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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
FOR THE FISCAL YEAR ENDED: AUGUST 31, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED].
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 0-10824
GENOME THERAPEUTICS CORP.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
MASSACHUSETTS 04-2297484
(State or other jurisdiction of incorporation or (IRS employer identification number)
organization)
100 BEAVER STREET, WALTHAM, MASSACHUSETTS 02453
(Address of principal executive offices) (Zip Code)
</TABLE>
REGISTRANT'S TELEPHONE NUMBER: (781) 398-2300
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $.10 PAR VALUE
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [X]
The aggregate market value of the voting stock held by non-affiliates of
the registrant as of November 10, 2000 was approximately $351,556,371
The number of shares outstanding of the registrant's common stock as of
November 10, 2000 was 22,283,611
Documents Incorporated By Reference
Portions of the registrant's proxy statement for use at its Annual Meeting
to be held on February 27, 2001 are incorporated by reference into Part III.
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PART I
ITEM 1. BUSINESS
OVERVIEW
We are a leader in the commercialization of genomics-based drug discovery.
Through the identification of genes and the characterization of the function of
those genes, we are seeking to accelerate the discovery and development of
products to treat and diagnose a number of diseases. The United States
government has selected us to participate in a number of government sponsored
gene discovery programs, including the Human Genome Project, and the Rat Genome
Sequencing Program. Our depth of experience in the genomics field permits us to
be a leader in creating industrial scale genomics tools for product development.
Our tools include:
- high-throughput sequencing
- sequence finishing
- bioinformatics
- functional genomics
- assay development
We have combined our genomics tools into an integrated platform of highly
automated technologies which allows us to rapidly generate high quality genomic
information that we use to identify and validate targets for the development of
new therapeutic and diagnostic products.
We concentrate our product discovery efforts in two principal areas: human
diseases believed to have a significant genetic component and infectious
diseases caused by pathogens, including bacteria and fungi. We are pursuing the
discovery of products based on our genomic discoveries both through strategic
alliances with corporate partners and through internal research programs. In the
area of human diseases, we have alliances with Wyeth-Ayerst to develop
treatments for osteoporosis and with Schering-Plough to develop treatments for
asthma. In the area of infectious diseases, we have ongoing collaborations with
Schering-Plough to develop treatments for drug resistant bacterial infections,
including Staph. aureus, and to develop novel anti-fungals. We have partnered
with AstraZeneca to develop treatments for ulcers caused by H. pylori. We have
also partnered with bioMerieux to develop diagnostics for infectious diseases.
As part of our emerging businesses, we are continuing to invest in our internal
infectious disease franchise and build our pharmacogenomics program. We have a
collaboration with ArQule, Inc. to screen and optimize compounds utilizing a
number of validated anti-infective targets from our PathoGenome(TM) Database.
In addition to our drug discovery programs, we have the GTC Sequencing
Center that provides industrial scale, high quality customized sequencing
services to pharmaceutical companies, biotechnology companies, and research
institutions on a contract basis. Since the launch of the GTC Sequencing Center
in July 1999, we have entered into many sequencing contracts with pharmaceutical
and biotechnology companies and other research institutions, in addition to our
work in the United States government's genomics programs. We are also seeking to
increase access to our PathoGenome Database beyond our initial six subscribers
by making it available to a broader spectrum of users. As an example, in April
2000, we entered into a collaboration with Compugen Inc.'s LabOnWeb.com to
establish Internet-based access to our PathoGenome(TM) Database.
SCIENTIFIC BACKGROUND
Genes define the inherited characteristics of an organism and are found in
all living cells, including human, animal and pathogen cells. Each gene is
responsible for producing a specific protein that performs a specific biological
function in the body. A variety of factors cause human disease, including
genetic defects, pathogens and environmental factors, with many of the most
common life threatening and chronic diseases believed to have a genetic
component. Genetic defects in humans may lead to overproduction or
underproduction of proteins, resulting in disease. Consequently, the
identification and characterization of genes and the
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proteins associated with these genes may lead to new therapies and diagnostic
tests. In the case of diseases caused by pathogens, the identification and
characterization of the genes essential to the survival of the pathogen may lead
to the development of new drugs and vaccines to combat the pathogen. An
individual's genetic makeup may also predetermine his or her susceptibility to
types of treatments or specific drugs. This genomic profile may permit the
application of pharmacogenomics to optimize the efficacy or minimize the
toxicity of novel or existing drugs.
While efforts to identify and characterize the genes responsible for
various diseases by the Human Genome Project and genomics companies have
resulted in the generation of tremendous amounts of gene sequence and other
genetic information, the discovery of new products based on this information has
been limited. The U.S. government and several private companies spent enormous
resources to complete the entire human genomic sequence containing over 100,000
gene pairs. This has led to a further effort to identify those genetic
abnormalities or mutations that have a relationship to a specific disease state.
These mutations add millions of potential genetic sequence combinations to the
universe of potential drug targets. Identifying genes that cause or are
associated with a specific disease and determining how those genes contribute to
the disease is a formidable challenge. Therefore, industrialized discovery
technologies that can convert this large amount of genomic data into actual drug
candidates is critical to translate these early-stage discoveries into actual
treatments for human disease.
An integrated suite of technologies, tools and data management and analysis
capabilities is required to bridge this gap between data inputs and drug
candidates. We have designed an integrated platform of highly automated,
industrial scale technologies that permits us to rapidly analyze and draw
conclusions from high quality genomic information. Our approach will allow us
and our collaborators to effectively use genomic information to identify and
validate targets that will then be successfully developed into novel
therapeutics and diagnostic products.
OUR STRATEGY
We intend to use our integrated suite of genomics technologies to
accelerate drug discovery both in our internal research programs and those of
our collaborators. The key elements of our strategy include:
Establish and Expand Alliances with Industry Leaders in Specific Diseases
We believe our current alliances with Wyeth-Ayerst, Schering-Plough,
AstraZeneca, and bioMerieux, all industry leaders in their fields, provide us
the best opportunity to convert our genomics expertise into product
opportunities. We have met or exceeded our development schedule with all of our
collaborators and will continue to deliver high quality genomic information on a
timely basis to our collaborators. We will also seek to expand these alliances.
We will also seek to enter into additional alliances with partners that have
franchises in the treatment of major disease indications. We believe companies
that have major research efforts and/or commercial products focused on a
particular disease will be motivated to utilize genomic information to develop
novel products that will allow them to maintain their market leadership
position.
Use our Contract Sequencing Business to Generate Near-Term Revenue and Build
Relationships with Potential Collaborators
Our reputation for rapid, high quality sequencing has been recognized by
the U.S. government, which selected us as one of ten U.S. centers for the Human
Genome Project and one of two primary centers for the Rat Genome Sequencing
Program; we are the only commercial entity involved in these projects. In order
to leverage fully our sequencing capabilities, in July 1999 we launched the GTC
Sequencing Center to provide high quality, industrial scale customized
sequencing services to pharmaceutical and biotechnology companies on a contract
basis. We intend to use our contract sequencing business to generate near-term
revenues and as an opportunity to familiarize customers with our genomics
capabilities. In this way, our customized sequencing business may permit us to
broaden our business relationships with our biotechnology and pharmaceutical
customers, extending our relationships into more comprehensive strategic
alliances.
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Leverage PathoGenome Database
We intend to maximize the potential of our PathoGenome Database. In 1997,
we introduced the PathoGenome Database, a database containing both proprietary
and publicly available genetic information on over thirty microbial organisms.
To date we have commercialized the PathoGenome Database through non-exclusive
subscriptions to pharmaceutical companies, including Aventis (formerly known as
Hoechst Marion Roussel), Bayer, Bristol-Myers Squibb, Schering-Plough and
Scriptgen Pharmaceuticals. Going forward, we intend to increase access to the
PathoGenome Database by making it available to a larger universe of scientific
and other users. In April 2000, we entered into a collaboration with Compugen
Inc.'s LabOnWeb.com to establish Internet-based access to our PathoGenome(TM)
Database. We believe this will increase the value of the PathoGenome Database by
enhancing our exposure to scientific and pharmaceutical researchers and
solidifying our reputation as a leader in pathogen genomics.
Expand Internal Development Programs in Pharmacogenomics and Infectious
Diseases
Pharmacogenomics (Drug Rescue(TM))
We intend to form alliances with pharmaceutical and biotechnology companies
to use our integrated platform of technologies to detect genetic variations that
affect individual drug response. We believe that our technology will allow us
both to select the best leads for drug development and to "rescue" drugs that
have floundered.
Infectious Diseases
In the field of infectious diseases, we plan to expand our internal
program, utilizing our collaboration with ArQule, to pursue leads for novel
drugs based upon proprietary validated targets resulting from our genomic
research.
PHARMACEUTICAL AND DIAGNOSTIC PROGRAMS
We are building on our experience and knowledge in high-throughput
sequencing, bioinformatics, disease gene identification and functional genomics
to identify and characterize genes that we believe will lead to discoveries of
new or improved drugs, vaccines or diagnostic products that represent
significant commercial opportunities. The following table describes our existing
collaborations with pharmaceutical companies to develop drugs to treat human and
infectious diseases and to develop infectious disease diagnostics.
PHARMACEUTICAL AND DIAGNOSTIC PRODUCT PROGRAMS
<TABLE>
<CAPTION>
PARTNER PROCEEDS RECEIVED AS
DISEASE INDICATION (DATE OF AGREEMENT) STATUS OF ALLIANCE OF AUGUST 31, 2000 POTENTIAL PROCEEDS*
------------------ ------------------- ------------------ -------------------- -------------------
<S> <C> <C> <C> <C>
Osteoporosis Wyeth-Ayerst Functional studies ongoing $1.8 million $118.0 million
Division of American to confirm identity of
Home Products target gene
(December 1999)
Asthma Schering-Plough Identification of candidate $28.1 million $75.9 million
(December 1996) genes ongoing; research
program extended to December
2001
</TABLE>
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<TABLE>
<CAPTION>
PARTNER PROCEEDS RECEIVED AS
DISEASE INDICATION (DATE OF AGREEMENT) STATUS OF ALLIANCE OF AUGUST 31, 2000 POTENTIAL PROCEEDS*
------------------ ------------------- ------------------ -------------------- -------------------
<S> <C> <C> <C> <C>
Ulcers AstraZeneca Target identification $13.5 million $23.3 million
(September 1995) completed; program
transferred to AstraZeneca
for pre-clinical testing
Drug Resistant Schering-Plough Validated targets and $19.3 million $45.5 million
Bacterial Infections (December 1995) screening assays transferred
to Schering-Plough; research
program extended through
September 2001
Fungal Infections Schering-Plough Targets identified for $10.9 million $32.4 million
(September 1997) screening; research program
extended to September 2001
Infectious Disease bioMerieux PathoGenome Database $5.9 million $6.2 million
Diagnostics (September 1999) delivered; identification of guaranteed in first
gene markers ongoing year (includes
completed equity
investment)
</TABLE>
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* Assumes receipt of all license fees, funded research and contingent payments
for achieving milestones, after extensions and/or reallocations; excludes
potential royalties
Osteoporosis
Osteoporosis is a major health problem characterized by low bone mass that
affects more than 200 million people worldwide and approximately one-third of
post-menopausal women. In the U.S. alone, osteoporosis contributes to more than
1.5 million bone fractures per year. Estimated national direct expenditures for
osteoporotic and associated fractures is $13.8 billion, and the cost is rising
in the Unites States. Twin and family studies suggest a strong genetic component
to the disease. Under a collaboration with Creighton University of Omaha,
Nebraska, we have gained access to data from related individuals identified by
Creighton that exhibit high bone mass. We believe the identification of genes
regulating bone density and disease progression will lead to the discovery of
novel drugs for treating osteoporosis by increasing bone mass, as well as the
development of diagnostic tests.
In December 1999, we formed an alliance with Wyeth-Ayerst to develop drugs
to treat osteoporosis based on our genetic research. Wyeth-Ayerst is a leader in
the field of women's health with a broad array of products, including
Premarin(R), a leading estrogen replacement therapy. As of August 31, 2000, we
had received payments of $1.8 million under this alliance and have rights to
receive, subject to the achievement of milestones, up to an additional $116.2
million in license fees, milestone payments and research support, as well as
royalties on sales of any products developed. Under this alliance, we are
carrying out functional studies to confirm the identity of target genes.
Asthma
Asthma affects over 155 million people worldwide according to the World
Health Organization. The incidence appears to be rising dramatically worldwide;
in the United States, the incidence has doubled over the past two decades.
Asthma affects approximately 4% to 10% of the United States population, and
accounts for $12.6 billion in direct and indirect costs. Published research
suggests that multiple genetic factors as well
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as environmental influences play a role in the disease. We believe that the
asthma genes that we have identified will facilitate the development of a
superior diagnostic and novel drug.
In December 1996, we formed an alliance with Schering-Plough to use our
disease gene identification strategies to identify genes involved in the origin
of asthma. Schering-Plough has extended our alliance through December 2001.
Schering-Plough is a leader in the field of allergy and respiratory care
products, with products such as Afrin(R) nasal spray, the leading product in the
branded nasal spray market, and the Claritin(R) line of antihistamines, which
generated $2.3 billion of sales in 1998. As of August 31, 2000, we had received
payments of $28.1 million under this alliance and have rights to receive, based
on attainment of milestones, an additional $47.8 million of payments as well as
potential royalties. We are using our proprietary genomics tools, bioinformatics
and high-throughput sequencing to identify candidate genes believed to be
involved in the development of asthma in certain individuals.
Ulcers
H. pylori infection affects an estimated 30% of the United States
population, causing more than 5 million cases of peptic ulcer disease per year.
Industry sources estimate that the market for ulcer disease products worldwide
was $11.5 billion in 1999. The pathogen H. pylori is believed to be responsible
for 90% of duodenal ulcers, the most common type of ulcer, and approximately 80%
of gastric peptic ulcers. The World Health Organization has estimated that H.
pylori is responsible for 550,000 new cases of stomach cancer per year
worldwide. Using our sequencing technology, we completed the random sequencing
and finishing of the genome of H. pylori. The most common forms of treatment of
H. pylori, antibiotics and antisecretory drugs, do not eradicate H. pylori. We
believe that drugs targeted at genes essential to the survival of H. pylori will
provide novel treatments for peptic ulcers.
In September 1995, we formed an alliance with AstraZeneca to identify genes
critical to the survival of H. pylori and proteins on the surface of the
bacterium that we believe to be likely targets for drugs and vaccines.
AstraZeneca is a leader in the field of products to treat peptic ulcer disease.
Its anti-ulcer drug, Prilosec(R) was the world's biggest selling prescription
drug in 1999 with sales of $5.9 billion. As of August 31, 2000, we had received
payments of $13.5 million under this alliance and have rights to receive, based
on attainment of milestones, an additional $9.8 million of payments in addition
to potential royalties. As of August 1999, we had completed our research
obligations under this alliance and had turned over validated drug and vaccine
targets to AstraZeneca for pre-clinical testing.
Drug Resistant Bacterial Infections
Infectious diseases remain the world's leading cause of premature death.
Each year approximately 2 million patients in the U.S. develop antibiotic
resistant infections while being treated in hospitals. These infections are
caused by antibiotic resistant organisms, many of which have multiple antibiotic
resistance. Industry sources estimate that the market for anti-infective
products worldwide was $58 billion in 1999. The pathogen Staph. aureus is a
common cause of skin, wound and blood infections. Staph. aureus infections are
typically treated with antibiotics. In recent decades, the incidence of Staph.
aureus infections that are resistant to traditional antibiotic treatments has
risen. Using our high-throughput sequencing capabilities, we have sequenced the
genome of antibiotic-resistant Staph. aureus. We believe that drugs targeted at
genes essential to the survival of Staph. aureus will provide novel treatments
for skin, wound and blood infections contracted in hospitals.
