CIR.L Regulatory News (CIR)

CIRCASSIA PHARMACEUTICALS PLC

PRELIMINARY RESULTS FOR THE YEAR ENDED 31 DECEMBER 2018

Oxford, UK - 1 May 2019: Circassia Pharmaceuticals plc ("Circassia" or "the Company") (LSE: CIR), a specialty pharmaceutical company focused on respiratory disease, today announces its preliminary results for the year ended 31 December 2018 and a post-period update.

Financial progress

NIOX® progress

· Sales increased 5% to £27.4 million (2017 CER3: £26.2 million)

· Clinical (non-research4) revenues increased 7% compared with 2017 CER

· China sales decreased 11% vs 2017 CER following destocking and disruption during transition to direct sales; new sales model now in place

· Q1 2019 unaudited revenues increased 38% vs Q1 2018 CER

US COPD portfolio progress

· Tudorza® profit share revenues increased 11% to £20.9 million (2017 CER: £18.8 million)

· Q1 2019 unaudited revenues increased 31% vs Q4 2018 CER following option exercise at year end; prescriptions stable

· Tudorza® option exercised acquiring product's full commercial rights

· Tudorza® ASCENT study data filed for inclusion in label; FDA approved March 2019

· Duaklir® NDA filed; FDA approved March 2019

Commercial platform progress

· China direct sales force launched; commercial team expansion to approximately 100 near completion

· UK team expanded; Commercial Director hired in Italy; European commercial operations strengthened

· US dedicated COPD and device teams launched to prepare for product launches

Corporate progress

· AstraZeneca subscription raising $26.7 million completed

Post-period highlights

· US and China commercialisation rights to novel nitric oxide product AirNOvent5 acquired January 2019

· Move to AIM completed February 2019

· AstraZeneca five-year loan addresses outstanding COPD transaction consideration, option and R&D payments

Steven Harris, Circassia's Chief Executive, said: "We made good progress in 2018 completing our strategic transition into a commercially-focused specialty pharmaceutical business focused on respiratory disease. Our revenues continued to grow and we maintained our commercial investment and broad cost control activities. As a result, we dramatically reduced our net cash outflow and decreased the loss in our underlying business."

"During 2018, our global NIOX® business continued to grow, and following the launch of our direct sales team in China we look forward to expanding our presence in this significant market. We also advanced our US COPD portfolio, and in the first half of 2018 our partner filed for Duaklir® approval and an expanded label for Tudorza®. We are delighted that both filings were successful and we now look forward to enhancing our Tudorza® promotion and launching Duaklir® later this year."

"During 2019 we have maintained our momentum, taking full commercial control of Tudorza®, adding late-stage product AirNOvent to our portfolio, significantly increasing NIOX® revenues and boosting our commercial platform. As a result, we are making good progress building a robust business with growing revenue potential and an exciting commercial future."

Analyst meeting and webcast

An analyst meeting will take place today at 9.30am at FTI Consulting, 200 Aldersgate, Aldersgate Street, London, EC1A 4HD. A webcast of the presentation will be available on the Company's website.

Contacts

Circassia

Steven Harris, Chief Executive Officer Tel: +44 (0) 1865 405 560

Julien Cotta, Chief Financial Officer

Rob Budge, Corporate Communications

Peel Hunt (Nominated Adviser and Joint Broker)

James Steel / Dr Christopher Golden Tel: +44 (0) 20 7418 8900

Numis Securities (Joint Broker)

James Black / Freddie Barnfield Tel: +44 (0) 20 7260 1000

FTI Consulting

Simon Conway / Ciara Martin Tel: +44 (0) 20 3727 1000

About Circassia

Circassia is a world-class specialty pharmaceutical business focused on respiratory disease. The Company sells its novel, market-leading NIOX® asthma management products directly to specialists in the United States, United Kingdom, China and Germany, and in a wide range of other countries through its network of partners. In the United States, Circassia has a commercial collaboration with AstraZeneca in which it has the commercial rights to chronic obstructive pulmonary disease (COPD) treatments Tudorza® and Duaklir®. Circassia also has the US and Chinese commercial rights to the late-stage ventilator-compatible nitric oxide product AirNOvent. For more information please visit www.circassia.com.

1Underlying operations restated to show the results of in-house respiratory development in discontinued operations

2Cash, cash equivalents and short-term deposits

3Constant exchange rates (CER) for 2017 represent reported numbers re‐stated using 2018 average exchange rates; management believes CER comparisons better represent underlying performance due to currency fluctuations against sterling

4Clinical revenues represent sales to clinicians, hospitals and distributors; research revenues represent sales to pharmaceutical companies for use in clinical studies

5AirNOvent is not an approved name and may not be the final name submitted for approval

Forward-looking statements

This press release contains certain projections and other forward-looking statements with respect to the financial condition, results of operations, businesses and prospects of Circassia. The use of terms such as "may", "will", "should", "expect", "anticipate", "project", "estimate", "intend", "continue", "target" or "believe" and similar expressions (or the negatives thereof) are generally intended to identify forward-looking statements. These statements are based on current expectations and involve risk and uncertainty because they relate to events and depend upon circumstances that may or may not occur in the future. There are a number of factors that could cause actual results or developments to differ materially from those expressed or implied by these forward-looking statements. Any of the assumptions underlying these forward-looking statements could prove inaccurate or incorrect and therefore any results contemplated in the forward-looking statements may not actually be achieved. Nothing contained in this press release should be construed as a profit forecast or profit estimate. Investors or other recipients are cautioned not to place undue reliance on any forward-looking statements contained herein. Circassia undertakes no obligation to update or revise (publicly or otherwise) any forward-looking statement, whether as a result of new information, future events or other circumstances.

OPERATING REVIEW

Strategic overview

In 2018 Circassia made good progress implementing its strategy. The Company completed its transition into a commercially-focused specialty pharmaceutical business, and has continued to build on this positive momentum. The Company has refocused its R&D expenditure, with device development, regulatory, medical affairs, quality and supply chain functions focused on supporting its commercial products, and spending on its in-house respiratory pipeline halted. In parallel, Circassia has maintained investment in its commercial platform, dramatically increasing its presence in China and strengthening its team in Europe. The Company also expanded its product portfolio, exercising its option to take full US commercial control of chronic obstructive pulmonary disease (COPD) treatment Tudorza® at the end of 2018, and acquiring the US and Chinese commercial rights to late-stage ventilator-compatible nitric oxide product AirNOvent at the start of 2019.

Circassia also made good corporate progress. It amended its commercialisation agreement with AstraZeneca for COPD products Tudorza® and Duaklir®, and AstraZeneca increased its equity stake in Circassia to 19.9% following a subscription of new shares. As part of the approval process for this related-party transaction, the Company agreed with the UK Financial Conduct Authority (FCA) to seek shareholder approval to move to AIM if the percentage of its shares held in public hands did not reach the level required for the Main Market. Circassia's shareholders subsequently approved this move to AIM and it was completed in early 2019. The move also provides potential strategic advantages as AIM's more flexible regulatory regime may help the Company acquire, partner or in-license additional products more efficiently to leverage its commercial platform.

Alongside the Company's strategic and corporate progress, the past year was also a period of financial transition. Circassia continued to grow its revenues despite headwinds in the second half, controlled its non-commercial costs, reduced the net loss in its underlying business and dramatically decreased its net cash outflow. As a result, Circassia is continuing to advance towards its strategic objective of building a self-sustaining specialty pharmaceutical business.

NIOX® asthma management products

NIOX® is the leading point-of-care system for measuring fractional exhaled nitric oxide (FeNO), an important biomarker of the major underlying cause of asthma, type 2 airway inflammation. NIOX® is used around the world to improve asthma diagnosis and management, and Circassia sells the product directly in the United States, UK and Germany, and following the recent launch of its local sales team, in China also. In addition, the Company promotes NIOX® through its network of international partners, which extends across more than 35 countries.

Sales growth

NIOX® sales continued to grow during 2018. Global revenues of £27.4 million were 5% (CER) higher than the year before, with sales for clinical use increasing 7% and less predictable sales for use in pharmaceutical company clinical studies declining 6%. Overall growth was held back by lower sales in China, which decreased 11% with destocking and distributor disruption during the transition to the Company's direct sales model. In Germany and the UK, revenues grew 8% and 27% (CER) respectively, while in the United States sales declined by 1% (CER) due to disruption at the end of the year caused by territory realignment as the Company launched dedicated COPD and NIOX® sales teams.

With much of this disruption now complete, NIOX® revenue growth has accelerated significantly during the first quarter of 2019, and global sales were 38% higher at CER compared with the same period the year before.

