##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 Form 10-Q
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 For the Quarterly Period Ended September 30, 2008
 OR
 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 000-23467
 PENWEST PHARMACEUTICALS CO.
 (Exact name of registrant as specified in its charter)
 Washington
    
    91-1513032(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)39 Old Ridgebury Road
    
    06810-5120Suite 11
    
    (Zip Code)Danbury, Connecticut(Address of Principal Executive Offices)
 (877) 736-9378  (Registrants telephone number, including area code)
 þ o
  Large accelerated filer o
    
    Accelerated filer þ
    
    Non-accelerated filer o
    
    Smaller reporting company o(Do not check if a smaller reporting company)
 o þ
  Class
    
    OutstandingCommon Stock, par value $.001
    
    31,667,792




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##### 



PENWEST PHARMACEUTICALS CO.
TABLE OF CONTENTS
 PagePART I  FINANCIAL INFORMATIONItem 1. Condensed Financial Statements (Unaudited):Condensed Balance Sheets
    
    
    3Condensed Statements of Operations
    
    
    4Condensed Statements of Cash Flows
    
    
    5Notes to Condensed Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    16Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    27Item 4. Controls and Procedures
    
    
    28PART II  OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    28Item 1A. Risk Factors
    
    
    30Item 6. Exhibits
    
    
    41Signature
    
    
    42Exhibit Index
    
    
    43Ex-10.1 Second Amendment, dated July 14, 2008, to the Amended and Restated Strategic Alliance AgreementEx-31.1 Section 302 Certification of CEOEx-31.2 Section 302 Certification of CFOEx-32.1 Section 906 Certification of CEOEx-32.2 Section 906 Certification of CFO
   Forward-looking Statements
  2




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##### Table of Contents



PART I  FINANCIAL INFORMATION
 
 Item 1. Condensed Financial Statements (Unaudited)
 PENWEST PHARMACEUTICALS CO.
 
 CONDENSED BALANCE SHEETS
 September 30,
    
    
    December 31,2008
    
    
    2007(Unaudited)
    
    
    (Note 2)(In thousands,except share amounts)ASSETSCurrent assets:Cash and cash equivalents
    
    $
    22,284
    
    
    $
    15,680Marketable securities
    
    
    699
    
    
    
    7,293Trade accounts receivable
    
    
    1,501
    
    
    
    781Inventories:Raw materials and other
    
    
    36
    
    
    
    37Finished goods
    
    
    518
    
    
    
    630Total inventories
    
    
    554
    
    
    
    667Prepaid expenses and other current assets
    
    
    1,265
    
    
    
    1,489Total current assets
    
    
    26,303
    
    
    
    25,910Fixed assets, net
    
    
    2,273
    
    
    
    3,582Patents, net
    
    
    2,021
    
    
    
    2,539Deferred charges
    
    
    2,343
    
    
    
    2,479Other assets, net
    
    
    2,235
    
    
    
    2,472Total assets
    
    $
    35,175
    
    
    $
    36,982LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    1,250
    
    
    $
    2,239Accrued expenses
    
    
    1,648
    
    
    
    1,602Accrued development costs
    
    
    1,435
    
    
    
    1,483Loan payable  current portion
    
    
    4,713
    
    
    
    2,405Deferred compensation  current portion
    
    
    291
    
    
    
    290Total current liabilities
    
    
    9,337
    
    
    
    8,019Loan payable
    
    
    5,483
    
    
    
    9,595Accrued financing fees
    
    
    360
    
    
    
    360Deferred revenue
    
    
    229
    
    
    
    183Deferred compensation
    
    
    2,462
    
    
    
    2,588Total liabilities
    
    
    17,871
    
    
    
    20,745Shareholders equityPreferred stock, par value $.001, authorized
1,000,000 shares, none outstanding
    
    
    
    
    
    
    Common stock, par value $.001, authorized
60,000,000 shares, issued and outstanding
31,656,351 shares at September 30, 2008 and
23,426,323 shares at December 31, 2007
    
    
    32
    
    
    
    23Additional paid in capital
    
    
    248,492
    
    
    
    222,927Accumulated deficit
    
    
    (231,396
    )
    
    
    (206,893
    )Accumulated other comprehensive income
    
    
    176
    
    
    
    180Total shareholders equity
    
    
    17,304
    
    
    
    16,237Total liabilities and shareholders equity
    
    $
    35,175
    
    
    $
    36,982
  3




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PENWEST PHARMACEUTICALS CO.
 
