UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended September 30, 2012

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

For the transition period from to

Commission File Number: 001-32966

OSIRIS THERAPEUTICS, INC.

(Exact name of registrant as specified in its charter)

Maryland		71-0881115
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

7015 Albert Einstein Drive, Columbia, Maryland		21046
(Address of principal executive offices)		(Zip Code)

443-545-1800

(Registrant’s telephone number, including area code)

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

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

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

Large accelerated filer o		Accelerated filer x

Non-accelerated filer o		Smaller reporting company o
(Do not check if a smaller reporting company)

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding at November 5, 2012
Common Stock, par value $0.001 per share		32,875,021

Table of Contents

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements - Unaudited

OSIRIS THERAPEUTICS, INC.

CONDENSED BALANCE SHEETS

(amounts in thousands, except per share data)

	September 30, 2012			December 31, 2011
	(unaudited)
Assets
Current assets:
Cash	$	1,056		$	1,661
Investments available for sale	36,159			45,604
Accounts receivable, net	2,231			728
Inventory	922			767
Deferred tax asset	—			2,188
Prepaid expenses and other current assets	1,062			470
Total current assets	41,430			51,418

Property and equipment, net	2,220			2,463
Restricted cash	318			392
Total assets	$	43,968		$	54,273

Liabilities and Stockholders’ Equity

Current liabilities:
Accounts payable and accrued expenses	$	5,002		$	4,692
Capital lease obligations, current portion	44			—
Deferred revenue, current portion	—			3,333
Total current liabilities	5,046			8,025

Long-term portion of capital lease obligations	173			—
Other long-term liabilities	387			430
Total liabilities	5,606			8,455

Stockholders’ equity
Common stock, $.001 par value, 90,000 shares authorized, 32,874 shares outstanding - 2012, 32,828 shares outstanding - 2011	33			33
Additional paid-in-capital	279,092			278,092
Accumulated other comprehensive income	15			20
Accumulated deficit	(240,778		)	(232,327		)
Total stockholders’ equity	38,362			45,818
Total liabilities and stockholders’ equity	$	43,968		$	54,273

The accompanying notes are an integral part of these condensed financial statements.

Table of Contents

OSIRIS THERAPEUTICS, INC.

CONDENSED STATEMENTS OF OPERATIONS AND COMPREHENSIVE (LOSS) INCOME

Unaudited

(amounts in thousands, except per share data)

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2012			2011			2012			2011

Product revenues	$	2,151		$	331		$	4,914		$	498
Cost of product revenues	732			139			1,671			209
Gross profit	1,419			192			3,243			289

Revenue from collaborative research agreements and royalties	232			10,242			3,776			30,861

Operating expenses:
Research and development	2,983			5,018			11,018			14,938
General and administrative	1,600			1,429			4,541			6,405
	4,583			6,447			15,559			21,343

(Loss) income from operations	(2,932		)	3,987			(8,540		)	9,807

Other income, net	13			26			52			80

(Loss) income before income taxes	(2,919		)	4,013			(8,488		)	9,887

Income tax benefit (expense)	5			—			37			(43		)

Net (loss) income	(2,914		)	4,013			(8,451		)	9,844

Other comprehensive income
Unrealized gain (loss) on investments available for sale	10			(9		)	(5		)	25

Total comprehensive (loss) income	$	(2,904	)	$	4,004		$	(8,456	)	$	9,869

Basic (loss) earnings per share	$	(0.09	)	$	0.12		$	(0.26	)	$	0.30

Diluted (loss) earnings per share	$	(0.09	)	$	0.12		$	(0.26	)	$	0.30

Weighted average common shares (basic)	32,871			32,826			32,854			32,818

Weighted average common shares (diluted)	32,871			33,121			32,854			33,121

The accompanying notes are an integral part of these condensed financial statements.

Table of Contents

OSIRIS THERAPEUTICS, INC.

CONDENSED STATEMENT OF STOCKHOLDERS’ EQUITY

For the nine months ended September 30, 2012

Unaudited

(amounts in thousands, except for share and per share data)

						Accumulated
				Additional		Other						Total
	Common Stock			Paid-in		Comprehensive			Accumulated			Stockholders’
	Shares	Amount		Capital		Income (Loss)			Deficit			Equity (Deficit)
Balance at January 1, 2012	32,827,521	$	33	$	278,092	$	20		$	(232,327	)	$	45,818

Exercise of options to purchase common stock ($0.40-$7.74 per share)	21,500	—		48		—			—			48

Share-based payment-director services ($5.08 per share)	25,000	—		127		—			—			127

Share-based payment-employee compensation	—	—		825		—			—			825

Net loss	—	—		—		—			(8,451		)	(8,451		)

Unrealized loss on investments available for sale	—	—		—		(5		)	—			(5		)

Balance at September 30, 2012	32,874,021	$	33	$	279,092	$	15		$	(240,778	)	$	38,362

The accompanying notes are an integral part of these condensed financial statements.

Table of Contents

OSIRIS THERAPEUTICS, INC.

CONDENSED STATEMENTS OF CASH FLOWS

Unaudited

(amounts in thousands)

	Nine months ended ,
	Sept 30,
	2012			2011
Cash flows from operating activities:
Net (loss) income	$	(8,451	)	$	9,844
Adjustments to reconcile net (loss) income to net cash used in operating activities:
Depreciation and amortization	528			560
Non cash share-based payments	952			1,341
Provision for bad debts	11			—
Non cash expense- extension of expiration date of warrant to related party	—			1,740
Changes in operating assets and liabilities:
Accounts receivable	(1,514		)	468
Inventory, prepaid expenses, and other current assets	(747		)	733
Deferred tax assets	2,188			—
Other assets	—			165
Accounts payable and accrued expenses	267			21
Deferred revenue	(3,333		)	(30,720		)
Net cash used in operating activities	(10,099		)	(15,848		)

Cash flows from investing activities:
Purchases of property and equipment	(57		)	(79		)
Proceeds from sale of investments available for sale	9,485			15,805
Purchases of investments available for sale	(45		)	(68		)
Net cash provided by investing activities	9,383			15,658

Cash flows from financing activities:
Principal payments on capital lease obligations	(11		)	—
Restricted cash	74			129
Proceeds from the issuance of common stock, net	48			22
Net cash provided by financing activities	111			151

Net decrease in cash	(605		)	(39		)
Cash at beginning of period	1,661			1,442

Cash at end of period	$	1,056		$	1,403

The accompanying notes are an integral part of these condensed financial statements.

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011

1. Nature of Business

Osiris Therapeutics, Inc. (“we,” “us,” “our,” or the “Company”) is a Maryland corporation headquartered in Columbia, Maryland. We began operations on December 23, 1992 and were a Delaware corporation until, with approval of our stockholders, we reincorporated as a Maryland corporation on May 31, 2010. We are a leading stem cell company focused on developing and marketing products to treat serious medical conditions in the inflammatory, cardiovascular, orthopedic, and wound healing markets.

We have two business segments, Therapeutics and Biosurgery. Our Therapeutics business is focused on developing biologic stem cell drug candidates from a readily available and non-controversial source- adult bone marrow. Our biologic drug candidates utilize adult human mesenchymal stem cells, or MSCs, which can selectively differentiate, based on the tissue environment, into various tissue lineages, such as muscle, bone, cartilage, marrow stroma, tendon or fat. In addition, MSCs have anti-inflammatory properties and can prevent fibrosis or scarring, which gives MSCs the potential to treat a wide variety of medical conditions. Our Biosurgery business, which we created in 2009 and has operated as a separate segment since 2010, focuses on products for orthopedics and wound healing and use in surgical procedures to harness the ability of cells and novel constructs to promote the body’s natural healing.

Historically, our operations have consisted primarily of research, development and clinical activities under several research collaboration agreements to bring our biologic drug candidates to the marketplace. During the second quarter of 2012, we received authorization from Health Canada to market our stem cell therapy Prochymal® (remestemcel-L), for the treatment of refactory acute graft-vs-host disease (GvHD) in children. This was the first marketing approval for one of our biologic drug candidates, and marks the world’s first regulatory approval of a manufactured stem cell therapeutic product and the first therapy approved for GvHD. Subsequent to the approval by Health Canada, we have also been granted marketing consent for Prochymal for the same indication in New Zealand. We expect to commence commercial distribution in the near future.

