SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934 FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1997
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934 FOR THE TRANSITION PERIOD FROM _______ TO _________
Commission File No. 0-19844
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PARACELSIAN, INC.
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(Name of small business issuer in its charter)
Delaware 16-1399565
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
222 Langmuir Laboratories, Cornell Technology Park, Ithaca, New York 14850
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(Address of principal executive offices) Zip Code
Issuer's telephone number: (607) 257-4224
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Securities registered under Section 12(b) of the Act: None
Securities registered under Section 12(g) of the Act:
Common Stock, $.01 par value
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(Title of class)
Redeemable Common Stock Purchase Warrants
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(Title of class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act during the past 12 months (or for
such shorter period that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]
Issuer's revenues for its most recent fiscal year were $ 6,146.
The aggregate market value of the voting stock (based on the closing price of
such stock on NASDAQ) held by non-affiliates of the Registrant at December 22,
1997 was approximately $2,800,000.
There were 12,004,867 shares of Common Stock and 4,632,773 Redeemable Common
Stock Purchase Warrants outstanding at December 22, 1997.
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ITEM 1. BUSINESS
Paracelsian, Inc., (the "Company") is a development stage drug
discovery and discovery and research service company that utilizes its
proprietary screening technology to identify novel therapeutic compounds from
herbal sources and to define the biological mechanisms through which herbal
medicines affect cellular function. The Screening Technology has been developed
by the Company to identify potential products that regulate the biological
signals generated by targeted cells that result in controlled or uncontrolled
cell growth and division. The Company's Screening Technology evaluates the
effects of herbal products on intracellular signals referred to as "Signal
Transduction Technology."
Cellular signaling is one of the basic steps in biology and is
necessary for normal growth of tissues to support life. The Company's technology
enables researchers to observe signal transduction and measure the effects of
chemicals contained in synthetic or natural compounds, such as herbal extracts,
on cellular processes. In the course of these studies, the Company can
distinguish the effects of such chemicals on targeted cells, thereby screening
compounds to identify those with promising therapeutic effects of herbs and
herbal extracts. This proprietary technology, including the components, methods,
procedures and know-how employed in this screening process, is referred to
herein as the "Screening Technology".
The Company believes that the results of its research coincide
with the need for sound scientific understanding of herbal medicines. The
Company's technology provides tools for the definition of solid and valid
scientific bases for the beneficial health effects of herbal medicines and
dietary supplements. In addition, the Company has utilized its technology to
screen and identify active substances contained within its library of
traditional Chinese medicines.
The Company's research and product development activities are
focused in four (4) principal areas:
SCREENING TECHNOLOGY. The Company continues to improve its
Screening Technology by the creation of new enzymatic, cellular and other
testing methodologies in order to identify efficiently the favorable effects of
active herbal extracts and chemical compounds. This work, which consists of
laboratory-based experiments on living cells, is expected to be ongoing
throughout fiscal 1998 and thereafter. The focus of this work is the expansion
of the data collection from the initial screens performed by the Company with a
series of incremental screens aimed at further specifying the utility of a
particular product candidate either as a pharmaceutical product or a defined
herbal product. The Company has developed a series of proprietary cell lines
used to evaluate the effectiveness of candidate extracts and compounds. The
Company also utilizes a series of cell lines acquired under a license with the
National Cancer Institute as well as commercially available cell lines for such
screening. The ultimate objective of the Screening Technology is to identify
potential products and their precise mechanism of action. The Company' Screening
Technology has improved during 1997, as the Company is now capable of screening
compounds for effect faster for a broad spectrum of biological mechanisms and
with greater precision. The Company continues to refine, enhance and further
specify its Screening Technology.
SCREENING ACTIVITIES. The compounds under investigation by the
Company are derived from its current inventory of over 2,700 extracts of herbs
used in traditional Chinese medicine ("TCM"). The Company has screened it entire
inventory of extracts. The results of these screens have identified a number of
extracts for further development based on (1) the Company's assessment of the
chemical composition, (2) relative bioavailability and toxicity data and (3) the
documented historical use of the herbs in TCM.
In addition to the evaluation of herbal extracts from its own TCM
library, the Company markets its Screening Technology on a contract basis to
other companies in the herbal and dietary supplement markets.
PRODUCT DEVELOPMENT. The third focus of the Company's research
and development is product development, in which the Company further evaluates
selected extracts that have shown promising results in the screening assays. The
primary objective of this research is to identify the precise chemical and
biological activities (the "Mechanism of Action") that produce desirable and
predictable results. Studies of this nature are used to provide quality control
for herbal products and critical information on pharmaceutical product
candidates.
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The Company intends to license the rights to particular compounds
at various points in the course of product development. The Company may license
extracts as early as upon successful completion of initial screening, however,
generally, the Company intends to license rights to extracts and compounds that
have shown promising therapeutic effects in the initial screens, once the
Mechanism of Action has been identified and verified. The Company expects to be
able to charge licensing and royalty fees for licenses of such compounds and
additional licensing and royalty fees if the product is cleared by the US Food
and Drug Administration (the "FDA"). There can be no assurance that the Company
will be able to enter into any of such licenses on terms favorable to the
Company or at all.
In 1996, the Company commenced development of products containing
extracts of ANDROGRAPHIS PANICULATA, an herb from China and India. In January
1997, the FDA informed the Company that AndroCar(TM) and AndroVir(TM), two
products being developed for the treatment of cancer and HIV-positive patients
respectively, were classified as pharmaceutical products and did not meet the
requirements for sale as dietary supplements. The launch of AndroCar and
AndroVir as dietary supplements has been suspended indefinitely.
The cost to develop a pharmaceutical product has been estimated
by the Pharmaceutical Research and Manufacturers Association (PhRMA) to be in
excess of $250,000,000. With the limited financial and human resources
available, the Company decided to seek a pharmaceutical partner for the further
development and marketing of these products. The Company is currently seeking a
licensee.
DIAGNOSTIC TOOLS AND ASSAYS. The fourth focus of the Company is
the development, manufacturing and marketing of diagnostic tools and assays to
detect cancer and chemical carcinogens. The Company has developed and sells a
line of research reagents for scientists performing cellular proliferation
studies. In addition, the Company has identified a potential serum biomarker for
detection of cancer in humans and companion animals. The Company is actively
seeking licensees for these products. The Company also has developed the
Ah-IMMUNOASSAY(TM), an IN VITRO bio-immunoassay that detects the amount of
potentially toxic chemicals in the environment from several classes of
compounds, including dioxins and polychlorinated biphenyls (PCBs). The Company
has licensed non-exclusive rights to this assay to Dow Environmental, a
subsidiary of Dow Chemical Co.; the Company is currently in negotiations with
Dow for the reacquisition of all the rights to the Ah-IMMUNOASSAY. The Company
has also licensed rights to its veterinary cancer diagnostic to IDEXX
Laboratories. The Company intends to license certain rights to several of its
products so that it can concentrate its product development and financial
resources on the efforts described above.
In addition to the foregoing, the Company has utilized its
experience in Signal Transduction Technology and its knowledge of the testing of
herbal extracts as the bases for a contract research business to other companies
in the herbal medicine and dietary supplement markets. Toward that end the
Company recently performed contract research for PharmaPrint, a dietary
supplement company, in which one of the Company's assays was used to define the
functional activity of two herbal products. The Company intends to continue and
expand this activity and offer its services to other companies in the dietary
supplement market.
SIGNAL TRANSDUCTION AND DRUG DISCOVERY
SCIENTIFIC BACKGROUND
Over the past few years cell biologists have made remarkable
progress in identifying the molecules that drive the cell cycle: the carefully
choreographed series of events that culminates in cell division. In doing so
they have not only provided a better understanding of one of the most
fundamental of the cell's activities, they have also opened a new direction for
research aimed at pinpointing the mechanism of carcinogenesis, angiogenesis,
restenosis, AIDS and a variety of viral diseases. The reason for this
convergence is the accumulation of evidence by the Company and others indicating
that derrangements in the cell cycle Signal Transduction processes may
contribute to pathology of a number of apparently unrelated diseases.
The cell division cycle can be broken down into five distinct
stages; G0 (Gap-0) or the resting state; G1-phase (Gap-1), defined as the time
period between mitosis and DNA synthesis; S-phase, defined as the time in which
the cell's DNA is replicated; G2 (Gap-2), defined as the time between DNA
synthesis and mitosis; and M-phase (mitosis), the time period in which a
daughter cell forms. Upon receipt of proliferative stimulation, a quiescent cell
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proceeds from G0 to G1-phase. If the proliferative stimulus persists, the cell
continues through the cell cycle and upon completion of mitosis may either
re-enter the G0 state or continue into G1-phase.
Progression though the cell cycle is a complex process that
involves an orchestra of cellular proteins that can be divided into four general
categories that include positive regulators (proto-oncogenes), enzymes termed
cyclin dependent kinases (CDKs), cyclin proteins, and cell cycle inhibitory
proteins (tumor suppressor genes).
At the core of cell cycle regulation is a family of
serine/threonine protein kinases (enzymes) that are activated only when bound to
a cyclin protein; it is for this reason this family of enzymes is called cyclin
dependent kinases (CDKs). CDK-cyclin complexes initiate signal transduction
cascades that control and coordinate the processes of cell division. The
signaling events initiated via these interactions either permit or halt cell
cycle progression. Kinase activity and substrate specificity of the CDKs are
controlled by various mechanisms that include: transcriptional regulation,
complexing with cyclin and CDK inhibitory proteins, and cycles of
phosphorylation and dephosphorylation of threonine and tyrosine residues.
In yeast, CDK1 (p34cdc2), in conjunction with cyclin A and cyclin
B, is the sole CDK responsible for the execution of DNA synthesis and mitosis.
Higher eukaryotes have developed more intricate cell cycle pathways by the
evolution of a series of CDK1 homologues and corresponding cyclin proteins to
partner with the additional CDK family members. CDK1 in conjunction with other
CDK family members is a recognized mediator for progression through the G1-phase
and entry into S phase. In higher eukaryotes, as in yeast, CDK1 is the sole CDK
implicated in the progression through the G2/M phases of the cell cycle.
Physical injury (wound healing), growth factors, viral infection,
and xenobiotic (nongenotoxic carcinogen) exposure can modulate CDK1 expression.
Furthermore, in quiescent cells and tissue (liver, kidney, and brain) CDK1
expression is low to undetectable. In contrast, CDK1 expression was found in
very high levels (over-expressed) in all clinical gastric and colon carcinomas
examined, in 40 out of 40 human cancer cell lines grown in the laboratory, and
in 90% of breast tumor cells. Furthermore, CDK1 expression has been proposed for
diagnostic purposes to distinguish benign from malignant breast lesions. These
studies have established the importance of CDK1 in cancer cell growth and
therefore support the premise of assaying for small molecule drugs that modulate
CDK1 expression as therapy for human and veterinary disorders such as cancer,
psoriasis, viral infection including HIV, restenosis, glaucoma, and
inflammation.
Cellular signaling is one of the basic steps in biology and is
necessary for normal growth of tissues to support life. The Company's technology
enables researchers to observe Signal Transduction and measure the effects of
chemicals contained in synthetic or natural compounds, such as herbal extracts,
on cell growth and division. In the course of these studies, the Company can
distinguish the effects of such chemicals on targeted cells, thereby screening
compounds to identify those with promising therapeutic effects.
EXTRACT SCREENING AND PRODUCT DISCOVERY
As of August 1997, Paracelsian scientists completed the initial
screening of its on-hand herbal library of 2764 extracts. Each extract was
tested in all four of the Company's core assays to begin characterization of
these herbs' activities at the cellular level. The Company utilizes cellular and
biochemical test systems to identify extracts that have potent activity against
signal transduction targets. Extracts that produced a positive response were
subject to a thorough literature review and evaluation of historical use
pattern. The next step in the development process for the active herbal extracts
is the identification of the active principles responsible for the activity
found in the initial screening.
To determine the activity of TCM extracts at the cellular level,
Company scientists employed four core test systems to assay each extract in its
library of herbal medicines. These assays include two biochemical targets found
within cells, tyrosine kinases and the Ah receptor, and two "cell-based" assays,
termed CDK1 and Cell Fusion. "Cell-based" test systems evaluate effects on whole
cells, not just a single protein or enzyme as in the biochemical test systems.
In contrast to direct biochemical target assays, if activity is detected using
"cell-based" methodologies the exact mechanism causing that biological effect
requires additional study. However, cell-based tests provide valuable
information concerning potential cytotoxicity and potency. For example, a very
potent tyrosine kinase active extract may not produce a biological effect if the
active principle does not enter the cell.
A description of the test systems employed to screen the library
follows:
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TYROSINE KINASE ASSAY
The Tyrosine Kinase test system determines if an extract can
block phosphorylation of tyrosine residues by cellular tyrosine kinases. Signal
Transduction via phosphorylation of the amino acid tyrosine is a rare event, and
often is an indication of altered cellular behavior in a broad range of medical
conditions that include inflammation, cancer, viral infections, atherosclerosis,
psoriasis, immune system function/dysfunction. Thus testing for factors that
modulate activity of these enzymes provides specificity of action of the
material being tested.
The Tyrosine Kinase Assay is a non-radioactive ELISA (enzyme
linked immunosorbant assay) based method. A defined biotinylated peptide
sequence is first added to NeutrAvidin-coated wells to which it binds. Addition
of cellular tyrosine kinases results in the phosphorylation of tyrosine
residue(s) within the peptide. An antibody specific for phosphorylated tyrosine
conjugated to a color-developing enzyme is added for specific detection of
phosphotyrosine residues. The tyrosine kinase activity is then determined by the
addition of a soluble substrate to the well.
Paracelsian's screening of its TCM library has led to the
identification of twenty-six potent extracts that represent twenty-five
different herbs. Of these twenty-five plant species twelve have been well
studied whereas, the remaining thirteen appear have been given very little
study.
AH IMMUNOASSAY
The Ah-Immunoassay measures the ligand-induced transformation of
the Ah receptor, a cellular protein complex, to a DNA binding form. Ligands of
the Ah receptor can either promote transformation (agonists) or inhibit
transformation (antagonists). Agonists of the Ah receptor (ligands with the
ability to transform the Ah receptor to the DNA binding conformation) are
associated with multiple toxic endpoints, immunosuppression, promotion of liver
cancer, and anti-estrogenic activity including inhibition of breast cancer cell
growth. Antagonists (ligands that bind to the receptor and inhibit
transformation to a DNA binding form) also act as anti-estrogens and inhibit the
toxic endpoints of Ah receptor agonists. Certain plant materials (notably
broccoli) contain Ah receptor ligands and are associated with cancer prevention.
