<PAGE> 1
This filing is made pursuant
to Rule 424(b)(1) under
the Securities Act of
1933 in connection with
Registration No. 333-30896
5,000,000 SHARES
[VIROLOGIC LOGO]
COMMON STOCK
$7.00 PER SHARE
- --------------------------------------------------------------------------------
This is an initial public offering of common stock of ViroLogic, Inc.
Our common stock has been approved for listing on the Nasdaq National Market
under the symbol "VLGC."
INVESTING IN THE COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" BEGINNING ON
PAGE 10.
<TABLE>
<CAPTION>
PER SHARE TOTAL
--------- -----------
<S> <C> <C>
Price to the public.................................. $ 7.00 $35,000,000
Underwriting discount................................ 0.49 2,450,000
Proceeds to ViroLogic................................ 6.51 32,550,000
</TABLE>
We have granted an over-allotment option to the underwriters. Under this option,
the underwriters may elect to purchase a maximum of 750,000 additional shares
from us within 30 days following the date of this prospectus to cover
over-allotments.
- --------------------------------------------------------------------------------
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
CIBC WORLD MARKETS
ING BARINGS
PRUDENTIAL VECTOR HEALTHCARE
A UNIT OF PRUDENTIAL SECURITIES
The date of this prospectus is May 2, 2000.
<PAGE> 2
<TABLE>
<S> <C> <C>
PhenoSense HIV is a test that directly TEXT: PhenoSense HIV Test Procedure TEXT: 8. Analyze data and generate
measures the resistance of HIV to anti- patient report
viral drugs. When making HIV treatment
decisions, PhenoSense HIV provides TEXT: 1. Obtain a blood sample from TEXT: Blue curves represent drug-sensitive
direction and guidance toward the most patient control virus. Red curves represent
effective drugs. patient's virus.
ARTWORK: Picture of blood in vial
ARTWORK: Compass in a human hand TEXT: For example, patient's virus is
TEXT: 2. Isolate virus resistant to Lamivudine
TEXT: PhenoSense HIV Assay
ARTWORK: Picture of virus TEXT: Susceptible to Saquinavir
TEXT: Choosing the path of least
resistance TEXT: 3. Copy of viral genes TEXT: More susceptible to Efavirenz
ARTWORK: Picture representing vector ARTWORK: Picture of print-out report of
with indicator test results
TEXT: 4. Insert genes into our TEXT: PhenoSense HIV Assay
proprietary viral gene set
Choosing the path of least resistance
ARTWORK: Picture of resistance test
vector
TEXT: 5. Introduce gene set into
cells to produce virus
ARTWORK: Picture of assembled vector
inserted into cell
TEXT: 6. Add anti-viral drugs that
block virus reproduction or . . .
add anti-viral drugs that block
cell infection
TEXT: 7. Measure reproduction
indicator to evaluate drug
resistance
TEXT: Reduced drug effectiveness
indicated by greater reproduction
ARTWORK: Bar containing multiple
samples
TEXT: Increasing drug concentrations
</TABLE>
<PAGE> 3
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.......................................... 6
Risk Factors................................................ 10
Forward-Looking Statements.................................. 17
Use of Proceeds............................................. 18
Dividend Policy............................................. 18
Capitalization.............................................. 19
Dilution.................................................... 20
Selected Financial Data..................................... 21
Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 22
Business.................................................... 26
Management.................................................. 39
Principal Stockholders...................................... 48
Related Party Transactions.................................. 50
Description of Capital Stock................................ 51
Shares Eligible for Future Sale............................. 54
Underwriting................................................ 56
Legal Matters............................................... 58
Experts..................................................... 58
Where You Can Find More Information......................... 58
Index to Financial Statements............................... F-1
</TABLE>
5
<PAGE> 4
PROSPECTUS SUMMARY
This summary highlights information contained in other parts of this prospectus.
Because it is a summary, it does not contain all of the information that you
should consider before investing in the shares. You should read the entire
prospectus carefully.
THE COMPANY
We are a biotechnology company developing and marketing innovative products to
guide and improve treatment of viral diseases. We have developed a practical way
of directly measuring the impact of genetic mutations on drug resistance and
using this information to guide therapy. We have a proprietary technology,
called PhenoSense, for testing drug resistance in viruses that cause serious
diseases such as AIDS, hepatitis B and hepatitis C. We believe our products have
the potential to revolutionize the way physicians treat these diseases.
Our first product, PhenoSense HIV, is a test that directly and quantitatively
measures resistance of a patient's HIV to anti-viral drugs. The results help
physicians select appropriate drugs for their HIV patients. When a physician
requests a PhenoSense HIV test for a patient, a clinical laboratory or a
hospital draws a blood sample from the patient and then sends this sample to us.
We receive the sample and perform the test ourselves in our clinical laboratory
which contains all the equipment necessary to perform the test. We then send a
report detailing the results to the physician and invoice and receive payment
from the clinical laboratory or hospital that sent the blood sample to us. The
clinical laboratory or hospital is responsible for billing the patient or the
patient's insurance company, as appropriate. We began actively marketing
PhenoSense HIV to physicians in November 1999.
We are also developing PhenoSense products for other viral diseases.
Additionally, we are developing an interactive database built from the results
of our PhenoSense tests and other clinical data, which we call the Therapy
Guidance System. We intend to make the Therapy Guidance System available to
physicians via the Internet as a tool to guide patient therapy.
VIRAL DRUG RESISTANCE
Physicians treat viruses like HIV with drugs that inhibit the virus'
reproduction and therefore slow the progression of disease. However, during
reproduction, viruses often change slightly, or mutate. As a result, anti-viral
drugs are typically effective for only a limited time because viruses develop
resistance through mutation. To address this problem, physicians must use
anti-viral drugs in combination, to simultaneously attack different targets
within a virus and slow the development of drug resistance. However, even the
most potent drug combinations eventually fail in the majority of patients. A
physician who is able to select drugs that maximally suppress viral reproduction
and to avoid drugs to which a patient's virus is resistant is better positioned
to achieve long term clinical benefit for the patient. As a result, physicians
critically need products that can directly measure viral drug resistance.
Drug resistance in HIV is a serious crisis despite the availability of 14
approved drugs. HIV infection cannot be cured with these drugs, requiring
lifelong treatment with complex drug combinations. When these combinations fail,
which can occur multiple times per year for many patients, physicians must make
difficult treatment decisions to select effective alternative drugs. A panel led
by the Department of Health and Human Services has recently issued guidelines
that recommend routine use of resistance tests for HIV patients.
OUR SOLUTION
PhenoSense is our proprietary phenotypic drug resistance testing technology.
Phenotypic drug resistance tests directly measure the susceptibility of a
patient's virus to anti-viral drugs by adding a drug to a virus sample and
determining whether the virus reproduces. We believe that we are revolutionizing
phenotypic testing by avoiding the need to grow, or "culture," viruses during
testing, thereby dramatically shortening the time required to perform the tests
and improving the
6
<PAGE> 5
consistency and accuracy of the tests. Also, we can perform our tests in large
numbers, making them practical for routine use in managing patient care.
OUR PRODUCTS
PhenoSense HIV. PhenoSense HIV is a patented phenotypic drug resistance test
that directly measures the resistance of HIV to all approved HIV drugs.
Phenotypic resistance tests measure resistance by adding each drug to a virus
sample and determining whether the virus can reproduce in the presence of the
drug. Phenotypic resistance tests differ from genotypic tests, which attempt to
predict drug resistance by identifying certain mutations in a virus' genes that
may be associated with drug resistance.
HIV infects nearly one million people in the United States, of whom
approximately 300,000 are currently receiving anti-viral therapy. Assuming
resistance testing becomes widely accepted, we believe these treated patients
would require a total of at least 500,000 tests per year. We are marketing the
product to physicians in the United States through our own sales force,
initially focusing on the 1,000 leading physicians who treat 80% of the total
HIV/AIDS patient population.
When developing new drugs, overcoming resistance to existing drugs is a critical
objective. In November 1999, the FDA Antiviral Drugs Advisory Committee
emphatically recommended that resistance tests should be utilized in the
development of new anti-viral drugs for HIV. To date, we have signed testing
agreements with the following pharmaceutical and biotechnology companies
involved in AIDS drug development: Abbott Laboratories, Agouron, Bristol-Myers
Squibb, Gilead Sciences, Glaxo Wellcome and Merck.
In addition to increasing the use of PhenoSense HIV in clinical trials, we
intend to form collaborations with pharmaceutical companies for the application
of our viral resistance technology to the discovery and development of new
anti-viral drugs.
PhenoSense HBV. We are currently developing PhenoSense HBV for hepatitis B
virus. HBV infects over one million people in the United States, and we estimate
that approximately half of those infected would benefit from anti-viral drug
therapy. Pharmaceutical companies are developing additional drugs for treatment
of HBV infection, of which more than 15 drugs are in the preclinical or clinical
stage of development. Just as with HIV, we believe our PhenoSense HBV drug
resistance testing will play a significant role in guiding HBV treatment and in
clinical trials for new HBV drugs.
PhenoSense HCV. We have designed and intend to develop PhenoSense HCV, for
hepatitis C virus. HCV infects approximately four million people in the United
States, of whom we estimate that approximately 75% could benefit from anti-viral
drug therapy. Pharmaceutical companies are developing additional drugs for
treatment of HCV, many of which are in the preclinical or clinical stage of
development. We expect PhenoSense HCV will be used to assist in the discovery
and development of HCV drugs and, in the longer term, the assessment of drug
resistance in HCV patients.
Other Products. We are developing and marketing a number of additional products.
We sell GeneSeq HIV, a genotypic test. We are also developing a test to measure
viral fitness, a measure of a virus' ability to reproduce and infect new cells.
Therapy Guidance System. We are building a proprietary database of test results
and other patient information that we expect to combine with sophisticated data
mining and outcome modeling software to build our Therapy Guidance System. Our
Therapy Guidance System will be a computer tool designed to help physicians
select optimal therapies for each patient. We expect to provide our Therapy
Guidance System as a fee-based service over the Internet.
GENERAL INFORMATION
We were incorporated in Delaware in November 1995. Our principal executive
offices are located at 270 East Grand Avenue, South San Francisco, CA 94080. Our
telephone number is (650) 635-1100. Our website is located at
"www.virologic.com." We do not intend the information on our website to be
considered a part of or incorporated by reference into this prospectus.
7
<PAGE> 6
THE OFFERING
Common stock offered...................... 5,000,000 shares
Common stock to be outstanding after the
offering.................................. 19,687,397 shares
Use of proceeds........................... We intend to use the net proceeds
from this offering for sales and
marketing, capital expenditures
including the expansion of our
clinical laboratory capabilities,
research and development, and
general corporate purposes.
Proposed Nasdaq National Market symbol.... VLGC
The number of shares of common stock to be outstanding after the offering in the
table above is based on the number of shares outstanding as of March 24, 2000.
The number excludes:
- 1,434,028 shares of common stock issuable upon exercise of options
outstanding as of March 24, 2000, at a weighted average exercise price of
$3.45 per share
- 742,082 shares of common stock issuable upon exercise of warrants to
purchase our common stock or preferred stock outstanding as of March 24,
2000, at a weighted average exercise price of $4.82 per share
ViroLogic, the ViroLogic logo, PhenoSense, GeneSeq, Therapy Guidance System, TGS
and Choosing the Path of Least Resistance are trademarks of ViroLogic. All other
product names, trade names and trademarks included in this prospectus are the
property of their respective owners.
Unless otherwise stated, all information contained in this prospectus assumes:
- no exercise of the over-allotment option granted to the underwriters
- a one for two reverse stock split of our common stock, which was effected on
April 17, 2000
- the conversion of all outstanding shares of our preferred stock into shares
of common stock
8
<PAGE> 7
SUMMARY FINANCIAL INFORMATION
(in thousands, except per share data)
<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION
(NOVEMBER 14,
1995) TO YEAR ENDED DECEMBER 31,
DECEMBER 31, ----------------------------
1996 1997 1998 1999
------------- ------- ------- --------
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenue...................................... $ -- $ -- $ 102 $ 1,069
Operating costs and expenses:
Cost of revenue............................ -- -- 17 627
Research and development................... 867 2,458 5,977 9,588
General and administrative................. 510 858 1,782 6,804
Sales and marketing........................ -- -- 484 1,196
------- ------- ------- --------
Total costs and operating expenses........... 1,377 3,316 8,260 18,215
------- ------- ------- --------
Operating loss............................... (1,377) (3,316) (8,158) (17,146)
Interest income.............................. 116 262 302 249
Interest expense............................. (13) (83) (198) (243)
------- ------- ------- --------
Net loss..................................... (1,274) (3,137) (8,054) (17,140)
Deemed dividend to preferred stockholders.... -- -- -- 3,100
------- ------- ------- --------
Net loss allocable to common stockholders.... $(1,274) $(3,137) $(8,054) $(20,240)
======= ======= ======= ========
Basic and diluted net loss per common
share...................................... $ (0.74) $ (1.21) $ (1.71) $ (4.24)
======= ======= ======= ========
Shares used in computing basic and diluted
net loss per common share.................. 1,720 2,591 4,700 4,772
Pro forma basic and diluted net loss per
common share............................... $ (2.53)
========
Shares used in computing pro forma basic and
diluted net loss per common share.......... 8,015
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1999
----------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- ------------ --------------
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents........................ $ 2,208 $17,862 $48,712
Restricted cash.................................. 950 950 950
Working capital.................................. 522 16,176 47,026
Total assets..................................... 9,777 25,431 56,281
Long term obligations, less current portion...... 1,051 1,051 1,051
Total stockholders' equity....................... 4,698 20,352 51,202
</TABLE>
See notes to the financial statements for a description of the number of shares
used in the computation of the basic and diluted net loss per common share and
pro forma basic and diluted net loss per common share.
The pro forma balance sheet data above reflects the January and February 2000
sale of our Series C preferred stock for proceeds of approximately $15.7
million.
The pro forma as adjusted balance sheet data above gives effect to our sale of
5,000,000 shares to be sold in the initial public offering at an offering price
of $7.00 per share, less underwriters' discounts and offering expenses.
9
<PAGE> 8
RISK FACTORS
You should carefully consider the following factors and other information in
this prospectus before deciding to invest in the shares.
WE EXPECT TO INCUR FUTURE OPERATING LOSSES AND MAY NOT ACHIEVE PROFITABILITY,
WHICH MAY CAUSE OUR STOCK PRICE TO FALL.
We have experienced significant and increasing operating losses each year since
our inception and expect to incur substantial additional operating losses for at
least the next two years. We experienced net losses of approximately $3.1
million in 1997, $8.1 million in 1998 and $17.1 million in 1999. As of December
31, 1999, we had an accumulated deficit of approximately $29.6 million. We
expect to continue to incur substantial operating losses for the foreseeable
future primarily as a result of expected increases in expenses for:
- sales and marketing
- expanding patient sample processing capabilities
- research and product development costs
- acquisition of additional office space and other necessary facilities
- general and administrative costs
If our history of operating losses continues, our stock price may fall and you
may lose part or all of your investment.
OUR PHENOSENSE TESTING PRODUCTS MAY NOT ACHIEVE MARKET ACCEPTANCE, WHICH COULD
LIMIT OUR FUTURE REVENUE.
Our ability to establish phenotypic resistance testing as the standard of care
to guide and improve the treatment of viral diseases will depend on physicians'
and clinicians' acceptance and use of phenotypic resistance testing. Phenotypic
resistance testing is new. We cannot predict the extent to which physicians and
clinicians will accept and use phenotypic resistance testing. They may prefer
competing technologies and products such as genotypic testing. The commercial
success of phenotypic resistance testing will require demonstrations of its
advantages and potential economic value in relation to the current standard of
care, as well as to genotypic testing.
We have introduced only one product using our proprietary PhenoSense technology,
PhenoSense HIV, which we began actively marketing in November 1999. We are still
in the early stages of development of new testing products applying our
PhenoSense technology to other viral diseases. If PhenoSense HIV is not accepted
in the marketplace, our ability to sell other PhenoSense products would be
undermined. Market acceptance will depend on:
- our marketing efforts and continued ability to demonstrate the utility of
PhenoSense in guiding anti-viral drug therapy
- our ability to demonstrate the advantages and potential economic value of
our PhenoSense testing products over current treatment methods and other
resistance tests
If the market does not accept phenotic resistance testing, or our PhenoSense
products in particular, our ability to generate revenue will be limited.
OUR REVENUES WILL BE DIMINISHED IF PAYORS DO NOT AUTHORIZE REIMBURSEMENT FOR OUR
PRODUCTS.
Government and third-party payors, which reimburse patients and healthcare
providers for medical expenses, are attempting to contain or reduce the costs of
healthcare. This could limit the price that we can charge for our products and
hurt our ability to generate revenues.
In the United States, federal and state government healthcare programs have been
attempting to reduce costs and otherwise implement government control of
healthcare costs. In addition, increasing emphasis on managed care in the United
States will continue to put pressure on the pricing of healthcare products.
Significant uncertainty exists as to the reimbursement status of new medical
products like PhenoSense HIV. Third-party payors, including state payors and
Medicare, are challenging the prices charged for medical products and services.
If government and other
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third-party payors do not provide adequate coverage and reimbursement for
PhenoSense HIV or other phenotypic testing products, our revenues will be
reduced.
IF WE ARE UNABLE TO EXPAND OUR SALES AND MARKETING CAPABILITIES, WE MAY NOT BE
ABLE TO EFFECTIVELY COMMERCIALIZE OUR PRODUCTS.
We currently have only five sales people and limited marketing capability. In
order to commercialize our products effectively, we must expand our sales and
marketing capabilities or arrange with a third party to perform these services.
We may not be able to do this successfully. If we enter into co-promotion or
other marketing arrangements, our share of product revenues is likely to be
lower than if we directly marketed and sold our products through our own sales
force. If we fail to effectively commercialize our products our revenue will be
reduced.
WE HAVE LIMITED EXPERIENCE PROCESSING PATIENT SAMPLES FOR OUR PHENOSENSE HIV
TEST AND MAY ENCOUNTER PROBLEMS OR DELAYS IN EXPANDING OUR AUTOMATED TESTING
SYSTEMS, WHICH COULD RESULT IN LOST SALES REVENUE.
We have only recently begun to process a significant number of patient samples
and are continuing to develop our quality-control procedures. In order to meet
the projected demand for PhenoSense HIV and other future phenotypic resistance
testing products, we will have to process many more patient samples than we are
currently processing. Thus, we need to develop and implement additional
automated systems to perform our tests. We also need to develop more
sophisticated software to support the automated tests, analyze the data
generated by our tests, and report the results. We may not be able to do this.
Further, as we attempt to scale up our processing of patient samples, processing
or quality-control problems may arise.
If we are unable to consistently process patient samples on a timely basis
because of these or other factors, or if we encounter problems with our
automated processes, our revenues will be limited.
WE FACE INTENSE COMPETITION, AND IF OUR COMPETITORS' EXISTING PRODUCTS OR NEW
PRODUCTS ARE MORE EFFECTIVE THAN OUR PRODUCTS, THE COMMERCIAL OPPORTUNITY FOR
OUR PRODUCTS WILL BE REDUCED OR ELIMINATED.
The commercial opportunity for our products will be reduced or eliminated if our
competitors develop and market new testing products that are superior to, or are
less expensive than, PhenoSense HIV or other phenotypic resistance testing
products we develop using our proprietary PhenoSense technology.
The biotechnology industry evolves at a rapid pace and is highly competitive.
Our major competitors include manufacturers and distributors of phenotypic drug
resistance technology, such as Virco N.V. We also compete with makers of
genotypic tests such as PE Biosystems Group of PE Corporation and Visible
Genetics Inc. Each of these competitors is attempting to establish its test as
the standard of care. Virco's phenotypic test and genotypic tests have been
commercially available for a longer time than has PhenoSense HIV. Genotypic
tests are cheaper and generally faster than our phenotypic resistance tests.
We hold a license from Roche Molecular Systems, Inc. for technology that we use
in our PhenoSense testing products. This license is non-exclusive. We believe
that many of our competitors, including Virco and other resistance testing
companies, also license this technology on non-exclusive terms.
Our competitors may successfully develop and market other testing products that
are either superior to those that we may develop or that are marketed prior to
marketing of our testing products. Some of our competitors have substantially
greater financial resources and research and development staffs than we do. In
addition, some of our competitors have significantly greater experience in
developing products, and in obtaining the necessary regulatory approvals of
products and processing and marketing products.
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WE ARE DEPENDENT ON A LICENSE FOR TECHNOLOGY WE USE IN OUR PHENOSENSE TESTING,
AND OUR BUSINESS WOULD SUFFER IF THE LICENSE WAS TERMINATED OR NOT RENEWED.
We license technology that we use in our PhenoSense testing products from Roche
Molecular Systems, Inc. We hold this non-exclusive license for the patent term
of the licensed patents. In order to maintain this license, however, we must pay
royalties, make a semi-annual royalty report and participate in proficiency
testing. If Roche were to terminate this license or this license were not
renewed, we would have to change a portion of our testing methodology, which
would halt our testing, at least temporarily, and cause us to incur substantial
additional expenses.
THE INTELLECTUAL PROPERTY UNDERLYING OUR PHENOSENSE TECHNOLOGY AND TRADE SECRETS
MAY NOT BE ADEQUATE, ALLOWING THIRD PARTIES TO USE OUR PHENOSENSE TECHNOLOGY OR
SIMILAR TECHNOLOGIES, AND THUS REDUCING OUR ABILITY TO COMPETE IN THE MARKET.
The strength of our intellectual property protection is uncertain. In
particular, we cannot ensure that:
- we were the first to invent the technologies covered by our patent or
pending patent applications
- we were the first to file patent applications for these inventions
- others will not independently develop similar or alternative technologies or
duplicate any of our technologies
- any of our pending patent applications will result in issued patents
- any patents issued to us will provide a basis for commercially viable
products or will provide us with any competitive advantages or will not be
challenged by third parties
Other companies may have patents or patent applications relating to products or
processes similar to, competitive with or otherwise related to our products.
Patent law relating to the scope of claims in the technology fields in which we
operate, including biotechnology and information technology, is still evolving
and, consequently, patent positions in our industry are generally uncertain. We
cannot assure you that we will prevail in any of these lawsuits or that, if
successful, we will be awarded commercially valuable remedies. In addition, it
is possible that we will not have the required resources to pursue such
litigation or to otherwise protect our patent rights.
We also rely on unpatented trade secrets to protect our proprietary technology.
Other companies may independently develop or otherwise acquire equivalent
technology or gain access to our proprietary technology.
OUR PRODUCTS COULD INFRINGE ON THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS, WHICH
MAY CAUSE US TO ENGAGE IN COSTLY LITIGATION AND, IF WE ARE NOT SUCCESSFUL, COULD
CAUSE US TO PAY SUBSTANTIAL DAMAGES AND PROHIBIT US FROM SELLING OUR PRODUCTS.
Third parties may assert infringement or other intellectual property claims
against us based on their patents or other intellectual property claims. We may
have to pay substantial damages, possibly including treble damages, for past
infringement if it is ultimately determined that our products infringe a third
party's patents. Further, we may be prohibited from selling our products before
we obtain a license, which, if available at all, may require us to pay
substantial royalties. Even if infringement claims against us are without merit,
defending a lawsuit takes significant time, may be expensive and may divert
management attention from other business concerns.
WE MAY BE UNABLE TO BUILD BRAND LOYALTY BECAUSE OUR TRADEMARKS AND TRADE NAMES
MAY NOT BE PROTECTED.
Our registered or unregistered trademarks or trade names such as the name
PhenoSense, may be challenged, canceled, infringed, circumvented or declared
generic or determined to be infringing on other marks. We may not be able to
protect our rights to these trademarks and trade names, which we need to build
brand loyalty. Brand recognition is critical to our short-term and long term
marketing strategies especially as we commercialize future enhancements to our
products.
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IF WE DO NOT SUCCESSFULLY INTRODUCE NEW PRODUCTS USING OUR PHENOSENSE
TECHNOLOGY, WE MAY NOT ACHIEVE PROFITABILITY.
We may not be able to develop and market phenotypic resistance testing products
for viral diseases other than HIV, including hepatitis B and hepatitis C.
