UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
------------
FORM 10-K/A
AMENDMENT NO. 1
[ ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended
OR
[X] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from July 1, 1997, to December 31, 1997
Commission file number 000-22171
KOS PHARMACEUTICALS, INC.
---------------------------------------------------
(Exact Name of Company as Specified in Its Charter)
FLORIDA 65-0670898
------------------------------- -----------------------------------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
1001 BRICKELL BAY DRIVE, 25TH FLOOR, MIAMI, FLORIDA 33131
---------------------------------------------------------
(Address of Principal Executive Offices, Zip Code)
Company's Telephone Number, Including Area Code: (305) 577-3464
Indicate by check mark whether the Company (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Company was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosures of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of Kos Pharmaceuticals, Inc. Common Stock, $.01
par value, held by non-affiliates, computed by reference to the price at which
the stock was sold as of February 27, 1998: $86,982,729.
Number of shares of Common Stock of Kos Pharmaceuticals, Inc. issued and
outstanding as of February 27, 1998: 17,165,695
DOCUMENTS INCORPORATED BY REFERENCE
None
<PAGE>
Items 6, 7 and 8 of Part II of the Transition Report on Form 10-K of Kos
Pharmaceuticals, Inc. ("Kos" or the "Company") for the transition period from
July 1, 1997, to December 31, 1997, filed with the Securities and Exchange
Commission (the "Commission") on March 27, 1998, are hereby amended in their
entirety as follows.
NIASPAN/registered trademark/ is a registered trademark of Kos
Pharmaceuticals, Inc.
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following consolidated selected financial data of the Company for the
five years in the period ended December 31, 1997, and for the six-month periods
ended December 31, 1996 (unaudited) and 1997, should be read in conjunction with
"Management's Discussions and Analysis of Financial Condition and Results of
Operations" and the consolidated financial statements and related notes thereto.
See "Item 8. Consolidated Financial Statements and Supplementary Data."
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------------
1993 1994 1995 1996 1997
------------ ------------ ------------ ------------ ------------
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS:
Net sales ............................ $ -- $ 34 $ 3 $ -- $ 2,892
Cost of sales ........................ -- -- -- -- 792
------------ ------------ ------------ ------------ ------------
Gross profit .................. -- 34 3 -- 2,100
------------ ------------ ------------ ------------ ------------
Operating expenses:
Research and development .......... 6,294 6,248 11,681 13,679 24,130
General, selling and administrative 1,271 1,778 1,655 2,881 20,509
Expense recognized on modification
of stock option grants(1) ...... -- -- -- 5,436 --
------------ ------------ ------------ ------------ ------------
Total operating expenses ...... 7,565 8,026 13,336 21,996 44,639
------------ ------------ ------------ ------------ ------------
Loss from operations ................. (7,565) (7,992) (13,333) (21,996) (42,539)
Other income (expense):
Other income (expense) ............. -- 2 -- -- (10)
Interest income (expense), net ..... (802) (1,647) 6 11 2,787
Interest expense-related parties ... -- (55) -- (136) (868)
------------ ------------ ------------ ------------ ------------
Loss before minority interest (8,367) (9,692) (13,327) (22,121) (40,630)
Minority interest(2) ................. (164) (3) 4 15 --
------------ ------------ ------------ ------------ ------------
Net loss .......................... $ (8,531) $ (9,695) $ (13,323) $ (22,106) $ (40,630)
============ ============ ============ ============ ============
Net loss per share, basic and
diluted(3) ........................ $ (0.75) $ (0.85) $ (1.17) $ (1.95) $ (2.79)
Weighted average common shares in
computing net loss per share(3) .. 11,340,000 11,340,000 11,340,000 11,340,000 14,569,474
<CAPTION>
SIX-MONTH PERIOD ENDED DECEMBER 31,
-----------------------------------
1996 1997
-------------- --------------
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
STATEMENT OF OPERATIONS:
Net sales ............................ $ -- $ 2,892
Cost of sales ........................ -- 792
------------ ------------
Gross profit .................. -- 2,100
------------ ------------
Operating expenses:
Research and development .......... 6,566 12,816
General, selling and administrative 1,967 16,953
Expense recognized on modification
of stock option grants(1) ...... -- --
------------ ------------
Total operating expenses ...... 8,533 29,769
------------ ------------
Loss from operations ................. (8,533) (27,669)
Other income (expense):
Other income (expense) ............. -- (10)
Interest income (expense), net ..... 5 1,867
Interest expense-related parties ... (136) (361)
------------ ------------
Loss before minority interest (8,664) (26,173)
Minority interest(2) ................. -- --
------------ ------------
Net loss .......................... $ (8,664) $ (26,173)
============ ============
Net loss per share, basic and
diluted(3) ........................ $ (0.76) $ (1.67)
Weighted average common shares in
computing net loss per share(3) .. 11,340,000 15,694,256
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------------------------
1993 1994 1995 1996 1997
------------ ------------ ------------ ------------ ------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET:
Cash and marketable securities ....... $ 16 $ 78 $ 229 $ 358 $ 70,396
Working capital (deficit)(4) ......... (20,464) (30,763) (445) (9,355) 70,939
Total assets ......................... 1,008 1,698 2,380 3,197 84,403
Total debt ........................... 20,405 30,372 -- 8,355 --
Accumulated deficit(5) ............... (20,199) (29,894) (43,217) (65,322) (105,952)
Shareholders' equity (deficit)(4) .... (19,709) (29,404) 1,390 (6,750) 77,870
<FN>
- -------------
(1)Reflects a non-cash charge associated with an extension of the exercise
period for stock options granted during 1988 to 1990 to the Company's Chief
Executive Officer and two independent consultants; no other material economic
terms of these options were changed.
(2)Represents the minority shareholder's interest in Aeropharm Technology,
Inc., which interest was acquired by the Company in June 1996.
(3)See Note 2. of Notes to Consolidated Financial Statements for information
concerning the computation of net loss per share.
(4)In March 1995, Kos Investments, Inc. assumed repayment of a note payable to
a bank in the principal amount of $30,372,000. This assumption was accounted
for as a transfer to Kos Investments, Inc. and as an increase in additional
paid-in capital for the Company. See Note 8. of Notes to Consolidated
Financial Statements.
(5)In connection with the transfer on June 30, 1996, of assets and liabilities
from Kos Holdings, Inc. to the Company, net operating loss carryforwards
amounting to approximately $51.0 million and related tax benefits, were not
transferred to the Company. The Company can only utilize net operating loss
carryforwards sustained subsequent to June 30, 1996 (amounting to
approximately $47.0 million as of December 31, 1997), to offset future
taxable net income, if any. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations".
</FN>
</TABLE>
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSIONS AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
A predecessor corporation to the Company was formed in July 1988 under the
name of Kos Pharmaceuticals, Inc. principally to conduct research and
development on new formulations of existing prescription pharmaceutical
products. In June 1993, Aeropharm Technology, Inc. ("Aeropharm"), a then
majority-owned subsidiary of the Company, was formed to conduct research and
development activities on aerosolized products for the treatment of respiratory
diseases. During June 1996, this predecessor corporation acquired the
outstanding minority interest in Aeropharm; changed its name to Kos Holdings,
Inc. ("Holdings"); established the Company as a wholly-owned subsidiary under
the name of Kos Pharmaceuticals, Inc.; and, effective as of June 30, 1996,
transferred all of its existing assets, liabilities and intellectual property,
other than certain net operating loss carryforwards, to the Company.