Thirty-five extracts of the Paracelsian TCM library acted as
strong Ah receptor antagonists and three extracts strongly promoted the Ah
receptor DNA binding. The identity of the components that interacted with the Ah
receptor has not been investigated to date. Literature available on active
extracts showed that these plants commonly contained flavones and isoflavones
(quercetin, hesperidin and formononetin), berbines (berberine, palmatine,
columbamine, coptisine, jatrorrhizine), anthroquinones (emodin), aporphine
(corytuberine, magnoflorine) or furoquinolines (fagarine, dictamine,
skimmianine) as major components.
CDK1 ASSAY
The CDK1 Assay is a "cell-based" test that measures the
concentration of Cyclin Dependent Kinase 1 (CDK1, p34cdc2 kinase), a key cell
division control enzyme. CDK1 has been shown to be overexpressed in tumors,
cancer cell lines and virally infected cells. Because CDK1 is an integral cell
cycle regulator, preparations that can lower the levels of CDK1 are capable of
inhibiting cell growth and thus are candidates for inhibitors of proliferative
based disorders such as cancer, viral infections, psoriasis, restenosis, etc.
In the primary screening, 132 active extracts were identified via
the CDK1 ELISA. These extracts were then retested under more stringent
conditions on the primary screen cell line as well as two human prostate and two
human breast cancer cell lines and assayed for viability/growth inhibition. This
process led to the selection of thirty-seven TCM extracts meeting the specified
criteria for further study. Of these thirty-seven, fifteen extracts appear to be
good candidates for the pharmaceutical development pathway.
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CELL FUSION ASSAY
The second "cell-based" assay, the Cell Fusion assay, is
performed by co-culturing of CD4+ T cell lines with a T cell line (HIVenv 2-8)
that expresses three HIV-1 genes, Tat, Rev, and Env. The HIVenv 2-8 cell line is
capable of processing/cutting the HIV-1 envelope gene (gp160) from the
approximately 160 kDa precursor protein into 120 and 41 kDa subunits (gp120/41).
The processing mimics the presentation of gp120/41 on the surface of viral
particles that infect CD4+ cells as well as their presentation on infected cells
that are producing virus. During progressive HIV infection the interaction of
infected cells (presenting gp120/41 on their cell surface) with uninfected CD4+
T lymphocytes can cause a cytopathic interaction (fusion) in which one or both
of the cells die, a process called apoptosis. This HIV-induced cytopathic Signal
Transduction event is mimicked by this in vitro system without the need for
"real" virus particles.
Screening of the TCM library for inhibition of viral
cytopathicity (cell fusion) has identified twenty-eight potent plant extracts
that correspond to twenty-four different species. Of these twenty-four species,
sixteen have been well studied with the remaining eight species not studied in
great detail.
HERBAL PRODUCTS/DRUG DISCOVERY PRODUCTS (ANDROVIR, ANDROCAR)
In 1997 the Company planned the launch of two dietary supplement
products, AndroVir and AndroCar, to support normal immune function and general
well being in cancer and HIV-positive patients, respectively. The Company's
announcements pertaining to the clinical trial results using these products
initiated an investigation by the Food and Drug Administration (FDA). The FDA
concluded that, because the Company intended to sell these products to targeted
disease groups, the products were misbranded as dietary supplements and were
subject to the Federal Regulations for as a drug product. These actions forced
the Company to discontinue the scheduled product launches. The active ingredient
is currently being re-evaluated for clinical pharmaceutical drug development.
CONTRACT LABORATORY TESTING.
The Company has also engaged in contract research for outside
companies for validation of their herbal products and is seeking collaborations
with these companies for further development of the Company's herbal library.
COMPETITION
There are a number of small biotechnology companies that focus on
drug discovery. The Company competes on the basis of the combination of its
therapeutic focus on anti-proliferative diseases, its novel screening technology
and a large library of Chinese extracts with data on historical use. The Company
is not aware of any competitors with a similar drug discovery program.
BUSINESS STRATEGY
The Company's strategy is to add value to the product development
process by concentrating its efforts on the highly specialized area of
early-stage drug development, generally discovery through preclinical
toxicology, pharmacology and Phase I clinical trials. Industry factors such as
downsizing and the trend toward outsourcing by major pharmaceutical companies
support the strategy of identifying chemicals as potential drugs without the
intent to develop these discoveries into clinically proven therapeutics. There
are a number of biotechnology companies focusing their efforts on early-stage
drug development. By partnering with large pharmaceutical companies at the phase
II/III stages of development they can capitalize on the synergy of their
discovery technology and the capital resources of the large pharmaceutical
corporations. Uncertainty from government health care reform and rising
competition from the generic sector are forcing pharmaceutical companies to look
for ways of reducing the high cost of research and development, but without
harming their ability to develop innovative products. With rising competition
from generics, the development of novel products has become more important to
the success of the pharmaceutical industry. Thus, pharmaceutical companies are
increasingly focusing their capital and human resources on the development of
fewer, but higher quality, compounds.
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The Company has completed screening of extracts of its entire
library of 2764 traditional Chinese herbal medicines using its proprietary
screening methodology. As a result of this screening effort, the Company has
identified approximately 127 herbal extracts that demonstrate inhibitory
activity in signal transduction processes involved in the pathology of AIDS and
proliferative diseases. Of these, approximately 50 extracts appear to possess
significant potential to yield good candidate drugs.
The Company plans to supply these and future drug candidates to
established pharmaceutical and biotechnology companies located in the US, Europe
and Asia. In 1993, member companies of the Pharmaceutical Research and
Manufacturers Association ("PhRMA") spent approximately $1.5 billion on the
development of anti-cancer drugs. Of this, approximately 30%, or $450 million,
was spent on synthesis, extraction and screening, for which the Company has
developed a process which it believes is able to perform similar screening less
expensively.
The Company intends to license compounds in order to maximize the
return from its drug development efforts, while spreading the risk of product
failure over a larger number of drug candidates.
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SIGNAL TRANSDUCTION RESEARCH PRODUCTS.
All of the Company's products and their applications are based on
biochemical processes known as Signal Transduction - how a cell processes
information from the environment. Two proteins involved in separate signal
transduction pathways, CDK1 and the Ah Receptor, have been developed by the
Company into proprietary products. These products detect potential carcinogenic
proliferative stimulation (CDK1) by chemical agents, detection of environmental
contaminants (Ah-Immunoassay - dioxin like compounds), and are useful in the
discovery and development of anti-cancer therapeutics (CDK1 and Ah Immunoassay).
In addition, the Company has developed companion products to CDK1 based on an
established proliferation biomarker, proliferating cell nuclear antigen (PCNA).
There are a total of eleven research products currently available consisting of
kits and antibodies.
Currently the Company has seven products designed for the
laboratory animal carcinogen testing and cell culture markets. Utilizing an
Enzyme Linked immunosorbant Assay ("ELISA") format, the IN VIVO product line
(two kits plus a combination kit) allows for the quantification of CDK1 in all
human or animal tissues except blood, for research purposes only. The IN VITRO
product line (two kits plus a combination kit) permits quantification of CDK1 in
cell cultures. Visualization of increased CDK1 in specific cells on microscopic
slides is achieved by means of the Company's CDK1 Antibody Immunohistochemistry
Kit.
Since several protein biomarkers had established a history of use
in the human and animal solid tissue markets before CDK1 was discovered, the
Company offers ELISA kits for the quantification of the most widely-used
competing biomarker in this market, PCNA (proliferating cell nuclear antigen).
The Company's IN VIVO-CDKTM ELISA with confirmatory PCNA ELISA enables the user
to make a direct comparison of both the CDK1 and PCNA biomarker.
CANCER DIAGNOSTICS.
The Company's strength and knowledge in signal transduction
pertaining to cell cycle regulation and the physiology of cancer cells has led
to the discovery of a potential serum biomarker for human and veterinary cancer
diagnostics. Paracelsian scientists have found that CDK2, an enzyme closely
related to CDK1, appears to be released by cancer cells as they replicate. A
reliable, high throughput assay design is still in the developmental stage.
Preliminary data indicate that the CDK2 biomarker may be able to
identify individuals with cancer as well as diagnose human patients with benign
prostate hyperplasia who may be a high-risk for development of metastatic
prostate cancer. Additional work has indicated that it may be used for diagnosis
of canine osteosarcomas, lung tumors, and lymphosarcomas. This biomarker also
has potential in the pharmaceutical drug development market to monitor for tumor
development in carcinogenicity bioassay systems. Because CDK2 is a cell cycle
control protein found in all cell types, the assay could, theoretically, be used
to diagnose cancer patients irrespective of the tumor type.
Due to the resources required to perform regulatory validation
studies of this type of diagnostic test, further development of these products
has been suspended indefinitely.
COMPETITION - LABORATORY ANIMAL CANCER DIAGNOSTICS
The most significant barrier to entry for the cancer biomarker
test in rodent studies is the general aversion by the marketplace to new
technology in toxicology testing. Toxicology studies in the pharmaceutical and
agrochemical industries are performed to assess chemical safety (carcinogenic
potential). Ultimately, results of these studies are submitted to the FDA or EPA
as part of drug or chemical applications. Although not mandated, the protocols
for data submission established by these agencies are generally "recommended".
Although the Company's published and marketing data demonstrates that toxicity
studies could be conducted more quickly and with significant cost reduction
using its CDK1 tests, the regulatory culture of these industries has prevented
rapid penetration by the Company of this market. Products currently on the
market that complete with the Company's ELISA assays include 3H-thymidine, a
radioactive compound, and bromodeoxyuridine. These compounds are the reagents
that are currently used in methodology to assess the ability of a chemical to
generate a proliferative response in a cell. The testing protocols that are used
with these chemicals are time consuming, taking up to several months to produce
a result, and the data are often difficult to interpret.
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As health care reform increases the pressure on pharmaceutical
companies to reduce the prices of new drugs, it is conceivable that pressure to
adopt cost-cutting new technologies also will increase. The mechanistic nature
of the Company's test could shorten the FDA approval time, which has indicated a
preference for such tests. In addition, the Company anticipates offering three
separate products to the toxicology market. This portfolio of products is
expected to meet the needs for monitoring, documenting endpoints and analyzing
archival materials.
COMPETITION - VETERINARY CDK2 CANCER DIAGNOSTICS
There are currently no screening tests for cancer being used in
veterinary medicine. Therefore, the Company expects single greatest barrier to
the successful introduction of the CDK2 test to be acceptance by veterinarians
and pet owners. Recent growth of oncology as an area of specialization in
veterinary medicine is expected to facilitate the adoption of the test.
The Company's patented test is expected by the Company to impede
immediate imitation. The fact that the biomarker is a mechanistic marker also
should make it difficult for another test to enter the market after initial
acceptance. The Company intends to rely upon the quality reputation and
capabilities of its intended partner to maintain sales and market share.
For the companion animal market, general economic factors will
play a role in the willingness of customers to add a new test to their
veterinary bills. Major competitors may attempt to maintain comparable product
lines, so it is expected that other veterinary suppliers could produce a
companion animal cancer-screening test. The likelihood of success for another
company is difficult to predict, although such success will require substantial
investments in research and development.
BUSINESS STRATEGY - LABORATORY ANIMAL DIAGNOSTICS
The potential customers for the IN VIVO-CDKTM and IN VITRO-CPATM
are toxicologists working to characterize the carcinogenicity of chemicals in
the pharmaceutical, agrochemical, food and cosmetic industries. The CDK1
diagnostic market in toxicology can be estimated based upon the number of
rodents used in cancer testing in the US. Sixteen percent of animals used in
research are involved in studies to evaluate the toxicity of chemicals. Of that
number, 63% represent studies that could use the CDK1 cancer diagnostic test.
Currently, 20 to 40 million rodents are used each year for toxicology testing.
Approximately 10% of these animals are used in studies in which the CDK1
diagnostic test could be applied which represents the Company's target market.
The Company's ELISA CDK1 diagnostic test kit currently on the market for rodent
tissues can assay 42 tissue samples per kit. Estimating usage at three or four
assays per animal based on the number of tissues or serum assays per animal, the
potential number of tests is estimated at eight to 16 million tests per year.
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SIGNAL TRANSDUCTION AND THE BIOSENSOR ASSAY FOR DIOXIN COMPOUNDS
SCIENTIFIC BACKGROUND
The Ah-IMMUNOASSAY(TM) was developed by the Company to detect
chemical carcinogens of the dioxin class that are commonly found in
environmental pollutants from incineration of plastics and in paper production
and recycling. TCDD (2,3,7,8-tetrachlorodibenzo-p-dioxin) or dioxin is the best
studied and most toxic of a number of these environmentally important chemicals
known as dioxin-like compounds.
Presently, many scientists concur that all toxic effects of
dioxin and a protein present in cells called the Aryl hydrocarbon (Ah) receptor
mediates structurally related compounds. The initial step in dioxin toxicity
requires the binding to, and transformation of, the Ah receptor to a DNA-binding
form that then affects the expression of several gene products. In support of
this concept, the susceptibility of different species to the toxic effects of
dioxins can be correlated to the susceptibility of their Ah receptor molecule to
transformation by dioxins. Furthermore, the toxicity of dioxin-like compounds is
linked with their ability to transform the Ah receptor into a DNA-binding form.
The Ah-IMMUNOASSAY(TM) was designed to be selective for the toxic members of the
dioxin family by utilizing the transformation of the Ah receptor as a biosensor.
The Environmental Protection Agency (the "EPA") has circulated proposed
regulations providing for the measurement of the dioxin family to be expressed
as "Toxic Equivalent Quotients". The Company's assay provides this form of
response and measurement.
PRODUCT
As designed and formatted, the Ah-IMMUNOASSAY(TM) does not
require the use of radioactivity, sophisticated equipment, live cells or live
animals. Three convenient formats of the Ah-IMMUNOASSAY(TM) have been designed
by the Company to provide several methods of quantification of the amount of
several important classes of compounds including dioxins, polychlorinated
biphenyls, polybrominated biphenyls and polycyclic aromatic hydrocarbons. The
interaction of dioxin with the Ah-biosensor complex in the Ah-IMMUNOASSAY(TM)
produces a transformation in the shape of the biosensor complex. The number of
molecules of the biosensor complex that are transformed can be quantified with
specific antibodies to the transformed, DNA-binding form of the complex.
The Ah-IMMUNOASSAY(TM) responds to the toxicity of the test
sample in terms of fractional equivalencies of the most toxic dioxin-like
compound: TCDD. Because of the simplicity of the assay, hundreds of air, soil,
food or water samples may be tested in a single day. The format of the assay is
designed to be low-cost and high throughput that can be performed in several
hours by non-technical personnel. Sensitivity of the Ah-IMMUNOASSAY(TM) to the
contaminants that it detects is comparable to instrumental methods currently
used and is well below the recently proposed EPA concentrations for water, food
and soil.