Demand for these products will depend in part on the development by others of
additional anti-viral drugs to fight these diseases. Physicians will likely use
our resistance tests to determine which drug is best for a particular patient
only if there are multiple drug treatment options. Several anti-viral drugs are
in development but we cannot assure you that they will be approved for
marketing, or if these drugs are approved that there will be a need for our
resistance tests.
If we are unable to develop and market phenotypic resistance test products for
other viral diseases, or if an insufficient number of anti-viral drug products
are approved for marketing, we may not achieve profitability.
OUR BUSINESS OPERATIONS AND THE OPERATION OF OUR CLINICAL LABORATORY FACILITY
ARE SUBJECT TO STRINGENT REGULATIONS AND IF WE ARE UNABLE TO COMPLY WITH THEM,
WE MAY BE PROHIBITED FROM ACCEPTING PATIENT SAMPLES OR MAY INCUR ADDITIONAL
EXPENSE TO ATTAIN AND MAINTAIN COMPLIANCE.
The operation of our clinical laboratory facility is subject to a stringent
level of regulation under the Clinical Laboratory Improvement Amendments of
1988. Laboratories must meet various requirements, including requirements
relating to quality assurance, quality control and personnel standards. Our
laboratory is also subject to regulation by the State of California and various
other states. We have received accreditation by the College of American
Pathologists and therefore are subject to their requirements and evaluation. Our
failure to comply with applicable requirements could result in various
penalties, including loss of certification or accreditation.
We believe that the FDA will not at this time seek to fully regulate our
PhenoSense products under our current labeling and marketing plans. However, we
cannot predict the extent of future FDA regulation, and we might be subject in
the future to greater regulation, or different regulations, that could have a
material effect on our finances and operations.
We also believe that the FDA will not require that phenotypic testing conducted
at a clinical laboratory be subject to premarketing clearance. Although the FDA
has stated in the past that it believes that its jurisdiction extends to tests
generated in a clinical laboratory, the agency has said it will allow the home
brewed tests to be run and the results commercialized without FDA premarket
approval. We cannot be sure, however, that the FDA will not in the future
require premarket clearance, and clinical data demonstrating the sensitivity and
specificity, of our PhenoSense products.
If we do not comply with existing or additional regulations, or if we incur
penalties, it could increase our expenses, prevent us from increasing revenues,
or hinder our ability to conduct our business. In addition, changes in existing
regulations or new regulations may delay or prevent us from marketing our
products.
CLINICIANS OR PATIENTS USING OUR PRODUCTS OR SERVICES MAY SUE US AND OUR
INSURANCE MAY NOT SUFFICIENTLY COVER ALL CLAIMS BROUGHT AGAINST US WHICH WILL
INCREASE OUR EXPENSES.
Clinicians, patients and others may at times seek damages from us if drugs are
incorrectly prescribed for a patient based on testing errors or similar claims.
Although we have obtained liability insurance coverage, we cannot guarantee that
liability insurance will continue to be available to us on acceptable terms or
that our coverage will be sufficient to protect us against all claims that may
be brought against us. We may incur significant legal defense expenses in
connection with a liability claim, even one without merit or for which we have
coverage.
OUR LACK OF OPERATING EXPERIENCE MAY CAUSE US DIFFICULTY IN MANAGING OUR GROWTH
AND ATTRACTING AND RETAINING SKILLED PERSONNEL, WHICH COULD HINDER OUR RESEARCH
AND DEVELOPMENT EFFORTS AND IMPAIR OUR ABILITY TO COMPETE.
We have limited experience selling our products and processing patient samples.
To grow, we will need to improve and expand our operational and financial
systems. If our management is unable to manage our growth effectively, it is
possible that
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<PAGE> 12
our systems and our facilities may become inadequate.
Our success also depends on our continued ability to attract and retain highly
qualified management and scientific personnel. Competition for personnel is
intense. We believe stock options are a critical component of motivating and
retaining our key employees. Stock options granted shortly after the completion
of the offering may be less attractive to potential candidates for our
management and scientific positions, and, therefore, it may be more difficult to
fill those positions. If we cannot successfully attract and retain qualified
personnel, our research and development efforts could be hindered and our
ability to run our business effectively and compete with others in our industry
will be harmed.
IF WE NEED TO RAISE ADDITIONAL CAPITAL TO BUILD OUR BUSINESS AND IT IS NOT
AVAILABLE ON COMMERCIALLY REASONABLE TERMS, OUR ABILITY TO COMPETE MAY BE
DIMINISHED.
We anticipate that our existing capital resources and the net proceeds from this
offering will enable us to maintain currently planned operations for at least
two years. However, we may need additional funding sooner than anticipated. Our
inability to raise capital would seriously harm our business and product
development efforts. In addition, we may choose to raise additional capital due
to market conditions or strategic considerations even if we believe we have
sufficient funds for our current or future operating plans. To the extent that
additional capital is raised through the sale of equity or convertible debt
securities, the issuance of these securities could result in dilution to our
stockholders.
We currently have no credit facility or committed sources of capital. To the
extent operating and capital resources are insufficient to meet future
requirements, we will have to raise additional funds to continue the development
and commercialization of our technologies. These funds may not be available on
favorable terms, or at all. If adequate funds are not available on attractive
terms, we may be required to curtail operations significantly or to obtain funds
by entering into financing, supply or collaboration agreements on unattractive
terms.
WE MAY BE SUBJECT TO LITIGATION, WHICH WOULD BE TIME CONSUMING AND DIVERT OUR
RESOURCES AND THE ATTENTION OF OUR MANAGEMENT.
We were involved in a dispute with Dr. Daniel Capon, a significant stockholder
and former employee. We settled the dispute in November 1999. In connection with
the settlement, we purchased shares of our common stock held by him for $225,000
in cash, and allowed him to retain other shares that we had a right to
repurchase. In 1999, we recorded $1.9 million in legal fees and costs related to
this settlement, including a non-cash charge related to the common stock
retained by him. In the future, our stockholders or former employees may bring
further claims and we may have to spend significant additional resources and
time. Even if we are eventually successful in our defense of any such claim, the
time and money spent may prevent us from operating our business effectively or
profitably or may distract our management.
OUR OPERATING RESULTS MAY FLUCTUATE FROM QUARTER TO QUARTER, MAKING IT LIKELY
THAT, IN SOME FUTURE QUARTER OR QUARTERS, WE WILL FAIL TO MEET ANALYSTS'
ESTIMATES OF OPERATING RESULTS OR FINANCIAL PERFORMANCE, CAUSING OUR STOCK PRICE
TO FALL.
If revenue declines in a quarter, our losses will likely increase or our
earnings will likely decline because many of our expenses are relatively fixed.
In the first year following the initial sales of our product in November 1999,
our revenues may fluctuate significantly as we build the market for our product.
In particular, research and development, sales and marketing and general and
administrative expenses are not affected directly by variations in revenue. In
addition, our cost of revenue could also fluctuate significantly due to
variations in the initial demand for our product and the relatively fixed costs
to produce it. We cannot accurately predict how volatile our future operating
results will be because our past and present operating results, which reflect
little sales activity, are not indicative of what we might expect in the future.
It is likely that in some future quarter or quarters, our operating results will
be below the expectations of securities analysts or investors. In this event,
the market price of our common stock may fall abruptly and significantly.
Because our revenue and operating results are difficult to
14
<PAGE> 13
predict, we believe that period-to-period comparisons of our results of
operations are not a good indication of our future performance.
IF A NATURAL DISASTER STRIKES OUR CLINICAL LABORATORY FACILITY WE WOULD BE
UNABLE TO PROCESS OUR CUSTOMERS' SAMPLES FOR A SUBSTANTIAL AMOUNT OF TIME AND WE
WOULD LOSE REVENUE.
We rely on a single clinical laboratory facility to process patient samples for
our PhenoSense HIV test and have no alternative facilities. We will also use
this facility for conducting other tests we develop, and even if we move into
different or additional facilities they will likely be in close proximity to our
current clinical laboratory. Our clinical laboratory and some pieces of
processing equipment are difficult to replace and could require substantial
replacement lead-time. Our processing facility may be affected by natural
disasters such as earthquakes and floods. Earthquakes are of particular
significance since our clinical laboratory is located in South San Francisco,
California, an earthquake-prone area. In the event our existing clinical
laboratory facility or equipment is affected by man-made or natural disasters,
we would be unable to process patient samples and meet customer demands or sales
projections. If our patient sample processing operations were curtailed or
ceased, we would not be able to perform our tests and we would lose revenue.
WE HAVE BROAD DISCRETION OVER THE USE OF THE NET PROCEEDS FROM THE OFFERING.
We have broad discretion to allocate the net proceeds of the offering. The
timing and amount of our actual expenditures are subject to change and will be
based on many factors, including:
- success of our sales and marketing efforts
- competitive market developments
- progress in and scope of our research and development activities
Our management will determine, in its sole discretion without the need for
stockholder approval, how to allocate these proceeds. If we do not wisely
allocate the proceeds, we will not be able to carry out or business plan and our
share price will fall.
CONCENTRATION OF OWNERSHIP AMONG OUR EXISTING EXECUTIVE OFFICERS, DIRECTORS AND
PRINCIPAL STOCKHOLDERS MAY PREVENT NEW INVESTORS FROM INFLUENCING SIGNIFICANT
CORPORATE DECISIONS.
Following this offering our directors, entities affiliated with our directors
and our executive officers will beneficially own, in the aggregate,
approximately 43.2% of our outstanding common stock. These stockholders as a
group will be able to substantially influence our management and affairs. If
acting together, they would be able to influence most matters requiring the
approval by our stockholders, including the election of directors, any merger,
consolidation or sale of all or substantially all of our assets and any other
significant corporate transaction. The concentration of ownership may also delay
or prevent a change in our control at a premium price if these stockholders
oppose it.
NEW INVESTORS IN OUR COMMON STOCK WILL EXPERIENCE IMMEDIATE AND SUBSTANTIAL
DILUTION.
Investors purchasing common stock in this offering will pay a price per share
that substantially exceeds the value per share of our assets, after subtracting
our liabilities. In addition, new investors will have contributed 41.7% of the
total amount we will have received from sales of our stock since our inception
but will own only 25.4% of the shares outstanding.
OUR STOCK PRICE MAY BE VOLATILE, AND YOUR INVESTMENT IN OUR STOCK COULD DECLINE
IN VALUE.
Prior to this offering, there has been no public market for our common stock. An
active public market for our common stock may not develop or be sustained after
the offering. The initial public offering price will be determined by
negotiation between the representatives of the underwriters and us and may not
be indicative of future market prices. Among the factors to be considered in
determining the initial public offering price of the common stock, in addition
to prevailing market conditions, will be:
- estimates of our business potential and earnings prospects
- an assessment of our management
- the consideration of the above factors in relation to market valuations of
companies in related businesses
15
<PAGE> 14
The market prices for securities of biotechnology companies in general have been
highly volatile and may continue to be highly volatile in the future. The
following factors, in addition to other risk factors described in this section,
may have a significant adverse impact on the market price of our common stock:
- announcements of technological innovations or new commercial products by our
competitors
- developments concerning proprietary rights, including patents
- publicity regarding actual or potential medical results relating to products
under development by our competitors
- regulatory developments in the United States and foreign countries
- litigation
- economic and other external factors or other disaster or crisis
- period-to-period fluctuations in financial results
IF OUR STOCKHOLDERS SELL SUBSTANTIAL AMOUNTS OF OUR COMMON STOCK AFTER THE
OFFERING, THE MARKET PRICE OF OUR COMMON STOCK MAY FALL.
If our stockholders sell substantial amounts of our common stock, including
shares issued upon the exercise of outstanding options and warrants, the market
price of our common stock may fall. These sales also might make it more
difficult for us to sell equity or equity-related securities in the future at a
time and price that we deem appropriate.
At March 24, 2000, approximately 14,687,397 shares of common stock, representing
74.6% of our common stock outstanding after the offering, were unregistered and
eligible for sale, subject to compliance with Rule 144 or Rule 701 under the
Securities Act.
The holders of all of these shares are subject to lock-up for 180 days after
this offering. All or any portion of these shares may be released from this
lock-up by CIBC World Markets Corp. and us. In addition, sales of a substantial
number of shares could occur at any time after the expiration of the 180-day
period. This may have an adverse effect on the price of our common stock and may
impair our ability to raise capital in the future.
PROVISIONS OF OUR CHARTER DOCUMENTS AND DELAWARE LAW MAY INHIBIT A TAKEOVER,
WHICH COULD LIMIT THE PRICE INVESTORS MIGHT BE WILLING TO PAY IN THE FUTURE FOR
OUR COMMON STOCK.
Provisions in our certificate of incorporation and bylaws may have the effect of
delaying or preventing an acquisition, or merger in which we are not the
surviving company or changes in our management. In addition, because we are
incorporated in Delaware, we are governed by the provisions of Section 203 of
the Delaware General Corporation Law. These provisions could discourage
acquisitions or other changes in our control and otherwise limit the price that
investors might be willing to pay in the future for our common stock.
16
<PAGE> 15
FORWARD-LOOKING STATEMENTS
Some of the information in this prospectus contains forward-looking statements
within the meaning of the federal securities laws. You can find these statements
under "Prospectus Summary," "Risk Factors," "Use of Proceeds," "Management's
Discussion and Analysis of Financial Condition and Results of Operations,"
"Business" and elsewhere in this prospectus.
We typically identify forward-looking statements by using terms such as "may,"
"will," "should," "could," "expect," "plan," "anticipate," "believe,"
"estimate," "predict," "potential," "continue" and similar words, although we
express some forward-looking statements differently. You should be aware that
actual events could differ materially from those suggested in the
forward-looking statements due to a number of factors, including:
- failure to successfully commercialize our products
- competitive factors
- general economic conditions
- uncertainty regarding our patents and patent rights (including the risk that
we may be forced to engage in costly litigation to protect such patent
rights and the material harm to us if there were an unfavorable outcome of
any such litigation)
- technological change
- government regulation
- changes in industry practice
- one-time events
You should also consider carefully the statements under "Risk Factors" and other
sections of this prospectus, which address additional factors that could cause
our actual results to differ from those set forth in the forward-looking
statements. We expressly qualify all subsequent written and oral forward-
looking statements attributed to us or persons acting on our behalf in their
entirety by the applicable cautionary statements. We have no plans to update
these forward-looking statements.
17
<PAGE> 16
USE OF PROCEEDS
We estimate that our net proceeds from the sale of the shares of common stock we
are offering will be approximately $30.9 million. If the underwriters fully
exercise their over-allotment option, we estimate that our net proceeds from the
offering will be $35.7 million. "Net proceeds" are what we expect to receive
after paying the underwriting discount and other expenses of the offering.
We intend to use the net proceeds of this offering primarily for:
- expanding our sales and marketing activities
- capital expenditures, including the expansion of our clinical laboratory
capabilities
- research and development
- general corporate purposes
The timing and amount of our actual expenditures are subject to change and will
be based on many factors, including:
- success of our sales and marketing efforts
- competitive market developments
- progress in and scope of our research and development activities
These or other factors may result in our making changes in the use of these
proceeds. Our management has broad discretion as to the allocation of the net
proceeds of this offering.
Until we use the net proceeds of the offering, we will invest the funds in
short-term, investment grade, interest-bearing securities.
DIVIDEND POLICY
We have never paid any cash dividends on our capital stock. We anticipate that
we will retain earnings to support operations and to finance our business growth
and development. Therefore, we do not expect to pay cash dividends in the
foreseeable future.
18
<PAGE> 17
CAPITALIZATION
The following table shows:
- our actual capitalization on December 31, 1999
- on a pro forma basis to reflect:
- the sale of 8,461,645 shares of Series C preferred stock in January and
February 2000 for aggregate proceeds of $15.7 million that will convert
into 4,230,823 shares of common stock
- the conversion of all 9,749,265 shares of our outstanding preferred stock
as of December 31, 1999, and the preferred shares sold in January and
February 2000, into 9,587,769 shares of common stock, which will occur
upon the closing of this offering
- our pro forma as adjusted capitalization on December 31, 1999, assuming the
pro forma adjustments described above and the completion of the offering at
an initial public offering price of $7.00 per share
<TABLE>
<CAPTION>
DECEMBER 31, 1999
---------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- -------------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Long term loan, less current portion................ $ 1,051 $ 1,051 $ 1,051
-------- -------- --------
Stockholders' equity:
Preferred stock; $0.001 par value; 13,959,459
shares authorized, 9,749,265 shares issued and
outstanding (5,356,946 common shares on an
as-if converted basis), actual; no shares
issued and outstanding, pro forma; 5,000,000
shares authorized, no shares issued and
outstanding, pro forma as adjusted............. 10 -- --
Common stock; $0.001 par value; 30,000,000, shares
authorized, 5,096,628 shares issued and
outstanding, actual; 14,684,397 shares issued
and outstanding, pro forma; 60,000,000 shares
authorized, 19,684,397 shares issued and
outstanding, pro forma as adjusted............. 5 15 20
Additional paid-in capital........................ 38,812 54,466 85,311
Deferred compensation............................. (4,478) (4,478) (4,478)
Notes receivable from officers and employees...... (46) (46) (46)
Accumulated deficit............................... (29,605) (29,605) (29,605)
-------- -------- --------
Total stockholders' equity................... 4,698 20,352 51,202
-------- -------- --------
Total capitalization...................... $ 5,749 $ 21,403 $ 52,253
======== ======== ========
</TABLE>
The number of shares of common stock outstanding in the table above is based on
the number of shares outstanding as of December 31, 1999 and excludes:
- 1,240,867 shares of common stock issuable upon exercise of options
outstanding as of December 31, 1999, at a weighted average exercise price of
$3.47 per share
- 745,082 shares of common stock issuable upon exercise of warrants to
purchase our common or preferred stock outstanding as of December 31, 1999,
at a weighted average exercise price of $4.83 per share
19
<PAGE> 18
DILUTION
Our tangible book value of our common stock as of December 31, 1999 was $4.7
million, or approximately $0.45 per share. Net tangible book value per share
represents the amount of our stockholders' equity, less intangible assets,
divided by 10,453,574 shares of common stock outstanding after giving effect to
the conversion of all outstanding shares of preferred stock into shares of
common stock upon completion of this offering.
Subsequent to December 31, 1999, we issued 8,461,645 shares of Series C
preferred stock for aggregate proceeds of $15.7 million that will convert into
4,230,823 shares of common stock upon the completion of this offering. This
subsequent issuance increased our net tangible book value per share by $0.94,
assuming the conversion of these preferred shares into common stock.
Net tangible book value dilution per share to new investors represents the
difference between the amount per share paid by purchasers of shares of common
stock in this offering and the pro forma net tangible book value per share of
common stock immediately after completion of this offering. After giving effect
to our sale of 5,000,000 shares of common stock in this offering, after
deducting the underwriting discounts and offering expenses and the application
of the estimated net proceeds, our pro forma net tangible book value as of
December 31, 1999 would have been $2.60 per share to existing stockholders and
an immediate dilution in net tangible book value of $4.40 per share to
purchasers of common stock in this offering, as illustrated in the following
table:
<TABLE>
<S> <C> <C>
Initial public offering price per share..................... $ 7.00
------
Net tangible book value per share as of December 31, 1999... $ 0.45
Increase per share attributable to sales of Series C
preferred stock in January and February 2000.............. 0.94
Increase in net tangible book value per share attributable
to the offering........................................... 1.21
------
Pro forma net tangible book value per share as of December
31, 1999, after giving effect to the offering............. 2.60
------
Dilution per share to new investors in the offering......... $ 4.40
======
</TABLE>
The following table shows the total consideration paid and the average price per
share paid by the existing stockholders and by new investors, after deducting
underwriting discounts and offering expenses payable by us, at an initial public
offering price of $7.00 per share.
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
--------------------- ----------------------- PRICE PER
NUMBER PERCENT AMOUNT PERCENT SHARE
---------- ------- ------------ ------- ---------
<S> <C> <C> <C> <C> <C>
Existing stockholders........ 14,684,397 74.6% $ 48,877,790 58.3% $ 3.33
New investors................ 5,000,000 25.4 35,000,000 41.7 7.00
---------- ----- ------------ -----
Total................... 19,684,397 100.0% $ 83,877,790 100.0%
========== ===== ============ =====
</TABLE>
The number of shares of common stock outstanding in the table above is based on
the number of shares outstanding as of December 31, 1999 and excludes:
- 1,240,867 shares of common stock issuable upon exercise of options
outstanding as of December 31, 1999, at a weighted average exercise price of
$3.47 per share
- 745,082 shares of common stock issuable upon the exercise of warrants to
purchase our common or preferred stock, outstanding as of December 31, 1999,
at a weighted average exercise price of $4.83 per share
20
<PAGE> 19
SELECTED FINANCIAL DATA
This section presents our historical financial data. You should read carefully
the financial statements included in this prospectus, including the notes to the
financial statements. We do not intend the selected data in this section to
replace the financial statements.
We derived the statement of operations data for the years ended December 31,
1997, 1998 and 1999 and the balance sheet data as of December 31, 1998 and 1999
from the audited financial statements in this prospectus, which Ernst & Young
LLP, independent auditors, audited. We derived the statement of operations data
for the period from our inception to December 31, 1996 and the balance sheet
data as of December 31, 1996 and 1997 from audited financial statements that are
not included in this prospectus. Historical results are not necessarily
indicative of results that may be expected in the future.
<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION
(NOVEMBER 14,
1995) TO YEAR ENDED DECEMBER 31,
DECEMBER 31, ------------------------------
1996 1997 1998 1999
------------- ------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenue....................................... $ -- $ -- $ 102 $ 1,069
Operating costs and expenses:
Cost of revenue............................. -- -- 17 627
Research and development.................... 867 2,458 5,977 9,588
General and administrative.................. 510 858 1,782 6,804
Sales and marketing......................... -- -- 484 1,196
------- ------- ------- --------
Total costs and operating expenses............ 1,377 3,316 8,260 18,215
------- ------- ------- --------
Operating loss................................ (1,377) (3,316) (8,158) (17,146)
Interest income............................... 116 262 302 249
Interest expense.............................. (13) (83) (198) (243)
------- ------- ------- --------
Net loss...................................... (1,274) (3,137) (8,054) (17,140)
Deemed dividend to preferred stockholders..... -- -- -- 3,100
------- ------- ------- --------
Net loss allocable to common stockholders..... $(1,274) $(3,137) $(8,054) $(20,240)
======= ======= ======= ========
Basic and diluted net loss per common share... $ (0.74) $ (1.21) $ (1.71) $ (4.24)
======= ======= ======= ========
Shares used in computing basic and diluted net
loss
per common share............................ 1,720 2,591 4,700 4,772
Pro forma basic and diluted net loss per
common share................................ $ (2.53)
========
Shares used in computing basic and diluted pro
forma net loss per common share............. 8,015
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------------
1996 1997 1998 1999
------- ------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments................................. $ 3,141 $ 3,986 $ 9,564 $ 2,208
Restricted cash............................... -- -- -- 950
Working capital............................... 2,966 3,315 7,398 522
Total assets.................................. 3,911 5,598 13,275 9,777
Long term loan, less current portion.......... 488 470 1,948 1,051
Accumulated deficit........................... (1,274) (4,411) (12,465) (29,605)
Total stockholders' equity.................... 3,191 4,336 8,830 4,698
</TABLE>
See notes to the financial statements for a description of the number of shares
used in the computation of net loss per common share and pro forma net loss per
common share.
21
<PAGE> 20
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read this discussion together with the financial statements and other
financial information included in this prospectus.
OVERVIEW
We are a biotechnology company developing and marketing innovative products to
guide and improve treatment of viral diseases. We have a proprietary technology,
called PhenoSense, for testing drug resistance in viruses that cause serious
diseases such as AIDS, hepatitis B and hepatitis C. Our first product,
PhenoSense HIV, is a test that directly and quantitatively measures resistance
of a patient's HIV to anti-viral drugs. We believe our products have the
potential to revolutionize the way physicians treat many serious viral diseases.
Historically our revenues have consisted primarily of sales of PhenoSense HIV to
pharmaceutical companies utilizing our tests in their clinical trials and
preclinical studies. Recently we began generating revenue from PhenoSense HIV
tests sold to physicians for use in treating their patients. We expect sales of
PhenoSense HIV for patient care to grow due to increased sales and marketing
activity, increasing awareness of the benefits of phenotypic testing, and the
recent publication of guidelines recommending the use of resistance testing in
treating HIV patients. We also expect these revenues to increase substantially
relative to revenues from test sales for clinical trials.
