<PAGE>
As filed with the Securities and Exchange Commission on September 3, 1999.
Registration No. 33-85833
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------
AMENDMENT NO. 1
TO
FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
----------------
CONNETICS CORPORATION
(Exact name of Registrant as specified in its charter)
<TABLE>
<S> <C> <C>
Delaware 3400 West Bayshore Road 94-3173928
(State or other jurisdiction of Palo Alto, CA 94303 (I.R.S. Employer
incorporation or organization) (650) 843-2800 Identification Number)
</TABLE>
(Address, including zip code, and telephone number, including area code, of the
Registrant's principal executive offices)
----------------
Thomas G. Wiggans
President and Chief Executive Officer
Connetics Corporation
3400 West Bayshore Road
Palo Alto, CA 94303
(650) 843-2800
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
----------------
Copies to:
<TABLE>
<S> <C>
Christopher D. Mitchell, Esq. Richard R. Plumridge, Esq.
Jason Altieri, Esq. Arun Jha, Esq.
Terence Roberts, Esq. Brobeck, Phleger & Harrison LLP
Wilson Sonsini Goodrich & Rosati 370 Interlocken Blvd., Suite 500
Professional Corporation Broomfield, Colorado 80021
650 Page Mill Road (303) 410-2000
Palo Alto, California 94304
(650) 493-9300
</TABLE>
----------------
Approximate date of commencement of proposed sale to the public: As soon as
practicable after the effective date of this Registration Statement.
If the only securities being registered on this Form are being offered
pursuant to dividend or interest reinvestment plans, please check the following
box. [_]
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, other than securities offered only in connection with dividend or
interest reinvestment plans, check the following box. [_]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
If delivery of this prospectus is expected to be made pursuant to Rule 434,
please check the following box. [_]
----------------
The Registrant hereby amends this registration statement on such date or
dates as may be necessary to delay its effective date until the Registrant
shall file a further amendment which specifically states that this registration
statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933, as amended, or until the registration statement
shall become effective on such date as the SEC, acting pursuant to said Section
8(a), may determine.
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<PAGE>
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+The information in this preliminary prospectus is not complete and may be +
+changed. These securities may not be sold until the registration statement +
+filed with the Securities and Exchange Commission is effective. This +
+preliminary prospectus is not an offer to sell nor does it seek an offer to +
+buy these securities in any jurisdiction where the offer or sale is not +
+permitted. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
PRELIMINARY PROSPECTUS
Subject to completion, dated September 3, 1999
- --------------------------------------------------------------------------------
4,000,000 Shares
Common Stock
- --------------------------------------------------------------------------------
We are offering 4,000,000 shares of our common stock to be sold in this
offering.
Our common stock is quoted on the Nasdaq National Market under the symbol
"CNCT." On September 2, 1999, the last reported sale price of our common stock
was $5.25 per share.
Before buying any shares you should read the discussion of material risks of
investing in our common stock in "Risk Factors" beginning on page 5.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if
this prospectus is truthful or complete. Any representation to the contrary is
a criminal offense.
<TABLE>
<CAPTION>
Per
Share Total
- -----------------------------------------------------------
<S> <C> <C>
Public offering price $ 5.25 $21,000,000
- -----------------------------------------------------------
Underwriting discounts and commissions $ .34 $ 1,365,000
- -----------------------------------------------------------
Proceeds, before expenses, to Connetics $ 4.91 $19,635,000
- -----------------------------------------------------------
</TABLE>
The Underwriters may also purchase up to 600,000 shares of common stock from us
at the offering price, less the underwriting discounts and commissions, within
30 days from the date of this prospectus. This option may be exercised to cover
over-allotments, if any. If the option is exercised in full, the total
underwriting discounts and commissions will be $1,569,750, and the total
proceeds, before expenses, to Connetics will be $22,580,250.
The Underwriters are offering the common stock as set forth under
"Underwriting." Delivery of the shares will be made on or about ,
1999.
Warburg Dillon Read LLC
Hambrecht & Quist
Raymond James & Associates, Inc.
<PAGE>
Connetics(R), Ridaura(R), ConXn(R), and the interlocking globe design are
registered trademarks of Connetics. We also own the trademarks Luxiq(TM) and
OLUX(TM). ACTIMMUNE(R) is a registered trademark of Genentech, Inc. All other
trademarks or service marks appearing in this prospectus are the property of
their respective companies.
<PAGE>
Prospectus Summary
- --------------------------------------------------------------------------------
This summary highlights certain information contained elsewhere in this
prospectus. You should read the entire prospectus carefully, especially the
risks of investing in our common stock discussed under "Risk Factors." Except
as otherwise noted, all information in this prospectus assumes no exercise of
the Underwriters' over-allotment option. References in this prospectus to
"Connetics," "the Company," "we," "our" and "us" refer to Connetics
Corporation, a Delaware corporation. Our principal executive offices are
located at 3400 West Bayshore Road, Palo Alto, CA 94303. Our telephone number
is (650) 843-2800.
Our Business
We are a pharmaceutical company focused on late-stage product development and
commercialization for dermatology and other specialty medical markets. We
believe we have a competitive advantage due to our focused marketing and sales
force, our expertise in developing products in an efficient manner, and our
commitment to pursuing the development and commercialization of innovative
products with significant commercial potential. We currently market three
products, and our goal is to continue to increase revenues with our existing,
as well as future, products. The status of our development and
commercialization activities is as follows:
Dermatology products:
. Luxiq foam--marketed for the treatment of mild to moderate scalp
dermatoses
. OLUX foam--new drug application submitted for the treatment of
moderate to severe scalp dermatoses
. Ketoconazole foam--in development for the treatment of topical
fungal diseases
ConXn (recombinant human relaxin) development programs:
. Scleroderma--Phase II/III trial ongoing
. Infertility--Phase I/II trials scheduled to begin in late 1999
. Peripheral vascular disease and organ fibroses--preclinical
development ongoing
Other commercialized products:
. Ridaura--marketed for the treatment of rheumatoid arthritis
. Actimmune--marketed for the treatment of infections resulting from
chronic granulomatous disease, a rare congenital autoimmune disease
Our Dermatology Products and Markets
We believe that the prescription dermatology market offers an attractive
opportunity in the pharmaceutical industry because it is a large market with
annual U.S. sales of approximately $2.7 billion comprised mostly of products
with annual sales of less than $50 million per product. Due to several factors
including industry consolidation, pricing and profit pressures and the high
cost of developing new drugs, major pharmaceutical companies are increasingly
focusing on products and markets that offer the potential for higher revenues.
This shift presents an attractive commercial opportunity for a focused,
specialty pharmaceutical company, like us, to establish a meaningful presence
and to build market share.
1
<PAGE>
We believe there is substantial opportunity for product innovation in the
dermatology sector. Many existing therapies have limited efficacy due to poor
delivery vehicles or due to unappealing cosmetic attributes that discourage
patient compliance. As a result, dermatologists and their patients are highly
responsive to new methods of applying topical therapies. We are committed to
developing and bringing to market products that offer both superior delivery
properties and cosmetic elegance. For example, we are developing a family of
products based on a proprietary foam delivery vehicle. We believe that our
foam-based dermatology products offer significant advantages over conventional
therapies. These advantages include improved efficacy due to higher absorption
and more localized delivery of the active agent. In addition, the foam is
cosmetically elegant as it is non-staining, non-greasy and quick drying. All of
these factors may lead to increased patient compliance. By capitalizing on
product innovation like our foam technology, we believe we can capture market
share from existing products and provide products for patients who otherwise
may not seek treatment.
Luxiq, which is marketed, and OLUX, which is awaiting FDA clearance, are
unique foam formulations of currently marketed topical steroids. The 1998
annual U.S. sales for mid, high and super-high potency steroid products were
approximately $640 million. Our other foam product in development, ketoconazole
foam, is a topical anti-fungal drug. The 1998 annual sales in the United States
for all topical anti-fungal products were approximately $500 million.
The dermatology market, like other specialty medical markets, is comprised of
a relatively small number of treating physicians. In the United States,
approximately 6,000 dermatologists account for 90% of prescriptions written by
dermatologists. We believe this concentrated physician base enables us to
effectively address the market with a focused sales and marketing force. We
have a well trained, highly experienced, 52 person sales and marketing
organization, which we believe is a major asset. We are committed to
commercializing products in the United States through our own sales and
marketing activities and providing top quality, consumer-oriented promotional
support for our products. In doing so, we are establishing a strong presence in
the dermatology community and working to build a substantial commercial
operation.
Our ConXn Development Programs
In addition to our dermatology business, we believe the successful
development of ConXn represents a significant commercial opportunity. Relaxin
is a natural hormone known to help lessen the hardening or fibrosis of skin and
connective tissue and to stimulate new blood vessel growth. It may potentially
serve as a treatment for numerous indications. We are developing ConXn for the
treatment of scleroderma, infertility, peripheral vascular disease and organ
fibroses.
Our most advanced ConXn development program is for the treatment of
scleroderma. Scleroderma is a debilitating disease that may result in massive
hardening of the skin and organs and in its most severe form can be life
threatening. To our knowledge, ConXn is the only drug to produce statistically
significant efficacy in a Phase II, double-blinded, placebo-controlled trial
for treatment of the most serious form of scleroderma. We are currently
conducting a Phase II/III trial. We expect the trial enrollment to be completed
by the end of 1999 and to announce the results of the trial by the end of 2000.
We plan to commercialize ConXn in the United States ourselves, and we have
entered into corporate partnerships for the development and commercialization
of relaxin outside the United States with Medeva plc for Europe, Suntory Ltd.
for Japan and Paladin Labs, Inc. for Canada. Combined, these partnerships may
provide up to $52 million of license, development, milestone and equity
payments to us, plus royalties on future sales by our partners.
2
<PAGE>
Other Products
In addition, we currently market Ridaura and Actimmune, both of which provide
revenues and cash flows for us. Ridaura, acquired from the SmithKline Beecham
Corporation, was our first marketed product and provided an opportunity for us
to establish a sales and marketing organization. Actimmune, licensed from
Genentech, Inc., is being commercialized through an agreement with InterMune
Pharmaceuticals, Inc. While we will continue to market these products, we have
shifted our business focus to our dermatological products and ConXn.
3
<PAGE>
The Offering
The following information assumes that the Underwriters do not exercise the
option granted by us to purchase additional shares in the offering.
<TABLE>
<C> <S>
Common stock offered by us................. 4,000,000 shares
Common stock to be outstanding after the
offering.................................. 25,517,419 shares
Nasdaq National Market symbol.............. CNCT
Use of proceeds............................ For general corporate purposes,
including increasing
commercialization infrastructure,
expanding dermatology pipeline
through product in-license or
acquisition, broadening ConXn
development activities and
working capital.
</TABLE>
We are obligated to issue shares of our common stock upon exercise of options
and warrants outstanding at July 31, 1999, in addition to the shares of common
stock to be outstanding after this offering. These shares, when issued, will
include:
. 3,355,356 shares of common stock reserved for issuance under our stock
option and stock purchase plans, of which 2,753,148 shares were issuable
upon exercise of outstanding options at July 31, 1999.
. 1,373,681 shares of common stock issuable upon exercise of outstanding
warrants and non-plan stock options at July 31, 1999.
Summary of Consolidated Financial Information
(in thousands, except per share data)
The "As Adjusted" balance sheet data reflect the receipt of the net proceeds
from the sale of 4,000,000 shares of our common stock at an assumed price to
the public of $5.25 per share, after deducting the underwriting discounts and
commissions and estimated offering expenses.
<TABLE>
<CAPTION>
Six Months Ended
Year Ended December 31, June 30,
----------------------------------------------- ------------------
1994 1995 1996 1997 1998 1998 1999
------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Consolidated Statement of
Operations Data:
Total revenues.......... $ -- $ -- $ 428 $ 6,803 $ 9,121 $ 4,819 $ 14,262
Operating loss.......... (7,753) (10,384) (18,761) (27,598) (26,099) (13,936) (10,830)
Net loss................ (7,850) (10,372) (18,514) (27,935) (26,595) (14,264) (10,714)
Basic and diluted net
loss per share......... $ -- $ (2.34) $ (2.71) $ (2.69) $ (1.61) $ (0.95) $ (0.50)
Shares used in computing
basic and diluted net
loss per share......... -- 4,434 6,825 10,412 16,533 15,081 21,235
</TABLE>
<TABLE>
<CAPTION>
June 30, 1999
-------------------
Actual As Adjusted
------- -----------
<S> <C> <C>
Consolidated Balance Sheet Data:
Cash, cash equivalents and short-term investments.......... $15,971 $35,156
Working capital............................................ 6,575 25,760
Total assets............................................... 25,244 44,429
Debt and capital lease obligations, less current portion... 3,467 3,467
Total stockholders' equity................................. 8,052 27,237
</TABLE>
4
<PAGE>
RISK FACTORS
- --------------------------------------------------------------------------------
You should carefully consider the risks described below together with all of
the other information included in or incorporated by reference into this
prospectus before making an investment decision. The risks and uncertainties
described below are not the only ones we face. If any of the following risks
actually occurs, our business, financial condition or results of operation
could be harmed. In that case, the trading price of our common stock could
decline, and you may lose all or part of your investment.
Our future revenues depend on Luxiq, a recently introduced product, and OLUX,
for which we have submitted a new drug application. If these products fail to
gain acceptance with dermatologists and patients, our business will be harmed.
We received marketing clearance from the U.S. Food and Drug Administration
(FDA) in March 1999 for the use of Luxiq to treat mild to moderate scalp
dermatoses. In July 1999, we submitted a new drug application to the FDA for
OLUX, a product for the treatment of moderate to severe scalp dermatoses. We
will not be able to begin selling OLUX in the United States unless and until we
receive FDA approval to market this drug. Our future revenues will depend upon
dermatologist and patient acceptance of Luxiq, and OLUX if it receives
regulatory clearance. Factors that could affect acceptance of Luxiq and OLUX
include:
. satisfaction with existing alternative therapies;
. the effectiveness of our sales and marketing efforts;
. undesirable and unforeseeable side effects; and
. the cost of the product as compared with alternative therapies.
Since Luxiq was only recently introduced, we will need additional sales
history before we can complete a meaningful assessment of the acceptance of
Luxiq into the U.S. dermatology market. OLUX must receive FDA clearance before
we can sell in the United States, and, accordingly, we will be unable to assess
acceptance of OLUX until we begin commercial sales. If Luxiq and OLUX do not
achieve or sustain market acceptance, our revenues will not increase and our
business, financial condition and results of operations will be adversely
affected.
Our future success is dependent upon our ability to demonstrate clinical
efficacy of, obtain regulatory approval for and commercialize ConXn, our
recombinant human relaxin product.
ConXn, the recombinant human relaxin product that we are developing, is
critical to our future success. We initiated a 200-patient, Phase II/III trial
of ConXn for the treatment of diffuse scleroderma in February 1999. In order to
complete the development of ConXn, we will need, at a minimum, to:
. demonstrate the safety and efficacy of ConXn in this clinical study; and
. submit a biologic license application to the FDA for the purpose of
obtaining approval to market ConXn in the United States.
We cannot assure you that the current ConXn clinical trial will be successful
or that we will be able to submit a biologic license application for ConXn.
Furthermore, even if the clinical data support the submission of a biologic
license application, we cannot assure you that the FDA will
5
<PAGE>
approve this application for the indications for which we submit or at all.
Furthermore, we may encounter unforeseen delays in the regulatory approval
process.
If we are able to demonstrate the safety and efficacy of ConXn and obtain FDA
approval, our ability to commercialize ConXn will also depend upon additional
factors including the following:
. our ability to secure reliable, cost effective manufacturing for ConXn;
and
. the ability of ConXn to generate market acceptance among physicians and
patients.
If we are unable to complete the development of and obtain regulatory
approval for ConXn and successfully introduce ConXn, our future prospects and
results of operations would be materially and adversely affected.
We have additional development objectives that we need to achieve with respect
to ConXn, including development of alternative delivery systems, and our
current supplies of ConXn are limited.
In addition to demonstrating the safety and efficacy of ConXn in our current
clinical trial, we must meet several additional major development objectives
for ConXn. In particular, we may need to develop an alternative means of
delivering the drug. In the current clinical trials, ConXn is being delivered
through the use of an infusion pump. For a serious and life threatening
condition, such as diffuse scleroderma, this method of delivery may be
acceptable. However, we are pursuing other indications for ConXn, such as
treatment of infertility and peripheral vascular disease, which are not life
threatening conditions. For these indications, it will be necessary for us to
develop an alternative delivery system; however, the known biological
properties of the relaxin molecule may decrease the availability of certain
delivery systems. If we are not able to develop a suitable alternative delivery
system for ConXn, our ability to market ConXn for indications that are not life
threatening would be adversely affected. In this event, commercial potential of
ConXn would be materially and adversely affected.
We currently have limited availability of ConXn because we are exhausting
existing supplies in connection with our current clinical trial and our
contract manufacturer has not yet initiated larger scale manufacturing. We will
be unable to obtain additional supplies of ConXn until larger scale
manufacturing is initiated, which will limit the number and extent of ConXn
clinical studies we can conduct in the near term.
We acquire and commercialize late-stage development and marketed products. Our
failure to successfully acquire, develop and exploit these products may
materially harm our business.
A significant part of our overall strategy is to exclusively license or
acquire marketed or late-stage development products in our targeted therapeutic
areas. The acquisitions of rights to our products (Luxiq, OLUX, Actimmune, and
Ridaura) reflect this strategy. Competition to acquire potentially attractive
products is likely to be intense, and we may not be able to acquire products in
the future on acceptable terms, in which case our future revenues and results
of operations may be adversely affected.
Some of the products we acquire cannot be commercialized until we obtain
regulatory clearance. If we are unable to obtain regulatory approvals, or if
approvals take longer than anticipated to obtain or if we are limited in the
marketing or labeling claims we are permitted to make, our business would be
harmed. If we are unable to effectively manage the integration of acquired
products into our
6
<PAGE>
product line or to market and sell such products successfully, our revenues
will not grow or may decline and our results of operations will be harmed. In
addition, if newly-acquired products do not achieve the clinical or marketing
results that we expect of them at the time of acquisition or if any of our
licenses are terminated, our business will be harmed.
We have a history of losses and have only recently begun to market products. As
a result, our ability to achieve and sustain profitability is highly uncertain.
We have incurred operating and net losses every year since our inception. We
had net losses of $26.6 million in 1998 and $10.7 million in the six months
ended June 30, 1999. Our accumulated deficit was $103.2 million at June 30,
1999. We expect to incur additional losses for at least the next few years. We
cannot assure you that we will achieve profitability and, if we do reach
profitability, we may not be able to sustain it. Our ability to reach, and
sustain profitability, will depend upon the success of our current products and
our products under development.
In particular, if our current ConXn clinical trial is successful, we would
incur significant additional expenditures associated with pursuing regulatory
approval and eventual commercialization of ConXn which would extend the date as
of which we could first achieve profitability. If we are unable to successfully
complete development and commercialization of ConXn, we may never achieve
profitability.
Future sales of shares of common stock by large stockholders could lower the
market price for our common stock.
A significant percentage of our shares are held by large stockholders that
include venture capital and other private institutional investors, companies
with whom we have product development collaborations and companies from whom we
have acquired technology or products. In most cases, the holders of these
shares can resell them in the public securities markets under Securities and
Exchange Commission Rule 144 or under an effective registration statement or
are entitled to require us to register their securities for resale.
Accordingly, we cannot control the timing of sales of shares of our common
stock by these stockholders, and one or more of these stockholders may seek to
sell a large block of shares of our common stock at any time. In addition,
since certain of these stockholders are companies rather than financial
investors, they may have objectives with respect to their interest in us that
may differ from those of purely financial investors. Any sale or attempted sale
of a large block of shares of our common stock, particularly in light of the
trading volume in our common stock, would likely cause the market price of our
common stock to decline significantly.
Because our product line is new and limited, our future success is difficult to
predict and revenues may fluctuate from period to period.
We have a new and limited product line whose market acceptance remains
uncertain. As a result, our quarterly and annual operating results are
difficult to predict and may fluctuate significantly in the future depending on
factors such as:
. the timing of market acceptance of our products;
. the timing and shipment of orders for Luxiq, Ridaura and Actimmune;
. changes in competitors' pricing policies;
. the mix of distribution channels through which current and future
products are sold; and
. our ability to obtain sufficient raw materials and an effective supply
chain for our products.
7
<PAGE>
After this offering is completed, we may need to raise additional funds. If we
are unable to raise additional funds when needed, our business will suffer.
We believe that the net proceeds of this offering, together with our existing
cash, cash equivalents, short term investments and product and contract
revenues, will be sufficient to fund our operating and working capital
requirements for at least the next 18 months. Accordingly, we may need to raise
additional funding after this offering. In particular, if our ConXn clinical
trial is successful, our working capital needs will increase as we will incur
additional regulatory and commercialization expenses for ConXn. In this event,
we would need to raise additional funds. Alternative financing strategies may
include, but are not limited to:
. equity or debt offerings;
. partnering relationships with larger pharmaceutical companies; and
. debt and lease instruments, including bank credit facilities and capital
and operating leases.
In addition, if we do not raise the full amount contemplated in this
offering, it is likely that we may need to raise additional funds sooner than
anticipated. If we are unable to raise additional funds when needed, we may not
be able to market our products as planned, or continue development of our other
products, which would materially and adversely affect our business, financial
condition and results of operations.
If we need to raise additional money to fund our operations, we cannot be
certain that funding from any source will be available to us on acceptable
terms, or at all. The amount and the timing of raising additional funds will
depend primarily upon our ability to obtain needed regulatory clearances and
generate revenues from the sale of our products now approved or currently in
development. Our inability to obtain any additional funding on reasonable terms
would cause our business, financial condition and results of operations to
suffer.
We rely on corporate partners to fund the development of our product
development. The failure of our partners to fund our products will harm our
business.
We depend on licensing agreements with our corporate partners in order to
successfully develop and commercialize our products. We also generate revenue
by licensing out our products to third parties for specific territories and
indications. This reliance on third parties for our current and future success
carries several risks, including the possibilities that:
. a product development contract may expire or a relationship may be
terminated, and we will not be able to attract a satisfactory alternative
partner within a reasonable time;
. a partner involved in the development of our products does not commit
sufficient capital to successfully develop our products; and
. we may be contractually bound to terms that, in the future, are not
commercially favorable to us.
If any of these risks actually occur, our business, financial condition and
results of operations will be harmed.
Our stock price is volatile and the value of your investment could decline
significantly.
The market prices for securities of pharmaceutical and biotechnology
companies, particularly such companies with market capitalizations below $500
million, have been and are likely to continue
8
<PAGE>
to be highly volatile. The following factors may have a significant impact on
the market price of our common stock:
. announcements of technological innovations or new commercial products by
us or our competitors;
. developments concerning the progress of our clinical trials, including,
in particular, clinical trials of ConXn;
. publicity regarding actual or potential medical results relating to
products under development by us or our competitors;
. competitive developments, including the introduction of products by our
competitors that render our marketed products or products under
development obsolete or less competitive;
. regulatory developments in the United States and foreign countries;
. changes in the recommendations of securities market analysts regarding
our securities and others in our sector;
. public concern as to the safety of biotechnology products; and
. economic and other external factors.
The above factors may cause our stock price to fluctuate and the value of
your investment may decline significantly.
Clinical trials are inherently unpredictable and our failure to successfully
implement and complete them will harm our business.
Before any company can obtain regulatory approval for the commercial sale of
its products under development, it must demonstrate through preclinical studies
and clinical trials that the product is safe and effective for use in the
target indication for which approval is sought. The results from preclinical
studies and early clinical trials may not be predictive of results that will be
obtained in later-stage testing. In particular, there can be no assurance that
our current ConXn trial or future clinical trials will demonstrate the safety
and efficacy of any products or will result in approval to market products. A
number of companies in the pharmaceutical and biotechnology industries have
suffered significant setbacks in advanced clinical trials, even after promising
results from earlier trials.
In February 1999, we commenced a Phase II/III trial of ConXn for the
treatment of diffuse scleroderma, and in July 1999 we filed an investigational
new drug application to commence clinical trials of ConXn for the treatment of
infertility. We cannot be certain that we will be able to start any future
trials or successfully complete them once started. If we are unable to commence
clinical trials as planned, complete the clinical trials or demonstrate the
safety and efficacy of our products, our business will be harmed. Even if a
product from our research and development programs performs favorably in
clinical trials, the FDA may not approve it.
In addition, because we will, in a number of cases, rely on contractual
rights to access data collected by other companies in clinical trials, we are
dependent on the continued satisfaction by such parties of their contractual
obligations to provide such access and cooperate with us in the execution of
successful filings with the FDA. There can be no assurance that the FDA will
permit such reliance. If we are unable to rely on clinical data collected by
others, we could be required to repeat clinical trials, which could
significantly delay commercialization, and require significantly greater
capital.
9
<PAGE>
Moreover, the rate of completion of clinical trials is dependent upon, among
other factors, the rate of patient enrollment. Patient enrollment is a function
of many factors, including the size of the patient population, the nature of
the protocol, the proximity of patients to clinical sites and the eligibility
criteria for the study. Delays in planned patient enrollment in our clinical
trials may result in increased costs and delays, which could have a material
adverse effect on us.
If we are unable to commence clinical trials as planned, complete the
clinical trials or demonstrate the safety and efficacy of our products in these
clinical trials, our business, financial condition and results of operations
will be materially and adversely affected.
If we do not obtain governmental approvals for our products in development, we
cannot sell these products, which would significantly harm our business.
Products developed by the pharmaceutical and biotechnology industries are
subject to extensive regulation by the FDA under the Food Drug and Cosmetic
Act. All of our products under development will require regulatory approval by
the FDA before we are permitted to sell them in the United States. In order to
do so, we must show in preclinical and clinical trials that our products are
safe and effective, which cannot be guaranteed. The results from such studies
may not be predictive of results that will be obtained in later-stage testing.
Clinical trial data can be the subject of differing interpretation. We cannot
assure you that the FDA will interpret our clinical data the way we do, or that
the FDA will not require additional clinical data to support approval.
After we complete the clinical trials for a product, we will be required to
file a new drug application, if the product is classified as a new drug, or a
biologic license application, if the product is classified as a biologic, which
is a drug based on natural substances. The requirements for submission of such
applications and the approval processes on the part of the FDA require
substantial time and effort, and there can be no assurance that any approval
will be granted on a timely basis if at all. The FDA can take between one and
two years to review new drug applications and biologic license applications or
longer if significant questions are raised during the review process. In
addition, delays or rejections may be encountered during FDA review. We can not
assure you that even after such time and expenditures, regulatory approval will
be obtained. If regulatory approval of a product is granted, it may limit the
indicated uses for which the product may be marketed.
In order to market our products in countries outside of the United States we
and our partners are required to obtain similar approvals from foreign
regulatory bodies. The process of obtaining these approvals is time consuming
and requires the expenditure of substantial resources, and we may encounter
similar delays, rejections, requests for additional data, and other setbacks
with regulatory authorities in other countries as we face in the United States.
If any of these risks occur, our business, financial condition or results of
operations would be materially and adversely affected.
If we fail to maintain governmental approvals our business will suffer.
If we get approval, whether in the United States or internationally, we will
continue to be subject to extensive regulatory requirements. These regulations
are wide ranging and govern, among other things:
. adverse drug experience reporting regulations;
. product promotion;
. product manufacturing, including good manufacturing practice
requirements; and
. product changes or modifications.
10
<PAGE>
If we fail to comply or maintain compliance with such laws and regulations,
we may be fined and barred from selling our products. If the FDA believes that
we are not in compliance with the law, it can:
. retain or seize our products;
. mandate a recall;
. stop future violations through injunctive procedures; and
. assess civil and criminal penalties against us.
We depend on third parties to manufacture our products. These parties must
comply with the applicable FDA good manufacturing practice regulations, which
include quality control and quality assurance requirements as well as the
corresponding maintenance of records and documentation. Manufacturing
facilities are subject to ongoing periodic inspection by the FDA and
corresponding state agencies, including unannounced inspections, and must be
licensed before they can be used in commercial manufacturing of our products.
We cannot assure you that our present or future suppliers will be able to
comply with the applicable good manufacturing practice regulations and other
FDA regulatory requirements. After regulatory approvals are obtained, later
discovery of previously unknown problems or failure to comply with the
regulatory requirements may result in restrictions on the marketing of a
product, withdrawal of the product from the market, seizures, injunctions, or
criminal sanctions.
If we cannot adequately protect our patent and proprietary rights, our business
will suffer.
Our success will depend in part on our ability and the ability of our
licensors to obtain patent protection for our technology and processes, to
preserve our trade secrets, and to operate without infringing the proprietary
rights of third parties. We own or have exclusively licensed pending
applications and/or issued patents worldwide relating to the technology of all
three of our programs as well as technology in earlier stages of research.
The foam technology used in our Luxiq and OLUX products is not covered by
issued patents in the United States or any other country but is the subject of
pending patent applications. In the event that we do not obtain patent coverage
for Luxiq and OLUX, it may be easier and more attractive for potential new
market entrants to develop and introduce competitive products, which could
materially and adversely affect our business, financial condition and results
of operations.
With regard to patent applications filed by us or our licensors or patents
issued to us or our licensors, we cannot assure you that:
. any of our or our licensors' patent applications will issue as patents;
. our competitors will not successfully challenge or circumvent our
patents; or
. any patents which exist or are issued will provide competitive advantage
to us.
In addition, others may obtain patents that contain claims having a scope
that covers products or processes that we make, have made, use, or sell. If a
third party claimed an intellectual property right to technology we use, we
might be forced to:
. discontinue an important product or product line;
. alter our products or processes to avoid infringement;
11
<PAGE>
. pay license fees and/or damages; and
. cease certain activities.
Although we might under these circumstances attempt to obtain a license to
such intellectual property, we may not be able to do so on favorable terms, if
at all.
We cannot be certain that we would be successful in any attempt to redesign
our products or processes to avoid infringement.
Litigation or administrative proceedings, including interference proceedings
before the U.S. Patent and Trademark Office, may be necessary to enforce our
patent and proprietary rights and/or to determine the scope and validity of
others' patent and proprietary rights. A judgment adverse to us in any patent
interference, litigation or other proceeding arising in connection with these
patent applications could materially and adversely affect our business. In
addition, the costs of any such proceeding may be substantial whether or not we
are successful.
We are aware of other pending third party patent applications which, if
issued, might be asserted against our T-cell receptor, or TCR, vaccine
technology. We are also involved in a European Opposition against one of our
European patents that is related to TCR. Even though we are not pursuing
clinical development of TCR, we are continuing to incur both patent prosecution
and maintenance costs related to TCR.
In addition, the patent laws of foreign countries differ from those of the
United States and the degree of protection, if any, afforded by foreign patents
may be different.
Furthermore, with respect to our relaxin patent portfolio, one of the
European patents licensed to us was opposed by a third party. Our licensor
successfully defended the original Opposition, resulting in a decision in our
favor, but the decision has been appealed. We cannot assure you that the
original decision will be upheld.
We also rely on trade secrets and proprietary know-how. We require each of
our employees, consultants and advisors to execute a confidentiality agreement
providing that all proprietary information developed or made known to the
individual during the course of the relationship, will be kept confidential and
not used or disclosed to third parties except in specified circumstances. The
agreements also provide that all inventions conceived by an employee,
consultant or advisor, to the extent appropriate for the services provided
during the course of the relationship, shall be our exclusive property, other
than inventions unrelated to us and developed entirely on the individual's own
time. There can be no assurance, however, that these agreements will provide
meaningful protection or adequate remedies for misappropriation of our trade
secrets in the event of unauthorized use or disclosure of such information.
The strength of our patent portfolio depends on certain third parties.
We or our licensors are prosecuting patent applications both in the U.S.
Patent and Trademark Office and various foreign patent agencies for patents
that would cover technology we own or license. However, we do not know whether
any of our applications will result in the issuance of any patents, or whether
any issued patent will provide significant proprietary protection or will be
circumvented or invalidated.
Nearly all of our patent portfolio is licensed from third parties, who are
responsible to varying degrees for the prosecution and maintenance of those
patents. Our success will depend on our ability, or the ability of our
licensors, to obtain and maintain patent protection on technologies, to
preserve trade secrets, and to operate without infringing the proprietary
rights of others. Patent applications
12
<PAGE>
filed by us or on our behalf may not result in patents being issued or, if
issued, the patents may not afford protection against competitors with similar
technology. It is possible that before any of our products in development can
be commercialized, the related patents may have expired or be close to
expiration, thus reducing any advantage of the patent. Moreover, composition of
matter patent protection, which gives patent protection for a compound or a
composition, may not be available for some of our product candidates.
While we have taken reasonable steps to ensure that the patents licensed to
us are valid and enforceable, we cannot give any assurance that the patents, if
challenged, would be upheld. In addition, the patents in our relaxin patent
portfolio begin to expire in 2002 in foreign countries and 2005 in the United
States. While we and our licensors continue to file and prosecute patent
applications, there can be no assurance that any additional patents will issue,
or that they will be sufficient to protect our relaxin products.
Additionally, licenses with Genentech and the Florey Institute require us to
use our best efforts to commercialize relaxin. Our failure to successfully
commercialize relaxin may result in the reversion of our rights under these
licenses to Genentech and the Florey Institute. The termination of these
agreements and subsequent reversion of rights could materially and adversely
affect our business.
We are dependent upon third-party manufacturers and distributors for our
products. If they are unable or unwilling to produce or distribute our
products, our business results will suffer.
We have no manufacturing or distribution facilities for any of our products,
and we do not currently intend to develop any of these capabilities. We have
manufacturing agreements with the following companies:
. SmithKline for Ridaura;
. Consolidated Chemical Laboratories (Pvt.) Ltd. for Luxiq and OLUX;
. Boehringer Ingelheim Austria GmbH for relaxin; and
. Genentech for Actimmune.
