GSK or for expired product up to 12 months subsequent to its expiration date. Due to the price of BENLYSTA and limited contractual rights of return, healthcare providers generally only carry inventory quantities estimated to meet projected short-term demand. Once product has been delivered to healthcare providers, the risk of material returns is significantly mitigated, and the Company is able

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 1. Summary of Significant Accounting Policies (continued)

 

 

to make a reasonable estimate of future returns at that point. In developing estimates for sales returns, the Company considers shelf life of the product, expected demand based on market data and publicly available return rates used for other biologic drugs. In addition, the Company considers the price of the product, the nature of healthcare providers, the ability of healthcare providers to obtain product on a just-in-time basis, the predictability of patient infusion and dosing and the absence of financial incentives that would promote bulk or advance purchasing.

 

   

Rebates. Allowances for rebates include mandated discounts under the Medicaid Drug Rebate Program. Rebates are amounts owed after the final dispensing of the product to a benefit plan participant and are based upon contractual agreements or legal requirements with public sector (e.g. Medicaid) benefit providers. The allowance for rebates is based on statutory discount rates and expected utilization. The Company estimates for expected utilization of rebates are based in part on third party market research data. Rebates are generally invoiced and paid quarterly in arrears so that the accrual balance consists of an estimate of the amount expected to be incurred for the current quarter’s activity, plus an accrual balance for known prior quarters’ unpaid rebates. If actual future rebates vary from estimates, the Company may need to adjust prior period accruals, which would affect revenue in the period of adjustment.

 

   

Chargebacks. Chargebacks are discounts that occur when contracted customers purchase directly from an intermediary distributor or wholesaler. Contracted customers, which currently consist primarily of Public Health Service institutions and Federal government entities purchasing via the Federal Supply Schedule, generally purchase the product at a discounted price. The distributor or wholesaler, in turn, charges back the difference between the price initially paid by the distributor or wholesaler and the discounted price paid to the distributor or wholesaler by the customer. The allowance for distributor/wholesaler chargebacks is based on known sales to contracted customers.

 

   

Distributor / Wholesaler Deductions. U.S. specialty distributors and wholesalers are offered various forms of consideration including allowances, service fees and prompt payment discounts. Distributor allowances and service fees arise from contractual agreements with distributors and are generally a fixed rate per vial purchased. Wholesale customers are offered a prompt pay discount for payment within a specified period. Distributor allowances and service fees and wholesaler prompt payment discounts recorded in the Company’s 2011 statements of operations are based on actual product sales and are not estimates.

 

   

Co-pay assistance. Patients who have commercial insurance and meet certain eligibility requirements may receive co-pay assistance. The Company accrues a liability for co-pay assistance based on actual program participation and estimates of program redemption using data provided by third-party administrators.

The Company is not the principal with respect to BENLYSTA sold in the rest of world (“ROW”). Therefore, the Company will not record product sales with respect to this activity.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 1. Summary of Significant Accounting Policies (continued)

 

Cost of product sales. The Company capitalizes inventories produced in preparation for product launches when the related product candidates are considered likely to receive regulatory approval and it is probable that the related costs will be recoverable through the commercialization of the product. Prior to capitalization, the cost of manufacturing drug product is recognized as research and development expense in the period that the cost is incurred. Therefore, manufacturing costs incurred prior to capitalization are not included in cost of product sales when revenue is recognized from the sale of that drug product.

Prior to receiving a follow-on order for raxibacumab from the USG in July 2009, the Company did not capitalize inventory costs related to this product. Although authorization to ship to the SNS was received in January 2009, there continued to be uncertainty around future product orders. Beginning in July 2009, the cost of manufacturing raxibacumab is recognized as a cost of product sales (capitalized and then expensed when revenue is recognized), rather than research and development expenses in the period that the cost is incurred.

Prior to the BENLSYTA Advisory Committee meeting in November 2010, the Company did not capitalize inventory costs related to this product. Following the positive outcome of the Advisory Committee, the cost of manufacturing BENLYSTA is recognized as a cost of product sales (capitalized and then expensed as revenue is recognized), rather than research and development expenses in the period that the cost is incurred.

Cost of product sales also includes royalties paid or payable to third parties based on the sales levels of certain products and distribution services costs.

Commercial collaboration expenses. Commercial collaboration expenses include GSK’s share of the collaboration profit with respect to BENLYSTA in the United States. At this time, it also includes HGS’ share of the ROW collaboration expense incurred by GSK. In the period when ROW results become profitable, the Company will begin to reflect such results as commercial collaboration income. Commercial collaboration expenses/income does not include any research and development expenses shared with GSK.

Major customers and concentration of credit risk

The Company sells BENLYSTA to a limited number of specialty distributors and wholesalers and sells raxibacumab only to the USG. The Company periodically assesses the financial strength of its customers and establishes allowances for anticipated losses, if necessary. The following table includes those customers that represent more than 10% of total gross revenue for the six months ended June 30, 2011:

 

Customer A

     51.8

Customer B

     12.3

Customer C

     11.2

The three customers having a balance of more than 10% of the Accounts receivable balance on the consolidated balance sheet as of June 30, 2011 represent an aggregate of 96% of Accounts receivable.

Reclassifications

Within the December 31, 2010 consolidated balance sheet, long-term equity investments of $3,241 have been reclassified and are included in Other assets, and a lease termination liability that had been classified in Accrued exit expenses has been reclassified to Other current liabilities. Also within the December 31, 2010 consolidated balance sheet, deferred rent of $10,358, deferred revenue, non-current of $2,517 and accrued exit expenses, non-current of $700 have been reclassified and are included in Other liabilities. All of these reclassifications have been made to conform to current year presentation.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 1. Summary of Significant Accounting Policies (continued)

 

Recent accounting pronouncements

In October 2009, the Financial Accounting Standards Board (“FASB”) issued new revenue recognition standards for arrangements with multiple deliverables. The new standards require entities to use management’s best estimate of selling price to value individual deliverables when those deliverables do not have objective and reliable evidence of fair value. Additionally, these new standards modify the manner in which the transaction consideration is allocated across the separately identified deliverables. These new standards were effective for the Company as of January 1, 2011 and have been implemented on a prospective basis. The adoption of these standards did not have a material effect on the Company’s consolidated results of operations, financial position or liquidity.

In January 2010, the FASB issued Accounting Standards Update (“ASU”) 2010-06, Improving Disclosures about Fair Value Measurements (“ASU 2010-06”). ASU 2010-06 requires disclosing the amounts of significant transfers in and out of Levels 1 and 2 fair value measurements and to describe the reasons for the transfers. The disclosures were effective for the Company beginning January 1, 2010, and had no material impact on the Company’s financial statements. Additionally, disclosures of the gross purchases, sales, issuances and settlements activity in Level 3 fair value measurements were required beginning January 1, 2011. The additional provisions of ASU 2010-06 did not have any effect on the Company’s consolidated results of operations, financial position or liquidity.

In April 2010, the FASB issued ASU 2010-17, Milestone Method of Revenue Recognition (“ASU 2010-17”), which provides guidance on defining a milestone and determining when it may be appropriate to apply the milestone method of revenue recognition for research or development transactions. Research or development arrangements frequently include payment provisions whereby a portion or all of the consideration is contingent upon milestone events such as successful completion of phases in a study or achieving a specific result from the research or development efforts. The amendments in this ASU provide guidance on the criteria that should be met for determining whether the milestone method of revenue recognition is appropriate. ASU 2010-17 was effective for the Company on January 1, 2011. The adoption of ASU 2010-17 did not have a material effect on the Company’s consolidated results of operations, financial position or liquidity.

In December 2010, the FASB issued ASU 2010-27, Fees Paid to the Federal Government by Pharmaceutical Manufacturers (“ASU 2010-27”), which specifies that the liability for the new fee mandated by the Patient Protection and Affordable Care Act of 2010, as amended by the Health Care and Education Reconciliation Act, should be estimated and recorded in full upon the first qualifying sale with a corresponding deferred cost that is amortized to expense using a straight-line method of allocation unless another method better allocates the fee over the calendar year that it is payable. This ASU was effective for the Company beginning January 1, 2011. The adoption of ASU 2010-27 did not have a material effect on the Company’s consolidated results of operations, financial position or liquidity.

In June 2011, the FASB issued ASU 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income (“ASU 2011-05”). This guidance is intended to increase the prominence of other comprehensive income in financial statements by presenting it in either a single statement or two-statement approach. This ASU is effective for the Company beginning January 1, 2012. The adoption of ASU 2011-05 will not have a material effect on the Company’s consolidated results of operations, financial position or liquidity.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 2. Comprehensive Income (Loss)

The Company’s unrealized gains or losses on available-for-sale short-term investments, marketable securities and long-term equity investments and cumulative foreign currency translation adjustment activity are required to be included in other comprehensive income (loss).

During the three and six months ended June 30, 2011 and 2010, total comprehensive loss amounted to:

 

     Three months ended June 30,     Six months ended June 30,  
     2011     2010     2011     2010  

Net loss

   $ (80,660   $ (56,863   $ (211,655   $ (104,741
                                

Net unrealized gains (losses):

        

Short-term investments and marketable securities

     1,289        85        (188     1,291   

Restricted investments

     7        (265     (199     (276

Foreign currency translation

     (1,158     (29     (1,263     (58
                                

Subtotal

     138        (209     (1,650     957   

Reclassification adjustments for gains (losses) realized in net loss

     275        (713     652        (611
                                

Total comprehensive loss

   $ (80,247   $ (57,785   $ (212,653   $ (104,395
                                

During the three months ended March 31, 2011, the Company recorded an impairment charge of $2,909 relating to its investment in Aegera Therapeutics, Inc. (“Aegera”). This impairment charge is included in the net loss for the six months ended June 30, 2011 of $211,655. See Note 4, Collaborations and Other Agreements, for additional information.

The effect of income taxes on items in other comprehensive income is $0 for all periods presented.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 3. Investments

Available-for-sale investments, including accrued interest, as of June 30, 2011 and December 31, 2010 were as follows:

 

     June 30, 2011  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair
Value
 

Corporate debt securities

   $ 101,049       $ 1,670       $ (5   $ 102,714   

Residential mortgage-backed securities

     25,587         328         (18     25,897   

Government-sponsored enterprise securities

     10,003         2         —          10,005   

Asset-backed securities

     1,260         —           —          1,260   
                                  

Subtotal - Short-term investments

     137,899         2,000         (23     139,876   
                                  

Corporate debt securities

     252,694         3,911         (215     256,390   

Residential mortgage-backed securities

     78,605         1,005         (55     79,555   

Government-sponsored enterprise securities

     20,307         52         —          20,359   

Asset-backed securities

     73,307         97         (1     73,403   
                                  

Subtotal - Marketable securities

     424,913         5,065         (271     429,707   
                                  

Restricted cash and cash equivalents

     11,392         1         —          11,393   

U.S. Treasury and agencies

     1,303         7         —          1,310   

Corporate debt securities

     50,865         530         (11     51,384   

Residential mortgage-backed securities

     5,058         57         (3     5,112   

Government-sponsored enterprise securities

     7,517         26         —          7,543   

Asset-backed securities

     3,297         5         —          3,302   
                                  

Subtotal - Restricted investments

     79,432         626         (14     80,044   
                                  

Total

   $ 642,244       $ 7,691       $ (308   $ 649,627   
                                  

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 3. Investments (continued)

 

     December 31, 2010  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair
Value
 

Corporate debt securities

   $ 125,708       $ 1,655       $ (19   $ 127,344   

Residential mortgage-backed securities

     53,944         787         (13     54,718   

Government-sponsored enterprise securities

     86,905         61         —          86,966   

Asset-backed securities

     12,983         5         —          12,988   
                                  

Subtotal - Short-term investments

     279,540         2,508         (32     282,016   
                                  

Corporate debt securities

     248,500         3,611         (881     251,230   

Residential mortgage-backed securities

     79,605         1,161         (20     80,746   

Government-sponsored enterprise securities

     25,402         3         (120     25,285   

Asset-backed securities

     58,822         84         (2     58,904   
                                  

Subtotal - Marketable securities

     412,329         4,859         (1,023     416,165   
                                  

U.S. Treasury and agencies

     1,302         10         —          1,312   

Restricted cash and cash equivalents

     7,455         —           —          7,455   

Corporate debt securities

     45,931         620         (29     46,522   

Residential mortgage-backed securities

     6,368         128         —          6,496   

Government-sponsored enterprise securities

     13,237         72         (6     13,303   

Asset-backed securities

     4,412         10         —          4,422   
                                  

Subtotal - Restricted investments

     78,705         840         (35     79,510   
                                  

Total

   $ 770,574       $ 8,207       $ (1,090   $ 777,691   
                                  

See Note 9, Fair Value Measurements, for the fair value of the Company’s financial assets and liabilities.

The Company’s restricted investments with respect to its headquarters (“Traville”) lease serve as collateral for a letter of credit which serves as the security deposit for the duration of the lease, although the Company has the ability to reduce the restricted investments that are in the form of securities by substituting cash security deposits in the amount of $19,750 to be maintained with the landlord. Presently, to secure the security deposit letter of credit, the Company is required to maintain margin value of the collateral of at least $19,750.

The Company’s restricted investments with respect to its large-scale manufacturing facility (“LSM”) lease, as amended, will serve as collateral in favor of the landlord in lieu of providing the landlord with either a cash deposit or a standby letter of credit. Under the LSM lease, the Company is required to pledge to the landlord a minimum of $20,000 in marketable securities or provide the landlord with a $19,750 cash security deposit. As of June 30, 2011 and December 31, 2010, the Company has pledged marketable securities.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 3. Investments (continued)

 

In addition, the Company is also required to maintain $34,300 in restricted investments with respect to two leases with the Maryland Economic Development Corporation (“MEDCO”) for its small-scale manufacturing facility. The facility was financed primarily through a combination of bonds issued by MEDCO (“MEDCO Bonds”) and loans issued to MEDCO by certain State of Maryland agencies. The MEDCO Bonds are secured by letters of credit issued for the account of MEDCO which expire in December 2011. The Company is required to maintain restricted investments which serve as security for the MEDCO letters of credit reimbursement obligation.

The Company’s restricted investments were $80,044 and $79,510 as of June 30, 2011 and December 31, 2010, respectively.

Short-term investments, Marketable securities and Restricted investments – unrealized losses

The Company did not have any investments in a loss position for greater than twelve months as of June 30, 2011. The Company’s gross unrealized losses and fair value of investments with unrealized losses as of December 31, 2010 were as follows:

 

     December 31, 2010  
     Loss Position
for Less Than
Twelve Months
    Loss Position
for Greater Than
Twelve Months
    Total  
     Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
 

Corporate debt securities

   $ 35,432       $ (18   $ 1,536       $ (1   $ 36,968       $ (19

Residential mortgage-backed securities

     54,718         (13     —           —          54,718         (13

Asset-backed securities

     3,286         —          —           —          3,286         —     
                                                   

Subtotal - Short-term investments

     93,436         (31     1,536         (1     94,972         (32
                                                   

Corporate debt securities

     56,992         (881     —           —          56,992         (881

Residential mortgage-backed securities

     80,746         (20     —           —          80,746         (20

Government-sponsored enterprise securities

     20,237         (120     —           —          20,237         (120

Asset-backed securities

     8,400         (2     —           —          8,400         (2
                                                   

Subtotal - Marketable securities

     166,375         (1,023     —           —          166,375         (1,023
                                                   

Corporate debt securities

     7,110         (29     —           —          7,110         (29

Government-sponsored enterprise securities

     1,502         (6     —           —          1,502         (6
                                                   

Subtotal - Restricted investments

     8,612         (35     —           —          8,612         (35
                                                   

Total

   $ 268,423       $ (1,089   $ 1,536       $ (1   $ 269,959       $ (1,090
                                                   

The Company has evaluated its short-term investments, marketable securities and restricted investments and has determined that none of these investments has an other-than-temporary impairment, as it has no intent to sell securities with unrealized losses and it is not more likely than not that the Company will be required to sell any securities with unrealized losses, given the Company’s current and anticipated financial position.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 3. Investments (continued)

 

The Company owned 337 available-for-sale securities as of June 30, 2011. Of these 337 securities, 51 had unrealized losses as of June 30, 2011.

The Company’s equity investments of less than 20% in privately-held companies are carried at cost and are included in Other assets on the consolidated balance sheet as of December 31, 2010. As of June 30, 2011, the Company no longer owns any such investments (see Note 4, Collaborations and Other Agreements – Aegera Agreement, for additional information). Long-term equity investments in publicly-traded companies are carried at market value based on quoted market prices and unrealized gains and losses for these investments are reported as a separate component of stockholders’ equity until realized.

