Half Yearly Report

SkyePharma PLC (LSE: SKP), LONDON, ENGLAND, 18 August 2011

Summary of unaudited results for the six months ended 30 June 2011

* Net debt is as shown in the balance sheet, which is presented under IFRS 

Financial Highlights

·; Revenues down 25% to £22.1m compared with H1 2010 (£29.3m) which benefited from substantial non-recurring revenues

·; Full year revenue expected to be similar to 2010 if Flutiform™ is approved and launched in initial markets

·; Operating profit in line with Board expectations, down 69% to £2.7m (H1 2010: £8.6m), reflecting the non-recurring manufacturing revenues in the prior year

·; Net profit after tax of £0.4m (H1 2010: £0.9m)

·; Cash and cash equivalents of £20.8m at 30 June 2011 (31 December 2010: £29.0m)

·; Continued investment in R&D in preparation for the anticipated launch of Flutiform™ later this year

Operating Highlights

·; Review of the European Marketing Authorisation Application ("MAA") for Flutiform™ continues to progress and preparations are continuing for its potential launch in initial markets later this year

·; Phase III clinical trials of Flutiform™ in Japan continue to make good progress

·; Second milestone of £1.5m received from GSK on the commencement of Phase III trials of an inhalation product incorporating some of the Group's technology

·; Development and Marketing Agreement for Flutiform™ signed with Sanofi for Mexico, Central and South America

·; Manufacturing alliance formed with Aenova to improve utilisation of the Lyon Facility

·; Agreement with CRC to defer prepayment out of Flutiform™ milestones in return for higher interest rate enhancing the Group's liquidity

Commenting on the results, Dr Axel Müller, Chief Executive Officer, said:

"The Group made significant progress on the delivery of its strategy in the first half of 2011. As anticipated, revenues and operating profits were lower than in the first half of 2010, due to substantial non-recurring revenues in 2010, but profitability remained in line with the Board's expectations."

"The review of Flutiform™ in Europe is well advanced and preparations are continuing for its potential launch in initial markets later this year. Good progress continues to be made with two Phase III clinical trials of Flutiform™ in Japan and the Japanese New Drug Application is expected to be filed during the fiscal year ending March 2013. In July, we were pleased to announce the licensing of Flutiform™ for Mexico, Central and South America to Sanofi, the leading pharmaceutical company in Latin America."

"The Group is also making good progress in several other important areas: the lease of our Lyon manufacturing facility to Aenova is expected to improve utilisation of the plant and the amended agreement with CRC enhances our liquidity position and will assist with funding the working capital requirements of the Flutiform™ supply chain. We expect total revenues for the full year will be similar to 2010 if Flutiform™ is approved and launched in its initial markets in Europe this year."

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About SkyePharma PLC

Using its proprietary drug delivery technologies, SkyePharma develops new formulations of known molecules to provide a clinical advantage and life-cycle extension. The Group has twelve approved products in the areas of oral, inhalation and topical delivery. The Group's products are marketed throughout the world by leading pharmaceutical companies. For more information, visit www.skyepharma.com.

CHAIRMAN'S STATEMENT

Frank Condella

Overview

Revenue in the first half of 2011 was £22.1 million (H1 2010: £29.3 million) running below the levels of 2010, as anticipated, due to the substantial non-recurring manufacturing volumes recorded last year. Operating profit in H1 2011 was £2.7 million (H1 2010: £8.6 million), in line with the Board's expectation. Profit after tax was £0.4 million (H1 2010: £0.9 million).

In the late-stage development pipeline, the review of the European Marketing Authorisation Application ("MAA") for Flutiform™ continues to make progress and preparations are continuing for its potential launch in initial markets later this year. Good progress also continues to be made with two Phase III clinical trials of Flutiform™ in Japan. The Group's licensee, Kyorin Pharmaceutical Company Ltd ("Kyorin"), continues to plan to file the Japanese New Drug Application ("NDA") during the fiscal year ending March 2013 and, subject to receiving approval, launch during the fiscal year ending March 2015.

Since the end of June the Group has made three important announcements which demonstrate the progress of its strategy:

- Flutiform™ has been licensed for Mexico, Central and South America to Sanofi, the leading pharmaceutical company in Latin America.

- An agreement has been reached to lease the entire pharmaceutical manufacturing facility in Lyon to the Aenova Group in a strategic move designed to increase utilisation of the factory and generate cash through rental income, reduced working capital and lower capital expenditure requirements. 

- An amendment has been made to the CRC finance facility to enhance the prospective liquidity position of the Group.

These initiatives reflect the Board's continuing commitment to improve the prospects of the business and focus on exploiting SkyePharma's proven drug delivery capabilities and technologies.

Financial highlights

Revenues in the first half of the year were £22.1 million, down 25 per cent. compared with the first half of 2010 (£29.3 million). This is primarily due to substantial manufacturing revenues in the first half of 2010 related to non-recurring volumes to support regulatory and commercial activities.

Operating profit at £2.7 million is consequently lower than the £8.6 million for the six months to 30 June 2010 due to the non-recurring manufacturing revenues in 2010.

Profit before tax for the first half of 2011 was £0.6 million (H1 2010: £1.2 million), profit after tax was £0.4 million (H1 2010: £0.9 million) and basic earnings per share were 1.7 pence (H1 2010: 3.8 pence).

At 30 June 2011 the Group had cash of £20.8 million, compared with £29.0 million at 31 December 2010, the reduction being mainly due to costs incurred on preparing for the launch of Flutiform™. 

Outlook

2011 remains an important year for SkyePharma with the Board anticipating the completion of the review of the European MAA for Flutiform™ and, subject to approval, initial launches in Europe later this year. Since the announcement in March of the Group's results for 2010 the planned date for the FDA to complete its review (PDUFA date) for EXPAREL™ has been extended to 28 October 2011, which makes it less likely that the Group will receive the U.S.$10 million launch milestone this year.

If Flutiform™ is approved and launched in its initial markets in Europe this year revenues are expected to benefit from initial launch milestones and supply revenues related to Flutiform™. This benefit is expected to be offset by lower royalties due to generic competition affecting certain products, withdrawal by AstraZeneca of Pulmicort® pMDI and the effect of non-recurring manufacturing revenues reported in 2010. The Board, therefore, expects that total revenues for the year will be similar to 2010. As reported previously, costs are expected to be higher in 2011 than in 2010 due to costs relating to the Flutiform™ supply chain.

As anticipated there will continue to be substantial cash outflows during 2011 due to costs incurred on preparing for the launch of Flutiform™. These costs will not be fully offset by milestones arising from the initial launches of Flutiform™ in Europe as the Group is obliged to apply 50% of these milestones as prepayments of the Paul Capital finance facility secured debt. A similar obligation for the CRC finance facility has been deferred, as described in the Financial Review below and announced on 1 August.

The approval and launch of Flutiform™ in Europe anticipated for later this year is pivotal to the value and longer term cash generative potential of the Group. With the approval of Flutiform™ in Europe the Directors believe that the Group would have good growth prospects, and further potential to exploit SkyePharma's proven drug delivery capabilities and technologies.

Frank Condella

Non-Executive Chairman

BUSINESS REVIEW

Dr Axel Müller

CHIEF EXECUTIVE OFFICER'S REVIEW

The Group currently has 12 approved and marketed products which generated £16.5 million of royalty and manufacturing revenues in the first half of 2011 (H1 2010: £25.2 million).

Flutiform™, the fixed dose combination of fluticasone, an inhaled corticosteroid ("ICS"), and formoterol, a long-acting beta agonist ("LABA") in a Metered Dose Inhaler ("MDI"), continues to be an important potential value driver for the Group. In Europe, the MAA for Flutiform™ is progressing in line with the Board's expectations, and preparations continue for its potential launch later this year. As anticipated, substantial investment is being made during 2011 in preparing the Flutiform™ supply chain and supplying product for the launch period. The development of Flutiform™ in Japan is making good progress with the continuing expectation of filing the Japanese NDA by the end of the fiscal year to March 2013. The appointment in July 2011 of Sanofi as the licensee for Flutiform™ for Mexico, Central and South America provides a very strong partner for that region.

