Penwest Pharmaceuticals Co. Q1 2009 Earnings Call Transcript

Penwest Pharmaceuticals Co. (PPCO)

Q1 2009 Earnings Call

May 7, 2009; 11:00 am ET

Executives

Jennifer Good - President & Chief Executive Officer

Frank Muscolo - Corporate Controller & Chief Accounting Officer

Analysts

Bert Holten - BMO Capital Markets

Scott Henry - Roth Capital

Arthur Friedman - Friedman Asset Management

Presentation

Operator

Good morning. My name is Allison and I will be your conference operator today. At this time I would like to welcome everyone to the Penwest Pharmaceuticals, first quarter 2009 financial results conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. (Operator Instructions)

The matters discussed herein contain forward-looking statements that involve risks and uncertainties, which may cause the actual results in future periods to be materially different from any future performance suggested herein.

For this purpose any statements containing herein that are not statements of historical facts may be deemed to be forward-looking statements. Without limiting the foregoing the words believe, anticipates, plans, expects, intends, potential, may, could and similar expressions are intended to identify forward-looking statements.

Important factors that could cause results to differ materially include risks related to the commercial success of Opana ER, including our reliance on Endo Pharmaceuticals Inc. for the commercial success of Opana ER and risks of generic competition, the need for capital, regulatory risks relating to drugs and development, including the timing and outcome of regulatory submissions and regulatory actions, uncertainty of success of collaborations, the timing of clinical trials whether the results of clinical trials will warrant further clinical trials, warrant submission of an application for regulatory approval of or warranty the regulatory approval of the product that is the subject of the drug trial, whether the patents or patent applications owned by us will protect the company’s products and technology, actual and potential competition and other risks as set forth under the “Risk Factors” intend with the annual report on Form 10-K filed with the Securities and Exchange Commission on March 16, 2009, which risk factors are incorporated herein by reference.

The forward-looking statements contained in this press release speak only as of the date the statements made. Penwest disclaims any intention or obligation to update the forward-looking statements and these statements should not be relied upon as representing the company’s estimates or views as of any date subsequent to the date of this release. TIMERx is a registered trademark of Penwest. All other trademarks referenced herein are the property of their respective owners.

I will now turn the call over to Ms. Jennifer Good, President and Chief Executive Officer. Thank you Ms. Good, you may now begin your conference.

Jennifer Good

Good morning. Welcome to our review and discussion of Penwest results for the first quarter ended March 31, 2009. Joining me on the call today is Frank Muscolo, Penwest’s Corporate Controller and Chief Accounting Officer.

This continues to be a very busy and productive period for our company. I will take a few minutes to provide an update on the various aspects of our business and the progress against our stated goals for 2009. Frank will then discuss the financial results for the quarter and I will make some closing remarks. We will then open up the call to answer questions that you may have.

My comments today will remain focused on the operations of the company and the progress we are making against our business plan. As all of you probably know, we are in the midst of a proxy contest.

We will be mailing our proxy in the next day or two and we will be spending a significant amount of time speaking with you about the issues over the next few weeks. I would therefore like to keep today’s session focused on our first quarter results and the business itself and would appreciate it if you hold any questions you may have on this subject for a later time.

As our first quarter results demonstrate, our financial performance has continued to improve significantly. Compared with the first quarter of 2008, revenues for Q1 2009 increased sharply as we recorded royalty revenue of $4.4 million from Opana ER. Operating expenses decreased by 45% and our net loss was significantly reduced. We expect to be profitable on a quarterly basis in the fourth quarter of this year and for the full year 2010.

We continue to make progress on the following four key goals of our business plan for 2009; maximizing the value of Opana ER with our partner Endo Pharmaceuticals; advancing the development of A0001, our promising compound for mitochondrial diseases; monetizing the value of the company’s proven drug delivery technologies and drug formulation expertise; and aggressively managing the companies overhead and other costs.

In determining these goals, the Board considered how to create shareholder value and moved the company forward in the most efficient and cost effective way. We believe this plan can build value for our shareholders, not only this year, but also over the long term. I’ll discuss the progress we made on each of these goals during the quarter. Let me begin with maximizing the value of Opana ER.