2. Significant Accounting Policies

Unaudited Interim Financial Statements

The accompanying unaudited condensed financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by US GAAP for complete financial statements. In the opinion of management, these statements include all adjustments (consisting of normal recurring adjustments) considered necessary to present a fair statement of our results of operations, financial position and cash flows. Operating results for any interim period are not necessarily indicative of the results that may be expected for the full year. This Quarterly Report on Form 10-Q should be read in conjunction with our financial statements and footnotes included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011.

Use of Estimates

The preparation of financial statements in conformity with US GAAP requires us to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Due to the inherent uncertainty involved in making those assumptions, actual results could differ from those estimates. We believe that the most significant estimates that affect our financial statements are those that relate to deferred tax assets, inventory valuation, and share-based compensation.

Revenue Recognition

To date, our Therapeutics segment has generated revenues primarily from collaborative agreements and research licenses. We evaluate revenues from agreements that have multiple elements to determine whether the components of the arrangement represent separate units of accounting. To recognize a delivered item in a multiple element arrangement, the delivered items must have value on a standalone basis and the delivery or performance must be probable and within our control for any delivered items that have a right of return. The determination of whether multiple elements of a collaboration agreement meet the criteria for separate units of accounting requires us to exercise judgment.

Revenues from research licenses are recognized as earned upon either the incurring of reimbursable expenses directly related to the particular research plan or the completion of certain development milestones as defined within the terms of the agreement. Payments received in advance of research performance are designated as deferred revenue. Non-refundable upfront license fees and certain other related fees are recognized on a straight-line basis over the development periods of the contract deliverables. Fees associated with substantive at risk performance based milestones are recognized as revenue upon their completion, as defined in the respective agreements. Incidental assignment of technology rights is recognized as revenue as it is earned and received.

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

In October 2008, we entered into a Collaboration Agreement with Genzyme Corporation, then an independent and now a Sanofi company (“Genzyme”), for the development and commercialization of our biologic drug candidates, Prochymal and Chondrogen®. Under this agreement, Genzyme made non-contingent, non-refundable cash payments to us, totaling $130.0 million. The agreement provided Genzyme with certain rights to intellectual property developed by us, and required that we continue to perform certain development work related to the subject biologic drug candidates. As discussed in Note 15, Subsequent Events in our Annual Report on Form 10-K for the Year Ended December 31, 2011 (“2011 10-K”), in February 2012, Sanofi issued a press release which included an update on their R&D pipeline, stating that it had discontinued its project with Prochymal for GvHD. In September 2012, we reached agreement with Sanofi to conclude the Collaboration Agreement without either party having any continuing obligation to the other. We are continuing to proceed with our Prochymal regulatory approval and commercialization efforts.

We evaluated the deliverables related to the upfront payments made to us under the Genzyme collaboration agreement, and concluded that the various deliverables represent a single unit of accounting. For this reason, we deferred the recognition of revenue related to the upfront payments, and amortized these amounts to revenue on a straight-line basis over the estimated delivery period of the required development services, which extended through January 2012.

We recognized $3.3 million of revenue from this agreement during 2012, all of which came during the first fiscal quarter corresponding with the estimated end point date in January of 2012, compared to $10.0 million of revenue in each of the first three quarters of 2011. As of January 31, 2012, the upfront payments received under this contract had been fully amortized to revenue.

In October 2007, we entered into a collaborative agreement with the Juvenile Diabetes Research Foundation (“JDRF”) to conduct a Phase 2 clinical trial evaluating Prochymal as a treatment for type 1 diabetes mellitus. This collaborative agreement provides for JDRF to provide up to $4.0 million of contingent milestone funding to support the development of Prochymal for the preservation of insulin production in patients with newly diagnosed type 1 diabetes mellitus. The contingent milestone payments under the agreement are amortized to revenue on a straight line basis over the duration of our obligations under the collaborative agreement as they are received and earned. We have received all $4.0 million of the contingent milestones, and amortized the funding received over the duration of our obligations. We completed our work under this contract in fiscal 2011. As a result, we recognized approximately $250,000 of revenue in each of the first three fiscal quarters of 2011, and did not recognize any revenue under this agreement during fiscal 2012.

Our Therapeutics segment also earns royalty revenues and cost reimbursement under our adult expanded access program. Royalties are earned on the sale of human MSCs sold for research purposes. We recognize this revenue as sales are made. We recognized approximately $73,000 and $251,000, respectively, of royalty revenue for the three and nine months ended September 30, 2012, compared to $65,000 for the nine months ended September 30, 2011, of which an immaterial amount was realized in the three months then ended. During the nine months ended September 30, 2012 and 2011, we received $175,000 and $75,000, respectively, in cost reimbursement for Prochymal used in our adult expanded access program.

As discussed in Note 4- Segment Reporting below, we also operate a Biosurgery segment, focused on developing high-end biologic products for use in orthopedic, wound healing and surgical procedures. We launched commercial distribution of our Biosurgery products in late 2010, and continued to increase our distribution volume throughout fiscal 2011 and 2012. Due to the conditions required to preserve these products, customers may elect to have the product shipped to them, or we offer the customers use of our specially designed freezers for storage for a maximum period of 30 days. We do not allow customers to store product at our facility for longer than 30 days. Legal title passes to the customers when the product either leaves our shipping dock, if the customer has elected to have the product shipped to them, or when it is placed by us in a specifically designated storage unit located at our facility under the terms discussed above, if they have elected to have us temporarily store the product for them. Due to the nature of the products and the manufacturing process, we do not allow sales returns or refunds.

We recognized revenues of approximately $2.2 million and $4.9 million during the three and nine months ended September 30, 2012 compared to approximately $331,000 and $498,000 from the distribution of such products during the three and nine months ended September 30, 2011.

Research and Development Costs

We expense internal and external research and development (“R&D”) costs, including costs of funded R&D arrangements and the manufacture of clinical batches of our biologic drug candidates used in clinical trials, in the period incurred.

Beginning with the creation of our Biosurgery segment, we began to separately track research and development costs by segment. Total research and development costs for each of our operating segments are as follows:

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

	Three Months Ended						Three Months Ended
	Septrmber 30, 2012						Septrmber 30, 2011
	($000s)						($000s)
	Therapeutics		Biosurgery		Total		Therapeutics		Biosurgery		Total

Research and development costs	$	1,798	$	1,185	$	2,983	$	4,411	$	607	$	5,018

	Nine Months Ended						Nine Months Ended
	September 30, 2012						September 30, 2011
	($000s)						($000s)
	Therapeutics		Biosurgery		Total		Therapeutics		Biosurgery		Total

Research and development costs	$	7,414	$	3,604	$	11,018	$	12,520	$	2,418	$	14,938

We do not track internal development costs by project within the Therapeutics segment. We do, however, track external research and development costs by project, which were as follows:

	Three Months Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
External R&D Costs By Indication	($000s)		($000s)		($000s)		($000s)
Acute myocardial infarction	$	123	$	1,865	$	1,568	$	4,973
Treatment-resistant GvHD	322		325		564		618
Refractory Crohn’s disease	179		358		552		1,239
Other therapeutic programs	17		114		448		201
Therapeutics external R&D costs -	641		2,662		3,132		7,031

Diabetic foot ulcer	499		—		733		—
Other biosurgery programs	588		207		2,280		705
Biosurgery external R&D costs -	1,087		207		3,013		705

Total External R&D Costs -	$	1,728	$	2,869	$	6,145	$	7,736

Income (Loss) per Common Share

Basic income (loss) per common share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted income (loss) per common share adjusts basic income (loss) per share for the potentially dilutive effects of common share equivalents, using the treasury stock method, and includes the incremental effect of shares that would be issued upon the assumed exercise of stock options and warrants.

Diluted loss per common share for the three and nine months ended September 30, 2012 excludes the 1,000,000 shares issuable upon the exercise of an outstanding “out-of the money” warrant, and all 1,923,322 of our outstanding options as of September 30, 2012, as their impact on our net loss is anti-dilutive. As a result, basic and diluted weighted average common shares outstanding are identical for these periods.

Diluted income per common share for the three and nine months ended September 30, 2011 excludes the 1,000,000 shares issuable upon the exercise of an outstanding “out-of the money” warrant, and approximately 1,376,000 and 1,123,000, respectively, shares issuable upon the exercise of “out-of the money” stock options, as their effect is anti-dilutive.