Other Information

The following table summarizes maturities of the Company’s short-term investments, marketable securities and restricted investments as of June 30, 2011:

 

     Short-term
Investments
     Marketable
Securities
     Restricted
Investments
 
     Amortized
Cost
     Fair
Value
     Amortized
Cost
     Fair
Value
     Amortized
Cost
     Fair
Value
 

Less than one year

   $ 137,899       $ 139,876       $ —         $ —         $ 36,063       $ 36,252   

Due in year two through year three

     —           —           369,392         373,653         40,194         40,583   

Due in year four through year five

     —           —           42,538         43,087         3,001         3,033   

Due after five years

     —           —           12,983         12,967         174         176   
                                                     

Total

   $ 137,899       $ 139,876       $ 424,913       $ 429,707       $ 79,432       $ 80,044   
                                                     

The Company’s investments in mortgage-backed securities have no single maturity date and, accordingly, have been allocated on a pro rata basis to each maturity range based on each maturity range’s percentage to the total value.

Realized gains and losses on securities sold before maturity, which are included in the Company’s investment income for the three and six months ended June 30, 2011 and 2010, and their respective net proceeds were as follows:

 

     Three months ended June 30,     Six months ended June 30,  
     2011     2010     2011     2010  

Proceeds on sale of investments prior to maturity

   $ 130,057      $ 240,826      $ 306,908      $ 418,251   

Realized gains

     61        1,153        180        1,478   

Realized losses

     (336     (439     (832     (867

The cost of the securities sold is based on the specific identification method.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 4. Collaborations and Other Agreements

Collaboration Agreement with GlaxoSmithKline

During 2006, the Company entered into a license agreement with GSK for the co-development and commercialization of BENLYSTA arising from an option GSK exercised in 2005, relating to an earlier collaboration agreement. The agreement grants GSK a co-development and co-commercialization license, under which both companies are jointly conducting activities related to the development and sale of products in the United States and abroad. The Company and GSK share Phase 3 and 4 development costs, and share sales and marketing expenses and profits of any product commercialized under the agreement. The Company has primary responsibility for bulk manufacturing and for commercial manufacturing of the finished drug product. In partial consideration of the rights granted to GSK in this agreement, the Company received a non-refundable payment of $24,000 during 2006 and recognized this payment as revenue over the remaining clinical development period, which ended in 2010. In March 2011, the FDA approved BENLYSTA and in July 2011 the European Commission granted marketing authorization for BENLYSTA.

GSK’s share of the collaboration profit with respect to BENLYSTA in the U.S. and HGS’ share of the ROW collaboration expense incurred by GSK are included in the Commercial collaboration expenses line in the consolidated statements of operations for the three and six months ended June 30, 2011.

Research and development expenses for the three months ended June 30, 2011 and 2010 are net of $6,673 and $15,321, respectively, of costs reimbursed by GSK. Research and development expenses for the six months ended June 30, 2011 and 2010 are net of $11,850 and $31,037 of costs reimbursed by GSK. The Company shares certain research and development costs including personnel costs, outside services, clinical manufacturing and overhead with GSK under cost sharing provisions in the GSK collaboration agreement.

U.S. Government Agreement

In July 2009, the USG agreed to purchase 45,000 additional doses of raxibacumab for the SNS, to be delivered over a three-year period beginning in 2009. The Company expects to receive a total of approximately $142,000 from this order as deliveries are completed. The Company recognized $12,864 and $13,120 in product revenue related to raxibacumab during the three months ended June 30, 2011 and 2010, respectively. The Company recognized $26,895 and $26,668 in product revenue related to raxibacumab during the six months ended June 30, 2011 and 2010, respectively. The Company recognized $450 and $624 in manufacturing and development services revenue related to the work to conduct animal and human studies and other raxibacumab activities during the three months ended June 30, 2011 and 2010, respectively. The Company recognized $1,370 and $838 in manufacturing and development services revenue related to the work to conduct animal and human studies and other raxibacumab activities during the six months ended June 30, 2011 and 2010, respectively. The Company is entitled to receive approximately $20,000 under the contract with the USG upon FDA licensure of raxibacumab.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 4. Collaborations and Other Agreements (continued)

 

Aegera Agreement

During 2007, the Company entered into a collaboration and license agreement with Aegera under which the Company acquired exclusive worldwide rights (excluding Japan) to develop and commercialize certain oncology molecules and related backup compounds to be chosen during a research period extended through 2011. Under the agreement, the Company paid Aegera an aggregate of $20,000 for the license and for an equity investment in Aegera. The Company incurred and expensed research costs of $598 and $579 related to the Aegera agreement during the three months ended June 30, 2011 and 2010, respectively, and $1,223 and $1,169 during the six months ended June 30, 2011 and 2010, respectively.

During March 2011, the Company determined that its investment in Aegera had incurred an other-than-temporary impairment based on changes in Aegera’s business activities and wrote down its investment of approximately $3,150 to approximately $240. The impairment loss is included in Other income (expense) on the consolidated statement of operations for the six months ended June 30, 2011. In May 2011, Aegera was acquired by Pharmascience and the Company received proceeds of approximately $320 and recognized a gain on the sale of the investment of approximately $80, which is included in Other income (expense) on the consolidated statements of operations for the three and six months ended June 30, 2011.

Morphotek Agreement

During 2009, the Company entered into an agreement with Morphotek, Inc. to discover, develop and commercialize therapeutic monoclonal antibodies in the fields of oncology and immunology that specifically target antigens discovered by the Company. With respect to each antibody candidate, the Company and Morphotek have the right to opt in to participate in development and commercialization. The Company and Morphotek currently share research and development costs with respect to one collaboration product and the Company has primary responsibility for manufacturing clinical supplies of that product. Research and development expenses for the three and six months ended June 30, 2011 are net of $1,931 and $2,387, respectively, of costs reimbursed by Morphotek. No research and development expenses were shared during the six months ended June 30, 2010.

FivePrime Therapeutics Agreement

In March 2011, the Company entered into an agreement with FivePrime Therapeutics, Inc. (“FivePrime”) to develop and commercialize FivePrime’s FP-1039 product candidate for multiple cancers. The Company paid FivePrime an upfront license fee of $50,000, which is reflected in research and development expenses in the consolidated statement of operations for the six months ended June 30, 2011. The Company’s policy is that upfront and milestone payments made to third parties for in-licensed products that have not yet received marketing approval and for which no alternative future use has been identified are expensed as incurred. The Company may be required to pay up to $445,000 in future development, regulatory and commercial milestone payments, as well as royalty payments on net sales if the product is commercialized. HGS has exclusive rights to develop and commercialize FP-1039, now known as HGS1036, for all indications in the United States, Canada and the European Union (“EU”). FivePrime has an option to co-promote HGS1036 and any next-generation products in the United States, and retains full development and commercialization rights in all other regions of the world outside the U.S., Canada and the EU. The Company incurred research and development expense of $779 related to the FivePrime agreement during the three and six months ended June 30, 2011.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 4. Collaborations and Other Agreements (continued)

 

Collaboration Agreement with Novartis

During 2006, the Company entered into an agreement with Novartis International Pharmaceutical Ltd. (“Novartis”) for the co-development and commercialization of ZALBINTM. Based on regulatory feedback received in the third quarter of 2010, the Company and Novartis decided to end development of ZALBIN.

Under the agreement, Novartis had paid the Company $207,500. The Company was recognizing these payments as revenue ratably over the estimated remaining development period. The Company recognized revenue of $19,070 and $46,672 during the three and six months ended June 30, 2010, respectively, under this agreement. The Company incurred research and development expense of $125 during the three months ended June 30, 2011. Research and development expenses for the six months ended June 30, 2011 are net of $801 of costs reimbursed by Novartis. For the three and six months ended June 30, 2010, research and development expense are net of $3,631 and $3,668, respectively, of costs reimbursed by Novartis.

Note 5. Other Financial Information

Collaboration Receivables

Collaboration receivables of $31,462 as of June 30, 2011 includes $21,135 due to the Company from GSK for manufacturing costs incurred to produce commercial product which is expected to be sold within the next year. Collaboration receivables also include $8,078 in unbilled receivables from GSK in connection with the Company’s cost-sharing agreements and other unbilled receivables. Collaboration receivables of $18,856 as of December 31, 2010 includes $13,165 due to the Company from GSK for manufacturing costs incurred to produce pre-launch commercial product which is expected to be sold within the next year, $5,166 in unbilled receivables from GSK in connection with the Company’s cost sharing agreements, and other unbilled receivables.

Collaboration receivables, non-current of $18,240 and $29,225 as of June 30, 2011 and December 31, 2010, respectively, relate to the amount due to the Company from GSK for manufacturing costs incurred to produce pre-launch commercial product which is not expected to be sold within the next year.

Inventory

Inventories consist of the following:

 

     June 30, 2011      December 31, 2010  
     Current      Non-current      Current      Non-current  

Raw materials

   $ 17,594       $ 11,154       $ 12,641       $ —     

Work-in-process

     12,378         48,854         23,426         —     

Finished goods

     8,874         —           7,024         —     
                                   

Total

   $ 38,846       $ 60,008       $ 43,091       $ —     
                                   

Inventory that is not expected to be sold until more than twelve months from the balance sheet date is classified as non-current.

 

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Table of Contents

HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 5. Other Financial Information (continued)

 

BENLYSTA-related inventories that were either purchased or manufactured prior to the date the Company began capitalizing BENLYSTA inventory (November 2010) were $104,564 and $112,822 as of June 30, 2011 and December 31, 2010, respectively. These inventories have a carrying value of zero, as the costs to purchase or produce this inventory were expensed as research and development expense in the period manufactured, and accordingly are not reflected in the inventory balances shown above. These inventories could be used in clinical trials, sold in the U.S. as commercial product or sold to GSK at cost for the ROW sale of BENLYSTA.

Collaboration Payable

Collaboration payable of $24,073 and $12,984 as of June 30, 2011 and December 31, 2010, respectively, represents cost reimbursements due to GSK and Novartis in connection with the Company’s cost sharing agreements.

Note 6. Commitments and Contingencies

In the ordinary course of business, the Company is involved in various legal proceedings, including, among others, patent oppositions, patent infringement litigation and other matters incidental to its business. While it is not possible to accurately predict or determine the eventual outcome of these matters or estimate a range of loss, one or more of these matters currently pending could have a material adverse effect on the Company’s financial condition, results of operations or cash flows.

Note 7. Facility-Related Exit Credits

During the three months ended March 31, 2011, the Company decided to utilize certain space which it had previously not used and was not expecting to use. In conjunction with this decision, the Company reversed the remaining reserve related to this space, recording a facility-related exit credit of $1,717 in the consolidated statement of operations during the six months ended June 30, 2011.

The following table summarizes the activity related to the liability for exit charges for the six months ended June 30, 2011, all of which is facilities-related:

 

Balance as of January 1, 2011

   $ 1,938   

Accretion recorded

     37   

Cash items

     (258

Reserve adjustment

     (1,717
        

Balance as of June 30, 2011

   $ —     
        

 

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Table of Contents

HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 8. Stock-Based Compensation

The Company has a stock incentive plan (the “Incentive Plan”) under which options to purchase new shares of the Company’s common stock may be granted to employees, consultants and directors at an exercise price no less than the quoted market value on the date of grant. The Incentive Plan also provides for awards in the form of stock appreciation rights, restricted (nonvested) or unrestricted stock awards, stock-equivalent units or performance-based stock awards. The Company issues both qualified and non-qualified options under the Incentive Plan. The Company also has an Employee Stock Purchase Plan.

Stock-based compensation expense for the three and six months ended June 30, 2011 is not necessarily representative of the level of stock-based compensation expense in future periods due to, among other things, the fair value of additional stock option grants and other awards in future years and the vesting period of the stock options and other awards.

The Company recorded stock-based compensation expense pursuant to these plans of $8,437 (net of $2,108 capitalized as part of inventory production) and $6,975 during the three months ended June 30, 2011 and 2010, respectively. The Company recorded stock-based compensation expense pursuant to these plans of $15,050 (net of $3,142 capitalized as part of inventory production) and $10,819 during the six months ended June 30, 2011 and 2010, respectively. Stock-based compensation expense relates to stock options, restricted stock units and restricted stock awards granted under the Incentive Plan.

Under the Incentive Plan, the Company issued 969,771 and 1,548,799 shares of common stock in conjunction with stock option exercises during the three and six months ended June 30, 2011, respectively. The Company granted 752,950 stock options with a weighted-average grant date fair value of $15.00 per share under the Incentive Plan during the three months ended June 30, 2011. The Company granted 3,897,965 stock options with a weighted-average grant date fair value of $15.09 per share under the Incentive Plan during the six months ended June 30, 2011.

During the three months ended June 30, 2011, the Company awarded 29,000 restricted stock units (“RSUs”) with a weighted-average grant date fair value of $27.59 per share. During the six months ended June 30, 2011, the Company awarded 270,906 RSUs with a weighted-average grant date fair value of $27.08 per share. During the six months ended June 30, 2011, 94,021 RSUs vested and the Company issued 58,155 shares of common stock to employees, net of 35,866 shares purchased to satisfy the awardees’ tax liability related to the RSUs vesting. The treasury stock was retired prior to June 30, 2011. During the six months ended June 30, 2011, 3,400 restricted stock awards vested.

As of June 30, 2011, the total authorized number of shares under the Incentive Plan, including prior plans, was 59,845,420. Options available for future grant were 5,916,349 as of June 30, 2011.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 9. Fair Value Measurements

The Company’s assets and liabilities subject to fair value measurements on a recurring basis and the related fair value hierarchy are as follows:

 

     Fair Value as of June 30, 2011  
     Level 1      Level 2      Level 3      Total  

Cash and cash equivalents

   $ 53,693       $ —         $ —         $ 53,693   
  

 

 

    

 

 

    

 

 

    

 

 

 

Corporate debt securities

   $ —         $ 102,714       $ —         $ 102,714   

Residential mortgage-backed securities

     —           25,897         —           25,897   

Government-sponsored enterprise securities

     —           10,005         —           10,005   

Asset-backed securities

     —           1,260         —           1,260   
  

 

 

    

 

 

    

 

 

    

 

 

 

Short-term investments

   $ —         $ 139,876       $ —         $ 139,876   
  

 

 

    

 

 

    

 

 

    

 

 

 

Corporate debt securities

   $ —         $ 256,390       $ —         $ 256,390   

Residential mortgage-backed securities

     —           79,555         —           79,555   

Government-sponsored enterprise securities

     —           20,359         —           20,359   

Asset-backed securities

     —           73,403         —           73,403   
  

 

 

    

 

 

    

 

 

    

 

 

 

Marketable securities

   $ —         $ 429,707       $ —         $ 429,707   
  

 

 

    

 

 

    

 

 

    

 

 

 

Money market funds

   $ 11,393       $ —         $ —         $ 11,393   

U.S. Treasury securities

     1,310         —           —           1,310   

Corporate debt securities

     —           51,384         —           51,384   

Residential mortgage-backed securities

     —           5,112         —           5,112   

Government-sponsored enterprise securities

     —           7,543         —           7,543   

Asset-backed securities

     —           3,302         —           3,302   
  

 

 

    

 

 

    

 

 

    

 

 

 

Restricted investments

   $ 12,703       $ 67,341       $ —         $ 80,044   
  

 

 

    

 

 

    

 

 

    

 

 

 

The Company evaluates the types of securities in its investment portfolios to determine the proper classification in the fair value hierarchy based on trading activity and the observability of market inputs.

The Company generally obtains a single quote or price per instrument from independent third parties to help it determine the fair value of securities in Level 1 and Level 2 of the fair value hierarchy. The Company’s Level 1 cash and money market instruments are valued based on quoted prices from third parties, and the Company’s Level 1 U.S. Treasury securities are valued based on broker quotes. The Company’s Level 2 assets are valued using a multi-dimensional pricing model that includes a variety of inputs including actual trade data, benchmark yield data, non-binding broker/dealer quotes, issuer spread data, monthly payment information, collateral performance and other reference information. These are all observable inputs. The Company reviews the values generated by the multi-dimensional pricing model for reasonableness, which could include reviewing other publicly available information.

 

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HUMAN GENOME SCIENCES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Quarter Ended June 30, 2011

(dollars in thousands, except per share data)

 

Note 9. Fair Value Measurements (continued)

 

The Company does not hold auction rate securities, loans held for sale, mortgage-backed securities backed by sub-prime or Alt-A collateral or any other investments which require the Company to determine fair value using a discounted cash flow approach. Therefore, the Company does not need to adjust its analysis or change its assumptions specifically to factor illiquidity in the markets into its fair values.

The fair value of the Company’s receivables, other assets, accounts payable, accrued expenses and other payables approximate their carrying amount due to the relatively short maturity of these items. The fair value of the Company’s convertible subordinated debt is based on quoted market prices. The quoted market price of the Company’s convertible subordinated debt was approximately $616,000 (book value of $384,175) as of June 30, 2011. With respect to its lease financing, the Company evaluated its incremental borrowing rate as of June 30, 2011, based on the current interest rate environment and the Company’s credit risk. The fair value of the BioMed lease financing was approximately $256,000 (book value of $251,392) as of June 30, 2011 based on a discounted cash flow analysis, and current rates for corporate debt having similar characteristics and companies with similar creditworthiness.

