Pernix Sleep 10Q 2010 Q1 Quarterly report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)


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

For the quarterly period ended March 31, 2010


o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to .

Commission File Number: 000-51665

Somaxon Pharmaceuticals, Inc.

(Exact name of registrant as specified in its charter)


Delaware		20-0161599
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

3570 Carmel Mountain Road, Suite 100, San Diego CA		92130
(Address of principal executive offices)		(Zip Code)

(858) 480-0400
(Registrant’s telephone number, including area code)

420 Stevens Avenue, Suite 210, Solana Beach, CA 92075
(Former name, former address and formal fiscal year, if changed since last report)

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

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

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


Large accelerated filero		Accelerated filero		Non-accelerated filero(Do not check if a smaller reporting company)		Smaller reporting companyþ

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

The number of outstanding shares of the registrant’s common stock, par value $0.0001 per share, as of April 15, 2010 was 34,250,356.

SOMAXON PHARMACEUTICALS, INC.

QUARTERLY REPORT ON FORM 10-Q

For the Quarter Ended March 31, 2010

TABLE OF CONTENTS


	Page
PART I — FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

Condensed Balance Sheets		F-1

Condensed Statements of Operations		F-2

Condensed Statements of Cash Flows		F-3

Condensed Statements of Redeemable Convertible Preferred Stock, Stockholders’ Equity and Comprehensive Loss		F-4

Notes to Condensed Financial Statements		F-7

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		1

Item 3. Quantitative and Qualitative Disclosures about Market Risk		7

Item 4. Controls and Procedures		7

PART II — OTHER INFORMATION

Item 1. Legal Proceedings		8

Item 1A. Risk Factors		8

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		16

Item 3. Defaults Upon Senior Securities		16

Item 4. (Removed and Reserved)		16

Item 5. Other Information		16

Item 6. Exhibits		17

SIGNATURES		18

Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2

PART I — FINANCIAL INFORMATION


Item 1.		Financial Statements

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

CONDENSED BALANCE SHEETS
(Unaudited)
(In thousands, except par value)


	March 31,			December 31,
	2010			2009
ASSETS
Current assets
Cash and cash equivalents	$	58,517		$	5,165
Other current assets		249			409

Total current assets		58,766			5,574
Property and equipment, net		774			777
Intangibles		1,000			—
Other assets		60			60


Total assets	$	60,600		$	6,411


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Accounts payable	$	1,029		$	355
Accrued liabilities		2,258			1,815

Total current liabilities		3,287			2,170


Commitments and contingencies

Stockholders’ equity
Preferred stock, $0.0001 par value; 10,000 shares authorized, none issued and outstanding		—			—
Common stock and additional paid-in capital; $0.0001 par value; 100,000 shares authorized; 34,136 and 25,248 shares outstanding at March 31, 2010 and December 31, 2009, respectively		239,517			182,280
Deficit accumulated during the development stage		(182,204	)		(178,039	)

Total stockholders’ equity		57,313			4,241


Total liabilities and stockholders’ equity	$	60,600		$	6,411

The Accompanying Notes are an Integral Part of these Unaudited Condensed Financial Statements

F-1

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except per share amounts)


							Period from
							August 14, 2003
							(inception)
	Three months ended March 31,						through
	2010			2009			March 31, 2010
Operating expenses
License fees	$	—		$	(996	)	$	5,861
Research and development		1,113			1,486			108,847
Marketing, general and administrative		3,052			3,818			67,828
Remeasurement of Series C warrant liability		—			—			5,649

Net operating expenses		4,165			4,308			188,185

Loss from operations		(4,165	)		(4,308	)		(188,185	)
Interest and other income		1			23			8,853
Interest and other (expense)		(1	)		(259	)		(2,872	)

Net loss		(4,165	)		(4,544	)		(182,204	)
Accretion of redeemable convertible preferred stock to redemption value		—			—			(86	)


Net loss applicable to common stockholders	$	(4,165	)	$	(4,544	)	$	(182,290	)


Basic and diluted net loss per share	$	(0.16	)	$	(0.25	)
Shares used to calculate net loss per share		25,662			18,297

The Accompanying Notes are an Integral Part of these Unaudited Condensed Financial Statements

F-2

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)


							Period from
							August 14, 2003
							(inception)
	Three Months Ended March 31,						through
	2010			2009			March 31, 2010
Cash flows from operating activities
Net loss	$	(4,165	)	$	(4,544	)	$	(182,204	)
Adjustments to reconcile net loss to net cash used in operating activities
Share-based expense		2,180			2,017			29,440
Depreciation		3			44			498
Amortization of investment discount or premium		—			(38	)		—
Accretion of debt discount and issuance costs		—			—			1,145
Issuance of stock for license agreement		—			—			101
Remeasurement of Series C warrant		—			—			5,649
Loss on disposal of equipment		—			1			7
Changes in operating assets and liabilities:
Other current and non-current assets		160			232			(309	)
Accounts payable		674			(96	)		1,029
Accrued current and non-current liabilities		443			(586	)		2,303

Net cash used in operating activities		(705	)		(2,970	)		(142,341	)


Cash flows from investing activities
Purchases of property and equipment		—			—			(1,279	)
Payments for technology rights		(1,000	)		—			(1,000	)
Purchases of marketable securities		—			—			(99,445	)
Sales and maturities of marketable securities		—			3,134			99,445
Restricted cash		—			7,500			—

Net cash provided by (used in) investing activities		(1,000	)		10,634			(2,279	)


Cash flows from financing activities
Issuance of common stock and warrants, net of costs		52,745			—			108,297
Issuance of preferred stock, net of costs		—			—			90,051
Net proceeds from issuance of debt		—			—			14,777
Repayment of debt		—			(15,000	)		(15,000	)
Exercise of warrants		491			—			1,966
Exercise of stock options		1,865			—			3,140
Purchase of treasury stock		(44	)		—			(94	)

Net cash provided by (used in) financing activities		55,057			(15,000	)		203,137

Increase (decrease) in cash and cash equivalents		53,352			(7,336	)		58,517
Cash and cash equivalents at beginning of the period		5,165			11,185			—

Cash and cash equivalents at end of the period	$	58,517		$	3,849		$	58,517


Non-cash investing and financing activities
Accretion of redeemable convertible preferred stock	$	—		$	—		$	86
Conversion of preferred stock into common stock		—			—			89,489
Committed Equity Financing Facility Warrant		—			—			389
Warrants related to Loan Agreement		—			44			966
Supplemental cash flow information
Cash paid for interest	$	—		$	984		$	1,746

The Accompanying Notes are an Integral Part of these Unaudited Condensed Financial Statements

F-3

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

CONDENSED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK, STOCKHOLDERS’ EQUITY AND COMPREHENSIVE LOSS
For the period from August 14, 2003 (inception) through March 31, 2010 (Unaudited)
(In thousands, except per share amounts)


																					Deficit
	Series C Redeemable																				Accumulated			Accumulated
	Convertible Preferred						Convertible Preferred						Common Stock and					Deferred			During the			Other
	Stock						Stock						Additional Paid-in Capital					Stock			Development			Comprehensive
	Shares			Amount			Shares			Amount			Shares		Amount			Compensation			Stage			Income		Total
Issue common stock for cash to founders at $0.0006 per share in August		—		$	—			—		$	—			583	$	—		$	—		$	—		$	—	$	—
Issue Series A convertible preferred stock for cash at $1.00 per share in August, November, and December		—			—			2,282			2,282			—		—			—			—			—		2,282
Net loss		—			—			—			—			—		—			—			(1,463	)		—		(1,463	)

Balance at December 31, 2003		—		$	—			2,282		$	2,282			583	$	—		$	—		$	(1,463	)	$	—	$	819


Issue Series A convertible preferred stock for cash at $1.00 per share in January		—		$	—			18		$	18			—	$	—		$	—		$	—		$	—	$	18
Issue Series B convertible preferred stock for cash at $1.00 per share in April and June, net of issuance costs of $97		—			—			23,000			22,903			—		—			—			—			—		22,903
Issue common stock in April at $1.20 per share for license agreement		—			—			—			—			84		101			—			—			—		101
Exercise of stock options		—			—			—			—			56		4			—			—			—		4
Deferred compensation associated with employee stock option grants		—			—			—			—			—		111			(111	)		—			—		—
Amortization of deferred compensation		—			—			—			—			—		—			13			—			—		13
Consultant share-based expense		—			—			—			—			—		14			—			—			—		14
Net loss		—			—			—			—			—		—			—			(13,598	)		—		(13,598	)

Balance at December 31, 2004		—		$	—			25,300		$	25,203			723	$	230		$	(98	)	$	(15,061	)	$	—	$	10,274


Issue Series C redeemable convertible preferred stock for cash at $1.35 per share in June and September, net of issuance costs of $152		48,148		$	64,848			—		$	—			—	$	—		$	—		$	—		$	—	$	—
Series C proceeds allocated to warrant		—			(648	)		—			—			—		—			—			—			—		—
Additional paid-in capital from the exercise of the Series C warrant		—			—			—			—			—		6,297			—			—			—		6,297
Accretion of Series C redeemable convertible preferred stock to redemption value		—			86			—			—			—		(86	)		—			—			—		(86	)
Issue common stock in initial public offering in December at $11.00 per share, net of issuance costs of $5,180		—			—			—			—			5,000		49,820			—			—			—		49,820
Conversion of preferred stock into common stock		(48,148	)		(64,286	)		(25,300	)		(25,203	)		12,242		89,489			—			—			—		64,286
Exercise of stock options		—			—			—			—			80		177			—			—			—		177
Deferred compensation associated with employee stock option grants		—			—			—			—			—		4,741			(4,741	)		—			—		—
Amortization of deferred compensation		—			—			—			—			—		—			1,037			—			—		1,037
Consultant share-based expense		—			—			—			—			—		137			—			—			—		137
Net loss		—			—			—			—			—		—			—			(38,487	)		—		(38,487	)

Balance at December 31, 2005		—		$	—			—		$	—			18,045	$	150,805		$	(3,802	)	$	(53,548	)	$	—	$	93,455

F-4

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)