A reconciliation of basic to diluted weighted average common shares outstanding for the applicable periods is as follows:

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

	Three Months Ended		Nine Months Ended
	September 30,		September 30,
	2012	2011	2012	2011
	(000s)	(000s)	(000s)	(000s)

Basic weighted average common shares outstanding	32,871	32,826	32,854	32,818
Dilutive weighted average options outstanding	—	295	—	303
Dilutive weighted average warrants outstanding	—	—	—	—
Diluted weighted average common shares outstanding	32,871	33,121	32,854	33,121

Investments Available for Sale and Other Comprehensive Income (Loss)

Investments available for sale consist primarily of marketable securities with maturities less than one year. Investments available for sale are valued at their fair value, with unrealized gains and losses reported as a separate component of stockholders’ equity in accumulated other comprehensive income. All realized gains and losses on our investments available for sale are recognized in results of operations as other income.

Investments available for sale are evaluated periodically to determine whether a decline in their value is “other than temporary.” The term “other than temporary” is not intended to indicate a permanent decline in value. Rather, it means that the prospects for near term recovery of value are not necessarily favorable, or that there is a lack of evidence to support fair values equal to, or greater than, the carrying value of the security. We review criteria such as the magnitude and duration of the decline, as well as the reasons for the decline, to predict whether the loss in value is other than temporary. If a decline in value is determined to be other than temporary, the carrying value of the security is reduced and a corresponding charge to earnings is recognized.

Inventory

We began carrying inventory of our Biosurgery products on our balance sheet following commercial launch of such products. Inventory consists of raw materials, biologic products in process, and products available for distribution. We determine our inventory values using the first-in, first-out method. Inventory is valued at the lower of cost or market, and excludes units that we anticipate distributing for clinical evaluation.

Our Biosurgery inventory consists of the following as of September 30, 2012 and December 31, 2011:

	September 30, 2012		December 31, 2011
	($000)		($000)
Inventory
Raw materials and supplies	$	272	$	184
Work-in-process	231		45
Finished goods	419		538
Total Biosurgery inventory	$	922	$	767

We do not currently carry any inventory for our Therapeutics products, as we have yet to launch Prochymal for commercial distribution following its approval during the second quarter of 2012. Historically, our Therapeutics segment operations have focused on clinical trials and discovery efforts, and accordingly, manufactured clinical doses of our drug candidates were expensed as incurred, consistent with our accounting for all other research and development costs. Once we begin commercial distribution, all newly manufactured Prochymal doses will be allocated either for use in commercial distribution, which will be carried as inventory and not expensed, or for research and development efforts, which will continue to be expensed as incurred.

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

Share-Based Compensation

We account for share-based payments using the fair value method.

We recognize all share-based payments to employees in our financial statements based on their grant date fair values, calculated using the Black-Scholes option pricing model. Compensation expense related to share-based awards is recognized on a straight-line basis for each vesting tranche based on the value of share awards that are expected to vest on the grant date, which is revised if actual forfeitures differ materially from original expectations. Awards of shares of our common stock to non-employee directors are valued at the closing price on the grant date.

A summary of option activity under both of our stock-based compensation plans for the nine months ended September 30, 2012 is presented below.

	Number of Shares		Weighted Average Exercise Price Per Share		Weighted Average Remaining Term (in Years)	Aggregate Intrinsic Value
						$(000)
Outstanding at January 1, 2012	1,702,072		$	9.06	6.8	$	1,533
Granted at fair value	296,000		5.44
Exercised	(21,500	)	2.23			84
Forfeited	(53,250	)	9.03			48
Outstanding at September 30, 2012	1,923,322		8.58		6.5	7,851

Exercisable at September 30, 2012	1,110,072		$	9.68	5.1	$	4,300

The weighted average grant date fair value of options granted during the nine months ended September 30, 2012 was $2.79 per share. We received approximately $48,000 in cash from the exercise of options during the nine months ended September 30, 2012.

As of September 30, 2012, approximately 453,000 shares of common stock remain available for future share awards under our Amended and Restated 2006 Omnibus Plan.

Share-based compensation expense (including director compensation) included in our statements of operations and comprehensive (loss) income for the three and nine months ended September 30, 2012 and 2011 is allocable to our research and development and general and administrative activities as follows:

	Three Months Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
	($000)		($000)		($000)		($000)
Research and development	$	156	$	182	$	478	$	656
General and administrative	110		165		474		685
Total	$	266	$	347	$	952	$	1,341

As of September 30, 2012, there was approximately $1.3 million of total unrecognized share-based compensation cost related to options granted under our plans, which will be recognized over a weighted-average period of less than one year, as the options vest.

Supplemental Cash Flow Information

A summary of our supplemental disclosures of cash flow information for the nine months ended September 30, 2012 and 2011, is as follows:

	Nine Months Ended September 30,
	2012		2011
	($000)		($000)
Supplemental disclosure of non cash activities:
Equipment acquired under a capital lease	$	228	$	—

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

3. Collaboration Agreements

We are a party to several material collaborative agreements and other contracts as fully described in Note 2 of our 2011 Form 10-K.

On September 28, 2012, we announced the conclusion of our collaboration with Genzyme, a Sanofi company. As a result, all rights to Prochymal and Chondrogen worldwide revert back to us, and we are now free to commercialize or enter into commercialization agreements for Prochymal and Chondrogen with others without limitation. Both parties have agreed to an orderly conclusion of the collaboration, with no further financial responsibilities for either party, and an amicable end to the relationship.

Other than as described above, there have not been any material amendments to the terms of any of these agreements during 2012 that require disclosure. The accounting policies related to each of these contracts, including material impact on our financial statements, is included above under the “Revenue Recognition” section of Note 2, Significant Accounting Policies .

4. Segment Reporting

We manage our business in two reportable operating segments: the Therapeutics segment and the Biosurgery segment. Our Therapeutics segment focuses on developing and marketing products to treat medical conditions in the inflammatory and cardiovascular disease areas. Its operations have focused on clinical trials and discovery efforts to identify additional medical indications. Revenues for our Therapeutics segment have historically consisted primarily of collaborative research agreements and royalties as described in our 2011 Form 10-K in the “Revenue Recognition” section of Note 2, Significant Accounting Policies. As discussed above under Note 1, Nature of Business, during the second quarter of 2012, we received authorization to market our stem cell therapy Prochymal in both Canada and New Zealand. We expect to begin commercial distribution of Prochymal in the near future.

Our Biosurgery segment is focused on the development, manufacture and distribution of biologic products for orthopedic, wound healing, and surgical procedures by harnessing the ability of cells and novel constructs to promote the body’s natural healing.

Substantially all of our revenues and assets are attributed to and are received from entities located in the United States.

The costs specifically attributable to each of our segments for the three and nine months ended September 30, 2012 and 2011 are as follows:

	Three Months Ended									Three Months Ended
	September 30, 2012									September 30, 2011
	($000s)									($000s)
	Therapeutics			Biosurgery			Total			Therapeutics		Biosurgery			Total

Product revenues	$	—		$	2,151		$	2,151		$	—	$	331		$	331
Cost of product revenues	—			732			732			—		139			139
Gross profit	—			1,419			1,419			—		192			192

Revenue from collaborative research agreements and royalties	232			—			232			10,242		—			10,242

Operating expenses:
Research and development	1,798			1,185			2,983			4,411		607			5,018
General and administrative	947			653			1,600			1,230		199			1,429
	2,745			1,838			4,583			5,641		806			6,447

(Loss) income from operations	$	(2,513	)	$	(419	)	$	(2,932	)	$	4,601	$	(614	)	$	3,987

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

	Nine Months Ended Ended									Nine Months Ended
	September 30, 2012									September 30, 2011
	($000s)									($000s)
	Therapeutics			Biosurgery			Total			Therapeutics		Biosurgery			Total

Product revenues	$	—		$	4,914		$	4,914		$	—	$	498		$	498
Cost of product revenues	—			1,671			1,671			—		209			209
Gross profit	—			3,243			3,243			—		289			289

Revenue from collaborative research agreements and royalties	3,776			—			3,776			30,861		—			30,861

Operating expenses:
Research and development	7,414			3,604			11,018			12,520		2,418			14,938
General and administrative expenses and fees	3,135			1,406			4,541			5,767		638			6,405
	10,549			5,010			15,559			18,287		3,056			21,343

(Loss) income from operations	$	(6,773	)	$	(1,767	)	$	(8,540	)	$	12,574	$	(2,767	)	$	9,807

In general, our total assets, including long-lived assets such as property and equipment, and our capital expenditures are not specifically allocated to any particular operating segment. Accordingly, capital expenditures and total asset information by reportable segment is not presented. The only assets that are allocated to the individual segments are the inventory and accounts receivable specifically related to each segment.