In December 1995, we formed an alliance with Schering-Plough to identify
and validate gene targets for the development of drugs to target Staph. aureus
and other pathogens that have become resistant to current antibiotics. We have
extended our alliance through September 2001. Schering-Plough is an established
participant in the anti-infective market, and a leader in the utilization of
genomics to discover novel anti-infective products. As of August 31, 2000, we
had received payments of $19.3 million under this alliance and have rights to
receive, based on attainment of milestones, an additional $26.2 million of
payments as well as potential royalties. To date, we have delivered numerous
validated drug targets to Schering-Plough for pre-clinical testing.
Schering-Plough is continuing to screen validated targets to identify drug
candidates.
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Fungal infections
In the past twenty years, we have seen dramatic changes in the pattern of
fungal infections in humans. These pathogens have assumed a much greater
importance because of their increasing incidence in immunocompromised patients,
such as AIDS patients, transplant recipients, cancer patients and other groups
of immunocompromised individuals. Increased international travel and misuse of
antimicrobial agents have also contributed to this trend and the emerging
resistance to certain treatments. Industry sources estimate that the market for
prescription antifungal drugs in the United States was approximately $1.8
billion in 1999, with non-prescription fungal treatments adding significantly to
overall market size. Currently, there are a limited number of antifungals
available for use against hospital related fungal infections, and many of the
products currently on the market have serious side effects. We believe that
drugs targeted at genes that are essential to the survival of fungal pathogens
will provide novel and effective treatments for fungal infections.
In September 1997, we formed an alliance with Schering-Plough to use our
high-throughput sequencing capabilities and genomic tools to identify new,
validated fungal targets for the development of drugs to treat fungal
infections. Schering-Plough has extended our alliance through September 2001.
Schering-Plough is a leader in the field of drugs targeted against fungal
infections, with market leading products such as the Lotrimin AF(R) and
Tinactin(R) lines of topical antifungals. As of August 31, 2000 we had received
payments of $10.9 million under this alliance and have rights to receive, based
on attainment of milestones, an additional $21.5 million of payments in addition
to potential royalties. In the course of the program, we identified multiple
essential fungal genes, and in October 1999, we delivered multiple assays for
validated targets to Schering-Plough for drug candidate screening.
Infectious disease diagnostics
The World Health Organization estimates that more than 17 million people
die of an infectious disease each year, with many of those infections acquired
in hospitals. There has been a global resurgence of infectious diseases,
including the identification of new pathogens, the re-emergence of old
infectious agents and the rapid spread of resistance to anti-infective agents.
The ability to rapidly identify the specific microorganisms involved in disease
is becoming increasingly important and complex, providing challenges and
opportunities for infectious disease testing. Highly sophisticated and versatile
methods are needed to identify a larger and more diverse list of pathogens,
including variants with drug resistant characteristics. According to industry
sources, the global market for in vitro diagnostics for infectious disease was
approximately $3.2 billion in 1997.
In September 1999, we entered into a strategic alliance with bioMerieux to
develop, manufacture and sell in vitro pathogen diagnostics for human clinical
and industrial applications. A privately held company based in France,
bioMerieux is one of the top 10 diagnostics companies in the world and the
leader in the field of microbiology. We will receive a minimum of $6.2 million
in the first year under this alliance. As of August 31, 2000, we had received
payments of $5.9 million, including a completed equity investment, and have
rights to receive future milestone payments and royalties based upon successful
commercialization of diagnostic products. We have delivered the PathoGenome
Database to bioMerieux and are currently identifying gene markers that can be
employed in diagnostic product development.
GENOMIC SEQUENCING AND DATABASES
We launched the GTC Sequencing Center in July 1999, capitalizing on our
sequencing strengths by providing sequencing services to customers on a
contractual basis. Our business focuses on providing customized sequencing
services to pharmaceutical companies, biotechnology companies and research
institutions that need industrial scale, high quality customized sequencing
capability.
We have extensive experience in high-throughput sequencing with a
substantial production staff and a highly automated sequencing center operating
twenty-four hours per day, seven days per week. The U.S. government has
recognized the quality of our sequencing work by naming us as one of ten U.S.
centers for the Human Genome Project and one of two primary centers for the Rat
Genome Sequencing Program. We are the only commercial entity selected for either
of these projects.
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Since the launch of the GTC Sequencing Center in July 1999, we have entered
into sequencing contracts with many commercial and research institutions. The
GTC Sequencing Center is a component of our strategy because it provides us with
near-term revenues and the ability to defray a portion of the overhead expenses
associated with our sequencing operations. We believe the GTC Sequencing Center
will permit us to establish business relationships with a broader variety of
participants in the biotechnology and pharmaceutical industries that may lead to
more comprehensive strategic alliances.
PathoGenome(TM) Database
In 1997, we introduced to the market the PathoGenome Database, a database
consisting of proprietary and publicly available genetic information from over
thirty microbial organisms, including organisms responsible for the most
prevalent bacterial infections. The PathoGenome Database provides subscribers
with non-exclusive access to a large volume of highly organized and functionally
annotated sequence information related to some of the most medically important
microbial organisms and fungi. We initially designed the PathoGenome Database to
be accessed at the client site using our proprietary bioinformatics software. It
enables researchers to search for new genes among multiple pathogens and
cross-reference genomic information for the development of new anti-infective
products. To broaden the market reach of our product, in April 2000, we entered
into a collaboration with Compugen Inc.'s LabOnWeb.com to establish Internet-
based access to our PathoGenome Database.
We receive payments for access to the PathoGenome Database for a specified
term for all subscribers, and we have rights to receive royalties from future
product sales if the subscriber develops a product based on proprietary
information in the PathoGenome Database. With respect to our relationship with
Compugen, we share in the revenues derived from LabOnWeb's sale of PathoGenome
Database information.
We continue to explore opportunities to broaden access to the PathoGenome
Database by commercial and academic researchers from all over the world.
EMERGING BUSINESSES
Expenditures for new drug development have been steadily increasing and
there continues to be a shortfall in the number of new pharmaceutical product
introductions in the market. In addition, adverse drug events together with poor
side effect profiles may limit the success of existing pharmaceuticals. We are
seeking to employ our platform of genomics technologies to develop new, more
effective drugs through both our pharmacogenomics and infectious disease
programs.
Pharmacogenomics
Understanding the differences in responses to drug therapy related to
single nucleotide polymorphisms, commonly referred to as SNPs, in the genetic
make-up of individuals can play a significant role in improving the overall
safety and efficacy of drugs. We have developed a highly accurate and efficient
platform to support our pharmacogenomics program. We are using our technology
platform, based on our high quality, high throughput sequencing capability and a
proprietary SNP screening assay, to search for genetic causes responsible for
variations among individuals in response to drugs. We plan to work with
collaborators to identify more appropriate patient populations using
pharmacogenomics to enable the development of more effective, safer drugs and
the recovery of promising drugs that could succeed in trials using pre-selected
populations based upon genetically determined responsiveness.
Infectious Diseases
We are mining the sequence information contained in our PathoGenome
Database to identify genes that are novel targets and, as a result, good
candidates for internally funded infectious disease drug development. Using our
proprietary functional genomics technology, our scientists have been able to
discover genes that are essential for the survival of pathogenic organisms. This
technology, when combined with our bioinformatics capabilities, enables us to
identify broad-spectrum microbial targets that are essential in bacteria. Thus,
our gene discovery approach generates validated microbial targets that possess
both selectivity and specificity,
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which are ideal attributes for drug intervention. These targets serve as the
basis for our emerging internal drug discovery efforts. In this regard, we have
drawn upon our strengths in microbial genetics to develop both biochemical and
cell based assays for these targets for use in high-throughput compound screens.
As an initial step in our effort to build our anti-infective disease franchise,
we strengthened our collaboration with ArQule, a combinatorial chemistry
company, by significantly increasing the commitment of shared, dedicated
scientific resources and technical resources focused on identifying small
molecule anti-infectives. Under the terms of the agreement, we will contribute a
number of proprietary validated targets from our PathoGenome Database to be used
with ArQule's Parallel Track(TM) Drug Discovery program to screen and optimize
compounds. In addition, we intend to continue to build internal capabilities
through the acquisition of novel compound libraries, technologies and/or
products. It is anticipated that these efforts will lead to the further growth
of our own infectious disease franchise. We may enter into alliances with other
companies to engage in the development, commercialization and marketing of leads
identified through our internal infectious disease program. Under certain
circumstances, we may have an obligation to give Schering-Plough a right of
first negotiation to develop certain of our infectious disease related
discoveries with us if we decide to seek a third party collaborator to develop
such discovery.
OUR TECHNOLOGY
We have created an integrated high quality platform of genomic technologies
that can identify and validate novel targets for drug, vaccine and diagnostic
product development. Proteins, expressed by genes, are the targets of most
current drugs. We believe identification of human disease genes and genes
essential to the functioning of pathogens should enable the development of new
drugs and other products. We believe our technology platform will allow us to
accelerate drug, vaccine and diagnostic development for both our human and
infectious disease directed programs. Our integrated technology platform
includes high quality, industrial scale sequencing and sequence finishing,
bioinformatics, functional genomics technologies, and assay development.
Drug Discovery & Development Process
High-Throughput Sequencing
We have developed a high-quality, industrial scale process for sequencing.
The GTC Sequencing Center utilizes a fully automated process that makes use of
DNA sequencing instruments and computers to sequence and analyze genes. We
maintain high quality standards for all steps of our sequencing process by
strictly controlling the quality of the raw data generated. Using our
technology, we have sequenced and continue to sequence the genomes of bacterial
and fungal pathogens and various regions of the human, rat and other genomes.
Sequence Finishing
Finishing is the final step to organizing the genomic data once the the
majority of the sequence information has been generated. Finishing is necessary
because the individual clones sequenced contain small, randomly selected
fragments of the complete genome. We assemble these fragments using
sophisticated proprietary computer software that identifies overlapping regions
and arranges the fragments into large contiguous regions. We also employ a
directed sequencing approach in order to specifically target and obtain
sequences for the missing regions to facilitate completion of the full genome
sequence. We have developed a proprietary finishing platform that utilizes
integrated computational and biochemical approaches to specify the required
quality of the end-product sequence and then directs the process to achieve the
desired quality level. As a result of our emphasis on quality, we currently have
a finished data accuracy of 99.99%.
Bioinformatics
Vast amounts of data result from DNA sequencing, finishing, microarray and
other genomic technologies that we employ. In order to determine the biological
significance and function of the genomic data that we compile, it must be
organized, managed, and analyzed. Bioinformatics involves the use of computers,
software,
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and databases to track, process, store, retrieve and analyze data generated by
genomic research. We were one of the first companies to develop a significant
bioinformatics capability due to our early work in large-scale genetic linkage
and sequence analysis. A central focus of our current bioinformatics program is
the development and application of genomic data mining and visualization
software to strengthen our gene and drug discovery programs. The objective of
our bioinformatics program is to accelerate the discovery of genes and the
determination of their function.
Functional Genomics
Functional genomics is the process of assigning biochemical functions and
disease roles to genes. In the target discovery and validation stages of our
pharmaceutical and diagnostic programs, functional genomics confirms that
specific gene targets are appropriate for the development of pharmaceutical,
vaccine, or diagnostic products. We have developed a number of technologies to
accelerate the functional analysis of important disease genes, including gene
expression, micro arrays, protein-protein interaction technologies and gene
knockouts. When we combine our expertise in bioinformatics with these
technologies, we bridge the gap between gene discovery and drug discovery.
Assay Development
After determining that a gene target is susceptible to treatment by a small
molecule drug and, in the case of a pathogen gene, essential for the survival or
virulence of a pathogen, we then develop screening assays or tests for chemical
compounds that interact with these targets. The development of screening assays
involves confirming the consistency of the validated target under conditions
that are pertinent to its viability for treatment of humans. Following
successful completion of the assay development stage, we are then able to
identify chemical compound leads that could enter into clinical testing and that
could ultimately result in a marketable drug.
STRATEGIC ALLIANCES
A principal focus of our commercialization strategy is strategic alliances
with pharmaceutical companies that are leaders in particular fields for the
development and commercialization of products resulting from our genomic
discoveries. This strategy provides us access to the substantial resources and
product development expertise of our partners and permits us to benefit
financially from the commercialization of products based on our gene
discoveries, without incurring the substantial costs required for pharmaceutical
product development and commercialization. We generally expect to license
(either exclusively or non-exclusively) to a partner most rights in a specific
field to therapeutic products and vaccines and, depending upon the gene,
diagnostic products that may be developed by the partner from the particular
genetic information that we provide to the alliance. In exchange for a license
to our genetic research data and other information in a certain area, we are
typically entitled to receive a combination of:
- up-front license fees
- research funding
- milestone payments
- royalty payments on product sales
To date, we have entered into strategic partner alliances with
Wyeth-Ayerst, Schering-Plough (three distinct disease focused alliances),
AstraZeneca, and bioMerieux. We also have government collaborations specifically
focusing on our gene sequencing capability. Our strategic alliances are
described in more detail below.
Wyeth-Ayerst/AHP
In December 1999, we entered into a strategic partner alliance with
Wyeth-Ayerst to develop novel drugs and other therapeutics for the prevention
and treatment of osteoporosis. Our alliance focuses on developing
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drugs utilizing targets based on the characterization of a gene associated with
a unique high bone mass trait, the mirror image of osteoporosis. Under the
agreement, we granted Wyeth-Ayerst an exclusive worldwide license to make, use
and sell pharmaceutical and vaccine products based on this gene in the field of
osteoporosis. We have commenced functional studies to confirm the identity of
the gene responsible for the high bone mass trait. We are focusing on the
validation of gene targets in preparation for drug development utilizing the
extensive experience and capabilities of Wyeth-Ayerst in bone research.
Under this agreement, Wyeth-Ayerst has agreed to pay us up to $118 million
in up-front licensing fees, funded research and contingent payments for
achieving milestones. We also have the right to receive royalty payments on
Wyeth-Ayerst's sales of products based on technologies they have licensed from
us under the agreement. As of August 31, 2000, we had received payments of $1.8
million under this alliance. Wyeth-Ayerst has the right to terminate the
alliance prior to its completion in certain circumstances when we are not in
breach under the agreement, including if Wyeth-Ayerst determines that the
prospects for drug discovery under the alliance are minimal, or if Wyeth-Ayerst
determines that third party intellectual property rights are likely to impair
development or commercialization of a product under this alliance. In the event
of such a termination all licensed intellectual property rights revert to us.
Certain technologies licensed to Wyeth-Ayerst will be exclusively licensed by us
from Creighton University and sublicensed to Wyeth-Ayerst. We will owe Creighton
royalties under the license.
Schering-Plough
We have three strategic partner alliances in place with Schering-Plough,
focusing on asthma, drug resistant bacterial infections and fungal infections.
Asthma. In December 1996, we established an alliance with Schering-Plough
to use our genomics research abilities to help discover new pharmaceutical
products to treat asthma. In May 2000, Schering-Plough extended this alliance
through December 2001. Under this alliance, we employ our high-throughput
disease gene identification, bioinformatics, and genomics sequencing
capabilities to identify genes and associated proteins that Schering-Plough can
use to develop pharmaceuticals and vaccines for treating asthma. We are using
our proprietary genomics tools, bioinformatics and high-throughput sequencing to
identify candidate genes believed to be involved in the development of asthma in
certain individuals. The research phase of this alliance is scheduled to end in
December 2001.
Under the agreement, Schering-Plough agreed to pay us up to $75.9 million
in initial license fees, funded research and contingent payments for achieving
milestones. Of the total potential payments, approximately $31.4 million
represents license fees and funded research payments and $44.5 million
represents milestone payments based on achievement of research and product
development objectives. We have achieved a number of milestones under this
agreement and have received payments as of August 31, 2000 of $28.1 million. The
agreement also obligates Schering-Plough to pay us royalties based upon any
sales of therapeutic products developed from this collaboration.
Under the agreement, we granted Schering-Plough an exclusive worldwide
license to make, use and sell pharmaceutical and vaccine products that may
result from this alliance. Under certain circumstances, we may have an
obligation to give Schering-Plough a right of first negotiation to develop with
us certain of our asthma related discoveries if we decide to seek a third party
collaborator to develop such discovery. We retain the rights to make, use and
sell diagnostic products resulting from our research under the agreement.