																	Deficit
	Series C Redeemable																Accumulated			Accumulated
	Convertible Preferred				Convertible Preferred				Common Stock and						Deferred		During the			Other
	Stock				Stock				Additional Paid-in Capital						Stock		Development			Comprehensive
	Shares		Amount		Shares		Amount		Shares			Amount			Compensation		Stage			Income			Total

Net loss		—	$	—		—	$	—		—		$	—		$	—	$	(46,410	)	$	—		$	(46,410	)
Unrealized gain on available-for-sale securities		—		—		—		—		—			—			—		—			2			2

Comprehensive loss																								(46,408	)
Deferred stock compensation eliminated upon adoption of SFAS No. 123(R)		—		—		—		—		—			(3,802	)		3,802		—			—			—
Exercise of stock options		—		—		—		—		37			146			—		—			—			146
Share-based compensation related to employee awards		—		—		—		—		—			4,959			—		—			—			4,959
Consultant share-based expense		—		—		—		—		—			158			—		—			—			158
Vesting of early exercised stock options		—		—		—		—		—			47			—		—			—			47

Balance at December 31, 2006		—	$	—		—	$	—		18,082		$	152,313		$	—	$	(99,958	)	$	2		$	52,357


Net loss		—	$	—		—	$	—		—		$	—		$	—	$	(26,411	)	$	—		$	(26,411	)
Unrealized gain on available-for-sale securities		—		—		—		—		—			—			—		—			46			46

Comprehensive loss																								(26,365	)
Exercise of stock options		—		—		—		—		171			682			—		—			—			682
Share-based compensation related to employee awards		—		—		—		—		—			8,407			—		—			—			8,407
Consultant share-based expense		—		—		—		—		—			73			—		—			—			73
Vesting of early exercised stock options		—		—		—		—		—			22			—		—			—			22
Restricted stock issued at $0.0001 per share in October		—		—		—		—		200			—			—		—			—			—
Restricted stock repurchased at $0.0001 per share in December		—		—		—		—		(20	)		—			—		—			—			—

Balance at December 31, 2007		—	$	—		—	$	—		18,433		$	161,497		$	—	$	(126,369	)	$	48		$	35,176


Net loss		—	$	—		—	$	—		—		$	—		$	—	$	(37,227	)	$	—		$	(37,227	)
Unrealized loss on available-for-sale securities		—		—		—		—		—			—			—		—			(39	)		(39	)

Comprehensive loss																								(37,266	)
Exercise of stock options		—		—		—		—		8			25			—		—			—			25
Share-based compensation related to employee awards		—		—		—		—		—			6,283			—		—			—			6,283
Consultant share-based expense		—		—		—		—		—			16			—		—			—			16
Restricted stock repurchased at $4.66 per share in April		—		—		—		—		(11	)		(50	)		—		—			—			(50	)
Warrants issued pursuant to the Loan Agreement in May		—		—		—		—		—			922			—		—			—			922
Warrants issued pursuant to the Committed Equity Financing Facility in May		—		—		—		—		—			389			—		—			—			389
Financing cost of warrant issued pursuant to the Committed Equity Financing Facility		—		—		—		—		—			(389	)		—		—			—			(389	)

Balance at December 31, 2008		—	$	—		—	$	—		18,430		$	168,693		$	—	$	(163,596	)	$	9		$	5,106

F-5

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)


																	Deficit
	Series C Redeemable																Accumulated			Accumulated
	Convertible Preferred				Convertible Preferred				Common Stock and						Deferred		During the			Other
	Stock				Stock				Additional Paid-in Capital						Stock		Development			Comprehensive
	Shares		Amount		Shares		Amount		Shares			Amount			Compensation		Stage			Income			Total

Net loss		—	$	—		—	$	—		—		$	—		$	—	$	(14,443	)	$	—		$	(14,443	)
Unrealized loss on available-for-sale securities		—		—		—		—		—			—			—		—			(9	)		(9	)

Comprehensive loss																								(14,452	)
Issue common stock in July at $1.05 per share and warrants at $0.125 per share, net of issuance costs of $268		—		—		—		—		5,106			5,732			—		—			—			5,732
Issue common stock pursuant to vesting of restricted stock units		—		—		—		—		166			—			—		—			—			—
Exercise of warrants for cash		—		—		—		—		1,277			1,475			—		—			—			1,475
Warrants issued in March pursuant to loan payoff		—		—		—		—		—			44			—		—			—			44
Net share settlement of warrants		—		—		—		—		183			—			—		—			—			—
Exercise of stock options		—		—		—		—		116			173			—		—			—			173
Restricted stock repurchased at $0.0001 per share		—		—		—		—		(30	)		—			—		—			—			—
Share-based compensation related to employee awards		—		—		—		—		—			6,160			—		—			—			6,160
Consultant share-based expense		—		—		—		—		—			3			—		—			—			3

Balance at December 31, 2009		—	$	—		—	$	—		25,248		$	182,280		$	—	$	(178,039	)	$	—		$	4,241


Net loss		—	$	—		—	$	—		—		$	—		$	—	$	(4,165	)	$	—		$	(4,165	)
Issue common stock in March at $8.25 per share, net of issuance costs of $480		—		—		—		—		6,900			52,745			—		—			—			52,745
Exercise of warrants for cash		—		—		—		—		426			491			—		—			—			491
Net share settlement of warrants		—		—		—		—		111			—			—		—			—			—
Exercise of stock options		—		—		—		—		1,333			1,865			—		—			—			1,865
Issue common stock pursuant to vesting of restricted stock units		—		—		—		—		129			—			—		—			—			—
Restricted stock repurchased at $3.94 per share in March		—		—		—		—		(11	)		(44	)		—		—			—			(44	)
Share-based compensation related to employee awards		—		—		—		—		—			2,180			—		—			—			2,180

Balance at March 31, 2010		—	$	—		—	$	—		34,136		$	239,517		$	—	$	(182,204	)	$	—		$	57,313

The Accompanying Notes are an Integral Part of these Unaudited Condensed Financial Statements

F-6

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

Note 1. Organization and Summary of Significant Accounting Policies

Business

Somaxon Pharmaceuticals, Inc. (“Somaxon”, “the Company”, “we” or “our”), is a specialty pharmaceutical company focused on the in-licensing, development and commercialization of proprietary branded products and late-stage product candidates for the treatment of diseases and disorders in the central nervous system therapeutic area. Somaxon is a Delaware corporation founded on August 14, 2003 upon in-licensing its first product candidate, Silenor^® (doxepin) for the treatment of insomnia. On March 18, 2010, the U.S. Food and Drug Administration (the “FDA”) notified us that it had approved our New Drug Application (“NDA”) for Silenor 3 mg and 6 mg tablets for the treatment of insomnia characterized by difficulties with sleep maintenance. We operate in one reportable segment, which is the development and commercialization of pharmaceutical products.

Basis of Presentation

The accompanying condensed balance sheet as of December 31, 2009, which has been derived from our audited financial statements, and the unaudited interim condensed financial statements have been prepared in accordance with U.S. generally accepted accounting principles and the rules and regulations of the Securities and Exchange Commission (“SEC”) related to a quarterly report on Form 10-Q. Certain information and note disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to those rules and regulations, although we believe that the disclosures made are adequate to make the information presented not misleading. The unaudited interim condensed financial statements reflect all adjustments which, in the opinion of our management, are necessary for a fair statement of the results for the periods presented. All such adjustments are of a normal and recurring nature. These unaudited condensed financial statements should be read in conjunction with the financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2009. The operating results presented in these unaudited condensed financial statements are not necessarily indicative of the results that may be expected for any future periods.

Capital Resources

Although we have received FDA approval for Silenor, Somaxon is a development stage company and has not derived any revenue from product sales to date. We have incurred losses from operations and negative cash flows since inception and we expect to continue to incur substantial losses for the foreseeable future as we seek to commercialize Silenor, and potentially pursue the development of other product candidates. We may need to obtain additional funds to finance our operations in the future. We intend to obtain any additional funding we require through strategic relationships, public or private equity or debt financings, assigning receivables or royalty rights, or other arrangements and cannot assure such funding will be available on reasonable terms, or at all. Additional equity financing may be dilutive to our stockholders, and debt financing, if available, may involve restrictive covenants.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.

F-7

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

Cash and Cash Equivalents

All highly liquid investments with maturities of three months or less at the time of purchase are considered to be cash equivalents. Investments with maturities at the date of purchase greater than three months are classified as marketable securities. At March 31, 2010, our investment holdings consisted only of money market funds. All of our cash equivalents have liquid markets and high credit ratings.

Fair Value

Cash and investment holdings, accounts payable and accrued liabilities are presented in the financial statements at their carrying amounts which are reasonable estimates of fair value due to their short maturities.

The fair value of financial assets and liabilities is measured under a framework that establishes “levels” which are defined as follows: Level 1 fair value is determined from observable, quoted prices in active markets for identical assets or liabilities. Level 2 fair value is determined from quoted prices for similar items in active markets or quoted prices for identical or similar items in markets that are not active. Level 3 fair value is determined using the entity’s own assumptions about the inputs that market participants would use in pricing an asset or liability. The fair value of our investment holdings at March 31, 2010, which are comprised solely of cash equivalents, is summarized in the following table (in thousands):


	Total Fair		Fair Value Determined Under:
	Value		(Level 1)		(Level 2)		(Level 3)
Cash equivalents
Money market funds	$	58,517	$	58,517	$	—	$	—

Share-Based Compensation Expense

Share-based expense for employees and directors is recognized in the statement of operations based on estimated amounts, including the grant date fair value, the probability of achieving performance conditions and the expected service period. We estimate the grant date fair value for our stock option awards using the Black-Scholes valuation model which requires the use of multiple subjective inputs including estimated future volatility, expected forfeitures and the expected term of the option. Our stock did not have a readily available market prior to our initial public offering in December 2005, creating a relatively short history from which to obtain data to estimate the volatility of our stock price. Consequently, we estimate expected future volatility based on a combination of both comparable companies and the Company’s own stock price volatility to the extent such history is available. The expected term for stock options is estimated using guidance provided by the Securities and Exchange Commission (“SEC”) in Staff Accounting Bulletin (“SAB”) No. 107 and SAB 110. This guidance provides a formula-driven approach for determining the expected term. Share-based compensation is based on awards expected to ultimately vest and has been reduced for estimated forfeitures. The estimated forfeiture rates may differ from actual forfeiture rates which would affect the amount of expense recognized during the period. Estimated forfeitures are adjusted to actual amounts as they become known.