Unlike competing products, the Ah-IMMUNOASSAY(TM) biosensor test
does not detect the contaminant directly with antibodies, but detects the
interaction of an intracellular receptor and ligands contained in the sample of
interest. The Company believes that the advantages of this biosensor approach
are (i) simple extraction procedures with few clean-up steps, (ii) high
sensitivity, (iii) high specificity for the contaminant family of interest, (iv)
reduced testing time, (v) lower testing costs and (vi) adaptable to robotic,
high-throughput systems.
On October 27, 1995, the Company filed a patent covering its
invention of an improved biosensor assay for the detection of dioxin-like
compounds that is capable of performing several thousand assays per day at a
detection level of 300 parts per quadrillion. See "Patent Applications and
Proprietary Technology." The simplicity and speed of the new format, which is
owned entirely by the Company, are ideal for countries with enormous
environmental problems and little financial support for high-cost
instrumentation.
COMPETITION
Many large companies with extensive research and development,
marketing, financial and other capabilities, as well as government-funded
institutions and smaller research firms are engaged in the development of
diagnostic assays for environmental applications. The significant majority of
diagnostic tests developed for these companies, however, are designed for use in
laboratories that require sophisticated instrumentation and skilled technicians.
The Company has designed its Ah-IMMUNOASSAY(TM) system as an inexpensive, rapid,
field test for use by minimally skilled personnel and does not currently compete
with laboratory-based systems. Early attempts to develop an
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antibody-based test for all dioxins have been unsuccessful. With the
introduction of the Ah-IMMUNOASSAY(TM) biosensor test, the Company provides the
first receptor-based environmental testing system.
Based upon scientific papers presented by the Company and others
at the 15th International Symposium on Dioxins and Related Compounds held in
Edmonton, Alberta, Canada, the Company anticipates performance of the
Ah-IMMUNOASSAY(TM) to be free of interference with common, nontoxic, naturally
occurring, organic compounds that are capable of interacting with the
Ah-receptor. Furthermore, the Company's assay, unlike others presented, does not
require the use of dangerous radioisotopes or cell culture and can be performed
in hours. The Company believes these qualities provide a significant competitive
advantage to the Ah-IMMUNOASSAY(TM) over all other known bioanalytical assays
for dioxin-like compounds.
BUSINESS STRATEGY.
Environmental engineering firms must rely exclusively on
sophisticated instrumentation, reagents, highly trained personnel and
significant elapsed time for the information they need to begin any plan for
remediation. By providing a real-time assay and freeing highly trained
technicians for more sophisticated work, the Company believes that the
Ah-IMMUNOASSAY(TM) would be an invaluable tool to these target markets. For this
application the Company has developed the Ah-IMMUNOASSAY(TM) as a supplement to
and not a replacement for existing instrumental methods by providing a system
for use in connection with existing environmental remediation efforts at
increased efficiency and decreased cost. In the past year, the EPA circulated
proposed regulations providing for the measurement of the dioxin family to be
expressed as "Toxic Equivalent Quotients". The Company's assay provides this
form of response and measurement.
Additionally, developing economies in Asia and Eastern Europe are
facing significant environmental problems with dioxin-like compounds and have
neither the sophisticated instrumentation nor the trained personnel to address
their analytical needs. In these potential markets there is the immediate need
for an inexpensive testing system that will reliably identify problematic water,
food and soil contamination.
In January 1995, the Company announced an agreement with Dow
Environmental providing for a non-exclusive license and an option for an
exclusive license to evaluate and commercialize the Company's Ah-IMMUNOASSAY(TM)
technology. Testing of the technology conducted by Dow Environmental and the
Company indicated that the assay met or exceeded milestones developed in the
agreement. Dow Environmental, however, has decided not to pursue further
development. The Company is currently negotiating with Dow for the return of all
the rights to the Ah-IMMUNOASSAY. It is the Company's intention to seek other
licensees for this technology. There can be no assurance that such transfer and
license will be completed.
[This space intentionally blank]
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PATENT APPLICATIONS AND PROPRIETARY TECHNOLOGY
The Company believes that patent protection of materials or
processes it develops and any products that may result from the Company's
research and development efforts are important to the commercialization of the
Company's products. The Company has five US patent applications and three
foreign applications that are currently pending.
In the 1995 fiscal year the Company filed a US patent describing
the use of compounds identified from two of its TCM extracts. The patent
describes uses of these compounds for the treatment of cancer, arterial
restenosis following angioplasty and the prevention or treatment of
cytopathology related to HIV-1, herpes or hepatitis infections.
Two patent applications for the biosensor detection methodology,
which utilize properties of ligand-receptor interaction such as the
Ah-IMMUNOASSAY(TM) and potential derivative products using the Ah receptor
technology, have been filed in the United States Patent and Trademark Office on
behalf of Cornell Research Foundation, Inc. See "Exclusive License Agreement
with Cornell Research Foundation, Inc.". The first, describing an indirect
immunoassay for the detection of dioxin-like compounds has been approved. The
second application was approved in October 1995. Filing for foreign patent
protection of this second patent in Europe, Canada, Japan and China also took
place in the first quarter of fiscal 1996.
The Company filed a third patent on October 27, 1995 describing
an improved Ah-IMMUNOASSAY(TM) technology. This new assay is targeted for
markets in Asia and Eastern Europe. The simplicity and speed of the new formats,
which will be owned entirely by the Company, are ideal for countries with
enormous environmental problems and little financial support for high-cost
instrumentation.
The Company filed for patent protection in Europe and Canada in
fiscal 1994 on its findings of increased presence of CDK protein in cells that
are exposed to carcinogenic chemicals and after becoming cancerous. The
International Preliminary Examining Authority during the prosecution of the
patent cooperation treaty patent application accepted this concept. If the
patent is issued, the patent will give the Company exclusive rights to data
supporting the use of CDKs as early diagnostic or prognostic markers for cancer.
It is anticipated that continuing United States and corresponding
foreign patent applications will be filed in the future. There can be no
assurance that any patents will be issued based upon such applications or that
any patents that may be issued will provide the Company with significant
protection from competitors. Further, there can be no assurance that any patents
that may be issued based upon such applications will not be successfully
challenged and declared invalid.
The patent positions of biopharmaceutical and biotechnology
firms, as well as of academic and other research institutions are uncertain and
involve complex factual and legal questions. Accordingly, no firm predictions
can be made regarding the allowance, breadth or enforceability of claims in
these applications or others that may be filed by the Company. The Company and
Cornell Research Foundation, Inc. believe that they have the sole and exclusive
rights in the technologies underlying the Company's products. The Company would
vigorously defend any attempt by any individuals to assert any rights in such
technologies. Although Cornell Research Foundation, Inc. has substantial
resources to legally enforce its patent rights, there can be no assurance that
it will do so. If Cornell Research Foundation, Inc. elects not to enforce its
patent rights in the technologies underlying the Company's products, the Company
has the right under its license agreement with Cornell Research Foundation, Inc.
to seek to enforce those rights. However, in such event, there can be no
assurance that the Company will have the financial resources to do so. In
addition, although all of the Company's employees are parties to confidentiality
agreements which are intended to protect the Company's proprietary technology,
there can be no assurance that any of such employees will not compromise any of
the Company's proprietary rights.
The Company also relies upon unpatented proprietary technology,
and no assurance can be given that others will not independently develop
substantially equivalent proprietary information or techniques or otherwise gain
access to the Company's proprietary technology or disclose such technology or
that the Company can meaningfully protect its rights in such unpatented
proprietary technology.
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United States trademark applications were approved during the
1995 fiscal year for IN VIVO-CDKTM and IN VITRO-CPATM ELISA assays.
EXCLUSIVE LICENSE AGREEMENT WITH CORNELL RESEARCH FOUNDATION, INC.
The Company and Cornell Research Foundation, Inc., a wholly-owned
subsidiary corporation of Cornell University, are parties to a license agreement
(the "License Agreement") pursuant to which the inventors have assigned to
Cornell Research Foundation, Inc. their ownership interests in the
Ah-IMMUNOASSAYTM technology in accordance with Cornell University's patent
policy. Cornell University's patent policy states that all patentable inventions
conceived or first reduced to practice by Cornell University's faculty and staff
in the course of research conducted during an inventor's employment with Cornell
University or with the use of Cornell University's resources shall belong to
Cornell University, thereby giving Cornell University, through Cornell Research
Foundation, Inc., the right to grant licenses under such patent applications and
patents issuing thereon.
Pursuant to the License Agreement, Cornell Research Foundation,
Inc. has granted an exclusive license for any patent applications based on the
Ah-IMMUNOASSAYTM and any patents issuing thereon to the Company and the Company
has issued to Cornell Research Foundation, Inc. 195,190 shares of Common Stock
of the Company. In the License Agreement, Cornell Research Foundation, Inc. has
expressed an intention to maintain a passive non-voting position with respect to
its stock holdings in the Company. The Company also will pay Cornell Research
Foundation, Inc. a royalty equal to 3% of the net sales price of licensed
products based on Ah-IMMUNOASSAYTM technology sold by the Company in the United
States and throughout the world. Dr. John G. Babish a co-inventor of the
Ah-IMMUNOASSAYTM technology, is entitled to a portion of such royalty payments
since Cornell University's patent policy provides that the inventor of patented
technology owned by Cornell Research Foundation, Inc. shall be entitled to a
distribution of a portion of the net royalty income. Dr. Babish has assigned to
the Company all of the royalty payments which he is entitled to receive pursuant
to Cornell University's patent policy. Among other matters, the License
Agreement also provides that the Company shall exercise diligence to introduce
the licensed product into the commercial market.
The Company has the right to sublicense under the License
Agreement with the approval of Cornell Research Foundation, Inc., which approval
may not be unreasonably withheld or delayed. The Company's rights and
obligations under the License Agreement are non-assignable, except to its
successor in business if such assignment is approved by Cornell Research
Foundation, Inc., which approval may not be unreasonably withheld or delayed.
The License Agreement provides for the indemnification of the Company by Cornell
Research Foundation, Inc. from any damages, costs or expenses incurred by reason
of a breach of Cornell Research Foundation, Inc., warranties set forth in the
License Agreement. The License Agreement further provides for the Company's
indemnification of Cornell Research Foundation, Inc. with respect to any claim
arising out of the Company's or its transferees' use of inventions licensed or
information furnished under the agreement, or out of any use, sale or other
disposition by the Company or its transferees of products made by use of such
inventions or information.
Any exclusive license under a patent application lasts until the
expiration date of the last to expire licensed patent, unless otherwise earlier
terminated. Cornell Research Foundation, Inc. may terminate the License
Agreement for noncompliance with a material provision by six-month notice to the
Company. Upon receipt of such notice, the Company has ninety days to cure its
noncompliance.
RELATIONSHIP WITH CORNELL UNIVERSITY AND CORNELL RESEARCH FOUNDATION, INC.
The initial Ah-IMMUNOASSAYTM technology was developed at Cornell
University. The Company is a party to the License Agreement with Cornell
Research Foundation, Inc. covering this system. See "Exclusive License Agreement
with Cornell Research Foundation, Inc."
Cornell University received 78,660 shares of the Company's Common
Stock in consideration for consulting services rendered to the Company by
various members of the faculty of Cornell University. Cornell Research
Foundation, Inc. received 195,190 shares of the Company's Common Stock in
consideration for entering into the License Agreement. In the License Agreement,
Cornell Research Foundation, Inc. has expressed an intention to maintain a
passive non-voting position with respect to its stock holdings in the Company.
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GOVERNMENT REGULATION AND APPROVAL
The FDA, the EPA or other Federal regulatory agencies do not
currently regulate the Company's Chinese herbs, as natural products. However,
extracts of the Chinese herbs and pure compounds with biological activity
identified from these herbs may be subject to FDA, EPA or other regulatory
authorities and would then require extensive testing and validation procedures.
The Dietary Supplement Health and Education Act of 1994 was
adopted in recognition of the role supplements can play in health promotion and
the link between supplements and prevention of chronic diseases such as cancer,
heart disease and osteoporosis. This legislation established a regulatory
framework for supplements to ensure continued access to safe products that are
made to quality standards. The law defines dietary supplements, creates a
mechanism for determining safety, regulates health claims and labeling of
dietary supplements, provides for good manufacturing practices and establishes a
governmental entity to review, recommend and monitor regulations and research on
dietary supplements. The provisions in the law that are significant to the
Company are: (i) If a product is marketed as a dietary supplement, defined as
any product that contains one or more dietary ingredients such as vitamins,
minerals, herbs or other botanicals, amino acids or other ingredients used to
supplement the diet, and is later approved as a new drug, it may remain on the
market as a dietary supplement unless the FDA determines it is unsafe. If a
product is approved as a new drug before being marketed as a dietary supplement,
it may not later be marketed as a dietary supplement without FDA approval. (ii)
A dietary supplement can be removed from the market if the FDA shows that it
presents "a significant or unreasonable risk of illness or injury," that it is a
"poisonous or deleterious substance which may render it injurious to health" or
if the FDA determines that it presents an imminent hazard to public health or
safety." (iii) Before marketing a new dietary ingredient, a manufacturer must
supply the FDA with adequate information to provide "reasonable assurance that
the ingredient does not present a significant or unreasonable risk of illness or
injury." This information must be supplied at least 75 days before marketing.
(iv) Commencing on December 31, 1996, a dietary supplement label must list the
name and quantity of each active ingredient, identify the product as a dietary
supplement and, if an herbal supplement, identify the part of the plant from
which it is taken.
Neither the Ah-IMMUNOASSAYTM nor the IN VIVO-CDKTM and the IN
VITRO-CPA TM assays currently require pre-market approval by the FDA, the EPA or
any other regulatory agency. However, there can be no assurance that these
products will not become subject to pre-market approval or some other form of
government regulation at a future date.
The IN VIVO-CDKTM and the IN VITRO-CPA TM assays can be used
immediately by customers to screen drugs and compounds as nongenotoxic
carcinogens. Sufficient data must be generated to substantiate the correlation
to IN VIVO studies prior to the test being accepted as a complete substitute for
these IN VIVO tests. The Company expects that it will take up to eight years
before complete acceptance is achieved. The Company has based this estimate of
the time required for acceptance for prior assays that test genotoxic
carcinogens. There is no guarantee that this acceptance will occur or that it
will occur in the time frame estimated by the Company.