Drug Resistant Bacterial Infections. In December 1995, we entered into an
alliance with Schering-Plough to identify and validate gene targets for the
development of drugs to target Staph. aureus and other pathogens that have
become resistant to current antibiotics and are a primary cause of
hospital-based infections. In March 1998, Schering-Plough elected to extend the
research program through March 31, 2000 and in July 2000, it was again extended
through September 2001. We have delivered numerous validated drug targets to
Schering-Plough for pre-clinical testing.
Under this agreement, Schering-Plough has agreed to pay us up to $45.5
million in initial license fees, funded research and contingent payments for
achieving milestones. We have achieved all of the research
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milestones under this agreement and have received payments of $19.3 million as
of August 31, 2000. Subject to the achievement of additional product development
milestones by Schering-Plough, they have agreed to pay us up to an additional
$26.2 million in funded research and milestone payments.
As part of this program, we granted Schering-Plough exclusive worldwide
access to our proprietary Staph. aureus genomic sequence database to make, use
and sell pharmaceutical and vaccine products based on these databases and the
technology developed during the course of the research program. We will be
entitled to receive royalties on Schering-Plough's sale of therapeutic products
and vaccines developed using the technology we licensed to Schering-Plough. We
also granted Schering-Plough a non-exclusive license to use our bioinformatics
systems for Schering-Plough's internal use in connection with the genomic
databases licensed to Schering-Plough under our agreement and other genomic
databases Schering-Plough develops or acquires. Subject to certain limitations,
we retain the rights to make, use, and sell diagnostic products developed
utilizing our genomic database licensed to Schering-Plough and the technology
developed during the course of the research program. The research phase of this
alliance is scheduled to end in September 2001.
Fungal infections. In September 1997, we established our third alliance
with Schering-Plough to use genomics to discover and develop new pharmaceutical
products to treat fungal infections. In December 1999, Schering-Plough extended
this alliance with us through September 2001. The alliance calls for us to use
our bioinformatics, high-throughput sequencing and functional genomics
capabilities to identify and validate genes and associated proteins as drug
discovery targets that Schering-Plough can utilize to develop novel antifungal
treatments. Schering-Plough receives exclusive access to certain genomic
information developed in the alliance related to two fungal pathogens, Candida
albicans and Aspergillus fumigatus. In October 1999, we delivered multiple
assays for validated targets to Schering-Plough, and Schering-Plough began high-
throughput screening for new drug candidates. The research phase of this
alliance is scheduled to end in September 2001.
Under this agreement, Schering-Plough has agreed to pay us up to $32.4
million in initial license fees, funded research and contingent payments for
achieving milestones. We have achieved all of the research based milestones
under this agreement and have received payments of $10.9 million as of August
31, 2000.
Schering-Plough receives the exclusive worldwide right to make, use, and
sell pharmaceutical products to treat human and animal diseases based on the
technology developed during the course of the research program. We will be
entitled to receive royalties on Schering-Plough's sale of therapeutic products
and vaccines developed using the technology we licensed to Schering-Plough.
Subject to certain limitations, we retain the rights to make, use and sell
diagnostic products resulting from our research under the agreement.
AstraZeneca
In August 1995, we entered into a strategic partner alliance with
AstraZeneca to develop drugs, vaccines and diagnostic products effective against
peptic ulcers or any other disease caused by H. pylori. In August 1999, we
successfully concluded our research portion of the alliance and transitioned the
program into AstraZeneca's pipeline for pre-clinical testing. In the course of
our research, we identified and validated a number of targets and vaccine
antigens. We delivered these targets, as well as screening assays, to
AstraZeneca for high-throughput drug candidate screening. Under the alliance, we
also granted AstraZeneca exclusive access to our H. pylori genomic sequence
database.
Under this agreement, AstraZeneca has agreed to pay us up to $23.3 million
in license fees, funded research and contingent payments for achieving
milestones. We have received approximately $13.5 million in license fees,
milestone payments and research funding under this agreement through August 31,
2000.
Under the alliance, AstraZeneca holds the exclusive worldwide rights to
make, use and sell products based on H. pylori technology licensed to
AstraZeneca. We have rights to receive royalties on AstraZeneca's sale of any
products protected by patent claims that we have licensed exclusively to
AstraZeneca pursuant to the agreement, or resulting from a discovery enabled by
our genomic database licensed to AstraZeneca. AstraZeneca has the rights to
make, use and sell diagnostic products resulting from our research under the
agreement.
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bioMerieux
In September 1999, we entered into a strategic partner alliance with
bioMerieux to develop, manufacture and sell in vitro pathogen diagnostics for
human clinical and industrial applications. Under the terms of the alliance, we
granted bioMerieux all rights not previously granted to others in the area of
pathogen genetics for the development of diagnostic products. We have delivered
the PathoGenome Database to bioMerieux and are currently identifying gene
markers that can be employed in diagnostic product development.
Under this alliance, bioMerieux has guaranteed us payments of at least $6.2
million in the first year, which includes a $3.7 million equity investment that
has been completed. bioMerieux also agreed to fund research in the area of
infectious disease diagnostics for four years. We will receive future milestone
payments and royalties based upon successful commercialization of diagnostic
products. As of August 31, 2000, we had received payments of $5.9 million under
this alliance, including the completed equity investment.
GOVERNMENT CONTRACTS
Since 1989, various agencies of the United States government have awarded
us a number of research grants and contracts under government genomics programs.
The scope of our research covered by grants and contracts includes technology
development, sequencing production, technology automation projects and disease
gene identification projects. These programs strengthened our genomics
technology base and increased the number and enhanced the expertise of our
scientific personnel. As of August 31, 2000, we had approximately $22.5 million
of government research grants and contracts outstanding under which we had not
yet completed all of the services. These grants and contracts call for us to
perform services through September 30, 2002. These programs are subject to
annual appropriations by the government based upon the availability of
government funds and our achievement of certain milestones. The government may
discontinue or reduce our funding at any time.
In July 1999, the government named us one of five NIH funded DNA sequencing
centers in the U.S. for the international Human Genome Project. The government
based the award on a peer review process that evaluated our industrial scale
sequencing facility for production capacity, cost effectiveness and quality
standards. We are the only commercial entity to have been chosen to participate
in the project. We will participate in an international consortium in a
full-scale effort to sequence the human genome. We will receive funding from the
NHGRI of up to $15.6 million over a three-year period of which $6.7 million is
guaranteed through November 2000.
In October 1999, the government named us as one of ten initial centers in
the Mouse Genome Sequencing Network. The government based the award on a peer
review process that evaluated our industrial scale sequencing facility for
production capacity, cost effectiveness and quality standards. We were the only
commercial entity to have been chosen to participate in deciphering the genetic
makeup of the mouse. The NHGRI agreed to provide us with funding of up to $12.9
million over a three-year period of which $5.2 million is guaranteed through
December 2000. In August 2000, the Company was named as one of two primary
centers for the Rat Genome Sequencing Program and agreed to switch its research
focus from the Mouse Program to the Rat Program. Remaining funds from the Mouse
Program are being redirected to the Rat Genome Sequencing Program.
Under both these research contracts, the government has ownership rights to
the data, clones, genes and other material derived from material furnished to us
by the government. We have ownership rights in other inventions that we develop
on our own under the contracts.
PATENTS AND PROPRIETARY TECHNOLOGY
Our ultimate commercial success depends in part on our ability to obtain
intellectual property protection on our methods, technologies and discoveries,
including genes, proteins encoded by genes, patentable human single nucleotide
polymorphisms (SNPs), haplotypes or products based on genes or our proprietary
gene technology. To that end, our policy is to protect our proprietary
technology primarily through patents, in spite of the fact that the current
criteria for obtaining patent protection for partially sequenced genes and for
genes
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are unclear. Our current strategy is to apply for patent protection upon the
identification of a novel gene or novel gene fragment and pursue claims to these
gene sequences as well as equivalent sequences, such as substantially homologous
or orthologous sequences. If at the time of filing a patent application we have
not characterized the biological function of a gene or gene fragment we
supplement our patent filing as soon as additional biological function
information about such gene or gene fragment becomes available.
We have filed patent applications and will continue to do so with respect
to a number of full-length genes and corresponding proteins and partial genes
resulting from our pathogens program. Along with our collaborators, we file
foreign counterparts of these U.S. applications within the appropriate time
frames. Our patent applications seek to protect these full length and partial
gene sequences and corresponding proteins, as well as equivalent sequences, and
products derived from and uses of these sequences.
There have been, and continue to be, intensive discussions on the scope of
patent protection for gene fragments, single nucleotide polymorphisms, and
full-length genes. In 1996, the U.S. Patent and Trademark Office issued
guidelines limiting the number of nucleic acid sequences that can be covered in
a single patent application. In addition, the U.S. courts continue to redefine
and narrow the enforceable scope of claims to genes, gene fragments, SNPs, and
proteins. The U.S. PTO also issued new Utility Guidelines that address the
requirements for demonstrating utility, particularly in inventions relating to
human therapeutics, and Written Description guidelines that address the amount
of disclosure required to support claims to nucleotide sequences. Consequently,
we continually must assess our patent applications to determine those that we
can support for prosecution.
While the guidelines do not require clinical efficacy data for issuance of
patents for human therapeutics, the guidelines have been in effect for only a
short period of time and it is possible that the U.S. PTO may interpret them in
a way that could delay or adversely affect our ability or the ability of our
collaborators to obtain patent protection. The biotechnology patent situation
outside the United States is even more uncertain and is currently undergoing
review and revision in many countries.
We are free to apply for patents on the results of our research conducted
with government funds. Under the government grants, subject to the limitations
described below, we have exclusive ownership rights to any commercial
applications of inventions that we first reduce to practice under the grants,
including all gene discoveries and technology improvements created or
discovered. We are under an obligation under some of the government grants to
submit sequencing data resulting from the research to public databases within 24
hours from the date we generate such data and materials. The governmental grants
also restrict us from applying for blanket patents on large numbers of human or
mouse genes. In addition, the government has a statutory right to practice or
permit others to practice inventions that we first reduce to practice under a
government grant or contract. In addition, under our government research
contracts, the government has ownership rights in the data, clones, genes and
other material derived from the material the government furnished to us.
The patent positions of biotechnology and pharmaceutical companies are
generally uncertain and involve complex legal and factual issues. No assurance
can be given that any patent issued to or licensed by us or our collaborators
will provide protection that has commercial significance. We cannot assure that:
- our patents will afford protection against competitors with similar
compounds or technologies
- our patent applications will issue
- others will not obtain patents having claims similar to the claims in our
patents or applications
- the patents of others will not have an adverse effect on our ability to
do business or
- the patents issued to or licensed by us will not be infringed,
challenged, opposed, narrowed, invalidated or circumvented
Moreover, we believe that obtaining foreign patents may, in some cases, be
more difficult than obtaining domestic patents because of differences in patent
laws. We also recognize that our patent position may generally be stronger in
the U.S. than abroad.
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In particular, we are aware that companies have published patent
applications relating to nucleic acids encoding several H. pylori proteins and,
in other disease programs, relating to genes for which we have found mutations
of interest. If these companies are issued patents, their patents may limit our
ability and the ability of our collaborators to practice under any patents that
may be issued to us. Because of this, we or our collaborators may not be able to
obtain a patent with respect to the genes of H. pylori. Further, the value of
certain other patents issued to us or our collaborators that are the subject of
other collaborations may be limited. Also, even if a patent were issued to us or
our collaborators, the scope of coverage or protection afforded to such patent
may be limited.
We also rely upon trademarks, unpatented trade secrets and improvements,
unpatented know-how and continuing technological innovation to develop and
maintain our competitive position. We generally protect this information with
confidentiality agreements that provide that all confidential information
developed or made known to others during the course of the employment,
consulting or business relationship shall be kept confidential except in
specified circumstances. Agreements with employees provide that all inventions
conceived by the individual while employed by us are our exclusive property. We
cannot guarantee, however, that these agreements will be honored, that we will
have adequate remedies for breach if they are not honored or that our trade
secrets will not otherwise become known or be independently discovered by
competitors.
COMPETITION
The biotechnology industry generally, and our human genetics and pathogen
genetics and drug discovery programs specifically, are characterized by rapidly
evolving technology and intense competition. Our competitors include
pharmaceutical and biotechnology companies both in the United States and abroad.
In addition, universities and other non-profit research institutions and
United States and foreign government-sponsored entities are conducting
significant research to identify and sequence genes. These entities are becoming
more aggressive in their pursuit of patent protections and licensing
arrangements. Many of these institutions and other consortia, such as the SNP
Consortium, are also working to make large amounts of genetic information
publicly available, shrinking the pool of information available for proprietary
protection.
Many of our competitors have greater research and product development
capabilities and financial, scientific, marketing and human resources than we
do, and some competitors' human genome programs are more advanced than our
program. Therefore, our competitors may succeed in identifying or sequencing
genes or developing products earlier, in obtaining authorization from the FDA
for products more rapidly and in developing products that are more effective
than those proposed by us or our collaborators. Any potential products based on
genes that we identify will face competition both from companies developing
gene-based products and from companies developing other forms of diagnosis or
treatment for the particular diseases.
Accordingly, competition with respect to our technologies and product
candidates is and will be based on, among other things:
- our ability to create and maintain advanced technology
- the speed with which we can identify and characterize the genes involved
in human diseases
- our ability to rapidly sequence the genomes of selected pathogens
- our partners' ability to develop and commercialize therapeutic, vaccine
and diagnostic products based upon our gene discoveries
- our ability to attract and retain qualified personnel
- our ability to obtain patent protection
- our ability to develop proprietary technology or processes
- our ability to secure sufficient capital resources to fund our research
operations
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We also face increasing competition for strategic alliances with leading
pharmaceutical and biotechnology companies. We cannot be certain that we will be
able to obtain such strategic alliances in the future or that we will be able to
obtain them on terms comparable with existing alliances. Competition among
genetics companies is also increasing for access to unique data from related
individuals that we employ to identify genes for specific human diseases.
Our competitive position will also depend upon our ability to attract and
retain qualified personnel, to obtain patent protection or otherwise develop
proprietary product or processes, and to secure sufficient capital resources for
the often substantial period between technological conception and commercial
sales. Competitive disadvantages in any of these areas could materially harm our
business and financial condition.
GOVERNMENT REGULATION
Regulation by governmental entities in the United States and other
countries will be a significant factor in the development, manufacturing and
marketing of any products that our collaborators or we develop. The extent to
which such regulation may apply to us or our collaborators will vary depending
on the nature of the product. Virtually all of our or our collaborators'
pharmaceutical products will require regulatory approval by governmental
agencies prior to commercialization. In particular, the FDA in the United States
and similar health authorities in foreign countries subject human therapeutic
and vaccine products to rigorous preclinical and clinical testing and other
approval procedures. Various federal and, in some cases, state statutes and
regulations also govern or influence the manufacturing, safety, labeling,
storage, record keeping and marketing of human therapeutic and vaccine products.
Obtaining these approvals and complying with appropriate federal and foreign
statutes and regulations requires a substantial amount of time and financial
resources.
The FDA regulates human therapeutic products in one of three broad
categories: drugs, biologics, or medical devices. Products based on our
technologies could potentially fall into all three categories. The FDA generally
requires the following steps for pre-market approval of a new drug or biological
product:
- preclinical laboratory and animal tests
- submission to the FDA of an investigational new drug application, or IND,
which must become effective before clinical trials may begin
- adequate and well-controlled human clinical trials to establish the
safety and efficacy of the product for its intended indication
- submission to the FDA of a marketing application; a new drug application,
or NDA, if the FDA classifies the product as a new drug; or a biologics
license application, or BLA, if the FDA classifies the product as
biologic
- FDA review of the marketing application and NDA or BLA in order to
determine, among other things, whether the product is safe and effective
for its intended uses
We or our collaborators also may develop diagnostic products based upon the
human or pathogen genes that we identify. We believe that the FDA is likely to
regulate these diagnostic products as devices rather than drugs or biologics.