Note 10. Net Loss Per Share

The following table sets forth the computation of basic and diluted net loss per share:

 

     Six months ended June 30,  
     2011     2010  

Numerator:

    

Net loss

   $ (211,655   $ (104,741
                

Denominator:

    

Denominator for basic and diluted earnings per share - weighted-average shares

     189,680,061        186,909,903   
                

Net loss per share, basic and diluted:

    

Net loss per share

   $ (1.12   $ (0.56
                

Common stock issued in connection with the Company’s Employee Stock Purchase Plan and through exercised options granted pursuant to the Incentive Plan are included in the Company’s weighted average share balance based upon the issuance date of the related shares. As of June 30, 2011 and 2010, the Company had 26,040,429 and 24,359,478, respectively, stock options outstanding. As of June 30, 2011 and 2010, the Company had 24,238,308 and 24,302,742, respectively, of shares issuable upon the conversion of the Company’s convertible subordinated debt. The stock options outstanding and shares issuable upon conversion of the Company’s convertible subordinated debt as of June 30, 2011 and 2010 are excluded from the weighted average shares as they are anti-dilutive.

 

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Three and six months ended June 30, 2011 and 2010

Overview

Human Genome Sciences, Inc. (“HGS”) is a biopharmaceutical company that exists to place new therapies into the hands of those battling serious disease. Our lead products are BENLYSTA® (belimumab) for systemic lupus erythematosus (“SLE”) and raxibacumab for inhalation anthrax.

BENLYSTA was approved on March 9, 2011 by the U.S. Food and Drug Administration (“FDA”) for the treatment of adult patients with active, autoantibody-positive SLE who are receiving standard therapy. We launched BENLYSTA shortly thereafter and recognized revenue from our first BENLYSTA sales in March 2011. In June 2010, GlaxoSmithKline (“GSK”), our partner in the co-development and commercialization of BENLYSTA, submitted a Marketing Authorization Application (“MAA”) to the European Medicines Agency (“EMA”) for approval to market BENLYSTA in Europe. On July 13, 2011, the European Commission granted marketing authorization for BENLYSTA as an add-on therapy in adult patients with active autoantibody-positive SLE, with a high degree of disease activity despite standard therapy.

We continue to deliver raxibacumab to the U.S. Strategic National Stockpile (“SNS”) for emergency use in treating inhalation anthrax. In July 2009, the U.S. Government (“USG”) exercised its option under our contract to purchase 45,000 additional doses of raxibacumab, with delivery to be completed over a three-year period. HGS expects to receive approximately $142.0 million from this second order as deliveries are completed, $91.8 million of which has been recognized as revenue through June 30, 2011. In May 2009, we submitted a Biologics License Application (“BLA”) to the FDA for raxibacumab for the treatment of inhalation anthrax. We received a Complete Response Letter in November 2009, and we will continue to work closely with the FDA to obtain approval. HGS will receive approximately $20.0 million from the USG upon FDA licensure of raxibacumab.

In addition to our internal pipeline, we have substantial financial rights to two novel drugs that GSK has advanced to late-stage development. The first of these is darapladib, which was discovered by GSK using HGS technology. In two pivotal Phase 3 trials, GSK is currently evaluating whether darapladib can reduce the risk of adverse cardiovascular events such as heart attack or stroke in patients with chronic coronary heart disease and acute coronary syndrome, respectively. With a planned enrollment of more than 27,000 patients in the two trials, the Phase 3 clinical program for darapladib is among the largest ever conducted to evaluate the safety and efficacy of any cardiovascular medication. The second is albiglutide, for which GSK currently has multiple Phase 3 trials in progress to evaluate the long-term efficacy, safety and tolerability of albiglutide as monotherapy and add-on therapy for patients with type 2 diabetes mellitus. Albiglutide was created by HGS using its proprietary albumin-fusion technology, and the product was licensed to GSK in 2004.

We are also working to expand and advance our mid- and early-stage pipeline beyond potential additional indications for BENLYSTA, with a primary focus on immunology and oncology. In March 2011, we entered into an agreement with FivePrime Therapeutics, Inc. (“FivePrime”) to develop and commercialize FivePrime’s FP-1039 product candidate for multiple cancers. We continue to develop our oncology portfolio around our expertise in the apoptosis, or programmed cell death, pathway. In addition, we plan to initiate Phase 1b development of our human monoclonal antibody to the CCR5 receptor for the treatment of ulcerative colitis.

 

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Critical Accounting Policies and the Use of Estimates

A “critical accounting policy” is one that is both important to the portrayal of our financial condition and results of operations and that requires management’s most difficult, subjective or complex judgments. Such judgments are often the result of a need to make estimates about the effect of matters that are inherently uncertain. The preparation of our financial statements in conformity with accounting principles generally accepted in the United States 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 financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates. There were no significant changes in critical accounting policies from those at December 31, 2010, however the following information is in addition to, and should be read in conjunction with, the accounting policies included in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2010.

Accounts receivable. Trade accounts receivable are recorded net of allowances for prompt payment discounts and doubtful accounts.

Non-current inventory. Inventory that is not expected to be utilized until more than twelve months from the balance sheet date is classified as non-current. Estimating the level of inventory utilization for the upcoming twelve months requires management to exercise significant judgment. We maintain inventory levels in excess of twelve months to mitigate risks such as product shortage due to higher than anticipated product demand, long lead times for manufacturing finished goods, supply interruptions for raw materials and risks of production disruptions at our sole manufacturing site due to contamination, equipment failure or other facility-related issues. Carrying such levels of inventory impacts our liquidity and cash flows since the inventory will not be converted to cash for more than one year from the balance sheet date.

Inventory is evaluated for impairment by consideration of factors such as lower of cost or market, net realizable value, obsolescence or expiry. Our inventories have carrying values that do not exceed cost nor do they exceed net realizable value. We believe BENLYSTA has limited risk of obsolescence at this time based on our market research, which is used to estimate future demand.

We evaluate our expiry risk by evaluating current and future product demand relative to product shelf life. We build demand forecasts by considering factors such as, but not limited to, overall market potential, market share, market acceptance and patient usage. Currently, the shelf life of our raw materials and work in process is approximately one to five years and three years, respectively. The shelf life for finished goods is three years. The product shelf life resets as inventory moves through each stage of completion.

We do not expect changes to current demand estimates at this time that would result in any excess or obsolete inventory.

Product sales. Product sales consist of U.S. sales of BENLYSTA and raxibacumab. Revenue from product sales is recognized when persuasive evidence of an arrangement exists, delivery has occurred and title to product and associated risk of loss have passed to the customer, the price is fixed or determinable, collection from the customer is reasonably assured, all performance obligations have been met and returns can be reasonably estimated. Product sales are recorded net of accruals for estimated rebates, chargebacks, discounts and other deductions (collectively, “sales deductions”) and returns. Amounts accrued for sales deductions and returns are adjusted when trends, significant events, or actual results indicate that adjustment is appropriate. With the exception of allowances for prompt payment, allowances for sales deductions and returns are included in accounts payable and accrued expenses in the accompanying consolidated balance sheets.

 

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Critical Accounting Policies and the Use of Estimates (continued)

 

We do not record sales deductions and returns for sales of raxibacumab due to the absence of discounts and rebates and no right of return under our contract with the USG. Aside from product recall, once delivery has occurred, product may not be returned for any reason, including failure to obtain FDA approval. Furthermore, we have no obligation to replace existing SNS doses if the formulation changes during the FDA approval process.

We estimate BENLYSTA sales deductions and returns utilizing actual sales data, contracts with distributors and wholesalers and third-party market research. Our estimates and assumptions are subject to inherent limitations and may need to be adjusted accordingly on a prospective basis. Specific considerations for BENLYSTA sold in the U.S. are as follows:

 

   

With respect to BENLYSTA, we have determined that we qualify as the principal based on various elements of our agreement with GSK, including responsibility for manufacturing product for sale in the U.S., inventory risk and primary responsibility for changes to the product, including product specifications. We have an agreement with GSK whereby GSK provides distribution services.

 

   

BENLYSTA is distributed in the United States using specialty distributors and wholesalers. Under this model, exclusive distributors purchase and take physical delivery of product, and then sell to physicians or their clinics. Because we just received FDA approval in the first quarter of 2011, we currently cannot yet make a reasonable estimate of future product returns when product is delivered to distributors. Therefore, we currently do not recognize revenue upon product shipment to specialty distributors, even though the distributor is invoiced upon product shipment. Instead, we recognize revenue through the specialty distributor channel at the time of shipment to the physicians or their clinics. As of June 30, 2011, we have deferred revenue of approximately $1.2 million with respect to BENLYSTA, which represents product shipped to specialty distributors but not yet sold through to physicians or clinics. The product at the specialty distributors is subject to return under the conditions described below. As of June 30, 2011, the manufacturing cost of product at the specialty distributors is zero, as it was manufactured prior to our capitalization date in 2010. Royalties or other cost of sales will be recorded upon revenue recognition. Wholesalers supply product to all other healthcare providers (e.g. hospitals, pharmacies), however they do not take physical delivery of product. All wholesaler orders are drop-shipped directly to the healthcare providers. For wholesaler purchases, we currently recognize revenue upon shipment to the healthcare provider.

 

   

Product returns. BENLYSTA customers are not offered a general right of return. However, we will accept product that is damaged or defective when shipped directly from GSK or for expired product up to 12 months subsequent to its expiration date. Due to the price of BENLYSTA and limited contractual rights of return, healthcare providers generally only carry inventory quantities estimated to meet projected short-term demand. Once product has been delivered to healthcare providers, the risk of material returns is significantly mitigated, and we are able to make a reasonable estimate of future returns at that point. In developing estimates for sales returns, we consider shelf life of the product, expected demand based on market data and publicly available return rates used for other biologic drugs. In addition, we consider the price of the product, the nature of healthcare providers, the ability of healthcare providers to obtain product on a just-in-time basis, the predictability of patient infusion and dosing and the absence of financial incentives that would promote bulk or advance purchasing. For reference, a 10% change to the return allowance percentage as of June 30, 2011 would result in a negligible impact to net product sales for the three and six months ended June 30, 2011.

 

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Critical Accounting Policies and the Use of Estimates (continued)

 

   

Rebates. Allowances for rebates include mandated discounts under the Medicaid Drug Rebate Program. Rebates are amounts owed after the final dispensing of the product to a benefit plan participant and are based upon contractual agreements or legal requirements with public sector (e.g. Medicaid) benefit providers. The allowance for rebates is based on statutory discount rates and expected utilization. Our estimates for expected utilization of rebates are based in part on third party market research data. Rebates are generally invoiced and paid quarterly in arrears so that the accrual balance consists of an estimate of the amount expected to be incurred for the current quarter’s activity, plus an accrual balance for known prior quarters’ unpaid rebates. If actual future rebates vary from estimates, we may need to adjust prior period accruals, which would affect revenue in the period of adjustment. For reference, a 10% change to the rebate allowance percentage as of June 30, 2011 would result in a negligible impact to net product sales for the three and six months ended June 30, 2011.

 

   

Chargebacks. Chargebacks are discounts that occur when contracted customers purchase directly from an intermediary distributor or wholesaler. Contracted customers, which currently consist primarily of Public Health Service institutions and Federal government entities purchasing via the Federal Supply Schedule, generally purchase the product at a discounted price. The distributor or wholesaler, in turn, charges back the difference between the price initially paid by the distributor or wholesaler and the discounted price paid to the distributor or wholesaler by the customer. The allowance for distributor/wholesaler chargebacks is based on known sales to contracted customers.

 

   

Distributor / Wholesaler Deductions. U.S. specialty distributors and wholesalers are offered various forms of consideration including allowances, service fees and prompt payment discounts. Distributor allowances and service fees arise from contractual agreements with distributors and are generally a fixed rate per vial purchased. Wholesale customers are offered a prompt pay discount for payment within a specified period. Distributor allowances and service fees and wholesaler prompt payment discounts recorded in our 2011 statements of operations are based on actual product sales and are not estimates.

 

   

Co-pay assistance. Patients who have commercial insurance and meet certain eligibility requirements may receive co-pay assistance. We accrue a liability for co-pay assistance based on actual program participation and estimates of program redemption using data provided by third-party administrators. For reference, a 10% change to the co-pay allowance percentage as of June 30, 2011 would result in a negligible impact to net product sales for the three and six months ended June 30, 2011.

The following table summarizes BENLYSTA sales deductions and return amounts recorded in Accrued expenses in our consolidated balance sheet for the six-months ended June 30, 2011 (in millions):

 

     Rebates &
Chargebacks
    Wholesale/Distributor
Deductions & Co-pay
Assistance
    Returns     Total  

Balance as of April 1, 2011

   $ —        $ —        $ —        $ —     

Reserve for current period sales

     (0.5     (0.2     (0.1     (0.8

Adjustment for prior period sales

     —          —          —          —     

Credits/payments for prior period sales

     —          —          —          —     

Credits/payments for current period sales

     —          —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance as of June 30, 2011

   $ (0.5   $ (0.2   $ (0.1   $ (0.8
  

 

 

   

 

 

   

 

 

   

 

 

 

The Company is not the principal with respect to BENLYSTA sold in the rest of world (“ROW”). Therefore, the Company will not record product sales with respect to this activity.

 

 

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Results of Operations

Revenues. Revenues were $24.9 million and $38.8 million for the three months ended June 30, 2011 and 2010, respectively. Revenues were $51.4 million and $85.3 million for the six months ended June 30, 2011 and 2010, respectively. Revenues for the three months ended June 30, 2011 included $12.9 million in raxibacumab product sales, as well as $7.8 million in BENLYSTA product sales and $4.0 million in manufacturing and development services revenue. Revenues for the three months ended June 30, 2010 included $19.1 million recognized from Novartis related to straight-line recognition of up-front license fees and milestones reached for ZALBIN as well as $13.1 million in raxibacumab product sales. Revenues for the six months ended June 30, 2011 included $28.3 million in raxibacumab product sales, $14.9 million in manufacturing and development services revenue and $7.9 million in BENLYSTA product sales. Revenues for the six months ended June 30, 2010 included $46.7 million recognized from the Novartis agreement as well as $26.7 million in raxibacumab product sales. No revenue with respect to ZALBIN has been recognized during the three and six months ended June 30, 2011 due to our 2010 decision to end further development of ZALBIN based on regulatory feedback. BENLYSTA revenue in future periods is expected to increase as BENLYSTA sales progress.

Cost of product sales. Cost of product sales was $11.6 million and $7.5 million for the three months ended June 30, 2011 and 2010, respectively. Cost of product sales was $21.6 million and $15.1 million for the six months ended June 30, 2011 and 2010, respectively. The increase in cost of product sales for the three-month and six-month periods is primarily due to the costs related to BENLYSTA sales. Cost of product sales for both 2010 and 2011 includes the cost of manufacturing raxibacumab, third-party royalties and costs expensed related to rejected or terminated BENLYSTA or raxibacumab production batches. Cost of product sales for the three and six months ended June 30, 2011 also includes distribution services costs related to BENLYSTA sales. Cost of product sales and gross margins for the three and six months ended June 30, 2011 reflect the benefit of selling BENLYSTA inventory with a zero cost basis because such inventory was manufactured prior to our capitalization date and charged to research and development expense in the period manufactured. BENLYSTA product sales of $7.8 million and $7.9 million were sold with no related cost of sales, other than royalties and distribution costs, for the three and six months ended June 30, 2011, respectively. As of June 30, 2011, we have approximately $104.6 million of BENLYSTA product with no carrying value, and accordingly, we expect our future cost of product sales and our gross margins to benefit from utilization of this inventory to the extent it is utilized commercially rather than clinically.

Cost of manufacturing and development services. Cost of manufacturing and development services was $6.7 million and $3.1 million for the three months ended June 30, 2011 and 2010, respectively. Cost of manufacturing and development services was $18.3 million and $4.0 million for the six months ended June 30, 2011 and 2010, respectively. Our manufacturing and development services costs include costs associated with contract manufacturing services and raxibacumab development services costs. Our costs with respect to contract manufacturing services can represent a significant portion of revenues, depending upon production volumes, efficiencies and product mix. During the three months ended June 30, 2011, we expensed certain quarantined or terminated production batches that were being manufactured for one customer. We have suspended production of this product, although we may resume production at a later date. Until we resume production for this product or produce other product(s) utilizing this specific manufacturing capacity, it is likely that our manufacturing and development services revenue will be less than our cost of manufacturing and development services.

Expenses. Research and development net expenses were $33.4 million for the three months ended June 30, 2011 compared to $51.4 million for the three months ended June 30, 2010. Research and development net expenses were $117.9 million for the six months ended June 30, 2011 compared to $108.9 million for the six months ended June 30, 2010. Our research and development expenses for the three months ended June 30, 2011 and 2010 are net of $7.7 million and $19.0 million, respectively, of costs reimbursed by GSK and Morphotek in 2011 and GSK and Novartis in 2010. Our research and development expenses for the six months ended June 30, 2011 and 2010 are net of $14.3 million and $34.7 million, respectively, of costs reimbursed by GSK and Morphotek in 2011 and GSK and Novartis in 2010.

