Medco Research, Inc.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] Quarterly Report Pursuant to Section 13 or 15 (d) of the Securities Exchange
Act of 1934 For the quarterly period ended March 31, 1999
OR
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 Commission file number 1-9771
MEDCO RESEARCH, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 95-3318451
------------------------------- ---------------------------
(State or other Jurisdiction of (I.R.S. Identification No.)
Employer incorporation or
organization)
7001 Weston Parkway, Suite 300,
Cary, North Carolina 27513
---------------------------- --------------
(Address of principal executive offices) (Zip Code)
(919) 653-7001
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock together with associated
Common Stock Purchase Rights New York Stock Exchange
- ------------------------------------- ------------------------------------------
(Title of Class) (Name of each exchange on which registered)
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (b) 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 the number of shares outstanding of common stock, as of the
latest practical date 10,332,145 as of May 11, 1999.
Pursuant to the Securities Exchange Act of 1934 Release 15502 and Rule
240.03 (b), the pages of this document have been numbered sequentially. The
total pages contained herein are 13.
1
<PAGE>
Medco Research, Inc.
<TABLE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
<CAPTION>
March 31, December 31,
1999 1998*
----------------------------------------------------------
(in thousands except share data) (Unaudited)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 7,798 $ 4,742
Investments held to maturity 15,499 21,434
Accounts and notes receivable:
Royalties 8,263 8,349
Other 79 85
Accrued interest income 773 578
Prepaid expenses and other 379 243
Deferred tax asset - current portion 458 458
----------------------------------------------------------
Total current assets 33,249 35,889
Investments held to maturity 26,068 25,074
Property and equipment, at cost, net of accumulated
depreciation and amortization 530 465
Patent, trademark and distribution rights, at cost,
net of accumulated amortization 1,477 1,629
Deferred tax asset 1,228 1,228
----------------------------------------------------------
Total assets $62,552 $64,285
==========================================================
Liabilities and stockholders' equity
Current liabilities:
Accounts payable and accrued expenses $2,687 $ 3,401
Accrued royalties 1,589 2,166
Accrued compensation 195 509
----------------------------------------------------------
Total current liabilities 4,471 6,076
Other long-term liabilities 100 150
----------------------------------------------------------
Total liabilities 4,571 6,226
Stockholders' equity
Common stock, no par value, authorized 40,000,000
shares; shares issued of 11,356,445 and
11,298,732 at March 31, 1999 and December 31,
1998, respectively; shares outstanding of
10,322,145 and 10,409,332 at March 31, 1999 and
December 31, 1998, respectively 54,401 53,806
Retained earnings 17,871 15,061
Cost of stock held in treasury, 1,034,300 and 889,400
shares at March 31, 1999 and December 31, 1998,
respectively (14,291) (10,808)
----------------------------------------------------------
Total stockholders' equity 57,981 58,059
==========================================================
Commitments and contingencies
==========================================================
Total liabilities and stockholders' equity $62,552 $64,285
==========================================================
See accompanying notes to consolidated financial statements.
*Abstracted from audited year-end financial statements.
</TABLE>
2
<PAGE>
Medco Research, Inc.
<TABLE>
Consolidated Statements of Operations
(Unaudited)
<CAPTION>
THREE MONTHS ENDED
--------------------------------------
March 31, March 31,
(in thousands except per share data) 1999 1998
--------------------------------------
<S> <C> <C>
Royalty revenue $7,567 $6,379
Royalty expense 1,329 1,264
--------------------------------------
Gross margin 6,238 5,115
Operating expenses:
Research & development costs 2,008 1,728
General and administrative expenses 728 625
--------------------------------------
2,736 2,353
Operating income 3,502 2,762
--------------------------------------
Other income:
Interest income 725 614
Income before taxes 4,227 3,376
Provision for income taxes 1,417 205
Net income $2,810 $3,171
======================================
Basic earnings per share $0.27 $ 0.30
======================================
Diluted earnings per share $0.26 $ 0.30
======================================
Weighted average shares outstanding 10,361 10,518
======================================
Net effect of dilutive stock options based on treasury stock
method using average market price 441 225
======================================
Weighted average shares outstanding
assuming dilution 10,802 10,743
======================================
See accompanying notes to consolidated financial statements.
