<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
--------------- ---------------
Commission file number 001-10546
MOLECULAR BIOSYSTEMS, INC.
(Exact name of registrant as specified in its charter)
Delaware 36-3078632
(State of Incorporation) (I.R.S. Identification No.)
10030 Barnes Canyon Road
San Diego, California 92121
(619) 812-7001
(Address, including zip code, and telephone number,
including area code, of principal executive offices)
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.
X Yes No
--- ---
The number of shares outstanding of the issuer's common stock, $.01 par value,
as of February 1, 1999 was 18,580,745 shares.
<PAGE>
<TABLE>
<CAPTION>
INDEX PAGE
----- ----
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements (unaudited)
1. Consolidated Balance Sheets 3
March 31, 1998 (audited) and December 31, 1998
2. Consolidated Statements of Operations 4
Three Months Ended December 31, 1997 and 1998
Nine Months Ended December 31, 1997 and 1998
3. Consolidated Statements of Cash Flows 5
Nine Months Ended December 31, 1997 and 1998
4. Notes to Financial Statements 6
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations 9
PART II -OTHER INFORMATION
Item 1 - Legal Proceedings 15
Item 2 - Changes in Securities 15
Item 3 - Defaults Upon Senior Securities 15
Item 4 - Submission of Matters to a Vote of Securities Holders 15
Item 5 - Other Information 15
Item 6 - Exhibits and Reports on Form 8-K 15
(a) Exhibits
(b) Reports on Form 8-K
Signatures 16
</TABLE>
<PAGE>
MOLECULAR BIOSYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
MARCH 31, 1998
1998 (UNAUDITED)
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 1,064 $ 502
Marketable securities, available-for-sale 20,274 18,187
Accounts and notes receivable 1,498 6,502
License rights 8,500 -
Inventories 1,902 1,679
Prepaid expenses and other assets 400 384
------------ ------------
Total current assets 33,638 27,254
------------ ------------
Property and equipment, at cost:
Building and improvements 14,412 12,366
Equipment, furniture and fixtures 4,364 3,433
Construction in progress 471 482
------------ ------------
19,247 16,281
Less: Accumulated depreciation and amortization 7,073 7,022
------------ ------------
Total property and equipment 12,174 9,259
------------ ------------
Other Assets, Net 5,506 2,088
$ 51,318 $ 38,601
------------ ------------
------------ ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $1,272 $1,272
Accounts payable and accrued liabilities 7,498 9,874
Compensation accruals 2,227 2,988
Deferred revenue 1,575 -
------------ ------------
Total current liabilities 12,572 14,134
------------ ------------
Long-term debt, net of current portion 6,082 5,128
Other noncurrent liabilities 1,500 -
Commitments and contingencies (Note 2)
Stockholders' equity:
Common Stock, $.01 par value, 40,000,000 shares
authorized, 17,846,237 and 18,580,745 shares
issued and outstanding, respectively 178 186
Additional paid-in capital 128,145 134,347
Accumulated deficit (96,729) (114,927)
Unrealized gain (loss) on available-for-sale securities (67) 96
Less 40,470 shares of treasury stock, at cost (363) (363)
------------ ------------
Total stockholders' equity 31,164 19,339
------------ ------------
$ 51,318 $ 38,601
------------ ------------
------------ ------------
</TABLE>
See accompanying notes.
3
<PAGE>
MOLECULAR BIOSYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED; IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
DECEMBER 31, DECEMBER 31,
1997 1998 1997 1998
---------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
Revenues:
Revenues under collaborative agreements $ 1,250 $ 1,500 $ 3,845 $ 3,998
Product and royalty revenues 123 685 428 3,471
License fees - - - 16,371
---------- ------------ ------------ ------------
1,373 2,185 4,273 23,840
---------- ------------ ------------ ------------
Operating expenses:
Research and development costs 2,939 2,358 7,804 6,995
Costs of products sold 1,468 2,668 3,949 6,108
Selling, general and administrative expenses 3,110 3,092 8,901 12,701
Other nonrecurring charges - 6,120 - 15,498
---------- ------------ ------------ ------------
7,517 14,238 20,654 41,302
---------- ------------ ------------ ------------
Loss from operations (6,144) (12,053) (16,381) (17,462)
Interest expense (176) (142) (553) (456)
Interest income 417 325 1,611 1,120
---------- ------------ ------------ ------------
Loss before income taxes (5,903) (11,870) (15,323) (16,797)
Foreign income tax provision - - - (1,400)
---------- ------------ ------------ ------------
Net Loss $ (5,903) $ (11,870) $ (15,323) $ (18,197)
---------- ------------ ------------ ------------
---------- ------------ ------------ ------------
Loss per common share - basic and diluted $ (0.33) $ (0.64) $ (0.86) $ (0.98)
---------- ------------ ------------ ------------
---------- ------------ ------------ ------------
Weighted average common shares outstanding 17,813 18,581 17,778 18,558
---------- ------------ ------------ ------------
---------- ------------ ------------ ------------
</TABLE>
See accompanying notes.