Since our inception, we have incurred significant losses. As of December 31,
1999, our accumulated deficit was $29.6 million. Our losses have resulted
principally from costs incurred in research and development, clinical laboratory
scale-up, and from general and administrative costs associated with our
operations. We expect to continue to incur substantial costs in these areas, as
well as in sales and marketing.
RESULTS OF OPERATIONS
Year Ended December 31, 1999 Compared to Year Ended December 31, 1998
Revenue. Revenue increased to $1.1 million in 1999 from $102,000 in 1998, an
increase of $967,000. This increase was primarily attributable to revenue
recognized from sales in the second half of 1999 to major pharmaceutical
companies, with the balance attributable to revenue recognized from sales to
physicians. In 1998, revenue was solely attributable to sales to pharmaceutical
companies. Our gross margin was approximately 40% in 1999 and approximately 80%
in 1998. Our expenses increased significantly in 1999 to support the expansion
of our manufacturing activities related to our initiation of commercial sales of
PhenoSense HIV tests to physicians in November 1999. Particularly during the
first year of commercial sales, we expect fluctuations in our gross margins.
This is most notably attributable to variations in demand, manufacturing
capacity and processes, and the mix of our customers.
Cost of revenue. Cost of revenue increased to $627,000 in 1999 from $17,000 in
1998. The increase was due to the higher volume of test sales in 1999. Included
in these costs are materials, supplies, and labor and overhead related to the
tests.
Research and development. Research and development expense increased to $9.6
million in 1999 from $6.0 million in 1998, an increase of $3.6 million. The
increase was primarily the result of increasing capacity and automation for our
PhenoSense HIV test. We also increased our spending on clinical trials of
PhenoSense HIV. We expect research and development spending to increase
significantly over the next several years as we expand our research, product
development and automation efforts.
General and administrative. General and administrative expense increased to $6.8
million in 1999 from $1.8 million in 1998, an increase of $5.0 million. The
increase was related primarily to expanding our executive team, as well as
consulting expense and the settlement of litigation. Non-cash compensation
expense related to
22
<PAGE> 21
granting stock and options increased to $1.1 million in 1999, as discussed
below, from no charge in 1998. We recorded legal expenses in 1999 of
approximately $1.9 million for settlement and other costs arising from a lawsuit
brought by a former officer and stockholder, which was settled in November 1999.
Stock based compensation. Deferred compensation for options granted to employees
is the difference between the exercise price and the deemed fair value for
financial reporting purposes of our common stock on the date options were
granted. In connection with the grant of stock options to employees, we recorded
deferred stock compensation of approximately $5.0 million during the year ended
December 31, 1999, of which $490,000 was amortized as a general and
administrative expense in 1999. We also granted a director a stock award of
150,000 shares of fully vested common stock in September 1999. We reflected the
deemed fair value of these shares, $555,000, as a compensation charge in general
and administrative expense in the quarter ended December 31, 1999.
We determined compensation for options granted to non-employees in accordance
with Statement of Financial Accounting Standards No. 123 and the Emerging Issues
Task Force Consensus No. 96-18 as the fair value of the equity instruments
issued. We record compensation for options granted to non-employees as the
related services are rendered, and the value of the compensation may be
periodically remeasured and the expense adjusted accordingly as the underlying
options vest. We recorded an aggregate of $48,000 as a general and
administrative expense in the year ended December 31, 1999 for non-employee
stock based compensation. The aggregate value of $654,000, based on the deemed
fair value of our common stock at December 31, 1999, will be recorded as a
general and administrative expense over the period of the related services,
which is generally three months to four years.
In January and February 2000, we granted employees additional stock options to
purchase 199,193 shares of common stock at $3.70 per share. We will record
additional deferred stock compensation of approximately $1.6 million in the
quarter ending March 31, 2000 to account for the difference between the exercise
price of these employee grants and the deemed fair value for financial reporting
purposes of our common stock on the date of grant. We expect to record
amortization of deferred compensation of approximately $3.6 million as a general
and administrative expense in 2000 related to the employee stock options granted
in 1999 and February 2000. The remaining $2.5 million will be amortized through
January 2004.
In January and February 2000, we also granted non-employees options to purchase
45,000 common shares at $3.70 per share. We will recognize general and
administrative expense related to non-employee stock options recognized over the
respective consultants' service periods and that expense will be based on the
fair value of the stock option using the Black Scholes option valuation model.
The aggregate option fair value of $383,000, based on the fair value of our
common stock as of February 29, 2000, will be recorded over the period of the
related services, which is generally three months to four years. The value may
be periodically remeasured and the expense adjusted accordingly as the
underlying options vest.
Sales and marketing. Sales and marketing expense increased to $1.2 million in
1999 from $484,000 in 1998, an increase of $712,000. This increase was primarily
attributable to hiring our sales force and commencing sales and marketing
activities. In addition, we increased spending on public relations and marketing
materials.
Interest income. Interest income decreased to $249,000 in 1999 from $302,000 in
1998, a decrease of $53,000. This decrease was due to lower average cash and
investment balances in 1999.
Interest expense. Interest expense increased to $243,000 in 1999 from $198,000
in 1998, an increase of $45,000. This increase was due to additional debt
incurred in the second half of 1998 resulting in additional interest expense for
only six months of 1998 compared to the entire year in 1999.
Deemed dividend. In November and December 1999, we sold 1,675,621 shares of
Series C preferred stock for proceeds of $3.1 million. In January and February
2000, we sold an additional 8,461,645 shares of Series C preferred stock for
proceeds of approximately $15.7 million. After reevaluating the fair value of
our common stock in contemplation of this offering, we determined that the
issuance of the Series C preferred stock resulted in a beneficial conversion
feature of approximately $3.1 million in 1999 and $15.7 million in 2000,
calculated in accordance with Emerging Issues Task Force Consensus No. 98-5,
"Accounting for Convertible Securities with
23
<PAGE> 22
Beneficial Conversion Features." The beneficial conversion feature was reflected
as a deemed dividend in the Statement of Operations of $3.1 million for the year
ended December 31, 1999 and will be reflected as a deemed dividend of $15.7
million in the first quarter of 2000.
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
Revenue. Revenue increased to $102,000 in 1998 while no revenue were recognized
in 1997. The 1998 revenue was from the sale of PhenoSense HIV tests to one
pharmaceutical company.
Cost of revenue. Cost of revenue was $17,000 in 1998. There was no cost of
revenue in 1997.
Research and development. Research and development expense increased to $6.0
million in 1998 from $2.5 million in 1997, an increase of $3.5 million. The
increase was due primarily to increased staffing and other personnel-related
costs.
General and administrative. General and administrative expense increased to $1.8
million in 1998 from $858,000 in 1997, an increase of $924,000. The increase was
primarily due to increasing our staff in support of our expanding operations. We
recorded legal expenses of approximately $162,000 in 1998 for litigation related
costs.
Sales and marketing. Sales and marketing expense increased to $484,000 in 1998
from no costs incurred in 1997. The cost was related to establishing a sales and
marketing effort as well as incurring market research and promotional expenses
in connection with marketing PhenoSense HIV to pharmaceutical companies which
commenced in late 1998.
Interest income. Interest income increased to $302,000 in 1998 from $262,000 in
1997, an increase of $40,000. This increase was due to higher average cash and
investment balances in 1998.
Interest expense. Interest expense increased to $198,000 in 1998 from $83,000 in
1997, an increase of $115,000. This increase was due to higher average debt
outstanding during 1998.
LIQUIDITY AND CAPITAL RESOURCES
We have financed our operations since inception primarily through private sales
of preferred stock and equipment financing arrangements. As of December 31,
1999, we had received net proceeds of $31.8 million from issuance of preferred
stock. Through December 31, 1999, we financed equipment purchases and leasehold
improvements totaling approximately $3.5 million. Recently we entered into an
additional $2.25 million equipment financing arrangement of which we had used
$807,970 as of March 31, 2000. We issued two warrants to purchase a total of
53,585 shares of our Series C preferred stock in connection with this
arrangement. As of December 31, 1999, we had approximately $3.2 million in cash,
cash equivalents and restricted cash. In January and February 2000, we sold
Series C preferred stock for aggregate proceeds of $15.7 million. On a pro forma
basis, accounting for the Series C preferred stock proceeds received in January
and February 2000, we had cash, cash equivalents and restricted cash of $18.8
million as of December 31, 1999.
Our cash balance decreased from $9.6 million as of December 31, 1998 to $3.2
million as of December 31, 1999. This $6.4 million net decrease resulted from
the combination of $13.4 million used in operating activities, $3.9 million used
in investing activities including $2.6 million in capital expenditures, and
$10.0 million provided by financing activities.
We believe that the net proceeds of this offering together with existing cash
and marketable securities, borrowings under equipment financing arrangements and
anticipated cash flow from operations, will be sufficient to support our
operations for at least the next two years. Our actual future capital
requirements will depend on many factors, including the following:
- success of our sales and marketing efforts
- competitive market developments
- progress in and scope of our research and development activities
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Future capital requirements will also depend on the extent to which we acquire
or invest in businesses, products and technologies. If we should require
additional financing due to unanticipated developments, additional financing may
not be available when needed or, if available, we may not be able to obtain this
financing on terms favorable to us or to our stockholders. Insufficient funds
may require us to delay, scale back or eliminate some or all of our research and
development programs, or may adversely affect our ability to operate as a going
concern. If additional funds are raised by issuing equity securities,
substantial dilution to existing stockholders may result.
Subsequent to the commencement of our initial public offering process, we
re-evaluated the deemed fair value of our common stock as of January and
February 2000 and determined it to be $11.90 per share. The difference between
the fair value and the price at which the preferred stock was sold is deemed to
be the equivalent of a preferred stock dividend. Accordingly, for Series C
preferred stock sold for $3.70 per share on an as-if converted basis in January
and February 2000, we will record a deemed dividend of $15.7 million in the
quarter ended March 31, 2000. This represents 100% of the proceeds received for
issuing the beneficially convertible preferred stock, the limit established
under the Emerging Issues Task Force Consenses No. 98-5. The deemed dividend
will increase the loss attributed to common stockholders in the quarter ended
March 31, 2000 and will have no impact on our balance sheet.
Income taxes. We incurred net operating losses in 1997, 1998 and 1999 and
consequently we did not pay any federal, state or foreign income taxes. At
December 31, 1999, we had federal and state net operating loss carryforwards of
approximately $27.3 million and $13.8 million, respectively. The federal net
operating loss and credit carryforwards will expire at various dates during 2010
through 2019, if not utilized. The state of California net operating losses will
begin to expire in 2003.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended,
which will be effective for our fiscal year 2001. SFAS 133 establishes
accounting and reporting standards requiring that every derivative instrument,
including certain derivative instruments embedded in other contracts, be
recorded in the balance sheet as either an asset or liability measured at its
fair value. SFAS 133 also requires that changes in the derivative's fair value
be recognized in earnings unless specific hedge accounting criteria are met. We
believe the adoption of SFAS 133 will not have a material effect on our
financial statements, since we currently do not hold derivative instruments or
engage in hedging activities.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The primary objective of our investment activities is to preserve principal
while at the same time maximizing the income we receive from our investments
without significantly increasing risk. Some of the securities that we invest in
may have market risk. This means that a change in prevailing interest rates may
cause the principal amount of the investment to fluctuate. For example, if we
hold a security that was issued with a fixed interest rate at the
then-prevailing rate and the prevailing interest rate later rises, the principal
amount of our investment will probably decline. To minimize this risk in the
future, we intend to maintain our portfolio of cash equivalents and short-term
investments in a variety of securities, including commercial paper, money market
funds, government and non-government debt securities. The average duration of
all of our investments in 1999 was less than one year. Due to the short-term
nature of these investments, we believe we have no material exposure to interest
rate risk arising from our investments. Therefore we have not included
quantitative tabular disclosure in this prospectus.
We have operated primarily in the United States and all sales to date have been
made in U.S. dollars. Accordingly, we have not had any material exposure to
foreign currency rate fluctuations.
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BUSINESS
We are a biotechnology company developing and marketing innovative products to
guide and improve treatment of viral diseases. We have developed a practical way
of directly measuring the impact of genetic mutations on drug resistance and
using this information to guide therapy. We have a proprietary technology,
called PhenoSense, for testing drug resistance in viruses that cause serious
diseases such as AIDS, hepatitis B and hepatitis C. Our first product,
PhenoSense HIV, is a test that directly and quantitatively measures resistance
of a patient's HIV to anti-viral drugs. The results help physicians select
appropriate drugs for their HIV patients. We are also developing PhenoSense
products for other serious viral diseases and are collecting PhenoSense test
results and related clinical data in an interactive database that we plan to
make available to physicians for use in therapy guidance. We believe our
products have the potential to revolutionize the way physicians treat many
serious viral diseases.
BACKGROUND
Viruses
Viruses are microorganisms that must infect living cells to reproduce, or
replicate. Many viruses cause disease in people. These viruses infect human
cells and replicate, making new viruses that can infect other cells. There are
many different types of viruses, but all viruses share structural and functional
characteristics associated with their ability to replicate. During the
replication cycle, viruses often change slightly, or mutate. For example, in an
untreated HIV patient, as many as ten billion new viruses are produced each day,
and at least one quarter of the new viruses have errors, or mutations, in their
genes. At any given time there can be many different variants of the virus
present within the body, each with a slightly different genetic sequence.
The Viral Drug Resistance Crisis
Viruses are so adaptive that the drugs used to fight them can become
ineffective, making many serious viral diseases almost impossible to cure.
Currently available anti-viral drugs interfere with key viral functions to
prevent viruses from replicating, and therefore slow the progression of disease.
However, these drugs are typically effective for only a limited time because
viruses develop resistance to them through mutation, making the therapy less
effective. A resistant virus is one that is less sensitive to the drug that is
administered. Mutant viruses resistant to a particular drug therapy continue to
replicate while the others are eliminated. Over time the mutant, resistant virus
predominates, and the drug therapy fails. In response to this effect, physicians
now use anti-viral drugs in combination, attacking different targets within a
virus simultaneously. Combination therapy slows replication more effectively
than a single drug, further delaying the development of drug resistance. In the
short term, combination therapy has helped many patients. However, even
combination drug therapy eventually fails in a great majority of patients, due
in large part to the fact that the virus becomes resistant to some or all of the
drugs used in combination.
This drug resistance crisis is most serious in HIV/AIDS. There are currently 14
FDA-approved drugs used in various combinations to treat HIV infections.
Combination therapy requires each drug in the combination to be active for
therapy to be most effective. If any of the drugs are not active, the therapy
will likely fail more quickly. To make matters worse, each treatment failure
increases the risk that the next drug combination will not work, and leaves the
patient with fewer future treatment options. And, not surprisingly, drug
resistant viruses are being transmitted to newly infected individuals,
increasing the risk that initial treatment will not work. New drugs with
increased potency and activity against drug resistant viruses are not becoming
available in time to overcome this crisis. Consequently, physicians are faced
with the challenge of tailoring therapy to individual patients without the tools
necessary to assess drug resistance. In fact, physicians face this challenge
numerous times per year for many patients.
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Resistance Testing
When anti-viral therapy does not completely suppress viral replication, drug
resistant variants can emerge rapidly, within days to weeks. If left unchecked,
patients may be at greater risk of becoming more seriously ill unless effective
drugs are promptly administered. Until recently, physicians chose drugs based on
a patient's treatment history and assumptions regarding drug resistance of the
patient's virus. Without drug resistance tests, physicians select drugs not
knowing which drugs the patient's virus is resistant to, and frequently change
all drugs in a treatment regimen even when some may still be effective. When
physicians select ineffective drugs, patients become more seriously ill, suffer
toxic side effects, and unnecessarily bear the costs of the drugs.
To achieve long term clinical benefit, physicians must select drugs that
maximally suppress viral replication and avoid drugs to which a patient's virus
is resistant. We believe that long term solutions will rely on drug resistance
tests and information systems that can guide physicians in selecting the most
effective drugs against the patient's virus and avoiding drugs to which the
patient's virus is resistant. The need for resistance testing was affirmed in
recent guidelines from a panel led by the U.S. Department of Health and Human
Services recommending that resistance tests be routinely used when treating HIV
patients. Resistance tests can also assist pharmaceutical companies in the
development of drugs to target resistant viruses. In fact, a recent FDA advisory
committee recommended emphatically that resistance testing be used in the
development of all new anti-viral drugs for HIV.
Phenotypic tests determine "phenotype," which refers to an organism's outward
appearance or functional characteristics. For example, eye color is a phenotype.
One viral phenotype is the ability to replicate in the presence of anti-viral
drugs, also referred to as "drug resistance." Phenotypic drug resistance tests
directly measure the sensitivity of a patient's virus to anti-viral drugs by
adding a drug to a virus sample and determining whether the virus is able to
replicate in the presence of the drug. These tests eliminate much of the
guesswork in making treatment decisions by providing the physician with
information about drug resistance of a patient's virus.
Early phenotypic tests required culturing, or growing viruses in the laboratory.
These tests were slow, labor intensive and not easily automated. Since viruses
mutate while growing in culture, the process could produce inaccurate results
since the virus in culture may be different from the virus in the patient. As a
result, early phenotypic testing was impractical for patient management. In the
absence of practical phenotypic drug resistance tests, clinicians began to use
genotypic tests in an attempt to predict drug resistance indirectly. Genotypic
tests detect mutations in the underlying gene sequence, or genotype, and attempt
to correlate these mutations with drug resistance. However, the relationship
between genotype and phenotype is complex and not easily interpreted.
OUR SOLUTION
Our PhenoSense technology has revolutionized viral drug resistance testing. Our
technology uses a genetically engineered virus that replicates only once. As a
result, we avoid the need to culture viruses during testing, which makes the
tests more consistent and accurate and dramatically shortens the time required
to complete them. Also, our tests can be automated and performed in large
numbers, making them practical for routine use in clinical management of
patients. We believe that our tests and the information that we collect from
these tests have the potential to significantly change the way physicians treat
viral diseases.
We believe our PhenoSense technology meets the needs of physicians and patients
because it is:
- DIRECT: detects drug resistance of viruses without need for complex
interpretation of mutations
- QUANTITATIVE: measures the degree of drug resistance and susceptibility,
providing more than a "yes" or "no" answer
- RELIABLE: results are accurate and reproducible
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- COMPREHENSIVE: can evaluate drug resistance to all currently available
anti-viral drugs
- VERSATILE: can be modified to evaluate new classes of anti-viral drugs
- USER-FRIENDLY: results are easy to read and understand
- RAPID: can be performed in eight to ten days, much faster than other
phenotypic resistance tests
The cornerstone of our PhenoSense technology is a proprietary vector, which we
call the "resistance test vector." This vector is a strand of viral genes that
replicates when introduced into a living cell. Our vector includes two key
elements. The first is a gene that produces a protein that can be easily
detected, which we call an "indicator." An example of an indicator we use is
luciferase, which is responsible for the glow of fireflies. The second key
element is one or more specific genes derived from the patient's virus. These
genes correspond to the targets of the antiviral drugs being tested. For
example, many HIV drugs target an enzyme called protease that is needed for HIV
to replicate. We incorporate the gene that makes protease into the vector for
our HIV drug resistance test.
[RESISTANCE TEST VECTOR DIAGRAM]
ARTWORK: Diagram of resistance test vector with labels.
TEXT: Resistance Test Vector.
Construction of a resistance test vector for use in PhenoSense tests involves:
- the insertion of the specific genes from a patient's virus that correspond
to the targets of anti-viral drugs.
- the inclusion of an indicator, like luciferase, to allow measurement of
replication.
To perform our PhenoSense tests, we:
- obtain a blood sample from the patient
- isolate and inactivate the virus
- copy the viral genes corresponding to the drug targets
- insert these genes into the vector
- introduce the assembled vector into living cells in a test tube
- add anti-viral drugs to the cells
- allow the vector to complete a single round of replication
- measure the replication of the vector using the indicator
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The amount of indicator we detect is used to measure drug resistance. For
example, we measure the amount of light produced by luciferase in our PhenoSense
HIV test. If the virus is sensitive to the drug being tested, less light is
detected. If the virus is resistant to the drug, more light is detected.
We report our resistance test results using curve diagrams, as shown below. We
plot the amount of luciferase, which corresponds to the amount of virus
replication, on the vertical axis against the amount of drug tested on the
horizontal axis. We generate curves for both a patient's virus and a
drug-sensitive control virus, and compare the two curves to quantitatively
measure drug resistance. Viruses with increased resistance require more drug to
inhibit replication. We produce curves for each available drug.
[DRUG SUSCEPTIBILITY CURVES DIAGRAM]
ARTWORK: Two charts with curves, one labeled "susceptible" and one labeled
"resistant."
TEXT: Drug Susceptibility Curves.
Test results are reported using curve diagrams. Solid curves represent the
patient's virus and dotted curves represent a drug-sensitive control virus.
- Susceptible. When the patient curve closely aligns with the control
curve, the patient's virus is sensitive to the drug
- Resistant. When the patient curve shifts to the right of the control
curve, the patient's virus is demonstrating increased resistance. The
greater the curve shift to the right, the greater is the degree of
resistance
OUR STRATEGY
Our objective is to be the leader in developing and commercializing products and
information systems to guide anti-viral therapy. Key elements of our strategy
are to:
- Establish PhenoSense HIV as the Standard of Care. We plan to aggressively
market PhenoSense HIV to physicians directly and through scientific
publications, clinical trials and scientific meetings, and to patients
through direct-to-patient advertising. We intend to rapidly expand our
physician customer base by marketing the product directly to physicians in
the United States through our own sales force, initially focusing on the
1,000 leading physicians who treat 80% of the total HIV/AIDS
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patient population. Numerous pharmaceutical companies are already using
PhenoSense HIV in their clinical trials, which we expect will further
establish the value of our product in treating HIV patients. We also plan to
expand the use of our tests by pharmaceutical companies in their clinical
trials.
- Expand Our PhenoSense Technology to Other Serious Viral Diseases. Using our
proprietary PhenoSense technology, we intend to develop phenotypic drug
resistance testing products for other viral diseases. We are developing a
resistance test for hepatitis B and intend to develop one for hepatitis C.
- Apply Our PhenoSense Technology to Drug Discovery and Development. We are
developing our PhenoSense technology for use in high throughput screening
applications and other drug discovery efforts. We are also assembling a
library of resistance test vectors for testing of drug compounds and
candidates. We intend to enter into corporate partnerships to jointly
discover and develop drug candidates for the treatment of viral diseases.
- Develop Computer-Based Therapy Guidance Tools. We believe that the data
generated from our resistance tests and related patient information will be
useful in guiding treatment decisions. We are assembling a proprietary
database and developing software to enable the use of this information by
physicians and other healthcare providers to guide individual therapy.
- Maintain a Strong Intellectual Property Portfolio. We have patent coverage
for our PhenoSense HIV product and patent applications directed to our other
PhenoSense products. As we expand into new areas and diversify our business,
we intend to build strong intellectual property positions to maintain our
competitive advantage.
PRODUCTS
PHENOSENSE HIV
PhenoSense HIV is a phenotypic drug resistance test that measures the resistance
of HIV to all available anti-viral drugs. When a physician orders a PhenoSense
HIV test, a blood sample is drawn from the patient. This sample is sent to us to
perform the test in our clinical laboratory located in South San Francisco,
California. We then send a report detailing the results of the test to the
physician, typically within two weeks. We began sales and marketing activity for
PhenoSense HIV in November 1999.
HIV now affects nearly one million people in the United States and over 33
million people worldwide. Fourteen anti-viral drugs are FDA-approved for
treatment of HIV infection and more than 20 additional drugs are currently being
tested in clinical trials. Despite the availability of anti-viral drugs, HIV is
difficult to treat effectively because it replicates rapidly and becomes
resistant to individual anti-viral drugs. Selecting the right drugs when
treating HIV patients is often difficult because physicians have limited
information about the susceptibility to specific anti-viral drugs of the HIV
infecting an individual patient. We estimate that the 300,000 HIV/AIDS patients
in the United States currently receiving anti-viral therapy will require an
aggregate of at least 500,000 resistance tests per year.