According to IMS the preventative asthma/COPD market sizes in 2010 were estimated to be U.S.$8.6 billion (£5.4 billion) in Europe, U.S.$2.1 billion (£1.3 billion) in Japan and U.S.$0.5 billion (£0.3 billion) in Mexico, Central and South America with four-year compound annual growth rates of 6.6%, 11% and 16% respectively. Once approved, Flutiform™ will compete in these markets which comprise anti-leukotrienes, ICS, ICS/LABAs, LAMAs and PDE-4 inhibitors.

The alliance with Aenova for the Group's factory in Lyon ("Lyon Manufacturing Facility") announced on 1 August 2011 and described in detail below is an important strategic development which will simplify the Group's operations and enable it to concentrate on its core drug delivery business. The Aenova alliance is expected to increase utilisation of the Lyon Manufacturing Facility, reduce its dependency on relatively few products and negate the risk of the Group incurring losses from manufacturing oral products. It will also enhance the Group's liquidity from rental income, reduced working capital and lower capital expenditure requirements.

The Group continues to focus on enhancing its business development capabilities and anticipates announcing a new Head of Business Development and Sales in September 2011. 

BUSINESS REVIEW - KEY PRODUCTS

MARKETED PRODUCTS

Xatral® OD

Xatral® OD (Uroxatral® in the United States) is a once-daily version of Sanofi's Xatral® (alfuzosin hydrochloride), a treatment for the signs and symptoms of benign prostatic hypertrophy ("BPH"). In the first half of 2011, reported sales of all forms of Xatral® were €129 million (£115.2 million), down on the first half year 2010 sales of €153 million (£123.9 million). In the United States sales of Uroxatral® were €65 million (£58.0 million), down 20.7 per cent. from H1 2010 due to wholesalers destocking in advance of the generic launches in Q3 2011. Western European sales have continued to fall as a result of generic competition, with sales for the first half of 2011 of €31 million (£27.7 million), a reduction of 11.4 per cent. from H1 2010. Sales in other countries were €33 million (£29.5 million). The Group earns low single digit royalties on net sales of Xatral® OD (Uroxatral®).

Following a successful action by Sanofi which resulted in a ruling which affirmed the validity of a particular U.S. patent, potential generic competition to Uroxatral® in the United States was stayed until the expiry of the paediatric exclusivity on July 18, 2011. Five Abbreviated New Drug Applications ("ANDAs") were approved on July 18, 2011 and generic products have been launched in the United States. 

Solaraze®

Solaraze® (diclofenac), a topical gel treatment for actinic keratosis, is marketed in the United States by Nycomed US, Inc ("Nycomed"). The distribution and marketing partner in Europe and certain other territories is Almirall, S.A. ("Almirall"). The Group earns a low teens royalty rate on net sales.

Net sales of Solaraze® in the United States in the first half of 2011 were U.S.$16.9 million (£10.5 million), 4.9 per cent. lower than reported in H1 2010. Sales in the first half of 2011 by Almirall increased to €12.6 million (£11.6 million) in H1 2011 from €11.8 million (£9.6 million) in H1 2010, an increase of 7%. Almirall is continuing to expand the market for the product by launching in additional European countries.

SkyePharma and its licensee, Nycomed, received an ANDA Paragraph IV notice relating to a potential generic to Solaraze® in the United States in April 2010. Nycomed and SkyePharma have filed suit against the ANDA filer and the proceedings are at an early stage. 

Requip® Once-a-day

Requip® Once-a-day, marketed under various brand names, is a once-daily formulation for Parkinson's disease and was developed in collaboration with GlaxoSmithKline ("GSK"). The extended release Requip® Once-a-day uses the Group's patented Geomatrix™ technology and is designed to provide smoother delivery of ropinirole over 24 hours. It also provides for a convenient, once-daily dosing schedule compared with the immediate-release ropinirole, which is dosed three times a day. 

The U.S. Food and Drug Administration ("FDA") approved Requip® Once-a-day extended release tablets in June 2008 and the product was launched in the United States in July 2008. In 2009, a number of ANDAs were filed with the FDA for generic versions of ropinirole extended release tablets. There was data exclusivity in respect of the product until June 2011, which delayed potential generic product entry into the market.

SkyePharma earns low mid single digit percentage royalties on net sales of Requip® Once-a-day. In the first half of 2011 sales of Requip® Once-a-day totalled £71 million, in line with H1 2010 at constant exchange rates. £51 million was generated in Europe, a 7 per cent. decrease from H1 2010 using constant exchange rates. £18 million arose in the United States, an increase of 12 per cent. at constant exchange rates. The remaining £2 million arose from emerging markets and Asia Pacific which are expected to be increasingly important.

Sular®

The Group developed lower-dose formulations of Sular® (nisoldipine), a calcium channel blocker antihypertensive agent, for Shionogi Pharma, Inc. ("Shionogi Pharma") using the Group's proprietary Geomatrix™ drug delivery system. The products were launched in March 2008.

Sales of Sular® continue to be under pressure from a declining market and increasing competition. Competitive generic versions of the original formulations of Sular® were launched in 2008 and competitive generic versions of the lower-dose formulations of Sular® were approved and launched in January 2011 in the United States. 

In March 2011, a fire at a packaging sub-contractor destroyed several batches of Sular® and Triglide® supplied to Shionogi Pharma and packaging operations were severely disrupted. Shionogi Pharma has taken steps to refill the supply chain and has informed the Group that it intends to maintain both products on the market. In view of these challenges, the Board believes that a positive outcome, whilst being sought, may be less certain for Sular® than for Triglide®.

The lower-dose formulations of Sular® are manufactured at the Lyon Manufacturing Facility. 

Should total net sales of the lower-dose formulations of Sular® be significantly reduced following entry of other generics, the Group's royalty rate would be reduced from a low mid single digit percentage to a low single digit percentage on net sales.

Paxil CR™

Paxil CR™ is an advanced formulation of the anti-depressant Paxil® (paroxetine) and was developed by the Group with GSK using the Group's Geomatrix™ technology. Sales of Paxil CR™ continued to be affected by generic competition especially in the U.S. Growth in sales in Asia and emerging markets outpaced the decline in the U.S. and this trend is expected to continue.

Triglide®

Triglide® (fenofibrate), an oral treatment for elevated blood lipid disorders, is marketed in the United States by Shionogi Pharma. Triglide® was launched in 2005. Triglide® total prescriptions have continued the decline seen in previous periods due to generic competition. Triglide® is manufactured at the Lyon Manufacturing Facility. The Group is entitled to receive royalties at a rate of 25 per cent. of net sales of Triglide®, less the price of product supplied to Shionogi Pharma.

ZYFLO CR® (zileuton) Extended-Release Tablets

The Group developed an extended release formulation of the oral asthma drug zileuton for Cornerstone Therapeutics Inc. ZYFLO CR® (zileuton) extended-release tablets, taken twice daily, utilise the Group's proprietary Geomatrix™ technology, and the product was approved by the FDA in May 2007 for the prophylaxis and chronic treatment of asthma in adults and children aged 12 years and older. ZYFLO CR® and ZYFLO® (zileuton tablets) are the only FDA-approved leukotriene synthesis inhibitors. The Group receives a high mid single digit percentage royalty on net sales of ZYFLO CR®. The product is manufactured at the Lyon Manufacturing Facility.

Lodotra®

Lodotra®, the novel programmed-release formulation of low dose prednisone, utilising SkyePharma's proprietary Geoclock™ technology and developed in collaboration with Horizon Pharma, Inc ("Horizon"), was approved in Europe in March 2009 for the treatment of moderate to severe active rheumatoid arthritis in adults particularly when accompanied by related morning stiffness, under the European decentralised procedure. The first launch was in Germany by Merck Serono (Horizon's licensee for Germany and Austria) in April 2009. The product is approved in 14 European countries as well as in Israel and was launched by Mundipharma (Horizon's distribution partner) in Italy in January 2011. The Group received a small share of the milestone payable on launch in Italy, and is entitled to receive a small share of any future milestones received by Horizon for Lodotra®.