 CONDENSED STATEMENTS OF OPERATIONS
 Three Months Ended
    
    
    Nine months EndedSeptember 30,
    
    
    September 30,2008
    
    
    2007
    
    
    2008
    
    
    2007(Unaudited)
    
    
    (Unaudited)(In thousands, except
    
    
    (In thousands, exceptper share data)
    
    
    per share data)Revenues:Royalties and licensing fees
    
    $
    1,100
    
    
    $
    731
    
    
    $
    2,202
    
    
    $
    1,996Product sales
    
    
    52
    
    
    
    53
    
    
    
    581
    
    
    
    342Research and development reimbursements
    
    
    209
    
    
    
    98
    
    
    
    633
    
    
    
    98Total revenues
    
    
    1,361
    
    
    
    882
    
    
    
    3,416
    
    
    
    2,436Cost of revenues:Cost of product sales
    
    
    89
    
    
    
    48
    
    
    
    335
    
    
    
    302Cost of research and development reimbursements
    
    
    233
    
    
    
    95
    
    
    
    664
    
    
    
    95Total cost of revenues
    
    
    322
    
    
    
    143
    
    
    
    999
    
    
    
    397Gross profit
    
    
    1,039
    
    
    
    739
    
    
    
    2,417
    
    
    
    2,039Operating expenses:Selling, general and administrative
    
    
    2,247
    
    
    
    3,444
    
    
    
    9,642
    
    
    
    10,832Research and product development
    
    
    5,888
    
    
    
    6,625
    
    
    
    16,797
    
    
    
    17,051Total operating expenses
    
    
    8,135
    
    
    
    10,069
    
    
    
    26,439
    
    
    
    27,883Loss from operations
    
    
    (7,096
    )
    
    
    (9,330
    )
    
    
    (24,022
    )
    
    
    (25,844
    )Investment income
    
    
    127
    
    
    
    429
    
    
    
    506
    
    
    
    1,448Interest expense
    
    
    (308
    )
    
    
    (350
    )
    
    
    (986
    )
    
    
    (767
    )Loss before income tax expense
    
    
    (7,277
    )
    
    
    (9,251
    )
    
    
    (24,502
    )
    
    
    (25,163
    )Income tax expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net loss
    
    $
    (7,277
    )
    
    $
    (9,251
    )
    
    $
    (24,502
    )
    
    $
    (25,163
    )Net loss per common share, basic and diluted
    
    $
    (0.23
    )
    
    $
    (0.40
    )
    
    $
    (0.83
    )
    
    $
    (1.08
    )Weighted average shares of common stock
outstanding, basic and diluted
    
    
    31,521
    
    
    
    23,261
    
    
    
    29,381
    
    
    
    23,197
  4




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PENWEST PHARMACEUTICALS CO.
 
 CONDENSED STATEMENTS OF CASH FLOWS
 Nine months EndedSeptember 30,2008
    
    
    2007(Unaudited)(In thousands)Operating activities:Net loss
    
    $
    (24,502
    )
    
    $
    (25,163
    )Adjustments to reconcile net loss to net cash used in operating activities
    
    
    4,143
    
    
    
    2,239Net cash used in operating activities
    
    
    (20,359
    )
    
    
    (22,924
    )Investing activities:Acquisitions of fixed assets, net
    
    
    (37
    )
    
    
    (730
    )Proceeds from sale of equipment
    
    
    286
    
    
    
    Patent costs
    
    
    (267
    )
    
    
    (217
    )Proceeds from maturities of marketable securities
    
    
    14,457
    
    
    
    32,700Purchases of marketable securities
    
    
    (7,859
    )
    
    
    (18,139
    )Loan disbursed to collaborator
    
    
    (1,000
    )
    
    
    Net cash provided by investing activities
    
    
    5,580
    
    
    
    13,614Financing activities:Proceeds from loan payable
    
    
    
    
    
    
    12,000Repayment of debt
    
    
    (1,804
    )
    
    
    Debt issuance costs
    
    
    
    
    
    
    (112
    )Issuance of common stock, net
    
    
    23,187
    
    
    
    1,077Net cash provided by financing activities
    
    
    21,383
    
    
    
    12,965Net increase in cash and cash equivalents
    
    
    6,604
    
    
    
    3,655Cash and cash equivalents at beginning of period
    
    
    15,680
    
    
    
    16,182Cash and cash equivalents at end of period
    
    $
    22,284
    
    
    $
    19,837
  5




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PENWEST PHARMACEUTICALS CO.
 