Physicians are increasingly using resistance testing because drug resistance in
HIV/AIDS treatment has become a serious crisis. New guidelines for the
management of patients with HIV, issued by a panel led by the U.S. Department of
Health and Human Services, recommend that resistance tests be routinely used for
HIV patients. The guidelines also state that it is reasonable to use resistance
testing when selecting an initial anti-viral drug regimen because transmission
of drug resistant strains of HIV has now been documented. In addition, the FDA
Antiviral Drugs Advisory Committee in November 1999 emphatically recommended
that resistance tests should be utilized in the development of new anti-viral
drugs for HIV.
All currently FDA-approved HIV drugs target one of two important steps in the
replication cycle of HIV. One group of drugs, called "reverse transcriptase
inhibitors," blocks the virus from copying its genetic material. Another group,
called "protease inhibitors," blocks the formation of viral proteins that are
necessary for the virus to infect other cells. The vectors used in our
PhenoSense HIV test incorporate the protease and reverse transcriptase gene
segments from the virus of the patient being tested. Based on our
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knowledge of the mechanism of action of all of the HIV drugs currently in
development, we believe we will be able to incorporate appropriate genes
corresponding to the targets of the new drugs into our PhenoSense HIV vector.
Three prospective clinical trials have demonstrated that the use of resistance
testing to guide selection of anti-viral drug treatment regimens leads to
significantly better treatment outcomes than therapy selection without
resistance testing. These trials included patients who had failed a standard
combination therapy regimen. Patients in these trials who had their therapy
guided by resistance tests had, on average, significantly lower amounts of virus
in their blood; and a significantly higher percentage of those patients had
undetectable levels of virus in their blood after therapy.
We have, with our collaborators, performed numerous retrospective clinical
studies that support the conclusion that resistance testing of HIV patients
improves their treatment outcomes. A retrospective study of 20 patients who were
treated with a new drug combination after failing a previous combination regimen
found that those patients whose new regimen included a greater number of
susceptible drugs, as determined using PhenoSense HIV, had a significantly
greater reduction in viral load for a longer period of time than those patients
whose new regimen included fewer susceptible drugs. Another retrospective study
of 71 HIV-infected patients found that PhenoSense HIV was a significantly better
predictor of treatment outcome after failure of multiple treatment regimens than
patient treatment history or other clinical factors. Two additional studies
using PhenoSense HIV detected reduced drug susceptibility in the virus strains
infecting approximately 25% of newly infected and untreated patients,
demonstrating the value of resistance testing for these patients.
We are conducting a prospective clinical trial to reaffirm the usefulness of
PhenoSense HIV. The trial involves 256 patients who are not responding to their
current combination therapy and is measuring treatment outcomes, in the form of
viral suppression, after their treatment regimen changes. One group of patients
is tested using PhenoSense HIV prior to treatment changes. The control group is
not tested. Patient enrollment for the trial is complete. Additional clinical
trials are evaluating the role of PhenoSense HIV in guiding treatment decisions
in newly infected adult patients, in patients treated previously with one
treatment regimen and in patients treated previously with multiple treatment
regimens. We expect these trials to demonstrate the potential benefits of using
PhenoSense HIV at different stages of HIV therapy.
PHENOSENSE HBV
We are currently developing our PhenoSense technology to analyze drug resistance
of hepatitis B virus, or HBV. HBV infection is a leading cause of liver disease
and liver cancer, and leads to more than one million deaths worldwide each year.
The Center for Disease Control and Prevention estimates that there are over one
million people in the United States chronically infected with HBV, and over 350
million people chronically infected worldwide, mostly in Asia. We estimate that
approximately half of those chronically infected would benefit from anti-viral
drug therapy.
As in the case of HIV, drug resistance is a problem when treating HBV. Similar
to the treatment of HIV infection, effective therapy of chronic HBV infection
will likely require complex combinations of anti-viral drugs. As more drugs
become available, physicians will face increasing difficulty selecting the most
appropriate drug combinations for HBV patients. Therefore, we believe drug
resistance testing will play a significant role in guiding HBV treatment.
The FDA has approved two drugs for the treatment of HBV infection and more than
15 drugs are in preclinical or clinical stages of development. Many of these
drugs target HBV reverse transcriptase, which acts in a manner similar to HIV
reverse transcriptase, to prevent the virus from copying its genes. Research
efforts are ongoing to discover drugs that target other aspects of HBV's life
cycle, such as the assembly of HBV viruses, or the entry of HBV into liver
cells. Based on our knowledge of the mechanism of action of these drugs in
research, we believe that we will be able to incorporate genes corresponding to
the targets of these drugs into our PhenoSense HBV vectors.
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As the use of HBV drugs increases, we expect the demand for PhenoSense HBV to
grow dramatically. Prior to that time, we expect PhenoSense HBV will be used in
discovery and development of new HBV drugs.
PHENOSENSE HCV
We have designed and intend to develop our PhenoSense technology to analyze drug
resistance of hepatitis C virus, or HCV. HCV infection causes liver disease and
liver cancer, similar to HBV. The CDC estimates that four million people in the
United States and more than 170 million people worldwide are infected with HCV.
We estimate that approximately 75% of patients infected with HCV may benefit
from anti-viral drug therapy.
HCV replicates and mutates at extremely high rates inside an infected patient,
similar to HIV and HBV. The virus is likely to develop resistance to drugs being
developed for treatment. Complex combinations of drugs may then be required to
increase the success of treatment. As a result, a number of major pharmaceutical
companies are discovering and developing new drugs for HCV.
HCV drugs are in development that target many different aspects of HCV's life
cycle. Similar to HIV drugs, there are efforts to develop HCV protease
inhibitors as well as drugs that block the replication of the genetic material
of HCV or the production of HCV proteins. Based on our knowledge of the
mechanism of action of these drugs in research, we believe we will be able to
incorporate appropriate genes that correspond to the targets of these drugs into
our PhenoSense HCV vector.
We expect PhenoSense HCV will be utilized to assist in the discovery and
development of HCV drugs and the assessment of drug resistance in HCV patients.
As effective treatments for HCV become more widely available, we intend to offer
PhenoSense HCV to assist physicians in drug treatment decisions.
OTHER PRODUCTS
GeneSeq HIV. We have developed a genotypic test, GeneSeq HIV. Genotypic tests
identify gene sequence mutations that may be associated with resistance to
certain drugs. We have developed GeneSeq HIV as a tool to examine and evaluate
the genetic sequences of patients' HIV. We intend to use this genetic sequence
information as a component of the database supporting our Therapy Guidance
System described below. In addition, we also sell GeneSeq HIV to physicians who
request genotypic testing and pharmaceutical companies that are developing new
drugs.
Viral Fitness Test. We are developing a modified version of our PhenoSense
technology to measure viral fitness. Viral fitness is a measure of a virus'
ability to replicate and infect new cells. It is different from resistance in
that it is a measure of ability to replicate, rather than of activity relative
to a particular drug. While this technology is new, we believe that there will
be numerous applications for this test. For example, in a heavily treated
patient infected with a resistant strain of virus with low viral fitness, a
physician may choose to maintain that patient on the regimen even though it does
not fully suppress the virus. We also believe that viral fitness will be an
important data category in our Therapy Guidance System.
THERAPY GUIDANCE SYSTEM
We are developing a proprietary database derived from the results of the
PhenoSense HIV and other tests that we perform, as well as from data we obtain
from other sources. We expect to combine this database with highly sophisticated
data mining and outcome modeling software to build our Therapy Guidance System.
Our Therapy Guidance System database will include genetic and physical
characteristics of viruses, including their drug resistance patterns and genetic
mutations. In addition, we will incorporate other clinical data including viral
load, drug interactions, patient demographic data, drug side effects and
cost-benefit data. We expect our Therapy Guidance System to give doctors an
interactive computer tool that can be used to help them select optimal therapies
based on both virus and patient characteristics. We expect to provide our
Therapy Guidance System as a fee-based service over the Internet.
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DRUG DISCOVERY AND DEVELOPMENT
Drug and Vaccine Screening. We are developing our PhenoSense technology for use
in high throughput screening applications to evaluate large libraries of
potential drugs or vaccines. We believe our drug resistance screening technology
can provide more extensive information about the activity of chemical compounds
than conventional assays. We expect to enter into corporate partnerships to
jointly discover and develop drug candidates for the treatment of viral diseases
as well as potential vaccines. We will evaluate the activity of compounds or
vaccines against viruses selected from our extensive collection of patient
samples.
Clinical Trials. Because clinical trials are the most expensive part of drug
development, pharmaceutical companies are trying to improve the outcomes of
clinical trials by using the methods of "pharmacogenomics," the scientific
discipline focused on how genetic differences among patients determine or
predict responsiveness or adverse reactions to particular drugs. In a similar
way, pharmaceutical companies are applying our PhenoSense technology to help
select patients for clinical trials. This selection process may allow companies
to guide important drug development decisions before large resource commitments
are made. To date, we have signed testing agreements with the following
pharmaceutical companies involved in AIDS drug development: Agouron, Abbott,
Bristol-Myers Squibb, Gilead Sciences, GlaxoWellcome and Merck. We intend to
grow our clinical research business by applying our technology and expertise to
other serious viral diseases.
We are also involved in more than 30 trials with leading government and academic
organizations evaluating a number of HIV drugs and drug regimens including: the
NIH/AIDS Clinical Trials Group, the University of California, San Francisco, the
University of California, San Diego, the Aaron Diamond AIDS Research Center, and
the University of Colorado. We expect these trials will further support the
utility of PhenoSense HIV resistance testing.
SALES AND MARKETING
We commenced sales and marketing activity for PhenoSense HIV in November 1999.
We currently have five experienced sales representatives promoting PhenoSense
HIV and focus on several major U.S. markets -- New York, San Francisco, Los
Angeles, Chicago, Washington, D.C. and Miami. Within these regions, we are
initially targeting the 1,000 leading HIV physicians who treat 80% of the
HIV/AIDS patients in the United States. We plan to aggressively expand our
direct sales force over the coming months. Outside the United States, we intend
to enter into relationships with other companies to serve these markets.
We employ a wide range of public relations and communications channels to
promote our products. Our marketing strategies focus on physician, patient and
payor education in order to increase market awareness of PhenoSense HIV and
resistance testing. We are sponsoring and participating in conferences and
scientific meetings, advertising in relevant journals and publications, and
continuing to develop literature and sales support tools. Additionally we target
patients directly through advertising.
We have implemented a reimbursement strategy relating to PhenoSense HIV. We have
a toll free hotline to assist customers in obtaining reimbursement or
pre-approval for testing services from healthcare payors. We are also actively
educating both private and public payors about ongoing clinical research in drug
resistance testing to maximize reimbursement.
In addition, we plan to make PhenoSense HIV more broadly available through
multiple national and regional reference laboratories and hospitals. We
currently have distribution agreements with national reference laboratories
including Quest Diagnostics, Laboratory Corporation of America, Specialty
Laboratories and American Medical Laboratories. Under these agreements, these
entities perform numerous services for us including collection of samples,
shipping the samples to us, billing and reporting the results to doctors.
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PATENTS AND PROPRIETARY RIGHTS
We will be able to protect our technology from unauthorized use by third parties
only to the extent that our proprietary rights are covered by valid and
enforceable patents or are effectively maintained as trade secrets. Patents and
other proprietary rights are an essential element of our business. We have an
issued U.S. patent, with claims to the method of carrying out our PhenoSense HIV
test and composition of matter claims for our HIV resistance test vector. As of
December 1999, we have filed nine patent applications in the United States and
corresponding foreign patent applications. Our policy is to file patent
applications and to protect technology, inventions and improvements to
inventions that are commercially important to the development of our business.
Our commercial success will depend in part on obtaining this patent protection.
We also seek protection through confidentiality and proprietary information
agreements. Some of the intellectual property we use is owned by a third party.
We license it on a non-exclusive basis. Other companies may have patents or
patent applications relating to products or processes similar to, competitive
with or otherwise related to our products. These products and processes include
technologies relating to hepatitis C virus. Patents covering these technologies
may adversely impact our ability to commercialize one or more of our PhenoSense
products.
Roche License
We license technology for performing a step in our PhenoSense test from Roche
Molecular Systems, Inc. This license is non-exclusive and lasts for the life of
the patent term of the last licensed Roche patent. In general, newly-issued
patents have a term of twenty years. In addition, if Roche develops or acquires
additional patents covering technology related to the technology we license from
Roche, we have the option of licensing that additional technology under the
terms of this agreement. In exchange for the license, we have agreed to pay
Roche a royalty based on net revenues we receive from our products. At least
sixty days prior to introducing a new product utilizing the Roche technology, we
must notify Roche of that introduction. If we fail to notify Roche, we would
have to pay a higher royalty. We also agreed to participate in proficiency
testing in accordance with applicable quality assurance standards and to comply
with all relevant regulations and standards. Further, we have agreed to give
Roche a reasonable opportunity to negotiate for a license to use any technology
we develop related to the reaction technology we license from Roche, such as the
automation of the method for performing the reaction. To date, we have paid
Roche a total of $26,135 under this license.
COMPETITION
We face, and will continue to face, competition from organizations such as other
biotechnology companies and commercial laboratories, as well as academic and
research institutions.
Our major competitors include manufacturers and distributors of phenotypic drug
resistance technology, such as Virco, and makers of genotypic tests and
instrumentation, such as PE Biosystems and Visible Genetics. Each of these
competitors is attempting to establish its test as the standard of care among
opinion leaders. Although genotypic tests are currently cheaper and faster, we
believe that PhenoSense HIV is superior because it eliminates guesswork when
evaluating test results by providing:
- a direct measure which does not rely on correlation between genetic
mutations and drug resistance
- a quantitative measure of the degree of drug resistance
Some of our competitors have substantially greater financial resources and
larger research and development staffs than we do. In addition, they may have
significantly greater experience in developing products, obtaining the necessary
regulatory approvals of products, and the processing and marketing of products.
Our ability to compete successfully will depend, in part, on our ability to:
- demonstrate the degree of clinical benefit of our products relative to their
costs
- develop proprietary products
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- develop and maintain products that reach the market first
- develop products that are technologically superior to other products in the
market
- obtain patent or other proprietary protection for our products and
technologies
- obtain reimbursement coverage from payors
- attract and retain scientific and product development personnel
REGULATION AND REIMBURSEMENT
Regulation of Clinical Laboratory Operations
The Clinical Laboratory Improvement Amendments of 1988, extends federal
oversight to virtually all clinical laboratories by requiring that laboratories
be certified by the federal government, by a federally-approved accreditation
agency or by a state that has been deemed exempt from the regulation's
requirements. Pursuant to these Federal clinical laboratory regulations,
clinical laboratories must meet quality assurance, quality control and personnel
standards. Labs also must undergo proficiency testing and inspections. Standards
are based on the complexity of the method of testing performed by the
laboratory.
These regulations categorize our laboratory as high complexity, and we believe
we are in compliance with the more stringent standards applicable to high
complexity testing for personnel, quality control, quality assurance and patient
test management. Our clinical laboratory holds a Certificate of Registration
under these regulations, which allows us to conduct testing pending
determination of compliance through a survey. Our clinical laboratory recently
was surveyed by the College of American Pathologists, a federally-approved
accreditation agency, which has accredited our clinical laboratory.
In addition to the Federal laboratory regulations, states, including California,
may require laboratory licensure and may adopt regulations that are more
stringent than federal law. We believe we are in material compliance with
California and other applicable state laws and regulations.
The sanctions for failure to comply with Federal or state clinical laboratory
regulations, or accreditation requirements of federally-approved agencies, may
be suspension, revocation or limitation of a laboratory's certificate or
accreditation. There also could be fines and criminal penalties. The suspension
or loss of a license, failure to achieve or loss of accreditation, imposition of
a fine, or future changes in applicable federal or state laws or regulations or
in the interpretation of current laws and regulations, could have a material
adverse effect on our business.
Medical Waste and Radioactive Materials
We are subject to licensing and regulation under federal, state and local laws
relating to the handling and disposal of medical specimens and hazardous waste
and radioactive materials as well as to the safety and health of laboratory
employees. Our clinical laboratory is operated in material compliance with
applicable federal and state laws and regulations relating to disposal of all
laboratory specimens. We utilize the outside vendors for disposal of specimens.
Although we believe that we are currently in compliance in all material respects
with such federal, state and local laws, failure to comply could subject us to
denial of the right to conduct business, fines, criminal penalties and other
enforcement actions.
Occupational Safety
In addition to its comprehensive regulation of safety in the workplace, the
federal Occupational Safety and Health Administration, has established extensive
requirements relating to workplace safety for healthcare employers, including
clinical laboratories, whose workers may be exposed to blood-borne pathogens
such as HIV and the hepatitis B virus. These regulations, among other things,
require work practice controls,
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<PAGE> 34
protective clothing and equipment, training, medical follow-up, vaccinations and
other measures designed to minimize exposure to chemicals and transmission of
the blood-borne and airborne pathogens.
Specimen Transportation
Regulations of the Department of Transportation, the Public Health Service and
the Postal Service apply to the surface and air transportation of clinical
laboratory specimens.
Regulation of Coverage and Reimbursement
Revenues for clinical laboratory testing services come from a variety of
sources, including Medicare and Medicaid programs; other third-party payors,
including commercial insurers, Blue Cross Blue Shield plans, health maintenance
and other managed care organizations; and patients, physicians, hospitals and
other laboratories. We have applied to become a Medicare laboratory services
provider. We have submitted Medicaid provider applications in certain key
states. Medicare, Medicaid and most other third party payors do not cover
services they deem to be still investigational or otherwise not reasonable and
necessary for diagnosis or treatment. While recently issued guidelines of the
Department of Health and Human Services recommend drug resistance testing for
HIV patients, this does not assure coverage by Medicare or any other payors.
We are unable to predict whether and under what circumstances Medicare, Medicaid
and other payors will cover resistance testing services. Denial of such coverage
by payors would have a material adverse impact on our business.
Since 1984, Congress has periodically lowered the ceilings on Medicare
reimbursement for clinical laboratory services from previously authorized
levels. In addition, state Medicaid programs are prohibited from paying more
than Medicare for clinical laboratory tests. In most instances, they pay
significantly less. Similarly, other payors, including managed care
organizations, have sought on an ongoing basis to reduce the costs of healthcare
by limiting utilization and payment rates. Actions by Medicare or other payors
to reduce reimbursement rates or limit coverage or utilization of resistance
testing will have a direct adverse impact on our revenues and cash flows. We
cannot predict whether reductions or limitations will occur, though we feel some
reductions are likely.
Fraud and Abuse Regulation
Existing federal laws governing Medicare and Medicaid and other federal
healthcare programs, as well as similar state laws, impose a variety of broadly
described fraud and abuse prohibitions on healthcare providers, including
clinical laboratories. Multiple government agencies enforce these laws. The
Health Insurance Portability and Accountability Act of 1996 provides for the
establishment of a program to coordinate federal, state and local law
enforcement programs. Over the last several years, the clinical laboratory
industry has also been the focus of major government enforcement actions.
One set of fraud and abuse laws, the federal anti-kickback laws, prohibits
clinical laboratories from, among other things, making payments or furnishing
other benefits intended to induce the referral of patients for tests billed to
Medicare, Medicaid, or certain other federally funded programs. California also
has its own Medicaid anti-kickback law, as well as an anti-kickback law that
prohibits payments made to physicians to influence the referral of any patients.
California laws also limit the ability to use a non-employee sales force.
Under another federal provision, known as the "Stark" law or "self-referral"
prohibition, physicians who have an investment or compensation relationship with
a clinical laboratory may not, unless a statutory exception applies, refer
Medicare or Medicaid patients for testing to the laboratory. In addition, a
laboratory may not bill Medicare, Medicaid or any other party for testing
furnished pursuant to a prohibited referral. There is a California self-referral
law, as well, which applies to all patient referrals.
Currently, we have a financial relationship with one referring physician, who
serves as part-time medical director at our clinical laboratory. Very few of
this physician's patients, if any, are federal healthcare program patients. In
addition, we do not bill for services furnished to any patients referred by this
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<PAGE> 35
physician. The California anti-kickback law may have exceptions applicable to
our relationship with this physician. We plan to seek a written opinion from
California officials to determine whether this relationship is appropriate.
There are a variety of other types of federal and state anti-fraud and abuse
laws, including laws prohibiting submission of false or otherwise improper
claims to federal healthcare programs, and laws limiting the extent of any
differences between charges to Medicare and Medicaid and charges to other
parties. We seek to structure our business to comply with the federal and state
anti-fraud and abuse laws. We cannot predict, however, how these laws will be
applied in the future, and we cannot be sure arrangements will not be found in
violation of them. Sanctions for violations of these laws may include exclusion
from participation in Medicare, Medicaid and other federal healthcare programs,
criminal and civil fines and penalties, and loss of license. Any of these could
have a material adverse effect on us.
EMPLOYEES
As of March 24, 2000, we had 110 employees, of whom 10 hold PhD or MD degrees
and 18 hold other advanced degrees. Approximately 41 employees are engaged in
clinical laboratory operations, including 15 licensed healthcare professionals.
There are 25 employees in research and development, and 33 in sales, marketing,
information systems, finance and other administrative functions. We believe we
maintain excellent relations with our employees.
FACILITIES
We currently lease 27,000 square feet of office and laboratory space in South
San Francisco, California. In May 2000, we will begin leasing an additional
40,000 square feet of office and laboratory space at a South San Francisco
location. In July 2001 we will begin leasing a building adjacent to this space,
adding 54,000 square feet of space. We believe these facilities will meet our
space requirements for clinical reference laboratory operations, research and
development, and administration for the next several years. Our lease on our
current and future facilities expire in the years 2004 and 2010, respectively.
All leases provide options to extend.
LEGAL PROCEEDINGS
We are not a party to any legal proceedings.
SCIENTIFIC ADVISORY BOARD
We have established an internationally renowned Scientific Advisory Board to
provide specific expertise in areas of research and development relevant to our
business. Our Scientific Advisory Board meets periodically with our scientific
and development personnel and management to discuss our present and long-term
research and development activities. Scientific Advisory Board members include
the following leaders in scientific and clinical HIV research:
STEPHEN P. GOFF, PHD -- Higgens Professor of Biochemistry and Molecular
Biophysics at the College of Physicians and Surgeons of Columbia University, and
an Investigator of the Howard Hughes Medical Institute
DAVID D. HO, MD -- Scientific Director and Chief Executive Officer of the Aaron
Diamond AIDS Research Center, and a Professor of The Rockefeller University.
STEPHEN H. HUGHES, PHD -- Chief, Retrovirus Replication Laboratory and Head,
Vector Design and Replication Section of the HIV Drug Resistance Program at the
National Cancer Institute -- Frederick Cancer Research and Development Center
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DOUGLAS D. RICHMAN, MD -- Professor of Pathology and Medicine (Infectious
Diseases) at the University of California, San Diego School of Medicine
ROBERT T. SCHOOLEY, MD -- Gill Professor of Medicine and Head of the Infectious
Disease Division at the University of Colorado Health Sciences Center
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<PAGE> 37
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The following table sets forth, as of March 24, 2000, certain information
concerning our executive officers and directors:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
William D. Young................ 55 Chairman, Chief Executive Officer and Director
Martin H. Goldstein............. 50 President and Director
Frank Barker.................... 57 Vice President, Information Technology and
Chief Information Officer
Nicholas S. Hellmann, MD........ 41 Vice President, Clinical Research
Christos J. Petropoulos, PhD.... 46 Vice President, Research and Development
Robin M. Toft................... 39 Vice President, Sales and Marketing
Patricia A. Wray................ 43 Vice President, Human Resources
Richard M. Beleson(1)(2)........ 46 Director
Anders Hove, MD(1).............. 34 Director
Cristina H. Kepner(2)........... 54 Director
Albert L. Zesiger(1)(2)......... 70 Director
</TABLE>
- -------------------------
(1) Member of the compensation committee.
(2) Member of the audit committee.