In November 2010, Horizon announced it had signed an exclusive distribution and supply agreement with Mundipharma for the commercialisation of Lodotra® in Australia, China, Hong Kong, Indonesia, Korea, Malaysia, New Zealand, Philippines, Singapore, South Africa, Taiwan, Thailand and Vietnam. In April 2011 Mundipharma acquired the distribution rights for the product in Germany from Merck Serono and has relaunched in this important market with a significantly larger sales force. Horizon currently anticipates that Merck will transfer the second agreement with respect to Austria to Mundipharma as well.

Two pivotal Phase III studies were completed for Lodotra®. The first was a 12-week, randomised, double blind, controlled study against marketed immediate-release prednisone to support MAA approval in Europe. To support the submission of the NDA for the United States a second 12-week, randomised, double blind, multicentre, placebo controlled study involving 350 patients was undertaken with patients in both treatment arms receiving a disease modifying anti-rheumatic drug ("DMARD"). Both studies met their primary endpoints. Horizon has stated that it intends to submit the NDA for Lodotra® in the United States in Q3 2011.

The Group receives a mid single digit percentage royalty on net sales. Lodotra® is manufactured at the Lyon Manufacturing Facility.

Pulmicort® pMDI

As announced on 7 March 2011, AstraZeneca discontinued the production of Pulmicort® pMDI (budesonide) 100 and 200 ug/dose HFA pMDI (pressurised metered dose inhaler) due to complex manufacturing issues related to technical aspects of the device. The issues only impact AstraZeneca's Pulmicort® pMDI device which is a unique combination of device components. Supplies already manufactured or in the supply chain are continuing to be distributed until exhausted. 

SkyePharma developed the formulation for Pulmicort® pMDI using its proprietary formulation technology and earns a mid teens royalty on AstraZeneca's net sales of the product. Royalties from this product in 2010 comprised about 5 per cent. of SkyePharma's revenues.

AstraZeneca has terminated the Group's agreements for Pulmicort® pMDI and certain rights for the product will revert or be licensed to SkyePharma. The Company is exploring the potential for sublicensing these rights.

DEVELOPMENT PIPELINE

Flutiform™

Flutiform™ - Europe

Flutiform™ is licensed to Mundipharma in Europe and most other territories outside Japan and the Americas. The MAA was accepted for review in May 2010 and preparations continue for its potential launch later this year. 

Four Phase III clinical studies (including one high strength study) were carried out in support of the MAA covering approximately 1,200 patients, in addition to the patients enrolled in the studies to support the development for the U.S. market. The primary endpoints were met in all of the clinical studies.

The development and marketing agreement with Mundipharma, as amended, includes milestones of up to €73.0 million (£62.4 million), of which €15.0 million (£10.1 million at that time) was paid upfront, €3.0 million (£2.9 million at that time) was paid on 31 December 2008, up to €15.0 million (£13.5 million) is due on launch and up to €40.0 million (£35.9 million) is sales-related. 

Mundipharma is funding third party development costs of up to €19 million (£17.1 million) principally related to the development of a high strength version of Flutiform™. This cap was increased to €19 million (£17.1 million) from €15 million (£13.5 million) in an amendment signed in November 2010 in order to cover the third party costs of validating the manufacturing line for the high strength product. These costs are initially paid by Mundipharma, which is entitled to recover them out of partial reductions in royalties and sales-related milestones due to the Group for up to four years following commercial launch in one of Europe's five largest markets. 

Under EU regulations there is a requirement to have an agreed Paediatric Investigation Plan ("PIP"). The Paediatric Committee has reviewed the plans for Flutiform™ and a double blind study in children aged 4-12 is required to be completed by December 2013. Under the agreements with Mundipharma the Group has an obligation to bear 50 per cent. of the costs of this study, up to a maximum of €3.5 million (£3.2 million). 

Under the development and marketing agreement the Group is entitled to royalties as a percentage escalating upwards from 10 per cent. of net sales. The net royalties received are subject to the reductions noted above for the recovery of high strength development costs and also by a cap on the total percentage that cost of goods and royalties can represent of net sales of Flutiform™.

Flutiform™ - Japan

Flutiform™ is licensed to Kyorin Pharmaceutical Company Ltd ("Kyorin") in Japan. Under the agreement with Kyorin the Group has received an upfront milestone and certain development milestone payments. Further development and approval milestones worth several million pounds are payable to SkyePharma under the agreement and there is a high mid single digit percentage royalty on net sales. The development costs associated with obtaining approval for the Japanese market are largely being met by Kyorin, which is responsible for clinical studies and regulatory submissions. Good progress continues to be made with two Phase III clinical trials of Flutiform™ in Japan. The target remains to file the NDA during the fiscal year ending March 2013 and, subject to receiving approval, launch during the fiscal year ending March 2015.

Flutiform™ - Mexico, Central and South America

On 28th July 2011, SkyePharma entered into an exclusive Development, License and Marketing Agreement with Sanofi in Mexico, Central and South America for Flutiform™, its lead development product for the treatment of asthma. Under the agreement, SkyePharma is eligible for initial, approval and sales milestones potentially worth several million US dollars and a high single digit percentage royalty on net sales. 

Under the agreement, Sanofi aims to pursue marketing authorisation applications for Flutiform™ throughout the region, including in Mexico, Brazil, Argentina, Venezuela and Colombia. The applications will be based on data included in, and subject to approval of, the MAA for Flutiform™ filed by Mundipharma.

Sanofi currently manufactures Flutiform™ under contract to SkyePharma at its factory in Holmes Chapel, UK, and this arrangement has been extended to allow Sanofi to manufacture Flutiform™ and supply it directly to its group companies for Mexico, Central and South America using certain ingredients and components supplied by SkyePharma.

Flutiform™ - United States

Following the Complete Response Letter from the FDA in January 2010 and subsequent interactions, the Group has carried out a specific amount of chemistry, manufacture and control work to address some of the queries raised by the FDA. Further discussions will be held with the FDA to seek to confirm the scope of work required to meet the FDA's requirements for approval and to provide a good understanding of the likely costs, which would have to be met by any potential partner.

The Board's strategy continues to be to seek a potential partner to finance any substantive additional work required whilst seeking clarity on the requirements for the approval of Flutiform™. In April 2011, the FDA announced that it will require manufacturers of existing marketed products containing long-acting beta agonists ("LABA") to conduct substantial, long-term, post-approval clinical studies to further evaluate the safety of these products. The FDA's announcement did not provide guidance on how these requirements might apply to products not yet on the market, such as Flutiform™. The FDA has previously advised that, if Flutiform™ is approved, there would be a requirement for a post-marketing, long-term safety study. Clarification will be sought on any post-marketing commitment as part of continuing discussions with the FDA to confirm the scope of work required for approval of Flutiform™ in the United States.

SKP-1041

Somnus Therapeutics, Inc. ("Somnus") has successfully completed two Phase I studies and a Phase II study of the delayed release sleep maintenance drug SKP-1041. The product is a new formulation of zaleplon, a non-benzodiazepine hypnotic agent, which utilises SkyePharma's proprietary Geoclock™ technology for delayed release. The formulation is designed to treat people who have difficulty maintaining sleep but not with sleep onset, and is intended to prevent middle-of-the-night awakening while avoiding morning residual effects.

A Phase II study was initiated in June 2010 and the study met its primary end points. Somnus reported that "at all three doses tested in the study, SKP-1041 significantly reduced time spent awake during the night compared to placebo, with no evidence of next-morning adverse cognitive effects". Somnus is now seeking a partner to fund further development of the product. 