Increasing access

Circassia is working to increase NIOX® market access in a number of countries. In the United States, payor coverage grew significantly during 2018 and the market access team is targeting a number of additional healthcare plans to increase this further. In the US and UK, the Company's commercial teams are working with pharmacy chains to explore the potential of providing NIOX® testing in convenient locations. In China, reimbursement for FeNO testing was recently granted in Beijing, providing an opportunity to target the more than 100 top level hospitals in the city. In Australia, the Company's partner plans to grow the local market following the introduction of reimbursement for FeNO testing alongside spirometry.

Geographic expansion

Outside its direct sales territories, Circassia sells NIOX® through a network of international partners. During 2018 the Company added new partners in Malaysia, Mexico, Saudi Arabia and Thailand and has now received approvals in each of these countries.

NIOX® support

Circassia supports its partners' NIOX® promotion via a dedicated commercial team. During 2018, the team launched a new NIOX® marketing campaign at the European Respiratory Society International Congress, where it also held a partner meeting to provide training on the new materials. The Company also provided training in South Korea and recently held training sessions at the Chest World Congress in Thailand.

During 2018 Circassia's commercial team also continued NIOX® brand building activities in its direct markets, including the roll out of its digital strategy with online advertising, e-shots, refreshed web resources and the launch of a new NIOX.com web portal. In the UK, Circassia is providing healthcare professionals with training via its Asthma Masterclass programme, which is delivered by a specialist respiratory nurse advisor. It is also working with the Primary Care Respiratory Society to offer members exclusive benefits when purchasing NIOX®.

In the US, the Company has partnered with reimbursement specialists to provide support for NIOX® customers. This new service offers coding and reimbursement support via a dedicated hotline team of certified coders. Additionally, Circassia has launched a dedicated NIOX® promotional team in the US to improve targeting and promotional efficiency. The team includes telesales and customer service professionals working alongside the dedicated field-based sales force.

US collaboration with AstraZeneca

In 2017, Circassia established a US commercial collaboration with AstraZeneca for COPD products Tudorza® and Duaklir®. Under the agreement, Circassia acquired the commercialisation rights to Duaklir® and entered a profit share arrangement for Tudorza® in which the Company was responsible for the product's promotion and AstraZeneca its manufacture, distribution, pharmacovigilance and regulatory activities.

Agreement amendment and option exercise

During 2018, the companies amended the original agreement, and AstraZeneca increased its shareholding in Circassia to 19.9% via subscription for newly-issued ordinary shares. Circassia used the $26.7 million consideration to pay a $20.0 million R&D contribution due to AstraZeneca by 31 December 2018 and to part settle the final $25.0 million payable by the end of 2019. The remaining $18.3 million of this final R&D payment is addressed by a five-year loan provided by AstraZeneca.

At the end of 2018, Circassia issued a notice of option exercise to acquire the full US commercialisation rights to Tudorza®. This completed as anticipated on 31 December 2018, and from 1 January 2019 Circassia has recorded Tudorza®'s in-market sales and costs and retained the full profits from commercialisation. The option exercise triggered an initial payment obligation of $5 million, and following the approval of Duaklir® a final option payment of $20 million became payable to AstraZeneca. These payment obligations are addressed by a five-year loan provided by AstraZeneca under the companies' agreement. This loan facility provided by AstraZeneca also addresses the final consideration of $100 million due under the companies' agreement, in addition to the R&D payment outlined above.

Tudorza® collaboration

Tudorza® contains the long-acting muscarinic antagonist (LAMA) aclidinium bromide, which is administered twice-daily via the easy-to-use inhaler Pressair® for the maintenance treatment of COPD. In the United States, the market for LAMA therapies totalled an estimated $2 billion in 2018 presenting a significant opportunity for Tudorza®. With the product's prescriptions making up approximately 2.6% of the market, a modest increase in volumes or uptake in higher value channels could substantially grow the product's sales, which would be of material importance to the Company.

Commercial progress

Following the establishment of the Tudorza® collaboration in 2017, Circassia's sales force rapidly achieved its target call volumes as part of the Company's plan to turn round the product's previously declining prescriptions. During 2018 the prescription rate continued to stabilise, although the £20.9 million profit share revenues for the year were impacted by higher rebates in federal channels during the second half. In the final quarter of the year the Company refined its physician targeting strategy and during piloting the new prescription rate per call responded positively.

Circassia plans to build on this progress during the coming year. Following the exercise of its option to acquire the full US commercial rights to Tudorza® at the end of 2018, first quarter revenues in 2019 increased 31% at CER compared with the final quarter the previous year. With the imminent transfer of the product's licence to Circassia, the Company will have significant additional flexibility in managing its sales force composition, customer targeting, product detail prioritisation, territory definition, distribution strategy, pricing and market access activities. Circassia is leveraging this increased flexibility and recently refocused its US sales capabilities launching a dedicated COPD sales force to improve targeting and promotional efficacy.

Regulatory progress

Following the successful completion of the phase IV ASCENT study at the end of 2017, Tudorza® has made good regulatory progress. The study met both its primary endpoints, and during the first half of 2018 a supplemental New Drug Application (sNDA) was submitted to the FDA requesting inclusion of the data in the product's prescribing information. The FDA recently completed its review of the filing and approved the sNDA at the end of March.

As a result, Tudorza®'s expanded label now includes unique data from ASCENT. The study, which was conducted in patients with moderate to very severe COPD and cardiovascular disease and / or significant cardiovascular risk factors, demonstrated that Tudorza® is effective at reducing COPD exacerbations with no increase in major cardiovascular events and at reducing hospitalisations due to COPD exacerbations in this at-risk population. Cardiovascular disease is the most common and significant co-morbidity of COPD, with approximately 30% of COPD patients dying from cardiovascular conditions. Tudorza® is the only LAMA in the United States with these data in its label, which Circassia plans to use in payor discussions as part of its market access strategy.

Duaklir® collaboration

Duaklir® is a fixed-dose combination of the LAMA aclidinium bromide and long-acting beta agonist (LABA) formoterol fumarate, which is administered twice-daily via the breath-actuated Pressair® inhaler for the maintenance treatment of COPD. Duaklir® targets the rapidly growing $850 million US LAMA / LABA market, which represents an important commercial opportunity for the Company.

Regulatory progress

During 2018, Duaklir® made good regulatory progress following the successful completion of the AMPLIFY phase III study the prior year. In the first half of 2018, a New Drug Application was submitted for Duaklir®, which was approved in March 2019 by the FDA. The approval is based on a broad clinical database, including data from AMPLIFY and two earlier phase III studies, ACLIFORM and AUGMENT. The label also includes clinical data from the phase IV ASCENT study, which shows aclidinium therapy is effective at reducing COPD exacerbations. As a result, Duaklir® is the only twice-daily LAMA / LABA in the United States with COPD exacerbation data included in its prescribing information.

Commercial progress

Circassia plans to launch Duaklir® in the second half of 2019 through its dedicated COPD sales force. The Company is making good progress with its preparations and is working with specialist agencies and an advisory board of medical experts as it finalises its launch plans. The team has completed market research to inform the product's value proposition, brand messaging and creative campaign, and is developing Duaklir®'s market access contracting strategy and payor value propositions while public relations specialists finalise the communications strategy.

Commercial infrastructure progress

During 2018 Circassia continued to develop its commercial infrastructure to increase revenues from its existing portfolio and provide a platform to attract additional products. In China it significantly expanded its team, launching a direct sales team at the end of the year. This represents a significant change to the Company's business model in the country, with Circassia's previously modest team focusing solely on distributor support, marketing and market access activities. During the second half of the year, the Company recruited a full range of commercial and back office functions to support its direct sales field force, and by the end of the year the vast majority of the 100-strong commercial team was in place. Following the launch of this direct sales capability, Circassia now commercialises NIOX® using a mixed business model in China. In major cities the sales force works with logistics providers to supply customers directly, while in secondary cities the team works alongside distributors and in remoter regions the Company uses distribution partners. This new approach represents a significant opportunity for the Company to significantly increase its gross margin and expand its overall sales.

The launch and transition to this new model in China resulted in disruption and destocking at the end of 2018 impacting revenues. However, with this now complete and Circassia focusing promotion significantly beyond the 400 hospitals where NIOX® was previously installed, as well as capturing additional margin from selling directly, the Company anticipates continued strong sales growth in China.

Circassia is also strengthening its presence in Europe. The UK sales force expanded to increase coverage in the South East and add dedicated territories in the South West and Republic of Ireland. In Italy, the Company recently appointed a Commercial Director with significant respiratory and market access experience who will play a key role in finalising the commercialisation strategy in the country, including the potential for direct sales. Additionally, the Company is recruiting further marketing, analysis and operations expertise to support local promotional activities.