In addition, diagnostic tests developed from the IN VITRO-CPA TM
ELISA kit will be subject to FDA or other regulatory approval if it is used in
clinical diagnostics. This test may be classified by the FDA as a Class III
medical device, automatically requiring an FDA-approved pre-market approval
application ("PMA") prior to commercial marketing and distribution in the
clinical diagnostic market.
A PMA for a diagnostic test must contain the results of clinical
investigations providing reasonable assurance that the test is safe and
effective for its intended use. Thus, the data in such a study must demonstrate
the sensitivity and specificity of the test to a sufficiently high degree to
permit a judgment that the test will be clinically useful in diagnosing a
specific disease or condition, and that the risk of a misdiagnosis is minimal.
The FDA usually requires investigations at three separate sites to establish
inter-laboratory reproducibility of results. While this investigational process
is typically less complex and costly than the clinical testing process for
pharmaceuticals, it nonetheless requires a sizable investment of capital. The
Company cannot commercialize a medical diagnostic test classified by the FDA as
a Class III medical device until the FDA approves a PMA for the product.
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A Class III medical device may be exported for commercial sale in
other countries pending PMA approval upon the FDA's consent. Such consent is
given upon the filing of a certification that commercial sale of the device is
approved by the country to which it will be exported and upon the FDA's
determination that exportation of the product is not contrary to public health
or safety.
Under the Patent Term Restoration Act of 1984, an entity which
owns a patent claiming a Class III medical device requiring PMA approval, or a
method of using or manufacturing such a product, may apply for an extension of
the normal statutory patent term of 17 years to compensate for the time taken
for clinical research and FDA review of the product's PMA. The Company may be
eligible to apply for such additional patent protection if a patent issues on
any of its medical diagnostic tests requiring PMA approval. There can be no
guarantee, however, that any such patents will be issued or that such patent
term extensions will be obtained.
EFFECT OF GOVERNMENTAL REGULATIONS ON THE COMPANY
Initially, the Company does not anticipate that its drug
discovery program will be effected by government regulations, since the Company
intends to license drug compounds to established pharmaceutical companies prior
to extensive testing and development. In the future, it is conceivable that the
Company could move further downstream in the development process, possibly
through Phase I clinical trials, in which case compliance with FDA
pharmaceutical regulations would become an important factor.
The EPA's 1994 report, "Risk Assessment of Dioxin," states that
toxicity should be determined in toxic equivalency factors and that toxic
effects are mediated via the Ah-receptor protein. It is expected that this
report will expand the market for the Ah-IMMUNOASSAYTM, of which there can be no
assurance. Due to the nature of the Company's products, they could become
subject to governmental regulation in the future, and changes in regulations on
other industries or products could indirectly affect the pricing and markets for
the Company's products.
Proposed legislation for health care reform has increased
pressure on pharmaceutical companies to reduce their pricing. The Company's Cell
Proliferation Assays can provide its customers with the ability to reduce their
direct costs and time required to either perform tests or to develop products
for market. They also provide the customer with information regarding toxicity
that is not currently available from any other source.
FUNDING OF RESEARCH AND DEVELOPMENT
The Company expended 1,409,686 and 1,362,971 on research and
development in fiscal years 1997 and 1996, respectively. None of these research
and development costs were borne directly by customers.
COSTS OF ENVIRONMENTAL COMPLIANCE
The Company believes it is in compliance with all environmental
laws and the cost to the Company for this compliance has been minimal.
EMPLOYEES
As of September 30, 1997, the Company had 7 employees. Four
employees are primarily engaged in product engineering or manufacturing. Five of
the employees have a Ph.D. or MD degree. None of the Company's employees is
covered by a collective bargaining agreement. The Company considers its
relationship with its employees to be excellent. All employees of the Company
are signatories to confidentiality agreements that restrict proprietary rights
in, and commercial development of, all technology developed by the employees.
ITEM 2. DESCRIPTION OF PROPERTIES.
The Company's executive offices and research facilities are
located at Langmuir Laboratories in Ithaca, New York, and occupy approximately
6,000 square feet at that location. The Company occupies this space under a
one-year lease from Cornell University, which expires in 1998 and provides for
automatic annual renewals. At this time and for the foreseeable future, the
Company believes that this space is more than sufficient for its administrative
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offices as well as currently contemplated manufacturing and research and
development activities; the Company anticipates reducing its space in the
future. The Company believes that the cost of such space is competitive.
ITEM 3. LEGAL PROCEEDINGS.
In June 1993, a suit was commenced in the New York State Supreme
Court (Onondaga County) by certain persons, individually and doing business as
In Vitro Bioanalytic Systems, against the Company, Dr. John G. Babish, an
officer and director of the Company, and Edward Heslop, a founding shareholder
of the Company.
The plaintiffs allege, among other things, that in 1990, prior to
the Company's incorporation, a partnership had been formed with Messrs. Babish
and Heslop to commercialize products that the Company is now developing.
Damages, an accounting and an injunction are being sought against the Company.
By decision dated September 14, 1994, the Court dismissed certain of the
plaintiffs' claims against the Company while permitting a claim alleging unfair
competition to proceed. The Company believes that the suit against it is without
merit, intends to continue to vigorously oppose the allegations and is appealing
the Court's ruling to the extent that it did not dismiss the entire complaint.
Plaintiffs have filed a cross-appeal as to the portion of the action dismissed
by the Court.
On April 27, 1997 the Company filed a complaint in the U.S.
District Court for the Northern District of New York against John G. Babish, a
former officer and director of the Company. The complaint alleges that Mr.
Babish engaged in a pattern of wrongful conduct by which he sought to unjustly
enrich himself and to seize control of the Company as the expense of the Company
and its shareholders. That conduct included in part the manipulation of the
Company's stock price, trading in the Company's stock on inside information,
breach of fiduciary and contractual duties, theft of Company property, and
usurpation of corporate opportunities.
The Company initially obtained a temporary restraining order
prohibiting the defendant alone or in cooperation with others from transferring
any of the stock or assets of or other interests in the Company, from issuing a
press release, or contacting stock brokers or major shareholders with the intent
to affect the price of plaintiff's stock or from disseminating any trade secrets
or other confidential information of the plaintiffs. The restraining order
against the defendant expired, and the court declined the Company's request to
extend the order in a preliminary injunction.
The defendant denied any wrongdoing in his answer to the
complaint, and counterclaimed for damages "between $375,000 and $1,829,587" on
account of the Company's alleged failure to register shares of common stock
underlying certain warrants. Defendant moved to dismiss the suit, and that
motion was denied. The parties have commenced mutual disclosure of evidence as
required by law and are currently in negotiations for mutual release and
settlement.
On May 20, 1997, Dr. T. Colin Campbell, a former director of the
Company, filed a petition in the Delaware Court of Chancery pursuant to Section
211 of the Delaware General Corporation Law ("DGCL"). The petition sought an
order compelling the Company to hold an annual meeting of stockholders and
sought other forms of relief relating thereto, including requesting that the
Court set a time and place for the meeting and ordering that certain board seats
be put up for election. On June 11, 1997, the Company announced that the Board
of Directors had scheduled the annual meeting for August 13, 1997 and had set a
record date of July 10, 1997 for stockholders entitled to attend and vote at the
meeting. On the same day, the Company moved to dismiss the petition.
On June 20, 1997, petitioner filed a cross-motion in opposition
to the Company's motion to dismiss, and an application, pursuant to Section
223(c) of the DGCL, to require the Company to hold an election at the annual
meeting to replace directors recently appointed to the Board. Subsequently,
petitioner moved to postpone the scheduled August 13th meeting in order to have
more time to conduct a proxy contest. The Court scheduled a hearing for July 28,
1997 to hear argument on that motion. Following the hearing, the Court ruled
form the bench and denied petitioner's request to postpone the meeting, but
granted the petitioner leave to amend his petition. To date, petitioner has not
filed an amended petition.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock, par value $0.01 per share (the
"Common Stock"), commenced trading on February 11, 1992 on the over-the-counter
market and is quoted on the National Association of Securities Dealers'
Automated Quotation System ("NASDAQ") under the symbol PRLN. The Company's
Redeemable Common Stock Purchase Warrants (the "Warrants") commenced trading on
September 24, 1993 on the over-the-counter market and is quoted on NASDAQ under
the symbol PRLNW.
The following table sets forth the high and low bid prices for
the Common Stock and Warrants during the periods indicated as reported by
NASDAQ. The prices reported reflect inter-dealer quotations, may not represent
actual transactions and do not include retail mark-ups, markdowns or
commissions.
<TABLE>
<CAPTION>
Common Stock Warrant
------------ -------
High Bid Low Bid High Bid Low Bid
-------- ------- -------- -------
<S> <C> <C> <C> <C>
Fiscal 1996
First Quarter 7 5/8 2 1/2 4 1/8 7/8
Second Quarter 2 9/16 2 9/32 1 1/8 7/16
Third Quarter 4 1/4 2 5/32 1 5/8 3/4
Fourth Quarter 3 3/4 2 5/8 1 9/16 5/8
Fiscal 1997
First Quarter 1 11/16 11/2 7/16 3/8
Second Quarter 1 3/8 11/4 7/16 11/32
Third Quarter 1/8 1/8 1/8 1/8
Fourth Quarter 15/32 7/16 1/16 1/16
</TABLE>
As of December 22, 1997, the Company had 12,004,867 shares of
Common Stock outstanding held by 292 record holders. As of such date, the
Company had 4,632,773 Warrants outstanding and 66 record holders of Warrants.
The Company did not pay cash dividends on the Common Stock during
the two fiscal years ended September 30, 1997. It is the present policy of the
Company to retain earnings, if any, to finance the development and growth of its
business. Accordingly, the Company does not anticipate that cash dividends will
be paid until earnings of the Company warrant such dividends, and there can be
no assurance that the Company can achieve such earnings or any earnings.
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ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussions should be read in conjunction with the
consolidated financial statements and related notes thereto of the Company
included elsewhere herein.
GENERAL
Research and product engineering expenses include internal
expenditures as well as expenses associated with third party consultants and
collaborators. Newsletter expenses and costs include the cost of printing,
supplies, and other administrative costs incurred with operating the Company's
New Century Nutrition newsletter and the costs related to winding down the
operation which ceased publication with its December 1996 issue. General and
administrative expenses include salaries, overhead, and legal, accounting and
consulting costs incurred in connection with maintaining the Company's day to
day operations. Product launch costs are expenses associated with the Company's
canceled product launch of its andrographide based products. The Company's
historical revenues have primarily been attributable to licensing fees generated
from the use of its technology.
RESULTS OF OPERATIONS
Fiscal years ended September 30, 1997 and 1996
REVENUES
Revenues decreased to $6,146 in the fiscal 1997 from $59,000 in
the fiscal 1996. This decrease in revenue is primarily attributable to a
decrease in sales of product and subscription revenue related to the cessation
of the newsletter.
RESEARCH AND PRODUCT ENGINEERING EXPENSES
Research and product engineering expenses increased by 3% to
$1,410,000 in the fiscal 1997 as compared to $1,363,000 in the fiscal 1996.
Research expenses in the fiscal 1997 include the continued research on the
Andrographis paniculata based products and expenses associated with the
agreement with the National Cancer Institute.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses were $2,437,000 and
$2,007,000 in fiscal 1997 and fiscal 1996, respectively, representing an
increase of 18% in fiscal 1997 from fiscal 1996. These expenses relate to the
administration and management of the Company's, including personnel costs,
legal, accounting, consulting, investor relations and the administration of the
research, development and product engineering activities.
The primary reasons for the increase in general and
administrative expenses in fiscal 1997 are due to increases in legal and
professional fees resulting from litigation against the Company. These increases
have been offset by significant reductions in payroll costs. Included in fiscal
1997, is the write off of the East West option acquisition costs of $92,866,
$56,000 of bad debt expense associated with write off of a loan to a former
employee and officer, $162,770 of the write-down of the capitalized patent and
trademark costs and $30,475 of non-cash expenses associated with stock issued in
consideration of services performed.
NEWSLETTER EXPENSES AND COSTS
During November 1995, the Company, through its wholly-owned
subsidiary, purchased substantially all of the assets related to the New Century
Nutrition (formerly Nutrition Advocate), a newsletter promoting disease
prevention through nutrition, from Advocacy Communications, Inc. The purchase
price for the acquired assets was $350,000 in cash. T. Colin Campbell, then a
Director of the Company and his son T. Nelson Campbell, then a Vice President of
the Company, were majority shareholders and officers of Advocacy Communications,
Inc.
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The purchase price represented principally intangible assets
which were to be amortized on a straight-line basis over 10 years. In December
1996, the Company decided to cease publication of the newsletter effective
January 1, 1997. During fiscal 1996, the Company incurred expenses of
approximately $531,000 developing the newsletter and soliciting subscriptions.
The Company wrote off the purchase price of the newsletter of $350,000 and
accrued $75,000 for the anticipated costs to wind up the newsletter operations
all of which are reflected in the September 30, 1996 financial statements.
PRODUCT LAUNCH COSTS
During 1997, the Company intended to launch the dietary
supplements Andro Vir and AndroCar to persons with HIV and cancer. In April
1997, the Company was advised by the Food and Drug Administrative that the
marketing of these products to persons with HIV and cancer would constitute
claims that the products are intended to treat persons with serious diseases and
thus intended for drug use and not dietary supplement use. After careful
consideration the Company decided to cancel the launch. The Company incurred
$300,000 of expenses in the year ended September 30, 1997.
NET LOSS
The Company has incurred net losses of $16,493,000 as a
development stage company since inception to September 30, 1997, of which
$3,942,000 was incurred in the current year. Net loss per share was $.33 for the
year compared to .68 per share loss in fiscal 1996. The loss per share includes
.19 per share related to preferred dividends and the beneficial conversion
feature on the Company's common stock. The Company anticipates that losses will
continue into next year, but at a significantly reduced amount.
LIQUIDITY & CAPITAL RESOURCES
As of September 30, 1997, the Company maintained working capital
of $806,000, which included cash and cash equivalents of $886,000. On September
30, 1996, working capital was $3,820,000 and cash and cash equivalents were
$4,171,000. This decrease of approximately $3,014,000 in working capital and
$3,285,000 of cash is attributable to the Company's operating loss. During
fiscal 1996, the Company raised $9.9 million in equity through a series of
transactions as described below.
In June and July 1996, the Company completed a private placement
to certain investors for net proceeds of $2.2 million in which it issued 825,001
shares of common stock and 1.2 million warrants with various exercise prices
ranging from $3.25 to $4.50 and other terms. In September 1996, the Company
completed a private placement financing to many of the same investors for net
proceeds of $2.0 million in which it issued 683,333 shares of common stock and
683,333 warrants with various exercise prices ranging from $3.25 to $4.00 and
other terms.