If these third parties are unable or unwilling to produce our products in
sufficient quantities, with appropriate quality for our clinical trials and
subsequent commercialization, if any, and under commercially reasonably terms,
our business, financial condition and results of operations will suffer.
In addition, we have entered into an agreement with CORD Logistics, Inc. to
distribute Ridaura, Luxiq and Actimmune. If CORD were to become unable to
continue to distribute our products in an effective manner or if we were unable
to maintain sufficient personnel with the appropriate levels of experience to
manage this function, our business, financial condition and results of
operations would be harmed.
Our strategy is to continue to use contract manufacturers to produce our
current and future products. If we were unable to contract for manufacturing
capabilities on acceptable terms, our ability to conduct preclinical and human
clinical testing of products under development and to market and sell products
would be adversely affected. Therefore, manufacturing difficulties would
adversely affect our business, financial condition and results of operations.
13
<PAGE>
We have a number of sole source manufacturers, and interruptions in the supply
chain could harm our business.
We currently rely on several sole source manufacturers. In particular,
Ridaura is currently manufactured by SmithKline and ConXn is being manufactured
for us by Boehringer Ingelheim. CCL Pharmaceuticals is currently our sole
source manufacturer for Luxiq and OLUX and we are currently in the process of
seeking to qualify an additional source for these products. We have not made
any attempts to qualify additional sources of supply for our other sole source
products. Any failure of sole source manufacturers to provide us with product
requirements in a timely and cost-effective manner could result in reduced
sales of marketed products and delays in the progress of clinical trials for
products under development. Accordingly, the failure of sole source
manufacturers to meet our requirements could have a material adverse effect on
our business, financial condition and results of operations.
We face intense competition, and the failure to compete effectively would harm
us.
The pharmaceutical and biotechnology industries are highly competitive. Other
products and therapies currently exist on the market or are under development
that could compete directly with some of the products that we are marketing, or
seeking to develop and market. There are numerous pharmaceutical and
biotechnology companies and academic research groups throughout the world
engaged in research and development efforts with respect to therapeutic
products targeted at diseases or conditions addressed by us. We believe that
competitive factors in our industry include:
. scientific and technological expertise;
. sales and marketing resources;
. operational competence in developing, protecting, manufacturing and
marketing products and obtaining timely regulatory agency approvals;
. managerial competence in identifying and pursuing product in-licensing
and acquisition opportunities; and
. financial resources.
We cannot assure you that physicians will adopt our products over competing
products, or that our products will offer an economically feasible alternative
to existing modes of therapy.
In addition, many of our existing or potential competitors, particularly
large pharmaceutical companies, have substantially greater financial, technical
and human resources than we have. Many of these competitors have more
collective experience than we do in undertaking preclinical testing and human
clinical trials of new pharmaceutical products and obtaining regulatory
approvals for therapeutic products. Accordingly, our competitors may succeed in
obtaining FDA approval for products more rapidly than us.
The introduction of new treatments for rheumatoid arthritis will likely result
in declining sales of Ridaura, which will adversely affect our revenues and
could harm our business.
Three companies, Immunex Corporation, Hoechst Marion Roussel and Monsanto
Company, recently received FDA approval for new products and therapies to treat
rheumatoid arthritis. In addition, there are other products under development
for treatment of rheumatoid arthritis, and the number of new products in this
field is therefore likely to continue to increase.
14
<PAGE>
There can be no assurance that physicians will continue to prescribe Ridaura
over other rheumatoid arthritis products, or that Ridaura will offer a cost-
effective alternative to competing therapies. In addition, although we believe
that there will be a continued role for products such as Ridaura, the market
for products to treat rheumatoid arthritis is changing dramatically by virtue
of these recent product introductions and is likely to continue to change based
upon other new product introductions. As a result, we expect that sales of
Ridaura will decline, which will have a negative effect on our revenues and
could harm our business, financial condition and results of operations.
The unavailability of third-party reimbursement may limit the use of our
products, which would cause our revenues to decline.
Our products' commercial success is substantially dependent on whether third-
party reimbursement is available for the use of our products by hospitals,
clinics and doctors. We cannot be certain that Medicare, Medicaid, health
maintenance organizations and other third-party payers will authorize or
otherwise budget for the reimbursement of our products. Such governmental and
third-party payors are increasingly challenging the prices charged for medical
products and services. We cannot be certain that our products will be viewed as
cost-effective or that reimbursement will be available to consumers or will be
sufficient to allow our products to be marketed on a competitive basis. The
continuing efforts of government, insurance companies, and other payors of
health care costs to contain or reduce those costs could lead to reduced sales
of our products. Likewise, legislative proposals to reform health care or
reduce government programs could result in lower prices for or rejection of our
products. The cost containment measures that health care payors are
instituting, both in the United States and internationally, could adversely
affect our business, financial condition and results of operations. To the
extent that changes in reimbursement policies or health care cost containment
initiatives limit or restrict reimbursement for our products, our business,
financial condition and results of operations would be materially and adversely
affected.
In certain foreign markets pricing of prescription pharmaceuticals is already
subject to government control. Continued significant changes in the United
States or foreign health care systems could have a material adverse effect on
our business.
We are likely to have to issue additional shares of our common stock to
Genentech, which would dilute your equity ownership interest in us.
In 1998, we obtained a license from Genentech for Actimmune for the treatment
of infections resulting from chronic granulomatous disease and several
additional indications in the United States. As a result of the license, we
issued to Genentech 380,048 shares of common stock valued at $2.0 million in
May 1998. The license originally required that the value of these shares equal
$4.0 million on December 28, 1998. This license was amended in December 1998
and now requires the total value of the shares issued to Genentech equal $4.0
million on or before December 15, 1999. If the value of the shares is less than
$4.0 million at that time, we would have to either issue additional shares or
pay cash to Genentech to make up the difference. The value of the 380,048
shares issued to Genentech was approximately $2.4 million on July 30, 1999,
making it likely that we will need to issue additional shares to Genentech
before December 15, 1999. If we are required to issue additional shares, your
percentage ownership in us will be reduced.
We are subject to foreign exchange risks in some of our contracts which may
increase our operational expenses.
Payments to us under our relaxin collaboration with Suntory for the Japanese
market are made to us in Japanese yen. The expenses that we incur to develop
relaxin are denominated in U.S. dollars. Accordingly, in the event that the
U.S. dollar appreciates against the Japanese yen, the payments we
15
<PAGE>
receive from Suntory would cover a smaller portion than anticipated of relaxin
development costs. This would require us to bear a greater proportion of
development costs. In addition, if in the future we enter into additional
agreements or make product sales that are denominated in foreign currencies,
our foreign currency exchange risk would increase.
In addition, we make payments to Boehringer Ingelheim for the production of
ConXn in Austrian Schillings and to CCL Pharmaceuticals for the production of
Luxiq and OLUX in Pounds Sterling. In the event that the U.S. dollar
depreciates against the schilling or the pound, the payments that we must make
will increase, which may have a material adverse effect on our business.
We depend on our key personnel, and will need to attract and retain additional
key personnel in the future.
We depend on the principal members of our development and management staffs,
the loss of whose services might impede the achievement of development and
commercial objectives. We do not maintain key person insurance on any of these
individuals. Moreover, the hiring of additional personnel in such areas as
clinical trials, governmental approvals, manufacturing and sales and marketing
will increase burdens on our management, operational and financial resources.
Competition for key personnel with the expertise that we are likely to require
is intense and is expected to continue to increase. If we are unable to attract
and retain the required number of skilled and experienced management and
operational and scientific personnel, our business will be harmed.
We use hazardous materials in our business and are subject to environmental
controls and regulations.
Our research and development activities involve the controlled use of
hazardous materials, chemicals and various radioactive materials. We are
subject to federal, state and local laws and regulations governing the use,
storage, handling and disposal of such materials and certain waste products.
Although we believe that our safety procedures for handling and disposing of
such materials comply with the standards prescribed by state, federal, and
local laws and regulations, the risk of accidental contamination or injury from
these materials cannot be completely eliminated. In the event of such an
accident, we could be held liable for any damages that result and any liability
could exceed our resources. We could be required to incur significant costs to
comply with environmental laws and regulations as its research activities are
increased, and if that were to happen our business, financial condition and
results of operations could be adversely affected.
Because stock ownership is concentrated, you and other investors will have
minimal influence on stockholder decisions.
Prior to this offering, our ten largest stockholders beneficially owned
approximately 67% of our outstanding common stock. As a result, these
stockholders are able to significantly influence matters requiring stockholder
approval, including the election of directors. Such concentration of ownership
may also have the effect of delaying, deferring or preventing a change in
control of our company.
We may face product liability claims related to the use or misuse of our
products.
We face an inherent business risk of product liability claims in the event
that the use or misuse of our products results in personal injury or death. We
have not experienced any such claims to date, but we cannot be certain, in
particular after commercial introduction of products, that we will not
experience losses due to product liability claims. We currently maintain
liability insurance with
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<PAGE>
specified coverage limits. Although we believe these limits are adequate, we
cannot be certain that the insurance policies will be sufficient to cover
claims which may be made against us. Product liability insurance is expensive,
difficult to obtain and may not be available in the future on acceptable terms,
or at all. Any claims against us, regardless of their merit, could materially
and adversely affect our business.
We may be adversely affected by the Year 2000 issue.
Many computer systems and software applications were not designed to handle
dates beyond the year 1999, and therefore will need to be modified prior to
year 2000 in order to remain functional. Those computer programs that have
time-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. Beginning in the year 2000, these date code fields will
need to accept four digit entries to the 1900's from the year 2000 or they
could cause a system failure or miscalculations causing disruptions of
operations, including, among other things, a temporary inability to process
transactions, send invoices, or engage in similar normal business activities.
As with many other companies the Year 2000 issue poses a potential risk for us,
and computer systems and/or software used by many companies, including us, may
need to be upgraded to comply with such Year 2000 requirements.
We have completed an assessment of our business information systems and
related business processes used in our operations, most of which are provided
by outside suppliers. As of June 30, 1999, we have completed the testing and
upgrading of approximately 98% of our information technology systems and expect
to have all remaining systems upgraded by September 30, 1999. We are
approximately 76% complete with the testing and upgrading of our operating
equipment and expect to finish the process by September 30, 1999. We have on-
line access to our third party distribution service system that includes
customer orders, billing, shipping and inventory management. This vendor has
made its distribution system Year 2000 compliant, and we converted to the
compliant system in November 1998.
Our reliance on key suppliers, and therefore on the proper functioning of
their information systems and software, is increasing, and there can be no
assurance that another company's failure to address Year 2000 issues might not
have an adverse effect on us. We have initiated formal communications with each
of our significant suppliers and customers to determine the extent of our
vulnerability to those third parties' failure to remediate their own Year 2000
issues. We have requested that third party vendors represent their products and
services to be Year 2000 compliant and that they have a program to test for
Year 2000 compliance. However, the response of those third parties is beyond
our control.
Our management is in the process of evaluating the need for contingency plans
with respect to Year 2000 requirements. The necessity of any contingency plan
must be evaluated on a case-by-case basis and will vary considerably in nature
depending on the Year 2000 issue it may need to address. However, there can be
no assurance that we will be able to solve all potential Year 2000 issues, and
if we fail to correct a material Year 2000 problem, our normal business
activities and operations could be interrupted. Such interruptions could have a
material adverse effect on our business, financial condition and results of
operations. To date, we do not consider the Year 2000 costs to be material to
our financial condition. We have incurred and expensed approximately $40,200
and currently estimate that, in order to complete Year 2000 compliance, we will
be required to incur total expenditures of approximately $75,000.
We have anti-takeover provisions in our corporate charter documents that may
result in outcomes that you do not agree with.
Our board of directors has the authority to issue up to 5,000,000 shares of
undesignated preferred stock and to determine the rights, preferences,
privileges and restrictions of such shares
17
<PAGE>
without further vote or action by our stockholders. The rights of the holders
of common stock will be subject to, and may be adversely affected by, the
rights of the holders of any preferred stock that may be issued in the future.
The issuance of preferred stock could have the effect of making it more
difficult for third parties to acquire a majority of our outstanding voting
stock. We also have a stockholder rights plan, which entitles existing
stockholders to rights (including the right to purchase shares of preferred
stock) in the event of an acquisition of 15% or more of our outstanding common
stock, or an unsolicited tender offer for such shares. The existence of the
rights plan could delay, prevent, or make more difficult a merger or tender
offer or proxy contest involving us.
In addition, provisions of our charter documents, including a provision
eliminating the ability of stockholders to take actions by written consent, and
of Delaware law could delay or make difficult a merger, tender offer or proxy
contest involving us. Further, our stock option and purchase plans generally
provide for the assumption of such plans or substitution of an equivalent
option of a successor corporation or, alternatively, at the discretion of the
board of directors, exercise of some or all of the option stock, including non-
vested shares, or acceleration of vesting of shares issued pursuant to stock
grants, upon a change of control or similar event.
FORWARD-LOOKING INFORMATION
- --------------------------------------------------------------------------------
This prospectus contains forward-looking statements within the meaning of
Section 27A of the Securities Act, and Section 21E of the Securities Exchange
Act. When used in this prospectus, the words "anticipate," "believe,"
"estimate," "will," "may," "intend" and "expect" and similar expressions
identify forward-looking statements. Although we believe that our plans,
intentions and expectations reflected in these forward-looking statements are
reasonable, we can give no assurance that these plans, intentions or
expectations will be achieved. Forward-looking statements in this prospectus
include, but are not limited to, those relating to the commercialization of our
currently marketed products, the progress of our product development programs,
developments with respect to clinical trials and the regulatory approval
process, developments related to acquisitions and clinical development of drug
candidates, and developments relating to the growth of our sales and marketing
capabilities. Actual results, performance or achievements could differ
materially from those contemplated, expressed or implied, by the forward-
looking statements contained in this prospectus. Important factors that could
cause actual results to differ materially from our forward-looking statements
are set forth in this prospectus, including under the heading "Risk Factors."
These factors are not intended to represent a complete list of the general or
specific factors that may affect us. It should be recognized that other
factors, including general economic factors and business strategies, may be
significant, presently or in the future, and the factors set forth in this
prospectus may affect us to a greater extent than indicated. All forward-
looking statements attributable to us or persons acting on our behalf are
expressly qualified in their entirety by the cautionary statements set forth in
this prospectus. Except as required by law, we undertake no obligation to
update any forward-looking statement, whether as a result of new information,
future events or otherwise.
18
<PAGE>
USE OF PROCEEDS
- --------------------------------------------------------------------------------
We estimate that the net proceeds from the sale of 4,000,000 shares of common
stock that we are selling in this offering will be approximately $19.2 million,
based on an assumed offering price to public of $5.25 per share and after
deducting the estimated underwriting discounts and commissions and estimated
offering expenses payable by us ($22.1 million if the over-allotment option is
exercised in full).
We anticipate using the net proceeds from the offering for general corporate
purposes, including increasing commercialization infrastructure, expanding
dermatology pipeline through product in-license or acquisition, broadening
ConXn development activities and working capital. We expect, if the opportunity
arises, to use an unspecified portion of the net proceeds to acquire or invest
in complementary businesses, products and technologies. Pending such uses, we
will invest the proceeds in investment grade securities.
DIVIDEND POLICY
- --------------------------------------------------------------------------------
We have never declared or paid cash dividends on our common stock. We
currently intend to retain all available funds for use in our business, and do
not anticipate paying any cash dividends in the foreseeable future. Covenants
under our bank credit agreement restrict us from paying cash dividends.
PRICE RANGE OF COMMON STOCK
- --------------------------------------------------------------------------------
Our common stock commenced trading on the Nasdaq National Market under the
symbol CNCT on February 1, 1996. The following table sets forth, for the
periods indicated, the intra-day high and low bid prices per share of common
stock on the Nasdaq National Market:
<TABLE>
<CAPTION>
High Low
------ -----
<S> <C> <C>
1999
Third Quarter (through September 2, 1999)...................... $ 7.75 $4.88
Second Quarter................................................. 8.00 5.88
First Quarter.................................................. 10.25 4.50
1998
Fourth Quarter................................................. 5.88 2.00
Third Quarter ................................................. 4.50 2.13
Second Quarter................................................. 6.06 3.25
First Quarter.................................................. 5.56 3.00
1997
Fourth Quarter................................................. 4.38 2.50
Third Quarter.................................................. 9.75 3.50
Second Quarter................................................. 8.13 6.00
First Quarter.................................................. 8.38 6.00
</TABLE>
The last reported sale price of our common stock on the Nasdaq National
Market on September 2, 1999 was $5.25. As of July 31, 1999, there were
approximately 179 stockholders of record of our common stock.
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<PAGE>
CAPITALIZATION
- --------------------------------------------------------------------------------
The following table shows our capitalization as of June 30, 1999 on an actual
basis and on an as adjusted basis to give effect to our receipt of the
estimated net proceeds from this sale of 4,000,000 shares of stock offered by
this prospectus at an assumed price to public of $5.25 per share.
<TABLE>
<CAPTION>
June 30, 1999
-----------------------------
Actual As Adjusted
------------ ---------------
(In thousands,
except per share amounts)
<S> <C> <C>
Long-term obligations, less current portion....... $ 3,467 $ 3,467
Stockholders' equity:
Common Stock: $0.001 par value; authorized:
50,000,000; issued and outstanding: 21,517,419,
actual; and 25,517,419, as adjusted ........... 22 26
Additional paid-in capital........................ 111,424 130,605
Deferred compensation and other................... (211) (211)
Accumulated deficit............................... (103,183) (103,183)
------------ ------------
Total stockholders' equity...................... 8,052 27,237
------------ ------------
Total capitalization............................ $ 11,519 $30,704
============ ============
</TABLE>
The outstanding share information in the table above excludes:
. 3,397,846 shares of stock reserved for issuance under our stock option
and stock purchase plans, of which 2,431,768 shares were subject to
outstanding options as of June 30, 1999; and
. 1,358,681 shares of stock issuable upon exercise of outstanding warrants
and non-plan stock options.
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<PAGE>
DILUTION
- --------------------------------------------------------------------------------
The net tangible book value of our common stock, on June 30, 1999, was
$5,252,000, or approximately $0.24 per share. Net tangible book value per share
represents the amount of tangible assets less the amount of total liabilities
divided by the number of shares of common stock outstanding.
After giving effect to the sale of 4,000,000 shares of common stock offered
by this prospectus at the offering price of $5.25 per share, and after
deducting the estimated underwriters' commission and other offering expenses,
our net tangible book value, on June 30, 1999, would have been $24,437,000, or
approximately $0.96 per share. This represents an immediate increase in the net
tangible book value of $0.72 per share to existing stockholders and an
immediate dilution of $4.29 per share to new investors.
<TABLE>
<S> <C> <C>
Offering price per share......................................... $5.25
-----
Net tangible book value per share as of June 30, 1999.......... $0.24
-----
Increase per share attributable to the offering................ $0.72
-----
Net tangible book value after the offering....................... 0.96
-----
Dilution per share to new investors.............................. $4.29
=====
</TABLE>
This table excludes 2,470,256 shares of common stock reserved for issuance
pursuant to options outstanding as of June 30, 1999, at a weighted average
exercise price of $4.72 per share and warrants to purchase 1,320,193 shares of
common stock at a weighted average exercise price of $8.63 per share. Also
excludes 966,078 shares of common stock reserved for future issuance under our
stock option plan, our employee stock purchase plan and our director option
plan. See Notes 11 and 12 of Notes to Consolidated Financial Statements.
21
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
- --------------------------------------------------------------------------------
The following selected consolidated financial data should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the Consolidated Financial Statements of
Connetics Corporation and the Notes included elsewhere in this prospectus. The
consolidated statement of operations data for the years ended December 31,
1996, 1997, and 1998, and the consolidated balance sheet data at December 31,
1997 and 1998 are derived from our consolidated financial statements which have
been audited by Ernst & Young LLP, independent auditors, and are included
elsewhere in this prospectus. The consolidated statement of operations data for
the years ended December 31, 1994 and 1995, and the consolidated balance sheet
data at December 31, 1994, 1995, and 1996 are derived from our financial
statements not included in this prospectus which have been audited by Ernst &
Young LLP, independent auditors. The consolidated statement of operations data
for the six months ended June 30, 1998 and 1999 and the consolidated balance
sheet data at June 30, 1999 are derived from unaudited consolidated financial
statements included elsewhere in this prospectus and, in the opinion of our
management, include all adjustments, consisting of normal recurring accruals,
that are necessary for a fair presentation of the results of operations for
these periods. The historical results are not necessarily indicative of future
results.
<TABLE>
<CAPTION>
Six months ended
Years ended December 31, June 30,
----------------------------------------------- ------------------
1994 1995 1996 1997 1998 1998 1999
------- -------- -------- -------- -------- -------- --------
(in thousands, except per share amounts)
Consolidated Statement of
Operations Data:
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Product................. $ -- $ -- $ 428 $ 6,803 $ 7,473 $ 3,171 $ 6,883
Contract................ -- -- -- -- 1,648 1,648 7,379
------- -------- -------- -------- -------- -------- --------
Total revenues........... -- -- 428 6,803 9,121 4,819 14,262
Operating costs and
expenses:
Cost of product
revenues............... -- -- -- 1,149 1,374 607 2,651
License amortization.... -- -- 594 7,124 6,720 3,360 3,360
Research and
development............ 6,436 8,271 13,161 17,162 11,446 5,283 8,580
Selling, general and
administrative......... 1,317 2,113 5,434 8,966 11,680 5,505 10,501
Charge for pre-FDA
approved product
rights................. -- -- -- -- 4,000 4,000 --
------- -------- -------- -------- -------- -------- --------
Total operating costs and
expenses................ 7,753 10,384 19,189 34,401 35,220 18,755 25,092
Loss from operations..... (7,753) (10,384) (18,761) (27,598) (26,099) (13,936) (10,830)
Gain on sale of license
rights.................. -- -- -- 525 -- -- --
Interest and other income
(expense), net.......... (97) 12 247 (862) (496) (328) 116
------- -------- -------- -------- -------- -------- --------
Net loss................. $(7,850) $(10,372) $(18,514) $(27,935) $(26,595) $(14,264) $(10,714)
======= ======== ======== ======== ======== ======== ========
Basic and diluted net
loss per share.......... -- $ (2.34) $ (2.71) $ (2.69) $ (1.61) $ (0.95) $ (0.50)
Shares used to calculate
basic and diluted net
loss per share.......... -- 4,434 6,825 10,412 16,533 15,081 21,235
Consolidated Balance
Sheet Data:
Cash, cash equivalents
and short-term
investments............. $ 1,287 $ 9,023 $ 24,554 $ 14,346 $ 23,020 $ 17,586 $ 15,971
Working capital.......... (979) 5,844 14,904 6,687 12,464 6,336 6,575
Total assets............. 2,901 11,796 47,922 31,068 31,394 29,480 25,244
Non-current portion of
capital lease
obligations, capital
loans and long-term
debt.................... 829 4,933 3,062 649 4,002 474 3,467
Other long-term
liabilities and notes
payable................. 2,643 3,467 10,858 9,666 3,781 5,749 --
Redeemable convertible
preferred stock......... -- -- 2,000 600 -- -- --
Total stockholders'
equity (net capital
deficiency)............. (2,919) 63 21,800 10,809 12,452 11,434 8,052
</TABLE>
22
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Except for historical information, the discussion in this prospectus contains
forward-looking statements that involve risks and uncertainties. Our historical
operating results are not necessarily indicative of the results to be expected
in any future period. Our actual results could differ materially from those
anticipated in the forward-looking statements as a result of a number of
factors, including the risks described in the section titled "Risk Factors" and
elsewhere in this prospectus.
Overview
Connetics is a pharmaceutical company focused on developing and
commercializing products for specialty medical markets, with an emphasis on the
dermatology field. We market Ridaura, a treatment for rheumatoid arthritis, and
in January 1999, we began commercializing Actimmune for the treatment of
chronic granulomatous disease, under a license agreement we entered into with
Genentech in May 1998. In March 1999, we received approval from the FDA to sell
Luxiq, for the treatment of steroid responsive scalp dermatoses. Our products
under development include primarily OLUX, for the treatment of moderate to
severe scalp dermatoses, and ConXn for the treatment of scleroderma,
infertility, peripheral vascular disease and organ fibroses.
On April 28, 1999, we spun-off our subsidiary, InterMune Pharmaceuticals,
Inc., by selling a majority interest to outside investors. InterMune was
established in 1998 to develop Actimmune for infectious and fungal diseases. We
have retained approximately a 10% equity position in InterMune, received a
license fee payment of $500,000 and will receive additional cash and equity
payments over the next three years. We have retained the rights to Actimmune
for the treatment of infections resulting from chronic granulomatous disease
through December 31, 2001.
In January 1999, we entered into a collaboration agreement with Medeva for
the development and commercialization of ConXn in Europe. This agreement calls
for Medeva to pay potentially $35.0 million in license, development, milestone
and equity payments to us for the successful development of ConXn for the
treatment of scleroderma over the development period, and be responsible for
all development and commercialization expenses in Europe and pay royalties on
sales in Europe. In addition, we may receive additional milestone payments for
the approval of additional indications for ConXn in Europe. Through June 30,
1999, Medeva had paid us $10.0 million in development and equity payments.
In April 1998, we entered into a collaboration agreement with Suntory for the
development and commercialization of relaxin for the treatment of scleroderma
in Japan. This agreement calls for Suntory to pay potentially $14.0 million in
license, development and milestone payments to us over the development period,
be responsible for all development and commercialization expenses in Japan, and
pay royalties on sales in Japan for the treatment of scleroderma. As all
payments under this agreement are denominated in yen, this $14 million
potential payment is an estimate based upon the exchange rate at the time of
the transaction. Through June 30, 1999, Suntory had paid us $2.5 million in
license and development payments.
We have separate supply agreements with SmithKline and Genentech under which
SmithKline will manufacture and supply Ridaura in final package form through
December 2001, and Genentech will manufacture and supply Actimmune through May
2001. Our Luxiq product is currently manufactured by CCL Pharmaceuticals in the
United Kingdom. In addition, we have a distribution arrangement with CORD to
manage customer orders and to distribute our currently marketed products. In
March 1999, we entered into agreements with MGI Pharma, Inc. under which MGI
Pharma will promote Ridaura and Luxiq to the rheumatology market in the United
States in exchange for promotional fees.
23
<PAGE>
Results of Operations
Six Months Ended June 30, 1998 and 1999
Revenues
<TABLE>
<CAPTION>
Six months
ended June 30,
--------------
1998 1999
Revenues ------ -------
(In thousands)
<S> <C> <C>
Product:
Luxiq......................................................... $ -- $ 2,651
Ridaura....................................................... 3,171 2,250
Actimmune..................................................... -- 1,982
------ -------
Total product revenues...................................... 3,171 6,883
------ -------
Contract:
Medeva........................................................ -- 6,000
Suntory....................................................... 1,648 879
InterMune..................................................... -- 500
------ -------
Total contract revenues..................................... 1,648 7,379
------ -------
Total revenues.............................................. $4,819 $14,262
====== =======
</TABLE>
Our product revenues, derived from the sales of Luxiq, Ridaura and Actimmune,
increased to $6.9 million for the six months ended June 30, 1999 from $3.2
million for the same period in 1998. The increase in total product sales in
1999 was due to sales of Actimmune, which we began shipping in February and
Luxiq, which was launched in April. These initial sales of Luxiq were to
wholesalers to establish inventory. Our sales increases were partially offset
by lower sales of Ridaura. We expect Ridaura to continue to experience
decreased sales due to competition from new products.
Contract revenues increased to $7.4 million in the six months ended June 30,
1999 from $1.6 million for the same period in 1998. During the first six months
of 1999, we recorded $6.0 million in contract revenue in connection with our
agreement with Medeva. In addition, we recorded $879,000 in contract revenue
for a milestone payment made by Suntory that pertains to the collaboration
agreement for the development and commercialization of relaxin, and $500,000 of
a license fee associated with the spin-off of InterMune. The $1.6 million
contract revenue recorded for the same period in 1998 was for a development fee
paid by Suntory under the collaboration agreement for relaxin. Contract revenue
is expected to fluctuate significantly depending on the achievement of
milestones under existing agreements and new business opportunities that may be
identified.
Cost of Revenues
Our cost of product revenues includes the costs of Luxiq, Ridaura and
Actimmune, royalty payments on these products based on a percentage of our
product revenues and product freight and distribution costs from CORD. For the
six months ended June 30, 1999, our cost of revenues was $2.7 million as
compared to $607,000 for the same period in 1998. The increase in cost of
product revenues is primarily due to incremental costs associated with the
sales of Luxiq and Actimmune, including higher product and royalty costs.
Amortization expense associated with the acquisition of product rights to
Ridaura was $3.4 million in each of the six months ended June 30, 1998 and
1999.
24
<PAGE>
Research and Development
Research and development expenses increased to $8.6 million in the six months
ended June 30, 1999 from $5.3 million for the same period in 1998. The increase
in development expenses in the first six months of 1999 was due to:
. the commencement of ConXn manufacturing scale-up activities, which
accounted for approximately 79% of the increase;
. the initiation of a 200 patient Phase II/III trial of ConXn for the
treatment of scleroderma in February; and
. staffing up of our development organization.
Research and development expenses are expected to increase in absolute
dollars over the next few quarters due to ConXn manufacturing scale-up
activities, ConXn clinical trial activities, pre-manufacturing start-up costs
associated with qualifying a new supplier for OLUX and possible acquisitions of
new technologies and products.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased to $10.5 million for
the six months ended June 30, 1999 compared to $5.5 million for the same period
in 1998. The increase in expenses in 1999 was primarily due to:
. the increase in our sales and marketing staff to 52 as of June 30, 1999
from 22 as of June 30, 1998;
. market launch expenses associated with Luxiq;
. increased activities of an established sales and marketing organization;
and
. stock compensation related expenses.
In addition, under our promotion agreements with MGI Pharma for Luxiq and
Ridaura, we incurred $250,000 in promotion fees in the six months ended June
30, 1999. Selling, general and administrative expenses are expected to increase
primarily due to costs associated with selling and marketing Luxiq, Ridaura and
Actimmune, additional hiring of sales representatives, and commercialization
expenses associated with products we may acquire.
Interest and Other Income (Expense), net
Interest income was $497,000 for the six months ended June 30, 1999 and
$411,000 for the same period of 1998. The increase in interest income during
the first six months of 1999 was due to a higher investment balance as a result
of the $10.0 million received from Medeva and $791,000 received from Suntory,
which was received during the six months ended June 30, 1999. We also recorded
a $143,000 net gain as other income during the six months ending June 30, 1999
from the spin-off of InterMune. Interest earned in the future will depend on
our funding cycles and prevailing interest rates.
Interest expense decreased to $524,000 for the six months ended June 30, 1999
from $739,000 for the same period in 1998. The decrease in interest expense was
the result of lower balances outstanding for obligations under capital leases
and loans, and notes payable.
25
<PAGE>
Net Loss
Net loss for the six months ended June 30, 1999 decreased to $10.7 million
from $14.3 million for the same period in 1998. The decrease in net loss was
due to higher product and contract revenues offset in part by higher cost of
product sold and a substantial increase in operating expenses in the 1999
period as a result of development, marketing and sales activities. We expect to
incur additional losses for at least the next few years. Losses may fluctuate
from period to period based on the timing of market acceptance of our products,
the timing and shipment of orders for Luxiq, Ridaura and Actimmune, changes in
competitors' pricing policies, the mix of distribution channels through which
current and future products are sold, and our ability to obtain sufficient raw
materials and an effective supply chain for our products.
Fiscal Years Ended December 31, 1996, 1997 and 1998
Revenues
Product revenues, from sales of Ridaura, were $7.5 million in 1998,
$6.8 million in 1997 and $428,000 in 1996. In December 1997, we sold the
Canadian rights to Ridaura to Pharmascience, Inc. Revenues, on a pro forma
basis to reflect the disposition of Ridaura rights in Canada for 1997, were
$6.5 million. The increase in revenues in 1998 over 1997 was the result of
increased promotional efforts by our sales and marketing organization and a
product price increase. We had no revenues for the first eleven months in 1996
as all of our products were in the development stage. The increase in revenue
in 1997 over 1996 was the result of having one full year of Ridaura sales.
Although revenues from Ridaura increased from 1997 to 1998, we expect Ridaura
sales to decline in the future. In particular, increased competition from new
products to treat rheumatoid arthritis could adversely impact Ridaura sales
and, as a result, our financial condition and results of operations could be
materially and adversely affected.
In connection with an agreement with Suntory for relaxin for the treatment of
scleroderma, we also recorded $1.6 million in contract revenues in 1998.
Cost of Revenues
Our cost of revenues includes the cost of Ridaura purchases from SmithKline,
a percentage royalty based on product sales, and distribution costs from CORD.
We recorded cost of revenues of $1.4 million in 1998 and $1.1 million in 1997.
We also recorded amortization expense associated with the acquisition of
product rights to Ridaura of $6.7 million in 1998, $7.1 million in 1997 and
$594,000 in 1996. We determined the useful life of the Ridaura asset to be
three years based on information regarding products in our development
pipeline, competitive products, the off-patent position of Ridaura and expected
future revenues from Ridaura sales. The increase in cost of revenues in 1998
over 1997 resulted from increased unit sales and the decrease in amortization
expense resulted from sale of our Canadian rights to Ridaura in 1997. No
product costs were recorded for 1996 as we were still in the development stage,
and there was no cost associated with the Ridaura revenue we recognized in
December 1996.