</TABLE>
3
<PAGE>
Medco Research, Inc.
<TABLE>
Consolidated Statements of Stockholders' Equity
(Unaudited)
THREE MONTHS ENDED MARCH 31, 1999
(in thousands except share data)
<CAPTION>
Common Stock
------------------------------------
Cost of
Number of Retained stock held
shares Amount earnings in treasury Total
-----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance at
December 31, 1998 10,409 $53,806 $15,061 $(10,808) $58,059
Stock options exercised 58 595 - - 595
Purchase of stock held in
treasury (145) - - (3,483) (3,483)
Net income - - 2,810 - 2,810
===============================================================================================
Balance at
March 31, 1999 10,322 $54,401 $17,871 $(14,291) $57,981
===============================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
Medco Research, Inc.
<TABLE>
Consolidated Statements of Cash Flows
(Unaudited)
THREE MONTHS ENDED
--------------------------------------------
March 31, March 31,
1999 1998
--------------------------------------------
(in thousands)
<S> <C> <C>
Operating activities
Net income $2,810 $3,171
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation of property and equipment 39 24
Amortization of patent, trademark and
distribution rights 152 146
Net amortization of investment discount (59) (93)
Changes in operating assets and liabilities:
Accounts receivable 92 (233)
Prepaid expenses and other assets (136) 283
Accrued interest income (195) 120
Accounts payable and accrued expenses (1,078) 81
Accrued royalties (577) (497)
Deferred royalty payment - (334)
--------------------------------------------
Net cash provided by operating activities 1,048 2,668
--------------------------------------------
</TABLE>
(Continued)
5
<PAGE>
Medco Research, Inc.
<TABLE>
Consolidated Statements of Cash Flows
(Unaudited)
<CAPTION>
THREE MONTHS ENDED
--------------------------------------------
March 31, March 31,
1999 1998
--------------------------------------------
(in thousands)
<S> <C> <C>
Investing activities
Purchase of investment securities held to maturity (1,000) (8,439)
Maturity of investment securities held to maturity 6,000 7,500
Purchases of property and equipment (104) -
Purchases of patents and licenses - (713)
--------------------------------------------
Net cash provided by (used in) investing
activities 4,896 (1,652)
--------------------------------------------
Financing activities
Net proceeds from exercise of stock options 595 240
Purchase of stock held in treasury (3,483) -
--------------------------------------------
Net cash provided by (used in) financing
activities (2,888) 240
--------------------------------------------
Increase in cash and cash equivalents 3,056 1,256
Cash and cash equivalents at beginning of period 4,742 2,726
--------------------------------------------
Cash and cash equivalents at end of period $7,798 $3,982
============================================
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
Medco Research, Inc.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
General
The accompanying interim financial statements have been prepared by Medco
Research, Inc. (the "Company") in accordance with generally accepted accounting
principles. Certain disclosures and information normally included in financial
statements have been condensed or omitted. In the opinion of the management of
the Company, these financial statements contain all adjustments (all of a
recurring nature) necessary for a fair presentation for the interim periods.
These statements should be read in conjunction with the financial statements and
notes included in the Company's Annual Report on Form 10-K for the year ended
December 31, 1998.
Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity of three
months or less when purchased to be cash equivalents.
Adoption of New Accounting Pronouncements
The Company adopted Statement of Financial Accounting Standards No. 130
"Reporting Comprehensive Income" ("SFAS No. 130") for its fiscal year ending
December 31, 1998. SFAS No. 130 requires the Company to display an amount
representing the total comprehensive income for the period in a financial
statement which is displayed with the same prominence as other financial
statements. The Company has no items of other comprehensive income in any period
presented and therefore is not required to report comprehensive income.