Accordingly, all references in this 10-K filing to the Company's business
include the business and operations of Holdings until June 30, 1996.
On March 12, 1997, the Company completed an initial public offering of its
Common Stock ("IPO"). From inception through the IPO, the Company had not
recorded any significant sales and had funded its operations exclusively through
equity contributions and a loan from its majority shareholder. Through December
31, 1997, the Company had accumulated a deficit from operations of approximately
$106 million. In connection with the transfer of operations from Holdings to the
Company on June 30, 1996, net operating loss carryforwards amounting to
approximately $51.0 million and related tax benefits were retained by Holdings
and not transferred to the Company. Consequently, the Company may utilize net
operating losses sustained subsequent to June 30, 1996, amounting to
approximately $47.0 million as of December 31, 1997, to offset future taxable
net income, if any.
From inception through its June 30, 1997, reporting period, the Company was a
development stage company engaged primarily in the development of cardiovascular
and respiratory pharmaceutical products. On July 28, 1997, the Company was
granted clearance by the FDA to market its lead product, NIASPAN. The Company
began shipping NIASPAN to wholesalers in mid-August 1997 and began detailing
NIASPAN to physicians in September 1997. The Company's Board of Directors
changed the end of the Company's fiscal year from June 30 to December 31
effective with its December 31, 1997, reporting period. Fiscal years presented
and referred to in these consolidated financial statements, along with all other
financial data, have been restated to conform with a December 31 fiscal year
basis.
RESULTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997 AND 1996
The Company began sales of its NIASPAN product during August 1997. For the
period from August through December 31, 1997, the Company recorded net sales of
the NIASPAN product of $2.9 million. Cost of sales for the same period totaled
$0.8 million.
The Company's research and development expenses increased to $24.1 million
for the year ended December 31, 1997, from $13.7 million for the year ended
December 31, 1996. Of the total increase in research and development expenses,
$3.0 million was attributable to the cost of entering into an agreement, during
February 1997, with an unaffiliated generic drug manufacturer to resolve the
effects
<PAGE>
of a potential patent interference proceeding. Clinical trial costs associated
with the completion of a long-term safety study evaluating the NIASPAN product
and other products under development, licensing and development costs, and
personnel costs also contributed to the higher research and development expenses
for the year ended December 31, 1997. The Company expects research and
development expenditures to increase as personnel are added and research
activities are expanded to support the continued development of products in the
Company's research pipeline as well as for additional development of products
that may be identified.
General, selling and administrative expenses increased to $20.5 million for
the year ended December 31, 1997, from $8.3 million for the year ended December
31, 1996. The increase reflected primarily the commencement of the Company's
sales and marketing activities, including the recruitment of the Company's field
sales organization and the launching of a variety of promotional programs in
connection with the introduction of the NIASPAN product. Administrative costs
also increased during 1997 as a result of higher personnel costs and other
expenses associated with the expanded activities of the Company. The increase in
administrative expenses was offset in part by the absence during the year ended
December 31, 1997, of a $5.4 million non-cash charge in 1996 for compensation
expense associated with an adjustment of the exercise period on certain stock
options granted during 1988 to 1990 to an officer and two independent
consultants of the Company.
From July 1, 1996, to the completion of its IPO on March 12, 1997, the
Company funded its operations from the proceeds of a loan from Kos Investments,
Inc. (the "Convertible Note"), the sole shareholder of Holdings. The Convertible
Note and its accrued interest were convertible into shares of the Company's
Common Stock at a conversion price per share equal to the IPO price per share
($15.00). The Company recorded approximately $868,000 and $136,000 of interest
expense for the years ended December 31, 1997, and 1996, respectively, as a
result of the Convertible Note. On October 25, 1997, the outstanding principal
and interest of the Convertible Note was converted into 960,069 shares of Common
Stock. At the time of conversion, the Convertible Note accrued interest at a
rate of 8.50% per year and had outstanding principal and interest of $13.4
million and $1.0 million, respectively.
The Company received $65.9 million in net proceeds from its IPO, completed in
March 1997, and $43.3 million in net proceeds from a follow-on offering of its
Common Stock, completed in October 1997, after deducting expenses of both
offerings. As of December 31, 1997, $46.4 million of net proceeds from the IPO
have been used to fund the Company's research and development, general, selling
and administrative expenses, capital expenditures, and other working capital
needs. The remaining $19.5 million of net proceeds from the IPO and the net
proceeds from the follow-on offering, along with other cash balances, totaling
$70.4 million as of December 31, 1997, were invested primarily in U.S. Treasury
securities. The Company recorded $2.8 million of interest income for the year
ended December 31, 1997, compared with $11,000 for the year ended December 31,
1996.
The Company incurred a net loss of $40.6 million for the year ended December
31, 1997, compared with a net loss of $22.1 million for the year ended December
31, 1996. The Company expects greater losses in 1998 as a result of
substantially increased general, selling and administrative expenses, and higher
research and development costs, not offset entirely by the net proceeds from
sales of the NIASPAN product.
<PAGE>
YEARS ENDED DECEMBER 31, 1996 AND 1995
The Company's research and development expenses increased to $13.7 million
for the fiscal year ended December 31, 1996, from $11.7 million for the year
ended December 31, 1995. The increase was attributable primarily to licensing
and development programs and the hiring of additional personnel to support the
Company's research and development functions. Hiring of additional personnel,
principally related to manufacturing scale-up of certain of the Company's
products under development and to support the filing of a NDA for NIASPAN, also
contributed to the increase in research and development expenses. These
increases were partially offset by reduced costs for clinical trials for NIASPAN
following the substantial completion of such trials in the year ended December
31, 1995, in support of the filing during May 1996 of the NIASPAN NDA.
General, selling and administrative expenses increased to $8.3 million for
the fiscal year ended December 31, 1996, from $1.7 million for the fiscal year
ended December 31, 1995. This increase was attributable principally to the
hiring of additional personnel to support the Company's administrative
functions, and to the acquisition of market research data. During the year ended
December 31, 1996, a $5.4 million non-cash charge was recorded for compensation
expense associated with an adjustment of the exercise period on certain stock
options granted during 1988 to 1990 to an officer and two independent
consultants of the Company.
The Company recorded $136,000 as interest expense resulting from the
Convertible Note during the year ended December 31, 1996, as compared with no
such expense during the year ended December 31, 1995.
The Company incurred a net loss of $22.1 million for the year ended December
31, 1996, compared with $13.3 million for the year ended December 31, 1995.
SIX-MONTH PERIODS ENDED DECEMBER 31, 1997 AND 1996
As described in the preceding paragraphs, the Company, which began sales of
its NIASPAN product during August 1997, recorded net sales of this product of
$2.9 million for the six-month period ended December 31, 1997. Cost of sales for
the same period totaled $0.8 million.