4
<PAGE>
MOLECULAR BIOSYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED; IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
DECEMBER 31,
1997 1998
------------ ------------
<S> <C> <C>
Cash flows from operating activities:
Net loss $ (15,323) $ (18,198)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 903 988
Disposals/write-downs of property and equipment 2 2,824
Write-off of patents and license fees - 295
Write-off of former Shionogi territory license rights - 8,500
Premium received on Chugai Investment - (2,371)
Changes in operating assets and liabilities:
Receivables (104) (5,284)
Inventories (404) 223
Prepaid expenses and other assets 3 297
Accounts payable and accrued liabilities 2,010 2,876
Deferred contract revenues - (1,575)
Compensation accruals (548) 761
------------ ------------
Cash used in operating activities (13,461) (10,664)
------------ ------------
Cash flows from investing activities:
Purchases of property and equipment (1,215) (846)
Proceeds from sale of property and equipment 4 3
Additions to patents and license rights (15) (30)
Purchase of license rights from Shionogi (2,000) (2,000)
Decrease (increase) in other assets 26 98
Decrease (increase) in marketable securities 15,951 5,250
------------ ------------
Cash provided by (used in) investing activities 12,751 2,475
------------ ------------
Cash flows from financing activities:
Net proceeds from sale of Common Stock to Chugai 1,331 8,300
Net proceeds from stock options exercised 549 281
Principal payments on long-term debt (946) (954)
------------ ------------
Cash provided by financing activities 934 7,627
------------ ------------
Decrease in cash and cash equivalents 224 (562)
Cash and cash equivalents, beginning of period 587 1,064
------------ ------------
Cash and cash equivalents, end of period $ 811 $ 502
------------ ------------
------------ ------------
Supplemental cash flow disclosures:
Interest income received $ 1,727 $ 1,401
------------ ------------
------------ ------------
Interest paid $ 612 $ 454
------------ ------------
------------ ------------
</TABLE>
See accompanying notes.
5
<PAGE>
NOTES TO FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION-
These interim Consolidated Financial Statements of Molecular Biosystems,
Inc. and Subsidiaries (the "Company") should be read in conjunction with the
Consolidated Financial Statements of the Company and related Notes filed with
the Company's Annual Report on Form 10-K for the year ended March 31, 1998.
These interim Consolidated Financial Statements of the Company have not
been audited by independent public accountants. However, in the opinion of the
Company, all adjustments required for a fair presentation of the financial
position of the Company as of December 31, 1998, and the results of its
operations for the nine-months ended December 31, 1997 and 1998, and its cash
flows for the nine-months ended December 31, 1997 and 1998, have been made. The
results of operations for these interim periods are not necessarily indicative
of the operating results for the full year.
(2) COMMITMENTS AND CONTINGENCIES-
In July, 1997 the Company and its marketing partner, Mallinckrodt Inc.
("Mallinckrodt") filed suit (the "MBI Case") in United States District Court for
the District of Columbia against four potential competitors - Sonus
Pharmaceuticals, Inc. ("Sonus"), Nycomed Imaging AS ("Nycomed"), ImaRx
Pharmaceutical Corp. ("ImaRx") and its marketing partner DuPont Merck and Bracco
- - seeking declarations that certain of their ultrasound contrast agent patents
are invalid.
The complaint alleges that each of the defendants' patents is invalid on a
variety of independent grounds under U.S. patent law. In addition to requesting
that all of the patents in question be declared invalid, the complaint requests
a declaration that, contrary to defendants' contentions, the Company and
Mallinckrodt do not infringe the defendants' patents, and asks that defendants
be enjoined from proceeding against the Company and Mallinckrodt for
infringement until the status of defendants' patents has been determined by the
court or the U.S. Patent and Trademark Office ("PTO"). The complaint alleges
that each defendant has claimed or is likely to claim that its patent or patents
cover OPTISON-Registered Trademark-, the Company's advanced generation
ultrasound contrast agent, and will attempt to prevent its commercialization.
All of the defendants except Nycomed filed motions to dismiss the complaint
on jurisdictional grounds. In January 1998, the court dismissed each of the
defendants except Nycomed, ruling that the court lacked jurisdiction over those
defendants with respect to the Company's claims of patent invalidity and non
infringement. The court's ruling does not purport to rule on the merits of the
Company's claims; the dismissal was based solely on jurisdictional grounds.
Following Sonus's dismissal as a defendant in the MBI Case, Sonus activated
a patent infringement lawsuit (the "Sonus Case") which it had filed in August
1997 against the Company and Mallinckrodt in the United States District Court
for the Western District of Washington. Although the complaint was filed in
August 1997, Sonus had agreed not to proceed with the Sonus Case until the
jurisdictional motions were decided in the MBI Case. Sonus's complaint alleges
that the manufacture and sale of OPTISON by the Company and Mallinckrodt
infringe two patents owned by Sonus. As in the MBI Case, MBI counterclaimed for
a declaration of invalidity and non-infringement with respect to the Sonus
patents. These two patents are the same patents for which the Company was
seeking a declaration of invalidity in the MBI Case.
Beginning in July 1997, the Company received the first of five notices from
the PTO granting the Company's petitions for reexamination which it had filed
with respect to five patents held by three
6
<PAGE>
potential competitors, Sonus, Nycomed and ImaRx. Each of the five notices
stated there was a substantial new question of patentability raised by the
Company's petitions with respect to all claims of the patents. Each of the
patents in the reexamination process is related to the use of perfluorocarbon
gases in ultrasound contrast agents and is included among the patents for which
the Company was seeking a declaration of invalidity in the MBI Case (and for
which the Company is continuing to seek a declaration of invalidity in the case
of Nycomed's patents).
In late 1997 and early 1998, the PTO issued office actions in connection
with the Company's patent reexamination petitions filed against Sonus, Nycomed
and ImaRx. The PTO office actions rejected all relevant claims of these patents
based on prior art not previously disclosed to the PTO by Sonus, Nycomed or
ImaRx during prosecution of their patent applications.
In June 1998, the PTO issued a final rejection of all claims of the two
Sonus patents involved in the Sonus Case. In December 1998, the Company received
correspondence from the PTO with respect to the two Sonus patents involved in
the reexamination proceedings. On the basis of amendments after final
rejection, the PTO has indicated that certain claims in Sonus' U.S. Patent No.