 

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Results of Operations (continued)

 

We track our research and development expenditures by type of cost incurred – research, pharmaceutical sciences, manufacturing and clinical development.

Our research costs increased to $7.5 million for the three months ended June 30, 2011 from $6.2 million for the three months ended June 30, 2010. Our research costs increased to $13.8 million for the six months ended June 30, 2011 from $11.0 million for the six months ended June 30, 2010. The increase during the three and six months ended June 30, 2011 is primarily due to increased new target activity, partially offset by decreased ZALBIN and HGS1029 research activity. Our research costs for the three months ended June 30, 2011 and 2010 are net of $0.8 million and $0.6 million, respectively, of cost reimbursement from GSK and Morphotek in 2011 and GSK and Novartis in 2010 under cost sharing provisions in our collaboration agreements. Our research costs for the six months ended June 30, 2011 and 2010 are net of $1.2 million and $1.6 million, respectively, of cost reimbursement from GSK and Morphotek in 2011 and GSK and Novartis in 2010 under cost sharing provisions in our collaboration agreements.

Our pharmaceutical sciences costs, where we focus on improving formulation, process development and production methods, decreased to $4.9 million for the three months ended June 30, 2011 from $6.4 million for the three months ended June 30, 2010. Pharmaceutical sciences costs decreased to $11.0 million for the six months ended June 30, 2011 from $13.0 million for the six months ended June 30, 2010. Pharmaceutical sciences costs for the three months ended June 30, 2011 are net of $1.0 million of cost reimbursement primarily from GSK and Morphotek. Pharmaceutical sciences costs for the three months ended June 30, 2010 include $0.2 million in net costs incurred by GSK and Novartis. Pharmaceutical sciences costs for the six months ended June 30, 2011 are net of $2.2 million of cost reimbursement primarily from GSK and Morphotek. Pharmaceutical sciences costs for the six months ended June 30, 2010 include $0.4 million in net costs incurred by GSK and Novartis.

Our manufacturing costs decreased to $6.8 million for the three months ended June 30, 2011 from $22.6 million for the three months ended June 30, 2010. Our manufacturing costs decreased to $11.5 million for the six months ended June 30, 2011 from $52.4 million for the six months ended June 30, 2010. This decrease is primarily due to the expensing of manufacturing costs incurred to produce BENLYSTA during 2010 prior to the point at which we started to capitalize such costs during the fourth quarter of 2010. Our manufacturing costs for the three months ended June 30, 2011 and 2010 are net of $2.6 million and $13.4 million, respectively, of cost reimbursement from GSK and Morphotek in 2011 and GSK and Novartis in 2010 under cost sharing provisions in our collaboration agreements. Our manufacturing costs for the six months ended June 30, 2011 and 2010 are net of $3.7 million and $22.0 million, respectively, of cost reimbursement from GSK and Morphotek under cost sharing provisions in our collaboration agreements.

Our clinical development costs decreased to $14.2 million for the three months ended June 30, 2011 from $16.2 million for the three months ended June 30, 2010. The decrease is primarily due to completion of the last BENLYSTA Phase 3 clinical trial in early 2010. Our clinical development costs increased to $81.6 million for the six months ended June 30, 2011 from $32.5 million for the six months ended June 30, 2010. The increase is primarily due to the payment of a $50.0 million upfront license fee to FivePrime which was expensed during the six months ended June 30, 2011. Our clinical development expenses for the three months ended June 30, 2011 and 2010 are net of $3.3 million and $5.2 million, respectively, of cost reimbursement primarily from GSK under cost sharing provisions in our collaboration agreements. Our clinical development expenses for the six months ended June 30, 2011 and 2010 are net of $7.2 million and $11.5 million, respectively, of cost reimbursement primarily from GSK under cost sharing provisions in our collaboration agreements.

Selling, general and administrative expenses increased to $39.4 million for the three months ended June 30, 2011 from $23.8 million for the three months ended June 30, 2010. Selling, general and administrative expenses increased to $74.6 million for the six months ended June 30, 2011 from $42.1 million for the six months ended June 30, 2010. This increase is primarily due to increased commercial activities, such as marketing programs and materials, and the hiring in late 2010 of additional personnel, including our sales force. Selling, general and administrative expenses in future periods are likely to increase as the level of commercial activities rises.

 

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Results of Operations (continued)

 

Commercial collaboration expenses of $2.2 million and $5.2 million for the three and six months ended June 30, 2011 include GSK’s share of the collaboration profit with respect to BENLYSTA in the United States. It also includes our share of the rest of world (“ROW”) collaboration expense incurred by GSK. In the period when ROW results become profitable, we will begin to reflect the ROW results as commercial collaboration income.

Facility-related exit credits of $1.7 million for the six months ended June 30, 2011 relate to the reversal of our remaining exit reserve for certain exited space. During the six months ended June 30, 2011, we decided to use this remaining exited space and therefore reversed the remaining reserve. See Note 7, Facility-Related Exit Credits, of the Notes to the Consolidated Financial Statements for additional discussion.

Investment income decreased to $2.9 million for the three months ended June 30, 2011 from $5.1 million for the three months ended June 30, 2010. Investment income decreased to $6.2 million for the six months ended June 30, 2011 from $9.7 million for the six months ended June 30, 2010. The decrease in investment income for the three and six months ended June 30, 2010 was primarily due to lower average investment balances.

Interest expense increased to $15.5 million for the three months ended June 30, 2011 compared to $14.8 million for the three months ended June 30, 2010. Interest expense increased to $30.7 million for the six months ended June 30, 2011 compared to $29.5 million for the six month ended June 30, 2010. Interest expense includes non-cash interest expense related to amortization of debt discount.

We had other income of $0.4 million for the three months ended June 30, 2011 compared to other expense of $0.2 million for the three months ended June 30, 2010. Other expense increased to $2.6 million for the six months ended June 30, 2011 compared to $0.2 million for the six months ended June 30, 2010. The increase in other expense for the six month period of 2011 consisted primarily of a charge for the other-than-temporary impairment of our investment in Aegera Therapeutics, Inc. in March 2011. See Note 4, Collaborations and Other Agreements, of the Notes to the Consolidated Financial Statements for additional discussion.

Net Income (Loss). We recorded a net loss of $80.7 million, or $0.42 per basic and diluted share, for the three months ended June 30, 2011 compared to a net loss of $56.9 million, or $0.30 per basic share and diluted share, for the three months ended June 30, 2010. We recorded a net loss of $211.7 million, or $1.12 per basic and diluted share, for the six months ended June 30, 2011 compared to a net loss of $104.7 million, or $0.56 per basic share and diluted share, for the six months ended June 30, 2010. The increased net loss for 2011 is primarily due to the $50.0 million, or $0.26 per basic and diluted share, upfront license fee paid to FivePrime, lower revenue recognized in 2011 from research and development collaborative agreements, and increased selling, general and administrative expenses as we launched BENLYSTA.

Liquidity and Capital Resources

We had working capital of $19.6 million and $250.2 million as of June 30, 2011 and December 31, 2010, respectively. The decrease in our working capital for the six months ended June 30, 2011 is primarily due to the use of working capital to fund our operations and the $50.0 million upfront license paid to FivePrime. Our working capital position is anticipated to deteriorate during the three months ended September 30, 2011 as our convertible subordinated debt due August 2012 becomes a current liability as of September 30, 2011, but our working capital position should improve after October 2011 if the convertible subordinated debt of approximately $196.1 million due October 2011 is redeemed in the form of common stock rather than cash at maturity.

 

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Liquidity and Capital Resources (continued)

 

We expect to continue to incur substantial expenses relating to our research and development efforts, as we focus on clinical trials and manufacturing required for the development of our active product candidates, including BENLYSTA for additional indications, and fulfill our Phase 4 commitments. We are also incurring significant sales and marketing costs as we develop the market for BENLYSTA. In the event our working capital needs exceed our available working capital, we may utilize our non-current marketable securities, which are classified as “available-for-sale”. In 2009, the USG agreed to purchase 45,000 additional doses of raxibacumab for the SNS, to be delivered over a three-year period, which began in 2009. We expect to receive a total of approximately $142.0 million from this order as deliveries are completed, $91.8 million of which was recognized as revenue through June 30, 2011. We may also receive payments under collaboration agreements, to the extent milestones are met, which would further improve our working capital position.

To minimize our exposure to credit risk, we invest in securities with strong credit ratings and have established guidelines relative to diversification and maturity with the objectives of maintaining safety of principal and liquidity. We do not invest in derivative financial instruments or auction rate securities, and we generally hold our investments in debt securities until maturity.

The amounts of expenditures that will be needed to carry out our business plan are subject to numerous uncertainties, which may adversely affect our liquidity and capital resources. We have several ongoing Phase 1 and Phase 2 trials and expect to initiate additional trials in the future, including post-marketing trials required by the FDA in connection with the approval of BENLYSTA. The duration and cost of our clinical trials are a function of numerous factors such as the number of patients to be enrolled in the trial, the amount of time it takes to enroll them, the length of time they must be treated and observed, and the number of clinical sites and countries for the trial. However, the duration of these phases may vary considerably according to the type, complexity, novelty and intended use of the drug candidate. Some trials may take considerably longer to complete.

Our clinical development expenses are dependent on the clinical phase of our drug candidates. Our expenses increase as our drug candidates move to later phases of clinical development. The status of our clinical projects is as follows:

 

          Clinical Trial Status as of June 30, (2)

Product Candidate (1)

  

Indication

   2011   2010
BENLYSTA    Systemic Lupus Erythematosus    (3)   Phase 3
BENLYSTA    Rheumatoid Arthritis    (4)   (4)
Raxibacumab    Anthrax    (5)   (5)
HGS1029    Cancer    Phase 1   Phase 1
Mapatumumab(6)    Cancer    Phase 2   Phase 2
HGS1036    Cancer    (7)   -

 

(1) Includes only those candidates for which an Investigational New Drug Application (“IND”) has been filed with the FDA and for which initial dosing of patients has occurred.
(2) Clinical Trial Status defined as when patients are being dosed.
(3) Product approved in U.S. and Europe.
(4) Phase 2 trial completed; treatment IND ongoing.
(5) BLA filed in 2009; Complete Response Letter received from FDA; additional work ongoing.
(6) Formerly HGS-ETR1.
(7) Formerly FP-1039. Phase 1 trial initiated by FivePrime.

 

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Liquidity and Capital Resources (continued)

 

We identify our drug candidates by conducting numerous preclinical studies. We may conduct multiple clinical trials to cover a variety of indications for each drug candidate. Based upon the results from our trials, we may elect to discontinue clinical trials for certain indications or certain drugs in order to concentrate our resources on more promising product candidates.

We are advancing a number of drug candidates, including antibodies and a small molecule, in part to diversify the risks associated with our research and development spending. In addition, our manufacturing plants have been designed to enable multi-product manufacturing capability.

We must receive regulatory clearance to advance each of our products into and through each phase of clinical testing. Moreover, we must receive regulatory approval to launch any of our products commercially. In order to receive such approval, the appropriate regulatory agency must conclude that our clinical data establish safety and efficacy and that our products and the manufacturing facilities meet all applicable regulatory requirements. Although BENLYSTA and our large-scale manufacturing facility have received approval, we cannot be certain that we will establish sufficient safety and efficacy data to receive regulatory approval for any additional drugs or that our drugs and the manufacturing facilities will satisfy or continue to satisfy all applicable regulatory requirements.

Part of our business plan includes collaborating with others. For example, we entered into a collaboration agreement with GSK in 2006 with respect to BENLYSTA and received a payment of $24.0 million in 2006. We and GSK share Phase 3 and 4 development costs, and share sales and marketing expenses and profits of any product that is commercialized in accordance with the collaboration agreement. During the three and six months ended June 30, 2011, we recorded approximately $6.7 million and $11.9 million, respectively, due from GSK with respect to our cost sharing agreements as a reduction of research and development expenses. We recognized the up-front fee received from GSK as revenue ratably over the estimated remaining development period, which ended in 2010. To the extent we enter into additional collaborations with respect to our product candidates, these could provide us with upfront fees and/or milestones.

We have collaborators who have sole responsibility for product development. For example, GSK is developing other products under separate agreements as part of our overall relationship with them. We have no control over the progress of GSK’s development plans. We cannot forecast with any degree of certainty whether any of our current or future collaborations will affect our drug development.

Because of the uncertainties discussed above, the costs to advance our research and development projects are difficult to estimate and may vary significantly. Our long-term strategy includes the acquisition of other biotechnology companies or in-license of additional product candidates to complement and supplement our existing product pipeline, and we may acquire such companies and in-license additional product candidates that have demonstrated positive pre-clinical and/or clinical data. Any such acquisition or in-license agreement could include consideration in the form of cash, which would have an adverse effect on our liquidity. For example, we entered into an agreement with FivePrime in March, 2011 and paid an upfront fee of $50.0 million. We expect that our existing funds, payments from BENLYSTA sales, payments received under the raxibacumab contract and other agreements and investment income will be sufficient to fund our operations for at least the next twelve months.

Our future capital requirements and the adequacy of our available funds will depend on many factors, primarily including the redemption of our outstanding convertible subordinated debt in the form of common stock rather than cash, the scope and costs of our clinical development programs, the scope and costs of our manufacturing and process development activities, the magnitude of our discovery and preclinical development programs and the level of our commercial launch activities. There can be no assurance that any additional financing required in the future will be available on acceptable terms, if at all.

Depending upon market and interest rate conditions, we may take actions to strengthen further our financial position. We may undertake financings and may repurchase or restructure some or all of our outstanding convertible debt instruments in the future depending upon market and other conditions.

 

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Liquidity and Capital Resources (continued)

 

We have certain contractual obligations that may have a future effect on our financial condition, changes in financial condition, results of operations, liquidity, capital expenditures or capital resources. Our operating leases, along with our unconditional purchase obligations, are not recorded on our consolidated balance sheets. Debt associated with the 2006 sale of our LSM facility to BioMed and accompanying leaseback is recorded on our consolidated balance sheets as of June 30, 2011 and December 31, 2010. We have an option to purchase the Traville facility in 2016 for $303.0 million.

Our unrestricted and restricted funds may be invested in U.S. Treasury securities, government agency obligations, high grade corporate debt securities and various money market instruments rated “A-” or better. Such investments reflect our policy regarding the investment of liquid assets, which is to seek a reasonable rate of return consistent with an emphasis on safety, liquidity and preservation of capital.

 

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Off-Balance Sheet Arrangements

During 1997 and 1999, we entered into two long-term leases with the Maryland Economic Development Corporation (“MEDCO”) expiring January 1, 2019 for a small-scale manufacturing facility aggregating 127,000 square feet and built to our specifications. We have accounted for these leases as operating leases. The facility was financed primarily through a combination of bonds issued by MEDCO (“MEDCO Bonds”) and loans issued to MEDCO by certain State of Maryland agencies. We have no equity interest in MEDCO.

Rent is based upon MEDCO’s debt service obligations, which contain a variable rate component. Assuming no significant changes in the current interest rate environment, our rent for 2011 is estimated to be approximately $1.0 million. The MEDCO Bonds are secured by letters of credit issued for the account of MEDCO which were renewed for a two-year period in December 2009. We are required to have restricted investments of approximately $34.3 million which serve as security for the MEDCO letters of credit reimbursement obligation. Upon default or early lease termination, the MEDCO Bond indenture trustee can draw upon the letters of credit to pay the MEDCO Bonds as they are tendered. In such an event, we could lose part or all of our restricted investments and could record a charge to earnings for a corresponding amount. Alternatively, we have an option through the end of the lease term to purchase this facility for an aggregate amount that declines from approximately $35.0 million in 2011 to approximately $21.0 million in 2019.

 

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Cautionary Statement Pursuant to Private Securities Litigation Reform Act of 1995 – “Safe Harbor” for Forward-looking Statements

The information in this report includes statements that are forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements may be identified by the use of words such as “believes,” “plans,” “expects,” “will,” “anticipates,” “estimates” and other words of similar meaning in conjunction with, among other things, discussions of financial performance or financial condition, product sales, growth strategy, product development, regulatory approvals or expenditures.

Forward-looking statements are based on our current intentions, beliefs and expectations regarding future events. The Company cannot guarantee that any forward-looking statement will be accurate. Investors should realize that if underlying assumptions prove inaccurate or unknown risks or uncertainties materialize, actual results could differ materially from the Company’s expectations. Investors are, therefore, cautioned not to place undue reliance on any forward-looking statement. Any forward-looking statement speaks only as of the date on which such statement is made, and, except as required by law, the Company does not undertake to update any forward-looking statement to reflect new information, events or circumstances.