The Company's research and development expenses increased to $12.8 million
for the six-month period ended December 31, 1997, from $6.6 million for the
six-month period ended December 31, 1996. This increase was attributable to
licensing and development, post-marketing clinical trials associated with the
Company's NIASPAN product and other products under development, and personnel
and personnel-related costs.
General, selling and administrative expenses increased to $17.0 million for
the six-month period ended December 31, 1997, from $2.0 million for the
six-month period ended December 31, 1996. This increase reflected primarily the
commencement of the Company's sales and marketing activities, including the
recruitment of the Company's field sales organization and the launching of a
variety of promotional programs in connection with the introduction of the
NIASPAN product. The Company's administrative costs also increased during the
six-month period ended December 31, 1997, as a result of added personnel and
other expenses incurred in support of its expanded activities.
<PAGE>
The Company recorded $1.9 million of interest income for the six-month period
ended December 31, 1997, as a result of its investments in marketable securities
from the net proceeds from the IPO and the follow-on offering, compared with
$5,000 for the six-month period ended December 31, 1996. The Company also
recorded, mostly as a result of the Convertible Note, $361,000 of interest
expense during the six-month period ended December 31, 1997, compared with
$136,000 for the six-month period ended December 31, 1996.
The Company incurred a net loss of $26.2 million for the six-month period
ended December 31, 1997, compared with a net loss of $8.7 million for the
six-month period ended December 31, 1996.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1997, the Company's working capital totaled approximately
$70.9 million, including cash and cash equivalents, and marketable securities
totaling $70.4 million. The Company's primary uses of cash to date have been in
operating activities to fund research and development, including clinical
trials, and general, selling and administrative expenses. As of December 31,
1997, the Company's investment in equipment and leasehold improvements, net of
depreciation and amortization, was approximately $6.9 million. During the year
ended December 31, 1997, the Company spent $5.2 million in capital expenditures.
The Company expects to nearly double capital expenditures in 1998, primarily for
additional equipment and facilities related to its research and development, and
manufacturing requirements.
Although, as of March 27, 1998, the Company anticipates that it has an amount
of working capital that will be sufficient to fund the Company's operations
through December 31, 1998, the Company's cash requirements during and after its
fiscal year ending December 31, 1998, will be substantial and may exceed the
amount of the Company's working capital. The Company must generate significant
sales of its NIASPAN product during 1998 in order to fund its operating
requirements and maintain an adequate level of working capital through the end
of the year; however, there can be no assurance that such sales can be achieved.
The Company's failure to achieve such sales and other events, including the
progress of the Company's research, development and clinical trial programs; the
costs and timing of seeking regulatory approvals of the Company's products under
development; the Company's ability to obtain regulatory approvals; the Company's
ability to manufacture products at an economically feasible cost; costs in
filing, prosecuting, defending, and enforcing patent claims and other
intellectual property rights; the extent and terms of any collaborative
research, manufacturing, marketing, joint venture, or other arrangements; and
changes in economic, regulatory, or competitive conditions or the Company's
planned business could cause the Company to require additional capital prior to
the end of such year. In the event that the Company must raise additional
capital to fund its working capital needs, it may seek to raise such capital in
1998 through loans, which may include a bank line of credit, or through the
issuance of debt or equity securities. To the extent the Company raises
additional capital by issuing equity securities, ownership dilution to existing
shareholders will result, and future investors may be granted rights superior to
those of existing shareholders. There can be no assurance, however, that any
additional capital will be available to the Company on acceptable terms, or at
all.
CONTINGENCIES
The Company has performed an initial assessment of the impact of the "Year
2000 Issue" on its reporting systems and operations. The "Year 2000 Issue"
exists because many computer systems and applications currently use two-digit
fields to designate a year. As the century date occurs, date sensitive systems
will recognize the year 2000 as 1900, or not at all. Based on the Company's
initial assessment, it believes that its accounting systems substantially avoid
the "Year 2000 Issue," thereby enabling it to properly process critical
financial and operational information.
<PAGE>
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Consolidated financial statements and supplementary data required by this
item can be found at the pages listed in the following index.
PAGE
----
Financial Statements:
Report of Independent Certified Public Accountants............. 28
Consolidated Balance Sheets at December 31, 1996 and 1997...... 29
Consolidated Statements of Operations for the years
ended December 31, 1995, 1996 and 1997, and for the
six-month periods ended December 31, 1996 (unaudited)
and 1997..................................................... 30
Consolidated Statements of Shareholders' Equity (Deficit) for
the period December 31, 1994 to December 31, 1997............ 31
Consolidated Statements of Cash Flows for the years ended
December 31, 1995, 1996 and 1997, and for the six-month periods
ended December 31,1996 (unaudited) and 1997.................. 32
Notes to Consolidated Financial Statements..................... 33
Financial Statement Schedule:*
Report of Independent Certified Public Accountants
on Schedule.................................................. 44
II. Valuation and Qualifying Accounts........................ 45
- ----------
* All other schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions or are inapplicable, and therefore
not included herein.
27
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors of
Kos Pharmaceuticals, Inc.:
We have audited the accompanying consolidated balance sheets of Kos
Pharmaceuticals, Inc. and subsidiary as of December 31, 1996 and 1997, and the
related consolidated statements of operations, shareholders' equity (deficit)
and cash flows for each of the three years in the period ended December 31,
1997, and for the six-month period ended December 31, 1997. These consolidated
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 financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Kos
Pharmaceuticals, Inc. and subsidiary as of December 31, 1996 and 1997, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1997, and for the six-month period ended December
31, 1997, in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Miami, Florida,
January 23, 1998 (except with respect
to the matter discussed in Note 12 as
to which the date is February 19, 1998).