WILLIAM D. YOUNG has served as our Chief Executive Officer since November 1999
and has served as the Chairman of the Board since May 1999. From March 1997 to
October 1999, Mr. Young was Chief Operating Officer at Genentech, Inc., a
biotechnology company. As COO at Genentech, Mr. Young was responsible for all of
the company's development, operations and commercial functions. Mr. Young joined
Genentech in 1980 as Director of Manufacturing and Process Sciences and held
various positions prior to becoming COO. Prior to joining Genentech, Mr. Young
was employed by Eli Lilly and Company for 14 years. Mr. Young is a member of the
board of directors of IDEC Pharmaceuticals, Inc., VaxGen, Inc. and Energy
Biosystems, Inc. He received his BS in chemical engineering from Purdue
University and his MBA from Indiana University.
MARTIN H. GOLDSTEIN has served as our President since May 1996 and as a director
since November 1995. Mr. Goldstein was one of our co-founders in 1995 and has
served in other executive officer positions, including Chief Executive Officer
and Chief Operating Officer, since that time. From 1993 to May 1996, Mr.
Goldstein was a consultant to privately held biotechnology companies in the
areas of patents and licensing. From 1991 to 1993, Mr. Goldstein was Vice
President, General Counsel and Secretary of Epimmune, Inc., a biotechnology
company. From 1989 to 1991, Mr. Goldstein was Vice President, General Counsel
and Secretary of Xoma Corporation, a biotechnology company. From 1985 to 1989,
Mr. Goldstein was Patent Counsel at Genentech. From 1983 to 1985, he was a
patent attorney at Hoffmann-LaRoche, a pharmaceutical company. He received his
MS in physiology from the University of Florida School of Medicine and a JD from
Cardozo School of Law of Yeshiva University.
FRANK BARKER has served as our Vice President, Information Technology and Chief
Information Officer since November 1999. From 1996 until January 2000, Mr.
Barker was Senior Vice President and Chief Information Officer for HealthCor,
Inc., a home healthcare provider. From 1993 to 1996, Mr. Barker was Vice
President of Client Services for Antrim, Corp., a laboratory information systems
vendor. From 1993 to 1996, he was Chief Operating Officer for CHC, Inc., a
hospital and laboratory information systems vendor.
NICHOLAS S. HELLMANN, MD has served as our Vice President, Clinical Research
since September 1997. From 1995 to 1997, Dr. Hellmann was Director of Clinical
Research at Gilead Sciences, Inc., a biopharmaceutical company. In 1995 he was
employed as a clinical scientist at Genentech. From 1993 to
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<PAGE> 38
1995, he was Associate Director of Antiviral Clinical Research at Bristol-Myers
Squibb, a pharmaceutical company. Dr. Hellmann has been involved with clinical
care of patients with infectious diseases, especially HIV infection, and
infectious disease research since 1982. He received his MD degree from the
University of Kentucky and completed his internal medicine residency and
infectious diseases fellowship training at the University of California, San
Francisco.
CHRISTOS J. PETROPOULOS, PHD has served as our Director of Research and
Development since August 1996, became Senior Director of Research and
Development in September 1997 and was named our Vice President, Research and
Development in November 1999. From 1992 to 1996, Dr. Petropoulos was a scientist
at Genentech where he headed the Molecular Virology Laboratory and the Research
Virology and Molecular Detection Laboratories from 1994 to 1996. Dr. Petropoulos
received his PhD in molecular and cell biology from Brown University.
ROBIN M. TOFT has served as our Vice President, Sales and Marketing since May
1998. From 1996 to May 1998 Ms. Toft was employed with Laboratory Corporation of
America, or LabCorp, a national clinical laboratory, first as national sales
director and then as Associate Vice President of Business Development. From 1991
through 1996, Ms. Toft worked in sales for National Health Laboratories, a
clinical laboratory, which merged with Roche Biomedical Laboratories to form
LabCorp in 1995. Ms. Toft received her BS in medical technology from Michigan
State University.
PATRICIA A. WRAY has served as our Senior Director of Human Resources since
September 1998 and was named our Vice President of Human Resources in November
1999. From 1997 until September 1998, Ms. Wray operated her own human resources
consulting business. From 1989 to 1997, Ms. Wray was an internal consultant and
director with Genentech. She received her MS from Michigan State University.
RICHARD M. BELESON has served on our board of directors since May 1996. Mr.
Beleson is Senior Vice President for Capital Research Company, an investment
company. Prior to joining Capital Research in 1984, he was a research analyst
for Boettcher & Company.
ANDERS HOVE, MD has served on our board of directors since August 1998. Dr. Hove
has been a member of the Bellevue Group in Zurich, Switzerland since 1996, which
focuses on investing in public and private biotechnology companies in the United
States and in Europe. Dr. Hove is also a director of The Medicines Company. From
1992 to 1996, Dr. Hove held various corporate positions in clinical development
and marketing at Ciba-Geigy Pharmaceuticals Division, Basel, Switzerland.
CRISTINA H. KEPNER has served on our board of directors since May 1996. Ms.
Kepner is Director, Executive Vice President and Corporate Finance Director at
Invemed Associates LLC, an investment banking firm which she joined in 1978. Ms.
Kepner serves on the board of directors of Quipp, Inc.
ALBERT L. ZESIGER has served on our board of directors since August 1999. Mr.
Zesiger is a founding Principal of Zesiger Capital Group LLC, an investment
advisory firm. He has been in the money management business for over 30 years.
He also serves on the board of directors of Durect Corporation, Eos
Biotechnology, Inc., Hayes Medical Inc., and Praecis Pharmaceuticals Inc. and is
Co-Chair of Asphalt Green, Inc., a non-profit corporation.
BOARD COMPOSITION
Upon the closing of this offering, in accordance with the terms of our restated
certificate of incorporation, the terms of office of the board of directors will
be divided into three classes:
- Class I directors, whose term will expire at the annual meeting of
stockholders to be held in 2001
- Class II directors, whose term will expire at the annual meeting of
stockholders to be held in 2002
- Class III directors, whose term will expire at the annual meeting of
stockholders to be held in 2003
Our Class I directors will be Messrs. Beleson and Young, our Class II directors
will be Mr. Goldstein and Ms. Kepner, and our Class III directors will be Dr.
Hove and Mr. Zesiger. At each annual meeting of
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stockholders after the initial classification, the successors to directors whose
terms will then expire will be elected to serve from the time of election and
qualification until the third annual meeting following election. Any additional
directorships resulting from an increase in the number of directors will be
distributed among the three classes so that, as nearly as possible, each class
will consist of one-third of the directors. This classification of the board of
directors may have the effect of delaying or preventing changes in control or
management of our company.
COMMITTEES OF THE BOARD OF DIRECTORS
The audit committee of the board of directors reviews our internal accounting
procedures and consults with and reviews the services provided by our
independent accountants.
Our compensation committee reviews and makes recommendations to the board
concerning compensation and benefits of all of our executive officers,
administers our stock option plan and establishes and reviews general policies
relating to compensation and benefits of our employees.
DIRECTOR COMPENSATION
Our directors do not currently receive any cash compensation for services on the
board of directors or any committee thereof, but directors may be reimbursed for
certain expenses in connection with attendance at board and committee meetings.
In addition, all directors are eligible to participate in our 2000 Equity
Incentive Plan.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
During the fiscal year ended December 31, 1999, Messrs. Beleson, Hove and Young
served as members of our compensation committee. None of our executive officers
serves as a member of the board of directors or compensation committee of any
entity that has one or more executive officers serving on our board of directors
or compensation committee.
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EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth the compensation awarded or paid to, or earned or
accrued for services rendered to us in all capacities during 1999 by our chief
executive officer, and the four other most highly compensated officers whose
total compensation exceeded $100,000 during 1999. The compensation described in
the table does not include medical, group life insurance or other benefits
which, in the aggregate, are available generally to all our salaried employees
and perquisites and other personal benefits which do not exceed the lesser of
$50,000 or 10% of the executive officer's salary disclosed in this table. We
refer to these executive officers as our "named executive officers" in other
parts of this prospectus.
<TABLE>
<CAPTION>
LONG TERM
COMPENSATION
AWARDS
ANNUAL COMPENSATION --------------------
------------------------------- NUMBER OF SECURITIES
NAME AND PRINCIPAL POSITION SALARY BONUS OTHER UNDERLYING OPTIONS
--------------------------- -------- -------- ------- --------------------
<S> <C> <C> <C> <C>
William D. Young................. $ 51,868 $825,000(1) -- 650,000(2)
Chairman of the Board and
Chief Executive Officer
Martin H. Goldstein.............. $258,310 -- -- 13,612(3)
President and Director
Nicholas S. Hellmann............. $182,676 $ 45,000 -- --
Vice President, Clinical
Research
Christos J. Petropoulos.......... $130,912 $ 7,421 -- 5,775(3)
Vice President, Research and
Development
Robin M. Toft.................... $158,339 -- $48,084(4) --
Vice President, Sales and
Marketing
</TABLE>
- ---------------------------
(1) Consists of a stock bonus granted to Mr. Young prior to his employment with
us in consideration of his service as our Chairman of the Board. At the time
of grant, these shares had an aggregate fair value of $555,000. For a more
detailed discussion of this grant, see "Employment Agreements -- William D.
Young." Also includes $270,000 in cash bonuses accrued in 1999 that will be
paid in 2000.
(2) For a detailed description of these option grants, see "-- Employment
Agreements -- William D. Young."
(3) This option is intended to be an incentive stock option. The shares
underlying this option vest monthly over 48 months beginning on April 30,
1999. The exercise price of this option is $5.40 per share.
(4) Includes a housing allowance of $20,074 and forgiveness of $28,010 owed to
us by Ms. Toft.
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<PAGE> 41
1999 OPTION GRANTS
The following table sets forth information concerning stock options granted to
each of our named executive officers during 1999:
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE VALUE
PERCENTAGE AT ASSUMED ANNUAL
NUMBER OF OF TOTAL RATES OF STOCK
SECURITIES OPTIONS PRICE APPRECIATION
UNDERLYING GRANTED TO EXERCISE FOR OPTION TERM
OPTIONS EMPLOYEES IN PRICE EXPIRATION ---------------------------
NAME GRANTED YEAR 1999 PER SHARE DATE 5% 10%
---- ---------- ------------ --------- ---------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
William D. Young.......... 250,000(1)(2) 26.7% $3.14 11/11/09 $2,065,566 $3,754,049
250,000(1)(2) 26.7 3.14 11/11/09 2,065,566 3,754,049
150,000(2) 16.0 3.14 11/11/09 1,239,339 2,252,430
Martin H. Goldstein....... 13,612(3) 1.5 5.40 3/30/09 81,703 173,637
Christos J. Petropoulos... 5,775(3) 0.6 5.40 3/30/09 34,663 73,667
</TABLE>
- ---------------------------
(1) These options were granted outside of our equity incentive plans.
(2) For a description of the vesting of these options, see "-- Employment
Agreements -- William D. Young."
(3) One forty-eighth of the underlying shares vest each month beginning on April
30, 1999.
Except where noted, the figures in the table above represent options granted
under our 2000 Equity Incentive Plan. We granted options to purchase 1,019,675
shares of our common stock in 1999. The percentage of total options in the table
above was calculated based on options to purchase an aggregate of 936,087 shares
of our common stock granted to our employees in 1999. All options were granted
at an exercise price equal to the fair value of the common stock on the date of
grant as determined by our board of directors.
The exercise price of the options listed in the table above is equal to the fair
value of our common stock on the date of grant, as determined by the board of
directors. Because there has been no public market for our common stock, in
determining the fair value, the board of directors gives consideration to a
number of factors, including the following:
- - the available cash and financial condition of our company and our difficulty
raising capital in 1999
- - the share price in our most recent round of preferred stock financing
- - the material differences between the rights, preferences and privileges of the
most-recently issued series of preferred stock and the rights of the common
stock
- - the stage of development of our company
- - the valuations of other companies in our industry at similar stages of
development
- - other factors that the board of directors deems relevant
In view of the variety of factors considered by the board in determining the
fair market value of our common stock on any given date, the board does not
believe it is practicable to quantify or otherwise assign relative weight to the
specific factors considered in determining fair market value.
You should note the disparity between the exercise price of the options in the
table above and the assumed public offering price. Because of this disparity, we
have used the assumed public offering price to compute the potential realizable
option values in the table above.
The potential realizable value represents amounts, net of exercise price before
taxes, that may be realized upon exercise of the options immediately prior to
the expiration of their terms assuming appreciation of 5% and 10% over the
option term. The 5% and 10% are calculated based on rules promulgated by the
Securities and Exchange Commission and the initial public offering price of
$7.00 per share and do not reflect our estimate of future stock price growth.
The actual value realized may be greater or less than the potential realizable
value set forth in the table.
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1999 OPTION VALUES
The following table sets forth information concerning the number and value of
exercisable and unexercisable options held by each of the named executive
officers as of December 31, 1999. The value of unexercised in-the-money options
at December 31, 1999 represents an amount equal to the difference between the
initial public offering price of $7.00 per share and the option exercise price,
multiplied by the number of unexercised in-the-money options. An option is
in-the-money if the fair value of the underlying shares exceeds the exercise
price of the options.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS
DECEMBER 31, 1999 AT DECEMBER 31, 1999
---------------------------- ----------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C>
William D. Young.................. 533,125 129,375 $2,050,800 $ 478,200
Martin H. Goldstein............... 2,552 11,060 4,083 17,696
Christos J. Petropoulos........... 5,925 7,350 32,533 24,407
Robin M. Toft..................... 19,791 42,709 75,206 162,294
</TABLE>
As of December 31, 1999, 500,000 of the shares subject to options held by
William D. Young would, if exercised, be subject to a repurchase right in our
favor that lapses over time as described in "-- Employment Agreements -- William
D. Young."
EMPLOYEE BENEFIT PLANS
2000 Equity Incentive Plan
In November 1995, our board of directors adopted our 1996 Stock Plan, and the
plan was approved by our stockholders on May 1996. In February 2000, we approved
an amendment and restatement of the plan, and re-named the plan the "2000 Equity
Incentive Plan." As amended, a total of 4,200,000 shares of common stock are
authorized for issuance under the plan. Shares subject to stock awards that have
expired or otherwise terminated without having been exercised in full again
become available for grant.
The plan permits the grant of options to our directors, executive officers, key
employees and consultants and certain of our advisors. Options may be either
incentive stock options to employees within the meaning of Section 422 of the
Internal Revenue Code or non-statutory stock options. In addition, the plan
permits the grant of stock bonuses and rights to purchase restricted stock.
Except in specified circumstances, no person may be granted options covering
more than 1,000,000 shares of common stock in any calendar year.
The plan is administered by the board of directors or a committee appointed by
the board. The board has delegated the authority to administer the plan to our
compensation committee. Subject to the limitations set forth in the plan, the
compensation committee and the administrator have the authority to select the
eligible persons to whom award grants are to be made, to designate the number of
shares to be covered by each award, to determine whether an option is to be an
incentive stock option or a non-statutory stock option, to establish vesting
schedules, to specify the exercise price of options and the type of
consideration to be paid upon exercise and, subject to specified restrictions,
to specify other terms of awards.
The maximum term of options granted under the plan is ten years. Incentive stock
options granted under the plan generally are non-transferable. Non-statutory
stock options generally are non-transferable, although the applicable option
agreement may permit some transfers. Options generally expire from one to three
months after the termination of an optionholder's service. However, if an
optionholder is permanently disabled or dies during his or her service, that
person's options generally may be exercised up to 12 months following disability
or death.
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<PAGE> 43
The exercise price of options granted under the plan is determined by the board
of directors or committee in accordance with the guidelines set forth in the
plan. The exercise price of an incentive stock option cannot be less than 100%
of the fair value of the common stock on the date of grant. The exercise price
of a non-statutory stock option cannot be less than 85% of the fair market value
of the common stock on the date of grant.
Options granted under the plan vest at the rate determined by the board of
directors or committee and specified in the option agreement. The terms of any
stock bonuses or restricted stock purchase awards granted under the plan will be
determined by the board of directors or committee. The purchase price of
restricted stock under any restricted stock purchase agreement will be
determined by the board of directors or committee and will not be less than 85%
of the fair value of our common stock on the date of grant. Stock bonuses and
restricted stock purchase agreements awarded under the plan are generally non-
transferable, although the applicable award agreement may permit some transfers.
In the event of a change in control in our ownership as defined in our plan, all
outstanding stock awards under the plan must either be assumed or substituted by
the surviving entity. In the event the surviving entity does not assume or
substitute such stock awards, then the vesting and exercisability of outstanding
awards will accelerate prior to the change in control and such awards will
terminate to the extent not exercised prior to the change in control. The board
of directors may amend or terminate the plan at any time. Amendments will
generally be submitted for stockholder approval to the extent required by
applicable law.
As of December 31, 1999, we had issued and outstanding under the plan options to
purchase 740,867 shares of common stock and 394,253 shares had been purchased
upon the exercise of previously held options. The per share exercise prices of
these outstanding options range from $0.32 to $5.40. In February 2000, we
granted to our employees and non-employees stock options to purchase 244,193
shares of common stock at an exercise price of $3.70 per share.
2000 Employee Stock Purchase Plan
In February 2000, we adopted the 2000 Employee Stock Purchase Plan. A total of
500,000 shares of common stock has been reserved for issuance under the purchase
plan. The purchase plan is intended to qualify as an employee stock purchase
plan within the meaning of Section 423 of the Internal Revenue Code. Under the
purchase plan, the board of directors may authorize participation by eligible
employees, including executive officers, in periodic offering following the
commencement of the purchase plan. The initial offering under the purchase plan
will commence on the effective date of this offering and terminate on January
31, 2002.
Unless otherwise determined by the board of directors, employees are eligible to
participate in the purchase plan only if they are employed by us or one of our
subsidiaries designated by the board of directors for at least 20 hours per week
and are customarily employed for at least five months per calendar year.
Employees who participate in an offering may have up to 15% of their earnings
withheld pursuant to the purchase plan. The amount withheld is then used to
purchase shares of common stock on specified dates determined by the board of
directors. The price of common stock purchased under the purchase plan will be
equal to 85% of the lower of the fair value of the common stock at the
commencement date of each offering period or the relevant purchase date.
Employees may end their participation in the offering at any time during the
offering period, and participation ends automatically on termination of
employment.
In the event of a merger, reorganization, consolidation or liquidation, the
board of directors has discretion to provide that each right to purchase common
stock will be assumed or an equivalent right substituted by the successor
corporation or the board of directors may provide for all sums collected by
payroll deductions to be applied to purchase stock immediately prior to such
merger or other transaction. The board of directors has the authority to amend
or terminate the purchase plan, provided, however, that no such action may
adversely affect any outstanding rights to purchase common stock.
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<PAGE> 44
EMPLOYMENT AGREEMENTS
William D. Young
We have an agreement with William D. Young governing his employment as our Chief
Executive Officer. Our employment agreement provides for a base salary of
$300,000 per year, plus a yearly incentive bonus as part of our bonus program
based on objectives established by the board of directors after consultation
with Mr. Young, plus a yearly special bonus of between $50,000 and $100,000,
grossed up for tax purposes. In addition, the agreement contains a
non-solicitation agreement.
As required by the agreement, prior to the commencement of Mr. Young's
employment, we also granted him a stock bonus award of 150,000 fully vested
shares of our common stock, in consideration of his past service as our Chairman
of the Board prior to becoming our chief executive officer. The agreement also
provides for the following:
- a cash bonus in the gross amount of $180,000, granted on January 15, 2000,
and an additional cash bonus in the gross amount of $180,000, granted on
April 15, 2000
- an incentive stock option under our 2000 Equity Incentive Plan covering
150,000 shares of our common stock, to vest as to 30,000 shares on December
31, 1999 and as to an additional 2,500 shares at the end of each month
thereafter
- a non-statutory stock option, granted outside of our 2000 Equity Incentive
Plan, covering 250,000 shares of our common stock, to vest as to 25% after
the first year of employment and the remaining 75% in equal installments
over the next three years. This option may be exercised prior to vesting,
but unvested portions acquired will be subject to a repurchase right by us
that will expire gradually consistent with the vesting schedule
- a non-statutory stock option, granted outside of our 2000 Equity Incentive
Plan, covering 250,000 shares of our common stock. This option vests 100%
after the five years of employment, unless either one of the following
occurs before that date:
- a merger or acquisition or initial public offering where the per share
valuation of our common stock is imputed to be more than $18.50, in which
case 125,000 shares shall immediately vest
- our product revenue for any fiscal year exceeds $20.0 million, in which
case 125,000 shares shall immediately vest
This option may also be exercised prior to vesting, subject to our repurchase
right.
Any of these options may be exercised by delivery of a promissory note, and each
of the options immediately becomes fully vested if, within one year of a change
in our control or liquidation, Mr. Young is terminated without cause or resigns
for good reason.
Our agreement with Mr. Young specifies that Mr. Young's employment is at-will.
If we terminate his employment for any reason other than for cause, however, or
if his employment is terminated as a result of death or permanent disability, we
have also agreed to continue to pay him, or his estate, his base salary, at the
level in effect at the time of termination, for an additional 12 months. Also,
we have agreed that in any of these events the vesting of his options shall
accelerate, either for an additional 12 months or, after he has been employed
for more than two years, in full.
Martin H. Goldstein
We have an agreement with Martin H. Goldstein governing his employment as our
President. The agreement provided that the stock options granted to Mr.
Goldstein under the agreement were to vest over four years. These options are
now fully vested.
Our agreement with Mr. Goldstein specifies that Mr. Goldstein's employment is
at-will. If we terminate his employment for any reason other than for cause,
however, or if his employment is terminated as a
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<PAGE> 45
result of death or permanent disability, we have also agreed to continue to pay
him, or his estate, his base salary, at the level in effect at the time of
termination, for an additional six months.
LIMITATION ON LIABILITY AND INDEMNIFICATION MATTERS
Our certificate of incorporation limits the liability of directors to the
maximum extent permitted by Delaware law. In addition, our bylaws require us to
indemnify our directors and executive officers, and allow us to indemnify our
other employees and agents, to the fullest extent permitted by law. We have also
entered into agreements to indemnify some of our directors and executive
officers. We believe that these provisions and agreements are necessary to
attract and retain qualified directors and executive officers. At present, there
is no pending litigation or proceeding involving any director, executive
officer, employee or agent where indemnification will be required or permitted.
We are not aware of any threatened litigation or proceeding that might result in
a claim for such indemnification. Insofar as indemnification for liabilities
arising under the Securities Act may be permitted to directors, executive
officers or persons controlling our company pursuant to the foregoing
provisions, we have been informed that, in the opinion of the Securities and
Exchange Commission, such indemnification is against public policy as expressed
in the Securities Act and is therefore unenforceable.
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<PAGE> 46
PRINCIPAL STOCKHOLDERS
The following table sets forth information regarding beneficial ownership of our
common stock as of March 24, 2000, by:
- each of our directors
- each of our named executive officers
- each person who beneficially owns more than five percent of the outstanding
shares of common stock
- all of our directors and executive officers as a group
Beneficial ownership is determined according to the rules of the Securities and
Exchange Commission, and generally means that a person has beneficial ownership
of a security and warrants if he or she possesses sole or shared voting or
investment power of that security, and includes options and warrants that are
currently exercisable or exercisable within 60 days. Information with respect to
beneficial ownership has been furnished to us by each director, officer or 5% or
more stockholder, as the case may be. Except as otherwise indicated, we believe
that the beneficial owners of the common stock listed below, based on the
information each of them has given to us, have sole investment and voting power
with respect to their shares, except where community property laws may apply.
This table lists applicable percentage ownership based on 14,687,397 shares of
common stock outstanding as of March 24, 2000, and also lists applicable
percentage ownership based on 19,687,397 shares of common stock outstanding
after completion of this offering. Options and warrants to purchase shares of
our common stock that are exercisable within 60 days of March 24, 2000, are
deemed to be beneficially owned by the persons holding these options and
warrants for the purpose of computing percentage ownership of that person, but
are not treated as outstanding for the purpose of computing any other person's
ownership percentage. Shares underlying options and warrants that are deemed
beneficially owned are listed in this table separately in the column labeled
"Shares Subject to Options." These shares are included in the number of shares
listed in the column labeled "Total Number."