For the first quarter of 2009, as I’ve mentioned, we recorded royalty revenue from this product of $4.4 million. Net sales for the first quarter of 2009 for Opana ER increased 20% as compared with the first quarter of 2008. The total net sales for Q1 2009 for Opana ER were $40 million, compared to $33 million in the first quarter a year ago. As these results show, this product is continuing on a nice growth trajectory. It is steadily gaining market share and Endo has broadened the managed care access for the product.

We are also working hard to expand the revenue strength from Opana. Licensing this asset outside the U.S is a high priority for us this year and we are taking the business development lead to identify partners to develop and commercialize the product in multiple territories. These efforts have been going well and I believe we will find a deal by the end of the first half of this year in at least one of the territories. We jointly own these rights with Endo and the economics of any deal will be split with them 50-50.

Now turning to A0001, the company’s lead internal development program, the Phase Ib trial is underway. The trial is designed to evaluate the safety and tolerability of A0001 and characterize the pharmacokinetic profile following repeat dosing. We expect to announce the data from this trial late in the second quarter. This safety trial represents the final hurdle, before being able to advance A0001 into a Phase IIa efficacy study in patients in the second half of this year.

Our clinical team has been busy working with experts in this field to design a Phase IIa program. We currently plan to initiate our Phase IIa study in patients in the second half of this year, with data analysis complete in the early part of next year. Therefore we still plan to turnover the card on the proof of concept around safety later this year and on efficacy by the first quarter of next year.

This drug is based on exciting science, has shown a lot of promise in preclinical and Phase I clinical studies and addresses an important unmet medical need. Based on that and the limited time and cost needed to better understand A0001’s potential, the Board and Management strongly believe that it is important to advance the compound through this space of development, to determine its potential value for our shareholders. If our findings from these trials do not support further advancing development of this drug, we will discontinue this program.

Our third priority is expanding and executing on our drug delivery collaborations, thereby monetizing our drug delivery technology. I am very pleased with how this business is progressing and contributing not only to the increasing revenues of the company, but to our scientific knowledge and reputation within the industry.

We have three ongoing collaborations, two with Otsuka and one with Cobalt. The development work on all these arrangements has advanced nicely, despite the technical challenges of each drug. As our scientific team likes to remind me, nobody outsources the easy drugs.

Our business development team is in discussions on multiple opportunities herein in Europe. The economic environment makes deal making overall challenging, but based on the status of our ongoing negotiations and discussions, I still expect we can achieve our goal of completing at least two deals this year.

Finally I want to spend a few minutes talking about the financial discipline with which we are managing the company, which I believe is clearly reflected in our first quarter results. This is the second straight quarter in which we have demonstrated a meaningful reduction in our operating costs. For the first quarter we have reduced our operating expenses by $4.9 million or 45%, compared with the first quarter of last year. Importantly, we also reduced our expenses from the fourth quarter of 2008 levels by $1.1 million or 16%.

We have reduced spending significantly in both G&A expenses and in R&D as we have focused R&D pipeline on our most interesting program in A0001. As we had previously announced, we’ve reduced our staff by an additional 18% in the first quarter of this year, adding to a reduction we made in the first quarter of last year. We are focused on every aspect of our spending and challenge every dollar with regard to advancing our plan.

Currently we are having to spend a significant amount of money on the proxy side which includes the cost of defending against related litigation. Given these circumstances we are doing what we can to make up these costs in other areas.

I will now turn it over to Frank to discuss our financial results for the quarter in more detail. Frank.

Frank Muscolo

Thank you, Jennifer and good morning everyone. I will spend a few minutes reviewing our financial results for the first quarter of 2009. The net loss for the first quarter of 2009 declined significantly to $962,000 or $0.03 per share, compared with the net loss of $10.3 million or $0.41 per share in the first quarter of 2008.

The decrease in the loss primarily reflects the increased revenues from Opana ER, as well as a 45% reduction in our total operating expenses compared with the first quarter of 2008. I’ll now review each of these components in more detail.

Total revenues for the first quarter were $5.3 million compared with $739,000 in the first quarter of 2008. This increase in revenues was primarily due to $4.4 million of royalties recognized from Endo on its sales of Opana ER. In addition, revenues recognized from collaborative licensing and development increased in the first quarter of 2009 compared with the first quarter of 2008, in connection with the three drug delivery technology collaborations we have underway.

