<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
--------------------------------------------------------------------------------
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended JUNE 30, 2000 Commission File No. 0-18734
AVANIR PHARMACEUTICALS
(Exact name of registrant as specified in its charter)
CALIFORNIA 33-0314804
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
9393 TOWNE CENTRE DRIVE, SUITE 200
SAN DIEGO, CALIFORNIA 92121
(Address of principal executive office) (Zip Code)
(858) 558-0364
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934
during the preceding 12 months (or for such shorter periods that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES [X] NO
The number of shares of Common Stock of the Registrant issued and outstanding as
of August 14, 2000:
Class A Common stock, no par value 55,515,240
Class B Common stock, no par value 65,000
--------------------------------------------------------------------------------
<PAGE> 2
AVANIR PHARMACEUTICALS
FORM 10-Q
For the quarter ended June 30, 2000
Index
<TABLE>
<CAPTION>
Page
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (unaudited)
Consolidated Balance Sheets at September 30, 1999 and
June 30, 2000..................................................................... 3
Consolidated Statements of Operations for the three and
nine month periods ended June 30, 1999 and 2000 and for the
period from August 31, 1988 (inception) to June 30, 2000.......................... 4
Consolidated Statements of Cash Flows for the nine month
periods ended June 30, 1999 and 2000 and for the period
from August 31, 1988 (inception) to June 30, 2000................................. 5
Notes to Consolidated Financial Statements........................................ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations............................................... 14
Item 3. Quantitative and Qualitative Disclosures about Market Risk........................ 24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................................. 24
Item 4. Submission of Matters to a Vote of Security Holders............................... 25
Item 6. Exhibits and Reports on Form 8-K.................................................. 25
SIGNATURES.................................................................................. 26
</TABLE>
2
<PAGE> 3
AVANIR PHARMACEUTICALS
(A DEVELOPMENT STAGE ENTERPRISE)
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
ASSETS 2000 1999
------------------------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 10,268,025 $ 122,674
Short term investments 388,122
Receivable - Insurance (net of allowance for non-payment of $189,011) 76,499
Inventory 225,353 223,802
Prepaid 171,237 263,004
Restricted cash 57,158
Other 4,925 1,692
------------------------------
Total current assets 11,057,662 744,829
PROPERTY - at cost (less accumulated depreciation of $542,026 and $496,726)
487,420 219,361
PATENT COSTS (less accumulated amortization of $92,639 and $101,473)
598,049 617,741
DEFERRED COSTS 100,000
OTHER ASSETS 108,777 83,284
------------------------------
TOTAL $ 12,251,908 $ 1,765,215
==============================
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 167,689 $ 1,173,068
Accrued expenses and other liabilities 460,004 221,207
Accrued compensation and payroll taxes 173,834 123,068
Note payable 30,598 183,676
------------------------------
Total current liabilities 832,125 1,701,019
COMMITMENTS (Notes 8 and 9)
REDEEMABLE CONVERTIBLE PREFERRED STOCK
Series D - no par value, 500 shares authorized; 50 shares issued and 455,010
outstanding
SHAREHOLDERS' EQUITY
Preferred Stock - no par value 9,999,500 shares authorized:
Series C Junior Participating - 1,000,000 shares authorized, no
shares issued or outstanding
Common stock - no par value:
Class A - 99,288,000 shares authorized; 55,508,869 and 45,017,063
issued and outstanding 81,251,336 62,195,950
Class B - 712,000 shares authorized; 65,000 shares issued and
outstanding (convertible into Class A common stock)
38,269 38,270
Deficit accumulated during development stage (70,324,832) (62,170,024)
------------------------------
Total shareholders' equity 10,964,773 64,196
------------------------------
TOTAL $ 12,251,908 $ 1,765,215
==============================
</TABLE>
See notes to the financial statements
3
<PAGE> 4
AVANIR PHARMACEUTICALS
(A DEVELOPMENT STAGE ENTERPRISE)
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED AUGUST 31, 1988
JUNE 30, JUNE 30, (INCEPTION) TO
------------------------------ ------------------------------ JUNE 30,
2000 1999 2000 1999 2000
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
REVENUES:
License fees/contract
services $ 1,000,000 $ 5,507,625
Federal research grants 940,646
Interest and other $ 162,631 $ 25,879 213,646 $ 135,268 5,051,460
------------ ------------ ------------ ------------ ------------
Total revenues 162,631 25,879 1,213,646 135,268 11,499,731
------------ ------------ ------------ ------------ ------------
EXPENSES:
Research and 638,616 1,118,162 1,581,351 2,698,626 40,068,207
Development
General and 758,742 1,299,756 2,684,547 3,079,974 27,796,769
administrative
Sales and marketing 214,336 327,409 465,834 1,314,100 2,732,840
Litigation settlement 4,097,504 4,881,403
Interest 874 620 346,220 4,745 5,619,076
Cost of contract services 533,270
------------ ------------ ------------ ------------ ------------
Total expenses 1,612,568 2,745,947 9,175,456 7,097,445 81,631,565
------------ ------------ ------------ ------------ ------------
NET LOSS $ (1,449,937) $ (2,720,068) $ (7,961,810) $ (6,962,177) $(70,131,834)
============ ============ ============ ============ ============
NET LOSS ATTRIBUTABLE TO COMMON
SHAREHOLDERS $ (1,605,550) $ (2,742,726) $ (8,117,423) $ (6,984,835) $(70,316,593)
============ ============ ============ ============ ============
NET LOSS PER SHARE $ (0.03) $ (0.07) $ (0.16) $ (0.17)
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING 55,181,700 41,623,194 50,417,191 41,055,355
============ ============ ============ ============
</TABLE>
See notes to the unaudited financial statements.
4
<PAGE> 5
AVANIR PHARMACEUTICALS
(A DEVELOPMENT STAGE ENTERPRISE)
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
NINE MONTHS ENDED AUGUST 31,1988
JUNE 30, (INCEPTION) TO
------------------------------ JUNE 30,
2000 1999 2000
------------ ------------ ------------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net loss $ (7,961,810) $ (6,962,177) $(70,131,834)
Adjustments to reconcile net loss to net cash used for operating
activities:
Depreciation and amortization 103,486 103,893 1,187,604
Non-cash interest expense 402,990 17,620 4,697,297
Technology license fee including imputed interest 3,628,326
Compensation paid with common stock and stock options 573,170 126,748 1,446,356
Loss on sales of assets 5,224 5,224
Patents abandoned 87,325 87,325
Compensation forgiven by stockholder 66,923
Changes in assets and liabilities:
Accounts receivable 76,499 93,763
Inventory (1,551) (223,802) (225,353)
Prepaid and other 120,200 90,306 (284,938)
Organizational costs (20,242)
Deferred costs 100,000 (285,549)
Accounts payable (1,005,379) 311,239 167,689
Litigation settlements paid with common stock 4,097,504 4,097,504
Accrued expenses and other liabilities (17,003) (123,837) 387,880
Accrued compensation and payroll taxes 50,766 56,516 173,834
------------ ------------ ------------
Net cash used for operating activities (3,368,579) (6,795,280) (54,716,405)
INVESTING ACTIVITIES:
Short term investments (388,122) (388,122)
Patent costs (83,530) (111,603) (802,744)
Capital expenditures (105,072) (80,578) (934,538)
------------ ------------ ------------
Net cash used for investing activities (576,724) (192,181) (2,125,404)
FINANCING ACTIVITIES:
Proceeds from issuance of common and preferred stock 14,398,748 2,060,206 55,711,231
Proceeds from issuance of convertible notes payable 1,500,000 21,000,000
Debt issue costs (155,015) (1,222,425)
Repayment of convertible notes payable (1,500,000) (4,173,217)
Stock issue costs (143,735) (3,147,625)
Advances for purchase of common stock 125,000
Collection of notes receivable for common stock 14,525
Proceeds from issuance of subordinated notes payable
- net of issue costs 36,277 575,027
Repayment of subordinated notes payable (189,356) (814,356)
Payment on technology license fee (958,326)
------------ ------------ ------------
Net cash provided by financing activities 14,090,654 1,916,471 67,109,834
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 10,145,351 (5,070,990) 10,268,025
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 122,674 6,508,341
------------ ------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 10,268,025 $ 1,437,351 $ 10,268,025
============ ============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid $ 343,340 $ 4,745 $ 1,458,587
============ ============ ============
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING
ACTIVITIES:
Accrued leasehold improvements $ 245,700 $ 245,700
============ ============ ============
Value of conversion discount - convertible preferred stock $ 140,000 $ 140,000
============ ============ ============
</TABLE>
See notes to the unaudited financial statements
5
<PAGE> 6
AVANIR PHARMACEUTICALS
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
1. BASIS OF PRESENTATION
The unaudited consolidated financial statements presented in this
quarterly report include the accounts of Xenerex Biosciences, a wholly-owned
subsidiary of AVANIR Pharmaceuticals. All significant intercompany accounts and
transactions have been eliminated in the consolidated statements. (See Note 2.)