28
<PAGE>
<TABLE>
<CAPTION>
KOS PHARMACEUTICALS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
1996 1997
------------- -------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents ......................... $ 357,520 $ 39,502,484
Marketable securities ............................. -- 30,894,009
Trade accounts receivable, net .................... -- 1,820,011
Inventories ....................................... -- 3,382,868
Prepaid expenses and other current assets ......... 233,841 1,872,862
------------- -------------
Total current assets .......................... 591,361 77,472,234
Fixed Assets, net .................................... 2,605,404 6,900,160
Other Assets ......................................... -- 31,036
------------- -------------
Total assets .................................. $ 3,196,765 $ 84,403,430
============= =============
LIABILITIES AND SHAREHOLDERS'
EQUITY (DEFICIT)
Current Liabilities:
Accounts payable .................................. $ 1,055,415 $ 3,159,685
Accrued expenses .................................. 536,409 3,373,887
Loan from Kos Investments, Inc. ................... 8,355,000 --
------------- -------------
Total current liabilities ..................... 9,946,824 6,533,572
------------- -------------
Commitments and Contingencies (Note 9)
Shareholders' Equity (Deficit):
Preferred stock, $.01 par value, 10,000,000 shares
authorized, none issued and outstanding ........... -- --
Common stock, $.01 par value, 50,000,000 shares
authorized, 10,000,000 and 17,165,695 shares issued
and outstanding in 1996 and 1997, respectively .... 100,000 171,657
Additional paid-in capital ........................ 58,472,323 183,650,564
Accumulated deficit ............................... (65,322,382) (105,952,363)
------------- -------------
Total shareholders' equity (deficit) .......... (6,750,059) 77,869,858
------------- -------------
Total liabilities and shareholders' equity
(deficit) .................................. $ 3,196,765 $ 84,403,430
============= =============
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
29
<PAGE>
<TABLE>
<CAPTION>
KOS PHARMACEUTICALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE SIX-MONTH PERIOD ENDED
FOR THE YEAR ENDED DECEMBER 31, DECEMBER 31,
-------------------------------------------- -----------------------------
1995 1996 1997 1996 1997
------------ ------------ ------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Net sales .............................. $ 2,600 $ -- $ 2,892,065 $ -- $ 2,892,065
Cost of sales .......................... -- -- 792,230 -- 792,230
------------ ------------ ------------ ------------ ------------
Gross profit ....................... 2,600 -- 2,099,835 -- 2,099,835
------------ ------------ ------------ ------------ ------------
Operating expenses:
Research and development ............ 11,680,714 13,679,009 24,130,216 6,565,988 12,815,671
General, selling and administrative . 1,655,220 2,880,776 20,508,654 1,967,120 16,953,509
Expense recognized on modification of
Stock option grants ............... -- 5,436,000 -- -- --
------------ ------------ ------------ ------------ ------------
Total operating expenses ........... 13,335,934 21,995,785 44,638,870 8,533,108 29,769,180
------------ ------------ ------------ ------------ ------------
Loss from operations ................... (13,333,334) (21,995,785) (42,539,035) (8,533,108) (27,669,345)
------------ ------------ ------------ ------------ ------------
Other income (expense):
Other expense ....................... -- -- (10,240) -- (10,240)
Interest income (expense), net ...... 6,520 11,324 2,786,946 5,182 1,867,319
Interest expense-related parties .... -- (136,282) (867,652) (136,282) (360,553)
------------ ------------ ------------ ------------ ------------
Total other income (expense) ... 6,520 (124,958) 1,909,054 (131,100) 1,496,526
------------ ------------ ------------ ------------ ------------
Loss before minority interest ... (13,326,814) (22,120,743) (40,629,981) (8,664,208) (26,172,819)
Minority interest ..................... 4,143 15,341 -- -- --
------------ ------------ ------------ ------------ ------------
Net loss ........................ $(13,322,671) $(22,105,402) $(40,629,981) $ (8,664,208) $(26,172,819)
============ ============ ============ ============ ============
Net loss per share, basic and diluted .. $ (1.17) $ (1.95) $ (2.79) $ (0.76) $ (1.67)
Weighted average shares of common
stock outstanding .................... 11,340,000 11,340,000 14,569,474 11,340,000 15,694,256
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
30
<PAGE>
<TABLE>
<CAPTION>
KOS PHARMACEUTICALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
ADDITIONAL
COMMON PAID-IN ACCUMULATED
STOCK CAPITAL DEFICIT TOTAL
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1994 ......... $ 100,000 $ 390,000 $ (29,894,309) $ (29,404,309)
Capital contributions from Kos
Investments, Inc. .................... -- 13,745,000 -- 13,745,000
Assumption of note payable by Kos
Investments, Inc. .................... -- 30,372,000 -- 30,372,000
Net loss ............................. -- -- (13,322,671) (13,322,671)
------------- ------------- ------------- -------------
BALANCE AT DECEMBER 31, 1995 ......... 100,000 44,507,000 (43,216,980) 1,390,020
Capital contributions from Kos
Investments, Inc. .................... -- 8,381,633 -- 8,381,633
Modification of stock options ........ -- 5,436,000 -- 5,436,000
Contribution of minority interest .... -- 147,690 -- 147,690
Net loss ............................. -- -- (22,105,402) (22,105,402)
------------- ------------- ------------- -------------
BALANCE AT DECEMBER 31, 1996 ......... 100,000 58,472,323 (65,322,382) (6,750,059)
Issuance of Common Stock ............. 58,577 109,167,409 -- 109,225,986
Exercise of stock options ............ 3,479 1,226,562 -- 1,230,041
Conversion of Convertible Note to
Common Stock ....................... 9,601 14,391,435 -- 14,401,036
Stock options issued to non-employees -- 392,835 -- 392,835
Net loss ............................. -- -- (40,629,981) (40,629,981)
------------- ------------- ------------- -------------
BALANCE AT DECEMBER 31, 1997 ......... $ 171,657 $ 183,650,564 $(105,952,363) $ 77,869,858
============= ============= ============= =============
BALANCE AT JUNE 30, 1996 ............. $ 100,000 $ 58,472,323 $ (56,658,174) $ 1,914,149
Net loss (unaudited).................. -- -- (8,664,208) (8,664,208)
------------- ------------- ------------- -------------
BALANCE AT DECEMBER 31, 1996 ......... $ 100,000 $ 58,472,323 $ (65,322,382) $ (6,750,059)
============= ============= ============= =============
BALANCE AT JUNE 30, 1997 ............. $ 147,725 $ 124,620,649 $ (79,779,544) $ 44,988,830
Issuance of Common Stock ............. 10,852 43,330,026 -- 43,340,878
Exercise of stock options ............ 3,479 1,226,562 -- 1,230,041
Conversion of Convertible Note to
Common Stock ....................... 9,601 14,391,435 -- 14,401,036
Stock options issued to non-employees -- 81,892 -- 81,892
Net loss ............................. -- -- (26,172,819) (26,172,819)
------------- ------------- ------------- -------------
BALANCE AT DECEMBER 31, 1997 ......... $ 171,657 $ 183,650,564 $(105,952,363) $ 77,869,858
============= ============= ============= =============
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
31
<PAGE>
<TABLE>
<CAPTION>
KOS PHARMACEUTICALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX-MONTH PERIOD ENDED
FOR THE YEAR ENDED DECEMBER 31, DECEMBER 31,
----------------------------------------------- ----------------------------
1995 1996 1997 1996 1997
------------- ------------- ------------- ------------- ------------
(UNAUDITED)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ..................................... $(13,322,671) $ (22,105,402) $ (40,629,981) $ (8,664,208) $(26,172,819)
Adjustments to reconcile net loss to net
cash used in operating activities -
Provision for doubtful accounts ............ -- -- 80,000 -- 80,000
Depreciation and amortization .............. 482,409 539,661 921,271 279,280 551,513
Provision for inventory obsolescence ....... -- -- 246,987 -- 171,987
Minority interest .......................... (4,143) (15,341) -- -- --
Compensation recognized on modification of
stock option grants ...................... -- 5,436,000 -- -- --
Stock options issued to non-employees ...... -- -- 392,835 -- 81,892
Changes in operating assets and liabilities:
Trade accounts receivable ................ -- -- (1,900,011) -- (1,900,011)
Prepaid expenses and other current assets (58,275) (81,531) (1,639,021) (68,449) (1,526,714)
Inventories .............................. -- -- (3,629,855) -- (2,182,509)
