<PAGE> 1
This filing is made pursuant
to Rule 424(b)(4)
under the Securities Act of
1933 in connection with
Registration No. 333-36638
PROSPECTUS
5,000,000 Shares
[DISCOVERY PARTNERS LOGO]
Common Stock
This is an initial public offering of common stock by Discovery Partners
International, Inc. We are selling 5,000,000 shares of common stock.
------------------
Our common stock has been approved for quotation on the Nasdaq National
Market under the symbol DPII.
------------------
<TABLE>
<CAPTION>
PER SHARE TOTAL
--------- -----------
<S> <C> <C>
Initial public offering price............................... $18.00 $90,000,000
Underwriting discounts and commissions...................... $ 1.26 $ 6,300,000
Proceeds to Discovery Partners International, Inc., before
expenses.................................................. $16.74 $83,700,000
</TABLE>
Discovery Partners International, Inc. has granted the underwriters an
option for a period of 30 days to purchase up to 750,000 additional shares of
common stock.
------------------
INVESTING IN OUR COMMON STOCK INVOLVES A HIGH DEGREE OF RISK.
SEE "RISK FACTORS" BEGINNING ON PAGE 6.
------------------
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
CHASE H&Q LEHMAN BROTHERS
UBS WARBURG LLC
July 27, 2000
<PAGE> 2
[INSIDE FRONT COVER:]
[DISCOVERY PARTNERS INTERNATIONAL TITLE AND LOGO]
[The words "Offering a Broad Range of Integrated Drug Discovery Products
and Services"]
[FRONT GATEFOLD:]
[Depiction of our integrated products and services. The centerpiece of this
page is our title and logo, below which are the words "Offering a Broad Range of
Integrated Drug Discovery Products and Services." There are an aggregate of six
photographs and one graphic that are equally spaced surrounding the logo. The
graphic bears the caption "Structural Proteomics(TM) Computational Software and
Services," and the photographs bear the captions "HTS-Factory(TM)", "Collections
of Chemical Compounds," "Medicinal Chemistry Services," "Nanokan(TM) System,"
"AutoSort(TM) System" and "Biological Test Development Services."]
<PAGE> 3
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.......................................... 1
Risk Factors................................................ 6
Statements About the Future................................. 15
Use of Proceeds............................................. 15
Dividend Policy............................................. 15
Capitalization.............................................. 16
Dilution.................................................... 18
Selected Consolidated Historical and Pro Forma Financial
Data...................................................... 20
Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 22
Business.................................................... 27
Management.................................................. 46
Related Party Transactions.................................. 58
Principal Stockholders...................................... 64
Description of Capital Stock................................ 67
Shares Eligible for Future Sale............................. 72
Underwriting................................................ 74
Legal Matters............................................... 76
Experts..................................................... 76
Where You Can Find More Information......................... 77
Index to Consolidated Financial Statements.................. F-1
</TABLE>
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PROSPECTUS SUMMARY
This summary does not contain all of the information you should consider
before investing in our common stock. You should read the entire prospectus
carefully, including "Risk Factors" on page 6 and our consolidated financial
statements and notes to those consolidated financial statements on page F-1,
before making an investment decision.
We sell a broad range of products and services to pharmaceutical and
biotechnology companies to make the drug discovery process for our customers
faster, less expensive and more effective at generating chemical compounds which
could lead to marketable drugs, or drug candidates. Our products and services
focus on the portion of the drug discovery process that follows the
identification of a biological area which a drug would affect in order to treat
or prevent an illness, or a drug target, through the point when a drug candidate
is ready for clinical trials. Our product and service offerings include:
- Collections, or libraries, of chemical compounds with chemical and
physical properties similar to known drugs;
- Proprietary instruments and consumables for automating the process of
making libraries of chemical compounds;
- Software and algorithms to generate libraries of chemical compounds, and
to leverage and integrate the various areas of drug discovery; and
- Contract services for the testing, screening and optimizing of drug
candidates.
We intend to continue to aggressively grow our company through internal
development and acquisition of other companies to expand our range of offerings
and implement leading-edge technologies. We recently acquired three businesses:
Axys Advanced Technologies, Discovery Technologies and Structural Proteomics.
Since inception in 1995, we have sold products to and conducted projects for
over 100 customers, including Aventis, Bayer, Bristol-Myers Squibb, SmithKline
Beecham and Warner-Lambert.
The pharmaceutical industry is under intense pressure to develop new drugs.
According to data published by Pharmaceutical Research and Manufacturers of
America, the pharmaceutical industry has increased research and development
expenditures over five-fold since 1985. Recent advances in genomics and
proteomics, the studies of genes and the proteins they encode, have dramatically
increased the number of potential drug targets that researchers can advance into
drug discovery. We believe there is a lack of resources and a need for better
tools and technologies to generate drug candidates from these targets.
Additionally, the pharmaceutical industry needs better information earlier in
the drug discovery process to avoid large expenditures on compounds that
ultimately fail in later testing. Despite recent advances, the drug discovery
process remains lengthy, expensive and often unsuccessful.
The broad array of products and technologies that we have assembled allows
our pharmaceutical and biotechnology customers to augment their internal
capabilities and accelerate the discovery of drug candidates. For example, in
our chemistry offering, our technology allows our customers to generate with
efficiency and speed large libraries of discrete compounds, with large amounts
of each compound. Our patented instruments enable our customers to generate
these compound libraries. One of these systems, the NanoKan System(TM), is
currently under development and is designed to generate up to one million
discrete compounds per year. In addition, we generate and sell
chemically-diverse libraries of discrete, drug-like compounds that have well-
validated chemistry protocols, which make them easy to re-supply and reproduce.
In our assay development and screening services group, we design and
conduct tests that generate information about the activity of compounds against
a drug target. We have performed
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approximately 60 assay, or test, development and screening projects. Once an
assay is developed, it is used for testing compound libraries. After compounds
are screened, our medicinal chemists can synthesize variations of promising
compounds to improve or optimize their properties and to generate drug
candidates. In addition, we use software tools to assist in the design of
compound libraries and are developing other tools to provide predictive
information earlier in the drug discovery process to reduce time and cost.
Our objective is to create and commercialize a complete, integrated and
highly efficient collection of drug discovery technologies to overcome many
limitations of the current drug discovery process. To implement this objective,
we intend to:
- offer an integrated and complete drug discovery solution
- broaden and deepen our technology through internal invention and
acquisition
- target the pharmaceutical and biotechnology industries
- expand customer relationships through integration of products and
services
- generate multiple revenue streams
- expand our knowledge base
We maintain Web sites at www.discoverypartners.com, www.axystech.com,
www.chemrx.com, www.discovery-tech.com and www.irori.com. Information contained
in our Web sites does not constitute a part of this prospectus. Our principal
executive offices are located at 9640 Towne Centre Drive, San Diego, California
92121, and our telephone number is (858) 455-8600.
We own a registered trademark and service mark in IRORI(R). We have filed
an application for federal registration and claim rights in HTS-FACTORY(TM). We
also own the following trademarks and servicemarks: Structural Proteomics(TM),
AutoSort(TM), NanoKan(TM), ChemRx(TM), ChemRx AT(TM) and Directed Sorting(TM).
This prospectus also includes trademarks owned by other parties.
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THE OFFERING
Common stock we are offering..... 5,000,000 shares
Common stock to be outstanding
after this offering.............. 22,437,204 shares
Use of proceeds.................. To fund our operations, including continued
development and manufacturing of existing
products as well as research and
development of additional products and
services. We also may use a portion of the
net proceeds to acquire new businesses or
technologies, hire additional personnel and
expand our facilities to be able to meet
the growing needs of our business.
Proposed Nasdaq National Market
symbol......................... DPII
-------------------------
The share amounts in this table are based on shares outstanding as of May
5, 2000. This table excludes:
- 1,893,870 shares of common stock issuable upon the exercise of options
outstanding at a weighted average exercise price of $2.51 per share;
- 905,294 shares of common stock issuable upon the exercise of warrants at
a weighted average exercise price of $3.60 per share, of which warrants
to purchase 670,209 shares will expire if not exercised at the time of
this offering; and
- 1,406,130 additional shares of common stock available for future grant
under our 2000 Stock Incentive Plan.
-------------------------
Unless otherwise noted, the information in this prospectus:
- assumes that the underwriters' over-allotment option will not be
exercised; and
- gives effect to the conversion of 7,954,781 shares of preferred stock
into 8,016,412 shares of common stock prior to this offering.
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SUMMARY CONSOLIDATED FINANCIAL INFORMATION
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following table sets forth summary financial data for our company. You
should read this information together with the financial statements and the
notes to those statements appearing elsewhere in this prospectus and the
information under "Selected Financial Data" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
--------------------------------------- ---------------------------
1997 1998 1999 1999 1999 2000 2000
------- ------- ------- --------- ------ ------- --------
PRO PRO
ACTUAL FORMA(1) ACTUAL FORMA(1)
------- --------- ------- --------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA
Revenue................................. $ 3,150 $ 6,214 $13,076 $27,050 $2,896 $ 5,173 $10,513
Gross margin (exclusive of $7, $0 and $4
in 1999, and for the three months
ended March 31, 1999 and 2000,
respectively, of stock-based
compensation)......................... 1,838 3,428 4,841 15,093 1,133 2,120 6,268
Costs and expenses
Research and development (exclusive of
$66, $7 and $88 in 1999, and for
the three months ended March 31,
1999 and 2000, respectively, of
stock-based compensation).......... 4,143 5,058 3,539 8,959 969 619 2,183
Selling, general and administrative
(exclusive of $238, $63 and $172 in
1999, and for the three months
ended March 31, 1999 and 2000,
respectively, of stock-based
compensation)...................... 2,528 4,984 4,439 6,418 1,093 1,519 2,169
Amortization of deferred
compensation....................... -- -- 311 311 70 264 264
Amortization of goodwill.............. -- -- -- 3,596 -- 155 1,054
Total operating expenses......... 6,671 10,042 8,288 19,284 2,132 2,557 5,670
Income (loss) from operations........... (4,833) (6,614) (3,447) (4,191) (999) (437) 598
Net loss.............................. $(4,822) $(6,278) $(3,370) $(4,170) $ (973) $(1,630) $(1,062)
======= ======= ======= ======= ====== ======= =======
Net loss per share, basic and
diluted............................ $ (8.85) $ (8.20) $ (3.00) $(0.96) $ (1.23)
======= ======= ======= ====== =======
Shares used in calculating net loss per
share, basic and diluted.............. 545 765 1,125 1,014 1,324
Pro forma net loss per share, basic
and diluted........................ $ (0.44) $ (0.28) $ (0.21) $ (0.07)
======= ======= ======= =======
Shares used in calculating pro forma
net loss per share, basic and
diluted............................ 7,729 15,158 7,939 15,368
</TABLE>
<TABLE>
<CAPTION>
AS OF MARCH 31, 2000
---------------------------------------
PRO FORMA
AS ADJUSTED
ACTUAL PRO FORMA(2) (3)
-------- ------------ -----------
(UNAUDITED)
<S> <C> <C> <C>
SELECTED CONSOLIDATED BALANCE SHEET DATA
Cash and cash equivalents................................. $ 984 $ 6,017 $ 88,517
Working capital (deficit)................................. (3,950) 16,337 98,836
Total assets.............................................. 21,750 79,542 162,042
Long term debt............................................ 2,504 2,504 2,504
Redeemable convertible preferred stock.................... 27,907 -- --
Total stockholders' equity (deficit)...................... (19,561) 70,255 152,755
</TABLE>
------------------------------
(1) The Pro Forma consolidated statement of operations for the year ended
December 31, 1999 and the three months ended March 31, 2000 assumes that we
purchased Axys Advanced Technologies, Inc. as of the beginning of each of
those periods and is based on our historical operating results and those of
AAT for the periods presented, giving effect to the amortization of
intangible assets related to the acquisition.
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(2) The Pro Forma consolidated balance sheet data gives effect to the sale of
1,392,503 shares of Series E Preferred Stock in April, 2000, the issuance of
7,429,641 shares of common stock, and promissory note for $550,000 and
$50,000 cash for the purchase of AAT in April, 2000, and the conversion of
all of our outstanding shares of redeemable preferred stock into common
stock upon the closing of this offering.
(3) The Pro Forma As Adjusted consolidated balance sheet gives effect to the
sale of 5,000,000 shares of common stock at the initial public offering
price of $18.00 per share, after deducting estimated underwriting discounts
and commissions and estimated offering expenses that we will pay.
Please see Note 2 to our financial statements for an explanation of the method
used to calculate the net loss per share and the number of shares used in the
computation of per share amounts.
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RISK FACTORS
You should carefully consider the risks described below together with all
of the other information included in this prospectus before making an investment
decision. If any of the following risks actually occurs, our business, financial
condition or results of operations could be harmed. In such an event, the
trading price of our common stock could decline, and you may lose all or part of
your investment.
RISKS RELATED TO OUR BUSINESS
WE RECENTLY HAVE ACQUIRED SEVERAL BUSINESSES AND FACE RISKS ASSOCIATED WITH
INTEGRATING THESE BUSINESSES AND POTENTIAL FUTURE ACQUISITIONS.
We recently completed the acquisitions of Axys Advanced Technologies (AAT),
Discovery Technologies and 75% of the stock of Structural Proteomics, and are in
the process of integrating these businesses. We plan to continue to review
potential acquisition candidates in the ordinary course of our business and our
strategy includes building our business through acquisitions. Acquisitions
involve numerous risks, including among others, difficulties and expenses
incurred in the consummation of acquisitions and assimilation of the operations,
personnel and services or products of the acquired companies, difficulties of
operating new businesses, the diversion of management's attention from other
business concerns and the potential loss of key employees of the acquired
company. For example, distance and cultural differences may make it difficult
for us to successfully assimilate the operations of our recently acquired assay
development and high throughout screening operations (Discovery Technologies)
located in Switzerland with our medicinal chemistry operations located in San
Diego. Further, integrating the chemistry operations performed by AAT with our
existing chemistry operations will cause some key employees to have overlapping
functional roles, which may lead to their departure if they are unable or
unwilling to assume new or different roles within our merged organization. If we
do not successfully integrate the three businesses we recently acquired or any
businesses we may acquire in the future, our business will suffer. Additionally,
acquisition candidates may not be available in the future or may not be
available on terms and conditions acceptable to us. Acquisitions of foreign
companies also may involve additional risks of assimilating different business
practices, overcoming language and cultural barriers and foreign currency
translation. We currently have no agreements or commitments with respect to any
acquisition and we may never successfully complete any additional acquisitions.
WE MAY NOT ACHIEVE OR SUSTAIN PROFITABILITY IN THE FUTURE.
We are at an early stage of executing our business plan. We have incurred
operating and net losses and negative cash flow from operations since our
inception. As of March 31, 2000, we had an accumulated deficit of $21.4 million.
For the years ended December 31, 1997, 1998 and 1999 and the three months ended
March 31, 2000, we had net losses of $4.8 million, $6.3 million, $3.4 million,
and $1.6 million, respectively. We may also in the future incur operating and
net losses and negative cash flow from operations, due in part to anticipated
increases in expenses for research and product development, acquisitions of
complementary businesses and technologies and expansion of our sales and
marketing capabilities. We incurred no goodwill charges in the years ended 1997,
1998 and 1999. We incurred goodwill charges in the amount of $155,000 for the
three months ended March 31, 2000. Beginning in May 2000, goodwill charges for
acquisitions we have already made will be at a straight-line rate of $350,000
per month, or $4.2 million per year, for the next ten years. Given our
acquisition strategy, we expect significant goodwill charges to affect our net
income (loss) for the foreseeable future. We may not be able to achieve or
maintain profitability. Moreover, if we do achieve profitability, the level of
any profitability cannot be predicted and may vary significantly from quarter to
quarter.
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WE MAY INCUR EXCHANGE LOSSES WHEN FOREIGN CURRENCY USED IN INTERNATIONAL
TRANSACTIONS IS CONVERTED INTO U.S. DOLLARS.
For the three months ending March 31, 2000, 12% of our actual revenue was
invoiced and our corresponding expenses were incurred in foreign currency,
including the British pound, the Swiss franc and the Euro. Currency fluctuations
between the U.S. dollar and the currencies in which we do business will cause
foreign currency translation gains and losses. We cannot predict the effects of
exchange rate fluctuations on our future operating results because of the number
of currencies involved, changes in the percentage of our revenue which will be
invoiced in foreign currencies, the variability of currency exposure and the
potential volatility of currency exchange rates. We do not currently engage in
foreign exchange hedging transactions to manage our foreign currency exposure.
IF OUR PRODUCTS AND SERVICES DO NOT BECOME WIDELY USED IN THE PHARMACEUTICAL AND
BIOTECHNOLOGY INDUSTRIES, IT IS UNLIKELY THAT WE WILL BE PROFITABLE.
We have a limited history of offering our products and services, including
our NanoKan System, informatics tools and collections of chemical compounds. It
is uncertain whether our current customers will continue to use these products
and services or whether new customers will use these products and services. In
order to be successful, our products and services must meet the requirements of
the pharmaceutical and biotechnology industries, and we must convince potential
customers to use our products and services instead of competing technologies.
Market acceptance will depend on many factors, including our ability to:
- convince potential customers that our technologies are attractive
alternatives to other technologies for drug discovery;
- manufacture products and conduct services in sufficient quantities with
acceptable quality and at an acceptable cost;
- convince potential customers to purchase drug discovery products and
services from us rather than developing them internally; and
- place and service sufficient quantities of our products.
Because of these and other factors, our products and services may not gain
market acceptance.
WE MAY FAIL TO EXPAND CUSTOMER RELATIONSHIPS THROUGH INTEGRATION OF PRODUCTS AND
SERVICES.
We may not be successful in selling our offerings in combination across the
range of drug discovery disciplines we serve because integrated combinations of
our products and services may not achieve time and cost efficiencies for our
customers. In addition, we may not succeed in further integrating our offerings.
We may not be able to use existing relationships with customers in individual
areas of our business to sell products and services in multiple areas of drug
discovery. If we do not achieve integration of our products and services, we may
not be able to take advantage of potential revenue opportunities.
OUR SUCCESS WILL DEPEND ON OUR ABILITY TO MANAGE RAPID GROWTH AND EXPANSION.
Growth in our operations has placed and, if we grow in the future, will
continue to place a significant strain on our operational, human and financial
resources. We recently have acquired three new businesses and we intend to
continue to grow our business. We have not expanded our management and
infrastructure in advance of anticipated growth, nor do we intend to. Therefore,
as we expand our operations we will not necessarily have in place infrastructure
and personnel sufficient to accommodate the increased size of our business. Our
ability to manage effectively any growth through acquisitions or any internal
growth will depend, in large part, on our ability to hire,
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train and assimilate additional management, professional, scientific and
technical personnel and our ability to expand, improve and effectively use our
operating, management, marketing and financial systems to accommodate our
expanded operations. These tasks are made more difficult as we acquire
businesses in geographically disparate locations, such as our recent
acquisitions of Discovery Technologies in Switzerland, AAT in the San Francisco
area, and Structural Proteomics in New Jersey.
OUR DIRECTED SORTING PRODUCTS AND OUR LARGE COMPOUND LIBRARIES HAVE LENGTHY
SALES CYCLES, WHICH COULD CAUSE OUR OPERATING RESULTS TO FLUCTUATE
SIGNIFICANTLY FROM QUARTER TO QUARTER.
Sales of our Directed Sorting products and our large compound libraries
typically involve significant technical evaluation and commitment of capital by
our customers. Accordingly, the sales cycles, or the time from finding a
prospective customer through closing the sale, associated with these products,
range from six to eighteen months. Sales of these products are subject to a
number of significant risks, including customers' budgetary constraints and
internal acceptance reviews that are beyond our control. Due to these lengthy
and unpredictable sales cycles, our operating results could fluctuate
significantly from quarter to quarter. We expect to continue to experience
significant fluctuations in quarterly operating results due to a variety of
factors, such as general and industry specific economic conditions which may
affect the research and development expenditures of pharmaceutical and
biotechnology companies.
A large portion of our expenses, including expenses for facilities,
equipment and personnel, are relatively fixed. Accordingly, if revenues decline
or do not grow as anticipated, we might not be able to correspondingly reduce
our operating expenses. Failure to achieve anticipated levels of revenues could
therefore significantly harm our operating results for a particular fiscal
period.
Due to the possibility of fluctuations in our revenues and expenses, we
believe that quarter-to-quarter comparisons of our operating results are not a
good indication of our future performance.
WE DEPEND ON THIRD-PARTY PRODUCTS AND SERVICES AND SOLE OR LIMITED SOURCES OF
SUPPLY TO MANUFACTURE SOME COMPONENTS OF OUR DIRECTED SORTING PRODUCTS.
We rely on outside vendors to manufacture components and subassemblies used
in our Directed Sorting products. Some of these components and subassemblies are
obtained from a single supplier or a limited group of suppliers. We depend on
sole-source suppliers for the mesh component of our reactors, the radio
frequency (RF) tags used in our commercial products and the two-dimensional bar
code tags used in our NanoKan System. These materials are obtained from
suppliers on standard commercial terms, and we do not have long-term supply
agreements with any of these suppliers. Our reliance on outside vendors
generally, and a sole or limited group of suppliers in particular, involves
several risks, including:
- the inability to obtain an adequate supply of required components due to
manufacturing capacity constraints, a discontinuance of a product by a
third-party manufacturer or other supply constraints;
- reduced control over quality and pricing of components; and
- delays and long lead times in receiving materials from vendors.
WE HAVE NOT YET DELIVERED OUR NANOKAN SYSTEM; ALSO, WE FACE RESTRICTIONS ON OUR
ABILITY TO SELL THIS PRODUCT TO ADDITIONAL CUSTOMERS.
We have not yet delivered our NanoKan System which we currently are
developing for sale to Bristol-Myers Squibb and Aventis. We may not be able to
successfully complete development of the NanoKan System and, after development,
it may not meet our customers' expectations. Further,
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under agreements with Bristol-Myers Squibb and Aventis, we are prohibited
from delivering the NanoKan System to any additional customers until one year
following the delivery of both systems to Bristol-Myers Squibb and Aventis. We
expect to deliver both systems in 2000; however, delivery may be delayed beyond
2000 due to factors beyond our control, such as unexpected development problems
or natural disasters. If delivery to Bristol-Myers Squibb or Aventis is delayed,
we will not be able to deliver additional NanoKan Systems for a longer period of
time and therefore, potential revenues for future sales may be delayed or lost.
OUR CUSTOMERS MAY RESTRICT OUR USE OF SCIENTIFIC INFORMATION, WHICH COULD
PREVENT US FROM USING THIS INFORMATION FOR ADDITIONAL REVENUE.
We plan to generate and use information that is not proprietary to our
customers and that we derive from performing drug discovery services for our
customers. However, our customers may not allow us to use information such as
the general interaction between types of chemistries and types of drug targets
that we generate when performing drug discovery services for them. Our current
contracts restrict our use of scientific information we generate for our
customers, such as the biological activity of chemical compounds with respect to
drug targets, and future contracts also may restrict our use of scientific
information. To the extent that our use of information is restricted, we may not
be able to collect and aggregate scientific data and take advantage of potential
revenue opportunities.
OUR OPERATIONS COULD BE INTERRUPTED BY DAMAGE TO OUR FACILITIES.
Our results of operations are dependent upon the continued use of our
highly specialized laboratories and equipment. Our operations are primarily
concentrated in facilities in San Diego, California and near San Francisco,
California and Basel, Switzerland. Natural disasters, such as earthquakes, could
damage our laboratories or equipment and these events may materially interrupt
our business. We maintain business interruption insurance to cover lost revenues
caused by such occurrences. However, this insurance would not compensate us for
the loss of opportunity and potential adverse impact on relations with existing
customers created by an inability to meet our customers' needs in a timely
manner.
RISKS RELATED TO OPERATING IN OUR INDUSTRY
THE CONCENTRATION OF THE PHARMACEUTICAL INDUSTRY AND THE CURRENT TREND TOWARD
INCREASING CONSOLIDATION COULD HURT OUR BUSINESS PROSPECTS.
The market for our products and services is highly concentrated, with
approximately 50 large pharmaceutical companies conducting drug discovery
research. The continuation of the current trend toward consolidation of the
pharmaceutical industry may reduce the number of our potential customers even
further. Accordingly, we expect that a relatively small number of customers will
account for a substantial portion of our revenues. Before our recent
acquisitions of AAT, Discovery Technologies and Structural Proteomics, in 1999
our net revenue from our three largest customers represented approximately 22%,
20% and 7% of total net revenue, respectively.
Additional risks associated with a highly concentrated customer base
include:
- fewer customers for our products and services;
- larger companies may develop in-house technology and expertise rather
than using our products and services;
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- larger customers may negotiate price discounts or other terms for our
products and services that are unfavorable to us; and
- the market for our products and services may become saturated.
For example, because of the heavy concentration of the pharmaceutical
industry and the high cost of our NanoKan System, we expect to sell only a small
number of NanoKan Systems before we saturate the market for this product. When
we are no longer able to sell additional NanoKan Systems, we will be dependent
upon the sale of consumables for revenue from this product line. Similarly,
there are signs that the market for our AutoSort System is becoming saturated.
THE DRUG DISCOVERY INDUSTRY IS COMPETITIVE AND SUBJECT TO TECHNOLOGICAL CHANGE,
AND WE MAY NOT HAVE THE RESOURCES NECESSARY TO COMPETE SUCCESSFULLY.
We compete with companies in the United States and abroad that engage in
the development and production of drug discovery products and services. These
competitors include companies engaged in the following areas of drug discovery:
- Assay, development and screening, including Aurora Biosciences and
Pharmacopeia;
- Combinatorial chemistry instruments, including Argonaut and Bohdan;
- Compound libraries and lead optimization, including Albany Molecular
Research and Arqule; and
- Informatics, including MSI division of Pharmacopeia and Tripos.
Academic institutions, governmental agencies and other research
organizations also conduct research in areas in which we provide services,
either on their own or through collaborative efforts. Also, essentially all of
our pharmaceutical company customers have internal departments which provide
some of the products and services which we sell, so these customers may have
limited needs for our products and services. Even after this offering, many of
our competitors including Pharmacopeia will have access to greater financial,
technical, research, marketing, sales, distribution, service and other resources
than we do.
Moreover, the pharmaceutical and biotechnology industries are characterized
by continuous technological innovation. We anticipate that we will face
increased competition in the future as new companies enter the market and our
competitors make advanced technologies available. Technological advances or
entirely different approaches that we or one or more of our competitors develop
may render our products, services and expertise obsolete or uneconomical. For
example, advances in informatics and virtual screening may render some of our
technologies, such as our large compound libraries, obsolete. Additionally, the
existing approaches of our competitors or new approaches or technologies that
our competitors develop may be more effective than those we develop. We may not
be able to compete successfully with existing or future competitors.
OUR SUCCESS WILL DEPEND ON THE PROSPECTS OF THE PHARMACEUTICAL AND BIOTECHNOLOGY
INDUSTRIES AND THE EXTENT TO WHICH THESE INDUSTRIES USE THIRD-PARTY
ASSISTANCE WITH ONE OR MORE ASPECTS OF THEIR DRUG DISCOVERY PROCESS.
Our revenues depend to a large extent on research and development
expenditures by the pharmaceutical, biotechnology and agricultural industries
and companies in these industries outsourcing research and development projects.
These expenditures are based on a wide variety of factors, including the
resources available for purchasing research equipment, the spending priorities
among various types of research and policies regarding expenditures during
recessionary periods. General economic downturns in our customers' industries or
any decrease in research and development expenditures could harm our operations.
Any decrease in drug discovery spending by pharmaceutical and biotechnology
companies could cause our revenues to decline and adversely impact our
profitability.
10
<PAGE> 14
OUR SUCCESS WILL DEPEND ON OUR ABILITY TO ATTRACT AND RETAIN KEY EXECUTIVES, AND
EXPERIENCED SCIENTISTS AND SALES PERSONNEL.
Our future success will depend to a significant extent on our ability to
attract, retain and motivate highly skilled scientists and sales personnel. In
addition, our business would be significantly harmed if we lost the services of
Riccardo Pigliucci, our chief executive officer, or David Coffen, our chief
scientific officer. Our ability to maintain, expand or renew existing
engagements with our customers, enter into new engagements and provide
additional services to our existing customers depends, in large part, on our
ability to hire and retain scientists with the skills necessary to keep pace
with continuing changes in drug discovery technologies and sales personnel who
are highly motivated. Additionally, it is difficult for us to find qualified
sales personnel in light of the fact that our sales personnel generally hold
Ph.D's. Our employees are "at will" which means that they may resign at any
time, and we may dismiss them at any time. We believe that there is a shortage
of, and significant competition for, scientists with the skills and experience
in the sciences necessary to perform the services we offer. We compete with
pharmaceutical companies, biotechnology companies, combinatorial chemistry
companies, contract research companies and academic institutions for new
personnel. In addition, our inability to hire additional qualified personnel may
require an increase in the workload for both existing and new personnel. We may
not be successful in attracting new scientists or sales personnel or in
retaining or motivating our existing personnel.
THE INTELLECTUAL PROPERTY RIGHTS WE RELY ON TO PROTECT THE TECHNOLOGY UNDERLYING
OUR PRODUCTS AND TECHNIQUES MAY NOT BE ADEQUATE, WHICH COULD ENABLE THIRD
PARTIES TO USE OUR TECHNOLOGY OR VERY SIMILAR TECHNOLOGY AND COULD REDUCE
OUR ABILITY TO COMPETE IN THE MARKET.
Our success will depend on our ability to obtain, protect and enforce
patents on our technology and to protect our trade secrets. We also depend, in
part, on patent rights that third parties license to us. Any patents we own or
license may not afford meaningful protection for our technology and products.
Others may challenge our patents or the patents of our licensors and, as a
result, these patents could be narrowed, invalidated or rendered unenforceable.
In addition, current and future patent applications on which we depend may not
result in the issuance of patents in the United States or foreign countries.
Competitors may develop products similar to ours which are not covered by our
patents. Further, since there is a substantial backlog of patent applications at
the U.S. Patent and Trademark Office, the approval or rejection of our or our
competitors' patent applications may take several years.
In addition to patent protection, we also rely on copyright protection,
trade secrets, know-how, continuing technological innovation and licensing
opportunities. In an effort to maintain the confidentiality and ownership of our
trade secrets and proprietary information, we require our employees, consultants
and advisors to execute confidentiality and proprietary information agreements.
However, these agreements may not provide us with adequate protection against
improper use or disclosure of confidential information and there may not be
adequate remedies in the event of unauthorized use or disclosure. Furthermore,
like many technology companies, we may from time to time hire scientific
personnel formerly employed by other companies involved in one or more areas
similar to the activities conducted by us. In some situations, our
confidentiality and proprietary information agreements may conflict with, or be
subject to, the rights of third parties with whom our employees, consultants or
advisors have prior employment or consulting relationships. Although we require
our employees and consultants to maintain the confidentiality of all
confidential information of previous employers, their prior affiliations may
subject us or these individuals to allegations of trade secret misappropriation
or other similar claims. Finally, others may independently develop substantially
equivalent proprietary information and techniques, or otherwise gain access to
our trade secrets. Our failure to protect our proprietary information and
techniques may inhibit or limit our ability to exclude certain competitors from
the market.
11
<PAGE> 15
THE DRUG DISCOVERY INDUSTRY HAS A HISTORY OF INTELLECTUAL PROPERTY LITIGATION
AND WE MAY BE INVOLVED IN INTELLECTUAL PROPERTY LAWSUITS, WHICH MAY BE
EXPENSIVE.
In order to protect or enforce our patent rights, we may have to initiate
legal proceedings against third parties. In addition, others may sue us for
infringing their intellectual property rights or we may find it necessary to
initiate a lawsuit seeking a declaration from a court that we are not infringing
the proprietary rights of others. The patent positions of pharmaceutical,
biotechnology and drug discovery companies are generally uncertain. A number of
pharmaceutical companies, biotechnology companies, independent researchers,
universities and research institutions may have filed patent applications or may
have been granted patents that cover technologies similar to the technologies
owned by, or licensed to, us or our collaborators. For instance, a number of
patents may have been issued or may be issued in the future that could cover
certain aspects of our technology that could prevent us from using technology
that we use or expect to use. In addition, we are unable to determine all of the
patents or patent applications that may materially affect our ability to make,
use or sell any potential products. Legal proceedings relating to intellectual
property would be expensive, take significant time and divert management's
attention from other business concerns, no matter whether we win or lose. The
cost of such litigation could affect our profitability.
Further, an unfavorable judgment in an infringement lawsuit brought against
us, in addition to any damages we might have to pay, could require us to stop
the infringing activity or obtain a license. Any required license may not be
available to us on acceptable terms, or at all. In addition, some licenses may
be nonexclusive, and therefore, our competitors may have access to the same
technology licensed to us. If we fail to obtain a required license or are unable
to design around a patent, we may be unable to sell some of our products or
services.
WE MAY BE SUBJECT TO LIABILITY REGARDING HAZARDOUS MATERIALS.
Our products and services as well as our research and development processes
involve the controlled use of hazardous materials. For example, we sometimes use
acids, bases, oxidants, and flammable materials. Acids include trifluoroacetic
acid and hydrochloric acid, bases include sodium hydroxide and triethylamine,
oxidants include peracids and potassium permanganate, and flammable solvents
include methanol, hexane and tetrahydrofuran. We are subject to federal, state
and local laws and regulations governing the use, manufacture, storage, handling
and disposal of such materials and certain waste products. We cannot completely
eliminate the risk of accidental contamination or injury from these materials.
In the event of such an accident, we could be held liable for any damages that
result, and any such liability could exceed our resources and disrupt our
business. In addition, we may have to incur significant costs to comply with
environmental laws and regulations related to the handling or disposal of such
materials or waste products in the future, which would require us to spend
substantial amounts of money.
RISKS RELATED TO THIS OFFERING
OUR STOCK PRICE LIKELY WILL BE VOLATILE, AND YOUR INVESTMENT COULD DECLINE IN
VALUE.
The trading price of our common stock likely will be volatile and could be
subject to fluctuations in price in response to various factors, many of which
are beyond our control, including:
- actual or anticipated variations in quarterly operating results;
- announcements of technological innovations by us or our competitors;
- new products or services introduced or announced by us or our
competitors;
- changes in financial estimates by securities analysts;
12
<PAGE> 16
- conditions or trends in the pharmaceutical and biotechnology industries;
- announcements by us or our competitors of significant acquisitions,
strategic partnerships, joint ventures or capital commitments;
- additions or departures of key personnel;
- economic and political factors; and
- sales of our common stock.
Negotiations between us and representatives of the underwriters have
determined the initial public offering price of our stock based upon a number of
factors. This price may not be indicative of prices that will prevail in the
trading market, and you may not be able to sell your shares at or above the
initial offering price.
In addition, price and volume fluctuations in the stock market in general,
and the Nasdaq National Market and the market for technology companies in
particular, have often been unrelated or disproportionate to the operating
performance of those companies. Further, the market prices of securities of life
sciences companies have been particularly volatile. Conditions or trends in the
pharmaceutical and biotechnology industries generally may cause further
volatility in the trading price of our common stock, because the market may
incorrectly perceive us as a pharmaceutical or biotechnology company. These
broad market and industry factors may harm the market price of our common stock,
regardless of our operating performance. In the past, plaintiffs have often
instituted securities class action litigation following periods of volatility in
the market price of a company's securities. A securities class action suit
against us could result in potential liabilities, substantial costs and the
diversion of management's attention and resources, regardless of whether we win
or lose.
THERE MAY NOT BE AN ACTIVE, LIQUID TRADING MARKET FOR OUR COMMON STOCK.
There may not be an active trading market for our common stock following
this offering. You may not be able to sell your shares quickly or at the market
price if trading in our stock is not active.
OUR EXECUTIVE OFFICERS, DIRECTORS AND PRINCIPAL STOCKHOLDERS OWN A LARGE
PERCENTAGE OF OUR VOTING STOCK AND COULD DELAY OR PREVENT A CHANGE IN OUR
CORPORATE CONTROL OR OTHER MATTERS REQUIRING STOCKHOLDER APPROVAL, EVEN IF
FAVORED BY OUR OTHER STOCKHOLDERS.
Immediately after this offering, our executive officers, directors and
principal stockholders, and their respective affiliates, will beneficially own
approximately 65.4% of our outstanding common stock. These stockholders, if
acting together, would be able to control substantially all matters requiring
approval by our stockholders, including the election of all directors and
approval of significant corporate transactions. We have agreed to include, as
director nominees, a number of nominees of Axys Pharmaceuticals, Inc. which is
proportionate to Axys' percentage ownership of our shares. Immediately following
this offering, Axys Pharmaceuticals, Inc. will have the right to nominate for
election two of seven directors as more fully described on page 62. Axys
Pharmaceuticals, Inc., which immediately after this offering will own
approximately 33% of our common stock, has agreed to vote all of its stock in
favor of management's annual slates of director nominees.
FUTURE SALES OF OUR COMMON STOCK MAY DEPRESS OUR STOCK PRICE.
The market price of our common stock could decline as a result of sales of
substantial amounts of our common stock in the public market after the closing
of this offering, or the perception that these sales could occur. In addition,
these factors could make it more difficult for us to raise funds through future
offerings of common stock. There will be 22,437,204 shares of common stock
13
<PAGE> 17
outstanding immediately after this offering, or 23,187,204 shares if the
underwriters exercise their over-allotment option in full, based on the number
of shares outstanding at May 5, 2000. All of the shares sold in the offering
will be freely transferable without restriction or further registration under
the Securities Act, except for any shares that our "affiliates," as defined in
Rule 144 of the Securities Act, purchase. The remaining 17,437,204 shares of
common stock outstanding will be "restricted securities" as defined in Rule 144,
of which 8,465,000 shares will be available for sale, subject to Rule 144,
immediately following the expiration of the 180 day lock-up period. These shares
may be sold in the future without registration under the Securities Act to the
extent permitted by Rule 144 or other exemptions under the Securities Act.