Under the agreement with Somnus, the Group could receive up to U.S.$35.0 million (£21.4 million) in milestone payments, of which U.S.$4.0 million (£2.0 million at that time) was received on signing and U.S.$1.0 million (£0.7 million at that time) was received on completion of the initial Phase I study. A further U.S.$10.0 million (£6.2 million) is payable on product launch, and U.S.$20.0 million (£12.5 million) is sales-related.

SkyePharma is entitled to receive a royalty on future net sales escalating upwards from a high mid single digit percentage.

SKP-1052

In 2009, the Group commenced formulation work on SKP-1052, an oral product for the treatment of a particular aspect of diabetes care. The project applies the Group's proprietary technology to a generic compound in an innovative approach to diabetes care. A proof of concept study has been carried out and a partner will be sought to fund further development.

EXTERNAL PROGRAMMES

EXPAREL™

Under the terms of the sale of the Group's former Injectables Business to Pacira Pharmaceuticals, Inc. ("Pacira Pharmaceuticals") in 2007, the Group is entitled to receive a U.S.$10 million (£6.2 million) payment on the first commercial sale of EXPAREL™ in the United States, up to U.S.$52 million (£32.5 million) in other contingent milestone payments and three per cent. of net sales of EXPAREL™ in the United States, Japan, United Kingdom, France, Germany, Italy and Spain. EXPAREL™ is a long acting anaesthetic/analgesic for post-surgical pain management. Pacira Pharmaceuticals filed the NDA for EXPAREL™ with the FDA in September 2010. After further data was filed with the FDA the target date for the completion of the review by the FDA (the PDUFA date) was extended from 28 July 2011 to 28 October 2011.

Licence fees

In 2003 SkyePharma signed an agreement with GSK to provide access to one of SkyePharma's proprietary dry powder formulation technologies for inhalation products. GSK made an initial payment to SkyePharma on signature. Subsequently two further milestone payments of £1.5 million have been received in 2009 and 2011 for use of the technology in two development programs. In addition, SkyePharma is entitled to a low single digit royalty on net sales of products using the licensed technology that reach the market, capped at a maximum amount of £3 million per annum for each chemical entity.

FEASIBILITY STUDIES AND TECHNOLOGY DEVELOPMENT

The Group continues to seek to strengthen the product pipeline through further early stage feasibility and technology development projects, funded where possible, on a time and materials basis by partners.

SkyePharma continues to seek applications for its proprietary SkyeHaler™ Dry Powder Inhaler ("DPI"). This is one of only a few DPI devices which has been incorporated into a product approved by the FDA, and is the only such device which is not proprietary to a major pharmaceutical company. SkyeHaler™ is a multi-dose reservoir device suitable for acute and chronic therapies with a dose counter and an end of life lockout mechanism.

MANUFACTURING

Lyon

On 1 August 2011 SkyePharma announced that it had agreed terms to enter into an alliance (the "Alliance") with the Aenova Group to increase utilisation of SkyePharma's manufacturing facility in Saint Quentin-Fallavier, Lyon, France. 

Aenova France SAS ("Aenova"), a wholly-owned subsidiary of Aenova Holding GmbH, a German-based pharmaceutical contract manufacturing organisation, has agreed to lease the entire pharmaceutical manufacturing business ("Manufacturing Business") and the premises at Saint Quentin-Fallavier, Lyon (together the "Facility") for an initial period of two years, extendable for a further three years. During the lease period the parties may have further discussions to extend the Alliance beyond the fifth anniversary.

The Alliance will provide Aenova with access to an FDA-registered pharmaceutical manufacturing facility which has significant available capacity and SkyePharma will benefit from rental income from Aenova. By introducing additional products to the Facility, the Alliance aims to increase utilisation rates of the Facility, reduce its dependency on relatively few products and negate the risk of the Group incurring losses from manufacturing oral products. 

The Alliance agreements came into effect once Aenova had completed certain formalities required to register the Facility as a drug establishment with the FDA. The effective date was 16 August 2011, at which point the Manufacturing Business was transferred to Aenova as a going concern, including all employees, raw materials and work in progress, and, from that date, Aenova has managed and run the Facility. SkyePharma retains all its current contractual arrangements with its partners and Aenova will continue to manufacture all SkyePharma products currently manufactured at the Facility and supply them to SkyePharma. SkyePharma plans to work with Aenova to continue to utilise the Facility to manufacture oral products in development by SkyePharma. Aenova intends to carry out technical transfer and development work in order to be able to introduce the manufacture of additional products into the Facility from 2013 onwards. The principal financial terms are set out in the Financial Review.

The Lyon Facility currently manufactures five Geomatrix™ based products, diclofenac-ratiopharm®-uno, Coruno®, ZYFLO CR®, Sular® and Lodotra®, and one other oral product, Triglide®, based on its solubilisation technology. The manufacturing of a further product, Madopar DR®, is being transferred from the Group's R&D centre in Muttenz, Switzerland to Lyon. The Lyon factory has cGMP status, with approvals from the European Medicines Agency and United States FDA. 

During 2010 manufacturing revenues were significantly boosted by non-recurring volumes to support regulatory and commercial activities, which led, in that year, to a very significant contribution from products manufactured at Lyon.

Flutiform™ Supply Chain

Under the agreements with Mundipharma and Kyorin, the Group is responsible for arranging the manufacture and supply of Flutiform™, and has contracted with Sanofi to manufacture and assemble the product at its factory in Holmes Chapel, UK. The Group has entered into agreements with a number of suppliers in order to obtain materials required to manufacture Flutiform™ and have them supplied to Sanofi. 

To establish the supply chain the Group has committed to substantial development expenditure to scale up and validate the manufacturing processes, and good progress has been made with the validation.

The Group is contractually committed to certain minimum volumes in respect of Flutiform™ from its suppliers from 2011 through to 2015, subject to termination rights if Flutiform™ is not launched by the end of 2011.

These minimum commitments, along with start-up costs and initial low volumes during the launch phase are expected to delay the profitability of the supply chain arrangement for Flutiform™ until the product has been successfully established in most of the major European countries.

Axel Müller

Chief Executive Officer

FINANCIAL REVIEW

Revenue

Revenue in the first half of 2011 was £22.1 million (H1 2010: £29.3 million) running below the levels of 2010, as anticipated, due to the substantial non-recurring regulatory and commercial manufacturing volumes recorded last year.

Revenue recognised from signing and milestone payments was £2.0 million in the first half of 2011 (H1 2010: £1.0 million) including the £1.5 million milestone from GSK described above.

Contract research and development revenue increased to £3.6 million for the first six months of 2011, from £3.1 million for the same period in 2010 due to an increase in revenues relating to the development of Flutiform™ for Japan as well as a new inhalation proof of concept project.

Royalty income showed a decrease of £0.9 million to £10.9 million in the first half of 2011. At constant exchange rates, royalty income declined by 13 per cent. The decline is mostly due to AstraZeneca's decision to cease production of Pulmicort® pMDI.

Manufacturing and distribution revenue totalled £5.6 million for the first six months of 2011, a decrease of £7.8 million compared with £13.4 million earned during the first six months of 2010. A large part of this decrease is due to non-recurring volumes that occurred in 2010 to support regulatory and commercial activities.

Research and development expenses

Research and development expenses incurred in the first six months of 2011 slightly increased to £10.1 million (H1 2010: £10.0 million). The Group's net investment in research and development (expenses, net of contract development revenues) was £6.5 million, a reduction in net investment of £0.4 million compared with the first six months of 2010, as the Group continues to incur expenditure in preparing the Flutiform™ supply chain for commercial launch in Europe and on a number of early stage feasibility and technology development projects.

Finance costs and income

Finance costs - interest totalled £5.8 million (H1 2010: £6.3 million) and consists of £3.1 million (H1 2010: £3.1 million) payable on the convertible bonds, £1.3 million (H1 2010: £1.6 million) payable on the CRC finance, £1.2 million (H1 2010: £1.4 million) of interest attributable to the Paul Capital finance and £0.2 million (H1 2010: £0.2 million) on other bank borrowings.