Investment strategy

In 2018, the Company refocused its investment approach as part of the strategy to transition into a self-sustaining, commercially-focused specialty pharmaceutical business. As a result, Circassia focused investment on its commercial platform while halting R&D expenditure on its in-house respiratory pipeline and aligning its regulatory, medical affairs, quality and supply chain resources to support the Company's marketed and late-stage products. The Company reduced its underlying R&D expenditure by nearly 20%, with headcount decreasing by over 50%, and increased its sales and marketing investment by 10% with growth focused in the United States and China. At the same time, the Company controlled its underlying administrative expenditure, which increased only marginally following increased office costs to support the Company's significant expansion in China.

During 2019, Circassia plans to maintain its commercial investment alongside an ongoing focus on cost containment. With the refocusing of its investment strategy now complete, the Company anticipates ongoing control of non-commercial expenditure, and sales and marketing costs reflecting the larger team in China and upcoming launch of Duaklir® in the United States.

Post-period highlights

Portfolio expansion

As part of its strategy to leverage its commercialisation platform, Circassia is actively pursuing opportunities to add to its portfolio through partnering, in-licensing or acquisition. The Company continued its business development programme throughout 2018, and at the beginning of 2019 announced the acquisition of the exclusive US and Chinese commercialisation rights to AirNOvent from AIT Therapeutics Inc. AirNOvent is a late-stage, ventilator-compatible novel inhaled nitric oxide product, initially targeting use in the treatment of hypoxic respiratory failure associated with persistent pulmonary hypertension of the newborn (PPHN).

Under the terms of the agreement, Circassia paid AIT initial consideration of $7.35 million, and a further $3.15 million following the successful completion of a pre-submission FDA meeting. Both payments were satisfied through the issuance of new ordinary shares in the Company to AIT. Further deferred contingent consideration, also payable in Circassia shares, will become due on the achievement of certain milestones, including $12.6 million following FDA approval, $8.4 million on US approval of a related indication and $1.05 million on the product's launch in China. Additionally, the Company will pay tiered royalties based on gross profits from future product sales.

AirNOvent overview

AirNOvent is a portable system that utilises an electric voltage to produce precise quantities of nitric oxide from the nitrogen and oxygen in air. Inhaled nitric oxide is a pulmonary vasodilator, which is approved in the United States for use as part of a regimen in the treatment of hypoxic respiratory failure associated with PPHN. PPHN is the failure of normal circulatory transition after birth, which occurs in approximately 1,500 - 26,200 newborns in the United States. The condition is potentially fatal and management can be complex involving a number of treatments, which in addition to supplemental oxygen can include the administration of inhaled nitric oxide.

The currently available product, INOMAX®, is used in neonatal intensive care units (NICUs) and its delivery system administers nitric oxide from pressurised cylinders in conjunction with ventilator systems. The product generated US revenues estimated at over $400 million in 2018. AirNOvent offers a number of potential benefits over the existing competition. It is cylinder-free and is smaller, significantly lighter and more convenient, and unlike nitric oxide cylinder-based systems does not require special storage and handling. As a result, it has the potential for use by NICUs, as well as smaller clinics without the facilities required to manage nitric oxide cylinders.

Under the companies' agreement, AIT is responsible for the product's development, US regulatory filings and manufacture, with Circassia managing the regulatory process in China. AIT plans to submit AirNOvent to the FDA in the coming weeks for Premarket Approval (PMA) for use in the treatment of PPHN, and Circassia anticipates launching the product in the first half of 2020 following approval.

AirNOvent commercialisation

Circassia intends to leverage its existing commercial platform in the United States to commercialise AirNOvent and anticipates modestly expanding its commercial team, adding further key accounts and medical affairs experts. The Company plans to target top hospitals with NICUs, many of which are called on by the existing dedicated device sales team. Additionally, the team will target facilities that do not currently use inhaled nitric oxide, such as those without the appropriate handling facilities.

Move to AIM

AstraZeneca's subscription for additional equity in 2018 decreased the 'free float' in the Company's shares to approximately 10%. The free float excludes holdings by directors and shareholdings of over 5%, and the Financial Conduct Authority's (FCA) Listing Rules require a level of at least 25%. As a result, the Company committed to the FCA that if the free float did not meet this required level within six months it would seek shareholder approval to move to AIM, which does not have the same requirement.

During the subsequent months, there was little movement in the free float and consequently Circassia sought approval to move to AIM. This was granted at a shareholder meeting on 4 January 2019 and the Company's shares were removed from trading on the London Stock Exchange's Main Market and admitted to trading on AIM on 4 February 2019.

Board changes

Following six years as Non-Executive Chairman, Dr Francesco Granata has informed the Company of his intention to retire from Circassia's Board in order to focus on his other business commitments. Francesco will continue as Chairman while the Company completes the ongoing search for his replacement. Additionally, following 12 years as Non-Executive Director, Russ Cummings has informed the Company he will not stand for re-election to the Board at the forthcoming Annual General Meeting. The Board wishes to express its sincere appreciation to Francesco for his leadership and significant contribution to the Company's development during his time at Circassia and to Russ for providing strategic insight and extensive financial market experience during his significant time as a Non-Executive Director.

In parallel with the ongoing Chairman search process, the Company is further strengthening its commercial focus through the creation and appointment of a Chief Operating Officer. The COO will lead Circassia's global commercial strategy and operational management and will be appointed to the Company's Board. The Company intends to announce the appointment of both the new Chairman and COO in due course.

Summary and outlook

During 2018, Circassia continued to make good progress implementing its strategy. The Company grew its revenues, despite headwinds in the second half, and maintained its financial strategy focusing on commercial investment and cost containment elsewhere. As a result, it reduced net cash outflow significantly and decreased the loss in its underlying business despite increased investment in its commercial infrastructure.

During the year, the Company's products also made progress, with the NIOX® business continuing to grow and filings in the US COPD portfolio resulting in the recent approval of Duaklir® and label expansion for Tudorza®. With dedicated NIOX® and COPD sales teams in the US, direct sales capabilities in China and a broader commercial platform in Europe, Circassia anticipates building on the encouraging Q1 2019 sales with strong revenue growth in the coming year. In the coming months, the Company looks forward to further progress, with the upcoming US filing for AirNOvent and launch of Duaklir® in the second half of 2019.

Over the last three years, the Company has completed its transformation from an R&D-based organisation into a strong commercially-focused business. The Company now features a unique commercial platform promoting compelling respiratory products across the world's largest markets. With a clear strategy focused on building a self-sustaining specialty pharmaceutical business, combined with growing revenues, Circassia is well positioned to continue its drive towards profitability.

FINANCIAL REVIEW

During 2018 revenues continued to grow, increasing 4% to £48.3 million, while the Company maintained control of overall costs, reducing R&D expenditure and investing in the commercial platform.

The table below sets out the Group's results for the year ended 31 December 2018, separated into continuing and discontinued operations. Continuing operations are further divided into underlying and non-underlying operations. Continuing underlying operations include revenues from the Tudorza® collaboration with AstraZeneca and sales of NIOX®, as well as the costs of the underlying business. These key performance indicators are used by management to manage the business and measure performance.

Non-underlying operations include irregular and non-recurring expenditure, such as those relating to restructuring the US field force into dedicated NIOX® and COPD units, the prior year's R&D contribution to AstraZeneca and other non-cash gains and losses relating to the deferred consideration payable to AstraZeneca. Discontinued operations include direct costs and overheads associated with the in-house respiratory pipeline which ceased in April 2018 and residual costs from the allergy programmes for which all development ceased in April 2017.

1 Disclosed as a single amount in the consolidated statement of comprehensive income

2 Restated to show the results of the respiratory business in discontinued operations, see note 10 to the consolidated financial statements

3 Includes cash and cash equivalents and short-term deposits.

Revenue

Circassia's revenues of £48.3 million (2017: £46.3 million) include Tudorza® revenues of £20.9 million (2017: £19.0 million) and NIOX® sales of £27.4 million (2017: £27.3 million).

During 2018, Tudorza® revenues derived from the profit share arrangement with AstraZeneca. AstraZeneca recorded in-market sales, cost of sales and other operational costs while Circassia recorded the costs of the field force and promotion and the companies each recorded 50% of the resultant profit. On 31 December 2018, Circassia completed the exercise of its option to take full commercial control of Tudorza® in the United States, and during 2019 will receive the full benefits of commercialisation and will record both the product's sales and costs.

NIOX® revenues include sales for use in clinical practice of £23.4 million (2017: £22.8 million), sales for use in pharmaceutical company research of £3.7 million (2017: £4.1 million) and other revenues such as freight of £0.3 million (2017: £0.4 million).

Gross profit

Gross margin increased from 78% to 82%. This was mainly due to the contribution of revenues from the AstraZeneca collaboration for the full year, which due to the agreement structure have a 100% gross margin. Gross profit on NIOX® sales was £18.5 million (2017: £17.3 million), with a gross margin of 68% (2017: 63%). This increase mainly reflects the weakening of sterling against the dollar.