5,558,094 ('094) are allowable by the agency. According to the PTO
correspondence, none of the original '094 patent claims which Sonus had asserted
against MBI will be allowed by the PTO without amendment. The PTO has also
indicated that certain claims of Sonus' U.S. Patent 5,573,751 ('751) are
allowable by the agency. According to the PTO correspondence, certain of the
'751 patent claims which Sonus has asserted against the Company will be allowed
in their original form.
In August 1998, the PTO issued a final rejection of all relevant claims of
the Nycomed patent involved in the MBI Case. If the PTO rejection is maintained
on any appeal subsequently filed by Nycomed, the patent Nycomed is attempting to
assert against the Company and Mallinckrodt to block the manufacture and sale of
OPTISON will be invalidated.
Litigation or administrative proceedings relating to these matters could
result in a substantial cost to the Company; and given the complexity of the
legal and factual issues, the inherent vicissitudes and uncertainty of
litigation, and other factors, there can be no assurance of a favorable outcome.
An unfavorable outcome could have a material adverse effect on the Company's
business, financial condition and results of operations. Moreover, there can be
no assurance that, in the event of an unfavorable outcome, the Company would be
able to obtain a license to any proprietary rights that may be necessary to
commercialize OPTISON, either on acceptable terms or at all. If the Company
were required to obtain a license necessary to commercialize OPTISON, the
Company's failure or inability to do so would have a material adverse effect on
the Company's business, financial condition and results of operations.
(3) IMPACT OF COST REDUCTION MEASURES -
In the Company's second quarter 10-Q, the Company announced that it
anticipated revenues from sales of OPTISON to Mallinckrodt would be reduced in
the near term. Although Mallinckrodt's sales of OPTISON to end users continue
to grow, the Company continues to expect that its revenues from sales of OPTISON
for the quarter ended March 31, 1999 will be lower than revenues from sales of
OPTISON for the quarters ended June 30, 1998 and September 30, 1998.
As a result of the slower than planned ramp up of OPTISON sales, the
Company actively evaluated cost reduction measures and, on November 10, 1998,
announced the initiation of a multi-phase program to reduce expenses and
preserve capital.
The initial phase affected approximately 40 employees of the Company's
140-person workforce. Subsequent phases will include further reductions of the
Company's headcount as a result of the planned out-sourcing of the Company's
manufacturing operations.
7
<PAGE>
The impact of the cost reduction measures on the Company's financial
results includes a one-time charge of $7.2 million for the quarter ended
December 31, 1998. This charge includes $6.1 million in nonrecurring charges
and $1.1 million in cost of sales. The $6.1 million nonrecurring charge
includes $3.1 million for the write off of fixed assets, capitalized license
fees and capitalized patent costs that will no longer be used by the Company as
a result of the planned out-sourcing of manufacturing operations and the
discontinuation of certain projects, $2.3 million of severance costs, and
approximately $700,000 of technology transfer costs and other costs related to
the Company's plan to out-source manufacturing.
As indicated above, cost of sales for the fiscal third quarter also
includes a one-time charge associated with these cost reduction measures.
Approximately $1.1 million in inventories, including materials required for the
technology transfer, was expensed through cost of sales in the third quarter as
a result of the planned out-sourcing of manufacturing.
Additionally, the Company expects to write off another $2.8 million in
fixed assets through accelerated depreciation over the next 12-15 months as the
manufacturing process is out-sourced.
(4) EARNINGS PER SHARE -
In December 1997, the Company adopted Statement of Financial Accounting
Standards No. 128, "Earnings Per Share" (SFAS 128). The statement specifies the
computation, presentation, and disclosure requirements for earnings per share
(EPS). SFAS 128 requires companies to compute net income (loss) per share under
two different methods, basic and diluted per share data for all periods for
which an income statement is presented. Basic earnings per share was computed
by dividing net income (loss) by the weighted average number of common shares
outstanding during the period. Diluted earnings per share reflects the
potential dilution that could occur if net income were divided by the
weighted-average number of common shares and potential common shares from
outstanding stock options for the period. Potential common shares are
calculated using the treasury stock method and represent incremental shares
issuable upon exercise of the Company's outstanding options. For the quarters
and nine months ended December 31, 1997 and 1998, the diluted loss per share
calculation excludes effects of outstanding stock options as such inclusion
would be anti-dilutive.
(5) THE CHUGAI AGREEMENT -
In April, 1998, the Company entered into a cooperative development and
marketing agreement with Chugai Pharmaceutical Co., Ltd. ("Chugai") of Japan.
The parties entered into this strategic alliance which covers Japan, Taiwan and
South Korea, to develop OPTISON (which may be marketed under a different name)
and ORALEX-Registered Trademark-, as well as related products. The Company
granted Chugai an exclusive license to develop, manufacture, and market these
products in the subject territory, for which the Company received an up-front
license fee of $14 million in the first quarter of fiscal year 1999.
With respect to licensed products manufactured by Chugai, Chugai will pay
the Company a royalty on net sales. For licensed products manufactured by the
Company, the Company will receive royalties on net sales, the amount of which
will depend upon the sales volume, in addition to a transfer price based on
average net sales per unit from the previous quarter.
Additionally, Chugai purchased 691,883 shares of the Company's common stock
at a premium of 40% over the then-prevailing market price. This premium was
equal to $2.4 million and was recognized as revenue in the first quarter of
fiscal year 1999. The equity investment was valued at $8.3 million. The
Company is also eligible to receive milestone payments of up to $20 million
based on Chugai's achievement of certain Japanese product development and
regulatory goals.