Other than exchange translation revaluation, no revaluation of borrowings arose in the six months ended 30 June 2011. In the six months ended 30 June 2010, finance costs - revaluation consisted of a charge of £1.7 million arising from the revaluation of the carrying value of the Paul Capital finance as a result of revisions made to forecast payments from Pacira Pharmaceuticals to Paul Capital.

Finance income consists of £nil (H1 2010: £0.1 million) of bank interest.

Foreign exchange

Foreign exchange consists of net translation gains and losses on borrowings and cash denominated in a currency other than the entity's functional currency. In the first half of 2011 this totalled a credit of £3.7 million (H1 2010: credit of £0.5 million). Although benefiting from the foreign exchange movements on borrowings, the exceptional strength of the Swiss Franc has negatively affected the operating profit. In cash terms the impact has mainly been on the net R&D expenditure.

Result

Operating profit in H1 2011 was £2.7 million (H1 2010: £8.6 million) and profit after tax was £0.4 million (H1 2010: £0.9 million).

The profit for the first half of 2011 after exceptional items and taxation was £0.4 million (H1 2010: £0.9 million).

The basic earnings per share amounted to 1.7 pence (H1 2010: 3.8 pence). 

Cash flows

In the first half of 2011 the Group had a cash inflow from operating activities of £3.8 million compared with an inflow of £14.0 million in the first half of 2010.

In H1, 2011 the Group has purchased £1.8 million of property, plant and equipment, primarily capital expenditure on tooling for the Flutiform™ supply chain.

Borrowings of £5.6 million have been repaid during the period, mainly to CRC and Paul Capital. In addition £5.3 million of net interest was paid (H1 2010: £5.9 million) primarily relating to the convertible bonds.

Borrowings and liquidity

Total debt decreased by £4.8 million in the period. This is due to repayments of £5.6 million, offset by translation and revaluation effects.

The Group's total net debt, measured in accordance with IFRS comprises:

As at 30 June 2011, the Group had £20.8 million of cash and cash equivalents (31 December 2010: £29.0 million) and additional available facilities of £0.8 million (31 December 2010: £0.7 million).

Commitments

In 2011 the Group is contractually committed to certain minimum volumes in respect of Flutiform™ from its suppliers from 2011 through to 2015, subject to termination rights if Flutiform™ is not launched by the end of 2011.

At set out in Note 18: Commitments to the Half Yearly Financial Statements, the Group has a further commitment of £0.7 million outstanding relating to capital expenditure of the Flutiform™ supply chain. A former partner is funding €3.2 million (£2.8 million) of the expenditure of the Flutiform™ supply chain, of which €3.0 million (£2.7 million) had been funded as at 30 June 2011, and the Group is obliged to repay this funding by March 2013 or earlier if the supply chain is outsourced. Further, in anticipation of the launch of Flutiform™ in H2 2011, the Group has committed to purchasing £1.9 million of Flutiform™ raw materials as at 30 June 2011.

Post balance sheet events

Flutiform™ Licence for Mexico, Central and South America

On 28th July 2011, the Group announced that it had entered into an exclusive Development, Licence and Marketing Agreement with Sanofi in Mexico, Central and South America for Flutiform™. Under the agreement, SkyePharma is eligible for initial, approval and sales milestones potentially worth several million US dollars and a high single digit percentage royalty on net sales.

Alliance with Aenova

As described above, on 1st August 2011, the Group announced that it had agreed terms to enter into an alliance with Aenova Group to increase utilisation of SkyePharma's manufacturing facility in Lyon, France. Under the Alliance, Aenova has agreed to lease the entire pharmaceutical manufacturing business and the premises in Lyon for an initial period of two years, extendible for a further three years. The Group will continue to purchase products from the Lyon manufacturing facility to meet customer requirements. The Alliance is expected to enhance the Group's liquidity from rental income, reduced working capital and lower capital expenditure requirements.

The principal financial terms of the arrangements are as follows:

- Notwithstanding the effective date of the agreements, the financial implications of the agreements are effective from 1 July 2011.

- Aenova will pay rent at a rate of €1 million (£0.9 million) per annum in cash for the first two years (with the first six months' rent free) from 1 July 2011. On renewal at the end of the first two years the rent is increased to €2 million (£1.8 million) per annum in cash.

- Aenova will supply products and services to SkyePharma initially on a pass-through basis. SkyePharma has the opportunity to earn a margin on the sales of these products and services, in the first two years based on the level of net revenues to Aenova from SkyePharma products and services and after that time based on total revenues of Aenova at the Facility.

- The lease is for an initial period of two years subject to certain termination rights of Aenova, related to performance or projected performance of the Manufacturing Business (to the extent it relates to SkyePharma products manufactured and services provided at the Facility). At the end of the first two years, SkyePharma has a 12 month option to renew the lease until the end of the fifth anniversary from commencement. If SkyePharma terminates the lease or doesn't renew it within the 12 month option period, Aenova has a 2 year rent free termination period during which the parties will discuss arrangements either for the continued production and supply by SkyePharma of Aenova products at the Facility or termination of that production. 

- On termination or expiry of the lease, the entire Manufacturing Business including all employees, raw materials and work in progress at that time will be transferred back to SkyePharma on similar terms to the transfer to Aenova at inception. On termination or expiry, capital investments made by Aenova during the term of the lease and necessary for manufacturing SkyePharma products will transfer to SkyePharma. These transfers will be free of charge except for certain capital investments related to increase of capacity and/or capabilities to manufacture SkyePharma products, and large environmental protection projects, in which case they will be transferred at net book value and paid for over time.

Amendment to CRC Finance Facility

On 1st August 2011, the Group announced that it had entered into an amended agreement in respect of its existing CRC Finance Facility ("Facility") to enhance the Group's anticipated short-term liquidity position. Under the amended agreement, the obligation to pay 50% of further milestone payments or signing fees in respect of Flutiform™ licenses, up to approximately US$9million, will be deferred until 4 September 2013. The interest rate applicable to the Facility, which is variable based on Euribor and Libor, has been increased by 2 percentage points with effect from 1 July 2011. Prior to this amendment, the Board anticipated that US$9 million of prepayments would fall due over the next two years, mainly out of launch milestones anticipated to be received following launches of Flutiform™ in major European countries. The obligation to make further mandatory prepayments out of Flutiform™ milestones and signing fees will be waived altogether if, by 4September 2013, the Group's Convertible Bonds have been converted to equity or rescheduled or refinanced on certain terms, including that the earliest date on which the Bonds may be called for repayment is at least five years later than the date of such rescheduling or refinancing.

The following amortisation schedule shows the interest payable and principal outstanding under the amended Facility as described in the paragraph above:

The table above assumes that the U.S. dollar loan is paid down first in case of mandatory prepayments and assumes that the obligation to pay 50% of further milestone payments or signing fees in respect of Flutiform™ licenses, up to approximately US$9 million, will be deferred until 4 September 2013.

 Following the amendment agreement announced above, interest rates applicable to the Facility from 1 July 2011 are as follows:

- On the U.S.$ component - 3-month U.S.$ LIBOR plus 7.85 per cent.

- On the first Euro 7.5 million of the Euro component - 3-month Euribor plus 12.85 per cent.

- On the balance of the Euro component - 3-month Euribor plus 7.85 per cent.

The Financial Times of 29 July 2011 quoted the following annual rates: U.S.$ LIBOR: 0.25395 per cent.; Euribor: 1.61 per cent.

Going concern

The Directors have made an assessment of the risks and uncertainties inherent in the business, as disclosed in this Half Year Report, and of the working capital requirements of the Group for the next 12 months. 