The assets specifically attributable to each of our segments as of September 30, 2012 and December 31, 2011 are as follows:

	September 30, 2012						December 31, 2011
	($000s)						($000s)
	Therapeutics		Biosurgery		Total		Therapeutics		Biosurgery		Total

Segment assets:
Accounts Receivable	$	139	$	2,092	$	2,231	$	37	$	691	$	728
Inventory	—		922		922		—		767		767
Total segment assets	$	139	$	3,014	$	3,153	$	37	$	1,458	$	1,495

5. Income Taxes

We calculate our interim tax provision in accordance with the guidance for accounting for income taxes in interim periods. At the end of each interim period, we estimate the annual effective tax rate and apply that tax rate to our ordinary quarterly pre-tax income. The tax expense or benefit related to significant, unusual or extraordinary discrete events during the interim period is recognized in the interim period in which those events occurred. In addition, the effect of changes in enacted tax laws or rates or tax status is recognized in the interim period in which the change occurs.

For income tax reporting purposes, we anticipate a loss for the year ending December 31, 2012. The primary difference for 2012 between our net loss for financial reporting purposes and the loss for income tax reporting purposes relates to the recognition of deferred revenue from our collaborative agreement with Genzyme, which was previously reported for income tax purposes. During the three months ended September 30, 2012, we received our federal and state income tax refunds for the fiscal year ended December 31, 2011 and recognized an income tax benefit of $5,000. This amount is in addition to the $32,000 tax benefit we recognized during the second fiscal quarter of 2012, when we filed our federal and state income tax returns for 2011.

At September 30, 2012, the balance of our net operating loss and tax credit carryforwards was approximately $95.3 million.

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

6. Investments Available for Sale

Investments available for sale consisted of the following as of September 30, 2012 and December 31, 2011:

	September 30, 2012								December 31, 2011
	$000								$000
			Unrealized								Unrealized
	Cost		Gain		Loss		Fair Value		Cost		Gain		Loss			Fair Value
Cash equivalents:
Money market funds & certificates of deposit	$	1,958	$	—	$	—	$	1,958	$	527	$	—	$	—		$	527
Commercial paper & Corporate Securities	$	3,600	—		—		3,600		15,411		4		(1		)	15,414
	$	5,558	—		—		5,558		15,937		4		(1		)	15,940
Short term investments:
Common stock and municipal securities	3,410		1		—		3,411		1,612		—		(1		)	1,611
Corporate notes and bonds	26,976		14		—		26,990		26,834		16		—			26,850
US & International government agencies	200		—		—		200		1,201		2		—			1,203
	30,586		15		—		30,601		29,647		18		(1		)	29,664

Investments available for sale	$	36,144	$	15	$	—	$	36,159	$	45,584	$	22	$	(2	)	$	45,604

The following table summarizes maturities of our investments available for sale as of September 30, 2012 and December 31, 2011:

September 30, 2012

December 31, 2011

$000

Cost

Fair Value

Cost

Fair Value

Maturities:

Within 3-months

12,611

12,612

42,612

42,627

Between 3—12 months

20,035

20,046

—

Between 1—2 years

3,498

3,501

2,972

2,977

Investments available for sale

36,144

36,159

45,584

45,604

Realized gains and investment income earned on investments available for sale were $13,000 and $52,000, respectively, for the three and nine months ended September 30, 2012, and have been included as a component of “Other income, net” in the accompanying financial statements.

7. Fair Value

Fair value is defined as the price at which an asset could be exchanged or a liability transferred (an exit price) in an orderly transaction between knowledgeable, willing parties in the principal or most advantageous market for the asset or liability. Where available, fair value is based on observable market prices or parameters or derived from such prices or parameters. Where observable prices or inputs are not available, valuation models are applied.

Financial assets recorded at fair value in the accompanying financial statements are categorized based upon the level of judgment associated with the inputs used to measure their fair value. The levels are directly related to the amount of subjectivity associated with the inputs to fair valuation of these assets and liabilities, and are as follows:

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

Level 1		Inputs are unadjusted, quoted prices in active markets for identical assets at the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

		The fair valued assets we hold that are generally included in this category are money market securities where fair value is based on publicly quoted prices.

Level 2		Inputs are other than quoted prices included in Level 1, which are either directly or indirectly observable for the asset or liability through correlation with market data at the reporting date and for the duration of the instrument’s anticipated life.

		The fair valued assets we hold that are generally included in this category are investment grade short-term securities.

Level 3		Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities and which reflect management’s best estimate of what market participants would use in pricing the asset or liability at the reporting date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model.

When quoted prices in active markets for identical assets are available, we use these quoted market prices to determine the fair value of financial assets and classify these assets as Level 1. In other cases where a quoted market price for identical assets in an active market is either not available or not observable, we obtain the fair value from a third party vendor that uses pricing models, such as matrix pricing, to determine fair value. These financial assets would then be classified as Level 2. In the event quoted market prices were not available, we would determine fair value using broker quotes or an internal analysis of each investment’s financial statements and cash flow projections. In these instances, financial assets would be classified based upon the lowest level of input that is significant to the valuation. Thus, financial assets might be classified in Level 3 even though there could be some significant inputs that may be readily available. To date, we have never had any assets that were required to be classified as Level 3.

Assets and liabilities measured at fair value on a recurring basis are summarized below as of September 30, 2012 and December 31, 2011:

	September 30, 2012
	($000s)
	Level I		Level II		Level III		Total
Assets
Cash equivalents	$	1,958	$	—	$	—	$	1,958
Government obligations	200		—		—		200
Agency obligations	—		20,363		—		20,363
Corporate debt securities & commercial paper	—		10,227		—		10,227
Municipal securities	—		3,411		—		3,411

Investments available for sale	$	2,158	$	34,001	$	—	$	36,159

Table of Contents

OSIRIS THERAPEUTICS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011 (Continued)

	December 31, 2011
	($000s)
	Level I		Level II		Level III		Total
Assets
Cash equivalents	$	27	$	—	$	—	$	27
Government obligations	1,203		—		—		1,203
Certificates of deposit	—		500		—		500
Agency obligations	—		26,850		—		26,850
Corporate debt securities & commercial paper	—		15,413		—		15,413
Municipal securities	—		1,611		—		1,611

Investments available for sale	$	1,230	$	44,374	$	—	$	45,604

8. Capital Lease

In July 2012, we leased equipment under a capital lease at an effective interest rate of approximately 5%, with 60 monthly payments of $4,000 starting July 2012. The capital lease is recorded at the present value of the future minimum lease payments. Future minimum lease payments under the capital lease agreement at September 30, 2012 are as follows:

	Amount
	(000s)
2012	$	12
2013	48
2014	48
2015	48
2016	48
2017	24
	228
Less: Amount representing interest	(11		)
Present value of minimum lease payments	217
Less: Current portion of capital lease obligations	(44		)
Long-term portion of capital lease obligations	$	173

9. Subsequent Events

We evaluated our September 30, 2012 financial statements for subsequent events through the date the financial statements were issued. We are not aware of any subsequent events which would require recognition or disclosure in the financial statements.

Table of Contents

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

CAUTIONARY STATEMENTS ABOUT FORWARD-LOOKING INFORMATION

This Quarterly Report on Form 10-Q includes “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, or the Exchange Act. Statements included or incorporated herein which are not historical facts are forward looking statements. When used in this Quarterly Report, the words estimates, expects, anticipates, projects, plans, intends, believes, forecasts and variations of such words or similar expressions are intended to identify forward-looking statements, but these terms are not the exclusive means of identifying forward looking statements.

Forward looking statements reflect management’s current views with respect to future events and performance and are based on currently available information and management’s assumptions regarding future events. While management believes that its assumptions are reasonable, forward-looking statements are subject to various known and unknown risks and uncertainties and actual results may differ materially from those expressed or implied herein. In connection with the “safe harbor provisions” of the Private Securities Litigation Reform Act of 1995, the Company notes that certain factors, among others, which could cause future results to differ materially from the forward-looking statements, expectations and assumptions expressed or implied herein are discussed in greater detail in our Annual Report on Form 10-K under Part I — Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Item 1A “Risk Factors,” and may be discussed elsewhere herein or in other documents we file with the Securities and Exchange Commission, or SEC. Examples of forward-looking statements may include, without limitation, statements regarding any of the following: our product development efforts; our clinical trials and anticipated regulatory requirements, and our ability to successfully navigate these requirements; the success of our product candidates in development; status of the regulatory process for our biologic drug candidates; implementation of our corporate strategy; our financial performance; our product research and development activities and projected expenditures, including our anticipated timeline and clinical and commercialization strategy for mesenchymal stem cells (MSCs) and biologic drug (including Prochymal® and Chondrogen®), and marketed biosurgery products (including Grafix® and Ovation®); our cash needs; patents, trademarks and other proprietary rights; the safety and ability of our products and potential products to treat disease; our ability to supply a sufficient amount of our marketed products or product candidates and, if or insofar as approved or otherwise commercially available, products to meet demand; our costs to comply with governmental regulations; our plans for or success of sales and marketing; our plans regarding facilities; our ability to establishing and maintain reimbursement for our commercially available products; types of regulatory frameworks we expect will be applicable to our products and potential products; and results of our scientific research.