8
<PAGE>
The accompanying consolidated statements of operations incorporate the
impact of the Chugai transaction. Pro forma unaudited consolidated operating
results of the Company for the nine month period ended December 31, 1998,
excluding the impact of the Chugai transaction, are summarized below (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
NINE MONTHS ENDED DECEMBER 31, 1998
Results Pro forma
Including Impact of Results
Chugai Chugai Excluding
Transaction Transaction Chugai
------------------------------------------
<S> <C> <C> <C>
Revenues 23,840 16,371 7,469
Operating Expenses (41,302) (9,378) (31,924)
Interest Income, Net 664 - 664
------------------------------------------
Income (Loss) before income taxes (16,798) 6,993 (23,791)
Foreign income taxes (1,400) (1,400) -
------------------------------------------
Net Income (Loss) (18,198) 5,593 (23,791)
------------------------------------------
------------------------------------------
Net Income (Loss) per share - Basic and Diluted (0.98) 0.30 (1.28)
Weighted Avg Common Shares Outstanding 18,558 18,547 18,547
</TABLE>
These unaudited pro forma results have been prepared for comparative
purposes only.
PART I - FINANCIAL INFORMATION
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following management discussion and analysis should be read in
conjunction with (1) the current Consolidated Financial Statements and (2) the
Company's Consolidated Financial Statements and related Notes and Management's
Discussion and Analysis of Financial Condition and Results of Operations in its
Annual Report on Form 10-K for the year ended March 31, 1998.
From time to time, the Company may publish forward-looking statements
relating to such matters as anticipated financial performance, business
prospects, technological developments, new products, regulatory approval,
research and development activities and similar matters. A variety of factors
could cause the Company's actual results and experience to differ materially
from the Company's anticipated results or other expectations. The risks and
uncertainties that may affect the operations, performance and results of the
Company's business include the expense and uncertain outcome of the litigation
described under the caption "Recent Events," including the possibility of
injunctive relief to competitors prohibiting the sale of OPTISON-Registered
Trademark-; a ruling by the Patent and Trademark Office ("PTO") in the pending
patent reexamination proceedings favoring competitors' patents; delays or an
inability to continue marketing OPTISON in Europe as a result of regulatory
delays or patent litigation; the failure of OPTISON to achieve broad market
acceptance; difficulties and delays with respect to marketing and sales
activities, including the failure of physicians and third party payors to adopt
OPTISON as a standard of care; the failure to successfully complete pivotal
clinical trials; delays by regulatory authorities in approving additional
indications for OPTISON, including the evaluation of myocardial perfusion;
manufacturing problems; the Company's future capital needs; the development of
competitive products
9
<PAGE>
by others; general uncertainties accompanying the development and introduction
of new products; and other risk factors reported from time to time in the
Company's reports filed with the Securities and Exchange Commission.
RECENT EVENTS
During the current quarter, the Company actively evaluated cost reduction
measures and, on November 10, 1998, announced the initiation of a multi-phase
program to reduce expenses and preserve capital. See "Other Nonrecurring
charges and Foreign Income Taxes" for a more complete discussion of this event.
In July, 1997 the Company and its marketing partner, Mallinckrodt Inc.
("Mallinckrodt") filed suit (the "MBI Case") in United States District Court for
the District of Columbia against four potential competitors - Sonus
Pharmaceuticals, Inc. ("Sonus"), Nycomed Imaging AS ("Nycomed"), ImaRx
Pharmaceutical Corp. ("ImaRx") and its marketing partner DuPont Merck and Bracco
- - seeking declarations that certain of their ultrasound contrast agent patents
are invalid.
The complaint alleges that each of the defendants' patents is invalid on a
variety of independent grounds under U.S. patent law. In addition to requesting
that all of the patents in question be declared invalid, the complaint requests
a declaration that, contrary to defendants' contentions, the Company and
Mallinckrodt do not infringe the defendants' patents, and asks that defendants
be enjoined from proceeding against the Company and Mallinckrodt for
infringement until the status of defendants' patents has been determined by the
court or the U.S. Patent and Trademark Office ("PTO"). The complaint alleges
that each defendant has claimed or is likely to claim that its patent or patents
cover OPTISON, the Company's advanced generation ultrasound contrast agent, and
will attempt to prevent its commercialization.
All of the defendants except Nycomed filed motions to dismiss the complaint
on jurisdictional grounds. In January 1998, the court dismissed each of the
defendants except Nycomed, ruling that the court lacked jurisdiction over those
defendants with respect to the Company's claims of patent invalidity and non
infringement. The court's ruling does not purport to rule on the merits of the
Company's claims; the dismissal was based solely on jurisdictional grounds.
Following Sonus's dismissal as a defendant in the MBI Case, Sonus activated
a patent infringement lawsuit (the "Sonus Case") which it had filed in August
1997 against the Company and Mallinckrodt in the United States District Court
for the Western District of Washington. Although the complaint was filed in
August 1997, Sonus had agreed not to proceed with the Sonus Case until the
jurisdictional motions were decided in the MBI Case. Sonus's complaint alleges
that the manufacture and sale of OPTISON by the Company and Mallinckrodt
infringe two patents owned by Sonus. As in the MBI Case, MBI counterclaimed for
a declaration of invalidity and non-infringement with respect to the Sonus
patents. These two patents are the same patents for which the Company was
seeking a declaration of invalidity in the MBI Case.
Beginning in July 1997, the Company received the first of five notices from
the PTO granting the Company's petitions for reexamination which it had filed
with respect to five patents held by three potential competitors, Sonus, Nycomed
and ImaRx. Each of the five notices stated there was a substantial new question
of patentability raised by the Company's petitions with respect to all claims of
the patents. Each of the patents in the reexamination process is related to the
use of perfluorocarbon gases in ultrasound contrast agents and is included among
the patents for which the Company was seeking a declaration of invalidity in the
MBI Case (and for which the Company is continuing to seek a declaration of
invalidity in the case of Nycomed's patents).
10
<PAGE>
In late 1997 and early 1998, the PTO issued office actions in connection
with the Company's patent reexamination petitions filed against Sonus, Nycomed
and ImaRx. The PTO office actions rejected all relevant claims of these patents
based on prior art not previously disclosed to the PTO by Sonus, Nycomed or
ImaRx during prosecution of their patent applications.