We have prepared these unaudited consolidated financial statements in accordance
with the instructions to Form 10-Q under Section 13 or 15(d) of the Securities
Exchange Act of 1934. These statements should be read with the audited financial
statements and the accompanying notes included in AVANIR Pharmaceuticals' Annual
Report on Form 10-K for the fiscal year ended September 30, 1999. In
management's opinion, the consolidated financial statements include all
adjustments, consisting only of normal recurring accruals, that are necessary to
summarize fairly the company's financial position as of June 30, 2000, and the
consolidated results of operations for the three and nine months ended June 30,
2000 and from August 31, 1988 (Inception) to June 30, 2000. The results of
operations for the three and nine months ended June 30, 2000, may not be
indicative of the results that may be expected for the fiscal year ending
September 30, 2000.
2. FORMATION OF XENEREX BIOSCIENCES
On May 30, 2000, we purchased 100% of the shares of Xenerex Biosciences,
a newly formed California corporation, which we arranged to be formed for the
purposes of pursuing development of a technology that appears capable of
generating human monoclonal antibodies of high affinity. We presently own 100%
of Xenerex Biosciences and have included such financial statements of Xenerex in
the consolidated financial statements of AVANIR. Xenerex has not generated any
income and it represents less than 10% of the assets shown in our consolidated
financial statements. At this time, we can provide no assurance that Xenerex
will be able to successfully commercialize the technology or that Xenerex will
ever generate any revenues, or be profitable.
3. GOING CONCERN
We have prepared the accompanying consolidated financial statements on a
going concern basis, which contemplates the realization of assets and
satisfaction of liabilities in the normal course of business. We have incurred
net losses since our inception and only recently received approval of our new
drug application for docosanol 10% cream from the U.S. Food and Drug
Administration. Further, as of the nine months ended June 30, 2000, we had not
earned significant license fees or royalties from SmithKline Beecham, our
licensee for docosanol 10% cream, or from any other arrangement with third
parties. The report from our auditors for the fiscal year ended September 30,
1999 contains an explanatory paragraph referring to the status of our ability to
continue as a going concern. During the first three quarters of fiscal year
2000, our status has improved substantially, having received $13 million from
equity financing activities, including the sale of $6 million in Class A common
stock and $7 million from the exercise of stock purchase warrants and stock
options. Further, on August 4, 2000, we received $9 million in milestone
payments from one of our license agreements for docosanol 10% cream, raising
total cash and cash equivalents on a consolidated basis to $18.4 million on
August 4, 2000. All of the funds received from the equity financing activities
and license fees will be used for working capital purposes to support research
and development programs and other operations.
6
<PAGE> 7
4. ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires that we make estimates and
assumptions that affect the reported amounts of our assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the
consolidated financial statements and the reported amounts of consolidated
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
5. RECLASSIFICATIONS
Certain amounts in the prior years' financial statements have been
reclassified to conform to current period presentation.
6. RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and for hedging activities. The
new standard will become effective for AVANIR in the first quarter of the year
ending September 30, 2001. Interim reporting of this standard will be required.
At present, we do not hold any derivative instruments nor do we engage in
hedging activities. We have not yet assessed the effect of this standard on our
future reporting and disclosures.
In December 1999, the SEC issued Staff Accounting Bulletin (SAB) No.
101, "Revenue Recognition in Financial Statements." SAB 101 provides the SEC
staff's views in applying generally accepted accounting principles to selected
revenue recognition issues, including revenues earned from collaborations
between companies. We will be required to adopt SAB 101 in the fourth quarter of
the fiscal year ending September 30, 2001. At present, we do not have any
research collaborations that have revenue-generating milestones that would be
impacted by the adoption of SAB 101. However, SAB 101 could have a material
effect on the reporting of our financial position and results of operations in
the future if we were to sign research collaborations that have cash payments
tied to the achievement of milestones.
7. INVENTORY
We currently maintain a certain quantity of raw material, docosanol,
which is the active ingredient in our cold sore product docosanol 10% cream, at
a cost of $225,353. Per our license agreement with SmithKline Beecham, which has
the manufacturing and marketing rights to docosanol 10% cream, we are required
to sell our entire inventory of docosanol to them at our cost upon completion of
certain tests to verify that the material meets product specifications.
Therefore, we have recorded 100% of our raw materials inventory as a current
asset in our consolidated balance sheet based on the expected sale within the
next few months. Our policy is to record the value our inventories at the lower
of cost (first-in, first-out) or market price.
8. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment at June 30, 2000 includes $245,700 in
leasehold improvements related to AVANIR's new office space facilities, expected
to be completed by approximately September 1, 2000. We have signed an eight-year
lease of 27,046.8 feet of space at a new building being constructed by the
landlord and lessor, BC Sorrento LLC (see Note 9, "Lease Commitments"). We
estimate our leasehold improvements will be approximately $374,598. Our
construction engineers estimate that the facility was approximately 65.6%
complete at June 30, 2000.
7
<PAGE> 8
9. LEASE COMMITMENTS
On March 20, 2000, we signed an eight-year lease with BC Sorrento LLC
for use of 27,046.8 square feet of office space in a building located at 11388
Sorrento Valley Road in San Diego, California, commencing on September 1, 2000.
Our total financial commitment to the lessor for the term of the lease is
$6,023,856. (See Exhibit 10.1.) In connection with this lease, we have entered
into an irrevocable standby letter of credit, available through Bank of America,
N.A. in the amount of $388,122, which names the lessor as the beneficiary in the
event that we default on our payments to the lessor.
10. DEFERRED COSTS
We had no deferred costs at June 30, 2000, compared with $100,000 in
deferred costs at September 30, 1999. Deferred costs at September 30, 1999
relate to a 24-month $10 million equity line investment agreement that we
entered into with Promethean Investment Group on January 22, 1999. Our policy is
to record the costs associated with establishing the equity line as deferred
assets so long as there is a reasonable likelihood of the equity line being
drawn down and to expense these costs immediately when the equity line will not
be drawn down. Our likelihood of drawing on some or all of this equity line by
January 22, 2000 is substantially lower than our previous expectations.
Therefore, we have written off the balance of deferred costs at June 30, 2000.
11. SHAREHOLDERS' EQUITY
Preferred Stock - Preferred stock consists of Series C Junior
Participating Preferred Stock and Redeemable Series D Convertible Preferred
Stock. On June 30, 2000, 50 shares of Redeemable Series D Convertible Preferred
Stock were outstanding, compared with 100 shares outstanding on March 31, 2000.
We have not issued any Series C Junior Participating Preferred Stock.
Redeemable Series D Convertible Preferred Stock and Class J Stock
Purchase Warrants - On June 12, 2000, one of the holders of Redeemable Series D
Convertible Preferred Stock exercised its rights to convert 50 shares,
representing $500,000 in Redeemable Series D Convertible Preferred Stock and
$7,603 in accrued and unpaid dividends into 288,800 shares of Class A common
stock, for an average stock price of $1.7576 per share
The remaining Series D holders may convert any or all of the shares of
Redeemable Series D Convertible Preferred Stock that they acquire into shares of
Class A common stock at a conversion rate equal to $10,000 divided by a
conversion price equal to the lesser of:
- the Fixed Conversion Price - an amount equal to $2.715 per share of
Class A common stock; or
- the Variable Conversion Price - an amount equal to 86% of the
market price of our Class A common stock, defined as the lower of:
- the average of the five lowest trading prices per share of Class
A common stock on The American Stock Exchange during the 25
trading days immediately preceding a given date of
determination, where trading price is determined as the average
of the high and low trading prices of our Class A common stock
on a particular trading day; or
- the average of the high and low trading price per share of Class
A common stock on The American Stock Exchange on the date of
determination.