Readers are cautioned that all forward-looking statements attributable to us or persons acting on our behalf apply only as of the date of this Quarterly Report and are expressly qualified in their entirety by the cautionary statements included herein. We undertake no obligation to publicly update or revise any forward-looking statements to reflect subsequent events or circumstances and do not intend to do so.

You should read the following management’s discussion and analysis of our financial condition and results of operations in conjunction with our audited Financial Statements and related notes thereto and other disclosures included as part of our Annual Report on Form 10-K for the year ended December 31, 2011, and our unaudited Condensed Financial Statements for the three and nine month periods ended September 30, 2012 and other disclosures included in this Quarterly Report on Form 10-Q, our Quarterly Report on Form 10-Q for the first and second fiscal quarters of 2012, and our Current Reports on Form 8-K during these periods and since then to date. Our Condensed Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States, and are presented in U.S. dollars.

There are a number of risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements contained in this report. Some of the important factors that could cause our actual results to differ materially from the forward-looking statements we make in this report are set forth in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011 under Part I — Item 1A “Risk Factors.” There may be other factors that may cause our actual results to differ materially from the forward-looking statements.

When we use the terms “Osiris,” “we,” “us,” and “our” we mean Osiris Therapeutics, Inc., a Maryland corporation.

Introduction and Overview

The following is a discussion and analysis of our financial condition and results of operations for the three and nine month periods ended September 30, 2012 and 2011. You should read this discussion together with the accompanying unaudited condensed financial statements and notes and with our Annual Report on Form 10-K for the year ended December 31, 2011. Historical results and any discussion of prospective results may not indicate our future performance. See “Cautionary Statements About Forward-Looking Information.”

We are a leading stem cell company headquartered in Columbia, Maryland and focused on developing and marketing products to treat medical conditions in the inflammatory, cardiovascular, orthopedic and wound healing markets. We have two business segments, Therapeutics and Biosurgery. Our Therapeutics business is focused on developing biologic stem cell drug candidates from a readily available and non-controversial source—adult bone marrow. Our Biosurgery business, created in 2009 and operating as a separate segment since 2010, works to harness the ability of cells and novel constructs to promote the body’s natural healing with the goals of improving surgical outcomes and offering better treatment options for patients and physicians.

In our Biosurgery business, we currently manufacture, market and distribute Grafix for tissue repair and Ovation for use in orthopedic, would healing, and surgical procedures. In our Therapeutics segment, our pipeline of internally developed biologic drug candidates under

Table of Contents

evaluation includes Prochymal for inflammatory, autoimmune and cardiovascular indications, as well as Chondrogen for arthritis in the knee. During the second quarter of 2012, we received authorization from Health Canada to market our stem cell therapy Prochymal® for the treatment of refractory acute GvHD in children; and we have also since been granted marketing consent for Prochymal for the same indication in New Zealand. We believe our stem cell therapeutic products have significant therapeutic potential because of their ability to regulate inflammation, promote tissue regeneration and prevent pathological scar formation.

We began operations on December 23, 1992 and were a Delaware corporation until, with approval of our stockholders, we reincorporated as a Maryland corporation on May 31, 2010.

Therapeutics Segment. Our Therapeutics segment is focused on developing biologic stem cell drug candidates from a readily available and non-controversial source—adult bone marrow. Prochymal (remestemcel-L) has now been approved for the treatment of refractory acute graft versus host disease (“GvHD”) in pediatric patients in Canada and New Zealand. In addition, we have a Prochymal Expanded Access Program for pediatric and adult patients in eight countries, including the U.S. Prochymal is also being evaluated in clinical trials for Crohn’s disease, acute myocardial infarction, type 1diabetes and gastrointestinal injury resulting from radiation exposure (animal rule). Our pipeline of internally developed biologic drug candidates also includes Chondrogen for osteoarthritis in the knee.

The following table summarizes the status of our biologic drug candidates.

Drug Candidate	Indication	Status
Prochymal	Pediatric Refractory Acute GvHD	Marketing Approval received from Health Canada in May 2012 and from Medsafe (New Zealand’s medical regulatory agency) in June 2012

	Refractory Acute GvHD in pediatric and adult patients	Available in eight countries under Expanded Access Programs

	Biologics Refractory Crohn’s Disease	Phase 3

	Acute Myocardial Infarction	Phase 2

	Type I Diabetes Mellitus	Phase 2

	Acute Radiation Syndrome	Phase 3(Animal Rule)

Chondrogen	Osteoarthritis & Cartilage Protection	Phase 2

Clinical Program Update

In May 2012, we received approval from Health Canada to market Prochymal (remestemcel-L), for the treatment of refractory acute GvHD in children. We believe this is the world’s first regulatory approval of a stem cell therapeutic drug product and the first therapy approved specifically for GvHD, a devastating complication of bone marrow transplantation that kills up to 80 percent of children affected, many within just weeks of diagnosis.

Prochymal was approved under Health Canada’s Notice of Compliance with conditions (NOC/c) Policy, which provides expedited market clearance to high quality medical products that address significant unmet medical conditions and which have demonstrated favorable risk/benefit profile in clinical trials. Under the NOC/c pathway, the sponsor must agree to carry out confirmatory clinical testing.

Health Canada’s approval was made following the recommendation of an independent expert advisory panel commissioned to evaluate Prochymal’s safety and efficacy. In support of the application, Osiris submitted over 90,000 pages of data generated over a 20 year development cycle. In Canada, Prochymal is now approved for the management of acute GvHD in children who fail to respond to steroids. The approval was based on the results from clinical studies evaluating Prochymal in patients with severe refractory acute GvHD. Prochymal demonstrated a clinically significant response 28 days post initiation of therapy in 61-64 percent of patients treated. Furthermore, treatment with Prochymal resulted in a statistically significant improvement in survival when compared to an historical control population of pediatric patients with refractory GvHD (p=0.028). The survival benefit was most pronounced in patients with the most severe forms of GvHD. As a condition of approval, the clinical benefit of Prochymal will be further evaluated in a case-matched confirmatory study.

In addition to the extensive patent protection for Prochymal, Health Canada’s decision will also provide Prochymal with regulatory exclusivity within the territory for the approved pediatric application. Canada affords eight years of exclusivity to Innovative Drugs such as Prochymal, and an additional six-month pediatric extension is available since it is intended to treat a pediatric population.

There have not been any other significant changes to our clinical programs in our Therapeutics segment since we filed our Annual Report on Form 10-K for the fiscal year ended December 31, 2011.

Biosurgery Segment. Our Biosurgery segment seeks to harness the ability of cells and novel constructs to promote the body’s natural healing, with the goals of improving surgical outcomes and offering better treatment options for patients and physicians. During the third quarter

Table of Contents

of 2010, we launched limited commercial distribution of several products developed and manufactured by our Biosurgery segment, including Grafix and Ovation. Disease targets for Biosurgery products commercialized or in development include diabetic foot ulcers, venous stasis ulcers, dermal burns, and various orthopedic conditions.

Grafix is a three-dimensional tissue matrix designed for application directly to acute and chronic wounds, including diabetic foot ulcers and burns. Flexible and conformable to complex anatomies, this cellular repair matrix provides a rich source of extracellular matrix, viable endogenous MSCs and epithelial cells, as well as growth factors directly to the site of the wound, protecting the area from inflammation, scarring and infection.

Ovation is a novel cellular repair matrix designed for use in surgical applications where bone tissue repair is needed. Easily applied to the site of injury, Ovation provides the three essential components of periosteum—collagen matrix, viable endogenous MSCs and key growth factors such as BMPs and VEGF—to enable tissue regeneration.

