Osiris shares rose 14 percent to $6.00 in extended trading after the news was announced.

Graft versus host disease (GvHD) is a potentially deadly complication from a bone marrow transplant, when newly implanted cells attack the patient's body. Symptoms range from abdominal pain and skin rash to hair loss, hepatitis, lung and digestive tract disorders, jaundice and vomiting.

The disease kills up to 80 percent of children affected, Osiris said. To date there have been no approved treatments for the disease. Canadian authorities approved the therapy, Prochymal, for use in children who have failed to respond to steroids.

Prochymal was approved with the condition that Osiris carry out further testing after it reaches the market. C. Randal Mills, the company's chief executive, said in an interview that could take three to four years.

Some investment analysts have been skeptical about Prochymal's future. In 2009, two late-stage clinical trials failed to show the drug was more effective overall than a placebo in treating the disease, though it showed promise in certain subgroups of patients.

Since then, the company has mined data from all its clinical trials to show that in patients with severe refractory acute GvHD -- those who have more or less failed all other therapies -- Prochymal demonstrated a clinically meaningful response at 28 days after therapy began in 61-64 percent of patients.

In addition, treatment with Prochymal resulted in a statistically significant improvement in survival when compared with a historical control population of pediatric patients with refractory GvHD.

The Canadian authorities approved the drug on the basis of that data, the company said.

FDA SUBMISSION THIS YEAR

Osiris, which is based in Columbia, Maryland, plans to apply for marketing authorization with the U.S. Food and Drug Administration by the end of this year, including the newly-analyzed information. Mills said that if the FDA were to approve the drug, he would expect it to be on similarly conditional terms as outlined by the Canadian authorities.

In general, the FDA does not approve drugs based on subset analyses.

Prochymal is made up of bone marrow stem cells derived from an adult donor and is designed to control inflammation, promote tissue regeneration and prevent scar formation. It is not entirely clear how it works to help patients with GvHD, of which there are between 3,500 to 4,000 worldwide, Mills said.

Osiris said it will receive at least eight years of exclusivity in the Canadian market. But competition is heating up elsewhere.

Athersys Inc said last month it had met with the FDA to discuss the results of a recently completed clinical trial of its MultiStem stem cell treatment to prevent GvHD in patients being treated for leukemia or other conditions that place them at risk of the complication.

Dozens of adult stem cell therapies are moving through clinical trials, and Canada's approval of Osiris's drug will likely boost optimism in the sector. Stem cells derived from adult tissue such as fat or bone marrow circumvent the ethical concerns raised by the use of cells derived from embryos.

In 2008, Genzyme Corp, which is now owned by Sanofi SA, paid $130 million to Osiris and agreed to pay up to $1.25 billion more if Prochymal and another Osiris drug, Chondrogen, designed to repair tissue in damaged knees, reached the market and achieved certain sales levels.

In February, Sanofi said it had discontinued its project with Prochymal. Osiris said the statement was issued without its consultation and that it had not received notice from Sanofi regarding the discontinuation. However, the company said that the agreement between the two companies provides that in this instance all rights to Prochymal revert to Osiris without compensation to Sanofi.

(Reporting By Toni Clarke; Editing by Tim Dobbyn, Bernard Orr)

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