8
<PAGE> 9
The Class J Stock Purchase Warrants issued in connection with the $1.0
million in financing completed on February 18, 2000, were set with an exercise
price equal to 120% of the market price for Class A common stock (as defined in
the Certificate of Determination that we filed with the California Secretary of
State on March 26, 1999) or $2.715 per share for the February 18, 2000 issuance.
We estimated the value of the warrants issued on February 18, 2000, to be
$106,000, which we credited (added) to Class A common stock and reported the
same as a discount to the Redeemable Series D Convertible Preferred Stock, which
we are accreting over the three-year life of the Redeemable Series D Convertible
Preferred Stock or sooner if converted to Class A common stock. We estimated the
value of the beneficial conversion feature of the Redeemable Series D
Convertible Preferred Stock to be $140,000 based on the terms of the conversion
price in the agreement, which is the lesser of $2.715 per share or 86% of market
price as defined in the agreement. We recorded the effect of the beneficial
conversion feature of $140,000 as a dividend paid and charged the same amount to
common stock.
Class A Common Stock - Between April 1, 2000 and June 30, 2000, we
issued an aggregate of 62,283 shares of Class A common stock in connection with
the repricing of a financing transaction. We also issued 176,700 shares of Class
A common stock in connection with the exercise of Class I stock purchase
warrants and 159,400 shares of Class A common stock in connection with the
exercise of stock options held by former employees and directors. Details of
these and other transactions are described more fully in the discussions below
and the table that follows.
<TABLE>
<CAPTION>
WARRANTS AMOUNT AVERAGE PRICE
EXERCISED DATES SHARES RECEIVED PER SHARE
-----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Class I warrants 04/01/00-06/30/00 176,700 See discussion of $0.78125
Class I warrant
STOCK OPTIONS AMOUNT AVERAGE PRICE
EXERCISED DATES SHARES RECEIVED PER SHARE
-----------------------------------------------------------------------------------------------------------------------------------
Former employees 04/01/00-06/30/00 32,900 $ 90,475 $ 2.75
Former directors 04/01/00-06/30/00 126,500 $ 278,500 $ 2.20
--------------------------------------------------------------------------------
Total/Average 159,400 $ 368,975 $ 2.31
</TABLE>
Repricing In Connection with $6.0 Million Private Placement - On June 6,
2000, we issued an aggregate of 62,283 shares of Class A common stock in
connection with a repricing of 876,712 shares of Class A common stock purchased
by three accredited financial institutions in connection with a private
placement financing completed with the institutions between January 26, 2000 and
January 31, 2000. In late January 2000, we issued 2,630,137 shares of Class A
common stock and warrants to purchase an additional aggregate of 263,014 shares
of Class A common stock at an exercise price of $2.44 per share in connection
with the $6.0 million private placement. The terms of the financing agreement
required the price of our Class A common stock to achieve a 20-day average of at
least $2.60 per share between the 90th and the 119th day from the respective
closing dates for the financing (the First Repricing Period). The 20-day average
stock price during the First Repricing Period was approximately $2.43 per share
or $0.17 per share below the First Repricing Price, and all three investors
elected to reprice one-third of their holdings in our common stock and receive
the additional shares. The price of our Class A common stock exceeded the
pricing milestones for the Second Repricing Period representing the 120th day
through the 149th day and the Third Repricing Period representing the 150th day
through the 179th day from the respective closing dates. There remains 876,712
shares of Class A common stock that are still eligible under the Final Repricing
Period by the investors if the 20-day average stock price falls
9
<PAGE> 10
below $2.85156 per share between the 180th day and the 360th day from the
closing dates of January 31, 2000 for Bayview LLC and Roseworth Group Ltd. and
the revised closing date of January 26, 2000 for The Endeavour Capital Fund S.A.
Class G Warrants. As of June 30, 2000, Class G warrants to purchase
757,050 shares of Class A common stock at an exercise price of $1.375 per share
were outstanding. None of the warrants were exercised between April 1, 2000 and
June 30, 2000.
Class H Warrants. As of June 30, 2000, Class H warrants to purchase
100,000 shares of Class A common stock at an exercise price of $2.40 per share
were outstanding. None of the warrants were exercised between April 1, 2000 and
June 30, 2000.
Class I Warrants. As of June 30, 2000, Class I warrants to purchase
2,447 shares of Class A common stock were outstanding. Between April 1, 2000 and
June 30, 2000, the holders exercised 247,553 warrants to purchase 176,700 shares
of Class A common stock using a "cashless" exercise option. The exercise price
for the Class I warrants was $0.78125 per share of Class A common stock. The
market prices on the date of exercise of the Class I warrants ranged from
$2.0000 per share to $3.8125 per share, with an average of $2.7296 per share of
Class A common stock. The average gain in value per warrant was $1.94838 per
share. The holder delivered to us Class I warrants to purchase 70,852 shares of
Class A common stock valued at $138,047 to pay for the purchase of 176,700
shares of Class A common stock at $0.78125 per share.
Class J Warrants. As of June 30, 2000, Class J Stock Purchase Warrants
to purchase 50,000 shares of Class A common stock at $0.9144 per share and
50,000 shares of Class A common stock at $2.715 per share were outstanding. We
issued Class J Stock Purchase Warrants to purchase an aggregate of 100,000
shares of Class A Common Stock at $1.05 per share on March 31, 1999 (repriced to
$0.9144 per share on July 29, 1999) and 50,000 shares at $2.715 per share in
connection with issuances of Redeemable Series D Convertible Preferred Stock in
the amounts of $2.0 million on March 31, 1999 and $1.0 million on February 23,
2000, respectively. On November 29, 1999, one of the investors exercised its
rights to purchase 50,000 shares of Class A common stock at $0.9144 per share,
leaving the current balances of Class J Warrants at June 30, 2000.
Class K Warrants. As of June 30, 2000, Class K warrants to purchase an
aggregate of 375,000 shares of Class A common stock were outstanding at an
exercise price of $1.125 per share. None of the warrants were exercised between
April 1, 2000 and June 30, 2000.
Class L Warrants. As of June 30, 2000, Class L warrants to purchase an
aggregate of 55,000 shares of Class A common stock were outstanding at an
exercise price of $1.1875 per share. None of the warrants were exercised between
April 1, 2000 and June 30, 2000.
Class M Warrants. As of June 30, 2000, Class M warrants to purchase an
aggregate of 467,290 shares of Class A common stock were outstanding at an
exercise price of $1.284 per share. None of the warrants were exercised between
April 1, 2000 and June 30, 2000.
Class N Warrants. As of June 30, 2000, Class N warrants to purchase
263,014 shares of Class A common stock were outstanding at an exercise price of
$2.44 per share. None of the warrants were exercised between April 1, 2000 and
June 30, 2000.
Stock Options to Non-employee Directors. On April 17, 2000, we
issued to our non-employee directors stock options to purchase an aggregate of
210,000 shares of Class A common stock at an exercise price of $1.70 per share
for their past service to the company. We issued these options at a
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<PAGE> 11
15% discount to the market price on the date of grant and classified the
issuances as nonqualified stock options under our 2000 Stock Option Plan. The
closing sales price for our Class A common stock on April 17, 2000 was $2.00 per
share. We recorded compensation expense of $63,000 in connection with these
grants.