After this offering, we intend to register approximately 3,300,000 shares
of common stock which our Board of Directors reserved for issuance upon exercise
of options granted or reserved for grant under our stock option plans. Once we
register these shares, they can be sold in the public market upon issuance,
subject to restrictions under the securities laws applicable to resales by
affiliates.
YOU WILL EXPERIENCE IMMEDIATE AND SUBSTANTIAL DILUTION.
The initial public offering price of our common stock is substantially
higher than the net tangible book value per share of our common stock.
Therefore, if you purchase shares of our common stock in this offering, you will
incur immediate and substantial dilution of approximately $13.18 in the pro
forma net tangible book value per share of common stock from the price per share
that you pay for the common stock. If the holders of outstanding options or
warrants exercise those options or warrants at prices below the initial public
offering price, you will incur further dilution.
BECAUSE IT IS UNLIKELY THAT WE WILL PAY DIVIDENDS, YOU WILL ONLY BE ABLE TO
BENEFIT FROM HOLDING OUR STOCK IF THE STOCK PRICE APPRECIATES.
We have never paid cash dividends on our capital stock and do not
anticipate paying any cash dividends in the foreseeable future.
ANTI-TAKEOVER PROVISIONS IN OUR CHARTER AND BYLAWS COULD MAKE A THIRD-PARTY
ACQUISITION OF US DIFFICULT.
Our certificate of incorporation and bylaws contain provisions that could
make it more difficult for a third party to acquire us, even if doing so would
be beneficial to our stockholders. These provisions could limit the price that
investors might be willing to pay in the future for shares of our common stock.
See "Description of Securities -- Anti-takeover effects of provisions of the
certificate of incorporation and bylaws."
14
<PAGE> 18
STATEMENTS ABOUT THE FUTURE
This prospectus contains some statements which include words such as
"anticipates," "expects," "intends," "plans," "believes," "seeks" and
"estimates." These statements are not historical facts but rather are based on
current expectations, estimates and projections about our industry, our beliefs
and our assumptions. These statements are not guarantees of future performance
and are subject to risks, uncertainties and other factors, some of which are
beyond our control, are difficult to predict and could cause actual results to
differ materially from those expressed, implied or forecasted. These risks and
uncertainties include, among others, those described in "Risk Factors" beginning
on page 6 and elsewhere in this prospectus.
USE OF PROCEEDS
We estimate that the net proceeds from the sale of the shares of common
stock we are offering will be approximately $82.5 million at the initial public
offering price of $18.00 per share after deducting the estimated underwriting
discounts and commissions and estimated offering expenses. If the underwriters'
over-allotment option is exercised in full, we estimate that the net proceeds
will be approximately $95.1 million.
We currently intend to use the net proceeds to fund our operations,
including continued development and manufacturing of existing products as well
as research and development of additional products and services. We also may use
a portion of the net proceeds to acquire new businesses or technologies, hire
additional personnel and expand our facilities to be able to meet the growing
needs of our business. Although we have no current plans, agreements or
commitments with respect to any acquisition, we may, if the opportunity arises,
use an unspecified portion of the net proceeds to acquire or invest in products,
technologies or companies. We intend to use the balance of the net proceeds for
general corporate purposes, including working capital. Our management may spend
the proceeds from this offering in ways which the stockholders may not deem
desirable.
The timing and amount of our actual expenditures will be based on many
factors, including cash flows from operations and the growth of our business.
Until we use the net proceeds of this offering for the above purposes, we
intend to invest the funds in short-term, investment-grade, interest-bearing
securities. We cannot predict whether the proceeds invested will yield a
favorable return.
DIVIDEND POLICY
We have never declared or paid any cash dividends on our capital stock. We
currently intend to retain any earnings to support operations and to finance the
growth and development of our business. Therefore, we do not expect to pay cash
dividends in the foreseeable future. Our board of directors, at its discretion,
will make any future determination relating to our dividend policy. The board of
directors will consider a number of factors, including future earnings, capital
requirements, financial conditions and future prospects, when evaluating the
merits of paying any future cash dividends.
15
<PAGE> 19
CAPITALIZATION
The following table sets forth our capitalization as of March 31, 2000:
- on an actual basis derived from the unaudited financial statements;
- on a pro forma basis to give effect to the issuance of 1,392,503 shares
of Series E redeemable preferred stock in April 2000, the conversion of
7,954,781 shares of our redeemable preferred stock outstanding as of the
date this prospectus into an aggregate of 8,016,412 shares of common
stock prior to this offering, the issuance of common stock, warrant and
stock options as consideration for the acquisition of AAT in April, 2000;
and
- on a pro forma as adjusted basis to give effect to the receipt of the
estimated net proceeds from the sale of 5,000,000 shares of common stock
offered by this prospectus at the initial public offering price of $18.00
per share.
<TABLE>
<CAPTION>
MARCH 31, 2000
--------------------------------------------
PRO FORMA AS
ACTUAL PRO FORMA ADJUSTED
------------ ------------ ------------
<S> <C> <C> <C>
Long-term obligations, less current portion...... $ 2,504,493 $ 2,504,493 $ 2,504,493
Redeemable convertible preferred stock:
Authorized shares -- 7,333,333 actual,
9,033,333 pro forma and none pro forma as
adjusted; Issued and outstanding shares --
6,562,278 actual, none pro forma and none
pro forma as adjusted....................... 27,906,717 -- --
Stockholders' equity
Preferred stock:
Authorized shares -- none actual, none pro
forma and 1,000,000 pro forma as adjusted;
Issued and outstanding shares -- none
actual, pro forma and pro forma as
adjusted.................................... -- -- --
Common stock:
Authorized shares -- 10,000,000 actual,
20,000,000 pro forma, and 100,000,000 pro
forma as adjusted; Issued and outstanding
shares -- 1,789,068 actual, 17,235,121 pro
forma and 22,235,121 pro forma as
adjusted.................................... 1,789 17,235 22,235
Additional paid-in capital....................... 4,016,372 102,817,163 185,312,163
Deferred stock compensation...................... (1,824,265) (1,824,265) (1,824,265)
Note receivable from shareholder................. (240,000) (240,000) (240,000)
Accumulated other comprehensive loss............. (152,069) (152,069) (152,069)
Accumulated deficit.............................. (21,362,810) (30,362,810) (30,362,810)
------------ ------------ ------------
Total stockholders' equity (deficit)........ (19,560,983) 70,255,254 152,755,254
------------ ------------ ------------
Total capitalization........................ $ 10,850,227 $ 72,759,747 $155,259,747
============ ============ ============
</TABLE>
The table above does not include:
- 1,893,870 shares of common stock issuable upon exercise of options
outstanding at a weighted average price of $2.51 per share at May 5,
2000.
- 1,406,130 additional shares of common stock available for future grant
under our 2000 Stock Incentive Plan. To the extent that these options are
exercised, there will be further dilution to new investors.
16
<PAGE> 20
- Warrants exercisable into 905,294 shares of common stock with a weighted
average exercise price of $3.60 per share, of which warrants to purchase
670,209 shares will expire if they are not exercised at the time of this
offering.
- Of the total shares outstanding, 366,151 are subject to our right of
repurchase as of May 5, 2000.
The above information should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the consolidated financial statements and the notes thereto included elsewhere
in this prospectus.
17
<PAGE> 21
DILUTION
Our historical net tangible book value as of March 31, 2000 was
approximately $(26.7 million), or $(14.92) per share, based on the number of
common shares outstanding as of March 31, 2000. Historical net tangible book
value per share is equal to the amount of our total tangible assets less total
liabilities, divided by the number of shares of common shares outstanding as of
March 31, 2000.
Our pro forma net tangible book value as of March 31, 2000 was
approximately $24.7 million, or $1.43 per share, based on the pro forma number
of common shares outstanding as of March 31, 2000, calculated after giving
effect to the automatic conversion of 6,562,278 shares of our preferred stock
outstanding as of March 31, 2000 into 6,623,909 shares of our common stock,
conversion of 1,392,503 shares of redeemable Series E preferred stock issued in
April 2000 into 1,392,503 shares of common stock and the issuance of 7,429,641
shares of common stock, a $550,000 promissory note and $50,000 in cash as
consideration for the acquisition of AAT.
Dilution in pro forma net tangible book value per share represents the
difference between the amount per share paid by purchasers of shares of our
common stock in this offering and the pro forma net tangible book value per
share of our common stock immediately afterwards, after giving effect to the
sale of 5,000,000 shares in this offering and after deducting underwriting
commissions and estimated offering expenses. This represents an immediate
increase in pro forma net tangible book value of $3.39 per share to existing
stockholders and an immediate dilution in pro forma net tangible book value of
$13.18 per share to new investors. The following table illustrates this per
share dilution:
<TABLE>
<S> <C> <C>
Initial public offering price per share..................... $ 18.00
Historical net tangible book value per share as of March
31, 2000............................................... $(14.92)
Increase attributable to conversion of preferred stock,
issuance of Series E Preferred Stock, and acquisition
of AAT................................................. 16.35
-------
Pro forma net tangible book value per share as of March
31, 2000............................................... 1.43
Increase attributable to the offering..................... 3.39
-------
Pro forma net tangible book value per share after the
offering.................................................. 4.82
-------
Dilution per share to new investors......................... $(13.18)
=======
</TABLE>
The following table summarizes, on a pro forma as adjusted basis as of
March 31, 2000, after also giving effect to this offering, the total number of
shares of common stock purchased from us and the total consideration and the
average price per share paid by existing stockholders and by new investors:
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION
--------------------- ----------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
---------- ------- ------------ ------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders........... 17,235,121 78% $ 96,268,747 52% $ 5.59
New investors................... 5,000,000 22 90,000,000 48 $18.00
---------- --- ------------ ---
Total......................... 22,235,121 100% $186,268,747 100%
========== === ============ ===
</TABLE>
The tables and calculations above assume no exercise of the outstanding or
available options or warrants described below:
- 1,893,870 shares of common stock issuable upon the exercise of options
outstanding at a weighted average exercise price of $2.51 per share at
May 5, 2000;
- 905,294 shares of common stock issuable upon the exercise of warrants
outstanding at a weighted average exercise price of $3.60 per share at
May 5, 2000; and
18
<PAGE> 22
- 1,406,130 additional shares available for future grant at May 5, 2000
under our 2000 Stock Incentive Plan.
To the extent that these options or warrants are exercised, there will be
further dilution to new investors. See "Management -- Employee Benefit Plans"
for further information regarding our stock option plan and stock purchase plan.
If the underwriters exercise their over-allotment option in full, the
following will occur:
- the percentage of shares of our common stock held by existing
stockholders will decrease to approximately 75% of the total number of
shares of our common stock outstanding after this offering;
- the number of shares of our common stock held by new public investors
will increase to 5,750,000, or approximately 25% of the total number of
shares of our common stock outstanding after this offering; and
- our pro forma net tangible book value after the offering will increase to
$5.21 per share to existing stockholders and our pro forma net tangible
book value after the offering will be diluted by $12.79 per share to new
investors.
19
<PAGE> 23
SELECTED CONSOLIDATED HISTORICAL AND PRO FORMA FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following selected consolidated financial data should be read in
conjunction with the Discovery Partners International, Inc. ("DPI") and AAT
financial statements and the related notes thereto and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" included
elsewhere in this prospectus.
- The pro forma statement of operations data for the year ended December
31, 1999 and the three months ended March 31, 2000 should be read in
conjunction with the unaudited pro forma financial statements included
elsewhere in this prospectus. That data assumes that we purchased AAT
(which we actually purchased on April 28, 2000) as of the beginning of
each of these periods and is based on our historical operating results
and those of AAT for the periods presented, giving effect to:
- amortization of intangibles related to the acquisition,
- decreased interest income representing foregone interest income,
- issuance of shares of common stock to complete the acquisition as if
such issuance had occurred at the beginning of each of the periods
presented, and
- conversion of all of our outstanding shares of preferred stock as of
their original dates of issuance.
- Our statement of operations data for the years ended December 31, 1995,
1996, 1997, 1998 and 1999 and balance sheet data as of December 31, 1995,
1996, 1997, 1998 and 1999 are derived from our audited financial
statements, of which the statement of operations data for the years ended
December 31, 1997, 1998 and 1999 and balance sheet data as of December
31, 1998 and 1999 are included elsewhere in this prospectus.
- Our statement of operations data for the three months ended March 31,
1999 and 2000 and balance sheet data at March 31, 2000 are derived from
our unaudited financial statements included elsewhere in this prospectus.
The unaudited financial statements have been prepared on substantially the
same basis as the audited financial statements and include all adjustments,
consisting only of normal recurring adjustments, that we consider necessary for
a fair presentation of the financial position and results of operations for the
periods presented. Historical results are not necessarily indicative of the
results that may be expected in the future, and the results of interim periods
are not necessarily indicative of results that may be expected for the entire
year.
20
<PAGE> 24
SELECTED CONSOLIDATED HISTORICAL AND PRO FORMA FINANCIAL DATA (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
PERIOD FROM
MARCH 22, 1995 THREE MONTHS
(INCEPTION) TO YEARS ENDED DECEMBER 31, ENDED MARCH 31,
DECEMBER 31, ---------------------------------------------------- ----------------------------
1995 1996 1997 1998 1999 1999 1999 2000 2000
-------------- ------- ------- ------- ------- ----------- ------ ------- -------
PRO PRO
ACTUAL FORMA ACTUAL FORMA
------- ----------- ------- -------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF
OPERATIONS DATA
Revenue:.................. $ -- $ 413 $ 3,150 $ 6,214 $13,076 $27,050 $2,896 $ 5,173 $10,513
Cost of revenue (exclusive
of $7, $0 and $4 in 1999,
and for the three months
ended March 31, 1999 and
2000, respectively, of
stock-based
compensation)............ -- 159 1,312 2,786 8,235 11,957 1,763 3,053 4,245
------- ------- ------- ------- ------- ------- ------ ------- -------
Gross margin.............. -- 254 1,838 3,428 4,841 15,093 1,133 2,120 6,268
Operating expenses:
Research and development
(exclusive of $66, $7
and $88 in 1999, and
for the three months
ended March 31, 1999
and 2000, respectively,
of stock-based
compensation).......... 636 2,598 4,143 5,058 3,538 8,959 969 619 2,183
Selling, general and
administrative
(exclusive of $238, $63
and $172 in 1999, and
for the three months
ended March 31, 1999
and 2000, respectively,
of stock-based
compensation).......... 590 1,637 2,528 4,984 4,439 6,418 1,093 1,519 2,169
Amortization of deferred
compensation........... -- -- -- -- 311 311 70 264 264
Amortization of
goodwill............... -- -- -- -- -- 3,596 -- 155 1,054
------- ------- ------- ------- ------- ------- ------ ------- -------
Total operating
expenses............. 1,226 4,235 6,671 10,042 8,288 19,284 2,132 2,557 5,670
------- ------- ------- ------- ------- ------- ------ ------- -------
Income (loss) from
operations............... (1,226) (3,981) (4,833) (6,614) (3,447) (4,191) (999) (437) 598
Interest income
(expense)................ (10) (45) 14 273 211 155 76 (1,322) (1,336)
Foreign currency gains
(losses)................. -- -- (3) 63 (134) (134) (50) 129 129
Provision for income
taxes.................... -- -- -- -- -- -- -- -- (453)
------- ------- ------- ------- ------- ------- ------ ------- -------
Net (loss)................ $(1,236) $(4,026) $(4,822) $(6,278) $(3,370) $(4,170) $ (973) $(1,630) $(1,062)
======= ======= ======= ======= ======= ======= ====== ======= =======
Net loss per share, basic
and diluted.............. $ (7.36) $(12.95) $ (8.85) $ (8.20) $ (3.00) $ (0.49) $(0.96) $ (1.23) $ (0.12)
======= ======= ======= ======= ======= ======= ====== ======= =======
Shares used in calculating
net loss per share, basic
and diluted.............. 168 311 545 765 1,125 8,555(2) 1,014 1,324 8,754(2)
Pro forma net loss per
share, basic and
diluted.................. $ (0.44) $ (0.28) $ (0.21) $ (0.07)
======= ======= ======= =======
Shares used in calculating
pro forma net loss per
share, basic and
diluted.................. 7,729(1) 15,158(2) 7,939(1) 15,368(2)
</TABLE>
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
---------------------------------------------------- MARCH 31,
1995 1996 1997 1998 1999 2000
------- ------ -------- ------- -------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
SELECTED CONSOLIDATED BALANCE SHEET DATA
Cash and cash equivalents................................... $ 34 $4,226 $ 281 $10,715 $ 2,885 $ 984
Working capital (deficit)................................... (460) 4,289 949 8,976 (3,663) (3,950)
Total assets................................................ 820 5,671 3,831 16,596 21,652 21,750
Long term obligations, less current portion................. 76 486 322 96 1,910 2,504
Redeemable preferred stock.................................. 1,474 9,953 11,890 27,907 27,907 27,907
Total stockholders' equity (deficit)........................ (1,237) (5,229) (10,035) (16,298) (19,269) (19,561)
</TABLE>
-------------------------
(1) We calculated the pro forma net loss per share and shares used in computing
pro forma net loss per share as if all of our convertible preferred stock
was converted into shares of our common stock on the date of their issuance.
(2) We based net loss per share, basic and diluted, on DPI's weighted average
common shares outstanding, after giving effect to the issuance of shares of
DPI's common stock used to complete the acquisition as if such issuance had
occurred at the beginning of the periods. Pro forma net loss per share,
basic and diluted also includes the assumed conversion of all of DPI's
outstanding shares of redeemable preferred stock as of their original dates
of issuance.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion of our financial condition and
results of operations in conjunction with the financial statements and the notes
to those statements included elsewhere in this prospectus. This discussion may
contain forward-looking statements that involve risks and uncertainties. As a
result of many factors, such as those set forth under "Risk Factors" and
elsewhere in this prospectus, our actual results may differ materially from
those anticipated in these forward-looking statements.
OVERVIEW
We sell a broad range of products and services to pharmaceutical and
biotechnology companies to make the drug discovery process for our customers
faster, less expensive and more effective at generating drug candidates. We
focus on the portion of the drug discovery process after identification of a
drug target through when a drug candidate is ready for clinical trials. We
develop, produce and sell collections of chemical compounds that pharmaceutical
companies test for their potential use as new drugs or for use as the chemical
starting point for new drugs that may be developed from them. We also develop,
manufacture and sell proprietary instruments and the associated line of
consumable supplies that are used by the pharmaceutical industry in their own
in-house drug discovery chemistry operations. Additionally, we provide testing
services to the pharmaceutical industry in which chemical compounds are tested
for their biological activity as potential drugs. We also provide computational
software tools that guide the entire process of chemical compound design,
development and testing. We recently acquired three businesses, AAT, Discovery
Technologies and Structural Proteomics.
We recognize revenue of product sales as products are shipped. We recognize
development and high throughput screening service contract revenues on a
percentage of completion basis. Advances received under these contracts are
recorded as deferred revenue and recognized as costs are incurred over the terms
of the contracts. Revenue from chemistry service agreements is recognized on a
monthly basis and is based upon the number of full-time equivalent (FTE)
employees that actually worked on each agreement and the agreed-upon rate per
FTE per month.
We currently sell our products and services directly to pharmaceutical and
biotechnology companies through our sales, marketing, and service personnel
located in the United States and Europe. In addition, we sell and service our
products in Japan through a distributor.
You should note that the comparisons which follow compare actual results
for the applicable periods and do not reflect any pro forma adjustments.
Amortization of stock-based compensation. We have recorded deferred stock
compensation in connection with the grant of stock options to employees. As of
March 31, 2000, there was approximately $1.8 million of deferred stock
compensation to be amortized in future periods. We expect to record amortization
of deferred compensation as follows: $664,000 during the remainder of 2000,
$661,000 during 2001, $367,000 during 2002; and $108,000 during 2003.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2000 AND 1999
Revenue. Revenue increased to approximately $5.2 million for the first
three months of 2000 from approximately $2.9 million for the first three months
of 1999. Revenue increased primarily due to the inclusion of assay screening
revenue from our Discovery Technologies group, which was acquired at the end of
1999, and an increase in compound library sales.
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Cost of revenues. Cost of revenues increased to approximately $3.1 million
for the first three months of 2000 from approximately $1.8 million for the first
three months of 1999. Our cost of revenues increased by 73%, while our total
revenue increased by 79% between the same periods. As a result, gross margin
increased from approximately 39% to approximately 41%, primarily due to reduced
material costs of our Directed Sorting products and the impact of higher margins
from our assay screening revenue related to the December 1999 acquisition of our
Discovery Technologies group.
Research and development expenses. Research and development expenses
consist primarily of salaries and benefits, supplies and expensed development
materials, and facilities costs and equipment depreciation. Research and
development expenses decreased to approximately $619,000 for the first three
months of 2000 from approximately $969,000 for the first three months of 1999,
primarily due to a shift of development personnel to customer-funded product
development programs from our internally-funded product development efforts. We
anticipate our research and development expenses will increase over the next few
years as we increase our new product development efforts.
Selling, general and administrative expenses. Selling, general and
administrative expenses consist primarily of salaries and benefits for sales and
marketing and administrative personnel, advertising and promotional expenses,
professional services, and facilities costs. Selling, general and administrative
expenses increased approximately 39% to $1.5 million for the first three months
of 2000 from approximately $1.1 million for the first three months of 1999. The
increase was due primarily to increased personnel and related costs necessary to
support our growth in operations. We anticipate selling, general and
administrative expenses will increase during the foreseeable future to support
our business growth efforts.
Stock-based compensation. During the three months ended March 31, 2000, we
granted stock options with exercise prices that were less than the estimated
fair value of the underlying shares of common stock on the date of grant. As a
result, we have recorded and will continue to record deferred stock-based
compensation over the period that these options vest. The deferred stock-based
compensation expense for the first three months of 2000 was approximately
$263,000, compared to approximately $70,000 for the first three months of 1999.
Amortization of goodwill. We recognized approximately $155,000 in goodwill
amortization expense for the first three months of 2000 in connection with the
acquisition of Discovery Technologies. Since we completed the acquisition at the
end of 1999, there was no corresponding goodwill amortization expense for the
first three months of 1999. We expect goodwill amortization expense to increase
going forward as a result of our acquisition of AAT in April 2000 and our
acquisition of Structural Proteomics, Inc. during May 2000. All three
acquisitions are being accounted for as purchases.
Interest income. We incurred net interest expense of approximately $1.3
million for the first three months of 2000, due primarily to the existence of
$6.0 million of short-term promissory notes and the imputed value of warrants
that were issued in connection with the notes. The total $6.0 million in
principal plus accrued interest was converted into equity in April 2000, as part
of our Series E Preferred Stock financing round. We earned approximately $76,000
in net interest income for the first three months of 1999. We anticipate net
interest income will increase significantly following the completion of this
stock offering.
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
Revenue. Total revenue increased to approximately $13.1 million in 1999
from approximately $6.2 million in 1998 and $3.1 million in 1997. The revenue
increase from 1997 to 1998 was primarily a result of increased sales of our
Directed Sorting product line. The revenue increase from 1998 to
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1999 was primarily due to increased sales of our Directed Sorting product line
and the commencement of the proprietary NanoKan product development contracts
with Bristol-Myers Squibb and Aventis.
Cost of revenues. Cost of revenues increased to approximately $8.2 million
in 1999 from approximately $2.8 million in 1998 and $1.3 million in 1997. Cost
of revenues was approximately 63% of revenues in 1999, compared to approximately
45% in 1998 and 42% in 1997. The higher cost of revenues as a percentage of
revenue in 1999 was due primarily to the impact of the NanoKan development
program which has a nominal gross margin.
Research and development expenses. Research and development expenses
decreased to approximately $3.5 million in 1999 from approximately $5.1 million
in 1998 and $4.1 million in 1997. Beginning in mid-1998, certain research and
development personnel and related costs were transferred from our
internally-funded development of the Directed Sorting product line to the
NanoKan development program, which is being funded by our customers,
Bristol-Myers Squibb and Aventis. These expenses were accordingly reported as
cost of revenues.
Selling, general and administrative expenses. Selling, general and
administrative expenses totaled approximately $4.4 million in 1999, compared to
approximately $5.0 million in 1998 and $2.5 million in 1997. The decrease in
total selling, general and administrative expenses in 1999 was primarily due to
severance payments, recruitment, and relocation expenses incurred in 1998, which
were not repeated in 1999. The increase in selling, general and administrative
expenses from 1997 to 1998 was due primarily to the increased sales and
marketing staffing levels and the expanded management team and infrastructure
consistent with the revenue growth we experienced. As noted, these initiatives
in 1998 included non-recurring expenses for severance payments, recruitment and
relocation.
Amortization of deferred compensation. During the year ended December 31,
1999, we granted stock options with exercise prices that were less than the
estimated fair value of the underlying shares of common stock on the date of
grant. As a result, we have recorded and will continue to record deferred
stock-based compensation over the period that these options vest. The deferred
stock-based compensation expense for 1999 was approximately $311,000.
Interest income. We had net interest income of approximately $211,000 in
1999, compared to approximately $273,000 in 1998 and $14,000 in 1997. The
increase in interest income from 1997 to 1998 was primarily due to higher cash
levels resulting from approximately $16.0 million in cash proceeds from the sale
of Series D Preferred Stock in June 1998.
LIQUIDITY AND CAPITAL RESOURCES
We have funded our operations principally with $39.0 million of private
equity financings and $3.5 million in short-term and long-term debt and
equipment financing arrangements. Equity investments came from a series of five
preferred stock offerings over the period October 1995 through April 2000.
At March 31, 2000, cash and cash equivalents totaled $984,000 compared to
$2.9 million, $10.7 million and $281,000 at December 31, 1999, 1998 and 1997,
respectively.
Net cash used in operating activities for the three months ended March 31,
2000 was approximately $3.0 million compared with $3.2 million for the same
period in 1999. A net loss of $1.6 million for the first three months of 2000
was offset by non-cash charges of $1.2 million for non-cash interest expense for
warrants issued, $263,000 for amortization of deferred compensation and $608,000
for depreciation and amortization expenses. Accounts payable was reduced during
the three months ended March 31, 2000 by $2.0 million, primarily due to the
payment of $1.7 million in contingent purchase price consideration to the former
shareholders of Discovery Technologies Ltd.
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Approximately $1.2 million of cash and cash equivalents was used in investing
activities during the period for leasehold improvements and the acquisition of
capital equipment. Approximately $2.4 million of cash and cash equivalents was
provided by financing activities during the period, primarily from a $2.0
million promissory note (which was converted into equity in April 2000).
Net cash used in operating activities was approximately $5.7 million, for
the year ended December 31, 1999. Our net loss of $3.4 million, offset by
non-cash charges of $670,000, accounted for most of this use, and cash and cash
equivalents of $1.0 million were placed in a restricted account in 1999 as
collateral against a standby letter of credit. Deferred revenues were reduced by
$775,000 in 1999, primarily as a result of the recognition of revenue on the
NanoKan development contracts. Increases in accounts receivable and inventory,
along with a decrease in accounts payable, used an additional $1.3 million in
cash and cash equivalents in 1999.
Approximately $5.0 million in cash was used in 1999 for the acquisition of
Discovery Technologies.
In 1999, $4.0 million in promissory notes, less the repayment of $205,000
in equipment financing, provided approximately $3.8 million in net cash from
financing activities. We received an additional $2.0 million in cash in March
2000 from the issuance of another promissory note.
In December 1999, our Discovery Technologies group entered into a line of
credit with Basel Kantonal Bank for working capital advances, or borrowings up
to approximately $1.3 million. Borrowings accrue interest at 4.75% per annum
plus 0.25% per quarter. As of March 31, 2000, we had an outstanding loan balance
of $763,000. Our Discovery Technologies group also entered into a loan agreement
for $1.6 million from Novartis Venture Fund. The loan accrues interest at the
rate of 5% per annum and is payable in full by June 2001.
In April 2000, we issued 1,392,503 shares of Series E redeemable
convertible preferred stock at $8.00 per share in exchange for the conversion of
the $6.0 million in outstanding promissory notes and $5.0 million in additional
cash.
In April 2000, we acquired AAT, a wholly-owned subsidiary of Axys
Pharmaceuticals, Inc. in exchange for 7,429,641 shares of our common stock, a
promissory note in the principal amount of $550,344 and $50,031 in cash.
In May 2000 we acquired 75% of the outstanding shares of Structural
Proteomics for total consideration of $1.0 million in cash and 150,000 shares of
our common stock. We paid the 150,000 shares of our common stock directly to two
shareholders of Structural Proteomics, while we invested the $1.0 million in
Structural Proteomics as consideration for newly issued shares.
We anticipate investing up to $7.0 million through December 31, 2001 for
leasehold improvements and capital equipment necessary to support future revenue
growth. Our actual future capital requirements will depend on a number of
factors, including our success in increasing sales of both existing and new
products and services, expenses associated with unforeseen litigation,
regulatory changes and competition and technological developments, and potential
future merger and acquisition activity. We believe our existing cash and cash
equivalents, together with the net proceeds of this offering and any cash
generated from operations, will be sufficient to fund our operating expenses,
debt obligations and capital requirements through at least December 31, 2001.
At December 31, 1999, we had federal and California income tax net
operating loss carryforwards of approximately $14.6 million and $10.9 million,
respectively. The difference between the federal and California tax operating
loss carryforwards is primarily attributable to the capitalization of research
and development expenses for California income tax purposes. The federal and
California tax net operating loss carryforwards will begin to expire in 2010 and
2003, respectively, unless previously used. We also have federal and California
research tax credit carryforwards of approximately $680,000 and $393,000,
respectively, which will begin to expire in
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2010 unless previously used. We have provided a 100% valuation allowance against
the related deferred tax assets as realization of such tax benefits is not
assured.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Short-term investments. Our interest income is sensitive to changes in the
general level of U.S. interest rates, particularly since a significant portion
our investments are and will be in short-term marketable securities. Due to the
nature and maturity of our short-term investments, we have concluded that there
is no material market risk exposure.
Foreign currency rate fluctuations. The functional currency for the
European operations of our IRORI group is the U.S. dollar, and the functional
currency for our Discovery Technologies group is the Swiss franc. Our subsidiary
accounts are translated from their local currency to the U.S. dollar using the
current exchange rate in effect at the balance sheet date, for balance sheet
accounts, and using the average exchange rate during the period for revenues and
expense accounts. The effects of translation for the European operations of our
IRORI group are recorded as foreign currency gains (losses) in the consolidated
statement of operations. The effects of translation for our Discovery
Technologies group are recorded as a separate component of stockholders' equity.
Our European subsidiaries conduct their business with customers in local
currencies. Exchange gains and losses arising from these transactions are
recorded using the actual exchange differences on the date of the transaction.
We have not taken any action to reduce our exposure to changes in foreign
currency exchange rates, such as options or futures contracts, with respect to
transactions with our European subsidiaries or transactions with our worldwide
customers. The net tangible assets of our two European subsidiaries combined
were $6.1 million at March 31, 2000. A 1% decrease in the value of the British
pound and Swiss franc relative to the U.S. dollar would result in a foreign
translation loss of $61,000.
Inflation. We do not believe that inflation has had a material impact on
our business or operating results during the periods presented.
RECENT ACCOUNTING PRONOUNCEMENTS
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities,
will be effective January 1, 2001. This statement establishes accounting and
reporting standards requiring that every derivative instrument, including
certain derivative instruments imbedded in other contracts, be recorded in the
balance sheet as either an asset or liability measured at its fair value. The
statement 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 No. 133 will not have an effect on the financial
statements because we do not engage in derivative or hedging activities.
In December 1999, the Securities and Exchange Commission released Staff
Accounting Bulletin No. 101, Revenue Recognition in Financial Statements, (SAB
101) which provides guidance on the recognition, presentation and disclosure of
revenue in financial statements. The Company's revenue recognition policy
complies with SAB 101.
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BUSINESS
OVERVIEW
Discovery Partners International was founded in 1995 as IRORI, a company
that develops and sells instruments and associated consumables to pharmaceutical
companies for the generation of large numbers of chemical compounds for drug
discovery. In October 1998, we changed our name to Discovery Partners
International with the objective to create and commercialize a complete,
integrated and highly efficient collection of drug discovery technologies
focused from after identification of a drug target through when a drug candidate
is ready for clinical trials. Toward this end, in January 1999, we formed a
medicinal chemistry department that offers compound libraries and compound
optimization services. We were then able to offer both the compound libraries as
well as the instrumentation to generate compound libraries. In December 1999, we
acquired Discovery Technologies, Ltd. to provide assay development and
ultra-high throughput screening services. This addition enabled us to offer the
compounds to be screened together with the screening services. In April 2000, we
acquired Axys Advanced Technologies to offer large compound libraries, which
will operate with ChemRx under the name ChemRx Advanced Technologies. In May
2000, we acquired Structural Proteomics to provide computational software and
services. We believe that we currently offer a broad range of integrated drug
discovery products and services from a single provider.
INDUSTRY BACKGROUND
THE GENOMICS REVOLUTION
The drug discovery process is undergoing fundamental changes as a result of
advances in genomics and proteomics. Genomics and proteomics, the studies of
genes and the proteins they encode, have been the subject of intense scientific
and commercial focus. Genomics has led to the identification of large numbers of
genes encoding potential drug targets, increasing the demand for drug discovery
products and services. Drug targets are biological molecules, such as enzymes,
receptors, other proteins and nucleic acids, that may play a role in the onset
or progression of a disease. Once a company has identified a potential drug
target, it must still devote significant time and resources to validating the
target and screening libraries of compounds against the target to discover
potential drug candidates, which must be optimized further before commencement
of human testing. Historically, pharmaceutical and biotechnology companies have
used only approximately 500 identified drug targets in the development of drugs.
Industry experts predict that the application of genomics and proteomics will
lead to the identification of thousands of new drug targets.
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THE DRUG DISCOVERY PROCESS
Despite numerous advances and breakthrough technologies in genomics and
proteomics, the process of discovering drug candidates from drug targets, as
illustrated in the following figure and described below, remains slow, expensive
and often unsuccessful.
[DRUG DISCOVERY FLOW DIAGRAM]
DRUG TARGETS. The genomics revolution has identified large numbers of human
genes that encode the chemical information for cells to produce the proteins
that determine human physiology and disease. Drug discovery organizations are
rushing to advance these new drug targets into discovery with varying degrees of
target validation, or understanding of their role in disease processes, or
understanding of their susceptibility to modulation by chemical compounds. By
"modulation" we mean selectively increasing or decreasing the biological
activity of a particular drug target.
ASSAYS. Once a researcher has identified a drug target and has validated it
as having a role in a disease process, a corresponding set of biological assays,
or tests, that relate to the activity of the drug target in the disease process
must be developed. These assays are designed to show the effect of chemical
compounds on the drug target and/or the disease process. Additionally, assays
indicate the relative potency and specificity of interaction between the target
and the compounds. The more potent and specific the interaction between the
target and the compound, the more likely the compound is to become a drug.
COMPOUND LIBRARIES. Typically, medicinal chemists conduct assays in which
they screen libraries consisting of thousands of compounds each to find those
compounds that are active in altering the behavior of the drug targets.
Traditionally, medicinal chemists generated these compounds for testing by
synthesizing them one at a time, or painstakingly isolating them from natural
sources. During the last several years, the pharmaceutical industry has
developed modular, building block techniques, known as combinatorial chemistry,
to more efficiently and productively generate these compounds.
SCREENING. Screening is the process of testing compounds in assays to
determine their potential therapeutic value. A typical screening campaign at a
pharmaceutical company will entail screening hundreds of thousands of compounds
from multiple compound libraries. Today's automated high throughput screening
(HTS) systems can test tens of thousands of compounds per day and require only a
very small amount of the compound and target material.
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HITS-TO-OPTIMIZED-LEADS. A successful screening process will identify a
number of compounds, or hits, that show activity against the drug target. One or
more of the hits are then selected for optimization based on their potency and
specificity against the drug target. The hits selected for the optimization
process are generally referred to as "leads."
Optimizing a lead involves repeatedly producing slight variants of the lead
and screening them in assays to discover the relationship between the changes in
the molecular structure of compounds and the positive or negative effect on
biological activity in the assay. These trends are called "structure-activity
relationships" (SARs) and are used to produce the compounds that have the
optimal effect on the biological activity in the assay. Traditionally,
generating structure-activity relationships (SARs) was painstakingly slow.
Within the last several years, some pharmaceutical companies have harnessed the
modular building block approach called combinatorial chemistry to speed this
process. Their medicinal chemists create combinatorially generated "focused
libraries" that are made up of dozens to hundreds of compounds, computationally
designed to explore the structure-activity relationships (SARs) of leads.
ADME AND TOXICOLOGY. Once a very potent and selective compound with a well
understood structure-activity relationship (SAR) is selected for further
development, researchers undertake the process of establishing its absorption,
distribution, metabolism and excretion, or ADME, and toxicology characteristics.
Leads are studied in biochemical assays and animal studies to determine, among
other things, whether they are likely to be safe in humans and whether they are
likely to stay in the body long enough to perform their intended function.
Traditionally, these ADME and toxicology studies are performed at the end of the
drug discovery process. There is a significant push in the industry, however, to
attempt to provide ADME and toxicology information earlier in the process in
order to avoid large expenditures on compounds that will ultimately fail due to
their ADME and toxicology characteristics.
DRUG CANDIDATES. If the results of the ADME and toxicology studies
performed on a lead are favorable, an investigational new drug application, or
IND, may be filed with the Food and Drug Administration requesting permission to
begin clinical trials of the drug candidate in humans.
LIMITATIONS OF THE CURRENT INDUSTRY
To meet growth expectations, pharmaceutical companies are under intense
pressure to introduce new drugs, and they have increased research and
development expenses more than five-fold since 1985. Nevertheless, the number of
new drugs approved by the Food and Drug Administration per year has increased
only modestly over that period, increasing from 22 in 1985 to 35 in 1999 and
ranging from 20 to 53 new drugs in any one year during that period. Despite
major scientific and technological advances in areas such as genomics, high
throughput screening (HTS) and combinatorial chemistry, the drug discovery
process remains lengthy, expensive and often unsuccessful.
We believe that the following remain significant limitations to the current
process of drug discovery.
