# Vertex Pharmaceuticals Inc / Ma: Form 10-Q for the period ended Sep 30, 2009 - Company: [Vertex Pharmaceuticals Inc / Ma](/companies/vrtx.md) (CIK 875320) - Form: 10-Q - Filed: 2009-11-09 - Accepted by EDGAR: Nov 9, 2009, 21:45 ET - Period: 2009-09-30 - Accession: 0001047469-09-009834 - Inline XBRL: no - Main document: https://www.sec.gov/Archives/edgar/data/875320/000104746909009834/a2195217z10-q.htm - All documents and exhibits: https://www.sec.gov/Archives/edgar/data/875320/000104746909009834/ ## Management's discussion and analysis As filed, 81,333 characters. ### Overview We are in the business of discovering, developing and commercializing small molecule drugs for the treatment of serious diseases. Telaprevir, our lead drug candidate, is an oral hepatitis C protease inhibitor and one of the most advanced of a new class of antiviral treatments in clinical development that targets hepatitis C virus, or HCV, infection. Telaprevir is being evaluated in a fully-enrolled registration program focused on treatment-naïve and treatment-failure patients with genotype 1 HCV. We currently intend to submit a new drug application, or NDA, for telaprevir in the United States in the second half of 2010, assuming the successful completion of the registration program. We also are developing, among other compounds, VX-770 and VX-809, drug candidates for the treatment of patients with cystic fibrosis, or CF, and VX-509, a Janus kinase 3, or JAK3, inhibitor designed for the treatment of immune-mediated inflammatory diseases including rheumatoid arthritis. In the second quarter of 2009, we began a registration program for VX-770 that focuses on patients with CF who have the G551D mutation in the gene responsible for CF. We intend to continue investing in our research programs with the goal of adding to our pipeline drug candidates designed to address significant unmet medical needs and provide substantial benefits to patients. #### Business Focus Over the upcoming years, we expect to focus a substantial portion of our resources on the development and commercialization of telaprevir. Our clinical development program is designed to support registration by us of telaprevir in North America for treatment-naïve and treatment-failure patients with genotype 1 HCV, and by our collaborators, Janssen Pharmaceutica, N.V., a Johnson & Johnson company, and Mitsubishi Tanabe Pharma Corporation, in international markets. In the second quarter of 2009, we initiated a registration program for VX-770 focused on patients with CF who have the G551D mutation. We also expect to continue the development of VX-809, an investigational corrector compound that is being evaluated in a Phase 2a clinical trial in patients with CF. As a result, we expect that over the next several years we will need to substantially increase resources focused on the development of our CF drug candidates. We plan to leverage the infrastructure that we are building in preparation for the potential launch of telaprevir to support the potential launch of VX-770. In addition to the registration programs for telaprevir and VX-770, we plan to continue investing in our research and development programs and to develop selected drug candidates that emerge from those programs, alone or with third-party collaborators. We believe that meaningful information will be provided by ongoing and planned Phase 2 clinical trials for a number of our earlier-stage drug candidates, including a planned combination clinical trial in patients with HCV of telaprevir with VX-222, our recently acquired HCV polymerase inhibitor, ongoing and planned Phase 2 clinical trials of VX-809 in patients with the most common CF mutation, and a planned Phase 2a clinical trial of VX-509 in patients with moderate to severe rheumatoid arthritis, allowing us to make decisions regarding future development activities in these programs. #### Drug Discovery and Clinical Development Discovery and development of a new pharmaceutical product is a lengthy and resource-intensive process, which may take 10 to 15 years or more. Throughout this entire process, potential drug candidates are subjected to rigorous evaluation, driven in part by stringent regulatory considerations, designed to generate information concerning efficacy, side-effects, proper dosage levels and a variety of other physical and chemical characteristics that are important in determining whether a drug candidate should be approved for marketing as a pharmaceutical product. The toxicity characteristics and profile of drug candidates at varying dose levels administered for varying periods of time also are monitored and evaluated during the nonclinical and clinical development process. Most chemical compounds that are investigated as potential drug candidates never progress into formal development, and most drug candidates that do advance into formal development never become commercial products. A drug candidate's failure to progress or advance may be the result of any one or more of a wide range of adverse experimental outcomes including, for example, the lack of sufficient efficacy against the disease target, the lack of acceptable absorption characteristics or other physical properties, difficulties in developing a cost-effective manufacturing or formulation method, or the discovery of toxicities or side-effects that are unacceptable for the disease indication being treated or that adversely affect the competitive commercial profile of the drug candidate. Designing, coordinating and conducting large-scale clinical trials to determine the efficacy and safety of drug candidates and to support the submission of an NDA requires significant financial resources, along with extensive technical and regulatory expertise and infrastructure. Prior to commencing a late-stage clinical trial of any drug candidate, we must work collaboratively with regulatory authorities, including the United States Food and Drug Administration, or FDA, in order to identify the specific scientific issues that need to be addressed by the clinical trials in order to support continued development and approval of the drug candidate. These discussions with regulatory authorities typically occur over a period of months and can result in significant changes to planned clinical trial designs or timelines. In addition, even after agreement with respect to a clinical trial design has been reached, regulatory authorities may request additional clinical trials or changes to existing clinical trial protocols. If the data from our ongoing clinical trials or nonclinical studies regarding the safety or efficacy of our drug candidates are not favorable, we may be forced to delay or terminate the clinical development program, which, particularly in the case of telaprevir, would materially harm our business. Further, even if we obtain marketing approvals from the FDA and comparable foreign regulatory authorities in a timely manner, we cannot be sure that the drug will be commercially successful. Our investments are subject to the considerable risk that one or more of our drug candidates will not progress to product registration due to a wide range of adverse experimental outcomes. We monitor the results of our clinical trials, discovery research and our nonclinical studies and frequently evaluate our portfolio investments in light of new data and scientific, business and commercial insights with the objective of balancing risk and potential. This process can result in relatively abrupt changes in focus and priority as new information becomes available and is analyzed and we gain additional insights into ongoing programs and potential new programs. Although we believe that our development activities and the clinical trial data we have obtained to date have reduced the risks associated with obtaining marketing approval for telaprevir, we cannot be sure that our development of telaprevir will lead successfully to regulatory approval of telaprevir on a timely basis, or at all, or that obtaining regulatory approval will lead to commercial success of telaprevir. With respect to our other drug candidates, we have more limited data from clinical trials and nonclinical studies and as a result it is difficult to predict which, if any, of these drug candidates will result in pharmaceutical products. #### Drug Candidates ### HCV #### Telaprevir Telaprevir, our oral HCV protease inhibitor, is being investigated in a registration program focused on patients with genotype 1 HCV that includes ADVANCE and ILLUMINATE, which are Phase 3 clinical trials in treatment-naïve patients, and REALIZE, which is a Phase 3 clinical trial in treatment-failure patients. Enrollment in ADVANCE, ILLUMINATE and REALIZE was completed in October 2008, January 2009 and February 2009, respectively. Telaprevir dosing is complete in all three of these Phase 3 clinical trials. We expect to have sustained viral response, or SVR, data from the ADVANCE and ILLUMINATE clinical trials in the first half of 2010 and SVR data from the REALIZE clinical trial in mid-2010. We currently intend to submit an NDA for telaprevir in the second half of 2010, assuming the successful completion of our ongoing registration program. In addition to the clinical trials in our registration program, several additional clinical trials are being conducted by us and our collaborators. The successful development and commercialization of telaprevir is critical to the success of our business as currently conducted. While we are devoting significant resources, time and attention to the development, potential regulatory approval and a successful commercial launch of telaprevir, all of these efforts involve significant scientific and execution risks and can be adversely affected by events, such as competitive activities, adverse trial results and regulatory actions, outside of our direct control. #### PROVE Phase 2b Clinical Trials We have completed three Phase 2b clinical trials of telaprevir-based combination therapy in patients with genotype 1 HCV, which enrolled an aggregate of approximately 580 treatment-naïve patients and 440 patients who did not achieve an SVR with a previous treatment with pegylated-interferon, or peg-IFN, and ribavirin, or RBV. The SVR rates on an intent-to-treat basis of the patients in the 24-week telaprevir-based treatment arms and the control arms of PROVE 1 and PROVE 2, the two Phase 2b clinical trials that evaluated treatment-naïve patients, are set forth in the table below: | 24-week telaprevir-based treatment arm: | PROVE 1 | PROVE 2 | | --- | ---: | ---: | | telaprevir in combination with peg-IFN and RBV for 12 weeks, followed by peg-IFN and RBV alone for 12 weeks | 61% | 69% | | **48-week control arm:** | | | | 48 weeks of therapy with peg-IFN and RBV | 41% | 46% | The SVR rates of the patients on an intent-to-treat basis in the 24-week telaprevir-based triple-therapy treatment arm, the 48-week telaprevir-based treatment arm and the control arm of PROVE 3, the Phase 2b clinical trial that evaluated treatment-failure patients, are set forth in the table below: | | Non-responders | Relapsers | Breakthroughs | Total | | --- | --- | --- | --- | --- | | **24-week telaprevir-based triple-therapy treatment arm:** | | | | | | telaprevir in combination with peg-IFN and RBV for 12 weeks, followed by peg-IFN and RBV alone for 12 weeks | 39% (n=66) | 69% (n=42) | 57% (n=7) | 51% (n=115) | | **48-week telaprevir-based treatment arm:** | | | | | | telaprevir in combination with peg-IFN and RBV for 24 weeks, followed by peg-IFN and RBV alone for 24 weeks | 38% (n=64) | 76% (n=41) | 50% (n=8) | 52% (n=113) | | **48-week control arm:** | | | | | | 48 weeks of therapy with peg-IFN and RBV | 9% (n=68) | 20% (n=41) | 40% (n=5) | 14% (n=114) | 32 The adverse event profile of telaprevir generally has been consistent across our Phase 2 clinical trials, which have principally involved clinical trial sites in North America and Europe. Safety data from our Phase 2 clinical trials indicated that the most common adverse events, regardless of treatment assignment, were fatigue, rash, headache and nausea. The most common adverse events reported more frequently in patients receiving telaprevir than in the control arms were gastrointestinal events, skin events—rash and pruritus—and anemia. There have been reports of severe rashes in clinical trials involving telaprevir-based treatments, including several reports from the clinical trials being conducted by Mitsubishi Tanabe in Japan, where telaprevir has advanced into Phase 3 clinical trials in combination with peg-IFN and RBV. Rash resulted in treatment discontinuations in the telaprevir-based treatment arms in approximately 7% of patients in PROVE 1 and PROVE 2 and 5% of patients in PROVE 3. Other adverse events reported in our Phase 2 clinical trials generally were similar in type and frequency to those seen with peg-IFN and RBV treatment. #### Additional Phase 2 Clinical Trials of Telaprevir In October 2009, we announced data from the C208 trial, which was an exploratory open-label clinical trial that enrolled 161 treatment-naïve patients infected with genotype 1 HCV. The purpose of the C208 trial was to compare twice-daily dosing regimens of telaprevir—1,125 mg every 12 hours—in combination with peg-IFN and RBV, with three-times daily dosing regimens—750 mg every 8 hours—in combination with peg-IFN and RBV. A three-times daily dosing regimen is being used in the ongoing registration program for telaprevir and has also been used in the other clinical trials for telaprevir. Patients received telaprevir, peg-IFN and RBV for 12 weeks followed by an additional 12 or 36 weeks of peg-IFN and RBV alone in a response-guided trial design. Patients who achieved undetectable HCV RNA—\<25 IU/mL, undetectable per Roche COBAS TaqMan HCV test—at week 4, which is referred to as a rapid viral response, or RVR, and who maintained undetectable HCV RNA through week 20, were able to stop all treatment after 24 weeks. Patients who did not meet the response-guided criteria received a total of 48 weeks of peg-IFN and RBV therapy. 18% of patients across the treatment arms were required to continue treatment for 48 weeks. The following table summarizes the RVR and SVR data on an intent-to-treat basis from the C208 trial. | Telaprevir Dosing | Combination Therapy | Total Number of Patients | RVR (undetectable at week 4 on treatment) | SVR (undetectable 24 weeks after end-of- treatment) | | --- | --- | ---: | --- | --- | | 1,125 mg every 12 hours | alfa-2a (PEGASYS)/RBV | 40 | 83% (n=33) | 83% (n=33) | | 1,125 mg every 12 hours | alfa-2b (PEGINTRON)/RBV | 39 | 67% (n=26) | 82% (n=32) | | 750 mg every 8 hours | alfa-2a (PEGASYS)/RBV | 40 | 80% (n=32) | 85% (n=34) | | 750 mg every 8 hours | alfa-2b (PEGINTRON)/RBV | 42 | 69% (n=29) | 81% (n=34) | The frequency and severity of adverse events and the rate of treatment discontinuations were similar to those reported in prior telaprevir trials. The most common adverse events reported in patients in this clinical trial were pruritis, nausea, rash, anemia, flu-like illness, fatigue and headache, and the adverse events were similar overall between the patient groups receiving three-times daily dosing and those receiving twice-daily dosing. Serious adverse events leading to permanent treatment discontinuation of all drugs occurred in 5% of patients and were mainly related to rash, which resulted in discontinuation of 4 out of 161, or 3%, of patients and anemia, which resulted in discontinuation of 3 out of 161, or 2%, of patients. In October 2009, we also announced interim data from a clinical trial, referred to as the 107 Trial, in patients who did not achieve an SVR in the control arms of the PROVE 1, PROVE 2 or PROVE 3 clinical trials. In the open-label 107 Trial, treatment-experienced patients with genotype 1 HCV were treated with telaprevir triple combination therapy for 12 weeks followed by 12 or 36 weeks of treatment with peg-IFN and RBV alone. In 2008, the protocol for the 107 Trial underwent several amendments, including important amendments that affected prior null-responders. The table below sets forth the interim data from 94 of the 117 patients enrolled in the 107 Trial, including SVR data and data regarding patients who relapsed in the 24 weeks after end-of-treatment. | Patient Group | Treatment Regimen | SVR | Viral Relapse Rates | | --- | --- | --- | --- | | Prior Null Responders | telaprevir triple combination for 12 weeks, followed by peg-IFN and RBV alone for 36 weeks | 57% (16/28) | 20% (4/20) | | Prior Partial Responders | 25 patients treated with telaprevir triple combination therapy for 12 weeks, followed by peg-IFN and RBV alone for 12 weeks | 55% (16/29) | 22% (5/23) | | | 3 patients treated with telaprevir triple combination therapy combination for 12 weeks, followed by peg-IFN and RBV alone for 36 weeks | | | | | 1 patient who discontinued prior to completing 12 weeks of telaprevir triple combination therapy | | | | Prior Relapsers | 25 patients treated with telaprevir triple combination therapy for 12 weeks, followed by peg-IFN and RBV alone for 12 weeks | 90% (26/29) | 4% (1/28) | | | 3 patients treated with telaprevir triple combination therapy for 12 weeks, followed by peg-IFN and RBV alone for 36 weeks | | | | | 1 patient who discontinued prior to completing 12 weeks of telaprevir triple combination therapy | | | | Prior Viral Breakthroughs | 7 patients treated with telaprevir triple combination therapy for 12 weeks, followed by peg-IFN and RBV alone for 12 weeks | 75% (6/8) | 0% (0/6) | | | 1 patient treated with telaprevir triple combination therapy for 12 weeks, followed by peg-IFN and RBV alone for 36 weeks | | | The interim results reported in the table above reflect data from all prior partial responders, relapsers and viral breakthroughs and from the prior null responders who we considered to have received an appropriate treatment regimen based on their prior response to peg-IFN and RBV, consistent with certain amendments made during the conduct of the 107 Trial. The table does not include data from 23 prior null responders, who, prior to protocol amendments, were designated to receive only 24 weeks of therapy, and a portion of whom met the strict stopping rule criteria at week 4 that were in effect at that time. When the 107 Trial began, all patients were to receive 12 weeks of telaprevir in combination with peg-IFN and RBV followed by an additional 12 weeks of peg-IFN and RBV. Stopping rules required any patient who did not achieve undetectable HCV RNA by week 4 to stop all treatment. In 2008, the 107 Trial protocol was amended in several respects. The most important change to the protocol was to the week 4 stopping rules, as it became evident that treatment-failure patients had a somewhat slower viral response to treatment with telaprevir triple-combination therapy than did treatment-naïve patients. Therefore, following the protocol amendment patients who had detectable HCV RNA at week 4 were permitted to continue therapy. In addition, while the initial study protocol specified 24 weeks of total treatment for all patients, a longer total treatment duration of 48 weeks was determined to be warranted in prior null responders to provide a higher likelihood of achieving an SVR. Discontinuation of all therapy due to adverse events occurred in eight patients in the 107 Trial. A complete safety analysis is still being performed and will be reported when the full data are presented at a medical conference expected in 2010. #### HCV Polymerase Inhibitors HCV polymerase inhibitors, including our HCV polymerase inhibitors VX-222 (formerly VCH-222) and VX-759 (formerly VCH-759), are direct-acting antivirals that inhibit the ability of the HCV to replicate through a mechanism distinct from HCV protease inhibitors such as telaprevir. VX-222 and VX-759 were evaluated by ViroChem Pharma, Inc., or ViroChem, in Phase 1 clinical trials prior to our acquisition of ViroChem in March 2009. In a Phase 1 viral kinetics clinical trial involving five treatment-naïve patients with genotype 1 HCV infection, VX-222 dosed at 750 mg twice daily resulted in a median 3.7 log10 decrease in HCV RNA—equivalent to a 5,000-fold reduction in virus in the blood—at the end of three days of dosing. The results were consistent from patient to patient, and across HCV genotype 1 subtypes. In clinical evaluations of VX-222 to date, no serious adverse events have been observed. We are conducting a multi-dose viral kinetics clinical trial to evaluate the antiviral activity, safety, tolerability and pharmacokinetics of VX-222 in patients with genotype 1 HCV infection. This ongoing multi-dose clinical trial of VX-222 will evaluate the antiviral activity of VX-222 dosed as monotherapy for three days in approximately 32 treatment-naïve patients with HCV genotype 1 infection. We also are conducting a drug-drug interaction clinical trial of VX-222 and telaprevir in healthy volunteers. We expect data from these clinical trials in the fourth quarter of 2009, which could enable the initiation of a combination trial of telaprevir and VX-222 in patients with genotype 1 HCV as early as the fourth quarter of 2009, depending on the trial results. There currently are no ongoing clinical trials of VX-759. ### Cystic Fibrosis #### VX-770 In May 2009, we initiated a registration program, referred to as ENDEAVOR, for VX-770, which is an investigational cystic fibrosis transmembrane conductance regulator, or CFTR, potentiator that targets the defective CFTR protein that causes CF. The VX-770 registration program focuses on patients with the G551D mutation, which is present in approximately 4% of the CF population in the United States. ENDEAVOR consists of three clinical trials, which have opened for enrollment. The primary clinical trial, which is referred to as STRIVE, is a Phase 3 clinical trial of VX-770 in patients 12 years and older with the G551D mutation on at least one of the patient's two *CFTR* genes, or alleles. We expect STRIVE to be fully enrolled in the first quarter of 2010. The second clinical trial, which is referred to as ENVISION, is a two-part Phase 3 clinical