As a reminder, our royalty from Endo was currently being paid at an 11% rate, one-half of our contractual royalty rates, while we paid down the $28 million of unfunded development cost Endo was entitled to recover.

As of quarter end there was approximately $18.6 million remaining of unfunded development cost and based on Endo’s sales projections, we continue to expect that by year end 2009, Endo will have recovered substantially all of that amount. Royalty calculations will then revert to the full royalty rates in our agreement which range from 22% to 30% based on annual net sales of Opana ER.

As Jennifer mentioned, in January 2009 we implemented previously disclosed staff reductions, approximating 18% of our workforce, as part of our efforts to aggressively manage our overhead cost structure. This resulted in a severance charge in the first quarter of 2009 of approximately $550,000, approximately $355,000 of which is unpaid as of quarter end and will be paid out during 2009 in accordance with the respective severance agreement, with the longest individual payout extending into the fourth quarter.

In addition, as a result of the forfeiture stock options by these former employees, we recorded a non-cash credit in our statement of operations of approximately $885,000 in accordance with SFAS No. 123R. Both severance charge and the credit for stock-based compensation were primarily recorded as selling, general and administrative expenses in our statement of operations. We will begin to see the cost savings from this staff reduction in our second quarter.

Selling, general and administrative expenses in the first quarter were $2.3 million, compared with $4.3 million in the first quarter of 2008. This decrease of approximately $2 million was primarily the result of lower stock-based compensation expense, largely due to the credit recorded as a result of the staff reductions that I just discussed and the inclusion in the first quarter of 2008 of the $1 million reserve we established in connection with the $1 million loan the company made to Edison Pharmaceuticals.

Partially offsetting these decreases was the severance charge recorded in the first quarter of 2009 that I noted earlier, as well as cost of the proxy contest in which the company is involved.

Research and product development expenses for the first quarter were $3 million compared to $6.4 million in the first quarter of 2008. This decrease of $3.4 million reflects that in the first quarter of 2009 Penwest made no contractual payments to Edison under our collaboration agreement with Edison, as that contractual obligation is complete.

The decrease in the first quarter also reflects that Penwest incurred no expenses related to the development of nalbuphine ER, had lower compensation expenses primarily as a result of staff reductions implemented in March of 2008, and recorded increased allocations of internal R&D costs related to our drug delivery technology collaborations to the cost of revenues.

I’ll now take a moment to discuss our cash position and highlights of our cash flows for the first quarter. At quarter end March 31, 2009, we had cash and investments of $15 million, compared with $16.7 million at December 31, 2008. For the first quarter of 2009, our net cash used in operating activities was $311,000 compared with $8.5 million of net cash used in operating activities for the first quarter of 2008.

Cash used in financing activities in the first quarter included $1.4 million in principal payments on our term loan payable with GE Capital, compared with principal payments of $601,000 in the first quarter of 2008, as our scheduled principal payments increased in January, 2009, in accordance with our loan agreement. At quarter end March 31, 2009, we had $8.2 million of principal remaining on our term loan, which is expected to be fully paid off by September of 2010.

Now, let me turn the call back to Jennifer for closing remarks.

Jennifer Good

Before Frank and I take your questions, I would just sum briefly up by saying that we believe we have articulated a focused business plan with well defined milestones for 2009 and we are making substantial progress on all of the priorities laid out in our plan. The company is financially sound, its operating at close to breakeven and we believe we have adequate cash to fund our operations to at least 2010. We will continue to be accountable to ourself and to you, as we execute on this plan.

Finally in closing, I want to thank my colleagues at Penwest for their tremendous efforts and for their dedication to the company and our mission. Our team is positive, focused and highly motivated to succeed in carrying out our plan, building value for our shareholders and making a difference in the life of patients and their families.

I will now be happy to open up the call to questions that you may have.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question is from Bert Holten [Ph] with BMO Capital Markets.