The anticipated approval and launch of Flutiform™ in initial markets in Europe later this year 2011 is pivotal to the value and the longer term cash generative potential of the Group. Over the next 18 months, a large part of the Group's net cash of £20.8 million as at 30 June 2011 is earmarked to fund the Flutiform™ supply chain, including completing the validation of the manufacturing line, and to meet scheduled debt and interest payments to the extent not covered by cash generated from normal operations. The successful validation of the manufacturing line and anticipated approval and launch of Flutiform™ in 2011 will not significantly enhance liquidity in the next 18 months, as the Group is obliged to apply 50% of milestone receipts arising from the initial launches of Flutiform™ in Europe as pre-payments of secured debt and the supply chain is loss-making at initial low volumes. However, the approval and launch of Flutiform™ would underpin management's current operating strategy including ongoing and expected contract R&D income from projects such as Flutiform™ product line extensions and the ability of the Group to address any working capital needs arising from the normal volatility of trading.

In its cash flow projections for the next twelve months, the Board has anticipated receipt of non-Flutiform™ milestones totalling £8.1 million, including a launch milestone of $10 million (£6.2 million) due from Pacira if EXPAREL™ is approved and launched in the United States. If these milestones are not received or their receipt is significantly delayed beyond mid-2012, the Board believes that there are a number of steps, in addition to the agreement already announced related to the CRC finance facility, which could be taken to appropriately manage the resulting working capital position of the Group.

IAS1: "Presentation of Financial Statements" requires the Directors to disclose "material uncertainties related to events or conditions that may cast significant doubt upon the Group's ability to continue as a going concern". After careful consideration of IAS1 and the Financial Reporting Council's Going Concern and Liquidity Risk: Guidance for Directors of UK Companies 2009 the Directors consider that, taken together, the uncertainties described above are "material uncertainties". Nevertheless, the Board has reasonable expectations that Flutiform™ and EXPAREL™ will be approved and launched successfully in their respective markets and that the Group will have adequate resources to continue in operational existence for the foreseeable future. Accordingly the Board considers that the business is a going concern and continues to adopt the going concern basis in preparing the Half Year Report. The financial statements do not contain the adjustments that would result if the Group was unable to continue as a going concern.

Whilst not a material uncertainty affecting going concern for the purpose of these financial statements, the Group has in issue £63.0 million (at nominal value) of bonds which may be converted into ordinary shares at £3.71 per share and may be called for repayment ("Put") on various dates, the earliest being November 2013, and £20.0 million (at nominal value) of bonds which may be converted into ordinary shares at £3.82 per share and may be Put on various dates, the earliest being December 2014 (collectively "Convertible Bonds"). Even with the expected approval and launch of Flutiform™ in 2011, it is unlikely, based on current financing and licensing agreements, that the Group will generate sufficient cash from normal trading to meet the earliest possible bond Puts if the Convertible Bonds are not converted prior to those dates. However the Board believes that the approval of Flutiform™ should enable the Group's capital structure to be strengthened well ahead of the Convertible Bonds' earliest Put dates. As previously announced, the Board has appointed Jefferies International Limited to advise the Board on the Group's capital structure.

Principal risks

The Directors consider that the key risks which may have a material impact on the Group's performance in the second half of 2011 remain as disclosed in pages 41-43 of the 2010 Annual Report and Accounts (except where noted) and are as follows:

§ Risks that Flutiform™ will not be approved or achieve commercial success

§ Risks that manufacturing and R&D operations and related royalty revenues will be disrupted

§ Risks that the Alliance with Aenova is unsuccessful and the lease of the Lyon Manufacturing Facility is terminated (new in 2011 although the Lyon facility was previously covered under other listed risks)

§ Risks that cash balances and inflows will be insufficient to pay off long term debt obligations and that such long term obligations cannot be refinanced or renegotiated

§ Risks that competition, technological change or lack of innovation will damage prospects for the business

§ Risk arising from inability to control or influence products and the income streams related to them

§ Risk that external capital requirements under local law cannot be complied with

§ Risks arising from global economic conditions and consequences for the adequacy of the Group's longer-term liquidity

Foreign exchange - risks

Almost all the of the Group's operations are based in Continental Europe and licence royalty payments are typically denominated in various currencies, with sales-related payments based on underlying sales in local currencies. This gives rise to direct and indirect exposures to changes in foreign exchange rates notably the Swiss Franc, Euro and U.S. Dollar. To minimise the impact of any fluctuations, the Group's policy has historically been to maintain natural hedges by relating the structure of borrowings to the underlying trading cash flows that generate them. Exchange translation gains and losses relating to funding (cash and debt) are included in foreign exchange gain or loss on net debt, other realised exchange gains and losses and exchange translation gains and losses are included within the revenue or expense line to which they most closely relate. Where subsidiaries are funded centrally, this is achieved by the use of capital injections or long-term intercompany loans. Where settlement of such intra-group loans is neither planned nor likely to occur in the foreseeable future, they are treated as part of the net investment and exchange differences are taken to reserves. No use has been made of currency options and forward currency contracts in the first six months of 2011.

Forward looking statements

The foregoing discussions contain certain forward looking statements. Although SkyePharma believes that the expectations reflected in these forward looking statements are reasonable, it can give no assurance that these expectations will materialise. Because the expectations are subject to risks and uncertainties, actual results may vary significantly from those expressed or implied by the forward looking statements based upon a number of factors. Such forward looking statements include, but are not limited to, the timescales for approval, launch or regulatory filings for Flutiform™, the statements under "Outlook", the forecast sales of Flutiform™, the development of new products, risks related to obtaining and maintaining regulatory approval for existing, new or expanded indications of existing and new products, risks related to SkyePharma's ability to manufacture products on a large scale or at all, risks related to SkyePharma's and its marketing partners' ability to market products on a large scale to maintain or expand market share in the face of changes in customer requirements, competition and technological change, risks related to the ownership and use of intellectual property, risks related to SkyePharma's ability to manage growth and the risk that the Alliance with Aenova is unsuccessful and the lease of the Lyon Manufacturing Facility is terminated. SkyePharma undertakes no obligation to revised or update any forward statement to reflect events or circumstances after the date of these Half Yearly Financial Statements.

RESPONSIBILITY STATEMENT

The Directors of SkyePharma, as listed on pages 29 of the 2010 Annual Report and Accounts, confirm that to the best of their knowledge:

1. The condensed set of financial statements has been prepared in accordance with IAS 34 "Interim Financial Reporting";

2. The interim management report includes a fair review of the information required by the Disclosure and Transparency Rules ("DTR") 4.2.7 - an indication of important events which have occurred during the first six months of the year, and a description of the principal risks and uncertainties for the remaining six months of the year;

3. The interim management report includes a fair review of the information required by DTR 4.2.8 - the disclosure of related party transactions occurring during the first six months of the year, and any changes in related party transactions disclosed in the 2010 Annual Report and Accounts.

By Order of the Board

A Müller

Chief Executive Officer

P Grant

Chief Financial Officer

CONDENSED CONSOLIDATED INCOME STATEMENT

for the six months ended 30 June 2011

See Notes to the Half Year Financial Statements

CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME/(EXPENSE)

For the six months ended 30 June 2011

See Notes to the Half Year Financial Statements

CONDENSED CONSOLIDATED BALANCE SHEET

For the six months ended 30 June 2011

See Notes to the Half Year Financial Statements

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

For the six months ended 30 June 2011

See Notes to the Half Year Financial Statements

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

For the six months ended 30 June 2010

See Notes to the Half Year Financial Statements

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

For the year ended 31 December 2010

See Notes to the Half Year Financial Statements

CONDENSED CONSOLIDATED CASH FLOW STATEMENT

For the six months ended 30 June 2011

See Notes to the Half Year Financial Statements

NOTES TO THE CONDENSED CONSOLIDATED CASH FLOW STATEMENT

(a) Cash flow from operating activities

NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1 General information

The Half Year Report of the Group for the six months ended 30 June 2011 ("Half Year Report 2011") was authorised for issue in accordance with a resolution of the Directors on 17 August 2011. The Half Year Report 2011 is unaudited but has been reviewed by the Auditors as set out in their report.

