On October 24, 2008, Acusphere (ACUS) and Cephalon (CEPH) signed a definitive agreement whereby Cephalon will provide $20 million in upfront financing to Acusphere in the form of $5M in cash and $15M in a senior secured convertible note. ?

The deal is very positive for Acusphere shareholders, as the company exited the third quarter with only $4.1 million in cash on the books and was going to run out of operating funds by mid-November 2008.? The financing avoids any near-term bankruptcy risk or the need for a massive dilutive offering. ?

We also note that should Cephalon decide to license Imagify, Acusphere was able to maintain a significant portion of the economics.? The deal entitles Acusphere to a sizable approval milestone of $40M and royalties -- which we estimate to be around 20% -- on U.S. sales of the drug. ?

There seems significant, and perplexing, confusion around this deal.? We are surprised at the stock price decline in the past few days.? Perhaps this is profit-taking after the run-up last week on the news that the FDA would hold an advisory panel meeting in December 2008 to review Imagify.? We discuss this panel meeting and our prediction for the outcome in our October 13, 2008 report.? This report also has our analysis of the RAMP-1 and RAMP-2 data, and our forecasts for Imagify sales.

Nevertheless, this is a very good deal for Acusphere.? The current market conditions and financing opportunities for small-cap biotechnology companies are extremely challenging.? The fact that Acusphere was able to secure $20M in financing and still maintain significant upside on its intellectual property for shareholders so close to bankruptcy is fantastic news.? We think it is a testament to Imagify and potential billion-dollar opportunity it offers. ?

Cephalon will most likely choose Option No. 1 (Imagify License) if Imagify is approved.? However, even if Cephalon chooses Option No. 2 (51% Ownership), Acusphere shareholders can still reap significant financial rewards if the drug is approved.? A post-approval deal on Imagify is most likely worth more than twice what the company will get with option No. 1, so investors, while disappointed with the 51% dilution, will still come out ahead. ?

Investment in Acusphere still represents a risky and speculative play.? However, in our view, odds favor a positive panel recommendation in December 2008, and the stock represents a very attractive "call option" at this level.