On May 8, 2000, we issued to our non-employee directors stock options to
purchase 70,000 shares of Class A common stock at an exercise price of $2.125
per share as part of a provision for an annual formula grant under the company's
1994 Stock Option Plan.
<TABLE>
<CAPTION>
Market Price on Date of Compensation Expense
Date of Grant Options Granted Exercise Price Grant Recorded
------------- --------------- -------------- ----- --------
<S> <C> <C> <C> <C>
April 17, 2000 210,000 $ 1.70 $ 2.00 $ 63,000
May 8, 2000 70,000 $ 2.125 $ 2.125 None
</TABLE>
Conversions of Class B Common Stock Into Class A Common Stock. On April
12, 2000, 375,000 shares of Class B common stock were converted on a one-for-one
basis into Class A common stock.
12. NET LOSS PER SHARE
Net Loss Per Share - In the accompanying statements of operations for
the three and nine months ended June 30, 2000 and June 30, 1999, we have
presented our net loss per share under SFAS No. 128. Net loss per share is
computed using the Basic EPS method, as the inclusion of common stock
equivalents in the diluted EPS calculation would be anti-dilutive. Based on the
our continuing net losses, implementing SFAS No. 128 has not had a material
impact on net loss per share.
13. FDA APPROVAL OF DOCOSANOL 10% CREAM
On July 26, 2000, the U.S. Food and Drug Administration (FDA) informed
us that our new drug application for docosanol 10% cream, a topical treatment
for recurrent oral-facial herpes simplex infections, commonly known as cold
sores or fever blisters, was approved for marketing in the United States as an
over-the-counter (OTC) product. Docosanol 10% cream is AVANIR's first
FDA-approved product and represents a significant achievement of the company
after approximately ten years of research, clinical development, and working
with the FDA to obtain marketing approval as an OTC product in the United
States. Assuming a successful product introduction by our licensee, SmithKline
Beecham, docosanol 10% cream will be the first FDA-approved product for the
treatment of cold sores able to be sold without prescription. We expect the
product will be available for purchase by consumers within six months of FDA
approval. However, we have no control over the manufacturing, marketing, and
product introduction plans because SmithKline Beecham has that responsibility
under the license agreement (see Note 14).
14. LICENSE AGREEMENTS
On March 31, 2000, we signed an exclusive license agreement with
SmithKline Beecham (NYSE: SBH) for rights to manufacture and market docosanol
10% cream as an OTC product in the United States and Canada as a treatment for
recurrent oral-facial herpes. Under the terms of the license agreement,
SmithKline Beecham Consumer Healthcare will be responsible for all sales and
marketing activities and the manufacturing and distribution of docosanol 10%
cream in the exclusive markets. The terms of the license agreement provide for
our company to receive license fees and milestone payments of up to $25.0
million, plus a royalty on product sales for the licensed market.
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The addition of SmithKline Beecham brings our total license agreements
for docosanol 10% cream to three, which are summarized below:
<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------------------
Licensee Country Status
---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
SmithKline Beecham United States They have been notified of FDA approval in U.S.
and Canada They are an exclusive licensee for the United States and Canada,
and have a period of exclusivity for negotiation of rights to
unlicensed rest of world.
---------------------------------------------------------------------------------------------------------------------------------
CTS Chemical Industries, Ltd Israel They have been notified of FDA approval in U.S.
They are an exclusive licensee for Israel.
---------------------------------------------------------------------------------------------------------------------------------
Boryung Pharmaceuticals Korea They have been notified of FDA approval in U.S.
Company Ltd. They are an exclusive licensee for Korea.
---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Earlier in fiscal year 2000, we notified a former licensee, Yamanouchi,
that we had terminated them as a non-exclusive licensee for selected countries
in Europe. We took this step earlier this year when the FDA determined that
docosanol 10% cream should be approved as an OTC product and because
Yamanouchi's marketing expertise lies more in the prescription drug marketing
area.
On August 4, 2000 we received $9.0 million in license fees from one of
our licensees, raising the total license fees received under license agreements
for docosanol 10% cream to $10.0 million for the fiscal period from October 1,
1999 through August 4, 2000.
Our largest licensee, SmithKline Beecham, has a remaining obligation
under the license agreement for making payments of up to $15.0 million to us in
license fees, subject to the achievement of certain milestones, including
achieving product launch, reaching a certain anniversary date from product
launch, and achieving a minimum sales performance level within the first twelve
months from product launch. Following product launch, we expect to receive
royalties on sales of docosanol 10% cream in the licensed market territories for
the life of the patents.
We have not disclosed all of the terms in the license agreement, in
particular, how much and when the terms of each of the future milestone payments
are expected to be met because of, among other items, a confidentiality
agreement with SmithKline Beecham. However, to the extent that milestone
payments in general have a material impact on our financial statements, we
intend to disclose such material payment information as reasonably practicable
in our judgment in our financial statements or notes to financial statements
after it occurs.
Based on our discussions with SmithKline Beecham and our understanding
of progress they have made to date regarding manufacturing and marketing of
docosanol 10% cream, we expect that the product will be available for sale to
the consumer before the end of December 2000. However, because manufacturing and
product launch are within their control and not within our control, we cannot
provide any assurance that SmithKline Beecham will either meet or beat our
expectations or that there will be no significant problems that could cause
significant delays to product introduction.
After the first twelve months from the product introduction, we will no
longer be eligible for milestone payments, but we expect to continue to earn
royalties earned on product sales in the licensed territories for the life of
the patent. Therefore, in subsequent years, our revenues from the license
agreement with SmithKline Beecham for the North American market will be based
solely on royalties earned on product sales in the licensed market.
During approximately the next six months, SmithKline Beecham has a right
to negotiate exclusively with us for rights to market and sell docosanol 10%
cream in other territories not presently
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covered by license agreements, in exchange for license fees and/or royalties on
product sales. We are not obligated to accept SmithKline Beecham's terms; and
after the expiration of the exclusive period, we are free to negotiate with any
other company for any of the remaining territories. Currently, we have exclusive
license agreements with other partners in Korea and Israel. However, because
each country's regulatory approval process may vary substantially in some cases
from the approval process in the United States, we cannot provide any assurance
that completion of regulatory approvals or completion of negotiations for other
territories will occur in a timely manner if at all.
15. RELATED PARTY
IriSys Research and Development, LLC - On August 1, 2000, we entered
into an agreement with IriSys Research and Development, LLC ("IriSys") to
sublicense the exclusive worldwide rights to a patented drug combination,
internally designated as AVP-923, to treat multiple central nervous system
disorders. (See Exhibit 10.2.) Our license agreement includes rights to the
patented technology and know-how for the development and potential marketing of
products for treatments of:
- emotional lability, which is a condition associated
neurodegenerative diseases such as Amyotrophic Lateral Sclerosis
(ALS or Lou Gehrig's disease), multiple sclerosis (MS), Alzheimer's
Disease (AD) and stroke;
- neuropathic pain, as occurs in diabetic neuropathy;
- symptoms of chronic and intractable cough; and
- two other undisclosed indications.
The license agreement requires no upfront payments to be paid to IriSys
for a drug's indication before we complete all the clinical development phases
to confirm the drug's efficacy for that indication. We will be required to make
milestone payments to IriSys in the following two instances for each indication:
- if the FDA accepts the filing of a new drug application and
- if the FDA approves the new drug application for marketing.
Further, if we successfully complete the clinical trials and the FDA accepts our
new drug application, we will be required to pay a royalty to IriSys based on a
percent of sales revenue if we market the product ourselves. If we license the
product to someone else, we are required to split any revenues that we receive
with IriSys. The agreement calls for certain minimum sales levels to be achieved
in order for AVANIR to maintain exclusivity of the marketing rights in the
licensed territories. We did not disclose all of the terms in the license
agreement. However, to the extent that milestone payments and royalty payments
occur, we will disclose such material financial information as reasonably
practicable in our financial statements or notes to the financial statements
after they occur.
Dr. Yakatan, president and chief executive officer of AVANIR, is the
chairman and a majority shareholder of IriSys. IriSys is the exclusive licensee
of certain patents and a patent application as set forth under an Exclusive
Patent License Agreement between IriSys and the Center for Neurologic Study,
dated as of April 2, 1997. Our license agreement with IriSys was unanimously
approved by the disinterested members of the board of directors. The company
believes that the terms of the license agreement with IriSys are no less
favorable to the company than those that could have been obtained from an
unrelated party.