The nature of the FDA requirements applicable to diagnostic devices depends on
how the FDA classifies the diagnostic devices. The FDA most likely will classify
a diagnostic device that we or our collaborators develop as a Class III device,
requiring pre-market approval. Obtaining pre-market approval involves the
following process, which may be costly and time-consuming:
- conducting pre-clinical studies
- obtaining an investigational device exemption to conduct clinical tests
- conducting clinical trials
- filing a pre-market approval application
- attaining FDA approval
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Products on the market are subject to continual review by the FDA;
therefore, subsequent discovery of previously unknown problems, or failure to
comply with the applicable regulatory requirements may result in restricted
marketing or withdrawal of the product from the market and possible civil or
criminal sanctions. The FDA also may subject biologic products to batch
certification and lot release requirements. To the extent that any of our
products involve recombinant DNA technology, additional layers of government
regulation and review are possible. Similarly, there are additional regulatory
requirements for products marketed outside the United States governing the
conduct of clinical trials, product licensing, pricing and reimbursement.
MANUFACTURING AND MARKETING
We do not expect to manufacture or market pharmaceutical products in the
near term. However, in the future, we may consider manufacturing and marketing
if we believe they are appropriate under the circumstances. We have no recent
experience in developing pharmaceutical products or in manufacturing or
marketing pharmaceutical products. We may not have the resources to develop or
manufacture or market by ourselves any products based on genes identified by us.
In the event we decide to establish a manufacturing facility, we will require
substantial additional funds and will need to hire and train significant
additional personnel and will need to comply with the extensive "good
manufacturing practice" regulations applicable to such a facility. In addition,
if the FDA regulated any products produced at our facility as biologics, we
would need to file and obtain approval of an Establishment License Agreement
(ELA) for our facility.
FACTORS THAT MAY AFFECT RESULTS
This Annual Report on Form 10-K contains forward-looking statements. For
this purpose, any statements contained herein that are not statements of
historical fact may be deemed to be forward-looking statements. Without limiting
the foregoing, the words "believes," "anticipates," "plans," "expects,"
"intends," and similar expressions are intended to identify forward-looking
statements. There are a number of important factors that could cause our actual
results to differ materially from those indicated by such forward-looking
statements. Those factors include, without limitation, those set forth
throughout this Annual Report on Form 10-K, including the risks detailed in
Exhibit 99 to this Annual Report on Form 10-K.
HUMAN RESOURCES
As of August 31, 2000, we had 176 full-time equivalent employees; 150 of
these employees engaged in research and development activities and 26 of them
conducted general and administrative functions. Thirty-four of our employees
hold Ph.D. degrees and 52 more hold other advanced degrees.
None of our employees is covered by a collective bargaining agreement, and
we consider our relations with our employees to be good.
FACILITIES
Our executive offices and laboratories are located at 100 Beaver Street,
Waltham, Massachusetts. We lease approximately 80,000 square feet of space and
our lease expires on November 15, 2006 with options to extend for two
consecutive five-year periods. During fiscal 2000, we incurred aggregate rental
costs, excluding maintenance and utilities, for our facility of approximately
$913,000.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER
MATTERS
Our common stock is traded on the Nasdaq National Market System (ticker
symbol "GENE"). The table below sets forth the range of high and low quotations
for each fiscal quarter during 2000 and 1999 as furnished by the National
Association of Securities Dealers Quotation System.
<TABLE>
<CAPTION>
2000 1999
---------------- --------------
HIGH LOW HIGH LOW
-------- ------ ----- -------
<S> <C> <C> <C> <C>
First Quarter.............................. 5 13/32 3 3/8 3 7/8 1 3/4
Second Quarter............................. 51 1/2 3 3/4 3 7/8 2 1/8
Third Quarter.............................. 75 3/8 14 3/4 4 3
Fourth Quarter............................. 39 14 1/8 4 3/4 2 21/32
</TABLE>
As of November 10, 2000, there were approximately 1,062 shareholders of
record of our Common Stock.
We have not paid any dividends since its inception and presently
anticipates that all earnings, if any, will be retained for development of our
business and that no dividends on its Common Stock will be declared in the
foreseeable future. Any future dividends will be subject to the discretion of
our Board of Directors and will depend upon, among other things, future
earnings, the operating and financial condition of the Company, our capital
requirements and general business conditions.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
<TABLE>
<CAPTION>
FOR THE YEAR ENDED AUGUST 31,
--------------------------------------------------------------------
1996 1997 1998 1999 2000
----------- ------------ ------------ ----------- -----------
<S> <C> <C> <C> <C> <C>
REVENUES:
Contract research, licenses
and subscription fees.... $19,471,229 $16,652,764 $19,217,132 $24,018,165 $26,423,670
Net income (loss)........... 1,920,710 (11,302,391) (15,813,383) (6,328,095) (2,816,046)
Net income (loss) per common
share.................... 0.11 (0.64) (0.87) (0.34) (0.14)
Weighted average common and
common equivalent
shares................... 18,129,794 17,617,614 18,212,365 18,382,707 20,277,076
AS OF AUGUST 31,
--------------------------------------------------------------------
Cash, cash equivalents,
restricted cash and long
and short-term marketable
securities............... $53,768,562 $47,843,597 $34,177,269 $25,062,392 $75,884,197
Working capital............. 25,904,641 35,708,618 20,823,316 15,641,304 63,718,373
Total assets................ 63,279,017 60,688,379 51,464,691 39,484,997 91,335,523
Shareholders' equity........ 54,312,758 43,946,197 29,247,800 23,411,092 74,274,845
</TABLE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
We are a leader in the commercialization of genomics-based drug discovery.
We have over ten years of experience in genomics research and have been one of
the original recipients of funding from the United States government under its
genome programs. Our commercial strategy is to use our genomics and related
proprietary technologies to identify and validate novel drug targets for
commercialization. Our two areas of scientific focus are the discovery and
characterization of novel targets for human diseases and serious infectious
diseases. We also commercialize our sequencing capabilities through the GTC
Sequencing Center, which we established in July 1999 to provide high quality,
industrial scale sequencing to pharmaceutical and
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biotechnology companies on a contract basis. In May 1997, we introduced a
non-exclusive genetic database, the PathoGenome Database, which provides
subscribers with genetic information to identify gene targets. We believe that
our genomic discoveries and information from our database will lead to the
development of novel therapeutics, vaccines, and diagnostic products.
We receive payments from our strategic partners based on license fees,
sponsored research and milestone payments during the term of the alliance. In
addition, subscribers to our PathoGenome Database pay access fees for the
information they obtain. Once a product resulting from a research alliance or a
subscriber's use of the PathoGenome Database is commercialized, we are entitled
to receive royalty payments based upon product revenues. We anticipate that our
alliances will result in the discovery and commercialization of novel
pharmaceutical, vaccine and diagnostic products. In order for a product to be
commercialized based on our research, it will be necessary for the strategic
partners to conduct preclinical tests and clinical trials, obtain regulatory
clearances, manufacture, sell, and distribute the product. Accordingly, we do
not expect to receive royalties based upon product revenues for many years, if
at all. Additionally, we sell, as a contract service business, high quality
genomic sequencing information to third parties, including pharmaceutical
companies, biotechnology companies, governmental agencies, and academic
institutions.
Our primary sources of revenue are from alliance agreements with
pharmaceutical company partners, subscription agreements to our PathoGenome
Database and government research grants and contracts. Currently, we have seven
strategic research alliances. In August 1995, we entered into an alliance with
AstraZeneca to develop pharmaceutical, vaccine and diagnostic products effective
against gastrointestinal infections or any other disease caused by H. pylori. In
August 1999, the sponsored research under the alliance concluded and the program
transitioned into AstraZeneca's pipeline. We are entitled to receive additional
milestone payments and royalties based upon the development by AstraZeneca of
any products from the research alliance. We entered into an alliance with
Schering-Plough in December 1995. Under this alliance, Schering-Plough can use
our Staph. aureus genomic database to identify new gene targets for the
development of novel antibiotics. In December 1996, we entered into our second
research alliance with Schering-Plough to identify genes and associated proteins
that Schering-Plough can utilize to develop new pharmaceuticals for treating
asthma. In September 1997, we established our third research alliance with
Schering-Plough for the development of new pharmaceutical products to treat
fungal infections. In September 1999, we entered into a strategic alliance with
bioMerieux to develop, manufacture and sell in vitro pathogen diagnostic
products for human clinical and industrial applications. As part of the
strategic alliance, bioMerieux has purchased a subscription to our PathoGenome
Database and has made an equity investment. In December 1999, we entered into a
strategic alliance with Wyeth-Ayerst to develop drugs based on our genetic
research to treat osteoporosis. In September 2000, we entered into a strategic
alliance with ArQule, Inc. to identify novel anti-infective drug compounds.
Revenue recognized under our strategic alliance agreements with Schering-Plough,
for our fiscal years ended August 31, 1998, 1999 and 2000, represented
approximately 71%, 75% and 45%, respectively, of our total revenues for such
periods.
In May 1997, we introduced our PathoGenome Database and sold our first
subscription. Since that date, we have continued to contract with subscribers on
a non-exclusive basis, and, as of August 31, 2000, we had a total of seven
subscribers. Under our agreements, the subscribers receive non-exclusive access
to information relating to microbial organisms in our PathoGenome Database.
Subscriptions to the database generate revenue over the term of the subscription
with the potential for royalty payments to us from future product sales.
In April 2000, we entered into a collaboration with Compugen Inc. to
establish internet-based access to our PathoGenome Database. The collaboration
will provide scientists worldwide with access to our PathoGenome Database
through Compugen's LabOnWeb.com. Under the terms of the agreement, Compugen will
have exclusive rights to make our PathoGenome Database available over the
Internet. We and Compugen will share revenue generated by customers who use
PathoGenome Database data from LabOnWeb.com.
Since 1989, the United States government has awarded us a number of
research grants and contracts related to government genomics programs. The scope
of the research covered by grants and contracts
18
<PAGE> 20
encompasses technology development, sequencing production, technology
automation, and disease gene identification. These programs strengthen our
genomics technology base and enhance the expertise of our scientific personnel.
In July 1999, the government named us as one of the nationally funded DNA
sequencing centers of the international Human Genome Project. We are
participating in an international consortium in a full-scale effort to sequence
the human genome. We will receive funding from the National Human Genome
Research Institute (NHGRI) under the Human Genome Project of up to $15.6 million
over a three-year period, of which $6.7 million is guaranteed through November
2000 and $5.6 million had been received through August 31, 2000. In October
1999, NHGRI appointed us as one of the initial centers in the Mouse Genome
Sequencing Network. The NHGRI agreed to provide us with funding under this
program of up to $12.9 million over a three-year period, of which $5.2 million
is guaranteed through December 2000 and $1.3 million had been received through
August 31, 2000. In August 2000, we were named as one of two primary centers for
the Rat Sequencing Program by NHGRI. As part of the agreement, we switched our
focus from the mouse genome to the rat genome and agreed to use all remaining
funding under the mouse award to commence the rat genome initiative. These
programs are subject to annual appropriations by the government based upon the
availability of government funds and the achievement by us of certain
milestones.
We have incurred significant operating losses since our inception. As of
August 31, 2000, we had an accumulated deficit of approximately $69.5 million.
Our losses are primarily from costs associated with prior operating businesses
and research and development expenses. These costs have often exceeded our
revenues generated by our alliances, subscription agreements and government
contracts and grants. Our results of operations have fluctuated from period to
period and may continue to fluctuate in the future based upon the timing, amount
and type of funding. We expect to incur additional operating losses in the
future.
We are subject to risks common to companies in our industry including
unproven technology and business strategy, reliance upon collaborative partners
and others, rapid technological change, history of operating losses, need for
future capital, competition, patent and proprietary rights, dependence on key
personnel, uncertainty of regulatory approval, uncertainty of pharmaceutical
pricing, healthcare reform and related matters, availability of, and competition
for, unique family resources, and volatility of our stock.
NEW ACCOUNTING PRONOUNCEMENT
Staff Accounting Bulletin No. 101 (SAB 101), Revenue Recognition, was
issued in December 1999 and is effective for companies with fiscal years
beginning after December 15, 2000. SAB 101 will require companies to recognize
certain up-front non-refundable fees over the life of the related alliances when
such fees are received in conjunction with alliances, which have multiple
elements. We are required to adopt this new accounting principle through a
cumulative charge to our statement of operations, in accordance with Accounting
Principles Board Opinion (APB) No. 20, Accounting Changes, no later than the
fourth quarter of fiscal 2002. The Company believes that the adoption of SAB 101
will not have a material impact on its future operating results as it relates to
the upfront non-refundable payments and milestone payments received in
connection with alliances.
RESULTS OF OPERATIONS
Revenue
Contract research, licenses, and subscription fees increased 10% from
$24,018,000 in fiscal 1999 to $26,424,000 in fiscal 2000 and increased 25% from
$19,217,000 in fiscal 1998 to $24,018,000 in fiscal 1999. The increase in
contract research, licenses and subscription fees from fiscal 1999 to fiscal
2000 was primarily attributable to increased revenue recognized under our
government collaborations with the National Human Genome Research Institute to
participate in the Human Genome and Mouse (Rat) Genome sequencing projects. The
increase was partially offset by a decline in sponsored research funding under
our corporate alliances as well as a decline in subscription fees earned under
our subscription agreements to the PathoGenome database. The increase in
contract research, licenses and subscription fees from fiscal 1998 to fiscal
year 1999 was primarily attributable to increased revenue recognized under our
alliances with Schering-
19
<PAGE> 21
Plough, as well as increased subscription fees earned under our subscription
agreements to the PathoGenome Database.
Costs and Expenses
Total costs and expenses declined slightly from $30,979,000 in fiscal 1999
to $30,639,000 in fiscal 2000 and decreased 15% from $36,270,000 in fiscal 1998
to $30,979,000 in fiscal 1999. Research and development expense, which includes
internal research and development and research funded pursuant to arrangements
with our strategic alliance partners and U.S. Government, decreased 7% from
$26,700,000 in fiscal 1999 to $24,821,000 in fiscal 2000. The reduction in
research and development expenses was primarily attributable to our decision to
focus on fewer internally funded programs resulting in lower payroll and
material costs. Research and development expense decreased 17% from $31,977,000
in fiscal 1998 to $26,700,000 to fiscal 1999. This reduction in research and
development expense was primarily attributable to our expenses returning to more
historical levels after being elevated for much of fiscal 1998 as new research
programs and capabilities were being established specifically in the area of
microbial genetics, human gene discovery and functional genomics.
Selling, general and administrative expenses increased 36% from $4,279,000
in fiscal 1999 to $5,818,000 in fiscal 2000 and decreased slightly from
$4,292,000 in fiscal 1998 to $4,279,000 in fiscal 1999. The increase in selling,
general and administrative expenses from fiscal 1999 to fiscal 2000 was
primarily due to increases in payroll and related expenses, non-cash charges
related to the issuance of stock options and restricted stock awards, as well as
increased shareholder communication expenses caused by an expanded shareholder
base.
Interest Income and Expense
Interest income increased 40% from $1,587,000 in fiscal 1999 to $2,227,000
in fiscal 2000 reflecting an increase in funds available for investment as a
result of (i) proceeds received from the sale of common stock through a public
offering, (ii) the sale of common stock to one of our strategic partners and
(iii) proceeds received from the exercise of stock options. Interest income
decreased 34% from $2,387,000 in fiscal 1998 to $1,587,000 in fiscal 1999 due
primarily to the decrease in funds available for investment during fiscal 1999
as a result of cash being utilized to fund our operations.
Interest expense decreased 13% from $954,000 in fiscal 1999 to $827,000 in
fiscal 2000 and decreased 17% from $1,147,000 in fiscal 1998 to $954,000 in
fiscal 1999. Both of these decreases were due to a decrease in our outstanding
balances under long-term obligations.
Liquidity and Capital Resources
Our primary sources of cash have been payments received from strategic
alliances, subscription fees, government grants and contracts, borrowings under
equipment lending facilities and capital leases and proceeds from sale of equity
securities.