The Company will adopt Statement of Financial Accounting Standards No. 133
"Accounting for Derivative Investments and Hedging Activities" ("SFAS No. 133")
for its fiscal year ending December 31, 2000. SFAS No. 133 establishes a new
model for accounting for derivatives and hedging activities and supersedes and
amends a number of existing standards. The adoption of this pronouncement is
expected to have no impact on the Company's results of operations or financial
condition.
Contingency
There are no material legal proceedings pending against the Company. However, on
October 3, 1997, Richard A. Wilson, Debra A. Angello, and Paul S. Angello
("Plaintiffs") filed a complaint against Fujisawa, USA, Inc. ("Fujisawa") in the
United States District Court, District of Oregon, alleging that Fujisawa's sale
of Adenoscan in the United States induces, or contributes to, the infringement
of plaintiffs' U.S. Patent No. 4,824,660 ("the `660 patent"), entitled "Method
of Determining the Viability of Tissue in an Organism" which the Patent Office
issued on April 25, 1989. According to plaintiffs, the `660 patent claims a
specific technique for more reliably locating viable or nonviable regions of
heart tissue, namely using an adenosine triphosphate repleting agent such as
ribose or adenosine as an adjunct to radioactive isotope (e.g., thallium-201)
myocardial perfusion scintigraphy, where regions of heart tissue in which the
7
<PAGE>
Medco Research, Inc.
scan images show no radioactivity indicate the presence of nonviable heart
tissue. In its Answer and Counterclaim, Fujisawa denied that it infringed any of
the claims of the `660 patent and alleged that the `660 patent was invalid.
Fujisawa further alleged that plaintiffs' claims of patent infringement were
barred by the doctrines of laches and estoppel. In its Counterclaim, Fujisawa
requested a declaratory judgment that it did not infringe the claims of the `660
patent and that such patent is invalid.
On December 31, 1998 Fujisawa filed a motion seeking summary judgement, which
was denied in March 1999. This action is in the discovery stage. Fujisawa has
advised the Company that Fujisawa intends to vigorously defend this action and
believes it has no merit. Under the terms of its Adenoscan exclusive license
agreement with Fujisawa, the Company will reimburse Fujisawa for 50% of the cost
of defending this action.
The Company also believes the action has no merit. The Company has long been
aware of the `660 patent, and as part of its normal operating procedures the
Company has received the written opinions of separate patent counsel that the
manufacture and sale of Adenoscan for use in myocardial imaging does not
infringe any valid claim of the `660 patent. The Company disclosed its receipt
of its patent counsel non-infringement opinion in its 1993 Form 10-K Report.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
RESULTS OF OPERATIONS
First Quarter of 1999 Compared to First Quarter of 1998
Net Revenues. The Company's first quarter 1999 royalty revenues increased to
$7.567 million from $6.379 million, an increase of 19%, due to continued
quarterly year-over-year increases in unit sales of Adenoscan by Fujisawa, the
Company's North American licensee. Substantially all of the royalty revenue of
the Company is generated by Fujisawa Healthcare, Inc. from its sales of
Adenoscan and Adenocard in the United States and Canada.
Gross Margin. The Company's first quarter 1999 gross margin from adenosine
revenues increased to $6.238 million from $5.115 million, an increase of 22%,
due to the continuing shift in the product sales mix to Adenoscan from which the
Company receives a higher net royalty than from Adenocard sales. Royalty expense
from adenosine sales increased to $1.329 million from $1.264 million, an
increase of 5%, due to a 28% increase in net sales of Adenoscan, a drug for
which the Company pays a royalty of 3% of net sales to a third party.
