SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------------
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarter ended June 30, 2000
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 1-10492
EPITOPE, INC.
(Exact name of registrant as specified in its charter)
OREGON NO. 93-0779127
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
8505 SW Creekside Place
Beaverton, Oregon 97008-7108
(Address of principal executive offices) (Zip code)
(503) 641-6115
(Registrant's telephone number, including area code)
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 [ ]
Number of shares of Common Stock, no par value, outstanding as of June 30, 2000:
16,708,751
<PAGE>
PART I. FINANCIAL INFORMATION
<TABLE>
PAGE NO.
--------
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
<S> <C>
Condensed Consolidated Balance Sheets at June 30, 2000 (unaudited)
and September 30, 1999......................................................... 2
Condensed Consolidated Statements of Operations (unaudited) for the
three months and nine months ended June 30, 2000 and 1999...................... 3
Condensed Consolidated Statements of Changes in Shareholders' Equity
(unaudited) for the three months and nine months ended June 30, 2000........... 4
Condensed Consolidated Statements of Cash Flows (unaudited) for the nine
months ended June 30, 2000 and 1999............................................ 5
Notes to Condensed Consolidated Financial Statements (unaudited)................... 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS ......................................................... 9
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK...................... 11
PART II. OTHER INFORMATION
ITEM 5. OTHER INFORMATION.............................................................. 12
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K............................................... 14
</TABLE>
<PAGE>
EPITOPE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
JUNE 30, 2000 SEPTEMBER 30, 1999
(Unaudited)
ASSETS
Current assets
<S> <C> <C>
Cash and cash equivalents.................. $ 7,735,883 $ 1,075,898
Marketable securities...................... 7,828,048 4,532,594
Trade accounts receivable, net ............ 1,573,002 1,489,884
Other receivables.......................... 368,422 73,356
Inventories (Note 2) ...................... 1,247,648 1,504,050
Prepaid expenses........................... 593,755 329,958
------------ -----------
19,346,758 9,005,740
Property and equipment, net................ 1,724,296 1,030,595
Patents and proprietary technology, net ... 353,327 487,085
Other assets and deposits.................. 172,555 170,895
------------ -----------
$ 21,596,936 $10,694,315
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable........................... $ 351,889 $ 474,713
Salaries, benefits and other accrued
liabilities.............................. 1,505,069 1,643,573
------------ -----------
1,856,958 2,118,286
Commitments and contingencies.............. - -
Shareholders' equity (Notes 2 and 4)
Contributed capital........................ 127,630,583 114,827,231
Accumulated deficit........................ (107,890,605) (106,251,202)
------------ ------------
19,739,978 8,576,029
$ 21,596,936 $ 10,694,315
</TABLE>
Page 2
<PAGE>
EPITOPE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
<TABLE>
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 30 JUNE 30
2000 1999 2000 1999
Revenues
<S> <C> <C> <C> <C>
Product sales .............................. $ 3,355,260 $ 2,687,923 $ 8,984,602 $ 7,005,252
Grants and contracts ....................... 42,602 - 117,119 59
------------ ------------- ------------ -------------
3,397,862 2,687,923 9,101,721 7,005,311
Costs and expenses
Product costs .............................. 1,247,561 1,083,669 3,483,775 2,595,989
Operations.................................. 558,911 485,183 1,374,662 1,312,384
Research and development costs ............. 900,800 559,085 2,209,888 1,691,843
Selling, general and administrative expenses 1,721,570 1,388,778 4,658,354 3,896,259
------------ ------------- ------------ -------------
4,428,842 3,516,715 11,726,679 9,496,475
Loss from operations ....................... (1,030,980) (828,792) (2,624,958) (2,491,164)
Other income (expense), net
Interest income............................. 214,498 66,426 389,902 206,942
Interest expense............................ (93) (431) (333) (963)
Other, net.................................. 600,061 (1,151) 595,986 (11,743)
------------ ------------- ------------ -------------
814,466 64,844 985,555 194,236
Net loss.................................... $ (216,514) $ (763,948) $ (1,639,403) $ (2,296,928)
Basic and diluted net loss per share........ $ (0.01) $ (0.05) $ (0.11) $ (0.17)
Weighted average number of shares outstanding 16,444,000 14,065,991 15,249,290 13,888,087
</TABLE>
Page 3
<PAGE>
EPITOPE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN
SHAREHOLDERS' EQUITY
<TABLE>
COMMON STOCK ACCUMULATED
SHARES DOLLARS DEFICIT TOTAL
<S> <C> <C> <C> <C>
BALANCES AT SEPTEMBER 30, 1999................. 14,245,097 $114,827,231 $(106,251,202) $ 8,576,029
Common stock issued upon
exercise of options.......................... 12,846 58,250 - 58,250
Common stock issued as
matching savings plan contributions.......... 2,691 17,492 - 17,492
Common stock issued under Employee
Stock Purchase Plan.......................... 1,253 4,197 - 4,197
Compensation expense for
stock option grants.......................... - 80,108 - 80,108
Net loss for the quarter....................... - - (513,425) (513,425)
---------- ------------ ------------- -----------
BALANCES AT DECEMBER 31, 1999 (UNAUDITED)...... 14,261,887 $114,987,278 $(106,764,627) $ 8,222,651
Common stock issued upon
exercise of options.......................... 1,143,944 5,071,383 - 5,071,383
Common stock issued upon
exercise of warrants......................... 551,700 3,262,202 - 3,262,202
Common stock issued as
matching savings plan contributions.......... 2,193 20,559 - 20,559
Common stock issued under Employee
Stock Purchase Plan.......................... 5,195 24,838 - 24,838
Compensation expense for
stock option grants.......................... - 28,373 28,373
Expenses related to equity issuance............ - (72,145) - (72,145)
Net loss for the quarter....................... - - (909,464) (909,464)
---------- ------------ ------------- -----------
BALANCES AT MARCH 31, 2000 (UNAUDITED)......... 15,964,919 $123,322,488 $(107,674,091) $15,648,397
Common stock issued upon
exercise of options.......................... 68,698 257,897 - 257,897
Common stock issued upon
exercise of warrants......................... 672,267 3,975,115 - 3,975,115
Common stock issued as
matching savings plan contributions.......... 1,345 18,495 - 18,495
Common stock issued under Employee
Stock Purchase Plan.......................... 1,522 5,024 - 5,024
Compensation expense for
stock option grants.......................... - 59,451 - 59,451
Expenses related to equity issuance............ (7,887) - (7,887)
Net loss for the quarter....................... - - (216,514) (216,514)
---------- ------------ ------------- -----------
BALANCES AT JUNE 30, 2000 (UNAUDITED).......... 16,708,751 $127,630,583 $(107,890,605) $19,739,978
</TABLE>
Page 4
<PAGE>
EPITOPE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
NINE MONTHS ENDED JUNE 30 2000 1999
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net loss $(1,639,403) $(2,296,928)
Adjustments to reconcile net loss
to net cash used in operating activities:
Depreciation and amortization ......................................... 445,840 476,598
Loss on disposition of assets.......................................... 140 12,818
(Increase) decrease in accounts receivable and other receivables ...... (378,184) 372,917
Decrease (increase) in inventories .................................... 256,402 (446,666)
Decrease in prepaid expenses .......................................... (263,797) (17,617)
Decrease in accounts payable and accrued liabilities .................. (261,328) (352,888)
Common Stock issued as compensation for services....................... - 54,874
Compensation expense for stock option grants and
deferred salary increases .......................................... 167,932 245,518
Other, net ............................................................ 49,913 -
----------- -----------
Net cash used by operating activities.................................. (1,622,485) (1,951,374)
CASH FLOWS FROM INVESTING ACTIVITIES
Investment in marketable securities ................................... (14,714,570) (8,053,210)
Proceeds from sale of marketable securities ........................... 11,419,116 7,994,206
Additions to property and equipment ................................... (979,486) (552,412)
Expenditures for patents and proprietary technology ................... (26,437) (119,692)
Investment in affiliated companies..................................... (51,573) (14,910)
----------- -----------
Net cash used by investing activities.................................. (4,352,950) (746,018)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock ................................ 12,635,420 2,441,526
----------- -----------
Net cash provided by financing activities.............................. 12,635,420 2,441,526
Net increase (decrease) in cash and cash equivalents .................. 6,659,985 (255,866)
Cash and cash equivalents at beginning of period ...................... 1,075,898 1,164,275
----------- -----------
Cash and cash equivalents at end of period $ 7,735,883 $ 908,409
</TABLE>
Page 5
<PAGE>
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1 THE COMPANY
Epitope, Inc. (Epitope or the Company) develops, manufactures and markets oral
specimen collection devices and diagnostic products using its proprietary oral
fluid technologies. These products are sold to public and private-sector clients
in the United States and certain foreign countries. The Company's primary focus
is on the detection of antibodies to the Human Immunodeficiency Virus (HIV), the
cause of Acquired Immune Deficiency Syndrome (AIDS). The Company's technology is
also being used to test for drugs-of-abuse and other analytes. Commercial
distribution of the Company's oral specimen collection device as part of a test
for the five major drugs-of-abuse began in February 2000.
The interim condensed consolidated financial statements included herein are
unaudited; however, in the opinion of the Company's management, the interim data
include all adjustments, consisting only of normal recurring adjustments,
necessary for a fair statement of the results of operations for the interim
periods. These condensed consolidated financial statements should be read in
conjunction with the financial statements and notes thereto included in the
Company's 1999 Annual Report on Form 10-K. Results of operations for the period
ended June 30, 2000 are not necessarily indicative of the results of operations
expected for the full fiscal year.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation. The accompanying financial statements include the
accounts of the Company and its joint venture subsidiary, Epitope KK, in Japan,
which has been accounted for under the equity method.
<TABLE>
Inventories. Inventory components are summarized as follows: 06/30/00 9/30/99
(Unaudited)
<S> <C> <C>
Raw materials......................................................... $ 253,035 $ 360,806
Work-in-process....................................................... 422,744 441,952
Finished goods ....................................................... 571,869 701,292
------------ ---------
$ 1,247,648 $ 1,504,050
</TABLE>
Net Loss Per Share. Basic and diluted loss per share has been computed using the
weighted average number of shares of common stock and potential common stock
outstanding during the period. Potential common stock consists of the number of
shares issuable upon exercise of outstanding warrants and options less the
number of shares assumed to have been purchased for the treasury with the
proceeds from such exercise. Potential common stock is excluded from the
computation if its effect is anti-dilutive. Basic and diluted net income (loss)
per share are the same for the comparable three month and nine-month periods
ended June 30, 2000 and 1999. Shares of potential common stock that were not
included in the calculation of diluted loss per share as they were anti-dilutive
are as follows:
<TABLE>
THREE MONTHS ENDED JUNE 30, NINE MONTHS ENDED JUNE 30,
2000 1999 2000 1999
<S> <C> <C> <C> <C>
Number of Shares.......... 1,955,597 354,567 2,030,825 446,762
</TABLE>
Exercise of Options and Warrants. During the quarter ended June 30, 2000, 68,698
shares of common stock were issued for the exercise of employee stock options,
and 672,267 shares of common stock were issued for the exercise of warrants.
Proceeds from the exercise of options and warrants were $257,987 and $3,975,115,
respectively. Equity issuance costs of $7,887 for commissions and fees related
to the exercise of common stock warrants were deducted from the proceeds during
the quarter. Employer payroll taxes related to the exercise of employee stock
options during the quarter, charged to general and administrative expenses, were
$10,981.
Statement of Cash Flows. Cash paid for interest approximated interest expense in
the quarters ended June 30, 2000 and 1999. No cash was paid for income taxes in
fiscal 2000 or 1999. Compensation expense related to the issuance
Page 6
<PAGE>
of compensatory equity securities, which also represents non-cash transactions,
amounted to $167,932 and $245,518 in the first nine months of fiscal 2000 and
1999, respectively.
Management Estimates. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
relating to assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements as well as the reported amounts of revenues and
expenses during the reporting period. Actual results could vary from these
estimates.
Reclassifications. Certain reclassifications have been made to prior years' data
to conform with the current year's presentation. These reclassifications had no
impact on previously reported results of operations or shareholders' equity.
Regulatory affairs, quality assurance, materials management and purchasing were
reclassified as Operations. In the comparable periods of fiscal 1999 these
departments were included in either Research and development costs or Selling,
general and administrative expenses. Management believes these reclassifications
provide a more meaningful presentation.
Advertising and Promotional Expenses. Advertising and promotional costs are
expensed as incurred. For the nine months ended June 30, 2000 and 1999,
advertising and promotional expenses were $305,413 and $86,742, respectively.
Revenue Recognition. In December 1999, the Securities and Exchange Commission
("SEC") issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue
Recognition," which provides guidance on the recognition, presentation, and
disclosure of revenue in financial statements filed with the SEC. SAB 101
outlines the basic criteria that must be met to recognize revenue and provides
guidance for disclosures related to revenue recognition policies. Management
believes that the impact of SAB 101 will not have a material effect on our
financial position or results of operations. The Company recognizes revenues
from sales to distributors and customers only when the related products are
shipped. The Company has not granted price protection rights or rights of return
to any customers, including distributors. Shipments to foreign distributors are
made only when cash is received in advance or when a letter of credit is
provided.
Valuation of Long-Lived Assets. Long-lived assets such as property, plant and
equipment, patents, investments and software are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount
may not be recoverable. If the total of the expected future discounted cash
flows (fair value) is less than the carrying amount of the asset, a loss is
recognized for the difference between the fair value and the carrying amount of
the asset.
NOTE 3 SEGMENT AND GEOGRAPHIC AREA INFORMATION
The following disclosures are required by Statement of Financial Accounting
Standards No. 131, "Segment Disclosures and Related Information" (SFAS 131):
The Company's products are all included in the medical products industry
segment. See Note 1 for a description of the Company's business. The Company's
products are sold principally in the United States and Asia. Operating loss
represents revenues less product costs and operating expenses. No operating
income or loss is reflected for geographic areas other than the United States as
all revenues for other geographic areas are exports from the United States.
Page 7
<PAGE>
IN THOUSANDS
<TABLE>
FOR THE NINE MONTHS ENDED REVENUES OPERATING LOSS IDENTIFIABLE ASSETS
JUNE 30, 2000 1999 2000 1999 2000 1999
GEOGRAPHIC AREA
<S> <C> <C> <C> <C> <C> <C>
United States..................................... $8,599 $6,741 $(1,639) $(2,297) $21,597 $10,449
Canada............................................ 9 5 - - - -
Asia.............................................. 337 215 - - - -
Latin America..................................... - 6 - - - -
Europe............................................ 39 36 - - - -
Other............................................. 1 2 - - - -
------ ------ ------- ------- ------- -------
$8,985 $7,005 $(1,639) $(2,297) $21,597 $10,449
</TABLE>
Customer Concentration. In the third quarter of fiscal 2000 four customers
accounted for 64 percent of product revenues as compared to 72 percent for the
same quarter of fiscal 1999. For the nine-month periods ended June 30, 2000 and
1999 the same four customers accounted for 61 percent and 71 percent,
respectively. The Company believes that its relationship with each of these
customers is strong and believes that they will purchase comparable or
increasing volumes of the Company's products for the foreseeable future. There
can be no assurance, however, that sales to these customers will not decrease or
that these customers will not choose to replace the Company's products with
those of competitors. The loss of any of these customers or a significant
decrease in the volume of products purchased by them would have a material
adverse effect on the Company.
NOTE 4 INCOME TAXES
The federal and state net operating loss carryforwards at September 30, 1999
available to offset future taxable income will expire as follows:
<TABLE>
LOSS CARRYFORWARDS
YEAR OF EXPIRATION FEDERAL OREGON
<S> <C> <C> <C>
2000................................................... $ 100,000 $ 200,000
2001................................................... 300,000 31,000
2002................................................... 666,000 -
2003................................................... 2,278,000 2,106,000
2004................................................... 2,360,000 2,206,000
2005................................................... 1,993,000 1,914,000
2006................................................... 6,100,000 5,643,000
2007................................................... 6,378,000 5,788,000
2008................................................... 5,370,000 4,671,000
2009................................................... 3,459,000 4,430,000
2010................................................... 7,053,000 6,275,000
2011................................................... 796,000 796,000
2012................................................... 7,731,000 7,731,000
2013................................................... 3,699,974 3,699,974
2014................................................... 4,077,136 4,077,136
----------- -----------
$52,361,110 $49,568,110
</TABLE>
NOTE 5 PROPOSED MERGER
On May 8, 2000, Epitope announced that the Company had signed a definitive
merger agreement dated as of May 6, 2000, with STC Technologies, Inc., a
privately-held company based in Bethlehem, Pennsylvania. On June 14, 2000,
Epitope filed a Registration Statement on Form S-4 under the name OraSure
Technologies, Inc., in connection with the proposed merger. Merger related costs
incurred during the quarter of $334,272 have been recorded as prepaid expenses
and will be charged to expense immediately following the merger.
Page 8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Statements below regarding future events or performance are "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. The Company's actual results could be quite different from those
expressed or implied by the forward-looking statements. Factors that could
affect results include: loss of key personnel; failure to comply with
regulations of the FDA or other regulatory agencies; obstacles to international
marketing of the Company's products; loss or impairment of sources of capital;
ability of the Company to develop product distribution channels; ability of the
Company to develop new products; development of competing products; market
acceptance of oral fluid testing products; and changes in federal or state law
or regulations. These factors are discussed more fully under "Forward-Looking
Statements; Risk Factors" in Item 1 and elsewhere in the Company's Annual Report
on Form 10-K. Although forward-looking statements help to provide complete
information about the Company, readers should keep in mind that forward-looking
statements are much less reliable than historical information. Readers are
cautioned not to place undue reliance on the forward-looking statements.
RESULTS OF OPERATIONS
The table below shows the amount (in thousands) and percentage of Epitope's
total revenue contributed by each of its principal products and by grants and
contracts.
<TABLE>
THREE MONTHS ENDED JUNE 30 (IN THOUSANDS, EXCEPT %) 2000 1999
DOLLARS PERCENT DOLLARS PERCENT
Product Sales
<S> <C> <C> <C> <C>
Oral specimen collection devices....................... $2,864 84% $2,196 82%
Western blot HIV confirmatory tests.................... 470 14 479 18
Other product sales.................................... 21 1 13 0
------ --- ------ ---
3,355 99 2,688 100%
Grants and contracts...................................... 43 1 - -
------ --- ------ ---
$3,398 100% $2,688 100%
NINE MONTHS ENDED JUNE 30 (IN THOUSANDS, EXCEPT %) 2000 1999
DOLLARS PERCENT DOLLARS PERCENT
Product sales
Oral specimen collection devices....................... $7,572 83% $5,201 74%
Western blot HIV confirmatory tests.................... 1,285 14 1,644 23
Other product sales.................................... 127 2 160 2
------ --- ------- ---
8,984 99 7,005 100
Grants and contracts...................................... 118 1 - -
------ --- ------- ---
$9,102 100% $7,005 100%
</TABLE>
Revenues. Total product sales increased by $667,000 or 25 percent in the current
quarter as compared to the third quarter of fiscal 1999. This increase was
primarily a result of expanded sales volume of Epitope's lead product, the
OraSure oral specimen collection device, which increased by $668,000 or 30
percent in the current quarter as compared to the third quarter of fiscal 1999.
Total product sales increased from the second quarter of fiscal 2000 by $311,000
or 10 percent primarily as a result of growth in the life insurance and public
health testing markets.
OraSure device and other product sales into the public health markets in the
quarter ended June 30, 2000 totaled $898,000 or 27 percent of product sales as
compared to $672,000 or 25 percent in the same period of fiscal 1999, and $2.6
million or 29 percent of product sales as compared to $1.7 million or 24 percent
in the comparable nine-month periods. The life insurance testing market in the
third quarter of fiscal 2000 contributed $1.8 million or 52 percent of total
product sales for the period as compared to $1.5 million or 56 percent in the
third quarter of fiscal 1999, and $4.5 million or 50 percent of product sales as
compared to $3.4 million or 49 percent in the comparable nine-month periods.
Sales into international markets in the current quarter were $119,000 or 4
percent of product sales as compared to $28,000 or 1 percent of product sales in
the same quarter of fiscal 1999, and $413,000 or 5 percent of product sales as
compared to $259,000 or 4 percent in the comparable nine-month periods.
Page 9
<PAGE>
Sales of the Company's Western blot HIV confirmatory tests decreased by $9,000
or 2 percent in the current quarter as compared to the third quarter of fiscal
1999, and $359,000 or 22 percent in the comparable nine-month periods. With
reduced sales of Western blot HIV confirmatory tests to Organon Teknika
Corporation, and OraSure sales to a broader customer base, the total sales to
the Company's top four customers decreased to 64 percent of total sales in the
third quarter of fiscal 2000. See "Customer Concentration" in Note 3 to the
Consolidated Financial Statements, "Segment and Geographic Area Information."
Sales for the full fiscal year are anticipated to continue to rise, compared to
fiscal year 1999. However, sales may be affected by economic factors and
seasonality of certain market segments. Expectations for future sales are based
primarily on forecasts provided to the Company by individual customers rather
than firm orders, as many of the customers in the public health and
international markets do not have ongoing purchase commitments with the Company.
Grant and contract revenues increased by $43,000 or 100 percent in the current
quarter as compared to the third quarter of fiscal 1999, and by $117,000 for the
comparable nine-month periods due to funding from the grant provided by the
National Institutes for Health (NIH) for the development of a syphilis test.
Phase I of the grant contract has been completed and the application for Phase
II has been submitted.
Gross Margin. Gross margin on product sales was 63 percent in the third quarter
of fiscal 2000 compared to 60 percent in the comparable period of fiscal 1999.
For the comparable nine-month periods the gross margins were 61 percent and 63
percent, respectively. The increase in gross margin during the quarter is
primarily attributable to increases in sales and production volumes of OraSure,
the Company's oral fluid collection device.
Operations. Operation expenses increased by $74,000 or 15 percent in the current
quarter as compared to last year's third quarter and increased $62,000 or 5
percent in the comparable nine-month periods. The increase is due to costs
associated with regulatory compliance and establishing production capabilities
for the OraQuick rapid assay product.
Research and Development Expenses. Research and development expenses increased
by $342,000 or 61 percent as compared to the third quarter of fiscal 1999, and
by $518,000 or 31 percent for the comparable nine-month periods because of heavy
emphasis on the new OraQuick product. R&D expenses are expected to increase in
the fourth quarter of fiscal 2000 as clinical trials for OraQuick have begun.
Spending for syphilis test development will be offset by grant funding.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for the third quarter of fiscal 2000 increased by
$333,000 or 24 percent as compared to last year's third quarter, and by $762,000
or 20 percent for the comparable nine-month periods. The increase for the
quarter was primarily a result of costs to develop and establish foreign markets
for OraQuick, which was launched at the XIII International AIDS Conference in
Durban, South Africa in early July. These costs, costs associated with the
hiring the Company's chief executive officer, and payroll taxes on the exercise
of employee stock options accounted for the increase in the nine-month period.
Other Income. During the third quarter, members of Andrew and Williamson Sales,
Co. (A&W) management personally negotiated to buy the A&W preferred stock the
Company had received as part of a settlement with A&W in 1997. The Company
received $600,000 for the preferred stock which had been carried at zero value
due to circumstances surrounding A&W's financial condition at the time the stock
was received in 1997. See Note 3 "Discontinued Operations" to the Consolidated
Financial Statements included in the Company's Annual Report on Form 10-K for
the year ended September 30, 1999 for more information regarding A&W.
Page 10
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LIQUIDITY AND CAPITAL RESOURCES
<TABLE>
(IN THOUSANDS) 6/30/00 9/30/99
<S> <C> <C>
Cash and cash equivalents.............................................. $ 7,736 $ 1,076
Marketable securities.................................................. 7,828 4,533
Working capital........................................................ 17,490 6,887
</TABLE>
Net cash used by operating activities decreased by $329,000 compared to the
nine-month period in fiscal 1999. The total of cash and cash equivalents plus
marketable securities increased by $4.1 million during the quarter due primarily
to the exercise of options and warrants to purchase common stock. During the
quarter, the Company received proceeds of $4.0 million from the exercise of
warrants to purchase common stock, $600,000 from the sale of A&W preferred
stock, and $258,000 from the exercise of options to purchase common stock. The
Company spent $578,000 to acquire automated manufacturing equipment for OraQuick
in the third quarter.
The Company anticipates that it will continue to need funds to support ongoing
research and development projects, to provide additional manufacturing capacity,
and to increase working capital to support growth. The Company believes that its
operating liquidity requirements for the foreseeable future can be met by
existing resources, including marketable securities and cash generated by
operations. The Company may also receive funds through the exercise of
additional stock options and warrants as well as research grants; however, there
can be no assurances that funding from these sources will be available.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company does not hold material amounts of derivative financial instruments,
other financial instruments, or derivative commodity instruments, and
accordingly has no material market risk to report under this item.
Page 11
<PAGE>
PART II. OTHER INFORMATION
ITEM 5. OTHER INFORMATION
Merger Agreement. On May 8, 2000, Epitope announced that the Company had signed
a definitive merger agreement dated as of May 6, 2000, with STC Technologies,
Inc., a privately-held company based in Bethlehem, Pennsylvania. The agreement
has been approved by the board of directors of each company, and is subject to
typical terms and conditions, including a vote of Epitope and STC shareholders
expected to take place in September 2000.
On June 14, 2000, Epitope filed with the Securities and Exchange Commission a
Registration Statement on Form S-4 under the name OraSure Technologies, Inc., in
connection with the proposed merger. Epitope plans to file amendments to the
Registration Statement and when completed mail a Proxy Statement/Prospectus
containing substantially all of the information in the Registration Statement to
Epitope and STC shareholders in advance of the meetings of shareholders to
approve the merger. Investors and security holders are urged to read the
Registration Statement and the Proxy Statement/Prospectus carefully because they
contain important information regarding the merger. You may obtain free copies
of these documents when they are available through the web site maintained by
the Securities and Exchange Commission at http://www.sec.gov.
OraQuick Rapid HIV Test. On June 23, 2000, Epitope received approval for an
Investigational Device Exemption (IDE) from the U.S. Food and Drug
Administration (FDA) authorizing Epitope to begin formal clinical trials for
OraQuick. The OraQuick device is the Company's new rapid test designed to test
either an oral fluid, whole blood or serum/plasma sample for the presence of
antibodies against HIV within 20 minutes. The IDE calls for testing
approximately 7,000 samples at approximately 20 sites in the United States and
Cote d'Ivoire, West Africa to support a Pre-market Application (PMA) for
approval to sell OraQuick in the U.S. market. Clinical trials are set to begin
in August, 2000. It is anticipated that the PMA will be submitted in January,
2001.
The Company is also conducting an extensive OraQuick evaluation program with
organizations around the world. Studies are nearing completion at the Thai Red
Cross in Bangkok, Thailand and at the University of Natal, Durban, South Africa.
The Centers for Disease Control and Prevention (CDC) are continuing a long-term
study of more than 6,000 high-risk subjects in Los Angeles. A U.S. Army study of
more than 12,000 subjects continues at the Walter Reed Army Hospital. Studies
are also scheduled to begin in the fall in Peru (conducted by University of
Washington), Trinidad (CDC), seven Central American countries (USAID), Uganda
(Uganda Virus Research Institute), Malawi (CDC), and Botswana (CDC). These
studies are expected to demonstrate the accuracy of OraQuick testing in many
countries where diverse HIV subtypes exist.
The overall sales potential, and the specific countries in which the Company
will be able to sell its OraQuick rapid HIV test, will be affected by whether it
can arrange a sublicense or distribution agreement, related to the patent for
detection of the HIV-2 virus. HIV-2 is a type of the HIV virus estimated to
represent less than 2 percent of known HIV cases worldwide. Nevertheless, HIV-2
is considered to be an important component in the testing regimen for HIV in
many markets. In addition, a patent on the detection of HIV-2 is in force in
most of the countries of North America and Western Europe, and in Japan, Korea
and South Africa. Access to a license for HIV-2 may be necessary to sell HIV-2
tests in countries where this patent is registered, or to manufacture in those
same countries and sell into non-patent markets. Since the HIV-2 patent is
registered in the United States, the Company would be restricted from
manufacturing the HIV-1/2 version of its OraQuick product in the U.S. and
selling into other countries, even if the HIV-2 patent was not registered in
those other countries. The Company believes that the HIV-2 patent is not in
force in Sub-Saharan Africa (except South Africa), India, Pakistan, People's
Republic of China, Thailand, Russia and Eastern European countries.
The importance of HIV-2 differs by country, and can be affected by both
regulatory requirements and by competitive pressures. In most countries, any
product used to screen the blood supply will require the ability to detect
HIV-2, although the OraQuick product has not been intended for that market
purpose. In other markets, including the United States, a test which can detect
only the more prevalent HIV-1 type is generally considered sufficient, except in
testing related to the blood supply. Because the competitive situation in each
country will be
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affected by the availability of other testing products as well as the country's
regulatory environment, the Company may be at a competitive disadvantage in some
markets without an HIV-2 product even if it's not required by regulations.
The Company is pursuing several alternatives to address this situation.
Whichever alternative is ultimately chosen will affect the overall potential
timing and amount of revenue from the OraQuick product. The first alternative is
to negotiate an agreement with a company which holds an HIV-2 license, and to
manufacture an HIV-2 version of the OraQuick product in the U.S. for domestic
use and for export to other countries. This alternative would provide wide
market access, but may require distribution through the license holder to some
countries and royalty payments related to the HIV-2 license. A second
alternative is to sell an OraQuick HIV-1 version in markets such as the United
States, which do not require HIV-2 for most diagnostic testing, and to export
this version to other countries, which do not require HIV-2 detection. The third
alternative is to sell an HIV-1 version of OraQuick in the U.S. market, and to
manufacture an OraQuick HIV-1/2 version in a country where the HIV-2 patent is
not in force, for export to countries where market pressures require an HIV-1/2
test. Both the second and third alternatives could delay introduction of the
OraQuick test into the U.S. market.
Hepatitis C Test. On June 26, 2000, Epitope and LabOne, Inc. signed an agreement
to jointly develop and commercialize a laboratory-based oral fluid screening
test for Hepatitis C antibodies. The new test will feature Epitope's OraSure(R)
oral fluid collection device, which is currently used to test for HIV-1
antibodies and for five common drugs of abuse. The agreement covers both U.S.
and international markets.
LabOne will financially contribute toward outside development and clinical study
costs, and will provide laboratory-testing services with the goal of obtaining
FDA approval for use in the public health markets in a year. LabOne will be the
exclusive laboratory for oral fluid screening of Hepatitis C antibodies for U.S.
customers using the new test for five years.
FDA Inspection. Epitope's Western blot product and its medical devices must be
manufactured in compliance with the FDA's "good manufacturing practices" (GMP)
regulations. In June 2000, the FDA issued observations of deficiencies following
an inspection of Epitope's manufacturing facilities, stating the FDA's view that
Epitope's products are not manufactured in compliance with GMP regulations. The
FDA had previously issued a warning letter in June 1998, and observations of
deficiencies in January 1999. The FDA has questioned Epitope's compliance with
GMP regulations in areas such as process validation, purchasing controls,
complaint handling, and equipment controls. Epitope has undertaken a substantial
review of its manufacturing, and has either already made changes or has plans to
make changes, to satisfy the FDA with respect to its GMP compliance. These plans
were communicated to the FDA in a meeting in March 2000 and in a written reply
to the agency in June 2000. There is a risk that the FDA will not be satisfied
by Epitope's efforts. If the FDA is not satisfied, it could issue another
warning letter, or take other enforcement action intended to force Epitope to
stop manufacturing its products until the FDA believes Epitope is in compliance
with GMP requirements. Also, although the FDA has recently granted Epitope
permission to obtain certificates needed for export of products, the FDA could
refuse export permission in the future if the agency determines that Epitope's
progress toward GMP compliance is not sufficient.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibits are listed on the attached exhibit index following the signature page
of this report.
(b) Reports on Form 8-K
On May 10, 2000, the Company filed a Current Report on Form 8-K dated May 6,
2000, to report under Item 5 the signing of a definitive merger agreement with
STC Technologies, Inc.
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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.
EPITOPE, INC.
August 8, 2000 /S/CHARLES E. BERGERON
-------------------------------- -------------------------------------
Date Charles E. Bergeron
Chief Financial Officer
(Principal Financial Officer)
August 8, 2000 /S/THEODORE R. GWIN
-------------------------------- -------------------------------------
Date Theodore R. Gwin
Controller
(Principal Accounting Officer)
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EXHIBIT INDEX
27. Financial Data Schedule
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