Some important factors that could cause the Company’s actual results to differ from the Company’s expectations in any forward-looking statement include:

 

   

our lack of commercial experience and dependence on the sales growth of BENLYSTA;

 

   

the occurrence of adverse safety events with our products, resulting in product recalls, withdrawals, regulatory action on the part of the FDA or the termination of clinical trials for products in development;

 

   

changes in the availability of reimbursement for BENLYSTA;

 

   

the inherent uncertainty of the timing and success of, and expense associated with, research, development, regulatory approval and commercialization of our pipeline products;

 

   

substantial competition in our industry, including from branded and generic products;

 

   

the highly regulated nature of our business;

 

   

uncertainty regarding our intellectual property rights and those of others;

 

   

the ability to manufacture at appropriate scale, and in compliance with regulatory requirements, to meet market demand for our product;

 

   

our substantial indebtedness and lease obligations;

 

   

our dependence on collaborations over which we may not always have full control;

 

   

the impact of our acquisitions and strategic transactions;

 

   

changes in the health care industry in the U.S. and other countries, including government laws and regulations relating to sales and promotion, reimbursement and pricing generally;

 

   

significant litigation adverse to the Company, including product liability and patent infringement claims; and

 

   

increased scrutiny of the health care industry by government agencies and state attorneys general resulting in investigations and prosecutions.

The foregoing list sets forth many, but not all, of the factors that could cause actual results to differ from the Company’s expectations in any forward-looking statement. New factors emerge from time to time and it is not possible for management to predict all such factors, nor can it assess the impact of any such factor on the business or the extent to which any factor, or combination of factors, may cause results to differ materially from those contained in any forward-looking statement. Investors should consider this cautionary statement, as well as the factors discussed in Part II, Item 1A below under “Risk Factors,” when evaluating our forward-looking statements.

 

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

We do not currently have operations of a material nature that are subject to risks of foreign currency fluctuations. We do not use derivative financial instruments in our operations or investment portfolio. Our investment portfolio may be comprised of low-risk U.S. Treasuries, government-sponsored enterprise securities, high-grade debt having at least an “A-” rating at time of purchase and various money market instruments. The short-term nature of these securities, which currently have an average term of approximately 14 months, decreases the risk of a material loss caused by a market change related to interest rates.

We believe that a hypothetical 100 basis point adverse move (increase) in interest rates along the entire interest rate yield curve would adversely affect the fair value of our cash, cash equivalents, short-term investments, marketable securities and restricted investments by approximately $7.5 million, or approximately 1.06% of the aggregate fair value of approximately $703.3 million, as of June 30, 2011. For these reasons, and because these securities are generally held to maturity, we believe we do not have significant exposure to market risks associated with changes in interest rates related to our debt securities held as of June 30, 2011. We believe that any interest rate change related to our investment securities held as of June 30, 2011 is not material to our consolidated financial statements. As of June 30, 2011, the yield on comparable one-year investments was approximately 0.2%, as compared to our current portfolio yield of approximately 1.8%. However, given the short-term nature of these securities, a general decline in interest rates may adversely affect the interest earned from our portfolio as securities mature and may be replaced with securities having a lower interest rate.

To minimize our exposure to credit risk, we invest in securities with strong credit ratings and have established guidelines relative to diversification and maturity with the objectives of maintaining safety of principal and liquidity. We do not invest in derivative financial instruments, auction rate securities, loans held for sale or mortgage-backed securities backed by sub-prime or Alt-A collateral, and we generally hold our investments in debt securities until maturity. However, adverse changes in the credit markets relating to credit risks would adversely affect the fair value of our cash, cash equivalents, short-term investments, marketable securities and restricted investments.

Our facility leases for our Traville headquarters and LSM require us to maintain minimum levels of restricted investments of approximately $39.8 million, or $39.5 million if in the form of cash, as collateral for these facilities. Together with the requirement to maintain approximately $34.3 million in restricted investments with respect to our small-scale manufacturing facility leases, our overall level of restricted investments is currently required to be approximately $74.1 million. Although the market value for these investments may rise or fall as a result of changes in interest rates, we will be required to maintain this level of restricted investments in either a rising or declining interest rate environment.

Our convertible subordinated notes bear interest at fixed rates. As a result, our interest expense on these notes is not affected by changes in interest rates.

During 2010 we formed several wholly-owned European subsidiaries in preparation for commercial activity in that region. The formation of these subsidiaries slightly increases our exposure to foreign currency fluctuation risks beyond our prior exposure when we had one European subsidiary with limited activity. We do not believe the risk of foreign currency gains or losses to be material to our overall operations. Another wholly-owned subsidiary, Human Genome Sciences Pacific Pty Ltd. (“HGS Pacific”) sponsors some of our clinical trials in the Asia/Pacific region. We currently do not anticipate HGS Pacific to have any operational activity and therefore we do not believe we will have any foreign currency fluctuation risks with respect to HGS Pacific.

 

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Item 4. Controls and Procedures

Disclosure Controls and Procedures

Our management, including our principal executive and principal financial officers, has evaluated the effectiveness of our disclosure controls and procedures as of June 30, 2011. Our disclosure controls and procedures are designed to provide reasonable assurance that the information required to be disclosed in this Quarterly Report on Form 10-Q has been appropriately recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive and principal financial officers, to allow timely decisions regarding required disclosure. Based on that evaluation, our principal executive and principal financial officers have concluded that our disclosure controls and procedures are effective at the reasonable assurance level.

Changes in Internal Control

Our management, including our principal executive and principal financial officers, has evaluated any changes in our internal control over financial reporting that occurred during the quarterly period ended June 30, 2011, and has concluded that there was no change that occurred during the quarterly period ended June 30, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

Item 5. Other Information

Policy on Frequency of Say-on-Pay Vote. A plurality of the votes cast at our annual meeting, voted, on an advisory basis, to hold an advisory vote on executive compensation annually. In accord with this recommendation by our stockholders, our Board of Directors determined that we will include an advisory stockholder vote on executive compensation in our proxy materials every year until the next required advisory vote regarding the frequency of an advisory vote on executive compensation, which will occur no later than our annual meeting of stockholders in 2017.

 

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PART II. OTHER INFORMATION

 

Item 1A. Risk Factors

There are a number of risk factors that could cause our actual results to differ materially from those that are indicated by forward-looking statements. Those factors include, without limitation, those listed below in addition to the other information in this Quarterly Report on Form 10-Q. You should carefully consider these risk factors in evaluating our business because these risk factors may have a significant impact on our business, financial condition and results of operations. The risks described below are not the only risks we may face. Additional risks and uncertainties not presently apparent to us, or risks that we currently consider immaterial, could also negatively affect our business, financial condition and results of operations.

COMMERCIAL RISKS

Our near-term prospects are highly dependent on the success of BENLYSTA, our first FDA-approved product. To the extent we fail to successfully commercialize BENLYSTA, our business, financial condition and results of operations would be materially adversely affected and the price of our common stock would likely decline.

BENLYSTA is our first FDA-approved product. On March 9, 2011, the FDA approved BENLYSTA for the treatment of adult patients with active, autoantibody-positive systemic lupus erythematosus (“SLE”). We believe that BENLYSTA product sales will constitute all or most of our total revenue over the next several years.

The degree of market acceptance and commercial success of BENLYSTA and our ability to generate and increase revenues will depend on a number of factors, including the following:

 

   

the number of patients with SLE who are diagnosed with the disease, and those that may be treated with BENLYSTA;

 

   

the safety and efficacy of BENLYSTA, our ability to provide acceptable evidence of safety and efficacy, and the perceptions in the medical community, by regulatory agencies and among insurers and other payers of BENLYSTA’s safety and efficacy;

 

   

BENLYSTA’s perceived advantages over alternative treatment methods (including relative convenience and ease of administration and prevalence and severity of any adverse events, including any unexpected adverse events of which we become aware);

 

   

the claims, limitations, warnings and other information in BENLYSTA’s labeling;

 

   

our establishment of an effective sales force and the ability of our sales, marketing and other representatives to accurately describe BENLYSTA consistent with its approved labeling;

 

   

BENLYSTA’s price and perceived cost-effectiveness;

 

   

the ability of patients and physicians and other providers to obtain and maintain sufficient coverage and reimbursement by third-party payers, including government payers;

 

   

the receipt and maintenance of marketing approvals from the United States and foreign regulatory authorities;

 

   

the growth of commercial sales in the United States and other countries;

 

   

in the United States, the ability of group purchasing organizations, or GPOs (including distributors and other network providers), to sell BENLYSTA to their constituencies;

 

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the establishment and maintenance of commercial manufacturing capabilities ourselves or through third-party manufacturers, and our ability to meet commercial demand for BENLYSTA; and

 

   

the effectiveness of our partnership with GSK in successfully obtaining foreign regulatory approvals and in marketing and selling BENLYSTA in both the U.S. and abroad.

We cannot predict whether physicians, patients, healthcare insurers or maintenance organizations, or the medical community in general, will accept or utilize BENLYSTA. Our efforts to educate the medical community and third-party payers regarding the benefits of BENLYSTA will require significant resources and may not be successful in achieving our objectives. If BENLYSTA does not achieve broad market acceptance, the revenues we generate from sales will be limited and our business may not be profitable.

Data generated or analyzed after BENLYSTA approval may result in decreased demand and lower sales or product withdrawal.

As a condition to obtaining U.S. marketing approval of BENLYSTA, we are required to conduct additional clinical trials. The size and scope of these Phase IV trials are significant and will be costly. The results generated in these Phase IV trials could result in loss of marketing approval, changes in product labeling, or new or increased concerns about side effects or the efficacy of BENLYSTA that may decrease demand and lower sales. Foreign regulatory agencies may impose comparable post-approval requirements that require significant additional expenditures. Post-marketing studies and other emerging data about BENLYSTA, such as adverse event reports, may also adversely affect sales or result in withdrawal of BENLYSTA from the market. Furthermore, the discovery of significant problems with a product or class of products similar to BENLYSTA could have an adverse effect on the sales of BENLYSTA.

In addition, new data and information, including information about product misuse, may lead government agencies, professional societies, practice management groups or organizations involved in various diseases to publish guidelines or recommendations related to the use of BENLYSTA or place restrictions on sales. Such guidelines or recommendations may lead to lower sales of BENLYSTA.

If we are unable to obtain marketing approvals for BENLYSTA in additional jurisdictions, or if we are significantly delayed or limited in doing so, our results of operations and business will be materially and adversely affected and our stock price would likely decline.

In July 2011, we received marketing approval for BENLYSTA in both the European Union and in Canada. Regulatory applications have also been submitted and are currently under consideration in Australia, Brazil, Columbia, Israel, The Philippines, Russia, Singapore, Switzerland and Taiwan. Despite approval by the FDA and certain other jurisdictions, we cannot offer any assurances or predict with any certainty that other regulatory authorities will grant marketing approval for BENLYSTA, or the expected timeframe of such approvals. Furthermore, as was the case with FDA approval, other regulatory approvals, even if obtained, may be limited to specific indications, limit the type of patients in which the drug may be used, or otherwise require specific warning or labeling language, any of which might reduce the commercial potential of BENLYSTA. Regulatory authorities may condition BENLYSTA marketing approval on the conduct of specific post-marketing studies to further evaluate safety and efficacy, in either particular patient populations or general patient populations or both. The results of these studies, the discovery of previously unknown issues involving safety or efficacy or the failure to comply with post-approval regulatory requirements, including requirements with respect to manufacturing practices, reporting of adverse effects, advertising, promotion and marketing, may result in restrictions on the marketing of BENLYSTA or the withdrawal of BENLYSTA from the market.

If we are unable to obtain approval for expansion of the labeled uses for BENLYSTA, we may not be able to recognize the value of the product in other indications.

BENLYSTA is a human monoclonal antibody that recognizes and inhibits the biological activity of B-lymphocyte stimulator, or BLyS, and was developed as a treatment for SLE. In March 2011, the

 

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FDA approved BENLYSTA for the treatment of SLE. We and our partner intend to conduct new clinical trials for additional approved, or labeled, uses of BENLYSTA, such as vasculitis and other autoimmune indications and seek expansion of the labeled uses in the U.S. and in other countries. We and our partner also intend to conduct additional clinical trials for alternative delivery mechanisms. If we are not able to obtain approval for label expansion or alternative delivery mechanisms, we will have incurred clinical trial costs without corresponding benefits and our stock price may suffer to the degree that our prospects for expanded labeled uses or alternative delivery mechanisms were assigned value in our trading price.

We may be unable to maintain or to expand our commercial manufacturing capability and may be unable to obtain required quantities of our products for commercial use.

Except for raxibacumab and quantities of BENLYSTA manufactured to build our commercial supply inventory of BENLYSTA in support of commercialization, we have limited experience in manufacturing materials suitable for commercial use. The FDA must determine that our facilities comply with cGMP requirements for commercial production to license them for a particular product. Although the FDA has licensed our facility for the manufacture of BENLYSTA, the FDA will routinely re-inspect our facilities for such compliance. We may not successfully establish sufficient manufacturing capabilities or manufacture our products economically or in continuing compliance with cGMPs and other regulatory requirements. For example, we believe that we have sufficient manufacturing capacity to supply commercial quantities of BENLYSTA for the first two or three years following launch. In 2010, we entered into a manufacturing agreement with Lonza Sales AG pursuant to which Lonza will manufacture additional commercial quantities of BENLYSTA. However, this additional manufacturing capacity may not be available for 12 months or longer, if ever, due, in part, to the time required to obtain regulatory approvals for the manufacture of BENLYSTA in Lonza’s facility. If Lonza’s facility fails to obtain regulatory approval in a timely manner or at all, we may not be able to build or procure additional capacity in the required timeframe to meet commercial demand, and our revenues may accordingly be limited from BENLYSTA. Our revenues from BENLYSTA also will be limited if the demand for BENLYSTA exceeds our capacity to supply BENLYSTA to patients.

BENLYSTA is solely produced at our large-scale manufacturing facility in Rockville, Maryland and raxibacumab is solely produced at our small-scale manufacturing facility, which is also in Rockville, Maryland. Furthermore, the filling, finishing and packaging for both BENLYSTA and raxibacumab are solely performed by a single third party manufacturer. We cannot guarantee that one or more of these plants will not encounter problems, including but not limited to loss of power, equipment failure or viral or microbial contamination, which could adversely affect our ability to deliver adequate supply of one or more of these products to patients or customers.

If we or our third-party manufacturers fail to comply with regulatory requirements imposed on our manufacturing activities, it could have a material adverse effect on our business, financial condition and results of operations.

We have previously engaged third-party manufacturers or utilized our collaboration partners’ manufacturing capabilities to manufacture products and we expect to continue to do so in the future. If we use others to manufacture our products, we will depend on those parties to comply with cGMPs and other regulatory requirements and to deliver materials on a timely basis. In addition, because regulatory approval to manufacture a drug is generally site-specific, the FDA and other regulatory authorities will routinely inspect our manufacturing facilities and our current and future third-party manufacturers’ facilities for compliance with cGMPs. If we or our third-party manufacturers fail to comply with applicable regulatory requirements, a regulatory agency may: issue warning letters; suspend or withdraw our regulatory approval for approved or in-market products; seize or detain products or recommend a product recall; refuse to approve pending applications or supplements to approved applications filed by us; suspend any of our ongoing clinical trials; impose restrictions or obligations on our operations, including costly new manufacturing requirements; close facilities or those of our contract manufacturers; revoke previously granted drug approvals under certain circumstances; or impose civil or criminal penalties. Any of these actions could delay our development of products, the submission of these products for regulatory approval or result in insufficient product quantity to support commercial demand. As a result, our business, financial condition and results of operations could be seriously harmed.

 

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Because we currently have only a limited marketing capability and in light of various factors, we may be unable to price or sell any of our products effectively.

Although we have priced BENLYSTA for the U.S. market, we can provide no assurance as to the price that we may be able to set for BENLYSTA in other markets upon foreign approvals. In the U.S. market we have priced BENLYSTA at $443.18 for a 120 mg vial and $1,477.26 for a 400 mg vial. Thus, the average price for an annual course of treatment in the U.S. (based on a patient weight of 161 pounds) would be approximately $35,000. In Germany, the average price for an annual course of treatment (based on the same patient weight) would be approximately €23,000 (or approximately US $32,000 at an exchange rate of 1.41 dollars per euro). The net price of BENLYSTA in Germany, however, will be approximately €14,700 (or approximately US $21,000) due to distribution costs and a required 16% rebate applicable to all pharmaceutical products. The price that we set in other countries may vary significantly from these prices. In addition, the prices for our products may be affected by various factors that could adversely affect our sales and profit margins, including economic analyses of the burden of the applicable disease, the perceived value of the product and third party reimbursement policies.

BENLYSTA is currently our only commercially marketed product, although we have sold raxibacumab to the U.S. Government. BENLYSTA is being marketed together with our collaborator, GSK. If we receive approval for other products that can be marketed, we may market the products either independently or together with collaborators or strategic partners. Whether we market a product independently or in collaboration with a strategic partner, we will incur significant additional expenditures and commit significant additional resources to establish sales forces. For any products that we market together with partners, we will rely, in whole or in part, on the marketing capabilities of those parties. We may also contract with third parties to market certain of our products. We may be unable to retain an adequate number of qualified sales representatives and may encounter difficulties in retaining third parties to provide sales, marketing or distribution resources. Ultimately, we and our partners may not be successful in marketing our products.

Changes in the health care system or reimbursement policies may result in a decline in our potential sales and a reduction in our expected revenue from our potential products.

