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U.S. Securities and Exchange Commission
Washington, D.C. 20549
Form 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 1999 Commission File Number 0-21537
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PACIFIC BIOMETRICS, INC.
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(Exact name of small business issuer specified in its charter)
Delaware 93-1211114
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(State or other jurisdiction of (IRS Employer Identification
incorporation or organization) Number)
23120 Alicia Parkway #200, Mission Viejo, CA 92692
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(Address of principal executive offices)
949-455-9724
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(Issuer's telephone number)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value per share Redeemable Common Stock Purchase
Warrants
Indicate by check mark whether the registrant (1) filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months
(or such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
Yes ( ) No ( X )
Indicate by check mark if the 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 registrants knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ ]
The issuer's revenues for the year ended June 30, 1999 were $1,492,607.
As of July 21, 2000 there were outstanding 3,810,171 shares of common stock, par
value $0.01 per share. The aggregate market value of the voting stock of the
registrant held by non-affiliates of the registrant on July 21, 2000 based on
the average bid and asked price on such date was $378,791
DOCUMENTS INCORPORATED BY REFERENCE
None.
Traditional Small Business Disclosure Format: Yes ( ) No ( X )
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PACIFIC BIOMETRICS, INC.
INDEX TO FORM 10-KSB
PART 1 Page
ITEM 1 - BUSINESS............................................... 3
ITEM 2 - PROPERTIES............................................. 11
ITEM 3 - LEGAL PROCEEDINGS...................................... 12
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS................................................ 12
PART II
ITEM 5 - MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.................................... 12
ITEM 6 - MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND PLAN OF OPERATION........... 13
ITEM 7 - FINANCIAL STATEMENTS................................... 17
ITEM 8 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURES................... 17
PART III
ITEM 9 - DIRECTORS AND OFFICERS OF THE REGISTRANT............... 18
ITEM 10 - EXECUTIVE COMPENSATION................................. 22
ITEM 11 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT......................................... 23
ITEM 12 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......... 24
ITEM 13 - EXHIBITS AND REPORTS ON FORM 8-K ...................... 25
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PART I
ITEM 1 - BUSINESS
General
Pacific Biometrics, Inc. ("PBI" or the "Company") was incorporated in Delaware
in May 1996. PBI-Delaware was formed in connection with the acquisition of
BioQuant, Inc. ("BioQuant"), a Michigan corporation, and Pacific Biometrics,
Inc. ("PBI-WA"), a Washington corporation. On June 28, 1996, the Company
completed the mergers whereby BioQuant and PBI-WA became wholly owned
subsidiaries of the Company in separate stock-for-stock exchange transactions.
PBI owns an established specialty reference laboratory and has been engaged in
developing and commercializing non-invasive technologies for use in diagnostics
and laboratory services to improve the detection and management of chronic
diseases. The Company has developed two patented platform technologies that
permit the use of sweat and saliva as diagnostic fluids. The specialty reference
laboratory supports the development and commercialization process for PBI as
well as providing services to other diagnostic and pharmaceutical manufacturers.
PBI's intellectual property position in both sweat and saliva collection
technology is based on fourteen issued U.S. patents and three pending U.S.
patents with respect to the Company's SweatPatch(TM) and SalivaSac(R)
technology. The Company has invested approximately $3,412,000 in research and
development and approximately $819,000 for the acquisition of technology rights
in 1998 and 1997. The Company invested an additional $790,000 in research and
development during fiscal year 1999. In addition, approximately $6,374,000 of
expense was recorded in 1996 for the value of purchased in-process research and
development related to a prior merger. The Company has 12 full time and 1 part
time employees as of May 31, 2000.
In May 1998, the Company received a letter from the FDA in response to its
510(k) application for the OsteoPatch(TM) device notifying the Company that the
agency did not find the device to be substantially equivalent to the predicate
device, a urine test marketed by Metra Biosystems. Despite numerous discussions
and a meeting with the FDA in July 1998, the Company was unable to reverse the
agency's decision or negotiate requirements for additional data that were within
the Company's financial ability to perform. Due to lack of funds, the Company
ceased development activities on the OsteoPatch device in August 1998.
In December 1998, the Company failed to make a payment of $1.6 million to
Sudormed, the licensor of the patch technology relating to the SweatPatch and
OsteoPatch, resulting in a default under the License Agreement and the Supply
Agreement. Sudormed terminated the License Agreement in May 1999 for failure to
make required payments. The Agreement permits the Company to retain full license
rights as long as the Company has inventory of patches. As of June 30, 1999 the
Company had approximately 100,000 patches in inventory. As of June 30, 2000 the
Company had approximately 80,000 patches in inventory. All investments and
related assets in SweatPatch technology, including the OsteoPatch, were expensed
during 1999.
In May 2000, the Company announced the signing of an Agreement of Purchase and
Sale of Assets with Saigene Corporation, (the "Purchase Agreement"), a privately
held company located in Redmond, Washington. The Purchase Agreement, which is
subject to stockholder approval, will transfer the business and assets of the
Company's Seattle laboratory operation to Saigene for a total consideration of
$4,000,000, including cash, cash advances, notes to Preferred Stockholders, and
assumption of debt. In June 2000, the Company announced an amendment to the
Purchase Agreement (the "Amendment") which provided for an extension of the
closing date with Saigene for this transaction from June 15, 2000 to August 15,
2000. Although it was a provision of the Amendment Saigene failed to make the
required $150,000 payment due on July 15, 2000 and informed the Company that
they would not be able to close the laboratory sale until October 15, 2000.
Saigene paid $75,000 on July 19, 2000 and is in default on the Purchase
Agreement and the Amendment. The Company is attempting to negotiate a new
contract amendment with Saigene that provides Saigene with additional time to
raise the money necessary to close the laboratory purchase while compensating
the Company for the delays in a manner that is acceptable to both parties. There
can be no assurance that the negotiations will lead to an acceptable contract
amendment. In the event that the Purchase Agreement is terminated, the Company
will retain all funds received thereunder, will not be obligated to pay the
judgment to the California landlord, and will take over operations of the
laboratory. It is likely that the Company would then seek another buyer for the
laboratory. There
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can be no assurance that a buyer can be found. Failure to find a buyer for the
laboratory in a timely manner may require the Company to seek protection from
its creditors under the bankruptcy laws since it is unlikely that the laboratory
operations will provide sufficient positive cash flow to satisfy the Company's
obligations to its creditors. See "Developments During Fiscal 1999 and
Subsequent Events".
SweatPatch(TM) - sweat collection device
This patented transdermal collection device provides a non-invasive biological
sample that was designed to replace blood and urine in various medical
diagnostic applications. The design of the SweatPatch(TM) allows the aqueous
component of sweat to evaporate from the patch, leaving behind the analytes that
are collected and concentrated on the absorbent pad contained within the patch.
The design permits the sample on the pad to be mailed directly to a central
laboratory for analysis. The SweatPatch (TM) can be worn anywhere from 30
minutes up to seven days with no discomfort or irritation to the patient
permitting a time integrated sample to be collected. The Minnesota Mining and
Manufacturing Company ("3M") manufactures the patch for PBI pursuant to a supply
agreement with Sudormed, Inc. ("Sudormed"), the licensor of the patch
technology. The License Agreement and Supply Agreement between the Company and
Sudormed was terminated by Sudormed in May 1999 due to the failure of the
Company to make required payments. The development of the SweatPatch and
OsteoPatch was suspended in August 1998 after the FDA denied the Company's
510(k) application and efforts to get the FDA to reverse its decision were
unsuccessful. Additionally, the Company was not successful in negotiating
specific FDA requirements for additional clinical data that, in the opinion of
the Company, could be obtained with the financial resources available at that
time.
SalivaSac(R) - saliva collection & processing device
This proprietary device, developed by the Company, collects a non-invasive
saliva sample that the Company had hoped would be able to replace blood and
urine testing in various applications. The SalivaSac(R), which contains a small
quantity of a substance that acts as an osmotic driver, is placed in the mouth
and rapidly fills with an ultrafiltrate of saliva that is filtered as it passes
through the semi-permeable outer membrane. The resulting fluid is clear, easy to
use, and does not contain interfering substances. The Company believes
SalivaSac(R) design has the potential to lend itself to point-of-care diagnostic
applications. The SalivaSac(R), as a sample collection device, can be combined
with currently available testing technologies to permit new non-invasive
diagnostic test applications. However, almost all development of the SalivaSac
has been suspended as of December 1998 due to a lack of funding.
Products
OsteoPatch(TM): The OsteoPatch(TM) is designed to enhance the physician's
ability to identify patients at risk of bone loss, a factor in the detection of
osteoporosis, and to monitor treatment effectiveness. The OsteoPatch(TM) system
combines the patented SweatPatch(TM) device with licensed assay technology for
the detection of biochemical bone resorption markers released in sweat. The
Company has exclusive rights, relating to bone resorption in human sweat, to use
patented antibodies for the detection of these markers owned by Metra
BioSystems, Inc. ("Metra"), a developer and marketer of bone loss urine tests.
Metra was acquired by Quidel Corporation in September, 1999. The Company is
dependent on 3M for the supply of patches and on Metra for supply of antibodies
used in the OsteoPatch(TM) system. However, in May 1999, the Company's License
Agreement and Supply Agreement relating to continued development and production
of the OsteoPatch was terminated by Sudormed. The Company has the right to
continue to sell and use its remaining inventory of OsteoPatch devices. The
Company has, however, recorded a 100% valuation allowance against this inventory
as of June 30, 1999. The OsteoPatch was launched in Italy in January 1999 on a
limited basis by the Company's Italian licensee, Segix Italia, S.p.A. (Segix).
Due to the Company's financial difficulties and loss of the Sudormed License,
Segix did not expand distribution of the product beyond its limited introduction
and currently maintains that limited effort, once existing inventory is
depleted, the Company will not be able to sell additional OsteoPatch products or
fulfill obligations with Segix.
Saliva Glucose Applications: The Company had been awarded two SBIR Phase I
grants to research this technology for non-invasive glucose monitoring. As a
result of this research the Company is using its SalivaSac(R) technology to
develop a screening product to detect diabetes in the general population and a
monitoring product to produce detailed quantitative measurements of glucose
levels to enable diabetics to monitor glucose levels throughout the day. While
previous attempts by others to correlate saliva glucose with blood glucose have
been unsuccessful, the Company has had encouraging preliminary results using the
SalivaSac(R) device, as it appears to exclude substances
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that interfere with accurate glucose measurements. However, without additional
funding the Company will not be able to successfully develop the Saliva Sac for
such use. In September, 1999 the Company received a SBIR Phase I grant to
research the use of the SalivaSac technology for the collection and measurement
of homocysteine, a newly discovered marker with potential application for use as
a risk factor in heart disease. It is not known at this time if the grant
research will be successful. Even if successful, the Company does not have
sufficient resources to develop a commercially feasible product.
Market Potential for Products Under Development
Osteoporosis Market: Osteoporosis is one of the fastest growing, largest, and
debilitating diseases affecting the aging population today. New ways of
preventing, diagnosing and managing the disease are being developed. Medical
intervention usually occurs only after symptoms such as pain or fractures appear
and when treatment is generally too late to prevent bone loss. The Company
understands at least twenty-five new therapeutic products are under development
and in 1996 the total U.S. market for diagnostics and therapeutics for
osteoporosis was $1.7 billion and is expected to grow to $4.6 billion by 2003.
Thus, the Company believes there is a need for diagnostic tools and assessments
that will identify those at risk, allow for early treatment and enhance the
physician's ability to monitor the effectiveness of such treatment. Today,
according to the National Osteoporosis Foundation ("NOF"), twenty eight million
Americans are at risk of osteoporosis and more than 100 million people worldwide
are affected or at risk. In the U.S. alone, the NOF estimates approximately $14
billion is spent annually on osteoporosis related fractures.
Diabetes Market: An estimated 16 million Americans and more than 100 million
people worldwide suffer from diabetes. However, the Centers for Disease Control
(the "CDC") estimates that in the U.S. alone, only half of all diabetics have
actually been diagnosed. The American Diabetes Association (the "ADA") has
issued guidelines to screen everyone over the age of 45 every three years. In
the U.S., approximately 4.5 million people perform a blood glucose test at least
once a day. In 1996, the total cost of diagnosing and treating diabetes in the
U.S. was estimated to be $92 billion. In 1996, the U.S. market for home blood
glucose monitoring had revenues of nearly $1 billion and is expected to grow to
$1.7 billion by 2001.
Services Provided by PBI's Laboratory
The Company's reference laboratory has established itself as a technical leader
due to its strong expertise in cardiovascular disease (lipids). The Company's
affiliated foundation is one of only eleven laboratories designated worldwide
(five in the U.S.) by the CDC as a cholesterol reference method network
laboratory. The laboratory services include development of laboratory reference
methods, development of clinical trial protocols, and contract research and
development.
The Company's specialty reference laboratory has developed an expertise in the
emerging field of osteoporosis laboratory assessments through its work with
diagnostic manufacturers of assays for bone markers such as Ostex International,
Inc. and Metra, in addition to pharmaceutical manufacturers of drugs that
prevent bone loss such as Merck & Co., Inc. and The Procter & Gamble Company.
This work has helped to establish the Company as a leader in the understanding
of biochemical markers for bone formation and bone resorption.
The Company's laboratory business and assets are under contract to be sold to
Saigene Corporation, subject to stockholder approval and other conditions of
closing. See "Developments During Fiscal 1999 and Subsequent Events" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".
Developments During Fiscal 1999 and Subsequent Events
In December 1997, the Company executed a license agreement (the "Sudormed
License") with Sudormed, which provided the Company an exclusive worldwide
license to all medical diagnostic applications of Sudormed's skin patch
technology. This license agreement replaced the Company's previous license
agreement with Sudormed for the skin patch technology for the application of
measuring bone loss markers in sweat, which is the basis for the
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Company's OsteoPatch(TM) system. In addition, the license allowed for the
development of all other potential applications of such technology, except for
those relating to alcohol and drugs of abuse.
Pursuant to the Sudormed License, the Company was obligated to pay Sudormed
approximately $3 million over a fifteen-month period plus an ongoing royalty
payment based on the amount of sales of products developed under this license.
Such payments included a lump-sum payment of $1.6 million due in December 1998.
The Company failed to make the required license payments and the licensor
terminated the Sudormed License in May, 1999. The Company still retains license
rights as long as the Company has inventory of patches. This inventory
approximated 100,000 patches as of June 30, 1999 and 80,000 patches as of June
30, 2000. Once existing inventory is depleted, the Company will not be able to
sell additional OsteoPatch products or fulfill obligations with Segix.
In December 1997, the Company entered into a Technical Development and License
Agreement (the "Actimed Agreement") with ActiMed Laboratories, Inc.
("ActiMed,"). The Actimed Agreement provides the Company with exclusive
worldwide rights to ActiMed's patented analyte detection technology in the field
of saliva glucose testing. The Company intended to combine this technology with
the Company's patented SalivaSac(R) technology to develop a saliva glucose
testing system, with applications in screening for and monitoring of diabetes.
However, the Actimed Agreement was terminated in February 1999 as a consequence
of the Company's inability to continue funding the development of the
technology.
On February 20, 1998, the Company consummated the sale of 925,000 shares of
Series A Convertible Preferred Stock (the "Preferred Stock") with an
institutional investor for an aggregate purchase price of $1,850,000. In
addition, the Company granted such institutional investor an option (the
"Option") to purchase an additional 625,000 shares of Preferred Stock until May
20, 1998 for an exercise price of $1,250,000. The Option was exercised in full
during May 1998. The Preferred Stock is convertible into shares of the Company's
Common Stock at the option of the holder at any time on a one-for-one basis,
subject to adjustment for stock splits, dividends and similar events. The
Preferred Stock provides for a cumulative cash dividend payable quarterly in
arrears at an annual rate of 8%. The Company has the right to force conversion
of the Preferred Stock in the event the price per share of the Common Stock is
$8.00 or more for twenty consecutive trading days. The Company has agreed to use
commercially reasonable efforts to effect the registration of the Common Stock
into which the Preferred Stock is convertible. To date, no such efforts have
been undertaken. The Company is not current on dividend payments and, as of June
30, 1999 approximately $166,000 in dividends have accrued.
In April of 1999 the Company and its subsidiaries entered into an Accounts
Receivable Factoring Agreement (the "Factoring Agreement") with Silicon Valley
Bank (the "Bank"). The Company has been factoring the majority of the accounts
receivable from laboratory operations to provide the Company with working
capital to meet laboratory operations obligations and to maintain minimal
corporate operations. Under the terms of this agreement, the Bank will advance
80% of accepted receivables and charge the Company an administrative fee of
0.75% and an annualized rate of 21% on outstanding balances.
In July 1998, the Company signed a License, Supply and Distribution Agreement
(the "Distribution Agreement") with Segix for the Company's OsteoPatch(TM)
diagnostic system for the Italian market. The Distribution Agreement contains
provisions requiring minimum purchases and investment in marketing, foreign
currency adjustment mechanisms, unit price adjustment mechanisms, and
exclusivity for the territory of Italy, Vatican City and San Marino. The
agreement has an initial term of ten years. Execution of the Distribution
Agreement gives the Company access to the Italian market through Segix's 70
person direct sales force. Segix launched the product on a limited basis at the
beginning of calendar year 1999 but has not expanded the program due to the
uncertainty caused by the Company's default and loss of the Sudormed License.