INSUFFICIENT VALIDATION OF TARGETS. Drug discovery organizations are
advancing potential new drug targets into discovery with varying degrees of
understanding of their role in disease processes and frequently with little
understanding of their susceptibility to modulation by compounds. The resources
spent on pursuing these potential drug targets could be saved if there were
better biological or chemical methods to de-select drug targets exhibiting these
characteristics.
INEFFICIENT PRODUCTION OF COMPOUND LIBRARIES. The dramatic increase in the
number of potential drug targets has increased the demand for high quality
compounds for screening. Traditional methods and instrumentation produce either
discrete compounds in small numbers, or produce large numbers of compounds that
are not discrete, but are present as mixtures whose
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components must be identified later using time-consuming tagging and screening
techniques. Further, the processes used to develop compound libraries have been
labor intensive and have lacked the efficiencies created by automated
instrumentation.
LOW QUALITY COMPOUND LIBRARIES. While combinatorial chemistry has vastly
increased the number of compounds available for screening, many of the compounds
generated have lacked the qualities necessary to become new drug candidates.
Inadequately validated chemistries generate hit compounds that are difficult or
impossible to reproduce. In addition, some companies often design libraries
without paying adequate attention to diversity of chemical properties contained
in the libraries. These oversights result in libraries that have large numbers
of redundant, or unproductively similar, compounds. Further, little attention is
devoted to the drug-like nature of the compounds leading to hits that are toxic
or have other fundamental flaws. Finally, many libraries contain impure
compounds that lead to false positives or the inability to reproduce results.
INSUFFICIENT RESOURCES FOR ASSAY DEVELOPMENT, SCREENING AND LEAD
OPTIMIZATION. Many pharmaceutical companies have attempted to reduce costs and
focus internal efforts on critical and proprietary areas by outsourcing portions
of their research and development functions. Many biotechnology and small
pharmaceutical companies have biological and genomic expertise but lack the
internal capabilities to advance through the drug discovery process.
Simultaneously with the increase in outsourcing, the number of drug targets
available to drug discovery overall is dramatically increasing.
INADEQUATE INFORMATICS AND COMPUTATIONAL TOOLS. Success of many drug
discovery programs is predicated on screening large numbers of compounds,
followed by the synthesis and testing of compounds for optimization and for
their ADME and toxicology characteristics. This sequential approach is
time-consuming and costly. Many of the recent advances in drug discovery have
been targeted at streamlining this process and have allowed large numbers of
compounds to be generated and tested in higher throughput. However, these
advances have been incremental. Pharmaceutical companies can save large
expenditures of time and money by increased and earlier input of knowledge about
which targets are likely to be receptive to chemical modulation, the likely
interaction of chemicals and biological targets and which compounds are likely
to have unacceptable ADME and toxicological characteristics prior to testing.
LACK OF AN INTEGRATED, NEUTRAL DRUG DISCOVERY SOLUTION. Many of the
companies that provide drug discovery services to the pharmaceutical and
biotechnology industries provide limited services. Thus they are unable to
provide the knowledge and efficiencies that can be gained by broad experience in
multiple facets of drug discovery. Further, customers must use valuable
resources to manage multiple vendors and integrate inconsistent or incompatible
products. Drug discovery service providers may also demand royalties in return
for their services or compete with their customers by conducting internal,
proprietary drug discovery activities.
OUR SOLUTION
We bring together a unique combination of drug discovery expertise,
technology and services to meet the needs of the pharmaceutical and
biotechnology industries. Our customers include most major pharmaceutical
companies and numerous biotechnology companies. We believe the broad range of
products and services we offer or intend to offer will provide the following
benefits:
TARGET VALIDATION. In combination with the Genomics Institute of the
Novartis Research Foundation, we are developing methods of validating drug
targets that we believe will enable us to identify targets that are important in
a disease process and can be modulated by chemical means. We have developed
large libraries of highly diverse compounds that are specifically designed to
modulate many drug targets. We believe that we will be able to use these
libraries to provide early information about whether a drug target is
susceptible to chemical modulation and, if so, whether
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modulation of its activity has an important effect on the disease process or
outcome. If these libraries are successful in providing this information early
in the drug discovery process, our customers can save large amounts of money and
time.
EFFICIENT PRODUCTION OF COMPOUND LIBRARIES THROUGH OUR DIRECTED SORTING
PRODUCTS. Our proprietary combinatorial system, referred to as Directed Sorting,
combines the advantages of parallel synthesis, i.e., discrete compounds with
large amounts of each compound, and split-and-pool synthesis, i.e., very high
productivity, in generating compound libraries. In parallel synthesis, chemists
perform multiple chemical reactions simultaneously, or "in parallel". In
split-and-pool synthesis, chemists take the product of one set of reactions and
repeatedly split them for subsequent sets of reactions. Our proprietary reactors
synthesize compounds with high efficiency and speed but keep the compounds
discrete in individually tagged reactors, thus avoiding the complexity of
mixtures of large numbers of compounds. Our Directed Sorting products have
gained widespread acceptance throughout the pharmaceutical industry. We believe
that in 1999 more than one million compounds were synthesized by our customers
using these products.
HIGH QUALITY COMPOUND LIBRARIES. We invest significant resources developing
our compound libraries to save our customers significant time and resources
later in the drug discovery process. Our chemistries are repeatable and our
compounds rapidly replenishable because we produce detailed synthesis protocols,
or recipe books, for each library. We are able to rapidly create focused
libraries containing slight variations of hits from our original discovery or
targeted libraries to study structure-activity relationships (SARs). We designed
our discovery libraries for maximum diversity using proprietary computer
algorithms. Over 100 medicinal chemists, both internal and external, review each
of our libraries for drug-like properties. Finally, after synthesis, we use
multiple analytical methods to ensure a high degree of compound purity. As a
consequence, our libraries contain highly diverse, drug-like compounds of high
purity.
BROAD RANGE OF PRODUCTS AND SERVICES FOR ASSAY DEVELOPMENT, CHEMISTRY AND
SCREENING. We currently offer a broad range of drug discovery products and
services targeted at areas of significantly expanded demand from pharmaceutical
and biotechnology companies -- assay development, chemistry and screening. We
have performed over 60 different assays for our customers. We also provide
access to more than one million discrete compounds, of which over 600,000 come
from many of the world's leading compound suppliers and over 450,000 are
internally generated. We are expanding our libraries at a rate of approximately
250,000 compounds per year. Our high throughput screening system, HTS-Factory,
is capable of screening more than 100,000 compounds per day for most biochemical
assays. In addition, our team of more than 65 chemists and biologists has worked
on numerous hit and lead optimization projects for our customers.
DEVELOPMENT OF AN INFORMATICS AND COMPUTATIONAL TOOLS KNOWLEDGE BASE. We
are developing state-of-the-art computational software tools to generate
predictive information in the early stages of drug discovery. We design our
tools to correlate information on families of drug targets and compounds with
screening data to predict which drug targets are likely to be receptive to
chemical modulation and be the right point of chemical intervention in a
disease, and which chemical structures are likely to react favorably with large
families of drug targets or produce unacceptable ADME or toxicological results.
Initially, we have developed computer algorithms that allow us to design
libraries of compounds with maximum diversity, thereby reducing the number of
compounds that must be screened. We believe that our computational tools will
have the potential to fundamentally alter the drug discovery process, reducing
the time and cost involved.
INTEGRATED DRUG DISCOVERY PRODUCTS AND SERVICES ON ATTRACTIVE TERMS. We
offer a broad range of integrated drug discovery products and services on terms
and conditions that we believe make our products and services easy to purchase.
We believe that our integrated approach provides unique value to our customers.
For example, we believe that it is highly important to our screening customers
that we provide both assay development services and access to compounds for
screening.
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Generally, we do not request royalties from our customers and do not compete
with them. We believe that our fee-for-service terms and focus on our customers'
needs rather than our own drug development efforts makes our product and service
offerings more attractive to our customers.
OUR STRATEGY
Our objective is to create and commercialize a complete, integrated and
highly efficient drug discovery platform optimized to overcome many of the
limitations associated with the slow and expensive traditional drug discovery
process. To implement our objective, we intend to:
OFFER AN INTEGRATED AND COMPLETE DRUG DISCOVERY SOLUTION FROM DRUG TARGET
TO DRUG CANDIDATE. We intend to offer our customers a complete suite of drug
discovery technologies, products and services that address speed and cost
considerations in the drug discovery process. We currently offer large
ready-made proprietary libraries of well-defined, drug-like compounds and sell
Directed Sorting instrument systems to help our customers rapidly build compound
libraries, both of which we believe speed the generation of hits and leads. We
have expertise in developing assays and offer high throughput screening (HTS)
services. We offer medicinal chemistry lead optimization services and use our
proprietary informatics to support all steps of the drug discovery process. We
expect to complete the creation of our drug discovery platform by adding
products and services at the early stages of drug discovery in drug target
validation and at the later stages, including expanding into ADME and toxicology
services.
BROADEN AND DEEPEN OUR TECHNOLOGY THROUGH INTERNAL INVENTION AND
ACQUISITION. We have assembled our current suite of advanced technologies,
products and services through both internal invention and acquisition. We
developed our lead optimization capabilities and our Directed Sorting instrument
systems and consumables internally. We gained our assay development and
screening capabilities, our ability to generate and sell large discovery
libraries of compounds and our informatics technology and products through
acquisition. We intend to continue to invest in internal research and
development and aggressively acquire and integrate cutting edge products and
services in order to stay at the forefront of drug discovery technology.
TARGET THE PHARMACEUTICAL AND BIOTECHNOLOGY INDUSTRIES. We will focus on
providing drug discovery products and services to the pharmaceutical and
biotechnology markets. In a 2000 report, Pharmaceutical Research and
Manufacturers of America estimates that the pharmaceutical industry alone will
spend more than $25 billion on research and development in 2000, of which more
than 30% will be spent on compound synthesis and extraction of compounds from
natural products, screening, and pharmacological and pre-clinical ADME and
toxicology. Before our recent acquisitions of AAT, Discovery Technologies and
Structural Proteomics, the pharmaceutical and biotechnology industries provided
96% of our revenues in 1999, and we expect a large portion of our revenues to
come from those industries for the foreseeable future. We currently have 16
business development and marketing personnel targeting pharmaceutical and
biotechnology customers worldwide. Due to the similar nature of pharmaceutical
development and agrochemical development, we also sell our products and services
to the agrochemical industry and expect to do so in the future. Further, we do
not intend to compete with our customers by conducting drug discovery for our
own account.
EXPAND CUSTOMER RELATIONSHIPS THROUGH INTEGRATION OF PRODUCTS AND
SERVICES. We will use existing relationships with customers in individual areas
of our business to sell products and services in multiple areas of drug
discovery. We believe that our customers can best take advantage of the time and
cost efficiencies of our products and services in integrated combinations. For
example, we believe that our lead optimization group will be in the best
position to optimize hits generated using our compound libraries because our
group will best understand the underlying synthesis chemistry.
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GENERATE MULTIPLE REVENUE STREAMS. We sell a variety of products and
services and have more than 100 customers. Our multiple revenue streams reduce
the potential negative consequences to us if any one of our product or service
areas ceases to be productive. We expect to continue to sell to our customers
primarily for current revenue but when appropriate, we also may accept milestone
payments or royalties based on the success of the ultimate pharmaceutical
product. We believe that the success of our business is not dependent upon the
realization of milestone or royalty payments.
EXPAND OUR KNOWLEDGE BASE. Because of the large number and diversity of our
customers, we generate and are exposed to large amounts of highly useful
information about the drug discovery process and about the general interaction
between types of chemistries and types of drug targets. Much of this information
is not specific to or proprietary to our customers and increases our
understanding of the interaction of the drug targets we work on and the
chemistries we apply to them as well as of the drug discovery process itself. We
believe this information will enable our customers and us to conduct drug
discovery work faster, less expensively and with a greater likelihood of
success. Our ultimate goal is to use this information to streamline the drug
discovery process and to create new revenue opportunities for us.
PRODUCTS AND SERVICES
We sell products and services designed to make the drug discovery process
faster, less expensive and more likely to generate a drug candidate. The
products and services provided by our four principal product groups, ChemRx
Advanced Technologies (which includes the former AAT), Discovery Technologies,
IRORI and Structural Proteomics can be purchased individually or as integrated
solutions, depending on our customers' requirements. As described below, we
currently offer products and services in many functional disciplines of the drug
discovery process. We intend to continue to add to our functional offerings in
order to provide a comprehensive and integrated suite of drug discovery services
to our pharmaceutical and biotechnology customers.
ASSAYS
Our Discovery Technologies group provides assay development services for
pharmaceutical, biotechnology and agrochemical discovery. Our team of scientists
is particularly experienced in working with major disease target types such as
protein kinases, G-protein-coupled receptors, cellular assays, specific assays
in the cancer field and crop protection assays. We are highly experienced with
all commonly used detection technologies including photometric, fluorometric,
luminometric, homogeneous time resolved fluorescence, fluorescence polarization
and isotopic with flash plate or filtration readouts. Biological systems about
which we have particular expertise include enzymes, receptor-ligand interaction,
protein-protein interaction, reporter-gene assay in pro- and eukaryotic cells,
cellular proliferation, differentiation and physiologic response, and microbial
growth. We have performed approximately 60 assay development and screening
projects for approximately 15 customers including Japan Tobacco, Novartis Crop
Protection and BioChem Pharma.
COMPOUND LIBRARIES
COMBINATORIAL CHEMISTRY INSTRUMENTS -- DIRECTED SORTING TECHNOLOGY. Through
our IRORI line of products and services, we develop and manufacture proprietary
instruments and consumables for compound library synthesis to pharmaceutical and
biotechnology organizations. Our instruments are based on a patented core
technology referred to as Directed Sorting, which enables our customers to
generate large collections of compounds.
- Directed Sorting -- Our Directed Sorting technology produces discrete
compounds in large amounts, synthesized with very high productivity. The
pharmaceutical industry has widely
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adopted our Directed Sorting technology, and we estimate that in 1999
over one million compounds were synthesized by our customers using this
technique. Directed Sorting combines the key advantages, while avoiding
the drawbacks, of the two traditional synthesis techniques -- parallel
synthesis and split-and-pool synthesis.
- Parallel synthesis -- Parallel synthesis yields discrete compounds and
large amounts of each compound. Virtually all chemists in the industry
find this result favorable. However, chemists must perform a large number
of reactions to generate large libraries. Automating parallel synthesis
helps to eliminate the tedium of the process, but does little to address
the limited number of compounds that can be synthesized per unit time and
per reaction.
- Split-and-pool synthesis -- The split-and-pool technique is significantly
more productive than parallel synthesis but produces compounds in
mixtures whose components must be identified using various tagging and
screening techniques. Therefore, this technique has found limited
commercial applicability.
In the Directed Sorting process, we synthesize each unique compound in a
library in a separate micro-reactor that contains a unique, electronically
readable tagging device. A micro-reactor is a semi-porous container that allows
the chemical reagents and solvents used in the synthesis process to pass in and
out of it without allowing the compound being synthesized inside to escape. In
this way, we can process tens, hundreds or even thousands of micro-reactors
simultaneously through a synthesis step in the same reaction vessel, which can
be a large flask or beaker. At the end of each chemical synthesis step, a
computer that reads the electronic tags directs the sorting of the micro-
reactors for the next synthesis step. The sharing of reaction vessels by many
micro-reactors provides huge productivity gains. For example, using only 30
reactions, Directed Sorting can complete a 1,000 compound library that results
from a three-step synthesis procedure using ten reagents in each step. Using
parallel synthesis, this same library would require between 1,110 and 3,000
reactions to complete.
Our current products based on the Directed Sorting technology include an
automated chemistry system (the AutoSort System) and a manual chemistry system.
We are also developing an ultra-high throughput chemistry system that can
generate up to one million discrete compounds per year (the NanoKan System). All
of these systems include hardware and software platforms and use disposable
microreactors that provide ongoing revenues for every compound that is
synthesized using these products. Typical library sizes generated by the manual
chemistry system are less than 1,000 compounds, by the AutoSort System are 1,000
to 10,000 compounds and by the NanoKan System are greater than 10,000 compounds.
We have over 100 customers using the Directed Sorting technology.
We designed the NanoKan System for customers that need to generate up to
one million compounds per year. We have entered into contracts to develop
NanoKan Systems for Bristol-Myers Squibb and Aventis. We are nearing the
completion of the NanoKan System development project and we plan to deliver the
first two systems to Aventis and Bristol-Myers Squibb in the third and fourth
quarters of 2000. Under these agreements, we have retained the rights to use
this technology internally and may deliver this product to additional customers
after one year following delivery to Bristol-Myers Squibb and Aventis.
PROPRIETARY LIBRARIES. We offer a broad range of compound libraries for
assay screening and rapid hit-to-lead activities. Our customers for compound
libraries include Allergan, Daiichi and Warner-Lambert.
Discovery Libraries. We generate and sell proprietary discovery libraries,
which are collections of diverse, drug-like compounds that are designed using
computer programs to systematically explore specified areas of chemical space or
types of chemistry. They are used in the initial stages of screening in which
very little information is known about which compounds will alter the
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activity of the drug target in the assay. To date, we have produced over 450,000
diverse compounds comprising over 100 distinct libraries. We are generating new
compounds at a rate of approximately 250,000 per year.
Targeted Libraries. We design and sell targeted libraries selected for a
specified type of drug target. These libraries are a group of highly related
compounds used much like discovery libraries, but they provide a more insightful
medicinal chemistry starting point.
Focused Libraries. We are able to rapidly generate focused libraries based
on hits from our discovery or targeted libraries because we have previously
invested significant resources in the development of each library of compounds.
Focused libraries explore subtle changes in the compound structure to quickly
elicit structure-activity relationships (SARs) and evolve lead compounds. In
addition, we develop focused libraries from hits generated by our customers.
Chemistry Protocols. We may sell licenses to the detailed protocols, or
chemical recipes, for generating our libraries to customers that purchase those
libraries. This enables our customers to replenish compounds and to create
additional compounds.
We have created and use a combinatorial chemistry technology platform
employing parallel synthesis and our Directed Sorting system. Our approach
provides the following advantages:
- Purity: Maximum purity is important to minimize false positives during
screening. We can deliver compounds that are greater than 90% pure
depending on customer specifications. Our quality control measures
include high performance liquid chromatography (HPLC), mass spectroscopy
(MS), nuclear magnetic resonance (NMR), evaporative light scattering
detection (ELSD) and weight percent analysis, coupled with a proprietary
high throughput purification process;
- Diversity: Each library of approximately 5,000 drug-like compounds is
designed to contain a set of highly diverse compounds using our
proprietary three-dimensional chemical mapping and differentiation
software;
- Ease of optimization: The individual chemistries for each library are
highly validated and characterized. This allows rapid generation of
focused libraries around hits and rapid follow-up and modification by
medicinal chemistry programs; and
- Re-supply and reproducibility: Our synthesis approaches produce large
quantities that allow rapid and cost effective restocking of customers'
supplies. Our highly validated chemistries allow us or our customers to
re-synthesize larger quantities on demand.
SCREENING
We offer a wide range of assay development services and ultra-high
throughput screening services to customers in the pharmaceutical, biotechnology
and agrochemical industries. We have an experienced staff of scientists located
at our facility near Basel, Switzerland. For an additional fee, we also offer
our customers access to over 600,000 compounds from many of the world's leading
compound suppliers plus over 450,000 internally developed compounds. This unique
combination of offerings has achieved rapid market acceptance. We currently have
15 assay development and screening customers including BioChem Pharma, Japan
Tobacco and Novartis Crop Protection.
We can perform a wide range of assays in our HTS-Factory, including
heterogeneous and homogeneous time-resolved fluorescence assays, isotopic
assays, fluorescence polarization assays and enzyme-linked immuno sorbent assays
(ELISA). We are currently developing proprietary technologies for G-protein
coupled receptors (GPCR) and protein-protein interaction screening. This broad
capability allows us to offer screening services for virtually any type of
biological or biochemical target.
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Our HTS-Factory is based on a proprietary platform of integrated
automation, instrumentation, liquid handling, engineering, robotics, computers
and sophisticated data collection software. The HTS-Factory has a screening
capacity of more than 100,000 compounds per day for most biochemical assays.
A majority of our screening customers also take advantage of our access to
compounds produced by other leading compound library providers. This unique
offering allows our customers access to a large and diverse collection of
compounds without the need to store and manage the compound collections in their
own facilities.
We deliver a list of hits to our screening customers. We also provide hit
follow-up and verification services and, in many cases, actual physical samples
of the hit compounds. We anticipate that our screening services will lead to
additional revenue opportunities based on requests for chemistry-based hit and
lead optimization services.
HITS-TO-OPTIMIZED-LEADS
We offer the following products and services to advance early stage
screening hits to become optimized drug leads.
FOCUSED LIBRARIES. We design and produce custom focused libraries based
upon hits identified from screening. These hits may be from our compound
libraries, the customer's internal compound collection or even from another
compound library supplier. Focused libraries consist of combinatorially
generated compounds that represent systematic variations of hits. Medicinal
chemists use these focused libraries to begin refining hits to optimize the
properties that have an effect on the drug target in the assay. Because we
invest significant resources in the development of each of our compound
libraries, we are able to generate focused libraries based on hits from our
discovery or targeted libraries more rapidly than when we begin from an isolated
hit resulting from a customer's compound collection.
We now have approximately 120 scaffolds, the molecular cores around which
compound libraries are built, with validated chemistries and 30 additional
scaffolds in development from which focused libraries may be produced. Our
focused library customers include Axys Pharmaceuticals, Kirin, Pharmacia and
Roche.
MEDICINAL CHEMISTRY. We also provide a wide range of medicinal chemistry
and lead optimization services. In advancing a hit to a drug candidate, we use
focused libraries and/or traditional medicinal chemistry methods. This includes
the synthesis of compounds that modify the original hit or lead for improved
potency, selectivity and other pharmaceutical characteristics. We have an
experienced group of synthetic organic chemists and medicinal chemists with
expertise in both solid phase chemistry and solution phase chemistry. In some
cases we provide medicinal chemistry services in conjunction with our
computational drug discovery efforts to design and construct small libraries of
compounds to act on specific targets of known structure. Our customers for hit
to lead services include AstraZeneca, DGI Biotechnologies, DuPont
Pharmaceuticals, Hisamitsu and Signal Pharmaceuticals.
DRUG DISCOVERY INFORMATICS
Through our majority-owned Structural Proteomics group, we are developing
computational tools that we believe will allow us to substantially increase our
knowledge, which can be applied in the earlier stages of drug discovery to
significantly reduce the time and cost of developing a drug. We currently have
computer algorithms that allow us to design libraries of compounds with maximum
diversity, thereby reducing the number of compounds which we must screen. When
screened against large numbers of potential drug targets, we believe these large
and highly diverse
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libraries will provide significant information about which drug targets are
amenable to modulation by chemical means. We are developing a protein (drug
target) family analysis tool which we believe will allow us to use screening
data to correlate drug target families with the types of compounds which will
likely bind to them. Using this tool, we hope to be able to design highly
effective targeted libraries for whole drug target families. In addition, we
hope to use this tool to efficiently design potent compounds to a hit on a
particular drug target and to efficiently search databases of compounds
available from other vendors for likely hits. We expect to further use our
computational tools and screening data to help predict ADME and toxicological
reactions to classes of compounds. This will allow our customers to avoid
spending money and time on hits and leads that will ultimately fail due to their
ADME and toxicological characteristics.
We initiated development work on our informatics offering in the first half
of 2000. We currently have two Small Business Innovation Research (SBIR) grants
to support this work, and we have signed a licensing and collaborative
development agreement with SmithKline Beecham to improve methods for protein
family analysis and the use of this information in drug design. We have not yet
initiated any meaningful development work on the predictive ADME and toxicology
informatics tools.
COMPONENT SUPPLY
We depend on sole-source suppliers for the mesh component of our reactors,
the radio frequency (RF) tags used in our commercial products and the
two-dimensional bar code tags used in our NanoKan system. These items are
obtained from suppliers on standard commercial terms. We have no long-term
supply agreements for these items.
SALES AND MARKETING
Our senior executives coordinate global management of our key customers and
manage our general sales and marketing efforts for our drug discovery offerings
to major pharmaceutical customers worldwide. We are in the process of
integrating our recently acquired businesses to offer multiple coordinated
products and services to our customers.
Currently our sales and marketing is staffed as follows:
UNITED STATES: A total of 12 professionals are engaged in selling and
marketing our products. They operate from our headquarters in San Diego as well
as our facilities near San Francisco or from their residences in New Jersey and
California.
EUROPE: A total of four professionals, operating in the United Kingdom and
in Switzerland, are engaged in selling and marketing our products.
JAPAN: All of our products are promoted by third party representatives with
the assistance of our personnel from the U.S. or Europe. Contracts are
negotiated by and placed directly with us and the third party representatives
receive a commission.
In addition to direct selling efforts we also use industry trade shows and
industry journal advertising for sales and marketing.
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RESEARCH AND DEVELOPMENT
Our research and development expenses totaled approximately $4.1 million in
1997, $5.1 million in 1998 and $3.5 million in 1999. None of these expenses was
funded by outside parties. We conduct research and development programs in four
primary areas as follows:
CORE INSTRUMENTATION TECHNOLOGY. These projects include the development of
new instrumentation technologies of the type that led to the development of our
current IRORI products, including the NanoKan System. Core technology projects
have also expanded beyond synthesis technology to include the development of
other drug discovery instrumentation. We implement projects on our own behalf
and in collaboration with customers to develop specific instruments we identify
as product opportunities. In collaborative projects, we seek to retain the
intellectual property and commercialization rights.
DRUG DISCOVERY INFORMATICS. We have initiated drug discovery informatics
projects that we believe will lead to a host of new products and services. We
have begun to develop informatics tools that will aid in the design of new
compound libraries that are optimized for potency toward a specific drug target
and minimized for interactions with other undesired targets. Additionally, we
are developing computational software and algorithms that may provide rapid
advances in the areas of high throughput genomic sequencing, high throughput
protein structure determination and cell-based and target-based virtual
screening.
CHEMISTRY AND CHEMISTRY PROCESS DEVELOPMENT. Our chemistry and chemistry
process development programs are designed to give us a competitive advantage in
the number of compound libraries available to us and in the quality and
reproducibility of the libraries. We have initiated an effort to expand our
combinatorial chemistry programs into the area of natural products chemistry to
further increase the drug-like qualities of our compound libraries. We have also
launched research and development projects to develop chemistry-based products
for target validation.
ASSAY DEVELOPMENT AND HIGH THROUGHPUT SCREENING. We are investing in new
assay development and high throughput screening (HTS) technologies that we
believe will allow us to broaden our product and service offerings. We are
continually expanding our portfolio of assays and believe that current research
and development programs will allow us to address virtually every type of
homogeneous or heterogeneous drug discovery assay, and a wide range of
agrochemical assays. Our high throughput screening (HTS) facility is
operational, and we have initiated programs designed to increase both its
capabilities and capacity.
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CUSTOMERS
The following commercial customers have purchased one or more of our drug
discovery products and services.
PHARMACEUTICAL, AGRICULTURAL AND OTHER COMPANIES
3M Company
Abbott
Allergan
American Cyanamid
Amgen
Ares-Serono
AstraZeneca
Aventis
Bayer
Boehringer Ingelheim
Bristol-Myers Squibb
Daiichi
Dainippon Pharmaceuticals
Dow Agro Sciences
DuPont Pharmaceuticals
Eli Lilly
Glaxo Wellcome
Hisamitsu Pharmaceutical
Hoffmann-LaRoche
Japan Tobacco
Johnson & Johnson
Kirin
L'Oreal
Merck
Merck KgaA
Novartis
Organon (Akzo Nobel)
Monsanto
Parke-Davis (Warner-
Lambert)
Pfizer
Pharmacia & Upjohn
Procter & Gamble
Rhone-Poulenc
Agrochemicals
Schering Plough
SmithKline Beecham
Synthelabo
Takeda
Wyeth Ayerst Research
(AHP)
Zeneca Agrochemicals
BIOTECHNOLOGY COMPANIES
3-Dimensional Pharmaceuticals
Analyticon
Biogen
BioMega
Cephalon
Coelacanth Chemical
CombiChem
Corvas
Cubist
Elitra
Epix Medical
Genentech
Genetics Institute (AHP)
Genomic Institute of the
Novartis Research
Foundation
Gilead Sciences
Guilford Pharmaceuticals
Intercardia
IRBM
Isis Pharmaceuticals
Magainin Pharmaceuticals
Menarini Ricerche
Metaphore Pharmaceuticals
Mitotix
Molecumetics
NeoKimia
Novalon
Orchid Biocomputers
Protein Design Labs
Signal Pharmaceuticals
Synaptic
Versicor
Vertex
The following table contains each customer that represented over ten
percent of our revenue for the indicated periods. The pro forma percentages for
the year ended December 31, 1999 and the three months ended March 31, 2000
assume that we purchased AAT as of the beginning of each of those periods and is
based on our historical operating results and those of AAT for the periods
presented.
<TABLE>
<CAPTION>
THREE MONTHS
YEARS ENDED DECEMBER 31, ENDED MARCH 31,
------------------------------- ----------------
1997 1998 1999 1999 2000 2000
---- ---- ------ ----- ------ ------
PRO PRO
ACTUAL FORMA ACTUAL FORMA
------ ----- ------ ------
<S> <C> <C> <C> <C> <C> <C>
Aventis..................................... 17% -- 22% 17% -- --
DuPont Merck Pharmaceutical................. 16% -- -- -- -- --
Bristol-Myers Squibb........................ 10% -- 20% 10% 12% 26%
SmithKline Beecham.......................... -- 23% -- -- -- --
Japan Tobacco............................... --.. -- -- -- 22% 11%
Warner-Lambert.............................. -- -- -- 22% -- --
Daiichi..................................... -- -- -- -- -- 13%
</TABLE>
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For our last three fiscal years, the revenues that we derived from all
foreign countries taken as a whole were as follows:
- in 1997, $855,000, which represented 27% of our total revenues for that
year;
- in 1998, $2.6 million, which represented 42% of our total revenues for
that year; and
- in 1999, $3.4 million, which represented 26% of our total revenues for
that year.
We have entered into the following material customer contracts:
AGREEMENT WITH BRISTOL-MYERS SQUIBB COMPANY
On May 22, 1998, we entered into an Agreement with Bristol-Myers Squibb
Company pursuant to which we will provide Bristol-Myers with a NanoKan System
and NanoKans, or receptacles, used by the NanoKan System to create compounds.
We expect to deliver the NanoKan System to Bristol-Myers by the fourth
quarter of 2000. Bristol-Myers agreed to purchase a fixed quantity of NanoKans
from us, and, after we have delivered those, to have us supply all of
Bristol-Myers' requirements for NanoKans in the future. The total revenue we
will receive from the sale of the NanoKan System is $4.0 million, of which we
have received $2.0 million. We will sell NanoKans on a per-unit basis, and the
minimum fixed quantity of NanoKans that Bristol-Myers has agreed to purchase
will provide us with $500,000 in revenue in total.
We agreed not to supply more than one other NanoKan System to any third
party during the period beginning on May 22, 1998 and ending on the first
anniversary of the date that Bristol-Myers accepts its NanoKan System from us.
However, we retained title to all software and inventions embodied in the
NanoKan System so that we can use this technology internally.
Bristol-Myers may terminate this agreement at any time prior to the date
that Bristol-Myers accepts the NanoKan System from us. In this event,
Bristol-Myers must return all portions of the NanoKan System that we previously
delivered, all licenses granted under the agreement will terminate and
Bristol-Myers must make one more installment payment of the purchase price. In
addition, the requirements arrangement described above will continue for an
indefinite period, but Bristol-Myers will have the right to terminate it at any
time after the seventh anniversary of the date that Bristol-Myers accepts the
NanoKan System from us. Upon termination by Bristol-Myers, the licenses granted
under the agreement will become perpetual.
AGREEMENT WITH AVENTIS (FORMERLY RHONE-POULENC RORER INTERNATIONAL, INC.)
On June 15, 1998, we entered into an Agreement with Aventis pursuant to
which we will provide Aventis with a NanoKan System and NanoKans.
We will deliver the NanoKan System to Aventis by the fourth quarter of
2000. Aventis agreed to purchase a fixed quantity of NanoKans, and, after we
have delivered those to Aventis, to have us supply all of Aventis' requirements
for NanoKans in the future. The total revenue we will receive from the sale of
the NanoKan System is $4.0 million, of which we have received $3.0 million. We
will sell NanoKans on a per-unit basis, and the minimum fixed quantity of
NanoKans that Aventis has agreed to purchase will provide us with $2.0 million
in revenue in total.
We agreed not to supply more than one other NanoKan System to any third
party during the period beginning on June, 1998 and ending on the first
anniversary of the date that Aventis accepts its NanoKan System from us.
However, we retained title to all software and inventions embodied in the
NanoKan System so that we can use this technology internally.
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Aventis may terminate this agreement at any time prior to the date that
Aventis accepts the NanoKan System from us. In this case, Aventis must return
all portions of the NanoKan System that we previously delivered, all licenses
granted under the agreement will terminate and Aventis must make one more
installment payment of the purchase price. In addition, the requirements
arrangement described above will continue for an indefinite period, but Aventis
will have the right to terminate it at any time after the seventh anniversary of
the date that Aventis accepts the NanoKan System from us. Upon termination by
Aventis, the licenses granted under the agreement will become perpetual.
AGREEMENT WITH WARNER-LAMBERT COMPANY
Under this Agreement, which AAT entered into on May 15, 1998, we will
synthesize and provide to Warner-Lambert Company a library of compounds. We own
all intellectual property rights in the compounds that are delivered, but grant
Warner-Lambert a license to use this intellectual property to the extent
required to perform its drug discovery research. Warner-Lambert may not provide
access to the compounds to any third party that will use the compounds for
general screening purposes. We also grant Warner-Lambert a license to our some
of our software and our know-how and patents relating to the production of the
compounds for Warner-Lambert, and to make, use and sell products containing the
compounds we deliver.
Warner-Lambert will pay an aggregate price of $20.5 million for the
compounds, of which AAT has received $13.7 million. Warner-Lambert will also pay
us a royalty of 2.5% of its net sales of drugs embodying licensed technology.
This agreement expires upon the later of May 15, 2001 or our delivery of
all of the compounds to be delivered. The intellectual property licenses will
survive expiration of the contract. In addition, Warner-Lambert may terminate
this agreement at any time if we fail to meet delivery milestones. In this case,
Warner-Lambert may keep all compounds that we delivered and it paid for, and the
intellectual property licenses we granted with respect to those compounds.
Finally, either party may terminate the agreement upon the material,
unremedied breach of the other party. If we committed the breach, Warner-Lambert
will keep all of the compounds that we delivered and Warner-Lambert paid for.
Warner-Lambert will receive exclusive rights to an additional fifty compounds
and the intellectual property licenses granted with respect to those compounds
will survive termination. If Warner-Lambert committed the breach, Warner-Lambert
will return to us the compounds that are the subject of the breach and the
licenses granted with respect to those compounds will terminate.
INTELLECTUAL PROPERTY
To establish and protect our proprietary technologies and products, we rely
on a combination of patent, copyright, trademark and trade secrets laws, as well
as confidentiality provisions in our contracts.
We have implemented an aggressive patent strategy designed to maximize our
intellectual property rights. We are pursuing patent coverage in the United
States and those foreign countries that are home to the majority of our
anticipated customer base. We currently own fourteen issued patents in the
United States and have received notices of allowance for four additional patent
applications. In addition, our patent portfolio includes pending patent
applications in the United States and corresponding international and foreign
filings in major industrial nations.
United States patents issued from applications filed prior to June 8, 1995
have a term of the longer of 20 years from the earliest priority date or 17
years from issue. Fourteen of our applications were filed prior to June 8, 1995
and nine of these applications have issued. United
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<PAGE> 45
States patents issued from applications filed on or after June 8, 1995 have a
term of 20 years from the application filing date or earlier claimed priority.
Patents in most other countries have a term of 20 years from the date of filing
of the patent application. Our remaining patent applications, including the
applications from which five of our issued patents were derived, were filed
after June 8, 1995. Because the time from filing to issuance of patent
applications is often several years, this process may result in a shortened
period of patent protection, which may adversely affect our ability to exclude
competitors from our markets. Our issued United States patents have expiration
dates ranging from April 2015 to July 2017. None of our licenses will expire
within the next ten years other than the Trega license which will expire in the
United States in March of 2005. Our success will depend to a significant degree
upon our ability to develop proprietary products and technologies and to obtain
patent coverage for the products and technologies. We intend to continue to file
patent applications covering any newly-developed products and technologies.
Patents provide some degree of protection for our proprietary technology.
However, the pursuit and assertion of patent rights, particularly in areas like
pharmaceuticals and biotechnology, involve complex determinations and,
therefore, are characterized by some uncertainty. In addition, the laws
governing patentability and the scope of patent coverage continue to evolve,
particularly in biotechnology and due to the time between the filing and
granting of a patent application, we may be infringing upon the patent rights of
a third party without any knowledge of the patent. As a result, patents might
not issue from any of our patent applications or from applications licensed to
us. The scope of any of our issued patents may not be sufficiently broad to
offer meaningful protection. In addition, our issued patents or patents licensed
to us may be successfully challenged, invalidated, circumvented or rendered
unenforceable so that our patent rights might not create an effective
competitive barrier. Moreover, the laws of some foreign countries may not
protect our proprietary rights to the same extent as do the laws of the United
States. Any patents issued to us or our strategic partners may not provide a
legal basis for establishing an exclusive market for our products or provide us
with any competitive advantages or that the patents of others will not have an
adverse effect on our ability to do business or to continue to use our
technologies freely. In view of these factors, our intellectual property
positions bear some degree of uncertainty.
The source code for our proprietary software is protected both as a trade
secret and as copyrighted works.