Research and Development
Research and development expenses were $11.4 million in 1998, $17.2 million
in 1997 and $13.2 million in 1996. The decrease in research and development
expenses in 1998 as compared to 1997 was primarily due to lower clinical trial
activity. In 1998, our clinical trial activities consisted of an open label
trial of ConXn for the treatment of scleroderma, a Phase III clinical trial of
OLUX, contract manufacturing scale-up expenses associated with Luxiq and a
Phase II clinical trial of interferon gamma for the treatment of a type of scar
tissue known as keloids. The increase in development expenses in 1997 over 1996
was primarily due to the Phase III clinical trial of interferon gamma for the
treatment of atopic dermatitis, the Phase II clinical trial of ConXn for the
treatment of scleroderma, the Phase III clinical trial of Luxiq for the
treatment of scalp psoriasis, the
26
<PAGE>
Phase I/II clinical trial of T-cell receptor vaccines for the treatment of
multiple sclerosis and the Phase II clinical trial of interferon gamma for the
treatment of keloids, all of which commenced after June 1996.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were $11.7 million in 1998, $9.0
million in 1997 and $5.4 million in 1996. The increase in expenses from 1998
over 1997 was due to the following factors:
. increased activities of an established sales and marketing organization
including the hiring of additional sales staff in the third quarter and
costs associated with the promotion and marketing of Ridaura;
. increases in business development expenses; and
. the hiring of additional personnel in the general and administrative
functions.
In addition, the increase in expenses from 1997 over 1996 was due to the
following factors:
. costs associated with our launch of Ridaura;
. the establishment of a new sales and marketing organization;
. increases in personnel in the general and administrative functions; and
. legal expenses associated with operating as a public company.
Charge for Pre-FDA Approved Product Rights
Under our interferon gamma license agreement with Genentech in May 1998, we
recorded a $4.0 million non-cash license fee charge in 1998. We determined that
the realizability of the license is highly uncertain as it relates to a pre-FDA
approved product and is dependent on additional research and development of
interferon gamma, and as a result, we expensed the full purchase amount. There
were no license fee charges in 1997 or 1996.
Gain on Sale of License Rights
In December 1997, we sold the Canadian rights to Ridaura to Pharmascience for
a net consideration of $1.3 million. The book value of the Canadian rights to
Ridaura at December 31, 1997 was approximately $775,000 and accordingly, we
recognized a gain of $525,000 from the transaction. We had no similar
transactions in 1996 or 1998.
Interest and Other Income (Expense), net
Interest income was $808,000 in 1998, $860,000 in 1997 and $1.2 million in
1996. The decrease in interest income in 1998 over 1997 was due to lower
average cash and investment balances resulting from cash used in operations and
payment of debt obligations, including payments of approximately $3.6 million
of principal and interest to SmithKline for rights to Ridaura. These were
offset in part by two private placements that raised a total of $22.7 million
in 1998. The decrease in interest income in 1997 over 1996 was also the result
of lower cash and investment balances due to increases in operating expenses
and a $3.0 million payment to SmithKline for rights to Ridaura in 1997.
Interest expense was $1.3 million in 1998, $1.7 million in 1997 and $943,000
in 1996. The decrease in interest expense in 1998 from 1997 was due to lower
imputed interest expense of
27
<PAGE>
$519,000 in 1998 compared to $1.1 million in 1997. The imputed interest
expenses are attributable to the non-interest bearing promissory note payable
to SmithKline in connection with the acquisition of Ridaura. The decrease in
interest expense in 1998 as compared to 1997 also resulted from lower interest
expense associated with lower balances outstanding for obligations under
capital leases, loans and notes payable. The decrease in 1998 was offset in
part by approximately $471,000 in accrued interest payable pursuant to the
amended repayment terms of the SmithKline note. The increase in interest
expense in 1997 over 1996 was due to imputed interest expense of $1.1 million,
offset in part by lower interest expense associated with lower balances
outstanding for obligations under capital leases and loans, and notes payable.
Net Loss
We incurred net losses of $26.6 million in 1998, $27.9 million in 1997 and
$18.5 million in 1996. Excluding the impact of the $4.0 million licensing
charge in connection with the license of interferon gamma in 1998, the decrease
in net loss in 1998 from 1997 was primarily due to:
. a decrease of approximately $5.7 million in development activities;
. an additional $1.6 million in contract revenue in connection with the
agreement with Suntory for relaxin;
. lower amortization costs due to the sale of Canadian rights to Ridaura;
and
. lower interest expense.
These decreases were offset in part by higher selling, general and
administrative expenses. The increase in net loss in 1997 over 1996 was
primarily due to a higher level of product development activities and Ridaura-
related sales and marketing expenses, amortization costs and imputed interest
expenses, offset in part by revenues generated from the sale of Ridaura.
Liquidity and Capital Resources
We have financed our operations to date primarily through proceeds from our
initial public offering in February 1996, other equity financings,
collaborative arrangements with corporate partners and bank loans. At June 30,
1999, cash, cash equivalents and short-term investments totaled $16.0 million
compared to $23.0 million at December 31, 1998, and accounts receivable totaled
$3.4 million at June 30, 1999 compared to $485,000 at December 31, 1998. Our
cash reserves are held in a variety of interest-bearing instruments including
high-grade corporate bonds, commercial paper and money market accounts.
Cash used in operations for the six months ended June 30, 1999 was $7.2
million compared with $4.3 million for the same period in 1998. Net loss of
$10.7 million for the first six months of 1999 was affected by non-cash charges
of $3.8 million depreciation and amortization expense and $1.0 million deferred
compensation expense. Cash outflow for the six months was primarily for
operating activities, including growth in both our accounts receivable due to
extended terms offered during the launch of Luxiq and inventory due primarily
to carrying three products, and changes in long-term liabilities. Cash usage
was partially offset by an increase in accounts payable related to higher
development, sales and marketing expenses.
Investing activities, other than the changes in our short-term investments,
consumed $931,000 in cash during the first six months in 1999 due to leasehold
improvements and equipment expenditures required for operations.
28
<PAGE>
Cash provided by financing activities was $1.1 million for the six months
ended June 30, 1999 compared to $7.9 million for the same period in 1998.
Financing activities included the receipt of proceeds of $4.0 million from the
sale of common stock to Medeva. This was offset in part by a $3.3 million
principal payment to SmithKline for obligations under a promissory note in
connection with the Ridaura acquisition.
Working capital decreased to $6.6 million at June 30, 1999 from $12.5 million
at December 31, 1998. The decrease in working capital was due to our use of
cash in operations, higher accounts payable and accrued liabilities as a result
of increased development, sales and marketing expenses, and payment of debt
obligations, offset in part by higher accounts receivable, inventory and
prepaid expenses.
As of June 30, 1999, we had an aggregate of $11.1 million in future
obligations of principal payments under capital leases, loans, long-term debt
and other obligations, of which $7.6 million is to be paid within the next
year.
We have an equity line agreement with an investor that may potentially
provide access to capital through sales of our common stock. The three-year
equity line became available on June 26, 1998. During the three-year term, if
our stock meets certain minimum trading volume requirements and trades above
$10.00, then the investor may put to us up to $500,000 against the equity line
approximately every three months in exchange for the sale of stock at a
discount to the market price.
We believe our existing cash, cash equivalents and short-term investments,
together with the net proceeds of this offering, cash generated from product
sales and collaborative arrangements with corporate partners, will be
sufficient to fund our operating expenses, debt obligations and capital
requirements through at least the next 18 months. Our future capital uses and
requirements depend on numerous factors, including the progress of our research
and development programs, the progress of clinical testing, the time and costs
involved in obtaining regulatory approvals, the cost of filing, prosecuting,
and enforcing patent claims and other intellectual property rights, competing
technological and market developments, our ability to establish other
collaborative arrangements, the level of product revenues, the possible
acquisition of new products and technologies and the development of
commercialization activities. Therefore such capital uses and requirements may
increase in future periods. As a result, we may require additional funds prior
to reaching profitability and may attempt to raise additional funds through
equity or debt financings, collaborative arrangements with corporate partners
or from other sources.
Other than the equity line agreement discussed above, we currently have no
commitments for any additional financings, and there can be no assurance that
additional funding will be available to finance our ongoing operations when
needed or, if available, that the terms for obtaining such funds will be
favorable or will not result in dilution to the our stockholders. Our inability
to obtain sufficient funds could require us to delay, scale back or eliminate
some or all of our research and development programs, to limit the marketing of
our products or to license to third parties the rights to commercialize
products or technologies that we would otherwise seek to develop and market
ourselves.
Impact of Year 2000
Many computer systems and software applications were not designed to handle
dates beyond 1999, and therefore will need to be modified prior to 2000 in
order to remain functional. As for many other companies, the Year 2000 issue
poses a potential risk for us and as a result, computer systems and/or software
used by many companies, including us, may need to be upgraded to comply with
such Year 2000 requirements.
29
<PAGE>
We have completed an assessment of our core business information systems and
related business processes used in our operations, most of which are provided
by outside suppliers. To date, we have completed testing and upgrading of
approximately 98% of our information technology systems and expect to have all
remaining systems upgraded by September 30, 1999. We are approximately 76%
complete with the testing and upgrading of our operating equipment and expect
the process to be fully completed by September 30, 1999. We have on-line access
to our third party distribution service system that includes customer orders,
billing, shipping and inventory management. This vendor has made its
distribution system Year 2000 compliant, and we converted to the compliant
system in November 1998.
Our reliance on key suppliers, and therefore on the proper functioning of
their information systems and software, is increasing, and there can be no
assurance that another company's failure to address Year 2000 issues might not
have an adverse effect on Connetics. We have initiated formal communications
with each of our significant suppliers and customers to determine the extent of
our vulnerability to those third parties' failure to remediate their own Year
2000 issues. We have requested that third party vendors represent their
products and services to be Year 2000 compliant and that they have a program to
test for Year 2000 compliance. However, the response of those third parties is
beyond our control.
We are in the process of evaluating the need for contingency plans with
respect to Year 2000 requirements. The necessity of any contingency plan must
be evaluated on a case-by-case basis and will vary considerably in nature
depending on the Year 2000 issue it may need to address. However, there can be
no assurance that we may be able to solve all potential Year 2000 issues, and
if we fail to correct a material Year 2000 problem, our normal business
activities and operations could be interrupted. Such interruptions could have a
material adverse effect on Connetics' results of operations, liquidity and
financial condition. To date, Year 2000 costs are not considered to be material
to our financial condition. We have incurred and expensed approximately $40,200
and currently estimate that, in order to complete Year 2000 compliance, we will
be required to incur total expenditures of approximately $75,000.
Quantitative and Qualitative Disclosures About Market Risk
We have supply contracts with Boehringer Ingelheim for ConXn and CCL
Pharmaceuticals for Luxiq and OLUX. We also have a collaboration agreement with
Suntory for the development and commercialization of relaxin for the treatment
of scleroderma in Japan. As payments under these contracts are payable in local
currency, our financial results could be affected by changes in foreign
currency exchange rates. We have a bank loan that is sensitive to movement in
interest rates. Interest income from our investments is sensitive to changes in
the general level of U.S. interest rates, particularly since the majority of
our investments are in short-term instruments. Due to the nature of our short-
term investments, we have concluded that there is no material market risk
exposure. Therefore, no quantitative tabular disclosures are required.
30
<PAGE>
BUSINESS
- --------------------------------------------------------------------------------
Our Business
We are a pharmaceutical company focused on late-stage product development and
commercialization for dermatology and other specialty medical markets. We
believe we have a competitive advantage due to our focused marketing and sales
force, our expertise in developing products in an efficient manner, and our
commitment to pursuing the development and commercialization of innovative
products with significant commercial potential. We currently market three
products, and our goal is to continue to increase revenues with our existing,
as well as future, products. The status of our development and
commercialization activities is as follows:
Dermatology products:
. Luxiq foam--marketed for the treatment of mild to moderate scalp
dermatoses
. OLUX foam--NDA submitted for the treatment of moderate to severe
scalp dermatoses
. Ketoconazole foam--in development for the treatment of topical
fungal diseases
ConXn (recombinant human relaxin) development programs:
. Scleroderma--Phase II/III trial ongoing
. Infertility--Phase I/II trials scheduled to begin in late 1999
. Peripheral vascular disease and organ fibroses--preclinical
development ongoing
Other commercialized products:
. Ridaura--marketed for the treatment of rheumatoid arthritis
. Actimmune--marketed for the treatment of infections resulting from
chronic granulomatous disease, a rare congenital autoimmune disease
We are building our business by offering dermatological products with
clinically proven therapeutic or cosmetic advantages and by providing quality
customer service to dermatologists through our experienced sales and marketing
staff. We are also targeting the development of ConXn for several indications
and are conducting a Phase II/III trial. We plan to continue to leverage our
expertise in efficiently developing and marketing our products by continuing to
innovate, strategically acquire, in-license or enter into co-development
agreements for commercially attractive pharmaceutical products.
Our Objectives
Establish Strong Presence in the Dermatology Market
. Exploit Attractive Market Opportunities. We have identified the
dermatology market as one that is underserved by large pharmaceutical
companies because the market opportunity, while significant for us, is
relatively small for them. We intend to differentiate ourselves from our
competitors by offering products which are both effective and
cosmetically superior to existing products.
. Capitalize Upon our Focused Marketing and Sales Force. We have a 52
person pharmaceutical sales and marketing organization. We require that
our sales people have pharmaceutical sales experience, and the majority
has prior dermatological sales experience. Our goal is to build close
relationships with the approximately 6,000 dermatologists who are
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responsible for 90% of all prescriptions written by dermatologists. We
intend to enhance our existing marketing and sales capabilities in order
to expand and increase the penetration of our existing products as well as
market new products.
. License and Develop Products Based Upon Innovative Delivery
Formulations. We believe that the proprietary foam technology offers
significant advantages over conventional therapies, and we plan to
develop other products employing this unique delivery formulation. We
will seek to develop other innovative products from existing
pharmaceutical agents with proven efficacy and a demonstrated physician
and patient need. We intend to pursue further strategic licensing of
innovative formulations consistent with our standards for efficacy,
quality, cosmetic elegance, cost and gross profit margins.
. In-License Development Stage and Currently Marketed Products. We plan to
continue to in-license and acquire rights to late-stage development
products and currently marketed products in the dermatology area.
Changing industry conditions have resulted in opportunities to in-license
or acquire additional products. Additionally, we are able to provide our
development and commercialization expertise to products that are beyond
the core competencies of some research companies. This strategy allows us
to develop products while minimizing our exposure to the risks inherent
in drug discovery and basic research.
Aggressively and Broadly Develop ConXn
. Exploit Exclusive License Rights. We licensed the exclusive rights to
develop and commercialize recombinant human relaxin from Genentech. ConXn
may serve as a potential treatment for several life-threatening diseases
and medical disorders that currently have limited therapies. Accordingly,
if successfully developed and cleared for marketing by the FDA, ConXn
could represent a significant commercial opportunity.
. Conduct Clinical Trials for Multiple Indications. We initiated a Phase
II/III trial of ConXn for the treatment of diffuse scleroderma in
February 1999. We anticipate completing enrollment by year end 1999, and
plan to announce trial results by year end 2000. In addition, we filed an
application to initiate human studies for the treatment of infertility
and expect to begin enrolling patients in a Phase I/II clinical trial
during the fourth quarter of 1999. We are also investigating the
opportunities that exist for ConXn in treating peripheral vascular
disease and organ fibroses.
. Leverage Our Strategic Development Partnerships. In collaboration with
our three corporate partners-Medeva, Suntory and Paladin-we are rapidly
expanding our development and commercial planning activities for relaxin.
These strategic agreements involve license, development, milestone and
equity payments to us of up to $52 million in exchange for the commercial
rights to relaxin for the treatment of scleroderma outside of the United
States. As of June 30, 1999, we had received $12.5 million from these
partners.
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Products
Our marketed products and those under development are primarily concentrated
in dermatology as well as other specialty markets. Our products are as follows:
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Product Indication Status Marketing Partners
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Dermatology
Luxiq Foam Mild to moderate scalp Marketed Connetics - North America
dermatoses
OLUX Foam Moderate to severe scalp NDA submitted Connetics - Worldwide
dermatoses
Ketoconazole Topical fungal diseases Phase III trials expected Connetics - Worldwide (excluding
Foam late 2000 Australia and New Zealand)
- ---------------------------------------------------------------------------------------------------------
Relaxin
ConXn Scleroderma Phase II/III trial initiated Medeva - Europe
in February 1999 Paladin - Canada
Suntory - Japan(/1/)
Connetics - Rest of World
Infertility(/2/) Phase I/II trials Medeva - Europe
scheduled to begin Paladin - Canada
in late 1999 Connetics - Rest of World
Peripheral vascular Preclinical development Medeva - Europe
disease and organ underway for treatment Paladin - Canada
fibroses of organ fibroses and Connetics - Rest of World
peripheral vascular
disease
- ---------------------------------------------------------------------------------------------------------
Other
Ridaura Rheumatoid arthritis Marketed Connetics - United States
Actimmune Chronic granulomatous Marketed Connetics - United States
disease until December 31, 2001
(royalties thereafter)
T-cell Receptor Autoimmune diseases Early-stage clinical Connetics - Worldwide
Vaccines studies completed - Further
development activities
have been suspended
</TABLE>
- --------------------------------------------------------------------------------
(/1/) Suntory did not license the tradename ConXn.
(/2/) We currently have co-exclusive rights with Genentech for reproductive
indications. Medeva and Paladin have options to acquire rights for
reproductive indications in their territories if we obtain exclusive
worldwide rights.
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Dermatology
According to IMS, the 1998 prescription dermatology market accounted for an
estimated $2.7 billion in annual sales in the United States and is comprised
mostly of products with annual sales of less than $50 million per product. We
believe that most prescription dermatology products do not generate a level of
sales that would typically interest large pharmaceutical companies.
Approximately 6,000 of the 8,500 U.S. dermatologists account for 90% of the
prescriptions written by dermatologists. We believe this concentrated physician
base enables us to effectively address this market with our well trained,
highly experienced, 52 person sales and marketing force.
Often dermatological diseases persist for an extended period of time and are
treated with clinically proven drugs that are currently delivered in a variety
of formulations, including solutions, creams, gels and ointments. We believe
that these existing delivery systems often inadequately address a patient's
needs for efficacy and cosmetic elegance, which combined may decrease patient
compliance. We believe that our foam-based dermatology products offer
significant advantages over these conventional therapies. These advantages
include improved efficacy due to higher absorption and more localized delivery
of the active agent. In addition, the foam is cosmetically elegant as it is
non-staining, non-greasy and quick drying. All of these factors may lead to
increased patient compliance.
We focus on developing and commercializing innovative products for
dermatology and other specialty market needs. We have two foam-based products
for the treatment of scalp dermatoses: Luxiq, which we currently market, and
OLUX, which is awaiting FDA review. We believe that the proprietary foam
delivery system has significant treatment and cosmetic advantages over
conventional therapies for scalp dermatoses. These advantages include:
. Strong Efficacy: The unique foam formulation liquefies when applied, and
enables rapid penetration of active dermatologic agent, thus enhancing
efficacy;
. Cosmetic Elegance: The foam formulation when applied is quick drying,
non-greasy, non-staining and odorless; and
. Increased Patient Compliance: The formulation's cosmetic elegance and
increased efficacy may improve patient compliance and satisfaction.
Luxiq Foam
Luxiq is a foam formulation of a mid-potency topical steroid with the active
ingredient betamethasone valerate, which is prescribed for the treatment of
steroid responsive scalp dermatoses such as psoriasis, eczema and seborrheic
dermatitis. According to IMS, the 1998 sales of mid and high potency topical
steroid treatments were approximately $450 million in the United States. We
licensed the North American rights from Soltec to develop and commercialize
Luxiq. In our Phase III trial, patients treated with Luxiq experienced a
statistically significant improvement over patients treated with placebo or a
currently approved betamethasone valerate mid-potency lotion. In March 1999, we
received FDA clearance for Luxiq and in April 1999 we initiated commercial
sales in the United States. The product is approved for sale in the United
Kingdom and is being marketed in the United Kingdom by a subsidiary of Medeva.
OLUX Foam
OLUX is a foam formulation of a super high potency topical steroid with the
active ingredient clobetasol propionate, which is being developed for the
treatment of moderate to severe scalp psoriasis and other steroid-responsive
dermatoses of the scalp. According to IMS, the 1998 sales of super-high potency
steroid treatments were $190 million in the United States. We have licensed
worldwide rights from Soltec to develop and commercialize OLUX. In 1998, we
completed a
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Phase III multicenter, randomized, double-blind clinical trial of approximately
190 scalp psoriasis patients which compared OLUX to a currently approved
clobetasol solution and placebo during a two week treatment regimen. OLUX trial
results showed a 74% improvement in the global response to treatment as judged
by the investigators for OLUX as opposed to 63% for clobetasol solution and
8% for placebo. Primary endpoints included changes in the clinical signs of
psoriasis: plaque thickness, scaling, erythema (redness), and the global
response to treatment as judged by the investigator. In July 1999, we submitted
a new drug application to the FDA for OLUX.
Ketoconazole Foam
In July 1999, we entered into an exclusive worldwide license, excluding
Australia and New Zealand, with Soltec to develop and commercialize a foam
formulation of ketoconazole, a commercially available drug for the treatment of
topical fungal diseases. The marketing of ketoconazole foam will require us to
receive specific labeling approvals for each indication. According to IMS, the
1998 sales of topical antifungal agents for all indications were approximately
$500 million in the United States. Ketoconazole is our third dermatology
product to enter development in the last three years. We intend to initiate
Phase III trials with our ketoconazole product in late 2000, following
completion of formulation and stability studies.
ConXn
ConXn is our trademark for recombinant human relaxin, a cloned version of the
natural hormone, relaxin. We licensed the exclusive rights to develop and
commercialize recombinant human relaxin from Genentech, except for co-exclusive
rights for reproductive indications. Relaxin is known to have an antifibrotic
property, or the lessening or prevention of the creation of dense, firm scar
tissue in skin and connective tissue, and an angiogenic property, or the
stimulation and formation of new blood vessels. We are pursuing development
programs for both properties of relaxin; scleroderma and other organ fibroses
represent the target indications for relaxin's antifibrotic properties; while
infertility and peripheral vascular disease represent potential opportunities
for relaxin's angiogenic properties.
Relaxin, identified over 70 years ago, was first described as a substance
associated with pregnancy. In the mid-1950's, animal-derived relaxin was
available as a medical treatment for halting or controlling pre-term labor.
Over the years, data has been accumulated regarding the biological properties
of this hormone outside the realm of pregnancy.
To date, we have entered into three collaborative partnerships for our
relaxin program for markets outside of the United States. We have licensed
rights to develop and commercialize relaxin to Medeva for Europe, Suntory for
Japan, and Paladin for Canada. Our license agreements with these international
partners are financially and commercially valuable as they offset much of the
costs associated with developing relaxin and will provide product
commercialization in geographical markets outside of our focus. In combination,
the three deals may potentially provide approximately $52 million in license,
development, milestone and equity payments, plus royalties on product sales for
the successful development of ConXn for the treatment of scleroderma. We may
receive additional milestone payments for the approval of additional
indications outside of the United States. We may pursue additional license
agreements for other foreign markets, and we intend to retain rights for the
United States.
Scleroderma
The first indication for which we are developing ConXn is scleroderma, a
serious disease involving the excessive formation of connective tissue.
Scleroderma is characterized by thickening and hardening of the skin and, in
severe cases, the internal organs, including the heart, lungs, kidneys and the
organs of the gastrointestinal tract. Scleroderma can cause extensive
disfigurement and quality of life impairment, often making it impossible for
afflicted patients to carry out the most routine daily functions. The
Scleroderma Research Foundation estimates that between 300,000 and
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<PAGE>
500,000 individuals in the United States, of whom 80% are women, suffer from
various forms of this disease, with approximately 70,000 having a severe form
of scleroderma called progressive systemic sclerosis. We have been granted
orphan drug status in the United States for ConXn for treatment of progressive
systemic sclerosis. The Orphan Drug Act of 1983 provides incentives to develop
and manufacture products for the treatment of rare diseases. Under the Orphan
Drug Act, we may be eligible for tax benefits and be granted a seven-year
period of marketing exclusivity for ConXn for the orphan indication.
The most serious form of progressive systemic sclerosis, called diffuse
scleroderma, is often fatal. Few therapies exist that ease the pain and
suffering of scleroderma patients. In June 1997, we announced results of a
Phase II trial for ConXn in patients with diffuse scleroderma. The results of
the six month, 64-patient Phase II trial showed that the administration of 25
micrograms per kilogram per day of ConXn caused a statistically significant
reduction in skin score, which is a measure of skin thickening, the primary
clinical endpoint, and positive trends were seen in eleven other secondary
disease parameters. To our knowledge, ConXn is the only therapy to show
statistically significant efficacy in a Phase II, double-blind, placebo-
controlled trial for scleroderma. Based partly on the results of the Phase II
trial and an earlier Phase I/II trial for scleroderma, we believe that ConXn
may have a beneficial effect on connective tissue turnover and may serve as a
treatment for scleroderma. We initiated a 200-patient, Phase II/III trial of
ConXn for the treatment of diffuse scleroderma in February 1999. We anticipate
completing enrollment by the end of 1999 and announcing trial results by the
end of 2000. If the results from this trial are positive, we intend to submit
a biologic license application to the FDA requesting clearance to market the
drug.
Infertility
Despite improvements in infertility therapy, it is believed that a major
cause of infertility is due to the failure of the embryo to implant in the
uterus. Our scientists and collaborators have accumulated data indicating that
relaxin may be involved in stimulating new blood vessel formation and
thickening of the lining of the uterus, which may enhance embryonic
implantation and pregnancy success. Accordingly, we believe that ConXn may be
useful in the treatment of infertility. In June 1999, we filed an
investigational drug application for use of ConXn in the treatment of
infertility, and we expect to begin enrolling patients in Phase I/II clinical
trials during the fourth quarter of 1999. We intend to conduct reproductive
toxicology tests in animals in parallel with the Phase I/II trials.
Peripheral Vascular Disease
Peripheral vascular disease, which is generally known as PVD, is a syndrome
characterized by inadequate blood flow to the extremities, particularly the
lower limbs. PVD often leads to pain and debilitating ulcers, and in its more
serious manifestations, gangrene and amputation of the affected limb. It is
caused by a variety of serious medical conditions, but the single most common
cause is diabetes mellitus. As the incidence of Type II diabetes is increasing
in both developed and developing nations, and because there are limited
therapeutic options for treatment, PVD is becoming of increasing concern.
Because ConXn has a stimulating effect on new blood vessel formation and
because of anecdotal reports of wound-healing in our scleroderma trials, we
believe that it may have a therapeutic effect on treating PVD. We are
currently evaluating the feasibility of a clinical trial with ConXn to treat
PVD.
Organ and Other Fibroses
We believe that ConXn may have further potential in treating organ-specific
fibroses, such as pulmonary, liver, and kidney fibroses, and fibroses stemming
from cardiovascular disease. Each of these fibrotic conditions has a common
cause -- the production of too much collagen that the body is unable to
adequately break down. ConXn's ability to interrupt the production of and
promote the breakdown of scarred or hardened tissue may make it effective in
the treatment of such diseases, as outlined below.
36
<PAGE>
<TABLE>
<CAPTION>
Affected Organ Potential Indication Current Therapies
- ---------------------------------------------------------------------------------
<S> <C> <C>
Heart Scarring of the heart that occurs in Angiotensin-converting
heart attacks, atherosclerosis or enzyme inhibitors
hypertension
Vessel blockage (restenosis) following Stents, radiation and
angioplasty thrombolytics
- ---------------------------------------------------------------------------------
Lung Chronic inflammation and scarring in the Steroids
walls of the lungs
- ---------------------------------------------------------------------------------
Liver Fibrosis induced by chronic hepatitis or Steroids
cirrhosis of the liver
- ---------------------------------------------------------------------------------
Kidney Fibrosis that occurs from diabetes and Steroids; Angiotension-
other diseases leading to impairment of converting enzyme
kidney filtration inhibitors
</TABLE>
Other Products
Ridaura
Ridaura is an oral formulation of gold salt for the treatment of rheumatoid
arthritis, a chronic autoimmune disease that results in painful inflammation
and erosion of the joints and loss of mobility. It is estimated that over two
million individuals in the United States suffer from this disease. Ridaura is
currently indicated for adults with active rheumatoid arthritis who are not
responsive to, or are intolerant of, treatment with non-steroidal anti-
inflammatory drugs. Ridaura competes on the basis of clinical evidence which
shows the drug slows the progression of damage to joint tissue. Our sales of
Ridaura for the six months ended June 30, 1999 were approximately $2.3 million
as compared to approximately $3.2 million for the same period last year. We
believe that our sales have declined in part due to the recent introduction of
several major rheumatoid arthritis therapies.
Actimmune
Interferon gamma is one of a family of proteins involved in the regulation of
the immune system and has been shown to reduce the frequency and severity of
certain infections. In May 1998, we entered into a license agreement with
Genentech for exclusive rights in the United States, under certain patent
rights and know-how, to Actimmune, Genentech's interferon gamma product, for
the following indications: infections resulting from chronic granulomatous
disease, or CGD; non-cancer dermatological diseases; infectious diseases;
infections in osteopetrosis; pulmonary fibrosis; and asthma. At the same time,
we also entered into a supply agreement with Genentech in which they will
manufacture and supply Actimmune to us. We amended the license agreement
effective January 15, 1999 and April 27, 1999 with the cumulative effect of
expanding the fields of use for which the license applies, and adding Japan to
the license territory. Actimmune was approved for sale in the United States in
January 1999 and commercially launched in April 1999. In late April 1999, we
spun-off our wholly-owned subsidiary InterMune to develop commercial uses for
Actimmune. In connection with the spin-off, we have retained the commercial
rights to and revenue from Actimmune for CGD until December 31, 2001 and we
will receive a royalty on Actimmune sales thereafter. In addition, we have
retained the product rights for potential dermatological applications. Our
sales of Actimmune for the six months ended June 30, 1999 were approximately
$2.0 million as compared to zero for the same period in 1998. InterMune has
assumed our obligations under the license with Genentech and the supply
agreement.
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<PAGE>
T-Cell Receptor Program
Autoimmune diseases are generally believed to result from an inappropriate
response of the immune system; however, the mechanism responsible for causing
these T-cells to attack healthy tissue has, for the most part, not been
identified. Through a license agreement with XOMA and a research and
collaboration and assignment agreement with Arthur A. Vandenbark, Ph.D., we
hold certain patents to T-cell receptor vaccines, generally known as TCR
vaccines, for the treatment of autoimmune diseases, such as rheumatoid
arthritis and multiple sclerosis. We conducted early-stage clinical studies to
evaluate TCR vaccines. While the results for the treatment of rheumatoid
arthritis and multiple sclerosis were encouraging, we have suspended most of
our activity with respect to TCR, to permit us to focus resources on our
dermatology and relaxin-based products. We are exploring strategic alternatives
for this product.
Sales and Marketing
We strive to maintain an experienced, highly productive sales and marketing
organization. In recruiting people to join our sales team, we require that
people have pharmaceutical sales experience, and the majority of our sales
staff has prior experience selling dermatology products. As of July 31, 1999,
we had 52 people in our sales and marketing organization, including 43 sales
representatives. Our sales representatives focus on cultivating relationships
of trust and confidence with dermatologists. We use a variety of advertising,
promotional material, specialty publications, participation in educational
conferences and product Internet sites to achieve our marketing objectives. We
may supplement our sales staff from time to time with contract sales
representatives to increase the frequency of our sales calls or to assist with
the launch of products.
We intend to maintain control of sales and marketing responsibilities for our
targeted specialty markets in the United States. Outside of our target markets,
we have entered partnerships to manage product commercialization activities.
For example, in March 1999, we entered into agreements with MGI Pharma to
provide sales support for Ridaura and Luxiq to rheumatologists. The agreements
help us achieve our sales objectives for these products, while permitting us to
focus primarily on the dermatology market. In addition, our relaxin partners,
Medeva for Europe, Suntory for Japan and Paladin for Canada, will be
responsible for commercializing relaxin in their territories should that
product be approved. Currently, all of our product distribution activities are
handled by CORD in the United States.
Partnering Agreements
Since our founding, we have entered numerous strategic partnerships that have
substantially expanded our business. Our main reasons for entering partnerships
are to:
. gain access to additional product opportunities;
. share the risk and financial cost of developing products;
. increase product sales and marketing activities; and
. extend development and commercialization activities to foreign markets.
Florey Institute
Many of our relaxin patent rights are licensed from the Florey Institute
through a sublicense from Genentech. In January 1998, we entered into a direct
agreement with the Florey Institute that requires us to pay relaxin royalties
based on our sales directly to the Florey Institute in addition to those
royalties payable to Genentech, and according to a modified royalty structure.
Under the
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<PAGE>
agreement, we provide approximately $125,000 of annual research funding to the
Florey Institute for up to five years or until the date of the first sale of a
relaxin product by us or our relaxin partners. We have also agreed to pay the
Florey Institute a portion of revenues received from corporate partners. If we
fail to use our best efforts to commercialize relaxin, our rights to the Florey
Institute patents could be terminated by the Florey Institute.
Genentech
In September 1993, we entered into an agreement with Genentech, which was
subsequently amended in July 1994 and April 1996. The agreement, as amended,
grants to us exclusive rights, for indications other than reproductive, to
make, have made, use, import and sell certain products derived from recombinant
human relaxin. Genentech retains co-exclusive rights for reproductive
indications. The agreement also includes technology transfer, supply, and
intellectual property provisions, including a provision requiring us to meet
milestones. Our failure to achieve designated milestones allows the termination
of the license by Genentech. Upon termination, we could be required to license
to Genentech, on a non-exclusive basis, our relaxin technology.