We recognize the value of the portion of the awards that are ultimately expected to vest on a straight-line basis over the award’s requisite service period. The requisite service period is generally the time over which our share-based awards vest. Some of our share-based awards vest upon achieving certain performance conditions, generally pertaining to the commercial launch of Silenor or the achievement of other strategic objectives. Share-based compensation expense for awards with performance conditions is recognized over the period from the date the performance condition is determined to be probable of occurring through the time the applicable condition is met. If the performance condition is not considered probable of being achieved, no expense is recognized until such time the performance condition is considered probable of being met.

F-8

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

Net Loss per Share

Basic earnings per share (“EPS”) excludes the effects of common stock equivalents and is calculated by dividing net income or loss applicable to common stockholders by the weighted average number of common shares outstanding for the period, reduced by the weighted average number of unvested common shares outstanding subject to repurchase. Diluted EPS is computed in the same manner as basic EPS, but includes the effects of common stock equivalents to the extent they are dilutive, using the treasury-stock method. For Somaxon, basic and dilutive net loss per share are equivalent because we have incurred a net loss in all periods presented, causing any potentially dilutive securities to be anti-dilutive.

Net loss per share was determined as follows (in thousands, except per share amounts):


	Three months ended March 31,
	2010			2009
Numerator:
Net loss	$	(4,165	)	$	(4,544	)


Denominator:
Weighted average common shares outstanding		25,749			18,432
Weighted average unvested common shares subject to repurchase		(87	)		(135	)

Denominator for basic and diluted net loss per share		25,662			18,297

Basic and diluted net loss per share	$	(0.16	)	$	(0.25	)


Weighted average anti-dilutive securities not included in diluted net loss per share calculation:
Weighted average stock options outstanding		3,432			4,653
Weighted average restricted stock units outstanding		813			763
Weighted average warrants outstanding		4,167			449
Weighted average unvested common shares subject to repurchase		87			135

Total weighted average anti-dilutive securities not included in diluted net loss per share		8,499			6,000

Income Taxes

We are subject to taxation in the United States and California. We are not currently under examination by the Internal Revenue Service or any other taxing authority. Our tax years from inception in 2003 and forward can be subject to examination by the tax authorities due to the carryforward of net operating losses and research and development credits. Our accounting policy is to record interest and penalties related to unrecognized tax benefits in income tax expense; however, no interest or penalties have been accrued as of March 31, 2010. We had unrecognized tax benefits of approximately $910,000 at December 31, 2009. It is expected that the amount of unrecognized tax benefits may change over the course of the year; however, because our deferred tax assets are fully reserved, we do not expect the change to have a significant impact on our results of operations, cash flows or financial position.

Recent Accounting Pronouncements

In October 2009, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2009-13 “Revenue Recognition,” which provides guidance on recognizing revenue in arrangements with multiple deliverables. This standard impacts the determination of when the individual deliverables included in a multiple element arrangement may be treated as a separate unit of accounting. It also modifies the manner in which the consideration received from the transaction is allocated to the multiple deliverables and no longer permits the use of the residual method of allocating arrangement consideration. This accounting standard is effective for the first reporting period ending after June 15, 2010, with early adoption permitted. We are still evaluating the potential future effects of this guidance.

F-9

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

Note 2. Composition of Certain Balance Sheet Items

Other Current Assets

Other current assets consisted of the following (in thousands):


	March 31,		December 31,
	2010		2009
Deposits and prepaid expenses	$	200	$	352
Other current assets		49		57

Total other current assets	$	249	$	409

Property and Equipment

Property and equipment consisted of the following (in thousands):


	March 31,			December 31,
	2010			2009
Tooling	$	772		$	772
Computer equipment		147			147
Furniture and equipment		58			58

Property and equipment, at cost		977			977
Less: accumulated depreciation		(203	)		(200	)

Property and equipment, net	$	774		$	777

Included in tooling is $749,000 of production equipment for the manufacture of packaged Silenor tablets which has not been placed in service as of March 31, 2010.

Depreciation expense for the three month periods ended March 31, 2010 and 2009 was $3,000 and $44,000, respectively. Depreciation expense recognized in the first quarter of 2009 included an additional $18,000 of expense as a result of a change in the useful lives of certain furniture and fixtures and leasehold improvements to provide for their full depreciation at April 30, 2009.

Accrued Liabilities

Accrued liabilities consisted of the following (in thousands):


	March 31,		December 31,
	2010		2009
Accrued severance	$	1,659	$	1,659
Other accrued compensation and benefits		599		156

Total accrued liabilities	$	2,258	$	1,815

From March 2009 through May 2009, Somaxon terminated the employment of thirteen employees as part of a general cost reduction initiative resulting from ongoing delays in the NDA approval process. Each of the terminated employees entered into a separation agreement and a separate consulting arrangement with us. Somaxon paid $513,000 to these former employees during 2009 under these separation agreements and has a remaining deferred severance obligation of $1,659,000. In March and April 2010, we agreed to settle a portion of this deferred severance obligation in the form of stock grants to certain of the recipients.

F-10

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

Note 3. License Agreements

In August 2003 and as amended in October 2003 and September 2006, we entered into an exclusive worldwide in-license agreement with ProCom One, Inc. (“ProCom”) to develop and commercialize Silenor for the treatment of insomnia. The term of the license extends until the last licensed patent expires, which is expected to occur no earlier than 2020. The license agreement is terminable by us at any time with 30 days notice if we believe that the use of the product poses an unacceptable safety risk or if it fails to achieve a satisfactory level of efficacy. Either party may terminate the agreement with 30 days notice if the other party commits a material breach of its obligations and fails to remedy the breach within 90 days, or upon the filing of bankruptcy, reorganization, liquidation, or receivership proceedings. We have paid $2,500,000 and issued 84,000 shares of common stock with a value of $101,000 at the date of grant to ProCom under the provisions of the license agreement. Payments made prior to the approval of the Silenor NDA by the FDA on March 17, 2010 were expensed as incurred since the underlying technology was considered to be in the research and development phase. Costs related to the licensed intellectual property made after that date have been capitalized and included in intangibles in our condensed balance sheet as of March 31, 2010. Capitalized amounts are amortized on a straight line basis over the expected life of the intellectual property which we estimate to be approximately 10 years. Revenue-based royalty payments due under the terms of the in-license agreement will be expensed as incurred.

In October 2006, we entered into a supply agreement pertaining to a certain ingredient used in the formulation for Silenor. In August 2008, this supply agreement was amended to provide us with the exclusive right to use this ingredient in combination with doxepin. Pursuant to the amendment, we made an upfront license payment of $150,000 and are obligated to pay a royalty on worldwide net sales of Silenor beginning as of the expiration of the statutory exclusivity period for Silenor in each country in which Silenor is marketed. Such royalty is only payable if one or more patents under the license agreement continue to be valid in each such country and a patent relating to our formulation for Silenor has not been issued in such country.

Note 4. Commitments and Contingencies

We are a party to a manufacturing supply agreement with Patheon Pharmaceuticals, Inc. under which Patheon is obligated to manufacture commercial quantities of Silenor tablets. Under the terms of the contract, Somaxon is not obligated to purchase a minimum quantity; however, we are obligated to purchase specified percentages of the total annual commercial requirements of Silenor. The agreement has an initial five-year term beginning upon commencement of the manufacturing services, but the agreement automatically renews for additional twelve-month periods thereafter if it is not affirmatively terminated. The agreement is terminable with written notice at least 18 months prior to the end of the current term. Additionally, we may terminate the agreement with twelve months notice in connection with a partnering, collaboration, sublicensing, acquisition, or similar event. The agreement is also subject to termination in the event of material breach of contract, bankruptcy, or government action inhibiting the use of the product candidate.

We have employment agreements with certain of our current employees that provide for severance payments and accelerated vesting for certain share-based awards if their employment is terminated under specified circumstances.

Note 5. Share-based Compensation and Equity

Equity

In March 2010, we issued 6,900,000 shares of common stock in a public offering of our stock at $8.25 per share. The net proceeds from the offering, after underwriting discounts and commissions and estimated offering costs, were approximately $52,745,000.

F-11

SOMAXON PHARMACEUTICALS, INC.
(A development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

Share-based Compensation Expense

Somaxon has restricted stock units (“RSUs”) and stock options outstanding under its equity incentive award plans. Share-based expense for employees and directors is based on the grant-date fair value of the award, while share-based expense for consultants is based on the fair value of the award at the time the award vests. The following table summarizes non-cash compensation expense for our employees and directors (in thousands):


	Three Months Ended March 31,
Composition of share-based compensation:	2010		2009
Included in research and development expense	$	550	$	444
Included in marketing, general and administrative expense		1,630		1,587

Total share-based compensation expense	$	2,180	$	2,031

Not included in the table above is share-based compensation expense for consultant awards. The share-based expense for consultant awards was not significant in either 2009 or 2010.

Included in these tables for 2009 is the effect of the termination of employment for certain individuals which created an acceleration of share-based compensation expense. Upon separation, each of the employees entered into a consulting arrangement with us which provided for continued vesting in share-based awards through the expiration of the consulting agreement. The consulting agreements were not considered substantive for accounting purposes because additional service was not required to be rendered by the consultants in order to continue vesting in their share-based awards. Also, upon separation, certain individuals received accelerated vesting of their share-based awards. As a result of such non-substantive consulting arrangements and accelerated vesting, we recognized $727,000 of share-based compensation expense during 2009 on the dates of termination.

Included in these tables for 2010 is the effect of a modification of the option agreements with these terminated employees as a result of an extension of the term of their consulting agreements. We recognized $233,000 of share-based compensation expense during 2010 as a result of this modification.