Unless otherwise indicated, the address for each person or entity named below is
ViroLogic, Inc., 270 East Grand Avenue, South San Francisco, California 94080.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY OWNED
---------------------------------------------------------------
SHARES SUBJECT
TOTAL TO OPTIONS PERCENT BEFORE PERCENT AFTER
NAME OF BENEFICIAL OWNER NUMBER AND WARRANTS OFFERING OFFERING
------------------------ ---------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Anders Hove(1)......................... 3,804,710 199,705 25.6% 19.1%
Biotech Growth S.A.
Albert L. Zesiger(2)................... 2,676,598 -- 18.2 13.6
Zesiger Capital Group
Richard M. Beleson(3).................. 955,157 631 6.5 4.9
Capital Management Services, Inc.
Martin H. Goldstein(4)................. 464,813 4,324 3.2 2.4
Cristina H. Kepner(5).................. 360,937 59,445 2.4 1.8
Invemed Associates, Inc.
William D. Young....................... 193,125 43,125 1.3 *
Christos J. Petropoulos................ 82,459 7,459 * *
Nicholas S. Hellmann................... 75,292 292 * *
Robin M. Toft.......................... 25,000 25,000 * *
Daniel Capon(6)........................ 1,807,420 -- 12.3 9.2
All directors and executive officers as
a group (11 persons)(7).............. 8,648,283 350,173 57.5 43.2
</TABLE>
(footnotes on next page)
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<PAGE> 47
- ---------------------------
* Represents beneficial ownership of less than 1%.
(1) Includes 3,605,005 shares held by Biotech Growth S.A., a fully owned
subsidiary of BB Biotech A.G., and 199,705 shares that Biotech Growth may
acquire on or before May 23, 2000 by exercising warrants that it holds. Mr.
Hove disclaims beneficial ownership of these shares and warrants. Mr. Hove's
business address is c/o Bellevue Research, 1 Cambridge Center, 9th Floor,
Cambridge, MA 02142.
(2) Includes 2,614,098 shares held by entities for whom Zesiger Capital Group
acts as an investment advisor. The largest of these entities is the State of
Oregon Public Employee Retirement system which owns 968,750 shares,
representing approximately 6.6% and 4.9% of the total number of shares
outstanding before and after the offering, respectively. Mr. Zesiger shares
voting and investment power over shares held by these entities and disclaims
beneficial ownership of these shares except to the extent of his pecuniary
interest therein. Mr. Zesiger's business address is c/o Zesiger Capital
Group, 320 Park Avenue, New York, NY 10022.
(3) Includes 941,026 shares held by Capital Management Services, Inc. and 631
shares that Capital Management Services may acquire on or before April 15,
2000 by exercising warrants that it holds. Mr. Beleson shares voting and
investment power over the shares and warrants held by Capital Management
Services and disclaims beneficial ownership of these shares and warrants
except to the extent of his pecuniary interest therein. Mr. Beleson's
business address is c/o Capital Group, One Market, Stewart Tower, Suite
1800, San Francisco, CA 94105.
(4) Includes 50,000 shares held in trust by Mr. Goldstein for his children. Also
includes 8,239 shares held in our 401(k) plan of which Mr. Goldstein serves
as a trustee. Mr. Goldstein disclaims beneficial ownership of these shares.
(5) Includes 267,060 shares held by Invemed Associates, Inc. Ms. Kepner shares
voting and investment power over the shares held by Invemed and disclaims
beneficial ownership of these shares except to the extent of her pecuniary
interest therein. Ms. Kepner's business address is c/o Invemed Associates,
375 Park Avenue, Suite 2205, New York, NY 10152.
(6) Includes 25,000 shares held by Dr. Capon in trust for his children as well
as 150,000 shares held by his wife, Miriam Siekevitz. Dr. Capon disclaims
beneficial ownership of these shares. The business address of Dr. Capon, our
Chairman Emeritus, is 1324 Rollins Road, Burlingame, CA 94010.
(7) Includes:
- shares listed in footnotes 1 through 5
- 10,192 shares acquirable by an executive officer not listed separately in
the table above on or before May 23, 2000 by exercising vested stock
options
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<PAGE> 48
RELATED PARTY TRANSACTIONS
The following is a description of transactions since inception to which we have
been a party, in which the amount involved exceeds $60,000 and in which any
director, executive officer or holder of more than 5% of our capital stock had
or will have a direct or indirect material interest, other than compensation
arrangements which are described under "Management."
The following persons or entities purchased securities in the amounts set forth,
on an as-converted to common basis, in the chart below. We sold shares of our
Series A preferred stock between May 1996 and May 1997. We sold shares of our
Series B preferred stock in August 1998. We sold shares of our Series C
preferred stock between August 1999 and February 2000.
<TABLE>
<CAPTION>
COMMON SERIES A SERIES B SERIES C
PURCHASER(1) STOCK FINANCING FINANCING FINANCING WARRANTS
------------ --------------- ----------- --------- ----------- --------------
<S> <C> <C> <C> <C> <C>
DIRECTORS AND PRINCIPAL STOCKHOLDERS
Richard M. Beleson.................... -- 843,750 97,276 13,500 631
Capital Management Services, Inc.
Cristina H. Kepner.................... -- 101,562 4,864 195,066 59,445
Invemed Associates, Inc.
Anders Hove........................... -- -- 2,237,354 1,756,756 241,748
Biotech Growth S.A.
Albert L. Zesiger..................... -- 1,124,998 -- 1,676,600 --
Zesiger Capital Group,
Daniel Capon.......................... 1,387,500 -- -- 892,920 --
EXECUTIVE OFFICERS
William D. Young...................... 150,000 -- -- -- --
Martin H. Goldstein................... 402,250 -- -- 50,000 --
Nicholas S. Hellmann.................. 75,000 -- -- -- --
Christos J. Petropoulos............... 75,000 -- -- -- --
OTHER TRANSACTION INFORMATION
Price per share....................... $0.002 to $3.70 $3.20 $6.40 $3.70 $0.02 to $8.00
</TABLE>
- -------------------------
(1) See "Principal Stockholders" for more detail on shares held by these
purchasers.
We were involved in a dispute with Dr. Daniel Capon, a significant stockholder
and former employee. We settled the dispute in November 1999. In connection with
this settlement we purchased shares of our common stock held by him for $225,000
in cash and allowed Dr. Capon to retain 100,000 shares of our common stock that
we had the right to repurchase.
We have entered into an Amended and Restated Investor Rights Agreement with each
of the purchasers of our preferred stock pursuant to which these and other
stockholders will have registration rights following this offering with respect
to their shares of common stock issued upon conversion of their preferred stock.
We have entered into, or prior to this offering will enter into, indemnification
agreements with our directors and executive officers for the indemnification of
and advancement of expenses to these persons to the fullest extent permitted by
law. We also intend to enter into these agreements with our future directors and
executive officers.
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DESCRIPTION OF CAPITAL STOCK
GENERAL
Immediately following the closing of this offering, our authorized capital stock
will consist of 60,000,000 shares of common stock, $0.001 par value per share,
and 5,000,000 shares of preferred stock, $0.001 par value per share.
This summary does not purport to be complete and is subject to, and qualified in
its entirety by: the provisions of our certificate of incorporation, as amended
and restated; various documents and agreements evidencing warrants and
registration rights, all of which are included as exhibits to the registration
statement which this prospectus is a part; and applicable provisions of Delaware
law.
COMMON STOCK
As of March 24, 2000, and assuming the conversion of all outstanding preferred
stock into common stock upon the closing of this offering, there were
outstanding 14,687,397 shares of common stock held of record by 152
stockholders, options to purchase 1,434,028 shares of common stock and warrants
to purchase 742,082 shares of common stock. The holders of common stock are
entitled to one vote per share on all matters to be voted on by the
stockholders. Subject to preferences that may be applicable to any outstanding
shares of preferred stock, holders of common stock are entitled to receive
ratably such dividends as may be declared by the board of directors out of funds
legally available therefor. In the event of our liquidation, dissolution or
winding up, holders of common stock are entitled to share ratably in all assets
remaining after payment of liabilities and the liquidation preferences of any
outstanding shares of preferred stock. Holders of common stock have no
preemptive, conversion, subscription or other rights. There are no redemption or
sinking fund provisions applicable to the common stock. All outstanding shares
of common stock are, and all shares of common stock to be outstanding upon
completion of this offering will be, fully paid and nonassessable.
PREFERRED STOCK
As of March 24, 2000, assuming the closing of this offering, all outstanding
shares of preferred stock would have been converted into 9,587,769 shares of
common stock. See Note 5 to financial statements for a description of the
currently outstanding preferred stock. Following the conversion, our certificate
of incorporation will be amended and restated to delete all references to such
shares of preferred stock. The certificate of incorporation, as restated, gives
to the board of directors the authority, without further action by stockholders,
to issue up to 5,000,000 shares of preferred stock in one or more series and to
fix the rights, preferences, privileges, qualifications and restrictions granted
to or imposed upon such preferred stock, including dividend rights, conversion
rights, voting rights, rights and terms of redemption, liquidation preference
and sinking fund terms, any or all of which may be greater than the rights of
the common stock. The issuance of preferred stock could:
- adversely affect the voting power of holders of common stock and reduce the
likelihood that such holders will receive dividend payments and payments
upon liquidation
- decrease the market price of our common stock
- delay, deter or prevent a change in our control
We have no present plans to issue any shares of preferred stock.
In November 1997, all of our outstanding shares of Series A preferred stock were
converted into shares of common stock. No shares of Series A preferred stock
remain outstanding.
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WARRANTS
In connection with the private placement of our Series A preferred stock, in May
1996, we issued warrants which are now exercisable for up to 396,093 shares of
common stock, all of which remain unexercised as of March 24, 2000. The exercise
price of these warrants is $3.68 per share.
In connection with the private placement of our Series B preferred stock in
August, 1998, we issued warrants to purchase shares of our common stock and
preferred stock which, after the offering, will be exercisable for 243,122
shares of common stock, of which 243,106 remain unexercised as of March 24,
2000. The exercise prices of these warrants range from $0.02 to $5.91 per share
of common stock.
In connection with leases for our facilities and financing agreements between
May 1998 and August 1998, we issued warrants to purchase 105,883 shares of our
common stock, 102,883 of which remain unexercised as of March 24, 2000. The
exercise prices of these warrants range from $3.68 to $8.00 per share.
The exercise price of each of our outstanding warrants is subject to customary
adjustments upon stock splits, stock dividends or subdivisions. Additionally,
the warrants are subject to customary adjustments upon a sale of all or
substantially all of our assets or upon our reorganization, reclassification,
consolidation or merger. The exercise prices of the warrants are also subject to
adjustment in the event of our subsequent issuance of common stock at a price
per share less than their respective exercise prices. None of our warrants
confer upon the holder any voting or any other rights of our stockholders, and
are subject to certain registration rights agreements described below.
REGISTRATION RIGHTS
Pursuant to the Amended and Restated Investor Rights Agreement, as amended, and
individual warrant agreements between us and some of our investors, the
investors, holding an aggregate of 12,965,690 shares of our common stock issued
or issuable upon conversion of our outstanding preferred stock and upon exercise
of outstanding warrants to purchase common stock, have registration rights
pertaining to the securities they hold, exercisable any time following 180 days
after the effective date of this offering. If we propose to register any of our
securities under the Securities Act for our own account or the account of any of
our stockholders other than these holders of registrable shares, holders of such
registrable shares are entitled to notice of the registration and are entitled
to include registrable shares therein, provided, among other conditions, that
the underwriters of any such offering have the right to limit the number of
shares included in such registration. In addition, commencing 180 days after the
effective date of the registration statement of which this prospectus is a part,
we may be required to prepare and file a registration statement under the
Securities Act at our expense if requested to do so by the holders of at least
30% of the registrable shares, or by holders who propose to register securities,
the aggregate offering price of which, net of underwriting discounts and
commissions, equals or exceeds $10.0 million. We are required to use our best
efforts to effect such registration. We are not obligated to effect more than
three of such stockholder-initiated registrations. Further, holders of
registrable securities may require us to file additional registration statements
on Form S-3.
We are required to bear substantially all costs incurred in connection with any
such registrations, other than underwriting discounts and commissions. The
foregoing registration rights could result in substantial future expenses for us
and adversely affect any future equity offerings.
ANTI-TAKEOVER PROVISIONS
Delaware Law
We are governed by the provisions of Section 203 of the Delaware General
Corporation Law. In general, Section 203 prohibits a public Delaware corporation
from engaging in a "business combination" with an "interested stockholder" for a
period of three years after the date of the transaction in which the person
became an interested stockholder, unless the business combination is approved in
a prescribed manner. A
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<PAGE> 51
"business combination" includes mergers, asset sale or other transactions
resulting in a financial benefit to the stockholder. An "interested stockholder"
is a person who, together with affiliates and associates, owns, or within three
years did own, 15% or more of the corporation's voting stock. The statute could
have the effect of delaying, deferring or preventing a change in our control.
Certificate of Incorporation and Bylaw Provisions
Our certificate of incorporation, which will become effective shortly following
the closing of this offering, provides that our board of directors will be
divided into three classes of directors, with each class serving a staggered
three-year term. The classification system of electing directors may tend to
discourage a third party from making a tender offer or otherwise attempting to
obtain control of us and may maintain the composition of our current board of
directors, as the classification of the board of directors generally increases
the difficulty of replacing a majority of directors. Our certificate of
incorporation provides that any action required or permitted to be taken by our
stockholders must be effected at a duly called annual or special meeting of
stockholders and may not be effected by any consent in writing. In addition, our
bylaws provide that special meetings of our stockholders may be called only by
the chairman of the board, our president, our chief executive officer, or by the
board of directors pursuant to a resolution adopted by a majority of the total
number of authorized directors.
Our certificate of incorporation also specifies that the authorized number of
directors may be changed only by resolution of the board of directors and does
not include a provision for cumulative voting for directors. Under cumulative
voting, a minority stockholder holding a sufficient percentage of a class of
shares may be able to ensure the election of one or more directors. These and
other provisions contained in our certificate of incorporation and bylaws could
delay or discourage certain types of transactions involving an actual or
potential change in control or change in our management, including transactions
in which stockholders might otherwise receive a premium for their shares over
then current prices. These provisions may also limit the ability of stockholders
to remove current management or approve transactions that stockholders may deem
to be in their best interests and, therefore, could adversely affect the price
of our common stock.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for our common stock is American Stock Transfer
& Trust.
LISTING
Our common stock has been approved for listing on the Nasdaq National Market
under the symbol "VLGC."
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<PAGE> 52
SHARES ELIGIBLE FOR FUTURE SALE
When the offering is completed, we will have a total of 19,687,397 shares of
common stock outstanding. The 5,000,000 shares offered by this prospectus will
be freely tradeable unless they are purchased by our "affiliates," as defined in
Rule 144 under the Securities Act. Shares purchased by affiliates may generally
only be sold pursuant to an effective registration statement under the
Securities Act or in compliance with Rule 144. The remaining 14,687,397 shares
are "restricted," which means they were originally sold in offerings that were
not subject to a registration statement filed with the Securities and Exchange
Commission. These restricted shares may generally be resold only through
registration under the Securities Act or under an available exemption from
registration, such as provided through Rule 144.
RULE 144
Generally, Rule 144 as currently in effect provides that, beginning 90 days
after the first date of this prospectus, a person who has beneficially owned
shares of our common stock for at least one year would be entitled to sell,
within any three-month period, a number of shares that does not exceed the
greater of:
- one percent of the number of shares of common stock then outstanding, which
based on the shares outstanding as of March 24, 2000, will equal
approximately 196,874 shares; or
- the average weekly trading volume of the common stock on the Nasdaq National
Market during the four calendar weeks preceeding the filing of the notice on
Form 144 with respect to the sale.
Rule 144 provides limitation as the manner of sales and imposes requirements as
to notice and the availability of current public information about us.
Under Rule 144(k), a person who has not been one of our affiliates at any time
during the 90 days preceding a sale, and who has beneficially owned the shares
proposed to be sold for at least two years, may sell his or her shares without
complying with the manner of sale, public information, volume limitation or
notice provisions of Rule 144. Therefore, unless otherwise restricted, including
by a lock-up agreement, a person who has been a non-affiliate for at least two
years may sell his or her shares in the open market.
One hundred eighty days after the date of this prospectus, 9,464,722 shares of
our common stock will be eligible for sale under Rule 144 or Rule 701. Of the
shares eligible for sale under Rule 144, 2,595,214 shares are eligible for sale
under Rule 144(k). The remaining shares will become eligible for sale under Rule
144 or Rule 701 from time to time during the 180 days thereafter.
RULE 701
Rule 701 permits any of our employees, officers, directors or consultants who
purchased their shares under a compensatory stock or option plan or other
written agreement prior to the effective date of this offering to sell such
shares under Rule 144 without complying with the holding period, public
information, volume limitation or notice requirement of Rule 144. All holders of
Rule 701 shares may not sell their Rule 701 shares until 90 days after the date
of this prospectus. However, substantially all shares of our common stock issued
under Rule 701 are subject to lock-up agreements described above.
REGISTRATION RIGHTS
The holders of 12,291,658 shares of common stock and of warrants exercisable for
674,032 shares of common stock will be entitled to certain rights with respect
to the registration of these shares under the Securities Act. After these shares
are registered, they will be freely tradable.
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<PAGE> 53
LOCK-UP AGREEMENTS
All of our stockholders have entered into lock-up agreements with us prohibiting
them from offering, selling, pledging or otherwise disposing of their shares for
a period of 180 days after the date of this prospectus. In addition, our
directors and officers and other stockholders who together own 10,822,517 shares
of common stock have agreed to similar lock-up agreements with the underwriters
prohibiting them from offering, selling, pledging or otherwise disposing of
these shares for the same 180-day period. This generally means that the
stockholders cannot sell these shares during the 180 days following the date of
this prospectus. See "Underwriting" for additional details.
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<PAGE> 54
UNDERWRITING
We have entered into an underwriting agreement with the underwriters named
below. CIBC World Markets Corp., ING Barings LLC and Prudential Securities
Incorporated are acting as representatives of the underwriters.
The underwriting agreement provides for the purchase of a specific number of
shares of common stock by each of the underwriters. The underwriters'
obligations are several, which means that each underwriter is required to
purchase a specified number of shares, but is not responsible for the commitment
of any other underwriter to purchase shares. Subject to the terms and conditions
of the underwriting agreement, each underwriter has severally agreed to purchase
the number of shares of common stock set forth opposite its name below:
<TABLE>
<CAPTION>
UNDERWRITER NUMBER OF SHARES
----------- ----------------
<S> <C>
CIBC World Markets Corp. ................................... 2,180,000
ING Barings LLC............................................. 1,090,000
Prudential Securities Incorporated.......................... 1,090,000
Chase H&Q................................................... 80,000
First Union Securities, Inc. ............................... 80,000
SG Cowen Securities Corporation............................. 80,000
Warburg Dillon Read LLC..................................... 80,000
Crowell, Weedon & Co. ...................................... 40,000
Roth Capital Partners, Inc. ................................ 40,000
Dominick & Dominick LLC..................................... 40,000
Josephthal & Co. Inc. ...................................... 40,000
Leerink Swann & Company..................................... 40,000
Parker/Hunter Incorporated.................................. 40,000
Stephens Inc. .............................................. 40,000
First Security Van Kasper................................... 40,000
-----------------
Total..................................................... 5,000,000
=================
</TABLE>
The underwriters have agreed to purchase all of the shares offered by this
prospectus (other than those covered by the over-allotment option described
below) if any are purchased. Under the underwriting agreement, if an underwriter
defaults in its commitment to purchase shares, the commitments of non-
defaulting underwriters may be increased or the underwriting agreement may be
terminated, depending on the circumstances.
The shares should be ready for delivery on or about May 5, 2000 against payment
in immediately available funds. The representatives have advised us that the
underwriters propose to offer the shares directly to the public at the public
offering price that appears on the cover page of this prospectus. In addition,
the representatives may offer some of the shares to other securities dealers at
such price less a concession of $0.25 per share. The underwriters may also
allow, and such dealers may reallow, a concession not in excess of $0.10 per
share to other dealers. After the shares are released for sale to the public,
the representatives may change the offering price and other selling terms at
various times.
We have granted the underwriters an over-allotment option. This option, which is
exercisable for up to 30 days after the date of this prospectus, permits the
underwriters to purchase a maximum of 750,000 additional shares from us to cover
over-allotments. If the underwriters exercise all or part of this option, they
will purchase shares covered by the option at the initial public offering price
that appears on the cover page of this prospectus, less the underwriting
discount. If this option is exercised in full, the total price to public will be
$40,250,000, and the total proceeds to us will be $37,432,500. The underwriters
have severally agreed that, to the extent the over-allotment option is
exercised, they will each purchase a number of additional shares proportionate
to the underwriter's initial amount reflected in the foregoing table.
56
<PAGE> 55
The following table provides information regarding the amount of the discount to
be paid to the underwriters by us:
<TABLE>
<CAPTION>
TOTAL WITHOUT EXERCISE OF TOTAL WITH FULL EXERCISE OF
PER SHARE OVER-ALLOTMENT OPTION OVER-ALLOTMENT OPTION
--------- ---------------------------- ---------------------------
<S> <C> <C> <C>
ViroLogic...................... $0.49 $2,450,000 $2,817,500
</TABLE>
We estimate that our total expenses of the offering, excluding the underwriting
discount, will be approximately $1.7 million.
We have agreed to indemnify the underwriters against certain liabilities,
including liabilities under the Securities Act.
We, our officers and directors and some other stockholders have agreed to a
180-day "lock up" with respect to 10,822,517 shares of common stock that they
beneficially own, including securities that are convertible into shares of
common stock and securities that are exchangeable or exercisable for shares of
common stock. This means that for a period of 180 days following the date of
this prospectus, we and such persons may not offer, sell, pledge or otherwise
dispose of these securities without the prior written consent of CIBC World
Markets Corp.
The representatives have informed us that they do not expect discretionary sales
by the underwriters to exceed five percent of the shares offered by this
prospectus.
The underwriters have reserved for sale up to 250,000 shares for employees,
directors and other persons associated with us. These reserved shares will be
sold at the initial public offering price that appears on the cover page of this
prospectus. The number of shares available for sale to the general public in the
offering will be reduced to the extent reserved shares are purchased by such
persons. The underwriters will offer to the general public, on the same terms as
other shares offered by this prospectus, any reserved shares that are not
purchased by such persons.
There is no established trading market for the shares. The offering price for
the shares has been determined by us and the representatives, based on the
following factors:
- estimates of our business potential and earnings prospects
- an assessment of our management
- consideration of the above factors in relation to market valuations of
companies in related businesses
Rules of the Securities and Exchange Commission may limit the ability of the
underwriters to bid for or purchase shares before the distribution of the shares
is completed. The underwriters may, however, engage in the following activities
in accordance with the rules:
- Stabilizing transactions -- The representatives may make bids or purchases
for the purpose of pegging, fixing or maintaining the price of the shares,
so long as stabilizing bids do not exceed a specified maximum.
- Over-allotments and syndicate covering transactions -- The underwriters may
create a short position in the shares of as much as 15 - 20% by selling more
shares than are set forth on the cover page of this prospectus. A prospectus
will be delivered to each purchaser of shares in these "short sales," and we
understand that each such purchaser will be entitled to the same remedies
under the Securities Act as if the purchaser purchased shares in this
offering in a transaction that is not a short sale. If a short position is
created in connection with the offering, the representatives may engage in
syndicate covering transactions by purchasing shares in the open market. The
representatives may also elect to reduce any short position by exercising
all or part of the over-allotment option.
- Penalty bids -- If the representatives purchase shares in the open market in
a stabilizing transaction or syndicate covering transaction, they may
reclaim a selling concession from the underwriters and selling group members
who sold those shares as part of this offering.
Stabilization and syndicate covering transactions may cause the price of the
shares to be higher than it would be in the absence of such transactions. The
imposition of a penalty bid might also have an effect on the price of the shares
if it discourages resales of the shares.
57
<PAGE> 56
Neither we nor the underwriters makes any representation or prediction as to the
effect that the transactions described above may have on the price of the
shares. These transactions may occur on the Nasdaq National Market or otherwise.
If such transactions are commenced, they may be discontinued without notice at
any time.
One of the representatives, Prudential Securities Incorporated, facilitates the
making of new issues online through its Prudential Securities.com division.