SkyePharma PLC (the "Company") and its subsidiaries (together the "Group") is a speciality pharmaceutical group which uses its multiple drug delivery technologies to create enhanced versions of existing pharmaceutical products.

The Company is incorporated and domiciled in the United Kingdom, with its registered office at 46-48 Grosvenor Gardens, London SW1W 0EB.

The financial information for the year ended 31 December 2010 does not constitute statutory financial statements within the meaning of section 435 of the Companies Act 2006. A copy of the audited financial statements for that year has been delivered to the Registrar of Companies. The Auditors' opinion on those financial statements drew attention to going concern uncertainties by way of an emphasis of matter paragraph; however it was unqualified and contained no statement under section 498(2) or section 498(3) of the Companies Act 2006.

2 Accounting policies

(a) Basis of preparation

The accounts have been prepared in accordance with International Financial Reporting Standards ("IFRS") adopted by the European Union ("EU"). All IFRSs issued by the International Accounting Standards Board ("IASB") that were effective at the time of preparing the accounts and adopted by the European Commission for use inside the EU were applied by the Group.

These Group accounts have been prepared in accordance with IFRS and the interpretations issued by the International Financial Reporting Interpretations Committee ("IFRIC") and with those parts of the Companies Act 2006 applicable to companies reporting under IFRS.

The accounts have been prepared under the historic cost convention, as modified by the revaluation to fair values of financial instruments at fair value through profit and loss and available for sale financial instruments. All values are rounded to the nearest £0.1 million.

Going concern

The Directors have made an assessment of the risks and uncertainties inherent in the business, as disclosed in this Half Year Report, and of the working capital requirements of the Group for the next 12 months. 

The anticipated approval and launch of Flutiform™ in initial markets in Europe later this year 2011 is pivotal to the value and the longer term cash generative potential of the Group. Over the next 18 months, a large part of the Group's net cash of £20.8 million as at 30 June 2011 is earmarked to fund the Flutiform™ supply chain, including completing the validation of the manufacturing line, and to meet scheduled debt and interest payments to the extent not covered by cash generated from normal operations. The successful validation of the manufacturing line and anticipated approval and launch of Flutiform™ in 2011 will not significantly enhance liquidity in the next 18 months, as the Group is obliged to apply 50% of milestone receipts arising from the initial launches of Flutiform™ in Europe as pre-payments of secured debt and the supply chain is loss-making at initial low volumes. However, the approval and launch of Flutiform™ would underpin management's current operating strategy including ongoing and expected contract R&D income from projects such as Flutiform™ product line extensions and the ability of the Group to address any working capital needs arising from the normal volatility of trading.

In its cash flow projections for the next twelve months, the Board has anticipated receipt of non-Flutiform™ milestones totalling £8.1 million, including a launch milestone of $10 million (£6.2 million) due from Pacira if EXPAREL™ is approved and launched in the United States. If these milestones are not received or their receipt is significantly delayed beyond mid-2012, the Board believes that there are a number of steps, in addition to the agreement already announced related to the CRC finance facility, which could be taken to appropriately manage the resulting working capital position of the Group.

IAS1: "Presentation of Financial Statements" requires the Directors to disclose "material uncertainties related to events or conditions that may cast significant doubt upon the Group's ability to continue as a going concern". After careful consideration of IAS1 and the Financial Reporting Council's Going Concern and Liquidity Risk: Guidance for Directors of UK Companies 2009 the Directors consider that, taken together, the uncertainties described above are "material uncertainties". Nevertheless, the Board has reasonable expectations that Flutiform™ and EXPAREL™ will be approved and launched successfully in their respective markets and that the Group will have adequate resources to continue in operational existence for the foreseeable future. Accordingly the Board considers that the business is a going concern and continues to adopt the going concern basis in preparing the Half Year Report. The financial statements do not contain the adjustments that would result if the Group was unable to continue as a going concern.

Whilst not a material uncertainty affecting going concern for the purpose of these financial statements, the Group has in issue £63.0 million (at nominal value) of bonds which may be converted into ordinary shares at £3.71 per share and may be called for repayment ("Put") on various dates, the earliest being November 2013, and £20.0 million (at nominal value) of bonds which may be converted into ordinary shares at £3.82 per share and may be Put on various dates, the earliest being December 2014 (collectively "Convertible Bonds"). Even with the expected approval and launch of Flutiform™ in 2011, it is unlikely, based on current financing and licensing agreements, that the Group will generate sufficient cash from normal trading to meet the earliest possible bond Puts if the Convertible Bonds are not converted prior to those dates. However the Board believes that the approval of Flutiform™ should enable the Group's capital structure to be strengthened well ahead of the Convertible Bonds' earliest Put dates. As previously announced, the Board has appointed Jefferies International Limited to advise the Board on the Group's capital structure.

Significant accounting policies

The accounting policies, presentation and methods of computation are as those applied in the Group's 2010 Annual Report and Accounts.

Restatement of June 2010 research and development expenses

In 2010 the classification of costs within research and development expenses was reviewed to better reflect the commercial reality and the June 2010 classification has been restated as follows:

·; Clinical trials, supplies and other external costs directly recharged to development partners increased by £0.1 million to £1.4 million

·; Other external clinical trial and supply costs increased by £0.3 million to £1.9 million

·; Other research and development costs decreased by £0.4 million to £6.7 million

Restatement of June 2010 Group trade payables

June 2010 Group trade payables have been restated to re-classify £2.1 million to long-term creditors. This relates to an amount payable to a former partner which has funded capital expenditure related to the Flutiform™ supply chain. This funding is repayable in March 2013, or earlier if the supply chain is outsourced.

3 Segmental information

The Group is treated as one reportable operating segment - the development and manufacture of pharmaceutical products.

4 Revenue by income stream

5 Cost of sales

6 Research and development expenses

7 Exceptional items

8 Finance costs and income

9 Foreign exchange gain on net debt

10 Earnings per share

Earnings per share is calculated based on earnings after tax and the weighted number of ordinary shares in issue during the year.

For the calculation of diluted earnings per share, the weighted average number of ordinary shares in issue is adjusted to assume full conversion of all dilutive potential ordinary shares. The Group has only one class of dilutive potential ordinary shares being those granted to employees:

11 Goodwill

Goodwill was assessed for indicators of impairment at 30 June 2011 and 31 December 2010. No indicators of impairment were identified. The key assumptions are as disclosed in the 2010 Annual Report and Accounts with the exception of sales projections, which have been updated to reflect the most recent forecast information.

12 Property, plant and equipment

In the six months to 30 June 2011, the Group made additions totalling £1.8 million.

13 Inventories

14 Borrowings

Total debt has decreased £4.8 million in the period. This is due to repayments of £5.6 million, offset by translation and revaluation effects.

Property mortgages

In February 2011 the Group renewed its two mortgage agreements with the Basellandschaftliche Kantonalbank. The first is for CHF 4.2 million (£3.2 million), which bears interest at a variable rate (currently 3.873 per cent. per annum) and is repayable with three months' notice from either party. The second is for CHF 8.0 million (£6.0 million), which bears interest at 3.6 per cent. per annum and is fully repayable in 2016.

One of the sites in Switzerland has now been vacated and is up for sale. This has a net book value of CHF5.6 million (£4.2 million) and a mortgage of CHF4.2 million (£3.2 million) which will be repayable out of any sale proceeds.

Paul Capital finance

In the six months to 30 June 2010, a revaluation loss of £1.7 million was charged reflecting revisions made of the forecast of payments to be made by Pacira Pharmaceuticals to Paul Capital. There was no revaluation in the six months to 30 June 2011. 

Half of the first U.S.$20 million of milestone payments received in respect of Flutiform™ are to be paid to Paul Capital under the relevant agreement. See Note 19 in respect of the amendment to the CRC finance facility.

15 Provisions

An amount totalling £4.9 million (H1 2010: £2.9 million) of the provision at 30 June 2011 relates to the Group's retirement commitments under its pension scheme in respect of its employees in Switzerland and the Group's leaving indemnity commitments in respect of employees in France under French law.