The revenues and profitability of biopharmaceutical companies like ours may be affected by the continuing efforts of government and third-party payers to contain or reduce the costs of health care through various means. For example, in certain foreign markets pricing or profitability of therapeutic and other pharmaceutical products is subject to governmental control. In the United States, there have been, and we expect that there will continue to be, a number of federal and state proposals to implement similar governmental control. Recent United States legislation, rules and regulations instituted significant changes to the United States healthcare system that could have a material adverse effect on our business, financial condition and profitability. We cannot predict what effects, if any, this legislation might have on our company and our products as this legislation is implemented over the next few years, nor can we predict whether additional legislative or regulatory proposals may be adopted.

In addition, in the United States and elsewhere, sales of therapeutic and other pharmaceutical products depend in part on the availability of reimbursement and access to the consumer from third-party payers, such as government and private insurance plans. Third-party payers are increasingly challenging the prices charged for medical products and services. Third-party payers may limit access to pharmaceutical products through the use of prior authorizations and step therapy. Any reimbursement granted may not be maintained or limits on reimbursement available from third parties may reduce the demand for or negatively affect the price and profitability of those products. Payers may pursue aggressive cost cutting initiatives such as comparing the effectiveness, benefits and costs of similar treatments, which could result in lower reimbursement. This would likely have a material adverse effect on our business, financial condition and results of operations. Our ability to successfully commercialize our products and product candidates and the demand for our products depend, in part, on the extent to which reimbursement and access is available from such third-party payers.

 

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Uncertainty exists about the reimbursement status of newly approved biopharmaceutical products. Healthcare providers and third-party payers use coding systems to identify diagnoses, procedures, services, and treatments. Proper coding is an integral component to receiving appropriate reimbursement for the administration of BENLYSTA and related services. Most payers recognize the Healthcare Common Procedure Coding System (“HCPCS”) Level II national codes to identify and report drugs and the American Medical Association Current Procedural Terminology, or CPT, codes to report professional services (including drug administration). As a new drug, BENLYSTA has not yet been assigned a permanent, unique HCPCS code and there is a lack of clarity as to the appropriate CPT Code that should be used for its administration. We have applied for a permanent HCPCS code and are obtaining guidance from The Centers for Medicare & Medicaid Services (“CMS”) regarding CPT Code usage. CMS has assigned a temporary drug-specific code, known as a Q code, for BENLYSTA that took effect July 1, 2011. Although some Medicaid states and third-party payers may accept the Q code, some payers may not accept the code. For those payers that accept the Q code, the timing of loading and implementing the code in the claims processing system is variable and uncertain. Until a permanent HCPCS code has been assigned for BENLYSTA, physicians may bill using the temporary Q code, an unclassified (miscellaneous) code, or other codes specified by the payer. Use of miscellaneous codes typically causes claims processing delays and may lead to lower payments to physicians or other providers and may cause physicians or other providers to delay use of BENLYSTA until a permanent code has been assigned.

Under Medicare Part B, reimbursement for BENLYSTA will currently be computed based on manufacturer’s Average Sales Price (“ASP”). The Patient Protection and Affordable Care Act (“PPACA”) made changes to the statutory definition of ASP and CMS is in the process of interpreting and implementing those changes, which could result in lower payments for physician-administered drugs. If government and other third-party payers do not provide adequate coverage and reimbursement levels for BENLYSTA, its market acceptance may be materially adversely affected.

Because raxibacumab is a product whose current sole purchaser is the U.S. Government, the sale of raxibacumab faces risks in addition to the risks generally associated with the sale of biopharmaceutical products, including political considerations, government contracting requirements and government spending policies.

Raxibacumab, a human monoclonal antibody developed for use in the treatment of anthrax disease, presents risks in addition to those associated with our other products. Numerous other companies and governmental agencies are known to be developing biodefense pharmaceuticals and related products to combat anthrax disease. These competitors may have financial or other resources greater than ours, they may have easier or preferred access to the likely distribution channels for biodefense products or they may develop products judged to have greater efficacy for biodefense. In addition, since the primary purchaser of biodefense products is the U.S. Government and its agencies, the success of raxibacumab will depend on government spending priorities, policies and pricing restrictions. In the case of the U.S. Government, executive or legislative action could attempt to impose production and pricing requirements on us. In the event of extreme urgency, the government might seek to compel us or we might ourselves choose to reallocate our production in ways that may not be economically beneficial to the company.

We have entered into a two-phase contract to supply raxibacumab to the U.S. Government, which may be terminated by the U.S. Government at any time. Under the first phase of the contract, we supplied ten grams of raxibacumab to the HHS for comparative in vitro and in vivo testing. Under the second phase of the contract, the U.S. Government ordered 20,001 doses of raxibacumab for the U.S. Strategic National Stockpile (“SNS”) for use in the treatment of anthrax disease. We completed delivery of these doses and the U.S. Government accepted our deliveries. In July 2009, the U.S. Government agreed to purchase 45,000 additional doses. As of June 30, 2011, we have delivered approximately 30,000 doses of this second order. We, therefore, have future deliveries to make and ongoing obligations under the contract, including the obligation to seek FDA approval.

In November 2009, we received a Complete Response Letter from the FDA related to our BLA for raxibacumab. In this letter, the FDA determined that it would not approve our BLA for raxibacumab in its present form and requested additional studies and data. Although the government has accepted shipment of raxibacumab subsequent to the receipt of the FDA’s Complete Response Letter, we cannot assure you that the government will continue to accept future shipments or place additional orders.

 

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We will continue to face risks related to the requirements of the contract. If we are unable to meet our obligations associated with this contract, the U.S. Government will not be required to make future payments related to that order. Although we have received U.S. Government approval for two orders of raxibacumab, we cannot assure you we will receive additional orders.

If we are unable to successfully commercialize BENLYSTA or other product candidates we develop, we may not be able to recover our investment in our research, product development, manufacturing and marketing efforts.

In March 2011, we received approval from the FDA to market BENLYSTA in the United States. We have made and continue to make substantial expenditures with respect to BENLYSTA and our product candidates. We have invested significant time and resources to isolate and study genes and determine their functions. We devote substantial resources to developing proteins, antibodies and small molecules for the treatment of human disease. Before we can commercialize a product, we must rigorously test the product in the laboratory and complete extensive animal and human clinical studies. We are also devoting substantial resources to enhancing our manufacturing capabilities and to building our commercial supply inventories of BENLYSTA to support commercialization. We have and expect to continue to devote substantial resources to maintain our marketing capability for BENLYSTA and any of our other products that are approved by the FDA or other regulatory authorities. If any product we develop is not approved for commercial sale, we may be unable to recover the large investment we have made in research, development, manufacturing and marketing efforts, and our business and financial condition could be materially adversely affected.

COMPETITIVE RISKS

Our competitors may develop and market products that are, or are perceived as, less expensive, more effective, safer, easier to administer or reach the market sooner. This may diminish or eliminate the commercial success of any products we may commercialize.

The development and commercialization of biopharmaceutical products is highly competitive and subject to rapid technological advances. We will face competition with respect to all products we may develop or commercialize from pharmaceutical and biotechnology companies worldwide. We also expect to face increasing competition from governments, universities and other non-profit research organizations. These institutions carry out a significant amount of research and development in the field of biologic technologies, and they are increasingly aware of the commercial value of their findings. As a result, they are demanding greater patent and other proprietary rights, as well as licensing and future royalty revenues.

Many of our competitors have significantly greater financial, research and development, intellectual property estates, regulatory, manufacturing, marketing, sales and other resources than we do. As a result, our competitors may succeed in developing their products before we do and obtaining approvals from the FDA or other regulatory agencies for their products more rapidly than we do. They may be able to devote greater resources to the development, manufacture, marketing and sale of their products, initiate or withstand substantial price competition or otherwise more successfully market their products. These competing products or technologies might render our technology or product candidates under development noncompetitive, uneconomical or obsolete.

Key factors affecting the success of any approved product include its efficacy, safety profile, drug interactions, method and frequency of administration, pricing, reimbursement and level of promotional activity relative to those of competing products. Competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication than our products, or may offer comparable performance at a lower cost. The introduction of more efficacious, safer, cheaper, or more convenient alternatives to our products could reduce our revenues and the value of our product development efforts.

 

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We are aware of existing products and products in research or development by others that address the diseases we are targeting. Any of these products may compete with our product candidates. For example, a number of pharmaceutical and biotechnology companies are currently developing products targeting the same types of indications that we are targeting with BENLYSTA, and some of these competitors’ products are in clinical trials.

If we successfully develop products but those products do not achieve and maintain market acceptance, our business will not be successful. Any reduction in demand for our products as a result of a competing product could lead to reduced revenues, reduced margins, reduced levels of profitability, and loss of market share for our products. These competitive pressures could adversely affect our business and operating results.

We may also face risks to our profitability and financial condition from generic drug or biosimilar manufacturers.

The United States has enacted legislation establishing a regulatory pathway for follow-on biologics, also known as biosimilars. This and similar regulatory and legislative activity in other countries may make it easier for generic drug manufacturers to manufacture and sell biological drugs similar or identical to BENLYSTA and raxibacumab which might affect the profitability or commercial viability of our products. An accelerated route to market for generic versions of small molecule drugs was established in the United States with the passage of the Hatch-Waxman Amendments in 1984, which also provides five years of exclusivity for small molecule drugs with additional exclusivity under certain circumstances. The passage of the Biologics Price Competition and Innovation Act (“BPCIA”) in March 2010 established a similar pathway for FDA approval of a follow-on biologic that provides twelve years of exclusivity for the original biologic and an additional six month exclusivity period if certain pediatric studies are conducted. The FDA is presently drafting regulations to implement this legislation, which may or may not be favorable to HGS. Moreover, additional legislation could adversely affect the period of exclusivity for an original biologic. For example, the Obama Administration’s proposed 2012 budget seeks to reduce the period of exclusivity to seven years and to prohibit additional exclusivity periods for a given biologic product. The European Medicines Agency has issued guidelines for approving products through an abbreviated pathway under which more than ten biosimilars have been approved. European legislation provides ten years of exclusivity for original drugs, including biologics, and an additional one year of exclusivity for obtaining marketing approval for certain additional indications. If a generic or biosimilar version of one of our products were approved, it could have a material adverse effect on the sales and gross profits of the product and adversely affect our business and operating results.

PRODUCT DEVELOPMENT RISKS

Our product development efforts depend on new technologies, which may not prove successful.

Our development of new products depends on the use of cutting-edge, recently discovered technologies that may never have been successfully utilized in existing commercial products. As a result, our product development efforts involve risks of failure inherent in the use of innovative and unproven technologies and the risks associated with drug development generally. These risks include the possibility that:

 

   

these technologies or any or all of the molecules based on these technologies may be ineffective or toxic and, therefore fail to receive or retain necessary regulatory clearances;

 

   

the products, even if safe and effective, may be difficult to manufacture on a large scale or uneconomical to market;

 

   

proprietary rights of third parties may prevent us or our collaborators from exploiting technologies or marketing products; and

 

   

third parties may market superior or equivalent products.

We have limited experience in developing and commercializing products, and we may be unsuccessful in our efforts to do so.

 

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Although we are or will be conducting human studies with respect to a number of products, including potential new indications for BENLYSTA, we may not be successful in developing or commercializing any of these products or indications. Our ability to develop and commercialize products based on proteins, antibodies and small molecules will depend on our abilities to:

 

   

successfully complete laboratory testing and human studies;

 

   

obtain and maintain necessary intellectual property rights to our products;

 

   

obtain and maintain necessary regulatory approvals related to the efficacy and safety of our products;

 

   

maintain production facilities meeting all regulatory requirements or enter into arrangements with third parties to manufacture our products on our behalf; and

 

   

deploy sales and marketing resources appropriately, efficiently and effectively or enter into arrangements with third parties to provide these functions.

We cannot assure you that we will be able to develop other products or new indications for BENLYSTA that will become commercially successful.

We will continue to incur substantial expenditures relating to research, development, clinical studies and manufacturing efforts. Depending on the stage of development, our products may require significant further research, development, testing and regulatory approvals. Even if regulatory approval is obtained for the commercial sale of a product or a new indication for BENLYSTA, it could take considerable time following approval, if ever, before we are likely to receive continuing revenue from product sales or substantial royalty payments.

We are continually evaluating our business strategy and may modify this strategy in light of developments in our business and other factors.

Our ability to discover and develop new products will depend on our internal research capabilities and our ability to acquire products. Although we continue to conduct research and development activities on products and have increased our activities in this area, our limited resources may not be sufficient to discover and develop new product candidates.

We continue to evaluate our business strategy and, as a result, may modify our strategy in the future. In this regard, we may, from time to time, focus our product development efforts on different products or may delay or halt the development of various products, as we did with ZALBIN in 2010. In addition, as a result of changes in our strategy, we may also change or refocus our existing drug discovery, development, commercialization and manufacturing activities. This could require changes in our facilities and personnel and the restructuring of various financial arrangements. We cannot assure you that any product development changes that we implement will be successful.

Clinical trials for our products are expensive and protracted and their outcome is uncertain, and we must invest substantial amounts of time and money that may not yield viable products.

Conducting clinical trials is a lengthy, time-consuming and expensive process. Before obtaining regulatory approvals for the commercial sale of any product we must demonstrate through laboratory, animal and human studies that the product is both effective and safe for use in humans. We will incur substantial expense and devote a significant amount of time to conducting ongoing trials and initiating new trials.

Before clinical testing in humans can begin, a drug must be subject to rigorous preclinical testing and

 

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documentation. This documentation must be reviewed by the FDA as part of an Investigational New Drug Application (“IND”). Data obtained from tests are susceptible to varying interpretations which may delay, limit or prevent regulatory approval. Furthermore, regulatory authorities may refuse or delay approval as a result of many factors, including changes in regulatory policy during the period of product development. Even if an IND is approved, preclinical studies do not predict clinical success. Many potential drugs have shown promising results in early testing but subsequently failed to obtain necessary regulatory approvals.

Completion of clinical trials may take many years. The time required varies substantially according to the type, complexity, novelty and intended use of the product candidate. The progress of clinical trials is monitored by both the FDA and independent data monitoring committees which may require the modification, suspension or termination of a trial if it is determined to present excessive risks to patients. Our rate of commencement and completion of clinical trials may be delayed by many factors, including:

 

   

our inability to manufacture sufficient quantities of materials for use in clinical trials;

 

   

unavailability or variability in the number and types of patients for each study;

 

   

difficulty in maintaining contact with patients after treatment, resulting in incomplete data;

 

   

safety issues or side effects;

 

   

ineffectiveness of products during the clinical trials; or

 

   

government or regulatory delays.

Data obtained from our clinical trials may not be sufficient to support an application for regulatory approval without further studies.

Studies conducted by us or by third parties on our behalf may not demonstrate sufficient effectiveness and safety to obtain the requisite regulatory approvals for these or any other potential products. For example, we had been developing ZALBIN for many years. In 2010, we and our collaboration partner Novartis decided to end further development of ZALBIN in anticipation of a Complete Response Letter from the FDA in which we expected the FDA to conclude that our existing ZALBIN data would not support approval of our BLA. Additionally, in November 2009, we received a Complete Response Letter from the FDA related to our BLA for raxibacumab. In this letter, the FDA determined that it could not approve the BLA in its present form and requested additional studies and data that would be needed prior to the FDA making a decision as to whether or not to approve the raxibacumab BLA. For raxibacumab, we may not be able to complete the requested studies or to generate the required data in a timely manner, if at all. If we do not complete the additional studies and generate the additional data within the time required by the FDA, we may be required to withdraw our existing BLA and resubmit our BLA after completion of such studies. This will start a new review cycle. Even if we can complete such studies and generate such data, the studies and data may not be sufficient for FDA approval. Even if FDA or other regulatory approval is obtained for a product candidate, it may be limited to specific indications, limit the type of patients in which the drug may be used, or otherwise require specific warnings or labeling language, any of which might reduce the commercial potential of the product.

We depend on third parties to conduct many of our clinical trials, and we may encounter delays in or lose some control over our efforts to develop products.

We are dependent on third-party research organizations to enroll qualified patients and conduct, supervise and monitor many of our clinical trials. Our reliance on these service providers does not relieve us of our regulatory responsibilities, including ensuring that our clinical trials are conducted in accordance with good clinical practice regulations and the plan and protocols contained in the relevant regulatory application. In addition, these organizations may not complete activities on schedule or may not conduct our preclinical studies or clinical trials in accordance with regulatory requirements or our trial design. If we are unable to obtain any necessary services on acceptable terms or if these service providers do not successfully carry out their contractual duties or meet expected deadlines, our efforts to obtain regulatory approvals for our product candidates may be delayed or prevented.

 

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RISK FROM COLLABORATION RELATIONSHIPS AND STRATEGIC ACQUISITIONS

Our plan to use collaborations to leverage our capabilities may not be successful if we are unable to integrate our partners’ capabilities with our operations or if our partners’ capabilities do not meet our expectations.