In December 1995, we entered into a license agreement with Genentech to
acquire exclusive U.S. development and marketing rights to interferon gamma for
dermatological indications. In May 1998, the agreement was amended in its
entirety and we entered into a new license agreement with Genentech that
granted us an exclusive U.S. license under certain patent rights and know-how
to Actimmune for the treatment of chronic granulomatous disease and several
additional indications. At the same time, we also entered into a supply
agreement with Genentech in which they will manufacture and supply Actimmune to
us. We amended the license agreement effective January 1999 and April 1999 with
the cumulative effect of expanding the fields of use for which the license
applies, and adding Japan to the licensed territory.
InterMune
In April 1999, we spun-off our wholly owned subsidiary, InterMune, through
the sale of a majority interest to outside investors. We established InterMune
to develop Actimmune in conjunction with our license of Actimmune from
Genentech. At the close of the spin-off, we retained approximately a 10% equity
position in InterMune, and will receive additional cash and equity payments
over the next three years. We will retain commercial rights to and revenue from
Actimmune for chronic granulomatous disease until December 31, 2001 and receive
a royalty on Actimmune sales thereafter. In addition, we hold an option to
purchase the product rights for potential dermatological applications of
Actimmune.
MGI Pharma
In March 1999, we entered into two agreements with MGI Pharma. Under the
terms of the agreements, MGI Pharma will promote Ridaura and Luxiq to the
rheumatology market in the United States. These arrangements take advantage of
MGI Pharma's specialty sales force that calls on rheumatologists in the United
States, and allows us to focus our attention on the dermatology marketplace.
Medeva
In January 1999, we entered into an exclusive license agreement with Medeva
for the development, commercialization and supply of ConXn in Europe. Under the
terms of the agreement, Medeva will pay up to $35.0 million in development,
milestone and equity payments for the successful development of ConXn for the
treatment of scleroderma. We may receive additional milestone payments for the
approval of additional indications for ConXn in Europe. Medeva will be
responsible for all development and commercialization activities in Europe.
Medeva will purchase
39
<PAGE>
ConXn from us and pay royalties on European sales of ConXn. Until the earlier
of five years after we launch ConXn in the United States or the end of the
first calendar year when Medeva's European net sales of ConXn exceed $25.0
million, Medeva will receive 50% of our operating profits from U.S. ConXn
sales.
Paladin
In July 1999, we entered into an exclusive license agreement with Paladin for
the development, commercialization and supply of ConXn in Canada. Under the
terms of the agreement, Paladin will pay up to $2.7 million in development,
milestone and equity payments for the successful development of ConXn for the
treatment of scleroderma. We may receive additional milestone payments for the
approval of additional indications for ConXn in Canada. Paladin is responsible
for all development and commercialization activities in Canada, and will pay
royalties on all sales of ConXn in Canada.
Soltec
In June 1996, we entered into an exclusive license agreement with Soltec, to
develop and market a foam formulation of the dermatologic drug, betamethasone
valerate, in North America. This license agreement led to our launch of Luxiq,
in April 1999. In January 1998, we acquired the North American rights to
Soltec's proprietary foam formulation of the drug clobetasol propionate. In
June 1999, we expanded the license to include worldwide rights to the product,
which we intend to market under the tradename OLUX. In July 1999, we submitted
an NDA to the FDA for OLUX for the treatment of moderate to severe scalp
dermatoses. In July 1999, we licensed the exclusive worldwide rights (excluding
Australia and New Zealand) to develop and market ketoconazole foam. We also
have an exclusive option on Soltec's foam formulation for the delivery of other
dermatological compounds.
Suntory
In April 1998, we entered into an exclusive license agreement with Suntory
for the development, commercialization and supply of relaxin for scleroderma in
Japan. Under the terms of the agreement, Suntory will pay up to 1.6 billion
yen, which we estimated to be $14.0 million in license, development and
milestone payments, based upon the exchange ratio at the time of the
transaction. Suntory is responsible for all development and commercialization
activities in Japan. Suntory will purchase relaxin materials from us, make
payments based upon development progress in the United States and Japan and pay
us royalties on sales in Japan.
XOMA
In June 1994, we entered into a technology acquisition agreement with XOMA to
purchase all rights to T-cell receptor vaccines technology and for the
exclusive right to make, use and sell certain products pursuant to a sublicense
agreement.
Patents and Proprietary Rights
Our success will depend in part on our ability and our licensors' ability to
obtain and retain patent protection for our products and processes, to preserve
our trade secrets, and to operate without infringing the proprietary rights of
third parties.
We own or are exclusively licensed under pending applications and/or issued
patents worldwide relating to ConXn, Luxiq and OLUX, as well as other
technology in the earlier stages of research.
Our relaxin patent portfolio includes pending applications and issued patents
in the United States and various international equivalents which are owned by
us or licensed to us. Our relaxin patent portfolio includes certain claims
within the following categories:
40
<PAGE>
. compositions of matter;
. pharmaceutical compositions;
. methods of manufacture; and
. methods of treatment.
The issued patents in our relaxin patent portfolio will expire at various
times between 2002 and 2015. Further, no consistent policy has emerged from the
U.S. Patent and Trademark Office regarding the breadth of claims allowed in
biotechnology patents and, therefore, the degree of future protection for our
proprietary rights is uncertain. In addition, the patent laws of foreign
countries differ from those of the U.S. and the claims allowed may differ from
country to country. Accordingly, the degree of protection, if any, afforded by
foreign patents may be different from that in the U.S.
One of the European patents licensed to us, which claims gene sequence
encoding human relaxin, was opposed by a third party challenging the ethics of
patents on a human gene sequence. Our licensor successfully defended the
original opposition, resulting in a decision in our favor, but the decision has
been appealed. No assurance can be given that we will be successful on appeal.
With respect to patent applications filed by us or our licensors, and patents
issued to us or our licensors, no assurance can be given that:
. any of our or our licensors' patent applications will issue as patents;
. any such issued patents will provide competitive advantage to us; or
. any such issued patents will not be successfully challenged or
circumvented by our competitors.
Our interferon gamma patent portfolio includes issued U.S. patents and other
pending U.S. applications. The interferon gamma portfolio covers:
. compositions of matter;
. pharmaceutical compositions; and
. methods of treatment.
The issued interferon gamma patents do not begin to expire until 2009.
Our TCR vaccine patent portfolio contains U.S. patents, pending applications
in the United States, and corresponding international patents and applications.
Most of the issued TCR patents expire in 2010, with one issued U.S. patent
expiring in 2014.
We have been advised that an opposition has been filed against one of our
European TCR patents. We are also aware of other pending third party patent
applications which, if issued, might be asserted against our TCR vaccines and
products or processes as planned to be made, used or sold by us. A judgment
adverse to us in any patent interference, litigation or other proceeding could
materially adversely affect our business. In addition, its expense may be
substantial, whether or not we are successful.
We also rely on trade secrets and proprietary know-how. We require each of
our employees, consultants and advisors to execute a confidentiality agreement
providing that all proprietary information developed by or made known to the
individual during the course of the relationship will be kept confidential
during the term of the relationship with us and for one to ten years after the
relationship ends, and will not be used or disclosed to third parties except in
specified circumstances. The agreements also provide that all inventions
conceived by an employee (or consultant or advisor, to the extent appropriate
for the services provided) during the course of the relationship, are our
exclusive property. The agreement does not include inventions unrelated to our
business and
41
<PAGE>
developed entirely on the individual's own time. There can be no assurance that
this agreement will provide meaningful protection or adequate remedies for
misappropriation of our trade secrets in the event of unauthorized use or
disclosure of such information.
In addition, we encourage ongoing scientific research on relaxin by making
samples of recombinant human relaxin available for medical or scientific
research studies. We require each recipient of relaxin samples to sign a
materials transfer agreement to protect our rights to the relaxin technology.
If these agreements are breached, however, remedies may not be available or
adequate and our trade secrets may otherwise become known to competitors. To
the extent that our consultants, employees or other third parties apply
technological information independently developed by them or by others to our
proposed projects, third parties may own all or part of the proprietary rights
to such information, and disputes may arise as to the ownership of these
proprietary rights which may not be resolved in our favor. We cannot guarantee
that such third parties will not attempt to patent their work or, if patents
are issued, that they would be available to license to us.
Manufacturing
We currently have no manufacturing facilities for clinical or commercial
production of any of our products, nor do we intend to develop such
capabilities in the near future. We contract with independent sources to
manufacture our products, which enables us to focus on product and clinical
development strengths, minimize fixed costs and capital expenditures, and gain
access to advanced manufacturing process capabilities. Ridaura, in final
finished package form, is manufactured by SmithKline under an agreement with an
initial term through December 2001. Luxiq and OLUX are currently manufactured
for us by CCL Pharmaceuticals. Actimmune is manufactured by Genentech.
Boehringer Ingelheim manufactures relaxin for us for clinical and commercial
uses under a long-term contract.
Competition
The pharmaceutical and biotechnology industries are highly competitive. Other
products and therapies currently exist on the market or are under development
that could compete directly with some of the products that we are marketing, or
seeking to develop and market. There are numerous pharmaceutical and
biotechnology companies and academic research groups throughout the world
engaged in research and development efforts with respect to therapeutic
products targeted at diseases or conditions addressed by us. We believe that
the principal competitive factors in our industry include:
. managerial competence in identifying and pursuing product in-licensing
and acquisition opportunities;
. ability to obtain timely regulatory approvals from the FDA and similar
foreign regulatory agencies;
. operational competence in developing, protecting, manufacturing and
marketing products; and
. access to financial resources.
We intend to compete on the basis of the quality and efficacy of our
products, combined with the effectiveness of our marketing and sales efforts.
Competing successfully will depend on our continued ability to attract and
retain skilled and experienced personnel, to identify, secure the rights to,
and develop pharmaceutical products and compounds and to exploit these products
and compounds commercially prior to the development of competitive products by
others.
With regard to Ridaura, there are numerous products on the market, and under
development, for the treatment of rheumatoid arthritis. We believe that our
sales have declined recently in part due to
42
<PAGE>
the competition of several new rheumatoid arthritis therapies introduced by
Hoechst Marion Roussel, Immunex Corporation and Mosanto Company.
There can be no assurance that our products, even if successfully tested and
developed, will be adopted by physicians over such other products, or that our
products will offer an economically feasible alternative to existing modes of
therapy where they exist.
Many of our existing or potential competitors, particularly large
pharmaceutical companies, have substantially greater financial, technical and
human resources than us. In addition, many of these competitors have more
collective experience than us in undertaking preclinical testing and human
clinical trials of new pharmaceutical products and obtaining regulatory
approvals for therapeutic products. Accordingly, our competitors may succeed in
obtaining FDA approval for products more rapidly than us.
Government Regulation
The pharmaceutical and biotechnology industries are subject to regulation by
the FDA under the Food Drug and Cosmetic Act and by similar agencies outside of
the United States. It is expected that all of our pharmaceutical products will
require regulatory approval by governmental agencies prior to
commercialization. In particular, human pharmaceutical therapeutic products are
subject to rigorous preclinical and clinical testing and other approval
procedures by the FDA in the United States and similar health authorities in
foreign countries. Labeling and promotional activities are subject to scrutiny
by the FDA. Various federal and, in some cases, state statutes and regulations
also govern or influence the manufacturing, safety, labeling, storage, record
keeping and marketing of such pharmaceutical products. Failure to comply with
applicable requirements can result in, among other things, warning letters,
fines, injunctions, penalties, recall or seizure of products, total or partial
suspension of production, denial or withdrawal of approval, and criminal
prosecution. Accordingly, ongoing regulation by governmental entities in the
United States and other countries will be a significant factor in the
production and marketing of any pharmaceutical products that we have or may
develop. The process of obtaining these approvals and the subsequent compliance
with appropriate federal and foreign statutes and regulations are time-
consuming and require the expenditure of substantial resources.
Generally, in order to obtain FDA approval for a new therapeutic agent, a
company first must conduct pre-clinical studies. The basic purpose of pre-
clinical investigation is to gather enough evidence on the potential new agent
through laboratory experimentation and animal testing, to determine if it is
reasonably safe to begin preliminary trials in humans. The results of these
studies are submitted as a part of an investigational new drug application,
which the FDA must review before human clinical trials of an investigational
drug can start. We have filed and will continue to be required to sponsor and
file INDs and will be responsible for initiating and overseeing the clinical
studies to demonstrate the safety and efficacy that are necessary to obtain FDA
approval of our products.
Clinical trials are normally done in phases and generally take two to five
years, but may take longer, to complete. The rate of completion of our clinical
trials depends upon, among other factors, the rate at which patients enroll in
the study. Patient enrollment is a function of many factors, including the size
of the patient population, the nature of the protocol, the proximity of
patients to clinical sites and the eligibility criteria for the study. Delays
in planned patient enrollment may result in increased costs and delays, which
could have a material adverse effect on our business. Phase I trials generally
involve administration of a product to a small number of persons to determine
safety, tolerance and the metabolic and pharmacologic actions of the agent in
humans and the side effects associated with increasing doses. Phase II trials
generally involve administration of a product to a larger group of patients
with a particular disease to obtain evidence of the agent's effectiveness
against the targeted disease, to further explore risk and side effect issues,
and to confirm preliminary data regarding optimal dosage ranges. Phase I and
Phase II trials can sometimes be combined, with the FDA's concurrence, into a
Phase I/II trial. Phase III trials involve more patients, and often more
43
<PAGE>
locations and clinical investigators than the earlier trials. At least one such
trial is required for FDA approval to market a drug. Phase II and Phase III
trials can sometimes be combined, with the FDA's concurrence, into a Phase
II/III trial.
After we complete the clinical trials of a product, we must file with the FDA
a new drug application, if the product is classified as a new drug, or a
biologic license application, if the product is classified as a biologic. We
must receive FDA clearance before we can commercialize the product. The testing
and approval processes require substantial time and effort and there can be no
assurance that any approval will be granted on a timely basis, if at all. The
FDA can take between one and two years to review NDAs and BLAs, and can take
longer if significant questions arise during the review process. While various
legislative and regulatory initiatives have focused on the need to reduce FDA
review and approval times, the ultimate impact of such initiatives on our
products cannot be certain. In addition, if there are changes in FDA policy
while we are in product development, we may encounter delays or rejections that
we did not anticipate when we submitted the NDA or BLA for that product. We
could encounter similar delays in other countries. There can be no assurance
that even after such time and expenditures, regulatory approval will be
obtained for any products that we develop. If regulatory approval of a product
is granted, such approval may entail limitations on the indicated uses for
which the product may be marketed.
Even if FDA regulatory clearances are obtained, a marketed product is subject
to continual review, and later discovery of previously unknown problems or
failure to comply with the applicable regulatory requirements may result in
restrictions on the marketing of a product or withdrawal of the product from
the market, recalls, seizures, injunctions or criminal sanctions.
The "orphan drug" status of ConXn may provide us with seven years of market
exclusivity in the United States if we are the first to be cleared to market
ConXn for progressive systemic sclerosis. Although this status would prevent
other sponsors from obtaining clearance of the same product for the same
indication, it would not prevent sponsors from seeking or receiving clearance
of other types of products to treat the same indication. Moreover, the U.S.
Congress has considered and may consider in the future, legislation that would
restrict the duration of the market exclusivity of an orphan drug and, thus,
there can be no assurance that the benefits of the existing statute will remain
in effect.
In order to develop and market outside the United States, our products will
be subject to foreign regulatory requirements governing human clinical trials,
manufacturing and marketing approval for pharmaceutical products. The
requirements governing the conduct of clinical trials, product licensing,
pricing and reimbursement vary widely from country to country.
Third Party Reimbursement and Health Care Reform
The commercial success of our products will be substantially dependent upon
the availability of government or private third-party reimbursement for the use
of such products. There can be no assurance that Medicare, Medicaid, health
maintenance organizations and other third-party payers will authorize or
otherwise budget such reimbursement. Such governmental and third party payers
are increasingly challenging the prices charged for medical products and
services. There can be no assurance that our products, once marketed, will be
viewed as cost-effective or that reimbursement will be available to consumers
or will be sufficient to allow our products to be marketed on a competitive
basis. Furthermore, federal and state regulations govern or influence the
reimbursement to health care providers of fees and capital equipment costs in
connection with medical treatment of certain patients. We cannot predict the
likelihood of passage of federal and state legislation related to health care
reform or lowering pharmaceutical costs. To the extent that these or other
proposals or reforms have a material adverse effect on our ability to secure
funding for its development or on the business, financial condition and
profitability of other companies that are prospective collaborators
44
<PAGE>
for certain of our product candidates, our ability to develop or commercialize
its product candidates may be adversely affected. In certain foreign markets
pricing of prescription pharmaceuticals is already subject to government
control. Continued significant changes in the U.S. or foreign health care
systems could have a material adverse effect on our business.
Environmental Regulation
Our research and development activities involve the controlled use of
hazardous materials, chemicals and various radioactive materials. We are
subject to federal, state and local laws and regulations governing the use,
storage, handling and disposal of such materials and certain waste products.
Although we believe that our safety procedures for handling and disposing of
such materials comply with the standards prescribed by state, federal, and
local laws and regulations, the risk of accidental contamination or injury from
these materials cannot be completely eliminated. In the event of such an
accident, we could be held liable for any damages that result and any liability
could exceed our resources. We could be required to incur significant costs to
comply with environmental laws and regulations as our research activities are
increased, and if that were to happen there can be no assurance that our
operations, business and future profitability will not be adversely affected.
Development
We have several products that require clinical and manufacturing development,
including our OLUX and ketoconazole foam products and ConXn. Our development
activities involve work related to product formulation, preclinical and
clinical study coordination, regulatory administration, manufacturing, and
quality control and assurance. While many other pharmaceutical and
biotechnology companies conduct earlier stage research and drug discovery, our
focus is on later-stage development to minimize the risk and time requirements
for us to get a product on the market.
In addition to our in-house staff and resources, we contract a substantial
portion of development work to outside parties. For example, we typically
utilize contract research organizations to manage our clinical trials. We have
contracts with vendors to conduct product analysis and stability studies, and
we outsource all of our manufacturing scale-up and production activities.
Our product development activities are leveraged by our collaborative
relationships with pharmaceutical partners and academic researchers. In
particular, we have three partners that have responsibility for developing
relaxin in Europe, Japan and Canada. Through our agreements with these
partners, we have joint development committees that collaborate on decision
making and product development. Also, from time to time we enter agreements
with academic or university-based researchers to conduct various studies for
us.
Employees
As of July 31, 1999, we had 110 full-time employees. Of the full-time
employees, 52 were engaged in sales and marketing, 37 were in research and
development and 21 were in general and administrative positions. We believe our
relations with our employees are good.
Facilities
We currently lease 36,964 square feet of laboratory and office space at 3400
and 3294 West Bayshore Road in Palo Alto, California. We lease this space under
two lease agreements which will expire in January 2003. We believe that our
existing facilities are adequate to meet our requirements for the near term and
that additional space will be available on commercially reasonable terms if
needed.
Litigation
We are not a party to any material litigation proceedings.
45
<PAGE>
MANAGEMENT
- --------------------------------------------------------------------------------
Executive Officers and Directors
The following table shows information about our directors and officers as of
September 1, 1999:
<TABLE>
<CAPTION>
Name Age Position
- ---- --- --------
<S> <C> <C>
G. Kirk Raab.................... 63 Chairman of the Board of Directors
Thomas G. Wiggans............... 47 President, Chief Executive Officer and
Director
Robert G. Lederer............... 54 Sr. Vice President, Commercial Operations
Katrina J. Church............... 38 Vice President, Legal Affairs, Corporate
Counsel and Secretary
Thomas J. Franz, M.D. .......... 60 Vice President, Clinical Research,
Dermatology
Richard Hector, Ph.D. .......... 47 Vice President, Product Development --
Relaxin
John L. Higgins................. 29 Vice President, Finance and Administration
and Chief Financial Officer
Claire J. Lockey................ 46 Vice President, Regulatory Affairs
Alexander E. Barkas, Ph.D. ..... 52 Director
Eugene A. Bauer, M.D. .......... 57 Director
Brian H. Dovey.................. 58 Director
John C. Kane.................... 59 Director
Thomas D. Kiley................. 56 Director
Joseph J. Ruvane, Jr. .......... 74 Director
</TABLE>
G. Kirk Raab has served as Chairman of the Board of Directors since October
1995. From 1985 to January 1990, Mr. Raab served as President, Chief Operating
Officer and a Director of Genentech, Inc., a biotechnology company, and from
January 1990 to July 1995, he served as Genentech's President, Chief Executive
Officer and a Director. Prior to joining Genentech, Inc. in 1985, Mr. Raab was
President, Chief Operating Officer, and a Director of Abbott Laboratories, and
before that, held executive positions with Beecham Group, A.H. Robins and
Pfizer, Inc. He is also Chairman of Shaman Pharmaceuticals, Inc., LXR
Biotechnology Inc., and Oxford Glycosciences Ltd. and a director of Applied
Imaging Inc., as well as two private biotechnology companies.
Thomas G. Wiggans has served as President, Chief Executive Officer and as a
director since July 1994. From February 1992 to April 1994, Mr. Wiggans served
as President and Chief Operating Officer of CytoTherapeutics, a biotechnology
company. From 1980 to February 1992, Mr. Wiggans served in various positions at
Ares-Serono Group, a pharmaceutical company, including President of its U.S.
pharmaceutical operations and Managing Director of its U.K. pharmaceutical
operations. From 1976 to 1980 he held various sales and marketing positions
with Eli Lilly & Co., a pharmaceutical company. He is currently a director the
Biotechnology Industry Organization, and Chairman of its Emerging Company
Section. He is also a director of Paladin Labs, a public Canadian
pharmaceutical company, and another private pharmaceutical company. Mr. Wiggans
received a B.S. in Pharmacy from the University of Kansas and an M.B.A. from
Southern Methodist University.
Robert G. Lederer joined the Company as Senior Vice President, Marketing and
Sales in July 1998, and his title was changed to Senior Vice President,
Commercial Operations in January 1999. Before joining the Company, Mr. Lederer
spent 15 years with Serono Laboratories, most recently as the Executive Vice
President for Business Operations. Before joining Serono, Mr. Lederer held
sales and management positions with Becton Dickinson and Genovese Drugs. Mr.
Lederer received his B.A. from St. John's University in New York.
46
<PAGE>
Katrina J. Church has served as Vice President, Legal Affairs and Corporate
Counsel since June 1998, and as Secretary since September 1998. Prior to
joining Connetics, Ms. Church served in various positions at VISX,
Incorporated, most recently as Vice President, General Counsel. Before joining
VISX in 1991, Ms. Church practiced law with the firm Hopkins & Carley in San
Jose, California. Ms. Church received her J.D. from the New York University
School of Law, and her A.B. from Duke University.
Thomas J. Franz, M.D. has served as Vice President, Clinical Research,
Dermatology since April 1997. From 1994 to 1997, Dr. Franz was a Professor in
the Department of Dermatology at the University of Arkansas. Previous faculty
positions in Dermatology were also held at the University of Washington School
of Medicine. In 1987, Dr. Franz served as Vice President, Research and
Development at Hercon Laboratories in New Jersey, and from 1985 to 1987 Dr.
Franz served as Director, Clinical Investigation for Hoffman-LaRoche. Dr. Franz
has additionally served as Consulting Medical Officer to the FDA and on NIH
Study Sections, and has numerous publications. Dr. Franz earned his BS from the
University of Portland, and MS and MD from the University of Oregon Medical
School, where he did his internship. He served a residency in dermatology at
the University of Washington School of Medicine.
Richard Hector, Ph.D. has served as Vice President, Product Development,
Relaxin since May 1999. Prior to joining Connetics, Dr. Hector worked in
various positions at Shaman Pharmaceuticals, most recently as Senior Director
and Head of the Biological Sciences Department, and as a Senior Staff Scientist
at Bayer Corporation. Dr. Hector received his B.A. in Bacteriology and Ph.D. in
Microbiology from U.C. Davis and his postdoctoral research was conducted in
medical mycology at Tulane University School of Medicine.
John L. Higgins has served as Vice President, Finance and Administration and
Chief Financial Officer since September 1997. Prior to joining Connetics, he
was a member of the executive management team at BioCryst Pharmaceuticals, Inc.
Before joining BioCryst in 1994, Mr. Higgins was a member of the health care
banking team of Dillon, Read & Co. Inc., an investment banking firm. He is a
director of InterMune Pharmaceuticals, Inc. He received his A.B. from Colgate
University.
Claire J. Lockey has served as Vice President, Regulatory Affairs since 1997.
Prior to joining Connetics, Ms. Lockey served as Vice President, Regulatory
Affairs and Quality Assurance for Gore Hybrid Technologies, Inc. From 1985-
1995, she served as the Vice President, Regulatory Affairs and Quality
Assurance for Synergia, a consulting organization specializing in regulatory
and clinical development of health care products. From 1991-1993, Ms. Lockey
served as a Director, Regulatory Affairs and Quality Assurance at Alamar
Biosciences, Inc. Ms. Lockey received her B.A. in Biology from Boston
University.
Alexander E. Barkas, Ph.D. has served as a director since November 1993. He
served as Chief Executive Officer and Acting Chairman of the Board of Directors
from January 1994 to August 1994 and as Chairman of the Board of Directors from
August 1994 to October 1995. Dr. Barkas has been a Managing Partner of Prospect
Venture Partners, a venture capital investment firm, since June 1997. He was
previously a partner with Kleiner Perkins Caufield & Byers, a venture capital
investment firm from September 1991 to June 1997. Dr. Barkas serves as Chairman
of the Board of Geron Corporation, a public pharmaceutical company, and as a
director of several private medical technology companies.
Eugene A. Bauer, M.D. has served as a director since January 1996 and also
served as a director from our inception in February 1993 to September 1995. Dr.
Bauer has been Dean of the Stanford University School of Medicine since 1995,
Vice President for Medical Affairs of Stanford University since 1971,
Professor, Department of Dermatology, Stanford University School of Medicine
since
47
<PAGE>
1988, and Chief of the Dermatology Service at Stanford University Hospital from
1988 to 1995. Previously, he was a professor at Washington University School of
Medicine from 1982 to 1988. He has served as chairman of two National
Institutes of Health study sections of the National Institute of Arthritis and
Musculoskeletal and Skin Diseases and has served on a board of scientific
counselors for the National Cancer Institute. Dr. Bauer is currently a director
of Reconstructive Technologies, Inc.
Brian H. Dovey has served as a director since February 1995. He has been a
managing member of Domain Associates L.L.C., a venture capital investment firm
since 1988. From 1986 to 1988, Mr. Dovey was President of Rorer Group, Inc., a
pharmaceutical company. Mr. Dovey also serves on the Boards of Directors of
Creative BioMolecules, Inc., Trimeris, Inc. and U.S. Bioscience, Inc., all
public companies, and as a director of several private companies.
John C. Kane has served as a director since January 1997. He joined Cardinal
Health, Inc., a healthcare services provider, as President and Chief Operating
Officer in March 1993. Prior to joining Cardinal, Mr. Kane served in various
operational and management positions at Abbott Laboratories for 19 years, most
recently as President of Ross Laboratories Division. Mr. Kane is a director of
Cardinal Health, Inc. Mr. Kane also serves on several medical advisory councils
and educational foundations.
Thomas D. Kiley has served as a director since November 1993. He has been
self-employed since 1988 as an attorney, consultant and investor. From 1980 to
1988, he was an officer of Genentech, serving variously as Vice President and
General Counsel, Vice President for Legal Affairs and Vice President for
Corporate Development. From 1969 to 1980, he was with the Los Angeles law firm
of Lyon & Lyon and was a partner from 1975 to 1980. Mr. Kiley is also a
director of Geron Corporation, a public pharmaceutical company, and certain
private biotechnology and other companies.
Joseph J. Ruvane, Jr. has served as director of the company since November
1995. From 1981 to 1988, Mr. Ruvane was President, CEO, and Chairman of Glaxo
Inc, a pharmaceutical company. He also served as the executive director of
Glaxo Holdings plc. Mr. Ruvane currently serves on the board of directors of
Incara, a public company, Southern Research Institute in Birmingham, AL, the
James G. Cannon Research Center in Charlotte, NC, and is the chairman of POZEN
Inc., a private company.
48
<PAGE>
UNDERWRITING
- --------------------------------------------------------------------------------
Connetics and the Underwriters for the offering named below have entered into
an underwriting agreement concerning the shares being offered. Subject to
certain conditions, each Underwriter has each agreed to purchase the number of
shares indicated in the following table. Warburg Dillon Read LLC, Hambrecht &
Quist LLC and Raymond James & Associates, Inc. are the representatives of the
Underwriters.
<TABLE>
<CAPTION>
Underwriters Number of Shares
------------ ----------------
<S> <C>
Warburg Dillon Read LLC.....................................
Hambrecht & Quist LLC.......................................
Raymond James & Associates, Inc.............................
Total.....................................................
====
</TABLE>
----------------
If the Underwriters sell more shares than the total number set forth in the
table above, the Underwriters have an option to buy up to an additional 600,000
shares from us to cover these sales. They may exercise that option for 30 days.
If any shares are purchased under this option, the Underwriters will severally
purchase shares in approximately the same proportion as set forth in the table
above.
The following tables show the per share and total underwriting discounts and
commissions to be paid to the Underwriters by Connetics. These amounts are
shown assuming both no exercise and full exercise of the Underwriters' option
to purchase up to an additional 600,000 shares.
<TABLE>
<CAPTION>
No Exercise Full Exercise
----------- -------------
<S> <C> <C>
Per Share.......................................... $ $
Total............................................ $ $
</TABLE>
Shares sold by the Underwriters to the public will initially be offered at
the initial price to public set forth on the cover of this prospectus. Any
shares sold by the Underwriters to securities dealers may be sold at a discount
of up to $ per share from the initial price to public. Any of these
securities dealers may resell any shares purchased from the Underwriters to
other brokers or dealers at a discount of up to $ per share from the
initial price to public. If all the shares are not sold at the initial price to
public, the representatives may change the offering price and the other selling
terms.
Connetics, its directors, officers and certain of its stockholders have
agreed with the Underwriters not to offer, sell, contract to sell, hedge or
otherwise dispose of any of its common stock or securities convertible into or
exchangeable for shares of common stock during the period from the date of this
prospectus continuing through the date 90 days after the date of this
prospectus, without the prior written consent of Warburg Dillon Read LLC. This
agreement does not apply to any existing employee benefit plans.
In connection with the offering, the Underwriters may purchase and sell
shares of common stock in the open market. These transactions may include short
sales, stabilizing transactions and purchases to cover positions created by
short sales. Short sales involve the sale by the Underwriters of a greater
number of shares than they are required to purchase in the offering.
Stabilizing transactions consist of bids or purchases made for the purpose of
preventing or retarding a decline in the market price of the common stock while
the offering is in progress.
49
<PAGE>
The Underwriters also may impose a penalty bid. This occurs when a particular
Underwriter repays to the Underwriters a portion of the underwriting discount
received by it because the representatives have repurchased shares sold by or
for the account of such Underwriter in stabilizing or short covering
transactions.
These activities by the Underwriters may stabilize, maintain or otherwise
affect the market price of the common stock. As a result, the price of the
common stock may be higher than the price that otherwise might exist in the
open market. If these activities are commenced, they may be discontinued by the
Underwriters at any time. These transactions may be effected on the Nasdaq
National Market, in the over-the-counter market or otherwise.
As permitted by Rule 103 under the Exchange Act, certain Underwriters and
selling group members that are market makers ("passive market makers") in the
common stock may make bids for or purchases of common stock in the Nasdaq
National Market until a stabilizing bid has been made. Rule 103 generally
provides that:
. a passive market maker's net daily purchases of the common stock may not
exceed 30% of its average daily trading volume in such securities for the
full consecutive calendar months, or any 60 consecutive days ending
within the 10 days, immediately preceding the filing date of the
registration statement of which this prospectus forms a part,
. a passive market maker may not effect transactions or display bids for
common stock at a price that exceeds the highest independent bid for the
common stock by persons who are not passive market makers, and
. bids made by passive market makers must be identified.
Connetics estimates that the total expenses of the offering, excluding
underwriting discounts and commissions, will be approximately $ .
Connetics has agreed to indemnify the several Underwriters against certain
liabilities, including liabilities under the Securities Act of 1933, and to
contribute to payments that the Underwriters may be required to make in respect
thereof.
50
<PAGE>
LEGAL MATTERS
- --------------------------------------------------------------------------------
The validity of our common stock will be passed upon for us by Wilson Sonsini
Goodrich & Rosati, Professional Corporation, Palo Alto, California. Certain
legal matters will be passed upon for the Underwriters by Brobeck, Phleger and
Harrison LLP, Broomfield, Colorado.
EXPERTS
- --------------------------------------------------------------------------------
Ernst & Young LLP, independent auditors, have audited our consolidated
financial statements at December 31, 1998 and 1997, and for each of the three
years in the period ended December 31, 1998, as set forth in their report. We
have included our financial statements in the prospectus and elsewhere in the
registration statement in reliance on Ernst & Young LLP's report, given on
their authority as experts in accounting and auditing.
51
<PAGE>
WHERE YOU CAN FIND ADDITIONAL INFORMATION
- --------------------------------------------------------------------------------
This prospectus constitutes a part of a registration statement on Form S-3
filed by us with the SEC under the Securities Act. This prospectus does not
contain all of the information set forth in the registration statement, parts
of which are omitted in accordance with the rules and regulations of the SEC.
For further information about Connetics and the shares of common stock offered,
reference is made to the registration statement. Statements contained in this
prospectus concerning the provisions of any document are not necessarily
complete, and each such statement is qualified in its entirety by reference to
the copy of such document filed with the SEC.
We file annual, quarterly and special reports, proxy statements, and other
information with the SEC. You may read and copy any document we file at the
SEC's public reference facilities maintained by the SEC at Room 1024, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at the SEC's following Regional
Offices: Suite 1400, Northwest Atrium Center, 500 West Madison Street, Chicago,
Illinois 60661; and 13th Floor, Seven World Trade Center, New York, New York
10048. Copies of this material can be obtained at prescribed rates from the
Public Reference Section of the SEC at 450 Fifth Street, N.W., Washington, D.C.