In June 1998, the PTO issued a final rejection of all claims of the two
Sonus patents involved in the Sonus Case. In December 1998, the Company received
correspondence from the PTO with respect to the two Sonus patents involved in
the reexamination proceedings. On the basis of amendments after final
rejection, the PTO has indicated that certain claims in Sonus' U.S. Patent No.
5,558,094 ('094) are allowable by the agency. According to the PTO
correspondence, none of the original '094 patent claims which Sonus had asserted
against MBI will be allowed by the PTO without amendment. The PTO has also
indicated that certain claims of Sonus' U.S. Patent 5,573,751 ('751) are
allowable by the agency. According to the PTO correspondence, certain of the
'751 patent claims which Sonus has asserted against the Company will be allowed
in their original form.
In August 1998, the PTO issued a final rejection of all relevant claims of
the Nycomed patent involved in the MBI Case. If the PTO rejection is maintained
on any appeal subsequently filed by Nycomed, the patent Nycomed is attempting to
assert against the Company and Mallinckrodt to block the manufacture and sale of
OPTISON will be invalidated.
Litigation or administrative proceedings relating to these matters could
result in a substantial cost to the Company; and given the complexity of the
legal and factual issues, the inherent vicissitudes and uncertainty of
litigation, and other factors, there can be no assurance of a favorable outcome.
An unfavorable outcome could have a material adverse effect on the Company's
business, financial condition and results of operations. Moreover, there can be
no assurance that, in the event of an unfavorable outcome, the Company would be
able to obtain a license to any proprietary rights that may be necessary to
commercialize OPTISON, either on acceptable terms or at all. If the Company
were required to obtain a license necessary to commercialize OPTISON, the
Company's failure or inability to do so would have a material adverse effect on
the Company's business, financial condition and results of operations.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1998, the Company had net working capital of $13.1 million
compared to $21.1 million at March 31, 1998. Cash, cash equivalents, marketable
securities and certificates of deposit were $18.7 million at December 31, 1998
compared to $24.3 million at March 31, 1998. The cash balance at December 31,
1998 does not include $4.7 million of payments due from the Company's partners
by March 31, 1999.
For the next several years, the Company expects to incur substantial
additional expenditures associated with product development. The Company
anticipates that its existing resources, including the proceeds of the public
offering in May 1996, up-front license fees received from Chugai, and interest
thereon, plus payments under its collaborative agreements with Mallinckrodt and
Chugai, will enable the Company to fund its operations for at least the next
twelve months. The Company continually reviews its product development
activities in an effort to allocate its resources to those products that the
Company believes have the greatest commercial potential. Factors considered by
the Company in determining the products to pursue may include, but are not
limited to, the projected markets, potential for regulatory approval, technical
feasibility and estimated costs to bring the product to the market. Based upon
these factors, the Company may from time to time reallocate its resources among
its product development activities.
The Company may pursue a number of options to raise additional funds,
including borrowings; lease arrangements; collaborative research and development
arrangements with pharmaceutical companies; the licensing of product rights to
third parties; or additional public and private financing, as
11
<PAGE>
capital requirements change as a result of strategic, competitive, technological
and regulatory factors. There can be no assurance that funds from these sources
will be available on favorable terms, or at all.
RESULTS OF OPERATIONS
REVENUES UNDER COLLABORATIVE AGREEMENTS. Revenues under collaborative
agreements were $1.5 million and $4.0 million for the three-month and nine-month
periods ended December 31, 1998 compared to $1.3 million and $3.9 million for
the same periods in the prior year. These revenues in both years consist of
quarterly payments to support clinical trials, regulatory submissions and
product development received from Mallinckrodt under the Company's amended
agreement with Mallinckrodt which the Company entered into in September 1995.
PRODUCT AND ROYALTY REVENUES. Revenues from product sales and royalties
were $700,000 and $3.5 million for the three-month and nine-month periods ended
December 31, 1998, compared to $100,000 and $400,000 for the same periods in the
prior year. Product revenues come primarily from the Company's sales of OPTISON
to Mallinckrodt in the case of the three-month and nine-month periods ended
December 31, 1998 and from the Company's sales of ALBUNEX-Registered Trademark-
to Mallinckrodt in the case of the three-month and nine-month periods ended
December 31, 1997. Product revenues were recognized upon shipment of the
product.
The transfer price for the Company's sales of OPTISON to Mallinckrodt is
approximately equal to 40% of Mallinckrodt's average net sales price to its end
users of the product for the immediately preceding quarter. Pursuant to the
Company's Amended and Restated Distribution Agreement ("ARDA"), the average net
sales price to end users is calculated by dividing the net sales for the
preceding quarter by the total number of units shipped to end users whether paid
for or shipped as samples. Consistent with industry practice, the Company
considers samples a marketing expense and as such the cost of samples is
recorded as selling, general and administrative expense.
The transfer price for the Company's sales of ALBUNEX to Mallinckrodt was
determined pursuant to ARDA and was approximately equal to 40% of Mallinckrodt's
average net sales price to its end users of the product.
In the Company's second quarter 10-Q, the Company announced that it
anticipated revenues from sales of OPTISON to Mallinckrodt would be reduced in
the near term. Although Mallinckrodt's sales of OPTISON to end users continue
to grow, the Company continues to expect that its revenues from sales of OPTISON
for the quarter ended March 31, 1999 will be lower than revenues from sales of
OPTISON for the quarters ended June 30, 1998 and September 30, 1998 as
Mallinckrodt manages its current inventory of the product. Mallinckrodt
expects its efforts in medical education and reimbursement to continue to
increase end user sales.
