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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-KSB
[ X ] Annual report under Section 13 or 15(d) of the Securities Exchange Act
of 1934 (Fee Required)
For the fiscal year ended December 31, 1996
[ ] Transition report under Section 13 or 15(d) of the
Securities Exchange Act of 1934 (No Fee Required)
Commission file number 1 - 12416
Aprogenex, Inc.
(Name of Small Business Issuer in Its Charter)
Delaware 76-0269632
(State or Other Jurisdiction of Incorporation or Organization)
(I.R.S. Employer Identification No.)
8000 El Rio Street, Houston, Texas 77054
(Address of Principal Executive Office) (Zip Code)
Issuer's Telephone Number, Including Area Code) (713) 748-5114
Securities registered under Section 12(b) of the Exchange Act:
Name of Each Exchange
Title of Each Class on Which Registered
Common Stock, $.001 Par Value American Stock Exchange
Securities registered under Section 12(g) of the Exchange Act: None
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or of such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for past 90 days. Yes X No
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B 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. [ X ]
Issuer's revenues for it most recent fiscal year: $63,000
The aggregate market value of the voting stock held by non-affiliates based
on the closing price of the issuer's Common Stock on the American Stock
Exchange on March 7, 1997, was approximately $1.3 million (and, assuming
conversion of the Series A Convertible Preferred Stock at its current
conversion rate, would be approximately $2.0 million).
The number of shares of Common Stock outstanding on March 7, 1997, was
5,225,498.
Page 1 of 78 pages.
Index to Exhibits on page 76
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Table of Contents
Page
PART I
Item 1. Description of Business 3
Summary 3
The Company's DNA Probe Technology 4
Comparison to Alternative Diagnostic Techniques 5
Comparison to Other DNA Probes 6
Comparison to Other Diagnostics 7
Current Product Applications 8
HIV 9
Prenatal Genetic Testing Products 10
Strategy for Marketing, Manufacturing and Collaborative Partners 13
Competition 14
Government Regulation 17
Third-Party Reimbursement 20
License, Patents, Proprietary Technology and Trade Secrets 22
Product Liability and Insurance 24
Employees 24
Forward-Looking Statements 24
Item 2. Description of Property 25
Item 3. Legal Proceedings 25
Item 4. Submission of Matters to a Vote of Security-Holders 26
PART II
Item 5. Market for Common Equity and Related Stockholder Matters 26
Item 6. Management's Discussion and Analysis or Plan of Operation 27
Item 7. Financial Statements 33
Item 8. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosure 33
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance With Section 16(a) of the Exchange Act 33
Item 10. Executive Compensation 35
Item 11. Security Ownership of Certain Beneficial Owners and Management 39
Item 12. Certain Relationships and Certain Transactions 41
Item 13. Exhibits and Reports on Form 8-K 41
Signatures
Financial Statements
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PART I
Item 1. Description of Business.
Summary
Aprogenex, Inc. ("Aprogenex" or the "Company") is engaged in the
commercialization of diagnostic and therapeutic technologies. The Company,
through its diagnostic operations, develops, manufactures and intends to
market diagnostic test systems based on its proprietary DNA probe technology
to identify the presence or extent of genetic abnormalities and disease. The
Company's Rapid Intact Gene Hybridization Technology ("RIGHTechnology")
utilizes the Company's synthetically manufactured probes and proprietary
"cocktail" reagent solution which allows analysis of single intact cells at a
molecular level. The Company is also engaged in the expansion of its
technology base through the licensing or acquisition of early-stage
pharmaceutical and/or diagnostic product candidates or technologies.
Diagnostic Operations. The Company's diagnostic operations are primarily
focused on the commercialization of products through collaborative
arrangements.
The Company has activities in the fields of prenatal genetics and HIV products
and has performed limited development efforts in other areas such as oncology.
In prenatal genetics, the Company's efforts are currently focused on two
separate product opportunities: (i) marketing "For-Research-Use-Only" DNA
probe products to identify certain chromosomes, abnormal numbers of which
account for common prenatal genetic disorders (the "AproProbe" product), and
(ii) collaborations with third parties developing products that would use
fetal cells circulating in a mother's blood to screen for prenatal genetic
disorders. The Company has entered into two such collaborations, and is
seeking to engage in others.
The Company believes that the potential market for a non-invasive procedure to
screen for prenatal genetic disorders could be extensive. Using a maternal
blood sample, such products would be designed to identify the rare fetal cells
circulating within the mother's blood and to permit the diagnosis of genetic
disorders that account for up to 95% of prenatal genetic abnormalities, such
as Down's Syndrome. If successfully developed, the Company believes that such
products could provide a rapid, cost-effective method of screening pregnancies
for early detection of genetic abnormalities, providing a non-invasive test
which could supersede currently available blood screening tests and mitigate
the need for many amniocentesis and chorionic villus sampling ("CVS")
procedures, thereby avoiding the risks associated with such procedures
including spontaneous miscarriage and damage to the fetus. During 1992, there
were approximately 4.0 million live births in the United States and 4.3
million in the Western Europe, the areas the Company considers to be the
primary markets for such a product.