AVANIR has used IriSys for other contract research work on competitively
bid projects in which IriSys was the lowest bidder for the work. From September
1, 1999 through June 30, 2000, AVANIR incurred $64,000 in expenses related to
contract work competitively bid and awarded to IriSys for
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research and formulation development work for certain of AVANIR's research and
development projects.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Report contains forward-looking statements concerning future events
or performance of AVANIR. You should not rely excessively on these
forward-looking statements, because they are only predictions based on our
current expectations and assumptions. Forward-looking statements often contain
such words like "estimate," "anticipate," "believe," "plan" or "expect". Many
known and unknown risks and uncertainties could cause our actual results to
differ materially from those indicated in these forward-looking statements,
including our expectations for the timing of product introduction for docosanol
10% cream. You should review carefully the risks and uncertainties identified in
this report, including those explained below and in our other filings with the
Securities and Exchange Commission. We have no obligation to update or announce
revisions to any forward-looking statements to reflect actual events or
developments.
OVERVIEW
AVANIR Pharmaceuticals, a development stage specialty pharmaceuticals
company, develops novel therapeutic products to treat chronic diseases,
including docosanol 10% cream recently approved for marketing by the FDA. AVANIR
recently formed a wholly owned subsidiary, Xenerex Biosciences, for the purposes
of commercializing one of AVANIR's technologies, and has included Xenerex in the
consolidated financial statements. Since inception in August 1988, AVANIR has
operated in one business segment - pharmaceutical product development. For the
period from inception to June 30, 2000, AVANIR has incurred a cumulative net
loss of $70.1 million. In addition to docosanol 10% cream, our product
development pipeline includes potential products in both the clinical phase as
well as preclinical and advanced preclinical stages of development.
Our development pipeline includes a patented human monoclonal antibody
technology currently under commercial development by our newly formed
subsidiary, Xenerex Biosciences. Other areas of development include further
clinical development on docosanol in additional indications and a recently
in-licensed drug, internally designated as AVP-923, for the treatment of
multiple central nervous system disorders, including emotional lability,
neuropathic pain and chronic cough. We expect to enter Phase II/III clinical
trials for AVP-923 for the treatment of emotional lability in the fall of 2000.
We also have a drug discovery program in the advanced pre-clinical stage of
development for the treatment of the underlying biological causes of allergy and
asthma. We are also engaged in preclinical work on novel approaches to
discovering compounds with lipid lowering and anti-inflammatory activities.
These other potential products will not be available commercially for sale to
the market for several years, if at all.
Docosanol 10% Cream. Docosanol 10% cream, a topical treatment for
oral-facial herpes, which is more commonly known as cold sores or fever
blisters, is our lead therapeutic product that was approved by the FDA on July
25, 2000. Assuming a successful introduction by SmithKline Beecham, our licensee
of the drug, docosanol 10% cream or abreva(TM) as we expect it to be called,
will be the first over the counter product in the cold sore treatment category
to be sold to the consumer with FDA approval. We assigned the rights to use
abreva(TM) to SmithKline Beecham as part of a license agreement.
License Agreement with SmithKline Beecham. On March 31, 2000, we signed
an exclusive license agreement with SmithKline Beecham, to allow SmithKline
Beecham to manufacture and market docosanol 10% cream as an over the counter
treatment for cold sores in the United States and Canada. Under the terms of the
license agreement, SmithKline Beecham Consumer Healthcare will be
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responsible for all sales and marketing activities and the manufacturing and
distribution of abreva(TM) (docosanol 10% cream) for the licensed markets.
The license agreement provides for our company to receive license fees
and milestone payments of up to $25 million, plus a royalty on product sales in
the licensed territories for the life of the patents. As of August 14, 2000, we
have received a total of $10 million under the license agreement. The remaining
$15 million in milestone payments are keyed to product launch, reaching a
certain anniversary from product launch, and achieving a sales performance
milestone within the first twelve months of market availability. Because the
milestones are substantially within the control of SmithKline Beecham, we are
unable to provide any assurance that these milestones will be achieved.
SmithKline Beecham has the right to terminate this license agreement
with us in its entirety if any governmental agency directly prevents or is
likely to prevent launch of docosanol 10% cream for use as an OTC product.
RESULTS OF OPERATIONS -
THREE MONTHS ENDED JUNE 30, 2000
REVENUES
Revenues increased to $163,000 in the third quarter of fiscal year 2000
from $26,000 in the same period in 1999. The increase in revenues for the three
months ended June 30, 2000 was due to additional interest earned on higher
average balances of cash and cash equivalents and short-term investments during
the current year.
EXPENSES
Operating Expenses - Total operating expenses decreased to $1.6 million
in the third quarter of fiscal year 2000 compared to $2.7 million in the same
period in 1999. The decrease in operating expenses for the three months ended
June 30, 2000, compared with the same period in the prior year is explained
below in the discussions of research and development, general and
administrative, sales and marketing and interest expenses.
Research and Development Expenses - During the third quarter of fiscal
year 2000, research and development expenses decreased to $639,000 compared to
$1.1 million in the same period in 1999. The decreased expenses for the three
months ended June 30, 2000 are due primarily to a lower rate of spending
associated with preclinical development work on AVANIR's allergy and asthma
technology and lower expenses related to other research, while program spending
plans were being shifted to our later stage research programs, such as the
recently inlicensed drug, AVP-923, and technology for development of human
monoclonal antibodies.
General and Administrative Expenses - During the third quarter of fiscal
year 2000, general and administrative expenses decreased to $759,000, compared
to $1.3 million in the same period in 1999. The decreased expenses for the third
quarter of fiscal 2000 are primarily related to a restructuring of staff
responsibilities that occurred shortly after June 30, 1999, to achieve
efficiencies and smaller staff size, and lower legal expense in the quarter
ended June 30, 2000, compared with the same period in 1999. Legal expenses for
litigation in the current period declined by $559,000 compared with the same
period in 1999.
Sales and Marketing Expenses - During the three months ended June 30,
2000, sales and marketing expenses were $214,000, compared with $327,000 for the
comparable period in the prior year. Sales and marketing expenses were lower in
the three months ended June 30, 2000 because we
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outlicensed the manufacturing and marketing rights for docosanol 10% cream to
SmithKline Beecham on March 31, 2000, thus requiring a smaller sales and
marketing staff at AVANIR.
Interest Expense - Interest expense of $874 for the three months ended
June 30, 2000, were slightly higher than interest expense incurred for the same
period in 1999.
NET LOSSES
Net losses attributable to common shareholders for the quarter ended
June 30, 2000 were $1.6 million or three cents per share, compared to $2.7
million or seven cents per share for the same period in 1999.
RESULTS OF OPERATIONS -
NINE MONTHS ENDED JUNE 30, 2000
REVENUES
Revenues for the nine months ended June 30, 2000 increased to $1.2
million from $135,000 in the same period in 1999. The increase in revenues
during fiscal year 2000 was due to $1.0 million in license fees earned on one of
the license agreements associated with docosanol 10% cream and additional
interest earned on higher average balances of cash and cash equivalents and
short-term investments during the current year.
EXPENSES
Operating Expenses - For the nine months ended June 30, 2000, total
operating expenses increased to $9.2 million, including $4.1 million in
litigation settlement expenses that occurred earlier in the fiscal year,
compared to $7.1 million in the same period in 1999. The net change in operating
expenses for the nine months ended June 30, 2000 is explained below in the
discussions of research and development, general and administrative, sales and
marketing, litigation settlements and interest expenses.
Research and Development Expenses - Research and development expenses
for the nine months ended June 30, 2000 decreased to $1.6 million from $2.7
million in the same period in 1999. The decreased expenses for the nine months
ended June 30, 2000 are related primarily to a lower rate of spending associated
with preclinical development work on AVANIR's allergy & asthma technology, lower
expenses related to research on other potential drug candidates including
potential candidates under consideration for in-licensing, and reduced overall
staff levels for both the clinical and regulatory affairs and research
departments compared with levels from the prior year.