trial of VX-770 in patients between 6 to 11 years of age with the G551D mutation on at least one allele. The third clinical trial, which is referred to as DISCOVER, is a Phase 2 exploratory clinical trial of VX-770 in patients with CF who are 12 years and older and homozygous for the F508del mutation. The DISCOVER clinical trial opened to patient enrollment in the third quarter of 2009. In October 2008, we completed a Phase 2a clinical trial of VX-770 in 39 patients with CF with the G551D mutation. Patients in the Phase 2a clinical trial received VX-770 over 14-day and 28-day dosing periods. The primary endpoint for this clinical trial was safety, and no serious adverse events attributable to VX-770 were observed. The promising lung function data from this Phase 2a clinical trial, as measured by improvements in FEV1, and the observed changes in biomarkers that seek to measure the activity of the CFTR protein, were used to design the ENDEAVOR registration program. #### VX-809 We have conducted Phase 1 clinical trials of VX-809, a CFTR corrector compound, in healthy volunteers and an escalating single-dose pharmacokinetics and safety clinical trial of VX-809 in patients with CF who carry the F508del mutation on the *CFTR* gene, the most common mutation in CF patients, on at least one allele. In the first quarter of 2009, we initiated a Phase 2a clinical trial primarily designed to evaluate the safety and tolerability of multiple doses of VX-809 in approximately 90 patients with CF homozygous for the F508del mutation in the *CFTR* gene. In addition to assessing safety, this Phase 2a trial will evaluate the effect of VX-809 on biomarkers of CFTR function and whether VX-809 has an effect on FEV1. Enrollment in the trial is complete, and we expect to obtain data from this clinical trial in early 2010. We have initiated a drug-drug interaction clinical trial of VX-809 and VX-770. Based on *in vitro* data, we believe that there is a rationale to explore the clinical potential for combining VX-809 and VX-770 and may seek to commence a combination clinical trial in patients with CF in the second half of 2010. ### Immune-mediated Inflammatory Disease VX-509 is a novel oral JAK3 inhibitor that we believe has the potential to be used in multiple immune-mediated inflammatory disease, or IMID, indications. We have completed the Phase 1 clinical trials of VX-509, including a Phase 1 single and multiple, 14-day, dose-ranging clinical trial of VX-509 in healthy volunteers. We expect to initiate a Phase 2a clinical trial of VX-509 in patients with moderate to severe rheumatoid arthritis in the first quarter of 2010. This double-blind, randomized, placebo-controlled 12-week trial is expected to enroll approximately 200 patients, and we expect that initial clinical data from this trial, including measurements of safety, tolerability and clinical activity, will be available in the second half of 2010. We plan to continue to pursue collaborative opportunities for VX-509 with major pharmaceutical companies, but expect that no collaboration would be entered into until after the receipt of clinical data from the Phase 2a trial. #### Corporate Collaborations Corporate collaborations have been and will continue to be an important component of our business strategy. Under our agreement with Janssen, we have retained exclusive commercial rights to telaprevir in North America, and we are leading the global clinical development program. Janssen agreed to be responsible for 50% of the drug development costs under the development program for telaprevir in North America and the Janssen territories, to pay us contingent milestone payments based on successful development, approval and launch of telaprevir, to be responsible for the commercialization of telaprevir outside of North America and the Far East and to pay us royalties on any sales of telaprevir in its territories. The principal remaining milestones under our agreement with Janssen relate to marketing authorization for telaprevir from the European Medicines Evaluation Agency and the launch of telaprevir in the European Union. These milestones include $100.0 million related to regulatory submission and approval and $150.0 million related to launch of telaprevir. As a result of financial transactions discussed below that we entered into on September 30, 2009, the first $155.0 million of these milestone payments will trigger obligations to redeem a corresponding portion of a $155.0 million promissory note that we issued at a discount in September 2009, and the rights to receive the remaining $95.0 million of these milestone payments have been sold to a third party. Our collaboration with Janssen was unchanged by these transactions, and we continue to be eligible to receive a royalty on future product sales in Janssen's commercial territories, including the European Union. We also have a collaboration with Mitsubishi Tanabe with respect to the development of telaprevir in Japan and specified other countries in the Far East. Mitsubishi Tanabe is conducting Phase 3 registration trials in Japan of telaprevir in combination with peg-IFN and RBV in approximately 300 patients with genotype 1 HCV. This registration program is fully enrolled. On July 30, 2009, we amended our license, development and commercialization agreement with Mitsubishi Tanabe. Under the amended agreement, we received $105.0 million in the third quarter of 2009, and will be eligible to receive further contingent milestone payments, which if realized would range between $15.0 million and $65.0 million in the aggregate. The amended agreement provides to Mitsubishi Tanabe a fully-paid license to commercialize telaprevir to treat HCV infection in Japan and specified other countries in the Far East, as well as rights to manufacture telaprevir for sale in its territory. Our drug candidate pipeline also includes Aurora kinase inhibitors that are being investigated by Merck & Co., Inc. for oncology indications. In the second quarter of 2008, Merck initiated a Phase 1 clinical trial of MK-5108 (VX-689) alone and in combination with docetaxel in patients with advanced and/or refractory tumors. In the third quarter of 2008, Merck selected additional Aurora kinase inhibitors for potential development. We will not have the resources for some time to develop and commercialize all drug candidates for which we have rights, and therefore we will need to rely on corporate collaborations for the development and commercialization of some or all of our new drug candidates. Historically, we have been successful in initiating and concluding productive collaborations, but we will need to continue to do so in the future, even though economic and competitive conditions may be different than in the past. #### Financial Transactions Related to Potential Future Telaprevir Milestone Payments On September 30, 2009, we entered into two financial transactions related to potential future milestone payments pursuant to our collaboration with Janssen that resulted in aggregate payments to us of $155.0 million. Of the aggregate payments, we received $122.2 million on September 30, 2009 and $32.8 million on October 1, 2009. In the first transaction, we received $122.2 million in cash for the issuance of secured notes due October 2012, referred to as the 2012 Notes. The 2012 Notes have a face value of $155.0 million, were issued at a discount and do not carry an explicit interest rate. The 2012 Notes mature on October 31, 2012, subject to earlier mandatory redemption as specified milestone events under our Janssen collaboration relating to the filing, approval and launch of telaprevir in the European Union are achieved, if at all, prior to October 31, 2012. The 2012 Notes are secured by $155.0 million in potential telaprevir milestone payments we are eligible to receive from Janssen upon specified milestone events. In the second transaction, we received non-refundable payments totalling $32.8 million in cash for the sale of rights to $95.0 million of potential future milestone payments that we are eligible to receive from Janssen for the launch of telaprevir in the Europe Union. #### Financing Strategy We have incurred losses from our inception and expect to continue to incur losses at least until we obtain approval for and successfully commercialize a product, if we ever do. Therefore, we are dependent in large part on our continued ability to raise significant funding to finance our research and development operations, to create a commercial infrastructure, and to meet our overhead costs and long-term contractual commitments and obligations. To date, we have secured funds principally through capital market transactions, strategic collaborative agreements, proceeds from the disposition of assets, investment income and the issuance of common stock under our employee benefit plans. We expect that we will need additional capital in order to complete the development and commercialization of telaprevir while at the same time continuing the development of our other drug candidates. We may raise additional capital from public offerings or private placements of our securities or other methods of financing. We cannot be sure that any such financing opportunities will be available on acceptable terms, if at all. If adequate funds are not available on acceptable terms, or at all, we may be required to curtail significantly or discontinue one or more of our research, drug discovery or development programs, including clinical trials, incur significant cash exit costs, or attempt to obtain funds through arrangements with collaborators or others that may require that we relinquish rights to certain of our technologies or drug candidates. As part of our strategy for managing our capital structure, we have from time to time adjusted the amount and maturity of our debt obligations through new issues, privately negotiated transactions and market purchases, depending on market conditions and our perceived needs at the time. For example, in the second quarter of 2009, we exchanged 6.6 million shares of newly-issued common stock for $143.5 million in aggregate principal amount of our 4.75% convertible senior subordinated notes due 2013, or 2013 Notes, plus accrued interest. We expect to continue pursuing a general financial strategy that may lead us to undertake one or more additional transactions with respect to our outstanding debt obligations, and the amounts involved in any such transactions, individually or in the aggregate, may be material. Any such transactions may or may not be similar to transactions in which we have engaged in the past. ### Critical Accounting Policies and Estimates Our discussion and analysis of our financial condition and results of operations is based upon our condensed consolidated financial statements prepared in accordance with generally accepted accounting principles in the United States. The preparation of these financial statements requires us to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reported periods. These items are monitored and analyzed by management for changes in facts and circumstances, and material changes in these estimates could occur in the future. Changes in estimates are reflected in reported results for the period in which they become known. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from our estimates if past experience or other assumptions do not turn out to be substantially accurate. There were no material changes during the nine months ended September 30, 2009 to our critical accounting policies as reported in our Annual Report on Form 10-K for the year ended December 31, 2008. We have added a critical accounting policy regarding business combinations as a result of our acquisition of ViroChem in March 2009 and a critical accounting policy regarding the accounting for the September 2009 financial transactions, and have supplemented our critical accounting policy regarding up-front license fees. #### Business Combinations In March 2009, we acquired ViroChem for $100.0 million in cash and common stock with a fair market value of $290.6 million. We assign the value of the consideration transferred to acquire a business to the tangible assets and identifiable intangible assets acquired and liabilities assumed, on the basis of their fair values at the date of acquisition. For purposes of the condensed consolidated balance sheet, we allocated the purchase price for ViroChem to net tangible assets and intangible assets. The difference between the purchase price and the fair value of assets acquired and liabilities assumed was allocated to goodwill. This goodwill relates to the potential synergies from the possible development of combination therapies involving telaprevir and the acquired drug candidates. The allocations recorded on our condensed consolidated balance sheet included $525.9 million of intangible assets related to in-process research and development and a $162.5 million deferred tax liability. The intangible assets are in-process research and development assets relating to the drug candidates being developed by ViroChem, primarily VX-222 and VX-759, each of which was in Phase 1 clinical development at the date of acquisition. VX-222 and VX-759 had estimated fair values of $412.9 million and $105.8 million, respectively. In addition, we considered ViroChem's other clinical drug candidates and determined that VCH-286, ViroChem's lead HIV drug candidate, had an estimated fair value of $7.2 million, based on development costs through the acquisition date, and that the other clinical drug candidates had no fair value because the clinical and non-clinical data for those drug candidates did not support further development as of the acquisition date. We also considered ViroChem's preclinical programs and other technologies and determined that because of uncertainties related to the safety, efficacy and commercial viability of the potential drug candidates, market participants would not ascribe value to those assets. We assess the fair value of assets, including intangible assets such as in-process research and development, using a variety of methods, including present-value models that are based upon multiple probability-weighted scenarios involving the development and potential commercialization of the acquired drug candidates. The present-value models used to estimate the fair values of VX-222 and VX-759 reflect significant assumptions regarding the estimates a market participant would make in order to evaluate a drug development asset, including the probability of completing in-process research and development projects, which requires successfully completing clinical trials and obtaining regulatory approval for marketing of the associated drug candidate; estimates regarding the timing of and the expected costs to complete in-process research and development projects; estimates of future cash flows from potential product sales; and appropriate discount rates. The estimated fair value ascribed to VX-222 and VX-759 was based on the estimated fair value that would be ascribed to each of these compounds by a market participant that acquired both compounds in a single transaction. The assumed probability of advancing VX-222 and VX-759 through various phases of development reflects the understanding among market participants that most drug candidates that enter Phase 2 clinical trials are not ultimately approved for commercial sale. While, on the date of acquisition, each of the HCV polymerase inhibitors was at a similar stage of development, we attributed a significantly higher value to VX-222 than to VX-759 because the clinical and non-clinical data from the VX-222 research program was significantly more promising than the clinical and non-clinical data from the VX-759 research program. In addition, the fair value estimate incorporates our determination that a market participant would not be likely to continue development of VX-759 unless future data from clinical trials or non-clinical studies of VX-222 resulted in a delay or discontinuation of the VX-222 development program. Finally, while the duration and cost of non-clinical studies and clinical trials vary significantly over the life of a project and are difficult to predict, a market participant would assume that it would take several years to complete each phase of clinical trials for a drug candidate for the treatment of patients with HCV and that future cash flows, if any, would not be generated until a drug candidate had completed all required phases of clinical trials and had obtained regulatory approval. The risk-adjusted discount rate for each of these projects was approximately 28%. Initially, the in-process research and development assets were recorded at fair value and accounted for as indefinite-lived intangible assets. We will maintain each of these assets on our condensed consolidated balance sheets until either the research and development project underlying it is completed or the asset becomes impaired. If a project is completed, the carrying value of the related intangible asset would be amortized over the remaining estimated life of the asset. If a project becomes impaired or is abandoned, the carrying value of the related intangible asset would be written down to its fair value and an impairment charge would be taken in the period in which the impairment occurs. In order to complete an acquired research and development project, the related drug candidate must be evaluated in later-stage clinical trials, which are subject to all of the risks and uncertainties associated with the development of pharmaceutical products. If the fair value of any of these drug candidates, and in particular VX-222, becomes impaired as the result of unfavorable safety or efficacy data from any ongoing or future clinical trial or because of any other information regarding the prospects of successfully developing or commercializing the drug candidate, we could incur significant charges in the period in which the impairment occurs. These intangible assets will be tested for impairment on an annual basis during the fourth quarter, or earlier if impairment indicators are present. Post-acquisition research and development expenses related to the in-process research and development projects will be expensed as incurred. #### September 2009 Financial Transactions The two financial transactions that we entered into in September 2009 involved the issuance of the 2012 Notes, which are secured by $155.0 million of potential future telaprevir milestone payments that we are eligible to receive from Janssen, and the sale of $95.0 million in additional potential future telaprevir milestone payments that we are eligible to receive from Janssen. We sold the 2012 Notes, which have a face value of $155.0 million and do not carry an explicit interest rate, for $122.2 million. The 2012 Notes contain an embedded derivative related to their potential early repayment or redemption. The liability related to the separate sale of the potential $95.0 million in future milestone payments for $32.8 million is accounted for as a free-standing derivative instrument. In order to account for the 2012 Notes and the sale of the rights to the potential future milestone payments, we were required to estimate the fair value of the derivative embedded in the 2012 Notes and of the rights to the $95.0 million in potential future milestones. The models we used to estimate these fair values require estimates regarding, among other things, the assumptions a market participant would make regarding the timing and probability of achieving the milestones and the appropriate discount rates. ### 2012 Notes The 2012 Notes have an estimated initial residual value of $108.2 million, which excludes the value of the embedded derivative. The embedded derivative associated with the 2012 Notes has an estimated fair value of $10.7 million. In future periods, we expect that we will record a quarterly interest expense determined using the effective interest rate method, which will increase the amount of the liability for our 2012 Notes each quarter by an amount corresponding to this interest expense through the stated maturity date, unless redeemed or repaid earlier. In addition, we will evaluate the embedded derivative for changes in fair value on at least a quarterly basis. We expect that the net expense related to the 2012 Notes that we will recognize based on interest expense and gains and losses on the embedded derivative over the period between October 1, 2009 and October 31, 2012 will equal $36.2 million, which is the difference between the $155.0 million face value of the 2012 Notes and the $118.8 million initial estimated value of the 2012 Notes, including the value of the embedded derivative, on the issuance date. However, the timing of these expenses or any gains will depend on a number of factors related to the probability and timing of achieving the relevant milestone events and discount rates and could result in material expenses or gains in any quarterly period. ### Sale of Potential Future Milestones The fair value of the free-standing derivative instrument created by the sale of the rights to the $95.0 million of future milestone payments was estimated to be $36.2 million. We will evaluate this free-standing derivative for changes in fair value on at least a quarterly basis. Any change in the value of this free-standing derivative will be recorded as a loss or gain in the period in which it becomes known. If these milestone events are achieved, we expect that we will recognize net expenses over the period between October 1, 2009 and the date the milestones are achieved equal to $58.8 million, which is the difference between the $95.0 million the purchaser would receive if all the milestone events are achieved and the fair value of the free-standing derivative on the issuance date. Because our estimate of the fair value of the free-standing derivative includes the application of a discount rate to reflect the time-value of money, we expect to record interest costs related to this liability balance each quarter. However, the timing of other expenses