20549. Please call the SEC at 1-800-SEC-0330 for further information on the
public reference rooms. Our SEC filings are also available to the public at the
SEC's web site at http://www.sec.gov. Additional information about us may be
found on our web site at http://www.connetics.com. Information contained on our
web site does not constitute part of this prospectus.
The SEC allows us to incorporate by reference the information we file with
them, which means that we can disclose important information to you by
referring you to those documents. The information incorporated by reference is
considered to be part of this prospectus, and later information that we file
with the SEC will automatically update and supersede this information. We
incorporate by reference the documents listed below, and any future filings
made with the SEC under Sections 13(a), 13(c), 14 or 15(d) of the Exchange Act,
until the offering is completed. This prospectus is part of a registration
statement on Form S-3 we filed with the SEC (Registration No. 333-85833). The
documents we incorporate by reference are:
1. Connetics' annual report on Form 10-K for the fiscal year ended December
31, 1998,
2. Connetics' quarterly report on Form 10-Q for the quarter ended March 31,
1999,
3. Connetics' quarterly report on Form 10-Q for the quarter ended June 30,
1999.
4. Connetic's Registration Statement on Form 8-A dated May 23, 1997, which
contains a description of our capital stock.
5. Connetic's Registration Statement on Form 8-A dated December 8, 1995,
which contains a description of our capital stock.
You may request a copy of these filings, at no cost, by writing or
telephoning us at the following address: Corporate Counsel, Connetics
Corporation, 3400 West Bayshore Road, Palo Alto, CA 94303; telephone number
(650) 843-2800.
52
<PAGE>
CONNETICS CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
Report of Ernst & Young LLP, Independent Auditors.......................... F-2
Consolidated Balance Sheets................................................ F-3
Consolidated Statements of Operations...................................... F-4
Consolidated Statements of Stockholders' Equity............................ F-5
Consolidated Statements of Cash Flows...................................... F-6
Notes to Consolidated Financial Statements................................. F-7
</TABLE>
F-1
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of Connetics Corporation
We have audited the accompanying consolidated balance sheets of Connetics
Corporation as of December 31, 1997 and 1998, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each of the
three years in the period ended December 31, 1998. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Connetics Corporation at December 31, 1997 and 1998, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting
principles.
/s/ ERNST & YOUNG LLP
Palo Alto, California
January 13, 1999
F-2
<PAGE>
CONNETICS CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
<TABLE>
<CAPTION>
December 31,
------------------ June 30,
1997 1998 1999
-------- -------- -----------
(Unaudited)
<S> <C> <C> <C>
Assets
Current assets:
Cash and cash equivalents..................... $ 8,452 $ 14,708 $ 10,030
Short-term investments........................ 5,894 8,312 5,941
Accounts receivable, net...................... 1,527 485 3,373
Other current assets.......................... 158 118 956
-------- -------- ---------
Total current assets......................... 16,031 23,623 20,300
Property and equipment, net.................... 1,663 1,128 1,638
Notes receivable from related parties.......... 333 379 385
Deposits and other assets...................... 160 104 121
Licensed assets and product rights............. 12,881 6,160 2,800
-------- -------- ---------
$ 31,068 $ 31,394 $ 25,244
======== ======== =========
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable.............................. $ 1,492 $ 1,229 $ 2,484
Accrued liabilities........................... 1,100 879 1,695
Accrued process development expenses.......... 586 644 698
Accrued payroll and related expenses.......... 536 1,003 1,136
Current portion of notes payable and other
liabilities.................................. 2,884 6,822 6,358
Current portion of capital lease obligations,
capital loans and long-term debt............. 2,746 582 1,354
-------- -------- ---------
Total current liabilities.................... 9,344 11,159 13,725
Non-current portion of capital lease
obligations, capital loans and long-term
debt.......................................... 649 4,002 3,467
Other long-term liabilities.................... 9,666 3,781 --
Redeemable convertible preferred stock, Series
A............................................. 600 -- --
Commitments
Stockholders' equity:
Preferred stock, $0.001 par value:
5,000,000 shares authorized; redeemable
convertible preferred stock, Series A,
shares issued and outstanding:
60 in 1997, none in 1998 and 1999; and
preferred stock none issued or outstanding
in 1997, 1998 and 1999 -- -- --
Common stock, $0.001 par value, and additional
paid-in capital:
50,000,000 shares authorized; shares issued
and outstanding: 13,244,164 in 1997,
20,577,067 in 1998 and 21,517,419 in 1999... 77,518 105,285 111,446
Notes receivable from stockholders............ (75) (65) (65)
Deferred compensation, net.................... (763) (302) (125)
Accumulated deficit........................... (65,873) (92,469) (103,183)
Accumulated other comprehensive income........ 2 3 (21)
-------- -------- ---------
Total stockholders' equity................... 10,809 12,452 8,052
-------- -------- ---------
$ 31,068 $ 31,394 $ 25,244
======== ======== =========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-3
<PAGE>
CONNETICS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
Six Months Ended
Years Ended December 31, June 30,
---------------------------- ------------------
1996 1997 1998 1998 1999
-------- -------- -------- -------- --------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Revenues:
Product.................... $ 428 $ 6,803 $ 7,473 $ 3,171 $ 6,883
Contract................... -- -- 1,648 1,648 7,379
-------- -------- -------- -------- --------
Total revenues.............. 428 6,803 9,121 4,819 14,262
Operating costs and
expenses:
Cost of product revenues... -- 1,149 1,374 607 2,651
License amortization....... 594 7,124 6,720 3,360 3,360
Research and development... 13,161 17,162 11,446 5,283 8,580
Selling, general and
administrative............ 5,434 8,966 11,680 5,505 10,501
Charge for pre-FDA approved
product rights............ -- -- 4,000 4,000 --
-------- -------- -------- -------- --------
Total operating costs and
expenses................... 19,189 34,401 35,220 18,755 25,092
Loss from operations........ (18,761) (27,598) (26,099) (13,936) (10,830)
Interest and other income... 1,190 860 808 411 640
Gain on sale of license
rights..................... -- 525 -- -- --
Interest expense............ (943) (1,722) (1,304) (739) (524)
-------- -------- -------- -------- --------
Net loss.................... $(18,514) $(27,935) $(26,595) $(14,264) $(10,714)
======== ======== ======== ======== ========
Basic and diluted net loss
per share.................. $ (2.71) $ (2.69) $ (1.61) $ (0.95) $ (0.50)
Shares used to calculate
basic and diluted net loss
per share.................. 6,825 10,412 16,533 15,081 21,235
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-4
<PAGE>
CONNETICS CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands)
<TABLE>
<CAPTION>
Convertible Common Stock
Preferred and Additional Accumulated
Stock Paid in Capital Other
-------------- ---------------- Notes Deferred Accumulated Comprehensive
Shares Amount Shares Amount Receivable Compensation Deficit Income(Loss) Total
------ ------ ------ -------- ---------- ------------ ----------- ------------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balances at December 31,
1995.................... 3,965 $ 4 909 $ 21,426 $(134) $(1,933) $ (19,300) $ -- $ 63
Issuance of common stock
at IPO, net............. -- -- 2,500 24,521 -- -- -- -- 24,521
Conversion of preferred
stock into common stock
at IPO.................. (3,965) (4) 3,965 4 -- -- -- -- --
Common stock issued
under stock option and
purchase plans.......... -- -- 63 118 -- -- -- -- 118
Issuance of common stock
warrants................ -- -- 10 -- -- -- -- -- --
Common stock issued
pursuant to private
placement, net.......... -- -- 972 5,930 -- -- -- -- 5,930
Common stock issued to
SmithKline for asset
purchase................ -- -- 638 9,000 -- -- -- -- 9,000
Payment of notes
receivable.............. -- -- -- -- 59 -- -- -- 59
Deferred compensation
from stock incentive
program, net of
amortization............ -- -- -- 8 -- 618 -- -- 626
Comprehensive loss:
Net loss............... -- -- -- -- -- -- (18,514) -- (18,514)
Unrealized loss on
investments............ -- -- -- -- -- -- -- (3) (3)
--------
Comprehensive loss...... -- -- -- -- -- -- -- -- (18,517)
------ ---- ------ -------- ----- ------- --------- ---- --------
Balances at December 31,
1996.................... -- -- 9,057 61,007 (75) (1,315) (37,814) (3) 21,800
------ ---- ------ -------- ----- ------- --------- ---- --------
Common stock issued
under stock option and
purchase plans.......... -- -- 185 187 -- -- -- -- 187
Common stock issued
pursuant to private
placements, net......... -- -- 3,560 15,894 -- -- -- -- 15,894
Conversion of Series A
preferred stock and
accrued dividends....... -- -- 442 1,521 -- -- (124) -- 1,397
Amendment to guaranteed
market value of common
stock issued to
SmithKline.............. -- -- -- (1,000) -- -- -- -- (1,000)
Deferred compensation
from stock incentive
program, net of
amortization............ -- -- -- (91) -- 552 -- -- 461
Comprehensive loss:
Net loss............... -- -- -- -- -- -- (27,935) -- (27,935)
Unrealized gain on
investments............ -- -- -- -- -- -- -- 5 5
--------
Comprehensive loss...... -- -- -- -- -- -- -- -- (27,930)
------ ---- ------ -------- ----- ------- --------- ---- --------
Balances at December 31,
1997.................... -- -- 13,244 77,518 (75) (763) (65,873) 2 10,809
------ ---- ------ -------- ----- ------- --------- ---- --------
Common stock issued
under stock option and
purchase plans.......... -- -- 337 513 -- -- -- -- 513
Conversion of Series A
preferred stock and
accrued dividends....... -- -- 251 604 -- -- (1) -- 603
Common stock issued
pursuant to private
placements, net......... -- -- 5,330 22,671 -- -- -- -- 22,671
Issuance of common stock
and amendment to
guaranteed market value
of common stock issued
to SmithKline........... -- -- 1,038 (308) -- -- -- -- (308)
Common stock issued
pursuant to license
agreements.............. -- -- 382 4,010 -- -- -- -- 4,010
Payment of notes
receivable and
repurchase of common
stock................... -- -- (5) (14) 10 -- -- -- (4)
Deferred compensation
from stock incentive
program, net of
amortization............ -- -- -- 291 -- 461 -- -- 752
Comprehensive loss:
Net loss............... -- -- -- -- -- -- (26,595) -- (26,595)
Unrealized gain on
investments............ -- -- -- -- -- -- -- 1 1
--------
Comprehensive loss...... -- -- -- -- -- -- -- -- (26,594)
------ ---- ------ -------- ----- ------- --------- ---- --------
Balances at December 31,
1998.................... -- $ -- 20,577 $105,285 $ (65) $ (302) $ (92,469) $ 3 $ 12,452
------ ---- ------ -------- ----- ------- --------- ---- --------
Common stock issued
under stock option and
purchase plans
(unaudited)............. -- -- 312 616 -- -- -- -- 616
Issuance of common stock
under license agreements
(unaudited)............. -- -- 628 4,720 -- -- -- -- 4,720
Deferred compensation
from stock incentive
program, net of
amortization
(unaudited)............. -- -- -- 825 -- 177 -- -- 1,002
Comprehensive loss:
Net loss (unaudited)... -- -- -- -- -- -- (10,714) -- (10,714)
Unrealized gain on
investments
(unaudited)............ -- -- -- -- -- -- -- (24) (24)
--------
Comprehensive loss
(unaudited)............. -- -- -- -- -- -- -- -- (10,738)
------ ---- ------ -------- ----- ------- --------- ---- --------
Balances at June 30,
1999 (unaudited)........ -- $ -- 21,517 $111,446 $ (65) $ (125) $(103,183) $(21) $ 8,052
====== ==== ====== ======== ===== ======= ========= ==== ========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-5
<PAGE>
CONNETICS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
Six Months Ended
Years Ended December 31, June 30,
---------------------------- ------------------
1996 1997 1998 1998 1999
-------- -------- -------- -------- --------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Cash flows from operating
activities:
Net loss..................... $(18,514) $(27,935) $(26,595) $(14,264) $(10,714)
Adjustments to reconcile net
loss to net cash used by
operating activities:
Depreciation and
amortization............... 1,237 7,911 7,488 3,817 3,781
Technology acquired in
exchange for note payable
and other long-term
liability.................. -- -- 4,010 4,010 --
Amortization of deferred
compensation............... 626 461 752 335 1,002
Accrued interest on notes
payable.................... -- 1,107 519 259 --
Gain on sale of Canadian
rights to Ridaura.......... -- (525) -- -- --
Changes in assets and
liabilities:
Accounts receivable........ (428) (1,099) 1,042 1,209 (2,888)
Current and other assets... 690 (17) 18 (117) (469)
Accounts payable........... 3,738 (2,687) (263) (521) 1,255
Accrued liabilities........ 2,203 (809) 1,038 952 854
-------- -------- -------- -------- --------
Net cash used by operating
activities.................. (10,448) (23,593) (11,991) (4,320) (7,179)
-------- -------- -------- -------- --------
Cash flows from investing
activities:
Purchases of short-term
investments................. (21,650) (12,152) (10,969) (3,971) (1,901)
Sales and maturities of
short-term investments...... 11,648 16,263 8,552 5,666 4,248
Capital expenditures......... (461) (865) (176) (73) (931)
Sale of Canadian rights to
Ridaura..................... -- 1,300 -- -- --
Payment for licensed assets
and product rights.......... (3,000) (1,000) (308) (308) --
-------- -------- -------- -------- --------
Net cash (used in) provided
by investing activities..... (13,463) 3,546 (2,901) 1,314 1,416
-------- -------- -------- -------- --------
Cash flows from financing
activities:
Proceeds (payments) from bank
loans....................... -- -- 4,000 -- --
Payment of notes payable..... (2,205) -- (3,200) (1,000) (3,300)
Proceeds from capital loans
and long-term debt.......... 323 333 -- 2 --
Payments on obligations under
capital leases and capital
loans....................... (1,244) (2,470) (2,836) (1,304) (232)
Proceeds from issuance of
redeemable preferred stock.. 2,000 -- -- -- --
Proceeds from issuance of
preferred and common stock,
net......................... 30,569 16,081 23,184 10,243 4,617
-------- -------- -------- -------- --------
Net cash provided by
financing activities........ 29,443 13,944 21,148 7,941 1,085
-------- -------- -------- -------- --------
Net change in cash and cash
equivalents................. 5,532 (6,103) 6,256 4,935 (4,678)
Cash and cash equivalents at
beginning of period......... 9,023 14,555 8,452 8,452 14,708
-------- -------- -------- -------- --------
Cash and cash equivalents at
end of period............... $ 14,555 $ 8,452 $ 14,708 $ 13,387 $ 10,030
======== ======== ======== ======== ========
Supplementary information:
Interest paid................ $ 1,062 $ 615 $ 698 $ 360 $ 423
Investing and financing
activities:
Assets acquired under capital
leases...................... $ 199 $ -- $ -- $ -- $ --
Deferred compensation related
to stock options, purchase
rights and purchase plan.... $ 145 $ -- $ 387 $ 153 $ 505
Issuance of common stock for
licensed assets and product
rights...................... $ 9,000 $ -- $ 4,010 $ 4,010 $ 719
Issuance of note payable for
licensed assets and product
rights...................... $ 9,375 $ -- $ -- $ -- $ --
Preferred dividends on
redeemable preferred stock,
series A.................... $ -- $ 124 $ 1 $ -- $ --
Conversion of redeemable
preferred stock, series A
and preferred dividends into
common stock................ $ -- $ 1,521 $ 604 $ 604 $ --
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
1. Organization and Summary of Significant Accounting Policies
Organization
Connetics Corporation was incorporated in the State of Delaware on February
8, 1993. In May 1997, our stockholders approved a change of the Company's name
from "Connective Therapeutics, Inc." to "Connetics Corporation." References in
this section to historical results include our results when we were known as
"Connective Therapeutics, Inc." From our inception through 1996 we have
principally been involved in research and development of therapeutics for
diseases that involve connective tissues of the body, obtaining financing,
recruiting personnel, securing operating facilities, and pursuing business
development opportunities.
In December 1996, we acquired exclusive U.S. and Canadian rights to
Ridaura(R), a disease modifying anti-rheumatic drug, from SmithKline Beecham
Corporation and related entities (SmithKline). Ridaura is the first product we
commercialized, and it signified the beginning of our transition from purely
product development to a revenue based sales and marketing company. In December
1997, we submitted a new drug application with the FDA to market Luxiq for the
treatment of steroid responsive scalp dermatoses in North America. In 1998, we
formed a wholly-owned subsidiary corporation, InterMune Pharmaceuticals, Inc.,
(InterMune) to further develop and market certain patent rights and know-how to
interferon gamma in the United States through an exclusive license from
Genentech, Inc. (see Notes 5 and 13). In March 1999, we received marketing
clearance from the FDA to sell Luxiq and in April 1999, we launched Luxiq.
There can be no assurance that any of our other potential products will be
successfully developed, receive the necessary regulatory approvals or be
successfully commercialized. Accordingly, our ability to continue our
development and commercialization activities is dependent upon the ability of
our management to obtain substantial additional financing.
Liquidity and Financial Viability
In the course of our development activities, we have sustained continuing
operating losses and expect such losses to continue for the next few years. Our
future capital uses and requirements depend on numerous factors, including the
progress of our research and development programs, the progress of clinical
testing, the time and costs involved in obtaining regulatory approvals, the
cost of filing, prosecuting, and enforcing patent claims and other intellectual
property rights, competing technological and market developments, our ability
to establish collaborative arrangements, the level of product revenues, the
possible acquisition of new products and technologies, and the development of
commercialization activities. Therefore, such capital uses and requirements may
increase in future periods. As a result, we may require additional funds prior
to reaching profitability and may attempt to raise additional funds through
equity or debt financings, collaborative arrangements with corporate partners
or from other sources.
Other than the equity line agreement (see Note 6), we currently have no
commitments for any additional financings, and there can be no assurance that
additional funding will be available to finance our ongoing operations when
needed or, if available, that the terms for obtaining such funds will be
favorable or will not result in dilution to the our stockholders. Our inability
to obtain sufficient funds could require us to delay, scale back or eliminate
some or all of our research and development programs, to limit the marketing of
our products or to license to third parties the rights to commercialize
products or technologies that we would otherwise seek to develop and market
ourselves.
F-7
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
Principles of Consolidation
The consolidated financial statements include our accounts and our wholly-
owned subsidiary corporation, InterMune through April 28, 1999. Material
intercompany balances and transactions have been eliminated.
Interim Financial Information
The financial information as of June 30, 1999 and for the six months ended
June 30, 1998 and 1999 is unaudited but includes all adjustments, consisting
only of normal recurring adjustments, that we consider necessary for the fair
presentation of our financial position, operating results and cash flows for
the interim date and periods. Results for the six months ended June 30, 1999
are not necessarily indicative of results to be expected for the full fiscal
year 1999 or for any future period.
Cash, Cash Equivalents and Short-term Investments
Cash and cash equivalents consist of cash on deposit with banks and money
market instruments with original maturity of 90 days or less. Investments with
maturities beyond three months at the date of acquisition and that mature
within one year from the balance sheet date are considered to be short-term
investments. Cash equivalents and short-term investments are carried at fair
value, with unrealized gains and losses, net of tax, reported as a separate
component of stockholders' equity. The cost of securities sold is based on the
specific identification method.
We believe we have established guidelines for the investment of our excess
cash relative to diversification and maturities that maintain safety and
liquidity.
Fair Value of Financial Instruments
The carrying amount of cash, cash equivalents and short-term investments,
accounts receivable, notes receivable from related parties, current
liabilities, notes payable, and long-term lease obligations, loans and debt are
considered to be representative of their respective fair values at December 31,
1998.
Property and Equipment
Property and equipment is stated at cost and depreciated using the straight-
line method over the useful lives of the assets, generally three to five years.
Assets acquired under capital lease arrangements are amortized over the shorter
of the estimated useful lives or the lease term.
Research and Development
Research and development costs are expensed as incurred.
Revenue Recognition
Revenues from product sales are recognized upon shipment, net of allowances
for estimated returns, rebates and chargebacks. We are obligated to accept from
customers the return of
F-8
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
pharmaceuticals that have reached their expiration date. To date we have not
experienced significant returns of expired products. Contract revenue under
collaborative agreements is recognized when earned under the terms of the
agreement and when performance obligations have been met, related payments are
receivable and non-refundable, and when collection is assured.
Income Taxes
Income taxes are accounted for under the asset and liability method where
deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled.
Net Loss Per Share
Effective 1997, we adopted Statement of Financial Accounting Standards No.
128, "Earnings Per Share" (SFAS 128). This statement requires the presentation
of basic and diluted net income or loss per share. Basic net loss per common
share is computed using the weighted average number of common shares
outstanding during the period. Diluted net loss per share is computed using the
weighted average of common and diluted equivalent shares outstanding during the
period. All historical earnings per share amounts have been restated to conform
to the provisions of this statement (see Note 14).
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.
Disclosure about Segments of an Enterprise and Related Information
Effective January 1, 1998, we adopted Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information" (SFAS 131). SFAS 131 establishes standards for the way that public
business enterprises report information about operating segments in annual
financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports. SFAS 131
also establishes standards for related disclosures about products and services,
geographic areas, and major customers. SFAS 131 is effective beginning in our
year ended December 31, 1998. Currently we operate one segment, the development
and commercialization of therapeutics for diseases that involve connective
tissues of the body, and therefore there is no impact to our financial
statements of adopting SFAS 131. For the year ended December 31, 1998 and the
six months ended June 30, 1999, all of our product sales were to customers in
the United States. For the year ended December 31, 1997, sales to customers
outside the United States (principally in Canada) were $353,000.
F-9
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
2. Cash Equivalents and Short-term Investments
The following is a summary of available-for-sale investments (in thousands):
<TABLE>
<CAPTION>
December 31, 1997
------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Loss Value
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Corporate bonds.................... $ 3,824 $ 1 $ -- $ 3,825
Commercial paper................... 1,947 -- -- 1,947
Certificate of deposits............ 2,068 1 -- 2,069
Money market funds................. 3,582 -- -- 3,582
-------- ---- ---- --------
Total............................ 11,421 2 -- 11,423
Less amount classified as cash
equivalents....................... (5,529) -- -- (5,529)
-------- ---- ---- --------
Total short-term investments....... $ 5,892 $ 2 $ -- $ 5,894
======== ==== ==== ========
<CAPTION>
December 31, 1998
------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Loss Value
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Corporate bonds.................... $ 4,017 $ 3 $ (3) $ 4,017
Commercial paper................... 15,638 3 -- 15,641
Certificate of deposits............ 520 -- -- 520
Money market funds................. 391 -- -- 391
-------- ---- ---- --------
Total............................ 20,566 6 (3) 20,569
Less amount classified as cash
equivalents....................... (12,255) (2) -- (12,257)
-------- ---- ---- --------
Total short-term investments....... $ 8,311 $ 4 $ (3) $ 8,312
======== ==== ==== ========
<CAPTION>
June 30, 1999 (unaudited)
------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Costs Gains Loss Value
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Corporate bonds.................... $ 7,082 $ -- $(20) $ 7,062
Commercial paper................... 7,469 -- (2) 7,467
Money market funds................. 67 -- -- 67
-------- ---- ---- --------
Total............................ 14,618 -- (22) 14,596
Less amount classified as cash
equivalents....................... (8,657) -- 2 (8,655)
-------- ---- ---- --------
Total short-term investments....... $ 5,961 $ -- $(20) $ 5,941
======== ==== ==== ========
</TABLE>
The net unrealized holding gain (loss) on available-for-sale investments
included as a separate component of stockholders' equity totaled $2,000 at
December 31, 1997, $1,000 at December 31, 1998 and $(20,000) at June 30, 1999.
The gross realized gains on sales of available-for-sale investments totaled
$442,000 in 1997, $398,000 in 1998 and $331,000 in the six months ended
June 30, 1999. Gross realized losses on sales of available-for-sale investments
totaled $78,000 in
F-10
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
1997, $53,000 in 1998 and none in the six months ended June 30, 1999. Realized
gains and losses were calculated based on the specific identification method.
3. Property and Equipment
Property and equipment consists of the following (in thousands):
<TABLE>
<CAPTION>
December 31,
---------------- June 30,
1997 1998 1999
------- ------- -----------
(unaudited)
<S> <C> <C> <C>
Laboratory equipment......................... $ 1,779 $ 1,889 $ 2,458
Computer equipment........................... 501 546 714
Furniture and fixtures....................... 397 417 527
Leasehold improvements....................... 729 730 814
------- ------- -------
3,406 3,582 4,513
Less accumulated depreciation and
amortization................................ (1,743) (2,454) (2,875)
------- ------- -------
Property and equipment, net.................. $ 1,663 $ 1,128 $ 1,638
======= ======= =======
</TABLE>
Property and equipment includes assets under capitalized leases at December
31, 1998 and 1997 and June 30, 1999 of approximately $1.0 million. Accumulated
amortization related to leased assets was approximately $831,000 at December
31, 1997, $945,000 at December 31, 1998 and $975,000 at June 30, 1999. There
were no new capitalized leases in 1998 or in the six months ended June 30,
1999.
4. Notes Receivable from Related Parties
We hold notes receivable from our officers totaling $333,000 at December 31,
1997, $379,000 at December 31, 1998 and $385,000 at June 30, 1999. These notes,
which bear interest at rates ranging from 5.5% to 8.5% annually, are
collateralized by certain personal assets of our officers and are generally due
and payable within three to five years.
5. Research and License Agreements
Product Rights
In December 1996, we acquired exclusive United States and Canadian rights to
Ridaura, a disease modifying anti-rheumatic drug from SmithKline. The
agreement, which was amended in 1997 and 1998, is referred to as the SKB
Agreement. Under the SKB Agreement, we paid $3.0 million in cash in January
1997, issued a non-interest bearing $11.0 million promissory note payable due
in two installments ($6.0 million in January 1998 and $5.0 million January
1999), issued 637,733 shares of common stock with a guaranteed value of $9.0
million at December 31, 1997, and are obligated to pay up to $6.0 million in
royalty payments based on future product sales, for a potential aggregate
consideration of up to $29.0 million. The $11.0 million promissory note was
discounted at inception using an imputed interest rate of 11% and total imputed
interest expense attributable to these payments is $1.6 million. The original
amount of the discounted note,
F-11
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
$9.4 million, has been included in current and other long-term liabilities with
imputed interest being recognized over the original term of the note.
We determined the useful life of the acquired asset to be three years and
have recorded amortization expense of $594,000 in 1996, $7.1 million in 1997,
$6.7 million in 1998, and $3.4 million in the six-months ended June 30, 1999.
Accumulated amortization was $7.7 million at December 31, 1997, $14.4 million
at December 31, 1998 and $17.8 million at June 30, 1999. In December 1997, we
sold our Canadian rights to Ridaura to Pharmascience, Inc. (Pharmascience), a
Canadian corporation, for net consideration of $1.3 million. The original total
purchase price of $21.4 million that has been capitalized was adjusted by the
book value of the Canadian rights of approximately $775,000 to $20.6 million.
The amendments to the SKB Agreement allows us to defer the principal payments
of $11.0 million (originally due in January 1998 and January 1999 as discussed
above) to SmithKline as follows:
<TABLE>
<S> <C> <C> <C>
Due Date Amount Due Date Amount
-------- ------------ -------- ------------
April 1, 1998 $1,000,000 April 1, 1999 $ 800,000
July 1, 1998 $1,100,000 July 1, 1999 $ 800,000
October 1, 1998 $1,100,000 October 1, 1999 $ 700,000
January 4, 1999 $2,500,000 January 3, 2000 $1,500,000
April 1, 2000 $1,500,000
</TABLE>
We are required to pay interest at prime rate plus 2% per year on the
principal amount outstanding of $5.7 million from January 1, 1998 through
January 4, 1999, and interest at prime rate plus 3% per year on the principal
amount outstanding of $5.3 million from January 5, 1999 through April 1, 2000.
We paid SmithKline $3.6 million in principal and interest in 1998 and $3.5
million in principal and interest in the six-months ended June 30, 1999. As of
December 31, 1998, we have classified principal and accrued interest on this
note of $4.9 million in the current portion of notes payable and other
liabilities and $3.0 million in other long-term liabilities. As of June 30,
1999, we have included $4.6 million in principal and accrued interest in the
current portion of notes payable and other liabilities.
Under the SKB Agreement, the guaranteed value of the common stock was revised
from $9.0 million to $8.0 million based on the fair market value of our common
stock on April 1, 1998, with a maximum of 1,675,512 shares to be issued in
total. In consideration for the adjustment, we paid SmithKline $1.0 million on
December 31, 1997. As of April 1, 1998, the aggregate fair market value of the
shares previously issued under the agreement was less than $8.0 million and, as
a result, we issued an additional 1,037,779 shares of common stock and paid
additional cash consideration of approximately $308,000 to SmithKline in
fulfillment of our obligation to issue equity to SmithKline under the SKB
Agreement.
Under a related Supply Agreement, SmithKline will manufacture and supply
Ridaura, in final package form, to us for an initial term through December
2001. Under a Supply Agreement with Pharmascience, we, through our relationship
with SmithKline or other future vendors, will supply Ridaura exclusively in
Canada to Pharmascience.
F-12
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
License Agreements
In September 1993, we entered into an agreement with Genentech, Inc., which
was subsequently amended in July 1994, for an exclusive right to make, use and
sell certain products arising from recombinant human relaxin in a defined
field. In 1994, we incurred a liability of $684,000 for the purchase of
research materials and payment of technology transfer costs under the
agreement. This amount, payable in the form of cash or equity, was originally
due on September 30, 1998, which was extended to April 1, 1999 with interest
accruing on the amount outstanding at an annual rate of 7.5%. In April 1999, we
issued 95,815 shares to Genentech with a fair market value of $709,416 to
satisfy this obligation. We will also pay to Genentech royalties on sales of
products arising from relaxin, if any. In April 1996, we acquired worldwide
rights to relaxin from Genentech.
In June 1996, we entered into an exclusive License Agreement with Soltec
Research Pty Ltd., to develop and market a foam formulation of the dermatologic
drug, betamethasone valerate, in North America. Under the terms of the license,
we paid $75,000, ($35,000 was paid in 1996, $22,500 was paid in January 1998,
and $17,500 was paid in April 1999), in licensing fees to Soltec (based on
certain milestones) plus royalties on future sales of products, if any, arising
from the licensed technology. We also have an exclusive option on Soltec's foam
formulation for the delivery of other compounds.
In December 1995, we entered into a license agreement with Genentech to
acquire exclusive development and marketing rights to interferon gamma in the
United States for dermatologic indications. In May 1998, we amended and
restated this agreement and entered into a new license agreement that granted
us an exclusive license under certain patent rights and know-how to
ACTIMMUNE(R) (interferon gamma) for the treatment of chronic granulomatous
disease (CGD) and several additional indications (non-cancer dermatological
diseases, infectious diseases, osteopetrosis, pulmonary fibrosis and asthma) in
the United States. Under the terms of the agreement, we issued Genentech
380,048 shares of its common stock valued at $2.0 million at the time of
closing with a guaranteed value of $4.0 million at the second closing date,
originally set as December 28, 1998. On December 28, 1998, we amended the
second closing date to any time on or before December 15, 1999. In the event
that the value of the initial shares issued is less than $4.0 million, we will
either issue additional shares or pay cash to Genentech. We will also be
required to pay Genentech certain development and commercialization milestones
and royalties on sales. We also entered into a Supply Agreement with Genentech
whereby they will manufacture and supply interferon gamma, in bulk form or
finished product. This agreement will terminate on the earlier of May 5, 2001
or the date on which we enter into a supply agreement with a third party
manufacturer that is mutually approved by both parties. Because the
realizability of the license is largely uncertain as it relates to a pre-FDA
approved product and is dependent on additional research and development
related to interferon gamma, we recorded a $4.0 million non-cash license fee
charge in 1998.
Agreement with XOMA
In June 1994, we entered into a Technology Acquisition Agreement with XOMA
Corporation to purchase all rights to TCR vaccines technology and for the
exclusive right to make, use and sell certain products under a sublicense
agreement in exchange for the issuance of two promissory notes totaling $2.2
million which were repaid in February 1996. In addition to these notes, we have
accrued an additional consideration of $500,000 (included in current portion of
notes payable and
F-13
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
other liabilities at June 30, 1999). The $500,000 is payable upon the earlier
of the achievement of commencement of Phase III clinical trials for a product
involving the licensed technology, or June 2000. We will pay an additional
$1,000,000 upon FDA approval of a product involving the licensed technology,
and including royalties based on future product sales. However, while the
results of pilot clinical studies using TCR vaccines for the treatment of
rheumatoid arthritis and multiple sclerosis were encouraging, we have suspended
most of the activity related to TCR research and development in 1998, to permit
us to focus our resources on products closer to market. We are evaluating our
options, and intend to reach a decision regarding the TCR program before the
due date of the additional $500,000.
Development, Commercialization and Supply Agreements
In April 1998, we entered into a development, commercialization and supply
agreement with Suntory Pharmaceuticals (Suntory), a division of Suntory Limited
of Osaka, Japan, for relaxin for the treatment of scleroderma. Under the terms
of the agreement, Suntory will pay us approximately $14.0 million in license
fees and milestone payments, be responsible for all development and
commercialization expenses in Japan, and pay royalties on sales in Japan for
the treatment of scleroderma. Payments under this agreement are made to us in
Japanese yen. We have retained rights to all other indications in Japan for
relaxin. Suntory will purchase relaxin materials from us and make milestone
payments based upon development progress in the United States and Japan. On
April 30, 1998, Suntory paid an up-front license fee of $1.5 million (net of
$165,000 international withholding tax), and in May 1999, they paid a
development milestone fee of $791,000 (net of $88,000 international withholding
tax).