Sales and marketing

Sales and marketing costs increased to £57.3 million (2017: £50.1 million). This was mainly due to a full year of investment in the US field force promoting Tudorza® versus 9 months in 2017, as well as significant expansion of commercial operations in China during the second half of the year. Sales and marketing costs of £2.9 million included in non-underlying continuing operations represents the re-organisation costs associated with restructuring the US field force into dedicated NIOX® and COPD teams.

R&D activities

Research and development activities include the costs associated with regulatory, quality and medical affairs support for marketed products, device development, and depreciation and amortisation. Research and development costs from underlying operations decreased to £10.8 million (2017: £13.3 million) mainly as a result of significantly lower headcount.

Discontinued operations include costs relating to the in-house respiratory pipeline of £78.6 million (2017: £44.6 million) most of which relates to an impairment charge of the associated intangible assets as set out below. The impairment costs have no impact on cash.

Total R&D expenditure reduced to £89.4 million (2017: £103.0 million).

Administrative expenditure

Administrative expenditure, which includes overheads relating to corporate functions, centrally managed support functions and corporate costs, increased to £11.8 million (2017: £11.1 million). This was mainly due to the costs associated with the transfer of the Company's shares to AIM and increased business development costs.

Other gains and losses

Other losses increased to £3.8 million (2017: £10.2 million gain). This was mainly due to unrealised foreign exchange losses relating to deferred consideration payable to AstraZeneca following the weakening of sterling against the dollar.

Net finance costs

Net finance costs were £11.7 million (2017: £2.4 million) for the year. This mainly relates to a non-cash charge to the income statement for the period reflecting the difference in the discounted and actual deferred consideration payable to AstraZeneca recorded on the balance sheet. The discounted amount reflects the time value of money.

Taxation

Taxation for the year was a credit of £17.5 million (2017: £21.0 million) of which £9.2 million (2017: £3.5 million) relates to underlying continuing operations. Included in underlying continuing operations is an R&D tax credit of £1.0 million (2017: £3.5 million) which is lower than the previous year because of a decrease in qualifying R&D expenditure. Also included is a deferred tax credit of £8.2 million (2017: £nil) which has arisen on an increase in recognised carried-forward tax losses in the Group.

An R&D tax credit of £10.2 million was included in non-underlying continuing operations in 2017, which related to the R&D contribution paid to AstraZeneca.

Taxation for discontinued operations increased to a credit of £8.3 million (2017: £7.3 million credit), mainly due to a reduction in the deferred tax liability following the impairment of intangible assets in the respiratory pipeline.

Loss after tax and loss per share

Basic loss per share for the period was 34p (2017: 31p) reflecting a loss of £117.1 million (2017: £99.1 million), with the increase mainly due to impairment of intangible assets in the in-house respiratory portfolio. Loss per share for continuing operations decreased to 14p (2017: 19p) reflecting a loss for the financial period of £25.9 million (2017: £34.5 million).

Statement of financial position

The Group's net assets at 31 December 2018 were £125.9 million (31 December 2017: £224.8 million). The decrease was mainly due to impairment of the in-house respiratory intangible assets and lower trade receivables and deposit balances, combined with an increase in the recognised non-contingent consideration payable to AstraZeneca reflecting the time value of money.

Current liabilities at the end of the period were £124.4 million (31 December 2017: £30.8 million). The increase at 31 December 2018 was mainly due to reclassification of the $100 million deferred non-contingent consideration payable to AstraZeneca as a current liability payable due within one year.

Current tax assets at 31 December 2018 were £1.0 million (31 December 2017: £6.5 million), representing the R&D tax credit due from HM Revenue and Customs. An R&D tax credit of £10.9 million was received in July 2018.

Cash flow

The Group's cash position, including cash equivalents and short-term deposits, decreased from £59.5 million at 31 December 2017 to £40.7 million at 31 December 2018.

Cash used in operations decreased to £51.3 million (2017: £66.4 million), reflecting higher revenues and a net decrease in the overall cost base of the business. Cash used in operations in 2017 included settlement of the $17.5 million (£13.1 million) R&D contribution due to AstraZeneca. In 2018, the contribution of $20.0 million (£15.3 million) was satisfied through the issue of new shares to AstraZeneca.

Other significant cashflows included an R&D tax credit of £10.9 million (2017: £8.9 million) and proceeds from the issue of share capital of £20.4 million (2017: £nil), which were used to pay the AstraZeneca R&D contribution of $20.0 million and the remainder part paying the final tranche of $25.0 million due by the end of 2019. The remaining $18.3 million of this final R&D payment, plus the $125.0 million consideration payable, is addressed by a five-year loan provided by AstraZeneca.

Outlook

In the coming year, Circassia anticipates significant sales growth with a number of factors expected to contribute to the increase. In particular, the Company expects higher NIOX® revenues in China following the implementation of direct sales in the country, increased Tudorza® revenues following the exercise of the option at the end of 2018 and initial Duaklir® sales later this year following the product's approval by the FDA at the end of March. The Company also plans to continue its cost control and commercial investment strategy and as a result, Circassia looks forward to continuing its trajectory towards profitability.

Julien Cotta

Chief Financial Officer

Consolidated statement of comprehensive income

for the year ended 31 December 2018

Loss per share attributable to owners of the parent during the year (expressed in £ per share)

1 Restated to show the results of the respiratory business as discontinued. See note 10 for details.

The Company has elected to take the exemption under section 408 of the Companies Act 2006 not to present the Parent Company profit and loss account.

The notes on pages 18 to 53 are an integral part of these financial statements.

Consolidated statement of financial position

as at 31 December 2018

The notes on pages 18 to 53 are an integral part of these financial statements.

The financial statements on pages 12 to 53 were authorised for issue by the Board of Directors on1 May 2019 and were signed on its behalf by

Steven Harris

Chief Executive Officer

Circassia Pharmaceuticals plc

Julien Cotta

Chief Financial Officer

Circassia Pharmaceuticals plc

Registered number: 05822706

Parent Company statement of financial position

as at 31 December 2018

The loss for the Parent Company for the year was £291.8 million (2017: £1.5 million profit).

The notes on pages 18 to 53 are an integral part of these financial statements.

The financial statements on pages 12 to 53 were authorised for issue by the Board of Directors on

1 May 2019 and were signed on its behalf by

Steven Harris

Chief Executive Officer

Circassia Pharmaceuticals plc

Julien Cotta

Chief Financial Officer

Circassia Pharmaceuticals plc

Registered number: 05822706

Consolidated and Parent Company statementS of cash flows

for the year ended 31 December 2018

The notes on pages 18 to 53 are an integral part of these financial statements.

Consolidated statement of changes in equity

for the year ended 31 December 2018

1 Other reserves include share option reserve, translation reserve, treasury shares reserve, and transactions with NCI reserve.

The notes on pages 18 to 53 are an integral part of these financial statements.

Parent Company statement of changes in equity

for the year ended 31 December 2018

The notes on pages 18 to 53 are an integral part of these financial statements.

Notes to the financial statements

1. Summary of significant accounting policies

General information

The Group is a specialty pharmaceutical group focused on the development and commercialisation of respiratory products.

Circassia Pharmaceuticals plc is a public company limited by shares which is listed on the Alternative Investment Market (AIM) and incorporated and domiciled in the United Kingdom. The Company is resident in England and the registered office is The Magdalen Centre, Robert Robinson Avenue, Oxford Science Park, Oxford, Oxfordshire, England, OX4 4GA.

The principal accounting policies adopted in the preparation of this financial information are set out below. These policies have been consistently applied to all the financial years presented, unless otherwise stated.

Basis of preparation

The financial information has been prepared in accordance with International Financial Reporting Standards as adopted by the European Union ('IFRS'), IFRS Interpretations Committee ('IFRS IC') interpretations endorsed by the European Union and with those parts of the Companies Act 2006 applicable to companies reporting under IFRS. The financial statements have been prepared using the historical cost convention modified by the revaluation of certain items, as stated in the accounting policies, and on a going concern basis.

The results shown for the years ended 31 December 2018 and 2017 are audited. The consolidated financial information contained in this announcement does not constitute statutory accounts within the meaning of Section 434 of the Companies Act 2006. Statutory accounts of the Company in respect of the financial year ended 31 December 2018 were approved by the Board of Directors on 1 May 2019 and will be delivered to the Registrar of Companies in due course. The report of the auditors on those accounts was unqualified and did not contain an emphasis of matter paragraph nor any statement under Section 498 of the Companies Act 2006.

The exemption from audit has been claimed for the individual financial statements of Circassia Pharma Limited (registered number 6410308) and Prosonix Limited (registered number 05679156) for the year ended 31 December 2018 under section 479A of Companies Act 2006. Circassia Pharmaceuticals plc has given the required guarantee under section 479C in respect of the reporting year. Circassia Pharma Limited and Prosonix Limited results are included in these consolidated financial statements.