Clients of Prudential Advisors(SM) may view offering terms and a prospectus
online and place orders through their financial advisors. Other than the
prospectus in electronic format, the information on the Prudential Securities
Incorporated website is not part of this prospectus or the registration
statement of which this prospectus forms a part and has not been approved or
endorsed by us or any underwriter in such capacity and should not be relied on
by prospective investors.
LEGAL MATTERS
Certain legal matters with respect to the legality of the issuance of shares of
common stock offered by this prospectus will be passed upon for us by Cooley
Godward LLP, San Diego, California. Certain legal matters will be passed upon
for the underwriters by McDermott, Will & Emery.
EXPERTS
Ernst & Young LLP, independent auditors, have audited our financial statements
at December 31, 1998 and 1999, and for each of the three years in the period
ended December 31, 1999, as set forth in their report. We have included our
financial statements in the prospectus and elsewhere in the registration
statement in reliance on Ernst & Young LLP's report, given on their authority as
experts in accounting and auditing.
WHERE YOU CAN FIND MORE INFORMATION
We have filed a registration statement on Form S-1 with the Securities and
Exchange Commission in connection with this offering. In addition, upon
completion of the offering, we will be required to file annual, quarterly and
current reports, proxy statements and other information with the Securities and
Exchange Commission. You may read and copy the registration statement and any
other documents filed by us at the Securities and Exchange Commission's Public
Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. Please call
the Securities and Exchange Commission at 1-800-SEC-0330 for further information
on the Public Reference Room. Our Securities and Exchange Commission filings are
also available to the public at the Securities and Exchange Commission's
Internet site at "http://www.sec.gov."
This prospectus is part of the registration statement and does not contain all
of the information included in the registration statement. Whenever a reference
is made in this prospectus to any contract or other document of ViroLogic, the
reference may not be complete and you should refer to the exhibits that are a
part of the registration statement for a copy of the contract or document.
After the offering, we expect to provide annual reports to our stockholders that
include financial statements examined and reported on by our independent
auditors.
58
<PAGE> 57
INDEX OF FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Ernst & Young LLP, Independent Auditors........... F-2
Balance Sheets.............................................. F-3
Statements of Operations.................................... F-4
Statement of Stockholders' Equity........................... F-5
Statements of Cash Flows.................................... F-6
Notes to Financial Statements............................... F-7
</TABLE>
F-1
<PAGE> 58
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To the Board of Directors and Stockholders
ViroLogic, Inc.
We have audited the accompanying balance sheets of ViroLogic, Inc. as of
December 31, 1998 and 1999 and the related statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 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. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of ViroLogic, Inc. at December 31,
1998 and 1999 and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 1999, in conformity with
accounting principles generally accepted in the United States.
Palo Alto, California
February 4, 2000, except as to Notes 1 and 9
for which the date is April 17, 2000
/s/ ERNST & YOUNG LLP
F-2
<PAGE> 59
VIROLOGIC, INC.
BALANCE SHEETS
(in thousands, except par value per share)
<TABLE>
<CAPTION>
PRO FORMA
STOCKHOLDERS'
DECEMBER 31, EQUITY AT
-------------------- DECEMBER 31,
1998 1999 1999
-------- -------- -------------
(Unaudited)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................... $ 9,564 $ 2,208
Accounts receivable, net of allowance for bad debts of
$63.................................................. -- 550
Inventory............................................... -- 287
Restricted cash......................................... -- 950
Other current assets.................................... 100 310
-------- --------
Total current assets................................. 9,664 4,305
Property and equipment, net............................... 3,538 5,028
Other assets.............................................. 73 444
-------- --------
Total assets......................................... $ 13,275 $ 9,777
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable........................................ $ 586 $ 1,457
Accrued compensation.................................... 163 560
Other accrued liabilities............................... 568 788
Deferred revenue........................................ 148 81
Current portion of loan................................. 801 897
-------- --------
Total current liabilities............................ 2,266 3,783
Long term portion of loan................................. 1,948 1,051
Long term deferred rent................................... 231 245
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.001 par value, 13,959 shares
authorized; issuable in series; 3,935 and 9,749
shares issued and outstanding at December 31, 1998
and 1999, respectively, (2,450 and 5,357,
respectively, on an as-if converted basis) (none-pro
forma); aggregate liquidation preference of $23,349
at December 31, 1999 (none -- pro forma)............. 4 10 $ --
Common stock, $0.001 par value, 30,000 shares
authorized; 4,810 and 5,097 shares issued and
outstanding at December 31, 1998 and 1999,
respectively (10,454 shares -- pro forma)............ 5 5 10
Additional paid-in capital.............................. 21,381 38,812 38,817
Notes receivable from officers and employees............ (95) (46) (46)
Deferred compensation................................... -- (4,478) (4,478)
Accumulated deficit..................................... (12,465) (29,605) (29,605)
-------- -------- --------
Total stockholders' equity........................... 8,830 4,698 $ 4,698
======== ======== ========
Total liabilities and stockholders' equity........... $ 13,275 $ 9,777
======== ========
</TABLE>
See accompanying notes.
F-3
<PAGE> 60
VIROLOGIC, INC.
STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1997 1998 1999
------- ------- --------
<S> <C> <C> <C>
Revenue..................................................... $ -- $ 102 $ 1,069
Operating costs and expenses:
Cost of revenue........................................... -- 17 627
Research and development.................................. 2,458 5,977 9,588
General and administrative................................ 858 1,782 6,804
Sales and marketing....................................... -- 484 1,196
------- ------- --------
Total costs and operating expenses..................... 3,316 8,260 18,215
------- ------- --------
Operating loss.............................................. (3,316) (8,158) (17,146)
Interest income............................................. 262 302 249
Interest expense............................................ (83) (198) (243)
------- ------- --------
Net loss.................................................... (3,137) (8,054) (17,140)
Deemed dividend to preferred stockholders................... -- -- 3,100
------- ------- --------
Net loss allocable to common stockholders................... $(3,137) $(8,054) $(20,240)
Basic and diluted net loss per common share................. $ (1.21) $ (1.71) $ (4.24)
======= ======= ========
Shares used in computing basic and diluted net loss per
common share.............................................. 2,591 4,700 4,772
======= ======= ========
Pro forma basic and diluted net loss per common share
(unaudited)............................................... $ (2.53)
========
Shares used in computing pro forma basic and diluted net
loss per common share (unaudited)......................... 8,015
========
</TABLE>
See accompanying notes.
F-4
<PAGE> 61
VIROLOGIC, INC.
STATEMENT OF STOCKHOLDERS' EQUITY
(in thousands, except shares and per share data)
<TABLE>
<CAPTION>
NOTES
CONVERTIBLE RECEIVABLE
PREFERRED STOCK COMMON STOCK ADDITIONAL FROM
------------------- ------------------- PAID-IN OFFICERS & DEFERRED
SHARES AMOUNT SHARES AMOUNT CAPITAL EMPLOYEES COMPENSATION
---------- ------ ---------- ------ ---------- ---------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance as of December 31, 1996.... 2,733,596 $ 3 2,287,500 $ 2 $ 4,531 $ (71) $ --
Issuance of Series A convertible
preferred stock.................. 2,674,216 2 -- -- 4,275 -- --
Conversion of Series A preferred
stock to common stock............ (5,407,812) (5) 2,703,906 3 -- -- --
Repurchase of common stock......... -- -- (265,625) -- 2 -- --
Issuance of common stock in
exchange for notes............... -- -- 106,750 -- 72 (72) --
Exercise of stock options.......... -- -- 3,749 -- 1 -- --
Repayment of notes receivable...... -- -- -- -- -- 4 --
Net loss........................... -- -- -- -- -- -- --
---------- --- ---------- --- ------- ----- -------
Balance as of December 31, 1997.... -- -- 4,836,280 5 8,881 (139) --
Issuance of Series B convertible
preferred stock.................. 3,935,158 4 -- -- 12,508 -- --
Repurchase of common stock......... -- -- (6,666) -- (2) -- --
Exercise of common stock options... -- -- 15,000 -- 5 (4) --
Repurchase of restricted common
shares........................... -- -- (34,375) -- (11) 11 --
Exercise of common stock warrant... -- -- 12 -- -- -- --
Repayment of note receivable....... -- -- -- -- -- 37 --
Net loss........................... -- -- -- -- -- -- --
---------- --- ---------- --- ------- ----- -------
Balance as of December 31, 1998.... 3,935,158 4 4,810,251 5 21,381 (95) --
Exercise of stock options, net of
repurchases...................... -- -- 25,004 -- 44 -- --
Issuance of Series C convertible
preferred stock.................. 5,814,107 6 -- -- 10,729 -- --
Issuance of common stock........... -- -- 111,373 -- 1,087 -- --
Stock award to officer............. -- -- 150,000 -- 555 -- --
Repayment of note receivable....... -- -- -- -- -- 16 --
Forgiveness of note receivable..... -- -- -- -- -- 33 --
Deferred compensation.............. -- -- -- -- 4,968 -- (4,968)
Amortization of deferred
compensation..................... -- -- -- -- -- -- 490
Stock-based compensation related to
consultant options............... -- -- -- -- 48 -- --
Net loss........................... -- -- -- -- -- -- --
Deemed dividend to preferred
stockholders..................... -- -- -- -- (3,100) -- --
-- -- -- -- 3,100 -- --
---------- --- ---------- --- ------- ----- -------
Balance as of December 31, 1999.... 9,749,265 $10 5,096,628 $ 5 $38,812 $ (46) $(4,478)
========== === ========== === ======= ===== =======
<CAPTION>
TOTAL
ACCUMULATED STOCKHOLDERS'
DEFICIT EQUITY
----------- -------------
<S> <C> <C>
Balance as of December 31, 1996.... $ (1,274) $ 3,191
Issuance of Series A convertible
preferred stock.................. -- 4,277
Conversion of Series A preferred
stock to common stock............ -- (2)
Repurchase of common stock......... -- 2
Issuance of common stock in
exchange for notes............... -- --
Exercise of stock options.......... -- 1
Repayment of notes receivable...... -- 4
Net loss........................... (3,137) (3,137)
-------- --------
Balance as of December 31, 1997.... (4,411) 4,336
Issuance of Series B convertible
preferred stock.................. -- 12,512
Repurchase of common stock......... -- (2)
Exercise of common stock options... -- 1
Repurchase of restricted common
shares........................... -- --
Exercise of common stock warrant... -- --
Repayment of note receivable....... -- 37
Net loss........................... (8,054) (8,054)
-------- --------
Balance as of December 31, 1998.... (12,465) 8,830
Exercise of stock options, net of
repurchases...................... -- 44
Issuance of Series C convertible
preferred stock.................. -- 10,735
Issuance of common stock........... -- 1,087
Stock award to officer............. -- 555
Repayment of note receivable....... -- 16
Forgiveness of note receivable..... -- 33
Deferred compensation.............. -- --
Amortization of deferred
compensation..................... -- 490
Stock-based compensation related to
consultant options............... -- 48
Net loss........................... (17,140) (17,140)
Deemed dividend to preferred
stockholders..................... -- (3,100)
-- 3,100
-------- --------
Balance as of December 31, 1999.... $(29,605) $ 4,698
======== ========
</TABLE>
See accompanying notes.
F-5
<PAGE> 62
VIROLOGIC, INC.
STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1997 1998 1999
------- -------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net loss.................................................. $(3,137) $ (8,054) $(17,140)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization.......................... 173 517 1,135
Non-cash stock-based compensation...................... -- -- 2,227
Changes in assets and liabilities:
Accounts receivable.................................. -- -- (550)
Inventory............................................ -- -- (287)
Other current assets................................. (64) 21 (210)
Accounts payable..................................... 394 151 871
Accrued compensation................................. 57 62 397
Other accrued liabilities............................ 30 502 223
Deferred rent........................................ 20 222 11
Deferred revenue..................................... -- 148 (67)
------- -------- --------
Net cash used in operating activities............. (2,527) (6,431) (13,390)
INVESTING ACTIVITIES
Purchases of short-term investments......................... (6,534) (14,500) --
Maturities and sales of short-term investments.............. 5,254 18,423 --
Other assets................................................ 19 (52) (371)
Restricted cash............................................. -- -- (950)
Capital expenditures........................................ (969) (2,585) (2,625)
------- -------- --------
Net cash (used in) provided by investing
activities...................................... (2,230) 1,286 (3,946)
FINANCING ACTIVITIES
Principal payments on long term debt........................ (164) (540) (801)
Borrowings under long term debt............................. 204 2,639 --
Proceeds from issuance of common stock, net of common stock
repurchases............................................... 1 (1) 30
Repayments of notes receivable.............................. 4 37 16
Net proceeds from issuance of preferred stock............... 4,277 12,512 10,735
------- -------- --------
Net cash provided by financing activities......... 4,322 14,647 9,980
------- -------- --------
Net increase (decrease) in cash and cash
equivalents..................................... (435) 9,502 (7,356)
Cash and cash equivalents at beginning of year.............. 497 62 9,564
------- -------- --------
Cash and cash equivalents at end of year.................... $ 62 $ 9,564 $ 2,208
======= ======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest...................................... $ 83 $ 198 $ 243
======= ======== ========
SCHEDULE OF NONCASH FINANCING AND INVESTING ACTIVITIES
Notes receivable issued to officers and employees for common
stock purchase............................................ $ 72 $ 4 $ --
======= ======== ========
Deferred stock compensation................................. $ -- $ -- $ 4,968
======= ======== ========
</TABLE>
See accompanying notes.
F-6
<PAGE> 63
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1999
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and Basis of Presentation
ViroLogic, Inc., a biotechnology company, was incorporated in the state of
Delaware on November 14, 1995. ViroLogic is developing and marketing innovative
products to guide and improve treatment of viral diseases. ViroLogic has
developed a way of directly measuring the impact of genetic mutations on drug
resistance and using this information to guide therapy. ViroLogic has a
proprietary technology, called PhenoSense, for testing drug resistance in
viruses that cause serious viral diseases such as AIDS, hepatitis B and
hepatitis C. Through December 31, 1998, ViroLogic was in the development stage.
ViroLogic commenced commercial operations in 1999, and therefore ceased to be in
the development stage during 1999 for financial reporting purposes.
Management's Plans
As of December 31, 1999, ViroLogic had an accumulated deficit of approximately
$29.6 million. Management expects to continue to incur substantial operating
losses for the foreseeable future primarily as a result of expected increases in
expenses for:
- sales and marketing
- expanding patient sample processing capabilities
- research and product development costs
- acquisition of additional office space and other necessary facilities
- general and administrative costs
In January and February 2000, ViroLogic consummated the sale of an additional
8,461,645 shares of Series C convertible preferred stock, or 4,230,823 shares of
common stock on an as-if converted basis, from which ViroLogic received proceeds
of approximately $15.7 million. ViroLogic may need additional funding.
ViroLogic currently does not have a credit facility or committed sources of
capital. To the extent operating and capital resources are insufficient to meet
future requirements, ViroLogic will have to raise additional funds to continue
the development and commercialization of future technologies. These funds may
not be available on favorable terms, or at all. If adequate funds are not
available on attractive terms, ViroLogic may be required to curtail operations
significantly or to obtain funds by entering into financing, supply or
collaboration agreements on unattractive terms. In addition, ViroLogic may
choose to raise additional capital due to market conditions or strategic
considerations even if it has sufficient funds for current or future operating
plans.
ViroLogic believes that its available cash, cash equivalents and restricted cash
of $3.2 million as of December 31, 1999 along with the $15.7 million net
proceeds of its January and February 2000 sales of Series C convertible
preferred stock and available borrowing capacity under existing equipment
financing arrangements will be adequate to fund its operations through at least
December 31, 2000.
Unaudited Pro Forma Stockholders' Equity
If ViroLogic consummates its initial public offering as described in Note 9, all
of the convertible preferred stock outstanding will automatically convert into
common stock. ViroLogic has adjusted the unaudited pro
F-7
<PAGE> 64
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
forma stockholders' equity at December 31, 1999 for the assumed conversion of
preferred stock based on the shares of preferred stock outstanding at December
31, 1999 and excluding the sales of preferred stock in January and February
2000.
Reverse Stock Split
On February 21, 2000, ViroLogic's board of directors approved a one for two
reverse split of its common stock. The accompanying financial statements have
been adjusted retroactively to reflect the reverse split. The conversion ratios
of the respective series of convertible preferred stock were automatically
adjusted to reflect the reverse split.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
Cash Equivalents
ViroLogic considers all highly liquid investments with original maturities of
three months or less from the date of purchase to be cash equivalents.
Management determines the appropriate classification of its cash equivalents and
investment securities at the time of purchase and reevaluates such determination
as of each balance sheet date. Management has classified ViroLogic's marketable
securities as available-for-sale securities in the accompanying financial
statements. Available-for-sale securities are carried at fair value, with
unrealized gains and losses reported in a separate component of stockholders'
equity, when material. Interest income includes realized gains and losses. The
cost of securities sold is based on the specific identification method.
ViroLogic invests its excess cash in U.S. government and agency securities, debt
instruments of financial institutions and corporations and money market funds
with strong credit ratings. ViroLogic has established guidelines regarding
diversification of its investments and their maturities which should maintain
safety and liquidity.
Inventory
Inventory is stated at the lower of standard cost, which approximates actual
cost, or market. At December 31, 1999, inventories consisted mainly of raw
materials used in the performance of tests.
Property and Equipment
Property and equipment are recorded at cost and are depreciated using the
straight-line method over the estimated useful lives of the assets, generally
five years. Computer hardware and software are generally depreciated over three
years. Furniture and equipment acquired under equipment financing is amortized
over the shorter of the useful lives of the furniture or equipment or the
applicable financing period. Leasehold improvements are amortized over the
shorter of the estimated useful life of the assets or the lease term.
F-8
<PAGE> 65
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Impairment of Long-Lived Assets
In accordance with the provisions of Statement of Financial Accounting Standards
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of" (SFAS 121), ViroLogic reviews long-lived assets,
including property and equipment, for impairment whenever events or changes in
business circumstances indicate that the carrying amount of the assets may not
be fully recoverable. Under SFAS 121, ViroLogic would recognize an impairment
loss when estimated undiscounted future cash flows expected to result from the
use of the asset and its eventual disposition are less than the asset's carrying
amount. Impairment, if any, is assessed using discounted cash flows. Through
December 31, 1999, there have been no such losses.
Revenue Recognition
ViroLogic currently recognizes revenue solely from sales of its tests upon the
delivery of test results to customers. Deferred revenue relates to cash received
in advance of delivery of the test results.
Research and Development
ViroLogic expenses research and development costs as incurred. Research and
development expenses consist primarily of salaries and related personnel costs,
material, supply costs for prototypes and expenses related to clinical trials to
validate ViroLogic's testing processes and procedures and related overhead
expenses.
Stock-Based Compensation
ViroLogic accounts for employee stock option grants using the intrinsic value
method in accordance with Accounting Principles Board Opinion No. 25 (APB 25),
which does not require the recognition of compensation expense for options
granted to employees with exercise prices equal to the fair value of the common
stock at the date of grant. Note 5 includes the fair value disclosures required
by Statement of Financial Accounting Standards Board Statement No. 123,
"Accounting for Stock-Based Compensation" (SFAS 123). SFAS No. 123 requires the
disclosure of pro forma information regarding net loss and net loss per share as
if ViroLogic had accounted for its stock options under the fair value method.
ViroLogic accounts for stock option grants to non-employees in accordance with
the Emerging Issues Task Force Consensus No. 96-18, "Accounting for Equity
Instruments That Are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services," which requires the options subject
to vesting to be periodically re-valued and expensed over their vesting periods.
Comprehensive Income (Loss)
As of January 1, 1998, ViroLogic adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" (SFAS 130). SFAS 130
requires ViroLogic to include in other comprehensive income unrealized gains or
losses on available-for-sale securities. Comprehensive loss equalled net loss
for the years ended December 31, 1997, 1998 and 1999.
Segment Reporting
Effective in January 1998, ViroLogic adopted Statement of Financial Accounting
Standards No. 131, "Disclosure about Segments of an Enterprise and Related
Information" (SFAS 131). SFAS 131
F-9
<PAGE> 66
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
establishes annual and interim reporting standards for an enterprise's operating
segments and related disclosures about its products, services, geographic areas
and major customers. ViroLogic has determined that it operates in only one
segment. Accordingly, the adoption of SFAS 131 had no impact on ViroLogic's
financial statements.
Net Loss Per Share
Basic earnings per share is calculated based on the weighted-average number of
common shares outstanding during the periods presented, less the
weighted-average shares outstanding which are subject to ViroLogic's right of
repurchase. Diluted earnings per share give effect to the dilutive effect of
common stock equivalents consisting of convertible preferred stock and stock
options and warrants, calculated using the treasury stock method. Potentially
dilutive securities have been excluded from the diluted earnings per share
computations, as they have an antidilutive effect due to ViroLogic's net loss.
The computation of pro forma net loss per share includes shares issuable upon
the conversion of outstanding shares of convertible preferred stock, using the
as-if converted method, from the original date of issuance.
A reconciliation of shares used in the calculations is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------
1997 1998 1999
---------- ---------- -----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
Actual:
Net loss allocable to common shares.................. $(3,137) $(8,054) $(20,240)
======= ======= ========
Weighted-average shares of common stock
outstanding........................................ 2,671 4,826 4,856
Less: weighted-average shares subject to
repurchase......................................... (80) (126) (84)
------- ------- --------
Weighted-average shares used in basic and diluted net
loss per common share.............................. 2,591 4,700 4,772
======= ======= ========
Basic and diluted net loss per common share.......... $ (1.21) $ (1.71) $ (4.24)
======= ======= ========
Pro forma:
Net loss........................................... $(20,240)
========
Shares used above.................................... 4,772
Adjusted to reflect weighted-average effect of
assumed conversion of preferred stock
(unaudited)........................................ 3,243
--------
Weighted-average shares used in pro forma basic and
diluted net loss per common share (unaudited)...... 8,015
========
Pro forma basic and diluted net loss per common share
(unaudited)........................................ $ (2.53)
========
</TABLE>
F-10
<PAGE> 67
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following outstanding options and warrants, prior to the application of the
treasury stock method, and convertible preferred stock, on an as-converted
basis, were excluded from the computation of diluted net loss per share, as they
had an antidilutive effect:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1997 1998 1999
----- ------ ------
(IN THOUSANDS)
<S> <C> <C> <C>
Convertible preferred stock (as-if converted basis)......... -- 2,450 5,357
Stock options............................................... 215 357 1,241
Warrants to purchase common stock........................... 457 518 518
Warrants to purchase preferred stock (as-if converted
basis).................................................... -- 227 227
</TABLE>
Significant Concentrations
Financial instruments that potentially subject ViroLogic to concentrations of
credit risk primarily consist of cash equivalents and marketable securities (see
Note 2).
In 1998, one company represented 100% of total revenues. In 1999, two customers
represented 41% and 33% of total revenues, respectively. The accounts receivable
balances as of December 31, 1999 were $196,289 and $159,825 for these two
customers, respectively.
ViroLogic relies on a few companies as the sole source of various materials in
its testing process. Any extended interruption in the supply of these materials
could result in the failure to meet customer demand.
Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Financial
Instruments and for Hedging Activities" (SFAS 133), which provides a
comprehensive and consistent standard for the recognition and measurement of
derivatives and hedging activities. SFAS 133 is effective for fiscal years
beginning after June 15, 2000 and is not anticipated to have an impact on
ViroLogic's results of operations or financial condition when adopted, as
ViroLogic holds no derivative financial instruments and does not currently
engage in hedging activities.
In March 1998, the AICPA issued Statement of Position 98-1, "Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use" (SOP 98-1).
SOP 98-1 requires that entities capitalize certain costs related to internal use
software once certain criteria have been met. ViroLogic adopted the provisions
of SOP 98-1 on January 1, 1999. ViroLogic capitalized costs totaling $222,000
related to laboratory information software placed in service during 1999 in
accordance with SOP 98-1. The expected asset life is 17 months and accumulated
amortization of $104,000 was recorded in 1999.
F-11
<PAGE> 68
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
2. CASH EQUIVALENTS
The following is a summary of cash equivalents at December 31, 1998 and 1999:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------
1998 1999
------ ------
(IN THOUSANDS)
<S> <C> <C>
Money market fund........................................... $1,985 $2,111
Corporate notes............................................. 7,538 --
------ ------
$9,523 $2,111
====== ======
</TABLE>
As of December 31, 1998 and 1999, the fair value approximated the amortized cost
of available-for-sale securities. As of December 31, 1998 and 1999, the average
portfolio duration was less than 90 days.