The Company owns rights to a sample preparation device marketed under the name
SPINPRO(R), which simplifies and improves the methods used for performing the
testing of HDL cholesterol. In June 1997, the Company suspended production of
SPINPRO(R) units due to insufficient demand. The Company is involved in two
arbitration proceedings with former subcontractors related to the manufacturer
of SPINPRO(R). As of the date of this report, the Company does not believe that
the proceedings will have any material adverse impact on the Company. During the
fourth quarter of fiscal 1998, the Company expensed the remaining net book value
of $126,323 related to SPINPRO(R) assets.
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On March 29, 1999, the Company announced by press release that it had received
notification that the Nasdaq Listings Qualifications Panel had delisted the
Company's securities from the Nasdaq Stock Market effective as of the close of
business on March 29, 1999. This includes the common stock, symbol PBMI, and the
publicly traded warrants, symbol PBMIW. This delisting decision has had an
adverse impact on the liquidity of the Company's securities, which trade on the
OTC Bulletin Board or the over-the-counter market. This has made it more
difficult to trade in the Company's securities or liquidate an investor's
holdings. Also such delisting has made it more difficult for the Company to
raise additional capital.
As previously reported, in May 1999, the landlord of the Company's office and
laboratory space in Lake Forest, California was proceeding against the Company
to cancel the lease. The landlord obtained a judgment against the Company from
Orange County Superior Court for approximately $150,000 related to the default
on the lease. In addition, liabilities continue to accrue at about $13,000 per
month until the space is leased. The total liability to the Company is estimated
to be approximately $350,000. The Company has been advised by Saigene that
Saigene has purchased from the landlord of the Lake Forest property, for the sum
of $350,000, the rights to all claims and judgments rendered against the Company
related to its default on the Lake Forest lease, subject to the sale of the
Company's laboratory assets to Saigene. However, it is unclear whether or not
Saigene may re-assign such rights to the landlord if the sale of the laboratory
assets to Saigene is not completed. In any event, Saigene, under the terms of
the Amendment, has agreed that Saigene will be responsible for satisfaction of
such judgment and, therefore, the Company would be entitled to seek recovery
from Saigene for any costs or liabilities as a result of Saigene's failure to
satisfy such claim.
As previously disclosed, the Company has continued to negotiate forbearance
agreements with Transamerica Business Credit related to payments due on capital
leases. In exchange for the most recent Forbearance Agreement the Company has
granted Transamerica additional warrants and a lien position on assets of the
Company. This Forebearance Agreement expired on September 30, 1999 and was
extended again through December 31, 1999 in exchange for 150,508 additional
warrants. Although the Forebearance Agreement has expired, Transamerica has not
taken action to collect the debt, which approximates $450,000. Most of this debt
will be assumed by Saigene upon sale of the laboratory.
The Minnesota Mining and Manufacturing Company (3M), as a party in possession of
secured property, has not informed the Company of its plans for the Sudormed
assets. This includes the SkinPatch technology rights, which are part of the
Company's OsteoPatch product. The Company had sought to reestablish certain
rights to this technology in order to create additional value for the Company's
other intellectual property related to the OsteoPatch. Without an agreement with
3M, the Company's OsteoPatch assets may not have any value. The Company expensed
all of these assets in 1999. In May 2000, 3M notified the Company that, in its
capacity as a secured party in possession of the Sudormed assets, it demands
payment in full of the $1.6 million plus accrued interest and fees due under the
License Agreement between the Company and Sudormed. 3M is seeking to settle this
claim and has threatened to seek a judgment in a court of law and has objected
to the laboratory sale transaction that is proceeding with Saigene. The Company
disputes 3M's claim and intends to defend itself in this matter. If 3M should be
successful in blocking the proposed sale of the laboratory, or commences a legal
action against the Company, the Company may have no alternative than to seek
protection from creditors under the bankruptcy laws. In that event the Company
would intend to sue 3M for damages to shareholders and creditors as a result of
this action.
In August of 1999, the Company announced the signing of a Letter of Intent to
sell its Seattle laboratory business and assets to Saigene Corporation, a
privately held company located in Redmond, Washington. Substantially all of the
Company's fixed assets and all of the Company's accounts receivable will be
sold. In September 1999, the Company signed a Mangement Agreement with Saigene
giving them operational control over the laboratory. In May 2000, the Company
announced the signing of a Contract with Saigene Corporation to sell to Saigene
all of the business and assets of the Company's Seattle laboratory for a total
consideration of $4,000,000. Stockholder approval will be required to complete
this transaction. The purchase price is comprised of the following: 1) $200,000
already advanced to support the operation of the laboratory under a Management
Agreement with Saigene dated September 15, 1999; 2) The assumption of
approximately $1,200,000 in debt; 3) $700,000 in cash; and, 4) A promissory note
in connection with the redemption of $1,900,000 of Series A Convertible
Preferred Stock. The Series A Preferred Stock will be returned to the Company.
These amounts are subject to adjustment upon audit of funds advanced and the May
31, 2000 balance sheet of the laboratory operation. The cash portion of the
purchase is payable as follows: 1) $50,000 which was paid upon signing; 2)
$350,000 paid on June 15, 2000; and, 3) $300,000 placed into escrow on June 15,
2000 to be paid to the Company upon stockholder approval. The assumption of debt
in the amount of $1,200,000 includes: $350,000 to settle the debt with the
landlord of the Company's Lake Forest,
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California office and laboratory facility; $400,000 of equipment lease financing
obligations with Transamerica; $140,000 of additional equipment leases; and
accrued expenses and accounts payable of the laboratory.
On June 26, 2000, the Company announced that Saigene failed to make the cash
payment of approximately $650,000 due on June 15, 2000 under the Purchase
Agreement, and that Saigene requested an extension of time in order to comply.
Accordingly, the Purchase Agreement was amended on June 22, 2000 (the
"Amendment"). The Amendment extends the Closing Date of the Purchase Agreement
from June 15, 2000 to August 15, 2000 and Saigene is required to pay $150,000 of
the purchase price on or before July 15, 2000. The balance of cash and escrow
payments and all other consideration due originally on June 15 will be due on
August 15, 2000. In exchange for this extension, Saigene has agreed (i) to waive
all financial claims against the Company for funds advanced under the Management
Agreement and forfeit all monies paid under the Purchase Agreement and (ii) to
be responsible for all liabilities previously assumed by Saigene or agreed to be
assumed by Saigene including the Company's debt to the Lake Forest, California
landlord in the event that Saigene fails to make cash payments due on July 15 or
August 15, 2000.
Saigene failed to make the required $150,000 payment due on July 15, 2000 and
informed the Company that they would not be able to close the laboratory sale
until October 15, 2000. Saigene paid $75,000 on July 19, 2000 and is in default
on the Purchase Agreement and the Amendment. The Company is attempting to
negotiate a new contract amendment with Saigene that provides Saigene with
additional time to raise the money necessary to close the laboratory purchase
while compensating the Company for the delays in a manner that is acceptable to
both parties. There can be no assurance that the negotiations will lead to an
acceptable contract amendment. In the event that the Purchase Agreement is
terminated, the Company will retain all funds received thereunder, will not be
obligated to pay the judgment to the California landlord, and will take over
operations of the laboratory. It is likely that the Company would then seek
another buyer for the laboratory. There can be no assurance that a buyer can be
found. Failure to find a buyer for the laboratory in a timely manner may require
the Company to seek protection from its creditors under the bankruptcy laws
since it is unlikely that the laboratory operations will provide sufficient
positive cash flow to satisfy the Company's obligations to its creditors.
Risk Factors
An investment in the securities of the Company is highly speculative and subject
to a high degree of risk. Prospective investors should carefully consider the
following factors affecting the business of the Company.
History of Losses; Uncertainty of Future Profitability. The Company has incurred
significant operating losses since inception. The consolidated net loss for the
fiscal year ended June 30, 1999 was approximately $6,100,000. The Company's
accumulated deficit at June 30, 1999 was approximately $22,400,000 including a
one-time charge of approximately $6,374,000. The one-time charge is related to
purchased research and development, in connection with the Company's prior
mergers in 1996. The net loss and accumulated deficit will continue to increase.
The Company has not had an extensive operating history and revenues to date have
been limited, and upon sale of the laboratory, are expected to be insignificant.
Potential investors should be aware of the problems, delays, expenses and
difficulties encountered by an enterprise in the Company's stage of development,
many of which may be beyond the Company's control. These include, but are not
limited to, unanticipated problems relating to the competitive and regulatory
environment in which the Company operates and marketing problems and additional
costs and expenses that may exceed current estimates. Potential investors should
be aware of the difficulties normally encountered by new enterprises and the
high rate of failure associated with such enterprises. The likelihood of success
must be considered in light of the problems, expenses, difficulties,
complications, delays and competition encountered in connection with the
development of a business in the biotechnology industry.
The Company has, in fact, encountered significant regulatory problems with the
OsteoPatch product and has not had access to capital required to restore the
technology licenses and to continue development. It is very unlikely that the
Company will have access to capital for this purpose. The Company has signed an
agreement to sell the business and assets of its Seattle laboratory, the major
source of revenue. Due to these factors, it is likely that the Company will
never achieve significant revenue or profitable operations and may find it
necessary to seek protection from creditors under the bankruptcy laws.
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Risk of Bankruptcy. Upon completion of the transaction with Saigene (See
"Developments During Fiscal 1999 and Subsequent Events" above), the Company will
still have various debts and claims that need to be settled. These include
amounts owed to various consultants, vendors and suppliers of the Company not
related to the Seattle laboratory operation of between $250,000 and $400,000;
deferred compensation to current and former employees as of June 30, 2000 of
approximately $700,000; accrued dividends to preferred stockholders of
approximately $414,000; and a potential liability, disputed by the Company, of
approximately $2,200,000 related to the OsteoPatch technology. The Company will
attempt to settle these debts with cash, stock, and technology assets if
possible. There can be no assurance that the Company will be successful in these
negotiations and may have to seek protection from creditors under the bankruptcy
laws. As a consequence, it is unlikely that investors will receive any return on
their investment in the Company.
Early Stage of Development and Technological Uncertainties. The Company is at an
early stage of development. Except for revenues from its laboratory (which is
under contract to be sold), all of the Company's potential products still
require development and have generated only insignificant amounts of revenue,
and no significant additional product revenues are anticipated. A significant
portion of the Company's resources have been dedicated to the Company's research
and development programs and the Company lacks funds to continue development. It
is highly unlikely that the Company will be able to develop a commercial product
from these projects.
The potential medical diagnostic products and other potential applications of
the Company's technology will require significant additional research and
development and pre-clinical testing and will require extensive clinical testing
prior to submission of any regulatory application for commercial use. The
Company does not have funds to perform this work and is unlikely to have access
to such funds. Furthermore, the Company's potential products are subject to the
risks of failure inherent in the development of medical diagnostic products
based on new technologies. These risks include the possibilities that the
Company's novel approach to diagnosis will not be successful; that any or all of
the Company's potential products will not be found to be safe and effective or
otherwise fail to receive necessary regulatory clearances; that the products, if
safe and effective, will be difficult to manufacture on a large scale or
uneconomical to market; that proprietary rights of third parties will preclude
the Company from marketing such products; or that third parties will market
superior or equivalent products. It is extremely unlikely that the Company can
resume research and development activities or develop commercially viable
products.
Future Capital Needs; Uncertainty of Additional Funding. The Company will
require substantial additional funds in order to continue the research and
development programs and pre-clinical testing of its potential diagnostic
products and to conduct clinical trials and marketing of such products that may
be developed. The Company's capital requirements depend on numerous factors,
including the progress of its research and development programs, the progress of
pre-clinical and clinical testing, the time and costs involved in obtaining
regulatory approvals, the cost of filing, prosecuting, defending and enforcing
any patent claims and other intellectual property rights, competing
technological and market developments, changes in the Company's existing license
and supply relationships, the ability of the Company to establish collaborative
arrangements, the development of commercialization activities and arrangements,
and the purchase of additional capital equipment. Other than the Company's
laboratory revenues (the laboratory is under contract to be sold.), the Company
has no current source of revenues or capital. The Company believes that its
current condition makes it nearly impossible to raise capital from sources other
than the sale of assets. Accordingly, after the sale of the laboratory, the
Company will have limited assets with which to raise funds or satisfy its
obligations.
Dependence on Licenses. The Company has licensed technologies with respect to
the development of the OsteoPatch(TM), other SweatPatch(TM) related products and
SalivaSac(R) applications. The Company has entered into arrangements with
Sudormed with respect to the OsteoPatch(TM) and other SweatPatch(TM) related
development projects, and ActiMed, with respect to development of SalivaSac(R)
applications.
Both the Sudormed License and Actimed License have been terminated by the
licensors as a result of the Company's inability to make payments for technology
licenses and development work. Accordingly, it is unlikely that the Company will
be able to develop products that rely on such licensed technology.
Uncertainty of Protection of Patents and Intellectual Property Rights; Risk of
Patent Infringement Liability. The Company does not have the resources to
protect existing patents, licenses, intellectual property rights, trade secrets,
and to prevent others from infringing on the intellectual property rights of the
Company. In addition, the Company has exclusive licenses from third parties
under various U.S. patents and pending U.S. patent applications to
9
<PAGE>
the technology covered in whole or in part by the claims therein. Since a patent
may be invalid or circumvented by alternative technologies, there can be no
assurance as to the breadth of protection that any such patents may afford the
Company. In the event the Company is held liable for patent infringement,
insurance may not cover any or all of the infringement damages and as such, any
infringement liability would adversely affect the business, financial condition
and results of operations of the Company.
Government Regulation and Product Approval. The FDA and comparable agencies in
state and local jurisdictions and in foreign countries impose substantial
requirements upon the testing, manufacturing and marketing of therapeutic and
diagnostic products, through lengthy and detailed laboratory and clinical
testing procedures, sampling activities and other costly and time consuming
procedures. Satisfaction of these requirements may take several years or more
and varies substantially based upon the type, complexity and novelty of the
diagnostic product. In addition, the Company's laboratory business is subject to
federal regulation under the Clinical Laboratory Improvement Amendments of 1988
("CLIA") and regulations promulgated thereunder and the FDA's Good Laboratory
Practices for Non-clinical Laboratory Studies regulations. Failure to comply
with applicable regulations could result in loss of certification under CLIA and
disqualification resulting in the exclusion of studies performed in the
laboratory from consideration in support of FDA submissions, as well as civil
and criminal sanctions.
In May 1998, the Company announced that it received a letter from the FDA in
response to its 510(k) application. Following several conversations, submission
of additional analysis of the data, and a meeting with FDA officials, the
Company was unable to convince the FDA that its 510(k) application for the
OsteoPatch should be cleared. Furthermore, the Company was unable to
successfully negotiate requirements for approval that could be achieved with
available financial resources. Accordingly, the Company ceased development of
the product in August, 1998 and searched for additional funding or buyers for
the technology. The Company has not been successful in either raising capital to
continue development or in finding a buyer for the technology. Accordingly, the
Company will not be able to develop the OsteoPatch or other products using the
SweatPatch technology.
In addition to the OsteoPatch(TM), two products were developed through the
feasibility stage utilizing the SalivaSac(R) technology with regard to glucose
screening and glucose monitoring for possible applications as diabetes related
products. While the Company believes that the results attained to date in such
studies relating to SalivaSac(R) support further research and development of
these potential products, the Company does not have sufficient resources to
engage in such activity.
Risks Inherent in International Transactions. The Company currently has only one
foreign distribution arrangement with respect to distribution of the
OsteoPatch(TM) in Italy through Segix. Such agreement contains provisions
requiring minimum purchases and investment in marketing, foreign currency
adjustment mechanisms, unit price adjustment mechanisms, and exclusivity for the
territory of Italy, Vatican City and San Marino. The agreement has an initial
term of ten years. Further, international sales and operations may be limited or
disrupted by the imposition of government controls, export license requirements,
economic and political instability, price controls, trade restrictions, and
changes in tariffs or difficulties with foreign distributors. Segix launched the
product on a limited basis in January, 1999 and has not expanded its efforts due
to the Company's financial situation and the termination of the License
Agreement and Supply Agreement by Sudormed in May, 1999. Foreign regulatory
agencies often establish product standards different from those in the U.S. and
any inability to obtain or maintain foreign regulatory approvals on a timely
basis could have a material adverse effect on the Company's arrangement with
Segix. Additionally, the Company's business, financial condition and results of
operations may be materially and adversely affected by fluctuations in currency
exchange rates as well as increases in duty rates and difficulties in obtaining
required licenses and permits. There can be no assurance that the Company will
be able to successfully commercialize its products in any foreign market. In
addition, the laws of some countries do not protect the Company's proprietary
rights to the same extent as do the laws of the U.S.
Distribution of the Company's products outside the U.S. is subject to extensive
foreign government regulation. These regulations, including the requirements for
approvals or clearance to market, the time required for regulatory review and
the sanctions imposed for violations, vary from country to country. There can be
no assurance that the Company will obtain regulatory approvals in such countries
or that it will not be required to incur significant costs in obtaining or
maintaining its foreign regulatory approvals. In addition, the export by the
Company of certain of its products, which have not yet been cleared for domestic
commercial distribution, may be subject to FDA export restrictions. Failure to
obtain necessary regulatory approvals, the restriction, suspension or revocation
of existing
10
<PAGE>
approvals or any other failure to comply with regulatory requirements would have
a material adverse effect on the Company's ability to distribute products
outside the United States.