In January 1999, Connetics entered into a development, commercialization and
supply agreement with Medeva PLC of the United Kingdom (Medeva) for certain
therapeutic indications pertaining to relaxin. Under the terms of the
agreement, Medeva paid $8.0 million upon closing which included a $4.0 million
contract fee and a $4.0 million equity investment, and will pay $17.0 million
of milestone payments based upon development progress in the U.S. and Europe
and $5.0 million for the development and approval of each indication in Europe
in addition to scleroderma. Medeva is responsible for all development and
commercialization activities in Europe and is required to pay royalties on
sales in Europe. Medeva will reimburse us for 50% of our product development
costs in the U.S. up to a maximum of $1.0 million per quarter for an estimated
total of $10.0 million. Until the earlier of five years after we launch ConXn
in the United States or the end of the first calendar year when Medeva's
European net sales of ConXn exceed $25.0 million, Medeva will receive 50% of
our operating profits from U.S. ConXn sales. Medeva will also purchase relaxin
materials from us. For the six months ended June 30, 1999, we recorded $6.0
million in contract revenues ($4.0 million in contract fee and $2.0 million for
the quarterly reimbursement of product development costs) under this agreement.
Promotion Agreements
In March 1999, we entered into two agreements with MGI Pharma, Inc. (MGI).
Under the terms of the agreements, MGI will promote Ridaura and Luxiq to the
rheumatology market in the United States in exchange for promotional fees.
These arrangements take advantage of MGI's specialty sales force that calls on
rheumatologists in the United States, and allows us to focus our attention on
the dermatology marketplace. For the six months ended June 30, 1999, we
recorded $250,000 in promotion fees.
F-14
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
6. Financing Arrangements
Long-Term Debt
On December 21, 1995, Connetics entered into a term Loan and Security
Agreement (the First Term Loan) with a bank consortium (the Lenders) under
which we borrowed $5.0 million at the interest rate of 13% per year. In
connection with the First Term Loan, we issued a warrant to purchase 73,071
shares of common stock at an exercise price of $5.78 per share, exercisable at
any time through December 2002. In conjunction with the First Term Loan, we
granted the Lenders a first security interest in our corporate assets. At
December 31, 1998, the loan was paid in full.
On September 24, 1998, we entered into a term Loan and Security Agreement
(the Second Term Loan) with a bank (the Lender), which was modified on December
22, 1998, under which we borrowed $4.0 million. The Second Term Loan bears
interest at prime rate plus 1.25% (9.0% at December 31, 1998) with interest
only payments for the first twelve months (through September 23, 1999), and is
to be repaid thereafter in forty-eight (48) equal monthly installments of
principal plus accrued interest. On the first anniversary of the loan, we have
the right to elect whether the aggregate Second Term Loan outstanding will bear
interest at (i) a floating rate equal to prime rate plus 1.25% or (ii) a fixed
rate equal to 4.5 percentage points above the yield of the 48-month Treasury
Bill (fixed at the time of election). In conjunction with the Second Term Loan,
we granted the Lender a first priority security interest in our presently
existing intellectual property collateral, as defined in the loan documents.
Covenants governing the Second Term Loan require the maintenance of certain
financial ratios, and if we do not meet the covenants during the loan period, a
restricted cash pledge must be made against 100% of the outstanding loan
balance.
Structured Equity Line Flexible Financing
On December 2, 1996, we entered into a Structured Equity Line Flexible
Financing Agreement (the Equity Line) with Kepler Capital LLC (Kepler) that
allows us to access up to $25 million through sales of our common stock. The
Equity Line, originally to be made available on or before December 1, 1997,
became available on June 26, 1998 and will remain open until June 2001. During
any 90-day period within the three-year term, if our stock meets certain volume
restrictions and trades above $10.00, then up to $500,000 would be drawn
against the Equity Line in exchange for the sale of stock at an approximate
minimum price of $10.00. The purchase price will be subject to a maximum
discount of 15%. As a commitment fee to Kepler for keeping the equity line
available, we have issued a warrant to purchase 250,000 shares of common stock
(see Note 11). To date, we have not drawn down any amount against the Equity
Line.
7. Capital Lease Obligations and Capital Loans
Connetics has borrowings under our capital lease and capital loan credit
lines totaling $1,364,000 at December 31, 1998. No additional borrowings are
available under capital lease and capital loan credit lines at December 31,
1998. Under the terms of a master lease agreement, ownership of the leased
equipment reverts to us at the end of the lease term.
F-15
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
As of December 31, 1998, future minimum lease payments under capital leases
and principal payments on capital loans are as follows:
<TABLE>
<CAPTION>
Capital Leases Capital Loans
-------------- -------------
(in thousands)
<S> <C> <C>
Year ending December 31:
1999........................................ $ 79 $225
2000........................................ 54 168
2001........................................ 39 --
---- ----
Total minimum lease and principal payments,
respectively............................... 172 $393
====
Less amount representing interest........... 22
----
Present value of future payments............ 150
Less current portion of capital lease
obligations................................ 66
----
Non-current portion of capital lease
obligations................................ $ 84
====
</TABLE>
The obligations under the capital leases and loans are secured by the
leasehold improvements and equipment financed, bear interest at fixed rates of
approximately 8% to 19% and are payable in monthly installments through
September 2001.
8. Operating Leases
We lease two facilities under non-cancelable operating leases, one which
expires in July 1999, with an option to extend the term of the lease for one
additional period of two years, and another in March 1999. We did not extend
the term of the lease expiring in March 1999, but have renewed the lease which
expired in July 1999 through January 2003. In November 1998, we entered into a
non-cancelable operating lease on a third facility with a lease commencement
date of January 1, 1999 and expiration date of January 31, 2002. The future
minimum rental payments under the leases as of December 31, 1998 are as follows
(in thousands):
<TABLE>
<S> <C>
Years ending December 31:
1999............................................................... $ 627
2000............................................................... 314
2001............................................................... 315
2002............................................................... 26
------
$1,282
======
</TABLE>
We recognize rent expenses on a straight-line basis over the term of each
lease. Rent expense under operating leases was approximately $425,000 in 1996,
$639,000 in 1997, $687,000 in 1998 and $429,000 in the six-months ended June
30, 1999.
F-16
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
9. Notes Receivable from Stockholders
We held notes receivable of $75,000 at December 31, 1997, and $65,000 at
December 31, 1998 and June 30, 1999, from certain stockholders for the purchase
of our common stock. These notes bear interest at rates ranging from 6% to 7%
annually and are secured by the shares of common stock held by the borrowers.
The notes are due and payable, together with any unpaid interest, no later than
either the fourth or fifth anniversary of the note, or, for certain of these
notes, within 30 days of termination of employment with Connetics. In June
1998, one note was paid in full including accrued interest.
10. Redeemable Convertible Preferred Stock
In December 1996, Connetics issued 200 shares of 7% Series A Redeemable
Convertible Preferred Stock (Series A Redeemable Preferred Stock), par value
$0.001 per share, in a Regulation S offering at a per share price of $10,000
with a mandatory redemption date of December 4, 1999. The Series A Redeemable
Preferred Stock had provisions for dividends and principal to be converted into
common stock according to a formula. As of January 31, 1998, all 200 shares of
Series A Redeemable Preferred Stock plus accrued dividends of $125,000 had been
converted to 693,393 shares of common stock with a value of $2,125,000.
11. Stockholders' Equity
Warrants
In July 1995, we issued warrants to purchase 18,395 shares of Series B
Preferred Stock at an exercise price of $4.89 per share pursuant to a capital
lease and capital loan agreement. Each such warrant was converted into a
warrant for the purchase of one share of common stock and such warrants are
exercisable any time through July 2002.
Under a Master Bridge Loan Agreement with certain stockholders of Connetics
in December 1995, we issued warrants that expire in December 2000 to purchase a
total of 22,727 shares of common stock at an exercise price of $11.00 per
share. Also in December 1995, in connection with a loan and security agreement
with a bank consortium, we issued warrants, which expire in December 2002, to
purchase 73,071 shares of common stock at an exercise price of $5.78 per share.
In conjunction with our issuance of 200 shares of Series A Redeemable
Preferred Stock in December 1996 (see Note 10), warrants were issued that allow
the holders to purchase up to 20,000 shares of our common stock at an exercise
price of $7.43 per share, with an expiration date of December 4, 2001.
In conjunction with the Equity Line (see Note 6), we issued a warrant on
January 2, 1997 to purchase 250,000 shares of common stock at an exercise price
of $8.25 per share. The warrant is exercisable over a period of 5 years from
date of issuance. On each of June 26, 1999, 2000, and 2001, we will be required
to issue an additional five-year warrant exercisable for a number of shares
based on the amount of equity line still available to us. Accordingly, as of
June 30, 1999, we are obligated to issue a warrant to purchase 25,000 shares of
our common stock at an exercise price of $6.88 per share.
F-17
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
In conjunction with our issuance of 1,810,000 shares in May 1997 to certain
private investors, we issued warrants to purchase 905,000 shares of our common
stock at an exercise price of $9.08 per share. These warrants will expire May
15, 2001.
In January 1998, we issued a warrant to a third party to purchase 6,000
shares of common stock at an exercise price of $6.00 per share as partial
compensation for services rendered to us in connection with a private placement
of our common stock on December 15, 1997. The fair value of this warrant has
not been recorded as the amount was immaterial.
Common Stock
Connetics has the right to repurchase, at the original issue price per share,
certain shares of common stock issued to employees, consultants, investors and
founders. This right generally expires ratably over a period of time not
greater than five years, in accordance with terms determined by the Board of
Directors. Outstanding shares of 36,202 at December 31, 1997 and 389 at
December 31, 1998 and none at June 30, 1999 were subject to repurchase at an
original issue price of $0.45 per share, including shares issued pursuant to
stock purchase rights under the 1994 Stock Plan (see Note 12).
Dividend Restrictions
Our loan agreement with a bank lender prohibits us from declaring or paying a
dividend without the bank's prior written consent.
Common Shares Reserved for Future Issuance
Connetics has reserved shares of common stock as follows:
<TABLE>
<CAPTION>
December 31, June 30,
1997 1998 1999
--------- --------- ----------
(unaudited)
<S> <C> <C> <C>
1994 Stock Plan.............................. 1,706,467 2,150,495 2,532,585
1995 Employee Stock Purchase Plan............ 46,147 289,538 196,011
1995 Directors Stock Option Plan............. 150,000 250,000 400,000
1998 Supplemental Stock Plan................. -- 500,000 269,250
Non-plan stock options outstanding........... 38,863 38,863 38,488
Common stock warrants........................ 1,289,193 1,295,193 1,320,193
--------- --------- ---------
3,230,670 4,524,089 4,756,527
========= ========= =========
</TABLE>
12. Stock Plans
1994 Stock Plan
Connetics' 1994 Stock Plan (the Plan) authorizes our Board of Directors (the
Board) to grant incentive stock options, non-statutory stock options, and stock
purchase rights for up to 2,600,000 shares of common stock. At our annual
meeting in May 1999, the stockholders approved the increase of shares in the
Plan to an aggregate of 3,100,000 shares of common stock.
F-18
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
The options under this Plan expire no later than ten years from the date of
grant. The exercise price of the incentive stock options, non-statutory stock
options and options granted to 10% shareholders must be at least 100%, 85%, and
110%, respectively, of the fair value of the stock subject to the option on the
grant date. The price for shares purchased pursuant to stock purchase rights by
10% shareholders must be at least 100% of the fair market value of the stock on
the date of grant.
The options generally become exercisable as determined by the Board, but in
no event at a rate of less than 20% per year for a period of five (5) years
from date of grant. Shares granted under the Plan pertaining to stock purchase
rights are generally subject to repurchase by us at the original issue price
per share. Our right to repurchase these shares generally expires ratably over
a period of time not greater than five years.
1995 Director Stock Option Plan
The 1995 Director Stock Option Plan (the Directors' Plan) was adopted by the
Board in December 1995. A total of 250,000 shares of common stock have been
reserved for issuance under the Directors' Plan. The Directors' Plan provides
for the grant of non-statutory stock options to non-employee directors of
Connetics. At our annual meeting in May 1999, the stockholders approved an
increase in the Directors' Plan to an aggregate of 400,000 shares of common
stock.
The Directors' Plan provides that each person who first becomes a non-
employee director shall be granted a non-statutory stock option to purchase
30,000 shares of common stock (the First Option) on the date on which he or she
first becomes a non-employee director. Thereafter, on the date of each annual
meeting of our stockholders, each non-employee director is granted an
additional option to purchase 7,500 shares of common stock (a Subsequent
Option) if he or she has served on the Board for at least six months as of the
annual meeting date.
Under the Directors' Plan, the First Option is exercisable in installments as
to 25% of the total number of shares subject to the First Option on each of the
first, second, third and fourth anniversaries of the date of grant of the First
Option; each Subsequent Option becomes exercisable in full on the first
anniversary of the date of grant of that Subsequent Option. The exercise price
of all stock options granted under the Directors' Plan shall be equal to the
fair market value of a share of our common stock on the date of grant of the
option. Options granted under the Directors' Plan have a term of ten years. At
December 31, 1998, 165,000 shares had been granted and were outstanding at a
weighted average price of $6.07. At June 30, 1999, 202,500 shares had been
granted and were outstanding at a weighted average price of $6.33, with 197,500
shares available for future grants.
1998 Supplemental Stock Plan
On November 5, 1998, the Board approved the 1998 Supplemental Stock Plan (the
Supplemental Plan) that provides the Board the authority to grant non-statutory
stock options to employees and consultants for up to 500,000 shares of common
stock. Officers and directors of Connetics are not eligible for grants under
the Supplemental Plan.
F-19
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
The options under this Plan expire no later than ten years from the date of
grant. The exercise price of the non-statutory stock options shall be at least
100% of the fair value of the stock subject to the option on the grant date.
The options generally become exercisable at such times as determined by the
Board, but in no event at a rate of less than 20% per year for a period of five
(5) years from date of grant. Effective May 19, 1999, the Board is no longer
authorized to grant options under the Supplemental Plan.
2000 Stock Plan
In February 1999, the Board approved, and recommended that Connetics
stockholders approve, a new 2000 Stock Plan (the 2000 Plan). Initially, an
amount equal to three percent (3%) of shares issued and outstanding on December
31, 1999 will be authorized and available for future grants under the 2000
Plan. Each year thereafter, on the first day of each new calendar year, the
number of shares available shall be increased (with no further action needed by
the Board or the stockholders) by a number of shares equal to the lesser of
three percent of the number of shares of common stock outstanding on the last
preceding business day, or an amount determined by the Board. At the annual
meeting of stockholders in May 1999, the 2000 Plan was approved, and will
become effective on January 1, 2000, at which time the Board is no longer
authorized to grant options under the 1994 Plan.
Non-Plan Stock Options
Connetics may from time to time grant options outside one of its qualified
plans (Non-Plan Stock Options). As of December 31, 1998, a total of 64,612 Non-
Plan Stock Options had been granted and options to purchase 38,863 shares were
outstanding at a weighted average price of $4.74 per share. At June 30, 1999, a
total of 139,612 Non-Plan Stock Options had been granted with options to
purchase 38,488 shares were outstanding at a weighted average price of $4.79
per share.
F-20
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
Activity under the Plan, the Directors' Plan, Supplemental Stock Plan and
Non-Plan Stock Options is summarized as follows:
<TABLE>
<CAPTION>
Outstanding Options
---------------------
Shares Weighted
Available Number of Avg. Price
for Grant shares per share
---------- --------- ----------
<S> <C> <C> <C>
Balance, December 31, 1995.................... 297,841 956,102 $0.71
Additional shares authorized................ 300,989 -- --
Options granted............................. (196,540) 196,540 $8.76
Options exercised........................... -- (62,302) $0.45
Shares repurchased.......................... 10,717 -- $0.45
Options canceled............................ 57,154 (57,154) $0.45
---------- --------- -----
Balance, December 31, 1996.................... 470,161 1,033,186 $2.04
Additional shares authorized................ 500,000 -- --
Options granted............................. (865,023) 904,635 $6.15
Options exercised........................... -- (147,629) $0.67
Shares repurchased.......................... -- -- --
Options canceled............................ 58,349 (58,349) $4.64
---------- --------- -----
Balance, December 31, 1997.................... 163,487 1,731,843 $4.33
Additional shares authorized................ 1,225,000 -- --
Options granted............................. (1,033,000) 1,033,000 $3.68
Options exercised........................... -- (185,328) $0.80
Shares repurchased.......................... 4,356 -- $0.44
Options canceled............................ 247,135 (247,135) $5.27
---------- --------- -----
Balance, December 31, 1998.................... 606,978 2,332,380 $4.22
---------- --------- -----
Additional shares authorized (unaudited).... 499,250 -- --
Options granted (unaudited)................. (460,748) 460,748 $6.09
Options exercised (unaudited)............... -- (193,285) $1.61
Options canceled (unaudited)................ 124,587 (129,587) $5.29
---------- --------- -----
Balance, June 30, 1999 (unaudited) 770,067 2,470,256 $4.72
========== ========= =====
</TABLE>
F-21
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
The following table summarizes information concerning outstanding and
exercisable options at December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
-------------------------------------- ------------------------
Weighted Avg.
Remaining
Contractual
Range of Number of Life Weighted Avg. Number of Weighted Avg.
Exercise Price shares (in years) Exercise Price Shares Exercise Price
-------------- --------- ------------- -------------- --------- --------------
<S> <C> <C> <C> <C> <C>
$0.44 - $2.22........... 480,502 6.73 $0.62 353,725 $0.66
$2.56 - $3.88........... 672,250 6.36 $3.51 28,547 $3.63
$4.00 - $4.31........... 477,563 8.99 $4.11 71,071 $4.23
$4.50 - $7.13........... 516,275 8.30 $6.74 233,696 $7.02
$7.50 - $11.00.......... 185,790 7.55 $9.34 115,612 $9.60
--------- ---- ----- ------- -----
$0.44 - $11.00.......... 2,332,380 7.50 $4.22 802,651 $4.22
</TABLE>
For the years ended December 31, 1997 and 1998 and the six months ended June
30, 1999, we recorded deferred compensation expense for the difference between
the exercise price and the deemed fair value of our common stock, related to
shares issued pursuant to stock purchase rights and options granted in 1995 and
1996. These options were granted to provide additional incentives to retain
management and key employees. This deferred compensation expense is being
amortized over the related vesting period, generally a 48-month period.
1995 Employee Stock Purchase Plan
Our 1995 Employee Stock Purchase Plan (the Purchase Plan) was adopted by the
Board in December 1995. A total of 500,000 shares of common stock has been
reserved for issuance under the Purchase Plan. The Purchase Plan is
administered by the Compensation Committee of the Board. Employees (including
officers and employee directors) of Connetics, or of any majority owned
subsidiary designated by the Board, are eligible to participate if they are
employed by us or any such subsidiary for at least 20 hours per week and more
than 5 months per year. The Purchase Plan permits eligible employees to
purchase common stock through payroll deductions, which may not exceed 15% of
an employee's compensation, at a price equal to the lower of 85% of the fair
market value of our common stock at the beginning or end of the offering
period. Shares issued under the plan were 53,853 in 1997 and 156,609 in 1998,
and at December 31, 1998, 289,538 shares were reserved for future issuance. As
of June 30, 1999, 93,527 shares had been issued and 196,011 shares are
available for purchase.
F-22
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
Pro Forma Information
We adopted Statement of Financial Accounting Standards No. 123, "Accounting
for Stock-Based Compensation" (SFAS 123), in 1996. In accordance with the
provisions of SFAS 123, we apply APB Opinion No. 25 and related interpretations
in accounting for our stock option plans and, accordingly, do not recognize
compensation cost. If we had elected to recognize compensation cost based on
the fair value of the options granted at grant date and including stock
purchases under the Purchase Plan as prescribed by SFAS 123, net loss and net
loss per share would have been increased to the pro forma amounts indicated in
the table below:
<TABLE>
<CAPTION>
1996 1997 1998
-------- -------- --------
(In thousands except per
share amounts)
<S> <C> <C> <C>
Net loss -- as reported....................... $(18,514) $(27,935) $(26,595)
Net loss -- pro forma......................... $(19,339) $(29,287) $(27,964)
Net loss per share -- as reported............. $ (2.71) $ (2.69) $ (1.61)
Net loss per share -- pro forma............... $ (2.83) $ (2.81) $ (1.69)
</TABLE>
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted average
assumptions:
<TABLE>
<CAPTION>
Stock Option Stock Purchase
Plans Plan
---------------- ----------------
1996 1997 1998 1996 1997 1998
---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Expected stock price volatility.......... 60.0% 60.0% 90.0% 60.0% 60.0% 76.6%
Risk-free interest rate.................. 5.91% 5.77% 4.74% 5.48% 5.63% 5.05%
Expected life (in years)................. 3.6 4.1 3.8 0.5 0.5 0.5
Expected dividend yield.................. 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
</TABLE>
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options that have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions, including the expected stock price volatility.
Because our options have characteristics significantly different from those of
traded options, and because changes in the subjective input assumptions can
materially affect the fair value estimate, in our opinion, the existing models
do not necessarily provide a reliable single measure of the fair value of its
options. The weighted average fair value of options granted was $3.12 per share
during 1997 and $2.44 per share during 1998.
The effects on pro forma disclosures of applying SFAS 123 are not likely to
be representative of the effects on pro forma disclosures of future years.
1997 Stockholder Rights Plan
In May 1997, we adopted a stockholder rights plan (the Rights Plan) that
provides existing stockholders with the right to purchase one one-thousandth of
a share of our Series B Participating Preferred Stock, $0.001 par value, at an
exercise price of $49 per one one-thousandth of a preferred share in the event
of certain changes in our ownership. We will be entitled to redeem the rights
at $0.01 per right at any time on or before the tenth day following acquisition
by a person or group of
F-23
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
15% or more of our common stock. The Rights Plan may serve as a deterrent to
certain abusive takeover tactics that are not in the best interest of
stockholders. At December 31, 1998, and June 30, 1999, a total of 90,000 shares
were designated under the Rights Plan and no shares were issued and
outstanding.
13. InterMune Pharmaceuticals, Inc.
On April 28, 1999, Connetics spun-off InterMune, by selling a majority
interest to outside investors. At the close of the spin-off, we retained
approximately a 10% equity position in InterMune, received a license fee
payment of $500,000, a $4.7 million dividend payment and will receive an
additional $2.0 million in license and milestone payments and $1.5 million in
return of equity over the next three years. We will retain commercial rights to
and revenue from Actimmune for chronic granulomatous disease for three years
and receive a royalty on Actimmune sales thereafter. In addition, we retain the
product rights for potential dermatological applications of Actimmune. The
dividend payment received in the spin-off resulted in a gain of approximately
$1.1 million. The gain has been offset by the operating results of InterMune
through April 28, 1999 of approximately $1.0 million and was included in
Interest and other income in the six months ended June 30, 1999.
14. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings
per share:
<TABLE>
<CAPTION>
(In thousands except per June 30,
share amounts) ------------------
1996 1997 1998 1998 1999
-------- -------- -------- -------- --------
(unaudited)
<S> <C> <C> <C> <C> <C>
Numerator:
Net loss................. $(18,514) $(27,935) $(26,595) $(14,264) $(10,714)
Preferred stock
dividends............... -- (124) (1) (1) --
-------- -------- -------- -------- --------
Numerator for basic and
diluted earnings per
share -- loss to common
stockholders............ (18,514) (28,059) (26,596) (14,265) (10,714)
Denominator:
Denominator for basic and
diluted earnings per
share -- weighted-
average shares.......... 6,825 10,412 16,533 15,081 21,235
Basic and diluted net
loss per share.......... $ (2.71) $ (2.69) $ (1.61) $ (0.95) $ (0.50)
</TABLE>
Options to purchase 2,332,380 shares of common stock at exercise prices
ranging from $0.44 to $11.00 and warrants to purchase 1,295,193 shares of
common stock at exercise prices ranging from $4.89 to $11.00 were outstanding
as of December 31, 1998, but were not included in the computation of diluted
earnings per share as their effect would be antidilutive. Options to purchase
2,470,256 shares of common stock at exercise prices ranging from $0.44 to
$11.00 and warrants to purchase 1,320,193 shares of common stock at exercise
prices ranging from $4.89 to $11.00, outstanding as of June 30, 1999, were also
not included in the computation.
F-24
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
15. Income Taxes
As of December 31, 1998, Connetics had federal and state net operating loss
carryforwards of approximately $75,700,000 and $14,900,000, respectively. We
also had federal and California research and development tax credit
carryforwards of approximately $2,400,000 and $1,400,000, respectively. The
federal net operating loss and credit carryforwards will expire at various
dates beginning in the year 2008 through 2018, if we do not use them. The state
of California net operating losses will expire at various dates beginning in
1999 through 2003, if we do not use them.
Utilization of our net operating loss carryforwards and credits may be
subject to an annual limitation due to the "change in ownership" provisions of
the Internal Revenue Code of 1986 and similar state provisions. The annual
limitation may result in the expiration of net operating losses and credits
before we are able to use them.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets for financial reporting and the amount
used for income tax purposes.
Significant components of our deferred tax assets for federal and state
income taxes are as follows:
<TABLE>
<CAPTION>
December 31,
------------------
1997 1998
-------- --------
(in thousands)
<S> <C> <C>
Deferred tax assets
Net operating loss carryforward........................ $ 21,000 $ 26,600
Capitalized research and development................... 2,400 3,100
Research credit........................................ 1,900 3,300
Other--Net............................................. 600 2,500
-------- --------
Total Deferred Tax Assets.............................. 25,900 35,500
Valuation allowance.................................... (25,900) (35,500)
-------- --------
Net deferred tax assets.................................. $ -- $ --
======== ========
</TABLE>
Due to our lack of earnings history, the net deferred tax assets have been
fully offset by a valuation allowance. The net valuation allowance increased by
$11,400,000 in 1997 and $9,600,000 in 1998.
16. Subsequent Events (unaudited)
In July 1999, Connetics entered into a development, commercialization and
supply agreement with Paladin Labs Inc., a Canadian corporation, for ConXn.
Under the terms of the agreement, we received an initial payment of $800,000,
which includes a development fee and an equity investment. In addition, we will
receive semi-annual development payments and potential milestone payments of
approximately $1.9 million over the next several years for the successful
development of ConXn for the treatment of scleroderma. We may receive
additional milestone payments for the approval of additional indications for
ConXn in Canada. Paladin is responsible for all development and
commercialization activities in Canada, and will pay royalties on all sales of
ConXn in Canada.
F-25
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
December 31, 1998
(Information as of June 30, 1999 and for the six month periods
ended June 30, 1998 and 1999 is unaudited)
Also in July 1999, Connetics licensed from Soltec Research Pty Ltd., an
Australian company, the exclusive worldwide rights (excluding Australia and
New Zealand) to develop, manufacture and market ketoconazole foam (a quick-
break foam formulation of the antifungal dermatologic drug, ketoconazole).
Under the terms of the agreement, we will pay a total of $277,500 in license
fees, of which $120,000 was paid upon signing of agreement, $67,500 is due upon
the filing of a new drug application and $90,000 is due upon FDA approval of
product, plus royalties on future product sales, if any, arising from the
licensed technology. In addition, we will pay Soltec ten percent (10%) of any
upfront payments received in connection with sublicense of the rights to the
product.
F-26
<PAGE>
You should rely only on the information contained in this prospectus. We have
not authorized anyone to provide you with information different from that
contained in this prospectus. We are offering to sell, and seeking offers to
buy shares of Connetics Corporation common stock only in jurisdictions where
offers and sales are permitted. The information contained in this prospectus is
accurate only as of the date of this prospectus, regardless of the time of
delivery of this prospectus or of any sale of the Connetics common stock.
TABLE OF CONTENTS
<TABLE>
<S> <C>
Prospectus Summary........................................................ 1
Risk Factors.............................................................. 5
Forward Looking Information............................................... 19
Use of Proceeds........................................................... 19
Dividend Policy........................................................... 19
Price Range of Common Stock............................................... 19
Capitalization............................................................ 20
Dilution.................................................................. 21
Selected Consolidated Financial Data...................................... 22
Management's Discussion and Analysis of Financial Condition and Results of
Operations............................................................... 23
Business.................................................................. 31
Management................................................................ 46
Underwriting.............................................................. 49
Legal Matters............................................................. 51
Experts................................................................... 51
Where You Can Find Additional Information................................. 52
Index to Consolidated Financial Statements................................ F-1
</TABLE>
PROSPECTUS , 1999
4,000,000 Shares
Common Stock
Warburg Dillon Read LLC
Hambrecht & Quist
Raymond James & Associates, Inc.
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 14. Other Expenses of Issuance and Distribution
The following table shows the costs and expenses, payable by Connetics in
connection with the sale of common stock being registered. All amounts are
estimates except the SEC registration fee and the NASD filing fee.
<TABLE>
<CAPTION>
Amount
to be
Paid
--------
<S> <C>
SEC registration fee............................................... $ 7,673
NASD filing fee.................................................... 3,260
Nasdaq National Market listing fee................................. 17,500
Printing expenses.................................................. 100,000
Legal fees and expenses............................................ 150,000
Accounting fees and expenses....................................... 100,000
Blue Sky fees and expenses......................................... 5,000
Transfer Agent and Registrar fees.................................. 5,000
Miscellaneous expenses............................................. 61,567
--------
Total............................................................ $450,000
========
</TABLE>
Item 15. Indemnification of Directors and Officers
Section 145 of the Delaware General Corporation Law authorizes a court to
award, or a corporation's board of directors to grant, indemnity to directors
and officers in terms sufficiently broad to permit such indemnification under
certain circumstances for liabilities (including reimbursement for expenses
incurred) arising under the Securities Act of 1933. Article IX of the
Registrant's Amended and Restated Certificate of Incorporation and Article VII,
Section 6 of the Registrant's Bylaws provide for indemnification of its
directors, officers, employees and other agents to the maximum extent permitted
by law. In addition, the Registrant has entered into Indemnification Agreements
with its officers and directors and maintains director and officer liability
insurance.
Item 16. Exhibits
<TABLE>
<S> <C>
1.1 Form of Underwriting Agreement
5.1 Opinion of Wilson Sonsini Goodrich & Rosati, Professional Corporation
23.1 Consent of Ernst & Young LLP, Independent Auditors
23.2 Consent of Counsel (included in Exhibit 5.1)
24.1* Power of Attorney
27.1* Financial Data Schedules
</TABLE>
- -----------------
* previously filed.
II-1
<PAGE>
Item 17. Undertakings
The undersigned Registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made, a
post-effective amendment to this Registration Statement to include any material
information with respect to the plan of distribution not previously disclosed
in the Registration Statement or any material change to such information in the
Registration Statement.
(2) That, for the purpose of determining any liability under the Securities
Act of 1933, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
(3) To remove from registration by means of a post-effective amendment any of
the securities being registered which remain unsold at the termination of the
offering.
(4) That, for purposes of determining any liability under the Securities Act
of 1933, each filing of the Registrant's annual report pursuant to Section
13(a) or Section 15(d) of the Securities Exchange Act of 1934 (and, where
applicable, each filing of an employee benefit plan's annual report pursuant to
Section 15(d) of the Securities Exchange Act of 1934) that is incorporated by
reference in the Registration Statement shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the provisions referred to in Item 15 above or
otherwise, the Registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public
policy as expressed in the Securities Act of 1933 and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by the Registrant of expenses incurred or
paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted against the
Registrant by such director, officer or controlling person in connection with
the securities being registered hereunder, the Registrant will, unless in the
opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Securities
Act of 1933 and will be governed by the final adjudication of such issue.
II-2
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended,
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Palo Alto,
State of California, on the 3rd day of September, 1999.
Connetics Corporation
By:
/s/ John L. Higgins
__________________________________
John L. Higgins
Vice President, Finance and
Administration and Chief Financial
Officer
Pursuant to the requirements of the Securities Act of 1933, as amended, this
registration statement has been signed by the following persons in the
capacities and on the dates indicated:
<TABLE>
<CAPTION>
Signature Title Date
<S> <C> <C>
Thomas G. Wiggans* President, Chief Executive September 3,
______________________________________ Officer (Principal Executive 1999
Thomas G. Wiggans Officer)
and Director
/s/ John L. Higgins Vice President, Finance and September 3,
______________________________________ Administration and Chief 1999
John L. Higgins Financial Officer (Principal
Financial and Accounting
Officer)
G. Kirk Raab* Chairman of the Board of September 3,
______________________________________ Directors 1999
G. Kirk Raab
Alexander E. Barkas, Ph.D.* Director September 3,
______________________________________ 1999
Alexander E. Barkas, Ph.D.
Eugene A. Bauer, M.D.* Director September 3,
______________________________________ 1999
Eugene A. Bauer, M.D.
Brian H. Dovey* Director September 3,
______________________________________ 1999
Brian H. Dovey
John C. Kane* Director September 3,
______________________________________ 1999
</TABLE> John C. Kane
II-3
<PAGE>
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
Thomas D. Kiley* Director September 3,
______________________________________ 1999
Thomas D. Kiley
Joseph J. Ruvane, Jr.* Director September 3,
______________________________________ 1999
Joseph J. Ruvane, Jr.
*By: /s/ John L. Higgins September 3,
______________________________________ 1999
Attorney-in-fact
</TABLE>
II-4
<PAGE>
EXHIBIT INDEX
Index to Exhibits
<TABLE>
<CAPTION>
Exhibit No. Description
----------- -----------
<C> <S>
1.1 Form of Underwriting Agreement
5.1 Opinion of Wilson Sonsini Goodrich & Rosati, Professional
Corporation
23.1 Consent of Ernst & Young LLP, Independent Auditors
23.2 Consent of Counsel (included in Exhibit 5.1)
24.1* Power of Attorney
27.1* Financial Data Schedules
</TABLE>
- -----------------
* previously filed.