We also rely in part on trade secret protection of our intellectual
property. We attempt to protect our trade secrets by entering into
confidentiality agreements with third parties, employees and consultants. Our
employees also sign agreements requiring that they assign to us their interests
in inventions and original expressions and any corresponding patents and
copyrights arising from their work for us. However, it is possible that these
agreements may be breached, invalidated or rendered unenforceable, and if so,
there may not be an adequate corrective remedy available. Despite the measures
we have taken to protect our intellectual property, parties to our agreements
may breach the confidentiality provisions in our contracts or infringe or
misappropriate our patents, copyrights, trademarks, trade secrets and other
proprietary rights. In addition, third parties may independently discover or
invent competing technologies or reverse engineer our trade secrets or other
technology.
Although we are not a party to any legal proceedings, in the future, third
parties may file claims asserting that our technologies or products infringe on
their intellectual property. We cannot predict whether third parties will assert
such claims against us or our licensees or against the licensors of technology
licensed to us, or whether those claims will harm our business. If we are forced
to defend against such claims, whether they are with or without merit, and
whether they are resolved in favor of or against us, our licensees or our
licensors, we will incur significant expenses and diversion of management's
attention and resources. As a result of such disputes, we may have to develop at
a substantial cost non-infringing technology or enter into licensing agreements.
These
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<PAGE> 46
agreements, if necessary, may be unavailable on terms acceptable to us, or at
all, which could seriously harm our business or financial condition.
ASSIGNMENT AGREEMENT WITH ONTOGEN CORPORATION. On December 17, 1998, we
entered into an Assignment Agreement with Ontogen Corporation pursuant to which
we acquired all of Ontogen's ownership interest in two U.S. patents entitled
"Methods and Apparatus for Synthesizing Labeled Combinatorial Chemistry
Libraries." We granted Ontogen a perpetual license to use the technology
described in the patents, including the right to use it commercially, but
Ontogen may not sublicense the technology. Pursuant to this agreement, we paid
Ontogen a total of $1.0 million in two installments. We paid the last of these
two installments in January of 1999.
NON-EXCLUSIVE SUBLICENSE AGREEMENT WITH TREGA BIOSCIENCES, INC. On May 1,
1998, we entered into a Non-Exclusive Sublicense Agreement with Trega
Biosciences, Inc. pursuant to which we licensed from Trega certain patents for
use in connection with our Kan reactors, which are the containers used in
synthesizing labeled combinatorial chemistry libraries. Under this agreement,
Trega granted to us the non-exclusive, worldwide right to use, make, import and
sell our Kan reactors that are manufactured using technology described by the
Trega patents. We have paid Trega a total of $250,000 in two installments. We
paid the last of these two installments in June of 1999. We also agreed to pay
Trega a percentage of our net sales of our Kan reactors that use the technology
described in the licensed patents. To date we have paid Trega a total of
$473,000 in royalties.
This agreement expires as to each country in which our Kan reactors are
sold on the date that the last licensed patent right with respect to a
particular country expires. In addition, either party may terminate this
agreement upon the material, unremedied breach of the other party. If we breach
the contract, the licenses granted to us under the agreement will terminate. If
Trega breaches the contract, the licenses will survive termination.
COMPETITION
Competition across the spectrum of drug discovery products and services
that we offer is fragmented. However, we face intense competition from a number
of companies, including those listed below, in each of the functional areas of
drug discovery that we serve.
- Assay development and screening. Aurora Biosciences, Cambridge Drug
Discovery, Cerep, Evotec, Oncogene Sciences, Pharmacopeia, Tripos, Tropix
division of PE Biosystems.
- Combinatorial chemistry instruments. Argonaut, Bohdan and Mimotopes.
- Compound libraries and lead optimization. Albany Molecular Research,
ArQule, Array Biopharma, Cambridge Drug Discovery, Oxford Asymmetry,
Pharmacopeia and Tripos.
- Informatics. MSI division of Pharmacopeia, Oxford Molecular and Tripos.
Also, in many cases, our pharmaceutical company customers have internal
departments which provide products and services similar to ours, so these
customers may have limited needs for our products and services. Many of our
competitors listed above have greater financial, operational, sales and
marketing resources than we have. In addition, these competitors and other
companies or research or academic institutions may have developed or could in
the future develop new technologies that compete with our products and services
or that could render some or all of our products and services obsolete. Any of
these or other competitors could also broaden the scope of their drug discovery
offerings through acquisition, collaboration or internal development to
integrate their offerings and/or compete with us in all phases of drug
discovery.
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<PAGE> 47
GOVERNMENT REGULATION
We are subject to various federal, state and local laws and regulations
relating to the protection of the environment. In the course of our business, we
handle, store and dispose of chemicals. The laws and regulations applicable to
our operations include provisions that regulate the discharge of materials into
the environment. Usually these environmental laws and regulations impose "strict
liability," rendering a person liable without regard to negligence or fault on
the part of such person. Such environmental laws and regulations may expose us
to liability for the conduct of, or conditions caused by, others. We have not
been required to expend material amounts in connection with our efforts to
comply with environmental requirements and we do not believe that compliance
with such requirements will have a material adverse effect upon our capital
expenditures, results of operations or competitive position. Because the
requirements imposed by these laws and regulations frequently change, we are
unable to predict the cost of compliance with these requirements in the future,
or the effect of these laws on our capital expenditures, results of operations
or competitive position.
EMPLOYEES
As of May 5, 2000, we had 190 employees, of which 115 were in research and
development, 16 were in business development, sales and marketing, 26 were in
general and administrative, and 33 were in manufacturing. None of our employees
is covered by a collective bargaining agreement.
FACILITIES
We occupy approximately 34,500 combined square feet of leased office space
and other facilities in San Diego, California for our headquarters and as the
base for our marketing and product support operations, research and development
and manufacturing activities. We occupy approximately 30,000 square feet of
subleased office and laboratory space near San Francisco, California for some of
our combinatorial chemistry activities. In addition, we also occupy
approximately 12,000 square feet of leased space near Basel, Switzerland for our
assay development and high throughput screening (HTS) services.
LEGAL PROCEEDINGS
From time to time, we may be involved in litigation that arises through the
normal course of business. As of the date of this prospectus, we are not a party
to any litigation we believe could reasonably be expected to have a material
adverse effect on our business or results of operations.
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<PAGE> 48
SCIENTIFIC ADVISORY BOARD
We have established a scientific advisory board made up of leading scholars
in various functional disciplines of the drug discovery process. Members of our
scientific advisory board consult with us on matters relating to the development
of our products and services described elsewhere in this prospectus. We
reimburse members of our scientific advisory board for the reasonable expenses
of attending meetings of the scientific advisory board. We may also provide some
of the members with options to purchase shares of our common stock. The members
of our scientific advisory board are as follows:
<TABLE>
<CAPTION>
ADVISOR TITLE/INSTITUTION
------- -----------------
<S> <C>
Paul Anderson, Ph.D. ......... Vice President, DuPont Pharmaceuticals
Daniel Bellus, Ph.D. ......... Professor of Organic Chemistry, University of Fribourg,
Switzerland
Colin Dollery, Ph.D. ......... Senior Consultant, R&D, SmithKline Beecham
Gerd Folkers, Ph.D. .......... Professor of Pharmaceutical Chemistry,
ETH-Zurich-Irchel
Barry Honig, Ph.D. ........... Department of Biochemistry and Molecular Biophysics,
Columbia University
Richard Labaudiniere, Former Senior Director, Lead Discovery, Rhone-Poulenc
Ph.D. ...................... Rorer
K.C. Nicolaou, Ph.D. ......... Chairman, Department of Chemistry, The Scripps Research
Institute
Julius Rebek, Ph.D. .......... Director, The Skaggs Institute for Chemical Biology
Michael C. Venuti, Ph.D. ..... Senior Vice President Research, Axys Pharmaceuticals
</TABLE>
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<PAGE> 49
MANAGEMENT
EXECUTIVE OFFICERS, DIRECTORS AND KEY EMPLOYEES
The following persons are our executive officers, directors and key
employees as of May 5, 2000:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Executive Officers and Directors
Riccardo Pigliucci.................. 53 President, Chief Executive Officer and Chairman
Jack Fitzpatrick.................... 46 Chief Financial Officer, Vice President Finance
and Administration and Secretary
David Coffen, Ph.D.................. 61 Chief Scientific Officer
A. Grant Heidrich, III(2)........... 47 Director
Dieter Hoehn(1)..................... 59 Director
Alan J. Lewis, Ph.D.(1)............. 54 Director
Donald B. Milder(2)................. 46 Director
Andrew E. Senyei, M.D.(1)........... 50 Director
John P. Walker(2)................... 51 Director
Key Employees
Richard Brown, Ph.D................. 47 President, IRORI
Arnold Hagler, Ph.D................. 58 Chief Executive Officer, Structural Proteomics
John Lillig......................... 50 Chief Technologist
Robert Reed, Ph.D. ................. 38 President, ChemRx Advanced Technologies
Heinrich Zinsli, Ph.D............... 58 Chief Executive Officer, Discovery Technologies
</TABLE>
-------------------------
(1) Member of the audit committee.
(2) Member of the compensation committee.
Riccardo Pigliucci has served as our President and Chief Executive Officer
since May 1998 and chairman of our board of directors since May 1999. He
previously served as Chief Executive Officer of Life Sciences International PLC,
a supplier of scientific equipment and consumables to research, clinical and
industrial markets, from 1996 to 1997. Prior to that, he held numerous
management positions during his 23-year career at Perkin-Elmer Corporation, a
life science and analytical instrument company, including President and Chief
Operating Officer from 1993 to 1995. Mr. Pigliucci is also a director of Epoch
Pharmaceuticals, Inc., a biotechnology company, Biosphere Medical, a medical
device company, and Dionex Corporation, a provider of instrumentation and
related accessories and chemicals, and a trustee of The Worcester Foundation for
Biomedical Research, a not-for-profit biomedical research foundation. He is a
member of the Advisory Board of Chemical & Engineering News. He received his
degree in industrial chemistry from the Chemical Institute of Milan, Italy.
Jack Fitzpatrick has served as our Chief Financial Officer since September
1997. From 1995 until joining us, he served as Chief Financial Officer of
Broadband Innovations, Inc., a telecommunications technology company formerly
known as Multichannel Communication Sciences, Inc. Mr. Fitzpatrick received a
B.A. in applied mathematics, an M.S. in computer science and an M.B.A. from
Harvard University.
David Coffen, Ph.D. has served as our Chief Scientific Officer since
November 1998. From 1995 until joining us, he served as Senior Vice President of
Chemistry at ArQule, Inc., a drug discovery company focusing on lead generation,
qualification and optimization programs. Prior to joining ArQule, Dr. Coffen
held the position of Vice President Molecular Sciences at Hoffmann-La Roche
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<PAGE> 50
Inc., a research-oriented healthcare group, where he served in numerous research
and development positions during his 24-year career. Dr. Coffen received a B.S.
in chemistry from the University of Toronto and a Ph.D. in organic chemistry
from the Massachusetts Institute of Technology.
A. Grant Heidrich, III has served as a member of our board of directors
since October 1995. He joined Mayfield Fund, a venture capital firm, in 1982 and
has been a general partner or managing member of several venture capital funds
affiliated with Mayfield Fund since 1983. Mr. Heidrich serves on the board of
directors of Millennium Pharmaceuticals, Inc., a genomics and life-sciences
research company, and serves as Chairman of Tularik Inc., a biotechnology
company. He received a B.A. in human biology from Stanford University and an
M.B.A. from Columbia University Graduate School of Business.
Dieter Hoehn has served as a member of our board of directors since
November 1996. Since May 1996, Mr. Hoehn has been a self-employed management
consultant. From 1984 until 1996, he was a member of the senior corporate
management of the Hewlett-Packard Company, a provider of computing and imaging
products, measurement solutions and services, where he served as Vice President
in charge of the Bioscience Program from May 1995 until his retirement in April
1996 and Vice President in charge of the Analytical Products Group from May 1987
to April 1995. Mr. Hoehn also served as Vice Chairman of the Board of Directors
of Hewlett-Packard Shanghai Analytical Products Co., Ltd., China, an analytical
instruments company, and as a director of Yokogawa Analytical Systems, Inc.,
Japan, an analytical instruments company, until April 1999. He is a member of
the Advisory Board of the Barnett Institute at Northeastern University. Mr.
Hoehn received a B.S. in electrical engineering from the Technical College in
Loerrach, Germany.
Alan J. Lewis, Ph.D. has served as a member of our board of directors since
April 2000. Since 1996, Dr. Lewis has been Chief Executive Officer and a
director of Signal Pharmaceuticals, Inc., a drug discovery company. From 1994 to
1996, he was President of Signal. Prior to joining Signal, Dr. Lewis worked for
15 years at the Wyeth-Ayerst Research division of American Home Products
Corporation, a pharmaceutical company, where he served as Vice President of
Research from 1990 to 1994. Dr. Lewis currently serves as a Director of Allergan
Specialty Therapeutics, Inc. a pharmaceutical company. Dr. Lewis received a B.S.
in physiology and biochemistry from Southampton University and a Ph.D. in
pharmacology from the University of Wales in Cardiff and completed his
post-doctoral training at Yale University.
Donald B. Milder has served as a member of our board of directors since
November 1996. Since March 1989, he has served as a general partner of
Crosspoint Venture Partners, a venture capital firm. From September 1985 to
March 1989, Mr. Milder served as Chief Executive Officer of Infusion Systems, a
medical delivery device company. Mr. Milder serves as a director of Websense,
Inc., a provider of employee Internet management products. He received a B.A. in
economics from Union College and an M.B.A. from Harvard Business School.
Andrew E. Senyei, M.D. has served as a member of our board of directors
since April 1995. He has served as managing partner of Enterprise Partners, a
venture capital firm, since 1999 and as general partner since 1988. Prior to
joining Enterprise Partners, Dr. Senyei was a practicing clinician and Adjunct
Associate Professor of Obstetrics, Gynecology and Pediatrics at the University
of California, Irvine. Dr. Senyei received a B.A. in biology from Occidental
College and an M.D. from Northwestern University.
John P. Walker has served as a member of our board of directors since April
2000. Since February 1993, Mr. Walker has served as Chairman, Chief Executive
Officer and a director of Axys Pharmaceuticals, Inc., a public biopharmaceutical
company. Since 1996, Mr. Walker has been Chairman of the Board of Signal
Pharmaceuticals, Inc., a drug discovery company. From 1993 to December 1997, he
was President and Chief Executive Officer of Arris Pharmaceutical Corporation, a
predecessor corporation of Axys. Prior to his association with Arris, Mr. Walker
was the Chairman and Chief Executive Officer of Vitaphore Corporation, a
biomaterials company which was sold in
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<PAGE> 51
1990 to Union Carbide, a company operating in the plastics and chemicals
industry. Mr. Walker serves as Chairman of the Board of Directors of Microcide
Pharmaceuticals, Inc., a biotechnology company, and as a director of Geron
Corporation, a biotechnology company, and the Biotechnology Industry
Organization. He received a B.A. from the State University of New York, at
Buffalo.
Richard Brown, Ph.D. has served as President of our IRORI group since
August 1999 and has been with us since 1996. From 1983 to 1995, he served as
Director of Marketing for Zymark Corporation, a provider of laboratory
automation products and services. Dr. Brown received a B.A. in chemistry from
Massachusetts State College and a Ph.D. in chemistry from the University of
Massachusetts.
Arnold Hagler, Ph.D. has served as Chief Executive Officer and Chairman of
Structural Proteomics since May 2000. In 1997, Dr. Hagler founded
ScienceMedia.com, an educational software company, and currently serves as its
CEO and Chairperson. From 1984 to June 1997, Dr. Hagler was with Biosym
Technologies, Inc., a computational software company which he founded. Since
1998 Dr. Hagler has been Adjunct Professor of Chemistry at the University of
Massachusetts at Amherst. He received a B.S. in chemistry and a Ph.D. in
physical chemistry from Cornell University.
John Lillig has served as Chief Technologist since August 1999 and has been
with us as a Vice President since August 1996. From 1991 until 1996, he served
as Division Manager of the Analytical Systems Division of Bio-Rad Laboratories,
a provider of analytical instrumentation and clinical diagnostics. Prior to
that, Mr. Lillig served in positions of increasing responsibility, including
Director of Engineering, for over 18 years at Beckman Instruments, a provider of
laboratory systems. Mr. Lillig received a B.S. in electrical engineering from
California Polytechnical University.
Robert Reed, Ph.D. has served as President of ChemRx Advanced Technologies
since April 2000. Prior to that, he served as President of Axys Advanced
Technologies, Inc. a subsidiary of Axys Pharmaceuticals, Inc., a public
biopharmaceutical company, from July 1999 until Axys Advanced Technologies was
acquired by us. Dr. Reed was Vice President and General Manager of the Advanced
Technologies Division of Axys Pharmaceuticals from January 1998 to July 1999. He
joined Axys Pharmaceuticals in April 1997 as Senior Director of Corporate
Development. From February 1995 until April 1997, Dr. Reed was Manager of
Strategic Research and Development in the pharmaceutical products division of
Abbott Laboratories, a health care products and services company. Dr. Reed
received a B.S. in biochemistry from Miami University and a Ph.D. in
biochemistry from Boston University School of Medicine, specializing in
structural biophysics.
Heinrich Zinsli, Ph.D. has served as Chief Executive Officer of Discovery
Technologies since September 1999. Prior to that, beginning in 1997, he served
as its Chairman. From 1989 until 1996, he was the head of Corporate Business
Development at Ciba-Geigy Ltd., a chemical and pharmaceutical company. Dr.
Zinsli also serves as a director of Paradigm Genetics, a biotechnology company,
and Plasmon, PLC, an information storage technology company. Dr. Zinsli had over
30 years of experience at Ciba-Geigy Ltd. He received his Ph.D. in economics
from the University of St. Gall, Switzerland.
CLASSIFIED BOARD
Our board of directors currently has seven members. Our Delaware
certificate of incorporation provides for a classified board of directors
consisting of three classes of directors, each serving staggered three-year
terms. As a result, stockholders will elect a portion of our board of directors
each year. Class I directors' terms will expire at the annual meeting of
stockholders to be held in 2001, Class II directors' terms will expire at the
annual meeting of stockholders to be held in 2002, and Class III directors'
terms will expire at the annual meeting of stockholders to be held in 2003. The
Class I directors are Mr. Hoehn and Mr. Milder, the Class II directors are Dr.
Senyei
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and Mr. Walker, and the Class III directors are Mr. Heidrich, Dr. Lewis and Mr.
Pigliucci. At each annual meeting of stockholders held after the initial
classification, the successors to directors whose terms will then expire will be
elected to serve from the time of election until the third annual meeting
following election. In addition, our bylaws provide that the authorized number
of directors may be changed by an amendment to the bylaws, duly adopted by the
board of directors or by the stockholders, or by a duly adopted amendment to our
certificate of incorporation. 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
total number of directors.
BOARD COMMITTEES
We established the audit committee of the board of directors in May 1999.
The audit committee reviews, acts on and reports to the board of directors on
various auditing and accounting matters, including the recommendation of our
independent auditors, the scope of the annual audits, fees to be paid to the
independent auditors, the performance of our independent auditors and our
accounting practices. The members of our audit committee are Mr. Hoehn, Dr.
Lewis and Dr. Senyei, each of whom is an independent director.
We established the compensation committee of the board of directors in May
1999. The compensation committee determines the salaries of management employees
and benefits for our employees, consultants, directors and other individuals
compensated by us. The compensation committee also administers our stock option
plans, including determining the stock option grants for our employees,
consultants, directors and other individuals. The members of our compensation
committee are Mr. Heidrich, Mr. Milder and Mr. Walker, each of whom is an
independent director.
DIRECTOR COMPENSATION
We currently pay each of our non-employee directors $1,000 per board
meeting attended and $500 for each committee meeting attended, plus the
reimbursement of related expenses. In addition, each current non-employee
director will receive a non-qualified option to purchase 25,000 shares of our
common stock upon the consummation of this offering, each non-employee director
will receive a yearly grant of a non-qualified stock option to purchase 10,000
shares of our common stock, and each new non-employee director will be granted a
non-qualified stock option to purchase 25,000 shares of our common stock. Each
of these option grants will be made pursuant to the terms of our 2000 Stock
Incentive Plan.
In the past, we entered into Directorship Agreements with two of our
non-employee directors. These agreements provided for payments to the
non-employee director of $1,500 per full business day that the non-employee
director performed his duties as a director, plus the reimbursement of related
expenses. In addition, these agreements provided for a one-time grant of a
non-qualified stock option to purchase 10,000 shares of our common stock
pursuant to the terms of our 1995 Stock Option/Stock Issuance Plan to be made at
the time of execution of the agreements. We entered into a Directorship
Agreement with current director Dieter Hoehn on December 16, 1996 and
concurrently granted Mr. Hoehn a non-qualified stock option to purchase 10,000
shares of our common stock. This agreement was terminated by us and Mr. Hoehn in
May 2000. In 1999, we paid Mr. Hoehn a total of $7,000 under this agreement. We
also entered into a Directorship Agreement with former director Dr. Paul
Anderson on March 1, 1996 and concurrently granted Dr. Anderson a non-qualified
stock option to purchase 10,000 shares of our common stock. This agreement
expired when Dr. Anderson ceased serving as a member of our board of directors.
In 1999, we paid Dr. Anderson a total of $4,500 under this agreement.
We also issued Mr. Hoehn 5,000 shares of our common stock pursuant to the
terms of our 1995 Stock Option/Stock Issuance Plan on April 23, 1997, and we
granted Mr. Hoehn a non-qualified
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<PAGE> 53
option to purchase 10,000 shares of our common stock pursuant to the terms of
our 1995 Stock Option/Stock Issuance Plan on August 12, 1998.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Our compensation committee currently consists of Mr. Heidrich, Mr. Milder
and Mr. Walker. No member of the compensation committee has been an officer or
employee of ours at any time. None of our executive officers serves as a member
of the board of directors or compensation committee of any other company that
has one or more executive officers serving as a member of our board of directors
or compensation committee. Prior to the formation of the compensation committee
in May 1999, the board of directors as a whole made decisions relating to
compensation of our executive officers.
LIMITATION OF LIABILITY AND INDEMNIFICATION OF OFFICERS AND DIRECTORS
Our certificate of incorporation limits the liability of directors to the
maximum extent permitted by Delaware law. Delaware law provides that directors
of a corporation will not be personally liable for monetary damages for breach
of their fiduciary duties as directors, except liability for:
- any breach of their duty of loyalty to the corporation or its
stockholders;
- acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law;
- unlawful payments of dividends or unlawful stock repurchases or
redemptions; or
- any transaction from which the director derived an improper personal
benefit.
The limitation of liability does not apply to liabilities arising under the
federal securities laws and does not affect the availability of equitable
remedies such as injunctive relief or rescission. Our certificate of
incorporation and bylaws provide that we shall indemnify our directors and
executive officers and may indemnify our other officers and employees and other
agents to the fullest extent permitted by law. We believe that indemnification
under our bylaws covers at least negligence and gross negligence on the part of
the indemnified parties. Our bylaws also permit us to secure insurance on behalf
of any officer, director, employee or other agent for any liability arising out
of his or her actions in such capacity, regardless of whether the bylaws would
permit indemnification.
We have entered into agreements to indemnify our directors and executive
officers in addition to indemnification provided for in our bylaws. These
agreements, among other things, provide for indemnification of our directors and
executive officers for expenses specified in the agreements, including
attorneys' fees, judgments, fines and settlement amounts incurred by our
directors or executive officers in any action or proceeding arising out of that
person's services as a director or executive officer of Discovery Partners
International, Inc., any subsidiary of Discovery Partners International Inc. or
any other entity to which the person provides services at our request. In
addition, we maintain directors' and officers' insurance. We believe that these
provisions and agreements are necessary to attract and retain qualified persons
as directors and executive officers.
At present, we are not aware of any pending or threatened litigation or
proceeding involving a director, officer, employee or agent in which
indemnification would be required or permitted. We are not aware of any
threatened litigation or proceeding that might result in a claim for such
indemnification.
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EXECUTIVE COMPENSATION
The following table shows all compensation received during the year ended
December 31, 1999 by our Chief Executive Officer and our four other highest-paid
executive officers in that year (collectively referred to as the Named Executive
Officers). The table also shows the capacity in which they served, or the title
they had, in 1999 while earning that compensation.
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
------------
ANNUAL SECURITIES
COMPENSATION UNDERLYING
------------------- OPTIONS/ ALL OTHER
NAME SALARY BONUS SARS COMPENSATION
---- -------- -------- ------------ ------------
<S> <C> <C> <C> <C>
RICCARDO PIGLIUCCI........................ $350,000 $123,958 -- $129,416(1)
President and Chief Executive Officer
DAVID COFFEN.............................. 219,000 -- 100,000 --
Chief Scientific Officer
JOHN LILLIG............................... 198,334 47,500 -- --
Chief Technologist; Vice President of
Research and Development
JACK FITZPATRICK.......................... 196,513 47,500 -- --
Chief Financial Officer; Vice President
Finance and Administration
RICHARD BROWN............................. 195,477 47,500 -- --
President, IRORI; Vice President of
Business Development
</TABLE>
-------------------------
(1) Consists of payment to Mr. Pigliucci for reimbursement of relocation
expenses and mortgage assistance.
OPTIONS
The following table shows information regarding options granted to the
executive officers listed in the summary compensation table above during 1999.
Each option represents the right to purchase one share of our common stock.
The options generally become vested over four years. See "Management -- Employee
Benefit Plans" for more details regarding these options. In 1999, we granted
options to purchase an aggregate of 191,500 shares of common stock to officers,
employees, directors and consultants.
The potential realizable value at assumed annual rates of stock price
appreciation for the option term represents hypothetical gains that could be
achieved for the respective options if exercised at the end of the option term.
The 5% and 10% assumed annual rates of compounded stock price appreciation are
required by the SEC and do not represent our estimate or projection of our
future common stock prices. The first set of amounts represents assumed rates of
appreciation in the value of our common stock from $1.50, the fair market value
on the date of grant as determined by our board of directors. The second set of
amounts represents assumed rates of appreciation in the value of our common
stock from $18.00, the initial public offering price in this offering, beginning
on the options' grant date. Actual gains, if any, on stock option exercises are
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<PAGE> 55
dependent on the future performance of our common stock and overall stock market
conditions. The amounts reflected in the table may not necessarily be achieved.
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
POTENTIAL POTENTIAL
REALIZABLE VALUE REALIZABLE VALUE
INDIVIDUAL GRANTS AT ASSUMED AT ASSUMED
----------------------- ANNUAL RATES OF ANNUAL RATES OF
NUMBER OF APPRECIATION OF APPRECIATION OF
SECURITIES % OF TOTAL STOCK PRICE FOR STOCK PRICE FOR
UNDERLYING OPTIONS EXERCISE OPTION TERM(2) OPTION TERM(3)
OPTIONS GRANTED TO PRICE PER EXPIRATION ------------------ -----------------------
NAME GRANTED EMPLOYEES SHARE DATE 5% 10% 5% 10%
---- ---------- ---------- --------- ---------- ------- -------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
David Coffen(1)................. 100,000 52.2 $1.50 01/22/09 $94,334 $239,061 $2,782,010 $4,518,736
</TABLE>
-------------------------
(1) The option vests according to our standard four-year vesting schedule, with
a vesting commencement date of November 16, 1998.
(2) Calculation based on appreciation starting from $1.50, the board-determined
fair market value as of November 16, 1998.
(3) Calculation based on appreciation starting from the initial public offering
price of $18.00.
AGGREGATED OPTION EXERCISES IN THE YEAR ENDED DECEMBER 31, 1999 AND YEAR-END
OPTION VALUES
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
SHARES OPTIONS AT DECEMBER 31, IN-THE-MONEY OPTIONS AT
ACQUIRED 1999 DECEMBER 31, 1999(1) VALUE OF UNEXERCISED
UPON VALUE ---------------------------- ---------------------------- OPTIONS USING INITIAL
NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE OFFERING PRICE(2)
---- -------- -------- ----------- -------------- ----------- -------------- ---------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Riccardo Pigliucci... 170,000 $187,000 -- -- -- -- --
David Coffen......... -- -- 100,000 -- $100,000 -- $1,650,000
John Lillig.......... -- -- 100,000 -- 210,000 -- 1,760,000
Jack Fitzpatrick..... -- -- 160,000 -- 343,500 -- 2,823,500
Richard Brown........ -- -- 160,000 -- 341,900 -- 2,821,900
</TABLE>
-------------------------
(1) Based on a fair market value at December 31, 1999 of $2.50 per share, as
determined by our board of directors.
(2) Based on the initial offering price of $18.00.
EMPLOYMENT AGREEMENTS
On May 5, 1998, we entered into an employment agreement with Mr. Pigliucci
to serve as our President and Chief Executive Officer. This agreement provides
an indefinite term and is terminable by Mr. Pigliucci or us at any time without
cause. Under this agreement, we pay Mr. Pigliucci an annual base salary of
$350,000 (subject to upward adjustments) and an annual target bonus equal to 50%
of his base salary (which bonus will be prorated for partial performance of
annual goals). In addition, under this agreement we reimbursed Mr. Pigliucci
$129,416 for relocation expenses and mortgage assistance in moving from the
Weston, Connecticut area to the San Diego area, and Mr. Pigliucci was granted an
option to purchase 600,000 shares of our common stock, which vests over a
four-year period, with 25% vesting upon the completion of one year of service
and the remainder vesting in equal monthly installments over the next 36 months
of service. Mr. Pigliucci exercised this option in full in December 1998 and
January 1999 and, at Mr. Pigliucci's election, he
52
<PAGE> 56
paid the purchase price for such shares in the form of two promissory notes to
us bearing the minimum applicable federal interest rate. We also granted Mr.
Pigliucci the right to maintain his percentage ownership of our equity by
purchasing equity securities that are offered by us at any time (with limited
enumerated exceptions) on the same terms and conditions as other purchasers,
which right does not apply to shares offered in this offering and terminates
upon the sale of securities in this offering.
If we terminate Mr. Pigliucci's employment other than for cause, or if Mr.
Pigliucci terminates his employment upon our breach of this employment agreement
(including in the event this employment agreement is not assumed in full by a
successor company upon a change in control), we will automatically retain Mr.
Pigliucci as a consultant to us for one year. Under this arrangement, Mr.
Pigliucci will be available to provide consulting services to us for up to
fifteen hours each month, and we will pay him a monthly consulting fee of
one-twelfth of his base salary at the time of termination of his employment.
BENEFIT PLANS
2000 STOCK INCENTIVE PLAN
Introduction. Our 2000 Stock Incentive Plan is the successor equity
incentive program to our 1995 Stock Option/Stock Issuance Plan. The board
adopted our 2000 plan in June 2000 and our stockholders approved it in June
2000. Our 2000 plan becomes effective on the date the underwriting agreement for
this offering is signed. At that time, all outstanding options under the
predecessor 1995 plan are transferred to our 2000 plan, and we will make no
further option grants under that predecessor plan. The transferred options
continue to be governed by their existing terms, unless our compensation
committee elects to extend one or more features of our 2000 plan to those
options. Except as otherwise noted below, the transferred options have
substantially the same terms as will be in effect for grants made under the
discretionary option grant program of our 2000 plan.
Share Reserve. We have authorized 3,300,000 shares of common stock for
issuance under our 2000 plan including shares rolled over from our 1995 plan and
the AAT stock option plan which we assumed. The number of shares of common stock
reserved for issuance under our 2000 plan will automatically increase on the
first trading day in January each calendar year, beginning in calendar year
2001, by an amount equal to 2% of the total number of shares of common stock
outstanding on the last trading day in December of the preceding calendar year,
but in no event will any such annual increase exceed 2,000,000 shares. In
addition, no participant in our 2000 plan may be granted stock options,
separately exercisable stock appreciation rights and direct stock issuances for
more than 500,000 shares of common stock per calendar year.
Equity Incentive Programs. Our 2000 plan is divided into five separate
components:
- the discretionary option grant program, under which eligible individuals
in our employ or service may be granted options to purchase shares of
common stock at an exercise price not less than 100% of the fair market
value of those shares on the grant date;
- the stock issuance program, under which such individuals may be issued
shares of common stock directly, through the purchase of such shares at a
price not less than 100% of their fair market value at the time of
issuance or as a bonus tied to the attainment of performance milestones
or the completion of a specified period of service;
- the salary investment option grant program, under which our executive
officers and other highly compensated employees may be given the
opportunity to apply a portion of their base salary to the acquisition of
special below-market stock option grants;
- the automatic option grant program, under which option grants will
automatically be made at periodic intervals to our non-employee board
members to purchase shares of common stock
53
<PAGE> 57
at an exercise price equal to 100% of the fair market value of those
shares on the grant date; and
- the director fee option grant program, under which our non-employee board
members may be given the opportunity to apply a portion of the annual
retainer fee otherwise payable to them in cash each year to the
acquisition of special below-market option grants.
Eligibility. The individuals eligible to participate in our 2000 plan
include our officers and other employees, our non-employee board members and any
consultants we hire.
Administration. The compensation committee of the board of directors
administers the discretionary option grant program and the stock issuance
program. This committee determines which eligible individuals are to receive
option grants or stock issuances under those programs, the time or times when
such option grants or stock issuances are to be made, the number of shares
subject to each such grant or issuance, the status of any granted option as
either an incentive stock option or a non-statutory stock option under the
federal tax laws, the vesting schedule to be in effect for the option grant or
stock issuance and the maximum term for which any granted option is to remain
outstanding. The compensation committee also has the exclusive authority to
select the executive officers and other highly compensated employees who may
participate in the salary investment option grant program in the event that
program is activated for one or more calendar years.
Plan Features. Our 2000 plan includes the following features:
- The optionee may pay the exercise price for the shares of common stock
subject to option grants made under our 2000 plan in cash or in shares of
common stock valued at fair market value on the exercise date. The
optionee may also exercise the option, without any cash outlay, through a
same-day sale program. In addition, the plan administrator may provide
financial assistance to one or more optionees in the exercise of their
outstanding options or the purchase of their unvested shares by allowing
such individuals to deliver a full-recourse, interest-bearing promissory
note in payment of the exercise price and any associated withholding
taxes incurred in connection with such exercise or purchase.
- The compensation committee has the authority to cancel outstanding
options under the discretionary option grant program, including options
transferred from the 1995 plan, in return for the grant of new options
for the same or a different number of option shares with an exercise
price per share based upon the fair market value of our common stock on
the new grant date.
- Stock appreciation rights are authorized for issuance under the
discretionary option grant program. Such rights will provide the holders
with the election to surrender their outstanding options for an
appreciation distribution from us equal to the fair market value of the
vested shares of common stock subject to the surrendered option, less the
aggregate exercise price payable for those shares. Such appreciation
distribution may be made in cash or in shares of common stock. None of
the outstanding options under our 1995 plan contain any stock
appreciation rights.
- The 2000 plan includes the following change in control provisions which
may result in the accelerated vesting of outstanding option grants and
stock issuances:
-- In the event that we are acquired by merger or asset sale, each
outstanding option under the discretionary option grant program
which is not to be assumed by the successor corporation will
automatically accelerate in full, and all unvested shares under
the discretionary option grant and stock issuance programs will
immediately vest, except to the extent our repurchase rights with
respect to those shares are to be assigned to the successor
corporation.
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<PAGE> 58
-- The compensation committee has complete discretion to structure
one or more options under the discretionary option grant program
so those options will vest as to all the option shares in the
event those options are assumed in the acquisition but the
optionee's service with us or the acquiring entity is subsequently
terminated. The vesting of outstanding shares under the stock
issuance program may be accelerated upon similar terms and
conditions.
-- The compensation committee also has the authority to grant options
which will immediately vest in the event we are acquired, whether
or not those options are assumed by the successor corporation.
-- The compensation committee may grant options and structure
repurchase rights so that the shares subject to those options or
repurchase rights will vest in connection with a successful tender
offer for more than 50% of our outstanding voting stock or a
change in the majority of our board through one or more contested
elections for board membership. Such accelerated vesting may occur
either at the time of such transaction or upon the subsequent
termination of the individual's service.
-- The options currently outstanding under our 1995 plan will
immediately vest in the event we are acquired by merger or sale of
substantially all our assets, unless those options are assumed by
the acquiring entity or our repurchase rights with respect to any
unvested shares subject to those options are assigned to such
entity.
Salary Investment Option Grant Program. In the event the compensation
committee elects to activate the salary investment option grant program for one
or more calendar years, each of our executive officers and other highly
compensated employees selected for participation may elect, prior to the start
of the calendar year, to reduce his or her base salary for that calendar year by
a specified dollar amount not less than $10,000 nor more than $50,000. Each
selected individual who files such a timely election will automatically be
granted, on the first trading day in January of the calendar year for which his
or her salary reduction is to be in effect, an option to purchase that number of
shares of common stock determined by dividing the salary reduction amount by
two-thirds of the fair market value per share of our common stock on the grant
date. The option will be exercisable at a price per share equal to one-third of
the fair market value of the option shares on the grant date. As a result, the
option will be structured so that the fair market value of the option shares on
the grant date less the exercise price payable for those shares will be equal to
the amount by which the optionee's salary is reduced under the program. The
option will become exercisable in a series of 12 equal monthly installments over
the calendar year for which the salary reduction is to be in effect.
Automatic Option Grant Program. Under the automatic option grant program,
each individual who first becomes a non-employee board member at any time after
the completion of this offering will automatically receive an option grant for
25,000 shares on the date such individual joins the board, provided such
individual has not been in our prior employ. In addition, on the date of each
annual stockholders meeting held after the completion of this offering, each
non-employee board member who is to continue to serve as a non-employee board
member, including each of our current non-employee board members, will
automatically be granted an option to purchase 10,000 shares of common stock,
provided such individual has served on our board for at least six months.
Each automatic grant will have an exercise price per share equal to the
fair market value per share of our common stock on the grant date and will have
a term of 10 years, subject to earlier termination following the optionee's
cessation of board service. The option will be immediately exercisable for all
of the option shares; however, we may repurchase, at the exercise price paid per
share, any shares purchased under the option which are not vested at the time of
the optionee's cessation of board service. The shares subject to each initial
25,000-share automatic option grant will vest in a series of 4 successive annual
installments upon the optionee's completion of each year of board service over
the 4-year period measured from the grant date. The shares subject to each
55
<PAGE> 59
annual 10,000-share automatic option grant will vest upon the optionee's
completion of one year of board service measured from the grant date. However,
the shares will immediately vest in full upon certain changes in control or
ownership or upon the optionee's death or disability while a board member.