Grafix and Ovation are regulated by the FDA under 21CFR Part 1271, Human Cells, Tissues and Cellular and Tissue-based Products (“HCT/Ps”). We are registered with the FDA as a tissue establishment and are accredited by the American Association of Tissue Banks (“AATB”). Extensive donor screening, serological testing, bioburden testing and sterility testing is performed on every lot to demonstrate suitability for transplantation. Our Biosurgery products are all manufactured in our Columbia, Maryland facility. Each lot is tested to confirm viable cell content post thaw.

We market and distribute both Grafix and Ovation through a network of distributors as well as directly to hospitals and clinics. A significant market for Grafix is chronic wounds, which are primarily treated in the outpatient setting, and to obtain full reimbursement for use in the outpatient setting, a prospective randomized clinical trial comparing the standard of care to Grafix is needed.

We have received transitional pass-through status from the Center for Medicare & Medicaid Services (“CMS”), with C-Codes being designated for Grafix. Further, the product has been assigned pass-through status under Medicare’s outpatient prospective payment system (“OPPS”), effective July 1, 2012. CMS also issued a preliminary positive decision for the assignment of permanent Healthcare Common Procedure Coding System (HCPCS) Q-codes for Grafix. If the decision is made permanent, it is anticipated that the Q-codes would be available starting in January 2013. The assignment of unique Q-codes will assist in facilitating reimbursement in the physician office setting, offering additional access for Medicare patients.

A study designed to allow for the collection of data necessary to obtain the permanent HCPCS Q-codes began during the second fiscal quarter of 2012.

We are a fully integrated company, having developed capabilities in research, development, manufacturing, marketing and distribution of stem cell products. We have developed an extensive intellectual property portfolio to protect our technology including 51 U.S. and 154 foreign patents owned or licensed. We have 30 U.S. patent applications pending and 80 foreign patent applications pending.

Financial Operations Overview

Revenue

Biosurgery Segment. Beginning in fiscal 2010, we started to account for our Biosurgery business as a separate segment. We manufacture human tissue based products in our Columbia, Maryland facility and distribute these products through a network of independent distributors as well as employee sales personnel. We presently manufacture and distribute Grafix for the treatment of chronic wounds and burns and Ovation for orthopedic surgeries. Both of these products are cryo-preserved and stored in special freezers at -80 degrees Celsius. Due to the conditions required to preserve these products, customers may elect to have the product shipped to them in dry ice, or we offer to store the product in our freezers for no longer than 30-days. Legal title passes to the customer when the product either leaves our shipping dock or when it is placed by us in a specifically designated freezer. Due to the nature of the products and the manufacturing process, we do not allow sales returns.

Therapeutics Segment. In the fourth quarter of 2008, we entered into a collaboration agreement with Genzyme Corporation, then an independent and now a Sanofi company, for the development and commercialization of Prochymal and Chondrogen. Under the terms of the agreement, we retained the rights to commercialize Prochymal and Chondrogen in the United States and Canada, and Genzyme was granted exclusive rights to commercialize Prochymal and Chondrogen in all other countries, except with respect to GvHD in Japan, where Prochymal has previously been licensed to JCR Pharmaceuticals Co., Ltd. Under the agreement, we were paid $130.0 million for these rights. During the fiscal quarter ended March 31, 2012 we recognized revenue of $3.3 million, which was the final deferred revenue associated with the $130.0 million upfront payment. We recognized $10.0 million of revenue from the amortization of the upfront payment during each of the first three fiscal quarters of 2011.

The collaboration agreement provided that it would expire upon the completion of all development plans stipulated in the agreement and the expiration of all payment obligations; however, in addition to certain opt out rights, Genzyme could terminate the agreement early and without further obligation at any time, and either party could terminate the agreement due to non-performance, material breach or insolvency.

In February 2012, Sanofi issued a press release which included an update on their R&D pipeline, stating that it had “discontinued” its project with Prochymal for GvHD, and in September 2012, we entered into a termination agreement with Sanofi that terminated the

Table of Contents

collaboration agreement and memorialized an amicable parting. Under the termination agreement, neither party has any continuing financial or other obligations to the other. We continue to proceed with our Prochymal regulatory and commercialization efforts.

In prior years, we entered into strategic agreements with other companies for the development and commercialization of Prochymal for specific indications and geographic markets. In 2007, we entered into a collaborative agreement with the Juvenile Diabetes Research Foundation (JDRF) to conduct a Phase 2 clinical trial evaluating Prochymal as a treatment for type 1 diabetes mellitus. In 2003, we entered into an agreement with JCR Pharmaceuticals, granting it exclusive rights to Prochymal for the treatment of GvHD and other hematological malignancies in Japan. We did not recognize any revenue from these other agreements during fiscal 2012. We recognized approximately $240,000 of revenue from the JDRF collaboration during each of the first three fiscal quarters of 2011.

Research and Development Costs

Our research and development costs consist of expenses incurred in identifying, developing and testing biologic drug candidates and biologic tissue based products. These expenses consist primarily of salaries and related expenses for personnel, fees paid to professional service providers for independent monitoring and analysis of our clinical trials, costs of contract research and manufacturing, costs of facilities, and the costs of manufacturing clinical batches of biologic drug candidates, quality control supplies and material to expand biologic drug candidates.

Consistent with our focus on the development of biologic drug candidates with potential uses in multiple indications, many of our costs are not attributable to a specifically identified product indication. We use our employee and infrastructure resources across several projects. Accordingly, we do not account for internal research and development costs on a project-by-project basis. From inception in December 1992 through September 30, 2012, we incurred aggregate research and development costs of approximately $421 million.

During the three and nine months ended September 30, 2012, we incurred $1.8 million and $7.4 million, respectively, of research and development costs in our Therapeutics segment and $1.2 million and $3.6 million in our Biosurgery segment. During the three and nine months ended September 30, 2011, our total research and development costs were $4.4 million and $12.5 million, respectively, for our Therapeutics segment and $607,000 and $2.4 million for our Biosurgery segment

We expect our research and development expenses to continue to be substantial in the future, as we continue our clinical trial activity for our existing biologic drug candidates as they advance through the development cycle, and as we invest in additional product opportunities and research programs. Clinical trials and preclinical studies are time-consuming and expensive. Our expenditures on current and future preclinical and clinical development programs are subject to many uncertainties. We test our products in several preclinical studies, and we then conduct clinical trials for those biologic drug candidates that we determine to be the most promising. As we obtain results from clinical trials, we may elect to discontinue or delay trials for some biologic drug candidates in order to focus our resources on more promising biologic drug candidates. Completion of clinical trials may take several years or more, but the length of time generally varies substantially according to the type, size of trial and intended use of a biologic drug candidate. The cost of clinical trials may vary significantly over the life of a project as a result of a variety of factors, including:

· the number of patients who participate in the trials;

· the number of sites included in the trials;

· the length of time required to enroll trial participants;

· the duration of patient treatment and follow-up;

· the costs of producing supplies of the biologic drug candidates needed for clinical trials and regulatory submissions;

· the efficacy and safety profile of the biologic drug candidate; and

· the costs and timing of, and the ability to secure, regulatory approvals.

As a result of these uncertainties, we are unable to determine with any significant degree of certainty the duration and completion costs of our research and development projects or when and to what extent we will generate revenues from the commercialization and sale of any of our biologic drug candidates.

General and Administrative Expenses

General and administrative expenses consist primarily of the costs associated with our general management, including salaries, allocations of facilities and related costs, and professional fees such as legal and accounting expenses. We have experienced a general decrease in general and administrative costs as the result of our continued cost cutting efforts and the refinement of many of our general business processes, as well as a reduction in share-based compensation expense. However, we expect future expense increases to likely result from the hiring of additional operational, financial, accounting, facilities engineering and information systems personnel as we approach the commercial launch of Prochymal for an initial indication.

Table of Contents

Other Income, Net

Other income consists of interest earned on our cash and investments available for sale and realized gains and losses incurred on the sale of these investments. Interest expense consists of interest incurred on capital leases and other debt financings. We do not expect to incur material interest expense in the future as we had extinguished all of our outstanding debt prior to fiscal 2009. During the third fiscal quarter of 2012, we entered into a capital lease agreement to finance the acquisition of copier and printing equipment. In connection with this capital lease, we incurred $1,000 of interest expense during the third fiscal quarter of 2012.