There are a number of research groups currently focusing on the development of
enrichment systems, which are processes designed to enrich the fetal
component in a maternal blood sample by reducing the number of maternal cells
(i.e., to concentrate the fetal cells present in the maternal blood sample).
It is expected that any successfully developed enrichment system will require
DNA probes to screen the fetal cells for genetic disorders. Accordingly, the
Company's strategy currently is to market its DNA probe products as components
to other companies developing their own versions of a complete prenatal
genetics screen using maternal blood.
The Company began the sale of a "For-Research-Use-Only" version of AproProbe
in 1995. The principal customers for these DNA probe products have been
laboratories conducting research on more rapid methods of providing
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amniocentesis results than through karyotyping, as well as certain companies
conducting research on their own enrichment systems. The Company believes
this is a limited market and does not expect significant sales volumes from
this sales effort until such time as an enrichment system is successfully
developed by others and such companies select the Company as the supplier of
DNA probe products for such system.
The Company has also engaged in the development of ViraFlow, a product that
would detect HIV viral activity within intact cells (i.e., viral load).
During March 1997 the Company executed an arrangement with Centocor for the
codevelopment of such products for the non-flow cytometry market. The
principal HIV market opportunity is a clinical product for use in monitoring
the effectiveness of drug therapy in HIV-infected patients. Any such product
would require extensive regulatory approvals before marketing.
The World Health Organization estimated that there were approximately 17
million HIV infected people worldwide in 1994. Of that number, approximately
1.1 million were in the United States and the European Union, which the
Company believes will be its principal markets for this product. Numerous
pharmaceutical companies have research efforts to develop drugs to combat the
virus or the effects of HIV infection. The Company believes that the number
of HIV-infected individuals receiving therapeutic treatment, and the
complexity of such treatment, will increase as new drugs receive regulatory
approval.
The Company has also begun early feasibility testing of oncology products.
Aprogenex from time to time also engages in discussions with diagnostic
companies regarding collaborative arrangements regarding the Company's
RIGHTechnology. Such arrangements, if consummated, may include joint research
and development, product distribution or license or sale of the technology for
specific applications. There can be no assurance, however, that the Company
will enter into any such arrangements. Additionally, to the extent the
Company is successful in acquiring additional technologies, it may consider
the licensing a sale of its diagnostic operations.
Acquisition of New Technologies. The Company is actively engaged in the
licensing or acquisition of additional technologies. There can be no
assurances that the Company will be successful in such activities. If
successful in such licensing activities, the Company expects that such new
technologies will be a principal focus of its future operations.
The Company was incorporated in Delaware in 1988 under the name Molecular
Analysis Incorporated. Effective August 20, 1992, the Company's name was
changed to Aprogenex, Inc. The Company's principal executive offices are
located at 8000 El Rio Street, Houston, Texas 77054-4104, and its telephone
number is (713) 748-5114.
The Company's DNA Probe Technology
Aprogenex believes it has advanced DNA probe technology for intact cell
analysis by developing tests designed to increase the speed and simplicity of
DNA probe tests and reduce the cost to the customer of performing such tests.
The Company believes that these advances should make its tests superior to
many alternative forms of diagnosis and provide new forms of diagnostic tests.
The basic research underlying the Company's RIGHTechnology was conducted at
the University of Texas M.D. Anderson Cancer Center.
The Company's technology is based upon an advanced form of in situ
hybridization-the use of DNA probes to hybridize within intact cells. The
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Company believes its technology allows for a testing process that is more
rapid and cost-effective than currently available DNA probe technology.
The two principal components of the Company's technology are its proprietary
cocktail and synthetic DNA probes. The Company has developed a reagent
solution or cocktail that renders permeable the membranes of the cell and its
nucleus, allowing probes to enter quickly and bind to target nucleic acid
sequences in a one-step process. The cocktail is applied to the subject cells
which are then heated for a specified time. This process causes the targeted
DNA strand in the heated cell to twist and untwist without completely
separating so that the probe can rapidly enter and bind to the targeted
nucleic acid. The targeted cell is then cooled. This permeation and
hybridization portion of many other DNA probe tests can take up to 24 hours,
although some competitors have or are developing tests that require
substantially less time. The Company believes that by shortening the
diagnostic period, its tests should have a competitive advantage by allowing
for earlier treatment of patients, thereby potentially improving the quality
of patient care and reducing total health care costs.