Director Fee Option Grant Program. Should the director fee option grant
program be activated in the future, each non-employee board member will have the
opportunity to apply all or a portion of any cash retainer fee for the year to
the acquisition of a below-market option grant. The option grant will
automatically be made on the first trading day in January in the year for which
the retainer fee would otherwise be payable in cash. The option will have an
exercise price per share equal to one-third of the fair market value of the
option shares on the grant date, and the number of shares subject to the option
will be determined by dividing the amount of the retainer fee applied to the
program by two-thirds of the fair market value per share of our common stock on
the grant date. As a result, the option will be structured so that the fair
market value of the option shares on the grant date less the exercise price
payable for those shares will be equal to the portion of the retainer fee
applied to that option. The option will become exercisable in a series of 12
equal monthly installments over the calendar year for which the fee election is
to be in effect. However, the option will become immediately exercisable for all
the option shares upon the optionee's death or disability while serving as a
board member.
Our 2000 plan also has the following features:
- Outstanding options under the salary investment, automatic option and
director fee option grant programs will immediately vest if we are
acquired by a merger or asset sale or if there is a successful tender
offer for more than 50% of our outstanding voting stock or a change in
the majority of our board through one or more contested elections.
- Limited stock appreciation rights will automatically be included as part
of each grant made under the salary investment option grant program and
the automatic and director fee option grant programs, and these rights
may also be granted to one or more officers as part of their option
grants under the discretionary option grant program. Options with this
feature may be surrendered to us upon the successful completion of a
hostile tender offer for more than 50% of our outstanding voting stock.
In return for the surrendered option, the optionee will be entitled to a
cash distribution from us in an amount per surrendered option share based
upon the highest price per share of our common stock paid in that tender
offer.
- The board may amend or modify the 2000 plan at any time, subject to any
required stockholder approval. The 2000 plan will terminate no later than
May 2010.
EMPLOYEE STOCK PURCHASE PLAN.
Introduction. The board adopted our Employee Stock Purchase Plan in June
2000 and our stockholders approved it in June 2000. The plan becomes effective
immediately upon the signing of the underwriting agreement for this offering.
The plan is designed to allow our eligible employees and the eligible employees
of our participating subsidiaries to purchase shares of common stock, at
semi-annual intervals, with their accumulated payroll deductions.
Share Reserve. We initially reserved 250,000 shares of our common stock for
issuance. The reserve will automatically increase on the first trading day in
January each calendar year, beginning in calendar year 2001, by an amount equal
to 1.5% of the total number of outstanding shares of our common stock on the
last trading day in December in the prior calendar year. In no event will any
such annual increase exceed 500,000 shares.
Offering Periods. The plan has a series of successive overlapping offering
periods, with a new offering period beginning on the first business day of
February and August each year. Each
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<PAGE> 60
offering period has a duration of 24 months, unless otherwise determined by the
compensation committee. However, the initial offering period may have a duration
in excess of 24 months and starts on the date the underwriting agreement for
this offering is signed and ends on the last business day of July 2002. The next
offering period will start on the first business day in August 2000 and will end
on the last business day of July 2002.
Eligible Employees. Individuals scheduled to work more than 20 hours per
week for more than 5 calendar months per year may join an offering period on the
start date of that period. However, employees may participate in only one
offering period at a time.
Payroll Deductions. A participant may contribute up to 10% of his or her
base salary through payroll deductions, and the accumulated deductions will be
applied to the purchase of shares on each semi-annual purchase date. The
purchase price per share will be equal to 85% of the fair market value per share
on the start date of the offering period in which the participant is enrolled
or, if lower, 85% of the fair market value per share on the semi-annual purchase
date. Semi-annual purchase dates will occur on the last business day of January
and July each year. However, a participant may not purchase more than 1,000
shares on any purchase date, and not more than 300,000 shares may be purchased
in total by all participants on any purchase date. Our compensation committee
has the authority to change these limitations for any subsequent offering
period.
Reset Feature. If the fair market value per share of our common stock on
any purchase date is less than the fair market value per share on the start date
of the two-year offering period, then that offering period will automatically
terminate, and a new two-year offering period will begin on the next business
day. All participants in the terminated offering will be transferred to the new
offering period.
Change in Control. Should we be acquired by merger or sale of substantially
all of our assets or more than fifty percent of our voting securities, then all
outstanding purchase rights will automatically be exercised immediately prior to
the effective date of the acquisition. The purchase price in effect for each
participant will be equal to 85% of the market value per share on the start date
of the offering period in which the participant is enrolled at the time the
acquisition occurs or, if lower, 85% of the fair market value per share
immediately prior to the acquisition.
Termination. The plan will terminate no later than the last business day of
July 2010.
AXYS ADVANCED TECHNOLOGIES, INC. 1999 EQUITY INCENTIVE PLAN
We assumed the Axys Advanced Technologies, Inc. 1999 Equity Incentive Plan
in connection with our acquisition of AAT. The 1999 Equity Incentive Plan will
continue in existence following the acquisition; however, no further option
grants will be made under the Plan. The Plan was adopted by the AAT Board on
September 30, 1999 and approved by the AAT shareholders on the same date.
Currently, 703,259 options are outstanding under the Plan which continue to be
governed by their existing terms. The outstanding options are either incentive
stock options or non-statutory stock options which were granted at an exercise
price of not less than 100% of the fair market value of the AAT common stock on
the grant date. The majority of the options granted under the 1999 Equity
Incentive Plan vest according to a four-year schedule. In accordance with the
terms of the 1999 Equity Incentive Plan, in the event that AAT is acquired by
merger or asset sale the options under the 1999 Equity Incentive Plan will
either (i) allow the acquiring corporation to assume any outstanding options or
substitute similar stock awards or (ii) in the event the options are not assumed
or substituted with similar stock awards, the options shall terminate and cease
to be outstanding if not exercised prior to the acquisition.
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<PAGE> 61
RELATED PARTY TRANSACTIONS
SALES OF PREFERRED STOCK
Since January 1, 1997 through May 5, 2000, we have issued the following
securities in private placement transactions:
- 333,333 shares of our Series C convertible preferred stock, at a purchase
price of $6.00 per share, for an aggregate purchase price of $1.9 million
in October 1997;
- 2,228,945 shares of our Series D convertible preferred stock, at a
purchase price of $7.20 per share, for an aggregate purchase price of
$16.0 million in May and June 1998; and
- 1,392,503 shares of our Series E convertible preferred stock, at a
purchase price of $8.00 per share, for an aggregate purchase price of
$11.1 million in April 2000.
All preferred stock was issued to accredited investors in reliance upon
exemption from registration under Section 4(2) of the Securities Act.
The purchasers of more than $60,000 worth of these securities include,
among others, the following directors of Discovery Partners International:
<TABLE>
<CAPTION>
SHARES OF
PREFERRED STOCK
-------------------- TOTAL
NAME SERIES D SERIES E CONSIDERATION
---- -------- -------- -------------
<S> <C> <C> <C>
Andrew Senyei, M.D.(1)..................................... 141,622 256,519 $3,071,829
A. Grant Heidrich, III(2).................................. 328,820 256,520 4,419,661
Donald B. Milder(3)........................................ 494,614 251,589 5,573,928
Riccardo Pigliucci......................................... 13,889 -- 100,000
</TABLE>
-------------------------
(1) Consists of 131,198 shares of Series D Preferred Stock and 237,639 shares of
Series E Preferred Stock held by Enterprise Partners III, L.P. and 10,424
shares of Series D Preferred Stock and 18,880 shares of Series E Preferred
Stock held by Enterprise Partners III Associates, L.P. Dr. Senyei, the
managing partner of each of these entities, disclaims beneficial ownership
in such shares, except to the extent of his pecuniary interest in each of
the limited partnerships.
(2) Consists of 312,379 shares of Series D Preferred Stock and 243,694 shares of
Series E Preferred Stock held by Mayfield VIII and 16,441 shares of Series D
Preferred Stock and 12,826 shares of Series E Preferred Stock held by
Mayfield Associates Fund II. Mr. Heidrich, a general partner of each of
these entities, disclaims beneficial ownership in such shares, except to the
extent of his pecuniary interest in each of the limited partnerships.
(3) Consists of 77,947 shares of Series D Preferred Stock held by Crosspoint
Venture Partners-1996 and 416,667 shares of Series D Preferred Stock and
251,589 shares of Series E Preferred Stock held by Crosspoint Venture
Partners LS-1997. Mr. Milder, a general partner of each of these entities,
disclaims beneficial ownership in such shares, except to the extent of his
pecuniary interest in each of the limited partnerships.
ISSUANCES OF PROMISSORY NOTES AND WARRANTS
Since January 1, 1997 through May 5, 2000, we have issued promissory notes
and warrants to purchase our capital stock in the transactions described below:
On February 2, 1998, we borrowed a total of $1.5 million from Enterprise
Partners III, L.P., Enterprise Partners III Associates, L.P., Mayfield VIII,
Mayfield Associates Fund II, and Crosspoint Venture Partners-1996. We issued
each of these lending parties a convertible promissory note
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<PAGE> 62
bearing interest at 8% per annum. In addition, we issued each of these parties a
warrant to purchase a number of shares of our common stock that was tied to the
amount of time that the promissory note held by such party had any unpaid
balance. Each warrant has an exercise price of $0.40 and is to expire upon the
consummation of this offering.
On April 15, 1998, we borrowed an additional total of $900,000 from
Enterprise Partners III, L.P., Enterprise Partners III Associates, L.P.,
Mayfield VIII, Mayfield Associates Fund II, and Crosspoint Venture
Partners-1996, and issued each of these lending parties an additional
convertible promissory note bearing interest at 8% per annum. In addition, we
issued each of these parties a warrant to purchase a number of shares of our
common stock that was tied to the amount of time that the promissory note held
by such party had any unpaid balance. Each warrant has an exercise price of
$0.48 and is to expire upon the consummation of this offering.
On May 22, 1998, each of the convertible promissory notes referenced above
was satisfied in full by converting such note into shares of our Series D
Preferred Stock, and in connection with those conversions the number of shares
for which each warrant referenced above is exercisable was set, in each case
according to the following table:
<TABLE>
<CAPTION>
SHARES OF SHARES OF
COMMON STOCK COMMON STOCK
TOTAL PRINCIPAL UNDERLYING UNDERLYING
AND INTEREST 2/2/98 4/15/98
NAME CONVERTED WARRANT WARRANT
---- --------------- ------------ ------------
<S> <C> <C> <C>
Enterprise Partners III, L.P. ................... $944,625 18,868 4,471
Enterprise Partners III Associates, L.P. ........ 75,051 1,499 355
Mayfield VIII.................................... 824,127 16,461 3,901
Mayfield Associates Fund II...................... 43,375 866 205
Crosspoint Venture Partners-1996................. 561,216 11,210 2,656
</TABLE>
On December 10, 1999, we borrowed a total of $4.0 million from Enterprise
Partners III, L.P., Enterprise Partners III Associates, L.P., Mayfield VIII, and
Mayfield Associates Fund II. We issued each of these lending parties a
convertible promissory note bearing interest at 8% per annum. In addition, we
issued each of these parties a warrant to purchase a number of shares of our
Series E Preferred Stock that was tied to the amount of time that the promissory
note held by such party had any unpaid balance. Each warrant has an exercise
price of $5.00 and is to expire upon the consummation of this offering.
On March 9, 2000, we borrowed an additional $2.0 million from Crosspoint
Venture Partners LS-1997, and issued to Crosspoint Venture Partners LS-1997 a
convertible promissory note bearing interest at 8% per annum. In addition, we
issued Crosspoint Venture Partners LS-1997 a warrant to purchase a number of
shares of our Series E Preferred Stock that was tied to the amount of time that
its promissory note had any unpaid balance. This warrant has an exercise price
of $5.00 and is to expire upon the consummation of this offering.
On April 7, 2000, each of the convertible promissory notes issued on
December 10, 1999 and March 9, 2000 was satisfied in full by converting such
note into shares of our Series E Preferred Stock, and in connection with those
conversions the number of shares for which each warrant
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issued on December 10, 1999 and March 9, 2000 is exercisable was set, in each
case according to the following table:
<TABLE>
<CAPTION>
SHARES OF SERIES E
TOTAL PRINCIPAL PREFERRED STOCK
AND INTEREST UNDERLYING
NAME CONVERTED WARRANT
---- --------------- ------------------
<S> <C> <C>
Enterprise Partners III, L.P. ................ $1,901,112 72,487
Enterprise Partners III Associates, L.P. ..... 151,040 5,759
Mayfield VIII................................. 1,949,552 74,334
Mayfield Associates Fund II................... 102,608 3,912
Crosspoint Venture Partners LS-1997........... 2,012,712 78,246
</TABLE>
CERTAIN OPTION GRANTS AND EXERCISES
On May 5, 2000, we granted Arnold Hagler an option to purchase 50,000
shares of our common stock at a per-share exercise price of $8.00. Twenty-five
percent of the shares that are subject to Dr. Hagler's option vest on each
anniversary of the grant date.
In connection with our acquisition of AAT on April 28, 2000 we assumed
AAT's outstanding stock options, including Robert Reed's AAT option which now
represents an option to purchase 225,000 shares of our common stock.
On January 19, 2000, we granted Dr. Heinrich Zinsli an option to purchase
75,000 shares of our common stock at a per-share price of $2.50 with a standard
four year vesting schedule, with a vesting commencement date of January 1, 2000.
The 1999 stock option grant to David Coffen is described under the caption
"Management -- Options."
From January 1, 1997 through December 31, 1998, we granted options to
purchase our common stock to our directors and executive officers in the
following transactions:
<TABLE>
<CAPTION>
NUMBER OF
SHARES OF
COMMON STOCK
UNDERLYING
NAME DATE OF GRANT OPTION EXERCISE PRICE
---- ------------- ------------ --------------
<S> <C> <C> <C>
Richard Brown..................................... 6/4/97 15,000 $0.30
Jack Fitzpatrick.................................. 9/26/97 75,000 0.30
Richard Brown..................................... 11/25/97 43,000 0.40
Jack Fitzpatrick.................................. 11/25/97 5,000 0.40
John Lillig....................................... 11/25/97 20,000 0.40
Riccardo Pigliucci................................ 5/8/98 600,000 0.40
John Lillig....................................... 5/8/98 80,000 0.40
Richard Brown..................................... 5/8/98 80,000 0.40
Jack Fitzpatrick.................................. 5/8/98 80,000 0.40
Dieter Hoehn...................................... 8/12/98 10,000 1.50
</TABLE>
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Since January 1, 1997, options to purchase our common stock were exercised
by our directors and executive officers in the following transactions:
<TABLE>
<CAPTION>
NUMBER OF
SHARES OF
COMMON TOTAL
DATE OF STOCK CONSIDERATION
NAME EXERCISE PURCHASED EXERCISE PRICE PAID
---- -------- --------- -------------- -------------
<S> <C> <C> <C> <C>
Riccardo Pigliucci....................... 11/30/98 430,000 $0.40 $172,000
Riccardo Pigliucci....................... 1/31/99 170,000 0.40 68,000
Dieter Hoehn............................. 1/18/00 10,000 0.30 3,000
Dieter Hoehn............................. 1/18/00 10,000 1.50 15,000
Richard Brown............................ 3/22/00 22,000 0.20 4,400
Richard Brown............................ 3/22/00 15,000 0.30 4,500
Richard Brown............................ 3/22/00 21,500 0.40 8,600
Jack Fitzpatrick......................... 3/22/00 75,000 0.30 22,500
</TABLE>
OTHER TRANSACTIONS
On May 5, 2000, we entered into a Stock Purchase Agreement with Structural
Proteomics, pursuant to which we acquired 75% of the outstanding shares of
Structural Proteomics for a total consideration of $1.0 million in cash and
150,000 shares of our common stock. The cash portion of this consideration was
for newly issued shares of Structural Proteomics. Arnold Hagler owns 5.5% of the
outstanding shares of Structural Proteomics.
In connection with our acquisition of voting stock of Structural
Proteomics, on May 5, 2000 we entered into a Rights Agreement with Arnold Hagler
and two other shareholders of Structural Proteomics (collectively, the
"Founders") pursuant to which Structural Proteomics granted us a right of first
offer with respect to all future sales of any class or series of its capital
stock. This right of first offer does not apply to securities issued in
connection with strategic alliances, and it terminates just prior to Structural
Proteomics' initial public offering. In addition, we granted the Founders the
option, acting as a group on the first anniversary of the closing of this
offering, to exchange up to 25% of the Structural Proteomics stock that they
held as of the closing of this offering for a number of shares of our common
stock that is based upon a valuation of the common stock of Structural
Proteomics that depends upon the total revenues of Structural Proteomics over
the previous 12-month period. On each subsequent anniversary of the closing of
this offering, the Founders will have the right to similarly exchange an
additional 25% of the Structural Proteomics stock they held as of the closing of
this offering (plus all other stock eligible to be exchanged pursuant to this
agreement that has not previously been exchanged). Further, the Founders granted
us the option to exchange shares of our common stock for a portion of the shares
of Structural Proteomics stock held by the Founders. If on the first anniversary
of the closing of this offering all issued and outstanding shares of Structural
Proteomics stock are valued in the aggregate above $30.0 million, we will have
the option to exchange our stock for up to 25% of the Structural Proteomics
stock held by the Founders as of the closing of this offering. The number of
shares of our stock to be exchanged will be calculated on the same basis as for
the Founders' option. On each subsequent anniversary of the closing of this
offering, we will have the option to similarly exchange our stock for an
additional 25% of the Structural Proteomics stock held by the Founders as of the
closing of this offering (plus all other stock eligible to be exchanged pursuant
to this agreement that has not previously been exchanged). If on the first
anniversary of the closing of this offering all issued and outstanding shares of
Structural Proteomics stock are valued in the aggregate below $30.0 million, our
option reverts to an option, exercisable on the third anniversary of the closing
of this offering, to exchange 50% of the Structural Proteomics stock held by the
Founders on the date of the closing of this offering for our stock. In that
case, the remaining 50% of such
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<PAGE> 65
stock would be subject to our exchange option on the fourth anniversary of the
closing of this offering.
On April 28, 2000, we acquired AAT from Axys Pharmaceuticals, Inc. John P.
Walker, a member of our board of directors, is Chairman, Chief Executive Officer
and a director of Axys Pharmaceuticals. Axys Pharmaceuticals owned 10,000,000
shares of the 10,006,250 issued and outstanding shares of common stock of AAT,
and received 7,425,000 shares of our common stock, a promissory note in the
principal amount of $550,000 and $50,000 in cash as merger consideration. In
connection with this merger, we also issued a warrant to Axys to purchase
200,000 shares of our common stock at a per-share price of $8.00.
In connection with our acquisition of AAT, we have entered into a
Standstill Agreement with Axys Pharmaceuticals, Inc. pursuant to which Axys
Pharmaceuticals has agreed for itself and its affiliates that until the later of
the date on which Axys Pharmaceuticals and its affiliates hold less than 5% of
our then-outstanding common stock or April 28, 2010, Axys and its affiliates
will not, without our prior written consent: (a) acquire any of our voting
securities or those of our subsidiaries, (b) solicit proxies for the voting of
our voting securities, (c) make any public announcement or submit any proposal
for any extraordinary transaction (other than a sale) of our voting securities
or assets, (d) form or join in any group for the voting of our voting securities
or (e) otherwise seek to influence our management, board or policies. In
addition, we agreed that at each annual meeting of our stockholders at any time
during which our shares are publicly traded, we will include on our management
slate of director nominees the number of persons designated by Axys
Pharmaceuticals that Axys Pharmaceuticals could elect (if "cumulative voting"
was applicable) solely through the voting of our voting securities that it owns,
provided that in any case the maximum number of such persons will be one less
than the number that would constitute a majority of the members of our board of
directors. In addition, as long as we have a classified board of directors, this
will be construed in each year to allow such number of nominees minus the number
of previous Axys Pharmaceuticals nominees who will remain on the Board because
their three-year terms do not expire that year. After this offering, Axys
Pharmaceuticals would be entitled under the Standstill Agreement to nominate 2
of our 7 directors. The 2 designated Axys Pharmaceuticals initial nominees are
John Walker and Alan Lewis. Axys Pharmaceuticals agreed, in the Standstill
Agreement, to vote each year for the entire management slate of director
nominees.
On August 19, 1999, we entered into a Voting Share Purchase Agreement with
all of the holders of voting shares of Discovery Technologies, Ltd. ("DTL"),
which included Dr. Heinrich Zinsli. Pursuant to this agreement, we purchased
forty percent of the voting stock of DTL for an aggregate purchase price of
2,750,000 Swiss francs, which was equivalent to $1.7 million as of March 31,
2000, and we were given the option to purchase the remaining sixty percent of
the voting stock of DTL prior to January 31, 2000. On December 23, 1999, we
exercised this option and purchased the remaining sixty percent of the voting
stock of DTL for an aggregate purchase price of up to 4,250,000 Swiss francs,
which was equivalent to $2.6 million as of March 31, 2000, depending on DTL's
revenues and EBITDA in each of 1999 and 2000. Dr. Zinsli sold a total of 13.34%
of the voting stock of DTL to us pursuant to these agreements and received from
us a total of $442,788.
On August 10, 1999, DTL entered into an employment agreement with Dr.
Zinsli to serve as President and Chief Executive Officer of DTL. This agreement
provides for a term of two years, but will be extended indefinitely upon the
mutual agreement of Dr. Zinsli and DTL. Under this agreement, Dr. Zinsli will be
paid an annual salary of 162,110 Swiss francs which on March 31, 2000 was
equivalent to $97,833 and which is subject to annual review and adjustment. In
addition, Dr. Zinsli receives annual payments of 40,000 Swiss francs for
insurance, which on March 31, 2000 was equivalent to $24,140; 24,000 Swiss
francs as compensation for being a member of DTL's board of directors, which on
March 31, 2000 was equivalent to $14,484; 6,000 Swiss francs as a general
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<PAGE> 66
allowance, which on March 31, 2000 was equivalent to $3,621; and 800 Swiss
francs per month as a car allowance, which on March 31, 2000 was equivalent to
$483.
Pursuant to our Key Employment Agreement with Riccardo Pigliucci, Mr.
Pigliucci exercised his right to borrow from us the aggregate exercise price of
$240,000 to purchase 600,000 shares of our common stock pursuant to stock
options held by Mr. Pigliucci. In connection with these exercises, Mr. Pigliucci
issued to us a promissory note dated November 30, 1998 and due November 30,
2005, having a principal amount of $172,000 and an interest rate of 4.51% per
annum prior to the maturity date and 10% thereafter. Mr. Pigliucci also issued
us a promissory note dated January 31, 1999 and due January 31, 2006, having a
principal amount of $68,000 and an interest rate of 4.64% per annum prior to the
maturity date and 10% thereafter. At the time Mr. Pigliucci issued each of these
notes to us, he also entered into a Pledge Agreement with us under which he
granted us a security interest in the shares that he purchased using the note as
consideration.
Dr. Paul Anderson, a member of our board of directors from March 1996 until
April 2000, serves as Vice President of DuPont Pharmaceuticals Company, a
significant customer of our ChemRx Advanced Technologies product group. For the
years ended December 31, 1997, 1998, and 1999, revenues generated from DuPont
Pharmaceuticals were approximately $513,600, $364,300 and $402,910,
respectively.
Alan Lewis, a current member of our board of directors, has been Chief
Executive Officer and a director of Signal Pharmaceuticals, Inc. since 1996.
During 1998 and 1999, we performed services for Signal, and Signal paid us
approximately $350,000. In addition, since July 6, 1998 our ChemRx Advanced
Technologies group has been performing services for Signal for which Signal is
to pay our ChemRx Advanced Technologies group a fixed amount of $100,000 plus
various other amounts based on contingencies related to delivery and commercial
success of compounds. We acquired AAT, and Mr. Lewis joined our board of
directors, in April 2000.
Dr. Andrew Senyei, a current member of our board of directors, is a
director of Elitra Pharmaceuticals. Since September 30, 1999 AAT has been
performing services for Elitra for which Elitra is to pay a fixed amount of
$400,000 plus various other amounts based on contingencies related to delivery
and commercial success of compounds.
We have entered into indemnification agreements with all of our officers
and directors. These indemnification agreements will require us to indemnify our
officers and directors to the fullest extent permitted by Delaware law.
Arrangements pursuant to which certain of our stockholders are entitled to
have their shares registered by us for resale are described under the caption
"Description of Capital Stock."
We believe that all of our transactions with affiliates were entered into
on terms and conditions no less favorable to us than those that could have been
obtained from unaffiliated third parties.
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<PAGE> 67
PRINCIPAL STOCKHOLDERS
The following table shows information known to us with respect to the
beneficial ownership of our common stock as of May 5, 2000, and as adjusted to
reflect the sale of the shares of common stock offered under this prospectus by:
- each person or group of affiliated persons who is known by us to own
beneficially 5% or more of our common stock;
- each of our directors;
- each executive officer listed in the "Summary Compensation" table above;
and
- all of our directors and executive officers as a group.
Except as indicated in the footnotes to this table and subject to community
property laws where applicable, the persons named in the table have sole voting
and investment power with respect to all shares of our common stock shown as
beneficially owned by them. Beneficial ownership and percentage ownership are
determined in accordance with the rules of the SEC. The table below includes the
number of shares underlying options and warrants which are exercisable within 60
days from May 5, 2000 and assumes the conversion of all shares of our preferred
stock into shares of our common stock prior to this offering. It is therefore
based on 17,437,204 shares of our common stock outstanding prior to this
offering and 22,437,204 shares outstanding immediately after this offering. The
address for those individuals for which an address is not otherwise indicated
is: 9640 Towne Centre Drive, San Diego, California 92121.
<TABLE>
<CAPTION>
NUMBER OF PERCENT OWNED PERCENT OWNED
SHARES BEFORE THIS AFTER THIS
BENEFICIAL OWNER OUTSTANDING OFFERING OFFERING
---------------- ----------- ------------- -------------
<S> <C> <C> <C>
DIRECTORS AND NAMED EXECUTIVE OFFICERS
Riccardo Pigliucci................................ 614,007 3.5 2.7
Jack Fitzpatrick(1)............................... 160,000 * *
David Coffen(2)................................... 100,000 * *
John Lillig(3).................................... 185,000 1.1 *
Richard Brown(4).................................. 160,000 * *
Dieter Hoehn...................................... 25,000 * *
A. Grant Heidrich III(5).......................... 2,290,824 13.0 10.1
Alan J. Lewis..................................... 0 * *
Donald B. Milder(6)............................... 1,898,031 10.8 8.4
Andrew E. Senyei(7)............................... 2,385,782 13.4 10.4
John P. Walker(8)................................. 7,625,000 43.2 33.7
All directors and executive officers as a group
(14 persons)(9)................................. 15,610,832 82.8 65.4
OTHER FIVE PERCENT STOCKHOLDERS
Axys Pharmaceuticals, Inc.(10).................... 7,625,000 43.2 33.7
Entities Affiliated with Enterprise
Partners(11).................................... 2,385,782 13.4 10.4
Entities Affiliated with Mayfield Fund(12)........ 2,290,824 13.0 10.1
Entities Affiliated with Crosspoint
Ventures(13).................................... 1,898,031 10.8 8.4
</TABLE>
-------------------------
* Less than 1.0%.
(1) Includes 85,000 shares of common stock issuable upon exercise of stock
options exercisable within 60 days of May 5, 2000.
(2) Consists of 100,000 shares of common stock issuable upon exercise of stock
options exercisable within 60 days of May 5, 2000.
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<PAGE> 68
(3) Includes 100,000 shares of common stock issuable upon exercise of stock
options exercisable within 60 days of May 5, 2000.
(4) Includes 101,500 shares of common stock issuable upon exercise of stock
options exercisable within 60 days of May 5, 2000.
(5) Includes 1,996,293 shares held by Mayfield VIII and 105,065 shares held by
Mayfield Associates Fund II. Also includes 179,995 shares underlying
outstanding warrants held by Mayfield VIII and 9,471 shares underlying
outstanding warrants held by Mayfield Associates Fund II. Mr. Heidrich, a
general partner of each of these entities, disclaims beneficial ownership
in such shares, except to the extent of his pecuniary interest in each of
the limited partnerships.
(6) Includes 1,086,955 shares held by Crosspoint Venture Partners-1996 and
671,822 shares held by Crosspoint Venture Partners LS-1997. Also includes
61,008 shares underlying outstanding warrants held by Crosspoint Venture
Partners-1996 and 78,246 shares underlying outstanding warrants held by
Crosspoint Venture Partners LS-1997. Mr. Milder, a general partner of each
of these entities, disclaims beneficial ownership in such shares, except to
the extent of his pecuniary interest in each of the limited partnerships.
(7) Includes 1,881,709 shares held by Enterprise Partners III, L.P. and 160,848
shares held by Enterprise Partners III Associates, L.P. Also includes
328,430 shares underlying outstanding warrants held by Enterprise Partners
III, L.P. and 14,795 shares underlying outstanding warrants held by
Enterprise Partners III Associates, L.P. Dr. Senyei, the managing partner
of each of these entities, disclaims beneficial ownership in such shares,
except to the extent of his pecuniary interest in each of the limited
partnerships.
(8) Consists of 7,425,000 shares and a warrant to purchase 200,000 shares held
by Axys Pharmaceuticals, Inc. Mr. Walker, Chairman, Chief Executive Officer
and a director of Axys Pharmaceuticals, disclaims beneficial ownership in
such shares, except to the extent of his pecuniary interest in Axys
Pharmaceuticals.
(9) Includes each director and officer listed, and in addition includes Robert
Reed, Heinrich Zinsli and Arnold Hagler. Dr. Reed owns 42,188 options to
purchase our common stock that are exercisable within 60 days of May 5,
2000. Dr. Zinsli owns 75,000 options to purchase our common stock that are
exercisable within 60 days of May 5, 2000. Dr. Hagler owns 50,000 options
to purchase our common stock that are exercisable within 60 days of May 5,
2000.
(10) We have entered into a standstill agreement with Axys Pharmaceuticals, Inc.
pursuant to which Axys has agreed for itself and its affiliates not to
acquire any of our additional voting securities or those of our
subsidiaries, and not to undertake any proxy contest. The stockholder's
business address is 180 Kimball Way, South San Francisco, CA 94080.
(11) Includes 1,881,709 shares held by Enterprise Partners III, L.P. and 160,848
shares held by Enterprise Partners III Associates, L.P. Also includes
328,430 shares underlying outstanding warrants held by Enterprise Partners
III, L.P. and 14,795 shares underlying outstanding warrants held by
Enterprise Partners III Associates, L.P. The stockholder's business address
is 7979 Ivanhoe Ave., Suite 550, La Jolla, CA 92037. Andrew E. Senyei, the
managing partner of each of these entities, disclaims beneficial ownership
in such shares, except to the extent of his pecuniary interest in each of
the limited partnerships.
(12) Includes 1,996,293 shares held by Mayfield VIII and 105,065 shares held by
Mayfield Associates Fund II. Also includes 179,995 shares underlying
outstanding warrants held by Mayfield VIII and 9,471 shares underlying
outstanding warrants held by Mayfield Associates Fund II. The stockholder's
business address is 2800 Sand Hill Road, Menlo Park, CA 94025. A. Grant
Heidrich, III, a general partner of each of these entities, disclaims
beneficial ownership in such shares, except to the extent of his pecuniary
interest in each of the limited partnerships.
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<PAGE> 69
(13) Includes 1,086,955 shares held by Crosspoint Venture Partners-1996 and
671,822 shares held by Crosspoint Venture Partners LS-1997. Also includes
61,008 shares underlying outstanding warrants held by Crosspoint Venture
Partners-1996 and 78,246 shares underlying outstanding warrants held by
Crosspoint Venture Partners LS-1997. The stockholder's business address is
18552 MacArthur Blvd., Suite 400, Irvine, CA 92612. Donald B. Milder, a
general partner of each of these entities, disclaims beneficial ownership
in such shares, except to the extent of his pecuniary interest in each of
the limited partnerships.
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<PAGE> 70
DESCRIPTION OF CAPITAL STOCK
The following information describes our common stock and preferred stock,
as well as options and warrants to purchase our common stock, and provisions of
our certificate of incorporation and our bylaws, all as in effect upon the
closing of this offering. This description is only a summary. You should also
refer to the certificate and bylaws which have been filed with the SEC as
exhibits to our registration statement, of which this prospectus forms a part.
Our authorized capital stock consists of 100,000,000 shares of common
stock, par value $0.001 per share and 1,000,000 shares of preferred stock, par
value $0.001 per share.
COMMON STOCK
As of May 5, 2000, there were 9,420,792 shares of common stock outstanding
and held of record by 58 stockholders. There will be 22,437,204 shares of common
stock outstanding upon the closing of this offering, which gives effect to the
issuance of 5,000,000 shares of common stock offered by us under this prospectus
and the conversion of shares of preferred stock discussed below.
Each share of common stock has identical rights and privileges in every
respect. The holders of our common stock are entitled to vote upon all matters
submitted to a vote of our stockholders and are entitled to one vote for each
share of common stock held.
Subject to the prior rights and preferences, if any, applicable to shares
of preferred stock or any series of preferred stock, the holders of common stock
are entitled to receive such dividends, payable in cash, stock or otherwise, as
may be declared by our board out of any funds legally available for the payment
of dividends.
If we voluntarily or involuntarily liquidate, dissolve or wind-up, the
holders of common stock will be entitled to receive after distribution in full
of the preferential amounts, if any, to be distributed to the holders of
preferred stock or any series of preferred stock, all of the remaining assets
available for distribution ratably in proportion to the number of shares of
common stock held by them. Holders of common stock have no preferences or any
preemptive conversion or exchange rights. The outstanding common stock is, and
the shares offered by us in this offering will be, when used in consideration
for payment thereof, fully paid and non-assessable. The rights, preferences and
privileges of holders of common stock are subject to, and may be adversely
affected by, the rights of the holders of shares of any series of preferred
stock which we may designate and issue in the future. Upon the closing of this
offering, there will be no shares of preferred stock outstanding.
PREFERRED STOCK
As of May 5, 2000, there were 7,954,781 shares of convertible preferred
stock outstanding. All outstanding shares of convertible preferred stock were
converted into 8,016,412 shares of common stock and are held of record by 14
stockholders. The convertible preferred stock is no longer authorized, issued or
outstanding.
Upon the closing of this offering our board will be authorized to provide
for the issuance of shares of preferred stock in one or more series, and to fix
for each series voting rights, if any, designations, preferences and relative,
participating, optional or other special rights and such qualifications,
limitations or restrictions as provided in a resolution or resolutions adopted
by the board. The board may authorize the issuance of preferred stock with terms
and conditions which could discourage a takeover or other transaction that
holders of some or a majority of common
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<PAGE> 71
stock might believe to be in their best interests or in which holders of common
stock might receive a premium for their shares over the then market price. We
have no present plans to issue any shares of preferred stock.
WARRANTS
As of May 5, 2000, we have outstanding warrants to purchase:
- 443,116 shares of common stock, at a weighted average exercise price of
$3.69 per share;
- 225,406 shares of Series A preferred stock, at an exercise price of $2.00
per share, which shares are convertible into 227,440 shares of common
stock; and
- 234,738 shares of Series E preferred stock at an exercise price of $5.00
per share, convertible into common stock on a one-for-one basis.
All outstanding warrants for our capital stock will terminate upon
consummation of our initial underwritten public offering except for (i) warrants
to purchase 33,051 shares of Series A preferred stock (convertible into 33,349
shares of common stock) issued to Comdisco, Inc., and (ii) a warrant to purchase
200,000 shares of common stock issued to Axys Pharmaceuticals, Inc. The Comdisco
warrants will expire no later than February 9, 2006; and the Axys warrant will
expire no later than May 5, 2005.
OPTIONS
As of May 5, 2000, options to purchase a total of 1,867,847 shares of
common stock were outstanding, including options to purchase 1,190,611 shares of
common stock issued under our 1995 Stock Option/Stock Issuance Plan, and 703,259
shares of common stock issued to former employees of AAT upon assumption of
AAT's 1999 Equity Incentive Plan in connection with our acquisition of AAT.
Options to purchase a total of 148,238 shares of common stock remain available
for grant under our 1995 Stock Option/Stock Issuance Plan.
REGISTRATION RIGHTS
Under the terms of an agreement with some of our stockholders, after the
closing of this offering the holders of 15,921,412 shares of common stock will
be entitled to require the registration of their shares under the Securities Act
of 1933. The holders of any 6,308,565 of these shares may exercise "demand
rights" entitling them to require that we register their shares under the
Securities Act of 1933, subject to limitations described in the relevant
agreement. We are not required to effect more than two registrations for such
holders pursuant to these demand registration rights. These demand rights
commence on the earlier of December 31, 2001 or eleven months after the
effective date of the first registration statement for a public offering of our
securities, and expire five years from such effective date. In addition,
Bristol-Myers Squibb and Aventis each maintain an individual right to demand
registration of their shares under the Securities Act of 1933, subject to
limitations. Their demand rights commence eleven months after the effective date
of the first registration statement for a public offering of our securities, and
terminate five years from such effective date. Further, after the closing of
this offering, holders of all 15,921,412 of these registrable securities will be
entitled to piggyback registration rights with respect to the registration of
their shares of common stock. If we propose to register any shares of common
stock either for our account or for the account of other security holders, the
holders of shares having piggyback rights are entitled to receive notice of the
registration, subject to some limitations. Further, at any time after we become
eligible to file a registration statement on Form S-3, the holders of any
3,184,283 of the registrable securities may require us to file registration
statements under the Securities Act of 1933 on Form S-3 with respect to such
shares. These registration rights are subject to conditions
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<PAGE> 72
and limitations, including the right of the underwriters of an offering to limit
the number of shares of common stock held by security holders with registration
rights to be included in such registration. We are generally required to bear
all of the expenses of all these registrations, including the reasonable fees of
a single counsel acting on behalf of all selling stockholders, except
underwriting discounts and selling commissions. Registration of any shares of
common stock held by security holders with registration rights would result in
those shares becoming freely tradable without restriction under the Securities
Act of 1933 immediately upon effectiveness of registration.