Provision for Income Taxes

Until fiscal 2010, we had not recognized any net deferred tax assets or liabilities in our financial statements because we cannot assure their future realization. Because realization of deferred tax assets is dependent upon future earnings, a full valuation allowance has been recorded on the net deferred tax assets, which relate primarily to net operating loss and research and development carry-forwards. In the event that we become profitable within the next several years, we have net deferred tax assets (before a 100% valuation allowance) of approximately $95.3 million that may be utilized prior to us having to recognize any income tax expense or make payments to the taxing authorities, other than the alternative minimum tax. The income from the upfront fees we received from Genzyme Corporation was required to be recognized over several years from 2008 through the first quarter 2012 for financial statement reporting purposes. For income tax purposes, the income was required to be fully recognized in 2009 and 2010. This resulted in our releasing $3.2 million of the valuation allowance on our net deferred tax assets in fiscal 2010. We recognized $1.0 million of the resulting deferred tax asset in 2011, and we recognized the remaining $2.2 million deferred tax asset in 2012. Upon filing these 2011 tax returns, we reclassified the short-term deferred tax asset to income tax receivable and these amounts were received by us during the third fiscal quarter of 2012.

During the three months ended June 30, 2012, we filed our federal and state income tax returns for the fiscal year ended December 31, 2011 and trued-up our income tax receivable to the short-term deferred tax asset that was on our December 2011 balance sheet by recognizing a tax benefit of $32,000. We received the refunds during the third fiscal quarter of 2012 and recognized an additional tax benefit of $5,000. Similarly, during the three months ended June 30, 2011, we filed our fiscal 2010 income tax returns and recognized income tax expense of $43,000 when truing up our short-term deferred tax asset to the amounts reported in our fiscal 2010 income tax returns.

Critical Accounting Policies

There have been no material changes in our critical accounting policies, estimates and judgments during the three and nine months ended September 30, 2012 compared to the disclosures in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2011, other than as disclosed herein.

Results of Operations

Comparison of Three Months Ended September 30, 2012 and 2011

Biosurgery Product Revenues

During the three months ended September 30, 2012, we continued to expand our distribution efforts in our Biosurgery segment, both through in-house personnel as well as through our expanding distributor network. During the three months ended September 30, 2012, we recognized $2.2 million of product revenues from the distribution of Grafix and Ovation and realized gross profit of $1.4 million. Revenues from the distribution of Biosurgery products in the third fiscal quarter of 2011 were $331,000, and gross profit was $192,000. The increase in revenue and gross profit in 2012 is due to volume increases, as we have continued to expand our distribution network. We are continuing to distribute a substantial amount of these products for clinical evaluation and expect commercial distribution to ramp up slowly until such time as we are able to build the commercial capabilities necessary to drive more widespread adoption. Until such time as we ramp up our Biosurgery manufacturing activities to fully utilize our manufacturing facilities, our costs to manufacture these products are likely to vary significantly.

Revenues from Collaborative Research Agreements and Royalties

Revenues from collaborative research agreements and royalties were $232,000 for the three months ended September 30, 2012, compared to $10.2 million for comparable fiscal period 2011. All of the deferred revenues from the Genzyme and JDRF agreements had been amortized prior to the third quarter of 2012, so revenues from collaborative research agreements and royalties during that period consist primarily of royalties and cost reimbursement under our adult expanded access program. Revenues for the three months ended September 30, 2011 consisted primarily of $10.0 million from the Genzyme agreement, with the remainder of the collaborative research revenues coming from the JDRF collaboration.

Research and Development Expenses

Research and development expenses for the three months ended September 30, 2012 were $3.0 million as compared to research and development expenses of $5.0 million for the same period of 2011, as follows:

Table of Contents

	Three Months Ended September 30,
	2012		2011
	($000)		($000)
Therapeutics	$	1,798	$	4,411
Biosurgery	1,185		607

	$	2,983	$	5,018

The decrease in research and development expenses in our Therapeutics segment in the third quarter of fiscal 2012 compared to the same period in fiscal 2011 reflects lower expenses in our acute myocardial infarction clinical trial, which was fully enrolled in the third quarter of 2011, resulting in lower patient and site costs since then. The increase in research and development expenses in our Biosurgery segment in fiscal 2012 reflects our increased process improvement efforts and development expenses incurred in exploring additional products to bring to market and the enrollment of the clinical trial required for to obtain cost reimbursement for Grafix.

General and Administrative Expenses

General and administrative expenses were $1.6 million for the three months ended September 30, 2012 compared to $1.4 million for the corresponding period in fiscal 2011. We incurred $653,000 of sales, general and administrative expenses related to our Biosurgery segment during the three months ended September 30, 2012, compared to $199,000 in the corresponding period of fiscal 2011. The increase in general and administrative expenses attributable to our Biosurgery segment reflects an increase in sales activities, including commissions and marketing expenses. General and administrative expenses incurred in our Therapeutics segment during the third quarter of fiscal 2012 were $947,000, compared to $1.2 million in the corresponding period of fiscal 2011. The decrease in these general and administrative expenses is the result of our continued cost cutting efforts and the refinement of many of our general business processes.

Other Income, Net

Other income, net consists of the realized gains or losses and interest income on our Investments available for sale as well as interest expense incurred on our capital lease. Other income, net was $13,000 for the three months ended September 30, 2012, compared to $26,000 in the corresponding period in fiscal 2011. Our investments available for sale consist primarily of short-term, investment grade securities with a focus on avoiding market risk. During the third fiscal quarter of 2012, we entered into a capital lease in connection with the acquisition of copier and printing equipment. We incurred $1,000 of interest expense during the third quarter of 2012 in connection with this capital lease. We did not incur any interest expense during 2011.

Benefit (Provision) for Income Taxes

During the three months ended September 30, 2012, we received the refunds from the income tax returns filed in the immediately preceding fiscal quarter. We had recognized a $32,000 tax benefit when filing the return in the second quarter, but received $5,000 more than we anticipated and recorded this additional amount as an income tax benefit in the third quarter of 2012. We did not recognize any income taxes during the third quarter of fiscal 2011.

Other Comprehensive Income (Loss)

Our other comprehensive income (loss) consists of the unrealized gain or loss on our investments available for sale when they are marked-to-market at the end of each reporting period. During the third quarter of fiscal 2012, we recognized an unrealized gain of $10,000 compared to unrealized losses of $9,000 during the same period of fiscal 2011.

Comparison of Nine Months Ended September 30, 2012 and 2011

Biosurgery Product Revenues

During the nine months ended September 30, 2012, we continued to expand our distribution efforts in our Biosurgery segment, both through in-house personnel as well as through our expanding distributor network. During this period, we recognized $4.9 million of product revenues from the distribution of our Biosurgery products and realized gross profit of $3.2 million. Revenues from the distribution of Biosurgery products in the comparable period of fiscal 2011 were $498,000, and gross profit was $289,000. The increase in revenue and gross profit in 2012 is due to volume increases as we have continued to expand our distribution network. We are continuing to distribute a substantial amount of these products for clinical evaluation and expect commercial distribution to ramp up slowly until such time as we are able to build the commercial capabilities necessary to drive more widespread adoption. Until such time as we ramp up our Biosurgery manufacturing activities to fully utilize our manufacturing facilities, our costs to manufacture these products are likely to vary significantly.

Revenues from Collaborative Research Agreements and Royalties

Revenues from collaborative research agreements and royalties were $3.8 million for the nine months ended September 30, 2012, compared to $30.9 million for the comparable period of fiscal 2011. We recognized the final $3.3 million in revenue from our collaborative agreement with Genzyme during January 2012 and approximately $443,000 of royalty revenues and cost reimbursement under our adult

Table of Contents

expanded access program. All of the revenue from the JDRF collaboration had been recognized prior to 2012. Revenues for the nine months ended September 30, 2011 consisted primarily of $30.0 million from the Genzyme agreement, $720,000 from the JDRF collaboration, and approximately $141,000 of royalty revenues and cost reimbursements from our expanded access program for adult acute Graft versus Host Disease.

Research and Development Expenses

Research and development expenses for the nine months ended September 30, 2012 were $11.0 million as compared to research and development expenses of $14.9 million for the same period of 2011, as follows:

	Nine Months Ended September 30,
	2012		2011
	($000)		($000)
Therapeutics	$	7,414	$	12,520
Biosurgery	3,604		2,418

	$	11,018	$	14,938

The decrease in research and development expenses in our Therapeutics segment in the first three quarters of fiscal 2012 compared to the same period in fiscal 2011 reflects lower expenses in our acute myocardial infarction clinical trial, which was fully enrolled in the third quarter of 2011, resulting in lower patient and site costs since then and reduced activity in our Crohn’s disease clinical trial. The increase in research and development expenses in our Biosurgery segment in fiscal 2012 when compared to the same period of fiscal 2011 reflects our increased process improvement efforts and development expenses incurred in exploring additional products to bring to market and the enrollment of the clinical trial required for to obtain cost reimbursement for Grafix.