There were no material gross realized gains or losses from sales of securities
or material unrealized gains or losses on investments at December 31, 1998 and
1999.
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1998 1999
------- -------
(IN THOUSANDS)
<S> <C> <C>
Machinery, equipment and furniture.......................... $ 4,266 $ 6,489
Leasehold improvements...................................... 45 447
------- -------
4,311 6,936
Accumulated depreciation and amortization................... (773) (1,908)
------- -------
Property and equipment, net................................. $ 3,538 $ 5,028
======= =======
</TABLE>
4. EQUIPMENT FINANCING AND RENTAL COMMITMENTS
ViroLogic executed an operating lease agreement in December 1997 for its
laboratory and office space. The operating lease provides for two successive
extensions of three and four years, respectively. The lease term expires in
November 2004.
In January 1998, ViroLogic executed a tenant improvement agreement for the
construction of laboratory and office improvements of up to $1.0 million. An
additional obligation of approximately $18,300 per month for 83 months
commencing February 1998 has been added to the operating lease commitment.
In May and November 1999, ViroLogic entered into two operating lease agreements
for two additional facilities. Each lease has a term of 10 years from the lease
commencement date of March 2000 and July 2001, respectively. Each of the leases
provide for two additional successive five-year extensions at the then-
prevailing rate.
In connection with the facility lease executed in May 1999, ViroLogic has a
$950,000 deposit which secures a standby letter of credit expiring in August
2000. This balance has been recorded in the balance sheet as "restricted cash".
F-12
<PAGE> 69
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
As of December 31, 1999, ViroLogic had $3.5 million of property and equipment
financed through long-term equipment financing obligations. The obligations
under the equipment financings are secured by the equipment financed, bear
interest at a weighted-average fixed rate of approximately 10.4% and are due in
monthly installments through November 2002. Some of these equipment financing
agreements require a balloon payment at the end of their respective loan terms.
As of December 31, 1999, future minimum lease payments under operating and
capital leases and principal payments on equipment loans are as follows:
<TABLE>
<CAPTION>
OPERATING EQUIPMENT
LEASES LOANS
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Year ending December 31:
2000...................................................... $ 1,308 $1,054
2001...................................................... 2,247 823
2002...................................................... 2,961 303
2003...................................................... 3,042 --
2004...................................................... 3,068 --
Thereafter................................................ 15,391 --
------- ------
Total minimum lease and principal payments........ $28,017 2,180
=======
Amount representing interest................................ (232)
------
Present value of future payments............................ 1,948
Current portion of equipment financing...................... (897)
------
Noncurrent portion of equipment financing................... $1,051
======
</TABLE>
Rental expense was approximately $207,000, $827,000 and $851,000 for the years
ended December 31, 1997, 1998 and 1999, respectively.
5. STOCKHOLDERS' EQUITY
Convertible Preferred Stock
Convertible preferred stock is issuable in series, with rights and preferences
designated by series. The shares designated and outstanding are as follows (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
"AS-IF"
CONVERTED
ISSUED AND COMMON DIVIDEND CONVERSION LIQUIDATION
AUTHORIZED OUTSTANDING SHARES RATE RATIO VALUE
---------- ----------- --------- -------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Series B............................ 4,500 3,935 2,450 $0.256 0.623 $12,593
Series C............................ 9,459 5,814 2,907 0.148 0.500 10,756
------ ----- ------ -------
Total............................. 13,959 9,749 5,357 $23,349
====== ===== ====== =======
</TABLE>
The holders of Series B and C preferred stock are entitled to receive
noncumulative dividends, when and if declared, at a rate of $0.256 per share, or
$0.411 per common share on an as-if converted basis, and $0.148 per share, or
$0.296 per common share on an as-if converted basis, per year, respectively, if
F-13
<PAGE> 70
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
declared, prior to and in preference to the payment of dividends to holders of
common stock. At December 31, 1999, no such dividends had been declared.
Each share of Series B and C preferred stock is convertible into common stock at
the option of the holder, subject to adjustments for antidilution purposes.
Series B and C preferred shares are automatically converted into common stock at
the earlier of (i) the closing of ViroLogic's initial underwritten public
offering which is at a price to the public of at least $14.00 per share and
which results in aggregate proceeds to ViroLogic of at least $15.0 million or
(ii) a vote or written consent of a majority of the shares of preferred stock
then outstanding, voting together as a single class. All preferred shares have
voting rights equal to common stock on an as-if-converted basis.
As long as 2,000,000 shares of Series B preferred stock remain outstanding, the
holders of Series B preferred stock, voting as a separate class, are entitled to
elect two members of the board of directors. The holders of the common stock,
voting together as a separate class, shall be entitled to elect three members of
the board of directors. The holders of Series B and C preferred stock and common
stock, voting together as a class, are entitled to elect the remaining members
to the board of directors.
Series B and C preferred stockholders are entitled to receive, upon liquidation,
a distribution of $3.20 per share and $1.85 per share, respectively, subject to
adjustment for a recapitalization, plus all declared but unpaid dividends, in
preference to common stockholders. Thereafter, the remaining assets and funds,
if any, shall be distributed among common stockholders.
Deemed Dividend
In November and December 1999, ViroLogic consummated the sale of 1,675,621
shares of Series C convertible preferred stock, or 837,810 shares of common
stock at an as-if converted basis, from which ViroLogic received proceeds of
approximately $3.1 million or $1.85 per share, or $3.70 per share on an as-if
converted basis. At the date of issuance, ViroLogic believed the per share price
of $1.85, or $3.70 per share on an as-if converted basis, represented the fair
value of the preferred stock. Subsequent to the commencement of ViroLogic's
initial public offering process, ViroLogic re-evaluated the fair value of its
common stock as of November and December 1999 and deemed it to be $10.50 per
share, for financial reporting purposes. Accordingly, the increase in fair value
has resulted in a beneficial conversion feature of $3.1 million, that has been
recorded as a deemed dividend to preferred stockholders in 1999. ViroLogic
recorded the deemed dividend at the date of issuance by offsetting charges and
credits to additional paid-in-capital, without any effect on total stockholders'
equity. The preferred stock dividend increases the loss applicable to common
stockholders in the calculation of basic and diluted net loss per common share
for the year ended December 31, 1999. The guidelines set forth in the Emerging
Issues Task Force Consensus No. 98-5 limit the amount of the deemed dividend to
the amount of the proceeds of the related financing.
Warrants
In connection with the May 1996 sale of Series A preferred stock, ViroLogic
issued to four investors warrants to purchase an aggregate of 792,188 shares of
Series A preferred stock at a price of $1.84 per share. The warrants expire on
May 30, 2001. Pursuant to the conversion of all Series A preferred stock in
November 1997, these warrants are now exercisable for 396,093 shares of common
stock at an exercise price of $3.68 per share. The value of the warrant was
deemed to be insignificant and, therefore, no value was recorded.
F-14
<PAGE> 71
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
In connection with the loan agreement signed in October 1996, ViroLogic issued
the lender a warrant to purchase an aggregate of 11,050 shares of ViroLogic's
common stock for $3.68 per share. The warrant expires on October 16, 2002. The
value of the warrant was deemed to be insignificant and, therefore, no value was
recorded.
Pursuant to the operating lease, ViroLogic issued the landlord a warrant to
purchase an aggregate of 100,000 shares of Series A preferred stock, which
converted into 50,000 shares of common stock, for $8.00 per share. The warrant
expires on August 2002. The value of the warrant was deemed to be insignificant
and, therefore, no value was recorded.
In connection with the loan agreement signed in January 1998, ViroLogic issued
the lender a warrant to purchase an aggregate of 34,833 shares of common stock
at a price of $8.00 per share. The warrant is exercisable immediately and
expires on the later of January 2008 or five years subsequent to an initial
public offering. The value of the warrant was deemed to be insignificant and,
therefore, no value was recorded.
In connection with the tenant improvement financing entered into in August 1998,
ViroLogic issued the landlord a warrant to purchase up to an aggregate of 10,000
shares of common stock at a price of $8.00 per share. The warrant term is five
years. The value of the warrant was deemed to be insignificant and, therefore,
no value was recorded.
In connection with the Series B preferred stock issuance in August 1998,
ViroLogic issued to Series B investors warrants to purchase up to 15,890 shares
of common stock at a price of $0.02 per share. The warrant term is 10 years and
was valued at $85,000. ViroLogic issued warrants to purchase 365,000 shares of
Series B preferred stock, or 227,232 shares of common stock on an as-if
converted basis, at a price of $3.68 per share, or $5.91 per common share on an
as-if converted basis. The warrant term is 10 years and was valued at $383,000.
The fair values of these warrants were determined using the Black-Scholes option
valuation model with the following assumptions: risk free interest rate of 5.5%;
term of 10 years; dividend yield of 0%; and expected volatility of ViroLogic's
common stock of .01%.
Common Stock Subject to Repurchase
Stock options granted pursuant to the 1996 Stock Plan may be exercised prior to
vesting, subject to ViroLogic's right to repurchase at the original exercise
price if the holder terminates employment. The right to repurchase lapses over
the original option vesting period, which is generally four years. From
inception through December 31, 1999, employees purchased 344,250 shares of
common stock, of which 66,417 shares are unvested and remain subject to
repurchase. ViroLogic has repurchased 41,040 shares in accordance with its
repurchase rights.
Stock Option and Stock Award to Chief Executive Officer
Pursuant to the employment agreement with the chief executive officer, ViroLogic
granted:
- a stock award of 150,000 shares of fully-vested common stock. ViroLogic
recorded compensation expense of $555,000 for this award in 1999,
representing the fair value of the common stock on the grant date
- an incentive stock option under the Plan covering 150,000 shares of common
stock at an exercise price of $3.14. This option vested as to 30,000 shares
on December 31, 1999 and as to an additional
F-15
<PAGE> 72
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
2,500 shares at the end of each month thereafter. Deferred compensation of
$1.1 million was recorded on the date of grant. The amount will be
recognized ratably over the vesting period
- a non-statutory stock option, granted outside of the Plan, covering 250,000
shares of common stock at an exercise price of $3.14 per share. This option
vests 25% after the first year of employment and the remaining 75% in equal
monthly installments over the next three years, and may be exercised prior
to vesting. Virologic recorded deferred compensation of $1.8 million on the
date of grant. The amount will be recognized ratably over the vesting period
- a non-statutory stock option, granted outside of the Plan, covering 250,000
shares of common stock at an exercise price of $3.14 per share. Virologic
recorded deferred compensation of $1.8 million on the date of grant and such
amount will be amortized over the five-year period unless the milestones
below are achieved. This option vests 100% after five years of employment,
unless either one of the following occurs before that date:
- a merger or acquisition or initial public offering where the per share
valuation of common stock is imputed to be more than $18.50, in which
case 125,000 shares shall immediately vest, or
- when product revenue for any fiscal year exceeds $20.0 million, in which
case 125,000 shares shall immediately vest
The chief executive officer may exercise any of these options prior to vesting
by either cash or by delivery of a promissory note, and each of the options
immediately becomes fully vested if, within one year of a change in our control
or liquidation, the chief executive officer is terminated without cause or
resigns for good reason.
Stock Option Plans
On May 20, 1996, ViroLogic's board of directors and stockholders adopted the
1996 Stock Plan, which was amended and restated and renamed the 2000 Equity
Incentive Plan in February 2000. This Plan provides for the granting of options
to purchase common stock and other stock awards to employees, officers,
directors and consultants of ViroLogic. ViroLogic generally grants shares of
common stock for issuance under this Plan at no less than the fair value of the
stock on the grant date; however, management is permitted to grant non-statutory
stock options at a price not lower than 85% of the fair value of common stock on
the date of grant. Options granted under this Plan generally vest over four
years at a rate of 25% one year from the grant date and ratably monthly
thereafter.
F-16
<PAGE> 73
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
A summary of activity under the Plan is as follows:
<TABLE>
<CAPTION>
OUTSTANDING STOCK OPTIONS/STOCK RIGHTS
--------------------------------------
WEIGHTED-AVERAGE
SHARES AVAILABLE NUMBER OF SHARES PRICE PER SHARE
---------------- ----------------- -----------------
<S> <C> <C> <C>
Balances at December 31, 1996........ 190,000 22,500 $0.32
Additional shares authorized....... 375,000 -- --
Options/rights granted............. (305,800) 305,800 1.36
Options/rights exercised........... -- (110,499) 0.66
Options/rights forfeited........... 2,501 (2,501) 0.32
-------- --------
Balances at December 31, 1997........ 261,701 215,300 1.62
Options/rights granted............. (170,880) 170,880 3.98
Options/rights exercised........... -- (15,000) 0.38
Options/rights forfeited........... 14,250 (14,250) 0.98
Options/rights repurchased......... 41,040 -- 0.32
-------- --------
Balances at December 31, 1998........ 146,111 356,930 2.83
Additional shares authorized....... 375,000 -- --
Options/rights granted............. (519,675) 519,675 3.98
Options/rights exercised........... -- (31,254) 2.04
Options/rights forfeited........... 104,484 (104,484) 2.68
Options/rights repurchased......... 6,250 -- 3.20
-------- --------
Balances at December 31, 1999........ 112,170 740,867 3.69
======== ========
</TABLE>
In connection with options granted in 1999, ViroLogic recorded deferred
stock-based compensation of $4,968,000, representing the difference between the
exercise price and the deemed fair value of the Company's common stock at the
date of grant. The amount is being amortized over the vesting period for the
individual options. Amortization of deferred stock-based compensation of
$490,000 was recognized during 1999. In addition, ViroLogic recorded stock-based
compensation of $48,000 in 1999 for services rendered by non-employees.
In January and February 2000, ViroLogic granted employees additional stock
options to purchase 199,193 shares of common stock at $3.70 per share. ViroLogic
will record additional deferred stock compensation of approximately $1.6 million
in the quarter ending March 31, 2000 to account for the difference between the
exercise price of these employee grants and the deemed fair value for financial
reporting purposes of our common stock on the date of grant.
In January and February 2000, ViroLogic also granted non-employees options to
purchase 45,000 common shares at $3.70 per share. ViroLogic will recognize
general and administrative expense related to non-employee stock options over
the respective consultants' service periods, and that expense will be based on
the fair value of the stock option using the Black Scholes option valuation
model. The aggregate value of $383,000, is based on the fair value of
ViroLogic's common stock as of February 29, 2000, will be recorded over the
period of the related services, which is generally three months to four years.
That value may be periodically remeasured as the underlying options vest.
Options were exercisable to purchase 68,291 shares, at a weighted-average
exercise price of $1.58 per share, and 161,035 shares, at a weighted-average
exercise price of $3.08 per share, at December 31, 1998 and 1999, respectively.
F-17
<PAGE> 74
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following table summarizes information about the stock options outstanding
under the Plan at December 31, 1999:
<TABLE>
<CAPTION>
OUTSTANDING OPTIONS
------------------------------------------------------------
NUMBER OF WEIGHTED-AVERAGE REMAINING NUMBER OF OPTIONS
EXERCISE PRICE OPTIONS CONTRACTUAL LIFE EXERCISABLE
-------------- --------- -------------------------- -----------------
<S> <C> <C> <C>
$0.32............................ 5,000 6.75 5,000
0.64............................ 39,000 7.30 25,182
0.80............................ 12,500 7.59 9,375
3.14............................ 326,050 9.85 31,430
3.20............................ 118,780 8.26 51,907
5.40............................ 239,537 9.19 38,141
------- -------
740,867 9.19 161,035
======= =======
</TABLE>
Pro Forma Information
SFAS 123 requires pro forma information regarding net loss, which has been
determined as if ViroLogic accounted for its employee stock options under the
fair value method of SFAS 123. ViroLogic estimates the fair value of these
options at the date of grant using the minimum value method with the following
weighted-average assumptions: risk-free interest rate of 5.5% for grants made in
1998 and 1999; a weighted-average expected life of the option from grant date of
four years; and a dividend yield of zero in 1998 and 1999. The weighted-average
fair value of stock options granted in 1998 and 1999 was $1.17 and $6.90,
respectively.
For pro forma purposes, the estimated fair value of ViroLogic's stock-based
awards to its employees is amortized ratably over the options vesting period.
ViroLogic's pro forma information is as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------
1997 1998 1999
-------- -------- ---------
(IN THOUSANDS, EXCEPT PER SHARE
AMOUNTS)
<S> <C> <C> <C>
As reported:
Net loss........................................... $(3,137) $(8,054) $(20,240)
======= ======= ========
Net loss per common share.......................... $ (1.21) $ (1.71) $ (4.24)
======= ======= ========
Proforma:
Net loss........................................... $(3,162) $(8,153) $(20,491)
======= ======= ========
Net loss per common share.......................... $ (1.22) $ (1.73) $ (4.29)
======= ======= ========
</TABLE>
Because the SFAS No. 123 method of accounting has not been applied to options
granted prior to 1996 and the vesting period of option grants is four years, the
above pro forma effect may not be representative of the pro forma effect to be
expected in future years.
F-18
<PAGE> 75
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Reserved Shares
As of December 31, 1999, ViroLogic had reserved shares of common stock for
future issuance as follows:
<TABLE>
<CAPTION>
SHARES RESERVED
---------------
(IN THOUSANDS)
<S> <C>
Stock options............................................... 1,353
Warrants.................................................... 745
Preferred stock............................................. 5,357
-----
7,455
=====
</TABLE>
6. 401(k) PLAN
During 1996, ViroLogic adopted a 401(k) Plan, and matching contributions in the
form of ViroLogic common shares equaling 2.5% of the employee's contributions to
the 401(k) Plan were made by ViroLogic in both 1996 and 1997. ViroLogic amended
the Plan in 1998 to increase the matching percentage to 5%. The matching
contribution vests ratably over four years. ViroLogic recorded compensation
expense of $37,000 in 1999. ViroLogic has issued an aggregate of 8,254 shares
under the 401(k) Plan through December 31, 1999.
7. INCOME TAXES
As of December 31, 1999 and 1998, ViroLogic had federal and state net operating
loss carryforwards of approximately $27.3 million and $13.8 million,
respectively. ViroLogic also had research and other tax credit carryforwards of
approximately $1.0 million. The federal net operating loss and credit
carryforwards will expire at various dates beginning in the year 2010 through
2019, if not utilized. The State of California net operating losses will start
to expire in the year 2003, if not utilized.
Utilization of the federal and state net operating loss and credit carryforwards
may be subject to a substantial annual limitation due to the "change in
ownership" provisions of the Internal Revenue Code of 1986. The annual
limitation may result in the expiration of net operating losses and credits
before utilization.
F-19
<PAGE> 76
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets for financial reporting purposes and the
amount used for income tax purposes. Significant components of ViroLogic's
deferred tax assets for federal and state income taxes are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------
1998 1999
------- --------
(IN THOUSANDS)
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards.......................... $ 4,700 $ 10,100
Research and other credits................................ 300 1,000
Capitalized research and development...................... 100 400
Other..................................................... 300 200
------- --------
Total deferred tax assets................................... 5,400 11,700
Valuation allowance......................................... (5,400) (11,700)
------- --------
Net deferred taxes.......................................... $ -- $ --
======= ========
</TABLE>
Due to ViroLogic's lack of earnings history, the net deferred tax assets have
been fully offset by a valuation allowance. The valuation allowance increased by
$2.0 million, $3.4 million and $6.3 million during the years ended December 31,
1997, 1998 and 1999, respectively.
8. LEGAL MATTER
On August 12, 1998, a former officer and stockholder filed a complaint against
ViroLogic. In November 1999, ViroLogic settled the claim. The settlement
included a cash payment of $225,000 and the right to retain 100,000 shares of
ViroLogic's common stock that ViroLogic previously had a right to repurchase.
The right to retain the shares triggered a new measurement date for accounting
purposes. In 1999, ViroLogic recorded $1.9 million of legal fees and settlement
related costs, including the non-cash charge related to the retained common
stock.
9. SUBSEQUENT EVENTS (UNAUDITED)
In January 2000, ViroLogic's board of directors authorized management to file a
registration statement with the Securities and Exchange Commission to permit
ViroLogic to sell its common stock to the public.
In January and February 2000, ViroLogic consummated the sale of an additional
8,461,645 shares of Series C convertible preferred stock, or 4,230,823 shares of
common stock on an as-if converted basis, from which ViroLogic received proceeds
of approximately $15.7 million or $1.85 per share, or $3.70 per share on an
as-if converted basis.
At the date of issuance, ViroLogic believed the per share price of $1.85, or
$3.70 per share on an as if converted basis, represented the fair value of the
preferred stock. Subsequent to the commencement of the initial public offering
process, ViroLogic re-evaluated the fair value of its common stock as of January
and February 2000 and deemed it to be $11.90 per share. Accordingly, the
increase in fair value has resulted in a beneficial conversion feature of $15.7
million which will be recorded as a deemed dividend to preferred stockholders in
the quarter ending March 31, 2000 by offsetting charges and credits to
additional paid-in capital without any effect on total stockholders' equity. The
preferred stock dividend will increase the net loss allocable to common
stockholders in the calculation of basic and diluted net loss per common share
in
F-20
<PAGE> 77
VIROLOGIC, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
the quarter ending March 31, 2000. The amount of the deemed dividend is limited
to the amount of the proceeds of the related financing pursuant to the
guidelines set forth in the Emerging Issues Task Force Consensus No. 98-5.
In February 2000, the board of directors amended and restated the 1996 Stock
Plan, which was renamed the 2000 Equity Incentive Plan, and increased the shares
reserved for issuance by an additional 3,000,000 shares, subject to stockholder
approval. In February 2000, ViroLogic granted stock options to employees and
non-employees to purchase 244,193 shares of common stock at an exercise price of
$3.70 per share. ViroLogic will record additional deferred compensation of $1.6
million in the quarter ending March 31, 2000 related to the employee stock
option grants.
In February 2000, the board of directors adopted, subject to stockholder
approval which was obtained in April 2000, the 2000 Employee Stock Purchase
Plan. ViroLogic has reserved a total of 500,000 shares of common stock for
issuance under the 2000 Purchase Plan. The 2000 Purchase Plan permits eligible
employees to acquire shares of ViroLogic's common stock through payroll
deductions of up to 15% of their base compensation. The initial offering period
will begin on the effective date of the initial public offering.
In February 2000, the board of directors approved a one for two reverse split of
its common stock, which was effected on April 17, 2000. All common stock,
options and warrants to purchase common stock and per share amounts in the
accompanying financial statements have been adjusted retroactively to reflect
the reverse split. The conversion ratios of the respective series of convertible
preferred stock were automatically adjusted to reflect the reverse split.
F-21
<PAGE> 78
- --------------------------------------------------------------------------------
[ViroLogic LOGO]
VIROLOGIC, INC.
5,000,000 SHARES
COMMON STOCK
---------------------------
PROSPECTUS
---------------------------
May 2, 2000
CIBC WORLD MARKETS
ING BARINGS
PRUDENTIAL VECTOR HEALTHCARE
A UNIT OF PRUDENTIAL SECURITIES
- --------------------------------------------------------------------------------
YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. NO DEALER,
SALESPERSON OR OTHER PERSON IS AUTHORIZED TO GIVE INFORMATION THAT IS NOT
CONTAINED IN THIS PROSPECTUS. THIS PROSPECTUS IS NOT AN OFFER TO SELL NOR IS IT
SEEKING AN OFFER TO BUY THESE SECURITIES IN ANY JURISDICTION WHERE THE OFFER OR
SALE IS NOT PERMITTED. THE INFORMATION CONTAINED IN THIS PROSPECTUS IS CORRECT
ONLY AS OF THE DATE OF THIS PROSPECTUS, REGARDLESS OF THE TIME OF THE DELIVERY
OF THIS PROSPECTUS OR ANY SALE OF THESE SECURITIES.
UNTIL MAY 27, 2000 (25 DAYS AFTER THE COMMENCEMENT OF THE OFFERING), ALL DEALERS
THAT EFFECT TRANSACTIONS IN THESE SECURITIES, WHETHER OR NOT PARTICIPATING IN
THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO
THE DEALERS' OBLIGATION TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND
WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