As a result of the slower than planned ramp up of OPTISON sales, the
Company actively evaluated cost reduction measures and, on November 10, 1998,
announced the initiation of a multi-phase program to reduce expenses and
preserve capital. The impact of these cost reduction measures on the Company's
financial results for the three-month and nine-month periods ended December 31,
1998 are discussed in the following section titled "Other Nonrecurring Charges
and Foreign Income Taxes".
Royalty revenues are pursuant to a licensing agreement between the Company
and Abbott Laboratories.
COSTS OF PRODUCTS SOLD. Cost of products sold totaled $2.7 million and
$6.1 million for the three-month and nine-month periods ended December 31, 1998,
resulting in a negative gross profit margin. This negative gross profit margin
was due to the fact that the current low levels of production are insufficient
to cover the Company's fixed manufacturing overhead expenses. The Company
anticipates an
12
<PAGE>
increase in its gross profit margins as OPTISON sales volume increases. The
increase in sales volume will permit fixed costs included in manufacturing
overhead to be allocated over a larger number of vials produced. Manufacturing
fixed costs are currently running at an annual rate of approximately $4.5
million. The amount of any increase in the Company's margins and the time
required by the Company to achieve higher margins are highly dependent on the
market acceptance of OPTISON and are therefore uncertain.
For the same quarter in the prior year, cost of products sold totaled $1.5
million compared to $2.7 million in the current quarter. The increase over the
same quarter in the prior year is primarily due to $1.1 million in inventories,
including materials required for the technology transfer, which were expensed
through cost of sales in the current quarter as a result of the planned
out-sourcing of manufacturing. (See "Other Nonrecurring Charges and Foreign
Income Taxes" Section below.)
RESEARCH AND DEVELOPMENT COSTS. For the three-month and nine-month periods
ended December 31, 1998, the Company's research and development costs totaled
$2.4 million and $7.0 million, as compared to $2.9 million and $7.8 million for
the same periods in the previous year.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. For the three-month and
nine-month periods ended December 31, 1998, the Company's selling, general and
administrative expenses totaled $3.1 million and $12.7 million, as compared to
$3.1 million and $8.9 million for the same periods in the previous year. The
increase in the nine-month period ended December 31, 1998 over the same period
in the previous year is primarily due to continuing legal expenses and marketing
costs associated with the launch of OPTISON.
OTHER NONRECURRING CHARGES AND FOREIGN INCOME TAXES. Total operating
expenses for the three-month and nine-month periods ended December 31, 1998 were
$14.2 million and $41.3 million compared to $7.5 million and $20.7 million for
the same periods in the previous year.
The increase for the three-month period ended December 31, 1998 over the
same quarter in the previous year is due to the impact of the cost reduction
measures on the Company's financial results for the current quarter, which
include a one-time charge of $7.2 million. This charge includes $6.1 million in
nonrecurring charges and $1.1 million in cost of sales. The $6.1 million
nonrecurring charge includes $3.1 million for the write off of fixed assets,
capitalized license fees and capitalized patent costs that will no longer be
used by the Company as a result of the planned out-sourcing of manufacturing
operations and the discontinuation of certain projects, $2.3 million of
severance costs, and approximately $700,000 of technology transfer costs and
other costs related to the Company's plan to out-source manufacturing. Of this
$6.1 million nonrecurring charge, $3.0 million will require cash outflows.
As indicated above, cost of sales for the fiscal third quarter also
includes a one-time charge associated with these cost reduction measures.
Approximately $1.1 million in inventories, including materials required for the
technology transfer, was expensed through cost of sales in the third quarter as
a result of the planned out-sourcing of manufacturing. Of this $1.1 million,
$500,000 will require cash outflows.
The increase for the nine month period ended December 31, 1998 over the
same period in the previous year is due to the impact of the cost reduction
measures discussed in the previous paragraphs and also a non-cash, non-recurring
expense of $8.5 million related to the sale to Chugai of territory rights
previously reacquired from Shionogi & Co, Ltd. Additionally, the Company paid
$1.4 million in foreign taxes related to the Chugai alliance.
INTEREST EXPENSE AND INTEREST INCOME. Interest expense for the
three-month and nine-month periods ended December 31, 1998 amounted to $142,000
and $456,000, compared to $176,000 and $553,000 for the same periods in the
prior year, and consisted of mortgage interest on the Company's
13
<PAGE>
manufacturing building and interest on a note payable which is secured by the
tangible assets of the Company. The interest rate on the mortgage was 8% in
December 1998.
The terms of the note payable were renegotiated during the quarter ended
September 30, 1998. Prior to this revision, interest on the note payable was
calculated at prime plus 1%, equal to 9.5% in September, 1998, and the note
payable was secured by a $3 million pledged certificate of deposit. Effective
September 18, 1998, interest on the loan was reduced to prime and the pledged
certificate of deposit was released as collateral. The note is payable in
monthly installments of principal plus interest over five years.
Interest income for the three-month and nine-month periods ended December
31, 1998 was $325,000 and $1.1 million compared to $417,000 and $1.6 million for
the same periods in the prior year. The decrease in interest income in the
current year is due to lower average cash and marketable securities balances.
The Company's cash is invested primarily in short-term, fixed principal
investments, such as U.S. Government agency issues, corporate bonds,
certificates of deposit and commercial paper.
PRO FORMA RESULTS. See Note 5 in Notes to the Financial Statements for a
discussion of quarterly results excluding the impact of the Chugai transaction.
YEAR 2000 READINESS. The Year 2000 problem is the result of computer
programs being written using two digits rather than four digits to define the
applicable year. Any of the Company's programs that have time-sensitive
software may recognize a date using "00" as the year 1900 rather than the year
2000. This could result in a major system failure or miscalculations, which
could disrupt operations, including product development, manufacturing, the
processing of transactions and other normal business activities. The Year 2000
problem may also create unforeseen risks to the Company from its internal
computing systems as well as from computer systems of third parties with which
it deals.