As of August 31, 2000, we had cash, cash equivalents, restricted cash and
short-term and long-term marketable securities of approximately $75,844,000. In
fiscal 2000, we sold 1,500,000 shares of common stock in a series of
transactions through the Nasdaq National Market, resulting in proceeds received
of approximately $44,723,000, net of issuance costs. During fiscal 2000, we
issued 1,532,302 shares of common stock related to the exercise of stock
options, resulting in proceeds received of approximately $4,155,000. In fiscal
2000, we also sold 678,610 shares of common stock to bioMerieux, a strategic
alliance partner, resulting in proceeds received of approximately $3,732,000,
net of issuance costs
In fiscal 2000, we received payments of $18,031,000 from our strategic
alliance partners consisting of up-front license fees, sponsored research
funding, subscription fee, milestone payments and expense reimbursement, all of
which are included in research funding. We received payments of $19,705,000 and
$21,255,000 in fiscal 1998 and 1999, respectively, from our strategic alliance
partners consisting of sponsored research funding, subscription fees, milestone
payments and expense reimbursement, all of which are included in research
funding.
20
<PAGE> 22
We have various arrangements under which we can finance certain office and
laboratory equipment and leasehold improvements. At August 31, 2000, we had
approximately $461,000 available under these arrangements for future borrowings.
We had an aggregate of approximately $9,263,000 outstanding under our borrowing
arrangements at August 31, 2000. This amount is repayable over the next 36
months, of which $4,720,000 is repayable over the next 12 months. Under these
arrangements, the Company is required to maintain certain financial ratios,
including minimum levels of tangible net worth, total indebtedness to tangible
net worth, minimum cash level, debt service coverage and minimum restricted cash
balances.
Our operating activities provided cash of approximately $3,106,000 in
fiscal 2000 due to a decrease in our net loss and an increase in noncash items
such as depreciation and amortization and amortization of deferred compensation,
and increases in accounts payable, accrued expenses and deferred contract
revenue. The increase in amortization of deferred compensation reflects noncash
charges related to the issuance of stock options and restricted stock. The
increase in accounts payable reflect the purchase of laboratory equipment, which
will eventually be financed under an existing financing arrangement. The
increase in accrued liabilities reflect an increase in payroll related expenses
including withholdings associated with our newly adopted Employee Stock Purchase
Plan. Our operating activities used cash of approximately $3,184,000 and
$9,279,000 in fiscal 1999 and 1998, respectively, to fund our operations.
Our investing activities used cash of approximately $12,259,000 in fiscal
2000 to purchase marketable securities, equipment and additions to leasehold
improvements, partially offset by the conversion of marketable securities to
cash and cash equivalents. Our investing activities provided cash of
approximately $10,241,000 and $10,898,000 in fiscal 1999 and 1998, respectively,
through the conversion of marketable securities to cash and cash equivalents,
partially offset by purchases of marketable securities, equipment and additions
to leasehold.
Capital expenditures totaled $4,560,000 during fiscal 2000 consisting of
leasehold improvements and purchases of laboratory, computer, and office
equipment. The Company utilized existing capital lease and equipment financing
arrangements to finance the majority of these capital expenditures. The Company
currently estimates that it will acquire approximately $5,000,000 in capital
equipment in fiscal 2001 consisting of primarily computers, laboratory
equipment, and additions to leasehold improvement which it intends to finance
under existing and new equipment financing arrangements, yet to be negotiated.
The Company is currently in discussions with several potential sources of
equipment financing.
Financing activities provided cash of approximately $48,462,000 in fiscal
2000 from proceeds received from the sale of equity securities, exercise of
stock options, and employee stock purchase plan, partially offset by payments of
long-term obligations. Financing activities used cash of approximately
$5,233,000 in fiscal 1999 primarily for payments of long-term obligations,
partially offset by proceeds received from the exercise of stock options.
Financing activities provided cash of approximately $756,000 in fiscal 1998
primarily from proceeds received from long-term obligations and the exercise of
stock options, net of payments of long-term obligations.
At August 31, 2000, we had net operating loss and tax credits (investment
and research) carryforwards of approximately $87,055,000 and $3,071,000,
respectively, available to reduce federal taxable income and federal income
taxes, respectively, if any. Net operating loss carryforwards are subject to
review and possible adjustment by the Internal Revenue Service and may be
limited, in the event of certain cumulative changes in ownership interests of
significant shareholders over a three-year period in excess of 50%.
Additionally, certain of these losses are expiring due to the limitations of the
carryforward period.
We believe that our existing capital resources are adequate for the
foreseeable future under our current rate of investment in research and
development. There is no assurance, however, that changes in our plans or events
affecting our operations will not result in accelerated, or unexpected
expenditures.
We may seek additional funding in the future through public or private
financing. Additional financing may not be available when needed, or if
available, it may not be on terms acceptable to us. To the extent that we raise
additional capital by issuing equity or convertible debt securities, ownership
dilution to stockholders will result.
21
<PAGE> 23
We do not currently use derivative financial instruments. We generally
place our marketable security investments in high quality credit instruments, as
specified in our investment policy guidelines; the policy also limits the amount
of credit exposure to any one issue, issuer, and type of instrument. We do not
expect any material loss from our marketable security investments and therefore
believe that our potential interest rate exposure is limited.
This Form 10-K and documents we have filed with the Securities and Exchange
Commission contain forward-looking statements made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements represent our management's judgement regarding future
events. Forward-looking statements typically are identified by use of terms such
as "may," "will," "should," "plan," "expect," "intend," "anticipate,"
"estimate," and similar words, although some forward-looking statements are
expressed differently. All forward-looking statements, other than statements of
historical fact, included in this report regarding our financial position,
business strategy and plans or objectives for future operations are
forward-looking statements. We cannot guarantee the accuracy of the
forward-looking statements, nor do we plan to update these forward-looking
statements. You should be aware that our actual results could differ materially
from those contained in the forward looking statements due to a number of risks
affecting our business, including the ability of the Company and its alliance
partner to (i) successfully develop products based on the Company's genomic
information, (ii) obtain the necessary governmental approvals, (iii) effectively
commercialize any products developed before its competitors and (iv) obtain and
enforce intellectual property rights, as well as the risk factors set forth in
this Annual Report on Form 10-K and those set forth in other filings that we may
make with the Securities and Exchange commission from time to time.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Financial statements and supplementary data required by Item 8 are set
forth at the pages indicated in Item 14(a) below.
ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
Pursuant to General Instruction G(3) to Form 10K, the information required
for Part III (Items 10, 11, 12, and 13) is incorporated herein by reference from
the Company's proxy statement for the Annual Meeting of Shareholders to be held
on February 27, 2001.
22
<PAGE> 24
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8K
(a) FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES (1) AND (2) See
"Index to Consolidated Financial Statements and Financial Statement Schedules"
appearing on page F-1.
(3) Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
------- -----------
<S> <C>
3 Restated Articles of Organization and By laws(1)
3.1 Amendment dated January 5, 1982 to Restated Articles of
Organization(2)
3.2 Amendment dated January 24, 1983 to Restated Articles of
Organization(3)
3.3 Amendment dated January 17, 1984 to Restated Articles of
Organization(4)
3.4 Amendment dated October 20, 1987 to the By-laws(8)
3.5 Amendment dated December 9, 1987 to Restated Articles of
Organization(9)
3.6 Amendment dated October 16, 1989 to the By-laws(11)
3.7 Amendment dated January 24, 1994 to Articles Restated
Articles of Organization(14)
3.8 Amendment dated August 31, 1994 to Restated Articles of
Organization(14)
10.4 Incentive Stock Option Plan and Form of Stock Option
Certificate(1)
10.6 Genome Therapeutics Corp. (f/k/a Collaborative Research)
Incentive Savings Plan(6)
10.7 Amendment dated November 4, 1986 to the Genome Therapeutics
Corp. (f/k/a Collaborative Research) Incentive Savings Plan
dated March 1, 1985(7)
10.14 1991 Stock Option Plan and Form of Stock Option
Certificate(12)
10.15 Lease dated November 17, 1992 relating to certain property
in Waltham, Massachusetts(13)
10.16 Lease dated June 3, 1993 relating to certain property in
Waltham, Massachusetts(13)
10.19 Employment Agreement with Robert J. Hennessey(13)
10.22 Lease Amendment dated August 1, 1994 relating to certain
property in Waltham, MA(14)
10.24 1993 Stock Option Plan and Form of Stock Option
Certificate(14)
10.28 Agreement between the Company and AstraZeneca PLC (f/k/a
Astra Hassle AB) dated August 31, 1995.(16)*
10.29 Collaboration and License Agreement between the Company,
Schering Corporation and Schering-Plough Ltd., dated as of
December 6, 1995.(18)*
10.30 Form of director Stock Option Agreement and schedule of
director options granted(17)
10.37 Lease amendment dated November 15, 1996 to certain property
in Waltham, MA.(19)
10.38 Collaboration and License Agreement between the Company,
Schering Corporation and Schering-Plough Ltd., dated as of
December 20, 1996.(20)*
10.39 Credit agreement between the Company and Fleet National Bank
dated February 28, 1997.(21)
10.40 Credit agreement between the Company and U S Trust (f/k/a
Sumitomo Bank, Limited) dated July 31, 1997.(22)
10.41 Collaboration and License Agreement between the Company and
Schering Corporation, dated September 22, 1997.(23)*
10.42 Collaboration and License Agreement between the Company and
Schering-Plough Ltd. dated September 22, 1997.(23)*
</TABLE>
23
<PAGE> 25
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
------- -----------
<S> <C>
10.43 Credit modification agreement between the Company and Fleet
National Bank, dated March 9, 1998.(24)
10.44 1997 Directors' Deferred Stock Plan.(25)
10.45 1997 Stock Option Plan.(25)
10.46 Amended Employment Agreement with Robert J. Hennessey.(26)
10.47 Collaboration and License Agreement between the Company and
American Home Products, Inc., acting through its
Wyeth-Ayerst Division, dated December 20, 1999 (27)
10.48 Employment Agreement of Christopher T. Kelly (28)
10.49 Collaboration and License Agreement between Genome
Therapeutics Corporation and bioMerieux Incorporated dated
as of September 30, 1999. (29)
10.50 Registration Rights Agreement between the Company and
bioMerieux Alliance sa dated September 30, 1999 (30)
23. Consent of Arthur Andersen LLP Independent Public
Accounts.(31)
27. Financial Data Schedule.(31)
99. Risk Factors (31)
</TABLE>
---------------
* Confidential treatment requested with respect to a portion of this Exhibit.
FOOTNOTES
(1) Filed as exhibits to the Company's Registration Statement on Form S-1 (No.
2-75230) and incorporated herein by reference.
(2) Filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the
quarter ended February 27, 1982 and incorporated herein by reference.
(3) Filed as exhibits to the Company's Quarterly Report on Form 10-Q for the
quarter ended February 26, 1983 and incorporated herein by reference.
(4) Filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the
quarter ended February 25, 1984 and incorporated herein by reference.
(6) Filed as an exhibit to the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1985 and incorporated herein by reference.
(7) (4) Filed as exhibits to the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1986 and incorporated herein by reference.
(9) Filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the
quarter ended November 28, 1987 and incorporated herein by reference.
(11) Filed as an exhibit to the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1989 and incorporated herein by reference.
(12) Filed as an exhibit to the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1992 and incorporated herein by reference.
(13) Filed as exhibits to the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1993 and incorporated herein by reference.
(14) Filed as exhibits of the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1994 and incorporated herein by reference.
(16) Filed as an exhibit to the Company's Annual Report on Form 10-K/A3 for the
year ended August 31, 1995 and incorporated herein by reference.
(17) Filed as an exhibit to the Company Registration Statement on Forms S-8
(File No. 33-61191) and incorporated herein by reference.
24
<PAGE> 26
(18) Filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the
quarter ended November 25, 1995 and incorporated herein by reference.
(19) Filed as an exhibit to the Company's 10-K for fiscal year ended August 31,
1996 and incorporated herein by reference.
(20) Filed as an exhibit to the Company's 10-Q/A for the quarter ended March 1,
1997 and incorporated herein by reference.
(21) Filed as an exhibit to the Company's 10-Q for the quarter ended May 31,
1997 and incorporated herein by reference.
(22) Filed as an exhibit to the Company's 10-K for fiscal year ended August 31,
1997 and incorporated herein by reference.
(23) Filed as exhibits to the Company's 10-Q for the quarter ended February 28,
1998 and incorporated herein by reference.
(24) Filed as an exhibit to the Company's 10-Q for the quarter ended May 30,
1998 and incorporated herein by reference.
(25) Filed as exhibits to the Company's Registration Statement on Forms S-8
(333-49069) and incorporated herein by reference.
(26) Filed as an exhibit to the Company's 10-K for fiscal year ended August 31,
1998 and incorporated herein by reference.
(27) Filed as an exhibit to the Company's 8-K filed on March 8, 2000 and
incorporated herein by reference.
(28) Filed as an exhibit to the Company's Registration Statement on Form S-3
(file No 333-32614) and incorporated herein by reference.
(29) Filed as an exhibit to the Company's 10-Q for the quarter ended November
27, 1999 and incorporated herein by reference.
(30) Filed as an exhibit to the Company's Registration Statement on Form S-3
(file No 333-32614) and incorporated herein by reference.
(31) Filed herewith.
25
<PAGE> 27
GENOME THERAPEUTICS CORP. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
Report of Independent Public Accountants.................................. F-2
Consolidated Balance Sheets as of August 31, 1999 and 2000................ F-3
Consolidated Statements of Operations for the Years Ended
August 31, 1998, 1999 and 2000.......................................... F-4
Consolidated Statements of Shareholders' Equity for the
Years Ended August 31, 1998, 1999 and 2000.............................. F-5
Consolidated Statements of Cash Flows for the Years Ended
August 31, 1998, 1999 and 2000.......................................... F-6
Notes to Consolidated Financial Statements................................ F-7
F-1
<PAGE> 28
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Genome Therapeutics Corp.:
We have audited the accompanying consolidated balance sheets of Genome
Therapeutics Corp. and subsidiary (a Massachusetts corporation) as of August 31,
1999 and 2000 and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the three years in the period
ended August 31, 2000. These financial statements are the responsibility of
Genome Therapeutics Corp.'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 Genome Therapeutics Corp.
and subsidiaries as of August 31, 1999 and 2000 and the results of their
operations and their cash flows for each of the three years in the period ended
August 31, 2000 in conformity with accounting principles generally accepted in
the United States.