 NOTES TO CONDENSED FINANCIAL STATEMENTS
 (Unaudited)
 1. Business
  ®
  2. Basis of Presentation
    3. Recent Accounting Pronouncements
  6




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
      7




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
 4. Other Assets
  September 30,
    
    
    December 31,2008
    
    
    2007(unaudited)(in thousands)Assets held in a trust for the Companys
Supplemental Executive Retirement Plan and
Deferred Compensation Plan (see Note 9):Cash surrender value of life insurance policies
    
    $
    2,191
    
    
    $
    2,468Money market account
    
    
    44
    
    
    
    42,235
    
    
    
    2,472Loan receivable from collaborator (see Note 11)
    
    
    1,000
    
    
    
    3,235
    
    
    
    2,472Allowance for loan receivable from collaborator
    
    
    (1,000
    )
    
    
    Other assets, net
    
    $
    2,235
    
    
    $
    2,472
 5. Loans Payable
 Credit Facility
     (unaudited)(in thousands)Less than one year
    
    $
    4,713One to two years
    
    
    5,483$
    10,196
 8




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
  6. Fair Value Measurement
       Level 1
    
    
    Level 2
    
    
    Level 3
    
    
    Total(unaudited) (in thousands)Cash and cash equivalents
    
    $
    22,284
    
    
    $
    
    
    
    $
    
    
    
    $
    22,284Corporate debt securities
    
    
    
    
    
    
    699
    
    
    
    
    
    
    
    699Total
    
    $
    22,284
    
    
    $
    699
    
    
    $
    
    
    
    $
    22,983
  7. Shareholders Equity
 Private Placement
    9




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
 Share-Based Compensation
  Three Months Ended
    
    
    Nine months EndedSeptember 30,
    
    
    September 30,2008
    
    
    2007
    
    
    2008
    
    
    2007(unaudited)(in thousands)Research and product development
    
    $
    205
    
    
    $
    379
    
    
    $
    655
    
    
    $
    295Selling, general and administrative
    
    
    524
    
    
    
    815
    
    
    
    1,731
    
    
    
    2,341Total stock based compensation
    
    $
    729
    
    
    $
    1,194
    
    
    $
    2,386
    
    
    $
    2,636
  Rights Agreement
  8. Income Taxes
  9. Supplemental Executive Retirement Plan and Deferred Compensation Plan
   Three Months Ended
    
    
    Nine months EndedSeptember 30,
    
    
    September 30,2008
    
    
    2007
    
    
    2008
    
    
    2007(unaudited)(in thousands)Interest cost
    
    $
    30
    
    
    $
    30
    
    
    $
    89
    
    
    $
    89Amortization of prior service cost
    
    
    
    
    
    
    
    
    
    
    1
    
    
    
    1Net periodic benefit cost
    
    $
    30
    
    
    $
    30
    
    
    $
    90
    
    
    $
    90
  10




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
   10. Comprehensive Income (Loss)
  September 30,
    
    
    December 31,2008
    
    
    2007(unaudited)(in thousands)Unrealized gains on marketable securities
    
    $
    1
    
    
    $
    7Adjustment for funded status of post retirement plan
    
    
    175
    
    
    
    173Accumulated other comprehensive income
    
    $
    176
    
    
    $
    180
  Three Months Ended
    
    
    Nine months EndedSeptember 30,
    
    
    September 30,2008
    
    
    2007
    
    
    2008
    
    
    2007(unaudited)
    
    
    (unaudited)(in thousands)
    
    
    (in thousands)Net loss
    
    $
    (7,277
    )
    
    $
    (9,251
    )
    
    $
    (24,502
    )
    
    $
    (25,163
    )Changes in unrealized net gains and losses on
marketable securities
    
    
    (3
    )
    
    
    9
    
    
    
    (6
    )
    
    
    16Adjustment for funded status of post retirement plan
    
    
    
    
    
    
    1
    
    
    
    1
    
    
    
    1Comprehensive loss
    
    $
    (7,280
    )
    
    $
    (9,241
    )
    
    $
    (24,507
    )
    
    $
    (25,146
    )
 11. Collaboration and Licensing Agreements
  Endo Pharmaceuticals Inc.
   11




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
   
    
    Endo has agreed to pay the Company royalties on U.S. sales of Opana ER calculated based
on a royalty rate starting at 22% of annual net sales of the product up to $150 million of
annual net sales, with the royalty rate then increasing, based on agreed-upon levels of
annual net sales achieved, from 25% up to a maximum of 30%.
    
    No royalty payments were due to the Company for the first $41 million of royalties that
would otherwise have been payable beginning from the time of the product launch in July 2006
(the Royalty Holiday). In the three months ended September 30, 2008, this Royalty Holiday
ended and the Company recognized royalties from Endo related to sales of Opana ER in the
amount of $577,000 for such period. If the Company had not been subject to the Royalty
Holiday or the temporary 50% royalty reduction described below, the Company would have
recognized royalties from Endo of approximately $7.1 million and $22.5 million,
respectively, for the three and nine month periods ended September 30, 2008.
    