Certain of our share-based awards vest upon the achievement of performance conditions. Compensation expense for share-based awards granted to employees and directors is recognized based on the grant date fair value for the portion of the awards for which performance conditions are considered probable of being achieved. Such expense is recorded over the period the performance condition is expected to be performed. No expense is recognized for awards with performance conditions that are considered improbable of being achieved. On March 18, 2010, the FDA notified us that it approved our NDA for Silenor 3 mg and 6 mg tablets. FDA approval of the Silenor NDA caused 105,000 shares of restricted stock to vest, 129,000 RSUs to vest, and 275,000 stock options to vest. The Company recognized an aggregate of $1,384,000 of share-based compensation expense during the first quarter of 2010 from the vesting of these awards.

Note 6. Related Party Transaction

Somaxon has in-licensed certain intellectual property from ProCom (see Note 3, “License Agreements”). In March 2010, we paid $1.0 million to ProCom pursuant to the terms of this agreement. As part of the in-license agreement, ProCom has the right to designate one nominee for election to our board of directors (Terrell Cobb, a principal of ProCom). The in-license agreement also provides a consulting arrangement for Dr. Neil Kavey, who is the other principal of ProCom. We paid Dr. Kavey a total of $34,000 during the first quarter of both 2010 and 2009 under this consulting arrangement. Payments to Dr. Kavey will continue through April 2010.

Note 7. Subsequent Events

New Facility Lease

In April 2010, we entered into a new lease arrangement to rent approximately 6,000 square feet of office space for 12 months beginning on May 1, 2010 for a monthly rental of $18,000 plus other pass-through charges.

F-12


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

The interim financial statements and this Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the financial statements and notes thereto for the year ended December 31, 2009, and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in our Annual Report onForm 10-K for the year ended December 31, 2009. In addition to historical information, this discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including but not limited to those set forth under the caption “Risk Factors” in theForm 10-K for the year ended December 31, 2009 and the caption “Risk Factors” in thisForm 10-Q for the quarter ended March 31, 2010.

Overview

Background

We are a specialty pharmaceutical company focused on the in-licensing, development and commercialization of proprietary branded products and late-stage product candidates for the treatment of diseases and disorders in the central nervous system therapeutic area. On March 18, 2010, the United States Food and Drug Administration, or the FDA, notified us that it had approved our New Drug Application, or NDA for Silenor 3 mg and 6 mg tablets for the treatment of insomnia characterized by difficulty with sleep maintenance.

We believe that Silenor is highly differentiated from currently available insomnia treatments, and could have significant advantages in a large and growing insomnia market. We have undertaken and continue to undertake activities to prepare for the commercial launch of Silenor. In addition, we continue to engage in discussions with third parties with the goal of entering into a collaboration or other strategic transaction relating to the commercialization of Silenor.

Critical Accounting Policies and Estimates

Management’s discussion and analysis of our financial condition and results of operations is based on our condensed financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these condensed financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, expenses and related disclosures. Actual results could differ from those estimates. We believe the following accounting policies to be critical to the judgments and estimates used in the preparation of our condensed financial statements.

Revenues

As a development stage company, we have not generated any revenues to date, and we do not expect to generate any revenues from licensing, achievement of milestones or product sales until we enter into a strategic collaboration or are able to commercialize Silenor.

License Fees

Our license fees consist of the costs incurred to in-license our product candidates. Prior to the FDA approval of our NDA, we had expensed all license fees and milestone payments for acquired development and commercialization rights to operations as incurred since the underlying technology associated with these expenditures related to our research and development efforts and had no alternative future use at the time. License fees related to our intellectual property are capitalized once technological feasibility has been established. Capitalized amounts are amortized on a straight line basis over the expected life of the intellectual property which we estimate to be approximately 10 years. Determining when technological feasibility has been achieved, and determining the related amortization period for capitalized intellectual property, requires the use of estimates and subjective judgment.

Research and Development Expenses

Our research and development costs are expensed as incurred. Research and development expense includes internal costs such as salaries, benefits and share-based compensation expense, as well as costs from external service providers relating to our clinical trials, non-clinical studies and our NDA filing for Silenor and drug development costs. Measurement of these external research and development expenses often requires judgment as we may not have been invoiced or otherwise notified of actual costs, making it necessary to estimate the efforts completed to date and the related expense. The period over which services are performed, the level of services performed as of a given date, and the cost of such services are often subjective determinations. Our principal vendors operate within terms of contracts which establish program costs and estimated timelines. We assess the status of our programs through regular discussions between our program management team and the related vendors. Based on these assessments, we determine the progress of our programs in relation to the scope of work outlined in the contracts, and recognize the related amount of expense accordingly. We adjust our estimates as actual costs become known to us. Changes in estimates could materially affect our results of operations.

Share-based Compensation

Share-based compensation expense for employees and directors is recognized in the statement of operations based on estimated amounts, including the grant date fair value, the probability of achieving performance conditions and the expected service period. For stock options, we estimate the grant date fair value using the Black-Scholes valuation model which requires the use of multiple subjective inputs including estimated future volatility, expected forfeitures and the expected term of the award. Our stock did not have a readily available market prior to our initial public offering in December 2005, creating a relatively short history from which to obtain data to estimate volatility for our stock price. Consequently, we estimate our expected future volatility based on a combination of both comparable companies and our own stock price volatility to the extent such history is available. Our future volatility may differ from our estimated volatility at the grant date. We estimate the expected term of our options using guidance provided by the SEC’s SAB No. 107 and SAB No. 110. This guidance provides a formula-driven approach for determining the expected term. Share-based compensation recorded in our statement of operations is based on awards expected to ultimately vest and has been reduced for estimated forfeitures. Our estimated forfeiture rates may differ from actual forfeiture rates which would affect the amount of expense recognized during the period.

We recognize the value of the portion of the awards that are expected to vest on a straight-line basis over the awards’ requisite service periods. The requisite service period is generally the time over which our share-based awards vest. Some of our share-based awards vest upon achieving certain performance conditions, generally pertaining to the commercial launch of Silenor or the achievement of other strategic objectives. Share-based compensation expense for awards with performance conditions is recognized over the period from the date the performance condition is determined to be probable of occurring through the time the applicable condition is met. If the performance condition is not considered probable of being achieved, then no expense is recognized until such time the performance condition is considered probable of being met. At that time, expense is recognized over the period during which the performance condition is likely to be achieved.

Determining the likelihood and timing of achieving performance conditions is a subjective judgment made by management which may affect the amount and timing of expense related to these share-based awards. Share-based compensation is adjusted to reflect the value of options which ultimately vest as such amounts become known in future periods. As a result of these subjective and forward-looking estimates, the actual value of our stock options realized upon exercise could differ significantly from those amounts recorded in our financial statements.

Results of Operations

Comparisons of the Three Months Ended March 31, 2010 and 2009

License fees.License fees for 2010 and 2009 were as follows (in thousands, except percentages):


	Three Months Ended
	March 31,					Change
	2010		2009			Dollar			Percent
Nalmefene and acamprosate	$	—	$	(996	)	$	(996	)		100	%

Total license fees	$	—	$	(996	)	$	(966	)		100	%

We had no license fees expense in 2010. In March 2009, we entered into an agreement with BioTie to mutually terminate the license for nalmefene. Pursuant to the termination agreement, BioTie paid us a $1.0 million termination fee which was recorded as a reduction of license fees expense. Our results from 2009 also reflect an immaterial annual payment due under our license agreement with the University of Miami related to our nalmefene program.

Research and Development Expense.For the three months ended March 31, 2010, our most significant research and development costs were salaries, benefits and share-based compensation expense related to our research and development personnel while our most significant external costs were associated with our development program for Silenor, including our continuing two-year carcinogenicity study, costs relating to the resubmission of the Silenor NDA to the FDA and drug development costs pertaining to Silenor.

Research and development expense for 2010 and 2009 were as follows (in thousands, except percentages):


	Three Months Ended
	March 31,				Change
	2010		2009		Dollar			Percent
Silenor development work	$	91	$	334	$	(243	)		(73	)%
Personnel and other costs		472		721		(249	)		(35	)%
Share-based compensation expense		550		431		119			28	%

Total research and development expense	$	1,113	$	1,486	$	(373	)		(25	)%

Research and development expense decreased $0.4 million for 2010 compared to 2009 primarily due to a reduction in headcount, which occurred as part of cost reduction measures, and contributed to lower salary and benefit expense. Silenor development expenses also decreased because of the lower level of activity relating to both the preparation of the NDA and non-clinical studies during the first quarter of 2010 compared with the first quarter of 2009. Share-based compensation expense attributable to research and development personnel increased due to recognition of compensation costs associated with the vesting of performance based equity awards upon FDA approval of the NDA for Silenor in the first quarter of 2010.

We expect our research and development expenses to remain a significant component of our operating expenses in the future. We are unable to estimate with certainty our future research and development expenses in part because we cannot forecast with any degree of certainty whether Silenor will be subject to future collaborations or other strategic transactions, when such arrangements will be secured, if at all, and to what degree such arrangements would affect our development plans and capital requirements.

Marketing, General and Administrative Expense. Our marketing, general and administrative expenses consist primarily of salaries, benefits, share-based compensation expense, advertising, market research costs, insurance and facility costs, and professional fees related to our marketing, administrative, finance, human resources, legal and internal systems support functions. For the three month period ended March 31, 2010, our most significant marketing, general and administrative expenses were salaries and benefits, professional service fees and share based compensation expense.

Marketing, general and administrative expense for 2010 and 2009 were as follows (in thousands, except percentages):


	Three Months Ended
	March 31,				Change
	2010		2009		Dollar			Percent
Marketing, personnel and general costs	$	1,422	$	2,232	$	(810	)		(36	)%
Share-based compensation expense		1,630		1,586		44			3	%

Total marketing, general and administrative expense	$	3,052	$	3,818	$	(766	)		(20	)%

Marketing, general and administrative expense decreased $0.8 million for 2010 compared to 2009 due to reduced market preparation activities as a result of the delay in the approval of Silenor. In addition, reduced headcount as a result of cost reduction measures contributed to lower salary and benefit expenses in 2010, and professional fees were lower in 2010 due to a lower level of business activity. Share-based compensation expense attributable to marketing, general and administrative personnel increased slightly compared to 2009 due to recognition of compensation costs associated with the vesting of performance based equity awards upon FDA approval of the NDA for Silenor in the first quarter of 2010.