Other assets ............................. -- -- (31,036) -- 1,721,985
Accounts payable ......................... 536,324 336,134 2,104,270 860,116 729,418
Accrued expenses ......................... (272,593) 429,002 3,843,514 365,038 88,177
------------- ------------- ------------- ------------- -----------
Net cash used in operating activities ..... (12,638,949) (15,461,477) (40,241,027) (7,228,223) (28,357,081)
------------- ------------- ------------- ------------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Investment purchases ......................... -- -- (30,894,009) -- (5,839,072)
Capital expenditures ......................... (954,192) (1,147,067) (5,216,027) (962,741) (4,179,553)
------------- ------------- ------------- ------------- -----------
Net cash used in investing activities ..... (954,192) (1,147,067) (36,110,036) (962,741) (10,018,625)
------------- ------------- ------------- ------------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of Common Stock ... -- -- 109,225,986 -- 43,340,878
Net proceeds from exercise of stock options .. -- -- 1,230,041 -- 1,230,041
Capital contributions received from Kos
Investments, Inc. ........................... 13,745,000 8,381,633 -- -- --
Borrowings under Convertible Note ............ -- 8,355,000 5,040,000 8,355,000 --
------------- ------------- ------------- ------------- -----------
Net cash provided by financing activities . 13,745,000 16,736,633 115,496,027 8,355,000 44,570,919
------------- ------------- ------------- ------------- -----------
Net increase in cash and cash
equivalents ............................. 151,859 128,089 39,144,964 164,036 6,195,213
Cash and Cash Equivalents, beginning of period . 77,572 229,431 357,520 193,484 33,307,271
------------- ------------- ------------- ------------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD ....... $ 229,431 $ 357,520 $ 39,502,484 $ 357,520 $39,502,484
============= ============= ============= ============= ===========
Supplemental Disclosure of Cash Flow
Information:
Interest paid ................................ $ 26,897 $ -- $ -- $ -- $ --
Supplemental Disclosure of Non-cash
Information:
Transfer of note payable to Kos Investments,
Inc .......................................... $ 30,372,000 $ -- $ -- $ -- $ --
Contribution of minority interest to paid-in
capital ...................................... $ -- $ 147,690 $ -- $ -- $ --
Conversion of Convertible Note and accrued
interest payable to Common Stock ............. $ -- $ -- $ 14,401,036 $ -- $14,401,036
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
32
<PAGE>
KOS PHARMACEUTICALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. GENERAL
The predecessor to Kos Pharmaceuticals, Inc. (the "Company"), Kos Holdings,
Inc. ("Holdings"), was incorporated in Florida on July 1, 1988, to develop
prescription pharmaceutical products principally for the cardiovascular and
respiratory markets. On June 25, 1996, the Company was incorporated in Florida
as the successor to the business of Holdings. On June 30, 1996, all of the
assets and liabilities of Holdings, other than its net operating loss
carryforwards, were transferred to the Company in exchange for shares of Common
Stock of the Company (the "Reorganization"). The Reorganization was accomplished
in order to transfer the assets and operations of Holdings to the Company while
preserving Holdings' net operating losses and related federal tax benefits for
Holdings and its sole shareholder and one of its founders. Kos Investments, Inc.
("Investments") is the sole shareholder of Holdings. As this transaction was
between entities under common control, the transaction was accounted for on a
historical cost basis, in a manner similar to a pooling of interests.
On June 22, 1993, Holdings and Aeropharm Technology, Inc. ("Aeropharm")
entered into a letter of intent for Holdings' purchase of a controlling interest
in Aeropharm. On February 14, 1995, the transaction was completed through a
stock purchase agreement that gave control (80% ownership) of Aeropharm to
Holdings. Holdings accounted for its investment in Aeropharm as a consolidated
subsidiary from June 22, 1993. On June 20, 1996, Holdings acquired the minority
interest in Aeropharm, held by an employee of Aeropharm, in exchange for options
to purchase 50,000 shares of Holdings' common stock at $7.00 per share, the
estimated fair value of the underlying shares at the date of grant. The
acquisition of the minority interest in Aeropharm was accounted for under the
purchase method and the fair value of the options granted approximated the
carrying value ($147,690) of the minority interest.
On July 28, 1997, the Company obtained clearance from the U.S. Food and Drug
Administration ("FDA") to market NIASPAN, its first product (NIASPAN(R) is a
registered trademark of the Company). The Company began sales of the NIASPAN
product during August 1997. NIASPAN is a once-a-day, oral, solid dose
extended-release formulation of niacin for the treatment of hyperlipidemia, a
multiple lipid disorder that is a primary risk factor for coronary heart
disease. Niacin is a water soluble vitamin that has long been recognized as an
effective pharmacological agent for the treatment of multiple lipid disorders
including elevated LDL and low HDL cholesterol.
The Company expects to incur additional losses in the near-term due primarily
to the continued expansion of sales and marketing efforts associated with
NIASPAN and to research and development activities in connection with its
products under development. No assurance can be given that the Company's
products can be successfully marketed, that products under development can be
successfully formulated or manufactured at acceptable cost and with appropriate
quality, or that required regulatory approvals will be obtained. The Company is
subject to a number of other risks including, but not limited to, uncertainties
related to market acceptance, uncertainties related to limited sales and
marketing experience, uncertainties related to patents and trademarks,
interference and risk of infringement, uncertainties related to competition and
technological changes, government regulation, dependence on product development
collaborators, limited manufacturing experience and risk of scale-up, future
capital needs and uncertainty of additional funding, dependence on single
sources of supply, and no assurances of adequate third party reimbursement. The
likelihood of the success of the Company must be considered in light of the
uncertainty caused by problems, expenses, complications and delays frequently
encountered in connection with the development of new business ventures.
33
<PAGE>
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements include the results of Holdings (prior
to July 1, 1996), the Company and its subsidiary, Aeropharm. All significant
intercompany accounts and transactions have been eliminated in consolidation.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with an
original maturity of 90 days or less to be cash equivalents.
MARKETABLE SECURITIES
All of the Company's marketable securities are considered available-for-sale
securities. The Company accounts for marketable securities in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for
Certain Investments in Debt and Equity Securities". Available-for-sale
securities represent debt securities that are stated at fair value.
Amortizations of premiums and accretion of discounts are recognized as
adjustments to interest income. Gains or losses on disposition are based on the
net proceeds and the adjusted carrying amount of the securities sold, using the
specific identification method.
LONG-LIVED ASSETS
In March 1995, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of". SFAS No. 121 requires that long-lived assets and
certain identifiable intangibles to be disposed of be recorded at the lower of
carrying amount or fair value less cost to sell. The Company adopted the
provisions of this statement, effective in 1996. Such adoption did not have a
material effect on the Company's financial statements.
MINORITY INTEREST
Minority interest represents the minority shareholders' interest in the
shareholders' equity and net loss of Aeropharm. As of December 31, 1996 and
1997, the Company owned 100% of Aeropharm; therefore, no minority interest is
reflected.
FAIR VALUE OF FINANCIAL INSTRUMENTS
As of December 31, 1996 and 1997, the carrying amount of cash and cash
equivalents, trade accounts receivable, and notes payable approximates fair
value due to the short term nature of these accounts. See Note 3. for
information regarding the fair value of marketable securities.