or any gains will depend on a number of factors related to the probability and timing of achieving the relevant milestone events and discount rates and could result in material expenses or gains in any quarterly period. #### Up-front License Fees We recognize revenues from nonrefundable, up-front license fees related to collaboration agreements, including the $165.0 million we received from Janssen in 2006 and the $105.0 million we received from Mitsubishi Tanabe in the third quarter of 2009, on a straight-line basis over the contracted or estimated period of performance. The period of performance over which the revenues are recognized is typically the period over which the research and/or development is expected to occur. As a result, we often are required to make estimates regarding drug development and commercialization timelines for compounds being developed pursuant to a collaboration agreement. Because the drug development process is lengthy and our collaboration agreements typically cover activities over several years, this approach often has resulted in the deferral of significant amounts of revenue into future periods. In addition, we periodically evaluate our estimates in light of changes and anticipated changes in the development plans for our drug candidates and because of the many risks and uncertainties associated with the development of drug candidates, our estimates regarding the period of performance have changed in the past and may change in the future. Our estimates regarding the period of performance under the Janssen collaboration agreement were adjusted in 2007 and in the third quarter of 2009 as a result of changes in the global development plan for telaprevir, including activities that are expected to be conducted in the post-approval period. These adjustments were made on a prospective basis beginning in the period in which the change was identified. These adjustments resulted in a decrease in the amount of revenues we were recognizing from the Janssen collaboration by $2.6 million per quarter for the first adjustment and $1.1 million per quarter for the second adjustment. Any future adjustment in our estimates of the period of performance under our collaborations could result in substantial changes to the period over which the revenues from an up-front license fee related to each such collaboration are recognized. If we adjust our estimates as of October 1, 2009 to increase the period of performance under the Janssen agreement by one year, it would result in a decrease in the amount of deferred revenues we recognize from our Janssen collaboration of approximately $0.8 million per quarter beginning in the fourth quarter of 2009. ### Results of Operations—Three and Nine Months Ended September 30, 2009 Compared with Three and Nine Months Ended September 30, 2008 *(in thousands)* *(in thousands)* | | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Revenues | $24,957 | $31,609 | $(6,652) | (21)% | $68,000 | $142,693 | $(74,693) | (52)% | | Costs and expenses | 173,190 | 162,237 | 10,953 | 7% | 535,293 | 463,538 | 71,755 | 15% | | Other income (expense) | (1,332) | 584 | (1,916) | n/a | (16,241) | 3,326 | (19,567) | n/a | | Net loss | $(149,565) | $(130,044) | $19,521 | 15% | $(483,534) | $(317,519) | $166,015 | 52% | #### Net Loss In the three months ended September 30, 2009 as compared to the three months ended September 30, 2008, our net loss increased by $19.5 million, or 15%. In the nine months ended September 30, 2009 as compared to the nine months ended September 30, 2008, our net loss increased by $166.0 million, or 52%. The increases in net loss in the three and nine months ended September 30, 2009 as compared to the three and nine months ended September 30, 2008 were the result of significant increases in costs and expenses combined with decreases in our revenues. Our lower revenues in the three and nine months ended September 30, 2009 were primarily the result of milestone payments that we recognized in the 2008 periods for which there were no corresponding milestone payments in 2009 periods. The increased expenses included increased operating expenses related to the increased size of our workforce and to our late-stage clinical programs and increased stock-based compensation expense. In addition, in the second quarter of 2009, we had a $12.3 million non-cash expense on the exchange of a portion of the 2013 Notes into our common stock and in the first half of 2009 we had $7.8 million of acquisition-related expenses from our acquisition of ViroChem and additional expenses related to our management transition. #### Net Loss per Share Our net loss for the three months ended September 30, 2009 was $0.84 per basic and diluted common share compared to $0.93 per basic and diluted common share for the three months ended September 30, 2008. Our net loss for the nine months ended September 30, 2009 was $2.86 per basic and diluted common share compared to $2.30 per basic and diluted common share for the nine months ended September 30, 2008. The decrease in net loss per common share in the third quarter of 2009 compared to the third quarter of 2008 was the result of an increase in the basic and diluted weighted-average number of common shares outstanding in the third quarter of 2009 compared to the third quarter of 2008 partially offset by an increased net loss in the third quarter of 2009 compared to the third quarter of 2008. The increase in net loss per common share in the nine months ended September 30, 2009 compared to the same period in 2008 was the result of the increased net loss in the nine months ended September 30, 2009 partially offset by an increase in the basic and diluted weighted-average number of common shares outstanding in 2009. The increases in the weighted-average number of common shares outstanding in 2009 were primarily the result of the equity offerings in September 2008 and February 2009, the issuance of shares for our acquisition of ViroChem in March 2009 and the issuance of shares in the debt exchange we conducted in June 2009. Our basic and diluted weighted-average number of common shares outstanding increased from 140.1 million in the three months ended September 30, 2008 to 178.7 million in the three months ended September 30, 2009 and from 137.8 million in the nine months ended September 30, 2008 to 169.1 million in the nine months ended September 30, 2009. #### Stock-based Compensation, Restructuring and Acquisition-related Expenses and 2013 Note Exchange The comparison of our costs and expenses in the 2009 periods and the 2008 periods is affected by increases in our stock-based compensation expense and our restructuring expense as well as expenses related to our acquisition of ViroChem in March 2009, and the exchange of a portion of the 2013 Notes into our common stock in June 2009. Our costs and expenses in the three and nine months ended September 30, 2009 and 2008 included: *(in thousands)* | | Three Months Ended September 30, 2009 | 2008 | Nine Months Ended September 30, 2009 | 2008 | | --- | ---: | ---: | ---: | ---: | | Stock-based compensation expense | $20,134 | $14,485 | $68,996 | $44,150 | | Restructuring expense | 774 | 885 | 4,283 | 2,683 | | Acquisition-related expenses | — | — | 7,793 | — | | Loss on exchange of a portion of the 2013 Notes | — | — | 12,294 | — | ### Revenues *(in thousands)* *(in thousands)* | | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Royalty revenues | $7,834 | $7,763 | $71 | 1% | $19,891 | $28,355 | $(8,464) | (30)% | | Collaborative and other research and development revenues | 17,123 | 23,846 | (6,723) | (28)% | 48,109 | 114,338 | (66,229) | (58)% | | Total revenues | $24,957 | $31,609 | $(6,652) | (21)% | $68,000 | $142,693 | $(74,693) | (52)% | Our total revenues in recent periods have consisted primarily of collaborative and other research and development revenues. On a quarterly basis our collaborative and other research and development revenues have fluctuated significantly based on the timing of recognition of significant milestone payments and the level of reimbursement we have received under our collaboration agreements for our development programs. If we are able to successfully commercialize telaprevir in accordance with current development timelines, we anticipate revenues and cash flows from the sales of telaprevir to commence in 2011. ### Collaborative and Other Research and Development Revenues The table presented below is a summary of revenues from collaborative arrangements for the three and nine months ended September 30, 2009 and 2008: *(in thousands)* | | Three Months Ended September 30, 2009 | 2008 | Nine Months Ended September 30, 2009 | 2008 | | --- | ---: | ---: | ---: | ---: | | Janssen | $10,232 | $15,239 | $40,157 | $98,725 | | Mitsubishi Tanabe | 6,891 | 2,129 | 7,734 | 7,889 | | Merck | — | 6,000 | — | 6,000 | | Other | — | 478 | 218 | 1,724 | | Total collaborative and other research and development revenues | $17,123 | $23,846 | $48,109 | $114,338 | Our revenues from the Janssen collaboration in each period consist of: development milestone payments, if any, recognized in the period; net reimbursements from Janssen for development costs of telaprevir; and an amortized portion of the $165.0 million up-front payment. The $5.0 million, or 33%, decrease in our revenues from Janssen in the third quarter of 2009 compared to the third quarter of 2008 was primarily the result of our decreased reimbursable expenses related to the telaprevir clinical development program. The $58.6 million, or 59%, decrease in our revenues from Janssen in the nine months ended September 30, 2009 compared to the nine months ended September 30, 2008 was primarily the result of a decrease in milestone payments from our Janssen collaboration. We recognized a total of $55.0 million in milestone payments in the nine months ended September 30, 2008 for which there were no corresponding milestone payments in the nine months ended September 30, 2009. In the third quarter of 2009, we entered into two financial transactions related to $250.0 million in potential future milestone payments associated with the regulatory filing and approval for telaprevir from the European Medicines Evaluation Agency and the launch of telaprevir in the European Union. We expect that, when and if earned, these milestones will result in collaborative revenues of which the proceeds from the first $155.0 million would be used to redeem the 2012 Notes and the remaining $95.0 million would be provided to the purchaser of these milestone payments. In the three months ended September 30, 2009, our collaborative revenues from sources other than Janssen related primarily to our collaboration with Mitsubishi Tanabe. On July 30, 2009, we entered into an amendment to our license, development and commercialization agreement with Mitsubishi Tanabe that provided for a $105.0 million payment in connection with the execution of the amendment. This payment was initially classified as deferred revenues and is being recognized over our expected period of performance. In the