General and Administrative Expenses

General and administrative expenses were $4.5 million for the nine months ended September 30, 2012 compared to $6.4 million for the corresponding period in fiscal 2011. We incurred $1.4 million of sales, general and administrative expenses related to our Biosurgery segment during the period, compared to $638,000 in the corresponding period of fiscal 2011. The increase in our Biosurgery related general and administrative expenses reflects the additional sales, marketing and commission expenses incurred as we increase our distribution efforts. General and administrative expenses incurred in our Therapeutics segment during the first nine months of fiscal 2012 were $3.1 million compared to $5.8 million in the corresponding period of fiscal 2011, which included $1.7 million of non-cash compensation expense related to the extension of the expiration date of a Warrant held by the chairman of our board of directors. The remaining decrease is the result of our continued cost cutting efforts and the refinement of many of our general business processes.

Other Income, Net

Other income, net, was $52,000 for the nine months ended September 30, 2012, compared to $80,000 in the corresponding period in fiscal 2011. Our investments available for sale consist primarily of short-term, investment grade securities with a focus on avoiding market risk. During the third quarter of 2012, we entered into a capital lease for the acquisition of copier and printing equipment. We incurred $1,000 of interest expense in connection with this lease.We did not incur any interest expense in 2011.

Benefit (Provision) for Income Taxes

During the nine months ended September 30, 2012, we filed our 2011 income tax returns and received the refunds of taxes paid in prior years. In connection with these refunds, we trued-up our income accounts by recognizing an aggregate tax benefit of $37,000. This includes $32,000 recognized in the second quarter and an additional $5,000 recognized in the third quarter. Similarly, during the nine months ended September 30, 2011, we filed our fiscal 2010 income tax returns and recognized income tax expense of $43,000 when truing up our short-term deferred tax asset to the amounts reported in our fiscal 2010 income tax returns.

Other Comprehensive (Loss) Income

Our other comprehensive (loss) income consists of the unrealized gain or loss on our investments available for sale when they are marked-to-market at the end of each reporting period. During the first nine months of fiscal 2012, we recognized unrealized gains of $10,000 compared to unrealized losses of $9,000 during the comparable period of fiscal 2011.

Liquidity and Capital Resources

Liquidity

At September 30, 2012, we had $37.2 million in cash and investments available for sale. We have not had any outstanding debt at any time since fiscal 2008. Although there can be no assurance, we believe that we have sufficient liquidity on hand as of September 30, 2012 to fund our operations until we become cash flow positive through operations.

Table of Contents

Cash Flows

Comparison of Nine Months Ended September 30, 2012 and 2011

Net cash used in operating activities for the nine months ended September 30, 2012 was $10.1 million compared to $15.8 million in the corresponding fiscal period of the prior year. The net loss of $8.5 million in the first nine months of 2012 was increased by the final amortization of deferred revenue, which was partially offset by $1.5 million of non-cash expenses and cash provided by other decreases in working capital. Net cash used in operating activities during the first nine months of 2011 reflect our net income of $9.8 million, which was offset primarily by the amortization of deferred revenue and reductions in accounts payables and accrued expenses. Non-cash expenses incurred during the first three quarters of 2011 were $3.6 million, which includes a $1.7 million charge related to the extension of the expiration date of an outstanding warrant.

Cash provided by investing activities during the first nine months of 2012 was $9.4 million compared to $15.7 million in the comparable period in 2011. Cash provided by investing activities during both fiscal periods was primarily the result of the net sales of investment available for sale in order to provide funds for operating activities.

Capital Resources

Our future capital requirements will depend on many factors, including:

· the scope and results of our research and preclinical development programs;

· the scope and results of our clinical trials, particularly regarding the number of patients required for our Phase 3 trials;

· the timing of and the costs involved in obtaining regulatory approvals for our biologic drug candidates, which could be more lengthy or complex than obtaining approval for a new conventional drug, given the FDA’s limited experience with late-stage clinical trials and marketing approval for stem cell therapeutics;

· the costs of maintaining, expanding and protecting our intellectual property portfolio, including possible litigation costs and liabilities; and

· the costs of expanding our work force consistent with expanding our business and operations.

Off-Balance Sheet Arrangements.

We have no off-balance sheet financing arrangements and we have not entered into any transactions involving unconsolidated subsidiaries or special purpose entities.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Interest Rate Risk

Due to the short duration of our investment portfolio and the high quality of our investments, an immediate 10% change in interest rates would not have a material effect on the value of our portfolio. Therefore, we would not expect our operating results or cash flows to be affected to any material degree by the effect of a sudden change in market interest rates on our securities portfolio.

We believe that the interest rate risk related to our accounts receivable is not significant. We manage the risk associated with these accounts through periodic reviews of the carrying value for non-collectability and establishment of appropriate allowances in connection with our internal controls and policies.

Foreign Currency Exchange Rate Risk

We conduct clinical trial activities in areas that operate in a functional currency other than the United States dollar (USD). As a result, when the USD rises and falls against the functional currencies of these other nations, our costs will either increase or decrease by the relative change in the exchange rate. Foreign currency gains and losses were not significant during the nine months ended September 30, 2012 or 2011, and at the present time, we have elected not to hedge our exposure to foreign currency fluctuations.

Derivative Instruments

We do not enter into hedging or derivative instrument arrangements.

Table of Contents

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures. An evaluation of the effectiveness of the design and operation of our “disclosure controls and procedures” (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended), as of the end of the period covered by this Quarterly Report on Form 10-Q was made under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Based upon this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures (a) are effective to ensure that information required to be disclosed by us in reports filed or submitted under the Securities Exchange Act of 1934 is timely recorded, processed, summarized and reported and (b) include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in reports filed or submitted under the Securities Exchange Act of 1934 is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting. There have not been any changes in our internal control over financial reporting that occurred during the quarter ended September 30, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

Item 1. Legal Proceedings.

From time to time, we receive threats or may be subject to routine litigation matters related to our business. However, we are not currently a party to any material pending legal proceedings.

Item 1A. Risk Factors.

There have not been any material changes in the risk factors previously disclosed under the heading “Risk Factors” in Part I — Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2011 as filed with the Securities and Exchange Commission on March 14, 2012.

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

None.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

None.

Item 5. Other Information.

None.

Item 6. Exhibits.

Exhibit Number		Description of Exhibit

31.1.1*		Certification of Principal Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as amended (Section 302 of the Sarbanes-Oxley Act of 2002).

31.2.1*		Certification of Principal Financial Officer pursuant o Rule 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as amended (Section 302 of the Sarbanes-Oxley Act of 2002).

32.1*		Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101		The following materials from the Registrant’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2012, formatted in Extensible Business Reporting Language (XBRL), include: (i) the Condensed Statements of Income, (ii) the Condensed Balance Sheets, (iii) the Condensed Statements of Cash Flows, and (iv) related notes (furnished herewith).

	Osiris Therapeutics, Inc.

Date: November 9, 2012	/s/ PHILIP R. JACOBY, JR.
	Philip R. Jacoby, Jr.
	Chief Financial Officer (Principal Financial Officer)

Date: November 9, 2012	/s/ MATTHEW NEUMAYER
	Matthew Neumayer
	Corporate Controller (Principal Accounting Officer)

		Page
PART I — FINANCIAL INFORMATION		3

Item 1.	Financial Statements	3
	Condensed Balance Sheets — September 30, 2012 (Unaudited) and December 31, 2011	3
	Condensed Statements of Operations and Comprehensive (Loss) Income — three and nine months ended September 30, 2012 and 2011 (Unaudited)	4
	Condensed Statement of Stockholders’ Equity— nine months ended September 30, 2012 (Unaudited)	5
	Condensed Statements of Cash Flows — nine months ended September 30, 2012 and 2011 (Unaudited)	6
	Notes to Condensed Financial Statements	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	24

Item 4.	Controls and Procedures	25

PART II — OTHER INFORMATION		25

Item 1.	Legal Proceedings	25
Item 1A.	Risk Factors	25
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	25
Item 3.	Defaults Upon Senior Securities	25
Item 4.	Mine Safety Disclosures	25
Item 5.	Other Information	25
Item 6.	Exhibits	25

Signatures		26

Exhibit Index