ANTI-TAKEOVER EFFECTS OF PROVISIONS OF THE CERTIFICATE OF INCORPORATION AND
BYLAWS
General. Provisions of Delaware law, as well as our certificate of
incorporation and bylaws, could have the effect of making it more difficult for
a third party to acquire, or of discouraging a third party from acquiring,
control of us. Such provisions could limit the price that some investors might
be willing to pay in the future for our common stock. These provisions of
Delaware law and our certificate of incorporation and bylaws may also have the
effect of discouraging or preventing certain types of transactions involving an
actual or threatened change of control of us, including unsolicited takeover
attempts, even though such a transaction may offer our stockholders the
opportunity to sell their stock at a price above the prevailing market price.
Delaware Takeover Statute. We are subject to the "business combination"
provisions of Section 203 of the Delaware General Corporation Law. Subject to
certain exceptions, Section 203 prohibits a publicly-held 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 transaction is approved by the board of directors prior to the date
the interested stockholder obtained interested stockholder status;
- upon consummation of the transaction that resulted in the stockholders
becoming an interested stockholder, the interested stockholder owned at
least 85% of our voting stock outstanding at the time the transaction
commenced, excluding for purposes of determining the number of shares
outstanding those shares owned by (a) persons who are directors and also
officers and (b) employee stock plans in which employee participants do
not have the right to determine confidentially whether shares held
subject to the plan will be tendered in a tender or exchange offer; or
- on or subsequent to the date the business combination is approved by the
board of directors and authorized at an annual or special meeting of
stockholders by the affirmative vote of at least two-thirds of the
outstanding voting stock that is not owned by the interested stockholder.
A "business combination" includes mergers, asset sales and other
transactions resulting in a financial benefit to the interested stockholder.
Subject to certain exceptions, 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. This statute could prohibit or
delay the accomplishment of mergers or other takeover or change in control
attempts with respect to us and, accordingly, may discourage attempts to acquire
us.
Charter and Bylaw Provisions. In addition, certain provisions of our
certificate of incorporation and bylaws summarized in the following paragraphs
may be deemed to have an anti-takeover effect and may delay, defer or prevent a
tender offer or takeover attempt that a stockholder might consider in its best
interest, including those attempts that might result in a premium over the
market price for the shares held by stockholders.
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<PAGE> 73
Classified Board of Directors; Removal; Filling Vacancies and
Amendment. Our certificate of incorporation and bylaws provide that the board
will be divided into three classes of directors serving staggered, three-year
terms. The classification of the board has the effect of requiring at least two
annual stockholder meetings, instead of one, to replace a majority of members of
the board. Subject to the rights of the holders of any outstanding series of
preferred stock, the certificate of incorporation authorizes only the board to
fill vacancies, including newly created directorships. Accordingly, this
provision could prevent a stockholder from obtaining majority representation on
the board by enlarging the board of directors and filling the new directorships
with its own nominees. The certificate of incorporation also provides that
directors may be removed by stockholders only for cause and only by the
affirmative vote of holders of two-thirds of the outstanding shares of voting
stock.
Stockholder Action; Special Meeting of Stockholders. The certificate of
incorporation provides that stockholders may not take action by written consent,
but may only take action at duly called annual or special meetings of
stockholders. The certificate of incorporation further provides that special
meetings of our stockholders may be called only by the chairman of the board of
directors, the chief executive officer or a majority of the board of directors.
This limitation on the right of stockholders to call a special meeting could
make it more difficult for stockholders to initiate actions that are opposed by
the board of directors. These actions could include the removal of an incumbent
director or the election of a stockholder nominee as a director. They could also
include the implementation of a rule requiring stockholder ratification of
specific defensive strategies that have been adopted by the board of directors
with respect to unsolicited takeover bids. In addition, the limited ability of
the stockholders to call a special meeting of stockholders may make it more
difficult to change the existing board and management.
Advance Notice Requirements for Stockholder Proposals and Director
Nomination. The bylaws provide that stockholders seeking to bring business
before an annual meeting of stockholders, or to nominate candidates for election
as directors at an annual meeting of stockholders, must provide timely notice
thereof in writing. To be timely, a stockholder's notice must be delivered to or
mailed and received at our principal executive offices not less than 120 days
prior to the date of our annual meeting. The bylaws also specify certain
requirements as to the form and content of a stockholder's notice. These
provisions may preclude stockholders from bringing matters before an annual
meeting of stockholders or from making nominations for directors at an annual
meeting of stockholders.
Authorized but Unissued Shares. The authorized but unissued shares of
common stock and preferred stock are available for future issuance without
stockholder approval. These additional shares may be utilized for a variety of
corporate purposes, including future public offerings to raise additional
capital, corporate acquisitions, employee benefit plans and "poison pill" rights
plans. The existence of authorized but unissued shares of common stock and
preferred stock could render more difficult or discourage an attempt to obtain
control of us by means of a proxy contest, tender offer, merger or otherwise.
Supermajority Vote to Amend Charter and Bylaws. The Delaware General
Corporation Law provides generally that an amendment to a corporation's
certificate of incorporation or bylaws requires the affirmative vote of a
majority of the shares entitled to vote on any matter, unless a corporation's
certificate of incorporation or bylaws, as the case may be, requires a greater
percentage. Following the completion of this offering, our present directors,
and executive officers and principal stockholders will beneficially own
approximately 65.4% of our common stock. This gives them veto power with respect
to any stockholder action or approval requiring either a two-thirds vote or a
simple majority.
70
<PAGE> 74
NASDAQ NATIONAL MARKET
Our common stock has been approved for quotation on the Nasdaq National
Market under the trading symbol "DPII."
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for our common stock is American Stock
Transfer & Trust Company.
71
<PAGE> 75
SHARES ELIGIBLE FOR FUTURE SALE
Prior to this offering, there has been no public market for our common
stock. The market price of our common stock after this offering could decline as
a result of the sale of a large number of shares of our common stock in the
market, or the perception that such sales could occur. Such sales also could
make it more difficult for us to sell equity securities in the future at a time
and price that we deem appropriate. Based on the number of shares outstanding at
May 5, 2000, after this offering, we will have 22,437,204 shares of common stock
outstanding. Of these shares, the shares sold in this offering will be freely
tradable without restriction or further registration under the Securities Act,
unless these shares are purchased by "affiliates" as that term is defined in
Rule 144 under the Securities Act. This leaves 17,437,204 shares eligible for
sale in the public market as follows:
ELIGIBILITY OF RESTRICTED SHARES FOR SALE IN THE PUBLIC MARKET
<TABLE>
<CAPTION>
NUMBER
DATE OF SHARES
---- ---------
<S> <C>
After the date of this prospectus........................... 0
At various times after 180 days from the date of this
prospectus, subject, in some cases, to volume limitations
under Rule 144............................................ 8,465,000
Shares first eligible for sale 270 days after the date of
this prospectus........................................... 8,972,144
</TABLE>
The holders of 99% of our common stock, including all of our directors and
officers, together with the holders of options to purchase 1,850,412 shares of
common stock and the holders of warrants to purchase 871,945 shares of common
stock, have entered into lock-up agreements under which they have agreed with
the underwriters not to sell, offer, contract to sell, transfer the economic
risk of ownership in, make any short sale, pledge or otherwise dispose of any of
their common stock or securities convertible into or exchangeable for shares of
common stock during the period from the date of this prospectus continuing
through the date 180 days after the date of this prospectus, without the prior
written consent of Chase Securities Inc.
In general, under Rule 144 of the Securities Act of 1933, a person or
persons whose shares are required to be aggregated, including an affiliate,
whose shares have been owned for at least one year is entitled to sell, within
any three-month period after the date of this prospectus, a number of shares
that does not exceed the greater of 1% of the then outstanding shares of common
stock -- approximately 224,372 shares immediately after this offering -- or the
average weekly trading volume in our common stock during the four calendar weeks
preceding the date on which notice of such sale is filed, subject to certain
restrictions. In addition, a person who is not deemed to have been an affiliate
of ours at any time during the 90 days preceding a sale and whose shares have
been beneficially owned by nonaffiliates for at least two years would be
entitled to sell such shares under Rule 144(k) without regard to the
requirements described above. To the extent that shares were acquired from one
of our affiliates, such person's holding period for the purpose of effecting a
sale under Rule 144 commences on the date of transfer from the affiliate.
Following 90 days after the date of this prospectus, shares issued upon
exercise of options that we granted prior to the date of this offering will also
be available for sale in the public market pursuant to Rule 701 under the
Securities Act of 1933. Rule 701 permits resales of such shares in reliance upon
Rule 144 under the Securities Act of 1933 but without compliance with the
restrictions, including the holding-period requirement, imposed under Rule 144.
As of May 5, 2000, options to purchase a total of 1,893,870 shares of common
stock were outstanding, 1,190,611 of which were currently exercisable, and, upon
exercise, 743,212 of which are subject to repurchase by us.
72
<PAGE> 76
Upon the closing of this offering, we intend to file a registration
statement to register for resale the 3,300,000 shares of common stock reserved
for issuance under our stock option plans. We expect the registration statement
to become effective immediately upon filing. Shares issued upon the exercise of
stock options granted under our stock option plans will be eligible for resale
in the public market from time to time subject to vesting and, in the case of
certain options, the expiration of the lock-up agreements referred to above.
See "Management -- Benefit Plans," "Principal Stockholders," and
"Underwriting."
73
<PAGE> 77
UNDERWRITING
Chase Securities Inc., Lehman Brothers Inc. and UBS Warburg LLC are the
representatives of the underwriters. Subject to the terms and conditions of the
underwriting agreement, the underwriters named below, through their
representatives, have severally agreed to purchase from us the following
respective numbers of shares of common stock:
<TABLE>
<CAPTION>
NUMBER
NAME OF SHARES
---- ---------
<S> <C>
Chase Securities Inc. ........................... 1,822,500
Lehman Brothers Inc. ............................ 1,417,500
UBS Warburg LLC.................................. 810,000
FleetBoston Robertson Stephens Inc. ............. 100,000
CIBC World Markets Corp. ........................ 100,000
Credit Suisse First Boston Corporation........... 100,000
Deutsche Bank Alex. Brown........................ 100,000
A. G. Edwards & Sons, Inc. ...................... 100,000
ING Barings LLC.................................. 100,000
Thomas Weisel Partners........................... 100,000
Dominick & Dominick LLC.......................... 50,000
L.H. Friend, Weinress, Frankson & Presson,
Inc. .......................................... 50,000
Gruntal & Co. ................................... 50,000
Janney Montgomery Scott LLC...................... 50,000
Legg Mason Wood Walker Inc. ..................... 50,000
---------
Total............................................ 5,000,000
=========
</TABLE>
The underwriting agreement provides that the obligations of the
underwriters are subject to certain conditions precedent, including the absence
of any material adverse change in our business and the receipt of certain
certificates, opinions and letters from us, our counsel and the independent
auditors. The underwriters are committed to purchase all of the shares of common
stock offered by us in this prospectus if they purchase any shares.
The following table shows the per share and total underwriting discounts
and commissions we will pay to the underwriters. Such amounts are shown assuming
both no exercise and full exercise of the underwriters' over-allotment option to
purchase additional shares.
UNDERWRITING DISCOUNTS AND COMMISSIONS
<TABLE>
<CAPTION>
WITHOUT WITH
OVER-ALLOTMENT OVER-ALLOTMENT
EXERCISE EXERCISE
-------------- --------------
<S> <C> <C>
Per Share................ $ 1.26 $ 1.26
Total.................... $ 6,300,000 $7,245,000
</TABLE>
We estimate that the total expenses of this offering, excluding
underwriting discounts and commissions, will be approximately $1.2 million.
The underwriters propose to offer the shares of common stock directly to
the public at the initial public offering price set forth on the cover page of
this prospectus and to certain dealers at that price less a concession not in
excess of $0.75 per share. The underwriters may allow and such dealers may
re-allow a concession not in excess of $0.10 per share to certain other dealers.
After the initial public offering of the shares, the offering price and other
selling terms may be changed
74
<PAGE> 78
by the underwriters. The representatives have advised us that the underwriters
do not intend to confirm discretionary sales in excess of 5% of the shares of
common stock offered in this prospectus.
We have granted to the underwriters a 30-day option to purchase up to
750,000 additional shares of common stock at the initial public offering price,
less the underwriting discount set forth on the cover page of this prospectus.
To the extent that the underwriters exercise this option, each of the
underwriters will have a firm commitment to purchase approximately the same
percentage of total shares the underwriter purchased in the above table. We will
be obligated, pursuant to this option, to sell shares to the underwriters to the
extent the option is exercised. The underwriters may exercise this option only
to cover over-allotments made in connection with the sale of common stock
offered by us.
The offering of the shares is made for delivery when, as and if accepted by
the underwriters and subject to prior sale and to withdrawal, cancellation or
modification of the offering without notice. The underwriters reserve the right
to reject an order for the purchase of shares in whole or in part.
We have agreed to indemnify the underwriters against certain liabilities,
including liabilities under the Securities Act, and to contribute to payments
the underwriters may be required to make with respect to these liabilities.
Substantially all of our securityholders and all of our executive officers
and directors have agreed or will agree prior to completion of this offering,
that they will not, without the prior written consent of Chase Securities Inc.,
offer, sell or otherwise dispose of any shares of common stock, options or
warrants to acquire shares of common stock or securities exchangeable for or
convertible into shares of common stock owned by them for a period of 180 days
following the date of this prospectus. We have agreed that we will not, without
the prior written consent of Chase Securities Inc., offer, sell or otherwise
dispose of any shares of common stock, options or warrants to acquire shares of
common stock or securities exchangeable for or convertible into shares of common
stock for a period of 180 days following the date of this prospectus, except
that we may issue shares upon the exercise of options and warrants granted prior
to the date hereof and in connection with our employee stock purchase plan of
2000. We may also grant additional options or other awards under our 2000 equity
incentive plan. Without the prior written consent of Chase Securities Inc., any
additional options granted shall not be exercisable during this 180-day period.
The representatives of the underwriters participating in this offering may
over-allot or effect transactions which stabilize, maintain or otherwise affect
the market price of the common stock at levels above those which might otherwise
prevail in the open market, including by entering stabilizing bids, effecting
syndicate covering transactions or imposing penalty bids. A stabilizing bid
means the placing of any bid or effecting of any purchase, for the purpose of
pegging, fixing or maintaining the price of the common stock. A syndicate
covering transaction means the placing of any bid on behalf of the underwriting
syndicate or the effecting of any purchase to reduce a short position created in
connection with the offering. A penalty bid means an arrangement that permits
the underwriters to reclaim a selling concession from a syndicate member in
connection with the offering when common stock sold by the syndicate member are
purchased in syndicate covering transactions. Such transactions may be effected
on the Nasdaq National Market, in the over-the-counter market, or otherwise.
Such stabilizing, if commenced, may be discontinued at any time.
In connection with this offering, the underwriters may make short sales of
our common stock and may purchase our shares on the open market to cover
positions created by short sales. Short sales involve the sale by the
underwriters of a greater number of shares than they are required to purchase in
the offering. "Covered" short sales are sales made in an amount not greater than
the underwriters' over-allotment option to purchase additional shares in the
offering. The underwriters may close out any covered short position by either
exercising their over-allotment option or purchasing shares in the open market.
In determining the source of shares to close out the covered
75
<PAGE> 79
short position, the underwriters will consider, among other things, the price of
shares available for purchase in the open market as compared to the price at
which they may purchase shares through the over-allotment option. "Naked" short
sales are sales in excess of the over-allotment option. The underwriters must
close out any naked short position by purchasing shares in the open market. A
naked short position is more likely to be created if the underwriters are
concerned that there may be downward pressure on the price of the shares in the
open market after pricing that could adversely affect investors who purchase in
the offering. Similar to other purchase transactions, the underwriters'
purchases to cover the syndicate short sales may have the effect of raising or
maintaining the market price of our common stock or preventing or retarding a
decline in the market price of our common stock. As a result, the price of our
common stock may be higher than the price that might otherwise exist in the open
market.
Prior to this offering, there has been no public market for our common
stock. The initial public offering price for the shares of common stock was
determined by negotiations among us and the representatives. Among the factors
considered in determining the initial public offering price were prevailing
market and economic conditions, our revenue and earnings, market valuations of
other companies engaged in activities similar to our business operations, our
management and other factors deemed relevant.
In addition, at our request, the underwriters have reserved up to 250,000
shares of common stock for sale at the initial public offering price to our
directors, business associates and related persons. The number of shares
available for sale to the general public will be reduced if such persons
purchase the reserved shares. Any reserved shares which are not so purchased
will be offered by the underwriters to the general public on the same basis as
the other shares offered by this prospectus.
In connection with this offering, certain underwriters and selling group
members, if any, who are qualified market makers on the Nasdaq National Market
may engage in passive market making transactions in our shares of common stock
on the Nasdaq National Market in accordance with Rule 103 of Regulation M under
the Securities Exchange Act of 1934, as amended. In general, a passive market
maker must display its bid at a price not in excess of the highest independent
bid of such security; if all independent bids are lowered below the passive
market maker's bid, however, the passive market maker must then lower its bid
when certain purchase limits are exceeded.
LEGAL MATTERS
The validity of the shares of common stock offered hereby will be passed
upon for us by Brobeck, Phleger & Harrison LLP, San Diego, California. Certain
attorneys of Brobeck, Phleger & Harrison beneficially own 2,875 shares of our
common stock. Cooley Godward LLP, San Diego, California, is acting as counsel
for the underwriters in connection with various legal matters relating to the
shares of common stock offered by this prospectus.
EXPERTS
Ernst & Young LLP, independent auditors, have audited our consolidated
financial statements at December 31, 1998 and 1999, and for each of the three
years in the period ended December 31, 1999 and the financial statements of Axys
Advanced Technologies, Inc. as of December 31, 1998 and 1999 and for the years
then ended as set forth in their reports. We have included our financial
statements (including those of Axys Advanced Technologies, Inc.) in this
prospectus in reliance on their reports, given on their authority as experts in
accounting and auditing.
76
<PAGE> 80
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the SEC a registration statement on Form S-1 (including
exhibits, schedules and amendments) under the Securities Act with respect to the
shares of common stock to be sold in this offering. This prospectus does not
contain all the information set forth in the registration statement. For further
information with respect to us and the shares of common stock to be sold in this
offering, reference is made to the registration statement. Statements contained
in this prospectus as to the contents of any contract, agreement or other
document referred to are not necessarily complete. Whenever we make reference in
this prospectus to any contract or other document of ours, 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.
You may read and copy all or any portion of the registration statement or
any other information we file at the SEC's public reference room at 450 Fifth
Street, N.W., Washington, D.C. 20549. You can request copies of these documents,
upon payment of a duplicating fee, by writing to the SEC. Please call the SEC at
1-800-SEC-0330 for further information on the operation of the public reference
rooms. Our SEC filings, including the registration statement, are also available
to you on the SEC's web site (http://www.sec.gov).
As a result of this offering, we will become subject to the information and
reporting requirements of the Securities Exchange Act, and, in accordance with
those requirements, will file periodic reports, proxy statements and other
information with the SEC.
This prospectus includes statistical data that were obtained from industry
publications. These industry publications generally indicate that the authors of
these publications have obtained information from sources believed to be
reliable, but do not guarantee the accuracy and completeness of their
information. While we believe these industry publications are reliable, we have
not independently verified their data.
77
<PAGE> 81
DISCOVERY PARTNERS INTERNATIONAL, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
DISCOVERY PARTNERS INTERNATIONAL, INC.
Report of Ernst & Young LLP, Independent Auditors........... F-2
Consolidated Balance Sheets as of December 31, 1998 and 1999
and March 31, 2000 (Unaudited)............................ F-3
Consolidated Statements of Operations for the years ended
December 31, 1997, 1998 and 1999 and for the three months
ended March 31, 1999 and 2000 (Unaudited)................. F-4
Consolidated Statements of Stockholders' Equity (Deficit)
for the years ended December 31, 1997, 1998 and 1999 and
for the three months ended March 31, 2000 (Unaudited)..... F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 1997, 1998 and 1999 and for the three months
ended March 31, 1999 and 2000 (Unaudited)................. F-6
Notes to Consolidated Financial Statements.................. F-7
AXYS ADVANCED TECHNOLOGIES, INC.
Report of Ernst & Young LLP, Independent Auditors........... F-21
Balance Sheets as of December 31, 1998 and 1999 and March
31, 2000 (Unaudited)...................................... F-22
Statements of Operations for the years ended December 31,
1998 and 1999 and for the three months ended March 31,
1999 and 2000 (Unaudited)................................. F-23
Statements of Stockholder's/Division Equity for the years
ended December 31, 1998 and 1999 and for the three months
ended March 31, 2000 (Unaudited).......................... F-24
Statements of Cash Flows for the years ended December 31,
1998 and 1999 and for the three months ended March 31,
2000 (Unaudited).......................................... F-25
Notes to Consolidated Financial Statements.................. F-26
UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
Unaudited Pro Forma Combined Condensed Balance Sheets as of
March 31, 2000............................................ F-36
Unaudited Pro Forma Combined Condensed Statement of
Operations for the year ended December 31, 1999........... F-37
Unaudited Pro Forma Combined Condensed Statement of
Operations for the three months ended March 31, 2000...... F-38
Notes to Unaudited Pro Forma Combined Condensed Financial
Statements................................................ F-39
</TABLE>
F-1
<PAGE> 82
REPORT OF ERNST & YOUNG, LLP, INDEPENDENT AUDITORS
The Board of Directors
Discovery Partners International, Inc.
We have audited the accompanying consolidated balance sheets of Discovery
Partners International, Inc. as of December 31, 1998 and 1999 and the related
consolidated statements of operations, stockholders' equity (deficit), 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 audits to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects the consolidated financial position of Discovery
Partners International, Inc. at December 31, 1998 and 1999, and the consolidated
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.
ERNST & YOUNG LLP
San Diego, California
March 10, 2000, except for Note 11,
as to which the date is July 27, 2000
F-2
<PAGE> 83
DISCOVERY PARTNERS INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
PRO FORMA
STOCKHOLDERS'
DECEMBER 31, EQUITY AS OF
---------------------------- MARCH 31, MARCH 31,
1998 1999 2000 2000
------------ ------------ ------------ -------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................ $ 10,714,889 $ 2,884,639 $ 983,819
Accounts receivable.................................. 1,642,065 2,785,618 3,081,907
Inventories.......................................... 1,107,041 1,517,297 2,462,869
Prepaid and other current assets..................... 327,537 201,284 365,081
------------ ------------ ------------
Total current assets............................... 13,791,532 7,388,838 6,893,676
Property and equipment, net............................ 1,398,517 4,655,227 5,296,150
Restricted cash and cash equivalents and other
assets............................................... 193,314 2,264,200 2,430,034
Patent and license rights, net......................... 1,212,497 1,137,625 1,079,307
Goodwill, net.......................................... -- 6,205,830 6,050,684
------------ ------------ ------------
Total assets....................................... $ 16,595,860 $ 21,651,720 $ 21,749,851
============ ============ ============
LIABILITIES, REDEEMABLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable and accrued expenses................ $ 2,413,714 $ 2,348,226 $ 2,030,526
Deferred business acquisition payment................ -- 1,721,775 --
Current portion of obligations under capital leases
and equipment notes payable........................ 205,980 226,575 201,815
Line of credit....................................... -- 958,346 762,753
Deferred revenue..................................... 2,196,200 1,935,249 1,849,139
Notes payable to stockholders........................ -- 3,861,920 6,000,000
------------ ------------ ------------
Total current liabilities.......................... 4,815,894 11,052,091 10,844,233
Obligations under capital leases and equipment notes
payable, less current portion........................ 95,685 282,317 935,393
Deferred rent.......................................... 75,824 51,906 55,391
Long-term debt from stockholder........................ -- 1,627,860 1,569,100
Commitments
Redeemable convertible preferred stock, $.001 par
value, 7,333,333 shares authorized, 6,562,278 issued
and outstanding at December 31, 1998 and 1999 and
March 31, 2000; liquidation preference and redemption
value -- $28,048,404 at December 31, 1999; no shares
authorized, issued and outstanding pro forma
(unaudited).......................................... 27,906,717 27,906,717 27,906,717 $ --
Stockholders' equity (deficit):
Preferred stock, $.001 par value, 1,000,000 shares
authorized, no shares issued and outstanding pro
forma (unaudited).................................. -- -- -- --
Common stock, $.001 par value, 10,000,000 shares
authorized, 1,420,973, 1,611,763, and 1,789,068
issued and outstanding at December 31 1998 and 1999
and March 31, 2000, respectively; 100,000,000
shares authorized, 8,410,848 shares issued and
outstanding pro forma (unaudited).................. 1,421 1,612 1,789 8,411
Additional paid-in capital........................... 234,384 1,399,376 4,016,372 31,916,467
Deferred compensation................................ -- (642,282) (1,824,265) (1,824,265)
Note receivable from stockholder..................... (172,000) (240,000) (240,000) (240,000)
Accumulated other comprehensive loss................. -- (55,448) (152,069) (152,069)
Accumulated deficit.................................. (16,362,065) (19,732,429) (21,362,810) (21,362,810)
------------ ------------ ------------ ------------
Total stockholders' equity (deficit)............... (16,298,260) (19,269,171) (19,560,983) $ 8,345,734
------------ ------------ ------------ ------------
Total liabilities, redeemable preferred stock and
stockholders' equity (deficit)................... $ 16,595,860 $ 21,651,720 $ 21,749,851
============ ============ ============
</TABLE>
See accompanying notes.
F-3
<PAGE> 84
DISCOVERY PARTNERS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
--------------------------------------- ------------------------
1997 1998 1999 1999 2000
----------- ----------- ----------- ---------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues.................................. $ 3,149,479 $ 6,213,736 $13,075,835 $2,896,165 $ 5,173,043
Cost of revenues (exclusive of $7,238, $0
and $3,663 in 1999, and for the three
months ended March 31, 1999 and 2000,
respectively, of stock-based
compensation)........................... 1,311,681 2,785,514 8,234,858 1,762,505 3,052,994
----------- ----------- ----------- ---------- -----------
Gross margin......................... 1,837,798 3,428,222 4,840,977 1,133,660 2,120,049
Cost and expenses:
Research and development (exclusive of
$65,828, $7,463 and $87,846 in 1999,
and for the three months ended March
31, 1999 and 2000, respectively, of
stock-based compensation)............ 4,143,193 5,057,851 3,537,651 969,303 618,981
Selling, general and administrative
(exclusive of $238,322, $62,695 and
$171,858 in 1999, and for the three
months ended March 31, 1999 and 2000,
respectively, of stock-based
compensation)........................ 2,527,902 4,984,645 4,439,021 1,092,984 1,519,285
Amortization of stock-based
compensation......................... -- -- 311,388 70,158 263,367
Amortization of goodwill................ -- -- -- -- 155,146
----------- ----------- ----------- ---------- -----------
Total operating expenses............. 6,671,095 10,042,496 8,288,060 2,132,445 2,556,779
----------- ----------- ----------- ---------- -----------
Loss from operations...................... (4,833,297) (6,614,274) (3,447,083) (998,785) (436,730)
Interest income........................... 106,617 386,058 270,645 97,888 45,612
Interest expense.......................... (92,678) (112,698) (60,003) (21,669) (1,368,036)
Foreign currency gains (losses)........... (2,661) 63,401 (133,923) (49,900) 128,773
----------- ----------- ----------- ---------- -----------
Net loss.................................. $(4,822,019) $(6,277,513) $(3,370,364) $ (972,466) $(1,630,381)
=========== =========== =========== ========== ===========
Historical net loss per share, basic and
diluted................................. $ (8.85) $ (8.20) $ (3.00) $ (0.96) $ (1.23)
=========== =========== =========== ========== ===========
Shares used in calculating historical net
loss per share, basic and diluted....... 544,876 765,263 1,125,040 1,014,418 1,323,860
=========== =========== =========== ========== ===========
Pro forma net loss per share, basic and
diluted................................. $ (0.44) $ (0.21)
=========== ===========
Shares used in calculating pro forma net
loss per share, basic and diluted....... 7,728,820 7,938,689
=========== ===========
</TABLE>
See accompanying notes.
F-4
<PAGE> 85
DISCOVERY PARTNERS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
NOTES ACCUMULATED
COMMON STOCK ADDITIONAL RECEIVABLE OTHER
------------------ PAID-IN DEFERRED FROM COMPREHENSIVE ACCUMULATED
SHARES AMOUNT CAPITAL COMPENSATION STOCKHOLDER LOSS DEFICIT
--------- ------ ---------- ------------ ----------- ------------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1996....... 895,800 $ 896 $ 32,994 $ -- $ -- $ -- $ (5,262,533)
Common stock issued for
compensation................... 16,800 17 3,523 -- -- -- --
Exercise of options to purchase
common stock................... 44,131 44 11,850 -- -- -- --
Net loss......................... -- -- -- -- -- -- (4,822,019)
--------- ------ ---------- ----------- --------- --------- ------------
Balance at December 31, 1997....... 956,731 957 48,367 -- -- -- (10,084,552)
Exercise of options to purchase
common stock, net of
repurchases.................... 34,242 34 14,447 -- -- -- --
Issuance of common stock in
exchange for a promissory
note........................... 430,000 430 171,570 -- (172,000) -- --
Net loss......................... -- -- -- -- -- -- (6,277,513)
--------- ------ ---------- ----------- --------- --------- ------------
Balance at December 31, 1998....... 1,420,973 1,421 234,384 -- (172,000) -- (16,362,065)
Exercise of options to purchase
common stock, net of
repurchases.................... 20,790 21 5,412 -- -- -- --
Issuance of common stock in
exchange for a promissory
note........................... 170,000 170 67,830 -- (68,000) -- --
Issuance of warrants to purchase
preferred stock................ -- -- 138,080 -- -- -- --
Deferred compensation related to
stock options and restricted
stock.......................... -- -- 953,670 (953,670) -- -- --
Amortization of deferred
compensation................... -- -- -- 311,388 -- -- --
Comprehensive loss:
Foreign currency translation
adjustment................... -- -- -- -- -- (55,448) --
Net loss....................... -- -- -- -- -- -- (3,370,364)
Comprehensive loss............... -- -- -- -- -- -- --
--------- ------ ---------- ----------- --------- --------- ------------
Balance at December 31, 1999....... 1,611,763 1,612 1,399,376 (642,282) (240,000) (55,448) (19,732,429)
Exercise of options to purchase
common stock (unaudited)....... 177,305 177 65,879 -- -- -- --
Issuance of warrants to purchase
preferred stock (unaudited).... -- -- 1,105,767 -- -- -- --
Deferred compensation related to
stock options and restricted
stock (unaudited).............. -- -- 1,445,350 (1,445,350) -- -- --
Amortization of deferred
compensation (unaudited)....... -- -- -- 263,367 -- -- --
Comprehensive loss:
Foreign currency translation
adjustment (unaudited)....... -- -- -- -- -- (96,621) --
Net loss (unaudited)........... -- -- -- -- -- -- (1,630,381)
Comprehensive loss (unaudited)... -- -- -- -- -- -- --
--------- ------ ---------- ----------- --------- --------- ------------
Balance at March 31, 2000
(unaudited)...................... 1,789,068 $1,789 $4,016,372 $(1,824,265) $(240,000) $(152,069) $(21,362,810)
========= ====== ========== =========== ========= ========= ============
<CAPTION>
TOTAL
STOCKHOLDERS'
EQUITY (DEFICIT)
----------------
<S> <C>
Balance at December 31, 1996....... $ (5,228,643)
Common stock issued for
compensation................... 3,540
Exercise of options to purchase
common stock................... 11,894
Net loss......................... (4,822,019)
------------
Balance at December 31, 1997....... (10,035,228)
Exercise of options to purchase
common stock, net of
repurchases.................... 14,481
Issuance of common stock in
exchange for a promissory
note........................... --
Net loss......................... (6,277,513)
------------
Balance at December 31, 1998....... (16,298,260)
Exercise of options to purchase
common stock, net of
repurchases.................... 5,433
Issuance of common stock in
exchange for a promissory
note........................... --
Issuance of warrants to purchase
preferred stock................ 138,080
Deferred compensation related to
stock options and restricted
stock.......................... --
Amortization of deferred
compensation................... 311,388
Comprehensive loss:
Foreign currency translation
adjustment................... (55,448)
Net loss....................... (3,370,364)
------------
Comprehensive loss............... (3,425,812)
------------
Balance at December 31, 1999....... (19,269,171)
Exercise of options to purchase
common stock (unaudited)....... 66,056
Issuance of warrants to purchase
preferred stock (unaudited).... 1,105,767
Deferred compensation related to
stock options and restricted
stock (unaudited).............. --
Amortization of deferred
compensation (unaudited)....... 263,367
Comprehensive loss:
Foreign currency translation
adjustment (unaudited)....... (96,621)
Net loss (unaudited)........... (1,630,381)
------------
Comprehensive loss (unaudited)... (1,727,002)
------------
Balance at March 31, 2000
(unaudited)...................... $(19,560,983)
============
</TABLE>
See accompanying notes.
F-5
<PAGE> 86
DISCOVERY PARTNERS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
--------------------------------------- -------------------------
1997 1998 1999 1999 2000
----------- ----------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net loss............................................ $(4,822,019) $(6,277,513) $(3,370,364) $ (972,466) $(1,630,381)
Adjustments to reconcile net loss to net cash used
in operating activities:
Common stock issued for compensation.............. 3,540 -- -- -- --
Depreciation and amortization..................... 242,550 561,049 360,322 135,676 608,112
Amortization of deferred compensation............. -- -- 311,388 70,158 263,367
Noncash interest expense for warrants issued...... -- -- -- -- 1,243,847
Change in operating assets and liabilities:
Accounts receivable............................. (1,150,870) (334,487) (444,341) 55,154 (296,289)
Inventories..................................... (475,735) (423,365) (357,037) 193,695 (945,573)
Other current assets............................ (179,359) (65,907) 130,727 (178,934) (163,797)
Accounts payable and accrued expenses........... 812,870 1,395,725 (567,171) (1,094,830) (317,700)
Deferred revenue................................ 324,800 1,871,400 (774,987) (426,089) (86,109)
Deferred rent................................... (7,619) 6,069 (23,918) (10,219) 3,485
Restricted cash................................. -- -- (1,000,000) -- 45,200
----------- ----------- ----------- ----------- -----------
Net cash used in operating activities............... (5,251,842) (3,267,029) (5,735,381) (2,227,855) (1,275,838)
INVESTING ACTIVITIES
Purchases of property and equipment................. (525,084) (848,202) (1,112,191) (56,779) (1,038,283)
Deposits and other assets........................... (16,599) (7,331) 181,313 (1,802) (211,034)
Purchase of patents and license rights.............. -- (1,212,497) -- 37,501 --
Acquisition of DTL, net of cash acquired of
$559,946.......................................... -- -- (4,963,444) -- --
Additional cash consideration for acquisition of
DTL............................................... -- -- -- -- (1,721,775)
----------- ----------- ----------- ----------- -----------
Net cash used in investing activities............... (541,683) (2,068,030) (5,894,322) (21,080) (2,971,092)
FINANCING ACTIVITIES
Proceeds from issuance of equipment notes payable... 85,008 -- -- -- 747,150
Principal payments on capital leases and equipment
notes payable..................................... (185,800) (262,165) (205,980) (64,693) (118,835)
Principal payments on line of credit................ -- -- -- -- (195,593)
Issuance of redeemable preferred stock, net of
issuance costs.................................... 1,937,139 13,568,346 -- -- --
Issuance of common stock............................ 11,894 14,481 5,433 2,251 66,056
Proceeds from convertible notes payable............. -- 2,448,395 4,000,000 -- 2,000,000
----------- ----------- ----------- ----------- -----------
Net cash provided by financing activities........... 1,848,241 15,769,057 3,799,453 (62,442) 2,498,778
Effect of exchange rate changes..................... -- -- -- -- (152,668)
----------- ----------- ----------- ----------- -----------
Net increase (decrease) in cash and cash
equivalents....................................... (3,945,284) 10,433,998 (7,830,250) (2,311,377) (1,900,820)
----------- ----------- ----------- ----------- -----------
Cash and cash equivalents at beginning of period.... 4,226,175 280,891 10,714,889 10,714,889 2,884,639
----------- ----------- ----------- ----------- -----------
Cash and cash equivalents at end of period.......... $ 280,891 $10,714,889 $ 2,884,639 $8,403,512 $ 983,819
=========== =========== =========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Interest paid....................................... $ 92,678 $ 112,697 $ 60,004 $ 21,668 $ 124,189
=========== =========== =========== =========== ===========
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES
Conversion of convertible notes payable to preferred
stock............................................. $ -- $ 2,448,395 $ -- $ -- $ --
=========== =========== =========== =========== ===========
Issuance of common stock for promissory note........ $ -- $ 172,000 $ 68,000 $ -- $ --
=========== =========== =========== =========== ===========
Issuance of warrant to purchase preferred stock..... $ -- $ -- $ 138,080 $ -- $ 1,105,767
=========== =========== =========== =========== ===========
Deferred acquisition payment for DTL................ $ -- $ -- $ 1,721,775 $ -- $ --
=========== =========== =========== =========== ===========
</TABLE>
See accompanying notes.
F-6
<PAGE> 87
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
1. ORGANIZATION AND BASIS OF PRESENTATION
ORGANIZATION AND BUSINESS
Discovery Partners International, Inc. (the "Company") was incorporated in
California on March 22, 1995, under the name IRORI. The Company develops and
offers libraries of drug-like compounds, proprietary instruments, consumables
and computational tools to generate compound libraries, test, screen and
optimize potential drugs. In 1998, the Company changed its name to Discovery
Partners International, Inc.