The Company's cocktail and synthetic probes can be applied to multiple targets
(DNA or RNA) in many types of host cells (human, animal, bacteria or plants).
The Company chemically manufactures its own synthetic probes, which the
Company believes allows a high degree of quality control. The probes are
labeled with fluorescent or enzyme molecules so as to create a detectable
signal. The efficiency and quality of this process provides sufficient signal
relative to background interference, thus minimizing the need for
sophisticated amplification procedures that would otherwise be required to
detect the target.
As used herein, there are four general stages of product development
activities: (i) feasibility studies, (ii) product development, (iii)
preclinical evaluation or field trials and (iv) clinical investigations (also
referred to as "clinical trials"). These stages are subsequent to the basic
research that has been conducted on the Company's core technology. The
clinical investigation and FDA approval process for diagnostic products
differs substantially from those for pharmaceuticals. As used herein, the
term "product" encompasses potential products in any of the stages of
development.
Feasibility studies consist of formatting the technology for specific
applications and performing limited testing to determine that an actual
product application is viable. Product development involves modifying or
improving preliminary versions of the product to meet defined performance
specifications and consistent manufacturability of the product. Products are
then subjected to preclinical evaluation or field trials. During this phase,
the product is tested using clinical samples to confirm the defined
specifications and establish preliminary performance data. If preclinical
evaluation indicates that the product performance meets acceptable standards,
and the Company determines that the market opportunity warrants the expense of
further testing and large-scale manufacturing, the Company may then conduct
clinical investigations to collect performance data necessary for regulatory
filings and approval of the product for marketing in regulated jurisdictions
or for marketing efforts in unregulated jurisdictions. Additional development
activities may be and usually are conducted throughout the various phases up
to the commencement of formal clinical investigations for submission to
regulatory authorities.
Comparison to Alternative Diagnostic Techniques
The Company's technology is based upon an advanced form of in situ
hybridization (the use of DNA probes to hybridize within intact cells). The
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Company believes its technology allows for a testing process that is more
rapid than any currently available intact cell DNA probe technology and may
provide for new forms of diagnostic tests. The Company believes tests based
on its technology have several potential advantages over currently available
diagnostic techniques.
However, the advantages or disadvantages of the Company's technology depend
upon the application and the nature of alternative competing technologies.
For example, while the Company believes its technology is faster and easier to
use than competing DNA probe technologies, alternative technologies, such as
antibody or clinical chemistry tests, may be faster and easier to use for
certain applications. Other technologies may be more cost effective in
certain applications. The market opportunities identified by the Company
generally have characteristics which the Company believes gives its technology
certain advantages. However, potential customers may not agree with the
Company's assessment, and technological changes may provide other superior
technologies in the future. See "Competition."
Comparison to Other DNA Probe Technologies
There are three common forms of DNA probe tests: (i) direct, (ii) signal
amplification and (iii) target amplification. These DNA probe methods may be
used either on intact cells or on DNA or RNA extracted from "lysed," or
destroyed cells and from body fluids.
Direct DNA probe tests do not utilize any ancillary methods or reagents to
enhance the signal from each copy of the target of DNA or RNA, but rather
involve the hybridization of the probe to the genetic material itself.
Existing in situ hybridization tests, while enjoying the advantages of
accuracy that come from allowing a probe to enter a cell without destroying
it, have nevertheless suffered limitations of speed, sensitivity and
simplicity due to the difficulties of generating sufficient signal within
intact cells. The Company believes that its simplified and rapid
RIGHTechnology avoids these problems. In addition, previously available in
situ hybridization tests have required multiple, time-consuming steps to
insert the probe within the cell, denature the target, hybridize the probe to
the target and detect the target. By contrast, RIGHTechnology accomplishes
these procedures in one step.
Signal amplification involves the use of varying methods to enhance the signal
from each individual probe. These methods may include repetitive steps to add
additional layers of a probe-like substance onto each hybridized probe (the
"sandwich" method) or repetitive steps to build a "tail" or "stack" of labels
on each probe (the "branched chain" method). Signal amplification can be more
labor-intensive and time-consuming than direct probes, and can result in more
non-specific, "background" signal, or noise not related to the targeted gene,
which can lead to inaccurate results. However, in certain situations, the
amplified signal may provide greater sensitivity than other methods. The most
widely known form of signal amplification is branched DNA ("bDNA").
Target amplification involves the creation of multiple copies of the target,
and the subsequent utilization of probes to detect these multiple copies. A
series of reactions is performed to add reagents that will replicate portions
of the targeted DNA if it is present. In a series of numerous repetitive
steps, multiple copies of the original target are created which are then
detected using DNA probes. The most widely known form of target amplification
is Polymerase Chain Reaction ("PCR").