three months ended September 30, 2009, we recognized a total of $6.9 million of revenues from Mitsubishi Tanabe, including the amortized portion of the $105.0 million upfront payment. In the three months ended September 30, 2008, our collaborative revenue from sources other than Janssen related primarily to the $6.0 million milestone we achieved pursuant to our collaboration with Merck for which there was no corresponding milestone payment in the three months ended September 30, 2009. ### Royalty Revenues Our royalty revenues relate to sales of the HIV protease inhibitors Lexiva/Telzir and Agenerase by GlaxoSmithKline plc. Until May 30, 2008, these royalty revenues were based on actual and estimated worldwide net sales of Lexiva/Telzir and Agenerase. On May 30, 2008, we sold our right to receive future royalties from GlaxoSmithKline plc with respect to these HIV protease inhibitors, excluding the portion allocated to pay a subroyalty on these net sales to a third party, in return for a one-time cash payment of $160.0 million. We deferred the recognition of $155.1 million of revenues from this sale. We are recognizing these deferred revenues over the term of our agreement with GlaxoSmithKline plc under the units-of-revenue method. We will also continue to recognize royalty revenues equal to the amount of the third-party subroyalty and an offsetting royalty expense for the third-party subroyalty payment. Our royalty revenues were $7.8 million in both the third quarter of 2009 and the third quarter of 2008. The $8.5 million, or 30%, decrease in royalty revenues in the nine months ended September 30, 2009 compared to the nine months ended September 30, 2008 resulted primarily from this sale of our future HIV royalties in the second quarter of 2008. In 2009, we expect that we will continue to recognize as royalty revenues a portion of the remaining deferred revenues from the sale of our HIV royalty stream plus the full amount of the third-party subroyalty. ### Costs and Expenses *(in thousands)* *(in thousands)* | | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Royalty expenses | $3,712 | $4,194 | $(482) | (11)% | $10,555 | $11,471 | $(916) | (8)% | | Research and development expenses | 132,132 | 131,728 | 404 | 0% | 415,044 | 377,574 | 37,470 | 10% | | Sales, general and administrative expenses | 36,572 | 25,430 | 11,142 | 44% | 97,618 | 71,810 | 25,808 | 36% | | Restructuring expense | 774 | 885 | (111) | (13)% | 4,283 | 2,683 | 1,600 | 60% | | Acquisition-related expenses | — | — | — | n/a | 7,793 | — | 7,793 | n/a | | Total costs and expenses | $173,190 | $162,237 | $10,953 | 7% | $535,293 | $463,538 | $71,755 | 15% | Our operating costs and expenses primarily relate to our research and development expenses and our sales, general and administrative expenses. Our research and development expenses fluctuate on a quarterly basis due to the timing of activities related to the development of clinical drug candidates. Our sales, general and administrative expenses generally have been increasing as a result of expanding our commercial capabilities in preparation for the potential commercial launch of telaprevir. ### Research and Development Expenses *(in thousands)* *(in thousands)* | | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Research expenses | $42,663 | $41,567 | $1,096 | 3% | $129,418 | $123,382 | $6,036 | 5% | | Development expenses | 89,469 | 90,161 | (692) | (1)% | 285,626 | 254,192 | 31,434 | 12% | | Total research and development expenses | $132,132 | $131,728 | $404 | 0% | $415,044 | $377,574 | $37,470 | 10% | Our total research and development expenses were similar in the third quarter of 2009 and the third quarter of 2008 as increases in the expenses related to our workforce were offset by decreases in third-party contractual services and investment in commercial supply of telaprevir. The $37.5 million increase in our total research and development expenses in the nine months ended September 30, 2009 compared to the nine months ended September 30, 2008 was primarily the result of increases in expenses related to our workforce. Our research and development expenses include internal and external costs incurred for our drug candidates, including telaprevir and VX-770. We do not assign to individual drug candidates our internal costs such as salary and benefits, stock-based compensation expense, laboratory supplies and infrastructure costs because the employees within our research and development groups typically are deployed across multiple research and development programs. These internal costs are significantly greater than our external costs, such as the costs of services provided to us by clinical research organizations and other outsourced research, which we do allocate by individual drug development program. All research and development costs for our drug candidates are expensed as incurred. To date, we have incurred in excess of $3.2 billion in research and development expenses associated with drug discovery and development. The successful development of our drug candidates is highly uncertain and subject to a number of risks. In addition, the duration of clinical trials may vary substantially according to the type, complexity and novelty of the drug candidate. The FDA and comparable agencies in foreign countries impose substantial requirements on the introduction of therapeutic pharmaceutical products, typically requiring lengthy and detailed laboratory and clinical testing procedures, sampling activities and other costly and time-consuming procedures. Data obtained from nonclinical and clinical activities at any step in the testing process may be adverse and lead to discontinuation or redirection of development activity. Data obtained from these activities also are susceptible to varying interpretations, which could delay, limit or prevent regulatory approval. The duration and cost of discovery, nonclinical studies and clinical trials may vary significantly over the life of a project and are difficult to predict. Therefore, accurate and meaningful estimates of the ultimate costs to bring our drug candidates to market are not available. Our lead drug candidate telaprevir represents the largest portion of our development costs for our clinical drug candidates. Based on the completion of enrollment of our Phase 3 clinical trials of telaprevir in February 2009, we anticipate that our ongoing Phase 3 clinical trials will be completed in mid-2010, but that development costs associated with other clinical trials of telaprevir may continue after the completion of the registration trials. If we are able to successfully commercialize telaprevir in accordance with current development timelines, we anticipate revenues and cash flows from the sales of telaprevir to commence in 2011. Our other drug candidates are less advanced and as a result any estimates regarding development timelines for these drug candidates are highly subjective and subject to change, and we cannot at this time make a meaningful estimate when, if ever, these drug candidates, including the drug candidates we acquired from ViroChem, will generate revenues and cash flows. #### Research Expenses *(in thousands)* *(in thousands)* | Research Expenses: | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Salary and benefits | $16,631 | $14,372 | $2,259 | 16% | $46,751 | $41,287 | $5,464 | 13% | | Stock-based compensation expense | 5,152 | 4,660 | 492 | 11% | 18,757 | 14,288 | 4,469 | 31% | | Laboratory supplies and other direct expenses | 6,266 | 5,792 | 474 | 8% | 20,549 | 18,120 | 2,429 | 13% | | Contractual services | 1,498 | 1,683 | (185) | (11)% | 3,844 | 6,232 | (2,388) | (38)% | | Infrastructure costs | 13,116 | 15,060 | (1,944) | (13)% | 39,517 | 43,455 | (3,938) | (9)% | | Total research expenses | $42,663 | $41,567 | $1,096 | 3% | $129,418 | $123,382 | $6,036 | 5% | The $1.1 million and $6.0 million increases in total research expenses in the three and nine months ended September 30, 2009, respectively, compared to the same periods in 2008 were the result of increased expenses related to our workforce partially offset by decreased contractual services and infrastructure costs. #### Development Expenses *(in thousands)* *(in thousands)* | Development Expenses: | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Salary and benefits | $26,963 | $20,878 | $6,085 | 29% | $73,399 | $57,034 | $16,365 | 29% | | Stock-based compensation expense | 7,896 | 6,763 | 1,133 | 17% | 32,185 | 21,104 | 11,081 | 53% | | Laboratory supplies and other direct expenses | 6,996 | 7,483 | (487) | (7)% | 20,819 | 22,684 | (1,865) | (8)% | | Contractual services | 25,526 | 28,214 | (2,688) | (10)% | 88,703 | 81,800 | 6,903 | 8% | | Commercial supply investment in telaprevir | 4,179 | 6,461 | (2,282) | (35)% | 14,290 | 15,268 | (978) | (6)% | | Infrastructure costs | 17,909 | 20,362 | (2,453) | (12)% | 56,230 | 56,302 | (72) | 0% | | Total development expenses | $89,469 | $90,161 | $(692) | (1)% | $285,626 | $254,192 | $31,434 | 12% | Our development expenses decreased by $0.7 million in the third quarter of 2009 compared to the third quarter of 2008 primarily because increases in expenses related to our workforce were offset by decreases in our other development expenses as external expenses related to the registration program for telaprevir decreased. Our development expenses increased in the nine months ended September 30, 2009 compared to the nine months ended September 30, 2008 primarily as a result of increased expenses related to our workforce. The number of employees in our development group increased by approximately 15% from the third quarter of 2008 to the third quarter of 2009 and by approximately 19% from the first nine months of 2008 compared to the first nine months of 2009. Our contractual services expenses, which fluctuate significantly from quarter to quarter based on the timing of activities related to our clinical trials, decreased in the third quarter of 2009 compared to the third quarter of 2008, but increased in the first nine months of 2009 compared to the first nine months of 2008. We expect our contractual services expenses to continue to fluctuate significantly because as the contractual services costs associated with our telaprevir registration program decrease we expect the contractual services costs associated with our other drug development candidates will increase. ### Sales, General and Administrative Expenses *(in thousands)* *(in thousands)* | | Three Months Ended September 30, Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Increase/ (Decrease) $ 2009 | Increase/ (Decrease) % 2008 | Nine Months Ended September 30, | | | | | --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | | Sales, general and administrative expenses | $36,572 | $25,430 | $11,142 | 44% | $97,618 | $71,810 | $25,808 | 36% | The increases in sales, general and administrative expenses in the three and nine months ended September 30, 2009 compared to the same periods in 2008 are the result of increased headcount as we advance our drug candidates, particularly