Operating Expenses. The Company's first quarter 1999 total operating expenses
increased to $2.736 million from $2.353 million, an increase of 16%. The
Company's first quarter 1999 research and development expenditures increased to
$2.008 million from $1.728 million in 1998, an increase of 16%, due to increased
expenditures in first quarter 1999 related to the initiation of AMISTAD II, a
phase III study to further investigate the safety and efficacy of PallacorTM,
adenosine in cardioprotection with thrombolysis or angioplasty in the treatment
of acute myocardial infarction or heart attack. General and administrative
8
<PAGE>
Medco Research, Inc.
expenses increased to $.728 million from $.625 million, an increase of 16% due
to a one-time payment in first quarter 1999 of $100,000 to the Company's
Chairman of the Board in connection with the performance of the Company.
Excluding such payment, general and administrative expenses increased less than
1% compared to first quarter 1998.
Other Income. Interest income for the first quarter of 1999 increased to $.725
million from $.614 million, an increase of 18% over the comparable period in
1998 primarily due to higher investment balances.
Provision For Income Taxes. The Company recognized tax expense at a rate of 34%
during the first quarter of 1999 versus 6% in the first quarter of 1998 as a
result of the Company fully utilizing its income tax net operating loss
carryforward in the fourth quarter of 1998
Earnings Per Share. In the first quarter 1999, the Company had net income of
$2.810 million or $0.26 diluted earnings per share compared to $3.171 million or
$0.30 diluted earnings per share for the year earlier period, on weighted
average common shares and common share equivalents outstanding of 10.802 and
10.743 million, respectively. This apparent decline in earnings is due to the
Company recognizing tax expense at a rate of 34% during the first quarter of
1999 versus 6% in the first quarter of 1998 as a result of the Company fully
utilizing its income tax net operating loss carryforward in the fourth quarter
of 1998. On a pro forma basis, assuming that the Company had fully utilized its
net operating loss carryforward prior to the first quarter of 1998, diluted
earnings per share for first quarter 1998 would have been $0.21. First quarter
1999 earnings per share increased 24% compared to first quarter 1998 on a pro
forma basis.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 1999, the Company had total cash and investments of $49.365
million comprised of $7.798 million of cash and cash equivalents and $41.567
million of investments in U.S. Treasury Notes, debt securities of various
federal governmental agencies, and high quality corporate debt securities. The
Company's working capital as of March 31, 1999 was $28.778 million, compared to
$29.813 million as of December 31, 1998.
The Company will not generate revenues from its other products unless and until
it or its licensees receive marketing clearance from the FDA and appropriate
governmental agencies in other countries. The Company cannot predict the timing
of any potential marketing clearance nor can assurances be given that the FDA or
such agencies will approve any of the Company's products. For the near term the
Company expects to receive substantially all of its royalty revenues from sales
of its products in the U.S. by Fujisawa Healthcare, Inc.
IMPACT OF INFLATION
Although it is difficult to predict the impact of inflation on costs and
revenues of the Company in connection with the Company's products, the Company
does not anticipate that inflation will materially impact its costs of operation
or the profitability of its products when marketed.
9
<PAGE>
Medco Research, Inc.
IMPACT OF YEAR 2000
Readiness
- ---------
The Year 2000 ("Y2K") issue results from programmers using only two digits to
indicate the century, decade and year in date fields. This generally affects
older software and embedded systems of the Company and third parties with which
it does business, thereby threatening operations and the existence and validity
of data. The team that the Company assembled to address the Y2K issue brings to
bear knowledge from all areas of the Company and helps minimize the potential
impact to the Company.
The Company has categorized the Y2K issue into three parts: internal business
systems software; internal non-business software/embedded systems; and external
vendors. The Company's reliance on an outsourcing philosophy, which encourages
the use of partnering agreements with third parties to accomplish many business
functions, eases the Y2K issue as the Company does not have a large number of
internal business systems applications or embedded systems. However, given that
the Company receives substantially all of its royalty revenues from Fujisawa
Healthcare, Inc., the Y2K issue is still a threat and is being given full
attention by the Company, especially in assessing the Company's third party
relationships.