Manufacturing Limitations. The Company depends upon third parties for the
manufacture of its products. The Company is unable to order more product from
either 3M or Metra and cannot seek alternate sources to manufacture due to
contractual provisions in existing agreements and lack of sufficient financial
resources. Accordingly, once existing inventory is depleted, the Company will
not be able to sell additional OsteoPatch products or fulfill obligations with
Segix.
Competition and Technological Change. There are many companies, both public and
private, including well-known pharmaceutical companies, chemical companies and
specialized biotechnology companies, engaged in developing medical diagnostic
products for certain of the applications being pursued by the Company. Many of
these companies have substantially greater capital, research and development,
manufacturing, marketing and human resources and experience than the Company and
represent substantial long-term competition for the Company. Such companies may
develop products more quickly or products that are more effective and less
costly than any that may be developed by the Company. The industry in which the
Company proposes to compete is characterized by extensive research efforts and
rapid technological progress. New developments are expected to continue and
there can be no assurance that discoveries by others will not render the
Company's products or potential products noncompetitive. Competition may
increase further as a result of advances that may be made in the commercial
applicability of technologies and greater availability of capital for investment
in these fields. Currently, the Company is unable to compete effectively due to
its financial condition.
Reliance on Distributors, Suppliers and Manufacturers. The Company is, and
expects that it will continue to be, highly dependent upon certain distributors,
suppliers and manufacturers and the Company's ability to operate competitively
will depend, at least in part, on its ability to assure continuous and reliable
sources of distribution and supply. The Company is currently dependent on
Sudormed for the supply and manufacture of the Company's skin patch related
products, including the OsteoPatch(TM). Sudormed subcontracts its supply and
manufacturing obligations to 3M. However such suppliers are unwilling to
continue to produce products or components for the Company. Accordingly, once
existing inventory is depleted, the Company will not be able to sell additional
OsteoPatch products or fulfill obligations with Segix.
Dependence on Major Customers. Revenues received from laboratory operations are
generally pursuant to short-term contracts. The Company has no long term
contracts or agreements with its customers. Each contract is negotiated
separately with the pharmaceutical manufacturer or research organization and is
usually limited to a specific project with limited duration. The cancellation of
any contracts with existing customers or the failure to replace such contracts
upon expiration or termination could have a material adverse effect on the
Company's laboratory operations. One customer individually accounted for
approximately 8 percent of the Company's total sales in fiscal 1999 and
approximately 33 percent of the Company's total sales in fiscal 1998. Sales to
the Company's five largest customers represented approximately 43 percent and 67
percent of total sales in fiscal 1999 and fiscal 1998, respectively. The
laboratory is under contract to be sold to Saigene Corporation, subject to
stockholder approval and other requirements.
ITEM 2 - PROPERTIES
The Company's executive offices were located at 25651 Atlantic Ocean Drive,
Suite A-1, Lake Forest, California and its laboratory facilities are located in
Seattle, Washington. The Company vacated the Lake Forest facility in July, 1999
after defaulting on the lease. The landlord of this facility has obtained a
judgment against the Company in the amount of $150,000 plus monthly accruals
equal to $13,000. See "Legal Proceedings". The Company also leases approximately
15,000 square feet of office and laboratory space in Seattle, Washington
pursuant to a ten-year lease at an annual rental of $238,000, which expires on
September 30, 2007. With respect to the Seattle property, a security deposit of
$100,000 has been placed in an interest bearing account in the Company's name,
with interest earned accruing to the Company. This amount has been classified as
restricted cash on the accompanying consolidated balance sheet and has a current
balance of $75,000 as modified by mutual agreement with the landlord.
In order to replace its executive office facility in Lake Forest, the Company
entered into a month-to-month lease of an office in a shared executive office
facility at 23120 Alicia Parkway, Suite 200 in Mission Viejo, California at a
monthly rental of approximately $800.
11
<PAGE>
ITEM 3 - LEGAL PROCEEDINGS
On September 24, 1997 the Company received from the former manufacturer of
SPINPRO(R) a demand for arbitration in connection with alleged breaches of the
contract relating to the manufacture of SPINPRO(R). The former manufacturer is
seeking damages of approximately $515,000. The Company does not believe that the
claims have any merit and believes that the ultimate outcome of this proceeding
will not have a material impact on the Company. The Company is vigorously
contesting such claims and has filed counterclaims against the former
manufacturer. The Company has also filed for arbitration against a former vendor
relating to SPINPRO(R), seeking damages for alleged breach of contract with
respect to the manufacture of molds for SPINPRO(R) parts.
As previously reported, the landlord of the Company's office and laboratory
space in Lake Forest, California was proceeding against the Company to cancel
the lease. The landlord has obtained a judgment against the Company from Orange
County Superior Court for approximately $150,000 related to the default on the
lease. In addition, liabilities continue to accrue at about $13,000 per month
until the space is leased. The total liability to the Company is estimated to be
approximately $350,000. The Company has been advised by Saigene that Saigene has
purchased from the landlord of the Lake Forest property, for the sum of
$350,000, the rights to all claims and judgments rendered against the Company
related to its default on the Lake Forest lease, subject to the sale of the
Company's laboratory assets to Saigene. However, it is unclear whether or not
Saigene may re-assign such rights to the landlord if the sale of the laboratory
assets to Saigene is not completed. In any event, Saigene, under the terms of
the Amendment, has agreed that Saigene will be responsible for satisfaction of
such judgment and, therefore, the Company would be entitled to seek recovery
from Saigene for any costs or liabilities as a result of Saigene's failure to
satisfy such claim.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter ended June 30, 1999.
PART II
ITEM 5 - MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Common Stock of the Company began trading in October 1996 (subsequent to the
initial public offering) on the Nasdaq Small Cap Market under the symbol "PBMI"
and under "PBMIW" for the Warrants. In March, 1999 the Company's stock was
delisted from the Nasdaq Small Cap Market as the Company failed to meet the
maintenance requirements for tangible net assets and minimum stock price. The
stock currently trades on the OTC electronic Bulletin Board or in the
over-the-counter market. The Warrants expired June 30, 1999.
COMMON STOCK WARRANTS
------------ --------
High Low High Low
---- --- ---- ---
Second Quarter ended 12/31/96 5 1/2 2 7/8 3/8 1/8
Third Quarter ended 3/31/97 4 3/8 1 7/8 7/16 1/8
Fourth Quarter ended 6/30/97 2 7/8 1 3/8 3/8 5/32
First Quarter ended 9/30/97 3 7/8 1 11/16 9/16 1/4
Second Quarter ended 12/31/97 3 15/16 2 1/16 9/16 3/16
Third Quarter ended 3/31/98 3 7/8 2 3/8 9/16 1/8
Fourth Quarter ended 6/30/98 3 15/16 2 1/8 5/16 1/8
First Quarter ended 9/30/98 2.500 .875 N/A N/A
Second Quarter ended 12/31/98 1.625 .125 N/A N/A
Third Quarter ended 3/31/99 .625 .219 N/A N/A
Fourth Quarter ended 6/30/99 .375 .093 N/A N/A
The per share closing sales price of the Common Stock was $.1875 as reported in
the O-T-C market/OTCBB on June 30, 1999. As of June 30, 2000 the closing price
of the common Stock was $.1875 and the Company had in
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<PAGE>
excess of 500 beneficial holders and 135 record holders of the Common Stock. At
this time the Company does not pay a dividend on the common stock and does not
plan to in the immediate future. The Company has accrued dividends on the
Preferred Stock of approximately $166,000 as of June 30, 1999.
ITEM 6 - MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
consolidated financial statements and notes in this Form 10-KSB.
Overview
Pacific Biometrics, Inc. ("PBI" or the "Company") was incorporated in Delaware
in May 1996 in connection with the acquisition of BioQuant, Inc. ("BioQuant"), a
Michigan corporation, and Pacific Biometrics, Inc. ("PBI-WA"), a Washington
corporation. On June 28, 1996, the Company completed the mergers whereby
BioQuant and PBI-WA became wholly owned subsidiaries of the Company in separate
stock-for-stock exchange transactions.
The mission of PBI is to develop and commercialize non-invasive technologies for
use in non-invasive diagnostics and laboratory services to improve the detection
and management of chronic diseases. The Company has developed two patented
platform technologies that permit the use of sweat and saliva as diagnostic
fluids. PBI's intellectual property position in sweat and saliva based
collection technology is based on thirteen issued U.S. patents and four pending
U.S. patents with respect to the Company's SweatPatch (TM) and SalivaSac(R)
technology.
Expenses consist, and are expected to continue to consist, primarily of
operating expenses necessary to conduct the commercial laboratory operation,
research and development costs for products under development, administration
expenses and payment of license and royalty fees to acquire and maintain the
Company's intellectual property rights.
As of June 30, 1999, the Company had an accumulated deficit of approximately
$22,415,000 which included a one-time charge of $6,373,884 for the value of
purchased research and development expenses relating to the Company's merger
with BioQuant and a one-time charge of $428,368 relating to a prior merger
involving PBI-WA in 1995.
Results of Operations
The following tables compare the periods ending June 30, 1999 and June 30, 1998
and June 30, 1997 as shown in the attached financial statements and shows the
year to year variances on a dollar and percentage basis for informative
purposes. All dollar amounts are rounded to the nearest thousand from the
financials.
Laboratory revenues:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
$1,405 $2,385 $2,464 ($980) ($79) -41% -3%
-----------------------------------------------------------------------------------------------
</TABLE>
Laboratory revenues decreased in 1999 and in 1998 based on the decrease in the
size and the number of clinical trials for which the laboratory performed
testing and consulting work.
Product revenues:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
$88 $137 $325 ($49) ($188) -36% -58%
-----------------------------------------------------------------------------------------------
</TABLE>
Product revenues decreased in 1999 due to an decrease in sales of Osteopatch and
other products as compared to 1998. Product revenue declined in 1998 due to the
cessation of SPINPRO(R) sales partially offset by initial OsteoPatch(TM) revenue
from PBI's foreign license and distribution agreements.
Laboratory expenses and cost of goods sold:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
$1,233 $2,098 $1,711 ($865) $387 -41% 23%
-----------------------------------------------------------------------------------------------
</TABLE>
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<PAGE>
In 1999 the cost decrease was directly related to the decrease in revenues. In
1998 cost increased despite a decrease in total revenues. Costs increased
primarily due to a large low-margin contract that was started and completed
during fiscal 1998 and a lower mix of higher margin consulting services.
Diagnostic research and product development:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
$998 $2,388 $1,024 ($1,390) $1,364 -58% 133%
-----------------------------------------------------------------------------------------------
</TABLE>
Costs decreased in 1999 as PBI curtailed research and development programs.
Costs had increased in 1998 as PBI implemented its plan to develop the
OsteoPatch(TM) and performed additional research for the SweatPatch (TM) and
SalivaSac(R) technology applications.
Selling, general and administrative:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
$2,340 $2,168 $1,575 $172 $593 8% 38%
-----------------------------------------------------------------------------------------------
</TABLE>
Selling, general and administrative costs, which increased slightly in 1999,
included $286 in accrued and unpaid salaries and $79 in salaries and consultant
fees paid for with stock. Costs increased in 1998 primarily due to development
of sales and marketing resources.
Other income and (expense):
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
($2,397) ($47) $7 ($2,349) ($54) 4967% -771%
-----------------------------------------------------------------------------------------------
</TABLE>
The increase in other expense in 1999 is due to the write-down of Osteopatch(TM)
assets. The decrease in other income in 1998 is primarily due to other expense
related to the write-down of the value of SPINPRO(R) assets.
Net loss:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------
6/30/99 6/30/98 6/30/97 99 vs. 98 98 vs. 97 99 vs. 98 98 vs. 97
-----------------------------------------------------------------------------------------------
($6,069) ($4,612) ($1,577) ($1,457) ($3,035) 32% 192%
-----------------------------------------------------------------------------------------------
</TABLE>
The net loss increased in 1999 due to the write-down of Osteopatch technology
offset partially by the curtailment of research and development programs. The
net loss increased in 1998 as PBI experienced lower total revenues, developed
sales and marketing programs and implemented development plans for
OsteoPatch(TM) and researched applications for the SweatPatch (TM) and
SalivaSac(R) technology.
Liquidity and Capital Resources
Financing
On February 20, 1998, the Company consummated the sale of 925,000 shares of
Series A Convertible Preferred Stock (the "Preferred Stock") with an
institutional investor for an aggregate purchase price of $1,850,000. In
addition, the Company granted such institutional investor an option (the
"Option") to purchase an additional 625,000 shares of Preferred Stock until May
20, 1998 for an exercise price of $1,250,000. The Option was exercised in full
during May 1998. The Preferred Stock is convertible into shares of the Company's
Common Stock at the option of the holder at any time on a one-for-one basis,
subject to adjustment for stock splits, dividends and similar events. The
Preferred Stock provides for a cumulative cash dividend payable quarterly in
arrears at an annual rate of 8%. The Company has the right to force conversion
of the Preferred Stock in the event the price per share of the Common Stock is
$8.00 or more for twenty consecutive trading days. The Company has agreed to use
commercially reasonable efforts to effect the registration of the Common Stock
into which the Preferred Stock is convertible. To date, no such efforts have
been undertaken. The Company is not current on dividend payments and, as of June
30, 1999 approximately $166,000 in dividends have accrued.
The Registration Statement pertaining to the initial public offering ("IPO") of
the Company was declared effective by the Securities and Exchange Commission on
October 29, 1996. Gross proceeds from the public offering were
14
<PAGE>
$8,075,000. The Company has used the net proceeds from the offering
(approximately $6.3 million) for product development activities relating to the
OsteoPatch(TM), for funding the growth of its central reference laboratory
operations, working capital, and also used approximately $1.2 million to repay
debt.
In April 1997, the Company entered into a capital equipment leasing facility
with Transamerica Business Credit Corporation to provide credit for equipment
purchases up to $1,500,000. The Company issued 51,429 warrants to Transamerica
as part of this agreement. The Company received gross proceeds of $376,808 under
the agreement during fiscal 1997 and received gross proceeds of $329,154 during
fiscal 1998. The Company is required to raise additional capital in order to
draw additional funding from this arrangement.
The Company has continued to negotiate forbearance agreements with Transamerica
Business Credit related to payments due on capital leases. In exchange for the
first forbearance agreement the 51,429 warrants were repriced to $0.50 per share
in December 1998. No discount was recorded for the value of the warrants because
the amount was not material.
In exchange for the most recent Forbearance Agreement, dated August 1999, the
Company has repriced warrants previously issued to Transamerica, granted
Transamerica additional warrants and a lien position on assets of the Company.
This Forebearance Agreement expired on September 30, 1999 and was extended again
through December 31, 1999 in exchange for 150,508 additional warrants. Although
the Forbearance Agreement has expired, Transamerica has not taken action to
collect the debt, which approximates $450,000. Most of this debt will be assumed
by Saigene upon sale of the laboratory.
In April of 1999 the Company and its subsidiaries entered into a Accounts
Receivable Factoring Agreement (the "Factoring Agreement") with Silicon Valley
Bank (the "Bank"). The Company issued 93,024 warrants to the Bank as part of
this agreement. The Company has been factoring the majority of the accounts
receivable from laboratory operations to provide the Company with working
capital to meet laboratory operations obligations and to maintain minimal
corporate operations. Under the terms of this agreement, the Bank will advance
80% of accepted receivables and charge the Company an administrative fee of .75%
and an annualized rate of 21% on outstanding balances.
The Company extended until June 30, 1999, the 1,700,000 warrants issued in
conjunction with the Company's initial public offering of its securities in
October 1996. These warrants expired June 30, 1999.
The Company has entered into deferred compensation agreement with four of its
senior executives. The agreements provide that a specified portion of their
salaries be deferred until they elect to receive the deferred amount. There was
no deferred compensation incurred for the year ended June 30, 1998. Deferred
compensation expense in connection with these agreements was $198,583 for the
year ended June 30, 1999 and $262,996 for the period from inception to June 30,
1999. In 1997, the liability for deferred compensation of $64,413 was converted
to a promissory note bearing annual interest at 7% and is payable on demand. In
1999, the liability for deferred compensation of $198,583 was converted to a
promissory note bearing annual interest at 7% and is payable on demand. This
obligation is included with notes payable to related parties on the accompanying
consolidated balance sheet. The Company has not made any interest payments since
September of 1998.
The Company had entered into a contract for management and consulting services
with a company owned by certain of the Company's stockholders. The Company
incurred $186,000 for management and consulting services provided during the
year ended June 30, 1996 and $300,098 for the period from inception to June 30,
1999. The liability for management consulting services under the contract of
$187,000 was converted in 1997 to a promissory note bearing annual interest at
7% and is payable on demand. This obligation is included with notes payable to
related parties on the accompanying consolidated balance sheet. The management
contract was terminated effective June 28, 1996.
Products and Services
In May 1998, the Company received a letter from the FDA in response to its
510(k) application for the OsteoPatch(TM) device notifying the Company that the
agency did not find the device to be substantially equivalent to the predicate
device, a urine test marketed by Metra Biosystems. Despite numerous discussions
and a meeting with the FDA in July 1998, the Company was unable to reverse the
agency's decision or negotiate requirements for additional data
15
<PAGE>
that were within the Company's financial ability to perform. Due to lack of
funds, the Company ceased development activities on the OsteoPatch device in
August 1998.