<PAGE>
EXHIBIT 1.1
4,000,000 Shares
Common Stock
($0.001 Par Value)
UNDERWRITING AGREEMENT
September __, 1999
<PAGE>
UNDERWRITING AGREEMENT
September __, 1999
WARBURG DILLON READ LLC
HAMBRECHT & QUIST LLC
RAYMOND JAMES & ASSOCIATES, INC.
as Managing Underwriters
c/o Warburg Dillon Read LLC
299 Park Avenue
New York, New York 10171-0026
Ladies and Gentlemen:
Connetics Corporation, a Delaware corporation (the "Company"),
proposes to issue and sell to the underwriters named in Schedule A annexed
hereto (the "Underwriters") an aggregate of 4,000,000 shares (the "Firm
Shares") of Common Stock, $0.001 par value (the "Common Stock"), of the Company.
In addition, solely for the purpose of covering over-allotments, the Company
proposes to grant to the Underwriters the option to purchase from the Company up
to an additional 600,000 shares of Common Stock (the "Additional Shares"). The
Firm Shares and the Additional Shares are hereinafter collectively sometimes
referred to as the "Shares." The Shares are described in the Prospectus which
is referred to below.
The Company has filed, in accordance with the provisions of the
Securities Act of 1933, as amended, and the rules and regulations thereunder
(collectively called the "Act"), with the Securities and Exchange Commission
(the "Commission") a registration statement on Form S-3 (File No. 333-85833),
including a prospectus, relating to the Shares, which incorporates by reference
documents which the Company has filed or will file in accordance with the
provisions of the Securities Exchange Act of 1934, as amended, and the rules and
regulations thereunder (collectively called the "Exchange Act"). The Company
has furnished to you, for use by the Underwriters and by dealers, copies of one
or more preliminary prospectuses and the documents incorporated by reference
therein (each thereof, including the documents incorporated therein by
reference, being herein called a "Preliminary Prospectus") relating to the
Shares. Except where the context otherwise requires, the registration
statement, as amended when it becomes effective, including all documents filed
as a part thereof or incorporated by reference therein, and including any
information contained in a prospectus subsequently filed with the Commission
pursuant to Rule 424(b) under the Act and deemed to be part of the registration
statement at the time of effectiveness pursuant to Rule 430A under the Act and
also including any registration statement filed pursuant to Rule 462(b) under
the Act, is herein called the Registration Statement, and the prospectus,
including all documents incorporated therein by reference, in the form filed by
the Company with the Commission pursuant to Rule 424(b) under the Act on or
before the second business day after the date hereof (or such earlier time as
may be required under the Act) or, if no such filing is required, the form of
final prospectus included in the Registration Statement at the time it became
effective, is herein called the Prospectus.
<PAGE>
The Company and the Underwriters agree as follows:
1. Sale and Purchase. Upon the basis of the warranties and representations and
-----------------
subject to the terms and conditions herein set forth, the Company agrees to sell
to the respective Underwriters and each of the Underwriters, severally and not
jointly, agrees to purchase from the Company the respective number of Firm
Shares (subject to such adjustment as you may determine to avoid fractional
shares) which bears the same proportion to the number of Firm Shares to be sold
by the Company as the number of Firm Shares set forth opposite the name of such
Underwriter in Schedule A annexed hereto bears to the total number of Firm
Shares to be sold by the Company, in each case at a purchase price of $[____]
per Share. The Company is advised by you that the Underwriters intend (i) to
make a public offering of their respective portions of the Firm Shares as soon
after the effective date of the Registration Statement as in your judgment is
advisable and (ii) initially to offer the Firm Shares upon the terms set forth
in the Prospectus. You may from time to time increase or decrease the public
offering price after the initial public offering to such extent as you may
determine.
In addition, the Company hereby grants to the several Underwriters the
option to purchase, and upon the basis of the warranties and representations and
subject to the terms and conditions herein set forth, the Underwriters shall
have the right to purchase, severally and not jointly, from the Company, ratably
in accordance with the number of Firm Shares to be purchased by each of them
(subject to such adjustment as you shall determine to avoid fractional shares),
all or a portion of the Additional Shares as may be necessary to cover over-
allotments made in connection with the offering of the Firm Shares, at the same
purchase price per share to be paid by the Underwriters to the Company for the
Firm Shares. This option may be exercised by you on behalf of the several
Underwriters at any time (but not more than once) on or before the thirtieth day
following the date hereof, by written notice to the Company. Such notice shall
set forth the aggregate number of Additional Shares as to which the option is
being exercised, and the date and time when the Additional Shares are to be
delivered (such date and time being herein referred to as the additional time of
purchase); provided, however, that the additional time of purchase shall not be
-------- -------
earlier than the time of purchase (as defined below) nor earlier than the second
business day/1/ after the date on which the option shall have been exercised nor
later than the tenth business day after the date on which the option shall have
been exercised. The number of Additional Shares to be sold to each Underwriter
shall be the number which bears the same proportion to the aggregate number of
Additional Shares being purchased as the number of Firm Shares set forth
opposite the name of such Underwriter on Schedule A hereto bears to the total
number of Firm Shares (subject, in each case, to such adjustment as you may
determine to eliminate fractional shares).
- -------------
/1/ As used herein "business day" shall mean a day on which the New York Stock
Exchange is open for trading.
2.
<PAGE>
2. Payment and Delivery. Payment of the purchase price for the Firm
--------------------
Shares shall be made to the Company by Federal Funds wire transfer, against
delivery of the certificates for the Firm Shares to you through the facilities
of the Depository Trust Company (the "DTC") for the respective accounts of the
Underwriters. Such payment and delivery shall be made at 10:00 A.M., New York
City time, on September __, 1999 (unless another time shall be agreed to by you
and the Company or unless postponed in accordance with the provisions of Section
10 hereof). The time at which such payment and delivery are actually made is
hereinafter sometimes called the time of purchase. Certificates for the Firm
Shares shall be delivered to you in definitive form in such names and in such
denominations as you shall specify no later than the second business day
preceding the time of purchase. For the purpose of expediting the checking of
the certificates for the Firm Shares by you, the Company agrees to make such
certificates available to you for such purpose at least one full business day
preceding the time of purchase.
Payment of the purchase price for the Additional Shares shall be made
at the additional time of purchase in the same manner and at the same office as
the payment for the Firm Shares. Certificates for the Additional Shares shall
be delivered to you in definitive form in such names and in such denominations
as you shall specify no later than the second business day preceding the
additional time of purchase. For the purpose of expediting the checking of the
certificates for the Additional Shares by you, the Company agrees to make such
certificates available to you for such purpose at least one full business day
preceding the additional time of purchase.
3. Representations and Warranties of the Company. The Company represents and
---------------------------------------------
warrants to each of the Underwriters that:
(a) the Company has not received, and has no notice of, any order of the
Commission preventing or suspending the use of any Preliminary Prospectus, or
instituting proceedings for that purpose, and each Preliminary Prospectus, at
the time of filing thereof, conformed in all material respects to the
requirements of the Act when the Registration Statement becomes effective, the
Registration Statement and the Prospectus will fully comply in all material
respects with the provisions of the Act, and the Registration Statement will
not contain an untrue statement of a material fact or omit to state a material
fact required to be stated therein or necessary to make the statements therein
not misleading, and the Prospectus will not contain an untrue statement of a
material fact or omit to state a material fact required to be stated therein
or necessary to make the statements therein, in light of the circumstances
under which they were made, not misleading; any statutes, regulations,
contracts or other documents that are required to be described in the
Registration Statement or the Prospectus or to be filed as exhibits to the
Registration Statement have been so described or filed; provided, however,
-------- -------
that the Company makes no warranty or representation with respect to any
statement contained in the Registration Statement or the Prospectus in
reliance upon and in conformity with information concerning the Underwriters
and furnished in writing by or on behalf of any Underwriter through you to the
Company expressly for use in the Registration Statement or the Prospectus; the
documents incorporated by reference in the Prospectus, at the time they became
effective were filed with the Commission, complied in all material respects
with the requirements of the Act the Exchange Act, and do not contain an
untrue statement of a material fact or omit to state a material fact required
to be stated therein or necessary to make the statements therein, in light of
3.
<PAGE>
the circumstances under which they were made, not misleading and the Company
has not distributed any offering material in connection with the offering or
sale of the Shares other than the Registration Statement, the Preliminary
Prospectus, the Prospectus or any other materials, if any, permitted by the
Act;
(b) as of the date of this Agreement, the Company has an authorized
capitalization as set forth under the heading entitled "Actual" in the section
of the Registration Statement and the Prospectus entitled "Capitalization"
and, as of the time of purchase and the additional time of purchase, as the
case may be, the Company shall have an authorized capitalization as set forth
under the heading entitled "As Adjusted" in the section of the Registration
Statement and the Prospectus entitled "Capitalization"; all of the issued and
outstanding shares of capital stock including Common Stock of the Company have
been duly and validly authorized and issued and are fully paid and non-
assessable , have been issued in compliance with all federal and state
securities laws and were not issued in violation of any preemptive right,
resale right, right of first refusal or similar right;
(c) the Company has been duly incorporated and is validly existing as
a corporation in good standing under the laws of the State of Delaware, with
full power and authority to own, lease and operate its properties and conduct
its business as described in the Registration Statement;
(d) the Company is duly qualified to do business as a foreign
corporation in good standing in each jurisdiction where the ownership or
leasing of its properties or the conduct of its business requires such
qualification, except where the failure to so qualify would not have a
material adverse effect on the business, properties, financial condition or
results of operation of the Company and its Subsidiaries (as hereinafter
defined) taken as a whole (a "Material Adverse Effect"). The Company has no
subsidiaries (as defined in the Rules and Regulations) [other than _________]
(collectively, the "Subsidiaries"); the Company owns __% of the outstanding
capital stock of [________]; other than the Subsidiaries, the Company does not
own, directly or indirectly, any shares of stock or any other equity or long-
term debt securities of any corporation or have any equity interest in any
firm, partnership, joint venture, association or other entity; complete and
correct copies of the certificates of incorporation and of the bylaws of the
Company and the Subsidiaries and all amendments thereto have been delivered to
you, and except as set forth in the exhibits to the Registration Statement no
changes therein will be made subsequent to the date hereof and prior to the
time of purchase or, if later, the additional time of purchase; each
Subsidiary has been duly incorporated and is validly existing as a corporation
in good standing under the laws of the jurisdiction of its incorporation, with
full corporate power and authority to own, lease and operate its properties
and to conduct its business as described in the Registration Statement; each
Subsidiary is duly qualified to do business as a foreign corporation in good
standing in each jurisdiction where the ownership or leasing of the properties
or the conduct of its business requires such qualification, except where the
failure to so qualify would not have a Material Adverse Effect; all of the
outstanding shares of capital stock of each of the Subsidiaries have been duly
authorized and validly issued, are fully paid and non-assessable and (except
as otherwise described in this Section 3(d)) are owned by the Company subject
to no security interest, other encumbrance or adverse claims; no options,
warrants or
4.
<PAGE>
other rights to purchase, agreements or other obligations to issue or other
rights to convert any obligation into shares of capital stock or ownership
interests in the Subsidiaries are outstanding.
(e) the Company and each of its Subsidiaries are duly qualified or
licensed by and are in good standing in each jurisdiction in which they
conduct their respective businesses and in which the failure, individually or
in the aggregate, to be so licensed or qualified could have a Material Adverse
Effect; and the Company and each of its Subsidiaries are in compliance in all
material respects with the laws, orders, rules, regulations and directives
issued or administered by such jurisdictions;
(f) neither the Company nor any of its Subsidiaries is in breach of,
or in default under (nor has any event occurred which with notice, lapse of
time, or both would result in any breach of, or constitute a default under),
its respective charter or by-laws or in the performance or observance of any
obligation, agreement, covenant or condition contained in any indenture,
mortgage, deed of trust, bank loan or credit agreement or other evidence of
indebtedness, or any lease, contract or other agreement or instrument to which
the Company or any of its Subsidiaries is a party or by which any of them or
any of their properties is bound, and the execution, delivery and performance
of this Agreement, the issuance and sale of the Shares and the consummation of
the transactions contemplated hereby will not conflict with, or result in any
breach of or constitute a default under (nor constitute any event which with
notice, lapse of time, or both would result in any breach of, or constitute a
default under), any provisions of the charter or by-laws, of the Company or
any of its Subsidiaries or under any provision of any license, indenture,
mortgage, deed of trust, bank loan or credit agreement or other evidence of
indebtedness, or any lease, contract or other agreement or instrument to which
the Company or any of its Subsidiaries is a party or by which any of them or
their respective properties may be bound or affected, or under any federal,
state, local or foreign law, regulation or rule or any decree, judgment or
order applicable to the Company or any of its Subsidiaries;
(g) this Agreement has been duly authorized, executed and delivered
by the Company and is a legal, valid and binding agreement of the Company
enforceable in accordance with its terms;
(h) the capital stock of the Company, including the Shares, conforms
in all material respects to the description thereof contained in the
Registration Statement and Prospectus and the certificates for the Shares are
in due and proper form and the holders of the Shares will not be subject to
personal liability by reason of being such holders;
(i) the Shares have been duly and validly authorized and, when issued
and delivered against payment therefor as provided herein, will be duly and
validly issued and fully paid and non-assessable;
(j) no approval, authorization, consent or order of or filing with
any national, state or local governmental or regulatory commission, board,
body, authority or agency is required in connection with the issuance and sale
of the Shares or the consummation by the Company of the transaction as
contemplated hereby other than registration of the Shares under the Act and
any necessary qualification under the securities or blue sky laws of the
various
5.
<PAGE>
jurisdictions in which the Shares are being offered by the Underwriters or
under the rules and regulations of the National Association of Securities
Dealers, Inc. (the "NASD");
(k) no person has the right, contractual or otherwise, to cause the
Company to issue to it, or register pursuant to the Act, any shares of capital
stock of the Company upon the issue and sale of the Shares to the Underwriters
hereunder, nor does any person have preemptive rights, co-sale rights, rights
of first refusal or other rights to purchase any of the Shares other than
those that have been expressly waived prior to the dates hereof;
(l) Ernst & Young LLP, whose reports on the consolidated financial
statements of the Company and its Subsidiaries are filed with the Commission
as part of the Registration Statement and Prospectus, are independent
certified public accountants as required by the Act;
(m) each of the Company and its Subsidiaries has all necessary
licenses, authorizations, consents and approvals and has made all necessary
filings required under any federal, state, local or foreign law, regulation or
rule, and has obtained all necessary authorizations, consents and approvals
from other persons, in order to conduct its respective business; neither the
Company nor any of its Subsidiaries is in violation of, or in default under,
any such license, authorization, consent or approval or any federal, state,
local or foreign law, regulation or rule or any decree, order or judgment
applicable to the Company or any of its Subsidiaries the effect of which could
have a Material Adverse Effect;
(n) all legal or governmental proceedings, contracts, leases or
documents of a character required to be described in the Registration
Statement or the Prospectus or to be filed as an exhibit to the Registration
Statement have been so described or filed as required;
(o) there are no actions, suits, claims, investigations or
proceedings pending or threatened to which the Company or any of its
Subsidiaries or any of their respective officers is a party or of which any of
their respective properties is subject at law or in equity, or before or by
any federal, state, local or foreign governmental or regulatory commission,
board, body, authority or agency which could result in a judgment, decree or
order having a Material Adverse Effect or consummation of the transaction
contemplated hereby;
(p) the audited and unaudited financial statements included in the
Registration Statement and the Prospectus present fairly the consolidated
financial position of the Company and its Subsidiaries as of the dates
indicated and the consolidated results of operations and cash flows of the
Company and its Subsidiaries for the periods specified; such financial
statements have been prepared in conformity with generally accepted accounting
principles applied on a consistent basis during the periods involved;
(q) subsequent to the respective dates as of which information is
given in the Registration Statement and the Prospectus, there has not been (i)
any material adverse change, or any development which, in the Company's
reasonable judgment, is likely to cause a material adverse change, in the
business, properties or assets described or referred to in the
6.
<PAGE>
Registration Statement, or the results of operations, condition (financial or
otherwise), business or operations of the Company and its Subsidiaries taken
as a whole, (ii) any transaction which is material to the Company or its
Subsidiaries, except transactions in the ordinary course of business, (iii)
any obligation, direct or contingent, which is material to the Company and its
Subsidiaries taken as a whole, incurred by the Company or its Subsidiaries,
except obligations incurred in the ordinary course of business, (iv) any
change in the capital stock or outstanding indebtedness of the Company or its
Subsidiaries or (v) any dividend or distribution of any kind declared, paid or
made on the capital stock of the Company. Neither the Company nor its
Subsidiaries has any material contingent obligation which is not disclosed in
the Registration Statement.
(r) the Company has obtained the agreement of each of its directors
and officers and certain of its other stockholders not to sell, offer to sell,
contract to sell, hypothecate grant any option to sell or otherwise dispose
of, directly or indirectly, any shares of Common Stock or securities
convertible into or exchangeable for Common Stock or warrants or other rights
to purchase Common Stock for a period of 90 days after the date of the
Prospectus;
(s) the Company is not and, after giving effect to the offering and
sale of the Shares, will not be an "investment company" or an entity
"controlled" by an "investment company," as such terms are defined in the
Investment Company Act of 1940, as amended (the "Investment Company Act");
(t) except as described in the Registration Statement and Prospectus,
the Company owns, or has obtained valid and enforceable licenses for, or other
rights to use, the inventions, patent applications, patents, trademarks (both
registered and unregistered), tradenames, copyrights and trade secrets
described in the Registration Statement and Prospectus as being owned or
licensed by it, which the Company reasonably believes are necessary for the
conduct of its business (collectively, "Intellectual Property") and which the
failure to own, license or have such rights could have a Material Adverse
Effect. Except as described in the Registration Statement and Prospectus, (i)
the Company believes that there are no third parties who have or will be able
to establish their rights to any Intellectual Property, except for the
ownership rights of the owners of the Intellectual Property which is licensed
to the Company; (ii) to the Company's knowledge there is no infringement by
third parties of any Intellectual Property; (iii) there is no pending or, to
the Company's knowledge, threatened action, suit, proceeding or claim by
others challenging the Company's rights in or to any Intellectual Property,
and the Company is unaware of any facts which would form a reasonable basis
for any such claim; (iv) there is no pending or, to the Company's knowledge,
threatened action, suit, proceeding or claim by others challenging the
validity or scope of any Intellectual Property, and the Company is unaware of
any facts which would form a reasonable basis for any such claim; (v) there is
no pending or, to the Company's knowledge, threatened action, suit, proceeding
or claim by others that the Company infringes or otherwise violates any
patent, trademark, copyright, trade secret or other proprietary rights of
others, and the Company is unaware of any facts which would form a reasonable
basis for any such claim; (vi) to the Company's knowledge there is no patent
or patent application which contains claims that interfere with the issued or
pending claims of any of the Intellectual Property which could have a Material
Adverse Effect;
7.
<PAGE>
and (vii) there is no prior art of which the Company is aware that may render
any patent application owned by the Company of the Intellectual Property
unpatentable which has not been disclosed to the U.S. Patent and Trademark
Office which could have a Material Adverse Effect;
(u) the Company has filed with the U.S. Food and Drug Administration
(the "FDA"), and all applicable foreign, state and local regulatory bodies for
and received approval of all registrations, applications, licenses, requests
for exemptions, permits and other regulatory authorizations necessary to
conduct the Company's business as it is described in the Registration
Statement and Prospectus; the Company is in compliance in all material
respects with all such registrations, applications, licenses, requests for
exemptions, permits and other regulatory authorizations, and all applicable
FDA, foreign, state and local rules, regulations, guidelines and policies,
including, but not limited to, applicable FDA, foreign, state and local rules,
regulations and policies relating to good manufacturing practice ("GMP") and
good laboratory practice ("GLP"); the Company has no reason to believe that
any party granting any such registration, application, license, request for
exemption, permit or other authorization is considering limiting, suspending
or revoking the same and knows of no basis for any such limitation, suspension
or revocation; and
(v) the human clinical trials, animal studies and other preclinical
tests conducted by the Company or in which the Company has participated that
are described in the Registration Statement and Prospectus or the results of
which are referred to in the Registration Statement or Prospectus, and such
studies and tests conducted on behalf of the Company, were and, if still
pending, are being conducted in all material respects in accordance with
experimental protocols, procedures and controls generally used by qualified
experts in the preclinical or clinical study of new drugs or diagnostics as
applied to comparable products to those being developed by the Company; the
descriptions of the results of such studies, test and trials contained in the
Registration Statement and Prospectus are accurate and complete in all
material respects, and except as set forth in the Registration Statement and
Prospectus, the Company has no knowledge of any other trials, studies or
tests, the results of which the Company believes reasonably call into question
the clinical trial results described or referred to in the Registration
Statement and Prospectus when viewed in the context in which such results are
described and the clinical state of development; and the Company has not
received any notices or correspondence from the FDA or any other domestic or
foreign governmental agency requiring the termination, suspension or
modification (other than such modifications as are normal in the regulations,
any such modifications which are material have been disclosed to you) of any
animal studies, preclinical tests or clinical trials conducted by or on behalf
of the Company or in which the Company has participated that are described in
the Registration Statement or Prospectus or the results of which are referred
to in the Registration Statement or Prospectus.
4. Representations and Warranties of the Selling Stockholders.
----------------------------------------------------------
Intentionally Omitted.
5. Certain Covenants of the Company. The Company hereby agrees:
--------------------------------
8.
<PAGE>
(a) to furnish such information as may be required and otherwise to
cooperate in qualifying the Shares for offering and sale under the securities
or blue sky laws of such states as you may designate and to maintain such
qualifications in effect so long as required for the distribution of the
Shares; provided that the Company shall not be required to qualify as a
--------
foreign corporation or to consent to the service of process under the laws of
any such state (except service of process with respect to the offering and
sale of the Shares); and to promptly advise you of the receipt by the Company
of any notification with respect to the suspension of the qualification of the
Shares for sale in any jurisdiction or the initiation or threatening of any
proceeding for such purpose;
(b) to make available to the Underwriters in New York City, as soon
as practicable after the Registration Statement becomes effective, and
thereafter from time to time to furnish to the Underwriters, as many copies of
the Prospectus (or of the Prospectus as amended or supplemented if the Company
shall have made any amendments or supplements thereto after the effective date
of the Registration Statement) as the Underwriters may request for the
purposes contemplated by the Act; in case any Underwriter is required to
deliver a prospectus within the nine-month period referred to in Section
10(a)(3) of the Act in connection with the sale of the Shares, the Company
will prepare promptly upon request, but at the expense of such Underwriter,
such amendment or amendments to the Registration Statement and such
prospectuses as may be necessary to permit compliance with the requirements of
Section 10(a)(3) of the Act;
(c) to advise you promptly and (if requested by you) to confirm such
advice in writing, (i) when the Registration Statement has become effective
and when any post-effective amendment thereto becomes effective and (ii) if
Rule 430A under the Act is used, when the Prospectus is filed with the
Commission pursuant to Rule 424(b) under the Act (which the Company agrees to
file in a timely manner under such Rules);
(d) to advise you promptly, confirming such advice in writing, of any
request by the Commission for amendments or supplements to the Registration
Statement or Prospectus or for additional information with respect thereto, or
of notice of institution of proceedings for, or the entry of a stop order
suspending the effectiveness of the Registration Statement and, if the
Commission should enter a stop order suspending the effectiveness of the
Registration Statement, to make every reasonable effort to obtain the lifting
or removal of such order as soon as possible; to advise you promptly of any
proposal to amend or supplement the Registration Statement or Prospectus
including by filing any documents that would be incorporated therein by
reference and to file no such amendment or supplement to which you shall
object in writing;
(e) to file promptly all reports and any definitive proxy or
information statement required to be filed by the Company with the Commission
in order to comply with the Exchange Act subsequent to the date of the
Prospectus and for so long as the delivery of a prospectus is required in
connection with the offering or sale of the shares, and to promptly notify you
of such filing;
9.
<PAGE>
(f) if necessary or appropriate, to file a registration statement
pursuant to Rule 462(b) under the Act;
(g) to furnish to you and, upon request, to each of the other
Underwriters for a period of five years from the date of this Agreement (i)
copies of any reports or other communications which the Company shall send to
its stockholders or shall from time to time publish or publicly disseminate,
(ii) copies of all annual, quarterly and current reports filed with the
Commission on Forms 10-K, 10-Q and 8-K, or such other similar form as may be
designated by the Commission, (iii) copies of documents or reports filed with
any national securities exchange on which any class of securities of the
Company is listed, and (iv) such other information as you may reasonably
request regarding the Company or its Subsidiaries, in each case as soon as
such communications, documents or information becomes available;
(h) to advise the Underwriters promptly of the happening of any event
known to the Company within the time during which a Prospectus relating to the
Shares is required to be delivered under the Act which, in the judgment of the
Company, would require the making of any change in the Prospectus then being
used , or in the information incorporated therein by reference, so that the
Prospectus would not include an untrue statement of material fact or omit to
state a material fact necessary to make the statements therein, in the light
of the circumstances under which they are made, not misleading, and, during
such time, to prepare and furnish, at the Company's expense, to the
Underwriters promptly such amendments or supplements to such Prospectus as may
be necessary to reflect any such change and to furnish you a copy of such
proposed amendment or supplement before filing any such amendment or
supplement with the Commission;
(i) to make generally available to its security holders, and to
deliver to you, an earnings statement of the Company (which will satisfy the
provisions of Section 11(a) of the Act) covering a period of at least twelve
months beginning after the effective date of the Registration Statement (as
defined in Rule 158(c) of the Act) as soon as is reasonably practicable after
the termination of such twelve-month period but not later than the forty-fifth
(45th) day following the end of the fiscal quarter first occurring after the
first anniversary of the effective date of the registration statement;
(j) to furnish to its shareholders as soon as practicable after the
end of each fiscal year an annual report (including a balance sheet and
statements of income, shareholders' equity and of cash flow of the Company for
such fiscal year, accompanied by a copy of the certificate or report thereon
of nationally recognized independent certified public accountants);
(k) to furnish to you four (4) signed copies of the Registration
Statement, as initially filed with the Commission, and of all amendments
thereto (including all exhibits thereto and documents incorporated by
reference therein) and sufficient conformed copies of the foregoing (other
than exhibits) for distribution of a copy to each of the other Underwriters;
10.
<PAGE>
(l) to furnish to you as early as practicable prior to the time of
purchase and the additional time of purchase, as the case may be, but not
later than two business days prior thereto, a copy of the latest available
unaudited interim consolidated financial statements, if any, of the Company
and its Subsidiaries which have been read by the Company's independent
certified public accountants, as stated in their letter to be furnished
pursuant to Section 8(c) hereof;
(m) to apply the net proceeds from the sale of the Shares in the
manner set forth under the caption "Use of Proceeds" in the Prospectus;
(n) to furnish to you, before filing with the Commission subsequent
to the effective date of the Registration Statement and during the period
referred to in paragraph (f) above, a copy of any document proposed to be
filed pursuant to Section 13, 14 or 15(d) of the Exchange Act;
(o) not to sell, offer or agree to sell, contract to sell, grant any
option to sell or otherwise dispose of, directly or indirectly, any shares of
Common Stock or securities convertible into or exchangeable or exercisable for
Common Stock or warrants or other rights to purchase Common Stock or any other
Securities of the Company that are substantially similar to Common Stock or
permit the registration under the Act of any shares of Common Stock, except
for the registration of the Shares and the sales to the Underwriters pursuant
to this Agreement and except for issuances of Common Stock upon the exercise
of outstanding options, warrants and debentures, for a period of ninety (90)
days after the date hereof, without the prior written consent of the Warburg
Dillon Read LLC ("WDR"); and
(p) to cause the Shares to be listed for quotation on the NASDAQ
National Market.
6. Fees and Expenses. The Company will pay all expenses, fees and
-----------------
taxes (other than any transfer taxes and fees and disbursements of counsel for
the Underwriters except as set forth under Section 7 hereof or (iii) or (iv)
below) in connection with (i) the preparation and filing of the Registration
Statement, each Preliminary Prospectus, the Prospectus, and any amendments or
supplements thereto, and the printing and furnishing of copies of each thereof
to the Underwriters and to dealers (including costs of mailing and shipment),
(ii) the issuance, sale and delivery of the Shares by the Company, (iii) the
word processing and/or printing of this Agreement, any Agreement Among
Underwriters, any dealer agreements, any Statements of Information, the Custody
Agreement and the Powers of Attorney and the reproduction and/or printing and
furnishing of copies of each thereof to the Underwriters and to dealers
(including costs of mailing and shipment), (iv) the qualification of the Shares
for offering and sale under state laws and the determination of their
eligibility for investment under state law as aforesaid (including the legal
fees and filing fees and other disbursements of counsel to the Underwriters) and
the printing and furnishing of copies of any blue sky surveys or legal
investment surveys to the Underwriters and to dealers, (v) any listing of the
Shares on any securities exchange or qualification of the Shares for quotation
on NASDAQ and any registration thereof under the Exchange Act, (vi) the filing
for review of the public offering of the Shares by the National
11.
<PAGE>
Association of Securities Dealers, Inc. (the "NASD"), and (vii) the
performance of the Company's other obligations hereunder.
7. Reimbursement of Underwriters' Expenses. If the Shares are not
---------------------------------------
delivered for any reason other than the termination of this Agreement pursuant
to the second paragraph of Section 9 hereof or the default by one or more of the
Underwriters in its or their respective obligations hereunder, the Company
shall, in addition to paying the amounts described in Section 6 hereof,
reimburse the Underwriters for all of their out-of-pocket expenses, including
the fees and disbursements of their counsel.
8. Conditions of Underwriters' Obligations. The several obligations of
---------------------------------------
the Underwriters hereunder are subject to the accuracy of the representations
and warranties on the part of the Company on the date hereof and at the time of
purchase (and the several obligations of the Underwriters at the additional time
of purchase are subject to the accuracy of the representations and warranties on
the part of the Company on the date hereof and at the time of purchase (unless
previously waived) and at the additional time of purchase, as the case may be),
the performance by the Company of its obligations hereunder and to the following
additional conditions precedent:
(a) The Company shall furnish to you at the time of purchase and at
the additional time of purchase, as the case may be, an opinion of Wilson
Sonsini Goodrich & Rosati, Professional Corporation, counsel for the Company,
addressed to the Underwriters, and dated the time of purchase or the
additional time of purchase, as the case may be, with reproduced copies for
each of the other Underwriters and in form satisfactory to Brobeck, Phleger &
Harrison LLP, counsel for the Underwriters, stating that:
(i) the Company has been duly incorporated and is validly
existing as a corporation in good standing under the laws of the State of
Delaware, with full corporate power and authority to own, lease and
operate its properties and conduct its business as described in the
Registration Statement and the Prospectus, to execute and deliver this
Agreement and to issue, sell and deliver the Shares as herein
contemplated;
(ii) each of the Subsidiaries has been duly incorporated and
is validly existing as a corporation in good standing under the laws of
its respective jurisdiction of incorporation with full corporate power
and authority to own, lease and operate its respective properties and to
conduct its respective business;
(iii) the Company and its Subsidiaries are duly qualified or
licensed by each jurisdiction in which they conduct their respective
businesses and in which the failure, individually or in the aggregate, to be
so licensed or qualified could have a Material Adverse Effect and the Company
and its Subsidiaries are duly qualified, and are in good standing, in each
jurisdiction in which they own or lease real property or maintain an office
and in which such qualification is necessary;
(iv) this Agreement has been duly authorized, executed and
delivered by the Company;
12.
<PAGE>
(v) the Shares have been duly authorized and, when issued and
delivered to and paid for by the Underwriters, will be duly and validly
and issued and will be fully paid and non-assessable;
(vi) the Company has an authorized capitalization as set forth
in the Registration Statement and the Prospectus; the outstanding shares
of capital stock of the Company have been duly and validly authorized and
issued, and are fully paid, nonassessable and free of statutory and
contractual preemptive rights; the Shares when issued will be free of
statutory and contractual preemptive rights, resale rights, rights of
first refusal and similar rights; the certificates for the Shares are in
due and proper form and the holders of the Shares will not be subject to
personal liability by reason of being such holders;
(vii) other than the Subsidiaries, the Company does not own or
control, directly or indirectly, any corporation, association or other
entity; each Subsidiary has been duly incorporated and is validly
existing as a corporation in good standing under the laws of the
jurisdiction of its incorporation, with full corporate power and
authority to own, lease and operate its properties and to conduct its
business as described in the Registration Statement; each Subsidiary is
duly qualified to do business as a foreign corporation in good standing
in each jurisdiction where the ownership or leasing of the properties or
the conduct of its business requires such qualification, except where the
failure to so qualify would not have a Material Adverse Effect; all of
the outstanding shares of capital stock of each of the Subsidiaries have
been duly authorized and validly issued, are fully paid and non-
assessable and, except as otherwise stated in the Registration Statement,
are owned by the Company, in each case subject to no security interest,
other encumbrance or adverse claim; to the best of such counsel's
knowledge, no options, warrants or other rights to purchase, agreements
or other obligations to issue or other rights to convert any obligation
into shares of capital stock or ownership interests in the Subsidiaries
are outstanding;
(viii) the capital stock of the Company, including the Shares,
conforms to the description thereof contained in the Registration
Statement and Prospectus;
(ix) the Company is eligible to use a registration statement
on Form S-3 to register the Shares;
(x) the Registration Statement and the Prospectus (except as
to the financial statements and schedules and other financial and
statistical data contained or incorporated by reference therein, as to
which such counsel need express no opinion) comply as to form in all
material respects with the requirements of the Act;
(xi) the Registration Statement has become effective under the
Act and, to the best of such counsel's knowledge, no stop order
proceedings with respect thereto are pending or threatened under the Act
and any required filing of the Prospectus and any supplement thereto
pursuant to Rule 424 under the Act has been made in the manner and within
the time period required by such Rule 424;
13.