CONCENTRATION OF CREDIT RISK
The Company has no significant off-balance-sheet concentrations of credit
risk.
34
<PAGE>
DEPRECIATION AND AMORTIZATION
Fixed assets are stated at cost, less accumulated depreciation and
amortization. Depreciation and amortization are provided using the straight-line
method over the estimated useful lives of the assets or lease term as follows:
YEARS
-----
Furniture and equipment................................. 3-7
Computer software and hardware.......................... 3-5
Laboratory and manufacturing equipment.................. 3-5
Leasehold improvements.................................. Life of lease
RESEARCH AND DEVELOPMENT EXPENSES
All research and development expenses are reflected in the Company's
consolidated statements of operations as incurred.
LOSS PER SHARE
Basic loss per share is determined by dividing the net loss attributable to
holders of the Company's Common Stock by the weighted average number of shares
of Common Stock outstanding. Diluted loss per share also includes dilutive
Common Stock equivalents outstanding after applying the treasury stock method.
In February 1997, the FASB issued SFAS No. 128, "Earnings per Share". SFAS
No. 128 simplifies the methodology of computing earnings per share and requires
the presentation of basic and diluted earnings per share. The Company's basic
and diluted earnings per share are the same, because the Company's Common Stock
equivalents are antidilutive.
INCOME TAXES
The Company follows the SFAS No. 109, "Accounting for Income Taxes," which
requires, among other things, recognition of future tax benefits measured at
enacted rates attributable to deductible temporary differences between financial
statement and income tax bases of assets and liabilities and to tax net
operating loss carryforwards to the extent that realization of said benefits is
more likely than not. The net operating loss carryforwards, amounting to
approximately $51 million as of the Reorganization were not transferred to the
Company. As of December 31, 1997, the Company had approximately $18 million of
deferred tax assets resulting from net operating loss carryforwards. Due to the
uncertainty of the Company's ability to generate sufficient taxable income in
the future to utilize such loss carryforwards, the net deferred tax asset has
been fully reserved as of December 31, 1997.
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 reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
35
<PAGE>
FISCAL-YEAR CHANGE
The Company's Board of Directors changed the end of the Company's fiscal year
from June 30 to December 31 effective with the December 31, 1997, reporting
period. Fiscal years presented and referred to in these consolidated financial
statements and notes thereto are on a December 31 fiscal-year basis.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income"
which is required to be adopted in 1998. This statement establishes standards to
reporting and display of comprehensive income and its components in a full set
of general-purpose financial statements. This statement requires that an
enterprise (a) classify items of other comprehensive income by their nature in
financial statements and (b) display the accumulated balance of other
comprehensive income separately from retained earnings and additional paid-in
capital in the equity section of statements of financial position. Comprehensive
income is defined as the change in equity during the financial reporting period
of a business enterprise resulting from non-owner sources. The Company currently
does not have other comprehensive income and therefore does not believe the
adoption of SFAS No. 130 will have a significant impact on its financial
statement presentation.
36
<PAGE>
In June, 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information", which is also required to be adopted in
1998. This statement requires that a public business enterprise report financial
and descriptive information about its reportable operating segments including,
among other things, a measure of segment profit or loss, certain specific
revenue and expense items, and segment assets. The Company currently has one
reporting segment and therefore does not believe the adoption of SFAS No. 131
will have a significant impact on its financial statement presentation.
3. MARKETABLE SECURITIES
As of December 31, 1997, marketable securities consisted of U.S. government
securities for which fair values approximate unamortized cost. The contractual
maturities of these securities are less than one year. Fair values are based on
quoted market prices obtained from an independent broker.
4. ACCOUNTS RECEIVABLE
Accounts receivable as of December 31, 1997, consist of the following:
Trade accounts receivable.................................. $1,900,011
Less allowance for doubtful accounts....................... (80,000)
----------
Accounts receivable, net................................ $1,820,011
==========
5. INVENTORIES
Inventories as of December 31, 1997, consist of the following:
Raw materials............................................... $ 218,363
Work in process............................................. 1,916,865
Finished goods.............................................. 1,247,640
----------
Total inventories......................................... $3,382,868
==========
6. FIXED ASSETS
Fixed assets consist of the following:
DECEMBER 31,
----------------------
1996 1997
----------- ---------
Furniture and equipment......................... $ 310,284 $1,238,853
Computer software and hardware.................. 469,105 1,314,214
Laboratory and manufacturing equipment.......... 2,376,250 5,101,992
Leasehold improvements.......................... 1,318,792 2,035,399
---------- ----------
Fixed assets, gross........................... 4,474,431 9,690,458
Less accumulated depreciation and amortization.. (1,869,027) (2,790,298)
---------- ----------
Fixed assets, net............................. $2,605,404 $6,900,160
========== ==========
37
<PAGE>
7. ACCRUED EXPENSES
Major components of accrued expenses were as follows:
DECEMBER 31,
---------------------
1996 1997
---------- ----------
License fee..................................... $ - $1,000,000
Employee bonuses................................ 57,250 415,621
Employee vacations.............................. 139,907 370,625
Clinical studies................................ - 335,994
Other various operating expenses................ 339,252 1,251,647
--------- ----------
Total accrued expenses........................ $ 536,409 $3,373,887
========= ==========
8. CONVERSION OF NOTES PAYABLE
Michael Jaharis, the controlling shareholder of Investments, personally
guaranteed the repayment of a loan to Investments from certain financial
institutions. Prior to March 21, 1995, the Company was the primary borrower
under this loan and, therefore, received the benefit of the personal guaranty
extended by Mr. Jaharis. As consideration for Mr. Jaharis' personal guaranty,
the Company agreed to pay Mr. Jaharis an annual fee of 0.25% of the average
amount outstanding under the loan during the Company's fiscal year. In March
1995, the Company was released as a borrower under the loan. The assumption of
the note payable to the bank has been accounted for as a transfer to Investments
and is reflected as an increase in "Additional paid-in capital" in the
accompanying consolidated statements of shareholders' equity (deficit).
On July 1, 1996, the Company executed a loan in favor of Kos Investments,
Inc. (the "Convertible Note") in the aggregate principal amount of up to $15.0
million, the proceeds of which were used to fund the Company's operations until
the consummation of its IPO. Under the terms of the Convertible Note, interest
accrued on the outstanding principal amount at First Union National Bank of
Florida's prime rate commencing July 1, 1996, escalating to a rate of 1% over
such prime rate during calendar year 1997. The Convertible Note was convertible
into Common Stock at a conversion price per share equal to the IPO price per
share ($15.00).
On October 25, 1997, the outstanding principal and interest of the
Convertible Note were converted into 960,069 shares of Common Stock. At the time
of conversion, the Convertible Note accrued interest at a rate of 8.50% per year
and had outstanding principal and interest of $13,395,000 and $1,006,036,
respectively.