In December 1998, the Company failed to make a payment of $1.6 million to
Sudormed, the licensor of the patch technology relating to the SweatPatch and
OsteoPatch, resulting in a default under the License Agreement and the Supply
Agreement. Sudormed terminated the License Agreement in May, 1999 for failure to
make required payments. The Agreement permits the Company to retain full license
rights as long as the Company has inventory of patches. As of June 30, 1999 the
Company had approximately 100,000 patches in inventory. As of June 30, 2000 the
Company had approximately 80,000 patches in inventory. All investments in
SweatPatch technology, including the OsteoPatch, were expensed in March, 1999.
In May 2000, the Company announced the signing of an Agreement of Purchase and
Sale of Assets with Saigene Corporation, a privately held company located in
Redmond, Washington. This Purchase Agreement, which is subject to stockholder
approval, will transfer the business and assets of the Company's Seattle
laboratory operation to Saigene for a total consideration of $4,000,000,
including cash, cash advances, notes to Preferred Stockholders, and assumption
of debt. In June 2000, the Company announced an extension of the closing date
with Saigene for this transaction from June 15, 2000 to August 15, 2000. Saigene
has defaulted under the terms of the Amendment. See Future Operating Results for
additional information.
The SalivaSac(R), developed by the Company, collects a non-invasive saliva
sample that the Company had hoped would be able to replace blood and urine
testing in various applications. The Company had been awarded two SBIR Phase I
grants to research this technology for non-invasive glucose monitoring. As a
result of this research the Company is using its SalivaSac(R) technology to
develop a screening product to detect diabetes in the general population and a
monitoring product to produce detailed quantitative measurements of glucose
levels to enable diabetics to monitor glucose levels throughout the day. While
previous attempts by others to correlate saliva glucose with blood glucose have
been unsuccessful, the Company has had encouraging preliminary results using the
SalivaSac(R) device, as it appears to exclude substances that interfere with
accurate glucose measurements. However, almost all development of the SalivaSac
has been suspended as of December, 1998 due to a lack of funding and without
additional funding the Company will not be able to successfully develop the
Saliva Sac for such use. In September, 1999 the Company received a SBIR Phase I
grant to research the use of the SalivaSac technology for the collection and
measurement of homocysteine, a newly discovered marker with potential
application for use as a risk factor in heart disease. It is not known at this
time if the grant research will be successful. Even if successful, the Company
does not have sufficient resources to develop a commercially feasible product.
Future Operating Results
The Company executed an Agreement of Purchase and Sale of Assets with Saigene
Corporation dated April 18, 2000 (the "Purchase Agreement"). The Purchase
Agreement, which is subject to shareholder approval, will transfer the business
and all assets of the Company's Seattle laboratory operation to Saigene for a
total consideration of $4,000,000. Substantially all of the Company's fixed
assets and all of the Company's accounts receivable will be sold. Although a
cash payment of approximately $650,000 was due on June 15, 2000 under the
Purchase Agreement, Saigene did not make such payment and requested an extension
of time in order to comply. Accordingly, the Purchase Agreement was amended on
June 22, 2000 (the "Amendment"). The Amendment extends the Closing Date of the
Purchase Agreement from June 15, 2000 to August 15, 2000 and Saigene is required
to pay $150,000 of the purchase price on or before July 15, 2000. The balance of
cash and escrow payments and all other consideration originally due on June 15
will be due on August 15, 2000.
In exchange for this extension, Saigene has agreed to (i) waive all financial
claims against the Company for funds advanced under the Management Agreement and
forfeit all monies paid under the Purchase Agreement and (ii) be responsible for
all liabilities previously assumed by Saigene or agreed to be assumed by Saigene
including the debt to the landlord of the Lake Forest, California facility in
the event that Saigene fails to make cash payments due on July 15 or August 15,
2000. There can be no assurance that Saigene will be able to complete the
Purchase Agreement as amended or consummate the transactions contemplated
therein. Failure to complete this transaction would return operational control
of the laboratory to the Company. While the laboratory would have less debt as a
result of the Amendment, the Company will not be financially capable of
maintaining the laboratory operation and there can be no assurance that another
buyer could be found in a timely manner. This could force the Company to seek
protection from creditors under the bankruptcy laws.
16
<PAGE>
Saigene failed to make the required $150,000 payment due on July 15, 2000 and
informed the Company that they would not be able to close the laboratory sale
until October 15, 2000. Saigene paid $75,000 on July 19, 2000 and is in default
on the Purchase Agreement and the Amendment. The Company is attempting to
negotiate a new contract amendment with Saigene that provides Saigene with
additional time to raise the money necessary to close the laboratory purchase
while compensating the Company for the delays in a manner that is acceptable to
both parties. There can be no assurance that the negotiations will lead to an
acceptable contract amendment. In the event that the Purchase Agreement is
terminated, the Company will retain all funds received thereunder, will not be
obligated to pay the judgment to the California landlord, and will take over
operations of the laboratory. It is likely that the Company would then seek
another buyer for the laboratory. There can be no assurance that a buyer can be
found. Failure to find a buyer for the laboratory in a timely manner may require
the Company to seek protection from its creditors under the bankruptcy laws
since it is unlikely that the laboratory operations will provide sufficient
positive cash flow to satisfy the Company's obligations to its creditors.
Even upon completion of the transaction with Saigene, the Company will still
have various debts and claims that need to be settled. These include amounts
owed to various consultants, vendors and suppliers of the Company not related to
the Seattle laboratory operation (estimated to be between $250,000 and
$400,000); deferred pay to current and former employees (as of June 30, 2000
approximately $700,000); and a potential liability of approximately $2.0 million
related to the OsteoPatch technology. The Company will attempt to settle these
debts with cash, stock, and technology assets. There can be no assurance that
the Company will be successful in these negotiations and may have to seek
protection from creditors under the bankruptcy laws. If the Company is
successful in settling the remaining debts, then the Company plans to pursue a
merger with another company as a means of providing some value to common
stockholders. There can be no assurance that the Company will be successful in
finding and negotiating a successful merger or that any such merger would create
value for the stockholders.
The Minnesota Mining and Manufacturing Company (3M), as a party in possession of
secured property, has not informed the Company of its plans for the Sudormed
assets. This includes the SkinPatch(TM) technology rights, which are part of the
Company's OsteoPatch(TM) product. The Company had sought to reestablish certain
rights to this technology in order to create additional value for the Company's
other intellectual property related to the OsteoPatch. Without an agreement with
3M, the Company's OsteoPatch assets may not have any value. The Company expensed
all of these assets in March 1999. In May 2000, 3M notified the Company that, in
its capacity as a secured party in possession of the Sudormed assets, it demands
payment in full of the $1.6 million plus accrued interest and fees due under the
License Agreement between the Company and Sudormed. The Company and 3M are
seeking to settle this claim. 3M has objected to the laboratory sale transaction
that is proceeding with Saigene. Although, the Company disputes 3M's claim, 3M
may seek to enforce its rights through legal process. The Company is not certain
of the impact of 3M's demand on the proposed transaction with Saigene or what
legal rights may be asserted by 3M to protect its claim. If 3M should be
successful in blocking the proposed sale of the laboratory, or commences a legal
action against the Company, the Company may have no alternative than to seek
protection from creditors under the bankruptcy laws. In that event the Company
would intend to sue 3M for damages to shareholders and creditors as a result of
this action.
ITEM 7 - FINANCIAL STATEMENTS
The required financial statements appear at the end of this report, and are
incorporated herein by reference. See index to consolidated financial statements
at page F-1.
ITEM 8 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURES
On June 22, 1998, the Company received the written resignation of Coopers &
Lybrand L.L.P. ("C&L") as the Company's independent auditors. During the two
fiscal years ended June 30, 1997, C&L's reports on the Company's financial
statements contained no adverse opinion or disclaimer of opinion, nor were they
qualified or modified as to uncertainty, audit scope, or accounting principles,
except as follows:
C&L's report dated September 5, 1996 (issued prior to the Company's
initial public offering of securities), on the Company's financial
statements for the fiscal year ended June 30, 1996 contained the
following paragraph:
17
<PAGE>
"The accompanying consolidated financial statements have been
prepared assuming that the Company will continue as a going
concern. As discussed in Note 18 to the financial statements,
the Company had experienced recurring losses from operations
and cash flow shortages, and has reported deficiencies in
working capital and stockholders' equity. These matters raise
substantial doubt about the Company's ability to continue as a
going concern. Management's plans in regard to these matters
are also described in Note 18. The consolidated financial
statements do not include any adjustments that might result
from the outcome of this uncertainty".
During the two fiscal years ended June 30, 1997, and through June 22, 1998,
there were no disagreements with C&L on any matter of accounting principles or
practices, financial statement disclosure, auditing scope or procedure which
disagreements, if not resolved to the satisfaction of C&L, would have caused it
to make reference to the subject matter of the disagreement in connection with
its report, except that the Company, based on a review by C&L of the Company's
unaudited financial statements, amended a press release which previously
reported third quarter results. In an amended press release, the Company
reported a non-cash adjustment of $187,400, reflecting accelerated depreciation
of certain license rights, which adjustment increased losses by a like amount.
Additionally, the Company increased its loss per share by $0.26 as a result of
such accelerated depreciation and an adjustment for imputed dividends associated
with the grant of an option to acquire preferred stock. Such amended results
were included in the Company's Quarterly Report on Form 10-QSB as filed with the
Commission on May 15, 1998.
The Company requested C&L to furnish it with a letter addressed to the
Securities and Exchange Commission stating whether C&L agrees with the
statements contained in the second and third paragraphs above. A copy of the
letter from C&L to the Securities and Exchange Commission was filed as Exhibit 1
with Form 8-K filed with the Commission on June 26, 1998 (File No. 0-21537).
The Company engaged Grant Thornton, LLP as auditor as disclosed in its current
Report on Form 8-K filed with the Commission on July 29, 1998 (File No.
0-21537).
PART III
ITEM 9 - DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
Directors as of June 30, 1999
-----------------------------
<TABLE>
<CAPTION>
Present Principal Occupation and
Name, Business Principal Occupation During Last Director
Address and Age Five Years; Other Activities Since
------------------------------------ ------------------------------------------------------------ ------------------
<S> <C> <C>
Ellen A. Rudnick Ellen A. Rudnick has served as Chairman of the Company 1996
Age 48 since July 1996, and served from 1993 to 1996 as Chairman
of the Board and a director of BioQuant, Inc., a
wholly-owned subsidiary of the Company ("BioQuant").
Since 1992, she has served as Chairman of CEO Advisors,
Inc. ("CEO Advisors"), a health care consulting company
that she and Mr. Kanan founded. From 1990 through 1992,
Ms. Rudnick served as president and CEO of Healthcare
Knowledge Resources, Inc., a health care information
company in Ann Arbor, Michigan and as President of its
successor, HCIA. She was employed from 1975 to 1990 by
Baxter Healthcare Corporation, most recently as Corporate
Vice President and President of its Management Services
Division. She serves on the Boards of NCCI and Lakeland
Health Services and Health Management Systems, Inc., a
healthcare information services company. Ms. Rudnick
holds a B.A. degree from
</TABLE>
18
<PAGE>
<TABLE>
<CAPTION>
Present Principal Occupation and
Name, Business Principal Occupation During Last Director
Address and Age Five Years; Other Activities Since
------------------------------------ ------------------------------------------------------------ ------------------
<S> <C> <C>
Vassar College and an M.B.A.
degree from the University of Chicago Graduate School of
Business. Resigned on December 18, 1999.
------------------------------------ ------------------------------------------------------------ ------------------
Paul G. Kanan Paul G. Kanan has served since July 1996 as the President, 1996
Age 53 Chief Executive Officer and a director of the Company, and
served from 1993 to 1996 as the President and a director of
BioQuant. Mr. Kanan is also an officer and director of CEO
Advisors, a health care consulting firm that he and Ms.
Rudnick founded in 1992. From 1991 to 1992, Mr. Kanan
operated his own health care consulting firm, and during
part of such period served as acting CEO and CEO of SPS,
Inc., a healthcare service firm. From 1988 to 1991, he
served as President and CEO of Oncotech, Inc., a medical
diagnostic company in Irvine, California involved in the
development and marketing of oncological testing. From 1976
to 1988, Mr. Kanan was employed by Baxter Healthcare
Corporation, most recently as President of its Chemotherapy
Services Division. He received his B.S.E. degree from the
University of Michigan and an M.B.A. degree from Harvard
University Graduate School of Business.
Mary L. Campbell Mary L. Campbell, a director since July 1996, currently 1996
Age 54 serves as Principal and Vice President of EDM, Inc., the
general partner of the Enterprise Development Fund II,
L.P., a venture capital fund managing $30 million. Ms.
Campbell is also a director of Aastrom Biosciences, Inc., a
publicly held cell therapy company; Think & Do Software,
Inc., a developer and marketer of factory automation
software; and Chairman of the Board and Director of Origen,
Inc., an animal health company. Ms. Campbell received her
Masters of Business Administration from the University of
Michigan; her Masters of Special Education from Fairfield
University; and her Bachelor of Arts in English from the
University of Michigan. Resigned on September 7, 1999.
Terry M. Giles Terry M. Giles has been a director of the Company since 1996-98 and
Age 50 March 24, 2000 and was a director of the Company from July since 2000
1996 through September 1998. He was previously a director
of PBI-WA from 1995 to 1996. In 1975, Mr. Giles founded the
law firm of Giles and Burkhalter, Orange County,
California, of which he was a member. Mr. Giles has served
on the board of Computerland since 1987, and is a member of
the Board of Regents of Pepperdine University. He received
his B.A. from the California State University of Fullerton
and his J.D. from Pepperdine University School of Law.
Craig M. Goldstone Craig M. Goldstone, a director of the Company since July 1996
Age 42 1996, was Chairman of the Board of Pacific Biometrics,
Inc., a Washington Corporation and wholly-owned subsidiary
of the Company ("PBI-WA") from 1995 to 1996. He also serves
as Senior Vice President-Investments for Paine Webber's New
York office, which he joined in January, 1995. From May
1991 to January 1995, Mr. Goldstone held Vice President
positions at Lehman Brothers. Resigned on October 28, 1999.
</TABLE>
19
<PAGE>
<TABLE>
<CAPTION>
Present Principal Occupation and
Name, Business Principal Occupation During Last Director
Address and Age Five Years; Other Activities Since
------------------------------------ ------------------------------------------------------------ ------------------
<S> <C> <C>
Douglas S. Harrington, M.D. Douglas S. Harrington, M.D., a director of the Company and 1996
Age 46 member of the Company's Scientific Advisory Board since July
1996, and from 1993 to 1996 was Chairman of the BioQuant
Scientific Advisory Board and a director since 1995. Dr.
Harrington has been Chief Executive Officer and director of
ChromaVision Medical Systems, Inc., a diagnostic
instrumentation company, since January 1997. From 1992 to
early 1995, Dr. Harrington was the President of Nichols
Institute Reference Laboratory in San Juan Capistrano,
California, a major reference laboratory for esoteric
testing. Dr. Harrington also serves as an Associate Clinical
professor of pathology and microbiology at the University of
Nebraska Medical Center, where he has been a member of the
faculty since 1986. He received his B.A. from the University
of California and his M.D. from The University of Colorado
Health Sciences Center. He is board certified in anatomical
and clinical pathology and hematology. Resigned on October
27, 1999.
</TABLE>
As of June 30, 2000, the directors of the Company consisted of Paul Kanan and
Terry Giles, who was formerly a director of the Company through September 10,
1998 and was reappointed as a director on March 24, 2000.
During the fiscal year ended June 30, 1999, the Company's Board of Directors
held 15 meetings, which were attended by 89% of the then current directors in
person or by telephone.
All directors hold office until the next annual meeting of stockholders and the
election and qualification of their successors. Directors receive compensation
for serving on the Board of Directors as described below. During fiscal 1999,
the Company had established audit (Douglas Harrington, M.D. and Mary Campbell)
and compensation (Mary Campbell and Craig Goldstone) committees, comprised
solely of non-employee directors. However, in light of the resignations of most
of the Board Members, the Company does not have an audit or compensation
committee. Officers are elected annually by the Board of Directors and serve at
the discretion of the Board.
There is no family relationship among any of the directors or executive officers
of the Company.
Compensation of Directors
The Company's policy is not to pay compensation to directors who are also
employees of the Company for their services as directors. The Company's
compensation policy for non-employee directors is to grant such persons for each
meeting attended in person (up to a maximum of six meetings per year) that
number of stock options, based on the fair market value on the date of grant,
equal to $1,000. The Company will also reimburse reasonable out-of-pocket
expenses of directors for attendance at meetings.
20
<PAGE>
Executive Officers as of June 30, 1999
--------------------------------------
The executive officers of the Company as of June 30, 1999 are listed below.
There is no arrangement or understanding between any executive officer and any
other person regarding selection as an officer.
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Ellen A. Rudnick 48 Chairman of the Board
Paul G. Kanan 53 President, Chief Executive Officer and Director
Elizabeth Teng Leary 52 Vice President of Laboratory Services
Peter B. Ludlum 45 Vice President of Finance and Chief Financial Officer
Paul G. Kanan See "Proposal 1 - Election of Directors" for biographical information.
Ellen A Rudnick See "Proposal 1 - Election of Directors" for biographical information.
Elizabeth Teng Leary,
Ph.D., DABCC Elizabeth Teng Leary has served as the Company's Vice President of
Laboratory Services since July 1996. From 1989 to 1996, she was Vice
President and Director of the Laboratory Division of PBI-WA. Dr. Leary
has served in a number of clinical laboratory management positions
prior to co-founding PBI-WA in 1989. Dr. Leary served as the Director
of Chemistry at Cooperative Medical Laboratories of Providence
Hospital, Everett Washington from 1978 to 1989; Consultant to the
Northwest Lipid Research Center from 1988 to 1989; and Director of
Chemistry at the General Hospital of Everett from 1978 to 1989. Dr.