General and Administrative Expenses - For the nine months ended June 30,
2000, general and administrative expenses decreased to $2.7 million, compared to
$3.1 million in the same period in 1999. Legal expenses related to matters of
litigation were lower by $593,000 for the nine months ended June 30, 2000
compared with the same period in the prior year. Lower legal expenses for
litigation in the first nine months of fiscal year 2000 were partially offset by
higher expenses related to financing transactions in the current year.
Sales and Marketing Expenses - During the nine months ended June 30,
2000, sales and marketing expenses were $466,000, compared with $1.3 million for
the comparable period in the prior year. AVANIR had a substantially smaller
sales and marketing staff and substantially less market research
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in preparation for the potential launch of docosanol cream as a prescription
product in 1999. As discussed above, AVANIR has signed a license agreement with
SmithKline Beecham, giving rights to SmithKline Beecham to manufacture, market
and sell docosanol cream to consumer markets.
Interest Expense - Interest expense for the nine months ended June 30,
2000 increased to $346,000 compared to $4,700 for the same period in 1999. The
increase in interest expense in fiscal year 2000 was due primarily to interest
on $1.5 million in redeemable convertible debentures that were outstanding from
November 24, 1999 to February 3, 2000.
Litigation Settlement - During the nine months ended June 30, 2000, we
recorded litigation settlement expenses of $4.1 million in connection with our
settlement of certain claims by two former employees of the company and the
former chief executive and director of the company. (See Part II, "Legal
Proceedings.")
NET LOSSES
Net losses attributable to common shareholders for the nine months ended
June 30, 2000 increased to $8.1 million or $0.16 per share. The net loss for the
nine months ended June 30, 2000 was $4.0 million or $0.08 per share excluding
$4.1 million in litigation settlement costs, which were paid for earlier in the
year with common stock. This compares with a loss of $7.0 million or $0.17 per
share for the same period in 1999.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, AVANIR has financed operations primarily through the
sale of common stock, convertible debt securities, shareholder loans, issuances
of common stock or stock options for services or employee compensation instead
of cash, and license fees. Net cash provided by financing activities from
inception through June 30, 2000 was $67.1 million.
Cash Balances, Short-Term Investments and Working Capital - At June 30,
2000, AVANIR had available cash, cash equivalents of $10.3 million, short-term
investments of $388,000 and working capital of $10.2 million, compared to cash
and cash equivalents of $123,000 and a negative working capital balance of
$956,000 at September 30, 1999. The increases in cash, cash equivalents and
short-term investments and working capital at June 30, 2000 were due to net cash
received from financing activities totaling $14.1 million during the first nine
months of the current fiscal year, partially offset by $3.4 million in cash used
for operating activities and $577,000 used for investing activities, as
discussed below and in "Results of Operations."
Operating Activities - Net cash used to fund operating activities during
the nine months ended June 30, 2000 were $3.4 million, compared with $6.8
million during the same period in 1999. The reduction in cash used for
operations for the nine months ended June 30, 2000 is primarily related to a
$3.0 million lower net loss in the 2000 period after excluding litigation
settlement costs of $4.1 million, which was paid with common stock earlier in
the year. (see Part II, Item 1, "Legal Proceedings"). Also, a larger portion of
employee and director compensation was paid with common stock in the first nine
months ended June 30, 2000, compared with the same period in the prior year.
Investing Activities - Net cash used for investing activities during the
nine months ended June 30, 2000 was $577,000, compared with $192,000 in the same
period in 1999. Short-term investments increased by $388,000 in the current
year. Capital expenditures in the first nine months of fiscal year 2000 amounted
to $189,000, which is about the same as the comparable period in 1999.
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Financing Activities - Net cash received from financing activities
during the first nine months of fiscal year 2000 totaled $14.1 million,
including:
- $6.9 million from exercises of stock purchase warrants;
- approximately $5.5 million, net of fees and costs, from a $6.0
million private placement with three accredited investors;
- $1.0 million from the sale of Redeemable Series D Convertible
Preferred Stock,
- $696,000 from exercises of employee stock options and sale of
common stock; and
- less repayments on smaller notes and other debt issue costs.
In the second quarter of fiscal year 2000 we repaid a $1.5 million convertible
debenture that we issued in the prior quarter.
Cash Flows for the Future Expected to Include Receipt of One-time
Milestone payments. Important changes in our cash position have taken place
recently, which are more unusual in nature, including the receipt of a
relatively large cash milestone payment, as well as some one-time payments for
leasehold improvements to our planned new leased office space. On August 4, 2000
we received a $9.0 million milestone payment related to our license agreement
for docosanol 10% cream for the North American market, bringing the total
payments under that license agreement to $10.0 million in the fiscal year to
date through August 4, 2000. The significance of the recent milestone payment
also raised our cash balance, including cash and cash equivalents, to $18.4
million at August 4, 2000. Also, during the current quarter ending September 30,
2000, we expect to spend approximately $400,000 towards leasehold improvements
to our new office building (see Note 8, "Property, Plant and Equipment") and
$300,000 for relocation expenses and office equipment and furniture for the
larger facility, in addition to our other operating expenses. A portion of the
payments for the leasehold improvements had already been made as of August 4,
2000.
Beyond September 30, 2000, we expect to receive the balance of $15
million under the license agreement within 18 months of the FDA's recent
approval for docosanol 10% cream, provided the additional milestones are
achieved (see Note 14, "License Agreements"), and a royalty on product sales.
Cash flows from operations for the next two years will substantially depend on
the timing of milestone payments and royalties on sales of docosanol 10% cream
and on whether or not SmithKline Beecham is able to effectively market and sell
docosanol 10% cream in the North American market on a timely basis. We are also
working on structuring license agreements for docosanol 10% cream in other
countries. Besides the international market opportunities for docosanol 10%
cream, we are working on potential research collaborations related to our human
monoclonal antibody technology and other indications for docosanol, but it is
too early to make any predictions about the cash that could used for operating
activities or received regarding any of these activities.
For the fiscal years ending September 30, 2001 and 2002, we expect our
cash requirements for research and development will be substantial. The
milestone payments from SmithKline Beecham, in addition to royalties expected to
be earned on sales of docosanol 10% cream, while substantial in and among
themselves, may not be sufficient to support all the programs that we intend to
develop. While we expect that cash to be received from milestone payments and
royalties will be substantially better than our historical experience through
June 30, 2000, our existing sources of cash may not be sufficient to implement
all our programs on a timely basis, if at all. We believe that additional
financing could still be necessary in the next several years to potentially
in-license other drugs if they appear attractive for development, to conduct
internal research and development programs, and to develop the company's
proprietary human monoclonal antibodies platform. There can be no assurance that
we will be able to enter into other financing agreements with investors on
attractive terms, if at all, or that the conditions of
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obtaining any financing will be satisfied. See also "Risk Factors." Such
financing activities could result in significant dilution to shareholders,
depending on such factors as market price for our Class A common stock at the
time and amount of funds to be raised.
We may also have to enter into collaborative arrangements with one or
more other pharmaceutical or biotechnology companies to commercialize our other
products. There can be no assurance that we can successfully obtain such
additional capital or enter into the collaborative arrangements necessary to
fully develop or commercialize any of our drugs on acceptable terms. Failure to
raise additional capital or enter into such arrangements in a timely manner
could materially and adversely affect our business, financial condition and
results of operations.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and for hedging activities. The
new standard will become effective for AVANIR in the first quarter of the year
ending September 30, 2001. Interim reporting of this standard will be required.
At present, we do not hold any derivative instruments nor do we engage in
hedging activities. We have not yet assessed the effect of this standard on our
future reporting and disclosures.
In December 1999, the SEC issued Staff Accounting Bulletin (SAB) No.
101, "Revenue Recognition in Financial Statements." SAB 101 provides the SEC
staff's views in applying generally accepted accounting principles to selected
revenue recognition issues, including revenues earned from collaborations
between companies. We will be required to adopt SAB 101 in the fourth quarter of
the fiscal year ending September 30, 2001. At present, we do not have any
research collaboration s that have revenue-generating milestones that would be
impacted by the adoption of SAB 101. However, SAB 101 could have a material
effect on the reporting of our financial position and results of operations in
the future if we were to sign research collaborations that have cash payments
tied to the achievement of milestones.