During the period, August through October 1995, the Company sold
300,000 shares of common stock and 102,351 of convertible preferred stock in
private transactions generating net proceeds of $5.7 million. During the period
October 31, 1995 through February 1, 1996, all of the holders of the convertible
preferred stock converted such shares into 5.4 million shares of common stock.
During November 1995, the Company purchased 265,478 shares of its
common stock on the open market for an aggregate cost of $1,342,515. The Company
has no further plans to make any additional purchases of its shares.
On April 9, 1996, the Company signed an option to acquire East
West Herbs Ltd. of Kingham, England ("EWH"). EWH markets and distributes
traditional Chinese medicines in the United Kingdom and throughout Europe. Under
terms of the option, the Company had the right to acquire all of the outstanding
shares of EWH on or before April 6, 1997 for $780,000 in cash and shares of the
Company with a value of approximately $2,400,000 for a total proposed
acquisition price of $3.2 million. Consideration for the option was made in the
form of an option fee of $20,000 and a working capital loan of $340,000. The
loan bears interest at the LIBOR rate and is payable in eight equal quarterly
installments with the first installment to be paid six months after the first
anniversary
20
<PAGE>
of the loan agreement. The loan is guaranteed by the majority shareholder of
EWH. The Company elected not to exercised its option and subsequently wrote off
its option acquisition costs of $92,866.
The Company intends to incur continuing product research and
development expenses. The expenses during fiscal 1997 include payments to the
National Cancer Institute as part of a CRADA (Cooperative Research and
Development Agreement). The terms of the CRADA are included in an agreement
signed by the parties in December 1996. Under the terms of the CRADA, the
parties had agreed to share certain, extensive proprietary data, methods and
models for use in evaluating the efficacy of certain of the Company's compounds
against HIV and certain cancers. The CRADA was terminated by the Company in
September 1997 and the Company is obligated under the agreement to fund certain
costs estimated at $17,000 for a six months period.
The Company has significantly reduced its personnel and other
costs since June 1997 and continues to reduce costs and preserve cash. The
Company intends to seek additional funding sources of capital however, there can
be no assurance that additional financing will be available on acceptable terms
or at all.
In January, 1997 the Company signed an agreement with Biomar
International, Inc. ("Biomar") in which Biomar agrees to purchase 3,571,429
shares of common stock for $500,000. In addition, Biomar will receive warrants
to purchase an additional 2,971,429 shares of common stock at a price of $.175
per share or a total of $520,000. These warrants expire 90 days after the shares
and warrants are registered with the Securities and Exchange Commission ("SEC").
Biomar will also become the major shareholder and received control of the Board
of Directors. Biomar is controlled by T. Colin Campbell a former director of the
Company and his son, T. Nelson Campbell a former Vice President of the Company.
This additional financing will enable the Company's available
cash and existing sources of funding to satisfy its capital and operating
requirements through September 1998. The Company's future capital requirements
will depend on many factors, including continued scientific progress in its
research and development programs, the magnitude of such programs and the
settlement of various law suits.
RECENTLY ISSUED ACCOUNTING STANDARDS
In February 1997, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 128,
"Earnings Per Share." This Statement establishes standards for computing and
presenting earnings per share ("EPS") and applies to entities with publicly held
common stock or potential common stock. This Statement simplifies the standards
for computing earnings per share previously found in APB Opinion No. 15,
"Earnings Per Share," and makes them comparable to international EPS standards.
It replaces the presentation of primary EPS with a presentation of basic EPS. It
also requires dual presentation of basic and diluted EPS on the face of the
income statement for all entities with a complex capital structure and requires
a reconciliation of the numerator and denominator of the basic EPS computation
of the numerator and denominator of the diluted EPS computation. This Statement
is effective for financial statements issued for periods ending after December
15, 1997, including interim periods; earlier application is not presented. This
Statement requires of all prior period EPS data presented. The adoption of this
Statement will not have any impact on the Company's EPS disclosure, as the
Company's stock options and warrants are anti-dilutive and will be excluded from
the denominator of earnings per share; thus, earnings (loss) per common share is
equal to the basic earnings (loss) per share as computed under SFAS No. 128.
21
<PAGE>
ITEM 7. FINANCIAL STATEMENTS
Independent Auditors' Report. .............................................23
Consolidated Balance Sheets as of September 30, 1997 and
September 30, 1996. .......................................................24
Consolidated Statements of Operations for the years ended
September 30, 1997 and 1996, and the period from inception (April
15, 1991) to September 30, 1997. ..........................................25
Consolidated Statements of Stockholders' Equity for the period
from inception (April 15, 1991) to September 30, 1997. ....................26
Consolidated Statements of Cash Flows for the years ended
September 30, 1997 and 1996 and the period from inception (April
15, 1991) to September 30, 1997.
Notes to Consolidated Financial Statements. ...............................29
Financial Statement Schedules: No schedules were submitted
because they are not applicable, not required or because the
required information is included in the Financial Statements or
notes thereto.
22
<PAGE>
Independent Auditors' Report
The Board of Directors and Stockholders
Paracelsian, Inc.
We have audited the accompanying consolidated balance sheet of Paracelsian, Inc.
and subsidiary (a development stage enterprise) as of September 30, 1997 and
1996, and the related consolidated statements of operations, stockholder's
equity, and cash flows for each of the years in the two-year period ended
September 30, 1997 and for the period from April 15, 1991 (inception) to
September 30, 1997. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audit. The
cumulative statements of operations, stockholders' equity, and cash flows for
the period April 15, 1991 (inception) to September 30, 1997 include amounts for
the period from April 15, 1991 (inception) to September 30, 1991 and for each of
the years in the four-year period ending September 30, 1995, which were audited
by other auditors whose report has been furnished to us, and our opinion,
insofar as it relates to the amounts included for the period April 15, 1991
(inception) through September 30, 1995 is based solely on the report of the
other auditors.
We conducted our audit in accordance with generally accepted auditing standards.
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 audit provides a reasonable basis for our opinion.
In our opinion, based on our audit and the report of the other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Paracelsian, Inc. and subsidiary (a
development stage enterprise) as of September 30, 1997, and the results of their
operations and their cash flows for each of the years in the two-year period
ended September 30, 1997 and for the period April 15, 1991 (inception) to
September 30, 1997, in conformity with generally accepted accounting principles.
/s/ KPMG PEAT MARWICK LLP
---------------------
KPMG PEAT MARWICK LLP
Jericho, NY
January 14, 1998
23
<PAGE>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Balance Sheets
September 30, 1997 and 1996
<TABLE>
<CAPTION>
1997 1996
------------ ------------
<S> <C> <C>
Assets
Current Assets:
Cash and cash equivalents $ 886,249 $ 4,171,402
Inventory 156,323 --
Prepaid expenses and other current assets 61,437 278,367
Loan to East West Herbs, Ltd., - current portion 170,000 --
------------ ------------
Total current assets 1,274,009 4,449,769
------------ ------------
Equipment, net 305,079 384,790
Other Assets:
TCM extracts on-hand 466,839 622,419
Licensing agreement, net 367,258 555,602
Patents and trademarks, net 125,586 258,206
Option to acquire East West Herbs, Ltd.
and related acquisition costs -- 92,866
Loan to East West Herbs, Ltd., - noncurrent portion 170,000 340,000
------------ ------------
1,129,683 1,869,093
------------ ------------
$ 2,708,771 $ 6,703,652
------------ ------------
Liabilities and Stockholders' Equity
Current Liabilities:
Accounts payable $ 268,702 $ 312,817
Accrued expenses 180,664 192,790
Deferred revenue -- 46,858
Due to related party 18,557 77,597
------------ ------------
Total current liabilities 467,923 630,062
------------ ------------
Commitments and Contingency
Stockholders' Equity:
Common stock, $.01 par value; 20,000,000 shares
authorized; 12,004,867 shares outstanding
September 1997 and 11,935,082 September 1996 120,045 119,348
Additional paid-in capital 22,084,315 21,976,005
Deficit accumulated during the development stage (18,620,997) (14,679,248)
Treasury stock, at cost; 265,478 shares in 1997 (1,342,515) (1,342,515)
------------ ------------
Total stockholders' equity 2,240,848 6,073,590
------------ ------------
$ 2,708,771 $ 6,703,652
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
24
<PAGE>
<TABLE>
<CAPTION>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Statements of Operations
For the years ended September 30, 1997 and 1996 ,
And the period from inception to September 30, 1997
Cumulative
Period from
Inception to
September 30,
Revenues: 1997 1996 1997
------------ ------------ ------------
<S> <C> <C> <C>
Marketing rights $ -- $ 5,000 $ 254,995
Products 4,900 22,411 162,713
Product royalties 1,246 -- 1,246
Subscription revenue -- 31,625 31,625
------------ ------------ ------------
6,146 59,036 450,579
Operating expenses:
Research and product engineering 1,409,686 1,362,971 6,667,620
Research concerning Indian herbs -- -- 375,000
Newsletter expenses -- 955,586 955,586
General and administrative 2,436,939 2,006,801 7,827,903
Product launch costs 300,544 -- 300,544
Cost of products sold -- 10,538 95,023
Officer stock compensation -- -- 1,228,275
------------ ------------ ------------
4,147,169 4,335,896 17,449,951
------------ ------------ ------------
Loss from operations during
the development stage (4,141,023) (4,276,860) (16,999,372)
Interest income, net 167,754 75,096 474,855
Gain on sale of assets 31,520 -- 31,520
------------ ------------ ------------
Net loss during the development stage $ (3,941,749) $ (4,201,764) $(16,492,997)
============ ============ ============
Net loss per weighted average
shares of common stock $ (0.33) $ (0.68)
============ ============
Weighted average number of
common stock outstanding 11,956,171 8,597,479
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
25
<PAGE>
<TABLE>
<CAPTION>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Statements of Stockholders' Equity
For the period from inception to September 30, 1997
Deficit
Accumulated
Additional During the
Preferred Stock Common Stock Paid-in Development Treasury
Shares Amount Shares Amount Capital Stage Stock Total
----- ----- ---------- -------- ----------- ----------- ----- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Issuance of Common Stock April - July 1991 -- $ -- 806,250 $ 8,063 $ -- $ -- $ -- $ 8,063
Issuance of Common Stock for licensing,
technology and consulting services - July 1991 -- -- 333,850 3,338 -- -- -- 3,338
Private placement of Common Stock - August -
September 1991, net of costs -- -- 267,288 2,673 369,017 -- -- 371,690
Net loss (April 15, 1991 to September 30, 1991) -- -- -- -- -- (133,469) -- (133,469)
----- ----- ---------- -------- ----------- ----------- ----- -----------
BALANCE, September 30, 1991 -- -- 1,407,388 14,074 369,017 (133,469) -- 249,622
Redemption of Common Stock - November 1991 -- -- (245,000) (2,450) -- -- -- (2,450)
Initial Public Offering of Common Stock -
February 1992, net of costs -- -- 1,150,000 11,500 5,103,451 -- -- 5,114,951
Issuance of Warrants - February 1992 -- -- -- -- 1,000 -- -- 1,000
Net loss (for the year ended September 30, 1992) -- -- -- -- -- (1,221,943) -- (1,221,943)
----- ----- ---------- -------- ----------- ----------- ----- -----------
BALANCE, September 30, 1992 -- -- 2,312,388 23,124 5,473,468 (1,355,412) -- 4,141,180
Warrant dividend - September 1993 -- -- -- 436,898 (500,000) -- (63,102)
Net loss (for the year ended September 30, 1993) -- -- -- -- -- (2,022,614) -- (2,022,614)
----- ----- ---------- -------- ----------- ----------- ----- -----------
BALANCE, September 30, 1993 -- -- 2,312,388 23,124 5,910,366 (3,878,026) -- 2,055,464
Net loss (for the year ended September 30, 1994) -- -- -- -- -- (1,940,262) -- (1,940,262)
----- ----- ---------- -------- ----------- ----------- ----- -----------
BALANCE, September 30, 1994 -- -- 2,312,388 23,124 5,910,366 (5,818,288) -- 115,202
Issuance of Common Stock for acquisition of
Pacific Liaisons - October 1994 -- -- 1,116,666 11,167 1,632,833 -- -- 1,644,000
Exercise of Warrants -- -- 221,200 2,212 716,644 -- -- 718,856
Common Stock purchased by Officer -
January 1995 -- -- 705,000 7,050 1,311,075 -- -- 1,318,125
See accompanying notes to consolidated financial statements.
26
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Statements of Stockholders' Equity
For the period from inception to September 30, 1997
Deficit
Accumulated
Additional During the
Preferred Stock Common Stock Paid-in Development Treasury
Shares Amount Shares Amount Capital Stage Stock Total
-------- ------- ---------- -------- ------------ ------------ ------ ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Continued from the previous page
Issuance of Common Stock for services rendered -
January 1995 -- -- 33,330 333 21,167 -- -- 21,500
April 1995 -- -- 200,000 2,000 373,000 -- -- 375,000
Issuance of Common Stock for conversion
of short-term liabilities - June 1995 -- -- 13,000 130 48,849 -- -- 48,979
Issuance of Common Stock - August 1995 -- -- 300,000 3,000 749,625 -- -- 752,625
Issuance of Preferred Stock - September 1995
Series A, net of costs 10,700 107 -- -- 361,018 -- -- 361,125
Series B, net of costs 10,000 100 -- -- 399,900 -- -- 400,000
Series C, net of costs 5,000 50 -- -- 218,422 -- -- 218,472
Net loss (for the year ended September 30, 1995) -- -- -- -- -- (3,031,196) -- (3,031,196)
------- ------ ---------- -------- ----------- ----------- ---------- ----------
BALANCE, September 30, 1995 25,700 257 4,901,584 49,016 11,742,899 (8,849,484) -- 2,942,688
Issuance of Series B Preferred Stock,
net of costs 76,651 767 -- -- 3,999,233 -- -- 4,000,000
Exercise of Warrants -- -- 73,318 733 154,676 -- -- 155,409
Issuance of Common Stock for services rendered -
October 1995 -- -- 33,336 331 42,669 -- -- 43,000
Purchase of Treasury Stock - November 1995 -- -- -- -- -- -- (1,342,515) (1,342,515)
Conversion of Preferred Stock (102,351) (1,024) 5,371,010 53,710 (52,686) -- -- --
Preferred dividends and beneficial
conversion feature -- -- -- -- 1,628,000 (1,628,000) -- --
Issuance of Common Stock for conversion
of short-term liabilities - January 1996 -- -- 2,500 25 9,975 -- -- 10,000
Issuance of Common Stock for services rendered -
February 1996 -- -- 25,000 250 27,875 -- -- 28,125
Issuance of Warrants and Options for services -
rendered - February 1996 -- -- -- -- 132,500 -- -- 132,500
Issuance of Common Stock - June 1996 -- -- 733,334 7,333 1,965,663 -- -- 1,972,996
See accompanying notes to consolidated financial statements.