Leary is a Diplomat of the American Board of Clinical Chemistry and
serves as Chair of the American Association for Clinical Chemistry
Lipid and Lipoproteins Division. She is also the Director of the CDC
Cholesterol Reference Method Laboratory at Pacific Biometrics Research
Foundation. Her focus in recent years has been standardization and
method development in lipids and osteoporosis testing. She has
authored over 25 publications and abstracts. Dr. Leary received her
B.A. from the University of California, Berkeley; her Ph.D. in
biochemistry from Purdue University; and participated in postdoctoral
training in clinical chemistry at the University of Washington.
Resigned as an officer on September 24, 1999 but is still an employee
of the Company.
Peter B. Ludlum Peter B. Ludlum has served as the Company's Vice President of Finance and
Chief Financial officer since November 1996. From 1989 to 1996 Mr.
Ludlum served as Controller of Derlan Industries, Inc., a diversified
manufacturing company. From 1978 to 1989 Mr. Ludlum held accounting
and finance positions for Safeguard Health Enterprises Inc., NERCO
Inc., Bechtel Investments Inc., and Mobil Corporation. Mr. Ludlum
holds a B.S. degree in Business and Economics from Lehigh University,
an M.B.A. degree from California State University, Fullerton and a
C.M.A. certificate in management accounting. Resigned as an officer on
October 31, 1999 and resigned as an employee on December 6, 1999.
</TABLE>
Filing Requirements
The Company believes, to its knowledge, that all filing requirements under
Section 16(a) of the Securities Exchange Act of 1934, as amended, applicable to
its officers, directors and greater than 10% beneficial owners were complied
with during the fiscal year ended June 30, 1999.
21
<PAGE>
ITEM 10 - EXECUTIVE COMPENSATION
Executive Compensation
The following table summarizes all compensation paid by the Company with respect
to each of the fiscal years presented for services in all capacities of the
Company's Chairman, the Company's Chief Executive Officer and the Company's
other highly compensated officers (the "Named Executive Officers"). No other
executive officer of the Company earned in excess of $100,000 in any of such
fiscal periods.
Summary Compensation Table
<TABLE>
<CAPTION>
Annual Compensation Long Term Compensation
------------------- ----------------------
Other
Annual Awards
Compen- Restricted All Other
Name and Principal Salary Bonus sation Stock Awards Options/ LTIP Payouts Compen-
Position Year ($) ($) ($)(4) (S) SARs (#) ($) sation ($)
------------------- ---- ------ ------ -------- ----------- --------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Ellen A. Rudnick(1) 1999 32,500 - 71,500 - - - -
Chairman 1998 150,667 - - - - - -
1997 128,323 - - - - - -
Paul G. Kanan 1999 91,667 - 108,333 - - - -
President, Chief 1998 193,333 - - - - - -
Executive Officer and 1997 165,000 - - - - - -
Director
Elizabeth Teng 1999 57,917 - 42,083 - - - -
Leary(2)
Vice President and 1998 94,375 27,316 - - - - -
Director of 1997 83,280 7,989 - - - - -
Laboratories
Peter B. Ludlum(3) 1999 81,667 - 18,333 - - - -
Vice President of 1998 98,667 7,250 - - - - -
Finance and Chief 1997 60,000 - - - - - -
Financial Officer
</TABLE>
(1) Ms. Rudnick resigned as an employee of the Company effective February 28,
1999 and resigned as Chairman of the Board effective December 18, 1999.
(2) Ms. Leary resigned as an officer of the Company effective September 24,
1999 and remains an employee of the Company.
(3) Mr. Ludlum resigned as an officer of the Company effective October 31, 1999
and as an employee effective December 6, 1999.
(4) Deferred compensation, all of which is still payable to the above employees
as of the date of this report.
Option Grants During Fiscal 1999
<TABLE>
<CAPTION>
Number of Percent of
securities total options
underlying granted to Exercise or
options granted employees in base price Expiration
Name (#) fiscal year ($/Sh) date
---------------------------- ------------------ ---------------- ----------------- -------------
<S> <C> <C> <C> <C>
Elizabeth Teng Leary 30,000 9.6% $0.25 5/25/04
Peter B. Ludlum 30,000 9.6% $0.25 5/25/04
</TABLE>
22
<PAGE>
The following table reflects options exercised during the fiscal year and the
year-end values for in-the-money options for each of the named executive
officers:
AGGREGRATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END
OPTION/SAR VALUES
<TABLE>
<CAPTION>
--------------------------- ------------- ----------- ----------------------------- ----------------------------
Name Shares Value Number of Securities Value of Unexercised
Acquired On Realized Underlying Unexercised In-The-Money Options/June
Exercise (#) ($) Option/June 30, 1999 30, 1999 ($) Exercisable /
Exercisable/Unexercisable Unexercisable
--------------------------- ------------- ----------- ----------------------------- ----------------------------
<S> <C> <C> <C> <C>
Ellen A. Rudnick 0 0 283,183/32,500 27,707/ 0
--------------------------- ------------- ----------- ----------------------------- ----------------------------
Paul G. Kanan 0 0 281,183/32,500 27,707 / 0
--------------------------- ------------- ----------- ----------------------------- ----------------------------
Elizabeth Teng Leary 0 0 70,760/57,500 0 / 0
--------------------------- ------------- ----------- ----------------------------- ----------------------------
Peter B. Ludlum 0 0 53,750/33,750 0 / 0
--------------------------- ------------- ----------- ----------------------------- ----------------------------
</TABLE>
Employment Contracts
In October, 1996, the Company entered into two year employment agreements with
each of Paul Kanan, Ellen Rudnick, and Elizabeth Teng Leary, Ph.D., the
Company's key employees. All such contracts expired in October of 1998 and were
not renewed.
ITEM 11 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT
The following table sets forth certain information as of June 30, 2000 with
respect to the number of shares of Common Stock beneficially owned by (i) those
persons known to the Company to be the owners of more than five percent of the
Common Stock, (ii) each director of the Company (one of whom is the Chief
Executive Officer of the Company) and (iii) all directors and executive officers
of the Company as a group. Unless otherwise indicated, each of the listed
persons has sole voting and investment power with respect to the shares
beneficially owned by such stockholder.
Name and Address(1) Amount and Nature Percent of
of Beneficial Common Stock
Ownership(2)(3) Outstanding
------------------- ----------------- -------------
Terry M. Giles(4) 416,942 10.9%
Paul G. Kanan(5) 366,424 8.9%
Enterprise Development Fund (6) 303,910 8.0%
All directors and officers as a 783,366 19.0
group (2 persons)(7)
---------------------------
23
<PAGE>
(1) The address of each of these persons is c/o the Company, 23120 Alicia
Parkway, Suite 200, Mission Viejo, California 92692.
(2) Unless otherwise noted, all persons named in the table have sole voting and
dispositive power with respect to all Common Stock beneficially owned by
them.
(3) Includes currently exercisable options and warrants to purchase shares of
Common Stock.
(4) Mr. Giles' resigned from the Board of Directors effective on September 10,
1998 and rejoined the Board of Directors effective March 24, 2000.
(5) Includes 58,991 shares of Common Stock held by the Kanan Living Trust Dated
May 15, 1990, of which Mr. Kanan is a co-trustee with his wife, and 307,433
shares of Common Stock subject to currently exercisable warrants and
options. Does not include 6,250 shares of Common Stock subject to options
granted in September 1997, which will vest on September 18, 2000.
(6) Includes 303,910 shares of Common Stock all held by Enterprise Development
Fund I, L.P. ("EDF"), of which Enterprise Management, Inc. ("EMI") acts as
general partner and in which Ms. Campbell, a former director of the
Company, is an officer and one of three directors. Ms. Campbell disclaims
beneficial ownership as to all of said shares, except for approximately
21,000 shares (or approximately 7 percent of such shares) which represents
her one-third interest in EMI which, in turn, holds an approximately 21
percent interest in EDF.
(7) Includes 475,933 shares of Common Stock and 307,433 shares of Common Stock
subject to currently exercisable options and warrants. Does not include
6,250 shares of Common Stock subject to options granted to management,
which have not yet vested. In the event such options and warrants are fully
exercised, management will hold an aggregate of 783,366 shares or 19
percent based on a total of 4,117,604 shares outstanding subsequent to such
exercise.
ITEM 12 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Certain Relationships and Related Transactions
Paul Kanan and Ellen Rudnick, are principals of CEO Advisors, a company that
provided management services to BioQuant beginning in 1993. This arrangement has
been terminated effective upon the consummation of the Mergers on June 28, 1996,
except for the provision of an assistant to Ellen Rudnick, rent and office
support on a pro rata basis which amounted to $41,349 and $28,172 in fiscal 1998
and fiscal 1997, respectively. During fiscal 1995 and fiscal 1996, BioQuant paid
CEO Advisors an aggregate of $109,000 and $186,000, respectively, for all
services rendered. Amounts outstanding at June 30, 1996 under this arrangement
aggregated $187,000, for which two promissory notes were issued in the principal
amount of $93,500 and bear interest at 7 percent per annum. The promissory notes
were issued to each of Paul Kanan and Ellen Rudnick along with options to
purchase 27,100 shares of Common Stock at an exercise price of $3.45 as an
inducement to accept the notes in lieu of cash. The notes are payable on demand.
The Company has entered into deferred compensation with four of its senior
executives, Paul Kanan, Ellen Rudnick, G. Russell Warnick and Elizabeth Teng
Leary. At June 30, 1998, the Company's deferred compensation obligation was
$65,413. Compensation expense in connection with these agreements was $30,417
and $22,496 for the years ended June 30, 1997 and 1996, respectively, and
$54,413 for the period from inception to June 30, 1997. The liability for
deferred compensation of $65,413 was converted into promissory notes bearing
annual interest at 7% and are payable on demand.
In March of 1999 the Company converted $199,000 in deferred salary to three of
its senior executives into additional debt due under the same terms as the above
debt accruing interest at 7%. The Company has not made any interest payments
since September of 1998.
In May 1999, the Board of Directors of the Company granted, pursuant to the
Plan, options to purchase Common Stock at an exercise price of $0.25 per share
to officers as follows: Elizabeth Teng Leary -- 30,000; Peter Ludlum -- 30,000.
24
<PAGE>
The Company believes that the transactions between the Company and its officers
and directors described above are on terms no less favorable to the Company then
could have been obtained from unaffiliated parties under similar circumstances.
ITEM 13 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits are listed on the Index to Exhibits at the end of this report. The
exhibits required by Item 601 of Regulation S-B are listed on such Index in
response to this Item and are incorporated herein by reference.
(b) Form 8-K reports were filed during the last quarter of the period covered
by this report as follows:
(i) Current Report on Form 8-K filed with the Commission on April
13, 1999 (File No. 0-21537)
(ii) Current Report on Form 8-K filed with the Commission on August
31, 1999 (File No. 0-21537)
(iii) Current Report on Form 8-K filed with the Commission on October
28, 1999 (File No. 0-21537)
(iv) Current Report on Form 8-K filed with the Commission on May 15,
2000 (File No. 0-21537)
(v) Current Report on Form 8-K filed with the Commission on June 26,
2000 (File No. 0-21537)
25
<PAGE>
PACIFIC BIOMETRICS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Report of Independent Certified Public Accountants....................... F - 2
Consolidated Balance Sheet as of June 30, 1999............................F - 3
Consolidated Statements of Operations for the years ended
June 30, 1999 and 1998, and for the period from inception
(December 1992) to June 30, 1999......................................F - 4
Consolidated Statements of Cash Flows for the years ended
June 30, 1999 and 1998, and for the period from inception
(December 1992) to June 30, 1999.....................................F - 5
Consolidated Statements of Stockholders' Equity for the
period from inception (December 1992) to June 30, 1999...............F - 7
Notes to Consolidated Financial Statements................................F - 9
F-1
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors
Pacific Biometrics, Inc.
We have audited the accompanying consolidated balance sheet of Pacific
Biometrics, Inc. (a company in the development stage) as of June 30, 1999, and
the related consolidated statements of operations, cash flows and stockholders'
equity (deficit) for the years ended June 30, 1999 and 1998 and the period from
inception (December 1992) to June 30, 1999. 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 auditing standards generally accepted
in the United States of America. 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 Pacific
Biometrics, Inc. as of June 30, 1999, and the consolidated results of its
operations and its consolidated cash flows for the years ended June 30, 1999 and
1998 and the period from inception (December 1992) to June 30, 1999, in
conformity with accounting principle generally accepted in the United States of
America.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 3 to the
financial statements, the Company has experienced recurring losses from
operations and cash flow shortages, and has reported deficiencies in working
capital and stockholders' equity. Also, the Company has significant amounts of
debt that is past due as of June 30, 1999. These matters raise substantial doubt
about the Company's ability to continue as a going concern. Management's plan in
regard to these matters are also described in Note 3. The consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
Grant Thornton, LLP
Irvine, California
July 21, 2000
F-2
<PAGE>
PACIFIC BIOMETRICS, INC.
(a company in the development stage)
CONSOLIDATED BALANCE SHEET
June 30, 1999
ASSETS
<TABLE>
<S> <C>
Current assets:
Cash and cash equivalents $ 36,377
Accounts receivable, net of allowance for doubtful
accounts of $40,000 282,488
Prepaid expenses and other 42,223
------------------
Total current assets 361,088
Property and equipment, net 446,286
Other assets:
Restricted cash 75,453
Deposit and other 2,000
------------------
Total assets $ 884,827
==================
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Notes payable to bank $ 55,526
Notes payable to related parties 453,372
Notes payable other 15,764
Accounts payable 577,937
Accrued liabilities 505,352
Dividends payable 165,828
Deferred compensation 87,834
Advances from customers 68,436
Technology licenses payable 2,244,040
Capital lease obligations 329,142
------------------
Total current liabilities 4,503,231
------------------
Capital lease obligations - long term portion 99,886
------------------
Total long term liabilities 99,886
------------------
Stockholders' deficit:
Preferred stock, $0.01 par value, 5,000,000 shares
authorized, 1,550,000 shares issued and outstanding 15,500
Common stock, $0.01 par value, 30,000,000 shares
authorized, 3,810,171 shares issued and outstanding 38,102
Additional paid-in capital Preferred Stock 5,000,966
Additional paid-in capital Common Stock 13,642,624
Deficit accumulated during the development stage (22,415,482)
------------------
Total stockholders' deficit (3,718,290)
------------------
Total liabilities and stockholders' deficit $ 884,827
==================
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
<PAGE>
PACIFIC BIOMETRICS, INC.
(a company in the development stage)
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended June 30, 1999 and 1998
and the Period from Inception (December 1992) to June 30, 1999
<TABLE>
<CAPTION>
Period
Year Ended June 30 from Inception
--------------------------------- (December 1992) to
1999 1998 June 30, 1999
--------------------------------- ---------------------
<S> <C> <C> <C>
Revenues $1,492,607 $2,521,561 $ 9,026,850
--------------- ------------- ------------------
Operating expenses:
Laboratory expense and cost of goods sold 1,233,105 2,097,874 6,906,465
Research and product development 997,881 2,387,640 6,064,925
Selling, general and administrative 2,340,345 2,168,424 8,482,895
Purchased in-process research and development 0 0 6,373,884
Amortization of intangible assets 593,543 432,154 1,188,187
--------------- ------------- ------------------
Total operating expenses 5,164,874 7,086,092 29,016,356
--------------- ------------- ------------------
Operating loss (3,672,267) (4,564,531) (19,989,506)
--------------- ------------- ------------------
Other income (expense):
Interest expense (222,552) (181,932) (616,333)
Interest income 25,818 137,936 317,283
Impairment of intangible assets (2,078,100) 0 (2,078,100)
Grant and other (121,934) (3,309) (48,826)
--------------- ------------- ------------------
(2,396,768) (47,305) (2,425,976)
--------------- ------------- ------------------
Net loss (6,069,035) (4,611,836) (22,415,482)
============== ============= ==================
Preferred stock dividend paid or accrued (248,000) (70,093)
Deemed preferred stock dividend 0 (1,937,500)
--------------- -------------
Net loss applicable to common stockholders $(6,317,035) $ (6,619,428)
============== =============
Basic and diluted loss per share $ (1.69) (1.79)
============== =============
Weighted average number of shares outstanding,
basic and diluted 3,735,003 3,707,807
============== =============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE>
PACIFIC BIOMETRICS, INC.