Internal Business Systems
- -------------------------
The Company does not rely on custom developed solutions for its business
systems. The software that it uses is mass-produced and has been inventoried.
The providers have advised the Company that it has been made Y2K compliant
through normal manufacturer upgrades and updates to the software. Accordingly,
all software and hardware is either Y2K compliant or is due to be replaced in
the normal course of business by the end of second quarter 1999.
Internal Non-Business Software/Embedded Systems
All internal non-business software and embedded systems have been inventoried.
The providers have been queried regarding Y2K compliance. At this time all
software and systems are either Y2K compliant or due to be replaced in the
normal course of business by the end of second quarter 1999.
External Vendors
- ----------------
A database has been established to track progress the Company's vendors are
making in becoming Y2K compliant. The Company is closely monitoring the progress
and potential impact of vendors that may fail to become Y2K compliant by year
end 1999. The Company has submitted questionnaires to its licensees and material
vendors, including Fujisawa, relative to their Y2K compliance. To date, Fujisawa
represents that it has completed replacement of non-compliant web server
equipment and operating systems and installation of a compliant system for
trading with outside customers. Fujisawa anticipates that its non-compliant
software will be upgraded by second quarter 1999 and that testing of its new
trading system will be complete before year-end. The Company continues to assess
Y2K risks relative to its outside vendors and expects this process to be
completed by the end of second quarter 1999. Planning for contingencies relating
to third party relationships has been completed; however, depending on the
outcome of its ongoing assessment, additional planning may be necessary.
10
<PAGE>
Medco Research, Inc.
Costs
- -----
The costs of addressing the Y2K issue are not expected to be material to the
operation of the Company. The costs of software and hardware inventories are
currently being absorbed in the normal course of business. The Company
anticipates incurring less than $2,000 for mailing and reviewing Y2K status
reports for external vendors. The costs anticipated by the Company to replace or
upgrade software or hardware are not being accelerated due to Y2K compliance.
These costs are expected to total $20,000 of which $5,000 has been incurred at
March 31, 1999.
Risks
- -----
At this stage of its assessment, the Company does not anticipate that Y2K issues
will materially impact any of its operations, including research and
development, manufacturing, supply and distribution and financial control. All
internal systems are expected to be operational at the Century Date Change
(CDC). However, due to the large number of the Company's vendors (including
utility companies and governmental bodies) and their reliance, in turn, on other
vendors (including hospitals and distributors), it is impossible for the impact
of the CDC to be fully known. The Company is unable to determine at this time
whether it will be materially impacted by unknown factors beyond the Company's
control affecting third parties or their vendors including royalties the Company
receives from Fujisawa Healthcare, Inc. The Company's Y2K plan is expected to
significantly reduce the Company's level of uncertainty about Y2K issues and, in
particular, about Y2K compliance and readiness of its material vendors. The
Company believes that, with the completion of the plan as scheduled, the
possibility of significant interruptions of normal operations should be reduced.
Contingency Plans
- -----------------
Contingency planning has been put in place relative to the Company's material
vendors, banking operations and governmental bodies. Such plans may be updated
based on information received from vendors on their Y2K readiness. Other
contingency plans may be developed on a vendor-by-vendor basis if deemed
necessary following the Company's assessment of (1) Y2K readiness of other
vendors and (2) the risk of business interruption to the Company. The Company
expects to have final plans in place by the end of second quarter 1999. The
Company's contingency planning takes into account the fact that the Company's
agreements obligate Fujisawa to maintain six months of finished product and six
months of work-in-process inventories of Adenocard and Adenoscan based on orders
received. In addition, in the event Fujisawa cannot fulfill orders for such
drugs on a timely basis consistent with U.S. industry practice for any period in
excess of 30 calendar days, Fujisawa is obligated to pay royalties to the
Company during such "outage" periods based on the average daily net sales of the
drug during the prior twelve months, except if such outage results from force
majeure events.