Going concern

Though the Group continues to make losses, the directors have reviewed the current and projected financial position of the Group, taking into account existing cash balances. On the basis of this review, the directors have not identified any material uncertainties to the Group's ability to continue to adopt the going concern basis of accounting for a period of at least 12 months from the date of approval of the financial statements.

The directors note that as at 31 December 2018, the Group is in a net current liability position. This is mainly due to the $125 million consideration payable to AstraZeneca. Payment of this amount is addressed by a loan provided by AstraZeneca.

New and amended standards adopted by the Group

The Group has applied the following standards and amendments for the first time for their annual reporting period commencing 1 January 2018:

· IFRS 9 - Financial Instruments

· IFRS 15 - Revenue from Contracts with Customers

The new standards listed above did not have any impact on the amounts recognised in prior periods or the current period and are not expected to significantly affect future periods.

New standards and interpretations not yet adopted

Certain new accounting standards and interpretations have been published that are not mandatory for 31 December 2018 reporting periods and have not been early adopted by the Group. The Group's assessment of the impact of these new standards and interpretations is set out below.

IFRS 16 - Leases

This new standard was issued in January 2016. It will result in almost all leases being recognised on the balance sheet by lessees, as the distinction between operating and finance leases is removed. Under the new standard, an asset (the right to use the leased item) and a financial liability to pay rentals are recognised. The only exceptions are short-term and low-value leases.

The Group has reviewed all leasing arrangements considering the new lease accounting rules in IFRS 16. The standard will affect primarily the accounting for the Group's operating leases.

As at the reporting date, the Group has non-cancellable operating lease commitments of £3.7 million, see note 32. Of these commitments, approximately £0.1 million relates to low value leases which will be recognised on a straight-line basis as expense in profit or loss.

Notes to the financial statements

1. Summary of significant accounting policies (continued)

For the remaining lease commitments, the group expects to recognise right-of-use assets of approximately £2.3 million on 1 January 2019, lease liabilities of £2.5 million (after adjustments for prepayments and accrued lease payments recognised as at 31 December 2018). The related deferred tax asset is immaterial. Overall net assets will be approximately £0.1 million lower, and net current assets will be £0.6 million lower due to the presentation of a portion of the liability as a current liability.

The Group expects that loss after tax will increase by approximately £0.1 million for 2019 as a result of adopting the new rules.

Operating cash flows will increase, and financing cash flows decrease by approximately £1.6 million as repayment of the principal portion of the lease liabilities will be classified as cash flows from financing activities.

The Group's activities as a lessor are not material and hence the Group does not expect any significant impact on the financial statements. However, some additional disclosures will be required from next year. The Group will apply the standard from its mandatory adoption date of 1 January 2019. The Group intends to apply the simplified transition approach and will not restate comparative amounts for the year prior to first adoption.

There are no other standards that are not yet effective and that would be expected to have a material impact on the entity in the current or future reporting periods and on foreseeable future transactions.

Use of estimates and assumptions

The preparation of financial information in conformity with IFRS requires the use of certain critical accounting estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial information and the reported amounts of revenues and expenses during the reporting period. Estimates and judgements are continually made and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable in the circumstances.

Significant accounting estimates and judgements

The preparation of financial statements requires the use of accounting estimates which, by definition, will seldom equal the actual results. Management also needs to exercise judgement in applying the Group's accounting policies. This note provides an overview of the areas that involved a higher degree of judgement or complexity, and of items which are more likely to be materially adjusted due to estimates and assumptions being revised.

The areas involving significant estimates are listed below:

Recognition of deferred tax asset for carried-forward tax losses

The deferred tax assets include an amount of £8.2 million which relates to carried-forward tax losses of Circassia AB (previously known as Aerocrine AB). These losses were generated before the company was acquired by Circassia Pharmaceuticals plc. The Group has concluded that the deferred assets will be recoverable using the estimated future taxable income based on the approved business plans and budgets for the subsidiary. The subsidiary has generated taxable income in both years ended 2017 and 2018 is expected to continue generating taxable income from 2019 onwards. The losses can be carried forward indefinitely and have no expiry date. The judgement is how much of the asset can be recognised based on probable future profits. Changes in the expected future profits of Circassia AB might result in a significantly higher or lower deferred tax asset. A 10% higher or lower taxable profit generated by Circassia AB would result in a £0.8 million higher or lower deferred tax asset recognised.

Accounting for collaboration with AstraZeneca

Following the collaboration and profit share arrangement with AstraZeneca in the previous year, a Purchase Price Allocation exercise was performed in relation to the Duaklir® acquisition. It was considered that the Group assumed control over the Duaklir® business only on this date, as the acquisition of Tudorza® was contingent on net sales achievement. The following key accounting areas were of focus:

-- Valuation of Duaklir® IPR&D

The Excess Earnings Method approach was determined to be the most appropriate methodology to use for the valuation of the In-Process Research & Development (IPR&D). This methodology made use of the same cash flows used in the Duaklir® business valuation with certain key assumptions including a specific rate of return of net working capital, no additional workforce requirement and minimal tangible fixed asset requirements.

As at 31 December 2018, the carrying amount of the Duaklir® IPR&D was £33.3 million (2017: £33.3 million). The Group estimates the useful life of this IPR&D to be 17 years, based on the expected future cash flows that the asset is expected to generate. However, the actual useful life might be shorter or longer than 17 years, depending on product innovations and competitor actions. As at 31 December 2018, the asset is not yet ready for use as the Duaklir® product has not been launched, and therefore this estimate has no impact on the carrying amount in the current year.

Notes to the financial statements

1. Summary of significant accounting policies (continued)

-- Valuation of Duaklir® royalties

As part of the collaboration, Circassia will pay royalties to AstraZeneca on future sales of Duaklir® in the United States. There is some uncertainty over the final amount of future sales and thus royalties due and therefore actual outcomes could differ significantly from the estimates made. Under IFRS 3, these royalties have been classified as additional consideration and initially recognised as an IPR&D asset with a corresponding contingent liability. The value of the IPR&D asset and corresponding liability was calculated by management using a tax-effected NPV of the future royalty cash outflows at the date of the transaction.

As at 31 December 2018, the royalty liability has been remeasured using sales projections based on financial budgets approved by management covering a ten-year period. Expected sales beyond the ten-year period are extrapolated using estimated growth rates. See note 35 for further details.

Accounting for the Tudorza® option exercise

Following the Tudorza® option becoming substantive in October, a Purchase Price Allocation exercise was performed focusing on the following key accounting area:

- Initial valuation of Tudorza® CMP

The Excess Earnings Method approach was determined to be the most appropriate methodology to use for the valuation of the Currently Marketed Product (CMP). This methodology made use of the cash flows associated with the Tudorza® business with certain key assumptions including a specific rate of return of net working capital, workforce requirements and minimal tangible fixed asset requirements. In addition, the Cost Approach was used to value the Assembled Workforce. As per IAS 38, the fair value of the Assembled Workforce has not been recognised as a separate intangible asset. The valuation of the Assembled Workforce was solely used for allowing a return on the Assembled Workforce in the valuation analyses of the CMP.

Investments

Circassia Pharmaceuticals plc holds a number of investment balances in subsidiary companies. Investment impairment reviews are undertaken annually or more frequently if events or changes in circumstances indicate a potential impairment. Judgements and estimates are made in respect of the carrying value of the cash generating units (CGUs) containing the investment. If there is a significant impairment of a particular CGU or if the Group's market capitalisation remains below the carrying value of Circassia Pharmaceuticals plc's aggregate investment in subsidiaries, this could result in an impairment of the investment. Please see note 17 for sensitivity analysis and further information.

The areas involving judgement are listed below:

Date of acquisition regarding Tudorza® option exercise

The business combination relating to the exercise of the Tudorza® option has been accounted for on 23 October 2018.

This is determined to be the point at which there were no barriers to prevent Circassia from exercising the option, rather than 11 December 2018, being the date at which formal notice of exercise was served to AstraZeneca.

Non-underlying items

The Group presents certain items of income and expense as non-underlying in the Consolidated Statement of Comprehensive Income. Management primarily manage the business and measure performance based on the results of "underlying operations". Significant irregular and exceptional items are classified as "non-underlying" items and are excluded from the underlying measures. This is a judgemental area and is performed by management.

Consolidation

Subsidiaries

Subsidiaries are all entities (including structured entities) over which the Group has control. The Group controls an entity when the Group is exposed to, or has rights to, variable returns from its involvement with the entity and has the ability to affect those returns through its power over the entity. Subsidiaries are fully consolidated from the date on which control is transferred to the Group. They are de-consolidated from the date that control ceases. Inter-company transactions, balances and unrealised gains and losses on transactions between Group companies are eliminated. Accounting policies of subsidiaries are consistent with the policies adopted by the Group. Acquisition-related costs are expensed as incurred.