Boston, Massachusetts
October 11, 2000
F-2
<PAGE> 29
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
AUGUST 31,
---------------------------
1999 2000
------------ ------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents................................. $ 12,802,162 $ 52,111,172
Marketable securities..................................... 12,060,230 22,348,841
Interest receivable....................................... 448,192 574,603
Accounts receivable....................................... 41,236 268,498
Unbilled costs and fees................................... 35,328 548,807
Prepaid expenses and other current assets................. 282,975 383,929
Note receivable from former officer....................... 120,000 --
------------ ------------
Total current assets............................... 25,790,123 76,235,850
Equipment and Leasehold Improvements, at cost:
Laboratory and scientific equipment....................... 15,844,262 18,465,674
Leasehold improvements.................................... 8,205,701 8,260,884
Equipment and furniture................................... 1,344,703 1,114,195
------------ ------------
25,394,666 27,840,753
Less--Accumulated depreciation............................ 12,173,500 14,392,805
------------ ------------
13,221,166 13,447,948
Restricted Cash............................................. 200,000 200,000
Long-term Marketable Securities............................. -- 1,224,184
Other Assets................................................ 273,708 227,541
------------ ------------
$ 39,484,997 $ 91,335,523
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Current maturities of long-term obligations............... $ 3,934,547 $ 4,719,604
Accounts payable.......................................... 987,958 1,543,603
Accrued expenses.......................................... 2,322,780 3,240,423
Deferred revenue.......................................... 2,903,534 3,013,847
------------ ------------
Total current liabilities.......................... 10,148,819 12,517,477
Long-term Obligations, net of current maturities............ 5,925,086 4,543,201
Commitments and Contingencies (Note 4)
Shareholders' Equity:
Common stock, $0.10 par value --
Authorized -- 34,375,000 shares
Issued and outstanding -- 18,542,146 and 22,261,389
shares at August 31, 1999 and 2000, respectively...... 1,854,214 2,226,139
Series B restricted stock, $0.10 par value --
Authorized -- 625,000 shares
Issued and outstanding -- None.......................... -- --
Additional paid-in capital................................ 88,285,619 142,317,055
Accumulated deficit....................................... (66,697,384) (69,513,430)
Deferred compensation..................................... (31,357) (754,919)
------------ ------------
Total shareholders' equity......................... 23,411,092 74,274,845
------------ ------------
$ 39,484,997 $ 91,335,523
============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
<PAGE> 30
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
------------------------------------------
1998 1999 2000
------------ ----------- -----------
<S> <C> <C> <C>
Revenues:
Contract research, licenses and subscription
fees........................................ $ 19,217,132 $24,018,165 $26,423,670
Costs and Expenses:
Research and development....................... 31,977,381 26,699,910 24,820,667
Selling, general and administrative............ 4,292,471 4,279,480 5,818,387
------------ ----------- -----------
Total costs and expenses............... 36,269,852 30,979,390 30,639,054
------------ ----------- -----------
Loss from operations........................... (17,052,720) (6,961,225) (4,215,384)
Interest Income (Expense):
Interest income................................ 2,386,523 1,586,798 2,226,786
Interest expense............................... (1,147,186) (953,668) (827,448)
------------ ----------- -----------
Net interest income.................... 1,239,337 633,130 1,399,338
------------ ----------- -----------
Net loss............................... $(15,813,383) $(6,328,095) $(2,816,046)
============ =========== ===========
Net Loss per Common Share:
Basic and diluted.............................. $ (0.87) $ (0.34) $ (0.14)
============ =========== ===========
Weighted Average Common Equivalent Shares
Outstanding:
Basic and diluted.............................. 18,212,365 18,382,707 20,277,076
============ =========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-4
<PAGE> 31
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
----------------------- ADDITIONAL TOTAL
$0.10 PAID-IN ACCUMULATED DEFERRED SHAREHOLDERS'
SHARES PAR VALUE CAPITAL DEFICIT COMPENSATION EQUITY
---------- ---------- ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, August 31, 1997............... 17,782,929 $1,778,293 $ 86,942,034 $(44,555,906) $ (218,224) $43,946,197
Exercise of stock options............ 529,660 52,966 930,615 -- -- 983,581
Deferred compensation from grant of
stock options...................... -- -- 91,874 -- (91,874) --
Amortization of deferred compensation
and other compensation expense..... -- -- -- -- 131,405 131,405
Net loss............................. -- -- -- (15,813,383) -- (15,813,383)
---------- ---------- ------------ ------------ ----------- -----------
Balance, August 31, 1998............... 18,312,589 1,831,259 87,964,523 (60,369,289) (178,693) 29,247,800
Exercise of stock options............ 228,757 22,875 322,121 -- -- 344,996
Issuance of stock under directors
deferred stock plan................ 800 80 -- -- -- 80
Deferred compensation from grant of
stock options...................... -- -- 60,006 -- (60,006) --
Amortization of deferred compensation
and other compensation expense..... -- -- -- -- 142,847 142,847
Compensation expense related to grant
of stock options................... -- -- 3,464 -- -- 3,464
Reversal of deferred compensation
related to termination of stock
options............................ -- -- (64,495) -- 64,495 --
Net loss............................. -- -- -- (6,328,095) -- (6,328,095)
---------- ---------- ------------ ------------ ----------- -----------
Balance, August 31, 1999............... 18,542,146 1,854,214 88,285,619 (66,697,384) (31,357) 23,411,092
Sale of common stock, net of issuance
costs of $735,951.................. 2,178,610 217,861 48,236,983 -- -- 48,454,844
Exercise of stock options............ 1,532,302 153,231 4,002,098 -- -- 4,155,329
Employee stock purchase plan......... 8,331 833 214,723 -- -- 215,556
Deferred compensation from grant of
stock options...................... -- -- 1,707,902 -- (1,707,902) --
Amortization of deferred compensation
and other compensation expense..... -- -- -- -- 854,070 854,070
Reversal of deferred compensation
related to termination of stock
options............................ -- -- (130,270) -- 130,270 --
Net loss............................. -- -- -- (2,816,046) -- (2,816,046)
---------- ---------- ------------ ------------ ----------- -----------
Balance, August 31, 2000............... 22,261,389 $2,226,139 $142,317,055 $(69,513,430) $ (754,919) $74,274,845
========== ========== ============ ============ =========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE> 32
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
------------------------------------------
1998 1999 2000
------------ ------------ ------------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net loss.................................................. $(15,813,383) $ (6,328,095) $ (2,816,046)
Adjustments to reconcile net loss to net cash (used in)
provided by operating activities-
Depreciation and amortization........................... 3,714,383 4,063,977 4,279,091
Loss on disposal of fixed assets........................ 288,979 -- 53,871
Amortization of deferred compensation................... 131,405 146,311 854,070
Common stock issued for services rendered............... -- 80 --
Changes in assets and liabilities-
Interest receivable................................... 538,200 294,219 (126,411)
Accounts receivable................................... 29,460 (15,554) (227,262)
Unbilled costs and fees............................... (9,979) 114,971 (513,479)
Prepaid expenses and other current assets............. (287,317) 412,582 (100,954)
Note receivable from former officer................... -- 40,000 120,000
Accounts payable...................................... (310,781) 10,348 555,645
Accrued expenses...................................... 76,612 (127,620) 917,643
Deferred revenue...................................... 2,363,442 (1,795,603) 110,313
------------ ------------ ------------
Total adjustments.................................. 6,534,404 3,143,711 5,922,527
------------ ------------ ------------
Net cash (used in) provided by operating
activities....................................... (9,278,979) (3,184,384) 3,106,481
------------ ------------ ------------
Cash Flows from Investing Activities:
Purchases of marketable securities........................ (30,820,944) (21,858,137) (54,814,345)
Proceeds from sale of marketable securities............... 46,761,250 32,797,000 43,301,550
Purchases of equipment and leasehold improvements......... (5,162,311) (834,351) (792,807)
Decrease in restricted cash............................... 101,500 -- --
Decrease in other assets.................................. 18,722 136,559 46,167
------------ ------------ ------------
Net cash provided by (used in) investing
activities....................................... 10,898,217 10,241,071 (12,259,435)
------------ ------------ ------------
Cash Flows from Financing Activities:
Proceeds from sale of common stock........................ -- -- 48,454,844
Proceeds from exercise of stock options................... 983,581 344,996 4,155,329
Proceeds from employee stock purchase plan................ -- -- 215,556
Payments on long-term obligations......................... (4,238,341) (5,577,697) (4,363,765)
Proceeds from long-term obligations....................... 4,011,000 -- --
------------ ------------ ------------
Net cash provided by (used in) financing
activities....................................... 756,240 (5,232,701) 48,461,964
------------ ------------ ------------
Net Increase in Cash and Cash Equivalents................... 2,375,478 1,823,986 39,309,010
Cash and Cash Equivalents, beginning of year................ 8,602,698 10,978,176 12,802,162
------------ ------------ ------------
Cash and Cash Equivalents, end of year...................... $ 10,978,176 $ 12,802,162 $ 52,111,172
============ ============ ============
Supplemental Disclosure of Cash Flow Information:
Interest paid during the year............................. $ 1,147,186 $ 953,668 $ 827,449
============ ============ ============
Income taxes paid during the year......................... $ 24,700 $ 33,019 $ 12,000
============ ============ ============
Supplemental Disclosure of Noncash Investing and Financing
Activities:
Equipment acquired under capital leases................... $ 3,572,777 $ 1,347,586 $ 3,766,937
============ ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE> 33
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Genome Therapeutics Corp. (the Company) is a leader in commercialization of
genomics-based drug discovery. The Company has over 10 years of experience in
genomic research and has been selected as the only commercial genomics company
to participate in the Human Genome Project sponsored by the United States
government. The Company's commercial strategy is to apply its broad
understanding of human and infectious disease genomics and its integrated
proprietary technologies to validate novel drugs for commercialization through
alliances with pharmaceutical companies.
The accompanying consolidated financial statements reflect the application
of certain accounting policies described in this note and elsewhere in the
accompanying notes to the consolidated financial statements.
(a) Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiary. All material intercompany accounts
and transactions have been eliminated in consolidation.
(b) Revenue Recognition
Revenues consist of license fees, contract research and subscription fees
from the PathoGenomeTM Database derived from alliances with pharmaceutical
companies, government grants, fees received from custom gene sequencing and
analysis and from royalties in 1998 and 1999. Revenues from contract research
derived from alliances with pharmaceutical companies, from government grants and
contracts, and from custom gene sequencing and analysis are recognized over the
respective contract periods as the services are provided. License fees are
recognized as earned. Subscription fees from the PathoGenome Database are
recognized ratably over the life of the subscription. Milestone payments from
research and development alliances are recognized when they are achieved.
Unbilled costs and fees represent revenue recognized prior to billing. Deferred
revenue represents amounts received prior to revenue recognition.
Staff Accounting Bulletin (SAB) No. 101, Revenue Recognition, was issued in
December 1999 and is effective for companies with fiscal years beginning after
December 15, 2000. SAB No. 101 will require companies to recognize certain
up-front nonrefundable fees over the life of the related alliances when such
fees are received in conjunction with alliances that have multiple elements. The
Company is required to adopt this new accounting principles through a cumulative
charge to its statement of operations, in accordance with Accounting Principles
Board (APB) Opinion No. 20, Accounting Changes, no later than the fourth quarter
of fiscal 2001. The Company believes that the adoption of SAB No. 101 will not
have a material impact on its future operating results as it relates to the
up-front nonrefundable payments and milestone payments received in connection
with alliances.
(c) Equipment and Leasehold Improvements
Equipment and leasehold improvements are depreciated over their estimated
useful lives using the straight-line method. The estimated useful life for
leasehold improvements is the lesser of the term of the lease or the estimated
useful life of the assets. Equipment and all other depreciable assets' useful
lives vary from three to seven years. The majority of the Company's equipment
and leasehold improvements are financed through bank lines of credit.
(d) Net Loss Per Common Share
The Company applies Statement of Financial Accounting Standards (SFAS) No.
128, Earnings per Share, which establishes standards for computing and
presenting earnings per share. Basic and diluted earnings per share were
determined by dividing net loss by the weighted average common shares
outstanding
F-7
<PAGE> 34
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
during the period. Diluted loss per share is the same as basic loss per share
for all periods presented, as the effect of the potential common stock is
antidilutive. Antidilutive securities which consist of stock options and
warrants that are not included in diluted net loss per common share were
4,089,226, 3,301,008 and 2,414,665 at August 31, 1998, 1999 and 2000,
respectively.
(e) Concentration of Credit Risk
SFAS No. 105, Disclosure of Information about Financial Instruments with
Off-Balance-Sheet Risk and Financial Instruments with Concentrations of Credit
Risk, requires disclosure of any significant off-balance-sheet and credit risk
concentrations. The Company has no significant off-balance-sheet or
concentrations of credit risk such as foreign exchange contracts, options
contracts or other foreign hedging arrangements. The Company maintains its cash,
cash equivalents and marketable securities balances with several nonaffiliated
institutions.
The following table summarizes the number of customers that individually
comprise greater than 10% of total revenues and their aggregate percentage of
the Company's total revenues:
<TABLE>
<CAPTION>
PERCENTAGE OF
NUMBER OF TOTAL REVENUES
SIGNIFICANT --------------
CUSTOMERS A B
----------- --- ---
<S> <C> <C> <C>
Year ended August 31,
1998......................................... 2 9% 71%
1999......................................... 2 4% 75%
2000......................................... 2 28% 45%
</TABLE>
The following table summarizes the number of customers that individually
comprise greater than 10% of total accounts receivable and their aggregate
percentage of the Company's total accounts receivable:
<TABLE>
<CAPTION>
PERCENTAGE OF
NUMBER OF TOTAL ACCOUNTS RECEIVABLE
SIGNIFICANT ----------------------------
CUSTOMERS A B C D
----------- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Year ended August 31,
1998......................................... 2 34% 60% 0% 0%
1999......................................... 3 29% 55% 17% 0%
2000......................................... 3 59% 18% 0% 11%
</TABLE>
(f) Use of Estimates
The preparation of financial statements, in conformity with accounting
principles generally accepted in the United States, 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.
(g) Financial Instruments
The estimated fair value of the Company's financial instruments, which
include cash equivalents, marketable securities, accounts receivable, accounts
payable and long-term debt, approximates carrying value.
(h) Reclassifications
The Company has reclassified certain prior-year information to conform with
the current year's presentation.
F-8
<PAGE> 35
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(i) Comprehensive Loss
The Company has adopted SFAS No. 130, Reporting Comprehensive Income. SFAS
No. 130 requires disclosure of all components of comprehensive income on an
annual and interim basis. Comprehensive income is defined as the change in
equity of a business enterprise during a period from transactions and other
events and circumstances from nonowner sources. Comprehensive loss is the same
as reported net loss for all periods presented.
(j) Segment Reporting
The Company applies SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information. SFAS No. 131 establishes standards for
reporting information regarding operating segments in annual financial
statements and requires selected information for those segments to be presented
in interim financial reports issued to stockholders. SFAS No. 131 also
establishes standards for related disclosures about products and services and
geographic areas. Operating segments are identified as components of an
enterprise about which separate discrete financial information is available for
evaluation by the chief operating decision maker, or decision making group, in
making decisions how to allocate resources and assess performance. The Company's
chief decision makers, as defined under SFAS No. 131, are the chief executive
officer and chief financial officer. To date, the Company has viewed its
operations and manages its business as principally one operating segment. As a
result, the financial information disclosed herein represents all of the
material financial information related to the Company's principal operating
segment. All of the Company's revenues are generated in the United States and
substantially all assets are located in the United States.
(k) Recent Accounting Pronouncement
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities. This
statement establishes accounting and reporting standards for derivative
instruments, including derivative instruments embedded in other contracts and
for hedging activities. SFAS No. 133, as amended by SFAS No. 137, is effective
for all fiscal quarters of fiscal years beginning after June 15, 2000. The
Company does not expect SFAS No. 133 to have a material impact on its financial
statements.
SAB No. 101 was issued in December 1999 and is effective for companies with
fiscal years beginning after December 15, 2000. SAB No. 101 will require
companies to recognize certain up-front nonrefundable fees over the life of the
related alliances when such fees are received in conjunction with alliances that
have multiple elements. The Company is required to adopt this new accounting
principles through a cumulative charge to its statement of operations, in
accordance with APB Opinion No. 20 no later than the fourth quarter of fiscal
2001. The Company believes that the adoption of SAB No. 101 will not have a
material impact on its future operating results as it relates to the up-front
nonrefundable payments and milestone payments received in connection with
alliances.
In March 2000, the FASB issued Interpretation No. 44, Accounting for
Certain Transactions Involving Stock Compensation -- An Interpretation of APB
Opinion No. 25. The Interpretation clarifies the application of APB No. 25 in
certain situations, as defined. The Interpretation is effective July 1, 2000;
however, it covers certain events occurring during the period after December 15,
1998 but before the effective date. To the extent that events covered by the
Interpretation occur during the period after December 15, 1998 but before the
effective date, the effects of applying this Interpretation would be recognized
on a prospective basis from the effective date. Accordingly, upon initial
application of the final Interpretation, (i) no adjustments would be made to the
financial statements for periods before the effective date and (ii) no expense
would be recognized for any additional compensation cost measured that is
attributable to periods before the effective date. The Company expects that the
adoption of this interpretation would not have any effect on its financial
statements.