Disclaimer
- ----------
The discussion of the Company's efforts and management's expectations relating
to the Year 2000 are forward-looking statements. The Company's ability to
achieve Y2K compliance, to verify external vendors' Y2K compliance, and the
costs associated with those activities are subject to change as the Company's
Y2K plan is implemented. Completion of the plan is dependent on the Company's
ability to discover and correct the potential Y2K sensitive problems which could
have a serious impact on operations and the ability of third party vendors to
bring their systems into Y2K compliance.
11
<PAGE>
Medco Research, Inc.
CAUTIONARY STATEMENT
The Company operates in a highly competitive environment that involves a number
of risks, some of which are beyond the Company's control. The following
statement highlights some of these risks.
Statements contained in Management's Discussion and Analysis of Financial
Conditions and Results of Operations which are not historical facts are or may
constitute forward looking statements under the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Although the Company believes
the expectations reflected in such forward looking statements are based on
reasonable assumptions, it can give no assurance that its expectations will be
attained. Forward looking statements involve known and unknown risks that could
cause the Company's actual results to differ materially from expected results.
Factors that could cause actual results to differ materially from the Company's
expectations include, among others, the high cost and uncertainty of the
research, clinical trials and other development activities involving
pharmaceutical products; the Company's ability to fund its activities internally
or through additional financing if necessary; the unpredictability of the
duration and results of regulatory review of New Drug Applications and
Investigational New Drug Applications; the possible impairment of, or inability
to obtain, intellectual property rights and the cost of obtaining such rights
from third parties; intense competition; the uncertainty of obtaining, and the
Company's dependence on, third parties to manufacture and sell its products;
results of pending or future litigation and other risk factors detailed from
time to time in the Company's Securities and Exchange Commission filings. The
Company does not undertake any obligation to release publicly any revisions to
these statements to reflect later events or circumstances or to reflect the
occurrence of unanticipated events.
Part II: OTHER INFORMATION
Item 1. Legal Proceedings
Incorporated herein by reference is a contingency, inclusive, set forth in the
Notes to the Financial Statements set forth in Item 1 of Part I of this Report,
set forth on pages 7 and 8 hereof.
Item 6. Exhibits and Reports on Form 8-K
a. Exhibits:
None.
b. Reports on Form 8-K:
None.
12
<PAGE>
Medco Research, Inc.
SIGNATURES
Pursuant to 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.
Medco Research, Inc.
Date: May 14, 1999 By: /s/ Roger D. Blevins
- --------------------------- ----------------------------------
Roger D. Blevins, Pharm.D.
President and
Chief Executive Officer
Date: May 14, 1999 By: /s/ Glenn C. Andrews
- --------------------------- ----------------------------------
Glenn C. Andrews
Executive Vice President,
Finance and Administration,
Chief Financial Officer and Treasurer
Date: May 14, 1999 By: /s/ Adam C. Derbyshire
- --------------------------- ----------------------------------
Adam C. Derbyshire
Corporate Controller and Secretary
13
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 7,798
<SECURITIES> 15,499
<RECEIVABLES> 9,952
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 33,249
<PP&E> 1,035
<DEPRECIATION> 505
<TOTAL-ASSETS> 62,552
<CURRENT-LIABILITIES> 4,471
<BONDS> 0
<COMMON> 54,401
0
0
<OTHER-SE> 3,580
<TOTAL-LIABILITY-AND-EQUITY> 62,552
<SALES> 0
<TOTAL-REVENUES> 8,292
<CGS> 0
<TOTAL-COSTS> 4,065
<OTHER-EXPENSES> 4,065
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 4,227
<INCOME-TAX> 1,417
<INCOME-CONTINUING> 2,810
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,810
<EPS-PRIMARY> 0.27
<EPS-DILUTED> 0.26
</TABLE>