27
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Statements of Stockholders' Equity
For the period from inception to September 30, 1997
Deficit
Accumulated
Additional During the
Preferred Stock Common Stock Paid-in Development Treasury
Shares Amount Shares Amount Capital Stage Stock Total
-------- ------- ---------- -------- ------------ ------------ ------ ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Continued from the previous page
Sale of Warrants - June 1996 -- -- -- -- 35,000 -- -- 35,000
Issuance of Common Stock - July 1996 -- -- 91,667 917 250,075 -- -- 250,992
Issuance of Common Stock for services rendered -
July 1996 -- -- 5,000 50 4,950 -- -- 5,000
Exercise of Options - September 1996 -- -- 15,000 150 37,350 -- -- 37,500
Issuance of Common Stock - September 1996 -- -- 683,333 6,833 1,997,826 -- -- 2,004,659
Net loss (for the year ended September 30, 1996) -- -- -- -- -- (4,201,764) -- (4,201,764)
-------- ------ ---------- -------- ----------- ----------- ---------- ----------
BALANCE, September 30, 1996 -- -- 11,935,082 119,348 21,976,005 (14,679,248) (1,342,515) 6,073,590
Issuance of Common Stock for services rendered -
January 1997 -- -- 7,285 72 22,835 -- -- 22,907
Termination of warrants - February 1997 -- -- -- -- (35,000) -- -- (35,000)
Repayment of officer stock subscription receivable -- -- -- -- 89,850 -- -- 89,850
Issuance of Common Stock for services rendered -
July 1997 -- -- 62,500 625 30,625 -- -- 31,250
Net loss (for the year ended September 30, 1997) -- -- -- -- -- (3,941,749) -- (3,941,749)
------- ------ ---------- -------- ----------- ----------- ---------- ----------
BALANCE, September 30, 1997 -- $ -- 12,004,867 $120,045 $22,084,315$(18,620,997)$(1,342,515) $2,240,848
======== ======= ========== ======== ============ ========== ========== ==========
See accompanying notes to consolidated financial statements.
28
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Statements of Cash Flows
For the years ended September 30, 1997 and 1996,
And the period from inception to September 30, 1997
Cumulative
Period from
Inception to
September 30,
1997 1996 1997
----------- ----------- ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss $(3,941,749) $(4,201,764) $(16,492,997)
Adjustments to reconcile net loss to net cash used in
operating activities:
Non-cash compensation expense -- -- 1,228,275
Other non-cash expenses 369,545 725,658 1,510,203
Depreciation and amortization 469,368 274,818 1,246,972
Changes in assets and liabilities:
(Increase) decrease in inventory (156,323) -- (156,323)
(Increase) decrease in prepaid expenses and other 216,930 -- (32,017)
(Decrease) increase in accounts payable (21,207) (183,142) 623,225
(Decrease) increase in due to related party (59,040) (59,664) 18,557
(Decrease) increase in deferred revenue (46,858) 46,858 --
(Decrease) increase in accrued expenses (12,126) 127,462 180,664
----------- ----------- ------------
Net cash used in operating activities (3,181,460) (3,401,986) (11,873,441)
----------- ----------- ------------
Cash flows from investing activities:
Purchase of investments -- -- (6,719,089)
Redemption of investments -- -- 6,719,089
Purchase of equipment (16,887) (54,352) (732,186)
Proceeds from sale of equipment -- -- 20,000
Acquisition of licensed technology (3,656) (50,000) (53,656)
Acquisition of patents and trademarks (48,150) (69,457) (352,953)
Acquisition of New Century Nutrition newsletter -- (350,000) (350,000)
Acquisition of option for East West Herbs, Ltd.
and related acquisition costs -- (92,866) (92,866)
Loan to East West Herbs, Ltd. -- (340,000) (340,000)
----------- ----------- ------------
Net cash used in investing activities (68,693) (956,675) (1,901,661)
----------- ----------- ------------
Cash flows from financing activities:
Sale of common stock, initial public offering, net of costs -- -- 5,124,014
Sale of common and preferred stock, net of costs -- 8,228,647 10,330,109
Proceeds from the exercise of warrants -- 155,409 666,295
Proceeds from the exercise of options -- 37,500 37,500
Proceeds from the sale (redemption) of warrants (35,000) 35,000 --
Purchase of treasury stock -- (1,342,515) (1,342,515)
Cost of warrant dividend -- -- (63,102)
Payment on equipment contract -- -- (90,950)
----------- ----------- ------------
Net cash (used in) provided by financing activities (35,000) 7,114,041 14,661,351
----------- ----------- ------------
Net increase (decrease) in cash and cash equivalents (3,285,153) 2,755,380 886,249
Cash and cash equivalents, beginning of period 4,171,402 1,416,022 --
----------- ----------- ------------
Cash and cash equivalents, end of period $ 886,249 $ 4,171,402 $ 886,249
=========== =========== ============
</TABLE>
29
<PAGE>
<TABLE>
<CAPTION>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
Consolidated Statements of Cash Flows
For the years ended September 30, 1997 and 1996,
And the period from inception to September 30, 1997
Cumulative
Period from
Inception to
September 30,
1997 1996 1997
----------- ----------- ------------
<S> <C> <C> <C>
Supplemental disclosures:
Cash paid during the period for interest $ 4,484 $ 6,875 $ 19,284
=========== =========== ============
Supplemental disclosure of non-cash investing and financing activities:
Fair value of assets acquired, net of cash acquired $ -- $ -- $ 1,702,000
Less - liabilities assumed -- -- 52,000
Less - issuance of common stock -- -- 1,644,000
----------- ----------- ------------
Net cash paid $ -- $ -- $ 6,000
=========== =========== ============
Warrant dividend $ -- $ -- $ 500,000
Issuance of common stock/warrants for services
and to reduce short-term liabilities $ 53,382 $ 218,625 $ 550,456
Purchase of equipment $ -- $ -- $ 90,950
Repayment of officer stock subscription receivable $ 89,850 -- 89,850
Issuance of common stock for licensing and technology rights $ -- $ -- $ 3,338
=========== =========== ============
See accompanying notes to consolidated financial statements.
30
</TABLE>
<PAGE>
PARACELSIAN, INC. AND SUBSIDIARY
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
SEPTEMBER 30, 1997 AND 1996
---------------------------
1. ORGANIZATION, BUSINESS, AND RISK FACTORS:
ORGANIZATION AND BUSINESS
Paracelsian, Inc., (the "Company") is a drug discovery service company that
utilizes its proprietary screening technology to identify novel therapeutic
compounds from herbal sources and to define the biological mechanisms through
which traditional herbal medicines affect cellular function. This technology has
been developed by the Company to identify potential products that inhibit the
biological signals generated by targeted cells that result in controlled or
uncontrolled growth and division. The Company's screening technology evaluates
the effects of herbal products on intracellular signals referred to as "Signal
Transduction Technology."
Cell division is one of the basic steps in biology necessary for normal growth
of tissues to support life. The Company's technology enables researchers to
observe signal transduction and measure the effects of chemicals contained in
synthetic or natural compounds, and chemicals occurring in nature such as herbs
and combinations of herbal extracts, on cell division. In the course of these
observations, the Company can distinguish the effects of such chemicals on
targeted cells, thereby screening compounds to identify those with promising
favorable therapeutic effects. (This proprietary technology, including the
components, methods, procedures and know-how employed in this screening process,
is referred to herein as the "Screening Technology".)
In October 1994, Pacific Liaisons (Pacific), a partnership engaged in
identifying and acquiring biologically active drugs, natural products and foods
from Eastern Asia, merged with a wholly-owned subsidiary of the Company and the
Company now maintains a large library of natural medicinal extracts. These
extracts are being processed with the Company's screening technology. The
Company also has access to the informational database related to the medicinal
extracts, which contains, among other things, a history of the usage of each
extract (see Note 3).
In November 1995, the Company purchased substantially all the assets related to
NEW CENTURY NUTRITION, a newsletter promoting disease prevention through
nutrition. In December 1996, the Company decided to cease publication of the
newsletter.
DEVELOPMENT STAGE COMPANY AND RISK FACTORS
The Company is considered to be a development stage company as defined in
Statement of Financial Accounting Standards No. 7, "Accounting and Reporting by
Development Stage Enterprises." Since inception, the Company has been primarily
engaged in research, product engineering and raising capital.
The Company, as a development stage enterprise, has yet to generate significant
revenues and has no assurance of substantial future revenues. Even if marketing
efforts are successful, it may take several years before significant revenues
are realized. The Company is subject to a number of risks that may affect its
ability to become an operating enterprise or impact its ability to remain in
existence, including risks related to successful development and marketing of
its products, patent protection of proprietary technology, government regulation
competition from substitute products (including technologies that may not yet
have been developed), dependence on key employees and the need to obtain
additional funds that may not be available to it.
As shown in the accompanying financial statements, the Company incurred a net
loss of approximately $3,942,000 for the year ended September 30, 1997 and has
working capital of approximately $806,000 at year-end. The Company continues to
expend funds on product research and development and general and administrative
expenses and has not generated significant revenues subsequent to year-end. The
Company has significantly reduced its expenses and as discussed in Note 10
raised $500,000 through the sale of common stock. Management believes the
additional financing and the collection of the amounts due from East West (Note
4(a)) will enable the Company to satisfy its capital and operating requirements
through September 30, 1998.
31
<PAGE>
2. SIGNIFICANT ACCOUNTING POLICIES:
CONSOLIDATION
The consolidated financial statements of the Company include the accounts of
Paracelsian, Inc. and its wholly owned subsidiary ParaComm, Inc. formerly known
as Para Acquisition Corp. All intercompany balances and transactions have been
eliminated.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of highly liquid investments with an original
maturity of three months or less. Cash equivalents as of September 30, 1997 and
1996 approximated $857,000 and $2,145,000, respectively.
RESEARCH AND PRODUCT ENGINEERING
Company-sponsored research and product engineering expenditures have been
charged to expense as incurred. These costs consist primarily of employee
salaries and direct laboratory costs. The cost of extracts used in research and
development activities is expensed as consumed.
INVENTORY
Inventory represents tablets of ANDROGRAPHIS PANICULATA held for resale at cost.
NET LOSS PER SHARE
Net loss per share was computed by dividing net loss for the period by the
weighted average number of shares of common stock outstanding during the period.
Common stock equivalents are not included in the computation of average shares
outstanding because the effect of such inclusion would be to decrease the loss
per share.
The computation of net loss per share is as follows:
<TABLE>
<CAPTION>
1997 1996
------------ -----------
<S> <C> <C>
Net loss $ (3,941,749) $(4,201,764)
Preferred stock dividends and beneficial conversion feature
-- (1,628,000)
------------ -----------
Net loss attributable to common stockholders $ (3,941,749) $(5,829,764
============ ===========
Weighted average shares outstanding 11,956,171 8,597,479
Net loss per share of common stock $ (0.33) $ (0.68)
</TABLE>
In accordance with a SEC Staff Announcement issued in March 1997, the beneficial
conversion benefit related to the convertible preferred stock (see Note 4 ) has
been recognized as a dividend to the preferred shareholders and used in the
computation of net loss per share for fiscal 1996 as reflected above.
PATENTS AND TRADEMARKS
The Company has acquired or applied for certain patent and trademark rights.
Costs associated with the acquisition and application for these rights have been
capitalized and are being amortized on the straight-line method over the
estimated legal life of the assets which range from 15 to 17 years. Accumulated
amortization of the patents and trademarks totaled $76,747 and $58,747,
respectively, at September 30, 1997 and 1996. At September 30, 1997, the Company
conducted an assessment of its capitalized patent and trademark and wrote off
the unamortized value of $162,770 related to patents and trademarks no longer
being pursued by the Company.
32
<PAGE>
EQUIPMENT AND DEPRECIATION
Equipment is stated at cost and is depreciated over the estimated useful lives
of the assets using the straight-line method. Equipment consists of the
following as of September 30:
<TABLE>
<CAPTION>
Useful Lives 1997 1996
------------ ----- ----
<S> <C> <C> <C>
Laboratory equipment 10 Years $ 511,691 $ 500,623
Office furniture and equipment 10 Years 86,345 88,095
Computer equipment and software 5 Years 133,852 133,033
------------ ------------
731,888 721,751
Less - accumulated depreciation 426,809 336,691
------------ ------------
$ 305,079 $ 384,790
============ ============
</TABLE>
Depreciation expense of $96,598 and $81,554 were charged to operations for the
years ended September 30, 1997 and 1996, respectively.
USE OF ESTIMATES
The preparation of the consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
the disclosure of contingent assets and liabilities at the date of the financial
statements. Estimates also affect the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
3. PRODUCT LAUNCH:
During 1997, the Company intended to launch the dietary supplements AndroVir and
AndroCar to persons with HIV and cancer, respectively. In April 1997, the
Company was advised by the Food and Drug Administrative that the marketing of
these products to persons with these diseases would constitute claims that the
products are intended to treat persons with serious diseases and thus intended
for drug use and not dietary supplement use. After careful consideration the
Company decided to cancel the launch. The Company incurred $300,000 of expenses
which were expensed in the year ended September 30, 1997. The Company is seeking
pharmaceutical and or nutritional companies as marketing partners for this
product. In the opinion of management the inventory held by the Company as of
September 30, 1997 will be recovered by the sale of the ANDROGRAPHIS PANICULATA
tablets during the fiscal 1998.
4. ACQUISITIONS:
(a) East West Herbs, Ltd.
- -------------------------
On April 9, 1996, the Company signed an option to acquire East West Herbs Ltd.
of Kingham, England. East West Herbs Ltd. markets and distributes traditional
Chinese medicines in the United Kingdom and throughout Europe. Under terms of
the option, the Company had the right to acquire all of the outstanding shares
of East West Herbs on or before April 6, 1997 for $780,000 in cash and shares of
the Company with a value of approximately $2,400,000 for a total proposed
acquisition price of $3.2 million. Consideration for the option was made in the
form of an option fee of $20,000 and a working capital loan of $340,000. The
loan was to be used by East West Herbs for inventory purchases, continuing
research and development including the clinical trials of two herbal products
for cancer patients and corporate working capital. In connection with the option
and loan agreements, the Company also incurred other direct costs of $92,866
which were written off in 1997 because the Company elected not to exercise its
option.