Notes to the financial statements

1. Summary of significant accounting policies (continued)

Joint arrangements

The Group applies IFRS 11 to all joint arrangements. Under IFRS 11 investments in joint arrangements are classified as either joint operations or joint ventures depending on the contractual rights and obligations of each investor. Circassia Pharmaceuticals plc has assessed the nature of its joint arrangements and determined them to be joint ventures. Joint ventures are accounted for using the equity method.

Under the equity method of accounting, interests in joint ventures are initially recognised at cost and adjusted thereafter to recognise the Group's share of the post-acquisition profits or losses and movements in other comprehensive income. When the Group's share of losses in a joint venture equals or exceeds its interests in the joint ventures (which includes any long-term interests that, in substance, form part of the Group's net investment in the joint ventures), the Group does not recognise further losses, unless it has incurred obligations or made payments on behalf of the joint ventures.

Unrealised gains on transactions between the Group and its joint ventures are eliminated to the extent of the Group's interest in the joint ventures. Unrealised losses are also eliminated unless the transaction provides evidence of an impairment of the asset transferred. Accounting policies of the joint ventures have been changed where necessary to ensure consistency with the policies adopted by the Group.

Segmental reporting

The Group had four business segments during 2018, allergy, respiratory, NIOX® and US AZ collaboration. This is consistent with the internal reporting provided to the chief operating decision-maker. The chief operating decision-maker, who is responsible for allocating resources and assessing performance, has been identified as the Executive Directors, who make strategic decisions.

The allergy and respiratory operating segments have been classified as discontinued operations. Information about these discontinued segments is provided in note 10.

Discontinued operations

A discontinued operation is a component of the Group's business that represents a separate major line of business or geographical area of operations that will not be progressed in the future. Discontinued operations are presented on the income statement as a separate line and are shown net of tax. Cash flows relating to discontinued operations are disclosed in the notes.

The decision to treat the allergy business as discontinued was made on 25 April 2017 when the Group announced a decision to cease all further activities on the allergy programmes. As such, the allergy programme costs and the associated research and development tax credit for the year ended 31 December 2017 and 31 December 2018 are classified as discontinued operations in the Consolidated statement of comprehensive income in accordance with IFRS 5 requirements.

The respiratory programme costs and the associated research and development tax credit for the year ended 31 December 2017 have been reclassified as discontinued operations in the Consolidated statement of comprehensive income in accordance with IFRS 5 requirements. The decision to treat the in-house respiratory pipeline as discontinued was made in April 2018 when the Group announced a decision to cease investment in the respiratory pipeline and to seek an out-license partner.

Financial instruments

The Group's financial instruments comprise cash and cash equivalents, short-term bank deposits, receivables and payables arising directly from operations.

Cash and cash equivalents comprise cash in hand and short-term deposits which have an original maturity of three months or less and are readily convertible into known amounts of cash. Such assets are classified as current, where management intend to dispose of the asset within 12 months of the end of the reporting period. Bank deposits with maturity of more than 12 months after the end of the reporting period are classified as non-current assets.

Where derivatives exist in the financial year, they are initially recognised at fair value on the date a derivative contract is entered into and are subsequently re-measured at their fair value at each reporting date, with any resulting gain or loss recognised through profit or loss.

The Group does not have any committed borrowing facilities. Payment of the $125 million consideration payable and the $18.3 million R&D payment is addressed by a five-year loan provided by AstraZeneca. Cash balances are mainly held on short and medium term deposits with quality financial institutions, in line with the Group's policy to minimise the risk of loss. The main risks associated with the Group's financial instruments relate to interest rate risk and foreign currency risk (note 2).

Notes to the financial statements

1. Summary of significant accounting policies (continued)

Trade and other receivables

Trade receivables are amounts due from customers for goods sold or services performed in the ordinary course of business. They are generally due for settlement within 30 days and therefore are all classified as current. Trade receivables are recognised initially at fair value and subsequently measured at amortised cost using the effective interest method, less credit loss allowance. In respect of 2018 and subsequent years, the Group applies the IFRS 9 simplified approach to measuring expected credit losses which uses a lifetime expected loss allowance for all trade receivables and contract assets. In respect of 2017, the Group applied as incurred loss methodology, in accordance with IAS39.

Trade receivables are written off when there is no reasonable expectation of recovery.

Other receivables are recognised initially at fair value and subsequently measured at amortised cost, using the effective interest method, less provision for impairment.

Trade and other payables

Trade payables are obligations to pay for goods or services that have been acquired in the ordinary course of business from suppliers. They are initially recognised at fair value and subsequently held at amortised cost. Accounts payable are classified as current liabilities if payment is due within one year or less. If not, they are presented as non-current liabilities.

Leases

Leases in which a significant portion of the risks and rewards of ownership are retained by the lessor are classified as operating leases. Payments made under operating leases (net of any incentives received from the lessor) are charged to the income statement on a straight line basis over the period of the lease.

Goodwill and Intangible assets

Intangible fixed assets, relating to goodwill, customer relationships, technology, intellectual property rights and currently marketed products acquired through licensing or assigning patents and know-how are carried at historical cost, less accumulated amortisation, where the useful economic life of the asset is finite, and the asset will probably generate economic benefits exceeding costs.

Amortisation is calculated using the straight line method to allocate the cost of intangible assets over their estimated useful lives, as follows:

Goodwill arising on the acquisition of subsidiaries represents the excess of the consideration transferred, the amount of any non-controlling interests in the acquiree and the acquisition date fair value of any previous equity interest in the acquiree over the fair value of the identifiable net assets acquired.

For the purpose of impairment testing, goodwill acquired in a business combination is allocated to each of the CGUs, or groups of CGUs, that are expected to benefit from the synergies of the combination. Each unit or group of units to which the goodwill is allocated represents the lowest level within the entity at which the goodwill is monitored for internal management purposes. Goodwill is monitored at the operating segment level.

Goodwill impairment reviews are undertaken annually or more frequently if events or changes in circumstances indicate a potential impairment. The carrying value of the CGU containing the goodwill is compared to the recoverable amount, which is the higher of value in use and the fair value less costs of disposal. Any impairment is recognised immediately as an expense and is not subsequently reversed.

Where an acquired intangible asset is not yet available for use in the manner intended by management, the asset is tested annually for impairment by allocating the assets to the CGUs to which they relate. Amortisation would commence when product candidates underpinned by the intellectual property rights become available for commercial use. Amortisation would be calculated on a straight line basis over the shorter of the remaining useful life of the intellectual property or the estimated sales life of the product candidates.

Expenditure on product development is capitalised as an intangible asset and amortised over the expected useful economic life of the product candidate concerned. Capitalisation commences from the point at which technical feasibility and commercial viability of the product candidate can be demonstrated and the Group is satisfied that it is probable that future economic benefits will result from the product candidate once completed. Capitalisation ceases when the product candidate receives regulatory approval for launch. No such costs have been capitalised to date.

Notes to the financial statements

1. Summary of significant accounting policies (continued)

Expenditure on research and development activities that do not meet the above criteria, including ongoing costs associated with acquired intellectual property rights and intellectual property rights generated internally by the Group, is charged to the income statement as incurred. Intellectual property and in-process research and development from acquisitions are recognised as intangible assets at fair value. Any residual excess of consideration over the fair value of net assets in an acquisition is recognised as goodwill in the financial statements.

Computer Software

Expenditure on software costs is capitalised as an intangible asset and amortised over the expected useful economic life of the software. Until such an asset is fully developed, the costs are capitalised and classified within intangibles assets as 'Software in development'. These costs are not amortised until the software has been fully developed and operational, at which point the total cost of the software development is amortised over its estimated useful life.

Investments

Investments in subsidiary companies are recognised and carried at cost less any identified impairment losses at the end of each reporting period. Investments are impaired where there is objective evidence that the estimated future cash flows of the investment have been affected.

Inventories

Inventories are valued at the lower of the acquisition cost and the net realisable value. The FIFO (first in, first out) principle is used to calculate the value of inventories. Inventories mainly comprise products for sale and stocks of components for the service activities in Sweden and the US. The acquisition value comprises all expenses for purchases. The net realisable value is the expected sale price less expected costs for preparation and selling. Write-downs of inventory occur in the general course of business and are recognised in cost of sales.

Impairment of non-financial assets

Assets that have an indefinite useful life, for example goodwill or intangible assets not ready for use, are not subject to amortisation and are tested annually for impairment. Assets that are subject to amortisation are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognised for the amount by which the asset's carrying amount exceeds its recoverable amount. The recoverable amount is the higher of an asset's fair value less costs to sell and value in use. For the purposes of assessing impairment, assets are grouped at the lowest levels for which there are separately identifiable cash flows (cash-generating units). Non-financial assets other than goodwill that suffered an impairment are reviewed for possible reversal of the impairment at each reporting date. Charges or credits for impairment are passed through the income statement.