Bert Holten - BMO Capital Markets

Holten is my last name. Hope all is well. My first question is with regard to the deal you’re referring to in Europe and the discussion surrounding that. Are you referring to one particular country there or how was the licensing going to progress there; and then I have another question.

Jennifer Good

Yes, so in Europe Bert, I think we would be some kind of a pan-European deal, we wouldn’t do country-by-country. I think in my comments what I was referring to is we’re not going to try to do a difficult deal and make one go over ex-U.S partner. We may do one deal in Canada, one in Europe, one in Asia, one in Latin America, the territories we can get licensed, but Europe I would think of as one territory.

Bert Holten - BMO Capital Markets

Okay. So we should expect you’re moving towards some sort of resolution with the party in one of those territories; whether it’s Canada or EU or another area?

Jennifer Good

Yes, this is an active process as we speak. I’m very happy with how discussions are going and as I reiterated, I expect we’ll have a deal signed by the end of the first half, so we’re closing in on it.

Bert Holten - BMO Capital Markets

Okay great. And just if you could give us an update on the patent situation again, the elephant in the room here with regard to Opana ER, and then may be if you can discuss anything with regard to any incremental data or information you could provide on combinations that are being contemplated with Opana and other analgesics? Thanks.

Jennifer Good

Your favorite question which I can never answer, but I can answer the first part of that. We have two key efforts underway here, that we are involved and to protect Opana ER, the patent prosecution and patent litigation.

On the patent prosecution side, we continue our efforts to prosecute additional TIMERx patent. I think even more importantly, Endo is aggressively prosecuting several clinical patents. They’ve got a handful of those patents at the PTO review board and we do expect the decision on those by the end of this year.

On the litigation side, we still have three ongoing suits as we’ve disclosed, we did settle with Actavis. The current trial date for that litigation is set for the spring of 2010; and Bert, your question on life cycle management, I hate to do this because I know you are looking for information there, but it’s just not appropriate for a partner to answer marketing strategy questions. So I’d encourage you to call Endo and see if you can get some information there.

Bert Holten - BMO Capital Markets

Okay, and just a quick follow-up on the litigation, has there been any timing set for Markman hearings for that?

Jennifer Good

There is a whole schedule laid out. It’s in discovery now and there is a date for Markman which I don’t know off the top of my head, but I do know the preliminary trial date is for the spring of 2010.

Bert Holten - BMO Capital Markets

Okay, thank you.

Jennifer Good

Okay Bert. Thank you.

Operator

Your next question is from Scott Henry with Roth Capital.

Scott Henry - Roth Capital

Thank you for taking the questions. I guess just for starters, I know you mentioned you didn’t want to take any questions on the proxy and you talked about future correspondent, will there be a forum to talk about company strategy as you alluded to or is that a forum effectively to vote.

Jennifer Good

So Scott, I’m happy to field questions on company strategy to be clear. I don’t want to talk about the specifics of the battle, but we are going to be actively meeting with investors and of course I’m always open to discuss this with you should you call in, but I’m happy to discuss strategy on this call.

Scott Henry - Roth Capital

Okay. Then I guess let me just start with just the specific questions; nalbuphine, where does that stand these days?

Jennifer Good

Yes, as you know we were active in trying to find a partnership for that last year. The pain market has gotten tough for a variety of reasons, which is why we sort of stopped and we’re seeking a partner. There are still people looking at that opportunity, although we did not put that in our focus goal through this year, because I’m not as confident about that as I’m the Opana ER, the drug delivery collaboration.

So it’s an asset that company has. We continue to try to seek somebody to move that along, but really I don’t focus our investors on that as a deliverable for 2009, just because it has been a challenging asset to license.

Scott Henry - Roth Capital

And you won’t be developing it any further, so I mean to me it’s shelved indefinitely I guess to be fair. Another question, you did a lot of things as Management and the Board, I know you participate on both over the past quarter; one of them was to shift the Board from nine members to eight, could you explain the rationale behind that decision?

Jennifer Good

So Scott, that has nothing to do with first quarter our company strategy, happy to do that over the next several weeks as part of the proxy battle.

Scott Henry - Roth Capital

Okay. I thought it did have to do with the company as an investment going forward, because my confusion was that there was a proposal that required 75% of the Board to approve measures going forward and by dropping it from nine to eight effectively, it gave control back to the original Board as opposed to new members; and for me that goes against shareholders and their ability to vote on that. So I was actually very disappointed to see that move.