telaprevir, into late-stage development and prepare for the potential commercial launch of telaprevir. In the three months ended September 30, 2009 and 2008, our sales, general and administrative expenses included $7.1 million and $3.1 million, respectively, of stock-based compensation expense. In the nine months ended September 30, 2009 and 2008, our sales, general and administrative expenses included $18.1 million and $8.8 million, respectively, of stock-based compensation expense. ### Royalty Expenses Royalty expenses decreased in the three and nine months ended September 30, 2009 as compared to the three and nine months ended September 30, 2008. Royalty expenses primarily relate to a subroyalty payable to a third party on net sales of Lexiva/Telzir and Agenerase. The subroyalty results in both a royalty expense and corresponding royalty revenues. We expect to continue to recognize this subroyalty as an expense in future periods. ### Restructuring Expense We recorded restructuring expense of $0.8 million for the three months ended September 30, 2009 compared to $0.9 million for the three months ended September 30, 2008. We recorded restructuring expense of $4.3 million for the nine months ended September 30, 2009 compared to $2.7 million for the nine months ended September 30, 2008. The restructuring expense in all periods includes imputed interest cost related to the restructuring liability associated with our Kendall Square lease. The increase in restructuring expense for the nine months ended September 30, 2009 compared to the nine months ended September 30, 2008 was primarily the result of a revision, in the first quarter of 2009, of certain key estimates and assumptions about facility operating costs for the remaining period of the lease commitment, for which there was no corresponding revision in the nine months ended September 30, 2008. The lease restructuring liability was $33.4 million as of September 30, 2009. We review our estimates and assumptions with respect to the Kendall Square lease on at least a quarterly basis, and will make whatever modifications we believe are necessary to reflect any changed circumstances, based on our best judgment, until the termination of the lease. Our estimates have changed in the past, and may change in the future, resulting in additional adjustments to the estimate of the liability, and the effect of any such adjustments could be material. ### Acquisition-related Expenses We incurred $7.8 million of expenses in the nine months ended September 30, 2009, all in the first quarter, in connection with our acquisition of ViroChem, including $5.7 million in transaction expenses and $2.1 million related to a restructuring of ViroChem's operations that we undertook in March 2009 in order to focus ViroChem's activities on its HCV assets. We did not have corresponding acquisition-related expenses in the nine months ended September 30, 2008. ### Non-operating Items—Other Income (Expense) Interest income decreased by $3.8 million, or 86%, to $0.6 million for the three months ended September 30, 2009 from $4.4 million for the three months ended September 30, 2008. Interest income decreased by $8.2 million, or 64%, to $4.7 million for the nine months ended September 30, 2009 from $12.9 million for the nine months ended September 30, 2008. The decrease was a result of lower portfolio yields during the 2009 periods as compared to the 2008 periods. Our cash, cash equivalents and marketable securities yielded approximately 0% on an annual basis in the third quarter of 2009 compared to approximately 2% on an annual basis in the third quarter of 2008. Interest expense decreased by $1.9 million, or 49%, to $1.9 million for the three months ended September 30, 2009 from $3.8 million for the three months ended September 30, 2008. Interest expense was $8.6 million and $9.6 million, respectively, for the nine months ended September 30, 2009 and 2008. We recorded interest expense of $2.1 million on the $143.5 million in aggregate principal amount of 2013 Notes that were exchanged in June 2009 through the date on which we entered into the exchange agreements with respect to such 2013 Notes. Our outstanding principal amount of 2013 Notes decreased from $287.5 million on March 31, 2009 to $144.0 million on September 30, 2009. In future periods, we expect that we will incur interest expense related to the 2012 Notes that we issued in September 2009 and potential gains or losses on the embedded derivative related to the 2012 Notes and the free-standing derivative related to the sale of the potential future milestones. In the nine months ended September 30, 2009, we incurred a non-cash charge of $12.3 million in connection with the exchange of $143.5 million in aggregate principal amount of the 2013 Notes for 6.6 million newly-issued shares of our common stock. The charge related to the additional approximately 400,000 shares of common stock that we issued in excess of the number of shares of common stock into which such 2013 Notes were convertible prior to the exchange. ### Liquidity and Capital Resources We have incurred operating losses since our inception and have financed our operations principally through public and private offerings of our equity and debt securities, strategic collaborative agreements that include research and/or development funding, development milestones and royalties on the sales of products, strategic sales of assets or businesses, investment income and proceeds from the issuance of common stock under our employee benefit plans. We expect that we will require additional capital in order to commercialize telaprevir and continue our planned activities in other areas. At September 30, 2009, we had cash, cash equivalents and marketable securities of $856.6 million, which was an increase of $24.5 million from $832.1 million at December 31, 2008. The increase was primarily the result of financing activities, financial transactions and payments from collaborators that occurred in the nine months ended September 30, 2009, including $313.3 million of net proceeds from the offering of common stock that we completed in February 2009, $122.2 million of gross proceeds that we received from a third party in September 2009 for the sale of our 2012 Notes, the $105.0 million payment we received from Mitsubishi Tanabe in the third quarter of 2009 and $25.0 million from the issuance of common stock under our employee benefits plans. These cash inflows were offset by cash expenditures we made in the nine months ended September 30, 2009 related to, among other things, research and development expenses and sales, general and administrative expenses, $100.0 million in cash that we paid for ViroChem, and the timing of payments to our vendors. Capital expenditures for property and equipment during the nine months ended September 30, 2009 were $15.9 million. During the nine months ended September 30, 2009, we reduced the aggregate principal amount of our 2013 Notes outstanding from $287.5 million to $144.0 million. The 2013 Notes bear interest at the rate of 4.75% per annum, and we are required to make semi-annual interest payments on the outstanding principal balance of the 2013 Notes on February 15 and August 15 of each year. The 2013 Notes will mature on February 15, 2013. The 2013 Notes are convertible, at the option of the holder, into our common stock at a price equal to approximately $23.14 per share, subject to adjustment. On or after February 15, 2010, we may redeem the 2013 Notes at our option, in whole or in part, at the redemption prices stated in the indenture related to the 2013 Notes, plus accrued and unpaid interest, if any, to, but excluding, the redemption date. As a result of a financial transaction entered into on September 30, 2009, we have outstanding $155.0 million in aggregate principal amount of 2012 Notes that mature on October 31, 2012, subject to earlier mandatory redemption as specified milestone events under our collaboration with Janssen are achieved, if at all, prior to October 31, 2012. In addition, on September 30, 2009, we sold our rights to receive an additional $95.0 million of potential future milestone payments that we are eligible to receive from Janssen for the launch of telaprevir in the Europe Union. As a result of these transactions, the $250.0 million of potential milestone payments from Janssen related to the filing, approval and launch of telaprevir in the European Union will not provide us with liquidity in the future, if and when earned, except to the extent that they provide for the mandatory redemption of $155.0 million in principal amount of our 2012 Notes. Our accrued restructuring expense of $33.4 million at September 30, 2009 relates to the portion of the facility that we lease in Kendall Square that we do not intend to occupy and includes other related lease obligations, recorded at net present value. In the nine months ended September 30, 2009, we made cash payments of $11.5 million against the accrued expense and received $6.5 million in sublease rental payments. During the fourth quarter of 2009, we expect to make additional cash payments of $3.7 million against the accrued expense and receive $2.0 million in sublease rental payments. We expect to continue to make significant investments in our development pipeline, particularly in clinical trials of telaprevir, in our effort to prepare for potential registration, regulatory approval and commercial launch of telaprevir, and in clinical trials for our other drug candidates, including VX-770, VX-809, VX-222 and VX-509. We also expect to maintain our substantial investment in research. As a result, we expect to incur future losses on a quarterly and annual basis. The adequacy of our available funds to meet our future operating and capital requirements will depend on many factors, including the number, breadth and prospects of our discovery and development programs, the costs and timing of obtaining regulatory approvals for any of our drug candidates and our decisions regarding manufacturing and commercial investments. We believe that our current cash, cash equivalents and marketable securities, in addition to amounts we expect to receive from our collaborators under existing contractual obligations, will be sufficient to fund our operations for at least the next twelve months. We expect that we will need additional capital in order to complete the development and commercialization of telaprevir and to continue the development of our other drug candidates, including VX-770. We may raise additional capital through public offerings or private placements of our securities, securing new collaborative agreements, or other methods of financing. Any such capital transactions may or may not be similar to transactions in which we have engaged in the past. We also will continue to manage our capital structure and consider all financing opportunities, whenever they may occur, that could strengthen our long-term liquidity profile. There can be no assurance that any such financing opportunities will be available