Property, plant and equipment

Property, plant and equipment is stated at historical cost less depreciation. Historical cost includes expenditure that is directly attributable to the acquisition of the items. Subsequent costs are included in the asset's carrying amount or recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Group and the cost of the item can be measured reliably. The carrying amount of replaced parts is derecognised. All other repairs and maintenance are charged to the income statement during the financial period in which they are incurred.

Depreciation is calculated using the straight-line method to allocate the cost of assets over their estimated useful lives, as follows:

Individually significant tangible assets that are intended to be held by the Group for use in the production or supply of goods and services or for administrative purposes and that are expected to provide economic benefit for more than one year are capitalised. All other assets of insignificant value are charged to the income statement in the year of acquisition.

Costs incurred relating to an asset that is not yet complete are capitalised and held as 'Assets under construction' until they are brought into use. The asset is then transferred to the appropriate asset class and depreciated in line with the policy above.

Notes to the financial statements

1. Summary of significant accounting policies (continued)

Provisions

Provisions are recognised when the Group has a present obligation (legal or constructive) as a result of a past event, it is probable that an outflow of resources will be required to settle the obligation and a reliable estimate can be made of the amount of the obligation. If the amounts involved are significant, provisions are determined by discounting the expected future cash flows at a pre-tax rate which reflects the current market assessment of the time value of money and, when appropriate, the risks specific to the liability.

Where a leasehold property substantially ceases to be used for the Group's business, or a commitment is entered into which would cause this to occur, provision is made to the extent that the recoverable amount of the interest in the property is expected to be insufficient to cover the future obligations relating to the lease.

A charge for restructuring costs is taken to the income statement when the Group has approved a detailed and formal restructuring plan, and the restructuring has either commenced or the Group has a constructive obligation, for example having made an announcement publicly to the employee or the Group as a whole.

Deferred non-contingent consideration

Deferred non-contingent consideration is measured by discounting the liability, where the effect of the time value of money is material, using a pre-tax discount rate that reflects current market assessments of the time value of money and, when appropriate, the risks specific to the liability. Where discounting is used, the increase in the liability due to the passage of time is recognised as an interest expense in the income statement.

Deferred contingent consideration

Deferred contingent consideration is recognised as a liability and measured at fair value on the acquisition date. It is measured by discounting the liability, where the effect of the time value of money is material, using a pre-tax discount rate that reflects current market assessments of the time value of money and, when appropriate, the risks specific to the liability. The liability is subsequently measured at fair value at each reporting date, with changes in fair value recognised as other gains or losses in the income statement. Where discounting is used, the increase in the liability due to the passage of time is recognised as an interest expense in the income statement.

Contingent royalty consideration

In a business combination, future royalty payments owed to the seller are treated as contingent consideration. The contingent consideration is recognised as a liability, an asset or equity depending on its terms. A contingent consideration arrangement is initially measured at fair value on the acquisition date based on a tax-effected net present value basis of the future cash outflows. Contingent consideration that is classified as a liability is remeasured to fair value at each reporting date, with changes included in the income statement in the post-combination period until the uncertainty is resolved.

Cash and cash equivalents

In the consolidated statement of cash flows, cash and cash equivalents include cash in hand, deposits held on call with banks, and other short-term highly liquid investments with original maturities of three months or less from the date of original investment.

Share capital

Ordinary shares are classified as equity. Incremental costs directly attributable to the issue of new shares or options are shown in equity as a deduction, net of tax, from the proceeds.

Employee benefit costs

The Group makes contributions to defined contribution personal pension schemes for its directors and employees. The pension cost charge recognised in the year represents amounts payable by the Group to the funds. The Group has no further payment obligations once the contributions have been paid. The contributions are recognised as employee benefit expense when they are due.

Share based payments

The Group operates a number of equity-settled, share based compensation plans, under which the entity receives services from employees as consideration for equity instruments (options) of the Group. The fair value of the employee services received in exchange for the grant of the options is recognised as an expense. The total amount to be expensed is determined by reference to the fair value of the options granted:

- including the effect of any market performance conditions (for example, an entity's share price);

- excluding the impact of any service and non-market performance vesting conditions (for example, profitability, sales growth targets and remaining an employee of the entity over a specified time period); and

- including the impact of any non-vesting conditions (for example, the requirement for employees to save).

Notes to the financial statements

1. Summary of significant accounting policies (continued)

Non-market performance and service conditions are included in assumptions about the number of options that are expected to vest. The total expense is recognised over the vesting period, which is the period over which all of the specified vesting conditions are to be satisfied.

The grant by the Company of options over its equity instruments to the employees of subsidiary undertakings in the Group is treated as a capital contribution. The fair value of employee services received, measured by reference to the grant date fair value, is recognised over the vesting period as an increase to investment in subsidiary undertakings, with a corresponding credit to equity in the parent entity financial statements.

The Group's employees participate in various share option schemes as disclosed in note 26. Equity settled share based payments are measured at fair value at the date of grant and expensed on a straight line basis over the vesting period of the award. At the end of each reporting period the Group revises its estimate of the number of options with non-market performance conditions that are expected to become exercisable. The financial consequences of revisions to the original estimates, if any, are recognised in the income statement, with a corresponding adjustment to equity.

The fair value of share options is measured using either the Black Scholes option pricing model or the Monte Carlo Simulation. This is dependent on the conditions attached to each of the issued options. Where conditions are non-market based the Black Scholes option pricing model is used. Where market based conditions are attached to options, the fair value is determined using the Monte Carlo Simulation.

Other employee benefits

The expected cost of compensated short-term absence (e.g. holidays) is recognised when employees render services that increase their entitlement. An accrual is made for holidays earned but not taken, and prepayments recognised for holidays taken in excess of days earned.

Revenue

Revenue is accounted for under IFRS 15. Revenue comprises the fair value of consideration received or receivable for the sale of goods and services in the ordinary course of the Group's activities. Revenue is shown net of value added tax and trade discounts and after elimination of intra-Group sales. Income is reported as follows:

Sale of goods

The Group sells medical technology equipment that enables inflammation of the airways to be measured as well as consumable items and spare parts. Revenue is recognised when a contractual promise to a customer (performance obligation) has been fulfilled by transferring control of the product to the customer, substantially all of which is on confirmation of delivery to the customer.

Rendering of services

Under the AstraZeneca collaboration agreement, the Group promotes the chronic obstructive pulmonary disease (COPD) treatment Tudorza® in the United States. Revenues recognised are the amounts invoiced to AstraZeneca pursuant to the right to collaborate with AstraZeneca on the commercialisation and development of Tudorza® in the United States. Revenue is recognised in the accounting periods in which the services are rendered.

Foreign currency translation

Monetary assets and liabilities in foreign currencies are translated into Sterling at the rates of exchange ruling at the end of the financial year. Transactions in foreign currencies are translated into Sterling at the rates of exchange ruling at the date of the transaction. Foreign exchange differences are taken to the income statement in the year in which they arise and presented within 'Other gains and losses'.

Foreign exchange differences on translation of foreign operations into the Group presentational currency, are recognised as a separate element of other comprehensive income. Cumulative exchange differences are presented in a separate component of equity entitled 'Translation reserve'.

Notes to the financial statements

1. Summary of significant accounting policies (continued)

Taxation including deferred tax

The charge for current tax is based on the results for the year, adjusted for items which are non-assessable or disallowed. It is calculated using tax rates that have been enacted or substantively enacted at the end of each reporting period.

The Group is entitled to claim tax credits in the United Kingdom for certain research and development expenditure. The amount included in the financial statements at the year end represents the credit receivable by the Group for the year and adjustments to prior years.

Deferred tax is accounted for using the liability method in respect of temporary differences arising from differences between the carrying amount of assets and liabilities in the financial information and the corresponding tax bases used in the computation of taxable profit. In principle, deferred tax liabilities are recognised for all taxable temporary differences and deferred tax assets are recognised to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilised.

Deferred tax liabilities are recognised for taxable temporary differences arising on investments in subsidiaries and joint ventures, except where the Group is able to control the reversal of the temporary difference and it is probable that the temporary difference will not reverse in the foreseeable future.

Deferred tax assets are recognised only to the extent that it is probable that future taxable profit will be available against which the temporary differences can be utilised.

Deferred tax is calculated at the average tax rates that are expected to apply to the period when the asset is realised or the liability is settled. Deferred tax is charged or credited in the statement of comprehensive income, except when it relates to items credited or charged directly to equity, in which case the deferred tax is also dealt with in equity.

2. Financial and capital risk management

Capital risk management

The Group's objectives when managing capital are to safeguard the ability to continue as a going concern and ensure that sufficient capital is in place to fund the Group's activities. The Group's principal method of adjusting the capital available has been through issuing new shares. During 2018, the Company issued 23,725,800 ordinary shares with a value of £20.4 million to AstraZeneca (AZ). The Group's capital is comprised of share capital and share premium, which are disclosed in notes 25 and 27 respectively. The Group monitors the availability of capital through forecasting future expenditure on an ongoing basis.