(a company in the development stage)
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended June 30, 1999 and 1998
and the Period from Inception (December 1992) to June 30, 1999
<TABLE>
<CAPTION>
Period
from Inception
(December 1992)
Year Ended Year Ended to
June 30, 1999 June 30, 1998 June 30, 1999
------------------------------------------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss $( 6,069,035) $( 4,611,836) $ ( 22,415,482)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation & amortization 244,782 284,555 673,645
Amortization and write-off of technology licenses 2,626,643 432,154 3,221,297
Common stock and warrants issued for services
and financings 128,761 - 896,087
Services provided for subscription receivable - - 55,556
Amortization of goodwill - - 428,368
Purchased in process research and product development - - 6,373,884
Interest expense for intangible asset 107,141 116,572 223,713
Write off of Spin-Pro asset - 126,323 226,323
Changes in assets and liabilities:
Accounts receivable 10,079 176,748 (125,266)
Other receivables - - 37,751
Inventory 196,891 (171,102) 26,508
Prepaid expenses 176,469 (44,726) (27,776)
Accounts payable and accrued liabilities 422,001 236,638 899,418
Deferred compensation - - 34,996
Advances from customers 58,517 (108,515) (143,662)
------------------------------------------------------
Net cash used in operating activities (2,097,751) (3,563,189) (9,614,640)
------------------------------------------------------
Cash flows from investing activities:
Cash acquired in connection with mergers - - 221,698
Advances to BioQuant prior to acquisition, net - - (145,000)
Capital expenditures (8,398) (94,166) (300,956)
Deposits and other - - (9,702)
Purchase of short-term investments - - (973,110)
Proceeds from sale of short-term investments - 973,110 973,110
------------------------------------------------------
Net cash (used in) provided by investing activities (8,398) 878,944 (233,960)
------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
<
F-5
<PAGE>
PACIFIC BIOMETRICS, INC.
(a company in the development stage)
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended June 30, 1999 and 1998
and the Period from Inception (December 1992) to June 30, 1999
<TABLE>
<CAPTION>
Period
from Inception
Year Ended Year Ended (December 1992)
to
June 30, 1999 June 30, 1998 June 30, 1999
------------------------------------------------------
<S> <C> <C> <C>
Cash flows from financing activities:
Common stock sold for cash or services - - 9,548,905
Purchases of technology license (109,067) (818,756) (1,027,823)
Borrowings from related parties - - 859,963
Preferred stock sold for cash - 3,100,000 3,100,000
Cost of equity - (21,034) (1,811,325)
Preferred stock dividend paid (135,821) (16,445) (152,266)
Common stock exercise proceeds - 1,750 28,253
Proceeds (repayments) with related parties 286,417 1,250 141,469
Repayment of bank borrowings - - (246,616)
Proceeds of Second Bridge Loan - - 1,000,000
Repayment of Second Bridge Loan - - (1,000,000)
Prepaid financing costs 25,446 (13,446) 0
Transfer to restricted cash 24,547 - (75,453)
Payments on capital lease obligations (193,052) (221,713) (480,131)
------------------------------------------------------
Net cash (used in) provided by financing activities (101,530) 2,011,606 9,884,976
------------------------------------------------------
Net Change in cash and cash equivalents (2,207,679) (672,638) 36,377
------------------------------------------------------
Cash and cash equivalents, beginning of period 2,244,056 2,916,695 0
------------------------------------------------------
Cash and cash equivalents, end of period $ 36,377 $2,244,056 $ 36,377
======================================================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-6
<PAGE>
PACIFIC BIOMETRICS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Period from Inception (December 1992) to June 30, 1999
<TABLE>
<CAPTION>
Common Stock Preferred Stock
--------------------------- Subscription --------------------------
Shares Amount Receivable Shares Amount
-------------- ------------ ------------ ------------- ------------
<S> <C> <C> <C> <C> <C>
Common stock issued for cash at inception (December 1992) 511,862 $5,119 ($245,000)
Cash received in satisfaction of subscription receivable 161,000
Net loss
-------------- ------------ ------------ ------------- ------------
Balance, June 30, 1993 511,862 5,119 (84,000) 0 0
Common stock issued in connection with
purchase of technology license and services 62,561 569 (55,556)
Cash received in satisfaction of subscription receivable 122,578
Stockholder loans converted to equity
Common stock issued for cash 4,739 47
Net loss
-------------- ------------ ------------ ------------- ------------
Balance, June 30, 1994 579,162 5,735 (16,978) 0 0
Services provided in satisfaction of subscription receivable 16,978
Stockholder loans converted to equity
Common stock issued for services and loan guarantees 47,867 479
Common stock issued in connection with acquisition of
Pacific Biometrics, Inc. (a Washington corporation) 189,061 1,891
Common stock issued for cash 42,181 422
Conversion from $0.01 par value to no par value
common stock 2,011,392
Net loss
-------------- ------------ ------------ ------------- ------------
Balance, June 30, 1995 858,271 2,019,919 0 0 0
Common stock issued for cash 45,500 360,000
Common stock issued for services 135,080 466,026
Issuance of $0.01 par value common stock in exchange for
no par value common stock in acquisitions of BioQuant
and PacificBiometrics, Inc. (PBI-WA) (2,835,556)
Common stock issued in connection with acquisition of
BioQuant 700,364 7,003
Net loss
-------------- ------------ ------------ ------------- ------------
Balance, June 30, 1996 1,739,215 17,392 0 0 0
Common stock issued for services 64,000 640
Stockholder loans converted to common stock 142,274 1,423
Common stock issued for cash 2,900 29
Initial Public Offering (IPO) 1,700,000 17,000
Underwriter commissions and IPO costs
Common stock issued upon exercise of stock options 57,133 571 0
Net loss
-------------- ------------ ------------ ------------- ------------
Balance, June 30, 1997 3,705,522 37,055 0 0 0
Preferred stock issued for cash 1,550,000 15,500
Cost of preferred stock issue
Common stock issued upon exercise of stock options 4,149 42 0
Net loss
Preferred stock dividends paid or accrued
Deemed preferred stock dividends
-------------- ------------ ------------ ------------- ------------
Balance, June 30,1998 3,709,671 $37,097 $0 1,550,000 $15,500
Common stock issued for services 100,500 1,005
Warrants issued related to financing agreements 0
Net loss
Preferred stock dividends paid or accrued
-------------- ------------ ------------ ------------- ------------
Balance, June 30,1999 3,810,171 $38,102 $0 1,550,000 $15,500
============== ============ ============ ============= ============
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-7
<PAGE>
PACIFIC BIOMETRICS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Period from Inception (December 1992) to June 30, 1999
<TABLE>
<CAPTION>
Deficit
Preferred Common Accumulated
Additional Additional during the
Paid-in Paid-in Development
Capital Capital Stage Total
------------- --------------- ---------------- ---------------
<S> <C> <C> <C> <C>
Common stock issued for cash at inception (December 1992) $494,881 $255,000
Cash received in satisfaction of subscription receivable 161,000
Net loss (199,455) (199,455)
------------- --------------- ---------------- ---------------
Balance, June 30, 1993 0 494,881 (199,455) 216,545
Common stock issued in connection with
purchase of technology license and services 54,987 0
Cash received in satisfaction of subscription receivable 122,578
Stockholder loans converted to equity 310,000 310,000
Common stock issued for cash 49,953 50,000
Net loss (732,874) (732,874)
------------- --------------- ---------------- ---------------
Balance, June 30, 1994 0 909,821 (932,329) (33,751)
Services provided in satisfaction of subscription receivable 16,978
Stockholder loans converted to equity 324,963 324,963
Common stock issued for services and loan guarantees 80,021 80,500
Common stock issued in connection with acquisition of
Pacific Biometrics, Inc. (a Washington corporation) 143,109 145,000
Common stock issued for cash 553,478 553,900
Conversion from $0.01 par value to no par value
common stock (2,011,392) 0
Net loss (1,664,190) (1,664,190)
------------- --------------- ---------------- ---------------
Balance, June 30, 1995 0 0 (2,596,519) (576,600)
Common stock issued for cash 360,000
Common stock issued for services 466,026
Issuance of $0.01 par value common stock in exchange for
no par value common stock in acquisitions of BioQuant
and PacificBiometrics, Inc. (PBI-WA) 2,835,556 0
Common stock issued in connection with acquisition of
BioQuant 5,919,997 5,927,000
Net loss (7,560,863) (7,560,863)
------------- --------------- ---------------- ---------------
Balance, June 30, 1996 0 8,755,553 (10,157,382) (1,384,437)
Common stock issued for services 220,160 220,800
Stockholder loans converted to common stock 489,422 490,845
Common stock issued for cash 9,976 10,005
Initial Public Offering (IPO) 8,058,000 8,075,000
Underwriter commissions and IPO costs (1,790,290) (1,790,290)
Common stock issued upon exercise of stock options 25,932 0 26,503
Net loss (1,577,229) (1,577,229)
------------- --------------- ---------------- ---------------
Balance, June 30, 1997 0 15,768,753 (11,734,611) 4,071,197
Preferred stock issued for cash 3,084,500 3,100,000
Cost of preferred stock issue (21,034) (21,034)
Common stock issued upon exercise of stock options 1,708 1,750
Net loss (4,611,836) (4,611,836)
Preferred stock dividends paid or accrued 53,648 (70,093) (16,445)
Deemed preferred stock dividends 1,937,500 (1,937,500) 0
------------- --------------- ---------------- ---------------
Balance, June 30,1998 $5,054,614 $13,762,868 ($16,346,447) $2,523,632
Common stock issued for services 78,309 79,314
Warrants issued related to financing agreements 49,447 49,447
Net loss (6,069,035) (6,069,035)
Preferred stock dividends paid or accrued (53,648) (248,000) (301,648)
------------- --------------- ---------------- ---------------
Balance, June 30,1999 $5,000,966 $13,642,624 ($22,415,482) ($3,718,290)
============= =============== ================ ===============
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-8
<PAGE>
PACIFIC BIOMETRICS, INC.
(a company in the development stage)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Basis of Presentation
Pacific Biometrics, Inc. ("PBI" or the "Company") is an early stage company
engaged in the development and commercialization of non-invasive diagnostics and
laboratory services to improve the detection and management of chronic diseases.
The Company has developed two patented platform technologies that permit the use
of sweat and saliva as diagnostic fluids. The Company also operates a specialty
reference laboratory, which supports the development and commercialization
process for PBI as well as other diagnostic and pharmaceutical manufacturers.
The Company was incorporated in Delaware in May 1996. The Company conducts its
business through its wholly owned subsidiaries, Pacific Biometrics, Inc., a
Washington corporation ("PBI-WA") and BioQuant, Inc., a Michigan corporation
("BioQuant"). On June 28, 1996, the Company completed the mergers (the
"Mergers") whereby BioQuant and PBI-WA became wholly owned subsidiaries of the
Company in separate stock-for-stock exchange transactions.
The Company's focus is to (i) finalize development and commercialize the
OsteoPatch(TM) (ii) evaluate the feasibility of non-invasive glucose testing
using SalivaSac(R) (iii) identify collaborative and strategic partners to
develop other applications for its platform technologies and (iv) expand its
specialty reference laboratory business.
Except for the revenues from laboratory services, all of the Company's potential
products are currently in research and development, and no revenues have been
generated to date. Consequently, the Company is a development stage enterprise.
The majority of the outstanding stock of PBI-Delaware, after the Mergers, was
owned by the former stockholders of PBI-WA and therefore the acquisition of
PBI-WA was accounted for as a reverse acquisition. The merger with BioQuant was
accounted for as a purchase transaction with PBI-WA as the acquirer of BioQuant.
Therefore, financial results of BioQuant prior to June 28, 1996 are not included
in the accompanying consolidated financial statements. All outstanding shares of
stock, options and warrants of PBI-WA and BioQuant were exchanged for similar
securities of PBI-Delaware.
All material intercompany balances and transactions have been eliminated in the
accompanying consolidated financial statements.
2. Summary of Significant Accounting Policies
Cash and Cash Equivalents
Cash and cash equivalents consist of highly liquid investments with an original
maturity of three months or less when purchased.
Inventory
Inventory consists of items used to calibrate test equipment or verify testing
methods related to lipids, inventory related to saliva collection devices and
OsteoPatch(TM) units. These items are recorded at the lower of estimated cost
(weighted-average) or market. All remaining inventory was written off in 1999.
Restricted Cash
During 1997, in connection with the signing of a new facility lease in Seattle,
Washington, the Company was required to maintain $100,000 as a security deposit,
throughout the term of the lease. During 1999 this amount was reduced to
F-9
<PAGE>
$75,453 and has been recorded as restricted cash on the accompanying
consolidated balance sheet.
Long -Lived Assets
Property and equipment are recorded at cost. Depreciation is provided using the
straight-line method over the useful lives of the related assets, which ranges
from three to five years. Leasehold improvements are amortized over the terms of
the respective leases. The cost and related accumulated depreciation of property
or equipment sold or otherwise disposed of are removed from the accounts and the
resulting gains or losses are included in the statement of operations.
All of the Company's long-lived assets are reviewed for impairment whenever
events or changes in circumstances indicate the carrying amount may not be
recovered. If the sum of the expected future cash flows is less than the
carrying amount of the asset, a loss is recognized. See also Note 13.
Technology Licenses
The Company had an exclusive worldwide license for the use of a transdermal
perspiration collection device for all medical diagnostic applications of
Sudormed's skin patch technology. In addition, the license allowed for the
development of all other potential applications of such technology, except for
those relating to alcohol and drugs of abuse. This new license agreement
replaced the Company's previous license agreement with Sudormed for the skin
patch technology, which was for the single application of measuring bone loss
markers in sweat, which is the basis for the Company's OsteoPatch(TM) system.
In exchange for the rights described above, the Company had agreed to pay
Sudormed approximately $3 million over a fifteen month period plus an ongoing
royalty payment based on the amount of sales of products developed under this
license. Such payments included a lump-sum payment of $1.6 million due in
December 1998. The Company is in default on this obligation (Note 15 and 16).
The Company has licensed exclusive rights, related to bone resorption in human
perspiration, to use patented anti-pyridinium crosslinks antibody technology
(this is an exclusive worldwide license excluding Japan). Licensing fees have
been recorded at cost and are being amortized over the estimated useful lives of
the agreement of four years. The amount charged to expense in connection with
amortizing these licensing fees was $593,543and $432,154 for the years ended
June 30, 1999 and 1998 respectively, and $1,188,187 for the period from
inception to date.
Advances from Customers
The Company receives advances from certain customers to perform consulting,
laboratory services, and clinical studies. These advances are deferred and
recognized as revenue in the period the related services are performed.
Income Taxes
Deferred tax assets and liabilities are recorded for differences between the
financial statement and tax bases of the assets and liabilities that will result
in taxable or deductible amounts in the future based on enacted tax laws and
rates applicable to the periods in which the differences are expected to affect
taxable income. Valuation allowances are established when necessary to reduce
deferred tax assets to the amount expected to be realized. Income tax expense is
recorded for the amount of income tax payable or refundable for the period
increased or decreased by the change in deferred tax assets and liabilities
during the period.
Financial Instruments
The carrying amounts of cash and cash equivalents, accounts receivable, accounts
payable and accrual liabilities approximate fair value due to the short-term
maturities of these instruments. The carrying value of the Company's debt
approximates their estimated fair values because the rates of interest on the
debt approximate current interest rates for similar obligations with like
maturities. The technology license payable is currently in default and the
ultimate
F-10
<PAGE>
repayment of this liability is uncertain. It is therefore impracticable for
management to estimate its fair value as of June 30, 1999.
Stock-Based Compensation
The Company accounts for stock-based employee compensation as prescribed by APB
Opinion No. 25, "Accounting for Stock Issued to Employees," and has adopted the
disclosure provisions of Statement of Financial Accounting Standards 123,
"Accounting for Stock-based Compensation" ("SFAS 123"). SFAS 123 requires pro
forma disclosures of net income and net income per share as if the fair value
based method of accounting for stock-based awards had been applied. Under the
fair value based method, compensation cost is recorded based on the value of the
award at the grant date and is recognized over the service period.
Revenue Recognition
The Company recognizes revenue in the period that the related services are
performed. Currently, the Company is in the development stage and derives
revenues from laboratory services.
Basic and Diluted Net Loss per share
Basic net loss per share is based upon the weighted average number of common
shares outstanding. Diluted net loss per share is based on the assumption that
options, warrants, and convertible preferred stock are included in the
calculation of diluted earnings per share, except when their effect would be
anti-dilutive. Dilution is computed by applying the treasury stock method. Under
this method, options and warrants are assumed to be exercised at the beginning
of the period (or at the time of issuance, if later), and as if funds obtained
thereby were used to purchase common stock at the average market price during
the period.
Use of Estimates
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements, and
the reported amounts of revenues and expenses during the reporting period.
Accordingly, actual results could differ from those estimates and assumptions.
Reclassifications
Certain reclassifications have been made to the consolidated statement of
operations for 1998 and for the period from inception to date in order to
conform to the 1999 presentation.
Risks and Uncertainties
The Company's products require approvals from the Food and Drug Administration
(FDA) and international regulatory agencies prior to commercialized sales. There
can be no assurance that the Company's products will receive any of the required
approvals. If the Company is denied such approvals or if such approvals are
delayed, it would have a material adverse effect on the Company.
F-11
<PAGE>
3. Going Concern
The Company has experienced recurring losses from operations and cash flow
shortages, and has reported deficiencies in working capital and stockholders'
equity. Also the Company has significant amounts of debt past due. These matters
raise substantial doubt about the Company's ability to continue as a going
concern.
Management has taken the following steps to revise its operating and financial
requirements, which it believes are sufficient to provide the company with the
ability to continue in existence. These steps include significant reductions in
expenses and staffing, suspension of research and development projects,
renegotiations of contractual commitments and a proposed sale of the Company's
laboratory (see note 16).
Even if the Company is able to sell the laboratory operations, the Company will
still have various debts and claims that need to be settled. The Company will
attempt to settle these debts with cash, stock, and technology assets. There can
be no assurance that the Company will be successful in these negotiations and
may have to seek protection from creditors under the bankruptcy laws.