on acceptable terms, if at all. If adequate funds are not available, we may be required to curtail significantly or discontinue one or more of our research, drug discovery or development programs or attempt to obtain funds through arrangements that may require us to relinquish rights to certain of our technologies or drug candidates. ### Contractual Commitments and Obligations Our commitments and obligations were reported in our Annual Report on Form 10-K for the year ended December 31, 2008, which was filed with the Securities and Exchange Commission, or SEC, on February 17, 2009. There have been no material changes from the contractual commitments and obligations previously disclosed in that Annual Report on Form 10-K, except that: As a result of the exchanges of $143.5 million of our outstanding 2013 Notes for 6.6 million newly-issued shares of our common stock in June 2009, the principal amount on the 2013 Notes that we are obligated to repay in 2013 has been reduced to $144.0 million from $287.5 million. In addition, the interest payments on the 2013 Notes we are obligated to make in 2010, 2011, 2012 and 2013 have been reduced by $6.8 million, $6.8 million, $6.8 million and $3.4 million, respectively; and As a result of our September 2009 financial transactions, we are obligated to pay $155.0 million in October 2012 to retire the 2012 Notes. As specified milestone events under our Janssen collaboration relating to the filing, approval and launch of telaprevir in the European Union are achieved, if at all, prior to October 31, 2012, we will be required to redeem the portion of the 2012 Notes equal to each milestone payment as each such milestone payment is earned under the Janssen collaboration, until the 2012 Notes are redeemed in full. The holders of the 2012 Notes will have the right to cause the repurchase all or any part of the 2012 Notes at 100% of the principal amount of the 2012 Notes to be repurchased if we experience a change of control. ### Recent Accounting Pronouncements Refer to Note 17, "Recent Accounting Pronouncements," in the accompanying notes to the condensed consolidated financial statements for a discussion of recent accounting pronouncements. ## Market risk As filed, 1,194 characters. As part of our investment portfolio, we own financial instruments that are sensitive to market risks. The investment portfolio is used to preserve our capital until it is required to fund operations, including our research and development activities. None of these market risk-sensitive instruments are held for trading purposes. We do not have derivative financial instruments in our investment portfolio. ### Interest Rate Risk We invest our cash in a variety of financial instruments, principally securities issued by the United States government and its agencies, investment grade commercial paper and money market funds. These investments are denominated in United States dollars. All of our interest-bearing securities are subject to interest rate risk, and could decline in value if interest rates fluctuate. Substantially all of our investment portfolio consists of marketable securities with active secondary or resale markets to help ensure portfolio liquidity, and we have implemented guidelines limiting the term-to-maturity of our investment instruments. Due to the conservative nature of these instruments, we do not believe that we have a material exposure to interest rate risk. ## Controls and procedures As filed, 2,393 characters. ### Evaluation of Disclosure Controls and Procedures Our chief executive officer and chief financial officer, after evaluating the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this Quarterly Report on Form 10-Q, have concluded that, based on such evaluation, as of September 30, 2009 our disclosure controls and procedures were effective and designed to provide reasonable assurance that the information required to be disclosed is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. In designing and evaluating our disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. ### Changes in Internal Controls Over Financial Reporting We completed two financial transactions on September 30, 2009 that involved the issuance of the 2012 Notes and a sale of potential future milestone payments. The accounting for these two transactions is material to our financial position as of September 30, 2009 and we believe the internal controls and procedures relating to the accounting for the derivatives resulting from the transactions have a material effect on our internal control over financial reporting. See Note 13, "September 2009 Financial Transactions", to our unaudited condensed consolidated financial statements contained in this Quarterly Report for further details on these transactions. We have expanded our Section 404 compliance program under the Sarbanes-Oxley Act of 2002 and the applicable rules and regulations under this act to include current and on-going accounting for these derivatives. Except for the accounting for these derivatives, no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended) occurred during the third quarter of 2009 that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting. ## Risk factors As filed, 5,973 characters. Information regarding risk factors appears in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2008, which was filed with the SEC on February 17, 2009, as updated by our Quarterly Report on Form 10-Q for the three months ended March 31, 2009, which was filed with the SEC on May 11, 2009. There have been no material changes from the risk factors previously disclosed in the Form 10-K as updated by the Form 10-Q. ### SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-Q and, in particular, our Management's Discussion and Analysis of Financial Condition and Results of Operations set forth in Part I—Item 2, contain or incorporate a number of forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding: our expectations regarding clinical trials, development timelines and regulatory authority filings for telaprevir, VX-770, VX-809, VX-509, VX-222 and other drug candidates under development by us and our collaborators including our intention to submit an NDA for telaprevir in the United States in the second half of 2010; our expectations regarding the number of patients that will be evaluated, the trial design that will be utilized, and the expected date by which SVR data, interim data and/or final data will be available and/or publicly announced for our ADVANCE, REALIZE and ILLUMINATE trials, the other ongoing or planned clinical trials of telaprevir, the ENDEAVOR registration program for VX-770, including the STRIVE, ENVISION and DISCOVER trials, the planned and ongoing clinical trials of VX-809, VX-222 and VX-509, and the clinical trial being conducted by Merck; expectations regarding the amount of, timing of and trends with respect to our revenues, the costs and expenses and other gains and losses, including those related to the intangible assets associated with the ViroChem acquisition and to the liabilities we recorded in connection with the financial transactions that we entered into in September 2009; our belief that if we are able to successfully commercialize telaprevir in accordance with current development timelines, we will begin receiving cash flows from the sale of telaprevir in 2011; the data that will be generated by ongoing and planned clinical trials, and the ability to use that data for the design and initiation of further clinical trials and to support regulatory filings, including potentially applications for marketing approval for telaprevir and VX-770; our plan to begin clinical evaluation of novel combination regimens of telaprevir with VX-222 as early as the fourth quarter of 2009 and the possibility that we will begin evaluation of combination regimens of VX-770 and VX-809 in patients with CF in the second half of 2010; our expectation that we will conduct several significant clinical trials that we believe will provide meaningful information regarding a number of our earlier-stage drug candidates; our expectations regarding the future market demand and medical need for telaprevir and our other drug candidates; our beliefs regarding the support provided by clinical trials and preclinical and nonclinical studies of our drug candidates for further investigation, clinical trials or potential use as a treatment of those drug candidates; our ability to successfully market telaprevir and VX-770 or any of our other drug candidates if we are able to obtain regulatory approval; the focus of our drug development efforts and our financial and management resources and our plan to invest significant resources in telaprevir and our other drug candidates; the establishment, development and maintenance of collaborative relationships; potential business development activities, including with respect to our JAK3 program; our ability to use our research programs to identify and develop new drug candidates to address serious diseases and significant unmet medical needs; our estimates regarding obligations associated with a lease of a facility in Kendall Square, Cambridge, Massachusetts; and our liquidity and our expectations regarding our needs for and ability to raise additional capital. Without limiting the foregoing, the words "believes," "anticipates," "plans," "intends," "expects" and similar expressions are intended to identify forward-looking statements. Any or all of our forward-looking statements in this Quarterly Report on Form 10-Q may turn out to be wrong. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties. Many factors mentioned in our discussion in this Quarterly Report on Form 10-Q will be important in determining future results. Consequently, no forward-looking statement can be guaranteed. Actual future results may vary materially from expected results. We also provide a cautionary discussion of risks and uncertainties under "Risk Factors" in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2008, which was filed with the SEC on February 17, 2009, and updated and supplemented by "Part II—Item 1A—Risk Factors" of our Quarterly Report on Form 10-Q for the quarter ended March 31, 2009, which was filed with the SEC on May 11, 2009. These are factors that we think could cause our actual results to differ materially from expected results. Other factors besides those listed could also adversely affect us. In addition, the forward-looking statements contained herein represent our estimate only as of the date of this filing and should not be relied upon as representing our estimate as of any subsequent date. While we may elect to update these forward-looking statements at some point in the future, we specifically disclaim any obligation to do so to reflect actual results, changes in assumptions or changes in other factors affecting such forward-looking statements. Filed Nov 9, 2009. Source: SEC EDGAR, the filing index for accession 0001047469-09-009834. Last ingested by Listed: Nov 6, 2026, 12:56 ET. No prices; not investment advice.