Because our NDA for Silenor was approved by the FDA, we expect our marketing, general and administrative expenses to increase as we add personnel and prepare for the commercial launch of Silenor. We are unable to estimate with certainty our future marketing, general and administrative expenses in part because we cannot forecast with any degree of certainty whether Silenor will be subject to future collaborations or other strategic transactions, when such arrangements will be secured, if at all, and to what degree such arrangements would affect our commercialization plans and capital requirements. As a result, we cannot be certain when and to what extent we will receive cash inflows from the commercialization of Silenor or collaboration agreements, if at all.

Interest and Other Income.Interest and other income for 2010 and 2009 was as follows (in thousands, except percentages).


	Three Months Ended
	March 31,				Change
	2010		2009		Dollar			Percent
Interest and other income	$	1	$	23	$	(22	)		(96	)%

Interest and other income consist primarily of interest earned on our cash and cash equivalents. The decrease in interest and other income was primarily due to lower average cash and cash equivalent balances as a result of our continued net operating losses and repayment of our debt in March 2009, as well as lower interest rates earned on our cash and marketable securities over the last year.

We expect our interest income to increase since our cash and cash equivalents balances have increased due to capital-raising activities, offset by decreases to the extent our cash and cash equivalents balances decrease from continued operating losses.

Interest and Other (Expense).Interest and other (expense) for 2010 and 2009 was as follows (in thousands, except percentages).


	Three Months Ended
	March 31,						Change
	2010			2009			Dollar			Percent
Interest and other (expense)	$	(1	)	$	(259	)	$	(258	)		(99	)%

The decrease in interest and other (expense) reflects the repayment of our debt obligations in March 2009.

Liquidity and Capital Resources

Somaxon is a development stage company and has not derived any revenues from product sales to date. Since inception, our operations have been financed primarily through the private placement of equity securities, our public offerings and the proceeds from the exercise of warrants and stock options. Through March 31, 2010, we have received net proceeds of approximately $90.0 million from the sale of shares of our preferred stock and net proceeds of $113.4 million through sales of our common stock, including the exercise of stock options and warrants.

We expect to continue to incur losses and have negative cash flows from operations in the foreseeable future as we seek to commercialize Silenor and potentially pursue the development of other product candidates. We cannot be certain if, when, or to what extent we will receive cash inflows from the commercialization of Silenor.

The report of our independent registered public accounting firm for the year ended December 31, 2009 included an explanatory paragraph stating that our recurring losses from operations and negative cash flows raise substantial doubt about our ability to continue as a going concern. In March 2010, we completed a public offering of 6,900,000 shares of our common stock at a public offering price of $8.25 per share for aggregate net proceeds of approximately $52.7 million, and at March 31, 2010 we had cash and cash equivalents totaling $58.5 million. We may need to obtain additional funds to finance our operations in the future. We intend to obtain any additional funding we require through strategic relationships, public or private equity or debt financings, assigning receivables or royalty rights or other arrangements.

Our future capital uses and requirements depend on numerous forward-looking factors. These factors include but are not limited to the following:

•

the terms and timing of any collaborative, licensing and other arrangements that we may establish;

•

the costs of establishing or contracting for sales and marketing and other commercial capabilities, if required;

•

the extent to which we acquire or in-license new products, technologies or businesses;

•

the rate of progress and cost of our non-clinical studies, clinical trials and other development activities;

•

the scope, prioritization and number of development programs we pursue;

•

the effect of competing technological and market developments; and

•

the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights.

We have invested a substantial portion of our available cash in money market funds. The capital markets have recently been highly volatile and there has been a lack of liquidity for certain financial instruments, especially those with exposure to mortgage-backed securities and auction rate securities. All of our investments in money market funds continue to be highly rated, highly liquid and have readily determinable fair values. As a result, none of our securities are considered to be impaired.

We have an effective shelf registration statement on Form S-3 on file with the SEC. This registration statement could allow us to obtain additional financing, subject to the SEC’s rules and regulations relating to eligibility to use Form S-3.

Cash Flows

Net cash used in operating activities was $0.7 million in the first quarter of 2010, compared to $3.0 million for the first quarter of 2009. The decrease in net cash used in operating activities was primarily due to our cost reduction measures taken in 2009 and the working capital impact of an increase in our accounts payable and accrued liabilities during 2010 of $1.1 million. Cash flow from operations for the first quarter of 2009 includes the receipt of $1.0 million from the termination of our nalmefene license with BioTie in March 2009. Net cash used in investing activities was $1.0 million for the first quarter of 2010, compared to net cash provided by investing activities of $10.6 million during the first quarter of 2009. Results for 2010 reflect a $1.0 million milestone payment to ProCom under our license agreement which became due as a result of the approval by the FDA of our NDA for Silenor. Results for 2009 reflect proceeds from the sale of marketable securities of $3.1 million and the release of restricted cash of $7.5 million in connection with the repayment of our bank debt. Net cash provided by financing activities was $55.1 million in the first quarter of 2010, compared to net cash used in financing activities of $15.0 million for the first quarter of 2009. Our 2010 results reflect cash proceeds of $52.7 million from our follow-on offering and proceeds of $2.4 million from the exercise of warrants and stock options. Results for 2009 reflect the repayment of $15.0 million of our bank debt.

Contractual Obligations

The following table describes our commitments to settle contractual obligations in cash as of March 31, 2010 (in thousands):


	Payments Due By Period
			2011		2013
	Remainder		through		through		After
	of 2010		2012		2014		2014		Total
Operating lease obligations	$	7	$	7	$	—	$	—	$	14
Non-cancellable purchase orders		515		—		—		—		515

Total	$	522	$	7	$	—	$	—	$	529

We have entered into a license agreement to acquire the rights to develop and commercialize Silenor. Pursuant to this agreement, we obtained exclusive, sub-licenseable rights to the patents and know-how for certain indications. This license agreement required us to pay an upfront payment as well as additional payments upon the achievement of specific development and regulatory approval milestones. We are also obligated to pay royalties under the agreement until the later of the expiration of the applicable patent. These royalty payments are not included in the table above because we cannot at this time determine when or if the commencement of payment obligations will occur.

We have contracted with various consultants, drug manufacturers, and other vendors to assist in clinical trial work, pre-clinical studies, data analysis, and preparation for the potential commercial launch of Silenor. The contracts are terminable at any time, but obligate us to reimburse the providers for any time or costs incurred through the date of termination. We also have employment agreements with each of our current executive officers that provide for severance payments and accelerated vesting for certain share-based awards if their employment with us is terminated under specified circumstances.

Off-Balance Sheet Arrangements

We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

Recent Accounting Pronouncements

In October 2009, the FASB issued ASU No. 2009-13 “Revenue Recognition,” which provides guidance on recognizing revenue in arrangements with multiple deliverables. This standard impacts the determination of when the individual deliverables included in a multiple element arrangement may be treated as a separate unit of accounting. It also modifies the manner in which the consideration received from the transaction is allocated to the multiple deliverables and no longer permits the use of the residual method of allocating arrangement consideration. This accounting standard is effective for the first reporting period ending after June 15, 2010, with early adoption permitted. We are still evaluating the potential future effects of this guidance.

Caution on Forward-Looking Statements

Any statements in this report about our expectations, beliefs, plans, objectives, assumptions or future events or performance are not historical facts and are forward-looking statements. You can identify these forward-looking statements by the use of words or phrases such as “believe,” “may,” “could,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “seek,” “plan,” “expect,” “should” or “would.” Among the factors that could cause actual results to differ materially from those indicated in the forward-looking statements are risks and uncertainties inherent in our business including, without limitation: our ability to successfully commercialize Silenor; the potential to enter into and the terms of any commercial partnership or other strategic transaction relating to Silenor; the scope, validity and duration of patent protection and other intellectual property rights for Silenor; whether the approved label for Silenor is sufficiently consistent with such patent protection to provide exclusivity for Silenor; our ability to operate our business without infringing the intellectual property rights of others; estimates of the potential markets for Silenor and our ability to compete in these markets; inadequate therapeutic efficacy or unexpected adverse side effects relating to Silenor that could delay or prevent commercialization, or that could result in recalls or product liability claims; our ability to ensure adequate and continued supply of Silenor to successfully launch commercial sales or meet anticipated market demand; other difficulties or delays in development, testing, manufacturing and marketing of Silenor; the timing and results of non-clinical studies and post-approval regulatory requirements for Silenor, and the FDA’s agreement with our interpretation of such results; our ability to raise sufficient capital to fund our operations, and to meet our obligations to parties under financing agreements, and the impact of any such financing activity on the level of our stock price; the impact of any inability to raise sufficient capital to fund ongoing operations; and other risks detailed in this report under Part II — Item 1A — Risk Factors below and previously disclosed in our Annual Report on Form 10-K.

Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee future results, events, levels of activity, performance or achievement. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, unless required by law. This caution is made under the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.


Item 3.		Quantitative and Qualitative Disclosures about Market Risk

Our cash and cash equivalents at March 31, 2010 consisted primarily of money market funds. The primary objective of our investment activities is to preserve principal while maximizing the income we receive from our investments without significantly increasing risk. Historically, our primary exposure to market risk is interest rate sensitivity. This means that a change in prevailing interest rates may cause the value of the investment to fluctuate. For example, if we purchase a security that was issued with a fixed interest rate and the prevailing interest rate later rises, the value of our investment will probably decline. Currently, our holdings are in money market funds, and therefore this interest rate risk is minimal. To minimize our interest rate risk going forward, we intend to continue to maintain our portfolio of cash, cash equivalents and marketable securities in a variety of securities consisting of money market funds and United States government debt securities, all with various maturities. In general, money market funds are not subject to market risk because the interest paid on such funds fluctuates with the prevailing interest rate. We also generally time the maturities of our investments to correspond with our expected cash needs, allowing us to avoid realizing any potential losses from having to sell securities prior to their maturities.

Our cash is invested in accordance with a policy approved by our board of directors which specifies the categories, allocations, and ratings of securities we may consider for investment. We do not believe our cash and cash equivalents have significant risk of default or illiquidity. We made this determination based on discussions with our treasury managers and a review of our holdings. While we believe our cash and cash equivalents are diversified and do not contain excessive risk, we cannot provide absolute assurance that our investments will not be subject to future adverse changes in market value.