F-9
<PAGE> 36
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(2) CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company applies SFAS No. 115, Accounting for Certain Investments in
Debt and Equity Securities. At August 31, 1999 and 2000, the Company's cash
equivalents and marketable securities are classified as held-to-maturity, as the
Company has the positive intent and ability to hold these securities to
maturity. Cash equivalents are short-term, highly liquid investments with
original maturities of less than 90 days. Marketable securities are investment
securities with original maturities of greater than 90 days. Cash equivalents
are carried at cost, which approximates market value, and consist of debt
securities. Marketable securities are recorded at amortized cost, which
approximates market value and consist of commercial paper and U.S. government
debt securities. The average maturity of the Company's marketable securities is
approximately 5.5 months at August 31, 2000. At August 31, 2000, the difference
between the amortized cost and the market value of the Company's marketable
securities was approximately $68,000.
At August 31, 1999 and 2000, the Company's cash, cash equivalents and
marketable securities consisted of the following:
<TABLE>
<CAPTION>
1999 2000
----------- -----------
<S> <C> <C>
Cash and Cash Equivalents:
Cash...................................................... $ 4,304,266 $42,211,172
Debt securities........................................... 8,497,896 9,900,000
----------- -----------
Total cash and cash equivalents................... $12,802,162 $52,111,172
=========== ===========
Marketable Securities:
Corporate and other debt securities....................... $12,260,230 $23,573,025
----------- -----------
Total marketable securities....................... $12,260,230 $23,573,025
=========== ===========
</TABLE>
The Company has $200,000 in restricted cash at August 31, 1999 and 2000 in
connection with certain capital lease obligations (see Note 5).
(3) INCOME TAXES
The Company applies SFAS No. 109, Accounting for Income Taxes, which
requires the Company to recognize deferred tax assets and liabilities for
expected future tax consequences of events that have been recognized in the
financial statements or tax returns. Under this method, deferred tax assets and
liabilities are determined based on the difference between the financial
statement and tax bases of assets and liabilities using the enacted tax rates in
effect for the year in which the differences are expected to reverse. SFAS No.
109 requires deferred tax assets and liabilities to be adjusted when the tax
rates or other provisions of the income tax laws change.
At August 31, 2000, the Company had net operating loss and tax credit
carryforwards of approximately $87,055,000 and $3,071,000, respectively,
available to reduce federal taxable income and federal income taxes,
respectively, if any. Net operating loss carryforwards and credits are subject
to review and possible adjustment by the Internal Revenue Service and may be
limited in the event of certain cumulative changes in the ownership interest of
significant shareholders over a three-year period in excess of 50%.
F-10
<PAGE> 37
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The net operating loss carryforwards and tax credits expire approximately
as follows:
<TABLE>
<CAPTION>
INVESTMENT
NET OPERATING RESEARCH TAX TAX
LOSS CREDIT CREDIT
EXPIRATION DATE CARRYFORWARDS CARRYFORWARDS CARRYFORWARDS
--------------- ------------- ------------- -------------
<S> <C> <C> <C>
2001................................ $ 4,811,000 $ 24,000 $ 3,000
2002................................ 2,254,000 -- --
2003................................ 697,000 -- --
2004................................ 2,702,000 -- --
2005-2020........................... 76,591,000 3,047,000 37,000
----------- ---------- -------
$87,055,000 $3,071,000 $40,000
=========== ========== =======
</TABLE>
The components of the deferred tax assets at the respective dates are as
follows:
<TABLE>
<CAPTION>
AUGUST 31,
----------------------------
1999 2000
------------ ------------
<S> <C> <C>
Net operating loss carryforwards................ $ 24,237,000 $ 33,404,000
Research and development credits................ 2,879,000 3,071,000
Investment tax credits.......................... 258,000 40,000
Other, net...................................... 2,318,000 2,684,000
------------ ------------
29,692,000 39,199,000
Valuation allowance............................. (29,692,000) (39,199,000)
------------ ------------
$ -- $ --
============ ============
</TABLE>
The valuation allowance has been provided due to the uncertainty
surrounding the realization of the deferred tax assets.
(4) COMMITMENTS
(a) Lease Commitments
At August 31, 2000, the Company has operating leases for office and
laboratory facilities, the last of which expires on November 15, 2006.
Approximate minimum lease payments and facilities charges under the leases at
August 31, 2000 are as follows:
<TABLE>
<S> <C>
Year ending August 31,
2001................................................... $ 950,000
2002................................................... 988,000
2003................................................... 1,052,000
2004................................................... 1,111,000
2005................................................... 1,116,000
Thereafter............................................. 1,354,000
----------
$6,571,000
</TABLE>
Rental expense was approximately $1,085,000, $899,000 and $913,000 in the
years ended August 31, 1998, 1999 and 2000, respectively.
F-11
<PAGE> 38
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(b) Employment Agreement
The Company has employment agreements with its executive officers, which
provide for bonuses, as defined, and severance benefits upon termination of
employment, as defined.
(5) LONG-TERM OBLIGATIONS
On February 23, 2000, the Company entered into an equipment lease line of
credit under which it can finance up to $4,000,000 of laboratory, computer and
office equipment. The Company, at its discretion, can enter into either an
operating or capital lease. Borrowings under operating leases are payable in 24
monthly installments and capital leases are payable in 36 monthly installments.
As of August 31, 2000, the Company utilized $144,000 in operating leases and
$3,395,000 in capital leases. The interest rates under the capital leases range
from 9.58% to 10.37%. The Company had approximately $461,000 available under
this line of credit at August 31, 2000.
On February 28, 1997, the Company entered into an equipment lease line of
credit under which it financed $6,000,000 of laboratory, computer and office
equipment. The lease is payable in 48 monthly installments from the point of
takedown, at a fixed rate of 8.95%. On March 9, 1998, the Company increased the
equipment lease line of credit by $4,300,000 to $10,300,000. The increased
borrowings under the equipment lease line of credit were utilized to finance
laboratory, computer and office equipment. Borrowings under the increased credit
line are payable in 15 quarterly installments commencing March 31, 1999, at a
fixed rate of 8.78%. The Company is required to maintain certain restricted cash
balances, as defined (see Note 2). In addition, the Company is required to
maintain certain financial ratios pertaining to minimum cash balances, tangible
net worth and debt service coverage. The line of credit expired on December 31,
1999. At this time, the Company had utilized a total of $8,347,000 of the
$10,300,000 available under this line of credit.
On July 31, 1997, the Company entered into a financing arrangement under
which it financed $6,000,000 of laboratory and office renovations at its Beaver
Street facility. The principal amount of the loan will be repaid over 48
consecutive months commencing on July 1, 1998. The interest rates range from
7.63% to 8.16%. The Company is required to maintain certain financial ratios
pertaining to minimum cash balances, debt to net worth and tangible net worth.
The Company has no additional availability under this financing arrangement at
August 31, 2000.
The Company has entered into other capital lease line arrangements under
which it financed approximately $714,000 of certain laboratory, computer and
office equipment. These leases are payable in 36 monthly installments. Interest
rates range from 9.15% to 10.28%. The Company has no additional borrowing
capacity under these capital lease agreements at August 31, 2000.
Payments under long-term obligations at August 31, 1999 are as follows:
<TABLE>
<S> <C>
Year ending August 31,
2001................................................... $ 5,314,732
2002................................................... 3,640,488
2003................................................... 1,197,580
-----------
Total minimum lease payments...................... 10,152,800
Less--Amount representing interest.......................... 889,995
-----------
Present value of total minimum lease payments.......... 9,262,805
Less--Current portion....................................... 4,719,604
-----------
$ 4,543,201
===========
</TABLE>
F-12
<PAGE> 39
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(6) SHAREHOLDERS' EQUITY
(a) Stock Options
The Company has granted stock options to key employees and consultants
under its 1991, 1993, 1995 and 1997 Stock Option Plans. The purchase price and
vesting schedule applicable to each option grant are determined by the stock
option and compensation committee of the Board of Directors. In addition, under
separate agreements not covered by any plan, the Company has granted certain key
employees, and certain directors of the Company, options to purchase common
stock.
The Company granted nonqualified stock options for the purchase of 65,000
and 10,000 shares of common stock to consultants in the years ended August 31,
1997 and 1999, respectively. The options were granted with an exercise price
equal to the fair market value price at the date of grant and vest ratably over
the contract period, as defined. In accordance with Emerging Issues Task Force
(EITF) No. 96-18, Accounting for Equity Instruments That Are Issued to Other
Than Employees for Acquiring, or in Conjunction with Selling Goods or Services,
the Company will measure the value of options as they vest using the
Black-Scholes option pricing model. The Company has charged $12,648, $16,113 and
$150,121 to operations for the years ended August 31, 1998, 1999 and 2000,
respectively, related to the grant of these options.
The Company records deferred compensation when stock options, restricted
stock and awards under the 1997 Directors Plan are granted at an exercise price
per share that is less than the fair market value on the date of the grant.
Deferred compensation is recorded in an amount equal to the excess of the fair
market value per share over the exercise price times the number of options
granted. Deferred compensation is being recognized as an expense over the
estimated vesting period of the underlying options. In the years ended 1998,
1999 and 2000, the Company recorded $91,874, $60,006 and $1,707,902,
respectively, of deferred compensation. The Company recorded compensation
expense of approximately $131,405, $146,311 and $854,070 for the years ended
August 31, 1998, 1999 and 2000, respectively. During fiscal 1999 and 2000, in
connection with the termination of several employees, the Company reversed
$64,495 and $130,270, respectively, of unamortized deferred compensation due to
the cancellation of the options.
In fiscal 2000, the Company granted to certain employees the right to
receive 154,616 shares of common stock. The employees will receive the common
stock in two equal installments on the anniversary of the grant date. The
Company recorded deferred compensation of $647,189 related to the grant of these
rights to receive the common stock, which will be amortized to expense over the
period the shares are earned. In the year ended August 31, 2000, four employees
resigned and forfeited 28,900 shares of the restricted stock.
In November 1998, the Board of Directors authorized a Stock Option
Repricing Program (the Program). Under the terms of the Program, all current
employees excluding the chairman, president and chief executive officer had the
option to request that the Company cancel their existing options and replace
them with a new option to purchase 85%-90% of the original number of shares of
common stock granted, at the new option exercise price and vesting schedule. The
new exercise price was calculated using the Black-Scholes option pricing model,
which was greater than the fair market value on the date of grant. The repriced
shares cannot be exercised for 12 months from the date of reissuance. These
repriced options are reflected as grants and cancellations in the stock activity
below.
F-13
<PAGE> 40
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
There were 824,239 common shares available for future grant at August 31,
2000. The following is a summary of all stock option activity:
<TABLE>
<CAPTION>
NUMBER OF EXERCISE PRICE WEIGHTED
SHARES RANGE AVERAGE PRICE
---------- -------------- -------------
<S> <C> <C> <C>
Outstanding, August 31, 1997......................... 4,645,688 $0.20-14.50 $4.63
Granted............................................ 468,900 4.88-9.50 6.30
Exercised.......................................... (529,660) 1.31-8.31 1.86
Cancelled.......................................... (719,952) 2.03-14.50 7.77
---------- ----------- -----
Outstanding, August 31, 1998......................... 3,864,976 0.20-14.50 4.63
Granted............................................ 1,016,379 2.31-4.23 3.95
Exercised.......................................... (228,757) 0.20-2.62 1.51
Cancelled.......................................... (1,351,590) 0.20-14.50 7.22
---------- ----------- -----
Outstanding, August 31, 1999......................... 3,301,008 1.53-14.50 3.57
Granted............................................ 958,258 0.00-66.00 5.66
Exercised.......................................... (1,532,302) 0.00-9.50 2.71
Cancelled.......................................... (338,735) 0.00-49.91 5.31
---------- ----------- -----
Outstanding, August 31, 2000......................... 2,388,229 $0.00-66.00 $4.71
========== =========== =====
Exercisable, August 31, 2000......................... 1,481,654 $0.00-66.00 $4.00
========== =========== =====
Exercisable, August 31, 1999......................... 2,426,749 $1.53-14.50 $3.16
========== =========== =====
Exercisable, August 31, 1998......................... 2,674,323 $0.20-14.50 $3.43
========== =========== =====
</TABLE>
The range of exercise prices for options outstanding and options
exercisable at August 31, 2000 are as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
REMAINING
CONTRACTUAL OPTIONS OUTSTANDING OPTIONS EXERCISABLE
LIFE OF -------------------------- --------------------------
OPTIONS WEIGHTED WEIGHTED
RANGE OF OUTSTANDING AVERAGE AVERAGE
EXERCISE PRICES (IN YEARS) NUMBER EXERCISE PRICE NUMBER EXERCISE PRICE
--------------- ----------- --------- -------------- --------- --------------
<S> <C> <C> <C> <C> <C>
$ 0.00-2.25..................... 3.38 773,783 $ 1.47 666,397 $ 1.63
2.31-3.38..................... 6.64 258,487 2.85 119,739 2.50
3.52-4.88..................... 8.82 857,398 4.26 332,566 4.27
5.34-7.50..................... 6.04 77,376 6.94 59,821 7.06
8.31-9.50..................... 5.83 335,685 8.90 302,631 8.87
14.28-66.00.................... 9.70 85,500 25.68 500 14.50
---- --------- ------ --------- ------
Total................. 6.34 2,388,229 $ 4.71 1,481,654 $ 4.00
==== ========= ====== ========= ======
</TABLE>
(b) Sale of Common Stock
In September 1999, the Company sold 678,610 shares of common stock to
bioMerieux as part of a strategic alliance agreement (see Note 8 (d)). The
Company received approximately $3,732,115 in proceeds from the sale of common
stock, net of issuance costs of approximately $17,885.
F-14
<PAGE> 41
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In June and July of 2000, the Company sold 1,500,000 shares of its common
stock in a series of transactions through the Nasdaq National Market at an
average price of $31.01 per share resulting in proceeds of approximately
$44,722,729, net of issuance costs. The Company incurred approximately $718,066
in issuance costs associated with these transactions.
(c) Pro Forma Disclosure of Stock-based Compensation
The Company applies SFAS No. 123, Accounting for Stock-Based Compensation,
which requires the measurement of the fair value of stock options or warrants
granted to employees to be included in the consolidated statement of operations
or, alternatively, disclosed in the notes to consolidated financial statements.
The Company has determined that it will continue to account for stock-based
compensation for employees and nonemployee directors under APB Opinion No. 25
and elect the disclosure-only alternative under SFAS No. 123. The Company has
computed the pro forma disclosures required under SFAS No. 123 for stock options
granted in 1997, 1998 and 1999 using the Black-Scholes option pricing model. The
weighted average assumptions used for 1998, 1999 and 2000 are as follows:
<TABLE>
<CAPTION>
1998 1999 2000
----------- ----------- -----------
<S> <C> <C> <C>
Risk-free interest rate.................. 5.36%-6.20% 4.46%-6.15% 5.78%-6.71%
Expected dividend yield.................. -- -- --
Expected life............................ 7 years 7 years 5 years
Expected volatility...................... 65% 65% 87%
Weighted average fair market value at
grant date............................. $3.61 $4.21 $5.46
</TABLE>
The total value of the options granted to employees during 1998, 1999 and
2000 was computed as $1,635,318, $1,255,868 and $3,493,491, respectively. Of
these amounts, $652,668, $966,309 and $2,058,730 would be charged to operations
for the years ended August 31, 1998, 1999 and 2000, respectively. The remaining
amount, approximately $2,153,651, would be amortized over the remaining vesting
periods. The pro forma effect of these option grants for the years ended August
31, 1998, 1999 and 2000 is as follows:
<TABLE>
<CAPTION>
1998 AS REPORTED PRO FORMA
---- ------------ ------------
<S> <C> <C>
Net loss........................................ $(15,813,383) $(16,466,051)
============ ============
Net loss per share.............................. $ (0.87) $ (0.90)
============ ============
</TABLE>
<TABLE>
<CAPTION>
1999
----
<S> <C> <C>
Net loss........................................ $ (6,328,095) $ (7,294,404)
============ ============
Net loss per share.............................. $ (0.34) $ (0.40)
============ ============
</TABLE>
<TABLE>
<CAPTION>
2000
----
<S> <C> <C>
Net loss........................................ $ (2,816,046) $ (4,874,776)
============ ============
Net loss per share.............................. $ (0.14) $ (0.24)
============ ============
</TABLE>
The resulting pro forma compensation expense may not be representative of
the amount to be expected in future years, as the pro forma expense may vary
based on the number of options granted. The Black-Scholes option pricing model
was developed for use in estimating the fair value of traded options that have
no vesting restrictions and are fully transferable. In addition, option pricing
models require the input of highly subjective assumptions, including expected
stock price volatility. Because the Company's employee stock options have
characteristics significantly different from those of traded options, and
because changes in the subjective input
F-15
<PAGE> 42
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
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 its employee stock options.