The loan to East West Herbs, Ltd. bears interest at the LIBOR rate (6% at
September 30, 1996) and is payable in eight equal quarterly installments with
the first installment to be paid six months after the first anniversary of the
loan agreement. The loan is guaranteed by a majority shareholder of East West
Herbs. The following is a schedule of payment to be received:
Amount
For the years ended September 30, ----------
1998 $ 170,000
1999 170,000
----------
$ 340,000
==========
33
<PAGE>
The eventual collectibility of the loan will be subject to East West Herbs'
ability to achieve profitable operations and positive cash flow in the future
and the financial resources of the loan's guarantor.
(b) New Century Nutrition Newsletter
- ------------------------------------
During November 1995, the Company, through its wholly-owned subsidiary,
purchased substantially all of the assets related to the NEW CENTURY NUTRITION
(FORMERLY NUTRITION ADVOCATE), a newsletter promoting disease prevention through
nutrition, from Advocacy Communications, Inc. The purchase price for the
acquired assets was $350,000 in cash. T. Colin Campbell, a former Director of
the Company and his son T. Nelson Campbell, a former Vice President of the
Company, were majority shareholders and officers of Advocacy Communications,
Inc.
The purchase price represented principally intangible assets which were to be
amortized on a straight-line basis over 10 years. In December 1996, the Company
decided to cease publication of the newsletter effective January 1, 1997. The
Company wrote off the purchase price of the newsletter and accrued $75,000 for
the anticipated costs to close down the newsletter operations which amounts are
included in newsletter expenses and costs in the accompanying consolidated
statement of operations for the year ended September 30, 1996. During fiscal
1996, the Company incurred expenses of approximately $531,000 developing the
newsletter and soliciting subscriptions. The Company recorded subscription
revenues of $0 and $31,625 for the years ended September 30, 1997 and 1996,
respectively.
(c) Pacific Liaisons
- --------------------
During October 1994, a wholly-owned subsidiary of the Company acquired Pacific
Liaisons for approximately $1.6 million in common stock. The acquisition has
been accounted for using the purchase method and the accompanying statement of
operations includes the results of operations of Pacific Liaisons from October
25, 1994. The allocation of the purchase price was based on an independent
appraisal of certain assets acquired which include traditional Chinese medicine
("TCM") extracts and a licensing agreement. The approximately 2,800 TCM extracts
can be sold outright or utilized in various research and development
applications using the Company's screening technology. It is the Company's
intention to sell/license the extracts to established pharmaceutical and
biotechnology companies. Effective October 1, 1995, the Company elected to begin
amortizing the cost of the TCM extracts on a straight line basis over a
five-year period, which represents the estimated period over which the extracts
will be used in the Company's research and development efforts. Amortization of
the extracts totaling $155,580 and $155,602 are included in research and product
engineering expense in the accompanying consolidated statement of operations for
the year ended September 30, 1997 and 1996.
Through the licensing agreement with the Institute of Nutrition and Food
Hygiene, an institute within the Chinese Academy of Preventive Medicine, the
Company has the exclusive right to acquire up to 5,000 to 10,000 extracts. The
licensing agreement was being amortized over a period of five years commencing
in October 1994. Amortization of the license agreement totaling $192,000 and
$173,290 are included in research and product engineering expense in the
accompanying consolidated statements of operations for the years ended September
30, 1997 and 1996, respectively.
At the time of the acquisition, T. Colin Campbell became a director of the
Company and his son, T. Nelson Campbell was hired as a Vice President of the
Company. Both individuals were majority stockholders of Pacific Liaisons.
5. STOCKHOLDERS' EQUITY:
(a) Common Stock Offerings
- --------------------------
In September 1996, the Company completed a private placement financing for
approximately $2.05 million in which it issued:
1) 683,333 shares of common stock;
34
<PAGE>
2) Warrants to purchase 372,727 shares of common stock at an exercise price of
$4.00 per share, of which the right to purchase 300,000 shares of common stock
is not immediately exercisable and is void after the fifth anniversary of the
date on which they first become exercisable and of which the right to purchase
72,727 shares of common stock is immediately exercisable and void after
September 30, 2001; and
3) Warrants to purchase 310,606 shares of common stock at an exercise price of
$4.50 per share, of which the right to purchase 250,000 shares is not
immediately exercisable and is void after the fifth anniversary of the date on
which they first become exercisable and of which the right to purchase 60,606
shares is immediately exercisable and void after September 30, 2001.
In June and July 1996, the Company completed a private placement to certain
investors for approximately $2.25 million in which it issued:
1) 825,001 shares of common stock;
2) Warrants to purchase 825,001 shares of common stock at an exercise price of
$3.25 per share, of which the right to purchase 550,000 shares of common stock
is not immediately exercisable and is void after the fifth anniversary of the
date on which they first become exercisable and of which the right to purchase
275,000 shares is immediately exercisable and void after June 26, 2001; and
3) Warrants to purchase 375,001 shares of common stock at an exercise price of
$4.50 per share, of which the right to purchase 250,000 shares is not
immediately exercisable and is void after the fifth anniversary of the date on
which they first become exercisable and of which the right to purchase 125,001
shares is immediately exercisable and void after June 26, 2001.
In August 1995, the Company completed a private placement of 300,000 shares of
common stock to certain investors at $2.76 per share resulting in net proceeds,
after expenses, to the Company of $752,625.
The Company used the proceeds of the private placements for product launch
expenses, working capital and research and development.
(b) Convertible Preferred Stock Offerings
- ------------------------------------------
In the period August through November 1995, the Company sold convertible
preferred stock through various private placements. The Company issued 10,700
shares of its Series A preferred stock at $37.50 per share, 86,651 shares of its
Series B preferred stock at an average price of $63.47 per share and 5,000
shares of its Series C preferred stock at $50.00 per share. The net proceeds
from these issuance's were used primarily to provide working capital and fund
research and development.
The preferred stock had a stated dividend rate of 8% payable in cash or common
stock at the option of the Company. The preferred stock was convertible into
common stock based on the following conversion prices:
Shares
Series Authorized Conversion Price
------ ---------- ----------------
A 50,000 Lower of $3.75 or 85% of five-day average Closing Price
B 100,000 80% of three-day average Closing Price
C 50,000 72.5% of three-day average Closing Price
The Closing Price is defined in the agreements as the bid price of the common
stock beginning on the trading day prior to conversion.
During the period October 31, 1995 through February 1, 1996, all of the holders
of the preferred shares converted such shares into common stock summarized as
follows:
35
<PAGE>
Preferred Gross Common Shares
Series Stock Issued Proceeds Net Proceeds Converted
------ ------------ -------- ------------ ---------
A 10,700 $ 402,250 $ 361,125 372,253
B 86,651 5,500,000 4,400,000 4,918,409
C 5,000 250,000 218,472 80,348
------- ------------- --------------- ---------
102,351 $ 6,152,250 $ 4,979,597 5,371,010
======= ============= =============== =========
Included in the common shares converted are 58,031 shares issued in exchange for
the cumulative dividends payable on the preferred stock.
(c) Other Transactions
- ----------------------
In June 1996, the Company sold an investor 350,000 warrants at $.10 per warrant
to purchase 350,000 shares of common stock at $5.25 per share. The warrants
could be exercised at any time over a three-year period. The cash paid for the
warrants of $35,000 was reflected as an addition to additional paid-in capital
in the accompanying consolidated statement of stockholders' equity for the year
ended September 30, 1996. During fiscal year 1997, the Company redeemed this
warrant at a cost of $35,000.
During November 1995, the Company purchased 265,478 shares of its common stock
on the open market for an aggregate cost of $1,342,515.
In April 1995, the Company issued 200,000 shares of common stock, at a fair
value of $375,000, to an individual in connection with the Company's research of
Indian herbs.
During fiscal 1997 and 1996, the Company issued 62,500 and 63,336 shares of
common stock in exchange for services rendered and issued 7,285 and 2,500
shares, respectively, for the conversion of short-term liabilities. The
transactions have been valued based on the estimated fair value of the common
stock on the date issued.
On September 8, 1993, the Company granted a warrant dividend. The Company
distributed to each stockholder, excluding one of the Company's founders, one
redeemable common stock purchase warrant for each share of the Company's common
stock owned, entitling the holder to purchase an additional share of common
stock for $3.25 per share. On October 12, 1994, the Company granted 375,000
warrants to one of the Company's founders, under similar terms. The warrants
were originally valued at $500,000. These warrants expire on September 7, 1998
and would have had to be called at a redemption price of $.05 per warrant, if
the Company's common stock traded at $4.75 or higher for 15 consecutive days. As
of September 30, 1997, a total of 2,312,388 warrants have been issued and
269,518 warrants have been exercised and none have been redeemed.
In February 1992, the Company completed its initial public offering covering
1,150,000 shares of common stock at $5.50 per share. Issuance costs totaled
approximately $1,210,000 which were treated as a reduction of proceeds. In
connection with the offering, the Company sold warrants to the underwriter for
$1,000 exercisable for a four-year period beginning in February 1993 for 100,000
shares of common stock at a price of $6.60 per share. The number of shares and
the exercise price per share of the warrants are to be adjusted for certain
events, as defined in the agreement.
6. COMMON STOCK OPTIONS:
In 1991, the Company adopted a Stock Option Plan (the Plan). Under the Plan,
directors, key employees and consultants of the Company are eligible to receive
grants of options which are intended to qualify as incentive stock options
within the meaning of Section 422 of the Internal Revenue Code of 1986, as
amended (the Code) or which are non-qualified stock options. In addition,
non-employee directors of the Company may receive grants of
36
<PAGE>
options according to a formula which upon the adoption of the Plan provided for
an initial grant of an option to purchase 5,000 shares of common stock and
annual grants of options to purchase 2,500 shares of common stock for each
person who is subsequently elected or re-elected and for each year of service
thereafter as a director. An aggregate of 394,000 shares of common stock has
been reserved for issuance under the Plan. The Plan is administered by a
committee (the Committee) designated by the Board of Directors of the Company.
The exercise price per share for the options granted under the plan may not be
less than the fair value of the Company's common stock on the date of grant. The
exercise price and the term are fixed by the Committee, subject to the terms of
the Plan.
Changes in the status of options under the Plan for the years ended September
30, 1997, 1996 and 1995 are summarized as follows:
<TABLE>
<CAPTION>
1997 1996
------- --------
<S> <C> <C>
Outstanding at beginning of period 135,650 150,150
Granted 83,500 57,500
Exercised 0 (15,000)
Forfeited (49,150) (57,000)
-------- --------
Outstanding at end of period 170,000 135,650
======== ========
Number of options at end of period -
Exercisable 153,750 130,650
Available for grant 224,000 258,350
Average exercise price of options
outstanding $ 1.98 $ 2.68
</TABLE>
During fiscal 1996, 15,000 options were granted pursuant to the Plan and an
additional 200,000 (for a total of 215,000) were granted consultants providing
communications services to the Company. The fair value of these options of
$107,500 were being amortized over the two year period ended September 30, 1997
during which the services were performed. In addition, 50,000 options were
issued to the Company's legal counsel in exchange for services rendered. The
fair value of this option of $25,000 in fiscal 1996 and the amortization of the
options issued to the consultants of $35,000 in fiscal 1996 and $72,500 in
fiscal 1997, are included in general and administrative expenses in the
accompanying consolidated statements of operations for the year ended September
30, 1996.
On January 23, 1995, the Company approved a stock purchase by the Company's
President and then Chief Executive Officer to purchase an aggregate of 705,000
shares of the Company's common stock at a price of $.05 and $.56 per common
share for 245,000 and 460,000 shares of common stock, respectively. In
connection with this transaction, the Company recognized a one-time, non-cash
compensation expense of approximately $1,228,000 in the year ended September 30,
1995. In conjunction with the purchase of these shares, the Company extended a
note to officer for $230,000, due December 31, 1995. Subsequently, this note was
extended until December 31, 1997. In January 1998, the shares of stock were
returned to the Company and the note was forgiven. The shares of stock had a
fair market value that approximated the outstanding note balance of 180,000 at
September 30, 1997 which has been reflected as an offset to additional
paid-in-capital.
Stock option grants are set at the closing price of the Company's common stock
on the date of grant and the related number of shares granted are fixed at that
point in time. Therefore, under the principles of APB Opinion No. 25, the
Company does not recognize compensation expense associated with the grant of
stock options. SFAS No. 123, "Accounting for Stock-Based Compensation," requires
the use of option valuation models to provide supplemental information regarding
options granted after 1995. Pro forma information regarding net income and
earnings per share shown below was determined as if the Company has accounted
for its employee stock options and shares sold under its stock purchase plan
under the fair market value method of that statement.
The fair value of the options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions for 1997 and 1996, respectively: risk-free interest rates of 5.8%
and 6.3%; dividend yields of 0% and 0%; volatility factors of the expected
market price of the Company's common stock of 96% and 96% and expected life of
37
<PAGE>
the options of 5 years and 5 years. These assumptions resulted in
weighted-average fair values of $1.32 and $1.90 per share for stock options
granted in 1997 and 1996, respectively.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized over the options' vesting periods. The pro forma effect on net
income for 1997 and 1996 is not representative of the pro forma effect on net
income in future years because it does not take into consideration pro forma
compensation expense related to grants made prior to 1996. Pro forma information
in future years will reflect the amortization of a larger number of stock
options granted in several succeeding years. The Company's pro forma information
is as follows:
September 30,
---------------------------
1997 1996
------------ ------------
Pro forma net loss.................. $ (5,079,605) $ (5,844,014)
Pro forma loss per share:
Primary.......................... $ (0.42) $ (0.68)
7. LICENSING AGREEMENTS:
The Company entered into an exclusive licensing agreement with Cornell Research
Foundation, Inc. in July 1991 in exchange for common stock of the Company, for
proprietary rights allowing the Company to use certain technology and patents
for the purpose of developing, manufacturing and selling any products derived
therefrom. The agreement provides that the Company will pay royalties to Cornell
Research Foundation, Inc. for certain licensed products sold by the Company in
the United States and throughout the world.
In January 1995, the Company entered into an agreement with The Dow Chemical
Company (Dow) for a non-exclusive license and an option for an exclusive license
to evaluate and commercialize the Company's Ah-IMMUNOASSAY technology. In
connection with the agreement, the Company received a license fee of $250,000
for the worldwide, non-exclusive license. Dow has notified the Company that it
does not intend to execute the exclusive worldwide license for the assay.
In December 1995, the Company entered into a license agreement with Northwestern
University with respect to use of certain biological materials for dioxin
assays. The Company paid Northwestern $50,000 for an exclusive worldwide license
to the materials for the specified use of dioxin assays.
8. INCOME TAXES:
Effective October 1, 1993, the Company prospectively adopted Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes", which
requires an asset and liability approach to financial accounting and reporting
for income taxes. The cumulative effect of this change in accounting principle
did not have a material effect on the Company's financial position or results of
operations.