Item 4.		Controls and Procedures

Evaluation of Disclosure Controls and Procedures

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

As required by Securities and Exchange Commission Rule 13a-15(b), we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at the reasonable assurance level as of March 31, 2010.

Changes in Internal Control Over Financial Reporting

There has been no change in our internal control over financial reporting during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II — OTHER INFORMATION


Item 1.		Legal Proceedings

Not applicable.


Item 1A.		Risk Factors

Investing in our common stock involves a high degree of risk. Our Annual Report on Form 10-K for the year ended December 31, 2009 includes a detailed discussion of our risk factors under the heading “Part I, Item 1A—Risk Factors.” Set forth below are certain changes from the risk factors previously disclosed in our Annual Report onForm 10-K. You should carefully consider the risk factors discussed in our Annual Report onForm 10-K and in this report, as well as the other information in this report, before deciding whether to invest in shares of our common stock. The occurrence of any of the risks discussed in the Annual Report onForm 10-K or this report could harm our business, financial condition, results of operations or growth prospects. In that case, the trading price of our common stock could decline, and you may lose all or part of your investment. Except with respect to our trademarks, the trademarks, trade names and service marks appearing in this report are the property of their respective owners.

Risks Related to Our Business

We will require substantial additional funding and may be unable to raise capital when needed, which could force us to delay, reduce or eliminate planned activities.

We are a development stage company with no revenues, and our operations to date have generated substantial needs for cash. We expect our negative cash flows from operations to continue until we are able to generate significant cash flows from the commercialization of Silenor.

The commercialization activities relating to Silenor we undertake are likely to result in the need for substantial additional funds. Our future capital requirements will depend on, and could increase significantly as a result of, many factors, including:

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the terms and timing of any collaborative, licensing and other arrangements that we may establish;

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the costs of establishing or contracting for sales and marketing and other commercial capabilities, if required;

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the extent to which we acquire or in-license new products, technologies or businesses;

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the rate of progress and cost of our non-clinical studies, clinical trials and other development activities;

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the scope, prioritization and number of development programs we pursue;

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the effect of competing technological and market developments; and

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the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights.

We intend to obtain any additional funding we require through strategic relationships, public or private equity or debt financings, assigning receivables or royalty rights, or other arrangements and cannot assure that such funding will be available on reasonable terms, or at all.

If we are unsuccessful in raising additional required funds, we may be required to delay, scale-back or eliminate plans or programs relating to our business, relinquish some or all rights to Silenor, or renegotiate less favorable terms with respect to such rights than we would otherwise choose. In addition, if we do not meet our payment obligations to third parties as they come due, we may be subject to litigation claims. Even if we are successful in defending against these claims, litigation could result in substantial costs and be a distraction to management, and may result in unfavorable results that could further adversely impact our financial condition. If we raise additional funds by issuing equity securities, substantial dilution to existing stockholders would result. If we raise additional funds by incurring debt financing, the terms of the debt may involve significant cash payment obligations as well as covenants and specific financial ratios that may restrict our ability to operate our business.

Even though Silenor received regulatory approval, it will still be subject to substantial ongoing regulation.

Even though U.S. regulatory approval has been obtained for Silenor, the FDA has imposed restrictions on its indicated uses or marketing and imposed ongoing requirements for post-approval studies or other activities. For example, the approved use of Silenor is limited to the treatment of insomnia characterized by sleep maintenance difficulty. In addition, the FDA has required us to implement a risk evaluation and mitigation strategy, or REMS, consisting of a medication guide and a timetable for assessment of its effectiveness. We are also required to complete a standard clinical trial assessing the safety and efficacy of Silenor in children aged 6 to 16 pursuant to the Pediatric Research Equity Act of 2003, or PREA, and to submit final results of this trial by March 2015. Any issues relating to these restrictions or requirements could have an adverse impact on our ability to achieve market acceptance of Silenor and generate revenues from its sale.

Recently, the FDA has also requested that all manufacturers of sedative-hypnotic drug products modify their product labeling to include stronger language concerning potential risks. These risks include severe allergic reactions and complex sleep-related behaviors, which may include sleep-driving. The FDA also recommended that the drug manufacturers conduct clinical studies to investigate the frequency with which sleep-driving and other complex behaviors occur in association with individual drug products. Our approved label for Silenor includes warnings relating to risks of complex sleep behaviors.

Silenor will also be subject to ongoing FDA requirements for the labeling, packaging, storage, advertising, promotion, record-keeping and submission of safety and other post-market information. For example, as a condition to approval of the NDA for Silenor, the FDA has required us to develop a REMS to ensure that the benefits of Silenor outweigh its risks. A REMS can include information to accompany the product, such as a patient package insert or a medication guide, a communication plan, elements to assure safe use, and an implementation system, and must include a timetable for assessment of the REMS. Our REMS for Silenor consists of a medication guide and a timetable for assessment of its effectiveness. In addition, the FDA may require modifications to the REMS at a later date if warranted by new safety information. Any future requirements imposed by the FDA may require substantial expenditures.

Approved products, manufacturers and manufacturers’ facilities are subject to continual review and periodic inspections. If a regulatory agency discovers previously unknown problems with a product, such as adverse events of unanticipated severity or frequency, or problems with the facility where the product is manufactured, a regulatory agency may impose restrictions on that product or on us, including requiring withdrawal of the product from the market.

If our operations relating to Silenor fail to comply with applicable regulatory requirements, a regulatory agency may:

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issue warning letters or untitled letters;

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impose civil or criminal penalties, including fines;

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suspend regulatory approval;

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suspend any ongoing clinical trials;

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refuse to approve pending applications or supplements to approved applications filed by us;

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impose restrictions on operations, including costly new manufacturing requirements; or

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seize or detain products or require a product recall.

We are preparing for the commercialization of Silenor, and we will need to expend significant resources and recruit personnel to successfully commercialize Silenor.

We have undertaken and continue to undertake activities to prepare for the commercial launch of Silenor. We have developed a marketing strategy that will focus on high-prescribing physicians in the U.S. Even though several of our employees have been involved in the successful launch of new pharmaceutical products, as a company, we have limited commercial infrastructure and experience. We have not commercialized any products to date.

The commercialization process will require the expenditure by us of substantial financial and other resources, particularly if we are unable to enter into a collaboration or other strategic relationship relating to such process with a third party. We continue to engage in discussions with third parties with the goal of entering into a collaboration or other strategic transaction relating to the commercialization of Silenor. The outcome of this process and the structure of any resulting transaction could vary depending on the interest and objectives of the parties. However, we cannot assure you that we will complete any collaboration or other strategic transaction, or that, if completed, any collaboration or other strategic transaction will be successful or on attractive terms. If adequate commercialization resources are not readily available to us, we may be required to delay or cancel planned commercialization activities, or the effectiveness of such activities may be adversely impacted.

We may pursue a relationship with a contract sales organization to facilitate our sales efforts, and we may not be able to identify contract sales organizations with adequate sales capabilities or capacity. In addition, we may not be able to enter into agreements with these entities on commercially reasonable or acceptable terms, or at all. As a result, we may not be able to build a sales force of sufficient size or quality to effectively market and sell our products.

To the extent that we enter into any such arrangements with third parties, any revenues we receive from sales of our products in those markets will depend upon the efforts of such third parties, which in many instances will not be within our control. If any such third party fails to devote sufficient time and resources to Silenor, or if its performance is substandard or does not comply with applicable laws or regulations, the commercial success of Silenor could be adversely affected.

We are subject to uncertainty relating to healthcare reform measures, reimbursement policies and regulatory proposals which, if not favorable to Silenor or any other product candidate that we commercialize, could hinder or prevent our commercial success.

Our ability to successfully commercialize Silenor and any other product to which we obtain rights, with or without a partner, will depend in part on the extent to which governmental authorities, private health insurers and other organizations establish appropriate coverage and reimbursement levels for the cost of our products and related treatments. The continuing efforts of the government, insurance companies, managed care organizations and other payors of healthcare services to contain or reduce costs of healthcare may adversely affect:

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the ability to obtain a price we believe is fair for our products;

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the ability to generate revenues and achieve or maintain profitability;

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the future revenues and profitability of our potential customers, suppliers and collaborators; and

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the availability of capital.

The United States Congress recently enacted legislation to reform the healthcare system. A major goal of the new healthcare reform law was to provide greater access to healthcare coverage for more Americans. Accordingly, the new healthcare reform law requires individual U.S. citizens and legal residents to maintain qualifying health coverage, imposes certain requirements on employers with respect to offering health coverage to employees, amends insurance regulations regarding when coverage can be provided and denied to individuals, and expands existing government healthcare coverage programs to more individuals in more situations. Among other things, the new healthcare reform law specifically:

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establishes annual, non-deductible fees on any entity that manufactures or imports certain branded prescription drugs, beginning 2011;

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increases minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program, retroactive to January 1, 2010;

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redefines a number of terms used to determine Medicaid drug rebate liability, including average manufacturer price and retail community pharmacy, effective October 2010;

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extends manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations, effective March 2010;

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expands eligibility criteria for Medicaid programs by, among other things, allowing states to offer Medicaid coverage to additional individuals beginning April 2010 and by adding new mandatory eligibility categories for certain individuals with income at or below 133 percent of the Federal Poverty Level beginning 2014, thereby potentially increasing manufacturers’ Medicaid rebate liability;

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establishes a new Patient-Centered Outcomes Research Institute to oversee, identify priorities in and conduct comparative clinical effectiveness research;

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requires manufacturers to participate in a coverage gap discount program, under which they must agree to offer 50 percent point-of-sale discounts off negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturer’s outpatient drugs to be covered under Medicare Part D, beginning 2011; and

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increases the number of entities eligible for discounts under the Public Health Service pharmaceutical pricing program, effective January 2010.

While this legislation will, over time, increase the number of patients who have insurance coverage for our products, it also is likely to adversely affect our results of operations. Some states are also considering legislation that would control the prices of drugs, and state Medicaid programs are increasingly requesting manufacturers to pay supplemental rebates and/or requiring prior authorization by the state program. It is likely that federal and state legislatures and health agencies will continue to focus on additional healthcare reform in the future.