CONSOLIDATION
The consolidated financial statements include all the accounts of the
Company and its wholly owned subsidiaries, IRORI Europe, Ltd. and Discovery
Technologies, Ltd. All intercompany accounts and transactions have been
eliminated. The Company has determined that it operates in only one segment.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
INTERIM FINANCIAL INFORMATION
The financial information as of March 31, 2000 and for the three months
ended March 31, 1999 and 2000 is unaudited and includes all adjustments,
consisting only of normal recurring adjustments, that the Company's management
considers necessary for a fair presentation of the Company's operating results
and cash flows for such periods. Results for the three month period ended March
31, 2000 are not necessary indicative of results to be expected for the full
fiscal year 2000 or any future period.
RECLASSIFICATION
Certain prior year balances have been reclassified to conform to the 1999
presentation.
CASH EQUIVALENTS
The Company considers all highly liquid investments with a remaining
maturity of less than three months when purchased to be cash equivalents. At
December 31, 1998 and 1999, the cost of cash equivalents was the same as the
market value. Accordingly, there were no unrealized gains and losses. The
Company evaluates the financial strength of institutions at which significant
investments are made and believes the related credit risk is limited to an
acceptable level.
F-7
<PAGE> 88
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
LONG-LIVED ASSETS
In accordance with SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of, if indicators of
impairment exist, the Company assesses the recoverability of the affected
long-lived assets by determining whether the carrying value of such assets can
be recovered through undiscounted future operating cash flows. If impairment is
indicated, the Company measures the future cash flows associated with the use of
the asset and records the asset at fair value. While the Company's current and
historical operating and cash flow losses are indicators of impairment, the
Company believes the future cash flows to be received from the long-lived assets
will exceed the assets' carrying value, and accordingly, the Company has not
recognized any impairment losses through March 31, 2000.
INVENTORIES
Inventories are recorded at the lower of weighted average cost
(approximates first-in first-out) or market. Inventories consist of the
following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------ MARCH 31,
1998 1999 2000
---------- ---------- ----------
<S> <C> <C> <C>
Raw materials.................................. $ 958,811 $ 588,048 $ 779,273
Work-in process................................ -- 601,432 1,070,914
Finished goods................................. 148,230 327,817 612,682
---------- ---------- ----------
$1,107,041 $1,517,297 $2,462,869
========== ========== ==========
</TABLE>
PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------- MARCH 31,
1998 1999 2000
---------- ----------- -----------
<S> <C> <C> <C>
Furniture and equipment...................... $1,974,374 $ 4,821,335 $ 5,369,795
Software..................................... -- 362,108 366,038
Leasehold improvements....................... 375,429 633,387 1,052,754
---------- ----------- -----------
2,349,803 5,816,830 6,788,587
Less accumulated depreciation and
amortization............................... (951,286) (1,161,603) (1,492,437)
---------- ----------- -----------
$1,398,517 $ 4,655,227 $ 5,296,150
========== =========== ===========
</TABLE>
Property and equipment, including equipment under capital leases and
equipment notes payable, are stated at cost and depreciated over the estimated
useful lives of the assets (three to seven years) or the term of the related
lease, using the straight-line method. Amortization of assets acquired under
capital leases is included in depreciation expense.
F-8
<PAGE> 89
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PATENT AND LICENSE RIGHTS
The Company has purchased patents and license rights for the labeling of
chemical libraries and related to products for sale and in development. The
purchased patents and license rights are amortized ratably over a period of ten
years.
REVENUE RECOGNITION
Product sales, which include the sale of combinatorial chemistry
instruments and proprietary libraries, are recorded as products are shipped.
Development contract revenues and high-throughput screening service revenues are
recognized on a percentage of completion basis. Advances received under these
development contracts and high-throughput screening service agreements are
recorded as deferred revenue and recognized as costs are incurred over the term
of the contract. Revenues from chemistry service agreements is recognized on a
monthly basis and is based upon the number of full time equivalent (FTE)
employees that actually worked on each agreement and the agreed-upon rate per
FTE per month.
The Company does not have a history of significant returns of its products
nor does it allow its customers the right to return its products.
RESEARCH AND DEVELOPMENT COSTS
Costs incurred in connection with research and development is charged to
operations as incurred.
STOCK-BASED COMPENSATION
The Company has elected to follow Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees and related Interpretations ("APB
25") in accounting for its employee stock options because the alternative fair
value accounting provided for under Financial Accounting Standards Board
("SFAS") No. 123, Accounting for Stock-Based Compensation, requires use of
option valuation models which the Company believes were not developed for use in
valuing employee stock options. Under APB 25, when the exercise price of the
Company's employee stock options equals the fair value of the underlying stock
on the date of grant, no compensation expense is recognized.
Deferred compensation for options granted to non-employees has been
determined in accordance with SFAS No. 123 and EITF 96-18 as the fair value of
the consideration received or the fair value of the equity instruments issued,
whichever is more reliably measured. Deferred charges for options granted to
non-employees are periodically remeasured as the underlying options vest.
COMPREHENSIVE LOSS
SFAS No. 130, Reporting Comprehensive Income, requires the Company to
report in the consolidated financial statements, in addition to net income,
comprehensive income (loss) and its components including foreign currency items
and unrealized gains and losses on certain
F-9
<PAGE> 90
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
investments in debt and equity securities. For the year ended December 31, 1999
and the three months ended March 31, 2000, the Company has disclosed
comprehensive loss as a component of shareholders' equity. Comprehensive loss
was the same as net loss for the years ended December 31, 1997 and 1998.
NET LOSS PER SHARE
Basic and diluted net loss per common share are presented in conformity
with the SFAS No. 128, Earnings per Share, and SAB 98, for all periods
presented. Under the provisions of SAB 98, common stock and redeemable
convertible preferred stock that has been issued or granted for nominal
consideration prior to the anticipated effective date of the initial public
offering must be included in the calculation of basic and diluted net loss per
common share as if these shares had been outstanding for all periods presented.
To date, the Company has not issued or granted shares for nominal consideration.
In accordance with SFAS No. 128, basic and diluted net loss per share has
been computed using the weighted-average number of shares of common stock
outstanding during the period; less shares subject to repurchase. Pro forma
basic and diluted net loss per common share, as presented in the statements of
operations, has been computed for the year ended December 31, 1999 and for the
three months ended March 31, 2000 as described above, and also gives effect to
the assumed conversion of preferred stock which will automatically convert to
common stock immediately prior to the completion of the Company's initial public
offering (using the "as if converted" method) from the original date of
issuance.
The Company has excluded all convertible preferred stock, outstanding stock
options and warrants, and shares subject to repurchase from the calculation of
diluted net loss per common share because all such securities are antidilutive
for all applicable periods presented. The total number of shares excluded from
the calculations of diluted net loss per share, prior to application of the
treasury stock method for options and warrants, were 4,636,150, 7,102,923 and
6,987,176 for the years ended December 31, 1997, 1998 and 1999, respectively,
and 7,159,254 and 6,998,140 for the three months ended March 31, 1999 and 2000,
respectively. Such securities, had they been dilutive, would have been included
in the computation of diluted net loss per share.
RECENTLY ISSUED ACCOUNTING STANDARDS
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities,
will be effective January 1, 2001. This statement establishes accounting and
reporting standards requiring that every derivative instrument, including
certain derivative instruments imbedded in other contracts, be recorded in the
balance sheet as either an asset or liability measured at its fair value. The
statement also requires that changes in the derivative's fair value be
recognized in earnings unless specific hedge accounting criteria are met. The
Company believes the adoption of SFAS No. 133 will not have an effect on the
financial statements because the Company does not engage in derivative or
hedging activities.
In December 1999, the SEC released Staff Accounting Bulletin No. 101,
Revenue Recognition in Financial Statements, which provides guidance on the
recognition, presentation and disclosure of revenue in financial statements. The
Company's revenue recognition policy complies with SAB 101.
F-10
<PAGE> 91
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FOREIGN CURRENCY TRANSLATION
The financial statements of IRORI Europe, Ltd. are measured using the U.S.
dollar as the functional currency. The financial statements of Discovery
Technologies, Ltd. are measured using the local currency as the functional
currency. Assets and liabilities of the Company are translated at the rates of
exchange at the balance sheet date. Income and expense items are translated at
the average rate of exchange during the reporting period. The resulting foreign
currency gains (losses) for IRORI Europe, Ltd. are included in the consolidated
statement of operations. The resulting translation adjustments for Discovery
Technologies, Ltd. are unrealized and included as a separate component of other
comprehensive income (loss). Transactions denominated in currencies other than
the local currency are recorded based on exchange rates at the time such
transactions arise. Subsequent changes in exchange rates result in transaction
gains and losses which are reflected in income as unrealized (based on
period-end translations) or realized upon settlement of these transactions.
3. ACQUISITION OF DISCOVERY TECHNOLOGIES, LTD.
On December 31, 1999, the Company acquired Discovery Technologies, Ltd.
("DTL"), located near Basel, Switzerland. The acquisition of DTL was accounted
for as a purchase in accordance with the provisions of Accounting Principles
Board Opinion ("APB") No. 16. The Company's consolidated financial statements
include the financial position of DTL as of December 31, 1999.
A summary of the DTL acquisition costs and allocation to the assets
acquired and liabilities assumed is as follows:
<TABLE>
<S> <C>
Total acquisition costs:
Cash paid at acquisition.................................. $ 3,438,025
Advances to DTL prior to acquisition...................... 1,878,300
Deferred acquisition payment.............................. 1,721,775
Acquisition related expenses.............................. 151,617
-----------
$ 7,189,717
===========
Allocated to assets and liabilities as follows:
Tangible assets acquired.................................. $ 4,999,019
Tangible liabilities assumed.............................. (4,015,132)
Skilled workforce......................................... 400,000
Goodwill.................................................. 5,805,830
-----------
$ 7,189,717
===========
</TABLE>
The goodwill is amortized on a straight-line basis over a period of ten
years from the date of acquisition. The skilled workforce is amortized on a
straight-line basis over a period of four years from the date of acquisition. In
addition, the agreement provided for additional cash consideration to be issued
based upon the 1999 and 2000 operating results, of which $1,721,775 was earned
based on the 1999 operating results of DTL. The Company may be required to pay
up to an additional $950,000 as consideration based on DTL's operating results
for 2000. The value of additional cash consideration will be accounted for as an
increase to goodwill.
F-11
<PAGE> 92
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
3. ACQUISITION OF DISCOVERY TECHNOLOGIES, LTD. (CONTINUED)
Assuming that the acquisition of DTL had occurred on the first day of the
Company's fiscal year ended December 31, 1998, pro forma condensed consolidated
financial information would be as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1998 1999
----------- -----------
(UNAUDITED)
<S> <C> <C>
Revenues.......................................... $ 8,622,310 $18,131,870
Net loss.......................................... (8,692,454) (3,713,466)
Net loss per share, basic and diluted............. $ (11.36) $ (3.30)
</TABLE>
This pro forma information is not necessarily indicative of the actual
results that would have been achieved had DTL been acquired the first day of the
Company's fiscal year ended December 31, 1998, nor is it necessarily indicative
of future results.
4. DEBT
EQUIPMENT NOTES PAYABLE
At December 31, 1999, obligations under equipment notes totaled $55,698
payable in monthly installments through the year 2000 with a weighted-average
interest rate of 14.58% secured by the assets of the Company. In March 2000, the
Company signed two equipment notes payable totaling $747,150 payable in monthly
installments through the year 2003 with a weighted-average interest rate of
13.82% secured by assets of the Company.
NOTES PAYABLE TO SHAREHOLDERS
On December 10, 1999, the Company borrowed $4.0 million from certain of its
principal investors. The notes accrue interest at 8% per annum and are due and
payable on the earlier of the closing of a preferred stock financing round or
February 10, 2000. Subsequent to December 31, 1999, the noteholders informally
extended the maturity of the notes until the closing of the redeemable
convertible Series E preferred stock sale. Deferred interest expense of $138,080
related to the valuation of warrants is offset against the balance of notes
payable at December 31, 1999 (see Note 7 and 11).
On March 9, 2000, the Company borrowed $2.0 million from one of its
principal investors. The promissory note accrues interest at 8% per annum and is
due and payable upon the earlier of the closing of a preferred stock financing
round or June 9, 2000. In connection with the note, the Company issued warrants
to purchase a variable number of shares of redeemable convertible preferred
stock at a purchase price of $5.00 per share (see Note 7 and 11).
LINE OF CREDIT
The Company's wholly owned subsidiary, DTL, has $1.0 million outstanding
under a line of credit with a financial institution. Under the terms of the line
of credit, the Company has pledged $1.3 million of cash and cash equivalents as
collateral. The amount is included in restricted cash and cash equivalents as of
December 31, 1999. The line of credit accrues interest at 4.75% per
F-12
<PAGE> 93
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
4. DEBT (CONTINUED)
annum plus 0.25% per quarter based on the average borrowed amount and is
available until December 31, 2000.
LONG-TERM DEBT
The Company's wholly owned subsidiary, DTL, has approximately $1.6 million
in long-term debt as of December 31, 1999. The debt accrues interest at 5% per
annum and is due and payable on June 30, 2001 to an investor.
5. COMMITMENTS
LEASES
The Company leases a facility under an operating lease agreement that
expires on August 31, 2000. The Company has the option to extend the lease to
January 21, 2006. The Company leases a second facility under an operating lease
agreement that expires on August 31, 2006. Rent expense was $396,809, $829,343
and $648,788 for the years ended December 31, 1997, 1998 and 1999, respectively,
and $220,331 and $206,176 for the three months ended March 31, 1999 and 2000,
respectively. Additionally, the Company leases certain equipment under operating
leases with initial terms in excess of one year.
Annual future minimum lease obligations, including property and equipment
under capital leases, as of December 31, 1999 are as follows:
<TABLE>
<CAPTION>
OPERATING CAPITAL
LEASES LEASES
---------- ---------
<S> <C> <C>
2000........................................................ $ 669,436 $ 188,422
2001........................................................ 730,994 148,435
2002........................................................ 741,106 148,435
2003........................................................ 742,672 1,773
2004........................................................ 759,284 --
Thereafter.................................................. 1,300,548 --
---------- ---------
Total minimum lease payments................................ $4,944,040 487,065
==========
Less amount representing interest........................... (33,871)
---------
Total present value of minimum payments..................... 453,194
Less current portion........................................ (170,877)
---------
Non-current portion......................................... $ 282,317
=========
</TABLE>
At December 31, 1999, cost and accumulated amortization of property and
equipment under capital leases was $624,947 and $170,183, respectively. At
December 31, 1998, cost and accumulated amortization of property and equipment
under capital leases was $211,741 and $126,726, respectively.
F-13
<PAGE> 94
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
5. COMMITMENTS (CONTINUED)
LETTER OF CREDIT
The Company signed a standby letter of credit for $700,000 required under
the terms of the Company's lease of its facilities. The Company pledged $1.0
million of cash equivalents as collateral for the letter of credit. The amount
is included in restricted cash and cash equivalents as of December 31, 1999 and
March 31, 2000. The letter of credit expires in fiscal 2004.
6. REDEEMABLE CONVERTIBLE PREFERRED STOCK
A summary of redeemable convertible preferred stock issued and outstanding
at December 31, 1999 is as follows:
<TABLE>
<CAPTION>
REDEMPTION
VALUE AND
SHARES ISSUED PREFERENCE IN
AND OUTSTANDING LIQUIDATION
--------------- -------------
<S> <C> <C>
Series A........................................ 2,000,000 $ 4,000,000
Series B........................................ 2,000,000 6,000,000
Series C........................................ 333,333 2,000,000
Series D........................................ 2,228,945 16,048,404
--------- -----------
6,562,278 $28,048,404
========= ===========
</TABLE>
In 1997, the Company issued 333,333 shares of Series C redeemable preferred
stock for net proceeds of $1.9 million. In 1998, the Company issued 2,228,945
shares of Series D redeemable preferred stock in exchange for net cash proceeds
of $13.6 million and conversion of notes payable of $2.4 million.
The redeemable convertible Series A, B, C, and D preferred stock are
convertible, at the option of the holder, into an equal number of shares of the
Company's common stock subject to certain anti-dilution adjustments. The Company
reserved 6,606,044 shares for issuance upon conversion which includes an
additional 43,766 shares issuable pursuant to the anti-dilution provisions. The
preferred stock will convert automatically upon the closing of an underwritten
public offering of the Company's common stock with proceeds to the Company of at
least $15,000,000 and at a price not less than $10.00 per share or upon the
consent of 67% of the holders of the outstanding shares. The holders of Series
A, B, C, and D preferred stock are entitled to elect five directors to the Board
of Directors, and in all other matters the holder of each share of preferred
stock is entitled to one vote for each share of common stock into which it would
convert.
Anytime after July 17, 2002, upon the request of at least 51% of the
holders of preferred stock, the Company shall redeem all of the shares by paying
in cash an amount per share equal to $2.00, $3.00, $6.00, and $7.20 plus any
declared but unpaid dividends for holders of the redeemable convertible Series
A, B, C, and D preferred stock, respectively.
Annual dividends of $0.14, $0.21, $0.42, and $0.504 per share of redeemable
convertible Series A, B, C and D preferred stock, respectively, are payable
whenever funds are legally available when, and if declared by the Board of
Directors. In the event of a liquidation of the Company, holders of redeemable
convertible Series A, B, C, and D preferred stock are entitled to a
F-14
<PAGE> 95
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
6. REDEEMABLE CONVERTIBLE PREFERRED STOCK (CONTINUED)
liquidation preference of $2.00, $3.00, $6.00, and $7.20, respectively, per
share plus any declared but unpaid dividends on such shares.
7. SHAREHOLDERS' EQUITY
STOCK OPTIONS
In November 1995, the Company adopted the 1995 Stock Option/Stock Issuance
Plan (the "Plan"), under which 1,950,000 shares of common stock are reserved for
issuance of stock and stock options granted by the Company. In January 2000, the
Company increased the authorized shares in the Plan by 500,000 shares of common
stock. The Plan provides for the grant of incentive and nonstatutory options.
The exercise price of incentive stock options must equal at least the fair value
on the date of grant, and the exercise price of nonstatutory stock options may
be no less than 85% of the fair value on the date of grant. The options
generally vest over a four-year period and all expire ten years after the date
of grant.
A summary of the Company's stock option activity and related information is
as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------------------------------------------ THREE MONTHS ENDED
1997 1998 1999 MARCH 31, 2000
------------------- --------------------- -------------------- ---------------------
WEIGHTED- WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE EXERCISE
OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE
------- --------- --------- --------- -------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of
period....................... 137,500 $0.21 483,720 $0.31 980,075 $0.49 934,510 $0.71
Granted...................... 488,885 0.33 1,087,700 0.51 191,500 1.50 315,500 2.62
Exercised.................... (44,131) 0.27 (464,242) 0.40 (190,790) 0.38 (177,305) 0.37
Forfeited.................... (98,534) 0.30 (127,103) 0.34 (46,275) 0.75 (1,647) 0.36
------- ----- --------- ----- -------- ----- --------- -----
Outstanding at end of period... 483,720 $0.31 980,075 $0.49 934,510 $0.71 1,071,058 $1.33
======= ===== ========= ===== ======== ===== ========= =====
Exercisable.................... 94,648 $0.21 204,893 $0.35 418,469 $0.53 335,296 $0.63
======= ===== ========= ===== ======== ===== ========= =====
</TABLE>
Exercise prices for options outstanding as of December 31, 1999 ranged from
$0.30 to $1.50. The weighted-average remaining contractual life of those options
is approximately eight years. The weighted-average fair value of the options
granted in 1997, 1998 and 1999 is $0.07, $0.13 and $0.39 per share,
respectively.
At March 31, 2000, options for 319,874 shares were available for future
grant.
Pro forma information regarding net income or loss is required by SFAS No.
123, and has been determined as if the Company had accounted for its employee
stock options under the fair value method of that Statement. The fair value of
these options was estimated at the date of grant using the minimum value
(derived from the Black-Scholes model) option pricing model with the following
weighted average assumptions in 1997, 1998 and 1999: risk-free interest rate of
6.20%, 6.0% and 6.0%, respectively; dividend yield of 0% for all years; and a
weighted-average life of five years.
F-15
<PAGE> 96
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
7. SHAREHOLDERS' EQUITY (CONTINUED)
For purposes of adjusted pro forma disclosures, the estimated fair value of
the options is amortized to expense over the vesting period. The Company's
adjusted pro forma information is as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------
1997 1998 1999
----------- ----------- -----------
<S> <C> <C> <C>
Adjusted pro forma net loss......................... $(4,825,506) $(6,296,500) $(3,435,570)
Adjusted pro forma basic net loss per share......... $ (8.86) $ (8.23) $ (3.05)
</TABLE>
The pro forma effect on net loss for 1997, 1998 and 1999 is not likely to
be representative of the pro forma effects on reported net income or loss in
future years because these amounts reflect less than four years of vesting.
DEFERRED STOCK COMPENSATION
In conjunction with the Company's initial public offering contemplated by
this prospectus and other events which occurred in 1999 and 2000, the Company
reviewed its exercise prices and arrived at the estimated fair value for each
option grant in 1999 and the first quarter of 2000. With respect to the grant of
stock options and sale of restricted stock to employees during the year ended
December 31, 1999 and the three months ended March 31, 2000, the Company has
recorded deferred stock compensation totaling approximately $1.0 million and
$1.4 million, respectively, representing the difference at the date of grant
between the exercise or purchase price and estimated fair value of the Company's
common stock as estimated by the Company's management for financial reporting
purposes in accordance with APB No. 25. Deferred compensation is included as a
reduction of stockholders' equity and is being amortized to expense on an
accelerated basis in accordance with Financial Accounting Standards Board
Interpretation No. 28 over the vesting period of the options and restricted
stock. During both the year ended December 31, 1999 and the three months ended
March 31, 2000, the Company recorded amortization of stock-based compensation
expense of approximately $0.3 million.
WARRANTS
In prior years, the Company has issued warrants to purchase a total of
468,522 shares of common and preferred stock in connection with convertible
bridge notes issued to investors and obligations under capital leases. The
warrants have exercise prices ranging from $.01 to $2.00 per share. The Company
determined the relative fair value of the warrants at issuance was not material;
accordingly, no value has been assigned to the warrants.
In connection with the issuance of notes payable in December 1999, the
Company issued warrants to investors to purchase a variable number of shares of
redeemable convertible preferred stock at a purchase price of $5.00 per share.
The number of shares to be issued under the warrants is determined by a formula
based on the total number of days the notes payable are outstanding subject to a
maximum allowable of 144,656 shares. As of December 31, 1999, warrants to
purchase 27,616 shares had been earned. The estimated fair value of the warrants
of $138,080 was based on using the Black Scholes valuation model and recorded as
deferred interest expense as of December 31, 1999 to be amortized ratably over
the term of the notes payable. In March 2000, the
F-16
<PAGE> 97
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
7. SHAREHOLDERS' EQUITY (CONTINUED)
Company issued additional notes payable and warrants to purchase a variable
number of shares of redeemable convertible preferred stock at a purchase price
of $5.00 per share. The number of shares is to be issued under the warrants is
determined by a formula based on the total days the warrants are outstanding
subject to a maximum allowable of 131,507 shares.
As of March 31, 2000, an additional 193,316 shares were earned for a total
of 220,932 shares available for purchase under the warrant agreements. The
estimated fair value of the warrants of $1,243,847 was based on using the Black
Scholes valuation model and was recorded as interest expense during the three
months ended March 31, 2000 as the related notes payable were converted to
equity on April 7, 2000.
COMMON SHARES RESERVED FOR FUTURE ISSUANCE
At December 31, 1999, common shares reserved for future issuance consist of
the following:
<TABLE>
<S> <C>
Conversion of convertible redeemable preferred stock........ 6,606,044
Warrants.................................................... 496,138
Stock options............................................... 1,068,237
---------
8,170,419
=========
</TABLE>
8. INCOME TAXES
At December 31, 1999, the Company had federal and California income tax net
operating loss carryforwards of approximately $14,627,000 and $10,934,000,
respectively. The difference between the federal and California tax operating
loss carryforwards is primarily attributable to the capitalization of research
and development expenses for California income tax purposes.
The federal and California tax loss carryforwards will begin to expire in
2010 and 2003, respectively, unless previously utilized. The Company also has
federal and California research tax credit carryforwards of approximately
$680,000 and $393,000, respectively, which will begin to expire in 2010 unless
previously utilized.
Pursuant to Sections 382 and 383 of the Internal Revenue Code, annual use
of the Company's net operating loss and credit carryforwards may be limited if
cumulative changes in ownership of more than 50% occur during any three year
period.
Significant components of the Company's deferred tax assets are shown
below. A valuation allowance, of which $320,000 related to 1999, has been
recognized to offset the deferred tax assets, as realization of such assets is
uncertain.
F-17
<PAGE> 98
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
8. INCOME TAXES (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1998 1999
----------- -----------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards........................ $ 5,257,000 $ 5,776,000
Research and development credits........................ 829,000 935,000
Deferred revenue........................................ 739,000 583,000
Capitalized research and development expenses........... 199,000 179,000
Other, net.............................................. 178,000 49,000
----------- -----------
Total deferred tax assets................................. 7,202,000 7,522,000
Valuation allowance for deferred tax assets............... (7,202,000) (7,522,000)
----------- -----------
Net deferred tax assets................................... $ -- $ --
=========== ===========
</TABLE>
9. RETIREMENT PLAN
In 1996, the Company established a 401(k) plan covering substantially all
employees. The Company pays all administrative fees of the plan. The plan
contains provisions allowing for the Company to declare a match up to 25% of
funds contributed to the plan by employees. There were no matching contributions
declared by the Company for the years ended December 31, 1997, 1998 and 1999.
10. SIGNIFICANT CUSTOMERS, SUPPLIERS AND FOREIGN OPERATIONS
Substantially all of the Company's operations and long-lived assets are
based in the United States. DTL located near Basel, Switzerland had long-lived
assets totalling $2,354,836 at December 31, 1999.
Major customers, responsible for 10% or more of revenues, include
collaborative partners and pharmaceutical and biotechnology companies. The
percentages of sales of each of these third party major customers to total
revenue derived from third parties for the years ended December 31, 1997, 1998
and 1999 were as follows:
<TABLE>
<CAPTION>
1997 1998 1999
---- ---- ----
<S> <C> <C> <C>
Customer A................................................. 17% 4% 22%
Customer B................................................. 16 6 --
Customer C................................................. 10 3 20
Customer D................................................. 9 23 7
</TABLE>
The Company depends on sole source suppliers for the mesh component of its
reactors, the RF tags used in its commercial products and the two dimensional
bar code tags used in its NanoKan reactors.
11. SUBSEQUENT EVENTS
ISSUANCE OF PREFERRED STOCK
On April 7, 2000, the Company issued 1,392,503 shares of Series E
redeemable convertible preferred stock at $8.00 per share in exchange for the
conversion of $6.0 million in notes payable to
F-18
<PAGE> 99
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
11. SUBSEQUENT EVENTS (CONTINUED)
shareholders and $5.0 million in cash. The Series E preferred stock has the same
conversion features as the Series A, B, C and D redeemable convertible preferred
stock (Note 6). Anytime after July 17, 2002, upon the request of at least 51% of
the holders of preferred stock, the Company shall redeem all the shares by
paying in cash an amount per share equal to $8.00 plus any declared but unpaid
dividends for holders of the redeemable convertible Series E preferred stock.
Annual dividends of $.56 per share of redeemable convertible Series E preferred
stock are payable whenever funds are legally available when, and if declared by
the Board of Directors. In the event of a liquidation of the Company, holders of
redeemable convertible Series E preferred stock are entitled to a liquidation
preference of $8.00 per share plus any declared but unpaid dividends on such
shares.
ACQUISITION OF AXYS ADVANCED TECHNOLOGIES, INC.
On April 28, 2000, the Company acquired Axys Advanced Technologies, Inc.
("AAT"), a wholly owned subsidiary of Axys Pharmaceuticals, Inc. The acquisition
was accounted for as a purchase in accordance with the provisions of APB No. 16.
The Company and Axys will make certain income tax elections so that the total
cost of the acquisition will be allocated to the income tax basis of the assets
acquired. The Company has obtained a report from Houlihan Valuation Advisors, an
independent valuation firm and performed other procedures necessary to complete
the purchase price allocation.
A summary of the AAT acquisition costs and allocation to the assets
acquired and liabilities assumed is as follows:
<TABLE>
<S> <C>
Total acquisition costs:
Cash paid at acquisition.................................. $ 50,000
Issuance of promissory note............................... 550,000
Issuance of common stock, warrant and stock options....... 59,769,000
Acquisition related expenses.............................. 250,000
-----------
$60,619,000
===========
Allocated to assets and liabilities as follows:
Tangible assets acquired.................................. $12,143,000
Assumed liabilities....................................... (2,867,000)
In-process research and development....................... 9,000,000
Assembled workforce....................................... 1,300,000
Below market value lease.................................. 1,200,000
Goodwill.................................................. 39,843,000
-----------
$60,619,000
===========
</TABLE>
The goodwill will be amortized on a straight-line basis over a period of
ten years from the date of acquisition. The assembled workforce and below market
lease intangible assets will be amortized on a straight-line basis over a period
of three and four years, respectively, from the date of acquisition.
The valuation of the in-process research and development was determined
based on a discounted cash flow analysis of projected future earnings for each
project. The revenue stream
F-19
<PAGE> 100
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AS OF MARCH 31, 2000 AND FOR THE THREE MONTHS
ENDED MARCH 31, 1999 AND 2000 IS UNAUDITED)
11. SUBSEQUENT EVENTS (CONTINUED)
from each research and development project was estimated based upon its stage of
completion as of the acquisition date. The discount rates used for the analysis
were adjusted based on the stage of completion to give effect to uncertainties
in meeting the projected cash flows. The discount rates used ranged from 20% to
40%.
Assuming that the acquisition of AAT had occurred on the first day of the
Company's fiscal year ended December 31, 1998, pro forma condensed consolidated
financial information would be as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1998 1999
----------- -----------
(UNAUDITED)
<S> <C> <C>
Revenues.......................................... $18,239,000 $27,050,000
Net loss.......................................... (6,976,000) (4,170,000)
Net loss per share, basic and diluted............. $ (0.85) $ (0.49)
</TABLE>
This pro forma information is not necessarily indicative of the actual
results that would have been achieved had AAT been acquired the first day of the
Company's fiscal year ended December 31, 1998, nor is it necessarily indicative
of future results. The above pro forma condensed financial information does not
include a $9.0 million charge for the write-off of in-process research and
development.
ACQUISITION OF STRUCTURAL PROTEOMICS, INC.
On May 5, 2000, the Company entered into agreements with Structural
Proteomics, Inc. (SPI) and its shareholders to acquire 75% of the outstanding
shares of SPI in exchange for $1,000,000 in cash and 150,000 shares of DPI
common stock. The acquisition will be accounted for as a purchase in accordance
with the provisions of APB No. 16. The pro forma results of operations as if the
acquisition of SPI had occurred on the first day of the Company's fiscal year
ended December 31, 1998 are not materially different than the reported net loss.
INITIAL PUBLIC OFFERING
In May 2000, the board of directors authorized management of the Company to
file a registration statement with the Securities and Exchange Commission
permitting the Company to sell shares of its common stock to the public. If the
initial public offering is closed under the terms presently anticipated, all of
the preferred stock outstanding at March 31, 2000 will convert into common
stock. Unaudited pro forma stockholders' equity, as adjusted for the assumed
conversion of the preferred stock, is set forth on the balance sheet. The board
of directors also approved (subject to stockholder approval) that prior to the
effective date of the Offering contemplated by this Prospectus, the Company will
reincorporate in Delaware. The financial statements and accompanying notes have
been retroactively restated to reflect the effect of the reincorporation in
Delaware.
F-20
<PAGE> 101
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
Board of Directors and Stockholders
Axys Advanced Technologies, Inc.
We have audited the accompanying balance sheets of Axys Advanced
Technologies, Inc. (a wholly-owned subsidiary of Axys Pharmaceuticals, Inc.) and
its predecessor division of Axys Pharmaceuticals, Inc. as of December 31, 1998
and 1999, and the related statements of operations, stockholder's /division
equity and cash flows for the years then ended. 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 Axys Advanced Technologies,
Inc. (a wholly-owned subsidiary of Axys Pharmaceuticals, Inc.) and its
predecessor division of Axys Pharmaceuticals, Inc. at December 31, 1998 and
1999, and the results of operations and cash flows of Axys Advanced
Technologies, Inc. (a wholly-owned subsidiary of Axys Pharmaceuticals, Inc.) and
its predecessor division of Axys Pharmaceuticals, Inc. for the years then ended,
in conformity with accounting principles generally accepted in the United
States.
ERNST & YOUNG LLP
Palo Alto, California
April 7, 2000
F-21
<PAGE> 102
AXYS ADVANCED TECHNOLOGIES, INC.
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------- MARCH 31,
1998(1) 1999(1)(2) 2000(2)
------- ---------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash..................................................... $ -- $ 60 $ 60
Accounts receivable, trade............................... 2,140 4,406 4,637
Inventories.............................................. 435 2,258 2,072
Deferred tax asset....................................... -- 2,487 2,681
------ ------- -------
Total current assets.................................. 2,575 9,211 9,450
Property and equipment, net................................ 2,510 2,756 3,083
Note receivable from officer............................... 33 75 76
------ ------- -------
$5,118 $12,042 $12,609
====== ======= =======
LIABILITIES AND STOCKHOLDER'S/DIVISION EQUITY
Current liabilities:
Deferred revenue......................................... 333 1,733 1,200
Income taxes payable..................................... -- 3,950 5,008
------ ------- -------
Total current liabilities............................. 333 5,683 6,208
Commitments
Stockholder's/division equity:
Common stock, $0.001 par value, 12,000,000 shares
authorized, 10,000,000 and 10,006,250 shares issued and
outstanding at December 31, 1999 and March 31, 2000,
respectively............................................. -- 10 10
Net contribution from Axys/additional paid-in capital...... 3,321 2,763 1,552
Accumulated/division income................................ 1,464 3,586 4,839
------ ------- -------
Total stockholder's/division equity................... 4,785 6,359 6,401
------ ------- -------
$5,118 $12,042 $12,609
====== ======= =======
</TABLE>
-------------------------
(1) Through May 31, 1999, AAT's activities were included in the operations of
Axys Pharmaceuticals, Inc. AAT's financial statements for these periods have
been prepared on a carve-out basis.
(2) From June 1999, AAT operated as a separate legal entity.
See accompanying notes
F-22
<PAGE> 103
AXYS ADVANCED TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEAR ENDED THREE MONTHS
DECEMBER 31, ENDED MARCH 31,
--------------------- ---------------------
1998(1) 1999(1)(2) 1999(1)(2) 2000(2)
------- ---------- ---------- -------
(UNAUDITED)
<S> <C> <C> <C> <C>
Revenues:
Product revenues
Sales to third parties....................... $ 8,512 $12,042 $2,962 $ 4,693
Sales to Axys................................ 363 782 210 114
------- ------- ------ -------
8,875 12,824 3,172 4,807
Licensing and other revenues.................... 3,150 1,150 333 533
------- ------- ------ -------
Total revenues............................. 12,025 13,974 3,505 5,340
Operating costs and expenses:
Cost of goods sold.............................. 3,027 3,480 758 1,132
Research and development........................ 4,674 5,062 1,095 1,474
General and administrative...................... 1,049 1,847 381 617
------- ------- ------ -------
Total operating expenses................... 8,750 10,389 2,234 3,223
------- ------- ------ -------
Income before income taxes........................ 3,275 3,585 1,271 2,117
Provision for income taxes........................ -- 1,463 -- 864
------- ------- ------ -------
Net income........................................ $ 3,275 $ 2,122 $1,271 $ 1,253
======= ======= ====== =======
Basic net income per common share................. $ 0.21 $ 0.13
======= =======
Diluted net income per common share............... $ 0.19 $ 0.11
======= =======
</TABLE>
-------------------------
(1) Through May 31, 1999, AAT's activities were included in the operations of
Axys Pharmaceuticals, Inc. AAT's financial statements for these periods have
been prepared on a carve-out basis.
(2) From June 1999, AAT operated as a separate legal entity.
See accompanying notes
F-23
<PAGE> 104
AXYS ADVANCED TECHNOLOGIES, INC.
STATEMENTS OF STOCKHOLDER'S/DIVISION EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
NET CONTRIBUTION
COMMON STOCK FROM AXYS/ADDITIONAL ACCUMULATED/
SHARES AMOUNT PAID-IN CAPITAL DIVISION INCOME
---------- ------ -------------------- ---------------
<S> <C> <C> <C> <C>
Balance at January 1, 1998......... -- $-- $ 3,736 $(1,811)
Net and comprehensive income for
the period....................... -- -- -- 3,275
Return of Axys contribution........ -- -- (415) --
---------- --- ------- -------
Balance at December 31, 1998....... -- -- 3,321 1,464
Net and comprehensive income for
the period....................... -- -- -- 2,122
Return of Axys contribution........ -- -- (558) --
Issuance of Common Stock........... 10,000,000 10 -- --
---------- --- ------- -------
Balance at December 31, 1999....... 10,000,000 10 2,763 3,586
Net and comprehensive income for
the period (unaudited)........... -- -- -- 1,253
Return of Axys Contribution
(unaudited)...................... -- -- (1,223) --
Issuance of Common Stock on
exercise of stock options
(unaudited)...................... 6,250 -- 12 --
---------- --- ------- -------
Balance at March 31, 2000
(unaudited)...................... 10,006,250 $10 $ 1,552 $ 4,839
========== === ======= =======
</TABLE>
See accompanying notes
F-24
<PAGE> 105
AXYS ADVANCED TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED THREE MONTHS
DECEMBER 31, ENDED MARCH 31,
--------------------- ---------------------
1998(1) 1999(1)(2) 1999(1)(2) 2000(2)
------- ---------- ---------- -------
(IN THOUSANDS) (UNAUDITED)
<S> <C> <C> <C> <C>
Cash flows from operating activities
Net income..................................... $ 3,275 $ 2,122 $1,271 $ 1,253
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation................................ 829 976 244 252
Deferred income taxes....................... -- (2,487) -- (194)
Forgiveness of note receivable from
officer................................... 10 -- -- --
Changes in assets and liabilities:
Accounts receivable......................... (1,376) (2,266) (821) (231)
Inventories................................. (435) (1,823) (331) 186
Notes receivable and accrued interest....... (2) (42) -- (1)
Deferred revenue............................ (1,000) 1,400 (333) (533)
Income taxes payable........................ -- 3,950 -- 1,058
------- ------- ------ -------
Net cash provided by operating activities...... 1,301 1,830 30 1,790
Cash flows from investing activities
Expenditures for property and equipment..... (886) (1,222) (16) (579)
------- ------- ------ -------
Net cash used in investing activities.......... (886) (1,222) (16) (579)
Cash flows from financing activities
(Return of capital to) Axys.................... (415) (558) (14) (1,223)
Proceeds from issuance of common stock......... -- 10 -- 12
------- ------- ------ -------
Net cash used in investing activities.......... (415) (548) (14) (1,211)
------- ------- ------ -------
Net increase in cash............................. -- 60 -- --
Cash, beginning of period........................ -- -- -- 60
------- ------- ------ -------
Cash, end of period.............................. $ -- $ 60 $ -- $ 60
======= ======= ====== =======
</TABLE>
-------------------------
(1) Through May 31, 1999, AAT's activities were included in the operations of
Axys Pharmaceuticals, Inc. AAT's financial statements for these periods have
been prepared on a carve-out basis.