RISK FACTORS
We are a development stage company with a history of continuing losses and a
limited amount of capital reserves.
In the Independent Auditors' Report on our financial statements for the
fiscal year ended September 30, 1999, our auditors indicated that we would need
to raise additional capital to continue as a going concern. From our inception
through September 30, 1999, we had generated only limited revenues and had
incurred net losses totaling approximately $62.1 million. Further, we generated
an additional $8.1 million in losses through the nine months ended June 30,
2000, despite receiving $14.1 million in financing during the same period. We
recently received approval from the FDA of our new drug application for
docosanol 10% cream, which resulted in an additional $9.0 million in license
fees paid to us on August 4, 2000. However, if our licensee docosanol 10% cream
for the North American market, incurs any significant delays in manufacturing or
in the market introduction for the product, we might have to defer some or all
of our development programs or raise additional financing earlier than we
currently contemplate. We may also need to form research collaborations to
preserve existing capital or arrange for additional financing in the future to
fund other research and development programs that appear to have potential for
developing into new drug candidates.
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If SmithKline Beecham does not manufacture and complete the product introduction
for abreva(TM) (docosanol 10% cream) in a timely manner, then our business will
be materially and adversely affected.
Because we have signed a license agreement with SmithKline Beecham for
manufacturing and marketing in the North American market, we cannot assure you
they will make the market introduction for abreva(TM) on a timely basis.
SmithKline Beecham has the right to terminate this license agreement with us in
its entirety if any governmental agency directly prevents or is likely to
prevent the introduction of abreva(TM) as an OTC product. Any problem or delay
in introducing abreva(TM) could affect materially and adversely our business
operations and financial condition.
Neither we nor our licensees may be successful in selling docosanol 10% cream as
an OTC product.
We and/or our licensees could face the following risks in our efforts to
market and sell docosanol 10% cream:
- development of a professional marketing staff and sales
communications program to launch the product in a timely manner;
- difficulty in building product awareness of a new OTC product among
customers or retail store decision makers;
- lack of consumer perception that docosanol 10% cream is superior to
existing and potentially new OTC products for oral herpes; and
- lack of widespread acceptance of docosanol 10% cream in the OTC
consumer market.
Docosanol 10% cream will face intense competition from a number of existing and
well-established products and the companies that market their products.
If successfully launched, docosanol 10% cream will compete with several
other products for oral-facial herpes currently on the market in the U.S., as
well as other products or potential products that are or may be under
development or undergoing the FDA regulatory approval process. Most of our
competitors, including Blistex, Inc., Bayer Corp. and Schering Plough, have
substantial financial resources, research and development facilities and
manufacturing and marketing experience. Even with docosanol 10% cream being
marketed by one of the world's largest consumer healthcare companies, our
licensee may not achieve commercial success in this intensely competitive
environment, which would severely impact our revenues.
Foreign sales of docosanol 10% cream and other potential products are subject to
various foreign trade risks.
We are exposed to various foreign trade risks relating to the continued
development of docosanol 10% cream by foreign licensees. Further, we may arrange
for contracts in the future for the manufacture, marketing and distribution of
docosanol 10% cream overseas by foreign licensees, which will be substantially
out of our control. Our license agreement with SmithKline Beecham initially is
for the United States and Canada only. While we intend to negotiate exclusively
with SmithKline Beecham for approximately the next six months for licensing the
product in other countries not already licensed, we may not finalize any
licensing or distributorship arrangements for territories not covered by
existing agreements on favorable terms, if at all. Even if we are able to obtain
experienced licensees for several foreign countries, specific risks that could
impact significantly our ability to deliver products abroad include:
- changes in the regulatory and competitive environments in foreign
countries;
- changes in a specific country's or region's political or economic
conditions;
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- difficulty in negotiating a license agreement with SmithKline
Beecham for foreign markets or in finding other foreign partners
with sufficient capital to effectively launch the product;
- shipping delays;
- difficulties in managing operations across disparate geographic
areas;
- fluctuations in foreign currency exchange rates;
- difficulties associated with enforcing agreements through foreign
legal systems; and
- trade protection measures, including customs duties and export
quotas.
Our failure to comply with government regulations regarding the development,
production, testing, manufacturing and marketing of our other products may
affect adversely our operations.
Governmental authorities in the U.S., including the FDA, and other
countries regulate significantly the development, production, testing,
manufacturing and marketing of pharmaceutical products. The clinical testing and
regulatory approval process can take a number of years and require the
expenditure of substantial resources. Failure to obtain, or delays in obtaining,
these approvals will affect adversely our business operations, including our
ability to commence marketing of any proposed products. We could use a
significant portion of our financial resources for research and development and
the clinical trials necessary to obtain these approvals for our proposed
products. We will continue to incur costs of development without any assurance
that we will ever obtain regulatory approvals. In addition, we cannot predict
the extent to which adverse governmental regulation might arise from future U.S.
or foreign legislative or administrative action. Moreover, we cannot predict
with accuracy the effect of unspecified, but possible, future changes in the
regulatory approval process and in the domestic health care system for which we
develop our products. Future changes could affect adversely the time frame
required for regulatory review, our financial resources, and the sale prices of
our proposed products, if approved for sale.
Unsuccessful research and development programs for proposed new products could
affect negatively our business.
We face substantial risks of failing to complete the development of our
early-stage research and development programs in allergy and asthma and other
areas. The effectiveness of our preclinical allergy and asthma research
performed in vitro or in animal models may not be relevant to the development
of, or indicate the efficacy of, a proposed product for human use. Unsuccessful
clinical trial results for our proposed products could affect materially and
adversely our business operations and financial condition. The development
process for medical products is lengthy and capital intensive. Our drug
development programs are exposed to all of the risks inherent in product
development based on innovative technologies, including unanticipated
development problems and the possible lack of funding that could result in the
abandonment or substantial change in the development of a specific product.
Difficulties in acquiring in-licensed technologies that we believe are necessary
to fill our product development pipeline may negatively affect our stock price
and restrict our growth.
We will face intense competition for these in-licensed products and
technologies. In addition, we might not locate suitable products and
technologies to fit our strengths or be able to obtain them on acceptable terms,
or have the financial resources to develop products from the in-licensed
technology. If we are unable to add to our existing technologies and new
potential products to our product development pipeline, our growth may be
limited and it may affect our business and stock price negatively. Our business
strategy for growth is not only through internal development, but also through
in-licensing of products, potential products and/or technologies at various
stages in the drug development pipeline. To achieve this objective, we must have
the financial resources to acquire and/or in-license new products and
technologies and develop and market the products, if approved. We can provide no
assurance that
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we will be successful in our in-licensing strategy or that it will have the
desired effect on our future growth.
Our failure to retain key management and scientific personnel could affect
negatively our business.
Our success depends on the performance of a small core staff of key
management and scientific employees with biotech experience. Given our early
stage of development, we depend substantially on our ability to hire, train,
retain and motivate high quality personnel, especially our scientists and
management team in this field. If we were to lose one or more of our key
scientists, then we would lose the history and knowledge that they have which
could substantially delay one or more of our development programs until adequate
replacement personnel could be hired and trained.
Our future success also depends on our continuing ability to identify,
hire, train and retain highly qualified, technical, sales, marketing and
customer service personnel. We presently employ approximately 20 people in
AVANIR and we are in the process of interviewing candidates for employment at
either AVANIR or our new subsidiary, Xenerex Biosciences. The employment and
employee retention agreements with several of our key employees are limited in
scope and provide no real assurance that any of these people will continue their
employment with our company. We do not have "key person" life insurance
policies. The industry in which we compete has a high level of employee mobility
and aggressive recruiting of skilled personnel, which creates intense
competition for qualified personnel, particularly in product research,
development, sales and marketing.
Our patents may be challenged and our pending patents may be denied, which would
seriously jeopardize our ability to compete in the intended markets for our
proposed products.