The Company has conducted a comprehensive review of its information
technology ("IT") and non information technology ("Non-IT") systems to identify
the systems that could be affected by the "Year 2000" issue and has developed a
plan to assess and resolve Year 2000 problems with its IT and Non-IT systems.
The plan includes five phases: inventory, assessment, evaluation,
implementation and testing. The Company has completed the inventory phase on
its IT systems and has identified all IT systems that the Company believes are
at risk. The Company is in the process of inventorying its Non-IT systems and
expects to have identified all Non-IT systems that are at risk within the next
few months.
The Company has already initiated the assessment phase (in which systems
that were inventoried are prioritized) on the IT-Systems and expects to start on
the Non-IT systems in the very near future. The Company estimates that the
assessment phase for all systems should be complete by March 1999. Immediately
following completion of the assessment phase, the Company will begin the
evaluation phase which involves testing systems and determining which IT and Non
IT systems need to be replaced, repaired or retired. The evaluation phase is
expected to take approximately 3 months.
Once the evaluation phase is complete, the Company will begin the
implementation phase and repair/replace all noncompliant systems (both IT and
Non-IT), convert data as necessary, and obtain compliance statements. The
implementation phase is expected to take three months to complete. Finally, the
Company will test and validate the repaired noncompliant IT and Non-IT systems
for compliance. This final phase of the process should take 1-2 months and
should be complete by November 1999.
In addition, the Company is in the process of conducting a comprehensive
review of its vendors, service providers (including financial institutions and
insurance companies), and collaborative partners. Although this assessment is
not yet complete, the Company is not currently aware of any material Year 2000
issues with respect to its dealings with such third parties. However, if the
Company discovers Year 2000
14
<PAGE>
problems with such third parties' systems, the Company will be unable to control
whether its current and future suppliers', service providers' or collaborative
partners' systems are Year 2000 compliant. To the extent that such third
parties would be hindered by Year 2000 problems, the Company's operations could
be materially adversely affected.
The Company anticipates that its assessment of both internal and third
party IT and Non-IT systems will be complete by October 31, 1999. At this time,
the Company believes that the Year 2000 problem will not pose significant
operational problems for the Company's computer systems. The Company also
expects that the total costs required to fix the Year 2000 problem will be
immaterial. To date, the Company has not used, and does not plan to use, any
independent verification and validation process to assess the reliability of the
Company's risk and cost estimates. Since no significant issues have arisen, the
Company does not have a contingency plan to address any material Year 2000
issues. If significant Year 2000 issues arise, the Company may not be able to
timely develop and implement a contingency plan and the Company's operations
could be adversely affected.
PROSPECTIVE INFORMATION
In the Company's second quarter 10-Q, the Company announced that revenues
from sales of OPTISON to Mallinckrodt would be reduced in the near term.
Although Mallinckrodt's sales of OPTISON to end users continue to grow, the
Company continues to expect that its revenues from sales of OPTISON for the
quarter ended March 31, 1999 will be lower than revenues from sales of OPTISON
for the quarters ended June 30, 1998 and September 30, 1998 as Mallinckrodt
manages its current inventory of the product. Mallinckrodt expects its efforts
in medical education and reimbursement to continue to increase end user sales.
The Company is involved in several legal and administrative proceedings
which could result in a substantial cost to the Company. Given the complexity
of the legal and factual issues and the uncertainty of litigation, there can be
no assurance of a favorable outcome. An unfavorable outcome could have a
material adverse effect on the Company's business, financial condition and
results of operations. For a detailed discussion of these matters, see "Recent
Events."
PART II - OTHER INFORMATION
Item 1 - LEGAL PROCEEDINGS
See "Recent Events" in Part I, Item 2, which is incorporated by reference
in this response.
Item 2-4 - The Company has nothing to report with respect to these items during
the quarter ended December 31, 1998.
Item 5 - OTHER INFORMATION
Dates for Submission of Stockholder Proposals:
Any stockholder of the Company who wishes to present a proposal to be
considered at the 1999 Annual Meeting of Stockholders and who, pursuant to Rule
14a-8 of the Securities and Exchange Commission, wishes to have the proposal
included in the Company's proxy statement and form of proxy for that meeting,
must submit the proposal in writing to the Company at 10030 Barnes Canyon Road,
San Diego, California 92121, so that it is received by February 16, 1999.
15
<PAGE>
Any stockholder of the Company who wishes to present a proposal to be
considered at the 1999 Annual Meeting of Stockholders, but to do so outside of
the processes of Rule 14a-8, must submit the proposal in writing to the Company
at 10030 Barnes Canyon Road, San Diego, California 92121, so that it is received
by April 30, 1999.
Item 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits -
10.1 *** Agreement between the Company and Mallinckrodt,
Inc., effective as of November 13, 1998.
(b) Reports on Form 8-K -
No reports on Form 8-K have been filed during the quarter for which this
report is filed.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MOLECULAR BIOSYSTEMS, INC.
/s/ ELIZABETH L. HOUGEN
- ------------------------------------------
Elizabeth L. Hougen
Executive Director, Finance and Chief Financial Officer
2/8/99
- --------------------------
Date
16
<PAGE>
*** AGREEMENT
This agreement is entered into as of 11/13/98, by Mallinckrodt Inc., a
Delaware corporation, having offices at 675 McDonnell Boulevard, St. Louis,
MO 63134 ("Mallinckrodt") and Molecular Biosystems, Inc., a Delaware
corporation, having offices at 10030 Barnes Canyon Road, San Diego, CA 92121
("MBI").