(d) 1997 Directors' Deferred Stock Plan
In January 1998, the Company's stockholders approved the 1997 Directors'
Deferred Stock Plan (the 1997 Directors' Plan) covering 150,000 shares of common
stock. The stock will be granted as services are performed by members of the
Company's Board of Directors. As of August 31, 2000, the Company issued 27,236
shares of restricted common stock under the 1997 Directors' Plan. These shares
are issued at the end of the three-year period or earlier if the individual
ceases to serve as a member of the Company's Board of Directors. As of August
31, 2000, 800 shares of common stock were issued under the 1997 Directors' Plan.
(e) Employee Stock Purchase Plan
On February 28, 2000, the Company adopted an Employee Stock Purchase Plan
under which eligible employees may contribute up to 15% of their earnings toward
the semi-annual purchase of the Company's common stock. The employees' purchase
price will be 85% of the fair market value of the common stock at the time of
grant of option or the time at which the option is deemed exercised, whichever
is less. No compensation expense will be recorded in connection with the plan.
As of August 31, 2000, the Company has issued 8,331 shares under this plan.
(7) INCENTIVE SAVINGS 401(K) PLAN
The Company maintains an incentive savings 401(k) plan (the Plan) for the
benefit of all employees. The Company matches 100% of the first 2% of salary and
50% of the next 2% of salary, limited to the first $100,000 of annual salary.
The Company contributed $229,460, $241,587 and $199,476 to the Plan for the
years ended August 31, 1998, 1999 and 2000, respectively.
(8) ALLIANCES
(a) AstraZeneca
In August 1995, the Company entered into a strategic alliance with
AstraZeneca (Astra), formerly Astra Hassle AB, to develop drugs, vaccines and
diagnostic products effective against peptic ulcers or any other disease caused
by H. pylori. The Company granted Astra exclusive access to the Company's H.
pylori genomic sequence database and exclusive worldwide rights to make, use and
sell products based on the Company's H. pylori technology. The agreement
provided for a four-year research alliance to further develop and annotate the
Company's H. pylori genomic sequence database, identify therapeutic and vaccine
targets and develop appropriate biological assays. In August 1999, the Company
successfully concluded its portion of the research alliance and transitioned the
program into AstraZeneca's pipeline for pre-clinical testing.
Under this agreement, Astra agreed to pay the Company subject to the
achievement of certain product development milestones, up to approximately $23.3
million (and possibly a greater amount if more than one product is developed
under the agreement) in license fees, expense allowances, research funding and
milestone payments. The Company received approximately $13.5 million in license
fees, expense allowances, milestone payments and research funding under the
Astra agreement through August 31, 2000. Of such fees, $500,000 is creditable
against any future royalties payable to the Company by Astra under the
agreement.
The Company will also be entitled to receive royalties on Astra's sale of
products protected by the claims of patents licensed exclusively to Astra by the
Company pursuant to the agreement or the discovery of which was enabled in a
significant manner by the genomic database licensed to Astra by the Company. The
Company has the right, under certain circumstances, to convert Astra's license
to a nonexclusive license in the event that Astra is not actively pursuing
commercialization of the technology.
F-16
<PAGE> 43
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company has recognized approximately $1,654,000, $910,000 and $22,000
in revenue under the agreement in the years ended August 31, 1998, 1999 and
2000, respectively, which consisted of alliance research revenue and milestone
payments.
(b) Schering-Plough
In December 1995, the Company entered into a strategic alliance and license
agreement with Schering Corporation and Schering-Plough Ltd. (collectively,
Schering-Plough) providing for the use by Schering-Plough of the genomic
sequence of Staph. aureus to identify and validate new gene targets for
development of drugs to target Staph. aureus and other pathogens that have
become resistant to current antibiotics. As part of this agreement, the Company
granted Schering-Plough exclusive access to the Company's proprietary Staph.
aureus genomic sequence database. The Company also granted Schering-Plough a
nonexclusive license to use the Company's bioinformatics systems for
Schering-Plough's internal use in connection with the genomic databases licensed
to Schering-Plough under the agreement and other genomic databases
Schering-Plough develops or acquires. The Company also agreed to undertake
certain research efforts to identify bacteria-specific genes essential to
microbial survival and to develop biological assays to be used by
Schering-Plough in screening natural product and compound libraries to identify
antibiotics with new mechanisms of action.
Under this agreement, Schering-Plough agreed to pay an initial license fee
and fund a research program for a minimum of two-and-a-half years with an option
to extend. In June 2000, Schering-Plough elected to extend the research program
for the second time through at least September 2001. Under the agreement as
extended, Schering-Plough agreed to pay the Company a minimum of $21.5 million
in an up-front license fee, research funding and milestone payments. Subject to
the achievement of additional product development milestones, Schering-Plough
agreed to pay the Company up to an additional $24 million in milestone payments.
The agreement grants Schering-Plough exclusive worldwide rights to make,
use and sell pharmaceutical and vaccine products based on the genomic sequence
databases licensed to Schering-Plough by the Company and on the technology
developed in the course of the research program. The Company has also granted
Schering-Plough a right of first negotiation if during the term of the research
plan the Company desires to enter into an alliance with a third party with
respect to the development or sale of any compounds that are targeted against,
as their primary indication, the pathogen that is the principal subject of the
Company's agreement with Schering-Plough. The Company will be entitled to
receive royalties on Schering-Plough's sale of therapeutic products and vaccines
developed using the technology licensed from the Company. Subject to certain
limitations, the Company retained the rights to make, use and sell diagnostic
products developed based on the Company's genomic database licensed to
Schering-Plough or the technology developed in the course of the research
program.
Under the December 1995 agreement, the Company has recognized approximately
$3,436,000, $2,491,000 and $2,071,000 in revenue in the years ended August 31,
1998, 1999 and 2000, respectively, under this agreement, which consisted of
alliance research revenue and milestone payments. A total of approximately
$19,312,000 has been received through August 31, 2000.
In December 1996, the Company entered into its second strategic alliance
and license agreement with Schering-Plough. This agreement calls for the use of
genomics to discover new pharmaceutical products for treating asthma. As part of
the agreement, the Company will employ its high-throughput disease gene
identification, bioinformatics and genomics sequencing capabilities to identify
genes and associated proteins that can be utilized by Schering-Plough to develop
pharmaceuticals and vaccines for treating asthma. Under this agreement, the
Company has granted Schering-Plough exclusive access to (i) certain gene
sequence databases made available under this research program; (ii) information
made available to the Company under certain third-party research agreements and
(iii) an exclusive worldwide right and license to make, use and
F-17
<PAGE> 44
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
sell pharmaceutical and vaccine products based on the rights to develop and
commercialize diagnostic products that may result from this alliance.
Under this agreement, Schering-Plough agreed to pay an initial license fee
and an expense allowance to the Company. Schering-Plough was required to fund a
research program for a minimum number of years with an option to extend. In July
1998, Schering-Plough amended the original agreement in order to accelerate the
research effort being undertaken. In May 2000, Schering-Plough extended this
research alliance through at least December 2001. In addition, upon completion
of certain scientific developments, Schering-Plough will make milestone payments
to the Company, as well as pay royalties to the Company based on sales of
therapeutics products developed from this collaboration. If all milestones are
met and the research program continues for its full term, total payments to the
Company will approximate $75.9 million, excluding royalties. Of the total
potential payments, approximately $31.4 million represents license fees and
research payments, and $44.5 million represents milestone payments based on
achievement of research and product development milestones.
Under this second agreement, the Company has recognized approximately
$7,100,000, $9,927,000 and $6,079,000 in revenue in the years ended August 31,
1998, 1999 and 2000, respectively, which consisted of alliance research revenue,
milestone payments and an expense allowance. A total of approximately
$28,115,000 has been received through August 31, 2000.
In September 1997, the Company entered into a third strategic alliance and
license agreement with Schering-Plough to use genomics to discover and develop
new pharmaceutical products to treat fungal infections.
Under the agreement, the Company will employ its bioinformatics,
high-throughput sequencing and functional genomics capabilities to identify and
validate genes and associated proteins as drug discovery targets that can be
utilized by Schering-Plough to develop novel antifungal treatments.
Schering-Plough will receive exclusive access to the genomic information
developed in the alliance related to two fungal pathogens, Candida albicans and
Aspergillus fumigatus. Schering-Plough will also receive exclusive worldwide
right to make, use and sell products based on the technology developed in the
course of the research program. In return, Schering-Plough agreed to fund a
research program for a minimum number of years with an option to extend. In
December 1999, Schering-Plough extended this alliance through September 2001. If
all milestones are met and the research program continues for its full term,
total payments to the Company will approximate $32.4 million, excluding
royalties. Of the total potential payments, approximately $9.4 million
represents sponsored research payments and $23.0 million represents milestone
payments based on achievement of research and product development milestones.
Additionally, the Company entered into a subscription agreement with
Schering-Plough to provide Schering-Plough with nonexclusive access to the
Company's proprietary genome sequence database, PathoGenomeTM and associated
information relating to microbial organisms (see Note 9).
Under the third agreement, the Company has recognized approximately
$2,432,000, $4,832,000 and $3,288,000 in revenue for the years ended August 31,
1998, 1999 and 2000, respectively, which consisted of alliance research funding
and milestone payments. A total of approximately $10,865,000 has been received
through August 31, 2000.
Under certain circumstances, the Company may have an obligation to give
Schering-Plough a right of first negotiation to develop with the Company certain
of its asthma and infectious disease related discoveries if it decides to seek a
third party collaborator to develop such discovery.
(c) National Human Genome Research Institute
In July 1999, the Company was named as one of the nationally funded DNA
sequencing centers of the international Human Genome Project. The Company is
participating in an international consortium in a full-
F-18
<PAGE> 45
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
scale effort to sequence the human genome. The Company is entitled to receive
research and development funding from the National Human Genome Research
Institute (NHGRI) of up to $15.6 million over a three-year period of which $6.7
million is guaranteed through October 2000. For the years ended August 31, 1999
and 2000, the Company recognized revenue of approximately $340,000 and
$5,535,000, respectively, in connection with this international Human Genome
Project.
In October 1999, the NHGRI named the Company as a pilot center to the Mouse
Genome Sequencing Network. The Company was entitled to receive $12.9 million in
funding over three years with respect to this agreement of which the Company is
expected to receive $5.2 million through December 2000 as the Company performs
research under the project. For the year ended August 31, 2000, the Company
recognized revenue of approximately $1,477,000 with respect to this agreement.
In August 2000, the Company was named one of two primary centers for the
Rat Sequencing Program from NHGRI. As part of the agreement, we will use all
remaining funding under the mouse award to commence this rat genome initiative.
Funding under our government grants and research contracts is subject to
appropriation each year by the U.S. Congress and can be discontinued or reduced
at any time. In addition, we cannot be certain that we will receive additional
grants or contracts in the future. The government's failure to fund our research
in this area not only would end the Company's participation in the program, but
might adversely affect the industry-wide perception of genomics and the utility
of genomic information.
(d) bioMerieux Alliance
In September 1999, the Company entered into a strategic alliance with
bioMerieux to develop, manufacture and sell in vitro diagnostic products for
human clinical and industrial applications. As part of the alliance, bioMerieux
purchased a subscription to the Company's PathoGenome Database (see Note 9),
agreed, to fund a research program for at least four years and pay royalties on
future products. In addition, bioMerieux purchased $3.75 million of the
Company's common stock. The total amount of guaranteed research and development
funding, excluding subscription fees, approximates $2.2 million for the first
year of the agreement. The Company has recognized approximately $1,291,000 in
revenue through August 31, 2000, which consisted of alliance research revenue
and amortization of the up-front license fees. A total of approximately
$2,150,000 has been received through August 31, 2000.
(e) Wyeth-Ayerst Laboratories
In December 1999, the Company entered into a strategic alliance with
Wyeth-Ayerst Laboratories to develop novel therapeutics for the prevention and
treatment of osteoporosis. The alliance will focus on developing therapeutics
utilizing targets based on the characterization of a gene associated with a
unique high bone mass trait.
The agreement calls for the Company to employ its established capabilities
in positional cloning, bioinformatics and functional genomics in conjunction
with Wyeth-Ayerst's drug discovery capabilities and its expertise in bone
biology and the osteroporotic disease process to develop new pharmaceuticals.
Under the terms of the agreement, Wyeth-Ayerst paid the Company an up-front
license fee, will fund a multi-year research program and make milestone payments
and pay royalties on sales of therapeutics products developed from this
alliance. If the research program continues for its full term and substantially
all of the milestone payments are met, total payments to the Company, excluding
royalties, would exceed $118 million. Under this agreement, the Company has
recognized $1,000,000 in revenue through August 31, 2000, which consisted of
alliance research revenue and amortization of the up-front license fee. A total
of $1,750,000 has been received through August 31, 2000.
F-19
<PAGE> 46
GENOME THERAPEUTICS CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(9) DATABASE SUBSCRIPTIONS
The Company has entered into a number of PathoGenome Database
subscriptions. The database subscription provides nonexclusive access to the
Company's proprietary genome sequence database, PathoGenome Database and
associated information relating to microbial organisms. These agreements call
for the Company to provide periodic data updates, analysis tools and software
support. Under the subscription agreements, the customer pays an annual
subscription fee and will pay royalties on any molecules developed as a result
of access to the information provided by PathoGenome Database. The Company
retains all rights associated with protein therapeutic, diagnostic and vaccine
use of bacterial genes or gene products.
In April 2000, the Company entered into an agreement with Compugen Inc. to
license its PathoGenome Database. The collaboration will provide scientists
worldwide with access to the Company's PathoGenome Database through Compugen's
LabOnWeb.com. Under the terms of the agreement, Compugen will have exclusive
rights to make the Company's PathoGenome Database available over the Internet.
The Company and Compugen will share revenue generated by customers who use
PathoGenome Database data from LabOnWeb.com.
The Company has recognized approximately $2,767,000, $4,846,000 and $4,179,000
in revenue under these agreements in the years ended August 31, 1998, 1999 and
2000, respectively, consisting of license and subscription fees
(10) ACCRUED EXPENSES
Accrued expenses consist of the following:
<TABLE>
<CAPTION>
AUGUST 31,
-----------------------
1999 2000
---------- ----------
<S> <C> <C>
Payroll and related expenses.......................... $1,065,311 $1,869,235
Facilities............................................ 438,453 550,961
Professional fees..................................... 269,553 265,014
License and other fees................................ 160,434 160,434
Employee relocation................................... 143,843 94,983
All other............................................. 245,186 299,796
---------- ----------
$2,322,780 $3,240,423
========== ==========
</TABLE>
F-20
<PAGE> 47
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Genome Therapeutics Corp. has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized, on
November 21, 2000.
GENOME THERAPEUTICS CORP.
/s/ STEVEN M, RAUSCHER
--------------------------------------
Steven M. Rauscher
Chief Executive Officer
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated as of November 21, 2000.
SIGNATURE TITLE
--------- -----
/s/ ROBERT J. HENNESSEY Director, Chairman of the Board
-------------------------
ROBERT J. HENNESSEY
/s/ STEVEN M. RAUSCHER Director, President and Chief Executive Officer
-------------------------
STEVEN M. RAUSCHER
/s/ PHILIP V. HOLBERTON Chief Financial Officer, Principal Financial Officer
-------------------------
PHILIP V. HOLBERTON
/s/ MARC GARNICK Director
-------------------------
MARC GARNICK
/s/ PHILIP LEDER Director
-------------------------
PHILIP LEDER
/s/ LAWRENCE LEVY Director
-------------------------
LAWRENCE LEVY
/s/ NORBERT RIEDEL Director
-------------------------
NORBERT RIEDEL