As part of our strategy, we intend to continue to evaluate strategic partnership opportunities. In order for our future collaboration efforts to be successful, we must first identify partners whose capabilities complement and integrate well with ours. Technologies to which we gain access may prove ineffective or unsafe. Our current agreements that grant us access to such technology may expire and may not be renewable or could be terminated if we or our partners do not meet our obligations. These agreements are subject to differing interpretations and we and our partners may not agree on the appropriate interpretation of specific requirements. In addition, our partners, among other things, may prove difficult to work with, less skilled than we originally expected or unable to satisfy their financial commitments to us. Past collaborative successes are no assurance of potential future success.

We may not be able to generate substantial revenue from agreements with our collaboration partners.

To date we have received substantial revenue from payments made under collaboration agreements with Novartis and GSK, and to a lesser extent, other agreements. Our agreement with Novartis has been terminated. The research term of our initial GSK collaboration agreement and many of our other collaboration agreements expired in 2001. None of the research terms of these collaboration agreements was renewed and we may not be able to enter into additional collaboration agreements. While our partners under our initial GSK collaboration agreement have informed us that they have been pursuing research programs involving different genes for the creation of small molecule, protein and antibody drugs, we cannot assure you that any of these programs will be continued or will result in any approved drugs. If our partners are unsuccessful in such research and development efforts, we will not receive any revenue from the development or commercialization of these assets.

Under our present collaboration agreements, we are entitled to certain commercialization rights, milestones and/or royalty payments based on our partners’ development of the applicable product. We may not receive revenue under these agreements if our collaborators fail to:

 

   

develop marketable products;

 

   

obtain regulatory approvals for products; or

 

   

successfully market products.

Further, circumstances could arise under which one or more of our collaboration partners may allege that we breached our agreement with them and, accordingly, seek to terminate our relationship with them. Our collaboration partners may also terminate these agreements without cause or if competent scientific evidence or safety risks do not justify moving the applicable product forward. If any one of these agreements terminates, this could adversely affect our ability to commercialize our products and harm our business.

If one of our collaborators pursues a product that competes with our products, there could be a conflict of interest and we may not receive expected milestone or royalty payments.

Each of our collaborators is developing a variety of products, some with other partners. Our collaborators may pursue existing or alternative technologies to develop drugs targeted at the same diseases instead of using our licensed technology to develop products in collaboration with us. Our collaborators may also develop products that are similar to or compete with products they are developing in collaboration with us. If our collaborators pursue these other products instead of our products, we may not receive milestone or royalty payments.

 

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Our efforts to acquire other biotechnology companies or in-license and develop additional product candidates may not be successful, which could have a material adverse effect on our business, financial condition and results of operations.

Our business strategy includes the acquisition of other biotechnology companies or in-license of additional product candidates to complement and supplement our existing product pipeline, and we may acquire such companies and in-license additional product candidates that have demonstrated positive pre-clinical and/or clinical data. We have certain criteria by which we assess any acquisition or in-license and we may not be successful in identifying, effectively evaluating, acquiring or in-licensing, and developing additional product candidates, or on acceptable terms. In addition, product in-licensing involves inherent risks, including uncertainties due to matters that may affect the successful development or commercialization of the in-licensed product as well as the possibility of contractual disagreements with regard to terms such as patent rights, license scope or termination rights. Competition for attractive product opportunities is intense and may require us to devote substantial resources, both managerial and financial, to a product opportunity. Even if we are successful in acquiring a product candidate, it may not result in a successfully developed, or commercialized, product. Moreover, the cost of acquiring other companies or in-licensing product candidates could be substantial and in order to acquire companies or new products we may need to raise additional financing, which if it involves the issuance of additional shares of our common stock would dilute existing stockholders. In March 2011, we entered into a development and commercialization agreement with FivePrime Therapeutics, Inc. to develop a product for multiple cancers. We paid FivePrime an upfront license fee of $50 million and could be required to pay up to $445 million in future development, regulatory and commercial milestone payments. However, there can be no assurance that we will be able to develop and commercialize such a product or ever be able to recover our initial or subsequent investment in the development of this product. If we are unsuccessful in our efforts to acquire other companies or in-license and develop additional product candidates, or if we acquire or license unproductive assets, it could have a material adverse effect on the growth of our business.

In order to achieve the anticipated benefits of an acquisition, we must integrate the acquired company’s business, technology and employees in an efficient and effective manner. The successful combination of companies in a rapidly changing biotechnology industry may be more difficult to accomplish than in other industries. The combination of two companies requires, among other things, integration of the companies’ respective technologies and research and development efforts. We cannot assure you that this integration will be accomplished smoothly or successfully. The difficulties of integration may be increased by any need to coordinate geographically separated organizations and address differences in corporate cultures and management philosophies. The integration of certain operations will require the dedication of management resources and, accordingly, may temporarily distract attention from the day-to-day operations of the combined companies. The business of the combined companies may also be disrupted by employee retention uncertainty and lack of focus during integration. The inability of management to integrate successfully the operations of the two companies, in particular, the integration and retention of key personnel, or the inability to integrate successfully two technology platforms, could have a material adverse effect on our business, results of operations and financial condition.

REGULATORY AND COMPLIANCE RISKS

If we fail to comply with the extensive health care legal and regulatory requirements applicable to us, we may be subject to significant liability.

Our activities, and the activities of our agents, including some contracted third parties, are subject to extensive government regulation and oversight both in the U.S. and in foreign jurisdictions. As discussed in other risk factors, the FDA directly regulates many of our business activities, including the conduct of preclinical and clinical studies, product manufacturing, advertising and promotion, product distribution, and adverse event reporting. Additionally, our interactions in the U.S. or abroad with physicians and other potential referral sources that prescribe or purchase our products are also subject to government regulation designed to prevent health care fraud and abuse. Relevant U.S. laws include:

 

   

the Anti-Kickback Law, which prohibits persons from, among other things, knowingly and willfully soliciting, receiving, offering or paying remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual for, or the purchase, order or recommendation of, any good or service for which payment may be made under federal health care programs, such as the Medicare and Medicaid programs;

 

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federal false claims laws which prohibit individuals or entities from, among other things, knowingly presenting, or causing to be presented, claims for payment to the government or its agents that are false or fraudulent;

 

   

laws that require transparency regarding financial arrangements with health care professionals, such as the reporting and disclosure requirements imposed by PPACA that will take effect in 2012 and state laws that are currently in effect; and

 

   

state law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by state health insurance programs or any third-party payer, including commercial insurers.

Moreover, recent health care reform legislation has increased the risks and consequences for some of these laws. For example, PPACA provides that the government may assert that a claim, which includes items or services resulting from a violation of the Federal Anti-Kickback Law constitutes a “false” or fraudulent claim for purposes of the Federal False Claims Act and other federal false claims statutes.

The FDA, the Office of Inspector General for the Department of Health and Human Services, the Department of Justice, states’ Attorneys General and other governmental authorities actively enforce the laws and regulations discussed above. In the U.S., pharmaceutical and biotechnology companies have been the target of numerous government prosecutions and investigations alleging violations of law, including claims asserting impermissible off-label promotion of pharmaceutical products, payments intended to influence the referral of federal or state health care business, submission of false claims for government reimbursement, or submission of incorrect pricing information.

Violations of any of the laws described above or any other applicable governmental regulations and other similar foreign laws may subject us, our employees or our agents to criminal and/or civil sanctions, including fines, civil monetary penalties, exclusion from participation in government health care programs (including Medicare and Medicaid), and the restriction or restructuring of our operations, any of which could adversely affect our ability to operate our business and our financial results. Additionally, whether or not we have complied with the law, an investigation into alleged unlawful conduct may incur significant expense, cause reputational damage, divert management time and attention, and otherwise adversely affect our business. While we have developed and instituted a corporate compliance program, we cannot guarantee that we, our employees, our consultants, contractors, or other agents are or will be in compliance with all applicable U.S. or foreign laws.

Furthermore, we expect there will continue to be federal and state laws and/or regulations, proposed and implemented, that could impact our operations and business. The extent to which future legislation or regulations, if any, relating to health care fraud abuse laws and/or enforcement, may be enacted or what effect such legislation or regulation would have on our business remains uncertain.

Our growing international operations increase our risk of exposure to potential claims of bribery and corruption.

Failure to comply with applicable legislation such as the U.S. Foreign Corrupt Practices Act and the recently enacted United Kingdom (“UK”) Bribery Act and other similar foreign laws could expose us and senior

 

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management to civil and criminal penalties, potential debarment from public procurement, and reputational damage, all of which could materially and adversely affect our business. While we have developed and instituted a corporate compliance program, we cannot guarantee that we, our employees, our consultants, contractors, or other agents are or will be in compliance with all applicable U.S. or foreign laws.

Because we are subject to extensive and changing government regulatory requirements, we may not be able to obtain regulatory approval of our product candidates in a timely manner, if at all.

Regulations in the United States and other countries have a significant impact on our research, product development and manufacturing activities and will be a significant factor in the marketing of our products. All of our products require regulatory approval prior to commercialization. In particular, our products are subject to rigorous preclinical and clinical testing and other premarket approval requirements by the FDA and similar regulatory authorities in other regions, such as Europe and Asia. Various statutes and regulations also govern or influence the manufacturing, safety, labeling, storage, record keeping and marketing of our products. The lengthy process of seeking these approvals, and the subsequent compliance with applicable statutes and regulations, require the expenditure of substantial resources. Any failure by us to obtain, or any delay in obtaining, regulatory approvals could materially adversely affect our ability to commercialize our products in a timely manner, or at all.

United States Regulatory Approval. Before a product can be marketed in the United States, the results of the preclinical and clinical testing must be submitted to the FDA for approval. This submission will be either a new drug application (“NDA”) or a biologics license application (“BLA”), depending on the type of drug. In responding to an application, the FDA may grant marketing approval, request additional information or deny the application if it determines that the application does not provide an adequate basis for approval. In March 2011 we received marketing approval for BENLYSTA from the FDA. We cannot assure you that any approval required by the FDA for any other product candidates will be obtained on a timely basis, or at all.

Furthermore, regulatory approvals, even if obtained, may be limited to specific indications, limit the type of patients in which the drug may be used, or otherwise require specific warning or labeling language, any of which might reduce the commercial potential of the product and materially adversely affect our results of operations and business.

The FDA may condition marketing approval on the conduct of specific post-marketing studies to further evaluate safety and efficacy, including in particular patient populations. Rigorous and extensive FDA regulation of pharmaceutical products continues after approval, particularly with respect to compliance with cGMPs, reporting of adverse effects, advertising, promotion and marketing. Discovery of previously unknown problems or failure to comply with the applicable regulatory requirements may result in restrictions on the marketing of a product or withdrawal of the product from the market as well as possible civil or criminal sanctions, any of which could materially adversely affect our business. In addition, such post-marketing studies may be expensive, time-consuming and difficult to complete in a timely fashion, any of which may limit our ability to develop other indications of existing products as well as indications for new products.

Foreign Regulatory Approvals. We must obtain regulatory approval by governmental agencies in other countries prior to commercialization of our products in those countries. Foreign regulatory systems may be rigorous, costly and uncertain. In July 2011, we received marketing approval for BENLYSTA in both the European Union and in Canada. Regulatory applications have also been submitted and are currently under consideration in Australia, Brazil, Columbia, Israel, The Philippines, Russia, Singapore, Switzerland and Taiwan. Foreign regulatory approvals, even if obtained, may be limited to specific indications, limit the type of patients in which the drug may be used, or otherwise require specific warning or labeling language, any of which might reduce the commercial potential of the product.

We are subject to environmental, health and safety laws that may restrict us from conducting our business in the most economically advantageous manner.

We are subject to various laws and regulations relating to safe working conditions, laboratory and

 

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manufacturing practices, the experimental use of animals, emissions and wastewater discharges, and the use and disposal of hazardous or potentially hazardous substances used in connection with our research, including radioactive compounds and infectious disease agents. We also cannot accurately predict the extent that regulations that might result from any future legislative or administrative action might affect our business. Any of these laws or regulations could cause us to incur additional expense or restrict our operations.

INTELLECTUAL PROPERTY RISKS

If our patent applications do not result in issued patents or if patent laws or the interpretation of patent laws change, our competitors may be able to obtain rights to and commercialize our discoveries.

Our pending patent applications, including those covering full-length genes and their corresponding proteins, may not result in the issuance of any patents. Our applications may not be sufficient to meet the statutory requirements for patentability in all cases or may be subject to challenge if they do issue. Important legal issues remain to be resolved as to the extent and scope of available patent protection for biotechnology products and processes in the United States and other important markets outside the United States, such as Europe and Japan. For example, a recent U.S. district court decision involving Myriad Genetics expressed concerns regarding the patentability of isolated human genes and gene-based diagnostic methods; this case is on appeal to the U.S. Court of Appeals for the Federal Circuit. Foreign markets may not provide the same level of patent protection as provided under the U.S. patent system. We expect that litigation or administrative proceedings will likely be necessary to determine the validity and scope of certain of our and others’ proprietary rights. We are currently involved in a number of litigation and administrative proceedings relating to the scope of protection of our patents and those of others in the United States and the rest of the world.

In addition, the United States Congress is considering significant changes to U.S. intellectual property laws that could affect the extent and scope of existing protections for biotechnology products and processes. For example, the U.S. Senate recently passed the “America Invents Act,” which in part provides opportunities for third parties to challenge issued patents and submit evidence to be considered by the Patent Office prior to the issuance of a patent. Similar legislation was recently passed by the U.S. House of Representatives. Changes in, or different interpretations of, patent laws in the United States and other countries may result in patent laws that allow others to use our discoveries or develop and commercialize our products or prevent us from using or commercializing our discoveries and products.

On January 25, 2011, HGS filed suit against Genentech, Inc. and City of Hope in the United States District Court for the District of Delaware seeking a ruling that U.S. Patent No. 6,331,415 (the “Cabilly II Patent”) is invalid, unenforceable, and not infringed by the manufacture, use, importation, offer for sale and sale of BENLYSTA. On February 18, 2011, HGS filed a separate suit against Genentech in the United States District Court for the District of Delaware seeking a ruling that Genentech violated numerous antitrust and unfair competition laws in obtaining and enforcing the Cabilly II patent. On April 12, 2011, HGS filed suit against Genentech and City of Hope in the United States District Court for the District of Delaware seeking a ruling that U.S. Patent No. 7,923,221 (the “Cabilly III Patent”) is invalid, unenforceable, and not infringed by the manufacture, use, importation, offer for sale and sale of BENLYSTA. On the same day, Genentech and City of Hope filed an infringement action against HGS, Glaxo Group Ltd., and GlaxoSmithKline LLC, in the United States District Court for the Central District of California, alleging that the manufacture, offer for sale and sale of BENLYSTA infringes one or more claims of the Cabilly III patent. On July 18, 2011, the Delaware court granted motions filed by Genentech and City of Hope and, as a result, issued an order transferring the Delaware actions related to Cabilly II and Cabilly III to the Central District of California.

We have also been involved in a number of interference proceedings brought by the United States Patent and Trademark Office (“PTO”) and may be involved in additional interference proceedings in the future. These proceedings determine the priority of inventions and, thus, the right to a patent for technology in the U.S.

We are also involved in a revocation proceeding in the UK brought by Eli Lilly and Company with respect

 

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to our European (“EP”) patent related to BlyS compositions, including antibodies. In 2008, the UK High Court ruled that this patent was invalid in the UK. Eli Lilly had also challenged this patent at the EPO, and in late 2009, an EPO Technical Board of Appeal held that the patent was valid. Nevertheless, in early 2010, the UK Court of Appeal disagreed with the EPO and upheld the UK High Court’s invalidation of the EP patent in the UK. The UK Supreme Court granted HGS permission to appeal this decision and heard the appeal the week of July 18, 2011. A decision is expected later this year.

We cannot assure you that we will be successful in any of these proceedings. Moreover, any such litigation or proceeding may result in a significant commitment of resources in the future and could force us to do one or more of the following: cease selling or using any of our products that incorporate the challenged intellectual property, which would adversely affect our revenue; obtain a license from the holder of the intellectual property right alleged to have been infringed, which license may not be available on reasonable terms, if at all; and redesign our products to avoid infringing the intellectual property rights of third parties, which may be time-consuming or impossible to do. In addition, such litigation or proceeding may allow others to use our discoveries or develop or commercialize our products. We cannot assure you that the patents we obtain or the unpatented technology we hold will afford us significant commercial protection.

If others file patent applications or obtain patents similar to ours, then the United States Patent and Trademark Office may deny our patent applications, or others may restrict the use of our discoveries.

We are aware that others, including universities, government agencies and companies working in the biotechnology and pharmaceutical fields, have filed patent applications and have been granted patents in the United States and in other countries that cover subject matter potentially useful or necessary to our business. Some of these patents and patent applications claim only specific products or methods of making products, while others claim more general processes or techniques useful in the discovery and manufacture of a variety of products. The risk of third parties obtaining additional patents and filing patent applications will continue to increase as the biotechnology industry expands. We cannot predict the ultimate scope and validity of existing patents and patents that may be granted to third parties, nor can we predict the extent to which we may wish or be required to obtain licenses to such patents, or the availability and cost of acquiring such licenses. To the extent that licenses are required, the owners of the patents could bring legal actions against us to claim damages or to stop our manufacturing and marketing of the affected products. We believe that there will continue to be significant litigation in our industry regarding patent and other intellectual property rights. Such litigation could consume a substantial portion of our resources.