(2) From June 1999, AAT operated as a separate legal entity.
See accompanying notes
F-25
<PAGE> 106
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Axys Advanced Technologies, Inc. ("AAT" or the "Company") was incorporated
in the state of Delaware on June 11, 1999 as a wholly-owned subsidiary of Axys
Pharmaceuticals, Inc. ("Axys") and commenced operations as a separate legal
entity at that time. Prior to its incorporation and since its inception, March
1, 1996, AAT operated as a division of Axys. AAT conceives, produces and sells
large numbers of diverse combinatorial chemistry libraries of drug-like
compounds, as well as more focused libraries based around a specific structure.
In addition, AAT sells the protocols which provide the basis for making the
libraries that are produced and which also provide the basis to make other
similar drug-like compounds against biological targets of interest in an effort
to identify lead compounds for their drug discovery programs. AAT also provides
its enabling technology to certain customers.
The divisional statements of operations for the year ended December 31,
1998 and the 1999 AAT statement of operations (including the pre-incorporation
period from January 1 to June 10, 1999) include all revenue and expenses
directly attributable to AAT, including a corporate allocation of the costs of
facilities, salaries, and employee benefits based on relative headcount.
Additionally, incremental corporate administration, finance, and management
costs have been allocated to AAT (see Note 9).
All of the allocations reflected in the 1998 and 1999 financial statements
are based on assumptions that management believes are reasonable under the
circumstances. However, these allocations and estimates are not necessarily
indicative of the costs that would have resulted if AAT had been operated on a
stand-alone basis.
BASIS OF PRESENTATION
The accompanying financial statements include the operations of AAT as part
of Axys (on a carved-out basis as discussed below) from its status as a division
of Axys for the year ended December 31, 1998 (the "divisional statements") and
for the period January 1 to June 10, 1999 (the pre-incorporation period) and as
a separate legal entity from its incorporation through December 31, 1999. The
balance sheet at December 31, 1998 represents the assets, liabilities, and
divisional equity of AAT as a part of Axys and at December 31, 1999 represents
the balance sheet of AAT as a separate legal entity. The divisional financial
statements have been derived from the historical books and records of Axys. The
balance sheet at December 31, 1998 includes all assets and liabilities
specifically identifiable and directly attributable to AAT, which are derived
from historical cost information of Axys and which are presented at the
carryover basis of Axys. Axys' corporate accounting systems were not designed to
track cash receipts and payments and liabilities on a business-specific basis.
INTERIM FINANCIAL INFORMATION
The financial information at March 31, 2000 and for the three months ended
March 31, 1999 and 2000 is unaudited but, in the opinion of management, has been
prepared on the same basis as the annual financial statements and includes all
adjustments (consisting only of normal recurring adjustments) that AAT considers
necessary for a fair presentation of the financial position at such date and the
operating results and cash flow for such periods. Results for the three months
ended
F-26
<PAGE> 107
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
March 31, 2000 are not necessarily indicative of the results to be expected for
any subsequent period.
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, and such
differences could be material.
INVENTORIES
Inventories are stated at the lower of cost (weighted average cost) or
market. Inventories consist of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
-------------- ---------
1998 1999 2000
---- ------ ---------
<S> <C> <C> <C>
Raw materials............................................ $ 69 $ 156 $ 181
Finished goods........................................... 366 2,102 1,891
---- ------ ------
Total.................................................. $435 $2,258 $2,072
==== ====== ======
</TABLE>
PROPERTY AND EQUIPMENT
Property and equipment are presented at historical carryover basis or cost
less accumulated depreciation. Depreciation is provided using the straight-line
method over the estimated useful lives of the respective assets. Leasehold
improvements are amortized over the term of the lease or economic useful life,
whichever is shorter. All other fixed assets have estimated useful lives ranging
from 3 to 5 years.
INCOME TAXES
Through May 31, 1999, AAT was not a separate taxable entity for federal,
state, or local income tax purposes, and its operations were included in the tax
returns of Axys. AAT has recognized income taxes under the liability method.
Deferred income taxes are recognized for differences between the financial
statement and tax basis of assets and liabilities at enacted statutory tax rates
in effect for the years in which the differences are expected to reverse. The
effect on deferred taxes of a change in tax rates is recognized in income in the
period that includes the enactment date. In addition, valuation allowances are
established when necessary to reduce deferred tax assets to the amounts expected
to be realized.
COMPREHENSIVE INCOME
AAT has adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income", which establishes standards for reporting
comprehensive income (loss) and its components in the financial statements. To
date, AAT's comprehensive income (loss) has equaled its net income (loss).
F-27
<PAGE> 108
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
REVENUE RECOGNITION
Sales of chemical compound libraries contain one or more of the following
sources of revenue:
- Product Sales: As chemical compound libraries are shipped to customers,
AAT records revenue based on the contracted price per compound.
- License Fees: Payments are generally received when compound supply or
technology license agreements are signed. These revenues are recognized
over the term of the agreement.
- Commitment Fees: Payments received in conjunction with AAT's commitment
to perform certain obligations under compound supply or technology
license agreements. These revenues are recorded over the course of the
relevant agreement, as performance obligations are completed.
RESEARCH AND DEVELOPMENT
Research and development costs are expensed as incurred and include direct
costs and research-related overhead expenses.
STOCK-BASED COMPENSATION
As permitted by Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("FAS 123"), AAT has elected to
continue to follow Accounting Principles Board Opinion No. 25 "Accounting for
Stock Issued to Employees" ("APB 25") and related interpretations in accounting
for its employee stock option and purchase plans. See Note 4 for pro forma
disclosures required by FAS 123.
SEGMENT INFORMATION
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" which establishes standards for reporting
information about operating segments in annual financial statements. The Company
has viewed its operations as one segment.
EARNINGS PER SHARE
Basic earnings per share and diluted earnings per share are presented in
conformity with Statement of Financial Accounting Standards No. 128, "Earnings
Per Share". Basic earnings per share represents net income divided by the
10,000,000 and 10,006,250 weighted-average number of common shares outstanding
during the year ended December 31, 1999 and the three month period ended March
31, 2000, respectively. Diluted earnings per share represents net income divided
by the weighted-average number of common shares outstanding during the period,
adjusted for the incremental dilution of the 984,025 and 894,479 weighted
average outstanding stock options for 1999 and 2000, respectively.
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
F-28
<PAGE> 109
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Activities" ("FAS 133") which provides a comprehensive and consistent standard
for the recognition and measurement of derivatives and hedging activities. FAS
133 is effective for fiscal years beginning after June 15, 2000. Management does
not anticipate that FAS 137 will have an impact on the Company's results of
operations or financial condition when adopted, as the Company holds no
derivative financial instruments and does not currently engage in hedging
activities.
In December 1999 the SEC issued Staff Accounting Bulletin No. 101, "Revenue
Recognition in Financial Statements" ("SAB 101"). SAB 101 requires that license
and other up-front fees be recognized over the term of the agreement unless the
fee is in exchange for products delivered or services performed that represent
the culmination of a separate earnings process. The effect of SAB 101 will not
have a material effect on AAT's prior period results.
2. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of AAT's financial instruments, including cash and
accounts receivable approximate fair value because of their short maturities.
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
---------------- MARCH 31,
1998 1999 2000
------ ------ ---------
<S> <C> <C> <C>
Machinery and equipment................................. $2,946 $3,859 $4,339
Purchased software...................................... 43 47 47
Furniture and office equipment.......................... 90 99 99
Interest in leasehold improvements...................... 2,774 3,070 3,169
------ ------ ------
5,853 7,075 7,654
Less accumulated depreciation and amortization.......... (3,343) (4,319) (4,571)
------ ------ ------
$2,510 $2,756 $3,083
====== ====== ======
</TABLE>
4. STOCKHOLDERS' EQUITY
Common stock was reserved for issuance as follows:
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 2000
------------ ---------
<S> <C> <C>
Stock options......................................... 1,765,000 1,758,750
</TABLE>
STOCK OPTIONS
Upon incorporation of AAT, the Company adopted an equity incentive plan
under which AAT grants incentive stock options or non-qualified stock options at
the discretion of the Board of Directors, to employees, directors and
consultants to purchase the Company's common stock.
The number of shares to be purchased, their price, and the terms of payment
are determined by our Board of Directors, provided that the exercise price for
incentive stock options cannot be less than the estimated fair market value on
the date of grant. The options granted generally expire
F-29
<PAGE> 110
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
ten years after the date of grant and become exercisable at such times and under
such conditions as determined by the Board of Directors (generally over a four
or five year period).
A summary of our stock option activities and related information follows:
<TABLE>
<CAPTION>
OUTSTANDING STOCK OPTIONS
---------------------------
WEIGHTED
SHARES NUMBER OF AVERAGE
AVAILABLE SHARES EXERCISE PRICE
--------- --------- --------------
<S> <C> <C> <C>
Balances at December 31, 1998........................ -- -- $ --
--------- -------- -----
Shares reserved.................................... 1,765,000 -- --
Options granted.................................... (997,025) 997,025 2.00
Options exercised.................................. -- -- --
Options canceled................................... 13,000 (13,000) 2.00
--------- -------- -----
Balances at December 31, 1999........................ 780,975 984,025 $2.00
--------- -------- -----
Options granted.................................... (23,420) 23,420 2.00
Options exercised.................................. -- (6,250) 2.00
Options canceled................................... 106,716 (106,716) 2.00
--------- -------- -----
Balances at March 31, 2000........................... 864,271 894,479 $2.00
========= ======== =====
</TABLE>
The weighted average fair value of stock options outstanding under the plan
was $0.40 in 1999 and the three months ended March 31, 2000, respectively.
At December 31, 1999 and March 31, 2000, the weighted-average contractual
life of outstanding options was 3.75 years and 3.58 years, respectively. Options
exercisable at December 31, 1999 were 35,535 at a weighted-average exercise
price of $2.00 per share and at March 31, 2000 were 80,299 at a weighed-average
exercise price of $2.00 per share.
STOCK-BASED COMPENSATION
The Company has elected to follow APB 25 and related interpretations in
accounting for its stock-based compensation plans because, as discussed below,
the alternative fair value accounting provided for under SFAS 123 requires use
of option valuation models that were not developed for use in valuing employee
stock options and employee stock-based awards. There has been no compensation
expense under APB 25 with respect to such awards.
PRO FORMA DISCLOSURES
Pro forma information regarding net income and net income per share is
required by FAS 123, and has been determined as if the Company had accounted for
its stock-based awards under the fair value method of FAS 123. The fair value
for these stock-based awards was estimated at the date of grant using a
Black-Scholes option-pricing model. The Black-Scholes option valuation model was
developed for use in estimating the fair value of traded options, which have no
vesting restrictions and are fully transferable. In addition, option valuation
models require the input of highly subjective assumptions including the expected
stock price volatility. Because the Company's stock-based awards have
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of the Company's
stock-based awards to its employees.
F-30
<PAGE> 111
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The fair value of the Company's stock-based awards to employees was
estimated assuming no expected dividends, expected life of 4.0 years, expected
volatility of 0.65, and a risk-free interest rate of 5.58%.
For purposes of pro forma disclosures, the estimated fair value of the
stock-based awards are amortized to pro forma net income over the option's
vesting period. The Company's as reported and pro forma information follows (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 2000
------------ ---------
<S> <C> <C>
Net income
As reported............................................... $2,122 $1,253
Pro forma................................................. 2,098 1,230
Net income per common share -- basic
As reported............................................... $ 0.21 $ 0.13
Pro forma................................................. 0.21 0.13
Net income per common share -- diluted
As reported............................................... $ 0.19 $ 0.11
Pro forma................................................. 0.19 0.11
</TABLE>
5. COMMITMENTS
LEASES
The Company occupies office space and laboratory facilities currently
leased from Axys. The rent expense allocated by Axys to AAT is based on the
square footage of office and laboratory space occupied by AAT and was $254,900,
$289,600 and $75,000 for the year ended December 31, 1998 and 1999 and for the
three months ended March 31, 2000, respectively.
Effective January 2000, AAT entered into a sub-lease agreement with Axys
related to the office and laboratory space occupied by AAT. Future minimum lease
payments under the sub-lease arrangement with Axys are as follows (in
thousands):
<TABLE>
<S> <C>
2000........................................................ $ 301,185
2001........................................................ 313,226
2002........................................................ 325,756
2003 and thereafter......................................... 309,522
----------
Total minimum lease payments.............................. $1,249,689
==========
</TABLE>
RESEARCH AND DEVELOPMENT AGREEMENT
In December 1999, the Company entered into a combinatorial chemistry
agreement with a third party whereby AAT is obligated to deliver certain
compounds in connection with the collaborative research and development efforts.
In the event the collaborative agreement results in a marketable product, the
companies will share in revenues generated from the marketable product. The
compounds have an estimated cost of $440,000 and are to be delivered through
September 2000. There were no compound shipments for the year ended December 31,
1999. Inventory with a cost of $122,000 was shipped to the third party during
the three months ended March 31, 2000 and AAT recorded research and development
costs associated with the inventory shipped.
F-31
<PAGE> 112
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. EMPLOYEE BENEFIT PLAN
Axys maintains a 401(k) retirement savings plan that includes all eligible
employees of AAT. Each participant in the plan may elect to contribute 1% to 20%
of his or her annual salary to the plan, subject to statutory limitations. Axys
matches 50% of the first 6% of the salary contributed by the employee. Axys'
match is done with Axys stock. The related expense allocated by Axys and charged
to AAT operations relative to AAT employees was $47,444 and $68,370 for the
years ended December 31, 1998 and 1999, respectively. There was no expense for
the three months ended March 31, 2000.
7. INCOME TAXES
The net income incurred for the year ended December 31, 1998 and the
pre-incorporation period to June 10, 1999 are attributable to the operations of
the Company as a division of Axys and were included in the income tax returns
filed by Axys. Because the Company will not receive any benefit for historical
operating losses incurred by Ayxs through the pre-incorporation period, no
income tax benefit has been reflected for those periods. AAT has recognized
income taxes under the liability method.
The provision for income taxes shown in the accompanying statement of
operations for the period ended December 31, 1999 and for the three months ended
March 31, 2000 consist of the following (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED THREE MONTHS
DECEMBER 31, ENDED MARCH 31,
1999 2000
------------ ---------------
<S> <C> <C>
Current:
Federal................................... $ 3,093 $ 828
State..................................... 857 230
------- ------
Totals................................. 3,950 1,058
------- ------
Deferred:
Federal................................... (1,947) (152)
State..................................... (540) (42)
------- ------
Totals................................. (2,487) (194)
------- ------
Totals................................. $ 1,463 $ 864
======= ======
</TABLE>
The effective rate of the provision for income taxes reconciles to the
amount computed by applying the federal statutory rate to income before
provision for income taxes as follows (in thousands):
<TABLE>
<CAPTION>
JUNE 11, 1999, THREE MONTHS
DATE OF INCORPORATION, ENDED MARCH 31,
TO DECEMBER 31, 1999 2000
---------------------- ---------------
<S> <C> <C>
Income before income taxes.................... $3,575 $2,117
------ ------
Expected tax at 35%........................... 1,251 741
State income tax, net of federal benefit...... 206 122
Other......................................... 6 1
------ ------
Total tax..................................... $1,463 $ 864
====== ======
Effective tax rate............................ 41% 41%
</TABLE>
F-32
<PAGE> 113
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Deferred income taxes are recognized for differences between the financial
statements and tax basis of assets and liabilities at enacted statutory tax
rates in effect for the years in which the differences are expected to reverse.
The effect on deferred taxes of a change in tax rates is recognized in income in
the period that includes the enactment date. In addition, valuation allowances
are established when necessary to reduce deferred tax assets to the amount
expected to be realized. Significant components of net deferred tax assets at
December 31, 1999 and March 31, 2000 consist of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 2000
------------ ---------
<S> <C> <C>
Deferred Tax Assets Inventory reserves.................... $2,555 $2,740
Accrued compensation.................................... 121 144
------ ------
2,676 2,884
Deferred tax allowance............................... -- --
------ ------
Total deferred tax assets............................ 2,676 2,884
------ ------
Deferred Tax Liabilities State income tax................. 189 203
------ ------
Net deferred tax asset............................... $2,487 $2,681
====== ======
</TABLE>
8. REVENUES FROM SIGNIFICANT PARTNERS AND CUSTOMERS
Major customers, responsible for 10% or more of revenues, include drug
discovery partners and pharmaceutical and biotechnology companies that purchase
AAT compound libraries. The percentages of sales of each of these third party
major customers to total revenue derived from third parties for the year ended
December 31, 1998 and 1999 and for the three months ended March 31, 2000 were as
follows:
<TABLE>
<CAPTION>
1998 1999 2000
---- ---- ----
<S> <C> <C> <C>
Customer A................................................. 26% 9% --%
Customer B................................................. 58 45 23
Customer C................................................. 14 13 5
Customer D................................................. -- 14 29
Customer E................................................. -- 7 15
Customer F................................................. -- -- 28
All Others................................................. 2 12 --
--- --- ---
Total...................................................... 100% 100% 100%
=== === ===
</TABLE>
As of December 31, 1998 and 1999 and March 31, 2000, two, three and four
customers comprised 98%, 72% and 86%, respectively, the accounts receivable
balances. AAT does not require collateral for potential credit losses. These
losses have been immaterial to date.
9. RELATED PARTY TRANSACTIONS OF AAT
TRANSFER OF INVENTORIES
In connection with Axys research and development efforts, AAT transferred
inventory, at cost, to Axys. The inventory transfers were $363,000 $782,000,
$210,000 and $114,000 for the year ended December 31, 1998 and 1999 and for the
three months ended March 31, 1999 and 2000, respectively. These amounts are
included in product revenues and cost of goods sold.
F-33
<PAGE> 114
AXYS ADVANCED TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FUNDING
AAT utilizes Axys' centralized cash management services and processes
related to receivables, payables, payroll, and other activities. AAT's net cash
requirements are funded by Axys. Net financing provided by Axys to AAT in 1997
was approximately $3,736,000. The Company returned approximately $415,000,
$558,000 and $1,223,000 of Axys' contributions in 1998, 1999 and as of March 31,
2000, respectively. These amounts are included in division equity. Amounts
financed by Axys did not bear interest. The average balance due to Axys
Pharmaceuticals, Inc. was $3.5 million and $3.0 million for the years ended
December 31, 1998 and 1999, respectively.
CORPORATE SERVICES
In accordance with the Staff Accounting Bulletin No. 55, expense
allocations have been reflected in these financial statements. These expenses
include corporate communications, management compensation and benefits
administration, payroll, accounts payable, income tax compliance, and other
administration and finance overhead. Allocations and charges were based on
either a direct cost pass-through for incremental corporate administration,
finance and management costs and a percentage allocation of costs for other
services provided based on factors such as headcount and relative expenditure
levels. Such allocations and charges totaled approximately $3,229,000 $3,147,000
and $636,000 for the years ended December 31, 1998 and 1999 and for the three
months ended March 31, 2000, respectively. Management believes that the basis
used for allocating corporate services is reasonable. However, the terms of
these transactions may differ from those that would have resulted from
transactions among unrelated parties.
10. SUBSEQUENT EVENTS (UNAUDITED)
On April 28, 2000 Axys consummated a definitive agreement with Discovery
Partners International, Inc. ("DPI") to merge AAT with a subsidiary of DPI.
F-34
<PAGE> 115
DISCOVERY PARTNERS INTERNATIONAL, INC.
UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
INTRODUCTION
On April 28, 2000, Discovery Partners International, Inc. ("DPI") completed
the acquisition of Axys Advanced Technologies, Inc. ("AAT").
The unaudited pro forma combined condensed financial statements which
follow have been prepared by DPI based upon the historical financial statements
of DPI and AAT, and may not be indicative of the results that may have actually
occurred if the combination had been in effect on the date indicated or for the
periods presented or which may be obtained in the future. The unaudited pro
forma combined condensed statements of operations includes the statements of
operations of both DPI and AAT for the year ended December 31, 1999 and the
three months ended March 31, 2000. The pro forma combined condensed financial
statements should be read in conjunction with the audited financial statements
and notes of DPI and AAT included elsewhere in the Prospectus.
The unaudited pro forma combined condensed statements of operations for the
year ended December 31, 1999 and the three months ended March 31, 2000 assume
the purchase of AAT had been consummated on January 1, 1999. The pro forma
information is based on the historical financial statements of DPI and AAT
giving effect to the transaction under the purchase method of accounting and the
assumptions and adjustments in the accompanying footnotes.
F-35
<PAGE> 116
DISCOVERY PARTNERS INTERNATIONAL, INC.
UNAUDITED PRO FORMA COMBINED CONDENSED BALANCE SHEETS
MARCH 31, 2000
(IN THOUSANDS)
<TABLE>
<CAPTION>
DISCOVERY AXYS
PARTNERS ADVANCED PRO FORMA COMBINED
INTERNATIONAL, INC. TECHNOLOGIES, INC. ADJUSTMENTS PRO FORMA
------------------- ------------------ ----------- ---------
<S> <C> <C> <C> <C>
ASSETS
Current assets:
Cash......................................... $ 984 $ 60 $ (50)(c) $ 994
Accounts receivables, net.................... 3,082 4,637 -- 7,719
Inventory.................................... 2,463 2,072 4,428(c) 8,963
Prepaid and other current assets............. 365 2,681 (2,681)(c) 365
-------- ------- -------- --------
Total current assets....................... 6,894 9,450 1,697 18,041
Property and equipment, net.................... 5,296 3,083 -- 8,379
Restricted cash and cash equivalents and other
assets....................................... 2,430 76 -- 2,506
Patent and license rights, net................. 1,079 -- -- 1,079
Intangible assets, net......................... 6,051 -- 38,463(c) 44,514
-------- ------- -------- --------
Total assets............................... $ 21,750 $12,609 $ 40,160 $ 74,519
======== ======= ======== ========
LIABILITIES, REDEEMABLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable and accrued expenses........ $ 2,030 $ -- $ 250(e) $ 2,280
Income taxes payable......................... -- 5,008 (5,008)(c) --
Current portion of obligations under capital
leases and notes payable................... 202 -- -- 202
Line of credit............................... 763 -- -- 763
Deferred revenue............................. 1,849 1,200 -- 3,049
Notes payable to shareholders................ 6,000 -- 550(c) 6,550
-------- ------- -------- --------
Total current liabilities.................. 10,844 6,208 (4,208) 12,844
Obligations under capital leases and equipment
notes payable, less current portion.......... 936 -- -- 936
Deferred rent.................................. 55 -- -- 55
Long-term debt................................. 1,569 -- -- 1,569
Redeemable convertible preferred stock......... 27,907 -- -- 27,907
Stockholders' equity (deficit)
Preferred stock.............................. -- -- -- --
Common stock................................. 2 10 (10)(a) 9
7(c)
Additional paid-in capital................... 4,016 1,552 (1,552)(a) 63,778
4,047(c)
55,715(c)
Deferred compensation........................ (1,824) -- -- (1,824)
Note receivable from stockholder............. (240) -- -- (240)
Accumulated other comprehensive loss......... (152) -- -- (152)
Accumulated income (deficit)................. (21,363) 4,839 (4,839)(b) (21,363)
(9,000)(d) (9,000)
-------- ------- -------- --------
Total stockholders' equity (deficit)....... (19,561) 6,401 44,368 31,208
-------- ------- -------- --------
Total liabilities, redeemable preferred
stock and stockholders' equity
(deficit)................................ $ 21,750 $12,609 $ 40,160 $ 74,519
======== ======= ======== ========
</TABLE>
(a) Elimination of existing AAT common stock and additional paid-in capital.
(b) Elimination of AAT's accumulated income.
(c) Issuance of cash of $50,000, issuance of promissory notes to AAT
shareholders of $550,000, assumption by DPI of options to purchase common
stock of DPI with a value of $3,237,000, issuance of a warrant to purchase
200,000 shares of DPI common stock valued at $810,000, and issuance of DPI
common stock valued at $55,722,000. Adjustment to record the net assets of
AAT at fair value including a portion of the total purchase price to
assembled workforce and below market lease and with costs in excess of net
assets acquired allocated to goodwill. The Company obtained a report from an
independent valuation firm and performed other procedures to enable it to
obtain all information necessary to complete the purchase price allocation.
(d) Write-off of AAT's in-process research and development.
(e) Accrue estimated acquisition costs to be paid by DPI.
See accompanying notes to unaudited pro forma combined condensed financial
statements.
F-36
<PAGE> 117
DISCOVERY PARTNERS INTERNATIONAL, INC.
UNAUDITED PRO FORMA COMBINED CONDENSED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1999
(IN THOUSANDS EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
DISCOVERY AXYS
PARTNERS ADVANCED PRO FORMA COMBINED
INTERNATIONAL, INC. TECHNOLOGIES, INC. ADJUSTMENTS PRO FORMA
------------------- ------------------ ----------- -----------
<S> <C> <C> <C> <C>
Revenues............................. $13,076 $13,974 $ -- $ 27,050
Cost of revenues..................... 8,235 3,480 242(b) 11,957
------- ------- ------- -----------
Gross margin.................... 4,841 10,494 (242) 15,093
Cost and expenses:
Research and development............. 3,538 5,062 359(b) 8,959
Selling, general and
administrative..................... 4,439 1,847 132(b) 6,418
Amortization of goodwill............. -- -- 3,596(a) 3,596
Amortization of deferred
compensation....................... 311 -- -- 311
------- ------- ------- -----------
Total operating expenses........ 8,288 6,909 4,087 19,284
------- ------- ------- -----------
Income (loss) from operations........ (3,447) 3,585 (4,329) (4,191)
Interest income, net................. 211 -- (56)(f) 155
Other expense........................ (134) -- -- (134)
Provision for income taxes........... -- (1,463) 1,463(c) --
------- ------- ------- -----------
Net income (loss).................... $(3,370) $ 2,122 $(2,922) $ (4,170)(d)
======= ======= ======= ===========
Net loss per share, basic and
diluted............................ $ (0.49)(e)
===========
Shares used in the calculation of
historical net loss per share,
basic and diluted.................. 8,554,681
===========
Pro forma net loss per share, basic
and diluted........................ $ (0.28)(e)
===========
Shares used in the calculation of pro
forma net loss per share, basic and
diluted............................ 15,158,461
===========
</TABLE>
-------------------------
(a) Adjustment to reflect the twelve-month amortization of goodwill based on the
allocation of the assumed purchase price.
(b) Adjustment to reflect the twelve-month amortization of assembled workforce
and below market lease based on the allocation of the assumed purchase
price.
(c) Adjustment to eliminate the provision for income taxes recorded by AAT due
to the loss from operations generated by the pro forma adjustments.
(d) The pro forma combined statement of operations does not include a $9.0
million charge for the write-off of in process research and development that
will be recorded on April 28, 2000, the closing date of the acquisition of
AAT.
(e) Net loss per share, basic and diluted is based on DPI's weighted average
common shares outstanding, after giving effect to the issuance of shares of
DPI's common stock used to complete the acquisition as if such issuance had
occurred at the beginning of the periods. Pro forma net loss per share,
basic and diluted also includes the assumed conversion of all of DPI's
outstanding shares of redeemable preferred stock as of their original dates
of issuance.
(f) Adjustment to record interest expense for the issuance of promissory notes
of $550,000 with an interest rate of 8% and the reduction of interest income
at an interest rate of 4% due to $50,000 in cash paid to shareholders of AAT
and $250,000 in cash paid for estimated acquisition costs.
See accompanying notes to unaudited pro forma combined condensed financial
statements.
F-37
<PAGE> 118
DISCOVERY PARTNERS INTERNATIONAL, INC.
UNAUDITED PRO FORMA COMBINED CONDENSED STATEMENT OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31, 2000
(IN THOUSANDS EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
DISCOVERY AXYS
PARTNERS ADVANCED PRO FORMA COMBINED
INTERNATIONAL, INC. TECHNOLOGIES, INC. ADJUSTMENTS PRO FORMA
------------------- ------------------ ----------- -----------
<S> <C> <C> <C> <C>
Revenues............................. $ 5,173 $5,340 $ -- $ 10,513
Cost of revenues..................... 3,053 1,132 60(b) 4,245
------- ------ ------- -----------
Gross margins................... 2,120 4,208 (60) 6,268
Cost and expenses:
Research and development............. 619 1,474 90(b) 2,183
Selling, general and
administrative..................... 1,519 617 33(b) 2,169
Amortization of goodwill............. 155 -- 899(a) 1,054
Amortization of deferred
compensation....................... 264 -- -- 264
------- ------ ------- -----------
Total operating expenses........ 2,557 2,091 1,022 5,670
------- ------ ------- -----------
Income (loss) from operations........ (437) 2,117 (1,082) 598
Interest expense, net................ (1,322) -- (14)(f) (1,336)
Other income......................... 129 -- -- 129
Provision for income taxes........... -- (864) 411(c) (453)
======= ====== ======= ===========
Net income (loss).................... $(1,630) $1,253 $ (685) $ (1,062)(d)
======= ====== ======= ===========
Historical net loss per share, basic
and diluted........................ $ (0.12)(e)
===========
Shares used in the calculation of
historical net loss per share,
basic and diluted.................. 8,753,501
===========
Pro forma net loss per share, basic
and diluted........................ $ (0.07)(e)
===========
Shares used in the calculation of pro
forma net loss per share, basic and
diluted............................ 15,368,330
===========
</TABLE>
-------------------------
(a) Adjustment to reflect the three-month amortization of goodwill based on the
allocation of the assumed purchase price.
(b) Adjustment to reflect the three-month amortization of assembled workforce
and below market lease based on the allocation of the assumed purchase
price.
(c) Adjustment to reduce the provision for income taxes recorded by AAT by DPI's
tax rate of 41% due to the loss from operations generated by the pro forma
adjustments.
(d) The pro forma combined statement of operations does not include a $9.0
million charge for the write-off of in process research and development that
will be recorded on April 28, 2000, the closing date of the acquisition of
AAT.
(e) Net loss per share, basic and diluted, is based on DPI's weighted average
common shares outstanding, after giving effect to the issuance of shares of
DPI's common stock used to complete the acquisition as if such issuance had
occurred at the beginning of the periods. Pro forma net loss per share,
basic and diluted, also includes the assumed conversion of all of DPI's
outstanding shares of redeemable preferred stock as of their original dates
of issuance.
(f) Adjustment to record interest expense for the issuance of promissory notes
of $550,000 with an interest rate of 8% and the reduction of interest income
at an interest rate of 4% due to $50,000 in cash paid to shareholders of AAT
and $250,000 in cash paid for estimated acquisition costs.
See accompanying notes to unaudited pro forma combined condensed financial
statements.
F-38
<PAGE> 119
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO UNAUDITED PRO FORMA COMBINED CONDENSED
FINANCIAL STATEMENTS
(IN THOUSANDS)
NOTE 1.
The unaudited pro forma combined condensed financial statements reflect the
acquisition of Axys Advanced Technologies, Inc. ("AAT") by Discovery Partners
International, Inc. ("DPI") for a purchase price of approximately $60.6 million
consisting of cash, notes payable and common stock in April 2000 (see Note 4).
NOTE 2.
The unaudited pro forma combined condensed balance sheet combines DPI's
March 31, 2000 unaudited balance sheet with AAT's March 31, 2000 unaudited
balance sheet.
NOTE 3.
The unaudited pro forma combined condensed statement of operations for the
three months ended March 31, 2000 combines DPI's unaudited statement of
operations for the three months ended March 31, 2000 with AAT's unaudited
statement of operations for the three months ended March 31, 2000. The unaudited
pro forma combined condensed statement of operations for the year ended December
31, 1999 combines DPI's audited statement of operations for the year ended
December 31, 1999 with AAT's audited statement of operations for the year ended
December 31, 1999. The unaudited pro forma combined condensed statements of
operations have been prepared by DPI based upon the historical financial
statements of DPI and AAT, and may not be indicative of the results that may
have actually occurred if the combination had been in effect on the date
indicated or the periods presented or which may be obtained in the future. The
pro forma combined condensed financial statements should be read in conjunction
with the audited financial statements and notes of DPI and AAT included
elsewhere in the Prospectus.
NOTE 4.
Upon the consummation of the acquisition, DPI acquired all of the common
stock of AAT in exchange for 7,429,641 shares of common stock of DPI, the
assumption by DPI of options to acquire up to 703,259 additional shares of DPI
common stock at a weighted average exercise price of $2.72 per share, the
issuance of a warrant to purchase 200,000 shares of DPI common stock, the
issuance of cash totaling $50,000 and the issuance of promissory notes totaling
$550,000. The purchase price is calculated to be $60,619,000 based on the fair
market value of $7.50 per share of DPI common stock. The purchase price also
includes estimated merger costs of $250,000 and assumed liabilities of
$1,200,000. The purchase price for purposes of the unaudited pro forma combined
condensed
F-39
<PAGE> 120
DISCOVERY PARTNERS INTERNATIONAL, INC.
NOTES TO UNAUDITED PRO FORMA COMBINED CONDENSED
FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS)
NOTE 4. (CONTINUED)
financial statements was allocated as follows based upon the valuation of the
tangible and intangible assets at March 31, 2000, including acquired in-process
research and development:
<TABLE>
<S> <C>
Total acquisition costs:
Cash paid at acquisition.................................. $ 50,000
Issuance of promissory note............................... 550,000
Issuance of common stock, warrant and stock options....... 59,769,000
Acquisition related expenses.............................. 250,000
-----------
$60,619,000
===========
Allocated to assets and liabilities as follows:
Tangible assets acquired.................................. $14,356,000
Assumed liabilities....................................... (1,200,000)
In-process research and development....................... 9,000,000
Assembled workforce....................................... 1,300,000
Below market value lease.................................. 1,200,000
Goodwill.................................................. 35,963,000
-----------
$60,619,000
===========
</TABLE>
NOTE 5.
The allocation of the purchase price was applied to the historical balance
sheet and historical statements of operations of DPI and AAT to arrive at the
unaudited pro forma combined condensed balance sheet at March 31, 2000 and
statement of operations for the year ended December 31, 1999 and the three
months ended March 31, 2000. Adjustments were made to record the net assets of
AAT at their fair value including a portion of the total purchase price to
assembled work force and below market lease and costs in excess of net assets
acquired were allocated to goodwill. The Company obtained a report from Houlihan
Valuation Advisors, an independent valuation firm, and performed other
procedures to enable it to obtain all information necessary to complete the
purchase price allocation.
The valuation of the in-process research and development charge of $9.0
million was determined based on a discounted cash flow analysis of projected
future earnings for each project currently in process. The revenue stream from
each research and development project was estimated based upon its stage of
completion as of the acquisition date. There are 83 research projects in process
related to the development of compound libraries which are to be completed over
the next twelve months and at an estimated cost of $3.7 million. The discount
rates used to determine the in-process research and development charge were
based on the stage of completion of the projects to give effect to uncertainties
in meeting the projected cash flows. The discount rates used in the discounted
cash flow analysis ranged from 20% to 40%.
F-40
<PAGE> 121
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
5,000,000 SHARES
[LOGO]
COMMON STOCK
------------------------
PROSPECTUS
------------------------
CHASE H&Q LEHMAN BROTHERS
UBS WARBURG LLC
------------------------
JULY 27, 2000
------------------------
YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. WE
HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH INFORMATION DIFFERENT FROM THAT
CONTAINED IN THIS PROSPECTUS. WE ARE OFFERING TO SELL, AND SEEKING OFFERS TO
BUY, COMMON SHARES ONLY IN JURISDICTIONS WHERE OFFERS AND SALES ARE PERMITTED.
THE INFORMATION CONTAINED IN THIS PROSPECTUS IS ACCURATE ONLY AS OF THE DATE OF
THIS PROSPECTUS, REGARDLESS OF THE TIME OF DELIVERY OF THIS PROSPECTUS OR OF ANY
SALE OF OUR COMMON SHARES.
NO ACTION IS BEING TAKEN IN ANY JURISDICTION OUTSIDE THE UNITED STATES TO
PERMIT A PUBLIC OFFERING OF THE COMMON SHARES OR POSSESSION OR DISTRIBUTION OF
THIS PROSPECTUS IN THAT JURISDICTION. PERSONS WHO COME INTO POSSESSION OF THIS
PROSPECTUS IN JURISDICTIONS OUTSIDE THE UNITED STATES ARE REQUIRED TO INFORM
THEMSELVES ABOUT AND TO OBSERVE ANY RESTRICTIONS AS TO THIS OFFERING AND THE
DISTRIBUTION OF THIS PROSPECTUS APPLICABLE TO THAT JURISDICTION.
UNTIL AUGUST 21, 2000 (THE 25TH DAY AFTER COMMENCEMENT OF THIS OFFERING),
ALL DEALERS THAT BUY, SELL OR TRADE IN OUR COMMON SHARES, 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.
--------------------------------------------------------------------------------
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