The income tax effects of temporary differences that give rise to the deferred
tax asset/(liability) as of September 30 are approximately as follows (in
thousands):
1997 1996
------ ------
Net operating loss $ 5,110 $ 3,600
Start-up costs 70 150
Patents and trademarks (30) (30)
Inventory 50 --
Newsletter costs -- 130
Accelerated depreciation (70) (70)
------ ------
5,130 3,780
Less - valuation allowance (5,130) (3,780)
------ ------
Net deferred tax asset / (liability) $ -- $ --
======= =======
38
<PAGE>
Valuation allowances of $5,130,000 and $3,780,000 were recorded at September 30,
1997 and 1996, respectively, to offset the related net deferred tax asset due to
the uncertainty of realizing the related tax benefit (see Note 1). The Company's
net operating loss carryforwards may be subject to certain annual limitations.
9. RELATED PARTIES:
During fiscal 1996 and 1995, the Company made loans to its then Vice President
and Chief Science Officer. Such loans are due on demand and bear interest at 8%
per annum. This loan of $56,000 was determined to be uncollectible and written
in for the year ended September 30, 1997.
During fiscal 1994 and 1993, the Company had research and sponsorship agreements
with Cornell. Approximately $165,000 and $376,000 were expensed under these
agreements in 1994 and 1993, respectively. In the opinion of the Board of
Directors, the terms of these agreements were at least as favorable as could
have been obtained if the agreements were undertaken with an unrelated party.
Amounts payable to Cornell total approximately $18,555 and $77,000 at September
30, 1997 and 1996, respectively.
10. COMMITMENTS AND CONTINGENCY:
Lease and Rental Commitments
- ----------------------------
The Company has entered into noncancellable operating leases for executive
offices and laboratory facilities from an entity owned by Cornell covering
approximately 6,000 square feet and expiring in April 1998. Such leases provide
for automatic renewals for a one year term. Amounts charged to expense in 1997
and 1996 totaled approximately $101,800 and $90,000, respectively.
Cooperative Research and Development Agreement
- ----------------------------------------------
The Company has entered into a Cooperative Research and Development Agreement
(CRADA) with the Laboratory of Tumor Cell Biology of the National Cancer
Institute (NCI). The principal goals of this proposed CRADA involve the
screening of a library of traditional Chinese medicines (TCMs) for their affects
on reducing HIV induced cytotoxicity and/or their ability to inhibit cell growth
in various tumor cell lines.
This agreement signed on December 18, 1996 calls for the Company to pay NCI
$500,000 over a two year period. The payment terms are $100,000 upon the
execution of the agreement and the one year anniversary and quarterly payments
of $50,000 during the year. The Company is allowed offsets for "in kind"
contributions, such as salaries and consultants paid by directly by Paracelsian.
In September, the Company canceled the contract. The Company is obligated to pay
certain expenses for six months totaling approximately $17,000.
39
<PAGE>
Contingency:
- ------------
During 1993, an action was commenced against the Company, a Company Vice
President and a shareholder and former employee of the Company. The complaint
seeks money damages and alleges that in 1990, prior to the Company's
incorporation, certain individuals became partners with the individual
defendants in a venture formed to commercialize products which the Company had
originally intended to develop. Management believes that the action is without
merit and is vigorously opposing the allegations and that the ultimate
resolution of this litigation will not have a material adverse effect on the
Company's financial position or results of operations.
On April 25, 1997 the Company filed a complaint in the U.S. District Court for
the Northern District of New York against John G. Babish, a former officer and
director of the Company. The complaint alleges that Mr. Babish engaged in a
pattern of wrongful conduct by which he sought to unjustly enrich himself and to
seize control of the Company at the expense of the Company and its shareholders.
That conduct included in part the manipulation of the Company's stock price,
trading in the Company's stock on inside information, breach of fiduciary and
contractual duties, theft of Company property, and usurpation of corporate
opportunities.
The Company initially obtained a temporary restraining order prohibiting the
defendant alone or in cooperation with others from transferring any of the stock
or assets of or other interests in the Company, from issuing a press release, or
contacting stock brokers or major shareholders with the intent to affect the
price of plaintiff's stock or from disseminating any trade secrets or other
confidential information of the plaintiffs. The restraining order against the
defendant expired, and the court declined the Company's request to extend that
order in a preliminary injunction.
The defendant denied any wrongdoing in his answer to the complaint, and
counterclaimed for damages "between $375,000 and $1,829,587" on account of the
Company's alleged failure to register shares of common stock underlying certain
warrants. Defendant moved to dismiss the suit, and that motion was denied. The
parties have commenced mutual disclosure of evidence as required by law and are
currently in negotiations for mutual release and settlement.
On May 20, 1997, Dr. T. Colin Campbell, a former director of the Company, filed
a petition in the Delaware Court of Chancery pursuant to Section 211 of the
Delaware General Corporation Law ("DGCL"). The petition sought an order
compelling the Company to hold an annual meeting of stockholders and sought
other forms of relief relating thereto, including requesting that the Court set
a time and place for the meeting and ordering that certain board seats be put up
for election. On June 11, 1997, the Company announced that the Board of
Directors had scheduled the annual meeting for August 13, 1997 and had set a
record date of July 10, 1997 for stockholders entitled to attend and vote at the
meeting. On the same day, the Company moved to dismiss the petition.
On June 20, 1997, petitioner filed a cross-motion in opposition to the Company's
motion to dismiss, and an application, pursuant to Section 223(c) of the DGCL,
to require the Company to hold an election at the annual meeting to replace
directors recently appointed to the Board. Subsequently, petitioner moved to
postpone the scheduled August 13th meeting in order to have more time to conduct
a proxy contest. The Court scheduled a hearing for July 28, 1997 to hear
argument on that motion. Following the hearing, the Court ruled from the bench
and denied petitioner's request to postpone the meeting, but granted the
petitioner leave to amend his petition. To date, petitioner has not filed an
amended petition.
40
<PAGE>
11. SUBSEQUENT EVENT
On January 14, 1997 the Company signed an agreement with Biomar International,
Inc. ("Biomar") in which Biomar agrees to purchase 3,571,429 shares of common
stock for $500,000. In addition, Biomar will receive warrants to purchase an
additional 2,971,429 shares of common stock at a price of $.175 per share or a
total of $520,000. These warrants expire 90 days after the shares and warrants
are registered with the Securities and Exchange Commission ("SEC"). Biomar will
also become the major shareholder and received control of the Board of
Directors. Biomar is controlled by T. Colin Campbell a former director of the
Company and his son, T. Nelson Campbell a former Vice President of the Company.
12. RECENTLY ISSUED ACCOUNTING STANDARDS
In March, 1995, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 121. "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to be Disposed Of", which becomes
effective for the Company as of October 1, 1996. This statement establishes
accounting standards of the impairment of long-lived assets, certain
identifiable intangibles and goodwill related to those assets to be held and
used and for long-lived assets and certain identifiable intangibles to be
disposed. The initial application of FASB No. 121 did not have an impact on the
Company's financial statements. An expense of $122,453 has been included in the
accompanying Statements of Operation under Impairment of Assets.
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per
Share." This Statement establishes standards for computing and presenting
earnings per share ("EPS") and applies to entities with publicly held common
stock or potential common stock. This Statement simplifies the standards for
computing earnings per share previously found in APB Opinion No. 15, "Earnings
Per Share," and makes them comparable to international EPS standards. It
replaces the presentation of primary EPS with a presentation of basic EPS. It
also requires dual presentation of basic and diluted EPS on the face of the
income statement for all entities with a complex capital structure and requires
a reconciliation of the numerator and denominator of the basic EPS computation
of the numerator and denominator of the diluted EPS computation. This Statement
is effective for financial statements issued for periods ending after December
15, 1997, including interim periods; earlier application is not presented. This
Statement requires of all prior period EPS data presented. The adoption of this
Statement will not have any impact on the Company's EPS disclosure, as the
Company's stock options and warrants are anti-dilutive and will be excluded from
the denominator of earnings per share; thus, earnings (loss) per common share is
equal to the basic earnings (loss) per share as computed under SFAS No. 128.
41
<PAGE>
ITEM 13. EXHIBITS, LISTS AND REPORTS ON FORM 10-K.
a. Exhibits: The following Exhibits are filed as a part of this Report:
--------
Exhibit No. Description
- ----------- -----------
3.1 Certificate of Incorporation of the Registrant. (Incorporated by
reference to Exhibit 3.1 to the Registrant's Registration
Statement on Form S-1, File No. 33-44809 (the "1992 Registration
Statement").
3.2 By-Laws of the Registrant. (Incorporated by reference to Exhibit
3.2 to the 1992 Registration Statement.)
4.1 Form of Stock Certificate. (Incorporated by reference to Exhibit
1.1 to the Registrant's Registration Statement on Form 8-A, File
No. 0-19844.)
4.3* Form of Warrants issued to institutional investors in June and
September 1996.
10.1 Exclusive License Agreement, dated as of July 1, 1991, between
the Registrant and Cornell Research Foundation, Inc.
(Incorporated by reference to Exhibit 10.1 to the 1992
Registration Statement).
10.2 Assignment Agreement, dated as of December 1, 1991, between the
Registrant and John G. Babish (Incorporated by reference to
Exhibit 10.3 to the 1992 Registration Statement).
10.3 Amended 1991 Stock Option Plan and form of Stock Option Contracts
(Incorporated by reference to Exhibit 10.4 to the Registration
Statement).
10.4* Lease Agreement, dated as of February 31, 1966 (sic) Between
ParaComm, Inc. and Cornell University c/o Sibley Real Estate
Services, Inc.
10.5 Agreement and Plan of Merger, dated as of October 25, 1994, among
the Registrant, Para Acquisition Corporation, Pacific Ventures,
Inc., China Consultants, Inc., Pacific Liaisons, T. Nelson,
Campbell, T. Colin Campbell, Dr. Chen Junshi, Dr. Wu Boping and
Mr. Ming Li. (Incorporated by reference to Exhibit 2.1 to the
Registrant's Report on Form 8-K dated October 25, 1994, File No.
0-19844.)
10.6 Agreement, Dated September 23, 1994, between the Registrant and
IDEXX Laboratories Corp. (Incorporated by reference to Exhibit
2.1 to the Registrant's Report on Form 8-K dated October 25,
1994, File No. 0-19844.)
10.7 License Agreement, dated January 19, 1995, between the Registrant
and Dow Environmental. (Incorporated by reference to Exhibit 10.8
to the Registrant's Report on form 10-KSB for the Fiscal year
ended September 30. 1995).
10.8* Cooperative Research and Development Agreement dated December 18,
1995, by and between the Registrant and the National Cancer
Institute.
10.9* Agreement, dated April 9, 1996 between the Registrant, East West
Herbs Limited, Robert E. Miller and A. E. Lyon.
42
<PAGE>
10.10 Option Agreement, dated April 9, 1996, relating to the purchase
of East West Herbs Limited, RE: Robert E. Miller and Others
(defined therein) and the Registrant and East West Herbs Limited.
10.11* Exclusive Licensing Agreement, dated April 1, 1996, between
Calbiochem-Novabiochem International and the Registrant.
21* Subsidiaries of the Registrant.
23.1* Consents of Arthur Andersen LLP
23.2* Consent of KPMG Peat Marwick LLP
- -----------------
*Filed December 30, 1996.
b. Reports on Form 8-K
-------------------
None
43
<PAGE>
ITEM:8 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
On November 8, 1996 the Company engaged KPMG Peat Marwick LLP as its independent
auditors for the year ending September 30, 1996 as approved by its Board of
Directors and simultaneously dismissed Arthur Andersen LLP.
The reports of Arthur Andersen LLP on the Company's financial statements for the
two previous fiscal years did not contain an adverse opinion or a disclaimer of
opinion and were not qualified or modified as to uncertainty, audit scope, or
accounting principles.
In connection with the audits of the Company's financial statements for each of
the two years ended September 30, 1995 and 1994, and in the subsequent interim
period there were no disagreements with Arthur Andersen LLP on any matters of
accounting principles or practices, financial statement disclosure, or auditing
scope and procedures which, if not resolved to the satisfaction of Arthur
Andersen LLP would have caused Arthur Andersen LLPL to make reference to the
matter in their report.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS IN
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
AND
ITEM 10. EXECUTIVE COMPENSATION
AND
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
AND
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Omitted, per general instruction E. The information required by Part III shall
be incorporated by reference from the registrant's definitive proxy statement
pursuant to Regulation 14A for the fiscal year ended September 30, 1997 which is
to be filed with the Commission.
44
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
Registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
Date: January 14, 1998
PARACELSIAN, INC.
By: /s/ THOMAS G. TACHOVSKY
-------------------------------------
Thomas G. Tachovsky
President and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the Registrant and in the capacities and
on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ THEODORE P. NIKOLIS Chairman of the Board January 14, 1998
- --------------------------------- Director
Theodore P. Nikolis
/s/ STEVEN DENTALI
- --------------------------------- Director January 14, 1998
Steven Dentali
/s/ LEE HENDERSON
- --------------------------------- Vice President, January 14, 1998
Lee Henderson Director
/s/ STEPHEN IP
- --------------------------------- Director January 14, 1998
Stephen Ip
/s/ JAMES NICHOLS
- --------------------------------- Director January 14, 1998
James Nichols
/s/ T. NELSON CAMPBELL
- --------------------------------- Director January 14, 1998
T. Nelson Campbell
</TABLE>
45
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THIS
STATEMENT OF OPERATIONS DATED SEPTEMBER 30, 1997 AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH 10-KSB.
</LEGEND>
<CIK> 0000882362
<NAME> PARACELSIAN, INC.
<MULTIPLIER> 1
<CURRENCY> USD
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> SEP-30-1997
<PERIOD-START> OCT-01-1996
<PERIOD-END> SEP-30-1997
<EXCHANGE-RATE> 1
<CASH> 886,249
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 156,323
<CURRENT-ASSETS> 1,274,009
<PP&E> 731,888
<DEPRECIATION> 426,809
<TOTAL-ASSETS> 2,708,771
<CURRENT-LIABILITIES> 467,923
<BONDS> 0
0
0
<COMMON> 120,045
<OTHER-SE> 2,120,803
<TOTAL-LIABILITY-AND-EQUITY> 2,708,771
<SALES> 1,246
<TOTAL-REVENUES> 6,146
<CGS> 0
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<OTHER-EXPENSES> 4,147,169
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<EXTRAORDINARY> 0
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<NET-INCOME> (3,941,749)
<EPS-PRIMARY> (.33)
<EPS-DILUTED> (.33)
</TABLE>