As a result of the new reform measures, we may determine to change our current manner of operation or change our contract arrangements, any of which could harm our ability to operate our business efficiently, obtain collaborators and raise capital. In addition, in certain foreign markets, the pricing of prescription drugs is subject to government control and reimbursement may in some cases be unavailable or insufficient.

In addition, managed care organizations are increasingly challenging the prices charged for medical products and services and, in some cases, imposing restrictions on the coverage of particular drugs. Many managed care organizations negotiate the price of medical services and products and develop formularies which establish pricing and reimbursement levels. Exclusion of a product from a formulary can lead to its sharply reduced usage in the managed care organization’s patient population. The process for obtaining coverage can be lengthy and time-consuming, and we expect that it could take several months before a particular payor initially reviews our product and makes a decision with respect to coverage. If our products are not included within an adequate number of formularies or adequate reimbursement levels are not provided, or if those policies increasingly favor generic or OTC products, our overall business and financial condition could be adversely affected.

Current healthcare reform measures and any future legislative proposals to reform healthcare or reduce government insurance programs may result in lower prices for Silenor and any other product candidate that we commercialize or exclusion of our product candidates from coverage and reimbursement programs. Either of those could harm our ability to market our products and significantly reduce our revenues from the sale of our product.

Further, there have been a number of legislative and regulatory proposals concerning reimportation of pharmaceutical products and safety matters. For example, in an attempt to protect against counterfeit drugs, the federal government and numerous states have enacted pedigree legislation. In particular, California has enacted legislation that requires development of an electronic pedigree to track and trace each prescription drug at the saleable unit level through the distribution system. California’s electronic pedigree requirement is scheduled to take effect beginning in January 2015. Compliance with California and future federal or state electronic pedigree requirements will likely require an increase in our operational expenses and will likely be administratively burdensome.

We expect intense competition in the insomnia marketplace for Silenor and any other product to which we acquire rights, and new products may emerge that provide different and/or better therapeutic alternatives for the disorders that our products are intended to treat.

Silenor will compete with well established drugs for this indication, including the branded and generic versions of Sanofi-Synthélabo, Inc.’s Ambien, King Pharmaceuticals, Inc.’s Sonata, and Lunesta, marketed by Sepracor Inc., a wholly-owned subsidiary of Dainippon Sumitomo Pharma Co., Ltd., all of which are GABA-receptor agonists, Takeda Pharmaceuticals North America, Inc.’s Rozerem, a melatonin receptor antagonist, and Sanofi-Synthélabo Inc.’s Ambien CR, a controlled-release formulation of the current GABA-receptor agonist, Ambien.

A number of companies are marketing reformulated versions of previously approved GABA-receptor agonists. In March 2009, Meda AB and Orexo AB received approval from the FDA for Edluar, formerly known as Sublinox, a sublingual tablet formulation of zopidem, for the short-term treatment of insomnia. Meda and Orexo launched this product in the U.S. in the third quarter of 2009.

In December 2008, NovaDel Pharma, Inc. received approval from the FDA for ZolpiMist, an oral mist formulation of zolpidem, for the short-term treatment of insomnia characterized by difficulties with sleep initiation. In November 2009, NovaDel and ECR Pharmaceuticals Company, Inc., a wholly owned subsidiary of Hi-Tech Pharmacal Co., Inc., entered into an exclusive license and distribution agreement to commercialize and manufacture ZolpiMist in the United States and Canada. ECR Pharmaceuticals announced that it plans to launch the product in the United States in the first half of 2010.

In addition to the currently approved products for the treatment of insomnia, a number of new products are expected to enter the insomnia market over the next several years. Transcept Pharmaceuticals, Inc. submitted an NDA for Intermezzo, a low-dose sublingual tablet formulation of zolpidem in 2008, and in October 2009, Transcept announced that it received a complete response letter from the FDA relating to such NDA. Transcept held a meeting with the FDA in January 2010 to discuss the implications of the complete response letter. In March 2010 Transcept announced a plan to conduct a driving study to assess next day residual effects for Intermezzo, with enrollment to begin in the late second quarter of 2010. Transcept also stated that if the outcome of this study is positive, it plans to resubmit the Intermezzo NDA in the late fourth quarter of 2010. Transcept and Purdue Pharmaceutical Products L.P. have entered into an exclusive license and collaboration agreement to commercialize Intermezzo in the United States.

Alexza Pharmaceuticals, Inc. has announced positive results from a Phase 1 clinical trial of an inhaled formulation of zaleplon, the active pharmaceutical ingredient in Sonata. Somnus Therapeutics, Inc. has announced positive results from a Phase 1 clinical trial of a delayed-release formulation of zaleplon.

Vanda Pharmaceuticals Inc. has completed two Phase 3 clinical trials of VEC-162, a melatonin receptor agonist. Vanda has announced that it intends to submit a marketing application for this product candidate in the United States in mid-2011.

Takeda Pharmaceuticals North America, Inc. has conducted a clinical study to evaluate the administration of a combination of Takeda’s product Rozerem and 3 mg of doxepin in patients with insomnia. We are unaware of the results of this trial.

Merck & Co., Inc. has MK-4305, an orexin antagonist, in Phase 3 clinical trials for the treatment of insomnia.

Actelion Pharmaceuticals Ltd. completed a Phase 3 clinical trial of almorexant, an orexin antagonist, in December 2009. Based on the results of that clinical trial, Actelion announced that it was preparing further late-stage trials in adults and elderly patients to evaluate the long-term efficacy and safety of this product candidate. Actelion and GlaxoSmithKline have entered into a collaboration relating to almorexant under which GlaxoSmithKline received exclusive, worldwide rights to co-develop and co-commercialize almorexant together with Actelion.

Several other companies, including Sepracor, are evaluating 5HT2 antagonists as potential hypnotics, and Eli Lilly and Company is evaluating a potential hypnotic that is a dual histamine/5HT2 antagonist. Additionally, several other companies are evaluating new formulations of existing compounds and other compounds for the treatment of insomnia.

Furthermore, generic versions of Ambien and Sonata have been launched and are priced significantly lower than approved, branded insomnia products. Sales of all of these drugs may reduce the available market for, and could put downward pressure on, the price we are able to charge for any product developed by us for this indication, which could ultimately limit our ability to generate significant revenues.

The biotechnology and pharmaceutical industries are subject to rapid and intense technological change. We face, and will continue to face, competition in the development and marketing of Silenor or any other product candidate to which we acquire rights from academic institutions, government agencies, research institutions and biotechnology and pharmaceutical companies. There can be no assurance that developments by others, including the development of other drug technologies and methods of preventing the incidence of disease, will not render Silenor or any other product candidate that we develop obsolete or noncompetitive.

Compared to us, many of our potential competitors have substantially greater:

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capital resources;

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research and development resources, including personnel and technology;

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regulatory experience;

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experience conducting non-clinical studies and clinical trials, and related resources;

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expertise in prosecution of intellectual property rights; and

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manufacturing, distribution and sales and marketing resources and experience.

As a result of these factors, our competitors may develop drugs that are more effective and useful and less costly than ours and may be more successful than we are in manufacturing and marketing their products. Our competitors may also obtain patent protection or other intellectual property rights or seek to invalidate or otherwise challenge our intellectual property rights, limiting our ability to successfully commercialize product candidates.

In addition, manufacturing efficiency and marketing capabilities are likely to be significant competitive factors. We currently have no commercial manufacturing capability and limited sales and marketing infrastructure.

We will need to increase the size of our organization, and we may experience difficulties in managing growth.

As of March 31, 2010 we had five full-time employees, and as of April 30, 2010 we had eleven full-time employees. The commercialization of Silenor may require us to recruit and train a substantial number of sales and marketing personnel. Our management and personnel, systems and facilities currently in place may not be adequate to support this or other future growth. Our need to effectively manage our operations, growth and various projects requires that we:

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manage our commercialization efforts effectively while carrying out our contractual obligations to collaborators and other third parties and complying with all applicable laws, rules and regulations;

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continue to improve our operational, financial and management controls, reporting systems and procedures; and

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attract, train and retain sufficient numbers of talented employees.

We may be unable to successfully implement these tasks on a larger scale and, accordingly, may not achieve our commercialization goals.

Risks Related to Our Finances and Capital Requirements

Capital raising activities, such as issuing securities, incurring debt, assigning receivables or royalty rights or entering into collaborations or other strategic transactions, may cause dilution to existing stockholders, restrict our operations or require us to relinquish proprietary rights and may be limited by applicable laws and regulations.

In March 2010, we completed a public offering of 6,900,000 shares of our common stock at a public offering price of $8.25 per share for aggregate net proceeds of approximately $52.7 million. In July 2009, we completed a private placement of 5.1 million shares of our common stock at a price of $1.05 per share and seven-year warrants to purchase up to 5.1 million additional shares of our common stock, exercisable in cash or by net exercise at a price of $1.155 per share, for aggregate net proceeds of $5.7 million. We may need to obtain additional funds in the future.

To the extent that we raise any required additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted. Any such dilution of the holdings of our current stockholders may result in downward pressure on the price of our common stock.

Any debt, receivables or royalty financing we enter into may involve covenants that restrict our operations. These restrictive covenants may include limitations on additional borrowing and specific restrictions on the use of our assets as well as prohibitions on our ability to create liens, pay dividends, redeem our stock or make investments.

Debt financing, receivables assignments, royalty interest assignments and other types of financing are often coupled with an equity component, such as warrants to purchase stock. For example, in connection with our July 2009 private placement of equity securities, we issued to the investors warrants to purchase 5.1 million shares of our common stock, 3.4 million of which have not been exercised as of March 31, 2010. To the extent that any of these warrants, or any additional warrants that are outstanding or that we issue in the future, are exercised by their holders, dilution of our existing stockholders’ ownership interests will result.

If we raise additional funds through collaborations or other strategic transactions, it may be necessary to relinquish potentially valuable rights to our potential products or proprietary technologies, or grant licenses on terms that are not favorable to us.

In addition, rules and regulations of the SEC or other regulatory agencies may restrict our ability to conduct certain types of financing activities, or may affect the timing of and the amounts we can raise by undertaking such activities. For example, under current SEC regulations, at any time during which the aggregate market value of our common stock held by non-affiliates, or our public float, is less than $75 million, the amount that we can raise through primary public offerings of securities in any twelve-month period using one or more registration statements on Form S-3 will be limited to an aggregate of one-third of our public float. As of March 31, 2010, our public float was greater than $75 million.