    The Companys share of the development costs for Opana ER that it opted out of funding in
April 2003 totaled $28 million and will be recouped by Endo through a temporary 50%
reduction in royalties. Commencing in the three months ended September 30, 2008, the
Company began to receive reduced royalty payments from Endo, with such temporary reductions
to continue until the $28 million is recouped. As of September 30, 2008, $577,000 of the
$28 million has been recouped by Endo.
    
    Endo will pay the Company a percentage of any sublicense income it receives and milestone
payments of up to $90 million based upon the achievement of agreed-upon annual net sales
thresholds.
   Edison Pharmaceuticals, Inc.
   12




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
   Mylan Pharmaceuticals Inc.
  Drug Delivery Technology Collaborations
  12. Contingencies
  13




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
 IMPAX ANDA Litigation
   Actavis ANDA Litigation
   14




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PENWEST PHARMACEUTICALS CO.
NOTES TO CONDENSED FINANCIAL STATEMENTS (continued)
(Unaudited)
 Sandoz ANDA Litigation
  Barr ANDA Litigation
   15




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Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
 Overview
  ®
  Products
 Opana ® ER. ®
    16




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17




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Nalbuphine ER.
  A0001.
   PW4153.
 18




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
    
    the commercial success of Opana ER, and the amount of royalties from Endos sales of
Opana ER, which may be adversely affected by any potential generic entry;
    
    our ability to successfully defend our intellectual property protecting our products;
    
    our ability to access funding support for our development programs from third party
collaborators;
    
    the level of our investment in research and development activities, including the timing
and costs of conducting clinical trials of our products;
    
    the successful development and commercialization of product candidates in our portfolio;
    
    the level of investment for acquisitions or in-licensing of compounds or technologies
intended to support our growth; and
    
    royalties from Mylans sales of Pfizers generic version of Procardia XL 30 mg.
  Critical Accounting Policies and Estimates
  Recent Accounting Pronouncements
  19




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Results of Operations for the Three and Nine Month Periods Ended September 30, 2008 and 2007
 Revenues
 Three months
    
    
    
    
    
    
    Three months
    
    
    Nine months
    
    
    
    
    
    
    Nine monthsended
    
    
    Percentage
    
    
    ended
    
    
    ended
    
    
    Percentage
    
    
    endedSeptember 30,
    
    
    increase
    
    
    September 30,
    
    
    September 30,
    
    
    increase
    
    
    September 30,2008
    
    
    (decrease)
    
    
    2007
    
    
    2008
    
    
    (decrease)
    
    
    2007(in thousands, except percentages)
    
    
    (in thousands, except percentages)Royalties and licensing fees
    
    $
    1,100
    
    
    
    50
    %
    
    $
    731
    
    
    $
    2,202
    
    
    
    10
    %
    
    $
    1,996Product sales
    
    
    52
    
    
    
    (2
    )
    
    
    53
    
    
    
    581
    
    
    
    70
    
    
    
    342Research and development
reimbursements
    
    
    209
    
    
    
    113
    
    
    
    98
    
    
    
    633
    
    
    
    546
    
    
    
    98Total revenue
    
    $
    1,361
    
    
    
    54
    %
    
    $
    882
    
    
    $
    3,416
    
    
    
    40
    %
    
    $
    2,436
     Cost of Revenues
 Three months
    
    
    
    
    
    
    Three months
    
    
    Nine months
    
    
    
    
    
    
    Nine monthsended
    
    
    Percentage
    
    
    ended
    
    
    ended
    
    
    Percentage
    
    
    endedSeptember 30,
    
    
    increase
    
    
    September 30,
    
    
    September 30,
    
    
    increase
    
    
    September 30,2008
    
    
    (decrease)
    
    
    2007
    
    
    2008
    
    
    (decrease)
    
    
    2007(In thousands, except percentages)
    
    
    (In thousands, except percentages)Cost of product sales
    
    $
    89
    
    
    
    85
    %
    
    $
    48
    
    
    $
    335
    
    
    
    11
    %
    
    $
    302Cost of research and
development reimbursements
    
    
    233
    
    
    
    145
    
    
    
    95
    
    
    
    664
    
    
    
    599
    
    
    
    95Total cost of revenues
    
    $
    322
    
    
    
    125
    %
    
    $
    143
    
    
    $
    999
    
    
    
    152
    %
    
    $
    397
 20




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Selling, General and Administrative Expenses
 Three months
    
    
    
    
    
    
    Three months
    
    
    Nine months
    
    
    
    
    
    
    Nine monthsended
    
    
    Percentage
    
    
    ended
    
    
    ended
    
    
    Percentage
    
    
    endedSeptember 30,
    
    
    increase
    
    
    September 30,
    
    
    September 30,
    
    
    increase
    
    
    September 30,2008
    
    
    (decrease)
    
    
    2007
    
    
    2008
    
    
    (decrease)
    
    
    2007(In thousands, except percentages)
    
    
    (In thousands, except percentages)Selling, general
and administrative
expenses
    
    $
    2,247
    
    
    
    (35
    )%
    
    $
    3,444
    
    
    $
    9,642
    
    
    
    (11
    )%
    
    $
    10,832
   Research and Product Development Expenses
    21




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##### Table of Contents



Three months
    
    
    
    
    
    
    Three months
    
    
    Nine months
    
    
    
    
    
    
    Nine monthsended
    
    
    Percentage
    
    
    ended
    
    
    ended
    
    
    Percentage
    
    
    endedSeptember 30,
    
    
    increase
    
    
    September 30,
    
    
    September 30,
    
    
    increase
    
    
    September 30,2008
    
    
    (decrease)
    
    
    2007
    
    
    2008
    
    
    (decrease)
    
    
    2007(in thousands, except percentages)
    
    
    (in thousands, except percentages)Nalbuphine ER
    
    $
    192
    
    
    
    (87
    )%
    
    $
    1,494
    
    
    $
    1,827
    
    
    
    (63
    )%
    
    $
    4,981A0001 and Edison Payments
    
    
    2,250
    
    
    
    10
    
    
    
    2,048
    
    
    
    5,884
    
    
    
    187
    
    
    
    2,048PW4153
    
    
    737
    
    
    
    7,270
    
    
    
    10
    
    
    
    886
    
    
    
    468
    
    
    
    156Other Phase I Products and Internal Costs
    
    
    2,709
    
    
    
    (12
    )
    
    
    3,073
    
    
    
    8,200
    
    
    
    (17
    )
    
    
    9,866Total Research and Product Development
Expense
    
    $
    5,888
    
    
    
    (11
    )%
    
    $
    6,625
    
    
    $
    16,797
    
    
    
    (1
    )%
    
    $
    17,051
  
    
    Nalbuphine ER These expenses reflect our direct external expenses relating to the
development of nalbuphine ER. These expenses approximated 3% and 11%, respectively, of our
R&D expenses for the three and nine month periods ended September 30, 2008 and consisted
primarily of payments to third parties in connection with clinical trials of nalbuphine ER.
The expenses for this program decreased in the 2008 periods as compared to the 2007 periods,
as the 2007 periods reflect costs we incurred in connection with a Phase I safety trial that
we completed in 2007, a Phase IIa trial that we completed in January 2008 and costs for the
purchase of drug active. For the remainder of 2008, we anticipate that the level of our
spending related to nalbuphine ER will remain low as we do not anticipate the initiation of
the Phase IIb trial in 2008.
    
    A0001 and Edison Payments These expenses reflect our funding of Edisons research
activities under the Edison agreement as well as our direct external expenses relating to
the development of A0001. These expenses approximated 38% and 35%, respectively, of our R&D expenses for
the three and nine month periods ended September 30, 2008 and included quarterly research
and development payments to Edison totaling $792,000 in the 2008 three month period and $2.8
million for the 2008 nine month period, as well as a milestone payment made to Edison in the
2008 three month period for the commencement of dosing in a Phase Ia clinical trial of
A0001. We anticipate that these expenses will be lower during the remainder of 2008 as
compared to the three month period ended September 30, 2008, primarily due to lower expected
sponsored research payments to Edison as the Edison agreement provides for lower sponsored
research payments for the two remaining quarterly payments, and no milestone payments to
Edison are expected for the remainder of 2008. These quarterly sponsored research payments
to Edison end in January 2009.
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
    
    PW4153 These expenses reflect our direct external expenses relating to the development
of PW4153. These expenses approximated 13% and 5%, respectively, of our R&D expenses for
the three and nine month periods ended September 30, 2008 and consisted primarily of
payments to third parties in connection with clinical trials and other development work. In
July 2008, we conducted a Phase I clinical trial for PW4153 to assess the pharmacokinetics
of our formulation in healthy volunteers. Based on the results of this study, we determined
to terminate this development program. We do not anticipate any significant additional costs
for this program for the remainder of 2008 or beyond.
    
    Other Phase I Products and Internal Costs These expenses reflect internal and external
expenses not separately reported under a product development program noted above, and
include the areas of pharmaceutical development, clinical and regulatory. The types of
expenses included in internal expenses primarily are salary and benefits, stock-based
compensation costs, depreciation on purchased equipment, and the amortization or any
write-downs of patent costs, other than product patent write-offs charged directly to a
separately reported product development program or amortization of patent costs relating to
commercialized products, which are included in cost of revenues. The types of expenses
included in external expenses are primarily related to preclinical studies,
proof-of-principle biostudies conducted on our Phase I product candidates and payments to
third parties for drug active.
   Share-Based Compensation
  Three Months Ended
    
    
    Nine months EndedSeptember 30,
    
    
    September 30,2008
    
    
    2007
    
    
    2008
    
    
    2007(in thousands)Research and product development
    
    $
    205
    
    
    $
    379
    
    
    $
    655
    
    
    $
    295Selling, general and administrative
    
    
    524
    
    
    
    815
    
    
    
    1,731
    
    
    
    2,341Total share-based compensation
    
    $
    729
    
    
    $
    1,194
    
    
    $
    2,386
    
    
    $
    2,636
  Tax Rates
  23




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Liquidity and Capital Resources
 Sources of Liquidity
  Private Placement.
  Senior Secured Credit Facility.
   Cash Flows
  24




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Funding Requirements
     
    
    the commercial success of Opana ER, and the amount of royalties from Endos sales of
Opana ER, which may be adversely affected by any potential generic entry;
    
    the timing and amount of payments received under collaborative agreements including our
agreement with Mylan with respect to Pfizers generic version of Procardia XL 30 mg;
    
    the timing and amount of payments to Edison in connection with the Edison agreement, as
well as our internal costs of development for drug candidates for which we acquire rights
under the Edison agreement;
    
    the progress of our development projects, funding obligations with respect to the
projects, and the related costs to us of clinical studies for our product candidates;
    
    our ability to enter into collaborations for nalbuphine ER, Opana ER outside the U.S. and
our drug delivery technologies, and the structure and terms of any such agreements;
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
    
    our ability to access funding support for our development programs from third party
collaborators;
    
    the level of investment for the acquisition or in-licensing of technologies or compounds
intended to support our growth;
    
    the prosecution, defense and enforcement of our patents and other intellectual property
rights, such as our Orange Book listed patents for Opana ER;
    
    the level of our investment in capital expenditures for facilities or equipment; and
    
    our success in reducing our spending and managing our costs.
     Contractual Obligations
  Less Than
    
    
    1-3
    
    
    4-5
    
    
    After 5Total
    
    
    One Year
    
    
    Years
    
    
    Years
    
    
    YearsOperating leases
    
    $
    823
    
    
    $
    679
    
    
    $
    144
    
    
    $
    
    
    
    $
    Purchase obligations
    
    
    2,266
    
    
    
    2,266
    
    
    
    
    
    
    
    
    
    
    
    Payments due under credit facility
    
    
    11,737
    
    
    
    5,584
    
    
    
    6,153
    
    
    
    
    
    
    
    Deferred compensation, including current portion
    
    
    2,753
    
    
    
    294
    
    
    
    587
    
    
    
    587
    
    
    
    1,285Edison collaboration
    
    
    875
    
    
    
    875
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    18,454
    
    
    $
    9,698
    
    
    $
    6,884
    
    
    $
    587
    
    
    $
    1,285
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
    
    We have a Supplemental Executive Retirement Plan, or SERP, a nonqualified plan which
covers our former Chairman and Chief Executive Officer, Tod R. Hamachek. Under the SERP,
effective in May 2005, we became obligated to pay Mr. Hamachek approximately $12,600 per
month over the lives of Mr. Hamachek and his spouse.
    
    We also have a Deferred Compensation Plan, or DCP, a nonqualified plan which covers Mr.
Hamachek. Under the DCP, effective in May 2005, we became obligated to pay Mr. Hamachek
approximately $140,000 per year, including interest, in ten annual installments; however,
these installments are recalculated annually based on market interest rates as provided for
under the DCP.
   Net Operating Loss Carryforwards
  
 Item 3. Quantitative and Qualitative Disclosures About Market Risk
 Market Risk and Risk Management Policies
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Item 4. Controls and Procedures
 (a) Evaluation of Disclosure Controls and Procedures.
 (b) Changes in Internal Control Over Financial Reporting.
 
 PART II  OTHER INFORMATION
 
 Item 1. Legal Proceedings
 Impax ANDA Litigation
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Actavis ANDA Litigation.
  Sandoz ANDA Litigation.
  Barr ANDA Litigation.
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Item 1A. Risk Factors
 Investing in our common stock involves a high degree of risk, and you should carefully
consider the risks and uncertainties described below in addition to the other information included
or incorporated by reference in this quarterly report. If any of the following risks actually
occurs, our business, financial condition or results of operations would likely suffer, possibly
materially. In that case, the trading price of our common stock could fall. An updated
description of the risk factors associated with our business is set forth below. This description
includes any material changes to and supersedes the description of the risk factors associated with
our business previously disclosed in Part II, Item 1A of our Quarterly Report on Form 10-Q for the
three months ended June 30, 2008.
 We have not been profitable and expect to continue to incur substantial losses
    
    
    the commercial success of Opana ER, and the amount of royalties from Endos sales of
Opana ER which may be adversely affected by any potential generic entry;
    
    our ability to successfully defend our intellectual property protecting our products;
    
    our ability to access funding support for our development programs from third party
collaborators;
    
    the level of our investment in research and development activities, including the timing
and costs of conducting clinical trials of our products;
    
    the successful development and commercialization of product candidates in our portfolio;
    
    the level of investment for acquisitions or in-licensing of compounds or technologies
intended to support our growth; and
    
    royalties from Mylans sales of Pfizers generic version of Procardia XL 30 mg.
 We may require additional funding which may be difficult to obtain
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
    
    the commercial success of Opana ER, and the amount of royalties from Endos sales of
Opana ER, which may be adversely affected by any potential generic entry;
    
    the timing and amount of payments received under collaborative agreements including our
agreement with Mylan with respect to Pfizers generic version of Procardia XL 30 mg;
    
    the timing and amount of payments to Edison in connection with the Edison agreement, as
well as our internal costs of development for drug candidates for which we acquired rights
under this agreement;
    
    the progress of our development projects, funding obligations with respect to the
projects, and the related costs to us of clinical studies for our product candidates;
    
    our ability to enter into additional collaborations for nalbuphine ER, Opana ER outside
the U.S. and our drug delivery technologies, and the structure and terms of any such
agreements;
    
    our ability to access funding support for our development programs from third party
collaborators;
    
    the level of investment for the acquisition or in-licensing of technologies or compounds
intended to support our growth;
    
    the prosecution, defense and enforcement of our patents and other intellectual property
rights, such as our Orange Book listed patents for Opana ER;
    
    the level of our investment in capital expenditures for facilities and equipment; and
    
    our success in reducing our spending and managing our costs.
  Our ability to generate revenues depends heavily on the success of Opana ER
   
    
    the safety and efficacy of Opana ER as compared to competitive products;
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
    
    Endos ability to educate the medical community about the benefits, safety profile and
efficacy of Opana ER;
    
    the effectiveness of Endos sales and marketing activities;
    
    Endos ability to manufacture and maintain suitable inventory for sale on an ongoing
basis;
    
    the reimbursement policies of government and third party payors with respect to Opana ER;
    
    the pricing of Opana ER;
    
    the level of stocking of Opana ER by wholesalers and retail pharmacies; and
    
    the availability of generic versions of Opana ER and the timing of generic competition.
     Our success depends on our ability to protect our patents and other intellectual property rights
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We are dependent on our collaborators to manufacture and commercialize our products
     
    
    Our collaborators may be pursuing alternative technologies or developing alternative
products, either on their own or in collaboration with others, that may be competitive to
the product on which we are collaborating, which could affect our collaborators commitment
to our collaboration.
    
    Our collaborators may reduce marketing or sales efforts, or discontinue marketing or
sales of our products. which could reduce the revenues we receive on the products.
    
    Our collaborators may pursue higher priority programs or change the focus of their
commercialization programs, which could affect the collaborators commitment to us.
Pharmaceutical and biotechnology companies re-evaluate their priorities from time to time,
including following mergers and consolidations, which have been common in recent years in
these industries.
    
    Disputes may arise between us and our collaborators from time to time regarding
contractual or other matters. In 2006, we were engaged in a dispute with Endo with regard
to the sharing of marketing expenses during the period prior to when Opana ER reaches
profitability. In January 2007, we resolved our dispute as part of an amendment to the
strategic alliance agreement between us and Endo. Any other such disputes with Endo or
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other collaborators could be time consuming and expensive, and could impact our anticipated
rights under our agreements with those collaborators.
 We have limited experience in developing, manufacturing, marketing and selling pharmaceutical
products
   The Drug Enforcement Agency, or DEA, limits the availability of the active drug substances used in
Opana ER. As a result, Endos procurement quota may not be sufficient to meet commercial demand
   We face significant competition, which may result in others discovering, developing or
commercializing products before us or more successfully than we do
  
    
    significantly greater financial, technical and human resources than we have and may be
better equipped to develop, manufacture and commercialize drug products;
    
    more extensive experience than we have in conducting preclinical studies and clinical
trials, obtaining regulatory approvals, and manufacturing and marketing pharmaceutical
products;
    
    competing products that have already received regulatory approval or are in late-stage
development; or
    
    collaborative arrangements in our target markets with leading companies and research
institutions.
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®
  If our clinical trials are not successful or take longer to complete than we expect, we may not be
able to develop and commercialize our products
   35