16 Long-term creditors

The long-term creditor of £2.7 million (2010 restated: £2.1 million) relates to an amount payable to a former partner which has funded capital expenditure related to the Flutiform™ supply chain. No interest is payable on the balance and the funding is repayable in March 2013, or earlier, if the supply chain is outsourced.

17 Share capital

18 Commitments

The Group has committed to undertake certain clinical trials on behalf of its partners under development and licensing agreements. The Group is committed to make certain payments to third parties contingent upon future events such as the approval and launch of products, although such payments may be funded from amounts received from development partners.

To establish the Flutiform™ supply chain the Group has committed to substantial development expenditure to scale up and validate the manufacturing processes. The Group committed to capital expenditure of £15.7 million, of which £15.0 million has been paid for as at 30 June 2011. A former partner is funding €3.2 million (£2.8 million) of the expenditure of the Flutiform™ supply chain, of which €3.0 million (£2.7 million) had been funded as at 30 June 2011, and the Group is obliged to repay this funding by March 2013, or earlier if the supply chain is outsourced. The amount funded as at 30 June 2011 is included in long-term creditors as disclosed in Note 16: Long-term creditors.

In anticipation of the launch of Flutiform™ in H2 2011, the Group has committed to purchasing £1.9 million of Flutiform™ raw materials and components not yet received as at 30 June 2011.

The Group is contractually committed to certain minimum volumes in respect of Flutiform™ from its suppliers totalling approximately €10.3 million (£9.3 million) per annum from 2011 through to 2015, subject to termination rights if Flutiform™ is not launched by the end of 2011.

The Group is additionally committed to a further £0.1 million of capital expenditure primarily related to its facility in Lyon, France.

19 Post balance sheet events

Flutiform™ Licence for Mexico, Central and South America

On 28th July 2011, the Group announced that it had entered into an exclusive Development, Licence and Marketing Agreement with Sanofi in Mexico, Central and South America for Flutiform™. Under the agreement, SkyePharma is eligible for initial, approval and sales milestones potentially worth several million US dollars and a high single digit percentage royalty on net sales.

Alliance with Aenova

On 1st August 2011, the Group announced that it had agreed terms to enter into an Alliance with Aenova Group to increase utilisation of SkyePharma's manufacturing facility in Lyon, France. Aenova has agreed to lease the entire pharmaceutical manufacturing business and the premises in Lyon for an initial period of two years, extendible for a further three years. During the lease period the parties may have further discussions to extend the Alliance beyond the fifth anniversary. By introducing additional products to the Facility, the Alliance aims to increase utilisation rates of the Facility, reduce its dependency on relatively few products and negate the risk of the Group incurring losses from manufacturing oral products. 

The profit before tax attributable to the assets subject to the Alliance in H1 2011 was £0.7 million (H1 2010: £0.1m; FY 2010: £1.3m). During H1 2011 the Facility operated on a broadly cash neutral basis.

Notwithstanding the effective date of the agreements, the financial implications of the agreements are effective from 1 July 2011. The following items in the balance sheet as at 30 June 2011 will be dealt with as shown below:

·; Inventories with a net book value of £1.6 million have been sold to Aenova on payment terms which broadly relate to their usage and sale to the Group's customers

·; Accounts receivable have been retained and will be collected by the Group

·; Accounts payable have been retained and will be settled by the Group

·; Property, plant and equipment with a net book value of £7.6 million has been leased to Aenova, including land and buildings with a net book value of £5.0 million

·; The Group is retaining provisions for leaving indemnity commitments in respect of employees in France totalling £0.9 million

Amendment to CRC Finance Facility

On 1st August 2011, the Group announced that it had entered into an amended agreement in respect of its existing CRC Finance Facility ("Facility") to enhance the Group's anticipated short-term liquidity position. Under the amended agreement, the obligation to pay 50% of further milestone payments or signing fees in respect of Flutiform™ licenses, up to approximately US$9 million, will be deferred until 4 September 2013. The interest rate applicable to the Facility, which is variable based on Euribor and Libor, has been increased by 2 percentage points with effect from 1 July 2011. Prior to this amendment, the Board anticipated that US$9 million of prepayments would fall due over the next two years, mainly out of launch milestones anticipated to be received following launches of Flutiform™ in major European countries. The obligation to make further mandatory prepayments out of Flutiform™ milestones and signing fees will be waived altogether if, by 4 September 2013, the Group's Convertible Bonds have been converted to equity or rescheduled or refinanced on certain terms, including that the earliest date on which the Bonds may be called for repayment is at least five years later than the date of such rescheduling or refinancing. The amendments to the CRC finance facility is not considered a modification of the agreement for IFRS accounting purposes.

The following amortisation schedule shows the interest payable and principal outstanding under the amended Facility as described in the paragraph above:

The table above assumes that the US$ loan is paid down first in case of mandatory prepayments. 

INDEPENDENT REVIEW REPORT TO THE MEMBERS OF SKYEPHARMA PLC

Introduction

We have been engaged by the Company to review the condensed set of financial statements in the half-yearly financial report for the six months ended 30 June 2011 which comprises the Condensed Consolidated Income Statement, Condensed Consolidated Statement of Comprehensive Income/ (Expense), Condensed Consolidated Balance Sheet, Condensed Consolidated Statement of Changes in Equity, Condensed Consolidated Cash Flow Statement, and the related notes 1 to 19. We have read the other information contained in the half yearly financial report and considered whether it contains any apparent misstatements or material inconsistencies with the information in the condensed set of financial statements.

This report is made solely to the Company in accordance with guidance contained in International Standard on Review Engagements 2410 (UK and Ireland) "Review of Interim Financial Information Performed by the Independent Auditor of the Entity" issued by the Auditing Practices Board. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company, for our work, for this report, or for the conclusions we have formed.

Directors' Responsibilities

The half-yearly financial report is the responsibility of, and has been approved by, the Directors. The Directors are responsible for preparing the half-yearly financial report in accordance with the Disclosure and Transparency Rules of the United Kingdom's Financial Services Authority.

As disclosed in note 2, the annual financial statements of the group are prepared in accordance with IFRSs as adopted by the European Union. The condensed set of financial statements included in this half-yearly financial report has been prepared in accordance with International Accounting Standard 34, "Interim Financial Reporting", as adopted by the European Union.

Our Responsibility

Our responsibility is to express to the Company a conclusion on the condensed set of financial statements in the half-yearly financial report based on our review.

Scope of Review

We conducted our review in accordance with International Standard on Review Engagements (UK and Ireland) 2410, "Review of Interim Financial Information Performed by the Independent Auditor of the Entity" issued by the Auditing Practices Board for use in the United Kingdom. A review of interim financial information consists of making enquiries, primarily of persons responsible for financial and accounting matters, and applying analytical and other review procedures. A review is substantially less in scope than an audit conducted in accordance with International Standards on Auditing (UK and Ireland) and consequently does not enable us to obtain assurance that we would become aware of all significant matters that might be identified in an audit. Accordingly, we do not express an audit opinion.

Conclusion

Based on our review, nothing has come to our attention that causes us to believe that the condensed set of financial statements in the half-yearly financial report for the six months ended 30 June 2011 is not prepared, in all material respects, in accordance with International Accounting Standard 34 as adopted by the European Union and the Disclosure and Transparency Rules of the United Kingdom's Financial Services Authority.

Emphasis of Matter - Going concern

In forming our opinion on the condensed consolidated financial statements, which is not modified, we have considered the adequacy of disclosures made in note 2 to the condensed consolidated financial statements concerning the Group's ability to continue as a going concern, which indicates the existence of material uncertainties which may cast doubt on the Group's ability to continue as a going concern. The condensed consolidated financial statements do not include the adjustments that would result if the Group was unable to continue as a going concern.

Ernst & Young LLP,

Reading

17 August 2011