We rely substantially on the protection of our intellectual property,
with 19 worldwide docosanol patents and 24 additional docosanol-related patent
applications pending. We also have ten patents issued or pending on other
products and technologies, and have in-licensed the rights to market a potential
product that treats multiple central nervous system disorders that has five
patents. Because of the competitive nature of the bio-pharmaceutical industry,
we cannot assure you that:
- the claims in the pending patent applications will be allowed or
that we will even be issued patents;
- present and future competitors will not develop similar or superior
technologies independently, duplicate our technologies or design
around the patented aspects of our technologies;
- our proposed technologies will not infringe other patents or rights
owned by others, including licenses which may not be available to
us;
- any issued patents will provide us with significant competitive
advantages; or
- challenges will not be instituted against the validity or
enforceability of any patent that we own or, if instituted, that
these challenges will not be successful.
Our inability to obtain or maintain patent protections for our products in
foreign markets may affect negatively our financial condition.
The process for the approval of patent applications in foreign countries
may differ significantly from the process in the U.S., which may delay our plans
to market and sell docosanol 10% cream in the international market place.
Approval in one country does not necessarily indicate that approval can be
obtained in other countries. The patent authorities in each country administer
that country's laws and regulations relating to patents independently of the
laws and regulations of any other country and we must seek and obtain the
patents separately. Our inability to obtain or maintain patent protections for
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docosanol 10% cream in foreign markets would hamper severely our ability to
generate international sales from our first proposed product.
If we do not protect our technical innovations, then our business may be
negatively affected.
We rely substantially on confidentiality agreements to protect our
innovations. We cannot assure you that secrecy obligations will be honored, or
that others will not develop independently similar or superior technology. In
addition, if our consultants, key employees or other third parties apply
technological information independently developed by them or by others to our
projects, then disputes may arise as to the proprietary rights to this
information in which we may not receive a favorable resolution.
Developing new pharmaceutical products for human use involves product liability
risks, for which we currently have limited insurance coverage.
The testing, marketing and sale of pharmaceutical products involve the
risk of product liability claims by consumers and other third parties. We have
maintained product liability insurance coverage for our clinical trials in the
amount of $2 million per incident and in the aggregate. However, product
liability claims can be high in the pharmaceutical industry and our insurance
may not cover sufficiently all of the possible liabilities. If a suit against
our business or proposed products is successful, then the lack or insufficiency
of insurance coverage could affect materially and adversely our business and
financial condition. Furthermore, various distributors of pharmaceutical
products require minimum product liability insurance coverage before their
purchase or acceptance of products for distribution. Failure to satisfy these
insurance requirements could impede our ability to achieve broad distribution of
our proposed products.
Depending on the size and rate of our development programs, we may issue
additional shares of our Class A common stock that may dilute the value of our
Class A common stock to current shareholders and may adversely affect the market
price of our Class A common stock.
If we raise additional capital by issuing equity securities at a
price or a value per share less than the then current price per share of Class A
common stock, then the value of the shares of Class A common stock then
outstanding will be diluted or reduced. Further, even if we were to sell common
stock at prices higher than today's market, we would likely not have much
control, if any, of when the investor sells the shares, which could depress our
market price at that time.
In addition, there will be a dilutive effect on the shares of our Class A common
stock currently issued and outstanding from the conversion or exercise of stock
purchase warrants and stock options, repricing of common stock or conversion of
redeemable convertible preferred stock currently outstanding. As of August 14,
2000, the following securities were exercisable or convertible into shares of
Class A common stock:
- stock options to purchase an aggregate of 6,281,015 shares of Class
A common stock at exercise prices ranging from $0.30 to $6.44 per
share;
- Class G stock purchase warrant exercisable into 757,050 shares of
Class A common stock at an exercise price of $1.375 per share;
- Class H stock purchase warrant exercisable into 100,000 shares of
Class A common stock at an exercise price of $2.40 per share;
- Class I stock purchase warrant exercisable into 2,447 shares of
Class A common stock at an exercise price of $0.78125 per share;
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- Class J Stock Purchase Warrants exercisable into 50,000 shares of
Class A common stock at exercise price of $0.9144 per share and
50,000 shares of Class A common stock at an exercise price of
$2.715 per share;
- Class K stock purchase warrant exercisable into 375,000 shares of
Class A common stock at an exercise price of $1.125 per share;
- Class L stock purchase warrant exercisable into 55,000 shares of
Class A common stock at an exercise price of $1.1875 per share;
- Class M stock purchase warrants exercisable into 467,290 shares of
Class A common stock at an exercise price of $1.284 per share;
- Class N stock purchase warrants exercisable into 263,014 shares of
Class A common stock at an exercise price of $2.44 per share;
- 876,712 shares of Class A common stock are still eligible under the
Final Repricing Period by certain investors if the 20- day average
stock price falls below $2.85156 per share between the 180th day
and the 360th day from the closing dates, which occurred between
January 26 and 31, 2000;
- 65,000 shares of Class B common stock each convertible into one
share of Class A common stock; and
- 50 shares of Redeemable Series D Convertible Preferred Stock.
Sales in the public market of shares of Class A common stock that
underlie stock options and warrants may affect adversely the prevailing market
prices for shares of Class A common stock. Negative price movements in the
shares of Class A common stock likely would affect adversely our ability to
obtain additional equity capital on favorable terms, if at all.
We will not declare or pay cash dividends in the foreseeable future.
We do not intend to declare or pay cash dividends in the foreseeable
future. We expect to retain any earnings, if and when achieved, to finance our
business.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
AVANIR's market risk exposures are related to its cash and cash
equivalents and short-term investments. We invest our excess cash in highly
liquid short-term investments with a substantial portion of the maturities being
less than one year, which we do not believe is a significant market risk.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On March 24, 2000, AVANIR Pharmaceuticals, previously LIDAK
Pharmaceuticals, David H. Katz, M.D., (the company's founder, former CEO, and a
former director) and Mrs. Lee R. Katz (the wife of Dr. Katz) jointly announced a
comprehensive settlement of all disputes, claims and litigation that they had
asserted against each other.
In the aftermath of a lengthy jury trial between AVANIR and the Katzes
in September and October 1999, both the company and Dr. and Mrs. Katz expressly
regret the expense and tribulation each have experienced as a result of actions
by the other. The company specifically regrets that any of its public
statements, including statements regarding cause for termination of Dr. Katz'
employment, may have reflected adversely on him or provoked criticism of him by
third parties. Dr. Katz regrets that any of his public statements regarding
AVANIR, its directors or its officers may have reflected adversely
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on them or provoked criticism of AVANIR's management team by third parties.
AVANIR recognizes the significant intellectual, scientific and financial
contributions Dr. and Mrs. Katz have made to the development, growth and success
of the company. AVANIR and the Katzes each extend best wishes to the other for
their future endeavors.
Under the settlement terms, AVANIR conveyed to Dr. Katz shares of Class
A Common Stock, valued at $3.9 million, and an additional cash payment in the
amount of $175,000. A portion of the settlement was funded by the company's
insurer. Dr. Katz, his wife and two daughters have, in return, assigned voting
control of their stock in AVANIR, whether directly or beneficially owned, to
company management for a period of seven years, and all of Dr. Katz' outstanding
stock options, exercisable into 1,827,000 shares, were cancelled. In addition,
Dr. Katz and his wife assigned the company any and all their rights to certain
technology and related patent applications pertaining to research on allergy and
asthma treatments.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Current Reports on Form 8-K
None.
(b) Exhibits
10.1 - Standard Industrial Net Lease by and between
AVANIR Pharmaceuticals ("Tenant") and BC
Sorrento, LLC, a California limited liability
company ("Landlord"), effective September 1, 2000
10.2 - License Agreement, dated as of August 1, 2000,
by and between AVANIR Pharmaceuticals
("Licensee") and Irisys Research and Development,
LLC, a California limited liability company
("IriSys")
27.1 - Financial Data Schedule
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the date indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ GERALD J. YAKATAN, PH.D. President and Chief August 14, 2000
--------------------------- Executive Officer
Gerald J. Yakatan, Ph.D. (Principal Executive Officer)
/s/ GREGORY P. HANSON Vice President, Finance and Chief August 14, 2000
--------------------------- Financial Officer
Gregory P. Hanson (Principal Financial and Accounting Officer)
</TABLE>
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