Because issued patents may not fully protect our discoveries, our competitors may be able to commercialize products similar to those covered by our issued patents.

Issued patents may not provide commercially meaningful protection against competitors and may not provide us with competitive advantages. Other parties may challenge our patents or design around our issued patents or develop products providing effects similar to our products. In addition, others may discover uses for genes, proteins or antibodies other than those uses covered in our patents, and these other uses may be separately patentable. The holder of a patent covering the use of a gene, protein or antibody for which we have a patent claim could exclude us from selling a product for a use covered by its patent.

We rely on our collaboration partners to seek patent protection for the products they develop based on our research.

A significant portion of our future revenue may be derived from royalty payments from our collaboration partners. These partners face patent protection issues similar to those that we and other biotechnology or pharmaceutical companies face. As a result, we cannot assure you that any product developed by our collaboration partners will be patentable, and therefore, revenue from any such product may be limited, which would reduce the amount of any royalty payments. We also rely on our collaboration partners to effectively prosecute their patent applications. Their failure to obtain or protect necessary patents could also result in a loss of royalty revenue to us.

 

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If we are unable to protect our trade secrets, others may be able to use our secrets to compete more effectively.

We may not be able to meaningfully protect our trade secrets. We rely on trade secret protection to protect our confidential and proprietary information. We believe we have acquired or developed proprietary procedures and materials for the production of proteins and antibodies. We have not sought patent protection for these procedures. While we have entered into confidentiality agreements with employees and collaborators, we may not be able to prevent their disclosure of these data or materials. Others may independently develop substantially equivalent information and processes.

Other parties may seek to cancel or revoke our trademarks and/or restrict the use of our trademarks.

Our trademarks, including BENLYSTA, are important to us and are generally covered by trademark applications or registrations in the United States and in other countries. Trademark protection varies in accordance with local law, and continues in some countries for as long as the mark is used and in other countries for as long as the mark is registered. Trademark registrations are generally for fixed but renewable terms.

Our trademark applications may not be sufficient to meet the statutory requirements for registration in all cases or may be subject to challenge if they are registered. Other parties may seek to cancel or revoke our trademarks and/or restrict the use of our trademarks through litigation or administrative proceedings in both the United States and in the rest of the world. We cannot assure you that we will be successful in any such proceedings. Moreover, any such litigation or proceeding may require us to modify our trademarks or rebrand our products to avoid infringing the trademark rights of third parties This may be time-consuming and could adversely affect our revenue.

FINANCIAL AND MARKET RISKS

Because of our substantial indebtedness and lease obligations, we may be unable to adjust our strategy to meet changing conditions in the future.

As of June 30, 2011, we had convertible subordinated debt of $384.2 million ($402.8 million on a face value basis) and a long-term lease financing for our large-scale manufacturing facility of $251.4 million. During the six months ended June 30, 2011 we made cash interest payments on our convertible subordinated debt of $4.5 million. During the six months ended June 30, 2011 we made cash payments on our long-term lease financing of $12.4 million. In addition, we have operating leases, primarily our long-term operating lease for our headquarters, for which we made cash payments of $10.4 million during the six months ended June 30, 2011. Our substantial debt and long-term lease obligations will have several important consequences for our future operations. For instance:

 

   

payments of interest on, and principal of, our indebtedness and our long-term lease obligations will be substantial and may exceed then current income and available cash;

 

   

we may be unable to obtain additional future financing for marketing efforts, continued clinical trials, capital expenditures, acquisitions or general corporate purposes;

 

   

we may be unable to withstand changing competitive pressures, economic conditions and governmental regulations; and

 

   

we may be unable to make acquisitions or otherwise take advantage of significant business opportunities that may arise.

We may not have adequate financial resources available to repay our Convertible Subordinated Notes due 2011 (“2011 Notes”) and our Convertible Subordinated Notes due 2012 (“2012 Notes”) at maturity.

As of June 30, 2011, we had $402.8 million in face value of convertible subordinated debt outstanding, with

 

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$196.1 million and $206.7 million due in 2011 and 2012, respectively. Those notes are convertible into our common stock at conversion prices of approximately $15.55 and $17.78 per share, respectively. If our stock price does not exceed the applicable conversion price of those notes, upon maturity, we may need to pay the note holders in cash or restructure some or all of the debt. Our recent stock price has been above the conversion price and we believe we currently have sufficient unrestricted cash should note holders seek cash payment upon maturity. However, since there are other potential uses for these funds and it may be one or more years, if ever, before we are likely to generate significant positive cash flow from operations, we may not have enough cash, cash equivalents, short-term investments and marketable securities available to repay our debt upon maturity.

To become a successful biopharmaceutical company, we may need additional funding. If we do not obtain this funding on acceptable terms, we may not be able to generate sufficient revenue to repay our debt, to continue our research and development efforts or to launch and successfully market our products.

We continue to expend substantial funds on our research and development programs and human studies on current and future product candidates. We also expect to expend significant funds to support commercial marketing activities, to acquire other biotechnology companies or in-license and develop additional product candidates, and to enhance our manufacturing capacity. We may need additional financing to fund these activities. We may not be able to obtain additional financing on acceptable terms, if at all. If we raise additional funds by issuing equity securities, equity-linked securities or debt securities, the new equity securities may dilute the interests of our existing stockholders and the new debt securities may contain restrictive financial covenants.

Our need for additional funding will depend on many factors, including, without limitation:

 

   

the amount of revenue or cost sharing, if any, that we are able to obtain from our collaborations, any approved products, and the time and costs required to achieve those revenues;

 

   

the timing, scope and results of preclinical studies and clinical trials;

 

   

the size and complexity of our development programs;

 

   

the timing and costs involved in obtaining regulatory approvals;

 

   

the timing and costs of increasing our manufacturing capacity;

 

   

the costs of commercializing our products, including marketing, promotional and sales costs;

 

   

the commercial success of our products;

 

   

our stock price;

 

   

our ability to establish and maintain collaboration partnerships;

 

   

competing technological and market developments;

 

   

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

 

   

the costs involved in bringing and defending against litigation; and

 

   

scientific progress in our research and development programs.

If we are unable to raise additional funds, we may, among other things:

 

   

delay, scale back or eliminate some or all of our research and development programs;

 

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delay, scale back or eliminate some or all of our commercialization activities;

 

   

lose rights under existing licenses;

 

   

relinquish more of, or all of, our rights to product candidates on less favorable terms than we would otherwise seek; and

 

   

be unable to operate as a going concern.

Our short-term investments, marketable securities and restricted investments are subject to certain risks that could materially adversely affect our overall financial position.

We invest our cash in accordance with an established internal policy and customarily in instruments which historically have been highly liquid and carried relatively low risk. However, the capital and credit markets have experienced extreme volatility and disruption. Over the past several years, the volatility and disruption reached unprecedented levels. We maintain a significant portfolio of investments in short-term investments, marketable debt securities and restricted investments, which are recorded at fair value. Certain of these transactions expose us to credit risk in the event of default by the issuer. To seek to minimize our exposure to credit risk, we invest in securities with strong credit ratings and have established guidelines relative to diversification and maturity with the objective of maintaining safety of principal and liquidity. We do not invest in derivative financial instruments or auction rate securities, and we generally hold our investments in debt securities until maturity. In recent years, certain financial instruments, including some of the securities in which we have invested, have sustained downgrades in credit ratings and some high quality short-term investment securities have suffered illiquidity or events of default. Deterioration in the credit market may have an adverse effect on the fair value of our investment portfolio. Should any of our short-term investments, marketable securities or restricted investments lose significant value or have their liquidity impaired, it could materially and adversely affect our overall financial position by imperiling our ability to fund our operations and forcing us to seek additional financing sooner than we would otherwise. Such financing may not be available on commercially attractive terms, or at all.

We may be subject to product liability or other claims from the use of BENLYSTA or other of our products which could negatively affect our future operations. We have limited product liability insurance.

Our business exposes us to potential product liability and other liability risks that are inherent in the testing, manufacturing, marketing and sales of biopharmaceutical formulations and products and product candidates. If the use of one or more of our products or product candidates harms people, we may be subject to costly and damaging product liability claims. This liability might result from claims made directly by patients, hospitals, clinics or other consumers, or by other companies manufacturing these products on our behalf. Our future operations may be negatively affected from the litigation costs, settlement expenses, management resources and lost product sales inherent to these claims. In addition, negative publicity associated with any claims, regardless of their merit, may decrease the future demand for our products. Any of these effects could have a material adverse effect on our business, financial condition and results of operations. While we will continue to attempt to take appropriate precautions, we cannot assure you that we will avoid significant product liability exposure.

We currently maintain product liability insurance. There is no guarantee that such insurance will provide adequate coverage against potential liabilities. We may not be able to obtain or maintain adequate product liability insurance, when needed, on acceptable terms, if at all, or such insurance may not provide adequate coverage against potential liabilities. Furthermore, our current and potential partners with whom we have collaborative agreements or our future licensees may not be willing to indemnify us against these types of liabilities and may not themselves be sufficiently insured or have sufficient liquidity to satisfy any product liability claims. Claims or losses in excess of any product liability insurance coverage that may be obtained by us could have a material adverse effect on our business, financial condition and results of operations.

We are not currently profitable and might never become profitable.

We have a history of losses and expect to continue to incur substantial losses and negative operating cash flow, and we might never achieve or maintain profitability.

 

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OTHER BUSINESS RISKS

Our success is dependent on our continued ability to attract, motivate and retain key personnel. If we lose or are unable to attract key management or other personnel, it could have a material adverse effect on our business, financial condition and results of operations.

Much of our progress to date has resulted from the particular scientific, technical and management skills of personnel available to us. Competition for qualified employees is intense among pharmaceutical and biotechnology companies. Part of being able to attract, motivate and retain key personnel is our ability to offer a competitive compensation package, including cash bonus and equity incentive awards. Our ability to offer attractive equity incentive awards in the future may be limited or nonexistent if we are unable to obtain stockholder approval to maintain a sufficient number of shares under our stock incentive plan. If we are unable to provide a compensation package that is competitive within our industry, or otherwise successfully compete to attract, motivate and retain qualified management and other highly skilled employees, this could materially adversely affect the implementation of our business strategy, delay the commercialization of our products or prevent us from becoming profitable.

We may be unable to fulfill the terms of our contract manufacturing agreements with our customers for manufacturing process development and supply of selected biopharmaceutical products.

To more fully utilize our existing manufacturing capacity, we have entered into agreements with customers pursuant to which we have agreed to develop manufacturing processes for, and manufacture clinical and commercial supplies of, certain biopharmaceutical products, and may enter into similar agreements with other potential customers in the future. Our receipt of revenue under these agreements is dependent on our ability to successfully manufacture such products. If we are unable to develop a validated manufacturing process for such products, are unable to deliver product that meets the manufacturing specifications, or otherwise unable to deliver product in accordance with the applicable contractual provisions, we may not receive any additional payments under such agreements. Even if successful, we may not be able to enter into additional agreements with other customers. Any current or future customers may decide to discontinue the products contemplated under these agreements, and therefore we may not receive revenue from these agreements.

RISKS RELATED TO OWNERSHIP OF OUR COMMON STOCK

The market price of our common stock may be lower or more volatile than you expected.

Our stock price, like the stock prices of many other biotechnology companies, has been highly volatile. During the preceding twelve months, the closing price of our common stock has been as low as $21.84 per share and as high as $30.18 per share. These broad market fluctuations may cause the market price of our common stock to be lower or more volatile than you expected.

The price and volume fluctuations in our stock may often be unrelated to our operating performance. The market price of our common stock could fluctuate widely because of:

 

   

future announcements about our company or our competitors, including the results of testing, clinical trials, technological innovations or new commercial products;

 

   

regulatory actions with respect to our potential products or regulatory approvals with respect to our competitors’ products;

 

   

changes in government regulations;

 

   

developments in our relationships with our collaboration partners;

 

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developments affecting our collaboration partners;

 

   

announcements relating to health care reform and reimbursement levels for new drugs;

 

   

our failure to acquire or maintain proprietary rights to the gene sequences we discover or the products we develop;

 

   

litigation;

 

   

public concern as to the safety of our products; and

 

   

political and economic factors affecting market prices generally or our market segment or our company particularly.

The issuance and sale of shares underlying our outstanding convertible debt securities and options, as well as the sale of additional equity or equity-linked securities would dilute the holdings of our existing stockholders and may materially and adversely affect the price of our common stock.

Sales of substantial amounts of shares of our common stock or securities convertible into or exchangeable for our common stock in the public market, or the perception that those sales may occur, could cause the market price of our common stock to decline. We have used and may continue to use our common stock or securities convertible into or exchangeable for our common stock to acquire technology, product rights or businesses, or for other purposes. Our authorized capital stock consists of 400,000,000 shares of common stock, par value $0.01 per share. As of June 30, 2011, we had 190,669,002 shares of common stock outstanding. In addition, an aggregate of approximately 24,238,308 shares of our common stock are issuable upon conversion of our outstanding 2011 Notes and outstanding 2012 Notes at an applicable conversion price of $15.55 and $17.78 per share, respectively; 26,040,429 shares of our common stock are issuable upon the exercise of options outstanding as of June 30, 2011, having a weighted-average exercise price of $6.49 per share, including 3,910,965 stock options granted during the six months ended June 30, 2011 with a weighted-average grant date fair value of $15.09 per share; and 371,943 shares of our common stock are issuable upon the vesting of restricted stock unit awards outstanding as of June 30, 2011. If we issue additional equity securities, including in exchange for our outstanding convertible debt or in connection with the exercise or vesting of equity awards, the price of our common stock may be materially and adversely affected and the holdings of our existing stockholders would be diluted.

Our certificate of incorporation and bylaws could discourage acquisition proposals, delay a change in control or prevent transactions that may be in your best interests.

Provisions of our certificate of incorporation and bylaws, as well as Section 203 of the Delaware General Corporation Law, may discourage, delay or prevent a change in control of our company that you as a stockholder may consider favorable and may be in your best interest. Our certificate of incorporation and bylaws contain provisions that:

 

   

authorize the issuance of up to 20,000,000 shares of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and discourage a takeover attempt;

 

   

limit who may call special meetings of stockholders; and

 

   

establish advance notice requirements for nomination of candidates for election to the board of directors or for proposing matters that can be acted upon by stockholders at stockholders’ meetings.

 

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Item 6. Exhibits

 

10.1    Third Amendment, dated as of July 18, 2011, to Employment Agreement between the Company and H. Thomas Watkins.
10.2    Form of Executive Agreement between the Company and individual executive.
10.3    Second Amendment to Second Amended and Restated Key Executive Severance Plan.
31.1    Rule 13a-14(a) Certification of Principal Executive Officer.
31.2    Rule 13a-14(a) Certification of Principal Financial Officer.
32.1    Section 1350 Certification of Principal Executive Officer.
32.2    Section 1350 Certification of Principal Financial Officer.
101.INS*    XBRL Instance Document
101.SCH*    XBRL Schema Document
101.CAL*    XBRL Calculation Linkbase Document
101.DEF*    XBRL Definition Linkbase Document
101.LAB*    XBRL Labels Linkbase Document
101.PRE*    XBRL Presentation Linkbase Document

 

* In accordance with Regulation S-T, the XBRL-related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall be deemed to be “furnished” and not “filed”.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

HUMAN GENOME SCIENCES, INC.

BY:  

/s/ H. Thomas Watkins

  H. Thomas Watkins
  President and Chief Executive Officer
  (Principal Executive Officer)
BY:  

/s/ David P. Southwell

  David P. Southwell
  Chief Financial Officer and Executive Vice President
  (Principal Financial Officer and Principal Accounting Officer)

Dated: July 28, 2011

 

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EXHIBIT INDEX

Exhibit Page Number

 

10.1    Third Amendment, dated as of July 18, 2011, to Employment Agreement between the Company and H. Thomas Watkins.
10.2    Form of Executive Agreement between the Company and individual executive.
10.3    Second Amendment to Second Amended and Restated Key Executive Severance Plan.
31.1    Rule 13a-14(a) Certification of Principal Executive Officer.
31.2    Rule 13a-14(a) Certification of Principal Financial Officer.
32.1    Section 1350 Certification of Principal Executive Officer.
32.2    Section 1350 Certification of Principal Financial Officer.
101.INS*    XBRL Instance Document
101.SCH*    XBRL Schema Document
101.CAL*    XBRL Calculation Linkbase Document
101.DEF*    XBRL Definition Linkbase Document
101.LAB*    XBRL Labels Linkbase Document
101.PRE*    XBRL Presentation Linkbase Document

 

* In accordance with Regulation S-T, the XBRL-related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall be deemed to be “furnished” and not “filed”.
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