Transaction and translation risk

Foreign exchange fluctuations may adversely affect the Group's results and financial condition. The Group prepares its financial statements in British pound sterling, but a significant proportion of its expenditure and subsidiary results are in various currencies including United States dollar, Swedish krona, euro and Chinese yuan. The Group does not currently hedge against translation risk.

Financial risk factors

The Group's simple structure and the lack of external debt financing reduces the range of financial risks to which it is exposed. Monitoring of financial risk is part of the Board's ongoing risk management, the effectiveness of which is reviewed annually. The Group's agreed policies are implemented by the Chief Executive Officer, who submits periodic reports to the Board.

Foreign exchange risk

The majority of operating costs are denominated in British pound sterling, United States dollar, Swedish krona or euro. Foreign exchange risk arises from future commercial transactions and recognised assets and liabilities.

In relation to foreign currency risk, the Group's policy is to hold the majority of its funds in sterling, monitor foreign currency rates and purchase foreign currency at spot rates. The change in foreign exchange rates that is assessed to be reasonably likely for each currency in 2018 is 10% (2017: 10%).

At 31 December 2018, if the euro had weakened/strengthened by 10% against sterling with all other variables held constant, the post tax loss for the year would have been £0.5 million (2017: £0.4 million) lower/higher, as a result of net foreign exchange gains/losses on translation of euro denominated payables, receivables and foreign exchange losses/gains on translation of euro denominated bank balances.

The impact on post tax loss at 31 December 2018 of a 10% weakening/strengthening of the US dollar against British pound sterling with all other variables held constant would have been a decrease/increase of £0.7 million (2017: £2.7 million), as a result of net foreign exchange gains/losses on translation of dollar denominated payables, receivables and foreign exchange losses/gains on translation of dollar denominated bank balances.

Notes to the financial statements

2. Financial and capital risk management (continued)

Interest rate risk

The Group's policy in relation to interest rate risk is to monitor short and medium term interest rates and to place cash on deposit for periods that optimise the amount of interest earned while maintaining access to sufficient funds to meet day to day cash requirements.

The Group does not have any committed external borrowing facilities, as its cash and cash equivalents and short-term deposit balances are sufficient to finance its current operations. Consequently, there is no material exposure to interest rate risk in respect of interest payable.

If interest rates had been 10 basis points higher/lower the impact on net loss in 2018 would have been an increase/decrease of £0.0 million (2017: £0.1 million) due to changes in the amount of interest receivable.

Credit risk

Credit risk arises from cash and cash equivalents, deposits with banks and financial institutions, as well as credit exposures to customers, including outstanding receivables.

i) Risk management

The Group's policy is to place funds with financial institutions which have a minimum credit rating with Fitch IBCA of A- long-term/F1 short-term. During 2018, the Group opened a bank account with China Merchant Bank which has a Fitch IBCA rating of BBB. This is a short-term arrangement until a permanent solution is implemented.

During 2018 the Group placed funds on deposit with 8 banks (2017: 6 banks). The Group does not allocate a quota to individual institutions but seeks to diversify its investments, where this is consistent with achieving competitive rates of return. It is the Group's policy to place not more than £35 million (or the equivalent in other currencies) with any one counterparty.

The value of financial instruments held represents the maximum exposure that the Group has to them. There is no collateral held for this type of credit risk.

No credit limits were exceeded during any of the periods reported, and management does not expect any material losses from non-performance by these counterparties.

ii) Impairment of financial assets

The Group only has one type of financial asset that is subject to the expected credit loss model being trade receivables. The Company only has one type of financial asset that is subject to the expected credit loss model being receivables from subsidiary undertakings. While cash and cash equivalents are also subject to the impairment requirements of IFRS 9, the identified impairment loss was immaterial.

The Group and Company applies the IFRS 9 simplified approach to measuring expected credit losses which uses an expected loss allowance for all trade receivables and receivables from subsidiary undertakings. To measure the expected credit losses, trade receivables and receivables from subsidiary undertakings have been grouped based on the days past due.

The expected loss rates are based on the payment profiles of sales over a period of 36 months before 31 December 2018 and the corresponding historical credit losses experienced within this period. The historical loss rates are adjusted to reflect current and forward looking information on macroeconomic factors affecting the ability of the customers to settle the receivables.

On that basis, the loss allowance as at 31 December 2018 was determined as follows:

Notes to the financial statements

2. Financial and capital risk management (continued)

The closing loss allowance as at 31 December 2018 reconciles to the opening loss allowances as follows:

Trade receivables are written off where there is no reasonable expectation of recovery. Indicators that there is no reasonable expectation of recovery include, amongst others, the failure of a debtor to engage in a repayment plan with the Group, and a failure to make contractual payments for a period of greater than 120 days past due.

Impairment losses on trade receivables and receivables from subsidiary undertakings are presented within operating profit. Subsequent recoveries of amounts previously written off are credited against the same line item.

Cash flow and liquidity risk

Funds are generally placed on deposit with the maturity profile of investments being structured to ensure that sufficient liquid funds are available to meet operating requirements. The directors do not consider that there is presently a material cash flow or liquidity risk.

The table below analyses the Group's financial liabilities into relevant maturity groupings based on the remaining period at the balance sheet date to the contractual maturity date. The only financial liability outstanding for periods greater than one year in 2018 is a proportion of the contingent royalty consideration relating to sales of Duaklir® and Tudorza® made in 2020 and onwards. Financial liabilities outstanding for periods greater than one year in 2017 included non-contingent consideration, contingent royalty consideration and R&D contribution payable to AstraZeneca. The amounts disclosed in the table are the contracted cash flows discounted to present value where such impact is material:

As at 31 December 2018, the Group is in a net current liability position. This is mainly due to the $125 million consideration payable to AstraZeneca. Payment of this amount is addressed by a loan provided by AstraZeneca.

Derivative financial instruments and hedging

There were no derivatives at 31 December 2018 or 31 December 2017.

3. Operating segments

The chief operating decision-maker (the Chief Executive Officer) is responsible for making key operating decisions in the Group. Assessment of performance and decisions regarding the allocation of resources are made by operating segment. The 2018 operating segments are identified within the Group by product portfolios:

- NIOX® relates to the portfolio of products used to improve asthma diagnosis and management by measuring fractional exhaled nitric oxide (FeNO); and

- US AZ collaboration relates to the US collaboration agreement with AstraZeneca regarding the commercialisation of Tudorza® and Duaklir®.

The allergy and respiratory operating segments have been classified as discontinued operations. Information about these discontinued segments is provided in note 10.

There were no sales between the segments in either reporting year.

The table below presents information regarding the Group's operating segments for the years ended 31 December 2018 and 2017. Costs shared between the segments are not allocated to individual segments for decision making purposes. These are disclosed under the column headed 'Unallocated'.

Notes to the financial statements

3. Operating segments (continued)

Segment operating loss

Assets by segment

Notes to the financial statements

4. Revenue from contracts with customers

The Group derives the following types of revenue:

All revenue is recognised at a point in time, rather than over time.

5. Employees and directors

The average monthly number of persons (including Executive Directors) employed during the year was:

The average number of administration staff employed by the Group during the year, including Executive and Non-Executive Directors, was 2 (2017: 2).

The Group contributes to defined contribution pension schemes for its Executive Directors and employees. Contributions of £0.1 million (included in other payables) were payable to the funds at the year end (2017: £0.1 million).

The details of directors of the Group who received emoluments from the Group during the year are shown in the Remuneration Committee report.

Key management personnel

The average number of key management personnel employed by the Group during the year including directors (Executive and Non-Executive) was 13 (2017: 13).

Key management personnel during the year included directors (Executive and Non-Executive), Senior VP of Commercial US, Senior VP of General Counsel and Chief Compliance Officer, Senior VP of Human Resources and Senior VP of Commercial EU & RoW. The compensation paid or payable to key management is set out below.

Notes to the financial statements

6. Other gains and losses

A £5.4 million gain on change in fair value of the deferred non-contingent consideration between date of the initial business combination and Tudorza® option exercise has been recognised. This gain has arisen due to the unwinding of the discount on the consideration payable between initial recognition on 12 April 2017 and 23 October 2018, being the date that Circassia Limited had the substantive rights to exercise the Tudorza® option. See note 35.

7. Finance income and costs

8. Operating expenses by nature

Operating loss is stated after charging the following:

1 2017 includes AZ R&D contribution of £45.1 million, see note 11.

2 Depreciation and amortisation is included on the face of the statement of comprehensive income within 'Research and development costs', 'Sales and marketing' and 'Administrative expenses'

9. Auditors' remuneration

Services provided by the Group's auditors and its associates

During the year the Group obtained the following services from the Group's auditors and its associates: