<PAGE>
As filed with the Securities and Exchange Commission on April 28, 2000
Registration No. 333-90187
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------------
POST-EFFECTIVE AMENDMENT NO. 1 TO
FORM SB-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
--------------------------
AQUASEARCH, INC.
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
---------------------------------
<TABLE>
<CAPTION>
<S> <C> <C>
COLORADO 2833 33-034535
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
</TABLE>
73-4460 QUEEN KA'AHUMANU HIGHWAY
SUITE 110
KAILUA-KONA, HAWAII 96740
(808) 326-9301
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
-------------------------
MARK E. HUNTLEY, PH.D.
73-4460 QUEEN KA'AHUMANU HIGHWAY
SUITE 110
KAILUA-KONA, HAWAII 96740
(808) 326-9301
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
--------------------------
COPIES TO:
STEVEN L. BERSON, ESQ.
MICHAEL S. RUSSELL, ESQ.
THOMAS M. DONO, JR., ESQ.
WILSON SONSINI GOODRICH & ROSATI
PROFESSIONAL CORPORATION
650 PAGE MILL ROAD
PALO ALTO, CA 94304
(650) 493-9300
FAX: (650) 461-5375
------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: From
time to time as the selling shareholders may decide.
If any of the securities being registered on this Form are to be
offered on a delayed or continuous basis pursuant to Rule 415 under the
Securities Act of 1933, check the following box. /X/
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / /
If this Form is a post-effective amendment filed pursuant to Rule
462(c) under the Securities Act, check the following box and list the Securities
Act of 1933 registration statement number of the earlier effective registration
statement for the same offering. / /
If delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. / /
Pursuant to Rule 416, there are also being registered such additional
shares and warrants as may become issuable pursuant to the anti-dilution
provisions of the warrants.
--------------------
The registrant hereby amends this registration statement on such date or dates
as may be necessary to delay its effective date until the registrant shall file
a further amendment which specifically states that this registration statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933 or until the registration statement shall become
effective on such date as the Securities and Exchange Commission, acting
pursuant to said Section 8(a), may determine.
================================================================================
<PAGE>
AQUASEARCH, INC.
COMMON STOCK
16,829,822 SHARES ISSUED AND OUTSTANDING
2,719,800 SHARES SUBJECT TO WARRANTS
This prospectus relates to the offer and sale of our common stock by the selling
security holders identified in this prospectus. The common stock covered by this
prospectus includes:
1) 16,829,822 shares issued upon the sale of stock and upon
conversion of convertible notes issued by us to the
selling security holders from September 1998 to
September 1999;
2) up to 2,719,800 shares issuable upon exercise of
warrants issued to the selling security holders along
with the sale of stock and convertible notes.
We will not receive any proceeds from the sale of the shares by the selling
security holders. We have agreed to pay all expenses (other than selling
commissions and fees and expenses of counsel and other advisers to the selling
security holders) related to registration of the shares being offered by the
selling security holders.
Our common stock is currently traded in the over-the-counter market on the NASD
"Electronic Bulletin Board" under the symbol "AQSE: bb." The closing bid price
of our common stock on April 25, 2000 was $0.76 per share. There is only a
limited market for our common stock and, therefore, shareholders may have
difficulty selling shares.
Our principal executive offices are located at 73-4460 Queen Ka'ahumanu Highway,
Suite 110, Kailua-Kona, Hawaii 96740, and our phone number is (808) 326-9301.
--------------------
INVESTING IN OUR COMMON STOCK INVOLVES RISKS WHICH ARE DESCRIBED IN THE "RISK
FACTORS" SECTION BEGINNING ON PAGE 3 OF THIS PROSPECTUS.
--------------------
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
--------------------
The date of this prospectus is April 28, 2000.
<PAGE>
<TABLE>
<CAPTION>
TABLE OF CONTENTS
Page
----
<S> <C>
Risk Factors.............................................................................................. 3
Forward-Looking Statements................................................................................ 18
Use of Proceeds........................................................................................... 19
Price Range of Common Stock............................................................................... 19
Dividend Policy........................................................................................... 19
Selected Financial Data................................................................................... 20
Management's Discussion and Analysis of Financial Condition
and Results of Operations.......................................................................... 21
Business.................................................................................................. 42
Management................................................................................................ 75
Principal and Selling Security Holders.................................................................... 81
Certain Transactions...................................................................................... 84
Description of Securities................................................................................. 85
Plan of Distribution...................................................................................... 86
Legal Matters............................................................................................. 87
Experts................................................................................................... 87
Index to Financial Statements............................................................................. F-1
</TABLE>
2
<PAGE>
RISK FACTORS
YOU SHOULD CAREFULLY CONSIDER THE RISKS DESCRIBED BELOW, IN ADDITION TO THE
REMAINDER OF THIS PROSPECTUS, BEFORE YOU DECIDE TO BUY OUR COMMON STOCK. IF ANY
OF THE FOLLOWING RISKS OCCUR, OUR BUSINESS, FINANCIAL CONDITION OR RESULTS OF
OPERATIONS COULD BE MATERIALLY ADVERSELY AFFECTED. ADDITIONAL RISKS AND
UNCERTAINTIES NOT PRESENTLY KNOWN TO US OR THAT WE CURRENTLY DEEM IMMATERIAL MAY
ALSO IMPAIR OUR BUSINESS OPERATIONS.
WE HAVE SIGNIFICANT SHORT-TERM AND LONG-TERM CAPITAL NEEDS AND ARE UNCERTAIN OF
OBTAINING FUTURE FINANCING.
We project expenditures of $3.0 million in operating capital over the next
twelve months after planned capital expenditures, plus an additional $0.5
million to consummate strategic research agreements with four university medical
schools. Over the long-term, we will require substantial expenditures to support
our research and development activities and to manufacture and market our
products. The level of expenditures depends in part on whether we develop,
manufacture and market our products independently or through collaborations with
other companies. Our future capital requirements will depend on many additional
factors, including:
- our ability to manufacture our products in cost effective
commercial quantities;
- market acceptance of our products;
- the extent and progress of our research and development
programs;
- the time and costs of obtaining regulatory clearances for
certain products;
- the progress of pre-clinical and clinical studies, where
applicable;
- the costs of filing, protecting and enforcing patent claims
- competing technological and market developments;
- the cost of developing and/or operating production facilities
for our existing and potential products; and
- the costs of commercializing our products.
Moreover, our cash requirements may vary materially due to problems of
production, results of research and development, results of product testing,
changes in relationships with corporate partners, changes in the focus and
direction of our research and development programs, competitive and
technological advances, litigation and other factors.
Projected product sales will begin to pay some of our operating costs. However,
we expect that we will need additional funding from public or private equity or
debt financing to address our capital needs. Additional financing may not be
available on favorable terms, if at all. Furthermore, we have no credit facility
or other committed sources of capital, and we cannot assure satisfactory terms
for such arrangements, if at all. If we raise additional funds by selling equity
securities, the share ownership of our existing investors could be diluted or
the new equity purchasers may obtain terms that are better than those of our
current investors. If we do not have adequate funds, we might curtail operations
significantly or we might enter into collaboration agreements on unattractive
terms that could require us to relinquish certain technology or product rights,
including patent and other intellectual property rights. Our inability to raise
capital would have a material adverse effect on our business, financial
condition, results of operations, and relationships with corporate partners.
3
<PAGE>
WE HAVE INCURRED SUBSTANTIAL OPERATING LOSSES AND EXPECT TO INCUR FUTURE LOSSES.
OUR FUTURE FINANCIAL RESULTS ARE UNCERTAIN, AND WE MAY NEVER BECOME A PROFITABLE
COMPANY.
Since our inception in 1988, we have experienced quarterly and annual operating
losses. Our net loss in fiscal 1999 was approximately $4.1 million and our
accumulated deficit at January 31, 2000 was approximately $12.8 million. Our
losses to date have resulted primarily from the costs of research and
development, and from general and administrative costs associated with
operations. We expect to continue incurring operating losses for at least the
next year as we expand our product pipeline. We expect that quarter-to-quarter
and year-to-year revenues, expenses and losses will fluctuate, at times
materially. Many factors could affect our future financial results, including:
- our ability to successfully manage the transition from a
research and development company to a commercial-scale
production enterprise;
- our ability to successfully complete the commercialization and
cost optimization of our products;
- production costs and yield issues associated with the scale-up
of production of our products;
- the progress of our research and development programs for
developing other microalgal products;
- the time and costs of obtaining regulatory approvals for
products subject to such approval;
- our ability to protect our proprietary rights;
- costs of filing, protecting and enforcing our patent claims;
- competing technological and market developments; and
- the costs of commercializing and marketing our existing and
potential products.
We cannot guarantee that we will ever be able to achieve or sustain
profitability in the future.
WE MUST OVERCOME NUMEROUS CHALLENGES TO SUCCESSFULLY PRODUCE MICROALGAE ON A
COMMERCIAL SCALE.
We have faced many significant technical problems developing our Aquasearch
Growth Module, or AGM, technology. Our initial production of natural astaxanthin
from HAEMATOCOCCUS PLUVIALIS was complicated by many factors, including various
forms of microbial contamination, variability in production cycle times due to
technical and biological factors and losses of final product due to processing
inefficiencies. As a result of these factors, our monthly production of
astaxanthin varied considerably until 1998. During most of 1998 and into early
1999, we expanded and completely transformed our facility. This expansion and
related technical advances have allowed us to increase our monthly production of
astaxanthin since early 1999.
We expect to once again scale up production of HAEMATOCOCCUS PLUVIALIS as well
as other potential microalgae products. We believe that scaling up HAEMATOCOCCUS
PLUVIALIS production is likely to be less challenging than scaling up other
microalgae products that we have not yet cultivated on a large scale. We believe
the most challenging aspect of scaling up production of these products is likely
to involve problems of biology rather than engineering. However, we believe that
scaling up production of our current and potential products will always present
additional technical problems. Some of these problems may be unknown, may never
have been faced and could result in lowered production. We may not be successful
in addressing any or all of these technical problems. If we are unsuccessful in
our efforts to scale up production of these products, we may be unable to
satisfy our obligations under any agreements we may enter into, including
agreements with any customers for our products. As a result, our business,
4
<PAGE>
financial condition, results of operations, and relationships with corporate
partners could be materially adversely affected.
WE HAVE LIMITED MANUFACTURING EXPERIENCE.
We are at an early stage of development and we have limited experience in
manufacturing products derived from microalgae. To be successful, we must
produce products at acceptable costs. The quantity and quality of our products
must also comply with contractual requirements, regulatory requirements and
local health, safety and environmental regulations.
We first shipped our natural astaxanthin product to Cultor Ltd., a Finnish-based
multinational food conglomerate ("Cultor"), under a Supply Agreement that began
in July 1995. We began shipping our natural astaxanthin product to a second
European company in July 1999, and to a Japanese company in September 1999. We
currently have enough inventory to supply the immediate requirements of our
current customers. However, we may have insufficient production capacity to
satisfy future orders, if any. Furthermore, we may choose to retain our entire
production capacity of natural astaxanthin in 2000 to satisfy possible demand
for our first nutraceutical product. This decision could affect the potential
for sales to our current customers.
The markets for our natural astaxanthin product may change, and our customers
may also change. We may experience unanticipated constraints on production at
various times, and such constraints could adversely affect our ability to
satisfy customer orders. Our inability to satisfy production targets to date has
not disrupted relations with corporate partners, but our failure to consistently
demonstrate satisfactory large-scale production economies of scale could have a
material and adverse effect on our business, financial condition, results of
operations, and relationships with corporate partners.
WE MAY NEED TO EXPAND OUR CURRENT PRODUCTION FACILITY TO MEET ANTICIPATED MARKET
DEMAND FOR OUR PRODUCTS. SUCH AN EXPANSION WOULD POSE SIGNIFICANT FINANCIAL,
TECHNICAL AND BIOLOGICAL CHALLENGES.
To date, we have not produced ton quantities of natural astaxanthin. At various
times we have experienced significant delays in developing products, and also in
developing processes of cultivation and harvesting. These development activities
may require additional research and development as well as substantial
additional capital and other resources prior to greater commercialization. We
believe that market demand for our natural astaxanthin products may require
additional expansion and scale-up. We expect the design and engineering we have
done to date can be readily scaled, but the amount of additional design and
engineering costs will depend on how large the scale-up is. Construction and
facility scale-up costs, as well as research and development and production
costs, could substantially exceed budgeted amounts and estimated time frames may
need to be extended. Any such additional costs or delays could have a material
adverse effect on our business, financial condition, results of operations, and
relationships with corporate partners.
Our previous one-acre research and development/production facility was not
adequate to meet the initial production target of 40 kilograms per month under a
Distribution and Development Agreement entered into with Cultor in 1996. To
address this need, we budgeted $2.5 million for the expansion of our facility
from one to three acres. The expansion, which began in early 1998, was
substantially completed in January 1999. We now believe it possible to exceed
production of 40 kilograms per month at the new facility if sufficient
finishing-pond space is available. However, because finishing pond space is
limited at our site, we plan to limit astaxanthin production to no more than 10
kilograms per month.
We anticipate that we may develop an additional site for large-scale astaxanthin
production. The
5
<PAGE>
production capacity of any new site we develop will be entirely dependent on
market demand, which we anticipate may exceed 120 kilograms per month. We
currently have no specific plans as to what the size, location or production
capacity of such a site would be, or how the construction or scale-up of this
facility would be financed. We anticipate that we will need to enter into a
collaborative arrangement with one or more parties to assist us in the
development and construction of a new facility. However, we may not be able to
reach an agreement with any other entity regarding the development, timing,
location, or financing of a second site on favorable terms, if at all.
We cannot quantify or fully assess the many significant risks involved in
scaling up our production technology, further expanding our existing facility,
or constructing a new facility. For example, our production process critically
depends upon supplies of freshwater, cold seawater and utilities provided by the
Natural Energy Laboratory of Hawaii Authority, and any interruption in these
supplies could have a material adverse effect on our production capability. We
also face the risk that our water supplies could be threatened by microbial
contamination that overrides our existing efforts and capability to maintain
sterility. The success of our expansion plans will depend upon timely
performance of many contractors, sub-contractors, suppliers and various agencies
of the State of Hawaii that regulate and license construction, each of which is
beyond our control. We could experience delays, cost overruns or changes in our
construction and expansion plans if these contractors, suppliers or state
agencies fail to perform in a timely manner. Such events could have a material
adverse effect on our business, financial condition, results of operations, and
relationships with corporate partners.
We cannot assure success in resolving known or unknown biological and
engineering development problems that may accompany any scale-up efforts. We
cannot be certain that we will be able to develop new products within estimated
time schedules, in accordance with present cost projections, or that the
products we develop will be commercially viable or widely accepted.
OUR CUSTOMER BASE IS CONCENTRATED.
Our business currently depends on several customers: Cultor; EnzyMed, Inc., a
privately-held biotechnology company recently acquired by Albany Molecular
Research, Inc. ("EnzyMed"); a European life sciences company; a U.S.
nutraceutical company; and a Japanese life sciences company. We depend on
EnzyMed for developing libraries of compounds that can be marketed to screen for
bioactivity and subsequent drug development. We currently depend on the other
four companies for sales of our natural astaxanthin products.
If our astaxanthin customers do not continue buying our products at the current
and anticipated purchase levels, then our business, financial condition, results
of operations, and relationships with corporate partners could be materially
adversely affected. Likewise, the failure of EnzyMed to produce compound
libraries, our failure to adequately fund the collaborative project with
EnzyMed, or the lack of interest by potential customers in the library compounds
could have a material adverse effect on our business, financial condition,
results of operations, and relationships with corporate partners. Moreover, our
failure to gain additional customers for other applications of our natural
astaxanthin product or for other new products could have a material adverse
effect on our business, financial condition, results of operations, and
relationships with corporate partners.
INCREASED COMPETITION MAY SIGNIFICANTLY REDUCE THE MARKET PRICE OF SYNTHETIC AND
NATURAL ASTAXANTHIN.
Our natural astaxanthin product will compete directly or indirectly with
synthetic astaxanthin products, at least in markets for animal feed
applications. Likewise, products incorporating our natural astaxanthin
6
<PAGE>
will compete directly with products incorporating the synthetic astaxanthin
product. The synthetic astaxanthin market is currently dominated by a single
producer, Hoffman-LaRoche, Inc. ("Hoffman LaRoche"). Hoffman-LaRoche has
maintained the market price of its synthetic astaxanthin, which is derived from
petrochemicals, at approximately $2,500 per kilogram for more than a decade.
We do not know Hoffman-LaRoche's cost of production for synthetic astaxanthin or
how Hoffman-LaRoche will respond to the introduction of a competitive product
based on natural astaxanthin. Hoffman-LaRoche has significantly greater research
and development, technical, financial, sales and marketing resources than we do,
and it holds a commanding market share. We cannot guarantee that the market
price for synthetic astaxanthin will remain at $2,500 after the commercial
introduction of products that incorporate natural astaxanthin. Any significant
decrease in the market price for synthetic astaxanthin will likely have an
adverse effect on the market price for products incorporating our natural
astaxanthin, which could have a material adverse effect on our business,
financial condition, results of operations, and relationships with corporate
partners.
WE RELY HEAVILY ON RELATIONSHIPS WITH CORPORATE PARTNERS.
Our business strategy is strongly focused on developing strategic relationships
with companies that have established research and development, sales, marketing
and distribution capabilities for the microalgae products that we intend to
develop. We have had a strategic relationship with Cultor since 1996 relating to
the production and worldwide distribution of our natural astaxanthin product for
animal feed and animal nutrition. In December 1998, we entered into a Compound
Library Agreement with EnzyMed to develop libraries of compounds that we would
jointly market to biotechnology and pharmaceutical companies to screen the
libraries for new drug candidates.
We intend to enter into strategic relationships with other companies to develop
additional applications for our technology, commercialize our future products,
assist us in obtaining regulatory approvals and provide sources of funding. We
cannot guarantee that any of our present or future corporate partners will
perform their obligations as expected, or that we will be able to perform our
obligations to them. We cannot be certain that any of our current or future
partners will devote enough resources to developing, testing or marketing
potential products developed under such arrangements. Our business, financial
condition, results of operations, and relationships with corporate partners
could be materially adversely affected by a number of factors including:
- the development of competing technologies or products by a
strategic partner;
- our preclusion from entering into competitive arrangements;
- our failure to obtain timely regulatory approvals;
- the premature termination of an agreement with a strategic
partner; or
- the failure of a strategic partner to devote sufficient
resources to developing and commercializing our products.
7
<PAGE>
We have complex agreements with our consultants and corporate partners. Such
agreements have provisions that might give rise to disputes regarding the rights
and obligations of the parties. Such disputes and disagreements could lead to
delays in research, development or commercialization of our products. Disputes
could result in litigation or arbitration, which could be time-consuming and
expensive, and could have a material adverse effect on our business, financial
condition, results of operations, and relationships with corporate partners.
We may be unable to maintain or expand our relationships with existing corporate
partners, or to replace existing corporate partners if our relationships with
existing partners terminate. Such changes in our corporate partnerships could
have a material adverse effect on our business, financial condition, and results
of operations.
Our primary strategy for the development, regulatory approval, production and
commercialization of certain products is to enter into collaborations with
various corporate partners, licensors, licensees and others. We may not be able
to negotiate collaborative arrangements with these parties on acceptable terms,
if at all, or that such collaborative arrangements will be beneficial to us. If
we are unable to establish appropriate strategic relationships, we may need to
raise more capital to undertake such activities at our own expense. If we cannot
rely on corporate partners for strategic assistance in their areas of expertise
and instead have to develop such expertise ourselves, then we might expect
delays in launching, marketing, selling and distributing new products. Such
delays could have a material adverse effect on our business, financial condition
and results of operations.
WE FACE COMPETITION FROM A NUMBER OF COMPANIES THAT MAY BE IN A BETTER POSITION
TO COMPETE IN OUR INDUSTRY.
Competition in the market for nutraceutical products is intense. Our
nutraceutical astaxanthin product will compete directly with the products of at
least three companies that sell a similar nutraceutical product. One of these,
Itano of Japan, currently produces an extract from Antarctic krill that is rich
in astaxanthin; this product is distributed in the United States. The other two
companies have a product that, like ours, is based on HAEMATOCOCCUS PLUVIALIS.
AstaCarotene of Sweden has produced and sold its nutraceutical astaxanthin for
several years, and has established a market in Europe. Cyanotech Corporation
("Cyanotech"), based in Hawaii, recently began sales of its nutraceutical
astaxanthin product. Each of these three companies may have technical,
financial, management, marketing, and sales resources and experience that are
greater than ours.
We expect our nutraceutical astaxanthin product will compete on the basis of
product quality, price, proprietary position, and marketing strategy. We believe
AstaCarotene will have an advantage in European markets, which they essentially
established. We believe Cyanotech may have an advantage in United States markets
by virtue of their experience with SPIRULINA, another microalgae-based
nutraceutical product. We are aware of proprietary positions held by other
potential competitors that do not produce the product that could inhibit our
ability to compete purely on other grounds. We believe our marketing strategy
for nutraceutical astaxanthin is unique, but we cannot guarantee it to be
successful. If competitors develop a proprietary position that inhibits our
ability to compete, or if our marketing strategy is not successful, then our
business, financial condition, results of operations, and relationships with
corporate partners could be materially and adversely affected.
8
<PAGE>
Competition in the world market for animal feed applications of astaxanthin is
strong and is expected to increase significantly in the near future. Our natural
astaxanthin product will compete directly or indirectly with the synthetic
astaxanthin product developed and marketed worldwide by Hoffman-LaRoche.
Additional competition will likely come from BASF, a large German chemical
company that recently started producing synthetic astaxanthin. Likewise,
products incorporating our natural astaxanthin will compete directly with
products incorporating the synthetic astaxanthin product. Both Hoffman-LaRoche
and BASF have a worldwide reputation and significantly greater research and
development, technical, financial, management, marketing and sales resources
than we do. Additionally, Hoffman-LaRoche has dominant market share. Two other
companies, AstaCarotene and Cyanotech, claim to produce natural astaxanthin from
microalgae or are producing significant quantities for test and commercial
purposes.
Our natural astaxanthin product for feed applications is expected to compete
with synthetic astaxanthin, and any other alternative products, primarily on the
basis of product performance, price and proprietary position. Hoffman-LaRoche
has maintained the market price of synthetic astaxanthin at approximately $2,500
per kilogram for more than a decade, but we cannot be sure that it will maintain
that price in response to any new product introductions, including our own. Any
such pricing or other competitive pressure could have a material adverse effect
on our business, financial condition, results of operations, and relationships
with corporate partners. There could also be products we are unaware of, or
products developed in the future, that could adversely affect the marketability
of our natural astaxanthin product.
We anticipate that competition to develop microalgae products other than natural
astaxanthin will be intense. We expect competitors to include major
pharmaceutical, food processing, chemical and specialized biotechnology
companies. Many of these companies will have financial, technical and marketing
resources significantly greater than ours. There are also other emerging marine
biotechnology companies that could form collaborations with large established
companies to support research, development and commercialization of products
that may compete with our current and future products. Also, academic
institutions, governmental agencies and other public and private research
organizations are conducting research activities and seeking patent protection
for microalgae products and may commercialize products that compete with ours on
their own or through joint ventures.
We believe that our Aquasearch Growth Module and related microalgae cultivation
and harvesting technologies offer significant technical and economic advantages
compared to technologies used by certain competitors. Compared to open pond
systems, for example, the AGM provides greater productivity, greater process
control, and a substantial reduction in the potential hazards of contamination.
We also believe that our AGM and related microalgae cultivation and harvesting
technologies are more economical to construct and operate than any existing
comparable technology. However, there may be technologies we are unaware of, or
technologies that may be developed in the future, that could adversely affect
our perceived technical and competitive advantage.
IF WE FAIL TO ATTRACT AND RETAIN KEY PERSONNEL WE WILL BE UNABLE TO EXECUTE OUR
BUSINESS STRATEGY.
Our success will depend on the continued services of certain members of senior
management, particularly Mark E. Huntley, Ph.D., our Chairman, President and
Chief Executive Officer; Earl S. Fusato, our Chief Financial Officer; David G.
Watumull, our Executive Vice President of Strategic Development and Corporate
Finance; and Martin Guerin, our Vice-President, Sales and Marketing. The loss of
any senior executive or other key employee could have a material adverse effect
on our business, financial condition, results of operations, and relationships
with corporate partners.
We are highly dependent on our ability to attract and retain key scientific,
technical, management and
9
<PAGE>
operating personnel, including consultants and members of our Scientific
Advisory Board. The number of qualified aquatic microbiologists and bioengineers
is limited, so competition for such personnel is intense. We need to develop
expertise and add skilled employees or retain consultants in areas such as
research and development, clinical testing, government approvals, manufacturing
and marketing. However, we may be unable to attract and retain qualified
personnel or develop the expertise needed in these areas. We currently have a
small research and development and management group with limited operating
experience. If we were to lose one or more key personnel, or if we were unable
to hire additional personnel and develop expertise as needed, our business,
financial condition, results of operations, and relationships with corporate
partners could be materially adversely affected.
Members of our Scientific Advisory Board assist us in optimizing production and
processing methods and formulating research and development strategy for both
existing and potential microalgae products. Most members of the Scientific
Advisory Board are not our employees. Each member may have commitments to other
entities that could limit their availability to us. We cannot be sure that we
will be able to retain our key Scientific Advisory Board members.
OUR BUSINESS WILL NOT OPERATE EFFICIENTLY AND OUR RESULTS OF OPERATIONS WILL BE
NEGATIVELY AFFECTED IF WE ARE UNABLE TO EFFECTIVELY MANAGE OUR GROWTH.
To date, we have focused almost exclusively on product research and technology
development. We are now making the transition to full-scale commercial
production of microalgae products. This major change in our business has placed,
and will continue to place, significant demands on our financial and management
control systems. If we fail to upgrade our operating, management and financial
control systems, or if we encounter difficulties during such upgrades, then our
business, financial condition, results of operations, and relationships with
corporate partners could be materially adversely affected. We believe our
systems and controls will address current needs, but they may be inadequate to
address future business expansion. Our results of operations will be adversely
affected if revenues do not increase enough to compensate for the increased
operating expenses that result from any expansion. Expansion may not be
profitable, and could adversely affect our results of operations. Success of any
future expansion plans will depend partly upon our ability to continue to
improve and expand our management and financial control systems, to attract,
retain and motivate key personnel, and to raise additional required capital. We
may not be successful in these efforts.
WE FACE SIGNIFICANT CHALLENGES AS WE EXPAND OUR PRODUCT LINE AND ATTEMPT TO
PENETRATE ADDITIONAL MARKETS.
We are actively developing three product lines:
1) nutraceuticals;
2) compound libraries for drug discovery; and
3) natural astaxanthin for animal feed.
On March 30, 2000, we began sales of our own nutraceutical product, based on
natural astaxanthin. We believe the success of our nutraceutical product line
will depend strongly on marketing strategy. Success of the nutraceutical product
line also depends on our ability to comply with standards of Good Manufacturing
Practice, or GMP. We expect the success of our compound library products will
depend primarily on our ability to attract corporate customers in the
biopharmaceutical industry and, ultimately, on their discovery of new drug
candidates. We believe the prospects for both natural astaxanthin for animal
feed and nutraceutical astaxanthin will depend, in the short term, on product
quality and competitive pricing. Our ability to penetrate new markets for
natural astaxanthin products will, we
10
<PAGE>
believe, depend strongly on regulatory approval in several major markets.
We cannot assure successful development of any existing or potential
microalgae-based product line, nor can we guarantee market acceptance of any of
our products. We do have marketing experience in animal feed markets, but we
have no such experience in nutraceutical or pharmaceutical markets. We have no
experience in electronic marketing or in direct retail sales. We are strongly
dependent on the marketing skills and efforts of our corporate partners,
consultants and contractors. We cannot assure that our partners, consultants or
contractors will be successful in their marketing efforts, nor can we prevent
them from competing with us or assisting our competitors.
Many companies have much greater marketing and product development experience
and significantly greater resources to devote to marketing and product
development than we do. We have entered into, and expect to enter into
additional, selected strategic alliances with third parties for product
development, marketing and sales. We cannot guarantee the performance of such
third parties, or the overall success of such strategic alliances. If we are
unable to successfully develop or commercialize any product line -
nutraceuticals, drug discovery, natural astaxanthin or any potential microalgae
products - then our business, financial condition, results of operations and
relationships with corporate partners could be adversely affected.
WE MAY BE UNABLE TO ADEQUATELY PROTECT OR ENFORCE OUR INTELLECTUAL PROPERTY
RIGHTS, AND OUR EFFORTS TO DO SO COULD BE TIME-CONSUMING AND EXPENSIVE AND COULD
DIVERT MANAGEMENT ATTENTION FROM EXECUTING OUR BUSINESS STRATEGY.
We regard the protection of our patents, copyrights, trade secrets and know-how
as critical to our success. We rely on a combination of patent, copyright and
trade secret laws and contractual restrictions to protect our proprietary rights
and maintain our competitive position. Our future prospects depend in part on
our ability to protect our intellectual property while operating without
infringing the proprietary rights of third parties.
We have been awarded two patents in the United States, two patents by the
European Patent Office, two patents in Australia, and one patent each in Hong
Kong, Norway and South Korea for our closed system microalgae cultivation
process. We have additional patent applications pending in the United States and
internationally. The patent positions of pharmaceutical, biopharmaceutical and
biotechnology companies, including ours, are generally uncertain and involve
complex legal and factual questions. We cannot guarantee that any of our pending
patent applications will result in issued patents. We may be unable to develop
any additional patentable proprietary technologies. We cannot be certain that
any patents issued to us or to our corporate partners will provide a basis for
commercially viable products. We cannot be sure that such patents will provide
us with any competitive advantage. Third parties could challenge our patents, or
could obtain patents that have a material adverse effect on our ability to do
business. In addition, patent law is still evolving in the scope of claims in
the technology area in which we operate. The degree of future protection for our
proprietary rights, therefore, is uncertain. We cannot guarantee that others
will not independently develop similar or alternative technologies. Other
parties might duplicate our technologies, or, if patents are issued to us, they
might design around the patented technologies we developed. Other parties may
have filed or could file patent applications that are similar or identical to
some of ours. Such patent applications could have priority over ours. To
determine the priority of inventions, we may have to participate in interference
proceedings declared by the United States Patent and Trademark Office, which
could be very costly. In addition, the laws of certain foreign countries may not
protect our patents and other intellectual property rights to the same extent as
the laws of the United States.
11
<PAGE>
We could incur substantial costs in litigation if we need defend ourselves in
patent suits brought by third parties, or if we initiate such suits. We are
currently involved in an intellectual property lawsuit with Cyanotech, one of
our competitors. In July 1998, Cyanotech filed a complaint for declaratory
judgment of patent non-infringement, patent invalidity, and non-misappropriation
of trade secrets in the United States District Court for the District of Hawaii.
Cyanotech's complaint concerned one of our U.S. patents as well as trade secrets
related to the Aquasearch Growth Module. In September 1998, we filed a
counterclaim asserting patent infringement, misappropriation of trade secrets,
unfair competition and breach of contract. In December 1998, Cyanotech filed a
motion for partial summary judgment of non-infringement and invalidity of our
patent. In March 1999, we filed a motion for summary judgement against Cyanotech
for breach of contract, misappropriation of trade secrets and patent
infringement. These motions were heard in November 1999. In December 1999, the
Court granted summary judgment on our motion that Cyanotech infringed our
patent, misappropriated our trade secrets and breached the terms of the parties'
1994 Dissolution Agreement. In addition, the Court denied Cyanotech's motion for
partial summary judgment of non-infringement and invalidity of our patent. In
January 2000, Cyanotech filed a motion for reconsideration on the Court's
summary judgment order. The Court denied Cyanotech's motion for reconsideration
in March 2000.
We may be required to dedicate significant management time and incur significant
legal fees and expenses to continue pursuit and settlement of this action, which
could have a material adverse effect on our business, financial condition,
results of operations and relationships with corporate partners. In addition, in
the event that Cyanotech were to prevail in an appeal of the Court's ruling, a
finding of noninfringement or declaration of invalidity of our patent could have
a material adverse effect on our business, financial condition, results of
operations and relationships with corporate partners.
We believe there could be significant litigation in our industry regarding
patent and other intellectual property rights. We cannot guarantee that
infringement or other claims will not be asserted or prosecuted against us in
the future whether resulting from our internally developed intellectual
property or licenses from third parties. If third parties bring any legal
action against us or our partners, they could:
- claim damages and seek to enjoin commercial activities
relating to the affected products and processes;
- subject us to potential liability for damages; or
- require us or our corporate partners to obtain a license in
order to continue to manufacture or market the affected
products and processes.
Any future assertions or prosecutions could be time-consuming, result in costly
litigation and divert our technical and management personnel. We may not prevail
in any such action, nor can we predict that any license, including licenses
proposed by third parties, would be made available on commercially acceptable
terms, if at all. Any of these outcomes could have a material adverse effect on
our business, financial condition, results of operations, and relationships with
corporate partners.
The General Agreement on Trade and Tariffs changed certain United States patent
laws, effective June 8, 1995. Notably, the term of patent protection for patent
applications filed on or after June 8, 1995 is no longer a period of seventeen
years from the date of grant. The term of United States patents now commences on
the date of issuance and terminates twenty years after the effective date of
filing. This change in law could substantially shorten the term of our patent
protection, which may adversely affect our patent position.
The disclosure and use of our proprietary technology, know-how and trade secrets
are generally controlled under agreements with the parties involved. However, we
cannot guarantee that all
12
<PAGE>
confidentiality agreements will be honored or that our proprietary technology,
know-how and trade secrets will not be disseminated. Such illicit disclosures or
uses of our intellectual property could materially and adversely affect our
business, financial condition, and relationships with corporate partners.
WE ARE SUBJECT TO EXTENSIVE GOVERNMENT REGULATION.
Our products and production activities are, or may be, subject to regulation by
government authorities. Such regulatory authorities include the United States
Food and Drug Administration ("FDA"), the United States Federal Trade
Commission, the State of Hawaii Department of Agriculture and comparable
authorities in foreign countries.
Each existing or potential microalgae product that we develop, produce, market
or license to our corporate partners can present unique regulatory problems and
risks. The problems and risks depend on product type, its uses, and method of
manufacture. For products used in human nutrition, pharmaceuticals, or
cosmetics, we may be required to develop and adhere to Good Manufacturing
Practices as required by the FDA, ISO standards as required in Europe, and any
other applicable standards mandated by federal, state, local or foreign laws,
regulations and policies.
We began in early 1999 to develop a program that will assure compliance with
both GMP and ISO standards. Our goal is to be certified fully compliant within
one year. We expect to dedicate significant resources so that our production
facilities can meet GMP and ISO qualifications.
We are also subject to other federal, state and foreign laws, regulations and
policies with respect to labeling products, importing organisms, and
occupational safety, among others. We have worked with Cultor on compliance with
foreign laws, regulations and policies pertaining to our natural astaxanthin
product for use in animal feed. We have also been working with various
consultants on compliance with FDA regulations regarding our nutraceutical
product line. Federal, state and foreign laws, regulations and policies are
always subject to change and depend heavily on administrative policies and
interpretations. Some of these changes, particularly with respect to the FDA or
other such regulatory bodies, could be retroactive. Changes like these could
have a material adverse effect on our business, financial condition, results of
operations, and relationships with corporate partners. We cannot guarantee that
any of our potential products will satisfy applicable regulatory requirements.
We are subject to many environmental and safety laws and regulations, including
those governing the use and disposal of hazardous materials. Any violation of,
and the cost of compliance with, these regulations could have a material adverse
effect on our business, financial condition, results of operations, and
relationships with corporate partners.
OUR PRODUCTION CAPABILITY IS HIGHLY DEPENDENT ON ENVIRONMENTAL AND CLIMATIC
FACTORS THAT ARE BEYOND OUR CONTROL.
All of our production capacity is now located at the Hawaii Ocean Science and
Technology, or HOST, Business Park at Keahole Point, Kailua-Kona, Hawaii, on
property leased from the State of Hawaii and situated on a 200-year-old lava
flow adjacent to a dormant volcano. We maintain minimal finished goods
inventory. If any event were to disrupt production at our facility, then we
might be unable to continue production. Such events could include fire, volcanic
eruption, earthquake, tidal wave, hurricane, or other natural disaster, work
stoppage, termination or suspension of our lease by the State of Hawaii, other
regulatory actions or any other cause. Such an interruption could materially and
adversely affect our business, financial condition, results of operations, and
relationships with corporate partners.
13
<PAGE>
The consistent sunlight and high temperatures of Hawaii are beneficial to
microalgal growth. Thus, any significant or unusual change in climate could
adversely affect our production. Unseasonably cool or cloudy weather would
adversely impact our production and could adversely affect our business,
financial condition, results of operations, and relationships with corporate
partners.
CURRENCY FLUCTUATIONS AND DIFFERENT STANDARDS, REGULATIONS AND LAWS RELATING TO
INTERNATIONAL OPERATIONS MAY ADVERSELY AFFECT OUR BUSINESS.
We expect to sell many of our products on a global scale. We have a distribution
arrangement with Cultor for our natural astaxanthin product in animal feeds. We
have also shipped our natural astaxanthin product to life sciences companies in
Europe and Japan. We expect international sales will represent a significant
portion of our revenue for these products, because their use is more highly
developed in Europe and Asia than in the United States. We also expect that our
compound libraries will be marketed internationally.
Our business, financial condition, and results of operations may be materially
and adversely affected by any difficulties associated with managing accounts
receivable from international customers, tariff regulations, imposition of
governmental controls and regulations, political and economic instability or
other trade restrictions. Our supply agreements provide that sales will be
denominated in United States dollars, but fluctuations in currency exchange
rates could cause our products to become more expensive to customers in the
affected country, leading to a reduction in sales in that country.
WE MAY BE EXPOSED TO PRODUCT LIABILITY CLAIMS.
We face an inherent business risk of exposure to product liability claims
alleging that the use of our technology or products resulted in adverse effects.
This risk applies to all of our current products - nutraceuticals, compound
libraries, and astaxanthin for animal feed. We cannot ensure that our current
level of product liability insurance, together with indemnification rights under
our existing license agreements and other collaborative arrangements, will be
adequate to protect us against any claims and resulting liabilities. As we
expand our business, we may be unable to obtain additional insurance on
commercially reasonable terms, if at all. Any product liability claim or recall
that exceeds insured amounts, or amounts recoverable under applicable
contractual arrangements, could materially and adversely effect our business,
financial condition, results of operations, and relationships with corporate
partners.
OUR PRINCIPAL SHAREHOLDERS HAVE SIGNIFICANT CONTROL OF OUR MANAGEMENT AND
AFFAIRS, WHICH THEY COULD EXERCISE AGAINST YOUR BEST INTEREST.
Based on the 97,244,310 shares of common stock outstanding at January 31, 2000,
our directors and executive officers, as a group, beneficially own approximately
26% of our outstanding common stock. As a result, our officers and directors
might be able to strongly influence the actions of the Board of Directors and
the outcome of actions brought to our shareholders for approval. Such a high
level of ownership may have the effect of delaying or preventing a change in
control and may adversely affect the voting and other rights of our
shareholders.
THE PRICE OF OUR COMMON STOCK HAS BEEN AND MAY CONTINUE TO BE VOLATILE.
The market price of our common stock has been, and may continue to be highly
volatile. Price volatility is common with publicly traded life sciences
companies and companies whose securities trade on the
14
<PAGE>
Electronic Bulletin Board of the National Association of Securities Dealers,
Inc. (the "NASD"). Many events could have a significant impact on our business
and the future market price of our common stock, including:
- announcements of technological innovations or new commercial
products by us or our competitors;
- developments or disputes concerning patent or proprietary
rights;
- publicity regarding actual or potential benefits relating to
products under development by us or our competitors;
- general regulatory developments affecting our products in both
the United States and foreign countries;
- market conditions for life sciences companies in general; and
- economic and other internal and external factors, including
period-to-period fluctuations in our financial results.
Since the initial public offering of our common stock in January 1989, the
average daily trading volume in the common stock as reported on the NASD
Electronic Bulletin Board has been relatively low. We cannot ensure that a more
active public trading market will ever develop for our common stock. We have
never declared or paid any cash dividends on our common stock and we do not
intend to do so in the foreseeable future.
OUR COMMON STOCK IS CONSIDERED A PENNY STOCK AND IS TRADED IN THE
OVER-THE-COUNTER MARKET, WHICH MAY MAKE THE STOCK MORE DIFFICULT TO TRADE ON THE
OPEN MARKET.
Our common stock is currently traded in the over-the-counter market on the NASD
Electronic Bulletin Board. Securities on the NASD Electronic Bulletin Board are
generally more difficult to trade than those on the Nasdaq National Market, the
Nasdaq SmallCap Market or the major stock exchanges. In addition, accurate price
quotations are also more difficult to obtain.
Our common stock is considered a "penny stock," which is defined by regulations
of the Securities and Exchange Commission as an equity security with a market
price of less than $5.00 per share. However, an equity security with a market
price under $5.00 will not be considered a penny stock if it fits within any of
the following exceptions:
1) the equity security is listed on Nasdaq or a national
securities exchange;
2) the issuer of the equity security has been in continuous
operation for LESS than three years, and either has (a)
net tangible assets of at least $5,000,000, or (b)
average annual revenue of at least $6,000,000; or
3) the issuer of the equity security has been in continuous
operation for MORE than three years, and has net
tangible assets of at least $2,000,000.
If you buy or sell a penny stock, SEC regulations require that you receive,
prior to the transaction, a disclosure explaining the penny stock market and
associated risks. Furthermore, trading in our common stock is currently subject
to Rule 15g-9 of the Exchange Act, which relates to non-Nasdaq and non-exchange
listed securities. Under this rule, broker/dealers who recommend our securities
to persons other than established customers and accredited investors must make a
special written suitability determination for the purchaser and receive the
purchaser's written agreement to a transaction prior to sale. Securities are
exempt from this rule if their market price is at least $5.00 per share.
Penny stock regulations will tend to reduce market liquidity of our common
stock, because they limit the
15
<PAGE>
broker/dealers' ability to trade, and a purchaser's ability to sell, the stock
in the secondary market. The low price of our common stock has a negative effect
on the amount and percentage of transaction costs paid by individual
shareholders. The low price of our common stock also limits our ability to raise
additional capital by issuing additional shares. There are several reasons for
these effects. First, the internal policies of certain institutional investors
prohibit the purchase of low-priced stocks. Second, many brokerage houses do not
permit low-priced stocks to be used as collateral for margin accounts or to be
purchased on margin. Third, some brokerage house policies and practices tend to
discourage individual brokers from dealing in low-priced stocks. Finally,
broker's commissions on low-priced stocks usually represent a higher percentage
of the stock price than commissions on higher priced stocks. As a result, our
shareholders pay transaction costs that are a higher percentage of their total
share value than if our share price were substantially higher.
We intend to apply for listing on the Nasdaq SmallCap Market as soon as we meet
their eligibility requirements. This table compares our current status to the
Nasdaq eligibility requirements:
<TABLE>
<CAPTION>
ELIGIBILITY NASDAQ SMALL CAP ELIGIBILITY AQUASEARCH
CRITERION REQUIREMENT CURRENT STATUS
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C>
Minimum bid price $4.00 $0.50(1)
of common stock
- ----------------------------------------------------------------------------------------------------------
Tangible net assets $4.0 million $1.2 million(1)
OR
Market capitalization $50 million $49 million (1)
OR
Net income in 2 of 3 years $750,000 N/A
- ----------------------------------------------------------------------------------------------------------
Public float 1,000,000 shares 47,364,683 (1)
with
Market value of: $5 million $24 million (1)
- ----------------------------------------------------------------------------------------------------------
Market makers of record 3 5
- ----------------------------------------------------------------------------------------------------------
Shareholders of record 300 > 300
- ----------------------------------------------------------------------------------------------------------
</TABLE>
(1) As of January 31, 2000
If our tangible net assets and our market capitalization meet the minimum Nasdaq
eligibility criteria, our Board of Directors is likely to recommend that we
effect a reverse stock split to meet this listing requirement. Any such reverse
stock split would require shareholder approval. We cannot be certain to satisfy
all listing requirements, nor can we ensure that any proposed reverse stock
split will be approved by the shareholders or successfully implemented following
such approval.
RESELLERS OF OUR COMMON STOCK MUST DELIVER A CURRENT PROSPECTUS AND COMPLY WITH
STATE BLUE SKY LAWS.
If you intend to resell shares of our common stock sold in this offering, you
will be required to deliver a current prospectus to any potential purchaser.
Additionally, you will be able to resell the shares in the public market only if
the shares are qualified for sale or exempt from qualification under applicable
state securities laws of the jurisdictions where proposed purchasers reside. We
intend to seek to qualify the common stock sold in this offering in those states
where the stock is to be offered, but we cannot
16
<PAGE>
guarantee that such qualifications will occur. To date, we have been unable to
qualify our common stock for resale in several states, including California. Our
common stock may be deprived of any value and the market for the shares may be
limited if the shares are not qualified or exempt from qualification in the
jurisdictions where prospective purchasers reside.
THE ABILITY OF OUR BOARD OF DIRECTORS TO ISSUE PREFERRED STOCK COULD ADVERSELY
AFFECT THE INTERESTS OF OUR SHAREHOLDERS.
Our Articles of Incorporation authorize the issuance of up to 5,000,000 shares
of "blank check" preferred stock, with designations, rights, preferences,
privileges and restrictions determined by our Board of Directors. As a result,
our board of directors may, without further shareholder approval, issue
preferred stock with dividend, liquidation, conversion, voting or other rights
that could adversely affect the voting power or other rights of the holders of
the common stock. The Board of Directors could issue the preferred stock to
discourage, delay or prevent a change in control of Aquasearch, even if a change
of control would be beneficial to our shareholders. We have no present plans to
issue any shares of preferred stock, but those plans could change.
THE SALE OF A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK COULD CAUSE THE
MARKET PRICE OF OUR COMMON STOCK TO DECLINE.
As of January 31, 2000, we had 97,244,310 shares of common stock outstanding. Of
these shares 47,364,683 have either been registered under the Securities Act or
are freely tradable without volume limitations under Rule 144(k) of the
Securities Act.
We cannot predict the effect, if any, that sales of shares of our common stock
or the availability of such shares for sale will have on prevailing market
prices. However, substantial amounts of our common stock could be sold in the
public market, which may adversely affect prevailing market prices for the
common stock and could impair our ability to raise additional capital through
the sale of equity securities.
17
<PAGE>
FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. When used in this prospectus, the words "anticipate,"
"believe," "estimate," "will," "may," "intend" and "expect" and similar
expressions identify forward-looking statements. Forward-looking statements in
this prospectus include, but are not limited to, statements, trend analysis, and
other information relative to markets for our products and trends in revenues
and anticipated expense levels. Although we believe that our plans, intentions
and expectations reflected in these forward-looking statements are reasonable,
we can give no assurance that these plans, intentions or expectations will be
achieved. Actual results, performance or achievements could differ materially
from those contemplated, expressed or implied, by the forward-looking statements
contained in this prospectus. Important factors that could cause actual results
to differ materially from our forward-looking statements are set forth in this
prospectus, including those set forth in the "Risk Factors" section above. These
factors are not intended to represent a complete list of the general or specific
factors that may affect us. It should be recognized that other factors,
including general economic factors and business strategies, may be significant,
presently or in the future, and the factors set forth in this prospectus may
affect us to a greater extent than indicated. All forward-looking statements
attributable to us or persons acting on our behalf are expressly qualified in
their entirety by the cautionary statements set forth in this prospectus. Except
as required by law, we undertake no obligation to update any forward-looking
statements after the date of this prospectus to conform such statements to
actual results or to change our expectations.
18
<PAGE>
USE OF PROCEEDS
If the warrants are exercised by the selling security holders, we will receive
proceeds in the form of the exercise price. The warrants issued to the selling
security holders for up to 2,719,800 shares have an aggregate exercise price of
$1,309,900. The per share exercise prices of the warrants are $0.40 and $0.50
per share. If we receive any proceeds from the exercise of the warrants, we
expect to use them for working capital. We will not receive any proceeds from
the sale of the shares of common stock by the selling security holders and all
proceeds will go to the selling security holders to be used for their own
purposes.
PRICE RANGE OF COMMON STOCK
Our common stock is traded on the OTC Bulletin Board (Symbol: AQSE:bb). The
following table shows for the periods indicated the high and low bid quotations
for our common stock as reported by M.H. Myerson & Company, one of our market
makers. These quotations are believed to represent inter-dealer quotations
without adjustment for retail mark-up, mark-down or commissions, and may not
represent actual transactions.
<TABLE>
<CAPTION>
------------------------ ------------------
HIGH BID LOW BID
<S> <C> <C>
FISCAL 1997
First Quarter........................................... $0.63 $0.33
Second Quarter.......................................... $0.39 $0.20
Third Quarter........................................... $0.53 $0.28
Fourth Quarter.......................................... $0.36 $0.19
FISCAL 1998
First Quarter........................................... $0.29 $0.20
Second Quarter.......................................... $0.28 $0.19
Third Quarter........................................... $0.24 $0.18
Fourth Quarter.......................................... $0.21 $0.18
FISCAL 1999
First Quarter........................................... $0.22 $0.18
Second Quarter.......................................... $0.21 $0.15
Third Quarter........................................... $0.52 $0.14
Fourth Quarter.......................................... $0.32 $0.25
FISCAL 2000
First Quarter........................................... $0.25 $0.50
</TABLE>
As of January 31, 2000, we had approximately 2,000 record holders of our
97,244,310 outstanding shares of common stock.
DIVIDEND POLICY
We have never paid cash dividends on our capital stock. We currently intend to
retain all available funds to operate and expand our business. We do not
anticipate paying any cash dividends in the foreseeable future. As of January
31, 2000, we had an accumulated deficit of approximately $12.8 million, and
until this deficit is eliminated we can pay dividends only out of net profits.
19
<PAGE>
SELECTED FINANCIAL DATA
The selected financial data shown below should be read in conjunction with, and
are qualified by reference to, the audited financial statements and the notes to
those statements and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included elsewhere in this prospectus. For
fiscal years 1997 and later, the statement of operations data and balance sheet
data are derived from, and are qualified by reference to, the audited financial
statements included in this prospectus. Statement of operations data and balance
sheet data for years prior to 1997 are derived from audited financial statements
not included in this prospectus. Selected financial data for the three months
ended January 31, 1999 and 2000 were derived from unaudited financial
statements, also included in this prospectus. The historical results are not
necessarily indicative of results to be expected for any future period.
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31, THREE MONTHS ENDED
--------------------- JANUARY 31,
-----------
1995 1996 1997 1998 1999 1999 2000
---- ---- ---- ---- ---- ---- ----
(RESTATED) (RESTATED) (RESTATED) (RESTATED)
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Sales............................ $ -- $ 10 $ 1 $ -- $ -- $ -- $ --
Cost of sales.................... -- 21 2 -- -- -- --
Research and development costs... 89 649 794 1,167 1,695 326 558
General and administrative
expenses..................... 393 641 1,072 964 1,773 404 397
Loss from operations............. (482) (1,301) (1,867) (2,131) (3,468) (730) (955)
Other income (expense)........... (5) 3 (95) (617) (602) (296) (92)
Net income (loss)................ $ (487) $ (1,298) $ (1,962) $ (2,748) $ (4,071) $ (1,026) $ (1,047)
Net income (loss) per share...... $ (0.02) $ (0.03) $ (0.04) $ (0.05) $ (0.05) $ (0.02) $ (0.01)
Weighted average shares
outstanding.................. 25,541,021 37,679,955 44,646,653 52,697,095 76,375,752 57,888,524 80,870,601
</TABLE>
<TABLE>
<CAPTION>
OCTOBER 31, JANUARY 31,
---------- -----------
1995 1996 1997 1998 1999 2000
---- ---- ---- ---- ---- ----
(RESTATED) (RESTATED) (RESTATED)
(IN THOUSANDS) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents............. $ 27 $ 187 $ 47 $ 151 $ 91 $ 108
Working capital....................... (159) (418) (944) (1,462) (3,007) (2,168)
Total assets.......................... 490 1,368 884 2,738 3,622 3,577
Long-term obligations, including
current portion................... -- -- -- -- -- --
Deficit accumulated during
development stage................. (1,651) (2,949) (4,911) (7,659) (11,730) (12,777)
Total shareholders' equity (deficit).. $ 256 $ 291 $ (137) $ 1,073 $ 485 $ 1,245
</TABLE>
20
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
YOU SHOULD READ THE FOLLOWING DESCRIPTION OF OUR FINANCIAL CONDITION AND RESULTS
OF OPERATIONS IN CONJUNCTION WITH THE FINANCIAL STATEMENTS AND THE NOTES THERETO
AND THE UNAUDITED FINANCIAL STATEMENTS AND THE NOTES THERETO INCLUDED ELSEWHERE
IN THIS PROSPECTUS. THIS DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS BASED
UPON CURRENT EXPECTATIONS THAT INVOLVE RISKS AND UNCERTAINTIES. ANY STATEMENTS
CONTAINED HEREIN THAT ARE NOT STATEMENTS OF HISTORICAL FACT MAY BE DEEMED TO BE
FORWARD-LOOKING STATEMENTS. OUR ACTUAL RESULTS AND THE TIMING OF CERTAIN EVENTS
MAY DIFFER SIGNIFICANTLY FROM THE RESULTS DISCUSSED IN THE FORWARD-LOOKING
STATEMENTS. FACTORS THAT MIGHT CAUSE SUCH A DISCREPANCY INCLUDE, BUT ARE NOT
LIMITED TO, THOSE DISCUSSED IN "RISK FACTORS," "BUSINESS" AND ELSEWHERE IN THIS
PROSPECTUS.
OVERVIEW
We are a development stage company that develops and commercializes natural
products from microalgae using our proprietary photobioreactor technology known
as the Aquasearch Growth Module, or AGM.
Microalgae are a diverse group of over 30,000 species of microscopic plants that
have a wide range of physiological and biochemical characteristics. Microalgae
produce many different and unusual fats, sugars, proteins, amino acids,
vitamins, enzymes, pigments and other bioactive compounds that have existing and
potential commercial applications in such fields as animal and human nutrition,
food colorings, cosmetics, diagnostic products, pharmaceuticals, research grade
chemicals, pigments and dyes. Microalgae grow ten times faster than the fastest
growing land-based crops and represent a largely unexploited and renewable
natural resource with a biodiversity comparable to that of land-based plants.
Although microalgae are believed to be a potential source for many valuable
commercial applications, less than 5,000 species of microalgae have ever been
isolated from nature, and fewer than 10 species of microalgae - less than
one-tenth of one percent of all such species - have ever been cultivated
commercially.
We believe that the development of a large biotechnology industry, based on
thousands of species of microalgae, has been impeded only by a lack of
technology. We anticipate that our commercial production technology will allow
us to create a market for new and valuable substances derived from microalgae.
Our company, since its inception, has been dedicated to this proposition.
Our key achievements in the past year include major advances in our platform
technology, the AGM. In the past 12 months, we have:
- created the new "Ultra-AGM," which has six-fold greater capacity
than the previous AGM model - an increase from 1,060 to 6,600
gallons;
- tripled the capacity-per-unit-cost of the AGM;
- tripled the productivity-per-unit-capacity of HAEMATOCOCCUS - our
astaxanthin-rich microalgae; and
- doubled the astaxanthin content of HAEMATOCOCCUS - from 1.5% to
3.0%.
During the same time period, we have:
- tripled the size of our production facility;
- quadrupled our patents - from three to twelve;
21
<PAGE>
- tripled our total production capacity;
- initiated sales of our products;
- expanded our product pipeline to include nutraceuticals and
pharmaceuticals;
- strengthened our management team in areas of
strategic development and marketing; and
- augmented our research team in natural products chemistry and drug
development.
In the past year we focused primarily on technology and infrastructure. Our
current focus includes marketing, sales, and further expanding our product
pipeline.
HISTORY: KEY EVENTS
1984
AQUASEARCH FOUNDED. Scientists from Scripps Institution of Oceanography
in La Jolla, California founded Aquasearch, Inc. as a California
corporation.
1988
FEB: We incorporated Aquasearch, Inc. in Colorado.
MAY: Aquasearch (Colorado) acquired all the assets of Aquasearch
(California) in a stock-for-stock exchange.
JUN: OPERATIONS BEGIN in Borrego Springs, California.
1988-1993
RESEARCH AND DEVELOPMENT. We developed our first prototype of the AGM.
Over the next few years we refined certain details of engineering in
the AGM. At the same time, we cultivated microalgal species of markedly
different varieties.
1993
MAR: AQUASEARCH-CYANOTECH JOINT VENTURE FORMED. We formed a joint
venture company with Cyanotech, an unaffiliated producer of
microalgae. Our goal was to develop commercial systems for
producing astaxanthin-rich microalgae. We contributed
approximately $147,000 in capital and licensed our AGM
technology to the joint venture. Cyanotech contributed
approximately $15,000 in capital to the joint venture and made
available its facilities and personnel at the Hawaii Ocean
Science and Technology ("HOST") Business Park at Keahole
Point, Kailua-Kona, Hawaii.
1994
JUN: CULTOR NEGOTIATION BEGINS. We began discussions with Cultor
regarding the purchase of astaxanthin-rich microalgae.
JUL: FIRST ASTAXANTHIN PRODUCED. We constructed AGMs that
demonstrated the economics of the production process. We also
produced samples of astaxanthin-rich microalgae for analysis
and trial applications. Samples were sent to Cultor for
testing.
NOV: AQUASEARCH-CYANOTECH JOINT VENTURE TERMINATED. We decided to
discontinue the joint venture with Cyanotech. Under our
dissolution agreement, all intellectual property rights to AGM
technology reverted to us.
DEC: CULTOR STARTS FEEDING TRIALS on farmed salmon using the
astaxanthin-rich microalgae we produced.
22
<PAGE>
1995
APR: CONSTRUCTION BEGINS on our own half-acre facility in Hawaii,
leased from the HOST Business Park. We designed the facility
for research and development, and for production of small
amounts of astaxanthin-rich microalgae for marketing.
JUN: CONSTRUCTION COMPLETED. Our first facility was comprised of
AGMs and an operating laboratory.
JUL: SVENSKA FODER CONTRACT. We entered into a three-year Supply
Agreement with Svenska Foder, then a subsidiary of Cultor.
Svenska Foder agreed to act as the exclusive distributor of
our natural astaxanthin product for animal feed applications
in Sweden, Norway and Finland. In December 1996, Cultor sold
Svenska Foder to KKR, a Danish animal feeds company, and
assumed all of Svenska Foder's rights and obligations under
the Supply Agreement.
FACILITY EXPANSION BEGINS. We leased additional space in the
HOST Business Park to expand our half-acre research and
development facility to one acre.
OCT: ONE-ACRE EXPANSION COMPLETED. We expanded the facility to
include finishing ponds (the second stage of our production
process), and additional laboratory space.
1996
MAY: CULTOR AGREEMENT. We entered into a three-year Distribution
and Development Agreement with Cultor (recently extended to
four years). We agreed to act as the exclusive worldwide
supplier to Cultor of natural astaxanthin derived from
microalgae for animal feed applications. Cultor agreed to act
as the exclusive worldwide distributor of our natural
astaxanthin product for animal feed applications.
SCIENTIFIC ADVISORY BOARD FORMED. We created an active
Scientific Advisory Board consisting of Ph.D.s with expertise
in the fields of aquaculture; marine biology; fluid dynamics;
and the chemistry, photobiology, physiology, genetics and mass
culture of microalgae.
JUL: PROCESS PATENT IN THE U.S. We were awarded U.S. Patent Number
5,541,056 for a "Method of Control of Microorganism Growth
Process." This patent claims certain processes that operate in
our proprietary, closed-system photobioreactor, the AGM. Our
U.S. filing was made under the Patent Cooperation Treaty. We
began to pursue international patents in certain treaty-member
nations.
OCT: CULTOR ACQUIRES AQUASEARCH STOCK. Cultor acquired 400,000
shares of our common stock at a purchase price of $0.50 per
share.
NOV: C. BREWER AGREEMENT. We executed a Letter of Intent with C.
Brewer and Company, Limited ("C. Brewer"). Under the proposed
agreement we would acquire between 80 and 90 acres of C.
Brewer property in the Ka'u region of the Big Island of
Hawaii, valued at between $900,000 and $1,000,000. In return,
C. Brewer would acquire approximately 4% of our outstanding
common stock and a three-year warrant to purchase up to
500,000 shares of Aquasearch common stock at $1.25 per share.
To date, we have not consummated the transaction with C.
Brewer because production at our current facility has
increased beyond expectation.
23
<PAGE>
1997
APR: EARL FUSATO NAMED CHIEF FINANCIAL OFFICER, JOINS BOARD. Mr.
Fusato brought considerable experience to our management team.
At VeriFone, Inc., a global leader in the transaction
automation industry, he served as VP Finance (1983-87),
Treasurer (1987-90) and Director of Internal Audit and Manager
of Transaction Automation (1990-92). He served as CFO of RESCO
Inc., a residential real estate brokerage company (1992-94).
He also served in various key positions at Ernst and Young
(1978-83) and KPMG Peat Marwick (1971-77).
JUN: APPARATUS PATENT IN EUROPE. We were awarded European Patent
Number 0494887 for a "Process and Apparatus for the Production
of Photosynthetic Microbes." This patent not only claims
certain processes, but also certain features of our core
technology, the Aquasearch Growth Module. The European patent
complements, but does not supplant claims made in the U.S.
Patent awarded in 1996. Our European filing was made under the
Patent Cooperation Treaty. We are pursuing additional patents
in certain treaty-member nations.
SEP: DR. EDWARD DAVID JOINS BOARD. Dr. David has a long history of
management experience in the fields of science and technology.
During his career he has served as President of Exxon Research
and Engineering, Science Advisor to the President of the
United States, Executive Director of the Communications
Systems Division at Bell Laboratories, and Director of the
White House Office of Science and Technology Policy.
1998
APR: EXPANSION BEGINS TO TRIPLE OUR PRODUCTION FACILITY. We began
construction to expand our production facility in Kona, Hawaii
from one acre to three acres. At the same time, we began
upgrading every component of our production system hardware.
JUN: WE QUESTION CYANOTECH REGARDING INTELLECTUAL PROPERTY. We
formally notified Cyanotech of our concern that their use of
photobioreactor technology may violate one of our patents
(U.S. patent No. 5,541,056) relating to processes for
controlling microalgae growth. We also expressed concern
regarding possible trade secret misappropriation.
JUL: DAVID WATUMULL NAMED EXECUTIVE VP, CORPORATE FINANCE AND
STRATEGIC DEVELOPMENT. Mr. Watumull brought more strength to
our management team. He has been a respected biotechnology
industry analyst, investment banker and money manager for more
than 15 years, serving at both Paine Webber and First Honolulu
Securities.
WE TEST A NEW PHOTOBIOREACTOR - THE ULTRA-AGM. In previous
months we designed and engineered the Ultra-AGM. The Ultra-AGM
is more than six times larger than any standard production
growth module we have used. To our knowledge, the Ultra-AGM is
larger than any closed-system photobioreactor ever operated. A
six-month testing period begins.
CYANOTECH FILES LAWSUIT. Our former joint venture partner
filed a complaint in the United States District Court for the
District of Hawaii (Case No. CV98-00600ACK) against us.
Cyanotech sought a declaratory judgment of:
- invalidity of our U.S. patent for a method to grow
microalgae;
- non-infringement by Cyanotech of the U.S. patent; and
24
<PAGE>
- non-misappropriation of our trade secrets regarding
the Aquasearch Growth Module.
SEP: WE COUNTER-SUE CYANOTECH. We asserted the validity of our U.S.
patent. We also alleged that Cyanotech:
- infringed our U.S. patent;
- misappropriated trade secrets related to our AGM
technology;
- breached our joint venture dissolution agreement; and
- engaged in unfair competition.
We requested damages, injunctive relief and attorney's fees on
each count.
APPARATUS PATENT IN HONG KONG. We were awarded patent number
HK1001232 for the "Process and Apparatus for the Production of
Photosynthetic Microbes." This patent was awarded under the
Patent Cooperation Treaty, based on the original filing
approved by the European Patent Office in 1997.
NOV: CHARTER MEMBERSHIP IN MARBEC. The Marine Bioproducts
Engineering Center ("MarBEC") is a 5-year, $26 million
Engineering Research Center, funded by the U.S. National
Science Foundation. MarBEC is focused on developing new
enzymes, pigments and pharmaceuticals, primarily from
microalgae. It is based at the University of Hawaii and the
University of California, Berkeley. We are among the charter
industry members of MarBEC, which also include Monsanto and
Eastman Chemical. As a charter member, we have certain
preferential rights to new products developed by MarBEC. We
are the only member of MarBEC that has developed
photobioreactor technology, which we believe is likely to be
required for the commercial exploitation of any new product
from microalgae.
DEC: ENZYMED AGREEMENT. We entered into a Compound Library
Agreement with EnzyMed, Inc., a privately-held biotechnology
company recently acquired by Albany Molecular Research, Inc.
("EnzyMed"). Under the agreement, we will provide extracts of
microalgae that contain unexplored or unexploited substances
with biomedical value. EnzyMed will use these extracts to
generate compounds using their method of "combinatorial
biocatalysis." This method generally produces several hundred
compounds from a single extract. We expect some of these
compounds to be novel and proprietary. Both companies intend
to commercialize the resulting compound "libraries." Compound
libraries are typically screened for possible medical
applications by the pharmaceutical industry. The
pharmaceutical company typically pays an "access fee" for the
right to screen the library for a limited time and for limited
applications. We will share the revenues generated from the
libraries with EnzyMed.
1999
JAN: MARTIN GUERIN NAMED VP, SALES AND MARKETING. Mr. Guerin has
international experience with world-leading groups in food and
feed industries. He held top management positions for
marketing and business development with Finfeeds International
(1996-98) and EWOS (1994-96), both Cultor companies. His
previous experience includes management positions with BP
Nutrition (now Nutreco) and Champagnes Cereales.
NEW EQUIPMENT INSTALLATION BEGINS. With construction nearly
complete on our expanded
25
<PAGE>
three-acre facility, we began to install new equipment for
process control and for final processing of raw products.
THE ULTRA-AGM GOES INTO OPERATION. After a successful
six-month testing period, we installed and began to operate
the new Ultra-AGM. This new photobioreactor is much larger,
more efficient, and less costly than any previous AGM. It also
requires 75% less manpower to operate.
FEB: CONSTRUCTION COMPLETED ON THREE-ACRE PHYSICAL PLANT. We
completed all new structures at our production facility. We
tripled the area for both AGMs and finishing ponds. We
quadrupled the area under roof to more than 8,000 square feet.
We added a multi-purpose building for product processing,
packaging and storage that can also accommodate further
increases in production at our current site. We laid the
foundation for a 10,000 square-foot laboratory that will
accommodate expansion of our drug discovery program.
NEW PLANT BEGINS PRODUCTION AT FULL CAPACITY. While installing
our final processing equipment, we increased our production of
raw product to full capacity. We began to store raw product.
Final processing of the product will be done once equipment
installation is complete.
DAVID TARNAS JOINS BOARD. Mr. Tarnas brings political
experience to our Board of Directors. As a Hawaii State
Representative and Chairman of the House Committee on Ocean
Recreation and Marine Resources, he led many important policy
initiatives in Hawaii until 1998.
PROCESS PATENT IN EUROPE. We were awarded European Patent
Number 0772676 for a "Method of Control of Microorganism
Growth Process." This patent, originally granted in the U.S.,
was awarded in Europe under the Patent Cooperation Treaty. It
claims certain processes that operate in our Aquasearch Growth
Module.
MAR: PROCESS PATENT IN U.S. We received U.S. Patent Number
5,882,849 for a "Method of Control of HAEMATOCOCCUS Species
Growth Process." This patent applies to proprietary techniques
we use to grow HAEMATOCOCCUS, our principal source of
astaxanthin. We are pursuing international patents in certain
member nations that are signatories of the Patent Cooperation
Treaty.
APR: APPARATUS PATENT IN NORWAY. We were awarded Norwegian Patent
Number 304556 for a "Process and Apparatus for the Production
of Photosynthetic Microbes." This patent not only claims
certain processes, but also certain features of our core
technology, the Aquasearch Growth Module. Originally granted
in Europe, this patent was awarded in Norway under the Patent
Cooperation Treaty.
PRODUCT FORMULATION BEGINS ON OUR FIRST NUTRACEUTICAL PRODUCT.
A large U.S. chemical company began collaborating with us -
under a confidentiality agreement - to formulate an
astaxanthin-rich nutraceutical product.
MAY: PROCESS PATENT IN AUSTRALIA. We were awarded Australian Patent
Number 698772 for a "Method of Control of Microorganism Growth
Process." This patent, originally granted in the U.S., was
awarded in Australia under the Patent Cooperation Treaty.
26
<PAGE>
APPARATUS PATENT IN SOUTH KOREA. We received South Korea
Patent Number 700834 for a "Process and Apparatus for the
Production of Photosynthetic Microbes." Originally granted in
Europe, this patent was awarded in South Korea under the
Patent Cooperation Treaty.
MICROALGAE FOR OUR SECOND NUTRACEUTICAL PRODUCT APPROVED. The
State of Hawaii Department of Agriculture approved our permit
application to import a new microalgae species. This species
is the basis for our second nutraceutical product, planned for
product launch in 2000.
JUN: PROCESSING EQUIPMENT INSTALLED. Our manufacturing process
became fully operational as final processing equipment came on
line.
RECORD ASTAXANTHIN LEVELS ACHIEVED. We achieved an astaxanthin
content of more than 3% in our final processed product -
sustained over the previous three months. This content is at
least double the amount claimed by any other known producer of
natural astaxanthin. Some of our production runs approached 4%
content, and we achieved 6% content at smaller scales.
JUL: WE BEGIN SHIPPING NATURAL ASTAXANTHIN to a European life
sciences company.
SEP: WE BEGIN SHIPPING NATURAL ASTAXANTHIN to a Japanese life
sciences company.
DEC: THE U.S. DISTRICT COURT FOR THE DISTRICT OF HAWAII GRANTS
MOTION FOR SUMMARY JUDGMENT IN OUR FAVOR. The Court rules that
Cyanotech infringed our patent, misappropriated our trade
secrets, and breached our joint venture dissolution agreement.
In addition, the Court denied Cyanotech's motion for partial
summary judgment of non-infringement and patent invalidity.
2000
JAN: CYANOTECH FILES MOTION FOR RECONSIDERATION on the Court's
summary judgment order.
MAR: THE U.S. DISTRICT COURT FOR THE DISTRICT OF HAWAII DENIES
CYANOTECH'S MOTION FOR RECONSIDERATION. The Court upholds its
summary judgment ruling and denies all reconsideration
requests made by Cyanotech.
WE COMMENCED SALES OF OUR ASTAXANTHIN PRODUCT, The
AstaFactor-TM-.
THE MARINE BIOTECHNOLOGY INDUSTRY
There are 30,000 species of microalgae. Many of these are known to contain
valuable substances, including pharmaceuticals, nutraceuticals, and certain
commodities. Fewer than one-tenth of one percent of these 30,000 species have
been produced commercially.
The total market for only three species of microalgae that are now produced
commercially (SPIRULINA, CHLORELLA and HAEMATOCOCCUS) is estimated to be in the
range of $200-300 million per year. We believe the potential market for products
derived from microalgae could range into the billions of dollars, provided that:
(1) the products are unique, valuable, and numerous; and (2) production
technology is reliable and cost-effective.
27
<PAGE>
Scientific literature demonstrates that:
- microalgae contain unique substances;
- these unique substances are potentially valuable as
pharmaceuticals and nutraceuticals; and
- these unique substances are numerous among the microalgae.
Until recently, however, there was no technology to provide for the
cost-effective production of microalgae in commercial quantities. We believe
that our AGM provides reliable and cost-effective production technology that
will contribute to the development of a multi-billion dollar marine
biotechnology industry. However, there can be no assurance that such an industry
will develop.
OUR KEY ACHIEVEMENTS
(1) RELIABLE AND COST EFFECTIVE PRODUCTION TECHNOLOGY
The Aquasearch Growth Module is a novel, reliable and cost-effective production
technology. We have proven the efficacy of the AGM through a 10-year process of
engineering, development, and demonstration.
We continue to achieve targeted improvements in AGM technology and performance,
as this table shows:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
IMPROVEMENT PLANNED IN THE ACHIEVED IN THE
PAST YEAR PAST YEAR
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Increase AGM size 6X Greater than 6X
Decrease capital cost 2X 3X
(per gallon capacity)
Increase AGM production cycle 30 days 60 days
HAEMATOCOCCUS production rate Increase 3X Greater than 3X
Astaxanthin content of product 2.0% of dry weight Greater than 3.0% of dry weight
- ------------------------------------------------------------------------------------------------------------------
</TABLE>
These improvements to the AGM have reduced costs and increased productivity. We
believe the AGM is the largest commercial photobioreactor in operation. To our
knowledge, our current HAEMATOCOCCUS production rate is higher than any reported
in the scientific literature.
(2) INTELLECTUAL PROPERTY
We now have patents relating to:
- the AGM apparatus (Europe, Australia, Norway, Hong Kong, South
Korea);
- general processes for cultivating microalgae in photobioreactors
(U.S., Europe, Australia); and
- specific processes for cultivating HAEMATOCOCCUS (U.S.).
Additional patents are pending.
28
<PAGE>
We continue to develop trade secrets. We believe that our trade secrets are the
underlying reason for consistent improvements in production and product quality.
We place great value on our intellectual property.
(3) PRODUCTION CAPACITY
In the past year we expanded our physical plant by a factor of three. We now
have a completely new manufacturing plant. The plant includes new processing
equipment and an upgraded process-control system.
Our HAEMATOCOCCUS cultivation process is done in two steps. We use two types of
large-scale production systems: (1) Aquasearch Growth Modules, and (2)
"finishing" ponds. The following table shows the key features of these two
production systems:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------
FEATURE AQUASEARCH GROWTH MODULE FINISHING POND
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Function Produce HAEMATOCOCCUS biomass Convert biomass to astaxanthin
Technology Proprietary Public domain
Utilized capacity 20% 100%
- --------------------------------------------------------------------------------------------------------------
</TABLE>
We have achieved much greater improvements in AGM performance than anticipated.
As a result, we are now using only 20% of our AGM production capacity. If the
market demands, we could increase total production by 5 times by increasing our
finishing pond capacity. Relative to AGMs, finishing ponds are less costly to
construct.
(4) SALES
We completed construction of the expanded facility in February 1999. New
processing equipment was installed in June 1999. Sales began immediately.
(5) PRODUCT PIPELINE
Prior to this year, our pipeline consisted of a single product: natural
astaxanthin for use in animal nutrition. We have now expanded our pipeline to
include:
1) Nutraceuticals
- Natural astaxanthin
- A second microalgae-based product
1) Drug discovery
- Compound libraries
These products are all in active development. The State of Hawaii Department of
Agriculture has approved our import permit for a new species of microalgae that
is the basis of our second nutraceutical product. EnzyMed has received our first
microalgae extracts, and has begun work to produce our first compound library.
(6) OUR TEAM
29
<PAGE>
NEW MANAGEMENT. We believe our team is stronger than ever - at all levels.
During the last 18 months, we have added important experience and expertise at
the management level, including Martin Guerin, David Tarnas, Tim Esaki and Dr.
Samuel Lockwood. Together, these individuals bring us new experience and
expertise in:
- international marketing and sales in food and feed industries;
- public/private sector collaboration;
- financial reporting, SEC reporting, and controls; and
- medical affairs and clinical research.
NEW RESEARCH SCIENTISTS. Dr. Walter Nordhausen, Dr. Mai Lopez, and Dr. Mia Unson
have joined our research team in the last 18 months. Together, they more than
double our research effort, and bring us proven experience in:
- biopharmaceutical product development;
- marine biology and biochemistry;
- natural products chemistry; and
- research program management.
EMPLOYEES. We believe our employees are strongly motivated for success. In 1998
we introduced a pay-for-performance compensation plan that includes both stock
options and cash bonus programs. We structured the compensation plan to reward
both teamwork and individual excellence. Rewards are generated by performance on
quarterly targets. We believe that our employees are directly responsible for
our recent achievements.
(7) RECENT FINANCING ACTIVITY
During the period from June 1997 to January 31, 2000, we sold an aggregate of
$6,624,800 principal amount of convertible notes bearing interest at 10% per
annum. The holders of the convertible notes have an option to convert their
convertible notes into our common stock. The convertible notes provide that upon
conversion, the holders would receive warrants to purchase shares of our common
stock. The warrants have an exercise price of $0.50 per share and a term of
three years. As part of this transaction, an officer/director purchased
$2,030,000 of convertible notes.
Through January 31, 2000, some of the holders of the convertibles notes
(amounting to $6,349,800 aggregate principal amount) exercised their option to
convert their convertible notes into shares of common stock. Upon conversion of
the outstanding principal and interest on the convertible notes, we issued
38,884,150 shares of common stock and also issued 5,746,800 warrants in
connection thereto. As part of this transaction, an officer/director converted
$2,030,000 aggregate principal amount of convertible notes and received
13,286,154 shares of common stock and 1,427,000 warrants.
During the year ended October 31, 1999 we sold to an individual 5,000,000 shares
of our common stock at $0.15 per share. In connection with the sale we issued to
the individual warrants to purchase 750,000 shares of our common stock at $0.40
per share and a term of three years. During the quarter ended January 31, 2000,
we sold a total of 1,666,667 shares of our common stock to an individual at
$0.15 per share. In connection with the sale we issued 250,000 warrants with an
exercise price of $0.40 per share and a term of three years.
30
<PAGE>
During the two months ended March 31, 2000, we issued $1,070,000 aggregate
principal amount of one-year convertible notes and received $251,000 for the
exercise of a warrant for 502,000 shares of common stock.
MANAGEMENT'S PLAN OF OPERATION
PLANNED OPERATIONS
Last year we focused on technology and infrastructure. We strengthened our
intellectual property, expanded our physical plant, and augmented production
capacity.
During the next twelve months we will focus on sales and product development,
specifically:
- developing sales of our first nutraceutical product, natural
astaxanthin;
- formulating our second nutraceutical product;
- growing sales of AQUAXAN-TM-;
- marketing and selling compound libraries for drug discovery; and
- expanding our product pipeline.
(1) NUTRACEUTICAL ASTAXANTHIN
THE PRODUCT. Our first major nutraceutical product is a dietary supplement rich
in astaxanthin. Astaxanthin is a powerful, bioactive anti-oxidant (approximately
100 times more potent than Vitamin E). Astaxanthin has demonstrated efficacy in
animal or human models of:
- ALZHEIMER'S AND PARKINSON'S DISEASES: major neurodegenerative
diseases
- MACULAR DEGENERATION: the leading cause of blindness in the U.S.
- CHOLESTEROL DISEASE: ameliorates the effects of LDL (the "bad"
cholesterol)
- STROKE: repairs damage caused by lack of oxygen
- CANCER: protects against several types of cancer
THE MARKET. We believe a strong market could develop for our nutraceutical
astaxanthin product among persons afflicted with these ailments because of:
- LARGE SIZE OF POTENTIAL MARKET: millions of Americans are affected
- POOR PROGNOSIS: some of these diseases have ineffective or no
approved treatments
- PROMISING DATA: quality of data in relevant human and animal
models is promising
Our analysis of reasonable dosage and customary pricing in the nutraceutical
industry suggests that nutraceutical astaxanthin will retail for more than
$50,000 per kilogram. If this estimate proves to be accurate, then we estimate
the potential U.S. market may exceed $500 million per year. This estimate is
based on just one of the six diseases described above, and is derived from the
number of persons affected by the condition, as estimated by physicians who
provide treatment for the disease, and the conventional price of an appropriate
daily dosage. Certain consumers may be highly motivated to use nutraceutical
astaxanthin because:
- treatment alternatives do not exist for some ailments; and
- sufferers have used nutraceuticals with less demonstrated efficacy
than astaxanthin.
PRODUCTION CAPACITY. Our current production capacity would satisfy approximately
1% of the estimated
31
<PAGE>
U.S. market for persons affected by just one of the illnesses mentioned above.
We estimate this would generate retail sales of more than $5 million per year.
We can expand most cost-effectively by adding only finishing ponds on adjacent
property. We do have space available for expansion. We estimate this space would
allow a 5-fold expansion of astaxanthin production at a cost of approximately
$1.8 million.
PRODUCT FORMULATION. We are collaborating in product formulation with a large
U.S. chemical company that has significant experience in nutraceutical products.
Our collaboration is being carried out under a confidentiality agreement.
However, we cannot guarantee that our collaboration will extend beyond product
formulation.
MARKETING STRATEGY. We intend to sell this product directly to consumers.
However, several wholesale purchasers of nutraceutical products have also
contacted us regarding our product. We may or may not enter into supply
agreements with one or more wholesalers.
REGULATORY ISSUES. The U.S. Food and Drug Administration ("FDA") has primary
regulatory responsiblity in nutraceutical markets. Many regulations apply. The
DSHEA Act of 1994 governs certain conditions of sale of all nutraceutical
products or dietary supplements in the U.S. We submitted a new dietary
supplement application to the FDA in December 1999. According to the DSHEA Act
of 1994, the FDA has 75 days from the date of a new dietary supplement
pre-marketing application to object to its sale. If no such objection is made
within that time, the applicant is free to begin marketing. We commenced sales
of our nutraceutical astaxanthin product on March 30, 2000.
COMPETITION. AstaCarotene AB of Sweden produces and sells an astaxanthin-rich
nutraceutical product in Europe that, like ours, is based on HAEMATOCOCCUS
microalgae. AstaCarotene must produce their product in a controlled climate,
rather than in Sweden's natural climate. We believe their cost of production is
significantly higher than ours.
Cyanotech recently began sales of a HAEMATOCOCCUS-based nutraceutical. Cyanotech
advertises its natural astaxanthin product to contain 1.5% astaxanthin. Our
product contains 3%. To produce the same amount of astaxanthin, therefore,
Aquasearch requires only half the HAEMATOCOCCUS production capacity. We
therefore believe our cost of production may be less than Cyanotech's. We also
believe that customers may perceive our 3% product as superior to a 1.5%
product, which could confer a competitive advantage over Cyanotech's product.
Igene Biotechnology, Inc. produces astaxanthin from yeast. The chemical form of
astaxanthin in HAEMATOCOCCUS is the one that prevails in nature, and is
different from that in yeast. We believe the nutraceutical market will view the
prevailing natural form of astaxanthin - from HAEMATOCOCCUS - as superior as its
astaxanthin content is 10 times more than that of yeast.
Itano of Japan produces an astaxanthin extract from Antarctic krill, a marine
microcrustacean. The product is distributed in the U.S. in very small amounts
and at very high prices (greater than $650,000 per kilogram). Krill fishing in
Antarctica is very expensive and highly regulated. Krill fishing vessels must
travel for more than two weeks, at a cost of approximately $50,000 per day
simply to complete the voyage between Japan and the Southern Ocean. Suitably
equipped vessels cost approximately $30 million and typically have a lifetime of
only 20 years. The krill fishery is regulated by the Committee for Conservation
of Antarctic Living Resources, an international body comprised of scientists
from Antarctic Treaty member nations. The krill fishery reached its peak in the
mid-1980s and has since declined.
BASF and Hoffman-LaRoche both produce synthetic astaxanthin from petrochemicals.
Their compound is chemically different than natural astaxanthin. The effect of
the difference has not been studied. However, the natural form of a closely
related antioxidant, Vitamin E, was found by its manufacturer
32
<PAGE>
(Eastman Chemical) to be four times more potent than the synthetic form. We
believe the nutraceutical market shows less interest in synthetic products than
in natural products, and will pay a premium for a natural product.
TIMING OF PRODUCT RELEASE. We commenced sales of our nutraceutical astaxanthin
product on March 30, 2000.
(2) OUR SECOND NUTRACEUTICAL PRODUCT
THE PRODUCT. Our second nutraceutical product is a dietary supplement rich in a
certain carotenoid pro-vitamin. The pro-vitamin is known to perform certain
vital functions in human physiology. Like astaxanthin, it is a potent
anti-oxidant. Like astaxanthin, which has very similar molecular properties, it
is present in trace quantities in certain common foods. Also like astaxanthin,
it is overproduced in certain microalgae.
THE MARKET. We believe the market for this product is similar to that for
nutraceutical astaxanthin. Animal and human models have demonstrated the
efficacy of this product in its effect on certain common illnesses. We believe
the potential market for this product will exceed $100 million per year.
PRODUCTION CAPACITY. In mid-1999 we received approval from the State of Hawaii
Department of Agriculture to import the microalgae that is the basis of our
second nutraceutical product. We began cultivation at AGM (commercial) scale in
October of 1999. We intend to devote approximately six months to optimizing
production in AGMs. Based on our knowledge and observations of this microalgae,
we believe we have enough production capacity to sustain product introduction.
After approximately one year of production, we project that initial sales would
support the cost of expanding our physical plant.
PRODUCT FORMULATION. The pro-vitamin in this product has chemical properties
that are similar to astaxanthin, and therefore we believe the product
formulation would also be very similar. We have not yet conducted any studies on
product formulation.
MARKETING STRATEGY. We intend to market this product directly to consumers,
building on the experience we will have developed with nutraceutical
astaxanthin. We may also sell limited amounts to wholesalers.
REGULATORY ISSUES. We expect this product to be subject to the same regulatory
issues that govern nutraceutical astaxanthin.
COMPETITION. We know of no competition for this product.
TIMING OF PRODUCT RELEASE. We plan to release this product within the next 12
months.
(3) AQUAXAN-TM- - NATURAL ASTAXANTHIN FOR ANIMAL FEED
THE PRODUCT. We have spent several years developing astaxanthin-rich
AQUAXAN-TM-. Astaxanthin is proven to be a vital dietary component in salmon,
trout, red sea bream, and several other species of cultivated seafood products.
In salmon, the primary market, astaxanthin is important as the main source of
their pink flesh color. Recent studies have also demonstrated the importance of
astaxanthin in enhancing the growth rate, vision, and fertility of salmon.
Astaxanthin is routinely used as a feed additive in poultry feeds, for the
purpose of improving the coloration of eggs and reducing the incidence of
infections. Astaxanthin in the diet of swine has been shown to increase
fertility. Several feeding studies with our astaxanthin-rich microalgae in fish
diets have produced the desired results.
33
<PAGE>
THE MARKET. The market for astaxanthin in aquaculture has grown at about 10% per
year over the past 15 years. The markets for astaxanthin in feeds for poultry,
swine, and other domestic animals are not yet well developed, and are much
smaller. The 1998 global market for astaxanthin was estimated at approximately
$185 million. The sales price for astaxanthin has remained at about $2,500 per
kilogram for the past decade. Consumers in certain niche markets are willing to
pay a premium price. Global annual consumption of astaxanthin is in excess of
65,000 kilograms. Almost all astaxanthin is consumed in five countries which
are, in order of importance, Norway, Chile, Scotland, Canada and Japan.
PRODUCTION CAPACITY. Our current production capacity amounts to less than 1.0%
of the global market. We plan to increase production capacity only in response
to demand. We have the option to increase capacity in two phases. The first
phase would involve constructing more finishing ponds, which would result in an
expansion of our current production capacity by a factor of five. We estimate
this first phase would cost less than $1.8 million, and could generate annual
sales approaching $2.0 million, if sold at current animal feed prices. The
second phase would probably require a new site, because adjacent space is
limited at our current site. The modular nature of the AGM-based production
system lends itself well to expansion at any foreseeable scale. We believe that
the experience gained in our recent plant expansion will make it easier for us
to expand our capacity at our existing site or at adjacent or other sites.
PRODUCT FORMULATION. Any feed ingredient, including astaxanthin-rich microalgae,
requires careful formulation and testing prior to market. Our primary goal has
been to create a product that is at least equal, if not superior to, competitive
feed ingredients. We have focused on creating a product with longer shelf life
that is safer and easier to handle, and produces a better result in the diet. We
believe we have achieved these goals. We also believe that further improvement
is possible. If significant changes are made in product formulation, then new
regulatory approvals may have to be obtained. Therefore, we have been very
careful to develop our product to a high standard before placing it on the
market.
MARKETING STRATEGY. We believe that astaxanthin-rich microalgae will account for
a very significant share of the global astaxanthin market. We intend to be a
leader in this market for the following reasons:
1) A SUPERIOR PRODUCT. We believe a product that is safer, easier to
handle, has a longer shelf life, and provides equal or greater
efficacy per unit cost will eventually take significant market
share.
2) CONSUMER AWARENESS. Farmed salmon now account for almost 40% of
global salmon production. Consumers are generally not aware that
the farmed salmon they eat contain a synthetic,
petrochemical-based coloring. Recent studies by the U.S. FDA have
shown that farmed salmon are easily distinguished from wild salmon
because they do not contain the natural form of astaxanthin. All
other factors being equal, we believe that informed consumers will
generally prefer a natural astaxanthin product over a synthetic
one.
The former lead manager of sales and marketing of astaxanthin at Cultor, Martin
Guerin, is now our VP, Sales and Marketing. We recently re-negotiated our
Distribution and Development Agreement with Cultor.
REGULATORY ISSUES. All feed ingredients are regulated in the countries where
they are sold. Regulations differ among astaxanthin-consuming nations. Product
specifications may differ, the stringency of regulations may differ, and the
time required for the application process may differ. In Europe, for example, we
expect regulatory approval could take up to three years, whereas in Chile we
expect such approval should take substantially less time.
COMPETITION. AQUAXAN-TM- competes directly with only one product produced from
HAEMATOCOCCUS microalgae, NATUROSE-TM-, manufactured and sold by Cyanotech.
NATUROSE-TM- is advertised to contain
34
<PAGE>
1.5% astaxanthin. AQUAXAN-TM- contains 3% astaxanthin.
TIMING OF PRODUCT RELEASE. We began our first sales of AQUAXAN-TM- in July 1999.
(4) DRUG DISCOVERY LIBRARIES
THE DRUG DISCOVERY PROCESS. A large number of modern medicines were originally
discovered in plants. The drug discovery process generally starts by identifying
a plant that has "bioactive" properties. The compound responsible for
bioactivity is identified through a sequence of chemical extraction, testing,
and purification. The pure compound is tested, first in animal models and then
in human clinical trials. If the entire process is completed, the result is a
new drug.
In conjunction with EnzyMed, our strategic partner, we have developed a drug
discovery process adapted to microalgae. Our role in this process is to (1)
identify and cultivate bioactive microalgae species, and (2) chemically extract,
test, and purify the bioactive fractions. Our tests rely on cell cultures, human
tissue cultures and genomic screens, conducted in collaboration with certain
university research laboratories. Bioactive fractions are then subjected to
Combinatorial Biocatalysis, a process which creates, on average, hundreds of
derivative compounds from each pure bioactive compound using EnzyMed's
proprietary enzymatic methods. The resulting Microalgae Compound Libraries are
then ready to market.
THE PRODUCT. Compound libraries are a major source of drug discovery in today's
pharmaceutical industry. The "library" consists of pure compounds, commonly in
sets of 96, packaged in special containers designed for "High-Throughput
Screening." The screening process identifies new drug candidates by testing for
bioactivity, often targeted at certain diseases. Tests might be based on the
ability to kill certain types of cells (e.g. bacteria, cancer), or they might be
based on genetic pathways involved in specific diseases. Any positive result
from a screening test could eventually lead to a new medicine.
We believe the Aquasearch/EnzyMed Microalgae Compound Library is unique because
it has these features:
1) Unexplored resource
- Few microalgae have been screened by the pharmaceutical
industry
2) Quantity
- Species: 30,000
- Bioactive compounds: thousands
- Average derivatives of each bioactive compound: hundreds via
Combinatorial Biocatalysis
3) Possible Patentability
- Bioactive compounds in microalgae may be new to science
- Bioactive derivatives from Combinatorial Biocatalysis may be
new to science
THE MARKET. Consumers of compound libraries are biopharmaceutical companies.
These companies are strongly motivated to find new sources of drugs. According
to a 1997 study by Andersen Consulting, the pharmaceutical industry must
increase its rate of discovery of new drugs by a factor of 10 in five years in
order to maintain its historic growth rate.
Compound libraries are typically marketed as a package that includes the
following terms and conditions:
35
<PAGE>
1) Library Access Fee
- access time: limited to 3-12 months
- application: limited to certain diseases or disease areas
- multiple customers allowed
2) Licensing Fee
- $3 million to $15 million per compound per indication
- activated by decision to begin trials
3) Milestone Payments - $500,000 to $25 million per event
- activated by the results of pre-clinical and clinical trials
4) Royalties
- activated by FDA approval and full commercialization
PRODUCTION CAPACITY. We are producing our first compound library in
collaboration with EnzyMed. We have provided EnzyMed with a purified extract of
a known bioactive compound, and they are now producing derivatives using
Combinatorial Biocatalysis.
We have demonstrated capability in identification, microalgae cultivation,
extraction, purification, and testing of bioactivity. Our research team includes
professional scientists with expertise in all these areas. However, we have only
limited facilities and equipment for chemistry (extraction, purification) and
biochemistry (testing). In these areas, we now rely on collaborations with
several universities and members of our Scientific Advisory Board. We plan to
expand capacity with a 6,000 sq. ft. laboratory dedicated to drug discovery and
appropriate equipment, at an estimated cost of $2.0 million. Our ability to
finance this expansion depends on funds we would have to raise through revenues,
debt or equity.
EnzyMed has demonstrated capability in Combinatorial Biocatalysis. Its contract
customers for this type of "lead optimization" currently include leading
pharmaceutical and biopharmaceutical companies.
MARKETING STRATEGY. Both Aquasearch and EnzyMed have considerable marketing
know-how in the drug discovery market. A number of major pharmaceutical and
biotech companies have already expressed an interest in our first compound
library. Senior officers of both companies are responsible for marketing the
compound libraries.
TIMING OF PRODUCT RELEASE. We plan to release our first library for access
within six months.
(5) EXPANDING OUR PRODUCT PIPELINE
PRODUCT AREAS. We have established two areas to expand our product pipeline:
- Nutraceuticals
- Pharmaceutical drug development
BASIC STRATEGY: NUTRACEUTICALS. We have identified many potential nutraceutical
products among the microalgae, mostly through the published scientific
literature.
We are focused on markets for high-value products that, like those for natural
astaxanthin and our second
36
<PAGE>
nutraceutical product, have potential sales of more than $100 million, and few
or no known competitors. At our recently completed facility, we can directly
measure economic feasibility from data gathered during a six-month production
run in our commercial-scale Ultra-AGM.
We are well aware that nutraceutical products, because they are not highly
regulated, have caused concern among some consumers. Our goal is to
self-regulate at a higher standard than required by law. We are implementing a
variety of testing procedures designed to maximize product safety and product
efficacy.
Our marketing approach may determine many aspects of product development. We
would prefer to sell products directly to the consumer. However, if a strategic
partner can contribute significantly to product development or marketing, then
we will consider an alliance that could accelerate or maximize the process.
BASIC STRATEGY: PHARMACEUTICAL DRUG DEVELOPMENT. Our process for expanding the
pipeline in drug development is firmly founded on strategic collaborations and
alliances. We have strongly leveraged our ability to identify, extract, test,
and purify novel bioactive substances from microalgae through partnerships with
major universities. Additionally, we have enhanced our ability to produce
Microalgae Compound Libraries through our collaboration with EnzyMed.
We are focused in the next year on developing strategic license agreements with
biopharmaceutical companies. We expect many biopharmaceutical companies will be
interested to access our Compound Libraries for drug discovery. We believe our
management team has well-developed networks and relationships in the
biotechnology industry that bring credibility to our marketing approach.
PRODUCT DEVELOPMENT: MARBEC. MarBEC is a 5-year, $26 million Engineering
Research Center ("ERC"), funded in 1998 by the U.S. National Science Foundation.
There are fewer than two dozen ERCs in the U.S. In 1998, more than 160
universities competed for only 5 ERCs awarded by the National Science
Foundation.
MarBEC combines the expertise of world-leading marine science and ocean
engineering programs at the School of Ocean and Earth Sciences and Technology at
University of Hawaii with the nationally-famous chemical engineering program at
the Department of Chemical Engineering at University of California, Berkeley.
CORE RESEARCH: Discovery and development of new products from microalgae
COST: Industrial Partnership, $20,000 annually
BENEFITS TO AQUASEARCH:
- New research results prior to public disclosure
- Preferential rights to intellectual property
- Privilege to sponsor focused research, resulting in exclusive
intellectual property rights
- Preferred access to specialized and unique facilities and
equipment
- Preferred access to microalgae culture collections
- Membership on Industrial Advisory Board (current members:
Aquasearch, Monsanto, Cargill and Cyanotech)
- Opportunity to influence specific research
- Preferential access to student interns
In the first ten years of the ERC program, two dozen centers generated more than
1,000 patents. Industry
37
<PAGE>
members in other ERCs have cited the principal benefits as (1) strategic
relationships arising out of the academic/industry network, (2) access to
specialized equipment and facilities, and (3) better educated ERC graduates.
PRODUCT DEVELOPMENT: OTHER UNIVERSITIES. We are currently negotiating research
agreements with medical schools at four universities. If consummated, these
agreements will strongly leverage our own product development efforts.
CORE RESEARCH: Pre-clinical screening for drug candidates
- Purification of extracts from approximately 1,200 species of
microalgae in 3 years
- Tissue culture screening
- Genomic screening: allows extracts to be tested for effects on
specific diseases
- Genetic control of microalgae biochemistry
- Targets: skin cancer, breast cancer, antivirals, antifungals
COST: Approximately $500,000 per year. Projects range from 1 to 3 years.
BENEFITS TO AQUASEARCH:
- Ownership of intellectual property
- Increases value of drug candidates
We recognize that pre-clinical screening is costly. However, we believe it is a
very cost-effective investment. The industry-standard license fee for one
compound alone would more than double our anticipated investment.
If we are able to enter into agreements with all four universities, we expect to
generate and screen approximately 10,000 extracts over 3 years at a cost of $1.5
million. If our pre-clinical trials yield only one bioactive compound, the
minimum license fee we expect would be $3 million.
We have three options for screening and pre-clinical trials. We can do them
ourselves, with a corporate partner, or with a university partner. The cost of
facilities, equipment and expertise dictates that we work with a partner. The
advantage of the university partners we have chosen is significant, because the
universities perform contract research and we retain ownership of the compounds.
TIMING OF PRODUCT RELEASE. Our pipeline expansion is a process designed to yield
many more products at minimal cost. Our goal is two products per year. The
result could be less, or it could be far greater.
GENERAL ASPECTS OF PLANNED OPERATIONS
We expect to steadily increase revenues from sales of AQUAXAN-TM-. However, we
do not expect this product alone to be profitable, because we intend to reserve
significant production capacity for nutraceutical astaxanthin.
On March 30, 2000, we began sales of our nutraceutical astaxanthin product. We
anticipate that we will become profitable within one year of the launch if we
hit our sales targets - with no increase in production capacity.
However, there can be no assurance that this will occur.
Strategic relationships and collaborations will continue to be an important part
of our business strategy. We now have such relationships with EnzyMed, MarBEC
and Cultor. We expect collaborations will expand to include other corporations
and other universities. However, we cannot be certain to maintain
38
<PAGE>
existing partner relationships, nor can we guarantee to develop other successful
relationships.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Since inception, our primary operating activities have consisted of basic
research and development and production process development; recruiting
personnel; purchasing operating assets; and raising capital. From inception
through January 31, 2000, we had an accumulated deficit of approximately $12.8
million. Our losses to date have resulted primarily from costs incurred in
research and development and from general and administrative expenses associated
with operations. We expect to continue to incur operating losses for at least
the next year as we increase the expansion of our product pipeline. We expect to
have quarter-to-quarter and year-to-year fluctuations in revenues, expenses and
losses, some of which could be significant.
We do have a limited operating history. Your assessment of our prospects should
include the technology risks, market risks, expenses and other difficulties
frequently encountered by development stage companies, and particularly
companies attempting to enter competitive industries with significant technology
risks and barriers to entry. We have attempted to address these risks by, among
other things, hiring and retaining highly qualified persons and forging
strategic alliances with companies and universities that complement and leverage
our technical strengths. However, our best efforts cannot guarantee that we will
overcome these risks in a timely manner, if at all.
We are in the process of transition to a full-scale commercial producer of
microalgae products. These changes in our business have placed and will continue
to place significant demands on our management, working capital and financial
and management control systems.
RESULTS OF OPERATIONS
REVENUES. Since inception, our main activities have been basic research and
development and manufacture process development; recruiting personnel;
purchasing operating assets; and raising capital. In July 1999 we began to ship
our natural astaxanthin product. During the four months ended October 31, 1999,
we had revenues of approximately $52,000 in connection with these shipments.
During the quarter ended January 31, 2000, we had revenues of approximately
$54,000 in connection with these shipments. These amounts have been classified
as other income in the accompanying financial statements since they are
considered to be sales incidental to our research and development activities.
RESEARCH AND DEVELOPMENT COSTS. Research and development costs include salaries,
development materials, plant and equipment depreciation and costs associated
with operating our three-acre research and development/production facility.
Research and development costs were approximately $1.7 million for the year
ended October 31, 1999 compared with approximately $1.2 million and $800,000 for
the years ended October 31, 1998 and 1997, respectively. Most of these funds
were expended to develop the very large Ultra-AGM, to expand production
capacity, to implement improved computerized process control, and to reduce
capital costs of the AGM technology. Research and development costs increased by
approximately $232,000, or 70%, during the quarter ended January 31, 2000
compared to the quarter ended January 31, 1999. The increase reflects additional
costs associated with personnel additions, optimizing the very large Ultra-AGM,
expanding production capacity, and expenses incurred in connection with our
human safety clinical trial and U.S. FDA application for our nutraceutical
astaxanthin product. From inception through January 31, 2000, research and
development costs totaled approximately $5.3 million. We expect to incur
significant additional research and development costs in the future.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses consist
principally of
39
<PAGE>
salaries and fees for professional services. General and administrative expenses
were approximately $1.8 million for the year ended October 31, 1999 compared
with approximately $1.0 million and $1.1 million for the years ended October 31,
1998 and 1997, respectively. The increase reflects additional costs associated
with personnel additions, legal fees incurred in connection with developing and
protecting our intellectual property and raising capital. General and
administrative expenses totaled approximately $397,000 for the quarter ended
January 31, 2000 compared with approximately $404,000 for the quarter ended
January 31, 1999. General and administrative expenses for the quarter ended
January 31, 2000 included costs associated with personnel additions, legal fees
incurred in connection with developing and protecting our intellectual property
and raising capital. From inception through January 31, 2000, general and
administrative expenses totaled approximately $5.8 million. We anticipate that
general and administrative expenses will increase over time as we continue
expanding our production capacity, develop more new products, increase our
intellectual property protection, and raise additional capital.
INTEREST EXPENSE. Interest expense for the years ended October 31, 1999, 1998
and 1997 included $488,788, $495,882 and $98,824, respectively, for the discount
resulting from the difference between the conversion price and the fair value of
the common stock underlying the convertible notes issued during those years.
Interest expense for the quarters ended January 31, 2000 and 1999 included
$92,647 and $264,671, respectively, for the discount resulting from the
difference between the conversion price and the fair value of the common stock
underlying the convertible notes issued during those quarters.
LIQUIDITY AND CAPITAL RESOURCES
We have financed our operations until now through public and private sales of
debt and equity securities. During the years ended October 31, 1999, 1998 and
1997, we raised approximately $4.4 million, $3.3 million and $1.7 million of net
proceeds, respectively, from the sale of shares of common stock and/or the
issuance of debt in private placement transactions. During the quarters ended
January 31, 2000 and 1999, we raised approximately $735,000 and $1.5 million,
respectively, from the sale of shares of common stock and/or the issuance of
debt in private placement transactions. From inception through January 31, 2000,
we raised total net proceeds of approximately $12.9 million through public and
private sales of equity and debt securities.
During the year ended October 31, 1999, operating activities consumed
approximately $3.2 million compared with $1.4 million and $2.0 million during
the years ended October 31, 1998 and 1997, respectively. During the quarter
ended January 31, 2000, operating activities consumed approximately $736,000
compared with $602,000 for the quarter ended January 31, 1999. From inception
through January 31, 2000, operating activities have consumed approximately $8.9
million.
Capital expenditures for the years ended October 31, 1999, 1998 and 1997 were
approximately $1.2 million, $1.8 million and $200,000, respectively. Capital
expenditures from inception through January 31, 2000 totaled approximately $3.8
million.
As of October 31, 1999, our liquidity was approximately $90,000 in cash and cash
equivalents. As of January 31, 2000, our liquidity was approximately $110,000 in
cash and cash equivalents.
We estimate a need for approximately $3.0 million in operating capital over the
next twelve months. We need an additional $0.5 million to consummate strategic
research agreements with four university medical schools. Projected product
sales will begin to pay some operating costs. We now believe that product sales
could lead to profitability within twelve months after the start of sales of
nutraceutical astaxanthin, and that some future expansion could be financed out
of profits. In the near term, we believe that existing capital resources, funds
to be raised through public and/or private offerings of equity and/or debt
securities and bank financing will be sufficient for continued operations
through the next twelve months.
40
<PAGE>
We are now pursuing more sources of capital to maintain operations and, more
importantly, to expand our product pipeline. These capital sources include
government contracts and grants, product sales, license agreements and equity or
debt financing. We cannot guarantee success in raising the additional capital
necessary to sustain or expand operations, nor are we certain that such capital
will be available on terms that prevent substantial dilution to existing
investors. If we cannot raise sufficient capital, then we might be forced to
significantly curtail operations. Any reduction in operating activity could have
a material adverse effect on our business, financial condition, results of
operations, and relationships with corporate partners.
41
<PAGE>
BUSINESS
OVERVIEW
We develop and commercialize natural products from microalgae using our
proprietary AGM technology.
Microalgae are a diverse group of over 30,000 species of microscopic plants that
have a wide range of physiological and biochemical characteristics. Microalgae
produce many different substances and bioactive compounds that have existing and
potential applications in a variety of commercial areas, including human
nutrition, pharmaceuticals, and high value commodities.
Microalgae represent a major fraction of the entire plant kingdom, yet fewer
than 10 species have ever been produced commercially. Microalgae are the fastest
growing plants on earth. Some species can produce 1,000 times their own mass in
a single day. The raw materials required for microalgae production - water,
light and nutrients - are plentiful and cheap. Microalgae are easy to process
using standard manufacturing equipment.
Microalgae production technology has only recently been developed. The first
pure cultures of microalgae were cultivated in the early 1900s, but it was not
until the late 1930s that enough material of a single species was grown in the
laboratory to allow chemical analysis. Attempts at large scale cultivation began
in the 1950s, mostly in open ponds. The first commercial production of
microalgae did not begin until the mid-1970s, and then only for three species
that could be grown in open ponds. No new microalgae species has been grown
commercially in open ponds for the past 25 years. By the 1980s scientists began
to recognize the limitations of open pond technology - lack of control over the
conditions necessary for cultivation and exposure to contamination. New efforts
began to grow microalgae in photobioreactors - closed systems with the ability
to provide controlled conditions.
The major challenge with photobioreactor technology has been to develop
photobioreactors large enough to achieve the economy of scale needed for
commercial application. By the mid-1990s, most photobioreactors were used
exclusively for research, and few exceeded more than 50 gallons (180 liters) in
capacity. The AGM, at more than 6,000 gallons (22,000 liters), is to our
knowledge the largest photobioreactor in existence - and the only
photobioreactor used for commercial production of microalgae. In addition, the
AGM incorporates a very high level of computerized process-control, allowing
reproducible performance. We believe it is the most advanced technology of its
kind.
Our strategy is to build on our leading position in microalgae cultivation
technology to become the world-leading producer of pharmaceuticals,
nutraceuticals and high-value commodities from microalgae. In the short term, we
plan to build market share for microalgae-based nutraceuticals, to develop a
market for our drug discovery products, known as DRUGS FROM THE SEA-TM-, and to
increase market share for AQUAXAN-TM-, our natural astaxanthin product used in
animal feeds. Over the long term, we plan to develop more products from
microalgae, to continuously improve our AGM technology, and to expand strategic
alliances.
We manufacture our products at our five acre, research, development and
production facility in Kailua-Kona, Hawaii. We have enough production capacity
to carry out our strategic plan for the coming year. Our marketing and sales
activities depend to a great degree on distributors, strategic alliance
partners, and on our own personnel. Strategic alliances and partner
relationships with EnzyMed, the Marine Bioproducts Engineering Center, and
various current customers are central to our activities in drug discovery,
product development, regulatory approval processes, sales, marketing and
distribution.
Competition varies according to product area. In the drug-discovery market area,
many
42
<PAGE>
biopharmaceutical companies are involved in searching for sources of new
drugs; however, we believe that there is insignificant competition from
companies or institutions exploring microalgae as a drug-discovery source. In
the nutraceutical market, we may face some significant potential competition for
our first product, astaxanthin-rich microalgae, but we know of no competition
for the second product we plan to launch in 2000. In the market for animal feed
supplements, our natural AQUAXAN-TM- product faces competition from large global
producers of synthetic astaxanthin such as BASF and Hoffman-LaRoche and from
several producers of natural astaxanthin. We believe our product quality
provides the basis to capture adequate market share. As to competition for our
platform technology, the AGM, we do not believe any commercial entity has
developed a photobioreactor that matches the AGM's large size, level of process
control or sustained performance. We believe that competition in each of these
areas is likely to increase significantly over time.
Our patents and intellectual property are key to our business as a marine
biotechnology company. In the first six months of 1999 we were issued five new
patents related to our core technology, the AGM. We believe that intellectual
property issues in marine biotechnology will become much more prevalent,
challenging and complex in the future.
Government regulation and product testing are strong factors in the markets for
the products we are developing and producing. Our products face regulation by
the U.S. Food and Drug Administration (FDA) or similar agencies in foreign
countries, and may require extensive testing for safety and efficacy before
being released for sale.
Legal proceedings have been underway for over a year in a legal dispute with
Cyanotech regarding our intellectual property. On December 30, 1999 the United
States District Court for the District of Hawaii granted summary judgment in our
favor on our claims that Cyanotech infringed our patent, misappropriated our
trade secrets and breached the terms of our 1994 Dissolution Agreement with
Cyanotech. In addition, the Court denied Cyanotech's motion for partial summary
judgment of non-infringement and invalidity of our patent.
Our property at the Hawaii Ocean Science and Technology Business Park provides
an ideal location for the research and development and the commercial production
of microalgae. We have access to uniquely large volumes of deep ocean water in a
stable tropical climate, conditions that are well-suited for many of the
requirements for microalgae cultivation. Although Hawaii's distance from many
markets increases certain costs of operation, we believe that, on balance, there
are few locations equally favorable to our business.
Our employees, key scientists and our Scientific Advisory Board encompass a
broad array of expertise in critical areas of aquatic microbiology and
bioengineering, and a high degree of competence in operating our research and
commercial production systems. We are strongly dependent on our own personnel
and affiliated scientists for continued growth and development.
MICROALGAE PRODUCTION TECHNOLOGY
MICROALGAE AND OTHER PHOTOSYNTHETIC MICRO-ORGANISMS
BASIC CHARACTERISTICS. Microalgae are single-celled microscopic plants. They
range in size from approximately 1 micron (1/25,000 of an inch) to several
hundred microns. They are "eukaryotic" organisms, meaning that like animals but
unlike bacteria each cell has a nucleus that contains DNA. Like all other
plants, they grow by photosynthesis - the process of using water and carbon
dioxide, combined with light, to produce oxygen and biomass made up primarily of
sugars, fats, and proteins.
43
<PAGE>
DIVERSITY AND HABITAT. There are an estimated 30,000 species of microalgae, and
perhaps a few thousand other species of photosynthetic micro-organisms.
Microalgae live wherever there is water and light. You can find microalgae in
freshwater or seawater in ice at the North and South Poles or high in the
mountains, in sub-freezing ocean water, in super-heated hot springs, in any body
of water from the surface to depths greater than 600 feet - and everywhere in
between.
REPRODUCTION. The most common way that microalgae reproduce is through division.
When the cell gets large enough it simply divides in two. When the two resulting
cells get large enough, they divide in two, and so on. For most microalgae, cell
division happens at least once a day. However, microalgae also have ways of
reproducing sexually. Typically, two cells fuse together, exchange genetic
material, and then divide into two or more cells.
GROWTH RATES. Microalgae are the fastest growing plants on earth. Since they
divide about once a day, this means they double their mass at the same rate.
Some species of microalgae double about 10 times a day, meaning that a single
cell can produce 1,024 cells in a day. No land-based plants are capable of
growing at the rates of microalgae. Sugar-cane, which is the world's fastest
growing crop, doubles its mass about once a week. The fastest growing trees
double their mass about once every few months. On average, microalgae grow about
100 times faster than trees, and 10 times faster than any other plant.
UNIQUE CHEMISTRY. Microalgae produce all of the same types of molecules that are
found elsewhere in the plant kingdom - proteins, fats, sugars, and categories of
these, like enzymes, vitamins, and fatty acids. Each species of microalgae is a
unique type of plant. Many species of microalgae produce unique and unusual
molecules that have not been found anywhere else.
The unique molecular makeup of microalgae provides a valuable source of
potential new discoveries in areas such as drugs and nutrition. To date,
researchers at University of Hawaii have found more than 170 bioactive molecules
among microalgae. Of those, only 7 molecules have turned out to be
"rediscoveries," or molecules that are already known to science. In other words,
more than 95% of the bioactive molecules discovered among the microalgae are new
to science. Research performed in the pharmaceutical industry on bacteria and
fungi - major sources of new drugs - has generated a "rediscovery rate" of about
98%; that is, only about 2% of the "new" bioactive substances discovered in
bacteria and fungi turn out to be new after all.
VALUE OF SUBSTANCES IN MICROALGAE
Here are some representative values of typical biological products, some of
which occur in microalgae:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------
PRODUCT PRICE SOURCE
- ----------------------------------------------------------------------------------------------------
<S> <C> <C>
Beta-carotene (chemical, synthetic) $600 per kg 1
Beta-carotene (biological, "natural") $1,400 per kg 1
Astaxanthin $2,500 per kg 2
Biotin $7,000 per kg 1
Royalty fee on the drug "Cryptophycin" 2% of sales 3
License fee for a novel compound with bioactivity $3 to $15 million 2
demonstrated in pre-clinical trials
- ----------------------------------------------------------------------------------------------------
</TABLE>
44
<PAGE>
1: Chemical Marketing Reporter, Aug. 30, 1993 and Oct. 11, 1993,
Schnell Publishing Co., Inc., NY. Prices have not changed
significantly since 1993.
2: Internal Company estimate
3: Office of Technology Transfer and Economic Development,
University of Hawaii.
BETA-CAROTENE is carotenoid pigment used widely as a food coloring in margarine,
butter, drinks, cakes and candies. It is also sold as a nutritional supplement
or nutraceutical. The total market size is estimated to be in excess of $500
million per year. Beta-carotene is the dominant pigment in microalgae of the
genus DUNALIELLA, where it can account for more than 10% of the total mass.
ASTAXANTHIN is a carotenoid pigment now used primarily as a feed ingredient for
various animals, including salmon and poultry. The 1998 market for astaxanthin
in salmon feed was approximately $185 million. Astaxanthin is the dominant
pigment in microalgae of the genus HAEMATOCOCCUS, where it can account for up to
12% of the total mass.
BIOTIN, or Vitamin H, is widely sold as a nutritional supplement. It is a
bacterial growth factor that is currently produced from yeast. It occurs at
reasonably high levels in some species of microalgae.
CRYPTOPHYCIN is a novel compound with bioactivity that was demonstrated in
pre-clinical trials by its discoverer at the University of Hawaii. Cryptophycin
was isolated from a species of Cyanobacteria, also known as the "blue-green
algae." The compound is in lead development as an anti-cancer drug by a
pharmaceutical company that licensed it from the University of Hawaii.
RATIONALE FOR COMMERCIAL PRODUCTION OF MICROALGAE
Microalgae represent approximately half of all plant species and have been
largely unexploited. Many characteristics of microalgae make them attractive for
commercial production.
1) UNTAPPED RESOURCE
- There are an estimated 30,000 species
- Fewer than 5,000 species have been cultivated in the
laboratory
- Fewer than 1,000 species have been carefully investigated for
new substances
- Fewer than 10 species have been cultivated at commercial scale
2) SOURCE OF NEW SUBSTANCES
- Several hundred new bioactive substances have been discovered
3) SOURCE OF VALUABLE SUBSTANCES
- Types of molecules already known to be valuable: enzymes,
pigments, vitamins
- Bioactive compounds that could be valuable as pharmaceuticals
4) EASE OF PROCESSING
- Absence of bark, stems or branches makes product extraction
easier than other plants
- Uniform cell structure simplifies mechanical processes
- Commercial equipment developed for bacteria and fungi can
easily be applied
5) RAPID GROWTH RATE
- Growth rate ranges from about 1 to 10 doublings per day
- Growth rates are faster than any other plants
45
<PAGE>
6) LOW COST OF RAW MATERIALS
- Water, sunlight and carbon dioxide are plentiful and
economical
- By comparison, raw materials for bacteria or fungi include
expensive, complex organic substances
7) CONTINUOUS GROWTH
- Unlike land plants, microalgae do not need to complete a "life
cycle" to reproduce
- Growth by cell division makes it possible for microalgae to
grow continuously
Although the rationale for commercial production of microalgae is compelling,
certain challenges must be overcome to successfully exploit this resource.
CHALLENGES TO COMMERCIAL MICROALGAE PRODUCTION
Commercial production of microalgae is very similar to large-scale cultivation
of any agricultural crop, with many of the same challenges. The main challenge
is to grow large quantities of a single species sustainably and continuously.
Each species of microalgae is different, just as each species of land plant is
different. Commercial production demands "monoculture" - growing a single
species at a time. No experienced farmer would attempt to grow corn and rice in
the same field. Their water requirements are different, their nutrient
requirements are different, and harvesting techniques are different. The same is
true of microalgae. For example, HAEMATOCOCCUS, which is rich in astaxanthin,
has very different water and nutrient requirements than DUNALIELLA, which is
rich in beta-carotene.
In nature, plants do not live together in large groups of a single species that
are convenient to harvest and produce commercially. Humans have achieved this
level of convenience through control. Corn, for example, does not naturally grow
in rows that cover acre upon acre, uncontaminated by pests or competing weeds.
After more than 5,000 years of agriculture, humans have devised ways to
accomplish this.
Similarly, single species of microalgae do not naturally fill entire bodies of
water, uncontaminated by pests or competing weeds. For the past 50 years, humans
have attempted to devise ways to accomplish this.
Any method of microalgae cultivation that can solve the following problems will
be successful for commercial production:
- control of contaminating pests and weeds
- control of temperature
- control of nutrients
- control of light
- size large enough to achieve economy-of-scale
CONTROL OF CONTAMINATING PESTS AND WEEDS. Any body of water that is rich in
nutrients will eventually be populated by a large variety of micro-organisms,
unless provisions are made to restrict access. Pests that prey on microalgae
include microscopic bacteria and fungi, which can rapidly destroy them, and
animals of all sizes, which can rapidly eat them. The weeds would include any
species of microalgae that the grower did not intend to grow.
CONTROL OF TEMPERATURE. Like any plant, each microalgae species grows best in a
certain temperature
46
<PAGE>
range. Just as palm trees grow best in the tropics and spruce trees grow best in
very cold climates, there are some microalgae that grow best in hot springs
while others that grow best in ice water. Within each temperature range where
growth is possible, there is a much smaller range where growth is fastest. In
general, growth rate increases with temperature.
CONTROL OF NUTRIENTS. Each species of microalgae - just like other plant species
- - has unique nutrient requirements. All plants need nitrogen to make protein,
and phosphorous to make ATP (adenosine tri-phosphate), which is a main source of
energy. Nitrogen and phosphorous requirements vary from species to species. Then
there are the "micronutrients" - elements like iron, zinc, vitamins, or hormones
- - for which species can have very different requirements, also.
CONTROL OF LIGHT. Some plants prefer shade, while others prefer full sunlight.
Microalgae are no different. The intensity of light can dramatically affect
plant biochemistry. For example, moving a houseplant into the full sunlight may
cause the leaves to change color, which is a result of a change in the plant's
chemistry. Each species of microalgae grows best under certain light conditions.
ACHIEVING ECONOMY-OF-SCALE. Most commercial processes are very expensive at
small scale. Economics of the process improve when the scale of the enterprise
is large enough. Large-scale, robotic manufacturing of Ford and Toyota
automobiles is more economical than small-scale, handcrafted manufacturing of
Ferraris and Rolls-Royces. Large-scale agriculture of soybeans by a
highly-mechanized agri-business is more economical than small-scale agriculture
on a family farm.
The essence of a cost-effective commercial process is not dependent on the scale
alone. Success requires the ability to control the process at a large scale.
This principle applies as much to commercial production of microalgae as it does
to the commercial production of automobiles or soybeans.
OVERCOMING CHALLENGES TO COMMERCIAL MICROALGAE PRODUCTION
We believe that the two principal solutions to commercial microalgae production
are to:
1) control the culture system; and
2) enlarge the scale.
There have been numerous attempts to develop commercial photobioreactors. To the
best of our knowledge, the Aquasearch Growth Module is the first closed culture,
process-controlled, photobioreactor ever to operate at commercial scale -
greater than 2,750 gallons (10,000 liters).
COMMERCIAL MICROALGAE PRODUCTION - A BRIEF HISTORY
Scientists have conducted laboratory research on the cultivation of microalgae
for more than a hundred years. Attempts at large-scale cultivation, however, are
relatively recent. Here are some of the significant historical events that led
to the development of commercial photobioreactors:
1871: NITROGEN AND PHOSPHOROUS RECOGNIZED AS NUTRIENTS FOR
MICROALGAE. The Russian biologist Famintzin suggests that
microalgae use the same nutrients as higher plants.
1890: MICROALGAE FIRST GROWN IN BACTERIA-FREE CULTURES. The
freshwater microalgae CHLORELLA and SCENEDESMUS are isolated
and cultivated by a Dutch bacteriologist, Beyerinck.
1905: FIRST CULTURES OF MARINE MICROALGAE. Eighteen species of
marine microalgae are grown in 60-milliliter culture flasks in
Plymouth, U.K. Many of the cultures are contaminated
47
<PAGE>
with other species.
1919: HIGH GROWTH RATES OF MICROALGAE ARE RECOGNIZED. The microalgae
CHLORELLA is found to increase its biomass up to 100 times per
day by the German chemist, Warburg, during his experiments on
photosynthesis.
1938: FIRST "LARGE-SCALE" CULTURE OF MICROALGAE - 7 GALLONS (26
LITERS). Bostwick Ketchum and A.C. Redfield grow a marine
species, NITSZCHIA CLOSTERIUM, at Woods Hole Oceanographic
Institution. They are able to collect enough material every
day to make chemical measurements.
1940: PIGMENTS OF MICROALGAE ARE ISOLATED AND IDENTIFIED. Harold
Strain and colleagues at the Carnegie Institution are the
first to extract and identify pigments from blue-green algae.
This initiates a long-term research program. Over the next
decade, many species are grown in 2.6 gallon (10 liter)
vessels and their chemical composition is analyzed.
1944: FIRST AUTOMATED PHOTOBIOREACTOR - 2.6 GALLONS (10 LITERS).
Myers and Clark develop and build a laboratory system for the
continuous culture of CHLORELLA. The automated photobioreactor
never operates as a fully continuous culture.
1948: FIRST ECONOMIC ANALYSIS OF LARGE-SCALE CULTURE. The Stanford
Research Institute, with funding from the Carnegie
Institution, examines the feasibility of large-scale
cultivation. In 1950, they conclude that CHLORELLA could be
grown as a cheap source of protein.
1949: CONTINUOUS CULTURE ACHIEVED IN THE LABORATORY. Building on
their earlier technique using a laboratory photobioreactor,
Ketchum and Redfield demonstrate how to achieve optimum yields
of microalgae by continuously adding fresh nutrient medium and
continuously harvesting.
MICROALGAE SUGGESTED AS A CHEAP SOURCE OF PROTEIN. H.A.
Spoehr, Chairman of the Division of Plant Physiology at the
Carnegie Institution, writes a paper suggesting the
large-scale cultivation of CHLORELLA as a means of solving
world hunger. This paper stimulates interest worldwide, and
leads to numerous pilot plants.
1951: FIRST LARGE-SCALE, CONTROLLED PHOTOBIOREACTOR - 1,200 GALLONS
(4,500 LITERS). A tubular photobioreactor is built and
operated in Cambridge, Massachusetts for three months. Only
temperature is controlled. Average yield is equal to three
tons per acre per year. Scientists predict yields of 45 tons
per acre per year - ten times more than soybeans.
1950S: LARGE-SCALE "OPEN-POND" PRODUCTION SYSTEMS ARE BUILT IN
GERMANY AND JAPAN . Ponds of various design, all open to the
atmosphere, are built in Germany (330 gallons (1,200 liters)
in 1951) and Japan (825 gallons (3,000 liters) in 1953; 4,400
gallons (16,000 liters) in 1957; 16,500 gallons (60,000
liters) in 1958). Most systems cannot be maintained for more
than 30 days.
FIRST YEAR-ROUND PRODUCTION ACHIEVED AT LARGE SCALE. By 1958,
an open-pond CHLORELLA culture system covering a total area of
1,600 square feet (less than 5% of an acre) operates for a
full year in Japan. The yield is equal to 12.7 tons per acre
per year.
EXPERIMENTAL PRODUCTION OF MICROALGAE OTHER THAN CHLORELLA. In
the late 1950s and early 1960s, large-scale open-pond cultures
are attempted on a handful of other species. Most cultures are
not controlled, and are overcome by contaminants within weeks.
1960S: "OPEN-POND" SYSTEMS BECOME WIDESPREAD. Experimental production
systems are constructed in Czechoslovakia, Romania, Russia,
Israel, France and the United States. Species other than
CHLORELLA are grown, but no system can be maintained for more
than three months.
48
<PAGE>
MICROALGAE CONSIDERED FOR U.S. SPACE PROGRAM, BUT ABANDONED AS
UNRELIABLE. In the mid-1960s, NASA funds research on the use
of microalgae cultures to generate oxygen during space flight.
The scheme proves unreliable, and is replaced by more
dependable physical-chemical systems.
FIRST COMMERCIAL PRODUCTION OF CHLORELLA. By the mid-1960s,
research by the Japan Nutrition Association and the Microalgae
Research Institute in Tokyo leads to the first commercial
production of CHLORELLA.
1970S: COMMERCIAL OPEN PONDS LARGER THAN 27,500 GALLONS (100,000
LITERS) are built in Taiwan for CHLORELLA production. By the
mid-1970s, export to Japan for the food supplement market is
approximately 800 tons per year.
COMMERCIAL PRODUCTION OF SPIRULINA begins in Lake Texcoco,
Mexico. By the late 1970s production reaches 1,000 tons per
year. The product is initially sold in Japan as an animal feed
additive and human nutritional supplement. A market for
SPIRULINA begins to develop in the United States.
COMMERCIAL OPEN-POND PRODUCTION OF DUNALIELLA, a rich source
of natural beta-carotene, begins in Israel. Hoffman-LaRoche
acquires an open-pond facility in Australia for the same
purpose, but later abandons the project.
1980S: COMMERCIAL OPEN PONDS OF 275,000 GALLONS (1,000,000 LITERS)
are constructed in Southern California for SPIRULINA
production by Earthrise Farms, which starts operating in 1982.
SALES OF MEXICAN SPIRULINA ARE PROHIBITED IN THE UNITED STATES
DUE TO CONTAMINATION found in studies by the Food and Drug
Administration in the early 1980s.
EXPERTS AGREE ON LIMITS OF "OPEN-POND" SYSTEMS, AND SUGGEST
FOCUS ON PHOTOBIOREACTOR TECHNOLOGY. After three decades of
research on a wide variety of microalgae, only three have been
successfully produced: CHLORELLA, SPIRULINA and DUNALIELLA.
Contamination and control are frequently cited in the
scientific literature as the main barriers to
commercialization of microalgae.
AQUASEARCH IS FOUNDED by scientists at Scripps Institution of
Oceanography. We design concepts for large-scale
photobioreactors in 1984.
AQUASEARCH SHOWS THAT LARGE-SCALE PHOTOBIOREACTORS ARE
COST-EFFECTIVE. The United States Department of Energy
commissions a confidential study from us in 1985 to evaluate
the economics of fuel production from microalgae. Our analysis
shows that large-scale photobioreactors would be more
cost-effective than open ponds.
EXPERIMENTAL PHOTOBIOREACTORS UP TO 53 GALLONS (200 LITERS),
with a variety of designs, are developed in France, Italy,
Israel, Germany, Australia and the U.K. By the late 1980s,
many microalgae have been cultivated that could not be grown
in open ponds.
AQUASEARCH BUILDS THE FIRST CLOSED SYSTEM PHOTOBIOREACTOR
LARGER THAN 1,100 GALLONS (4,000 LITERS). In late 1988 we
build the first Aquasearch Growth Module. Over the next few
years, we cultivate several species that have not been grown
in open ponds.
1990S: "OPEN-POND" COMMERCIAL PRODUCTION OF HAEMATOCOCCUS IS
ATTEMPTED AND FAILS. Microbio Resources, a San Diego company,
devotes 10 acres of open pond facilities to HAEMATOCOCCUS
production. Repeated problems occur with contamination, which
destroys cultures within 3 days. Microbio ceases operation in
the mid-1990s.
AQUASEARCH GROWTH MODULE REACHES CAPACITY OF 7,000 GALLONS
(25,000 LITERS). By 1999, we are operating the largest known
closed-system photobioreactor ever built.
49
<PAGE>
PATENTS ISSUED ON AQUASEARCH GROWTH MODULE TECHNOLOGY. From
1996 to 1999, a total of nine patents are issued on processes
and apparatus related to the Aquasearch Growth Module.
FIRST KNOWN COMMERCIAL PRODUCTION FROM A LARGE-SCALE
PHOTOBIOREACTOR. Sales of HAEMATOCOCCUS by Aquasearch in 1999
mark the first known commercial production of any microalgae
from a closed-system photobioreactor larger than 27 gallons
(100 liters).
THE AQUASEARCH GROWTH MODULE (AGM)
The AGM technology has produced the first new commercial microalgae product
since 1975 that is produced by ANY type of photobioreactor outside the
laboratory. Open-pond technology, on the other hand, has not introduced a single
new species of microalgae to commerce in the past 25 years.
FEATURES OF AGM TECHNOLOGY. The key features of Aquasearch Growth Module
technology are sterility, size, and control. AGM technology has achieved:
- control of contaminants and pests;
- control of temperature, nutrients and light; and
- critical size required for commercial production-more than 2,750
gallons (10,000 liters).
This level of performance has been the goal of an international research effort
for the past several decades. At 7,000 gallons (25,000 liters), the Ultra-AGM
is, to our knowledge, the largest commercial-scale photobioreactor ever
operated.
Photobioreactor size is an extremely important factor in determining
cost-effectiveness of microalgae production. Most of the capital cost in
controlled, closed-system photobioreactors is not involved in the containment
vessel - rather, it is in the cost of the control system. Thus, any increase in
size results in a lower cost per unit capacity. For example, a six-fold increase
in size of the AGM - to 7,000 gallons (25,000 liters) - resulted in lowering the
cost per unit capacity by three-fold. Labor costs are related mostly to the
number of photobioreactors being operated, not to their individual size. Thus, a
six-fold increase in size results in about a five-fold decrease in labor costs.
PROCESS CONTROL - THE KEY TO REPRODUCIBLE PERFORMANCE. We have developed
computerized process control systems for the AGM over the past ten years. Our
current, proprietary process control system makes possible the following
operations:
- process monitoring of key production variables at intervals of
greater than one minute;
- data archiving for comprehensive analysis of performance;
- automated control of all operations performed more than once a day;
- immediate alarm system for any system component not operating
properly; and
- automated maintenance for hundreds of system components.
Our process control system has allowed us to rapidly improve performance and
decrease labor requirements. We now employ only six persons who are exclusively
involved with production. Our productivity per employee has increased more than
ten-fold in the past year. We attribute this increase in productivity largely to
the use of process control.
MICROALGAE AS "SOFTWARE" FOR AGM "HARDWARE." We view the AGM as platform
"hardware" technology. With our current process control system, we can specify
narrow growing conditions of temperature, light, and nutrients in the AGM. These
are the main factors that control the production of
50
<PAGE>
microalgae. We view each species of microalgae as "software," each defined by
unique growing conditions. The AGM "hardware" has the capability to operate many
species of microalgae "software." We believe our production of HAEMATOCOCCUS
amply demonstrates this principle.
COMPETITIVE PRODUCTION SYSTEMS. We are not aware of any closed system
photobioreactor in existence that competes favorably with the AGM. Most of the
comparable technology is:
- operated or owned by universities or research laboratories;
- less than 55 gallons (200 liters) in capacity (100 times smaller
than the Ultra-AGM), and
- used for research purposes only.
Such experimental photobioreactors are operated in Italy, Israel, Australia,
Germany, U.K., France, Singapore, Netherlands, and the United States.
We are aware of only two closed system photobioreactors other than the AGM that
may potentially be used for commercial production of microalgae. Both are many
times smaller in size than the Ultra-AGM.
1) BIOCOIL. The "Biocoil" was developed by Biotechna Ltd. and is
operated in Australia and the U.K. The Biocoil consists of tubes
approximately one inch in diameter wrapped around a vertical
tower. To approach the volume of the Ultra-AGM requires multiple
Biocoils. We believe the Biocoil has two major disadvantages that
will make it difficult to attain the same size as the Ultra-AGM.
First, a Biocoil of comparable size would have more than 500 times
more surface area than the AGM. This translates into 500 times
greater capital cost, presuming that the same type of material is
used for the containment vessel. Second, a Biocoil as large as the
Ultra-AGM would require a tower capable of supporting 25 tons of
water. This is an engineering requirement not faced by the AGM. We
are not aware that Biocoils are being used for commercial
production. We believe that the Biocoil does not include a
process-control system that approaches the sophistication of ours.
2) FLOATING TUBULAR REACTOR. This photobioreactor was developed by
Heliosynthese of France (now Thallia Pharmaceuticals). Its
distinguishing feature is the means by which temperature is
controlled. The entire reactor vessel floats on a body of water.
The tubular reactor consists of two chambers, one filled with
microalgae culture medium and the second filled with air.
Temperature control is accomplished by filling or deflating the
air chamber, which causes the reactor to float higher or lower in
the water bath. In our opinion, temperature control in this
reactor system is very complicated and merely presents the
possibility of numerous problems that are avoided in the AGM. To
the best of our knowledge, Thallia is not operating any
commercial-scale photobioreactors at present.
We believe the AGM offers significant technical and economic advantages compared
with other photobioreactors, including open pond systems. The advantages of the
AGM include size, cost-effectiveness, increased yields, and the ability to
cultivate hundreds of microalgal species at commercial scale that cannot be
produced elsewhere due to higher risks of contamination and lack of control.
51
<PAGE>
PRODUCTS FROM MICROALGAE
(1) ASTAXANTHIN - OUR FIRST COMMERCIAL PRODUCT
DESCRIPTION AND PROPERTIES. Astaxanthin is a red-orange, carotenoid pigment.
Astaxanthin is closely related to other well-known carotenoids, such as
beta-carotene, lutein, or zeaxanthin, as shown by the following diagrams of
their molecular structures.
[GRAPHIC]
All of these molecules are antioxidants, but astaxanthin has by far the
strongest antioxidant activity. Some studies indicate that it is 10 times more
potent than beta-carotene, and at least 100 times more potent than vitamin E -
another well known antioxidant.
Astaxanthin is one of the main pigments in aquatic animals. But it is not just a
pigment. In animals, astaxanthin performs many essential biological functions,
including:
- protecting against the harmful effects of UV light;
- enhancing the immune response;
- protecting against the oxidation of essential polyunsaturated
fatty acids;
- stimulating pro-vitamin A activity and vision;
- improving reproductive capacity; and
- assisting in communication.
52
<PAGE>
In species like salmon or shrimp, astaxanthin is essential to normal growth and
survival, and has been attributed vitamin-like properties. Some of these unique
properties are also effective in mammals. We believe astaxanthin has very
promising possibilities for nutraceutical and pharmaceutical applications in
humans. Studies in humans and animal models suggest that astaxanthin may
substantially improve human health, by virtue of its antioxidant properties,
with regard to vision, neurodegenerative diseases, and certain cancers.
ASTAXANTHIN IN NATURE. You can find astaxanthin in many of your favorite
seafoods, such as salmon, trout, red sea-bream, shrimp, lobster, and caviar, as
well as in many birds. These animals do not naturally produce astaxanthin.
Rather, they ingest astaxanthin as part of their diet. Some species, like
shrimp, can change closely related carotenoids into astaxanthin. However,
astaxanthin provides greater benefits to these species if it appears naturally
in their diet. Other species, like salmon, simply cannot convert dietary
carotenoids into astaxanthin. Similarly, mammals cannot synthesize astaxanthin.
Where does astaxanthin come from? The richest known sources are microorganisms,
the richest of which are species of HAEMATOCOCCUS, microalgae that occur
throughout the world. The apparent function of astaxanthin in these microalgae
is to protect them from adverse changes in their environment, such as increased
photo-oxidation caused by UV light, which can occur when water evaporates from
the pools in which they live. HAEMATOCOCCUS can accumulate as much as 100 g of
astaxanthin per kg of dry biomass. This level is 10,000-fold higher than in
salmon fillets.
NATURAL VS. SYNTHETIC ASTAXANTHIN. One difference between natural and synthetic
astaxanthin molecules is the spatial orientation of the molecules. All
astaxanthin molecules are made up of the same atoms - carbon, hydrogen and
oxygen - connected in the same sequence. But in some places, these atoms can be
connected to the molecule at a different angle. The position of the two "OH"
groups can actually vary from one astaxanthin molecule to the other, either
rising above the plane level of the molecule, or sinking below that level.
Molecules with these different orientations are called "enantiomers."
In nature there are three main enantiomers of astaxanthin. These are called
3S-3'S, 3R-3'S, and 3R-3'R. To see the difference, imagine that the hydroxyl
(OH) groups are either sticking out of the page (/ /) or into the page
(---), as represented here:
[GRAPHIC]
53
<PAGE>
The orientation of the molecules is significant. When molecules react with each
other, they have to fit together. If the molecules do not fit, they will not
react. Thus, one enantiomer might function in your body while another one is
completely useless.
Differences in spatial configuration are important. A recent study by the U.S.
FDA showed that farmed salmon could be easily distinguished from wild salmon,
because farmed salmon are fed synthetic astaxanthin. Synthetic astaxanthin
contains primarily the 3R-3'S enantiomer. Salmon are unable to convert this to
3S-3'S - the more common form in nature, and the same form found in
HAEMATOCOCCUS. Thus, salmon fed synthetic astaxanthin can be clearly
distinguished from those fed natural astaxanthin. In shrimp, the main form of
astaxanthin is also the 3S-3'S isomer. A recent study showed that the
astaxanthin from HAEMATOCOCCUS had a superior bio-efficacy over synthetic
astaxanthin, resulting in higher survival of shrimp larvae or juveniles.
Another difference between natural and synthetic astaxanthin is that esters do
not occur in synthetic astaxanthin. The diagrams on the previous page show
molecules of "free" astaxanthin. In nature, however, most astaxanthin occurs as
an "ester." You can make an ester by attaching a fatty acid to either one or
both of the "OH" groups. You have probably heard of "essential" fatty acids as
important components of your diet. Synthetic astaxanthin has no fatty acids, so
it is "free." Scientists believe that one of the main advantages of astaxanthin
esters is that they can be stored in tissues for a long time without being
oxidized.
In salmon, astaxanthin esters predominate in the skin and eggs, while free
astaxanthin is the main form in the flesh and serum (blood). In shrimp,
astaxanthin esters also predominate, except in the ovaries and eggs. In red
sea-bream, most astaxanthin esters are found in the skin. Unlike synthetic
astaxanthin, HAEMATOCOCCUS astaxanthin is extremely rich in esters - the most
common and stable form in nature.
THE NUTRACEUTICAL ASTAXANTHIN MARKET. We believe that a market is developing for
astaxanthin as a nutritional supplement, or nutraceutical. There is growing
evidence in the scientific and medical literature of the value of astaxanthin to
human wellness. We believe the potential market is in the range of several
hundred million dollars per year. Although we face competition in this market,
we believe that the combination of our product quality and production capacity
will provide us significant competitive advantages. We began sales of our
nutraceutical product on March 30, 2000. Based on our available production
capacity, we believe that we can be profitable within one year as a result of
sales of this product, provided that we meet our marketing goals. However, we
cannot ensure that our marketing campaign will occur in the way we have planned
or that it will be successful. For more information about our nutraceutical
astaxanthin product, please see "Management's Plan of Operation - (1)
Nutraceutical Astaxanthin."
THE AQUAXAN-TM- MARKET. We began selling astaxanthin-rich microalgae meal under
the trade name AQUAXAN-TM- to a European company in July 1999 and to a Japanese
company in September 1999. Through October 1999 these sales, amounting to
$52,000, have been included in other income in the Company's financial
statements. The primary market for astaxanthin in animal feeds is in salmon
feed, although feeds for trout, sea-bream and poultry also include astaxanthin.
The global market for astaxanthin in salmon feeds in 1998 was estimated to be
$185 million. The largest competitor in this market is Hoffman-LaRoche, which is
estimated to have more than 95% market share. However, Hoffman-LaRoche produces
synthetic astaxanthin, which is a different molecule than the natural
astaxanthin found in HAEMATOCOCCUS. We believe there are now niche markets for
natural astaxanthin, and that those markets could grow depending upon consumer
preference for a natural alternative. We would need a large increase in our
production capacity to satisfy a significant demand for AQUAXAN-TM-, and any
such increase would require significant capital and the time to construct
expanded production facilities. We do not intend to seek financing for any such
expanded production capacity unless we
54
<PAGE>
receive firm orders for significant additional sales. We cannot guarantee that
such orders will occur. For more information about AQUAXAN-TM-, please see
"Management's Plan of Operation - (3) Aquaxan-TM- - Natural Astaxanthin for
Animal Feed".
(2) NUTRACEUTICAL PRODUCTS
We are currently planning to launch a second nutraceutical product in the year
2000. We believe the potential market for this product exceeds $100 million per
year. At this time, we are not aware of any competitors that produce this
product. The State of Hawaii Department of Agriculture recently approved our
request to import the relevant species of microalgae that we will use to produce
this product. We began pilot production of this microalgae in October of 1999.
We expect production trials will require at least six months, and that product
formulation and marketing may require an additional six months. At present, we
cannot be certain that we will be successful in any or all of the many steps
required to bring this product to market. For more information about this
product, please see "Management's Plan of Operation - (2) Our Second
Nutraceutical Product."
Currently, several nutraceutical products exist that are derived from
photosynthetic microalgae. These products, discussed below, sell in the range of
$100 to more than $1,000 per kilogram of dried algae.
1) CHLORELLA. The primary market for this product is in Japan and
several other Asian countries. The production process, which
relies to a great degree on open pond technology, was developed in
the 1970s. We estimate the market size to be approximately $100
million per year.
2) SPIRULINA. This product is sold primarily in Europe, Asia and
North America. The production process, which relies primarily on
open pond technology, was developed in the 1970s. We believe the
major producers include Cyanotech, Earthrise Farms of California,
and recent new enterprises in mainland China. We estimate the
total market size to be approximately $50 million per year.
3) DUNALIELLA. This product is a rich source of natural
beta-carotene. The production process relies primarily on open
pond technology developed in the 1970s. There are other sources of
natural beta-carotene, and we have no estimates of the market
share taken by DUNALIELLA. We believe the total market for
beta-carotene, including the synthetic compound, is approximately
$500 million per year.
4) "SUPER BLUE-GREEN ALGAE." The primary component of this product is
the blue-green algae known as APHANIZOMENON FLOS-AQUAE that grows
wild in Klamath Lake, Oregon. We know of only one supplier for
this product, Cell Tech, which uses a multi-level marketing
method. We believe that sales are approximately $100 million per
year.
5) HAEMATOCOCCUS. We believe the largest supplier of this
astaxanthin-rich microalgae is AstaCarotene of Sweden. We estimate
the current European market to be approximately $15 million per
year. We are aware of one other company, Cyanotech, that has begun
selling this nutraceutical.
We believe that many more nutraceutical products could be developed from
microalgae, provided that the microalgae can be produced in commercial
quantities. Known or potential nutritional supplements that have been identified
among the microalgae include omega-3 fatty acids, vitamins and anti-oxidants.
The production methods for cultivated microalgae nutraceuticals are based
entirely on open-pond technology developed in the 1970s. Despite numerous
attempts, no new microalgae products
55
<PAGE>
manufactured in open ponds have come to market in the past 25 years. The only
new microalgae products developed in this market are either harvested from the
wild (Super Blue-Green Algae) or produced in closed-system photobioreactors
(HAEMATOCOCCUS).
Hundreds of microalgae species have been cultivated in laboratory
photobioreactors over the past 50 years. To our knowledge, the AGM has all the
features - and more - of laboratory photobioreactors currently in operation. We
therefore believe that hundreds species of microalgae may be cultivated for
commercial purposes through the use of our AGM technology.
(3) PHARMACEUTICAL DRUG DEVELOPMENT - DRUGS FROM THE SEA-TM-
Most pharmaceutical products developed to date have been derived from land-based
plants, and the bio-diversity of microalgae is comparable to that of land-based
plants. There is abundant evidence from recent research of the presence of
bioactive substances among the microalgae. Such bioactive compounds include drug
candidates like CRYPTOPHYCIN and LAULIMALIDE, which are currently in active
development or lead optimization.
Our own effort in drug development is aimed at identifying and characterizing
bioactive compounds derived from microalgae that we cultivate. To the extent we
are successful in these efforts, we believe that many pharmaceutical and
biotechnology companies will be interested in collaborating with us. We believe
this interest will exist primarily because of our AGM technology, which we view
as uniquely capable of providing the large quantities of pure material required
for research, development and manufacture of drugs from microalgae.
We do not currently have the expertise to develop and commercialize
pharmaceutical products on our own. Our general strategy is to seek
collaborative research and development and sales, marketing and distribution
relationships with established pharmaceutical companies in order to develop and
commercialize potential microalgal pharmaceutical products. We are currently
creating our first Microalgae Compound Library, in conjunction with EnzyMed, for
the purpose of drug discovery via licensing to the biopharmaceutical industry.
We project our compound library will be available to the market in early 2000.
We are also negotiating drug discovery agreements with research groups at four
different medical schools in the United States. Our development of
pharmaceutical products from microalgae involves many significant risks and
uncertainties, however, and our efforts in this area may be unsuccessful. For
more information about our pharmaceutical drug development efforts, please see
"Management's Plan of Operation - (4) Drug Discovery Libraries and - (5)
Expanding Our Product Pipeline."
(4) PIGMENTS FROM MICROALGAE
Using our AGM technology, we have the capability of cultivating additional
microalgae species rich in pigments. Microalgae contain the entire spectrum of
colors found in nature, including more than 1,000 specific pigments. These
pigments may be useful as colorings in foods, cosmetics, textiles, and feeds. We
believe that natural pigments found in microalgae can be substituted for
synthetic pigments currently used in the food processing industry. For example,
canthaxanthin is used widely in the food industry today for colorings in cakes,
candy, soda and processed meats. We estimate the worldwide market for synthetic
canthaxanthin is currently in excess of $200 million. We are aware of many
microalgae species that contain a high percentage of canthaxanthin. Similarly,
there is a growing demand for natural pigments in cosmetics, skin and hair care
products that could be derived from microalgae species.
We believe our own expertise is strongly leveraged by our membership in the
Marine Bioproducts Engineering Center (MarBEC) at University of Hawaii and
University of California, Berkeley. One of
56
<PAGE>
MarBEC's main goals is to identify and formulate microalgae-derived pigments for
a variety of commercial applications. MarBEC estimates the potential worldwide
market for new pigments from microalgae to be in excess of $1 billion. As a
charter member of MarBEC, we have preferential intellectual property rights to
any new products or technology developed by MarBEC. We believe we are the only
MarBEC Industry Partner with the capability to produce microalgae in
commercial-scale closed-system photobioreactors. Our development of additional
microalgae pigmentation products involves many significant risks and
uncertainties. For more information about our collaboration with MarBEC, please
see "Management's Plan of Operation - (5) Expanding Our Product Pipeline."
OUR STRATEGY
Our objective is to be the global leader in microalgae cultivation technology,
as well as the leading producer of pharmaceuticals, nutraceuticals, and
high-value commodities from microalgae. We have several strategies to achieve
these goals.
1) BUILD SIGNIFICANT MARKET SHARE IN THE NUTRACEUTICAL ASTAXANTHIN
MARKET. We intend to build upon our position as the leading
producer of superior quality natural astaxanthin from microalgae.
Our marketing strategy includes both direct marketing to the
consumer as well as through established third party distribution
channels. If we are able to obtain a one percent share of the
estimated market for nutraceutical astaxanthin, we believe that we
may be profitable within one year of our initial sales of this
product.
2) BUILD A MARKET IN DRUG DISCOVERY. We intend to offer access to
unique Microalgae Compound Libraries beginning in early 2000. We
plan to cultivate and screen new microalgae through our
collaborations with MarBEC and several medical schools. Proven
bioactive substances will be developed into Compound Libraries
through our collaboration with EnzyMed. We expect to further
develop new drug candidates in collaboration with strategic
partners in the biopharmaceutical industry.
3) BUILD MARKET SHARE IN THE ASTAXANTHIN ANIMAL FEED MARKET. Our
AQUAXAN-TM- product - superior in astaxanthin content to any other
natural source - attracted two customers within one week of its
availability. We believe that this product will help us build a
reputation for quality, which we intend to leverage to build
market share. During the past year, we hired Cultor's leading
manager for development of the astaxanthin market, Martin Guerin,
as Vice-President, Sales and Marketing. We also maintain a strong
relationship with Cultor as a preferred distributor, through which
our astaxanthin products will gain faster access to the world
market than would have been possible if we had attempted to build
our own marketing and distribution channel first. We believe that
the combination of our microalgae cultivation technology and
expertise with Cultor's animal feed and animal nutrition research
and development capabilities and worldwide sales, marketing and
distribution network provides us with an important competitive
advantage. We plan to independently develop and/or collaborate
with Cultor and other corporate partners with respect to the
development of additional applications for AQUAXAN-TM-.
4) CONTINUALLY IMPROVE AND ENHANCE OUR CORE PLATFORM TECHNOLOGY. Our
AGM technology has produced the first new commercial product in 25
years from the cultivation of photosynthetic microalgae. We
believe that our proprietary technologies and processes provide us
with a significant competitive advantage over other known
microalgae cultivation technologies. We expect that further
improvements in our automated process control systems will lead to
even greater product quality, yield, and productivity per
employee. This year we plan to expand applications of AGM and
related technologies to other microalgae species for new
commercial products.
57
<PAGE>
5) DEVELOP OTHER COMMERCIAL PIGMENTS. We expect that our partnership
in MarBEC will lead to the development of commercial pigments from
other species of microalgae. This is a central goal of MarBEC
research, and one of the prime reasons we chose to be an
Industrial Partner.
6) EXPAND STRATEGIC ALLIANCES. We intend to strengthen existing
partnerships and develop new relationships to commercialize
microalgae products. In particular, we are targeting potential
partners - like MarBEC, EnzyMed and Cultor - that have greater
research and development, scientific, technical, financial,
marketing, sales and/or distribution resources than we do. Our
main objective is to create mutually beneficial alliances that
create and expand markets for our products.
MANUFACTURING
ASTAXANTHIN. We began cultivating HAEMATOCOCCUS PLUVIALIS at our current
facility in 1995. Our production process employs:
- AGM photobioreactors;
- "finishing" ponds;
- final processing; and
- automated process control throughout the production system.
The AGMs are harvested regularly into finishing ponds where we cause the
microalgae to synthesize astaxanthin, i.e. turn red. Once optimal "reddening"
has occurred, the microalgae are de-watered and the ponds emptied. The resulting
product is then further processed and packaged using proprietary equipment and
processes.
OTHER MICROALGAE. All microalgae require controlled temperature, light,
nutrients, pH, and certain other parameters to grow optimally. Our proprietary
AGM process control software allows the operator to set desired limits on most
critical growth parameters within minutes. As a result, the AGM can be used to
cultivate a wide variety of microalgae.
To demonstrate the power of AGM technology, we have cultivated species of
microalgae with widely different growth requirements, including:
- CHLORELLA SOROKINIENSIS;
- LYNGBYA LAGERHEIMII; and
- HAEMATOCOCCUS LACUSTRIS.
To our knowledge, none of these species have ever been cultivated outside the
laboratory.
We have also cultivated SPIRULINA PLATENSIS in a direct, side-by-side comparison
to open ponds, the standard means of commercial production for this species. In
a four-week experiment, average productivity of the AGM was double the
productivity in open ponds.
For our second nutraceutical product we intend to cultivate another microalgae
species that has never been cultivated outside the laboratory. Based on past
performance of the AGM, we do not anticipate any extraordinary challenges in
producing this microalgae.
PRODUCTION CAPACITY. Astaxanthin production is now utilizing 100% of our
finishing pond production capacity. However, we purposely planned excess
production capacity in AGM photobioreactors and final
58
<PAGE>
processing. This approach allows us several important options.
1) ASTAXANTHIN PRODUCTION. We can increase astaxanthin production in
two ways:
- OPTIMIZATION. In the past year we increased astaxanthin
content by 50% (from 2% to 3%), and tripled HAEMATOCOCCUS
productivity. This 4.5X increase in production was due
entirely to optimizing growing conditions through research. We
believe more optimization is possible. We have recently
achieved 6% astaxanthin content in the laboratory, which alone
would double our production. We could more than triple
production if we attain the greater than 10% content reported
in the scientific literature. We are now working on additional
methods which, if applied in AGMs and finishing ponds, might
independently double production. Based on our operations to
date, we believe that optimized production will require no
additional capital.
- MORE PONDS. We can increase production capacity five-fold by
creating additional finishing ponds. We have property
available for additional ponds, and pond construction is
relatively low in capital cost. We will exercise this option
only in response to market demand.
2) OTHER MICROALGAE. We are now focused on microalgae that do not
require the use of finishing ponds in the production process. This
approach allows us to use the 80% excess capacity we have in AGMs.
We can devote this AGM production capacity to:
- OUR SECOND NUTRACEUTICAL PRODUCT. We believe we can produce
enough microalgae to sustain our first year's production in
this new market, without any increase in production capacity.
We base this belief on knowledge - reported in the scientific
literature - regarding growth rates and content of the
bioactive compound in this species. We intend to optimize
yields and processing protocol in pilot production runs over a
period of no less than six months.
- ADDITIONAL PRODUCTS. Currently, we can simultaneously grow up
to five different microalgae species at full production scale.
We do not intend any of this production for immediate sales.
However, the rigorous process of pilot production and
processing allows us to:
1. optimize productivity;
2. formulate the finished product; and
3. ascertain production economics based on careful
measurements rather than assumptions.
MARKETING AND SALES
Our primary business strategy is to establish our reputation as the global
leader in developing and manufacturing high value microalgae products. Our
marketing strategy may vary depending on the product and its market, but is
based on these two fundamental principles:
1) CREATE AN ALLIANCE WITH THE CONSUMER. In each of our currently
chosen markets, the "consumers" are quite different. The consumers
of AQUAXAN-TM- are animal feed companies. The consumers of
nutraceutical astaxanthin are individuals. The consumers of DRUGS
FROM THE SEA-TM- are biopharmaceutical companies. In each of these
markets, we seek a relationship that allows direct communication
and mutual benefit. This type of relationship ensures that
59
<PAGE>
the consumer receives current and accurate information regarding
the product, and that we receive information enabling us to
improve the product.
2) SELL DIRECTLY TO THE CONSUMER. This approach should always allow
us to maximize profit. In markets where competitors do not sell
directly to the consumer, our ability to minimize cost to the
consumer may offer a competitive edge.
AQUAXAN-TM-. The international nature of the animal feed market requires
reliance on global feed producers or distributors. Our relationship with Cultor,
the world's second largest user of astaxanthin in animal feed, has allowed us to
develop certain strategic research and development, sales and marketing and
distribution arrangements. At the same time our recently modified agreement,
which is in effect for two more years, releases us from the requirement to sell
exclusively to or through Cultor. We are currently working through Cultor and
other companies on product trials in various countries. These trials are
designed to provide data that will fulfill regulatory requirements, and thus
further expand our market. We believe our strategic relationship with Cultor has
reduced the time to market and increases the likelihood of market acceptance for
AQUAXAN-TM-.
Sales of AQUAXAN-TM- began in July 1999 to a European life science company, and
in September 1999 to a Japanese company. Our strategy is to build market share
based on a reputation for quality and dependability. We believe there is a
perception in this market that other producers of natural astaxanthin have
failed to deliver product of consistently high quality. We believe this market
has a strong pent-up demand for natural astaxanthin, and that demand will fall
upon the first dependable producer of a high quality product. Based on our
production capability and the quality of our product, we anticipate receiving
more orders for AQUAXAN-TM- in the near future. We will determine whether to
capitalize additional production capacity for AQUAXAN-TM- based on the demand
for the product.
NUTRACEUTICAL ASTAXANTHIN. On March 30, 2000, we began sales of our
nutraceutical astaxanthin product. We are actively considering certain proposals
that include strategic alliances, distributorships and direct sales. We prefer a
direct sales approach. However, we would consider entering into a strategic
alliance that offered greater marketing or distribution capability along with
significant profit sharing.
DRUGS FROM THE SEA-TM-. The market for our drug discovery products is the
biopharmaceutical industry. We believe that microalgae-derived substances with
demonstrated bioactivity represent a substantially new source of potential
pharmaceuticals. Unlike many biotechnology companies, we do not intend to
develop the expertise necessary to carry any drug candidate through the entire
process of regulatory approval. Instead, we prefer to focus on developing
substances to the pre-clinical stage, and then to rely on strategic alliances to
take drug candidates through the regulatory process. This approach may diminish
our percentage ownership or revenues related to any approved drug. However, this
strategy allows us to focus on our expertise in microalgae cultivation and
biochemistry. We intend to rely on strategic alliances with companies in the
biopharmaceutical industry that have much greater resources than we do in areas
of lead optimization, regulatory approval, sales and marketing.
We expect our first Microalgae Compound Library to be available in 2000. Our
marketing approach is to directly contact senior managers and scientists in
biopharmaceutical companies we have identified as potential alliance partners.
We have already received strong expressions of interest in our libraries from
several companies. For more information on this market, please see "Management's
Plan of Operation - (4) Drug Discovery Libraries."
60
<PAGE>
STRATEGIC ALLIANCES AND PARTNER RELATIONSHIPS
ENZYMED
In December 1998, we entered into a Compound Library Agreement with EnzyMed to
develop libraries of compounds that would be researched for new drug candidates.
As part of this collaboration, we have agreed to (1) identify and cultivate
bioactive microalgae species, and (2) chemically extract, test, and purify the
bioactive fractions. Our tests rely on cell cultures, human tissue cultures and
genomic screens, conducted in collaboration with certain university research
laboratories. EnzyMed has agreed to apply its proprietary process of
"Combinatorial Biocatalysis" to our unique extracts of microalgae. From each
unique extract, this enzymatic process creates scores of compounds, many of
which may be new to medical science. EnzyMed has demonstrated capability in
Combinatorial Biocatalysis. EnzyMed's contract customers for this type of "lead
optimization" include Merck, Lilly, Hoffman-LaRoche, Novartis and other
biopharmaceutical companies.
The compounds resulting from Combinatorial Biocatalysis comprise the
"libraries." We believe that Microalgae Compound Libraries will be viewed as
uniquely valuable to the biopharmaceutical industry because they represent a
resource of great diversity that has yet to be explored.
We have agreed with EnzyMed to jointly market these libraries to biotechnology
and pharmaceutical companies that would screen the libraries for new drug
candidates. To the extent we are able to enter into typical industry agreements
in connection with our drug discovery efforts, we anticipate deriving revenues
from the following:
- library access fees, with access limited in time and restricted to
certain disease areas;
- license fees for any drug candidate that emerges from screening;
- milestone payments triggered by generally recognized steps in the
FDA drug approval process; and
- royalties on sales of any approved drug.
CULTOR
In May 1996, we entered into a three-year exclusive Distribution and Development
Agreement with Cultor. We agreed to act as the exclusive worldwide supplier of
natural astaxanthin from microalgae to Cultor in the field of animal feed and
animal nutrition and Cultor agreed to act as the exclusive worldwide distributor
of our natural astaxanthin in the field of animal feed and animal nutrition. We
also entered into a Stock Subscription Agreement under which Cultor purchased
400,000 shares of our common stock at a purchase price of $0.50 per share. In
January 1998 we extended the Distribution and Development Agreement to four
years. In June 1999, we modified the agreement and extended it through June
2001.
The following description of certain terms and conditions of the Cultor
Distribution and Development Agreement does not purport to be complete and is
qualified in its entirety by reference to the definitive agreement.
THE INITIAL AGREEMENT. Key features of the Cultor Distribution and Development
Agreement initially provided for:
- PRODUCT DEVELOPMENT. Aquasearch and Cultor would jointly develop a
natural astaxanthin product for use in animal feeds. Cultor would
take prime responsibility for conducting product trials,
establishing a product identity and obtaining regulatory
approvals.
61
<PAGE>
- PRODUCTION. We would meet certain production targets in September
1997 and September 1998.
- MARKETING, SALES AND DISTRIBUTION. Cultor would be responsible
for selling the product through its global distribution network.
- PROFIT SHARING. We would share equally in the margin between the
production cost and the net sales price, less commissions and
distribution costs.
- A JOINT VENTURE OPTION. Cultor could, at its option, form a joint
venture with us for the exclusive purpose of producing astaxanthin
for use in animal feeds, in which it would have a minimum of 50%
ownership.
In 1996 and 1997 Cultor devoted substantial resources to conducting product
trials, market research, and product and trademark registration. By mid-1997, we
were unable to raise enough capital to expand our production capacity to meet
our production targets. We agreed to extend our agreement by one year.
THE 1998 MODIFIED AGREEMENT. We agreed to move production and sales targets up
by one year, to September 1998 and September 1999, and to extend the agreement
through September 2000.
We raised enough capital to begin expanding our production capacity in early
1998. Cultor participated in the expansion by providing to us a senior engineer
with substantial experience in design and construction of bio-product
manufacturing plants, who spent many weeks on site throughout the process of
design and construction. We expected construction to be completed later than our
September target date, but both companies continued to plan a product launch.
In early 1999 Danisco, a Danish food products company, acquired Cultor. New
management has made certain strategic decisions that may ultimately involve the
sale of Cultor companies, including Ewos, that would have an interest in
AQUAXAN-TM-. For the time being, however, Cultor remains intact and maintains
certain marketing and distribution channels pertinent to AQUAXAN-TM-.
THE 1999 MODIFIED AGREEMENT. In June 1999, we amended our agreement with Cultor
with the following significant modifications:
- TRADEMARK. The AQUAXAN-TM- brand name, with registration approved
or pending in 16 countries, is transferred to us.
- PRODUCT DEVELOPMENT. Cultor will continue to assist us in
conducting product trials and obtaining regulatory approvals, and
we will pay associated costs.
- MARKETING, SALES AND DISTRIBUTION. Cultor agrees to purchase a
certain minimum amount of Aquaxan-TM- through June 2000.
- EXCLUSIVITY. We are released from the requirement to sell
AQUAXAN-TM- exclusively to or through Cultor, but Cultor is
committed to purchasing AQUAXAN-TM- from us, provided that it
meets or exceeds mutually agreed specifications.
- CULTOR IS A PREFERRED CUSTOMER. Cultor may continue to market
AQUAXAN-TM- for two years, through June 2001. Cultor has the right
to pre-empt any purchase of a certain significant amount by other
customers, provided Cultor meets the terms of such a proposed
sale.
- NO JOINT VENTURE. We retain all potential ownership of
AQUAXAN-TM- production. Cultor relinquishes its option to form a
joint venture.
We have developed a strong working relationship with Cultor over the past few
years, and we believe our current agreement supports a continuing alliance of
mutual benefit. We expect sales through Cultor to begin shortly.
62
<PAGE>
MARBEC
Our Industrial Partnership in MarBEC is key to developing our product pipeline.
MarBEC is a 5-year, $26 million Engineering Research Center, or ERC, funded in
1998 by the U.S. National Science Foundation. There are fewer than two dozen
ERCs in the U.S. In 1998, more than 160 universities competed for only 5 ERCs
awarded by the National Science Foundation.
MarBEC combines the expertise of world-leading marine science and ocean
engineering programs at the School of Ocean and Earth Sciences and Technology at
University of Hawaii with the nationally-famous chemical engineering program at
the Department of Chemical Engineering at the University of California,
Berkeley.
MarBEC's main research focus is the discovery and development of new products
from microalgae. The Industrial Partnership, for which we have agreed to pay
$20,000 annually, provides the following specific benefits:
- new research results prior to public disclosure;
- preferential rights to intellectual property;
- privilege to sponsor focused research, resulting in exclusive
intellectual property rights;
- preferred access to specialized and unique facilities and
equipment;
- preferred access to microalgae culture collections;
- membership on the Industrial Advisory Board along with current
members Monsanto, Cargill, Inc. and Cyanotech;
- opportunity to influence specific research; and
- preferential access to student interns.
On average, ERCs have 35 industry partners. The prime benefits cited by industry
partners in other ERCs include networking with related companies, advance
awareness of new products and technology and the availability of graduates with
superior training and education as future employees.
COMPETITION
MICROALGAE CULTIVATION TECHNOLOGY
OPEN POND TECHNOLOGY. Open pond technology was developed in the 1950s and 1960s
and formed the basis of many commercial enterprises beginning in the 1970s. Many
companies throughout the world use open ponds to cultivate three species of
microalgae: SPIRULINA, DUNALIELLA and CHLORELLA. Despite numerous attempts to
cultivate other microalgae in open ponds, not a single new product has been
produced using this technology in the past 25 years. Our own research has
demonstrated that SPIRULINA production in AGMs is double that achieved in open
ponds. We do not intend to produce any microalgae in open ponds. We do not
believe this technology represents significant competition.
FERMENTATION. We are aware of two U.S. companies, Martek of Maryland and
Omega-Tech of Colorado, that produce commercial quantities of microalgae using
modified fermentation processes. Fermentation must be carried out in the dark.
Very few species of microalgae can grow in the dark, because most microalgae -
like most other plants - depend upon light to perform photosynthesis.
Furthermore, standard fermentation vessels must be significantly modified for
cultivating marine organisms because the common vessel material, stainless
steel, is rapidly corroded by saltwater. Fermentation may prove effective for
cultivating certain microalgae, but we believe its application is severely
limited.
63
<PAGE>
HARVESTING FROM THE WILD. We are aware of one company, Cell Tech of Oregon, that
harvests natural "blooms" of microalgae. A "bloom" is an unusually high
concentration of microalgae, generally dominated by a single species, that
usually occurs in spring or summer. We do not believe this process is
sufficiently dependable or controllable to represent significant competition.
First, microalgae blooms in nature are generally at least 10 times lower in
concentration than cultivated microalgae. Second, relatively few species of
microalgae actually create blooms. Third, the timing and intensity of blooms is
subject to local climate, water conditions, and other factors that are difficult
if not impossible to control. Finally, many blooms may be dominated by a single
species of microalgae, but often include significant percentages of other
species that may not be desirable.
CLOSED SYSTEM PHOTOBIOREACTORS. We believe that AGM technology is the first
closed-system, process-controlled photobioreactor ever to be operated at
commercial scales larger than 2,750 gallons (10,000 liters). We are aware of
only two companies in the world - Biotechna of Australia and Thallia
Pharmaceuticals of France - that possess proprietary photobioreactor technology.
Compared to the AGM, we believe that both of these photobioreactors:
- are much smaller in scale;
- have a more limited operating history; and
- are more sensitive to significant cost barriers.
Although many other photobioreactors are in operation, to our knowledge all are
operated by universities or research institutes, are 100 times smaller than the
Ultra-AGM, and are not used for commercial purposes. It is possible that
competing photobioreactor technologies already exist, or may emerge in the
future, that could adversely affect our perceived technical and competitive
advantages. However, we believe that AGM technology is now more advanced than
any other photobioreactor technology. For more information on the AGM
technology, please see "Description of Business - Microalgae Production
Technology - The Aquasearch Growth Module (AGM)."
AQUAXAN-TM-
Competitors in the market for astaxanthin used in animal feed include BASF,
Hoffman-LaRoche, Cyanotech, AstaCarotene and Igene. Of these, only Cyanotech and
AstaCarotene produce natural astaxanthin from Haematococcus. Cyanotech's current
product has significantly lower astaxanthin content than Aquaxan-TM-, which we
believe provides us with a competitive advantage. We believe that AstaCarotene's
production capability in Sweden is much more capital-intensive than ours, and
therefore provides us with a cost advantage. We believe that Igene's yeast
product, the chemical form of which is different from that found in nature,
although possibly successful in the Americas, may face serious
consumer-acceptance in Europe. Currently, the synthetic astaxanthin manufactured
by BASF and Hoffman-LaRoche dominates the market. Both of these companies have
significantly greater research and development, technical, financial,
management, marketing and sales resources than we do. However, synthetic
astaxanthin can be differentiated from the natural alternative, which we believe
may provide us with certain competitive advantages. Although BASF and
Hoffman-LaRoche may continue to dominate the $185 million market for
astaxanthin, we believe that a significant niche exists for a high quality,
natural source of astaxanthin.
Hoffman-LaRoche has maintained the market price of synthetic astaxanthin at
approximately $2,500 per kilogram for more than a decade, when no viable
competitive product was available. However, Hoffman-LaRoche could reduce the
price of its synthetic astaxanthin product significantly in response to the
introduction of any competing natural astaxanthin product. Any such pricing or
other competitive pressure could have a material adverse effect on our business,
financial condition, results of operations and relationships with corporate
partners. Products of which we are not aware, or products that may be
64
<PAGE>
developed in the future, may also adversely affect the marketability of
AQUAXAN-TM-.
NUTRACEUTICAL ASTAXANTHIN
Many of the potential competitors for nutraceutical astaxanthin are the same as
for AQUAXAN-TM-. However, to our knowledge neither BASF nor Hoffman-LaRoche has
indicated an interest in this market. Furthermore, we believe that consumers of
nutraceuticals prefer products from natural sources to synthetic ones, and will
not pay premium prices for synthetics if they are available. We are aware of
many companies interested in marketing nutraceutical astaxanthin, but of these
only Cyanotech and AstaCarotene produce the product from HAEMATOCOCCUS. We
believe our production process has cost advantages over those of both companies
- - a lower production cost than Cyanotech because our product is twice as
concentrated, and a lower capital cost than AstaCarotene because Hawaii's
climate requires less costly modification than Sweden's climate. The remaining
known producers of astaxanthin may face certain challenges that we do not. We
believe that the krill extract sold by Itano of Japan is much more expensive to
produce than HAEMATOCOCCUS. We believe that Igene's genetically-modified yeast
product may not be as readily accepted as our natural astaxanthin product by
consumers of nutraceuticals.
DRUGS FROM THE SEA-TM-
The search for new pharmaceuticals is more intensive than it has ever been.
According to a report on the biopharmaceutical industry issued by Andersen
Consulting in November 1997, drug companies will have to expand their product
pipelines by a factor of 10 in the five years ending 2002 in order to maintain
the industry's historic growth rate of 15% per year. The majority of new drugs
originate from natural sources. The pharmaceutical industry must explore
bacteria, fungi, plants and animals for new drugs.
We believe that DRUGS FROM THE SEA-TM- could be a significant source of new
drugs, because it offers the potential to screen almost half the plant kingdom
for the first time. We are not aware of any significant commercial effort to
screen microalgae. Biopharmaceutical companies are reluctant to screen any
natural substance that cannot be "re-grown" in quantities sufficient to supply
the requirements of clinical trials. Laboratory scale photobioreactors cannot
supply enough material for clinical trials. We believe this lack of supply is
the main reason that biopharmaceutical companies have not shown great interest
in screening microalgae.
Competition is not likely to come from companies that provide bacteria or fungi.
Soil bacteria and fungi have been so thoroughly screened for pharmaceuticals
that more than 95% of so-called "active leads" identified in screening programs
prove to be rediscoveries of known compounds.
We believe that potential competitors in this market must have the demonstrated
ability to cultivate kilogram quantities of raw material under controlled
conditions that assure repeated quality. In our opinion, AGM technology makes
this possible. We are not aware of any competing technology that can meet the
requirements for repeated production of kilogram quantities of microalgae of
stable quality. We are not aware of any other microalgae company engaged or
interested in the possibility of pharmaceutical drug development that also has
the capability of large-volume, commercial scale cultivation represented by our
AGM technology.
COMPETITION IN GENERAL
We intend to develop other natural products from microalgae that will compete
with existing natural and synthetic products. We anticipate that competition to
develop additional microalgae products will be intense. Our future competitors
could include major pharmaceutical, food processing, chemical and specialized
biotechnology companies, many of which will have financial, technical and
marketing
65
<PAGE>
resources significantly greater than ours. Specialized biotechnology companies
may form collaborations with large established companies to support research,
development and commercialization of products that may compete with our future
products. Academic institutions, governmental agencies and other public and
private research organizations are conducting research activities and seeking
patent protection and may commercialize products that compete with ours. Any
products of which we are not aware, or products that may be developed in the
future, may adversely affect the marketability of new products we develop.
Our competitive position will also depend on our ability to attract and retain
qualified scientific and other personnel, develop effective proprietary
products, successfully perform under any supply agreements, implement research
and development and production plans, obtain patent protection and secure
adequate capital sources.
PATENTS, LICENSES AND PROPRIETARY TECHNOLOGY
We rely upon a combination of patents, copyright protection, trade secrets,
know-how, continuing technological innovation and licensing opportunities to
develop and maintain our competitive position. Our future prospects depend in
part on our ability to obtain patent protection for our products and processes.
We need to preserve our copyrights, trademarks and trade secrets. We also need
to operate without infringing the proprietary rights of third parties.
We have been awarded a total of nine patents, relating to three inventions:
- the AGM apparatus (Europe, Australia, Norway, Hong Kong, South
Korea);
- general processes for cultivating microalgae in photobioreactors
(U.S., Europe, Australia); and
- processes for cultivating HAEMATOCOCCUS (U.S.).
Five of these patents were issued in the first six months of 1999 alone. We have
additional patents pending internationally and in the United States.
The patent positions of biopharmaceutical and biotechnology companies, which are
similar to ours, are generally uncertain and involve complex legal and factual
questions. We cannot guarantee that any of our pending patent applications will
result in issued patents, nor can we assure that we will develop more
proprietary technologies that are patentable. Patents issued to our strategic
partners or us may not provide a basis for commercially viable products or may
not provide any competitive advantages. Our patents could be challenged by third
parties. The patents of others could limit our ability to use certain processes
or technologies. Any of these preceding situations could have a material adverse
effect on our ability to do business. Furthermore, patent law relating to the
scope of claims is still evolving in the technology fields in which we operate.
As a result, the degree of future protection for our proprietary rights is
uncertain. We cannot prevent others from independently developing similar or
alternative technologies, duplicating any of our technologies, or, if patents
are issued to us, designing around our patented technologies. We could incur
substantial costs in litigation if we are required to defend ourselves in patent
suits brought by third parties or if we initiate such suits.
Others may have filed and in the future are likely to file patent applications
that are similar or identical to ours. To determine the priority of inventions,
we may have to participate in interference proceedings declared by the United
States Patent and Trademark Office. Such proceedings could result in substantial
cost to us. We cannot ensure that any such third-party patent application will
not have priority over ours. Additionally, the laws of certain foreign countries
may not protect our patent and other intellectual property rights to the same
extent as the laws of the United States.
66
<PAGE>
Our future prospects also depend in part on our neither infringing patents or
proprietary rights of third parties nor breaching any licenses that may relate
to our technologies and products. We cannot guarantee that we will not infringe
the patents, licenses or other proprietary rights of third parties. We could in
the future receive notices claiming infringement from third parties as well as
invitations to take licenses under third party patents. Any legal action against
our strategic partners or us that claim damages and seek to enjoin commercial
activities relating to the affected products and processes could subject us to
potential liability for damages. Such legal actions could also require our
strategic partners or us to obtain a license in order to continue to manufacture
or market the affected products and processes. We cannot ensure that our
strategic partners or we would prevail in any such action. We cannot ensure that
any license, including licenses proposed by third parties, required under any
such a patent would be available on terms that are commercially acceptable, if
at all. We have not conducted an exhaustive patent search and we cannot ensure
that patents do not exist or could not be filed that would have a material
adverse effect on our ability to develop and market our products. There are many
United States and foreign patents and patent applications in our area of
interest. We believe there could be significant litigation in the industry
regarding patent and other intellectual property rights. If we become involved
in such litigation, it could consume a substantial portion of our managerial and
financial resources, which could have a material adverse effect on our business,
financial condition, results of operations, and relationships with corporate
partners. Please see "Legal Proceedings."
The enactment of legislation implementing the General Agreement on Trade and
Tariffs, effective June 8, 1995, has changed certain United States patent laws.
Most notably, the term of patent protection for patent applications filed on or
after that date is no longer a period of seventeen years from the date of grant.
The new term of United States patents begins on the date of issuance and
terminates twenty years after the effective date of filing. This change in the
law could substantially shorten the term of our patent protection, which may
adversely affect our patent position.
We attempt to control the disclosure and use of our proprietary technology,
know-how and trade secrets under agreements with the parties involved. However,
we cannot ensure that others will honor all confidentiality agreements. We
cannot prevent others from independently developing similar or superior
technology, nor can we prevent disputes that could arise concerning the
ownership of intellectual property.
GOVERNMENT REGULATION AND PRODUCT TESTING
Our current and potential products, and our manufacturing and research
activities, are or may become subject to varying degrees of regulation by many
government authorities in the United States and other countries. Such regulatory
authorities could include the State of Hawaii Department of Health, the U.S.
FDA, and comparable authorities in foreign countries. Each existing or potential
microalgae product intended for human use that we develop or market, either
directly or through licensees or strategic partners, may present unique
regulatory problems and risks. Relevant regulations depend on product type, use
and method of manufacture. The FDA regulates, in varying degrees and in
different ways, dietary supplements, other food products, medical devices and
pharmaceutical products. Regulations govern manufacture, testing, exportation,
labeling and advertising.
Prescription pharmaceuticals and certain types of medical devices are regulated
more vigorously than foods, such as dietary supplements. Any products we develop
for use in human nutrition, pharmaceuticals, or cosmetics, could require that we
develop and adhere to GMP as suggested by the FDA, ISO standards as suggested in
Europe, and any other applicable standards mandated by federal, state, local or
foreign laws, regulations and policies. Our current facilities and procedures do
not yet fully comply with GMP or ISO standards. However, we have initiated a
plan aimed at becoming GMP-
67
<PAGE>
compliant in 2000, and ISO-compliant shortly thereafter. It may be possible in
the very near future to simultaneously qualify for both ISO 9000 and ISO 14000,
and we may prefer to do so because compliance procedures can be expensive.
We are or may become subject to other federal, state and foreign laws,
regulations and policies with respect to labeling of products, importation of
organisms and occupational safety, among others. Federal, state and foreign
laws, regulations and policies are always subject to change and depend heavily
on administrative policies and interpretations. We are working with Cultor,
other distributors and potential customers to achieve compliance with foreign
laws, regulations and policies pertaining to AQUAXAN-TM-. We are also working
with certain consultants regarding compliance with FDA, GMP and ISO policies and
regulations. We cannot ensure that any of our products will satisfy applicable
regulatory requirements. Changes could occur in federal, state and foreign laws,
regulations and policies and, particularly with respect to the FDA or other such
regulatory bodies, such changes could be retroactive. Such changes could have a
material adverse effect on our business, financial condition, results of
operations and relationships with corporate partners.
Regulatory authorities may view AQUAXAN-TM- as a food additive. Any
nutraceutical product we develop will be viewed as a human dietary supplement.
The FDA will require pre-market clearance for both of these product types if
they are intended for ultimate human consumption in the United States. The
process of obtaining FDA clearance for either a food additive or a human dietary
supplement can be expensive and time consuming, although significantly less
expensive than the process for obtaining clearances for a new pharmaceutical.
Extensive information is required on the toxicity of the additive, including
carcinogenicity studies and other animal testing. The FDA approved the
Hoffman-LaRoche synthetic astaxanthin product as a food additive in 1995, but
this does not guarantee that the FDA will grant similar approval for
AQUAXAN-TM-. FDA clearance for dietary supplements can be obtained by notifying
the FDA in writing of our intention to market a certain product and, if we do
not receive any objection within a certain period of time, approval is implied.
We cannot ensure that any of our potential products will be cleared by the FDA
on a timely basis, if at all.
AQUAXAN-TM- and our nutraceutical astaxanthin product are likely to be
distributed in foreign countries, including the European Union, Japan, Canada
and Australia. Regulatory approvals in foreign markets vary by country.
AQUAXAN-TM- has been approved in Sweden for use in poultry feed and is
considered by the Swedish authorities as a feed ingredient rather than a food
additive. We believe the approval process for both AQUAXAN-TM- and our
nutraceutical astaxanthin product in Australia, Japan and certain other Asian
countries will come under their "natural" status and be approved relatively
quickly; however, we can provide no assurances in this regard. AQUAXAN-TM- has
not been submitted to the European Union for approval, and we cannot guarantee
that the determination by Swedish authorities will have any influence on the
determination to be made by the European Union.
We are also subject to numerous environmental and safety laws and regulations,
including those governing the use and disposal of hazardous materials. Any
violation of, and the cost of compliance with, these regulations could have a
material adverse effect on our business, financial condition, results of
operations and relationships with corporate partners.
EMPLOYEES
As of January 31, 2000, we had 27 full-time employees, of whom five have Ph.D.s.
Thirteen are involved in the production and harvesting process, seven are
involved in research and development and seven are involved in administration
and support. We consider relations with our employees to be very good. None of
our employees are covered by a collective bargaining agreement.
68
<PAGE>
PROPERTIES
Our research, development and production facilities are located in the Hawaii
Ocean Science and Technology (HOST) Business Park in Kailua-Kona, Hawaii. Our
facility currently consists of approximately five leased acres containing a
number of AGMs, finishing ponds, a processing facility, several laboratories,
administrative offices and additional space for production and research and
development. All our products are currently produced at this facility. We have
no production facilities or offices outside the State of Hawaii.
We believe the location of our business in Hawaii and, in particular, the
location of our facility in the HOST Business Park provide us with important
competitive advantages. A combination of several factors make our facility at
the HOST Business Park a favorable location to produce various species of
microalgae:
- consistent warm temperatures;
- abundant sunlight;
- low rainfall;
- access to HOST Business Park scientific equipment, personnel and
facilities;
- tax incentives; and
- the provision of cold, clean seawater.
We believe that microalgae production facilities located in areas that lack
these characteristics probably have much higher costs of production and fewer
production days per year than we do at our facility.
At the HOST Business Park, we have access to cold, clean deep seawater that is
pumped up from a depth of 2,000 feet. This seawater is used as a means of
controlling temperature of the AGM, and could also be used as a source of
nutrients for cultivating marine microalgae. We have access to a complete
industrial infrastructure in Kailua-Kona. We are located only 30 miles from a
deep water port and are immediately adjacent to an international airport.
We believe the HOST Business Park is an excellent location for our current
facility. The seawater utility at this location is unparalleled for very
large-scale commercial production of marine microalgae. To our knowledge,
nowhere else in the world is there a location with the volume, purity and low
cost of seawater we have available at the HOST Business Park. Large facilities
for producing freshwater microalgae will be more economical at locations other
than the HOST Business Park. The cost of site work in old lava at Kailua-Kona is
more expensive than in many Hawaii locations where soil prevails. Conditions for
very large-scale commercial production of microalgae are exceptional throughout
the Hawaiian Islands. Our location on the Hawaiian Islands provides us with
large tracts of available land with moderate temperatures, high sunlight, low
rainfall, easy access to fresh water, cooling sea water and power, a favorable
business environment and proximity to the renowned marine biotechnology
expertise at MarBEC and the University of Hawaii. We believe the Hawaiian
Islands provide one of the most advantageous and economical locations in the
world to cultivate microalgae on a commercial scale.
The concentration of our existing and planned research and development
facilities and production facilities in the HOST Business Park or elsewhere in
Hawaii involves various risks and uncertainties from potential natural disasters
such as volcanic eruptions, earthquakes, tidal waves, hurricanes and related
phenomena indigenous to Hawaii.
We have started the application process for a 30-year lease of our current five
acre parcel from the Natural Energy Laboratory of Hawaii Authority, the state
entity which administers the HOST Business
69
<PAGE>
Park. Leases of 30 years have historically been awarded to companies once they
have completed their research and development stage, which we have completed.
The government-administered process to award a thirty-year lease has usually
taken less than two years. More than half of the 800-acre HOST Business Park
facility is currently undeveloped. We believe that, as one of the fastest
growing and largest employers in HOST Business Park, our lease application is
likely to be considered favorably, although we can provide no assurances in this
regard.
On November 14, 1996, we executed a Letter of Intent with C. Brewer to acquire
between 80 and 90 acres of C. Brewer property in the Ka'u region of the Big
Island of Hawaii, valued at between $900,000 and $1,000,000. C. Brewer agreed to
accept between 2,570,000 and 2,850,000 shares of our common stock at a purchase
price of $0.35 per share and acquire a three-year warrant to purchase up to
500,000 shares of common stock at a purchase price of $1.25 per share. We have
not consummated the transaction with C. Brewer. We decided we do not yet need 80
to 90 acres of land, because production at our current facility has increased
beyond expectation.
LEGAL PROCEEDINGS
On July 13, 1998, Cyanotech filed a complaint against us in the United States
District Court for the District of Hawaii (Case No. CV98-00600ACK). In the
complaint, Cyanotech sought declaratory judgment of non-infringement of our U.S.
Letters Patent No. 5,541,056 (the "5,541,056 Patent"); invalidity of the
5,541,056 Patent; and non-misappropriation of our trade secrets relating to
closed culture production of astaxanthin. Cyanotech filed the complaint after we
expressed to Cyanotech our concern that Cyanotech infringed the 5,541,056 Patent
and misappropriated our trade secrets.
On September 11, 1998, we filed an answer denying all of Cyanotech's allegations
and a counter claim, alleging infringement of the 5,541,056 Patent;
misappropriation of trade secrets; unfair competition; and breach of contract
relative to the parties' 1994 Dissolution Agreement.
On December 14, 1998, Cyanotech filed a motion for partial summary judgment of
non-infringement and invalidity of the 5,541,056 Patent.
On March 1, 1999, we filed a motion for partial summary judgement against
Cyanotech for breach of contract and misappropriation of trade secrets. On March
26, 1999, we filed a cross-motion for summary judgment of patent infringement.
All motions for summary judgment were heard in November 1999.
On December 30, 1999 the United States District Court for the District of Hawaii
granted summary judgment on our motion that Cyanotech infringed the our patent,
misappropriated our trade secrets and breached the terms of the parties' 1994
Dissolution Agreement. In its order, the Court found that the tube process used
by Cyanotech for cultivating microalgae infringed the 5,541,056 Patent. The
Court further found that Cyanotech violated the Uniform Trade Secrets Act and
breached the 1994 Dissolution Agreement when it misappropriated trade secrets
relating to our proprietary closed-system technology for cultivation of
microalgae.
In addition, the Court denied Cyanotech's motion for partial summary judgment of
non-infringement and invalidity of our patent. In doing so, the Court upheld the
validity of the 5,541,056 Patent.
On January 14, 2000, Cyanotech filed a motion for reconsideration on the Court's
December 30, 1999 order. We filed our opposition to the motion for
reconsideration on February 1, 2000.
On March 3, 2000 the Court denied Cyanotech's motion for reconsideration.
70
<PAGE>
We may be required to dedicate significant management time and incur significant
legal fees and expenses to continue our pursuit and settlement of this action,
which could have a material adverse effect on our business, financial condition,
results of operations and relationships with corporate partners. In addition, in
the event that Cyanotech were to prevail in an appeal of the Court's ruling, a
finding of noninfringement or declaration of invalidity of our patent could have
a material adverse effect on our business, financial condition, results of
operations and relationships with corporate partners.
KEY SCIENTISTS
Our scientists, as a group, lead all aspects of product development, process
optimization and the research upon which our business is based.
DR. MAI D. G. LOPEZ received her B.S. (CUM LAUDE) in Biology from University of
the Philippines in 1975, her M.S., also in Biology from University of the
Philippines, in 1981, and earned her Ph.D. in Marine Biology from University of
California, San Diego in 1991. Dr. Lopez leads the research effort on
protozoans, and has been a leading contributor to quality control and production
practices since joining us in 1999. Her research career has focused on the role
of microalgae in the nutrition of numerous species of marine invertebrates, an
area in which she has published 24 scientific papers. She has held an academic
teaching and research position at University of the Philippines (1991-92), and
positions of Visiting Research Scientist at University of Hawaii (1992-94), and
Research Scientist at Scripps Institution of Oceanography (1994-98).
DR. MARK E. HUNTLEY received a B.Sc. degree (SUMMA CUM LAUDE) in Biology from
the University of Victoria, Canada in 1976 and earned a Ph.D. in Biological
Oceanography from Dalhousie University in Halifax, Canada in 1980. Dr. Huntley
is our President, Chief Executive Officer and Chairman of the Board, and also
holds a faculty research appointment at the Hawaii Natural Energy Institute,
School of Ocean and Earth Sciences and Technology, University of Hawaii at
Manoa. He was a Research Biologist at Scripps Institution of Oceanography,
University of California, San Diego from 1980 to 1998. Dr. Huntley has won
numerous awards and grants in his field, published more than 75 articles and a
book, and lectured throughout the world. He served for 10 years on the Executive
Committee of the Global Ocean Ecosystem Dynamics program (1989-1999), a
component of the U.S. Global Change Research Program, and the only element of
the International Geosphere-Biosphere Program that is examining the impact of
global climate change on marine ecosystems. He has served as an advisor to
numerous international, national, and state agencies, including the United
States Department of State, the United States Department of Interior and the
White House Office of Science and Technology Policy. Dr. Huntley is one of our
co-founders and a co-inventor of the Aquasearch Growth Module.
DR. WALTER NORDHAUSEN received his Diplom in Biology from the University of
Gottingen, Germany in 1986, his M.Sc. in Biological Oceanography from University
of California, San Diego in 1989, and earned his Ph.D. in Marine Biology from
University of California, San Diego in 1993. Dr. Nordhausen is Director of
Operations and Technology Development at our facility at Keahole Point, Hawaii,
and oversees the development and integration of new technology into our
production processes. As a consultant to us in 1998, Dr. Nordhausen coordinated
engineers, contractors, and consultants to design and build a physical plant
entailing $2.5 million in capital improvements. As a Post-Doctoral Researcher at
Scripps Institution of Oceanography (1993-98), he organized and directed
oceanographic field campaigns in oceans of the Arctic, the Antarctic and the
South Pacific. His research career has focused on marine biology and
biochemistry, and involved the design, testing, and use of various
state-of-the-art electronic instruments for remote sensing.
DR. MIGUEL OLAIZOLA received his Ph.D. in Biological Oceanography from the State
University of New York at Stony Brook in 1993. Dr. Olaizola has led research in
pigment biosynthesis, microalgal
71
<PAGE>
physiology and productivity since joining us in 1996. He also administers our
internship program and manages our quality control laboratory. Dr. Olaizola
devoted his graduate and post-graduate research to the study of carotenoid
biosynthesis in microalgae, primarily diatoms and cyanobacteria. During 1993 to
1995, Dr. Olaizola was a Post-Doctoral Fellow at the Joint Research Center of
the European Commission in Italy. During 1995 and 1996, Dr. Olaizola was a
Post-Doctoral Researcher at Scripps Institution of Oceanography, University of
California, San Diego, where he studied microalgal growth and physiology. He has
been recently appointed as an Affiliate Professor of Aquaculture at the
University of Hawaii at Hilo and Adjunct Associate Researcher at the University
of Hawaii at Manoa.
DR. MIA D. UNSON received her B. S. in Biology from the Ateneo de Manila
University, Philippines (1986), graduating CUM LAUDE. She received her B. S. in
Chemistry (1987) also from the Ateneo de Manila University, and was awarded the
Departmental Award in Chemistry for the most outstanding graduating student that
year. She earned her Ph.D. in Oceanography, specializing in Marine Chemistry, in
1993 from the Scripps Institution of Oceanography, University of California, San
Diego. Dr. Unson leads Aquasearch programs in natural products chemistry and
drug discovery, directing collaborative projects with chemists and medical
researchers at other institutions. Her accomplishments include studies of
actinomycete thiol biochemistry, and purification and characterization of marine
natural products from various organisms including cyanobacteria. As a
postdoctoral research chemist in the Department of Chemistry and Biochemistry at
the University of California, San Diego (1995-99) Dr. Unson developed and is the
lead inventor on a pending patent application for a new tuberculosis
immunoassay. Her research career has focused on the development of bioactive
molecules.
SCIENTIFIC ADVISORY BOARD
The Aquasearch Scientific Advisory Board is composed of leading experts in
aquaculture, marine biology and fluid dynamics and the chemistry, photobiology,
genetics and mass culture of microalgae. The Scientific Advisory Board provides
us with guidance regarding the optimization of our production and processing
methods, and research and development pertaining to both existing and potential
microalgae products. The Scientific Advisory Board held its inaugural meeting in
May 1996 and was originally scheduled to meet approximately four times per year.
We have largely replaced such meetings with various forms of electronic
communication. We believe that the individual and collective knowledge and
experience of our Scientific Advisory Board provides us with an important
competitive advantage.
Current members of the Aquasearch Scientific Advisory Board are:
DR. FAROOQ AZAM received a B.Sc. in Chemistry and Physics in 1962, and M.SC. in
Chemistry and Biochemistry in 1964 from the University of Punjab, Lahore,
Pakistan; he received a Ph.D. in Microbiology, Czechoslovak Academy of Sciences,
Prague in 1968. Dr. Azam is a Professor of Biology at Scripps Institution of
Oceanography in La Jolla, California and one of the world's leading marine
microbiologists. Dr. Azam is noted for his discovery of the "microbial loop," a
pathway that diverts much of the ocean's productivity into bacteria and other
microbes. Before this pathway was discovered in the 1980s it was generally
believed that most of the ocean's productivity was passed up the food chain to
fishes and other predators. Dr. Azam's contributions changed the field of marine
biology.
DR. JOHN BARDACH received a B.Sc. in Zoology from Queen's University, Canada in
1946 and a Ph.D. in Zoology from University of Wisconsin in 1949. Dr. Bardach
has served as Director of the Bermuda Biological Station, the Hawaii Institute
of Marine Biology and the East-West Center, as well as Professor at the
University of Hawaii. Dr. Bardach's numerous international appointments have
included Chairmanship of the U.S. National Academy of Sciences Panel on Aquatic
Food Sources, the World Bank-FAO Panel on Aquaculture Research Needs of
Developing Countries, and the State of Hawaii Aquaculture Advisory Council.
Three of his books, HARVEST OF THE SEA, AQUACULTURE (now in its 25th
72
<PAGE>
printing) and SUSTAINABLE AQUACULTURE (published in 1997), establish him as one
of the fathers of modern aquaculture.
DR. ROBERT R. BIDIGARE received a B.S. (SUMMA CUM LAUDE) in Aquatic Biology from
Eastern Michigan University in 1977 and a Ph.D. in Biological Oceanography from
Texas A&M University in 1981. Dr. Bidigare currently is Associate Professor of
Oceanography at University of Hawaii, and a leading principal investigator in
MarBEC. Dr. Bidigare serves on the Advisory Board for the National Center for
the Culture of Marine Phytoplankton, is a member of the NASA SeaWIFS Science
Working Team and an observer on the International Oceanographic Commission Group
of Experts on Standards and Reference Materials. Dr. Bidigare has authored more
than 75 scientific papers, and is a recognized expert on plant pigment
chemistry, bio-optics and biochemistry of microalgae.
DR. JOHN CULLEN received a B.Sc. (Honors in Biology) from University of
California, Santa Cruz in 1974 and a Ph.D. in Biological Oceanography from
Scripps Institution of Oceanography, University of California, San Diego, in
1980. Dr. Cullen has held faculty positions at the University of Texas, the
Bigelow Laboratory for Ocean Sciences and Dalhousie University in Halifax,
Canada, where he now holds the Chair of Environmental Observation Technology.
Dr. Cullen's research has focused in the area of microalgae growth rates,
productivity, nutrient requirements and bio-optics.
DR. WILLIAM FENICAL received a B.S. in Biochemistry from California State
Polytechnic University in 1963, an M.S. in Organic Chemistry from San Jose State
University in 1965 and a Ph.D. in Organic Chemistry from University of
California, Riverside in 1968. Dr. Fenical joined the faculty of Scripps
Institution of Oceanography, University of California, San Diego, in 1973, where
he has served as Director of the University of California-wide Institute of
Marine Resources (1988-1993) and Director of the Marine Research Division since
1989. Dr. Fenical is recognized as one of the world's authorities on the
chemistry of marine natural products, an area in which he has published more
than 250 scientific articles. Dr. Fenical has served as an advisor on marine
natural product chemistry to the National Institutes of Health, the National
Research Council, and numerous pharmaceutical companies, including Sterling
Winthrop, Ligand, Pharmagenesis and Bristol-Myers-Squibb. He serves on the
editorial boards of the JOURNAL OF NATURAL PRODUCTS, MOLECULAR MARINE BIOLOGY
AND BIOTECHNOLOGY, and the JOURNAL OF MARINE BIOTECHNOLOGY. He holds seven
patents for novel chemical compounds of a biomedical nature, including a wrinkle
reducing agent that is the active ingredient in a skin cream marketed by Estee
Lauder, which produces more than $1 million per year in royalties for the
University of California.
DR. MALCOLM GREGORY received a B.Sc. (HONOURS) in Applied Microbiology from the
Bath University of Technology, UK in 1981, and a Ph.D. in Algaculture from
King's College, University of London, in 1985, where he focused his research on
cultivation of microalgae in tubular reactors. Dr. Gregory has more than fifteen
years experience in bioprocess engineering, specializing in process control.
With Cyanamid of Great Britain, he implemented control systems for bulk
antibiotics production. At the Interdisciplinary Research Centre for Process
Systems Engineering at University College, London, a world-renowned center for
excellence in biochemical engineering, he developed novel process control
methods now adopted in industry. He is an expert in microbiological process
control.
DR. PEARN NIILER received his B.S. degree from Lehigh University in 1960, earned
honors as a Fulbright Scholar at Cambridge University, England in 1961, and was
awarded a Ph.D. as a Woodrow Wilson Fellow from Brown University in 1964. Dr.
Niiler has taught and conducted research at Harvard College, Nova University and
Oregon State University. He is currently a Professor of Oceanography at Scripps
Institution of Oceanography, University of California, San Diego, where he heads
one of the largest oceanographic research programs in the nation. Dr. Niiler has
published more than 125 scientific papers and has invented various oceanographic
instrumentation technologies that are now in commercial production with sales of
$6 million annually. Dr. Niiler is an expert in applied mathematics and fluid
73
<PAGE>
mechanics and is a co-inventor of processes used in the Aquasearch Growth
Module.
DR. DONALD REDALJE received his B.S. in Environmental Biology from the
University of California, Santa Barbara in 1971 and his Ph.D. from University of
Hawaii in 1980. He has conducted research and taught at Scripps Institution of
Oceanography, University of California, San Diego, the Naval Postgraduate
School, Moss Landing Marine Laboratory, and the University of Southern
Mississippi, where he recently served as Director of the Center for Marine
Science. Dr. Redalje is internationally recognized for his development of a
method to measure the productivity of microalgae, and is an expert on the
biochemistry and physiology of marine plants. Dr. Redalje is one of our
co-founders and co-inventor of the Aquasearch Growth Module.
DR. ALADAR SZALAY received a M.Sc. in Biochemistry from the Martin Luther
University, Germany in 1966 and a Ph.D. in Biochemistry from the Martin Luther
University, Germany in 1972. He carried out post-doctoral research on plant
genetics at the California Institute of Technology. Dr. Szalay is founding
Director of the Center for Molecular Biology and Gene Therapy at the School of
Medicine of Loma Linda University in California. His career has been built on
the genetic engineering of plants, including microalgae, with nutritionally and
medically important traits. He is an expert on the genetics of microalgae. Dr.
Szalay holds numerous patents in the area of genetic engineering, including
transgenic patents and methods for preparing and using artificial chromosomes.
He has acted as an advisor to a variety of institutions and companies, including
Rockefeller Foundation, Allied Chemical, Siemens AG, and Boehringer Mannheim.
JOHN WESTERDAHL holds a B.S. in Foods and Nutritio, a Master's degree in Public
Health in nutrition and health education from Loma Linda University, and
additional degrees and certifications as a Master Herbalist, Registered
Dietitian, and Certified Nutrition Specialist. He is currently the Director of
Health Promotion and Nutritional Services at Castle Medical Center in Kailua,
Hawaii where he is responsible for programs and services in medical nutrition
therapy, preventive medicine and wellness. As Senior Nutritionist for 6 years at
Shaklee Corporation, a respected manufacturer of nutritional products, Mr.
Westerdahl was actively involved in corporate product development, research, and
technical support, including participation in human clinical trials. He is a
member of the American Dietetic Association, the American College of Nutrition,
the Association of Natural Medicine Pharmacists, and the American Society of
Pharmacognosy. Mr. Westerdahl has published extensively on the topic of human
nutrition, including recent publications in HANDBOOK OF PEDIATRIC NUTRITION and
MEDICINAL HERBS: A VITAL REFERENCE GUIDE.
We do not employ any members of the Scientific Advisory Board. Each member may
have commitments to other entities that could limit his availability to us.
There can be no assurance that we will be able to retain key Scientific Advisory
Board members.
74
<PAGE>
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information regarding our directors and
executive officers as of January 31, 2000.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------
NAME AGE POSITION
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Mark E. Huntley, Ph.D........................ 49 President, Chief Executive Officer
and Chairman of the Board
Earl S. Fusato............................... 52 Chief Financial Officer, Secretary and Director
Martin Guerin................................ 38 Vice-President, Sales and Marketing
David G. Watumull............................ 49 Executive Vice-President, Strategic Development and
Corporate Finance
Edward E. David, Ph.D........................ 74 Director
Pearn P. Niiler, Ph.D........................ 61 Director
David Tarnas................................. 39 Director
</TABLE>
MARK E. HUNTLEY, PH.D., is one of our co-founders, a co-inventor of the
Aquasearch Growth Module and has served as our President, Chief Executive
Officer and Chairman of the Board since 1992. He also currently holds a faculty
research appointment at the School of Ocean and Earth Sciences, University of
Hawaii at Manoa. Dr. Huntley was a Research Biologist at Scripps Institution of
Oceanography, University of California, San Diego from 1980 to 1998. He has won
numerous awards and grants in his field, published more than 75 articles and a
book, and lectured throughout the world. He served for 10 years on the Executive
Committee of the Global Ocean Ecosystem Dynamics program (1989-1999), a
component of the United States Global Change Research Program, and the only
element of the International Geosphere-Biosphere Program that is examining the
impact of global climate change on marine ecosystems. Dr. Huntley has served as
an advisor to numerous international, national and state agencies, including the
United States Department of State, the United States Department of the Interior
and the White House Office of Science and Technology Policy. Dr. Huntley
received a B.Sc. degree (SUMMA CUM LAUDE) in Biological Oceanography from the
University of Victoria, Canada 1976 and a Ph.D. in Biological Oceanography from
Dalhousie University in Halifax, Canada in 1980.
EARL S. FUSATO has served as our Chief Financial Officer since April 1997. Mr.
Fusato served as chief financial officer for Resco, Inc., a Hawaii based real
estate firm from 1992 to 1994, and as a sales representative and consultant in
the real estate industry from 1994 to April 1997. During the period from 1983 to
1992, Mr. Fusato served in various financial positions with VeriFone, Inc.,
including Vice President, Finance from 1983 to 1987 and Treasurer from 1987 to
1990. Prior to that, Mr. Fusato spent 13 years as an auditor at KPMG Peat
Marwick, LLP and Ernst & Young, LLP. Mr. Fusato is a Certified Public
Accountant.
MARTIN GUERIN became our Vice-President, Sales and Marketing in January 1999. He
has international management experience with world leading groups in feed
production, feed and food ingredients, and aquaculture, with responsibilities in
R&D, marketing and sales, business development and profit center management. He
led the development of Aquastar Ltd. to become the second largest supplier of
shrimp feeds in Thailand, growing in three years to more than 200 employees and
$20 million in sales before being acquired by BP Nutrition in 1992. As Senior
Sales Manager for Champagnes Cereales, France, he built sales of starch
derivatives, sweeteners and other food ingredients (1992-94). For EWOS, the
world's
75
<PAGE>
second largest manufacturer of fish feeds, he devised and implemented business
development strategy in the Asia-Pacific region (1994-96). As Marketing and
Development Manager for Finnfeeds International, a Cultor company, he developed
a new business area in aquaculture feed ingredients (1996-99). Mr. Guerin
received his Baccalaureat from the Ecole Saint-Louis Gonzague in Paris, France
in 1981, his M.Sc. in Agricultural Science from the Institut National
Agronomique in Paris in1984, his M.Sc. in Aquaculture from Auburn University in
1986, and his M.B.A. from the University of Paris in 1988.
DAVID G. WATUMULL has served as our Executive Vice-President, Strategic
Development and Corporate Finance since July 1998. He is responsible for new
business development and corporate capital needs. As a consultant to us from
September 1997 to mid-1998, Mr. Watumull was instrumental in securing most of
the additional $5 million in financing we raised in that period. He served as
Senior Vice-President at First Honolulu Securities, Inc. ("First Honolulu"), a
Honolulu based broker-dealer and investment banker, and as Chief Investment
Officer of First Honolulu's asset management division, First Honolulu Securities
Asset Management, from 1993 to 1997. At First Honolulu, Mr. Watumull was
responsible for a $1.3 million private placement financing secured for us. Mr.
Watumull was directly involved in negotiations that led to agreements with C.
Brewer and EnzyMed. From 1993 to 1997 at First Honolulu, Mr. Watumull was a
biotechnology industry analyst with clients that included the Wisconsin State
Investment Board. Prior to his duties with First Honolulu, Mr. Watumull owned
his own investment management firm specializing in biotechnology. From 1983 to
1992, he worked as a money manager and retail broker at Paine Webber in
Honolulu. Mr. Watumull majored in Mathematics at Claremont Men's College (now
Claremont McKenna).
EDWARD E. DAVID, PH.D., has served as a director since September 1997. Dr. David
is currently President of EED, Inc., an industrial and governmental consulting
firm, and Vice President and Principal of the Washington Advisory Group, a
science and technology consulting firm. Dr. David served as President of Exxon
Research and Engineering from 1977 to 1986; as Executive Vice President of
Research and Development of Gould Inc. and as President of Gould Laboratories
from 1973 to 1977; and as Executive Director of the Communications Systems
Division of Bell Laboratories from 1965 to 1970. Dr. David served as Science
Advisor to the President of the United States and Director of the White House
Office of Science and Technology from 1970 to 1973. Dr. David holds 12 honorary
degrees, has received numerous national awards and is a member of the National
Academy of Engineering and the National Academy of Sciences. Dr. David also
serves on the board of directors of the following companies: Spacehab, Inc.,
Intermagnetics General Corporation, InterVU, Inc., Medjet, Inc. and Protein
Polymer Technologies.
PEARN P. NIILER, PH.D., has served as a consultant for us since 1990 and has
served as a director since 1991. Dr. Niiler is an expert in applied mathematics
and fluid dynamics and was a co-inventor of various processes used in the
Aquasearch Growth Module. Dr. Niiler is a Professor of Oceanography at Scripps
Institution of Oceanography, University of California, San Diego, where he heads
one of the largest oceanographic research programs in the nation. Dr. Niiler has
taught and conducted research at Harvard College, Nova University and Oregon
State University and has published more than 125 scientific papers. Dr. Niiler
received his B.S. degree from Lehigh University, earned honors as a Fulbright
Scholar at Cambridge University, England, and was awarded a Ph.D. as a Woodrow
Wilson Fellow from Brown University.
DAVID TARNAS has served as a director since January 1999. He has devoted his
career to creating and advising on public policy in relation to marine
resources. As elected State Representative for the district of North Kona-South
Kohala, Mr. Tarnas was Chairman of the House Committee on Ocean Recreation and
Marine Resources (1994-98). His knowledge and leadership are respected
throughout the State of Hawaii. Mr. Tarnas has served as a policy advisor to
Malaysia, Thailand, Morocco, the Federated States of Micronesia, and countries
in East Africa, East Asia and the Middle East on matters of marine resource
76
<PAGE>
development. He is currently advising the Government of Madagascar on the
development of a national system of marine protected areas. In 1998 Mr. Tarnas
became Project Development Leader for the Earl and Doris Bakken Foundation,
where he is responsible for developing and leading projects on community health.
Mr. Tarnas received his Diplome, 2eme degre in Etudes francaises (French
Studies) from the University of Strasbourg, France in 1981, his B.A. in
Political Science from Kalamazoo College in 1982, and earned his M.A. in Marine
Affairs at the Institute for Marine Studies, University of Washington in 1985.
BOARD OF DIRECTORS COMMITTEES AND OTHER INFORMATION
All directors hold office until the next annual meeting of shareholders and
until their successors have been duly elected and qualified. Officers are
elected by and serve at the discretion of the Board of Directors. There are no
family relationships among our directors or officers.
The Board of Directors currently has an Audit Committee and a Compensation
Committee. The Audit Committee oversees the actions taken by our independent
auditors and reviews our internal financial and accounting controls and
policies. The Compensation Committee is responsible for determining salaries,
incentives and other forms of compensation for our officers, employees and
consultants and administers our incentive compensation and benefit plans.
DIRECTOR COMPENSATION
Our directors do not receive cash for services they provide as directors. From
time to time, certain directors who are not our employees have served as
consultants to us for which they have been paid customary fees based on the
value of the services rendered and/or received grants of options to purchase
shares of our common stock. We do not provide additional compensation for
committee participation or special assignments of the Board of Directors.
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION
The following table sets forth the information, on an accrual basis, with
respect to the compensation of our executive officers for the three fiscal years
ended October 31, 1999.
<TABLE>
<CAPTION>
YEAR ENDED SALARY/OTHER NO. OF SECURITIES
NAME AND POSITION OCTOBER 31, COMPENSATION STOCK AWARDS UNDERLYING OPTIONS
- -------------------------- --------------- ----------------- -------------- --------------------
<S> <C> <C> <C> <C>
Mark E. Huntley, Ph.D., 1999 $115,000 $0 2,000,000
President and Chief 1998 $ 67,083(1) $0 0
Executive Officer 1997 $ 0(1) $0 0
Earl S. Fusato, 1999 $110,000 $0 0
Chief Financial Officer
</TABLE>
77
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
David G. Watumull, 1999 $105,000(2) $0 0
Executive Vice President 1998 $115,000(2) $0 0
</TABLE>
(1) Dr. Huntley has at all times during 1997, and part of 1998 served as a
consultant to us while continuing his employment as a Research
Biologist at Scripps Institution of Oceanography, University of
California, San Diego. Pursuant to the rules and regulations of the
Securities and Exchange Commission, however, Dr. Huntley's position as
our President and Chief Executive Officer qualifies him as one of our
employees. Notwithstanding this, all compensation paid to Dr. Huntley
through April 1, 1998 has been as though he was an independent
consultant to us.
(2) Mr. Watumull became an employee and an officer on July 1, 1998. Prior
to that date, Mr. Watumull served as a consultant to us. The 1998
compensation amount reflects the total compensation paid to him during
fiscal 1998.
OPTION GRANTS IN FISCAL 1999
The following table shows information regarding stock options granted to our
executive officers during the fiscal year ended October 31, 1999:
<TABLE>
<CAPTION>
NO. OF SECURITIES % OF TOTAL OPTIONS
UNDERLYING OPTIONS GRANTED TO EMPLOYEES IN EXERCISE EXPIRATION
NAME AND POSITION GRANTED FISCAL YEAR PRICE DATE
- ------------------------- --------------------- ------------------------- ----------- ------------
<S> <C> <C> <C> <C>
Mark E. Huntley, Ph.D., 2,000,000 66% $0.50 1/21/2006
President and Chief
Executive Officer
</TABLE>
STOCK OPTIONS EXERCISED DURING FISCAL YEAR
None of our executive officers or directors exercised stock options or stock
appreciation rights during the fiscal year ended October 31, 1999.
FISCAL YEAR-END OPTION VALUES
The following table shows information regarding the value of unexercised options
held by executive officers as of October 31, 1999:
<TABLE>
<CAPTION>
NUMBER OF SECURITIES UNDERLYING VALUE OF UNEXERCISED IN-THE-MONEY
UNEXERCISED OPTIONS OPTIONS (1)
------------------------------------------- ----------------------------------------
NAME AND POSITION EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ------------------------------------------------------------------------ ----------------------------------------
<S> <C> <C> <C> <C>
Mark E. Huntley, Ph.D., 2,815,253 849,997 $428,802 -0-
President and Chief
Executive Officer
</TABLE>
78
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
David G. Watumull, 312,000 760,000 $21,840 $53,200
Executive Vice President
</TABLE>
(1) Value of unexercised options is based on the closing bid price of our
common stock on the Nasdaq Electronic Bulletin Board on October 30,
1999 ($0.32) minus the exercise price.
LTIP AWARDS DURING FISCAL YEAR
We did not make any long term incentive plan awards to any executive officers or
directors during the fiscal year ended October 31, 1999.
EMPLOYMENT CONTRACTS
We do not currently have any employment contracts or change-in-control
arrangements with any director or executive officer.
EMPLOYEE BENEFIT PLANS
1997 EMPLOYEE COMPENSATION PACKAGE. In October 1997, the Board of Directors
adopted the 1997 Employee Compensation Package. The 1997 Employee Compensation
Package provides for employee compensation to consist of three components:
1) base salary;
2) a cash bonus equal to 25% of quarterly salary, payable at the end
of each quarter, but only if our performance equals or exceeds
certain cost, revenue and achievement targets jointly agreed to by
management; and
3) an annual award of stock options to all employees under the 1996
Stock Option Plan.
1996 STOCK OPTION PLAN. In March 1996, the Board of Directors adopted the 1996
Stock Option Plan. The 1996 Stock Option Plan provides for the grant of
incentive stock options to employees, and for nonstatutory stock options and
stock purchase rights to employees and consultants. A total of 5,000,000 shares
of common stock have been reserved for issuance under the 1996 Stock Option
Plan, all of which are currently available for grant. The 1996 Stock Option Plan
is administered by the Board of Directors, except that with respect to option
grants to executive officers, the 1996 Stock Option Plan is administered by the
Compensation Committee of the Board of Directors. Options and stock purchase
rights granted under the 1996 Stock Option Plan will vest as determined by the
relevant administrator, and may accelerate and become fully vested in the event
we are acquired if so determined by the relevant administrator. The exercise
price of options and stock purchase rights granted under the 1996 Stock Option
Plan will be as determined by the relevant administrator, provided the exercise
price of incentive stock options is at least equal to the fair market value of
our common stock on the date of grant. The Board of Directors may amend or
modify the 1996 Stock Option Plan at any time. The 1996 Stock Option Plan will
terminate in March 2006, unless terminated earlier by the Board of Directors.
LIMITATIONS ON LIABILITY AND INDEMNIFICATION MATTERS
We have adopted provisions in our Restated Articles of Incorporation that
eliminate the personal liability of our directors for monetary damages arising
from a breach of their fiduciary duties in certain circumstances, to the fullest
extent permitted by law. These provisions authorize us to indemnify directors
and officers to the fullest extent permitted by law. Such limitation of
liability does not affect the
79
<PAGE>
availability of equitable remedies such as injunctive relief or rescission.
Our Restated Articles of Incorporation provide that we shall indemnify our
directors and officers to the fullest extent permitted by Colorado law,
including circumstances in which indemnification is otherwise discretionary
under Colorado law. We have entered into indemnification agreements with our
officers and directors that contain provisions which may be broader than the
specific indemnification provisions contained in the Colorado Corporations Code.
These indemnification agreements require us, among other things, to indemnify
officers and directors against certain liabilities that may arise by reason of
their status or service as directors or officers, other than liabilities arising
from willful misconduct of a culpable nature. These same agreements require us
to advance their expenses incurred as a result of any proceeding against them as
to which they could be indemnified.
At present, there is no pending material litigation or proceeding involving any
of our directors or officers where indemnification will be required or
permitted. We are not aware of any threatened material litigation or proceeding
which may result in a claim for such indemnification.
80
<PAGE>
PRINCIPAL AND SELLING SECURITY HOLDERS
The following table provides information known to us about the beneficial
ownership of our common stock as of February 29, 2000, and as adjusted to
reflect the sale of common stock offered by this prospectus, for: (1) each
selling security holder, (2) each entity or group that is known by us to
beneficially own five percent or more of our common stock; (3) each of our
executive officers; (4) each of our directors; and (5) our directors and
executive officers as a group. To the best of our knowledge, each shareholder
identified below has voting and investment power with respect to all shares of
common stock shown, unless community property laws or footnotes to this table
are applicable.
The selling security holders listed below acquired the shares offered by this
prospectus upon conversion of $2,719,800 aggregate principal amount of
convertible notes issued by us from September 1998 to September 1999. The
selling security holders may at various times sell the shares of common stock
offered hereby and may choose to sell less than all or none of such shares.
<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP
BEFORE OFFERING (1)(2) AFTER OFFERING (1)(3)
------------------------ NUMBER OF -----------------------
NAME NUMBER PERCENT SHARES OFFERED NUMBER PERCENT
- ---- ------- ------- -------------- ------ -------
<S> <C> <C> <C> <C> <C>
Blair Borthwick (4)...................... 110,498 * 90,498 20,000 *
Mae H. Fusato, Trustee, *
Mae H. Fusato Revocable Trust (5)... 384,513 334,513 50,000 *
David A. King (6)........................ 123,039 * 98,039 25,000 *
Gregory F. Kowal (7)..................... 7,898,342 7.9% 4,271,414 3,626,928 3.6%
Stuart Matsumoto (8)..................... 737,943 * 637,943 100,000 *
Ryan Murakami (9)........................ 66,022 * 56,022 10,000 *
Evan Murakami (10)....................... 66,022 * 56,022 10,000 *
Melvin Murakami (11)..................... 36,825 * 31,825 5,000 *
Chris Murakami (12)...................... 303,831 * 56,022 247,809 *
Audrey Murakami (13)..................... 366,022 * 56,022 310,000 *
David Murakami (14)...................... 116,420 * 31,825 84,595 *
Donald Y. & Kimiko Nakama (15)........... 1,067,969 1.1% 160,260 907,709 *
Lance S. & Elaine Nakamura (16).......... 5,813,021 5.8% 2,941,176 2,871,845 2.9%
Walter Nordhausen (17)................... 280,042 * 105,042 175,000 *
Neil T. & Carole K. Nakamura (18)........ 717,974 * 617,974 100,000 *
First Hawaiian Bank, Trustee for the
Moon Soo Park, M.D., IRA (19)....... 813,012 * 713,012 100,000 *
Lee M. & Bonnie Rask (20)................ 362,050 * 312,050 50,000 *
Thomas Scott, Trustee,
Scott Family Trust (21)............. 2,016,275 2.0% 560,903 1,455,372 1.5%
Glenn J. Stanford (22)................... 284,133 * 243,333 40,800 *
Raymond J. Tam, Trustee,
Estate of Chan Tam, Deceased (23)... 1,263,128 1.3% 1,061,128 202,000 *
Raymond J. Tam, Trustee
Raymond J. Tam Trust (24)........... 355,500 * 304,500 51,000 *
Russell J. & Juliann M. Tam (25)......... 42,167 * 36,167 6,000 *
James H. Thompson &
Lorraine T. Sakaguchi (26).......... 2,084,773 2.1% 1,814,773 270,000 *
Joseph James & Lonnie Ann Trimarche (27). 397,751 * 347,751 50,000 *
Scott Wang (28).......................... 168,472 * 143,472 25,000 *
Jean S. Weaver, Trustee, Jean Sawyer Weaver
Trust (29).......................... 7,541,223 7.5% - 7,541,223 7.5%
Mark E. Huntley (30)..................... 6,933,186 6.8% - 6,933,186 6.8%
Earl S. Fusato (31)...................... 17,920,959 17.4% 1,637,198 16,283,761 15.8 %
Martin Guerin (32)....................... 152,605 * 110,938 41,667 *
David Watumull (33)...................... 612,000 * - 612,000 *
Edward E. David (34)..................... 150,000 * - 150,000 *
81
<PAGE>
Pearn P. Niiler (35)..................... 2,701,402 2.7% - 2,701,402 2.7%
David Tarnas............................. - - - - -
All directors and executive officers
as a group (7 persons) (36)......... 28,470,152 26.3% 1,748,136 26,722,016 24.7%
</TABLE>
- --------------------
* Less than 1%.
(1) Beneficial ownership is determined in accordance with rules and
regulations of the Securities and Exchange Commission. In computing the
number of shares beneficially owned by a person and the percentage
ownership of that person, shares of common stock subject to options or
warrants held by that person that are currently exercisable or
exercisable within 60 days after February 29, 2000 are deemed
outstanding, but are not deemed outstanding for computing the
percentage of any other person.
(2) Applicable percentage of beneficial ownership before this offering is
based on 99,459,795 shares outstanding as of February 29, 2000.
(3) Assumes that all 16,829,822 outstanding shares offered by this
prospectus are sold, that the warrants issued in connection with the
sale of stock and convertible notes are not exercised, and that no
beneficially owned shares are sold other than by this prospectus.
(4) Includes warrants to acquire 20,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(5) Includes warrants to acquire 50,000 shares of common stock at $0.50 per
share that are immediately exercisable. Ms. Fusato is the spouse of
Earl S. Fusato, our Chief Financial Officer and a member of our Board
of Directors since the spring of 1997.
(6) Includes warrants to acquire 25,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(7) Includes warrants to acquire 650,000 and 500,000 shares of common stock
at $0.50 and $0.40 per share, respectively, that are immediately
exercisable.
(8) Includes warrants to acquire 100,000 shares of common stock at $0.50
per share that are immediately exercisable.
(9) Includes warrants to acquire 10,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(10) Includes warrants to acquire 10,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(11) Includes warrants to acquire 5,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(12) Includes warrants to acquire 10,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(13) Includes warrants to acquire 10,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(14) Includes warrants to acquire 25,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(15) Includes warrants to acquire 25,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(16) Includes warrants to acquire 750,000 shares of common stock at $0.50
per share that are immediately exercisable.
(17) Includes warrants to acquire 25,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(18) Includes warrants to acquire 100,000 shares of common stock at $0.50
per share that are immediately exercisable.
(19) Includes warrants to acquire 100,000 shares of common stock at $0.50
per share that are immediately exercisable.
(20) Includes warrants to acquire 50,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(21) Includes warrants to acquire 220,000 shares of common stock at $0.50
per share, that are immediately exercisable.
(22) Includes warrants to acquire 40,800 shares of common stock at $0.50 per
share that are immediately exercisable.
82
<PAGE>
(23) Includes warrants to acquire 202,000 shares of common stock at $0.50
per share that are immediately exercisable.
(24) Includes warrants to acquire 51,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(25) Includes warrants to acquire 6,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(26) Includes warrants to acquire 270,000 shares of common stock at $0.50
per share that are immediately exercisable.
(27) Includes warrants to acquire 50,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(28) Includes warrants to acquire 25,000 shares of common stock at $0.50 per
share that are immediately exercisable.
(29) Includes warrants to acquire 1,100,000 shares of common stock at $0.50
per share that are immediately exercisable.
(30) Includes options to purchase 1,665,250 shares of common stock at an
exercise price of $0.0625 per share, with a term of seven years,
payable by a promissory note payable over 3 years with interest at 5%
per annum that are exercisable within 60 days of February 29, 2000.
Also includes options to purchase 1,250,000 shares at an exercise price
of $0.50 per share that are exercisable within 60 days of February 29,
2000.
(31) Includes options to purchase 950,000 shares and 1,000,000 shares of
common stock at an exercise price of $0.36 and $1.00 per share,
respectively, that are exercisable within 60 days of February 29, 2000
and warrants to acquire 1,540,713 shares of common stock at $0.50 per
share that are immediately exercisable. Mr. Fusato has been our Chief
Financial Officer and a member of our Board of Directors since the
spring of 1997.
(32) Includes warrants to acquire 15,000 shares of common stock at $0.50 per
share that are immediately exercisable. Also includes options to
purchase 26,667 shares at an exercise price of $0.25 per share that are
exercisable within 60 days of February 29, 2000. Mr. Guerin has been
our Vice President, Sales and Marketing, since January 1999.
(33) Includes options to purchase 612,000 shares at an exercise price of
$0.25 per share that are immediately exercisable.
(34) Includes options to purchase 50,000 shares of common stock at an
exercise price of $0.25 that are immediately exercisable.
(35) Includes options to purchase 1,291,050 shares of common stock at an
exercise price of $0.0625 per share, with a term of seven years,
payable by a promissory note payable over 3 years with interest at 5%
per annum that are exercisable within 60 days of February 29, 2000.
Also includes options to purchase 675,000 shares at an exercise price
of $0.50 per share that are exercisable within 60 days of February 29,
2000.
(36) See notes 30-35 above.
83
<PAGE>
CERTAIN TRANSACTIONS
During the period from November 1, 1999 to January 31, 2000, Gregory Kowal, the
beneficial owner of over 5% of our common stock, purchased 1,666,667 shares of
our common stock at $0.15 per share. In connection with the purchase Mr. Kowal
received 250,000 warrants with an exercise price of $0.40 per share.
During the period from June 1997 to January 31, 2000, we sold an aggregate of
$6,624,800 principal amount of convertible notes bearing interest at 10% per
annum. The holders of the convertible notes have an option to convert their
convertible notes into our common stock. The convertible notes provide that upon
conversion, the holders would receive warrants to purchase shares of our common
stock. The warrants have an exercise price of $0.50 per share and a term of
three years. Earl S. Fusato, our Chief Financial Officer, Secretary and a member
of our Board of Directors, participated in the private placement and purchased
$2,030,000 worth of the notes. In addition, Lance S. and Elaine Nakamura, the
beneficial owner of over 5% of our common stock, and Gregory Kowal purchased
$750,000 and $150,000 worth of notes, respectively.
Through January 31, 2000, some of the holders of the convertibles notes
(amounting to $6,349,800 aggregate principal amount) exercised their option to
convert their convertible notes into shares of common stock. Upon conversion of
the outstanding principal and interest on the convertible notes, we issued
38,884,150 shares of common stock and also issued 5,746,800 warrants in
connection thereto. As part of this transaction, Earl S. Fusato converted
$2,030,000 aggregate principal amount of convertible notes and received
13,286,154 shares of common stock and 1,427,000 warrants.
During the year ended October 31, 1999, Gregory Kowal purchased 5,000,000 shares
of our common stock at $0.15 per share. In connection with the purchase Mr.
Kowal received 750,000 warrants with an exercise price of $0.40 per share.
In July 1998, we entered into a loan agreement with David Watumull, our
Executive Vice-President of Strategic Development and Corporate Finance. Under
the terms of the loan agreement and the related promissory note, we loaned Mr.
Watumull $50,000, plus $3,500 per month and interest payments during the life of
the loan. The promissory note has an interest rate of 9 percent per annum and is
secured by Mr. Watumull's common stock options.
In April 1997, the Company sold 1,000,000 shares of Common Stock at $0.21 per
share to Mr. Fusato. The total proceeds to the Company were $210,000. No
underwriter was used. This offering was made pursuant to the exemption provided
under Section 4(2) of the Securities Act.
During the period from October 1996 to April 1997, the Company sold an aggregate
of 5,044,570 Units, consisting of one share of Common Stock and one Common Stock
Purchase Warrant (the "Warrants"), in a private placement under Section 4(2) of
the Securities Act of 1933, as amended. During the course of the private
placement, the Earl S. Fusato Revocable Living Trust purchased 115,384 Units at
$0.26 per Unit. The Warrants have a term of three years and are exercisable at
$1.00 per share, subject to adjustment. The Warrants are redeemable by the
Company at $0.01 per Warrant during their three-year exercise period upon 30
days' notice anytime that the closing bid price per share of the Common Stock
exceeds $1.50 per share (subject to adjustment) for 20 trading days out of 30
consecutive trading days ending on the third day prior to the date of the notice
of redemption. The gross proceeds from this offering were $1,275,980. The
Warrants issued in connection with this private placement expired on December
31, 1999.
84
<PAGE>
DESCRIPTION OF SECURITIES
Our authorized securities consist of:
1) 150,000,000 shares of common stock, par value $0.0001 per
share;
2) 5,000,000 shares of blank check preferred stock;
3) Warrants to purchase an aggregate of 25,974 shares of common
stock at an exercise price of $0.21 per share issued to three
investors in connection with the 1996 bridge financing;
4) Warrants to purchase an aggregate of 1,000,000 shares of
common stock at an exercise price of $0.40 per share; and
5) Warrants to purchase an aggregate of 6,388,513 shares of
common stock at an exercise price of $0.50 per share; and
The following summary of certain provisions of the common stock, the preferred
stock, the Bridge Loan warrants and the convertible notes and warrants does not
purport to be complete. This summary is subject to, and qualified in its
entirety by, the provisions of our Amended and Restated Articles of
Incorporation, the Bridge Loan warrants, and the convertible notes and warrants,
where such rights are set forth in full, and the provisions of applicable law.
COMMON STOCK
As of January 31, 2000, we had 97,244,310 shares of our common stock
outstanding, held of record by approximately 2,000 shareholders. In addition, we
had options outstanding to purchase an aggregate of 13,776,238 shares of our
common stock.
The holders of common stock are entitled to one vote for each share held of
record upon such matters and in such manner as may be provided by law. Subject
to preferences that apply to any outstanding shares of preferred stock, the
holders of common stock are entitled to receive ratably such dividends, if any,
as may be declared by the Board of Directors out of funds legally available for
that purpose. If we liquidate, dissolve, or wind up, the holders of common stock
are entitled to share ratably in all assets that remain after we pay liabilities
and liquidation preferences of any outstanding shares of the preferred stock.
Holders of common stock have no preemptive rights or rights to convert their
common stock into any other securities. There are no redemption or sinking fund
provisions that apply to the common stock. All outstanding shares of common
stock are fully paid and nonassessable. Likewise, all shares of common stock
issuable upon exercise of the Bridge Loan warrants, and the convertible notes
and warrants will be fully paid and nonassessable.
PREFERRED STOCK
As of the date of this prospectus, we had authorized up to 5,000,000 shares of
preferred stock to be issued, but none were issued or outstanding. The Board of
Directors has the authority, without further action by the shareholders, to
issue preferred stock in one or more series. The Board of Directors may also fix
the rights, preferences, privileges and restrictions of such preferred stock,
including dividend rights, conversion rights, voting rights, terms of
redemption, liquidation preferences and the number of shares constituting any
series or the designation of such series. Preferred stock could thus be issued
quickly with terms calculated to delay or prevent a change in control or to
serve as an entrenchment device for incumbent management. Additionally, if we
issue preferred stock, then the market price of the common stock could decrease,
and the voting and other rights of the holders of common stock could be
adversely affected.
85
<PAGE>
BRIDGE LOAN WARRANTS
In connection with the August 1996 bridge financing, we issued warrants to
purchase a total of 25,974 shares of common stock at an exercise price of $0.21
per share to the holders of certain Bridge Loan notes. The Bridge Loan notes
have been paid in full. The Bridge Loan warrants are entitled to certain
registration rights with respect to the common stock issuable upon exercise of
the Bridge Loan warrants.
CONVERTIBLE NOTES AND WARRANTS
During the period from June 1997 to January 31, 2000, we sold an aggregate of
$6,624,800 principal amount of convertible notes bearing interest at 10% per
annum. The holders of the convertible notes have an option to convert their
convertible notes into our common stock. The convertible notes provide that upon
conversion, the holders would receive warrants to purchase shares of our common
stock. The warrants have an exercise price of $0.50 per share and a term of
three years.
Through January 31, 2000, some of the holders of the convertibles notes
(amounting to $6,349,800 aggregate principal amount) exercised their option to
convert their convertible notes into shares of common stock. Upon conversion of
the outstanding principal and interest on the convertible notes, we issued
38,884,150 shares of common stock and also issued 5,746,800 warrants in
connection thereto.
During the two months ended March 31, 2000, we issued $1,070,000 aggregate
principal amount of one-year convertible notes and received $251,000 for the
exercise of a warrant for 502,000 shares of common stock.
TRANSFER AGENT
The Transfer Agent and Registrar for the common stock and the warrants described
above is American Securities Transfer & Trust, Inc.
PLAN OF DISTRIBUTION
The selling security holders may sell the shares subject to this prospectus and
the Registration Statement of which it is a part at various times in
transactions in the over-the-counter market, in privately negotiated
transactions or through the writing of options on the shares. The selling
security holders may also sell the shares through a combination of such methods
of sale, at fixed prices that may be changed, at market prices prevailing at the
time of sale, at prices relating to such prevailing market prices or at
negotiated prices. The selling security holders may sell the shares to or
through broker-dealers, and such broker-dealers may receive compensation in the
form of discounts, concessions or commissions from the selling security holders
and/or the purchasers of the shares for whom such broker-dealers may act as
agents or to whom they may sell as principals, or both. The compensation to a
particular broker-dealer may be in excess of customary compensation. Any
broker-dealer may act as a broker-dealer on behalf of one or more of the selling
security holders in connection with the offering of certain of the shares by the
selling security holders.
The selling security holders and any broker-dealers who act in connection with
the sale of the shares hereunder may be deemed to be "underwriters" as defined
in Section 2(11) of the Securities Act. Any commissions received by
"underwriters" and profit on any resale of the shares as principal might be
deemed to be underwriting discounts and commissions. We have agreed to indemnify
selling security holders against certain liabilities, including liabilities
under the Securities Act.
86
<PAGE>
LEGAL MATTERS
Wilson Sonsini Goodrich & Rosati, Palo Alto will pass upon certain legal matters
with respect to the shares of the common stock offered hereby.
EXPERTS
Ernst & Young LLP, independent auditors, have audited, as set forth in their
report thereon (which report contains an explanatory paragraph describing
conditions that raise substantial doubt about the Company's ability to continue
as a going concern as described in Note 1 to the financial statements) appearing
elsewhere herein, our financial statements as of October 31, 1999, 1998 and
1997, and for the years then ended, that appear in this prospectus. The
financial statements referred to above are included in reliance upon the report
by the auditors given upon their authority as experts in accounting and
auditing.
87
<PAGE>
FINANCIAL STATEMENTS
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
<S> <C>
Report of Independent Auditors.................................................................................F-2
Audited Financial Statements:
Balance Sheets as of October 31, 1999, 1998 and 1997...........................................................F-3
Statements of Operations from Inception to
October 31, 1999 and for the Years Ended October 31,
1999, 1998 and 1997..........................................................................................F-4
Statements of Cash Flows from Inception to October 31, 1999
and for the Years Ended October 31, 1999, 1998 and 1997......................................................F-5
Statements of Stockholders' Equity (Deficit) from Inception to
October 31, 1999.............................................................................................F-6
Notes to Financial Statements.................................................................................F-10
Unaudited Financial Statements:
Condensed Balance Sheets as of January 31, 2000 (Unaudited) and October 31, 1999 (Audited)....................F-24
Condensed Statements of Operations for the Period from
Inception to January 31, 2000, for the Three Months Ended January 31, 2000
and for the Three Months Ended January 31, 1999 (Unaudited).................................................F-25
Condensed Statements of Cash Flows for the Period from Inception to January 31,
2000, for the Three Months Ended January 31, 2000 and for the Three Months
Ended January 31, 1999 (Unaudited)..........................................................................F-26
Notes to Condensed Financial Statements (Unaudited)...........................................................F-27
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Aquasearch, Inc.
We have audited the accompanying balance sheets of Aquasearch, Inc. (a
development stage enterprise) as of October 31, 1999, 1998 and 1997, and the
related statements of operations, cash flows, and stockholders' equity (deficit)
for the years then ended and for the period from inception to October 31, 1999.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits. The financial statements as of and for the period from inception
to October 31, 1995, were audited by other auditors whose report dated December
2, 1995 except for Note 5 dated January 26, 1996, and Note 8 dated April 6,
1997, expressed an unqualified opinion on those statements. The financial
statements for the period from inception to October 31, 1995 include no revenues
and a net loss of $1,650,786. Our opinion on the statements of operations, cash
flows, and stockholders' equity (deficit) for the period from inception to
October 31, 1999, insofar as it relates to amounts for prior periods through
October 31, 1995, is based solely on the report of the other auditors.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits and the report of other auditors
provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the
financial statements referred to above present fairly, in all material respects,
the financial position of Aquasearch, Inc. (a development stage enterprise) as
of October 31, 1999, 1998 and 1997, and the results of its operations and its
cash flows for the years then ended and the period from inception to October 31,
1999, in conformity with accounting principles generally accepted in the United
States.
As disclosed in Note 4 to the financial statements, the Company has restated its
1998 and 1997 financial statements to recognize the discount associated with the
issuance of notes convertible to common stock at a discount to the market price
of the stocks.
As discussed in Note 1 to the financial statements, the Company's recurring
losses from operations and working capital deficit at October 31, 1999 raise
substantial doubt about its ability to continue as a going concern. The October
31, 1999 financial statements do not include any adjustments that might result
from the outcome of this uncertainty.
/s/ Ernst & Young LLP
Honolulu, Hawaii
January 27, 2000
F-2
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
BALANCE SHEETS
<TABLE>
<CAPTION>
October 31
------------------------------------------------------
1998 1997
(as restated) (as restated)
1999 (NOTE 4) (NOTE 4)
------------------------------------------------------
<S> <C> <C> <C>
Assets
Current assets:
Cash $ 90,522 $ 151,473 $ 47,006
Accounts receivable 24,300 - 1,219
Prepaid expenses 11,507 48,703 24,439
Refundable deposits 3,053 3,081 4,570
------------------------------------------------------
Total current assets 129,382 203,257 77,234
Note receivable from officer (NOTE 5) 50,000 50,000 -
Plant and equipment:
Plant 2,795,258 2,519,044 738,889
Equipment 1,060,348 167,203 173,052
Less accumulated depreciation (413,244) (201,292) (104,894)
------------------------------------------------------
Net plant and equipment 3,442,362 2,484,955 807,047
------------------------------------------------------
Total assets $ 3,621,744 $ 2,738,212 $ 884,281
------------------------------------------------------
------------------------------------------------------
Liabilities and stockholders' equity (deficit)
Current liabilities:
Accounts payable $ 894,995 $ 968,429 $ 416,344
Due to officer (NOTE 5) 241,800 131,400 45,000
Notes payable (NOTE 4) 170,000 300,000 200,000
Notes payable to officer (NOTE 4) 1,830,000 265,000 360,000
------------------------------------------------------
Total current liabilities 3,136,795 1,664,829 1,021,344
Stockholders' equity (deficit):
Preferred stock (5,000,000 shares authorized)
(NOTE 1) - - -
Common stock ($0.0001 par value, 100,000,000
shares authorized, 87,060,501, 68,564,013 and
47,819,881 shares outstanding at October 31,
1999, 1998 and 1997, respectively) (NOTE 10)
9,829 7,979 5,904
Additional paid-in capital 12,262,839 8,784,120 4,798,294
Notes receivable (NOTE 3) (58,133) (59,696) (30,516)
Deficit accumulated during the development stage
(11,729,586) (7,659,020) (4,910,745)
------------------------------------------------------
Total stockholders' equity (deficit) 484,949 1,073,383 (137,063)
------------------------------------------------------
Total liabilities and stockholders' equity
(deficit) $ 3,621,744` $ 2,738,212 $ 884,281
------------------------------------------------------
------------------------------------------------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-3
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
From inception For the years ended October 31,
to October 31,--------------------------------------------------------
1999 1999 1998 1997
(as restated) (as restated)
(NOTE 4) (NOTE 4)
---------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Operations
Sales $ 11,077 $ - $ - $ 1,077
Cost of sales 23,464 - - 2,238
---------------------------------------------------------------------------
Gross loss from operations (12,387) - - (1,161)
Research and development costs 4,783,018 1,695,448 1,166,766 793,770
General and administrative expenses 5,441,995 1,772,627 964,120 1,072,051
---------------------------------------------------------------------------
Loss from operations (10,237,400) (3,468,075) (2,130,886) (1,866,982)
Other income (expense)
Interest (1,374,215) (653,172) (617,037) (94,359)
Other 43,627 50,681 (352) (686)
Investment in joint venture (147,096) - - -
---------------------------------------------------------------------------
Total other income (expense) (1,477,684) (602,491) (617,389) (95,045)
---------------------------------------------------------------------------
Loss before income taxes and extraordinary
item (11,715,084) (4,070,566) (2,748,275) (1,962,027)
Extraordinary item - loss on write down of
assets to liquidation basis (14,502) - - -
---------------------------------------------------------------------------
Net loss $(11,729,586) $ (4,070,566) $ (2,748,275) $ (1,962,027)
---------------------------------------------------------------------------
---------------------------------------------------------------------------
Loss per share $ (0.39) $ (0.05) $ (0.05) $ (0.04)
Weighted average shares outstanding 29,987,669 76,375,752 52,697,095 44,646,653
</TABLE>
SEE ACCOMPANYING NOTES.
F-4
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
From inception to
October 31, For the years ended October 31,
1999 1999 1998 1997
(as restated) (as restated)
(NOTE 4) (NOTE 4)
---------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss $(11,729,586) $ (4,070,566) $ (2,748,275) $ (1,962,027)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation 413,244 241,881 96,398 69,018
Expenses paid with common stock 955,139 41,981 157,839 311,154
Discount on convertible notes payable
(NOTE 4) 1,083,494 488,788 495,882 98,824
Changes in:
Other current assets (14,560) 37,224 (22,775) (20,330)
Receivables (24,300) (24,300) 1,219 714
Accounts payable and due to officer 1,136,795 36,966 638,485 (19,821)
Deposits held - - - (460,980)
---------------------------------------------------------------------------
Cash used in operating activities (8,179,774) (3,248,026) (1,381,227) (1,983,448)
Cash flows used in investing activities:
Purchases of fixed assets (3,855,606) (1,199,288) (1,774,306) (166,883)
---------------------------------------------------------------------------
Cash used in investing activities (3,855,606) (1,199,288) (1,774,306) (166,883)
Cash flows from financing activities:
Cash released from escrow - - - 460,980
Decrease (increase) in notes receivable (48,437) 1,563 (50,000) -
Proceeds from issuance of common stock 5,441,458 750,000 500,000 1,289,613
Proceeds from notes payable 7,004,800 3,634,800 2,810,000 425,000
Offering costs (271,919) - - (165,422)
---------------------------------------------------------------------------
Cash provided by financing activities 12,125,902 4,386,363 3,260,000 2,010,171
---------------------------------------------------------------------------
Net increase (decrease) in cash 90,522 (60,951) 104,467 (140,160)
Cash, beginning of the period - 151,473 47,006 187,166
---------------------------------------------------------------------------
Cash, end of the period $ 90,522 $ 90,522 $ 151,473 $ 47,006
---------------------------------------------------------------------------
---------------------------------------------------------------------------
Supplemental disclosure of cash flow
information:
Non-cash financing transactions:
Conversion of convertible notes
payable to common stock $ 5,004,800 $ 2,199,800 $ 2,805,000 -
</TABLE>
SEE ACCOMPANYING NOTES.
F-5
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
FROM INCEPTION TO OCTOBER 31, 1999
<TABLE>
<CAPTION>
Common Stock
-------------------------------------------------------------------------------------------
Total
Additional Stockholders'
Number of Paid-in Notes Accumulated Equity
Shares Amount Capital Receivable Deficit (Deficit)
-------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Issue of stock 20,000,000 $2,000 72,730 $ - $ - $ 74,730
Loss from inception to
October 31, 1988 - - - - (101,984) (101,984)
-------------------------------------------------------------------------------------------
Balance, October 31, 1988 20,000,000 2,000 72,730 - (101,984) (27,254)
Sale of stock and A Warrants ($0.05 4,000,000 400 166,291 - - 166,691
per unit)
Shares reacquired at no cost 11,198,838) - - - - -
Exercise of A warrants ($0.12 per
share) 556,000 56 66,664 - - 66,720
Loss for the year ended October 31,
1989 - - - - (183,333) (183,333)
-------------------------------------------------------------------------------------------
Balance, October 31, 1989 13,357,162 2,456 305,685 - (285,317) 22,824
Sale of stock ($0.07 per share) 140,000 14 9,786 - - 9,800
Stock issued for services
($0.05 per share) 300,000 30 13,515 - - 13,545
Exercise of A warrants ($0.12 per
share) 2,792,000 279 328,540 - - 328,819
Loss for the year ended October 31,
1990 - - - - (163,839) (163,839)
-------------------------------------------------------------------------------------------
Balance, October 31, 1990 16,589,162 2,779 657,526 - (449,156) 211,149
Sale of stock ($0.04 per share) 125,000 13 5,987 - - 6,000
Stock issued in consideration for
loans ($0.04 per share) 290,000 29 11,571 - - 11,600
Loss for the year ended October 31,
1991 - - - - (251,401) (251,401)
-------------------------------------------------------------------------------------------
Balance, October 31, 1991 17,004,162 2,821 675,084 - (700,557) (22,652)
Sale of stock ($0.15 per share) 20,000 2 2,998 - - 3,000
Stock issued for services
($0.0001 to $0.04 per share) 453,500 45 6,134 - - 6,179
</TABLE>
SEE ACCOMPANYING NOTES.
F-6
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) (CONTINUED)
<TABLE>
<CAPTION>
Common Stock
---------------------------------------------------------------------------------------------
Total
Additional Stockholders'
Number of Paid-in Notes Accumulated Equity
Shares Amount Capital Receivable Deficit (Deficit)
----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Loss for the year ended
October 31, 1992 - $ - $ - $ - $ (81,128) $ (81,128)
---------------------------------------------------------------------------------------------
Balance, October 31, 1992 17,477,662 2,868 684,216 - (781,685) (94,601)
Sale of stock ($0.08 per share) 3,175,000 318 244,071 - - 244,389
Stock issued for services
($0.08 per share) 673,751 68 54,083 - - 54,151
Conversion of notes and
advances for stock
($0.08 per share) 861,900 87 69,315 - - 69,402
Loss for the year ended
October 31, 1993 - - - - (142,198) (142,198)
---------------------------------------------------------------------------------------------
Balance, October 31, 1993 22,188,313 3,341 1,051,685 - (923,883) 131,143
Sale of stock ($0.03 per share) 250,000 25 7,475 - - 7,500
Stock issued for services
($0.08 per share) 1,025,000 101 81,900 - - 82,001
Loss for the year ended
October 31, 1994 - - - - (240,090) (240,090)
---------------------------------------------------------------------------------------------
Balance, October 31, 1994 23,463,313 3,467 1,141,060 - (1,163,973) (19,446)
Sale of stock
($0.0625 to $0.10 per share) 7,622,500 762 550,883 - - 551,645
Stock issued for services
($0.0625 to $0.10 per share) 177,875 18 12,974 - - 12,992
Reissue stock previously canceled
at no cost 1,320,000 132 (132) - - -
Loss for the year ended
October 31, 1995 - - - - (288,813) (288,813)
---------------------------------------------------------------------------------------------
Balance, October 31, 1995, as
previously reported 32,583,688 4,379 1,704,785 - (1,452,786) 256,378
</TABLE>
SEE ACCOMPANYING NOTES.
F-7
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) (CONTINUED)
<TABLE>
<CAPTION>
Common Stock
-----------------------------------------------------------------------------------------------
Total
Additional Stockholders'
Number of Paid-in Notes Accumulated Equity
Shares Amount Capital Receivable Deficit (Deficit)
-----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Correction of reissuance of stock
previously canceled
(NOTE 8) - $ - $ 198,000 $ - $ (198,000) $ -
-----------------------------------------------------------------------------------------------
Balance, October 31, 1995, as
restated 32,583,688 4,379 1,902,785 - (1,650,786) 256,378
Sale of stock
($0.125 to $0.50 per share) 7,901,643 791 1,268,758 - - 1,269,549
Stock issued for services
($0.125 to $0.62 per share) 344,000 34 62,766 - - 62,800
Loss for the year ended
October 31, 1996 - - - - (1,297,932) (1,297,932)
-----------------------------------------------------------------------------------------------
Balance, October 31, 1996 40,829,331 5,204 3,234,309 - (2,948,718) 290,795
Sale of stock
($0.21 to $0.44 per share) 5,095,727 510 1,123,681 - - 1,124,191
Stock issued for services
($0.17 to $0.892 per share) 103,138 11 35,336 - - 35,347
Exercise of options for stock
($0.0625 per share) (NOTE 3) 488,250 49 30,467 (30,516) - -
Penalty shares
($0.2116 per share) (NOTE 2) 1,303,435 130 275,677 - - 275,807
Discount on convertible notes
payable (NOTE 4) - - 98,824 - - 98,824
Loss for the year ended
October 31, 1997 - - - - (1,962,027) (1,962,027)
-----------------------------------------------------------------------------------------------
Balance, October 31, 1997
(as restated) (NOTE 4) 47,819,881 5,904 4,798,294 (30,516) (4,910,745) (137,063)
Sale of stock
($0.156 per share) 3,205,128 321 499,679 - - 500,000
Issuance of stock on conversion
of convertible notes payable
($0.16 to $0.19 per share) 16,870,520 1,687 2,915,274 - - 2,916,961
</TABLE>
SEE ACCOMPANYING NOTES.
F-8
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) (CONTINUED)
<TABLE>
<CAPTION>
Common Stock
-----------------------------------------------------------------------------------------------
Total
Additional Stockholders'
Number of Paid-in Notes Accumulated Equity
Shares Amount Capital Receivable Deficit (Deficit)
-----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Stock issued for services
($0.22 to $0.25 per share) 201,622 $ 20 $ 45,858 $ - $ - $ 45,878
Exercise of options for stock
($0.0625 per share)
(NOTE 3) 466,862 47 29,133 (29,180) - -
Discount on convertible notes
payable (NOTE 4) - - 495,882 - - 495,882
Loss for the year ended
October 31,1998 - - - - (2,748,275) (2,748,275)
-----------------------------------------------------------------------------------------------
Balance, October 31, 1998
(as restated) (NOTE 4) 68,564,013 7,979 8,784,120 (59,696) (7,659,020) 1,073,383
Issuance of stock on conversion
of convertible notes payable
($0.14 to $0.26 per share) 13,496,488 1,350 2,240,431 - - 2,241,781
Sale of stock
($0.15 per share) 5,000,000 500 749,500 - - 750,000
Payment on notes receivable
issued upon exercise of
common stock options - - - 1,563 - 1,563
Discount on convertible notes
payable (NOTE 4) - - 488,788 - - 488,788
Loss for the year ended
October 31,1999 - - - - (4,070,566) (4,070,566)
-----------------------------------------------------------------------------------------------
Balance, October 31, 1999 87,060,501 $ 9,829 $ 12,262,839 $ (58,133) $(11,729,586) $ 484,949
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-9
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS
OCTOBER 31, 1999, 1998 AND 1997
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Aquasearch, Inc. (Aquasearch), a Colorado corporation founded in February 1988,
is a development stage company that develops and commercializes natural products
from microalgae using its proprietary, large-scale photobioreactor technology
known as the Aquasearch Growth Module. The Company's operations are located in
Kailua-Kona, Hawaii.
Microalgae are a diverse group of over 30,000 species of microscopic plants that
have a wide range of physiological and biochemical characteristics. Many of
these are known to contain valuable substances that have existing and potential
commercial applications in such fields as animal and human nutrition, food
colorings, cosmetics, diagnostic products, pharmaceuticals, research grade
chemicals, pigments and dyes. Microalgae grow ten times faster than the fastest
growing land-based crops and represent a largely unexploited and renewable
natural resource with a biodiversity comparable to that of land-based plants.
Aquasearch's first commercial product is astaxanthin, a naturally occurring red
pigment derived from a freshwater microalgae. Currently, the primary market for
astaxanthin is in animal feeds. During the next year, the Company plans on
initiating sales of astaxanthin as a human dietary supplement or nutraceutical.
In June 1999 the Company completed the expansion of its research and development
facility to include a three-acre production and processing plant. During the
four months ended October 31, 1999 the Company began selling small amounts of
astaxanthin in the animal feeds market.
Because no significant sales have occurred and because the Company has devoted
most of its efforts since inception to research and development, the Company is
considered to be in the development stage.
BASIS OF PRESENTATION
The Company's financial statements have been presented on the basis that it is
able to continue as a going concern, which contemplates the realization of
assets and the satisfaction of liabilities in the normal course of business. The
Company has incurred operating losses since inception totaling approximately
$11.7 million. At October 31, 1999, the Company had a working capital deficit of
approximately $3 million. During the year ended October 31, 1999, the Company
sold additional shares of stock through the issuance of convertible notes, which
were sufficient to fund its immediate operating financial needs.
The Company currently projects that it will require approximately $3 million in
operating capital in fiscal 2000, before any planned capital expenditures. The
Company is presently pursuing additional sources of capital in order to finance
its operations in fiscal 2000. These capital sources include equity and debt
financing, product sales, license agreements, and government contracts and
grants.
F-10
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BASIS OF PRESENTATION (CONTINUED)
The Company's continued existence is dependent upon its ability to obtain
working capital and long-term financing to meet its obligations on a timely
basis and to fund expansion of its production facilities and continued research
and development of new microalgae products. The Company is presently unable to
reasonably determine the likelihood of obtaining such financing. In addition,
the failure of the Company to successfully produce microalgae on a commercial
scale, the inability to protect or enforce its intellectual property rights, or
the loss of any existing or potential corporate partner could have a material
adverse effect on the Company's business, financial condition and results of
operations.
The accompanying financial statements do not include any adjustments, including
those related to the classification of recorded asset amounts or the amounts or
classification of liabilities, that might result from the outcome of the
aforementioned uncertainties.
CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents.
PLANT AND EQUIPMENT
Plant and equipment are stated at cost. Depreciation is provided on the
straight-line method over the estimated useful lives of the assets.
PREFERRED STOCK
The Company has authorized 5,000,000 shares of "blank check" preferred stock,
with such designations, rights, preferences, privileges and restrictions to be
determined by the Company's Board of Directors. No preferred stock has been
issued as of October 31, 1999.
STOCK ISSUED FOR SERVICES
Stock issued for services is based on management's estimate of the fair value of
the Company's stock at the date of issue or the fair value of the services
received, whichever is more reliably measurable.
F-11
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INCOME TAXES
The Company uses the asset and liability method of accounting for income taxes
as required by Statement of Financial Accounting Standards No. 109 (SFAS 109),
ACCOUNTING FOR INCOME TAXES. SFAS 109 requires the recognition of deferred tax
assets and liabilities for the expected future tax consequences of temporary
differences between the carrying amounts and the tax basis of certain assets and
liabilities.
Since its inception, the Company has incurred net operating losses. Accordingly,
no provision has been made for income taxes.
LOSS PER SHARE
Loss per share was based on the weighted average common shares outstanding
during the period. Common shares issuable upon exercise of outstanding warrants,
options and convertible notes payable have not been included in the computation
of loss per share as their effect would be anti-dilutive.
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments, including cash,
accounts receivable, notes receivable, and accounts payable are deemed to
approximate fair value due to their short-term nature. The carrying amounts of
the Company's notes payable approximate their fair value due to their short-term
nature.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
RECLASSIFICATION
Certain prior year amounts have been reclassified to conform with the 1999
presentation.
2. COMMON STOCK AND COMMON STOCK WARRANTS
On January 12, 1989, the Company sold to the public 4,000,000 shares of its
$0.0001 par value common stock. The shares were sold as part of a unit for $0.05
per unit. Each unit consisted of one share of common stock and one common stock
purchase warrant ("A" warrant). The "A" warrant entitled the holder thereof to
purchase one additional share of common stock and one common stock purchase
F-12
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. COMMON STOCK AND COMMON STOCK WARRANTS (CONTINUED)
warrant ("B" warrant) for $0.12 per share. Each "B" warrant entitled the holder
to purchase one additional share of common stock for $1.00. The offering netted
$166,691 to the Company on the date of closing.
During the years ended October 31, 1989 and 1990, 3,348,000 "A" warrants were
exercised at $0.12 per share which netted the Company $395,539. All remaining
"A" warrants have been canceled. The 3,348,000 "B" warrants expired on September
15, 1996.
During the period from October 1996 to April 1997, the Company sold an aggregate
of 5,044,570 units, consisting of one share of Common Stock and one Common Stock
Purchase Warrant (the "Warrants"), to accredited investors (the "Unit
Investors") in a private placement (the "Unit Offering"). The purchase price of
the units ranged from $0.21 per unit to $0.44 per unit. The Warrants have a term
of three years and are exercisable at $1.00 per share, subject to adjustment.
The Warrants are redeemable by the Company at $0.01 per Warrant during their
three-year exercise period upon 30 days' notice anytime that the closing bid
price per share of the Common Stock exceeds $1.50 per share (subject to
adjustment) for 20 trading days out of 30 consecutive trading days ending on the
third day prior to the date of the notice of redemption. The gross proceeds from
the Unit Offering were $1,275,980. The placement agent for the Unit Offering,
First Honolulu Securities, Inc., received total commissions of $76,559 (equal to
6% of the gross proceeds from the sale of the units) and 302,674 Common Stock
Purchase Warrants (equal to 6% of the number of units sold). The terms of the
Warrants issued are identical to the terms of the Warrants issued to the Unit
Investors in the Unit Offering.
In October 1997, the Company issued 1,303,435 shares of Common Stock to the Unit
Investors as compensation for the failure by the Company to cause the
registration statement of the shares purchased in the Unit Offering to be
declared effective by the Securities and Exchange Commission on or before May
29, 1997. The registration statement was declared effective on November 12,
1997. The shares have been reflected as issued and outstanding as of October 31,
1997 and the related expense of $275,807 is reflected in general and
administrative expenses for the year ended October 31, 1997.
In November 1996, the Company executed a letter of intent with C. Brewer and
Company, Limited (C. Brewer) with respect to the acquisition of between 80 and
90 acres of property on the Big Island of Hawaii valued at between $900,000 and
$1,000,000 in exchange for C. Brewer's acquisition of approximately 6% of the
outstanding common stock of the Company. In connection with this transaction, C.
Brewer would acquire a warrant to purchase up to 500,000 shares of the Company's
common stock at an exercise price of $1.25 per share. This transaction has not
been consummated as of October 31, 1999.
F-13
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. COMMON STOCK AND COMMON STOCK WARRANTS (CONTINUED)
Shares of common stock issuable upon exercise of outstanding warrants, options
and convertible notes payable as of October 31, 1999 are as follows:
<TABLE>
<S> <C>
Stock options granted to current and former directors, executive
officers, employees and consultants (NOTE 3) 13,776,238
Warrants outstanding:
@ $0.21 25,974
@ $0.40 750,000
@ $0.50 5,646,513
@ $1.00 5,347,244
Shares issuable upon conversion of outstanding convertible notes
payable 7,046,689
Warrants (@ $0.50) issuable upon conversion of outstanding
convertible notes payable (NOTE 4) 1,135,000
------------
33,727,658
------------
------------
</TABLE>
3. COMMON STOCK OPTIONS
In August 1995, the Company granted nonstatutory stock options, exercisable
immediately, to five individuals to purchase a total of 150,000 shares of the
Company's common stock at an exercise price of $0.0625 per share. In addition,
the Company also granted stock options to four individuals to purchase a total
of 5,627,462 shares at an exercise price of $0.0625 per share. The Company also
granted stock options to three individuals which became exercisable in July 1996
to purchase a total of 180,000 shares at an exercise price of $0.62 per share.
The options have a term of seven years.
In March 1996, the Company's Board of Directors approved a stock option plan
which provides for the granting of nonstatutory stock options to employees and
consultants of the Company. A total of 5,000,000 shares of the Company's common
stock has been reserved for issuance under the plan. Terms of awards under the
plan including vesting requirements, exercise prices and expiration dates are
determined at the discretion of the Board of Directors. The plan terminates in
March 2006.
In July 1996, the Company granted nonstatutory stock options to a consultant for
a total of 400,000 shares of the Company's common stock at an exercise price of
$0.56 per share. The options were immediately exercisable with respect to
200,000 shares. The remaining options became exercisable in January 1997 for
100,000 shares and July 1997 for 100,000 shares. The options have a term of ten
years.
F-14
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
3. COMMON STOCK OPTIONS (CONTINUED)
In November 1996, the Company granted nonstatutory stock options to ten
employees for a total of 107,307 shares of the Company's common stock at an
exercise price of $0.34 per share. The options vest over a period of five years
and have a term of ten years.
In January 1997, the Company granted a nonstatutory stock option to an
officer/director of the Company for a total of 1,500,000 shares of the Company's
common stock at an exercise price of $0.36 per share. The option vests over a
period of five years and has a term of ten years.
In April 1997, the Company sold a total of 1,000,000 shares of its common stock
to an officer/director of the Company at a purchase price of $0.21 per share. In
addition, the Company granted this person a nonstatutory stock option for a
total of 1,000,000 shares of the Company's common stock at an exercise price of
$1.00 per share. The option is fully vested and has a term of ten years.
In August 1997, the Company granted a nonstatutory stock option to a consultant,
who subsequently became an officer, for a total of 1,072,000 shares of the
Company's common stock at an exercise price of $0.25 per share. The option was
immediately exercisable with respect to 112,000 shares. The remainder becomes
exercisable in 2002 through 2004 or upon the achievement of certain agreed on
milestones, if earlier. The option has a term of seven years.
In September 1997, the Company granted nonstatutory stock options to 14
employees for a total of 474,510 shares of the Company's common stock at an
exercise price of $0.25 per share. The options vest over a period of five years
and have a term of ten years.
During the year ended October 31, 1997, the Company granted nonstatutory stock
options to four consultants for a total of 145,000 shares of the Company's
common stock at exercise prices ranging from $0.25 to $0.50 per share. The
options are fully vested and have a term of seven years.
In January 1998, the Company granted nonstatutory stock options to 14 employees
for a total of 460,350 shares of the Company's common stock at an exercise price
of $0.25 per share. The options vest over a period of five years and have a term
of ten years.
In November 1998, the Company granted nonstatutory stock options to 15 employees
for a total of 663,716 shares of the Company's common stock at an exercise price
of $0.20 per share. The options vest over a period of five years and have a term
of ten years.
During the year ended October 31, 1999, the Company granted nonstatutory stock
options to an officer and director for a total of 3,200,000 shares of the
Company's common stock at an exercise price of $0.50 per share. The options vest
over periods of three and five years and have a term of seven years. In
addition, the Company granted nonstatutory stock options to an officer and
employee for a total of
F-15
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
3. COMMON STOCK OPTIONS (CONTINUED)
350,000 shares of the Company's common stock at exercise prices of $0.22 and
$0.28 per share. The options vest over a period of five years and have a term of
nine years.
The Company has elected to follow Accounting Principles Board Opinion No. 25,
ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES (APB 25), and related interpretations
in accounting for its employee stock options because, as discussed below, the
alternative fair value accounting provided under FASB Statement No. 123,
ACCOUNTING FOR STOCK-BASED COMPENSATION (Statement 123), requires use of option
valuation models that were not developed for use in valuing employee stock
options. Under APB 25, because the exercise price of the Company's employee
stock options equals or exceeds the market price of the underlying stock on the
date of grant, no compensation expense is recognized.
Stock options issued to non-employees for services were at exercise prices at or
above market at the dates of grant and the Company believes the fair value of
these options were not material to the financial statements.
Pro forma information regarding net income and earnings per share is required by
Statement 123, and has been determined as if the Company had accounted for its
employee stock options under the fair value method of that statement. The fair
value for these options was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions:
<TABLE>
<CAPTION>
1999 1998 1997
------------------------------------------------------
<S> <C> <C> <C>
Risk-free interest rate 6% 6% 6%
Expected dividend yield 0% 0% 0%
Expected life 5 years 5 years 5 years
Expected volatility 0.47 0.58 0.63
</TABLE>
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
F-16
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
3. COMMON STOCK OPTIONS (CONTINUED)
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma information follows:
<TABLE>
<CAPTION>
1999 1998 1997
-------------------------------------------------
<S> <C> <C> <C>
Net loss:
As reported $ 4,070,566 $2,748,275 $1,962,027
Pro forma $ 4,217,830 $2,855,215 $2,214,068
Loss per share:
As reported $ 0.05 $0.05 $0.04
Pro forma $ 0.06 $0.05 $0.05
</TABLE>
A summary of the Company's stock option activity, and related information for
the years ended October 31, 1999, 1998 and 1997 follows:
<TABLE>
<CAPTION>
1999 1998 1997
-------------------------- ------------------------ ---------------------------
Wtd-Avg Wtd-Avg Wtd-Avg
Ex Price Ex Price Ex Price
Options Options Options
-------------------------- ------------------------ ---------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding, beginning of year 9,883,751 $ 0.27 9,970,263 $ 0.26 6,357,462 $ 0.11
Granted 4,213,716 0.43 460,350 0.25 4,298,817 0.47
Exercised - - (466,862) 0.06 (488,250) 0.06
Forfeited (321,229) 0.24 (80,000) 0.25 (197,766) 0.26
------------- ----------- -----------
Outstanding, end of year 13,776,238 $ 0.32 9,883,751 $ 0.27 9,970,263 $ 0.26
------------- ----------- -----------
------------- ----------- -----------
Exercisable, end of year 9,849,858 $ 0.31 7,313,000 $ 0.22 7,191,000 $ 0.20
</TABLE>
Common stock options of 466,862 and 463,250 exercised during the years ended
October 31, 1998 and 1997, respectively, were in exchange for three-year notes
receivable bearing interest at 5 percent per annum. The note balances of
$58,133, $59,696 and $30,516 at October 31, 1999, 1998 and 1997, respectively,
are presented in stockholders' equity (deficit).
F-17
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
3. COMMON STOCK OPTIONS (CONTINUED)
Weighted-average exercise prices and fair values of options issued during the
years ended October 31, 1999, 1998 and 1997 with exercise prices which equaled
or exceeded the market prices of the Company's stock on the grant date follows:
<TABLE>
<CAPTION>
1999 1998 1997
-------------------------------- ----------------------------- --------------------------------
Weighted-Ave. Weighted-Ave. Weighted-Ave.
------------------ ------------------ -----------------
Ex. Fair Ex. Fair Ex. Fair
Options Price Value Options Price Value Options Price Value
-------------------------------- ----------------------------- --------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Options whose
exercise price
equaled the market
price of the stock
on the grant date 250,000 $ 0.28 $ 0.25 - $ - $ - 2,081,817 $ 0.33 $ 0.20
Options whose
exercise price
exceeded the market
price of the stock
on the grant date 3,963,716 0.44 0.05 460,350 0.25 0.12 2,217,000 0.59 0.07
---------- -------- ----------
Options issued during
the year 4,213,716 460,350 4,298,817
---------- -------- ----------
---------- -------- ----------
</TABLE>
The following summarizes information about the Company's stock options
outstanding at October 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------------------- -------------------------------------
Wtd-Ave
Remaining Wtd-Ave Wtd-Ave
Range of Exercise Contractual Exercise Exercise
Prices Number Life Price Number Price
---------------------------------------------------------------------- -------------------------------------
<S> <C> <C> <C> <C> <C>
$0.06 to $0.22 5,365,728 3.7 years $ 0.08 4,927,026 $ 0.07
$0.25 to $0.36 3,675,510 6.7 0.30 1,557,829 0.31
$0.50 to $1.00 4,735,000 6.2 0.61 3,365,003 0.66
----------------- ---------------
13,776,238 9,849,858
----------------- ---------------
----------------- ---------------
</TABLE>
F-18
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
4. NOTES PAYABLE
Notes payable consisted of the following as of October 31:
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
One-year convertible notes, unsecured, bearing
interest at 10%per annum payable at the
earlier of conversion or maturity $ 130,000 $ 300,000 $ 200,000
60day short-term bridge financing note,
unsecured, bearing interest at 10% per annum
payable at maturity 40,000 - -
------------ ------------ ------------
------------ ------------ ------------
Total notes payable $ 170,000 $ 300,000 $ 200,000
------------ ------------ ------------
------------ ------------ ------------
One-year convertible notes payable to an
officer of the Company, unsecured, bearing
interest at 10% per annum payable at the
earlier of conversion or maturity $ 1,005,000 $ 265,000 $ 360,000
One-year notes payable to an officer of the
Company, unsecured, bearing interest at 10%
per annum payable at maturity 825,000 - -
------------ ------------ ------------
------------ ------------ ------------
Total notes payable to officer $ 1,830,000 $ 265,000 $ 360,000
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
Interest expense incurred on the above notes totaled approximately $160,000,
$120,000 and $12,000 for the years ended October 31, 1999, 1998 and 1997,
respectively.
During the period from June 1997 to October 31, 1999 the Company issued a total
of approximately $6.1 million in principal amount of convertible notes to
"accredited investors" in private placements. The principal and any accrued
interest are convertible for a period of six months from the date of the note
into shares of the Company's common stock at a 15% discount to the market price
of the stock on the issuance date of the note. The convertible notes also
provide for the holders to receive warrants to purchase shares of common stock
at $0.50 per share in a total amount equal to the dollar amount of the note upon
conversion or 40% of the dollar amount of the note if not converted.
F-19
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
4. NOTES PAYABLE (CONTINUED)
The following summarizes convertible notes payable transactions during the three
years ended October 31, 1999:
<TABLE>
<CAPTION>
Principal Upon Conversion
--------------------------------------
Amount of Number of Number of
Notes Shares Issued Warrants
------------------ ------------------ ----------------
<S> <C> <C> <C>
Balance at October 31, 1996 $ -
Convertible notes sold 200,000
------------------
Balance at October 31, 1997 200,000
Convertible notes sold 2,145,000
Notes converted (2,045,000) 12,049,180 2,045,000
------------------
Balance at October 31, 1998 300,000
Convertible notes sold 1,764,800
Notes converted (1,934,800) 11,859,290 1,934,800
------------------
Balance at October 31, 1999 $ 130,000
------------------
------------------
</TABLE>
The following summarizes convertible notes payable to officer transactions
during the three years ended October 31, 1999:
<TABLE>
<CAPTION>
Principal Upon Conversion
--------------------------------------
Amount of Number of Number of
Notes Shares Issued Warrants
------------------- ------------------ -------------------
<S> <C> <C> <C>
Balance at October 31, 1996 $ -
Convertible notes sold 360,000
-------------------
Balance at October 31, 1997 360,000
Convertible notes sold 665,000
Notes converted (760,000) 4,821,340 760,000
-------------------
-------------------
Balance at October 31, 1998 265,000
Convertible notes sold 1,005,000
Notes converted (265,000) 1,637,198 265,000
-------------------
Balance at October 31, 1999 $ 1,005,000
-------------------
-------------------
</TABLE>
F-20
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
4. NOTES PAYABLE (CONTINUED)
The Company has restated its financial statements for the years ended October
31, 1998 and 1997, as originally reported, to recognize the discount and related
expense resulting from the difference between the conversion price and the fair
value of the common stock underlying the convertible notes on their respective
issuance dates for convertible notes issued during those years. The impact of
the aforementioned on the Company's financial statements for the years ended
October 31, 1998 and 1997 was as follows:
<TABLE>
<CAPTION>
October 31, 1998 October 31, 1997
----------------------------------- -----------------------------------
As originally As originally
reported As restated reported As restated
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
Balance sheet:
Additional paid-in capital $ 8,189,414 $ 8,784,120 $ 4,699,470 $ 4,798,294
Deficit accumulated during the
development stage (7,064,314) (7,659,020) (4,811,921) (4,910,745)
Statement of operations:
Interest income (expense) (121,155) (617,037) 4,465 (94,359)
Net loss (2,252,393) (2,748,275) (1,863,203) (1,962,027)
Loss per share (0.04) (0.05) (0.04) (0.04)
</TABLE>
5. RELATED PARTY TRANSACTIONS
During the year ended October 31, 1991, the Company borrowed $29,000 from
stockholders. The four separate notes were unsecured, carried an interest rate
of 12% and were due in August 1992. As an inducement for the loans, the Company
issued a total of 290,000 shares of restricted stock to the lenders. For
purposes of the financial statements, this stock was valued at $0.04 per share
based on recent sales of restricted stock. Loan issue costs of $5,322 were
charged to interest expense in 1991 and unamortized loan issue costs of $6,693
were written off. During the year ended October 31, 1993, these loans were
converted to 430,650 shares of common stock.
During the year ended October 31, 1995, the Company reissued 1,320,000 shares of
common stock to its president and chief executive officer. These were shares
which had been previously returned to the Company (see Note 8).
The Company has also issued restricted stock for services to various officers,
directors and members of the Scientific Advisory Board as follows:
F-21
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
5. RELATED PARTY TRANSACTIONS (CONTINUED)
<TABLE>
<CAPTION>
Number of
Year Shares Value
--------------------------- --------------------------- ------------------------
<S> <C> <C>
1998 234,000 $ 58,500
1997 103,138 $ 39,016
1996 40,000 $ 5,000
</TABLE>
In July 1998, the Company entered into a loan agreement with one of its
officers. Under the terms of the agreement, the Company loaned the officer
$50,000 at an interest rate of 9% per annum due in three years. The loan is
secured by the officer's common stock options.
Due to officer is comprised of unpaid compensation payable to one of the
Company's officers.
6. INCOME TAXES
Since its formation the Company has incurred net operating losses. As of October
31, 1999, the Company had a net operating loss carryforward available to offset
future taxable income for federal and state income tax purposes of approximately
$9.5 million. The net operating loss carryforward for tax reporting purposes
expires in the years from 1999 to 2019. The Company also has a research credit
carryover approximating $200,000 which expires between the years 2003 and 2019.
No deferred tax benefit or liability has been recorded for temporary differences
between book and tax reporting due to the uncertainty of any eventual recovery
or payment.
7. INVESTMENT IN OCEANCOLOR, INC.
In March 1993, the Company invested $50,000 in a joint venture (OceanColor,
Inc.) with Cyanotech Corporation (Cyanotech). The Company and Cyanotech each
owned 50% of OceanColor, Inc. During the year ended October 31, 1994, the
Company invested an additional $97,100 in this joint venture. In November 1994,
the joint venture was dissolved with the licensing rights to its proprietary
technology reverting entirely to the Company. At the time of dissolution, there
was approximately $7,500 of equipment in the joint venture which was distributed
to the Company. (See Note 9)
8. CORRECTION OF ACCOUNTING FOR REISSUANCE OF STOCK PREVIOUSLY CANCELED
During the year ended October 31, 1995, the Company reissued 1,320,000 shares of
restricted stock to its president and chief executive officer. These were shares
which had been previously returned to the Company by the president and chief
executive officer at no cost to the Company. The reissuance was recorded at par
value in the financial statements for the year ended October 31, 1995 with no
effect on net loss for that year. The Company has subsequently valued the
reissued stock at $0.15 per share based on the quoted market price of the
restricted stock at the date of reissuance. As a result, the Company's financial
statements for the year ended October 31, 1995 have been restated as follows:
F-22
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
8. CORRECTION OF ACCOUNTING FOR REISSUANCE OF STOCK PREVIOUSLY CANCELED
(CONTINUED)
<TABLE>
<CAPTION>
As originally
reported As restated
------------------ -----------------------
<S> <C> <C>
Balance sheet:
Additional paid-in capital $ 1,704,785 $ 1,902,785
Deficit accumulated during the development stage (1,452,786) (1,650,786)
Statement of operations:
General and administrative expenses 195,171 393,171
Net income (loss) (288,813) (486,813)
Loss per share (0.01) (0.02)
Statement of cash flows:
Expenses paid with common stock 12,998 210,998
</TABLE>
9. DISPUTE WITH CYANOTECH
In July 1998, Cyanotech filed a complaint in the United States District Court
for the District of Hawaii against the Company. In the complaint, Cyanotech
sought declaratory judgment of noninfringement of the Company's U.S. Patent No.
5,541,056; invalidity of the patent; and non-misappropriation of the Company's
trade secrets relating to closed culture production of astaxanthin. Cyanotech
filed the complaint after the Company expressed to Cyanotech its concern that
Cyanotech's use of closed system technology may violate its patent and
constitute misappropriation of trade secrets.
In September 1998, the Company filed an answer denying all of Cyanotech's
allegations and a counter claim, alleging infringement of its patent;
misappropriation of trade secrets; unfair competition; and breach of contract
relative to its 1994 Dissolution Agreement with Cyanotech (See Note 7).
On December 30, 1999, the United States District Court for the District of
Hawaii granted summary judgment in favor of the Company on its claims that
Cyanotech infringed its patent, misappropriated the Company's trade secrets, and
breached the terms of the 1994 Dissolution Agreement. Additionally, the Court
denied Cyanotech's motion for partial summary judgment of noninfringement and
patent invalidity.
On January 14, 2000, Cyanotech filed a motion for reconsideration on the Court's
December 30, 1999 order. The Company's opposition brief is due on February 1,
2000.
The Company has not accrued or reflected any amounts related to the dispute in
the accompanying financial statements.
10. SUBSEQUENT EVENT
On December 27, 1999 the shareholders of the Company approved an amendment to
the Company's Articles of Incorporation to increase the number of shares of
authorized common stock of the Company from 100,000,000 shares to 150,000,000
shares.
F-23
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
January 31, October 31,
2000 1999
(Unaudited) (Audited)
--------------------------------------
<S> <C> <C>
Assets
Current assets:
Cash $ 107,708 $ 90,522
Accounts receivable 42,321 24,300
Prepaid expenses 11,157 11,507
Refundable deposits 3,053 3,053
--------------------------------------
Total current assets 164,239 129,382
--------------------------------------
Notes receivable from officer 50,000 50,000
Plant and equipment:
Plant 2,800,856 2,795,258
Equipment 1,036,562 1,060,348
Less accumulated depreciation (474,931) (413,244)
--------------------------------------
Net plant and equipment 3,362,487 3,442,362
--------------------------------------
Total assets $ 3,576,726 $ 3,621,744
--------------------------------------
--------------------------------------
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 922,386 $ 894,995
Due to officer 269,400 241,800
Notes payable 315,000 170,000
Notes payable to officer 825,000 1,830,000
--------------------------------------
Total current liabilities 2,331,786 3,136,795
--------------------------------------
Stockholders' Equity
Preferred stock (5,000,000 shares authorized) - -
Common stock ($0.0001 par value, 150,000,000 shares
authorized, 97,244,310 and 87,060,501 shares
outstanding at January 31, 2000 and October
31, 1999, respectively) 10,846 9,829
Additional paid-in capital 14,069,069 12,262,839
Notes receivable (58,133) (58,133)
Deficit accumulated during the development stage (12,776,842) (11,729,586)
--------------------------------------
Total stockholders' equity 1,244,940 484,949
--------------------------------------
Total liabilities and stockholders' equity $ 3,576,726 $ 3,621,744
--------------------------------------
--------------------------------------
</TABLE>
F-24
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
CONDENSED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
For the Three
For the Three Months Ended
From Inception Months Ended January 31,
to January 31, January 31, 1999
2000 2000 (as restated)
(Unaudited) (Unaudited) (Unaudited)
-----------------------------------------------------------
<S> <C> <C> <C>
Operations
Sales $ 11,077 $ - $ -
Cost of sales 23,464 - -
-----------------------------------------------------------
Gross loss from operations (12,387) - -
Research and development costs 5,340,828 557,810 326,095
General and administrative expenses 5,839,093 397,098 403,678
-----------------------------------------------------------
Loss from operations (11,192,308) (954,908) (729,773)
Other Income (Expense)
Interest (1,520,095) (145,880) (295,831)
Other 97,159 53,532 (247)
Investment in joint venture (147,096) - -
-----------------------------------------------------------
Total other income (expense) (1,570,032) (92,348) (296,078)
-----------------------------------------------------------
Loss before income taxes and
extraordinary item (12,762,340) (1,047,256) (1,025,851)
Extraordinary item - loss on write down
of assets to liquidation basis (14,502) - -
-----------------------------------------------------------
Net loss $ (12,776,842) $ (1,047,256) $ (1,025,851)
-----------------------------------------------------------
-----------------------------------------------------------
Loss per share $ (0.43) $ (0.01) $ (0.02)
-----------------------------------------------------------
-----------------------------------------------------------
Weighted average shares outstanding 29,987,669 80,870,601 57,888,524
-----------------------------------------------------------
-----------------------------------------------------------
</TABLE>
F-25
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
CONDENSED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the Three
For the Three Months Ended
From Inception to Months Ended January 31,
January 31, January 31, 1999
2000 2000 (as restated)
(Unaudited) (Unaudited) (Unaudited)
--------------------------------------------------------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net loss $ (12,776,842) $ (1,047,256) $ (1,025,851)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation 474,931 61,687 24,995
Expenses paid with common stock 1,074,739 119,600 -
Discount on convertible notes payable 1,176,141 92,647 264,671
Changes in:
Receivables (42,321) (18,021) -
Other current assets (14,210) 350 2,905
Accounts payable and due to officer 1,191,786 54,991 131,515
--------------------------------------------------------
Cash used in operating activities (8,915,776) (736,002) (601,765)
Cash Flows from Investing Activities:
Purchases of fixed assets (3,837,418) 18,188 (933,788)
--------------------------------------------------------
Cash used in investing activities (3,837,418) 18,188 (933,788)
Cash Flows from Financing Activities:
Increase in notes receivable (48,437) - -
Proceeds from issuance of common stock 5,691,458 250,000 398,569
Proceeds from notes payable 7,489,800 485,000 1,100,000
Offering costs (271,919) - -
--------------------------------------------------------
Cash provided by financing activities 12,860,902 735,000 1,498,569
--------------------------------------------------------
Net increase (decrease) in cash 107,708 17,186 (36,984)
Cash, beginning of the period - 90,522 151,473
--------------------------------------------------------
Cash, end of the period $ 107,708 $ 107,708 $ 114,489
--------------------------------------------------------
--------------------------------------------------------
Supplemental disclosure of cash flow
information:
Non-cash financing transactions:
Conversion of convertible notes payable
to common stock $ 6,349,800 $ 1,345,000 $ 193,800
</TABLE>
F-26
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO CONDENSED FINANCIAL STATEMENTS
JANUARY 31, 2000
(UNAUDITED)
1. GENERAL
The accompanying unaudited financial statements have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-QSB. Accordingly, they do not include all
of the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring adjustments) considered necessary
for a fair presentation have been included.
These financial statements should be read in conjunction with the financial
statements for the year ended October 31, 1999 appearing elsewhere herein.
2. COMMON STOCK AND COMMON STOCK PURCHASE WARRANTS
As of January 31, 2000, there were a total of 7,414,487 Common Stock Purchase
Warrants (the "Warrants") issued and outstanding, of which 25,974 Warrants had
an exercise price of $0.21 per share, 1,000,000 Warrants had an exercise price
of $0.40 per share and 6,388,513 Warrants had an exercise price of $0.50 per
share. No Warrants were exercised during the three months ended January 31,
2000. At January 31, 2000, the Company had reserved a sufficient number of
shares of its Common Stock for issuance upon exercise of the Warrants.
An analysis of the changes in stockholders' equity is as follows:
<TABLE>
<CAPTION>
Shares of Additional Total
Common Common Paid-In Notes Accumulated Stockholders'
Stock Stock Capital Receivable Deficit Equity
-------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance, October 31, 1999 87,060,501 $ 9,829 $ 12,262,839 $ (58,133) $(11,729,586) $ 484,949
Issuance of stock on
conversion of convertible
notes payable ($0.13 to
$0.37 per share) 8,517,142 851 1,463,749 - - 1,464,600
Sale of stock ($0.15 per
share) 1,666,667 166 249,834 - - 250,000
Discount on convertible
notes payable - - 92,647 - - 92,647
Loss for the three months
ended January 31, 2000 - - - - (1,047,256) (1,047,256)
-------------------------------------------------------------------------------------------
Balance, January 31, 2000 97,244,310 $ 10,846 $ 14,069,069 $ (58,133) $(12,776,842) $ 1,244,940
-------------------------------------------------------------------------------------------
-------------------------------------------------------------------------------------------
</TABLE>
During the two months ended March 31, 2000, we issud $1,070,000 aggregate
principal amount of one-year convertible notes and received $251,000 for the
exercise of a warrant for 502,000 shares of common stock.
F-27
<PAGE>
AQUASEARCH, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO CONDENSED FINANCIAL STATEMENTS
JANUARY 31, 2000
(UNAUDITED)
3. QUARTER ENDED JANUARY 31, 1999 RESTATEMENT
The financial statements for the three months ended January 31, 1999 have been
restated to recognize the discount and related expense resulting from the
difference between the conversion price and the fair value of the common stock
underlying the convertible notes on their respective issuance dates for
convertible notes issued during that period. The impact of the aforementioned on
the financial statements for the three months ended January 31, 1999 was as
follows:
<TABLE>
<CAPTION>
As originally
reported As restated
------------------ -----------------
<S> <C> <C>
Statement of operations:
Interest expense $ (31,160) $ (295,831)
Net loss (761,180) (1,025,851)
Accumulated deficit, beginning of period (7,064,314) (7,659,020)
Accumulated deficit, end of period (7,825,494) (8,684,871)
Loss per share (0.01) (0.02)
</TABLE>
F-28
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Article Eight Section (b) of our Articles of Incorporation provides for the
indemnification of our officers and directors to the extent permitted by law and
further provides that our officers and directors shall not be liable to us for
any loss or damage suffered by us on account of any action taken by him as a
director or officer of the corporation if he acted in good faith and in a manner
reasonably believed to be in or not opposed to our best interests and, with
respect to a criminal matter, if he had no reasonable cause to believe that his
conduct was unlawful.
We have entered into indemnification agreements with our directors and executive
officers, and intend to enter into indemnification agreements with any new
directors and executive officers in the future.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the various expenses in connection with the sale
and distribution of the securities being registered. All of the amounts shown
are estimates except the Securities and Exchange Commission registration fee.
<TABLE>
<S> <C>
Securities and Exchange Commission registration fee................... $ 1,909.00
Printing and engraving expenses....................................... 10,000.00
Legal fees and expenses............................................... 20,000.00
Accounting fees and expenses.......................................... 4,000.00
Miscellaneous expenses................................................ 4,091.00
---------------
Total........................................................ $ 40,000.00
---------------
---------------
</TABLE>
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES
During the two months ended March 31, 2000, we issued $1,070,000 aggregate
principal amount of one-year convertible notes and received $251,000 for the
exercise of a warrant for 502,000 shares of common stock.
During the quarter ended January 31, 2000, we sold an aggregate of $485,000
principal amount of convertible notes bearing interest at 10% per annum. The
holders of the convertible notes have an option to convert their convertible
notes into our common stock. The convertible notes provide that upon conversion,
the holders would receive warrants to purchase shares of our common stock. The
warrants have an exercise price of $0.50 per share and a term of three years.
During the quarter ended January 31, 2000, some of the holders of these
convertibles notes and other outstanding convertible note holders (amounting to
$1,345,000 aggregate principal amount) exercised their option to convert their
convertible notes into shares of common stock. Upon conversion of the
outstanding principal of, and interest on, the convertible notes, we issued
8,517,142 shares of common stock and also issued 742,000 warrants in connection
thereto. As part of this transaction, Earl S. Fusato, our Chief Financial
Officer, Secretary and a member of our Board of Directors, converted $1,005,000
aggregate principal amount of convertible notes and received 6,827,616 shares of
common stock and 402,000 warrants. These transactions were exempt from
registration under the Securities Act of 1933 pursuant to Section 4(2). No
underwriters were involved in these transactions.
II-1
<PAGE>
During the period from February 1, 1999 to January 31, 2000, Gregory Kowal,
purchased 6,666,667 shares of our common stock at $0.15 per share. In connection
with the purchase Mr. Kowal received 1,000,000 warrants with an exercise price
of $0.40 per share. The transactions were exempt from registration under the
Securities Act of 1933 pursuant to Section 4(2). No underwriters were involved
in the transactions.
During the period from September 1998 to September 1999, we sold an aggregate of
$3,334,800 principal amount of convertible notes bearing interest at 10% per
annum. The holders of the convertible notes have an option to convert their
convertible notes into our common stock. The convertible notes provide that upon
conversion, the holders would receive warrants to purchase shares of our common
stock. The warrants have an exercise price of $0.50 per share and a term of
three years. As of September 30, 1999, some of the holders of these convertibles
notes and other outstanding convertible note holders (amounting to $2,199,800
aggregate principal amount) exercised their option to convert their convertible
notes into shares of common stock. Upon conversion of the outstanding principal
of, and interest on, the convertible notes, we issued 13,496,488 shares of
common stock and also issued 2,199,800 warrants in connection thereto. These
transactions were exempt from registration under the Securities Act of 1933
pursuant to Section 4(2). No underwriters were involved in these transactions.
During the period from June 1997 to September 1998, we sold $3,305,000 aggregate
principal amount of convertible notes to a total of twelve "accredited
investors" as defined under Rule 501 of the Securities Act. In connection with
the issuance of these notes, we also issued to these investors a total of
3,305,000 warrants to purchase a total of 3,418,713 shares of common stock. The
warrants have an exercise price of $0.50 per share and have a term of three
years. Between July and September 1998, the investors converted the convertible
notes into 20,075,648 shares of common stock. The number of shares and warrants
issued to the investors is as follows: Jane Eliza Weaver Brickey, 595,510
shares, 100,000 warrants; Margret Daul, 599,510 shares, 100,000 warrants; Jean
Farmer, 570,184 shares, 100,000 warrants; Earl S. Fusato Revocable Trust, Earl
S. Fusato, Trustee, 4,821,340 shares, 760,000 warrants; Gregory Kowal, 3,205,128
shares, 500,000 warrants; Linda and Joe Maloney, 584,409 shares, 100,000
warrants; James Stewart Miller Revocable Trust, James Stewart Miller, Trustee,
142,468 shares, 25,000 warrants; Lance and Elaine Nakamura, 1,574,673 shares,
250,000 warrants; Viiu Niiler and Charles Cole, 324,265 shares, 50,000 warrants;
Scott Family Trust, Tom Scott, Trustee, 663,102 shares, 120,000 warrants; Jean
Sawyer Weaver Trust, Jean S. Weaver, Trustee, 6,391,223 shares, 1,100,000
warrants; and Sarah Anna Randsell Weaver, 599,837 shares, 100,000 warrants. No
underwriters were used in these transactions. This offering was made under
Section 4(2) of the Securities Act.
From February to March 1998, we sold to Earl S. Fusato, our Chief Financial
Officer, Secretary and a member of our Board of Directors, certain short-term
notes in the aggregate principal amount of $250,000. The notes are payable in
full on September 30, 1998. In connection with the issuance of the notes, we
issued to Mr. Fusato warrants to purchase a total of 113,713 shares of our
common stock. The warrants have an exercise price of $0.50 per share and have a
term of three years. No underwriters were used. This offering was made under
Section 4(2) of the Securities Act.
In March 1998, we issued 108,000 shares of common stock at $0.25 per share to
Dr. Pearn Niiler, one of our directors, for prior services rendered to us as a
member of the Scientific Advisory Board. No underwriters were used. This
offering was made under Section 4(2) of the Securities Act.
In March 1998, Tana Acalay, formerly our Chief Financial Officer, exercised
options to purchase 466,862 shares of our common stock at the exercise price of
$0.063 per share. The total proceeds to us were
II-2
<PAGE>
$29,179. No underwriter was used. This offering was made pursuant to the
exemption provided under Section 4(2) of the Securities Act.
From January to March 1998, we issued an aggregate of 126,000 shares of common
stock at $0.25 per share to the following members of the Scientific Advisory
Board in exchange for services to us: Dr. Edward A. Laws -- 17,000 shares; Dr.
Robert R. Bidigare -- 17,000 shares; Dr. William Fenical -- 17,000 shares; Dr.
John Bardach -- 17,000 shares; Dr. Farooq Azam -- 12,000 shares; Dr. Malcolm
Gregory -- 37,000 shares; and Dr. Aladar Szalay -- 9,000 shares. No underwriters
were used. This offering was made under Section 4(2) of the Securities Act.
In October 1997, we issued 50,000 shares of common stock at $0.25 per share to
Edward E. David, Sc.D., for consulting services rendered as a member of our
Board of Directors. No underwriter was used. This offering was made pursuant to
the exemption provided under Section 4(2) of the Securities Act.
In October 1997, we sold 50,000 shares of common stock at $0.25 per share to
Edward E. David, Sc.D., a member of our Board of Directors. The total proceeds
to us from this transaction were $12,500. No underwriter was used. This offering
was made pursuant to the exemption provided under Section 4(2) of the Securities
Act.
In October 1997, we issued 10,000 shares of common stock at $0.25 per share to
Oskar R. Zaborsky, Ph.D., for consulting services rendered as a member of our
Board of Directors. No underwriter was used. This offering was made pursuant to
the exemption provided under Section 4(2) of the Securities Act.
In October 1997, we sold 10,000 shares of common stock at $0.25 per share to
Oskar R. Zaborsky, Ph.D., a member of our Board of Directors. The total proceeds
to us from this transaction were $2,500. No underwriter was used. This offering
was made pursuant to the exemption provided under Section 4(2) of the Securities
Act.
In September 1997, Tana Acalay, formerly our Chief Financial Officer, exercised
options to purchase 463,250 shares of our common stock at the exercise price of
$0.06 per share. The total proceeds to us were $28,953 in the form or a three
year note receivable bearing interest of five percent per annum. No underwriter
was used. This offering was made pursuant to the exemption provided under
Section 4(2) of the Securities Act.
In April 1997, we sold 1,000,000 shares of common stock at $0.21 per share to
Earl S. Fusato, our Chief Financial Officer, Secretary and a member of our Board
of Directors. The total proceeds to us were $210,000. No underwriter was used.
This offering was made pursuant to the exemption provided under Section 4(2) of
the Securities Act.
During the period from October 1996 to April 1997, we sold an aggregate of
5,044,570 units, consisting of one share of common stock and one common stock
purchase warrant, in a private placement under Section 4(2) of the Securities
Act of 1933, as amended, to the following persons at the following prices:
Bernadette Ahuna - 23,255 units at $0.43 per unit; Dorothy Ako - 33,333 units at
$0.30 per unit; Amy M. Matsuda Revocable Living Trust - 38,461 units at $0.26
per unit; Steve Berson - 95,238 units at $0.21 per unit and 22,727 units at
$0.22 per unit; Alfredo Briones - 23,255 units at $0.43 per unit; David Coury -
90,909 units at $0.22 per unit; Earl S. Fusato Revocable Living Trust - 115,384
units at $0.26 per unit; William and Bernice Frankoff - 17,857 units at $0.28
per unit; Edward Fukuyama - 45,454 units at $0.22 per unit; Ralph Fuller -
23,255 units at $0.43 per unit; Solomon and Alice Goldsmith - 33,333 units at
II-3
<PAGE>
$0.30 per unit; Francis Gray - 45,454 units at $0.22 per unit; Christopher
and Lynne Harrison - - 75,000 units at $0.23 per unit; Hawaiian Trust
Company, Ltd -416,666 units at $0.24 per unit; Winston Healy - 34,482 units
at $0.29 per unit; Dan Hirashima - 68,965 units at $0.29 per unit; J.W.A.
Buyers Revocable Living Trust - 41,666 units at $0.24 per unit; Raymond &
Anna Kam - 90,909 units at $0.22 per unit, 86,956 units at 0.23 per unit and
41,666 units at $0.24 per unit; Gerald and Patricia Kammier - 45,454 units at
$0.22 per unit; Gregory Kowal - 476,190 units at $0.21 per unit; Eddy Louis -
37,037 units at $0.27 per unit; Alan & Amina Miyasaki - 24,390 units at $0.41
per unit; Grace Morrow -108,695 units at $0.23 per unit, 153,846 units at
$0.26 per unit and 38,461 units at $0.26 per unit; David Murakami - 173,809
units at $0.21 per unit, 28,000 units at $0.25 per unit and 20,833 units at
$0.24 per unit; Donald and Kimika Nakama - 238,095 units at $0.21 per unit;
Lance and Elaine Nakamura -125,000 units at $0.32 per unit and 136,363 units
at $0.22 per unit; Calvin and Eunice Nakata - 100,000 units at $0.22 per
unit; Clarence and Margaret Okimoto -45,454 units at $0.22 per unit, 11,869
units at $0.23 per unit and 12,000 units at $0.25 per unit; Charles Parl -
43,478 units at $0.23 per unit; Paul F. Glenn Revocable Trust - 37,037 units
at $0.27 per unit; Michie Proctor - 113,636 units at $0.22 per unit, 119,047
units at $0.21 per unit and 454,545 units at $0.22 per unit; Scott Family
Trust - 113,636 units at $0.44 per unit and 178,571 units at $0.28 per unit;
Gene Seltzer - 43,478 units at $0.23 per unit; Yoshiko Takara - 23,255 units
at $0.43 per unit; Izidor Tischler - 43,478 units at $0.23 per unit; Joseph
Triggs - 232,558 units at $0.43 per unit; Bruce Tyson - 45,454 units at $0.22
per unit; Robert Walker - 47,619 units at $0.21 per unit; Eileen Winter -
50,000 units at $0.25 per unit; Alvin Kuo Wong - 41,666 units at $0.36 per
unit; and Russell Yamamoto - 217,391 units at $0.23 per unit. The warrants
have a term of three years and are exercisable at $1.00 per share, subject to
adjustment. The warrants are redeemable by us at $.01 per warrant during
their three-year exercise period upon 30 days' notice anytime that the
closing bid price per share of the common stock exceeds $1.50 per share
(subject to adjustment) for 20 trading days out of 30 consecutive trading
days ending on the third day prior to the date of the notice of redemption.
The gross proceeds from this offering were $1,275,980. The Placement Agent
for this offering, First Honolulu Securities, Inc., received total
commissions of $76,558.80 (equal to 6% of the gross proceeds from the sale of
the units) and 302,674 common stock purchase warrants (equal to 6% of the
number of units sold). The terms of the warrants issued to First Honolulu
Securities, Inc. are identical to the terms of the warrants issued to the
purchasers in the offering.
In March 1997, John Emerick, our Vice President of Operations, exercised options
to purchase 25,000 shares of our common stock at the exercise price of $0.06 per
share. The total proceeds to us were $1,562 in the form of a three year note
receivable bearing interest of five percent per annum. No underwriter was used.
This offering was made pursuant to the exemption provided under Section 4(2) of
the Securities Act.
In February 1997, we issued 4,000 shares of common stock at $0.46 per share to
Albert Leong in exchange for services to us. No underwriters were used. This
offering was made under Section 4(2) of the Securities Act.
In November 1996, we issued an aggregate of 18,760 shares of common stock at an
average price of $0.64/share to the following members of the Scientific Advisory
Board in exchange for services to us: Dr. Edward A. Laws -- 4,690 shares; Dr.
Robert R. Bidigare -- 4,690 shares; Dr. William Fenical -- 4,690 shares; and Dr.
John Bardach -- 4,690 shares. No underwriters were used. This offering was made
under Section 4(2) of the Securities Act.
In October 1996, we sold 400,000 shares of common stock at $0.50 per share to
Cultor pursuant to the Cultor Stock Subscription Agreement. The total proceeds
to us from this transaction were $200,000. No
II-4
<PAGE>
underwriters were used. This offering was made in reliance on the exemption
provided under Section 4(2) of the Securities Act.
ITEM 27. EXHIBITS
<TABLE>
<S> <C>
3.1* Articles of Incorporation
3.2+ Articles of Amendment to Articles of Incorporation dated October 4, 1996
3.3 Articles of Amendment to Articles of Incorporation filed March 30, 2000
3.4* By-laws
4.1+ Form of Bridge Loan Note
4.2+ Form of 1997 Warrant
4.3++ Form of Convertible Note
4.4++ Form of Warrant
4.5++ Form of Note and Warrant Purchase Agreement
5.1## Opinion of Wilson Sonsini Goodrich & Rosati
10.1# Distribution and Development Agreement between Cultor Ltd. and Aquasearch, dated May 14, 1996
10.2# Stock Subscription Agreement between Cultor Ltd. and Aquasearch, dated May 14, 1996
10.3+ The Amended Keahole Point Facilities Use Agreement dated August 22, 1996 by and between
The National Energy Laboratory of Hawaii Authority and Aquasearch
10.4$ Letter of Intent between C. Brewer and Company Limited and Aquasearch
10.5## Amendment to Distribution and Development Agreement between Cultor Ltd. and Aquasearch,
dated June 14, 1999
23.1 Consent of Ernst & Young LLP
23.2** Consent of Wilson Sonsini Goodrich & Rosati, P.C.
</TABLE>
- ------------------------
* Incorporated by reference to the exhibit filed with our Annual Report on
Form 10-KSB filed October 31, 1995.
# Incorporated by reference to the exhibit filed with our Current Report on
Form 8-K filed September 13, 1996.
+ Incorporated by reference to the exhibit filed with our Annual Report on
Form 10-KSB for the fiscal year ended October 31, 1996.
++ Incorporated by reference to the exhibit filed with Amendment No. 1 to
our registration statement on Form SB-2 filed October 28, 1998.
$ Incorporated by reference to our Current Report on Form 8-K dated
November 13, 1996.
** Included in Exhibit 5.1.
## Incorporated by reference to the exhibit filed with Amendment No. 1 to
the Company's Registration Statement on Form SB-2 filed November 9, 1999.
ITEM 28. UNDERTAKING
Insofar as indemnification for liabilities arising under the Securities Act of
1933 may be permitted to our directors, officers and controlling persons
pursuant to the foregoing provisions, or otherwise, we have been advised that in
the opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by us of expenses incurred or paid by one or
more of our directors, officers or controlling persons in the successful defense
of any action, suit or proceeding) is asserted by one or more of our directors,
officers or controlling persons in connection with the securities being
registered, we will, unless in the opinion of our counsel the matter has been
settled by controlling precedent, submit to a court of appropriate jurisdiction
the question whether such indemnification by us is against public policy as
expressed in the Securities Act and will be
II-5
<PAGE>
governed by the final adjudication of such issue.
We hereby undertake to:
(1) file during any period in which we offer or sell securities, a
post-effective amendment to this registration statement to:
(a) include any prospectus required by Section
10(a)(3) of the Securities Act;
(b) reflect in the prospectus any facts or
events which, individually or together, represent a
fundamental change in the information in the
registration statement. Notwithstanding the
foregoing, any increase or decrease in volume of
securities offered (if the total dollar value of
securities offered would not exceed that which was
registered) and any deviation from the low or high
end of the estimated maximum offering range may be
reflected in a form of prospectus filed with the
Securities and Exchange Commission pursuant to Rule
424(b) if, in the aggregate, the changes in volume
and price represent no more than a 20% change in the
maximum aggregate offering price set forth in the
"Calculation of the Registration Fee" table in the
effective registration statement; and
(c) include any additional or changed material
information on the plan of distribution.
(2) for purposes of determining liability under the Securities Act,
treat each post-effective amendment as a new registration statement of the
securities offered, and the offering of the securities at that time to be the
bona fide offering.
(3) file a post-effective amendment to remove from registration any of
the securities that remain unsold at the end of the offering.
II-6
<PAGE>
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
registrant certifies that it has reasonable grounds to believe that it meets all
the requirements of filing on Form SB-2 and authorized this Post-Effective
Amendment No. 1 to the Registration Statement on Form SB-2 to be signed on its
behalf by the undersigned, in the City of Honolulu, State of Hawaii, on April
28, 2000.
AQUASEARCH, INC.
/s/ Mark E. Huntley
---------------------------------------
Mark E. Huntley
President and Chief Executive Officer
In accordance with the requirements of the Securities Act of 1933, this
Post-Effective Amendment No. 1 to the Registration Statement on Form SB-2 was
signed by the following persons in the capacities and on the dates stated.
<TABLE>
<CAPTION>
SIGNATURE DATE
--------- ----
<S> <C>
/s/ Mark E. Huntley April 28, 2000
- ----------------------------------------------------------------- ----------------
Mark E. Huntley
Chairman of the Board, Chief Executive Officer and President
(Principal Executive Officer)
Pearn P. Niiler* April 28, 2000
- ----------------------------------------------------------------- ----------------
Pearn P. Niiler
Director
Edward E. David* April 28, 2000
- ----------------------------------------------------------------- ----------------
Edward E. David
Director
/s/ Earl S. Fusato April 28, 2000
- ----------------------------------------------------------------- ----------------
Earl S. Fusato
Director and Chief Financial Officer
(Chief Accounting Officer)
David Tarnas* April 28, 2000
- ----------------------------------------------------------------- ----------------
David Tarnas
Director
* By: /s/ Earl S. Fusato
- -----------------------------------------------------------------
Earl S. Fusato
Attorney-in-Fact
</TABLE>
(Signing under the authority of a Power of Attorney previously filed with the
Securities and Exchange Commission.)
II-7
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<S> <C>
3.1* Articles of Incorporation
3.2+ Articles of Amendment to Articles of Incorporation dated October 4, 1996
3.3 Articles of Amendment to Articles of Incorporation filed March 30, 2000
3.4* By-laws
4.1+ Form of 1996 Bridge Loan Note
4.2+ Form of 1997 Warrant
4.3++ Form of Convertible Note
4.4++ Form of Warrant
4.5++ Form of Note and Warrant Purchase Agreement
5.1## Opinion of Wilson Sonsini Goodrich & Rosati
10.1# Distribution and Development Agreement between Cultor Ltd. and Aquasearch, dated May
14, 1996
10.2# Stock Subscription Agreement between Cultor Ltd. and Aquasearch, dated May 14, 1996
10.3+ The Amended Keahole Point Facilities Use Agreement dated August 22, 1996 by and
between The National Energy Laboratory of Hawaii Authority and Aquasearch
10.4$ Letter of Intent between C. Brewer and Company Limited and Aquasearch
10.5## Amendment to Distribution and Development Agreement between Cultor Ltd. and
Aquasearch, dated June 14, 1999
23.1 Consent of Ernst & Young LLP
23.2** Consent of Wilson Sonsini Goodrich & Rosati, P.C.
</TABLE>
* Incorporated by reference to the exhibit filed with our Annual Report on
Form 10-KSB filed October 31, 1995.
# Incorporated by reference to the exhibit filed with our Current Report on
Form 8-K filed September 13, 1996.
+ Incorporated by reference to the exhibit filed with our Annual Report on
Form 10-KSB for the fiscal year ended October 31, 1996.
++ Incorporated by reference to the exhibit filed with Amendment No. 1 to
our registration statement on Form S-B filed October 28, 1998.
$ Incorporated by reference to our Current Report on Form 8-K dated
November 13, 1996.
** Included in Exhibit 5.1.
## Incorporated by reference to the exhibit filed with Amendment No. 1 to
the Company's Registration Statement on Form SB-2 filed November 9, 1999.
<PAGE>
EXHIBIT 3.3
ARTICLES OF AMENDMENT
TO THE
ARTICLES OF INCORPORATION
OF
AQUASEARCH, INC
Pursuant to the provisions of the Colorado Business Corporation Act,
the undersigned corporation adopts the following Articles of Amendment to its
Articles of Incorporation:
FIRST: The name of the corporation is Aquasearch, Inc.
SECOND: The following amendment was adopted by the Board of
Directors and Shareholders of the corporation effective December 27, 1999 in
the manner prescribed by the Colorado Business Corporation Act:
RESOLVED: That the Fourth Article of the Articles of Incorporation
of the corporation be, and it hereby is, changed to read as follows:
(a) This Corporation is authorized to issue two classes of stock,
designated "Common Stock" and "Preferred Stock." The total number of shares of
Common Stock which this corporation shall have authority to issue is 150,000,000
shares. The total number of shares of Preferred Stock which this corporation
shall have authority to issue is 5,000,000 shares. Each share of Common Stock
and Preferred Stock shall have a par value of $0.0001 per share.
The corporation's board of directors is hereby authorized, subject to
limitations prescribed by law and the provisions of this Fourth Article to
provide for the issuance of the shares of Preferred Stock in one or more series,
and by filing Articles of Amendment to the Articles of Incorporation pursuant to
the Colorado Business Corporation Act, to establish from time to time the number
of shares included in each such series, and to fix the designations,
preferences, limitations, and relative rights of the series of shares.
The authority of the corporation's board of directors with respect to
each series shall include, but not be limited to, determination of the
following:
A. The number of shares constituting that series and the
distinctive designation of that series;
B. The dividend rate on the shares of that series, whether dividends
shall be cumulative and, if so, from which date or dates, and the relative
rights of priority, if any, of payment of dividends on shares of that series;
<PAGE>
C. Whether that series shall have the voting rights in addition to the
voting rights provided by law, and, if so, the terms of such voting rights;
D. Whether that series shall have conversion privileges, and, if so,
the terms and conditions of such privileges, including provision for adjustment
of the conversion rate in such events as the corporation's board of directors
shall determine;
E. Whether or not the shares of that series shall be redeemable, and,
if so, the terms and conditions of such privileges, including the date or dates
upon or after which they shall be redeemable, and the amount per share payable
on case of redemption, which amount may vary under different conditions and at
different redemption rates;
F. Whether that series shall have a sinking fund for the redemption or
purchase of shares of that series and, if so, the terms in the amount of such
sinking funds;
G. The rights of the shares of that series in the event of
voluntary or involuntary liquidation, dissolution or winding up of the
corporation, and the relative rights of priority, if any, of payment or
shares of that series; and
H. Any other relative rights, preferences and limitations of that
series.
(b) Each shareholder of record shall have one vote for each share of
Common Stock standing in his or her name on the books of the corporation and
entitled to vote thereon. Cumulative voting shall not be permitted in the
election of directors or otherwise.
(c) At all meetings of shareholders, one-third of the shares entitled
to vote at such meeting, represented in person or by proxy, shall constitute a
quorum.
(d) The shareholders, by vote or concurrence of a majority of the
outstanding shares of the corporation, or any class or series thereof, entitled
to vote on the subject matter, may take any action which, except for this
Article, would require a two-thirds vote under the Colorado Business Corporation
Act, as amended.
(e) No shareholder of the corporation shall have any preemptive or
other right to subscribe for any additional unissued or treasury shares of
stockor for other securities of any class, or for rights, warrants or options
topurchase stock, or for scrip, or for securities of any kind convertible into
stock or carrying stock purchase warrants or privileges.
(f) The Board of Directors may from time to time distribute to the
shareholders in partial liquidation, out of stated capital or capital surplus
of the corporation, a portion of its assets, in cash or property, subject to
the limitations contained in the statutes of Colorado and these Articles of
Incorporation.
-2-
<PAGE>
THIRD: The number of shares voting for the amendment was sufficient
for approval.
IN WITNESS WHEREOF, the undersigned has executed this Articles of
Amendment to the Articles of Incorporation on this 29th day of March, 2000.
AQUASEARCH, INC.
By /s/ EARL S. FUSATO
------------------------------------
Earl S. Fusato
Chief Financial Officer and Secretary
-3-
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT AUDITORS
We consent to the reference to our firm under the caption "Experts" and to the
use of our report dated January 27, 2000, in the Post-Effective Amendment No. 1
to Registration Statement (Form SB-2) dated April 28, 2000 and related
Prospectus of Aquasearch, Inc. for the registration of 19,549,622 shares of its
common stock.
/s/ Ernst & Young LLP
Honolulu, Hawaii
April 28, 2000