4. Concentration of Credit Risk
Two customers individually accounted for approximately 20 percent of the
Company's total sales in fiscal 1999. Two customers individually accounted for
approximately 33 percent of the Company's total sales in fiscal 1998. Sales to
the Company's five largest customers represented approximately 43 percent and 67
percent of total sales in fiscal 1999 and fiscal 1998, respectively. The Company
reviews a customer's credit history before extending credit, and generally does
not require collateral from customers. The Company establishes allowances for
doubtful accounts when management believes the Company is exposed to credit
risk.
5. Property and Equipment
Property and equipment consists of the following at June 30, 1999:
<TABLE>
<S> <C>
Laboratory equipment............................................................. $ 163,146
Computer equipment............................................................... 145,445
Office furniture and equipment................................................... 74,213
Leasehold improvements........................................................... 31,614
Equipment held under capital leases.............................................. 567,013
--------
Gross property and equipment..................................................... 981,432
Less accumulated depreciation and amortization................................... (535,145)
--------
Net property and equipment....................................................... $446,286
========
</TABLE>
6. Capital Leases
The Company leases laboratory and other equipment under capital lease
arrangements. The obligations under capital leases have interest rates ranging
from 8% to 9% and mature at various dates through 2003. Annual future minimum
lease payments for years subsequent to June 30, 1999 are as follows:
2000 $ 348,894
2001 93,341
2002 30,829
2003 10,651
----------------
Total minimum payments 483,715
Less amount representing interest ( 54,687)
----------------
Obligations under capital leases 429,028
Less current portion (329,142)
----------------
Long term portion $ 99,886
================
F-12
<PAGE>
In April 1997, the Company entered into a capital equipment leasing facility
with Transamerica Business Credit Corporation to provide credit for equipment
purchases up to $1,500,000. The Company issued 51,429 warrants to Transamerica
as part of this agreement (Note 11). The Company received gross proceeds of
$376,808 under the agreement during fiscal 1997 and received gross proceeds of
$329,154 during fiscal 1998. The Company is required to raise additional capital
in order to draw additional funding from this arrangement.
The Company has not made all required payments under the facility and has
continued to negotiate forbearance agreements with Transamerica Business Credit
related to payments due on capital leases. In exchange for the first forbearance
agreement the 51,429 warrants were repriced to $0.50 per share in December 1998.
In exchange for the most recent Forbearance Agreement the Company repriced
warrants previously issued to Transamerica, has granted Transamerica additional
warrants and a lien position on assets of the Company. This Forbearance
Agreement expired on September 30, 1999 and was extended again through December
31, 1999 in exchange for 150,508 additional warrants. Although the Forbearance
Agreement has expired, Transamerica has not taken action to collect the amounts
due, which approximates $450,000.
7. Financing
Line of Credit
In March 1998, the Company and its subsidiaries entered into a Loan and Security
Agreement (the "Loan Agreement") relating to a $1 million term loan (the "Loan")
with Silicon Valley Bank (the "Bank"). The Company issued 15,094 warrants to the
Bank as part of this agreement. The Company must comply with certain minimum
financial standards and ratios, including a minimum stated net worth and a
liquidity coverage ratio, and other non-financial restrictions, including
restrictions on the Company's ability to declare dividends. The Company was not
in compliance with certain of such financial ratios at June 30, 1998. The
Company did not draw down any amounts under the Loan and the Loan Agreement was
terminated during fiscal 1999.
In April of 1999 the Company and its subsidiaries entered into a Accounts
Receivable Factoring Agreement (the "Factoring Agreement") with Silicon Valley
Bank (the "Bank"). The Company issued 93,024 warrants to the Bank as part of
this agreement. The Company has been factoring the majority of the accounts
receivable from laboratory operations to provide the Company with working
capital to meet laboratory operations obligations and to maintain minimal
corporate operations.
Equity Financing
The Company extended the 1,700,000 warrants issued in conjunction with the
Company's initial public offering of its securities to June 30, 1999, from their
previous expiration date of January 31, 1998; the exercise price of $12.00
remained the same. Such warrants expired by their terms as of June 30, 1999.
On February 20, 1998, the Company consummated the sale of 925,000 shares of
Series A Convertible Preferred Stock (the "Preferred Stock") with an
institutional investor for an aggregate purchase price of $1,850,000. In
addition, the Company granted such institutional investor an option (the
"Option") to purchase an additional 625,000 shares of Preferred Stock until May
20, 1998 for an exercise price of $1,250,000. The Option was exercised in full
during May 1998. The Preferred Stock is convertible into shares of the Company's
Common Stock at the option of the holder at any time on a one-for-one basis,
subject to adjustment for stock splits, dividends and the like. The Preferred
Stock provides for a cumulative cash dividend payable quarterly in arrears at an
annual rate of 8%. The Company has the right to force conversion of the
Preferred Stock in the event the price per share of the Common Stock is $8.00 or
more for twenty consecutive trading days. The Company has agreed to use
commercially reasonable efforts to effect the registration of the Common Stock
into which the Preferred Stock is convertible. The Company is not current on
dividend payments and, as of June 30, 1999 approximately $166,000 in dividends
have accrued. See Note 12 for calculation of beneficial conversion and imputed
preferred stock dividend.
F-13
<PAGE>
Technology License Payable
As described in Note 2, the Company acquired worldwide license rights from
Sudormed in exchange for a non-interest bearing note payable of approximately
$2,829,000 which was recorded net of a discount of approximately $222,000. The
Company is in default of this obligation and at June 30, 1999, the Company has
an outstanding balance of $2,244,040, which is presented as a technology license
payable on the accompanying balance sheet. The Minnesota Mining and
Manufacturing Company (3M), as a party in possession of secured property, has
not informed the Company of its plans for the Sudormed assets. This includes the
SkinPatch(TM) technology rights, which are part of the Company's OsteoPatch(TM)
product. The Company had sought to reestablish certain rights to this technology
in order to create additional value for the Company's other intellectual
property related to the OsteoPatch. Without an agreement with 3M, the Company's
OsteoPatch assets may not have any value and the Company expensed all of these
assets in March 1999. In May 2000, 3M notified the Company that, in its capacity
as a secured party in possession of the Sudormed assets, it demands payment in
full of the $1.6 million plus accrued interest and fees due and owing under the
License Agreement between the Company and Sudormed. The Company and 3M are
seeking to settle this claim. 3M has objected to the laboratory sale transaction
that is proceeding with Saigene (see Note 16). Although the Company disputes
3M's claim, 3M may seek to enforce its rights through legal process. The Company
is not certain of the impact of 3M's demand on the proposed transaction with
Saigene or what legal rights may be asserted by 3M to protect its claim. If 3M
should be successful in blocking the proposed sale of the laboratory, or
commences a legal action against the Company, the Company may have no
alternative than to seek protection from creditors under the bankruptcy laws.
8. Income Taxes
No provision for federal and state income taxes has been recorded as the Company
has incurred net operating losses through June 30, 1999. At June 30, 1999, the
Company has net operating loss carryforwards available to offset future taxable
income for federal and state income tax purposes of approximately $17.3 million;
such carryforwards expire in various years through 2019. Deferred tax assets
include these net operating loss carryforwards as well as certain expenses that
are reported for book and tax purposes in different periods. The Company has
provided a valuation allowance to offset all deferred tax assets due to the
uncertainty of realization.
Under the Tax Reform Act of 1986, the amounts of and benefits from the Company's
net operating loss carryforwards are limited due to a cumulative ownership
change that occurred over a three year period. However, based upon preliminary
estimates, management believes that the effect of such limitation will not have
a material adverse effect on its financial condition or results of operations.
9. Supplementary Information on Noncash Transactions
Equipment Purchased Under Capital Lease
Year Equipment Value
---- ---------------
1996 $ 28,006
1997 477,428
1998 370,888
1999 14,998
---- ---------
From inception to June 30, 1999 $ 891,320
=========
Stockholder Loans Converted to Equity
During 1997, certain of the Company's stockholders converted their loans to the
Company for 142,274 shares of the Company's common stock, valued at $3.45 per
share. The amount converted was $490,845, including accrued interest of $30,845.
For the period from inception to June 30, 1997, a total of $1,125,808 in
stockholder loans have been converted to equity.
F-14
<PAGE>
Common Stock Issued for Technology License, Services and Loan Guarantees
The Company has issued common stock for technology licenses, services and loan
guarantees as follows:
<TABLE>
<CAPTION>
Year Issued Number of Shares Estimated Fair Value
----------- ---------------- --------------------
<S> <C> <C>
1994 62,561 $ 55,556
1995 47,867 80,500
1996 135,080 466,026
1997 64,000 220,800
1998 0 0
1999 100,500 79,314
---- ------- ---------
For the period from inception to June 30, 1999 410,008 $ 902,196
======= =========
</TABLE>
Common Stock Issued in Connection with Acquisitions
In 1996, the Company acquired BioQuant through an exchange of common stock as
described in Note 1. The Company issued 700,364 shares of common stock to the
stockholders of BioQuant in connection with this acquisition.
Acquisition of Technology License
During 1998, as described in Notes 2 and 6, the Company acquired worldwide
license rights from Sudormed in exchange for a non-interest bearing note payable
of approximately $2,829,000 which was recorded net of a discount of
approximately $222,000.
10. Stock Option Plans
1996 Stock Incentive Plan
In July 1996, the Company adopted a Stock Incentive Plan (the "Plan") with
1,000,000 shares of common stock reserved for issuance under this Plan. In
November 1997, the shareholders approved that the number of shares reserved for
issuance would be increased to 2,000,000. Options granted under this plan may be
either incentive stock options within the meaning of Section 422(b) of the
Internal Revenue Code, or nonqualified options. The Company may also award stock
appreciation rights, restricted stock, performance shares, loans or tax offset
payments. The option price of each incentive stock option granted shall not be
less than the fair value of the underlying common stock, and will expire no
later than ten years following the date of grant. With respect to nonqualified
options, the exercise price and term will be determined at the discretion of the
Board. However, the exercise price will not be less than 85% of the fair value
of the underlying stock, and the term will not exceed a period of ten years. The
options generally vest over five years.
In connection with the BioQuant merger, all outstanding options to purchase
BioQuant shares became fully vested and were converted to 491,535 options to
purchase shares of the Company's common stock. The following is a summary of the
activity in the Plan for the period from inception:
F-15
<PAGE>
<TABLE>
<CAPTION>
Shares Under Options
Weighted Average
Exercise Price Exercise Price
per Share per Share Shares
--------- --------- ------
<S> <C> <C> <C>
Conversion of BioQuant options $0.13 - $0.63 $0.27 491,535
Granted - - -
Exercised - - -
Terminated
------------- --------- -----------
Options outstanding at June 30, 1996 $0.13 - $0.63 $0.27 491,535
Granted $2.38 - $5.00 $3.69 761,908
Exercised $0.13 - $0.63 $0.54 (57,133)
Terminated $ 4.75 $4.75 (5,000)
------------- --------- -----------
Options outstanding at June 30, 1997 $0.13 - $5.00 $2.42 1,191,310
============= ========= ==========
Granted $2.66 - $3.50 $3.27 313,900
Exercised $0.42 $0.42 (4,149)
Terminated $0.63 - $4.75 $2.80 (13,607)
------------- --------- -----------
Options outstanding at June 30, 1998 $0.13 - $5.00 $2.60 1,487,454
============= ========= ==========
Granted $1.62 - $0.25 $0.29 252,599
Exercised $0.00 $0.00 0
Terminated $0.42 - $5.00 $2.73 (111,109)
------------- --------- -----------
Options outstanding at June 30, 1999 $0.13 - $5.00 $2.24 1,628,944
============= ========= ==========
</TABLE>
The weighted average contractual life remaining of options outstanding at June
30, 1999 is approximately 3 years. The following information applies to options
outstanding at June 30, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------- -------------------
Weighted
average Weighted Weighted
Range of remaining average average
exercise Number contractual exercise Number exercise
Prices outstanding life (years) price exercisable price
------ ----------- ------------ ----- ----------- --------
<S> <C> <C> <C> <C> <C>
$0.13-$0.13 310,869 4 $0.13 310,869 $0.13
$0.25-$0.69 340,789 5 $0.34 95,789 $0.56
$1.63-$3.50 773,873 3 $3.37 522,500 $3.37
$3.59-$5.00 203,413 2 $4.33 144,413 $4.51
--------- --------- ---------
1,628,944 1,073,571 $2.21
========= ========= =====
</TABLE>
Stock-Based Compensation
The Company has adopted the disclosure-only provisions of SFAS No. 123. Had
compensation cost been determined based on the fair value of stock options
granted in 1999 and 1998 in a manner consistent with the method promulgated by
SFAS No. 123, the Company's net loss and loss per share would have been
increased to the pro forma amounts below:
F-16
<PAGE>
For the Years Ended June 30,
----------------------------
1999 1998
---- ----
Net loss:
As reported $(6,069,035) $ (4,611,836)
Pro forma $(6,567,087) $ (5,180,379)
Loss per share:
As reported $ (1.69) $ (1.79)
Pro forma $ (1.82) $ (1.94)
The fair value of each option grant was estimated on the date of the grant using
the Black-Scholes option pricing model. The assumptions used for the
Black-Scholes computation for the years ended June 30, 1998 and 1999 are as
follows: the risk-free interest rate was the U.S. Treasury Bond rate for the
corresponding grant date ranging from 5.97% to 5.81% in 1998 and 1999; the
exercise price is equal to the fair market value of the underlying stock at the
grant date; the expected life of the option is the term to expiration, ranging
from 1-10 years; volatility is 93.5% in 1998 and 236% in 1999; and the common
stock will pay no dividends.
11. Stock Purchase Warrants
In connection with the BioQuant merger, outstanding warrants to purchase
BioQuant shares were converted to 74,083 warrants to purchase shares of the
Company's common stock at a price of $4.22.
In connection with Bridge Loans completed by the Company during June and July
1996, the Company issued 300,000 warrants. Each warrant entitled the holder to
purchase a share of the Company's common stock for $5.70 and were exercisable
until April 30, 1998, and have expired. No discount was recorded for the value
of the warrants because the amount was not material.
In October 1996, as a part of the IPO, 1,700,000 redeemable warrants were
issued. Each warrant entitles the holder to purchase one share of common stock
at an exercise price of $12.00. The warrants expired on June 30, 1999.
Also in conjunction with the IPO, the Company issued a warrant to the
underwriters to purchase 170,000 shares of common stock at an exercise price of
$5.70 per share, exercisable over a four-year period commencing October 30,
1997.
During 1997, the Company issued 51,429 warrants to an institutional lender in
conjunction with a capital equipment leasing facility (Note 6). Each warrant
entitles the holder to purchase one share of the Company's common stock at an
exercise price of $2.63. In March of 1999 the Company reduced the exercise
price to $0.50 as part of a debt forebearance agreement. The Company's stock has
not closed at an amount greater than $.50 per share since the repricing date.
The warrants expire on March 13, 2004. No discount was recorded for the value of
the warrants because the amount was not material.
In March 1998, Silicon Valley Bank was issued 15,094 warrants in conjunction
with a credit agreement (Note 6). Each warrant entitles the holder to purchase
one share of the Company's common stock at an exercise price of $3.31. The
warrants expire on March 13, 2004. No discount was recorded for the value of the
warrants because the amount was not material.
In February 1998, the Company issued 100,000 warrants to the principals of
Sudormed in conjunction with the technology license agreement (Note 2). Each
warrant entitles the holder to purchase one share of the Company's common stock
at an exercise price of $3.10. The warrants expire on February 10, 2003.
In January of 1999, the principals of the landlord of the Company's Lake Forest
facility advanced the Company $15,000 and received 45,000 warrants related to
the advance. A discount of 23,400 was recorded for the value of the warrants.
F-17
<PAGE>
In March of 1999, Silicon Valley Bank was issued 93,024 warrants in conjunction
with a credit agreement (Note 7). Each warrant entitles the holder to purchase
one share of the Company's common stock at an exercise price of $0.27. The
warrants expire on March 13, 2004. A discount of $26,047 was recorded for the
value of the warrants.
In August 1999, the Company issued 150,508 warrants to an institutional lender
as part of a debt forbearance agreement. Each warrant entitles the holder to
purchase one share of the Company's common stock at an exercise price of $0.09.
Also in August of 1999 the Company reduced the exercise price to $0.09 on 51,429
previously issued warrants as part of the debt forbearance agreement. The
warrants expire on March 13, 2004. The following is a summary of the activity
for the period from inception:
<TABLE>
<CAPTION>
Warrants Under Options
Weighted Average
Exercise Price Exercise Price
per Share per Share Shares
--------- --------- ------
<S> <C> <C> <C>
Conversion of BioQuant warrants $4.22 $4.22 74,083
Granted $5.70 $5.70 50,000
Exercised - - -
Terminated - - -
------------- ------ -----------
Warrants outstanding at June 30, 1996 $4.81 $4.81 124,083
Granted $2.63 - $12.00 $10.56 2,171,429
Exercised - - -
Terminated - - -
------------- ------ -----------
Warrants outstanding at June 30, 1997 $2.63 - $12.00 $10.25 2,295,512
Granted $3.10 - $3.31 $3.13 115,094
Exercised - - -
Terminated $5.70 $5.70 (300,000)
------------- ------ -----------
Warrants outstanding at June 30, 1998 $2.63 - $12.00 $10.51 2,110,606
Granted $0.34 - $0.27 $0.29 138,024
Repriced - Old Price $2.63 $2.63 (51,429)
Repriced - New Price $0.50 $0.50 51,429
Exercised - - -
Terminated $12.00 $12.00 (1,700,000)
------------- ------ -----------
Warrants outstanding at June 30, 1999 $0.27 - $5.70 $3.11 548,630
============== ====== ===========
Warrants exercisable at June 30, 1999 $0.27 - $5.70 $3.11 548,630
============== ====== ===========
</TABLE>
12. Earnings Per Share
As the Company had a net loss from continuing operations for 1999, 1998 and for
the period from inception to June 30, 1999, basic and diluted net loss per share
are the same.