WHEREAS, *** wishes to encourage *** to *** to *** ultrasound imaging
agents; and
WHEREAS, *** is willing, on the terms and conditions set forth herein, to ***
in addition to *** had initially planned to ***;
NOW, THEREFORE, in consideration of the mutual promises contained herein, the
parties agree as follows:
1. Subject to Section 3 hereof, *** agrees by May 31, 1998, to *** numbering
in total at least ***, including *** and ***, whose *** will be devoted to ***
in the United States the products included in the definition of *** in the
amended and restated distribution agreement between the parties hereto dated
September 7, 1995 as amended by Amendment No. 1 dated November 4, 1996
(hereinafter collectively referred to as the "Distribution Agreement").
2. *** shall *** to *** a *** (hereinafter referred to as the ***) of up to
maximum of *** in the following manner:
a. A sum equal to *** of worldwide *** of all *** Products as those
terms are defined in the Distribution Agreement beginning on ***
and continuing until the cumulative *** have reached ***; and
b. A sum equal to *** of worldwide *** of all *** Products for *** in
excess of *** continuing until a total of *** has been *** under
this Section 2; and
c. As an incentive an amount equal to an additional *** of worldwide
*** in each quarter of all *** Products *** that are in excess of
the *** set forth on Schedule A attached hereto.
3. At any time after June 30, 1999, *** can elect to decline to comply with
its obligations as set forth in Section 1 hereof provided that *** gives ***
thirty (30) days advanced written notice of its intent to do so. Upon
receipt of such notice, *** provided that *** gives *** prior written notice
of its intent to do so.
*** Certain confidential portions of this Exhibit were omitted by means of
blackout of the text (the "Mark"). This Exhibit has been filed separately
with the Secretary of the Commission without the Mark pursuant to the
Company's Application Requesting Confidential Treatment under Rule 24b-2
under the 1934 Act.
<PAGE>
4. The Initial *** Date shall be the earlier of a) the date on which ***
pursuant to Section 2 hereof, or b) the date on which *** as provided in
Section 3 hereof.
5. Commencing in the first calendar quarter in which the Initial *** Date
falls, *** made hereunder *** by paying *** of the *** made hereunder payable
in the following manner:
a. *** shall *** quarterly a sum equal to an additional *** of the
worldwide *** of all *** Products made in that quarter over and
above the amounts otherwise due *** for *** Products until the full
*** of the *** provided in this paragraph five has been made.
6. The payments due by *** and *** hereunder shall be made no later than
forty-five (45) days after the end of each calendar quarter (except the
fourth quarter). *** shall estimate its *** for the quarter as accurately as
reasonably possible and the paying party shall make an estimated payment on
the basis of the estimated *** for the quarter. No later than sixty (60)
days after the end of each calendar year, *** shall report its actual *** for
the year to *** and the paying party shall calculate the actual payment for
the year that is payable. The paying party shall pay the amount by which the
actual payment for the year exceeds the aggregate amount of the estimated
payment for the first three quarters, or if the paying party has overpaid, it
shall receive an appropriate credit against future amounts due ***.
7. Once the *** provided in paragraph five above have been fully ***, this
Agreement shall terminate.
8. All terms used herein which are defined in the Distribution Agreement
shall have the same meaning in this Agreement. Payment of the *** hereunder
shall be deemed to be satisfaction of *** obligation to dedicate up to *** as
*** under ***.
IN WITNESS WHEREOF, the parties hereto have executed this *** Agreement
effective as of the date first set forth above.
MOLECULAR BIOSYSTEMS, INC. MALLINCKRODT, INC.
By: /s/ Bobba Venkatadri By: /s/ James C. Carlile
-------------------------- --------------------------
-2-
*** Certain confidential portions of this Exhibit were omitted by means of
blackout of the text (the "Mark"). This Exhibit has been filed separately
with the Secretary of the Commission without the Mark pursuant to the
Company's Application Requesting Confidential Treatment under Rule 24b-2
under the 1934 Act.
<PAGE>
*** AGREEMENT
SCHEDULE A
<TABLE>
<S> <C>
***
January - March 1998 ***
April - June 1998 ***
July - September 1998 ***
October - December 1998 ***
January - March 1999 ***
April - June 1999 ***
July - September 1999 ***
October - December 1999 ***
January - March 2000 ***
April - June 2000 ***
July - September 2000 ***
October - December 2000 ***
January - March 2001 ***
April - June 2001 ***
</TABLE>
-3-
*** Certain confidential portions of this Exhibit were omitted by means of
blackout of the text (the "Mark"). This Exhibit has been filed separately
with the Secretary of the Commission without the Mark pursuant to the
Company's Application Requesting Confidential Treatment under Rule 24b-2
under the 1934 Act.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
THE CONSOLIDATED FINANCIAL STATEMENTS OF MOLECULAR BIOSYSTEMS, INC.
DATED DECEMBER 31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> MAR-31-1999
<PERIOD-END> DEC-31-1998
<CASH> 502
<SECURITIES> 18,187
<RECEIVABLES> 6,502
<ALLOWANCES> 0
<INVENTORY> 1,679
<CURRENT-ASSETS> 384
<PP&E> 16,281
<DEPRECIATION> 7,022
<TOTAL-ASSETS> 38,601
<CURRENT-LIABILITIES> 14,134
<BONDS> 0
0
0
<COMMON> 186
<OTHER-SE> 38,415
<TOTAL-LIABILITY-AND-EQUITY> 38,601
<SALES> 2,721
<TOTAL-REVENUES> 23,840
<CGS> 6,109
<TOTAL-COSTS> 41,308
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 456
<INCOME-PRETAX> (16,798)
<INCOME-TAX> (1,400)
<INCOME-CONTINUING> (18,198)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (18,198)
<EPS-PRIMARY> (0.98)
<EPS-DILUTED> 0
</TABLE>