Jennifer Good

I’m going to interrupt and ask that you don’t hijack the call. If you want to ask one more question on the business or operations I’m happy to answer it, but if you want to schedule a call and give a speech, we’re happy, you’re welcome to do that. So I’m happy to answer one more question from you on the business.

Scott Henry - Roth Capital

Okay. Then I will try to get it back to the business certainly. I guess for the rest of the business then, if you strip out the Opana royalty stream, what would your target of breakeven or I’d even say breakeven plus or minus $5 million, when do you expect that the rest of the business breakeven?

Jennifer Good

Well, so that would primarily be tied to the success of 0001 and I guess the success of these drug delivery collaborations. I don’t have that number and finally we haven’t tried to give three, four, five year guidance, but clearly those two pieces of business would have to drive that, they’re three years out.

Scott Henry - Roth Capital

Okay. Well, I do thank you for taking the question. I apologize for straying off of your directed path, but I would say I think its material in the purpose of these calls.

Jennifer Good

I’m going to cut you off thank you. Operator I’ll take the next question.

Operator

Your next question is from Arthur Friedman with Friedman Asset Management

Arthur Friedman – Friedman Asset Management

Hi Jennifer.

Jennifer Good

Good morning Arthur.

Arthur Friedman – Friedman Asset Management

How are you doing?

Jennifer Good

Good thanks.

Arthur Friedman – Friedman Asset Management

Okay, you need a rest here. My question is my usual update, I just want to understand on the royalty stream, if I wrote this down correctly there is $18 million left, is that correct, that still needs to be paid off to Opana?

Jennifer Good

I have Frank here beside here. Let him be exact.

Frank Muscolo

Yes, that was $18.6 million. It’s in the $18 million to $19 million range, correct.

Arthur Friedman – Friedman Asset Management

Okay. So my business question then is, going forward about which quarter do you think based on this quarter, I’m trying to calculate based on your financials here, how much you paid this quarter? Which quarter do you think you’re going to have that paid off? I mean, are you able to predict that out?

Frank Muscolo

Well, based on the forecasts which Endo has provided to us, we believe that as I mentioned early, that substantially all of that amount of the $28 million will have been recovered and we believe that it may just trickle into the first quarter of 2010, at which time that portion of the first quarter will result in the full royalty amount.

Arthur Friedman – Friedman Asset Management

Okay, that’s what I’m looking for. So the first quarter of ‘10 is when you shift to the next level?

Frank Muscolo

That’s correct yes; and probably if you were to look at it sort of like an early part of the quarter, so the majority of the quarter would be at the full rate.

Arthur Friedman – Friedman Asset Management

Okay and I will call offline about a question relating to the cost of the proxy, I won’t discuss it now. Thanks for that, and just to know when we compare year-by-year again, you guys have done I think fantastic in knocking down those costs in terms of the management of the company. I mean its clear looking year-over-year here.

Jennifer Good

Thank you, Arthur. We’re both tired at it and I will take your question on the proxy cost, because I think it’s relevant and it will get disclosed in our definitive proxy anyway. So we’ve estimated the cost of the proxy battle and all the related litigation, we’ve been sued three times here. It will cost us approximately $875,000.

I just want to point out to investors, this is not money we want to be spending on driving value and we did what we could to try and reasonable avoid it, but sadly that’s probably what it’s going to end up costing us. So, we’re working hard here to try and make that up in other aspects of the business.

Arthur Friedman – Friedman Asset Management

Thank you, Jennifer. Good luck.

Jennifer Good

Thank you, Arthur.

Operator

At this time there are no further questions.

Jennifer Good

Thank you for your time today. I look forward to keeping you informed of our progress in 2009. The Board is unanimous in its belief that we are following the right path for Penwest to build value for shareholders, both in 2009 and over the long term. Our business plan is focused and executable and we will continue to be accountable to you as we implement it. Thank you for your continued support.

Operator

Thank you all for participating in Penwest Pharmaceutical’s first quarter 2009 financial results conference call. You may now disconnect.

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