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
    
    be delayed in obtaining marketing approval for our products;
    
    not be able to obtain marketing approval for our products; or
    
    not be able to obtain approval for indications that are as broad as intended.
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Even if we are able to obtain regulatory approvals for any of our product candidates, if they
exhibit harmful side effects after approval, our regulatory approvals could be revoked or
otherwise negatively impacted, and we could be subject to costly and damaging product liability
claims
  Our controlled release drug delivery technologies rely on the ability to control the release of
the active drug substances and our business would be harmed if it was determined that there were
circumstances under which the active drug substances from one of our extended release products
would be released rapidly into the blood stream
  ® in
vitro in vitro
 We are subject to extensive government regulation including the requirement of approval before our
products may be marketed. Even if we obtain marketing approval, our products will be subject to
ongoing regulatory review
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The recently enacted Food and Drug Administration Amendment Act of 2007, or FDAAA, may make it
more difficult and costly for us to obtain regulatory approval of our product candidates and to
produce, market and distribute products after approval.
  Opana ER contains a narcotic ingredient. As a result of reported misuse and abuse of prescription
narcotics, the sale of Opana ER is subject to additional regulations, including compliance with
risk management programs, which may prove difficult or expensive to comply with; and we and Endo
may face lawsuits
  We may become involved in patent litigation or other proceedings relating to our products or
processes, which could result in liability for damages or termination of our development and
commercialization programs
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
    
    We or our collaborators may initiate litigation or other proceedings against third
parties to enforce our intellectual property rights.
    
    If our competitors file patent applications that claim technology also claimed by us, we
or our collaborators may participate in interference or opposition proceedings to determine
the priority of invention.
    
    If third parties initiate litigation claiming that our processes or products infringe
their patent or other intellectual property rights, we and our collaborators will need to
defend our rights in such proceedings.
   We have only limited manufacturing capabilities and will be dependent on third party manufacturers
    
    
    we or our collaborators may not be able to meet commercial demands for Opana ER or our
other products;
    
    we may not be able to initiate or continue clinical trials for products that are under
development; and
    
    we may be delayed in submitting applications for regulatory approvals of our products.
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We are dependent upon a limited number of suppliers for the gums used in our TIMERx materials
  If we or our collaborators fail to obtain an adequate level of reimbursement by governmental or
third party payors for Opana ER or any other products we develop, we may not be able to
successfully commercialize the affected product
    We will be exposed to product liability claims and may not be able to obtain adequate product
liability insurance
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If we are unable to retain our key personnel and continue to attract additional professional
staff, we may not be able to maintain or expand our business
  The market price of our common stock may be volatile
  Specific provisions of our Articles of Incorporation and Bylaws and the laws of Washington State
make a takeover of Penwest or a change in control or management of our Company more difficult
  
 Item 6. Exhibits
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SIGNATURE
  PENWEST PHARMACEUTICALS CO.Date: November 6, 2008
    /s/ Benjamin L. PalleikoBenjamin L. PalleikoSenior Vice President, Corporate Development and
Chief Financial Officer
(Principal Financial Officer) 42




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EXHIBIT INDEX
 ExhibitNumber
    
    Description10.1
    
    Second Amendment, dated July 14, 2008, to the Amended and Restated Strategic
Alliance Agreement, dated as of April 2, 2002, by and between Penwest
Pharmaceuticals Co. and Endo Pharmaceuticals Inc.31.1
    
    Certification of Principal Executive Officer pursuant to Exchange Act Rules
13a-14(a) or 15d-14(a), as adopted pursuant to Section 302 of Sarbanes-Oxley
Act of 2002.31.2
    
    Certification of Principal Financial Officer pursuant to Exchange Act Rules
13a-14(a) or 15d-14(a), as adopted pursuant to Section 302 of Sarbanes-Oxley
Act of 2002.32.1
    
    Certification of Principal Executive Officer pursuant to Exchange Act Rules
13a-14(b) or 15d-14(b) and 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Principal Financial Officer pursuant to Exchange Act Rules
13a-14(b) or 15d-14(b) and 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of Sarbanes-Oxley Act of 2002.
 43