Net loss applicable to common stockholders includes $248,000 and $70,093 in
cumulative dividends on the convertible preferred stock during the years ended
June 30, 1999 and 1998, and $1,937,500 for the non-cash imputed dividend related
to the beneficial conversion feature on the convertible preferred stock and
preferred stock option. The beneficial
F-18
<PAGE>
conversion feature is computed as the difference between the quoted market price
of a share of common stock on date of issue and the conversion price times all
shares of preferred stock sold and under option. The imputed dividends are a
non-cash one-time charge based on the immediate conversion feature.
Basic and diluted loss per common share for 1999 and 1998 were calculated as
follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Net Loss $ (6,069,035) $ (4,611,836)
Preferred Stock cumulative
dividend ( 248,000) ( 70,093)
Imputed dividend on Preferred
Stock issued - (1,156,250)
Imputed dividend on Preferred
Stock Option Granted - ( 781,250)
------------ ------------
Net Loss available to common
shareholders $ (6,317,035) $ (6,619,428)
============ ============
Basic and diluted
loss per share $ (1.69) $ (1.79)
============ ============
Weighted average number of
shares outstanding, basic and
diluted 3,735,003 3,707,807
============ ============
</TABLE>
13. Commitments and Contingencies
Operating Leases
The Company has entered into non-cancelable operating leases for office
facilities. Under these leases, the Company is responsible for its proportionate
share of real estate taxes, insurance and common area maintenance costs. Rent
expense was $492,491 and $289,032 for the years ended June 30, 1999 and 1998,
respectively, and $1,341,977 for the period from inception to June 30, 1999.
Future minimum lease payments are as follows:
Year Ended June 30,
-------------------
2000 242,745
2001 246,500
2002 250,205
2003 253,910
2004 257,615
Thereafter 770,967
---------
2,021,992
=========
Employment and Noncompetition Agreements
The Company has entered into employment and noncompetition agreements with four
executives. These agreements expired during fiscal 1999. In July, 1998 an
executive, who is covered by such agreements resigned. The Company estimates it
will incur a severance liability of approximately $102,000 of which $45,000 is
unpaid as of June 30, 1999.
F-19
<PAGE>
Legal Proceedings
On September 24, 1997 the Company received from the former manufacturer of
SPINPRO(R) a demand for arbitration in connection with alleged breaches of the
contract relating to the manufacture of SPINPRO(R). The former manufacturer is
seeking damages of approximately $515,000. The Company does not believe that the
claims have any merit and believes that the ultimate outcome of this proceeding
will not have a material impact on the Company. The Company is vigorously
contesting such claims and has filed counterclaims against the former
manufacturer. The Company has also filed for arbitration against a former vendor
relating to SPINPRO(R), seeking damages for alleged breach of contract with
respect to the manufacture of molds for SPINPRO(R) parts.
The landlord of the Company's previous office and laboratory space in Lake
Forest, California was proceeding against the Company to cancel the lease. The
landlord has obtained a judgment against the Company from Orange County Superior
Court for approximately $150,000 related to the default on the lease. In
addition, liabilities continue to accrue at about $13,000 per month until the
space is leased. The total liability to the Company is estimated to be
approximately $350,000. The Company has been advised by Saigene that Saigene has
purchased from the landlord of the Lake Forest property, for the sum of
$350,000, the rights to all claims and judgments rendered against the Company
related to its default on the Lake Forest lease, subject to the sale of the
Company's laboratory assets to Saigene. However, it is unclear whether or not
Saigene may re-assign such rights to the landlord if the sale of the laboratory
assets to Saigene is not completed. In any event, Saigene, under the terms of
the Amendment (See Note 16), has agreed that Saigene will be responsible for
satisfaction of such judgment and, therefore, the Company would be entitled to
seek recovery from Saigene for any costs or liabilities as a result of Saigene's
failure to satisfy such claim.
14. Related Party Transactions
The Company has entered into deferred compensation agreement with four of its
senior executives. The agreements provide that a specified portion of their
salaries be deferred until they elect to receive the deferred amount. There was
no deferred compensation incurred for the year ended June 30, 1998. Deferred
compensation expense in connection with these agreements was $198,583 for the
year ended June 30, 1999 and $262,996 for the period from inception to June 30,
1999. In 1997, the liability for deferred compensation of $64,413 was converted
to a promissory note bearing annual interest at 7% and is payable on demand. In
1999, the liability for deferred compensation of $198,583 was converted to a
promissory note bearing annual interest at 7% and is payable on demand. This
obligation is included with notes payable to related parties on the accompanying
consolidated balance sheet. The Company has not made any interest payments since
September of 1998.
The Company had entered into a contract for management and consulting services
with a company owned by certain of the Company's stockholders. The Company
incurred $186,000 for management and consulting services provided during the
year ended June 30, 1996 and $300,098 for the period from inception to June 30,
1999. The liability for management consulting services under the contract of
$187,000 was converted in 1997 to a promissory note bearing annual interest at
7% and is payable on demand. This obligation is included with notes payable to
related parties on the accompanying consolidated balance sheet. The management
contract was terminated effective June 28, 1996.
The Company paid $21,717 and $41,349 to related parties for reimbursement of
expenses during the year ended June 30, 1999 and 1998, respectively, and
$146,653 for the period from inception to June 30, 1999.
15. Impairment of Long-Lived Assets
During 1997, the Company received notification of the termination of its
manufacturing agreement with a third party related to the information of the
SPINPRO(R) product. As a result of this termination, the Company had reimbursed
the third party for the value of molds and production equipment through the form
of a capital equipment leasing facility (Note 5). As of June 30, 1997, the
remaining inventory, molds and production equipment had been relocated to a
storage facility.
At June 30, 1998, the Company determined that it was not feasible to continue
the production of the SPINPRO(R) product and that amounts, if any, from the
disposition of the related asset would not be significant. Therefore, the
F-20
<PAGE>
Company has recorded an impairment loss for the net book value of the related
asset of $126,000 which is included in "Grant and other income and expense" in
the Consolidated Statements of Operations.
The Minnesota Mining and Manufacturing Company (3M), as a party in possession of
secured property, has not informed the Company of its plans for the Sudormed
assets. This includes the SkinPatch(TM) technology rights, which are part of the
Company's OsteoPatch(TM) product. The Company had sought to reestablish certain
rights to this technology in order to create additional value for the Company's
other intellectual property related to the OsteoPatch. Without an agreement with
3M, the Company's OsteoPatch assets may not have any value and the Company
expensed all of these assets in March 1999. The amount of the write down was
$2,078,000 (see Note 6).
16. Subsequent Events
In May 2000, 3M notified the Company that, in its capacity as a secured party in
possession of the Sudormed assets, it demands payment in full of the $1.6
million plus accrued interest and fees due owing under the License Agreement
between the Company and Sudormed. 3M is seeking to settle this claim or seek a
judgment in a court of law and has objected to the laboratory sale transaction
that is proceeding with Saigene. The Company disputes 3M's claim and intends to
defend itself in this matter. If 3M should be successful in blocking the
proposed sale of the laboratory, or commences a legal action against the
Company, the Company may have no alternative than to seek protection from
creditors under the bankruptcy laws.
In August of 1999, the Company announced the signing of a Letter of Intent to
sell its Seattle laboratory business and assets to Saigene Corporation, a
privately held company located in Redmond, Washington. Substantially all of the
Company's fixed assets and all of the Company's accounts receivable will be
sold. In September 1999, the Company signed a Mangement Agreement with Saigene
giving them operational control over the laboratory. In May 2000, the Company
announced the signing of a Contract with Saigene Corporation to sell to Saigene
all of the business and assets of the Company's Seattle laboratory for a total
consideration of $4,000,000. Stockholder approval will be required to complete
this transaction. The purchase price is comprised of the following: 1) $200,000
already advanced to support the operation of the laboratory under a Management
Agreement with Saigene dated September 15, 1999; 2) The assumption of
approximately $1,200,000 in debt; 3) $700,000 in cash; and, 4) A promissory note
in connection with the redemption of $1,900,000 of Series A Convertible
Preferred Stock. The Series A Preferred Stock will be returned to the Company.
These amounts are subject to adjustment upon audit of funds advanced and the May
31, 2000 balance sheet of the laboratory operation. The cash portion of the
purchase is payable as follows: 1) $50,000 which was paid upon signing; 2)
$350,000 paid on June 15, 2000; and, 3) $300,000 placed into escrow on June 15,
2000 to be paid to the Company upon stockholder approval. The assumption of debt
in the amount of $1,200,000 includes: $350,000 to settle the debt with the
landlord of the Company's Lake Forest, California office and laboratory
facility; $400,000 of equipment lease financing obligations with Transamerica;
$140,000 of additional equipment leases; and accrued expenses and accounts
payable of the laboratory.
On June 26, 2000, the Company announced that Saigene failed to make the cash
payment of approximately $650,000 due on June 15, 2000 under the Purchase
Agreement, that Saigene requested an extension of time in order to comply.
Accordingly, and that the Purchase Agreement was amended on June 22, 2000 (the
"Amendment"). The Amendment extends the Closing Date of the Purchase Agreement
from June 15, 2000 to August 15, 2000 and Saigene is required to pay $150,000 of
the purchase price on or before July 15, 2000. The balance of cash and escrow
payments and all other consideration due originally on June 15 will be due on
August 15, 2000. In exchange for this extension, Saigene has agreed (i) to waive
all financial claims against the Company for funds advanced under the Management
Agreement and forfeit all monies paid under the Purchase Agreement and (ii) to
be responsible for all liabilities previously assumed by Saigene or agreed to be
assumed by Saigene including the debt to the Company's Lake Forest, California
landlord in the event that Saigene fails to make cash payments due on July 15 or
August 15, 2000. There can be no assurance that Saigene will be able to complete
the Purchase Agreement as amended or consummate the transactions contemplated
therein. Failure to complete this transaction would return operational control
of the laboratory to the Company.
Saigene failed to make the required $150,000 payment due on July 15, 2000 and
informed the Company that they would not be able to close the laboratory sale
until October 15, 2000. Saigene paid $75,000 on July 19, 2000 and is in default
on the Purchase Agreement and the Amendment. The Company is attempting to
negotiate a new contract amendment with Saigene that provides Saigene with
additional time to raise the money necessary to close the laboratory purchase
F-21
<PAGE>
while compensating the Company for the delays in a manner that is acceptable to
both parties. There can be no assurance that the negotiations will lead to an
acceptable contract amendment. In the event that the Purchase Agreement is
terminated, the Company will retain all funds received thereunder, will not be
obligated to pay the judgment to the California landlord, and will take over
operations of the laboratory. It is likely that the Company would then seek
another buyer for the laboratory. There can be no assurance that a buyer can be
found. Failure to find a buyer for the laboratory in a timely manner may require
the Company to seek protection from its creditors under the bankruptcy laws
since it is unlikely that the laboratory operations will provide sufficient
positive cash flow to satisfy the Company's obligations to its creditors.
F-22
<PAGE>
Signatures
In accordance with section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
Dated: July 28, 2000 Pacific Biometrics, Inc.
By /s/ Paul G. Kanan
-----------------------------------
Paul G. Kanan, President and Chief
Executive Officer
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and dates.
<TABLE>
<S> <C> <C>
/s/ Paul G. Kanan
----------------------------- President, Chief Executive Dated: July 28, 2000
Paul G. Kanan Officer and Director (principal
executive officer)
/s/ Paul G. Kanan
----------------------------- Vice President, Chief Financial Dated: July 28, 2000
Paul G. Kanan Officer and Accounting Officer
and Secretary
(principal financial officer)
/s/ Paul G. Kanan
----------------------------- Chairman of the Board Dated: July 28, 2000
Paul G. Kanan
/s/ Terry M. Giles
----------------------------- Director Dated: July 28, 2000
Terry M. Giles
</TABLE>
<PAGE>
Index of Exhibits
-----------------
<TABLE>
<S> <C>
1.1 -- Revised Form of Underwriting Agreement.*
3.1 -- Certificate of Incorporation of the Registrant.*
3.2 -- Amended and Restated By-Laws of the Registrant.*
4.1 -- Specimen Stock Certificate.*
4.2 -- Specimen Warrant Certificate.*
4.3 -- Form of Warrant Agreement.*
4.4 -- Revised Form of Underwriter's Purchase Warrant.*
10.1 -- License Agreement, dated December 31, 1992, by and between Sudor Partners and CEO Advisors, Inc.*
10.2 -- Amendment No. 1 To License Agreement, dated August 6, 1993 by and between Sudor Partners and CEO
Advisors, Inc.*
10.3 -- Supply Agreement, dated August 6, 1993, by and between Sudormed, Inc. and CEO Advisors, Inc.*
10.4 -- Assignment of License and Supply Agreements--Consent, dated September 7, 1993, October 7, 1993 and
October 11, 1993, by and between CEO Advisors, Inc. and BioQuant, Inc.*
10.5 -- License Agreement, dated February 15, 1995, by and between Metra and BioQuant.*, **
10.6 -- Development Agreement, dated October 4, 1995, by and between BioQuant and Assay Designs.*
10.7 -- Agreement, dated October 26, 1995, by and between PBI-WA and Sigma Diagnostics.*
10.8 -- Manufacturing Agreement, dated March 1, 1996, by and between Merchant House Scientific and Irvine
Scientific.*
10.9 -- Agreement and Plan of Merger, dated May 15, 1996, by and among BioQuant, Inc., Pacific Biometrics Inc.
and BioQuant-Acquisition, Inc.*
10.10 -- Agreement and Plan of Merger, dated May 15, 1996, by and among Pacific Biometrics, Inc. (Washington),
Pacific Biometrics, Inc. (Delaware), and PBI-Acquisition, Inc.*
10.11 -- Office Lease, dated January 15, 1990, by and between Bruce M. and Ann Stever Blume and Pacific
Biometrics, Inc.*
10.12 -- Amendment No. 1 to Lease Agreement, dated June 15, 1992, by and between Blume 1100 Limited Partnership
and Pacific Biometrics, Inc.*
10.13 -- Office Lease, dated August 13, 1992, by and between Blume 1100 Limited Partnership and Drake Mortgage.*
10.14 -- Assignment of Lease, dated November 30, 1993, by and between Pacific Biometrics, Inc. and Columbia First
Service, Inc.*
10.15 -- Standard Form Lease, dated May 23, 1993, by and between Merchant House Scientific and Harris Trust and
Savings Bank.*
10.16 -- First Amendment to Lease, dated July 11, 1996, by and between Bank of New York, as directed Trustee for
Unisys Master Trust and Registrant.*
10.17 -- Stock Incentive Plan.*
10.18 -- Employment Agreement, dated October 14, 1996, by and between Registrant and Ellen A. Rudnick.*
10.19 -- Employment Agreement, dated October 14, 1996 by and between Registrant and Paul G. Kanan.*
10.20 -- Employment Agreement, dated October 23, 1996 by and between Registrant and G. Russell Warnick.*
10.21 -- Employment Agreement, dated October 22, 1996 by and between Registrant and Elizabeth Teng Leary, Ph.D.*
10.22 -- Clinical Laboratory Agreement, dated March 8, 1995, by and between Warner-Lambert Company and
Registrant.*
10.23 -- Clinical Laboratory Agreement, dated March 7, 1996 by and between Parke-Davis Pharmaceutical Research
and Registrant.*
10.24 -- Clinical Laboratory Agreement, dated March 7, 1996, by and between Parke-Davis Pharmaceutical
Research and Registrant.*
10.25 -- Office Lease, dated April 23, 1997, by and between Tom Kane and Elsa Kane and Pacific Biometrics, Inc.***
10.26 -- Technical Development and License Agreement, dated December 8, 1997, by and between ActiMed
Laboratories, Inc., a Delaware corporation, and the Company. ****
10.27 -- Amended and Restated License Agreement, dated December 30, 1997, by and among Sudormed, Inc., a
California corporation, William R. Miller, Donald W. Schoendorfer and the Company. ****
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10.28 -- Amended and Restated License Agreement, dated December 30, 1997, by and between Sudormed, Inc.
and the Company.****
10.29 -- Lease dated January 5, 1998 between the Company and Makena Commercentre II, LLC with respect to the Company's
office at 25651 Atlantic Ocean Drive, A1-A, Lake Forest, California, 92630.*****
21.1 -- Subsidiaries.*
25.1 -- Powers of Attorney appear on the signature page in Part II of the Registration Statement filed on
September 6, 1996.*
27.1 -- Financial Data Schedule.
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* Incorporated by reference to Exhibits of Registrant's Registration
Statement on Form SB-2, Registration No. 333-11551
** Portions of this document have been deleted pursuant to a request for
confidential treatment.
*** Incorporated by reference to Exhibits of Registrant's Annual Report on
Form 10-KSB for the fiscal year ended June 30, 1997
**** Incorporated by reference to Exhibits of Registrant's Quarterly Report on
Form 10QSB for the quarter ended December 31, 1997.
***** Incorporated by reference to Exhibits of Registrant's Quarterly Report on
Form 10QSB for the quarter ended March 31, 1998.