9. COMMITMENTS AND CONTINGENCIES
EMPLOYMENT AGREEMENTS
Through December 31, 1997, the Company had employment agreements with three
of its officers. Salary and benefits expense recorded under the agreements
totaled approximately $580,000, $769,000 and $708,000 during the years ended
December 31, 1995, 1996 and 1997, respectively. In addition to salary and
benefits, these agreements entitle certain officers to royalties on sales of the
Company's
38
<PAGE>
products, the aggregate amounts of which may not exceed $5,500,000. The Company
recorded $29,000 as royalty expense from these agreements during the year ended
December 31, 1997. Future minimum payments under these employment agreements are
as follows:
YEAR ENDING DECEMBER 31, AMOUNT
------------------------ ----------
1998...................................................... $ 465,000
1999...................................................... 465,000
2000...................................................... 300,000
2001...................................................... 300,000
2002...................................................... 150,000
----------
$1,680,000
==========
LEASE COMMITMENTS
The Company has various operating leases that expire through 2002 for the
rental of office space, laboratory facilities, and sales force vehicles. Future
minimum commitments under these agreements are as follows:
YEAR ENDING DECEMBER 31, AMOUNT
------------------------ ----------
1998..................................................... $1,561,157
1999..................................................... 1,434,589
2000..................................................... 940,515
2001..................................................... 510,981
2002..................................................... 20,000
----------
$4,467,242
==========
As of December 31, 1996 and 1997, standby letters of credit of approximately
$65,000 and $960,000, respectively, were issued by a bank on the Company's
behalf in favor of the lessors as collateral for leases provided to the Company.
Rent expense under operating leases during the years ended December 31, 1995,
1996 and 1997 was approximately $525,000, $558,000 and $823,000, respectively.
LICENSING AND JOINT VENTURE AGREEMENTS
The Company has several license agreements (the "License Agreements") with
third parties (the "Licensees") for the development of future products. Under
the License Agreements, the Company is required to make payments to the
Licensees upon completion of various milestones of each project in order to
secure exclusive rights to develop, manufacture, sell and/or sublicense future
products developed through the License Agreements. In connection with the
License Agreements, the Company recorded licensing expense of approximately
$385,000, $1,671,000 and $5,638,000 for the years ended December 31, 1995, 1996
and 1997, respectively, which is reflected in "Research and development" in the
accompanying consolidated statements of operations. In order to maintain its
rights under the License Agreements, the Company is required to pay certain
future milestone payments and licensing fees. In the event that no milestone
event occurs, the Company generally would not be required to
39
<PAGE>
make any milestone payment. The Company anticipates, based on the development
efforts that have been conducted to date, that it will be required to make
future milestone payments under the License Agreements as follows:
YEAR ENDING DECEMBER 31, AMOUNT
------------------------ --------
1998...................................................... $125,000
1999...................................................... 125,000
2000...................................................... 375,000
--------
$625,000
========
Additionally, assuming FDA approval of a certain other licensed product, the
Company would be obligated to pay up to $1,250,000 to a licensee. Milestone
payments are recorded when the milestone event occurs.
On February 7, 1997, the Company entered into an agreement with an
unaffiliated generic drug manufacturer pursuant to which the parties agreed to
resolve the effects, as between themselves, of a potential interference
proceeding by the United States Patent and Trademark Office by granting cross
licenses under their respective patent applications and patents, regardless of
whether such licenses would be required. In connection with this licensing
agreement, the Company recognized $3,000,000 as a licensing expense; such
expense is included in "Research and development" expenses in the accompanying
consolidated statement of operations for the year ended December 31, 1997. As
further consideration for entering into the agreement, the Company agreed to pay
the generic manufacturer certain royalties on the net sales of NIASPAN subject
to a cap on such royalty payments in the United States and a separate cap on
such payments for sales outside the United States. As a result, the Company
recorded approximately $148,000 of royalty expense, which is included in
"General, selling and administrative" expenses in the accompanying consolidated
statement of operations for the year ended December 31, 1997.
The Company has also entered into a binding letter of intent forming a joint
venture agreement (the "Joint Venture") with a company related to the sale of a
certain product using technology provided by that company. The Company paid
$1,000,000 for the exclusive right to use the technology. Because of the
uncertainties surrounding the use of the technology, as well as the lack of an
existing technologically feasible product with commercial viability, such amount
has been expensed and is included in "Research and development" in the
accompanying 1996 consolidated statement of operations. Within 30 days following
the filing of a New Drug Application ("NDA") to the FDA for a certain product
developed by the Joint Venture, or in the event management determines such NDA
filing to be infeasible, any party to the Joint Venture investing in excess of
the other party shall be entitled to consideration and a transfer to it from the
Joint Venture of an amount not to exceed $1,250,000.
SPONSORED RESEARCH
The Company has on-going research agreements with two universities. The
Company is primarily responsible for funding the projects, and the university is
responsible for providing personnel, equipment, and facilities to conduct the
research activities.
40
<PAGE>
Future minimum commitments under these agreements are as follows:
YEAR ENDING DECEMBER 31, AMOUNT
------------------------ --------
1998..................................................... $330,000
1999..................................................... 250,000
2000..................................................... 100,000
--------
$680,000
========
The Company also funds, from time to time and at its sole discretion, other
research programs conducted at other universities and research centers. Expenses
recorded under the Company's sponsored research programs totaled approximately
$334,000, $439,000 and $380,000 during the years ended December 31, 1995, 1996
and 1997, respectively, and are reflected in "Research and development" in the
accompanying consolidated statements of operations.
DEVELOPMENT AGREEMENTS
The Company has development agreements with various third parties (the
"Development Agreements"). As dictated by the Development Agreements, the
Company is responsible for funding all required development activities. In order
to maintain its rights under the Development Agreements, the Company is required
to pay certain future milestone payments and development fees. In the event that
no milestone event occurs, the Company generally would not be required to make
any milestone payment. The Company anticipates, based on the development efforts
that have been conducted to date, that it will be required to pay development
fees under the Development Agreements of approximately $430,000 during the year
ended December 31, 1998.
Expenses recorded under these and other development agreements totaled
approximately $19,000, $1,191,000 and $2,688,000 during the years ended December
31, 1995, 1996 and 1997, respectively, and are reflected in "Research and
development" in the accompanying consolidated statements of operations.
401(K) PLAN
The Company's Internal Revenue Code Section 401(k) Plan, known as the Kos
Savings Plan, became effective on January 1, 1994. Each employee who has
completed at least 90 days of service with the Company and has attained age 21
is eligible to make pre-tax elective deferral contributions each year not
exceeding the lesser of a specified statutory amount or 15 percent of the
employee's compensation for the year. An employee is always 100 percent vested
in the employee's elective deferral contributions. The Company makes no
contributions under this plan.
10. SHAREHOLDERS' EQUITY
COMMON STOCK
In March 1997, the Company completed an initial public offering of 4,772,500
shares of Common Stock. Net proceeds to the Company were approximately
$65,900,000 after deducting expenses of the offering.
In October 1997, the Company completed a follow-on public offering of
1,085,000 shares of Common Stock. Net proceeds to the Company were approximately
$43,330,000 after deducting expenses of the offering.
41
<PAGE>
PREFERRED STOCK
The Company is authorized to issue 10,000,000 shares of undesignated
preferred stock. Such shares of preferred stock may be issued by the Company in
the future, without shareholder approval, upon such terms as the Company's Board
of Directors may determine.