We have never generated revenues or been profitable, we may not be able to generate revenues sufficient to achieve profitability and we will need substantial additional financing to operate our business.

We are a development stage company and have not generated any revenues or been profitable since inception, and it is possible that we will not achieve profitability. We incurred net losses of $4.2 million for the three months ended March 31, 2010, $14.4 million for the year ended December 31, 2009 and $37.2 million for the year ended December 31, 2008. In addition, the report of our independent registered public accounting firm for the year ended December 31, 2009 included an explanatory paragraph stating that our recurring losses from operations and negative cash flows raise substantial doubt about our ability to continue as a going concern. We expect to continue to incur significant operating losses and capital expenditures. As a result, we will need to generate significant revenues to achieve and maintain profitability. We cannot assure you that we will achieve significant revenues, if any, or that we will ever achieve profitability. Even if we do achieve profitability, we cannot assure you that we will be able to sustain or increase profitability on a quarterly or annual basis in the future. If revenues grow more slowly than we anticipate or if operating expenses exceed our expectations or cannot be adjusted accordingly, our business, results of operations and financial condition will be materially and adversely affected.

Risks Relating to Securities Markets and Investment in Our Stock

There may not be a viable public market for our common stock, and market volatility may affect our stock price and the value of your investment.

Our common stock had not been publicly traded prior to our initial public offering, which was completed in December 2005, and an active trading market may not develop or be sustained. We have never declared or paid any cash dividends on our capital stock. We currently intend to retain all available funds and any future earnings to support operations and finance the growth and development of our business. We do not intend to pay cash dividends on our common stock for the foreseeable future. Therefore, investors will have to rely on appreciation in our stock price and a liquid trading market in order to achieve a gain on their investment. The market prices for securities of biotechnology and pharmaceutical companies have historically been highly volatile, and the market has from time to time experienced significant price and volume fluctuations that are unrelated to the operating performance of particular companies. Since our initial public offering on December 15, 2005 through March 31, 2010, the trading prices for our common stock have ranged from a high of $21.24 to a low of $0.18.

The market price of our common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:

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regulatory approval or other changes in the regulatory status of our products or product candidates;

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announcements of new products or technologies, commercial relationships or other events by us or our competitors;

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events affecting our existing in-license agreements and any future collaborations or other strategic transactions, commercial agreements and grants;

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variations in our quarterly operating results;

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decreased coverage and changes in securities analysts’ estimates of our financial performance;

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regulatory developments in the United States and foreign countries;

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fluctuations in stock market prices and trading volumes of similar companies;

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sales of large blocks of our common stock, including sales by our executive officers, directors and significant stockholders;

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announcements concerning other financing activities;

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additions or departures of key personnel; and

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discussion of us or our stock price by the financial and scientific press and in online investor communities.

The realization of any of the risks described in the risk factors disclosed in our Annual Report on Form 10-K or in these “Risk Factors” could have a dramatic and material adverse impact on the market price of our common stock. In addition, class action litigation has often been instituted against companies whose securities have experienced periods of volatility or declines in market price. Any such litigation brought against us could result in substantial costs and a diversion of management’s attention and resources, which could hurt our business, operating results and financial condition.

If our executive officers, directors and largest stockholders choose to act together, they may be able to control our operations and act in a manner that advances their best interests and not necessarily those of other stockholders.

As of April 15, 2010, our executive officers, directors and holders of 5 percent or more of our outstanding common stock beneficially owned approximately 41.3% of our common stock. As a result, these stockholders, acting together, would be able to control all matters requiring approval by our stockholders, including the election of directors and the approval of mergers or other business combination transactions. The interests of this group of stockholders may not always coincide with our interests or the interests of other stockholders, and they may act in a manner that advances their best interests and not necessarily those of other stockholders.

Investors may incur substantial dilution as a result of future equity issuances, and, as a result, our stock price could decline.

Based on our recurring losses, negative cash flows from operations and working capital levels, we may need to raise substantial additional funds. If we are unable to maintain sufficient financial resources, including by raising additional funds when needed, our business, financial condition and results of operations will be materially and adversely affected.

Because we may need to raise additional capital to fund our business, among other things, we may conduct substantial additional equity offerings. For example, in March 2010, we completed a public offering of 6,900,000 shares of our common stock at a public offering price of $8.25 per share for aggregate net proceeds of approximately $52.7 million. In addition, in July 2009, we completed a private placement of 5.1 million shares of our common stock at a price of $1.05 per share and seven-year warrants to purchase up to 5.1 million additional shares of our common stock, exercisable in cash or by net exercise at a price of $1.155 per share, for aggregate net proceeds of $5.7 million. These offerings resulted, and future equity issuances would result, in dilution to investors. In addition, the exercise of outstanding options or warrants, including the warrants issued in our July 2009 private placement, and any additional shares issued in connection with acquisitions or incentive programs, will result in dilution to investors.

We expend substantial costs and management resources as a result of laws and regulations relating to corporate governance matters.

As a public reporting company, we must comply with the Sarbanes-Oxley Act of 2002 and the related rules and regulations adopted by the SEC and by the Nasdaq Stock Market, including expanded disclosures, accelerated reporting requirements and more complex accounting rules. Compliance with Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, and other requirements has caused us to expend substantial costs and management resources and will continue to do so. Additionally, these laws and regulations could make it more difficult or more costly for us to obtain certain types of insurance, including director and officer liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. The impact of these events could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors or board committees or as executive officers. In June 2007, the Public Company Accounting Oversight Board approved Auditing Standard No. 5, and at the same time, the SEC issued guidance for management for complying with the requirements of Section 404. This auditing standard and the related management guidance provides a more risk-based approach to compliance and testing under Section 404. However, we still expect to incur substantial costs and to devote significant resources to corporate governance matters.

In addition, as a result of the workforce reductions we undertook in 2009 in order to reduce expenses, the efforts required to comply with Section 404 and the other corporate governance laws and regulations applicable to us are being undertaken by a smaller number of people. If we, or the third-party service providers on which we rely, fail to comply with any of these laws or regulations, or if our independent registered public accounting firm cannot complete any required attestation of our evaluation of our internal controls in a timely manner, we could be subject to regulatory scrutiny and a loss of public confidence in our corporate governance or internal controls, which could have an adverse effect on our business and our stock price.


Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds

On March 19, 2010, we issued 425,531 shares of our common stock to one of our warrant holders in connection with the exercise of their outstanding warrant. We received gross proceeds of approximately $0.5 million upon exercise of this warrant. On March 19 and March 22, 2010, we issued an aggregate of 242,135 shares of our common stock to two of our warrant holders in connection with the exercise of outstanding warrants. The number of shares issued upon exercise of these warrants was reduced by 130,180 shares to effect the net exercise of their warrants in accordance with their terms, and we therefore received no cash proceeds from the exercise. The issuance of shares of our common stock upon exercise of these warrants were not registered under the Securities Act of 1933, as amended, in reliance upon Section 4(2) of such Act.


Item 3.		Defaults Upon Senior Securities

Not applicable.


Item 4.		(Removed and Reserved)


Item 5.		Other Information

Not applicable.


Item 6.		Exhibits

EXHIBIT INDEX


Exhibit
Number			Description
	3.1	(1)	Amended and Restated Certificate of Incorporation of the Registrant
	3.2	(2)	Amended and Restated Bylaws of the Registrant
	4.1	(3)	Form of the Registrant’s Common Stock Certificate
	4.2	(4)	Amended and Restated Investor Rights Agreement dated June 2, 2005
	4.3	(5)	Warrant dated May 21, 2008 issued to Silicon Valley Bank
	4.4	(5)	Warrant dated May 21, 2008 issued to Oxford Finance Corporation
	4.5	(5)	Warrant dated May 21, 2008 issued to Kingsbridge Capital Limited
	4.6	(6)	Form of Warrant dated July 2, 2009 issued to certain Purchasers under the Securities Purchase Agreement dated July 2, 2009
	10.1	(7)	Employment Agreement dated April 12, 2010, between the Registrant and Tran B. Nguyen
	31.1		Certification of chief executive officer pursuant to Rule 13a-14 and Rule 15d-14 of the Securities Exchange Act of 1934, as amended
	31.2		Certification of chief financial officer pursuant to Rule 13a-14 and Rule 15d-14 of the Securities Exchange Act of 1934, as amended
	32.1	*	Certification of chief executive officer and chief financial officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
	32.2	*	Certification of chief financial officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002


(1)		Filed with Amendment No. 3 to the Registrant’s Registration Statement on Form S-1 on November 30, 2005.

(2)		Filed with Registrant’s Current Report on Form 8-K on December 6, 2007.

(3)		Filed with Amendment No. 4 to the Registrant’s Registration Statement on Form S-1 on December 13, 2005.

(4)		Filed with the Registrant’s Registration Statement on Form S-1 on October 7, 2005.

(5)		Filed with Registrant’s Current Report on Form 8-K on May 22, 2008.

(6)		Filed with Registrant’s Current Report on Form 8-K on July 8, 2009.

(7)		Filed with Registrant’s Current Report on Form 8-K on April 12, 2010.

*		These certifications are being furnished solely to accompany this quarterly report pursuant to 18 U.S.C. Section 1350, and are not being filed for purposes of Section 18 of the Securities Exchange Act of 1934 and are not subject to the liability of that section. These certifications are not to be incorporated by reference into any filing of Somaxon Pharmaceuticals, Inc., whether made before or after the date hereof, regardless of any general incorporation language in such filing.

SIGNATURES

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


	SOMAXON PHARMACEUTICALS, INC.

Dated: May 12, 2010

	/s/ Richard W. Pascoe
	Richard W. Pascoe
	President and Chief Executive Officer (Principal Executive Officer)

Dated: May 12, 2010

	/s/ Tran B. Nguyen
	Tran B. Nguyen
	Vice President and Chief Financial Officer (Principal Financial Officer)

Positive
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Litigious
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Pernix Sleep Inactive 10-Q2010 Q1 Quarterly report

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