<PAGE>
(xii) no approval, authorization, consent or order of or filing
with any national, state or local governmental or regulatory commission,
board, body, authority or agency is required in connection with the
issuance and sale of the Shares and consummation by the Company of the
transaction as contemplated hereby other than registration of the Shares
under the Act (except such counsel need express no opinion as to any
necessary qualification under the state securities or blue sky laws of
the various jurisdictions in which the Shares are being offered by the
Underwriters);
(xiii) the execution, delivery and performance of this Agreement
by the Company and the consummation by the Company of the transactions
contemplated hereby do not and will not conflict with, or result in any
breach of, or constitute a default under (nor constitute any event which
with notice, lapse of time, or both, would result in any breach of or
constitute a default under), any provisions of the charter or by-laws of
the Company or any of its Subsidiaries or under any provision of any
license, indenture, mortgage, deed of trust, bank loan, credit agreement
or other evidence of indebtedness, or any lease, contract or other
agreement or instrument to which the Company or any of its Subsidiaries
is a party or by which any of them or their respective properties may be
bound or affected, or under any federal, state, local or foreign law,
regulation or rule or any decree, judgment or order applicable to the
Company or any of its Subsidiaries;
(xiv) neither the Company nor any of its Subsidiaries is in
violation of its charter or by-laws or, to the best of such counsel's
knowledge, is in breach of or in default under (nor has any event
occurred which with notice, lapse of time, or both would result in any
breach of, or constitute a default under), any license, indenture,
mortgage, deed of trust, bank loan or any other agreement or instrument
to which the Company or any of its Subsidiaries is a party or by which
any of them or their respective properties may be bound or affected or
under any federal, state, local or foreign law, regulation or rule or any
decree, judgment or order applicable to the Company or any of its
Subsidiaries;
(xv) to the best of such counsel's knowledge, there are no
contracts, licenses, agreements, leases or documents of a character which
are required to be filed as exhibits to the Registration Statement or to
be summarized or described in the Prospectus which have not been so
filed, summarized or described;
(xvi) to the best of such counsel's knowledge, there are no
actions, suits, claims, investigations or proceedings pending, threatened
or contemplated to which the Company or any of its Subsidiaries is
subject or of which any of their respective properties, is subject at law
or in equity or before or by any federal, state, local or foreign
governmental or regulatory commission, board, body, authority or agency
which are required to be described in the Prospectus but are not so
described;
(xvii) the documents incorporated by reference in the
Registration Statement and Prospectus, when they became effective were
filed (or, if an amendment with respect to any such document was filed
when such amendment was filed) with the Commission,
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complied as to form in all material respects with the Exchange Act
(except as to the financial statements and schedules and other financial
and statistical data contained or incorporated by reference therein as to
which such counsel need express no opinion);
(xviii) the Company will not, upon consummation of the
transactions contemplated by this Agreement, be an "investment company,"
or a "promoter" or "principal underwriter" for, a "registered investment
company," as such terms are defined in the Investment Company Act of
1940, as amended;
(xix) such counsel have participated in conferences with
officers and other representatives of the Company, representatives of the
independent public accountants of the Company and representatives of the
Underwriters at which the contents of the Registration Statement and
Prospectus were discussed and, although such counsel is not passing upon
and does not assume responsibility for the accuracy, completeness or
fairness of the statements contained in the Registration Statement or
Prospectus (except as and to the extent stated in subparagraphs (vi) and
(viii) above), on the basis of the foregoing nothing has come to the
attention of such counsel that causes them to believe that the
Registration Statement or any amendment thereto at the time such
Registration Statement or amendment became effective contained an untrue
statement of a material fact or omitted to state a material fact required
to be stated therein or necessary to make the statements therein not
misleading, or that the Prospectus or any supplement thereto at the date
of such Prospectus or such supplement, and at all times up to and
including the time of purchase or additional time of purchase, as the
case may be, contained an untrue statement of a material fact or omitted
to state a material fact required to be stated therein or necessary to
make the statements therein, in light of the circumstances under which
they were made, not misleading (it being understood that such counsel
need express no opinion with respect to the financial statements and
schedules and other financial and statistical data included in the
Registration Statement or Prospectus).
(b) The Company shall furnish to you at the time of purchase
and at the additional time of purchase, as the case may be, an opinion of
Pennie & Edmonds LLP, patent counsel for the Company, addressed to the
Underwriters, and dated the time of purchase or the additional time of
purchase, as the case may be, with reproduced copies for each of the other
Underwriters, substantially in the form attached hereto as Exhibit A and
---------
satisfactory to Brobeck, Phleger & Harrison LLP, counsel for the Underwriters.
(c) You shall have received from Ernst & Young LLP, letters
dated, respectively, the date of this Agreement and the time of purchase and
additional time of purchase, as the case may be, and addressed to the
Underwriters (with reproduced copies for each of the Underwriters) in the
forms heretofore approved by WDR.
(d) You shall have received at the time of purchase and at
the additional time of purchase, as the case may be, the favorable opinion of
Brobeck, Phleger & Harrison LLP, counsel for the Underwriters, dated the time
of purchase or the additional time of
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purchase, as the case may be, as to the matters referred to in subparagraphs
(viii) (with respect to the Shares only), (ix) and (x) of paragraph (a) of
this Section 8.
In addition, such counsel shall state that such counsel have
participated in conferences with officers and other representatives of the
Company, counsel for the Company, representatives of the independent public
accountants of the Company and representatives of the Underwriters at which the
contents of the Registration Statement and Prospectus and related matters were
discussed and, although such counsel is not passing upon and does not assume any
responsibility for the accuracy, completeness or fairness of the statements
contained in the Registration Statement and Prospectus (except as to matters
referred to with respect to the Shares under subparagraph (viii) of paragraph
(a) of this Section 8), on the basis of the foregoing (relying as to materiality
to a large extent upon the opinions of officers and other representatives of the
Company), no facts have come to the attention of such counsel which lead them to
believe that the Registration Statement or any amendment thereto at the time
such Registration Statement or amendment became effective contained an untrue
statement of a material fact or omitted to state a material fact required to be
stated therein or necessary to make the statements therein not misleading or
that the Prospectus as of its date or any supplement thereto as of its date
contained an untrue statement of a material fact or omitted to state a material
fact required to be stated therein or necessary to make the statements therein,
in light of the circumstances under which they were made, not misleading (it
being understood that such counsel need express no comment with respect to the
financial statements and schedules and other financial and statistical data
included in the Registration Statement or Prospectus).
(e) No amendment or supplement to the Registration Statement or
Prospectus, including documents deemed to be incorporated by reference
therein, shall be filed prior to the time the Registration Statement becomes
effective to which you object in writing.
(f) The Registration Statement shall become effective, or if
Rule 430A under the Act is used, the Prospectus shall have been filed with the
Commission pursuant to Rule 424(b) under the Act, at or before 5:00 P.M., New
York City time, on the date of this Agreement, unless a later time (but not
later than 5:00 P.M., New York City time, on the second full business day
after the date of this Agreement) shall be agreed to by the Company and you in
writing or by telephone, confirmed in writing; provided, however, that the
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Company and you and any group of Underwriters, including you, who have agreed
hereunder to purchase in the aggregate at least 50% of the Firm Shares may
from time to time agree on a later date.
(g) Prior to the time of purchase or the additional time of
purchase, as the case may be, (i) no stop order with respect to the
effectiveness of the Registration Statement shall have been issued under the
Act or proceedings initiated under Section 8(d) or 8(e) of the Act; (ii) the
Registration Statement and all amendments thereto, or modifications thereof,
if any, shall not contain an untrue statement of a material fact or omit to
state a material fact required to be stated therein or necessary to make the
statements therein not misleading; and (iii) the Prospectus and all amendments
or supplements thereto, or modifications thereof, if any, shall not contain an
untrue statement of a material fact or omit to state a material fact required
to be stated
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therein or necessary to make the statements therein, in the light of the
circumstances under which they are made, not misleading.
(h) Between the time of execution of this Agreement and the time of
purchase or the additional time of purchase, as the case may be, (i) no
material and unfavorable change, financial or otherwise (other than as
referred to in the Registration Statement and Prospectus), in the business,
condition or prospects of the Company and its Subsidiaries taken as a whole
shall occur or become known and (ii) no transaction which is material and
unfavorable to the Company shall have been entered into by the Company or any
of its Subsidiaries.
(i) The Company will, at the time of purchase or additional time of
purchase, as the case may be, deliver to you a certificate of two of its
executive officers to the effect that the representations and warranties of
the Company as set forth in this Agreement are true and correct as of each
such date, that the Company shall perform such of its obligations under this
Agreement as are to be performed at or before the time of purchase and at or
before the additional time of purchase, as the case may be and the conditions
set forth in paragraphs (g) and (h) of this Section 8 have been met.
(j) You shall have received signed letters, dated the date of this
Agreement, from each of the directors and officers of the Company and certain
of its other stockholders to the effect that such persons shall not sell,
offer or agree to sell, contract to sell, grant any option to sell or
otherwise dispose of, directly or indirectly, any shares of Common Stock of
the Company or securities convertible into or exchangeable or exercisable for
Common Stock or warrants or other rights to purchase Common Stock for a period
of 90 days after the date of the Prospectus without WDR's prior written
consent.
(k) The Company shall have furnished to you such other documents and
certificates as to the accuracy and completeness of any statement in the
Registration Statement and the Prospectus as of the time of purchase and the
additional time of purchase, as the case may be, as you may reasonably
request.
(l) The Shares shall have been approved for listing for quotation on
the NASDAQ National Market, subject only to notice of issuance at or prior to
the time of purchase. or the additional time of purchase, as the case may be.
(m) Intentionally Omitted.
(n) Between the time of execution of this Agreement and the time of
purchase or additional time of purchase, as the case may be, there shall not
have occurred any downgrading, nor shall any notice or announcement have been
given or made of (i) any intended or potential downgrading or (ii) any review
or possible change that does not indicate an improvement, in the rating
accorded any securities of or guaranteed by the Company by any "nationally
recognized statistical rating organization", as that term is defined in Rule
436(g)(2) under the Act.
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9. Effective Date of Agreement; Termination. This Agreement shall become
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effective (i) if Rule 430A under the Act is not used, when you shall have
received notification of the effectiveness of the Registration Statement, or
(ii) if Rule 430A under the Act is used, when the parties hereto have executed
and delivered this Agreement.
The obligations of the several Underwriters hereunder shall be subject
to termination in the absolute discretion of you or any group of Underwriters
(which may include you) which has agreed to purchase in the aggregate at least
50% of the Firm Shares, if, since the time of execution of this Agreement or the
respective dates as of which information is given in the Registration Statement
and Prospectus, (y) there has been any material adverse and unfavorable change,
financial or otherwise (other than as referred to in the Registration Statement
and Prospectus), in the operations, business, condition or prospects of the
Company and its Subsidiaries taken as a whole, which would, in your judgment or
in the judgment of such group of Underwriters, make it impracticable to market
the Shares, or (z) there shall have occurred any downgrading, or any notice
shall have been given of (i) any intended or potential downgrading or (ii) any
review or possible change that does not indicate an improvement, in the rating
accorded any securities of or guaranteed by the Company by any "nationally
recognized statistical rating organization", as that term is defined in Rule
436(g)(2) under the Act or, if, at any time prior to the time of purchase or,
with respect to the purchase of any Additional Shares, the additional time of
purchase, as the case may be, trading in securities on the New York Stock
Exchange, the American Stock Exchange or the NASDAQ National Market shall have
been suspended or limitations or minimum prices shall have been established on
the New York Stock Exchange, the American Stock Exchange or the NASDAQ National
Market or if a banking moratorium shall have been declared either by the United
States or New York State authorities, or if the United States shall have
declared war in accordance with its constitutional processes or there shall have
occurred any material outbreak or escalation of hostilities or other national or
international calamity or crisis of such magnitude in its effect on the
financial markets of the United States as, in your judgment or in the judgment
of such group of Underwriters, to make it impracticable to market the Shares.
If you or any group of Underwriters elects to terminate this Agreement
as provided in this Section 9, the Company and each other Underwriter shall be
notified promptly by letter or telegram.
If the sale to the Underwriters of the Shares, as contemplated by this
Agreement, is not carried out by the Underwriters for any reason permitted under
this Agreement or if such sale is not carried out because the Company shall be
unable to comply with any of the terms of this Agreement, the Company shall not
be under any obligation or liability under this Agreement (except to the extent
provided in Sections 6, 7 and 11 hereof), and the Underwriters shall be under no
obligation or liability to the Company under this Agreement (except to the
extent provided in Section 11 hereof) or to one another hereunder.
10. Increase in Underwriters' Commitments. Subject to Sections 8 and 9,
-------------------------------------
if any Underwriter shall default in its obligation to take up and pay for the
Firm Shares to be purchased by it hereunder (otherwise than for reasons
sufficient to justify the termination of this Agreement under the provisions of
Section 9 hereof) and if the number of Firm Shares which all
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Underwriters so defaulting shall have agreed but failed to take up and pay for
does not exceed 10% of the total number of Firm Shares, the non-defaulting
Underwriters shall take up and pay for (in addition to the number of Firm
Shares they are obligated to purchase pursuant to Section 1 hereof) the number
of Firm Shares agreed to be purchased by all such defaulting Underwriters, as
hereinafter provided. Such Shares shall be taken up and paid for by such non-
defaulting Underwriter or Underwriters in such amount or amounts as you may
designate with the consent of each Underwriter so designated or, in the event
no such designation is made, such Shares shall be taken up and paid for by all
non-defaulting Underwriters pro rata in proportion to the aggregate number of
Firm Shares set opposite the names of such non-defaulting Underwriters in
Schedule A.
Without relieving any defaulting Underwriter from its obligations
hereunder, the Company agrees with the non-defaulting Underwriters that they
will not sell any Firm Shares hereunder unless all of the Firm Shares are
purchased by the Underwriters (or by substituted Underwriters selected by you
with the approval of the Company or selected by the Company with your approval).
If a new Underwriter or Underwriters are substituted by the
Underwriters or by the Company for a defaulting Underwriter or Underwriters in
accordance with the foregoing provision, the Company or you shall have the right
to postpone the time of purchase for a period not exceeding five business days
in order that any necessary changes in the Registration Statement and Prospectus
and other documents may be effected.
The term Underwriter as used in this agreement shall refer to and
include any Underwriter substituted under this Section 10 with like effect as if
such substituted Underwriter had originally been named in Schedule A.
If the aggregate number of Shares which the defaulting Underwriter or
Underwriters agreed to purchase exceeds 10% of the total number of Shares which
all Underwriters agreed to purchase hereunder, and if neither the non-defaulting
Underwriters nor the Company shall make arrangements within the five business
day period stated above for the purchase of all the Shares which the defaulting
Underwriter or Underwriters agreed to purchase hereunder, this Agreement shall
be terminated without further act or deed and without any liability on the part
of the Company to any non-defaulting Underwriter and without any liability on
the part of any non-defaulting Underwriter to the Company. Nothing in this
paragraph, and no action taken hereunder, shall relieve any defaulting
Underwriter from liability in respect of any default of such Underwriter under
this Agreement.
11. Indemnity and Contribution.
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(a) The Company agrees to indemnify, defend and hold harmless each
Underwriter, its partners, directors and officers, and any person who controls
any Underwriter within the meaning of Section 15 of the Act or Section 20 of
the Exchange Act, and the successors and assigns of all of the foregoing
persons from and against any loss, damage, expense, liability or claim
(including the reasonable cost of investigation) which, jointly or severally,
any such Underwriter or any such person may incur under the Act, the Exchange
Act,
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the Common Law or otherwise, insofar as such loss, damage, expense, liability
or claim arises out of or is based upon any untrue statement or alleged untrue
statement of a material fact contained in the Registration Statement (or in
the Registration Statement as amended by any post-effective amendment thereof
by the Company) or in a Prospectus (the term Prospectus for the purpose of
this Section 11 being deemed to include any Preliminary Prospectus, the
Prospectus and the Prospectus as amended or supplemented by the Company), or
arises out of or is based upon any omission or alleged omission to state a
material fact required to be stated in either such Registration Statement or
Prospectus or necessary to make the statements made therein not misleading,
except insofar as any such loss, damage, expense, liability or claim arises
out of or is based upon any untrue statement or alleged untrue statement of a
material fact contained in and in conformity with information furnished in
writing by or on behalf of any Underwriter through you to the Company
expressly for use with reference to such Underwriter in such Registration
Statement or such Prospectus or arises out of or is based upon any omission or
alleged omission to state a material fact in connection with such information
required to be stated in either such Registration Statement or Prospectus or
necessary to make such information not misleading.
If any action, suit or proceeding (together, a "Proceeding") is
brought against an Underwriter or any such person in respect of which indemnity
may be sought against the Company pursuant to the foregoing paragraph, such
Underwriter or such person shall promptly notify the Company in writing of the
institution of such Proceeding and the Company shall assume the defense of such
Proceeding, including the employment of counsel reasonably satisfactory to such
indemnified party and payment of all fees and expenses; provided, however, that
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the omission to so notify the Company shall not relieve the Company from any
liability which the Company may have to any Underwriter or any such person or
otherwise. Such Underwriter or such controlling person shall have the right to
employ its or their own counsel in any such case, but the fees and expenses of
such counsel shall be at the expense of such Underwriter or of such person
unless the employment of such counsel shall have been authorized in writing by
the Company in connection with the defense of such Proceeding or the Company
shall not have, within a reasonable period of time in light of the circumstances
employed counsel to have charge of the defense of such Proceeding or such
indemnified party or parties shall have reasonably concluded that there may be
defenses available to it or them which are different from, additional to or in
conflict with those available to the Company (in which case the Company shall
not have the right to direct the defense of such Proceeding on behalf of the
indemnified party or parties), in any of which events such fees and expenses
shall be borne by the Company and paid as incurred (it being understood,
however, that the Company shall not be liable for the expenses of more than one
separate counsel (in addition to any local counsel) in any one Proceeding or
series of related Proceedings in the same jurisdiction representing the
indemnified parties who are parties to such Proceeding). The Company shall not
be liable for any settlement of any such Proceeding effected without its written
consent but if settled with the written consent of the Company, the Company
agrees to indemnify and hold harmless any Underwriter and any such person from
and against any loss or liability by reason of such settlement. Notwithstanding
the foregoing sentence, if at any time an indemnified party shall have requested
an indemnifying party to reimburse the indemnified party for fees and expenses
of counsel as contemplated by the second sentence of this paragraph, then the
indemnifying party agrees that it shall be liable for any settlement of any
Proceeding effected
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without its written consent if (i) such settlement is entered into more than
60 business days after receipt by such indemnifying party of the aforesaid
request, (ii) such indemnifying party shall not have reimbursed the
indemnified party in accordance with such request prior to the date of such
settlement and (iii) such indemnified party shall have given the indemnifying
party at least 30 days' prior notice of its intention to settle. No
indemnifying party shall, without the prior written consent of the indemnified
party, effect any settlement of any pending or threatened Proceeding in
respect of which any indemnified party is or could have been a party and
indemnity could have been sought hereunder by such indemnified party, unless
such settlement includes an unconditional release of such indemnified party
from all liability on claims that are the subject matter of such Proceeding
and does not include an admission of fault, culpability or a failure to act,
by or on behalf of such indemnified party.
(b) Each Underwriter severally agrees to indemnify, defend and hold
harmless the Company, its directors and officers, and any person who controls
the Company or within the meaning of Section 15 of the Act, or Section 20 of
the Exchange Act from and against any loss, damage, expense, liability or
claim (including the reasonable cost of investigation) which, jointly or
severally, the Company or any such person may incur under the Act, the
Exchange Act, or Common Law or otherwise, insofar as such loss, damage,
expense, liability or claim arises out of or is based upon any untrue
statement or alleged untrue statement of a material fact contained in and in
conformity with information furnished in writing by or on behalf of such
Underwriter through you to the Company expressly for use with reference to
such Underwriter in the Registration Statement (or in the Registration
Statement as amended by or on behalf of any post-effective amendment thereof
by the Company) or in a Prospectus, or arises out of or is based upon any
omission or alleged omission to state a material fact in connection with such
information required to be stated in such Registration Statement or Prospectus
or necessary to make such information not misleading.
If any Proceeding is brought against the Company or any such person in
respect of which indemnity may be sought against any Underwriter pursuant to the
foregoing paragraph, the Company or such person shall promptly notify such
Underwriter in writing of the institution of such Proceeding and such
Underwriter shall assume the defense of such Proceeding, including the
employment of counsel reasonably satisfactory to such indemnified party and
payment of all fees and expenses, provided, however, that the omission to so
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notify such Underwriter shall not relieve such Underwriter, from any liability
which such Underwriter may have to the Company, or any such person or otherwise.
The Company or such person shall have the right to employ its own counsel in any
such case, but the fees and expenses of such counsel shall be at the expense of
the Company or such person unless the employment of such counsel shall have been
authorized in writing by such Underwriter in connection with the defense of such
Proceeding or such Underwriter shall not have employed counsel to have charge of
the defense of such Proceeding or such indemnified party or parties shall have
reasonably concluded that there may be defenses available to it or them which
are different from or additional to or in conflict with those available to such
Underwriter (in which case such Underwriter shall not have the right to direct
the defense of such Proceeding on behalf of the indemnified party or parties,
but such Underwriter may employ counsel and participate in the defense thereof
but the fees and expenses of such counsel shall be at the expense of such
Underwriter), in any of which events such fees and expenses shall
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be borne by such Underwriter and paid as incurred (it being understood,
however, that such Underwriter shall not be liable for the expenses of more
than one separate counsel (in addition to any local counsel) in any one
Proceeding or series of related Proceedings in the same jurisdiction
representing the indemnified parties who are parties to such Proceeding). No
Underwriter shall be liable for any settlement of any such Proceeding effected
without the written consent of such Underwriter but if settled with the
written consent of such Underwriter, such Underwriter agrees to indemnify and
hold harmless the Company and any such person from and against any loss or
liability by reason of such settlement. Notwithstanding the foregoing
sentence, if at any time an indemnified party shall have requested an
indemnifying party to reimburse the indemnified party for fees and expenses of
counsel as contemplated by the second sentence of this paragraph, then the
indemnifying party agrees that it shall be liable for any settlement of any
Proceeding effected without its written consent if (i) such settlement is
entered into more than 60 business days after receipt by such indemnifying
party of the aforesaid request, (ii) such indemnifying party shall not have
reimbursed the indemnified party in accordance with such request prior to the
date of such settlement and (iii) such indemnified party shall have given the
indemnifying party at least 30 days' prior notice of its intention to settle.
No indemnifying party shall, without the prior written consent of the
indemnified party, effect any settlement of any pending or threatened
Proceeding in respect of which any indemnified party is or could have been a
party and indemnity could have been sought hereunder by such indemnified
party, unless such settlement includes an unconditional release of such
indemnified party from all liability on claims that are the subject matter of
such Proceeding.
(c) If the indemnification provided for in this Section 11 is
unavailable to an indemnified party under subsections (a) and (b) of this
Section 11 in respect of any losses, damage, expenses, liabilities or claims
referred to therein, then each applicable indemnifying party, in lieu of
indemnifying such indemnified party, shall contribute to the amount paid or
payable by such indemnified party as a result of such losses, damages,
expenses, liabilities or claims (i) in such proportion as is appropriate to
reflect the relative benefits received by the Company on the one hand and the
Underwriters on the other hand from the offering of the Shares or (ii) if the
allocation provided by clause (i) above is not permitted by applicable law, in
such proportion as is appropriate to reflect not only the relative benefits
referred to in clause (i) above but also the relative fault of the Company on
the one hand and of the Underwriters on the other in connection with the
statements or omissions which resulted in such losses, damages, expenses,
liabilities or claims, as well as any other relevant equitable considerations.
The relative benefits received by the Company on the one hand and the
Underwriters on the other shall be deemed to be in the same respective
proportion as the total proceeds from the offering (net of underwriting
discounts and commissions but before deducting expenses) received by the
Company and the total underwriting discounts and commissions received by the
Underwriters, bear to the aggregate public offering price is the shares. The
relative fault of the Company on the one hand and of the Underwriters on the
other shall be determined by reference to, among other things, whether the
untrue statement or alleged untrue statement of a material fact or omission or
alleged omission relates to information supplied by the Company or by the
Underwriters and the parties' relative intent, knowledge, access to
information and opportunity to correct or prevent such statement or omission.
The amount paid or payable by a party as a result of the losses, damages,
expenses, liabilities and claims referred to in this subsection shall be
deemed to include any legal
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or other fees or expenses reasonably incurred by such party in connection with
investigating, preparing to defend or defending any claim or Proceeding.
(d) The Company and the Underwriters agree that it would not be just
and equitable if contribution pursuant to this Section 11 were determined by
pro rata allocation (even if the Underwriters were treated as one entity for
such purpose) or by any other method of allocation that does not take account
of the equitable considerations referred to in subsection (c) above.
Notwithstanding the provisions of this Section 11, no Underwriter shall be
required to contribute any amount in excess of the amount by which the total
price at which the Shares underwritten by such Underwriter and distributed to
the public were offered to the public exceeds the amount of any damage which
such Underwriter has otherwise been required to pay by reason of such untrue
statement or alleged untrue statement or omission or alleged omission. No
person guilty of fraudulent misrepresentation (within the meaning of Section
11(f) of the Act) shall be entitled to contribution from any person who was
not guilty of such fraudulent misrepresentation. The Underwriters' obligations
to contribute pursuant to this Section 11 are several in proportion to their
respective underwriting commitments and not joint.
(e) The indemnity and contribution agreements contained in this
Section 11 and the covenants, warranties and representations of the Company
contained in this Agreement shall remain in full force and effect regardless
of any partners, investigation made by or on behalf of any Underwriter, its
directors and officers or any person (including each partner, officer or
director of such person) who controls any Underwriter within the meaning of
Section 15 of the Act or Section 20 of the Exchange Act, or by or on behalf of
the Company, its directors or officers, or any person who controls the Company
within the meaning of Section 15 of the Act or Section 20 of the Exchange Act,
and shall survive any termination of this Agreement or the issuance and
delivery of the Shares. The Company and each Underwriter agree promptly to
notify each other of any commencement of any Proceeding against it and, in the
case of the Company, against any of the Company's officers or directors in
connection with the issuance and sale of the Shares, or in connection with the
Registration Statement or Prospectus.
12. Notices. Except as otherwise herein provided, all statements,
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requests, notices and agreements shall be in writing or by telegram and, if to
the Underwriters, shall be sufficient in all respects if delivered or sent to
Warburg Dillon Read LLC, 299 Park Avenue, New York, N.Y. 10171-0026, Attention:
Syndicate Department, and if to the Company, shall be sufficient in all respects
if delivered or sent to the Company at the offices of the Company at 3400 West
Bayshore Road, Palo Alto, California 94303, Attention: Chief Financial Officer.
13. Governing Law; Construction. This Agreement and any claim,
---------------------------
counterclaim or dispute of any kind or nature whatsoever arising out of or in
any way relating to this Agreement ("Claim"), directly or indirectly, shall be
governed by, and construed in accordance with, the laws of the State of New
York. The Section headings in this Agreement have been inserted as a matter of
convenience of reference and are not a part of this Agreement.
14. Submission to Jurisdiction. Except as set forth below, no Claim may
--------------------------
be commenced, prosecuted or continued in any court other than the courts of the
State of New York
23.
<PAGE>
located in the City and County of New York or in the United States District
Court for the Southern District of New York, which courts shall have
jurisdiction over the adjudication of such matters, and the Company consents
to the jurisdiction of such courts and personal service with respect thereto.
The Company hereby consents to personal jurisdiction, service and venue in any
court in which any Claim arising out of or in any way relating to this
Agreement is brought by any third party against Warburg Dillon Read LLC or any
indemnified party. Each of Warburg Dillon Read LLC and the Company (on its
behalf and, to the extent permitted by applicable law, on behalf of its
stockholders and affiliates) waives all right to trial by jury in any action,
proceeding or counterclaim (whether based upon contract, tort or otherwise) in
any way arising out of or relating to this Agreement. The Company agrees that
a final judgment in any such action, proceeding or counterclaim brought in any
such court shall be conclusive and binding upon the Company and may be
enforced in any other courts in the jurisdiction of which the Company is or
may be subject, by suit upon such judgment.
15. Parties at Interest. The Agreement herein set forth has been and is
-------------------
made solely for the benefit of the Underwriters and the Company, and, to the
extent provided in Section 11 hereof, the controlling persons, directors and
officers referred to in such Section, and their respective successors, assigns,
heirs, pursuant representatives and executors and administrators. No other
person, partnership, association or corporation (including a purchaser, as such
purchaser, from any of the Underwriters) shall acquire or have any right under
or by virtue of this Agreement.
16. Counterparts. This Agreement may be signed by the parties in one or
------------
more counterparts which together shall constitute one and the same agreement
among the parties.
17. Successors and Assigns. This Agreement shall be binding upon the
----------------------
Underwriters and the Company and their successors and assigns and any successor
or assign of any substantial portion of the Company's and any of the
Underwriters' respective businesses and/or assets.
18. Miscellaneous. Warburg Dillon Read LLC, an indirect, wholly owned
-------------
subsidiary of [ ], is not a bank and is separate from any affiliated
bank, including any U.S. branch or agency of Warburg Dillon Read LLC. Because
Warburg Dillon Read LLC is a separately incorporated entity, it is solely
responsible for its own contractual obligations and commitments, including
obligations with respect to sales and purchases of securities. Securities sold,
offered or recommended by Warburg Dillon Read LLC are not deposits, are not
insured by the Federal Deposit Insurance Corporation, are not guaranteed by a
branch or agency, and are not otherwise an obligation or responsibility of a
branch or agency.
19. A lending affiliate of Warburg Dillon Read LLC may have lending
relationships with issuers of securities underwritten or privately placed by
Warburg Dillon Read LLC. To the extent required under the securities laws,
prospectuses and other disclosure documents for securities underwritten or
privately placed by Warburg Dillon Read LLC will disclose the existence of any
such lending relationships and whether the proceeds of the issue will be used to
repay debts owed to affiliates of Warburg Dillon Read LLC.
24.
<PAGE>
If the foregoing correctly sets forth the understanding among the
Company and the Underwriters, please so indicate in the space provided below for
the purpose, whereupon this letter and your acceptance shall constitute a
binding agreement among the Company and the Underwriters, severally.
Very truly yours,
CONNETICS CORPORATION
By:
-------------------------------
Thomas G. Wiggans
Chief Executive Officer
Accepted and agreed to as of the date first above written, on behalf of
themselves and the other several Underwriters named in Schedule A
WARBURG DILLON READ LLC
HAMBRECHT & QUIST LLC
RAYMOND JAMES & ASSOCIATES, INC.
By: WARBURG DILLON READ LLC
By:
_________________________
Title:
By:
_________________________
Title:
25.
<PAGE>
SCHEDULE A
Number of
Underwriter Shares
- ----------- ---------
WARBURG DILLON READ LLC
HAMBRECHT & QUIST LLC
RAYMOND JAMES & ASSOCIATES, INC.
----------
Total...............................
==========
<PAGE>
EXHIBIT 5.1
[WILSON SONSINI GOODRICH & ROSATI LETTERHEAD]
650 PAGE MILL ROAD
PALO ALTO, CALIFORNIA 94304-1050
TELEPHONE 650-493-9300 FACSIMILE 650-493-6811
WWW.WSGR.COM
September 3, 1999
Connetics Corporation
3400 West Bayshore Road
Palo Alto, CA 94303
Re: Connetics Corporation (the "Company") Registration Statement on Form S-3
Ladies and Gentlemen:
We have examined the Registration Statement on Form S-3 filed by you with
the Securities and Exchange Commission (the "Commission") on or about
September 2, 1999 (as such may be further amended or supplemented, the
"Registration Statement"), in connection with the registration under the
Securities Act of 1933, as amended (the "Act"), of up to 4,000,000 shares of
your Common Stock (the "Shares"). The Shares, which include up to 600,000
shares of Common Stock issuable pursuant to an over-allotment option granted
to the underwriters (the "Underwriters"), are to be sold to the Underwriters
as described in such Registration Statement for sale to the public. As your
counsel in connection with this transaction, we have examined the proceedings
proposed to be taken by you in connection with the issuance and sale of the
Shares.
Based on the foregoing, it is our opinion that, upon conclusion of the
proceedings being taken or contemplated by us, as your counsel, to be taken
prior to the issuance of the Shares and upon completion of the proceedings taken
in order to permit such transactions to be carried out in accordance with the
securities laws of various states where required, the Shares, when issued and
sold in the manner described in the Registration Statement, will be legally and
validly issued, fully paid and nonassessable.
We consent to the use of this opinion as an exhibit to the Registration
Statement, and further consent to the use of our name wherever appearing in the
Registration Statement, including the prospectus constituting a part thereof,
which has been approved by us, as such may be further amended or supplemented,
or incorporated by reference in any Registration Statement relating to the
prospectus file pursuant to Rule 462(b) of the Act.
Very truly yours,
/S/ WILSON SONSINI GOODRICH & ROSATI
Professional Corporation
<PAGE>
EXHIBIT 23.1
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent to the reference to our firm under the captions "Selected
Consolidated Financial Data" and "Experts" and to the use of our report dated
January 13, 1999 in the Registration Statement (Form S-3 No. 333-85833) and
related Prospectus of Connetics Corporation for the registration of 4,600,000
shares of its common stock and to the incorporation by reference of our report
dated January 13, 1999, with respect to the consolidated financial statements
of Connetics Corporation included in its Annual Report (Form 10-K) for the year
ended December 31, 1998, filed with the Securities and Exchange Commission.
/s/ ERNST & YOUNG LLP
Palo Alto, California
September 3, 1999