STOCK OPTION PLAN
During 1996, the Board of Directors of the Company adopted the Kos
Pharmaceuticals, Inc. 1996 Stock Option Plan (the "Plan"). As of December 31,
1997, a maximum of 4,000,000 shares of Common Stock may be issued pursuant to
stock options granted or to be granted under the Plan. All directors, officers,
employees and certain related parties of the Company designated by the Board are
eligible to receive options under the Plan. The maximum term of any option is
ten years from the date of grant. All options expire within 30 days of
termination of employment. The Plan is administered by a committee appointed by
the Board of Directors of the Company.
Each outside director of the Company is granted an option to purchase 5,000
shares of Common Stock upon election to the Board and automatically will receive
an option to purchase an additional 3,000 shares effective on each director's
anniversary date. The exercise price of such options will be the fair market
value of the underlying Common Stock on the date the option is granted. The
Company considered the provisions of SFAS No. 123 using the Black Scholes method
and an expected volatility rate of 57.6%, a risk-free interest rate of 6.25%,
expected dividends of $0, and an expected term of 5 years to approximate the
related charge to expense.
As of December 31, 1997, the Company had granted options to purchase
2,835,200 shares of Common Stock to employees, consultants, management and
directors, including options granted prior to the implementation of the Plan.
Detail of option activity is as follows:
EXERCISE PRICES
------------------------
NUMBER OF WEIGHTED
SHARES RANGE AVERAGE
---------- --------------- -------
Outstanding, December 31, 1995 1,185,000 $ 0.60 - $ 3.33 $ 0.81
Granted ...................... 1,110,500 7.00 - 15.00 7.99
---------
Outstanding, December 31, 1996 2,295,500 0.60 - 15.00 4.28
Granted ...................... 539,700 15.00 - 43.44 33.14
Exercised .................... (347,910) 0.60 - 15.00 3.52
Canceled ..................... (40,500) 7.00 - 38.69 11.11
---------
Outstanding, December 31, 1997 2,446,790 $ 0.60 - $43.44 $ 10.64
=========
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------- ----------------------------------------------------------------
NUMBER WEIGHTED NUMBER WEIGHTED
OUTSTANDING AT AVERAGE WEIGHTED EXERCISABLE AVERAGE
RANGE OF DECEMBER, 31 REMAINING AVERAGE DECEMBER, 31 EXERCISE
EXERCISE PRICES 1997 CONTRACTUAL LIFE EXERCISE PRICE 1997 PRICE
- ---------------- -------------- ---------------- -------------- ------------ ---------
<S> <C> <C> <C> <C> <C>
$ 0.75 to 3.33 300,000 5.0 years $ 0.97 300,000 $ 0.97
0.60 to 7.00 1,477,965 8.5 years 4.09 1,086,730 3.05
15.00 to 43.44 668,825 9.4 years 29.46 43,000 15.00
---------- ---------
$ 0.60 to $43.44 2,446,790 1,429,730
========== =========
</TABLE>
42
<PAGE>
At December 31, 1997, 1,489,800 shares remain authorized and unissued and
options to purchase 1,429,730 shares of Common Stock were exercisable, including
options granted outside the Plan. During 1997, options to purchase 539,700
shares of Common Stock were granted at exercise prices ranging from $15.00 to
$43.44.
As permitted by SFAS No. 123, the Company accounts for options issued to
employees under APB Opinion No. 25 "Accounting for Stock Issued to Employees".
Consequently, except for options issued to non-employees, no deferred
compensation cost has been recognized on options issued to employees because the
exercise price of such options was not less than the market value of the Common
Stock on the date of grant. Compensation cost of $392,835, associated with stock
options granted to non-employees, was recorded for the year ended December 31,
1997.
Had compensation cost for options issued to employees been determined
consistent with SFAS No. 123, the Company's net loss and net loss per share
would have been the "Pro Forma" amounts shown in the following table:
DECEMBER 31,
-----------------------------------------
1995 1996 1997
------------ ------------- -------------
Net loss:
As reported........... $(13,322,671) $(22,105,402) $(40,629,981)
Pro Forma............. $(13,322,671) $(22,105,402) $(43,113,692)
Net loss per share, basic and diluted:
As reported.................. $ (1.17) $ (1.95) $ (2.79)
Pro Forma.................... $ (1.17) $ (1.95) $ (2.96)
11. RELATED-PARTY TRANSACTION
During 1995 the Company acquired certain property including used computers,
laboratory equipment, laboratory supplies and certain other office equipment and
furnishings from the Institute of Molecular Biology, Inc. ("IMB"), a company
controlled by Investments. In the aggregate, such purchases totaled
approximately $83,500. Until June 1996, Daniel M. Bell, the Company's President
and Chief Executive Officer, also served as the Chairman of the Board of
Directors and Chief Executive Officer of IMB.
12. SUBSEQUENT EVENT
On February 19, 1998, the Company's Board of Directors authorized the
re-pricing of options to acquire shares of Common Stock granted to employees at
exercise prices ranging from $15.00 to $43.44 per share. As a result of the
re-pricing, the exercise price for these options was reduced to $11.16 per
share, the average of the high and low price of the Company's Common Stock on
February 19, 1998. No options granted to members of the Board of Directors were
re-priced.
43
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS ON SCHEDULE
To the Board of Directors of
Kos Pharmaceuticals, Inc.:
We have audited in accordance with generally accepted auditing standards, the
financial statements included in this Form 10-K, and have issued our report
thereon dated January 23, 1998 (except with respect to the matter discussed in
Note 12 as to which the date is February 19, 1998). Our audits were made for the
purpose of forming an opinion on the basic financial statements taken as a
whole. The accompanying Schedule II is the responsibility of the Company's
management and is presented for purposes of complying with the Securities and
Exchange Commission's rules and is not part of the basic financial statements.
This schedule has been subjected to the auditing procedures applied in the
audits of the basic financial statements and, in our opinion, fairly states, in
all material respects, the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Miami, Florida,
January 23, 1998.
44
<PAGE>
<TABLE>
<CAPTION>
KOS PHARMACEUTICALS, INC. AND SUBSIDIARY
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
CHARGED TO
BALANCE AT COSTS BALANCE AT
BEGINNING AND END
DESCRIPTION OF PERIOD EXPENSES DEDUCTIONS OF PERIOD
- --------------------------------------------- ----------- ---------- ---------- -----------
ALLOWANCE FOR DOUBTFUL ACCOUNTS AND RETURNS:
<S> <C> <C> <C> <C>
Fiscal year ended December 31, 1997 $ 0 $80 $ -- $80
========== ========= ========= =========
</TABLE>
45
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this amendment to be signed
on behalf of the undersigned, thereunto duly authorized.
KOS PHARMACEUTICALS, INC.
By: /s/ DANIEL M. BELL
----------------------
Daniel M. Bell
President and Chief Executive
Officer
Date: October 28, 1998
50
<PAGE>
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
23 Consent of Arthur Andersen LLP
51
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
As independent certified public accountants, we hereby consent to the
incorporation of our reports included in this Form 10-K/A, into the Company's
previously filed Form S-8 Registration Statement File No. 333-35533.
ARTHUR ANDERSEN LLP
Miami, Florida,
October 27, 1998.