Amplification normally occurs on material extracted from intact cells, rather
than within the intact cells. Accordingly, one problem of these diagnostic
tests is that stray material (e.g., atmospheric contamination or material left
in the test chamber from the last sample) can contaminate the sample, giving
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an erroneous test result. Additionally, if it is necessary to quantify the
number of the targets present in each cell or the number of cells infected,
then the cells must remain intact. Amplification has been performed using
intact cells, but the applications have been relatively few because of
limitations in the probe technology of the Company's competitors. The
simplified nature of the Company's tests is designed to make them capable of
delivering sensitive and specific results in a short time. By allowing
analysis to occur within intact cells, the Company's technology allows
measurements to be made such as the number of chromosomes within a cell, the
type or number of cells in which a gene or virus is contained, or the presence
of two or more abnormalities which, only when they occur together in the same
cell, create disease. Additionally, conducting the analysis using intact
patient cells prevents cross-contamination between samples. However, in
certain situations, amplification can result in greater sensitivity by
increasing the number of target molecules to be detected.
Direct DNA probe tests are particularly useful where maintaining the integrity
of the cell is important. Alternative DNA technologies may be more
appropriate for certain applications because these may provide superior
sensitivity or there is no reason to maintain the cell walls. The Company has
generally focused on market opportunities where it believes that maintaining
intact cells provides useful or superior information. However, potential
customers may not agree with the Company's assessment, and technological
changes may provide other superior technologies in the future. See
"Competition."
Comparison to Other Diagnostics
Traditional methods of medical diagnostics for infectious diseases and
gene-based disorders include antibody or antigen tests, culture tests,
karyotyping, biochemistry and cellular analysis.
The body produces antibodies in response to infections from viruses and
bacterial or to abnormalities that result in molecular targets that are
foreign to the host organism. Antigens are the viral, bacterial or other
molecular targets with which antibodies react. Tests to determine the
presence of antibodies and antigens are used to detect diseases such as HIV or
infections such as strep throat. Antibody tests are also used to diagnose
certain forms of cancer where the cancerous growth causes the production of
certain antigens as well as to identify certain categories of cells (e.g.,
phenotyping or CD4 counts for HIV monitoring). Although these tests are
typically inexpensive and cost-effective, they may result in false-positives
and have limited ability to measure disease progression or stage (e.g., viral
load) or to monitor the effectiveness of therapy. Aprogenex believes tests
based on its RIGHTechnology for certain applications will be designed to
provide sensitivity and specificity superior to antibody tests while
maintaining a comparable speed. However, customers for certain applications
may not require or desire the superior sensitivity or specificity or increased
cost that the Company's technology may provide.
Culture tests, which are generally used with bacteria, involve taking a
specimen sample from the patient and growing the organism in a laboratory.
These tests are used if there is a low number of organisms present, antibodies
or antigens are not readily detectable or the presence of antibodies alone is
insufficient to diagnose an active infection. Cultures can require up to 24
hours for fast-growing organisms or several weeks for various mycobacteria
(e.g., M. tuberculosis) or mycoplasmas. Culture tests are generally automated
and successful performance requires strict laboratory conditions. The Company
believes that its tests will be designed to provide results of similar
accuracy but at a much greater speed than culture tests. However, greater
speed in obtaining results may not be required or desired by customers for all
diagnostic applications.
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Certain genetic or oncology diagnoses utilize karyotyping, which involves the
visual examination of chromosomes assisted through staining or banding
techniques. A sample of cells is cultured and cells in mitosis, or cell
division, are selected for examination. Karyotyping provides definitive
though subjective information on all chromosomes and identifies numerical
abnormalities such as trisomies, as well as structural changes such as
deletions, translocations and inversions. Karyotyping is labor intensive and
often takes 7 to 10 days or more to complete with typical costs of
approximately $500. The Company's tests are designed to provide comparable
accuracy but faster and at a lower cost. However, the Company's DNA probe
tests are designed to identify only the most common genetic disorders, while
the karyotype will provide more extensive information on many more disorders.
Biochemistry tests, which are often used in cancer diagnosis, are based on the
detection of proteins and other substances produced by cells. These
substances are produced by the processes controlled by the information encoded
in the DNA contained in each cell. However, analysis of these does not
necessarily indicate the specific cancer-causing genetic mutations that take
place within the cell; the substances are only an indirect indicator of
genetic abnormalities rather than a direct detection of the cancer-causing
gene and may not always be as accurate or sensitive as indicators, or permit
detection as early, as DNA probe tests, such as RIGHTechnology. However,
biochemistry tests are widely accepted for certain applications and tests can
be performed rapidly and inexpensively.
Most traditional cancer analysis involves the visual examination of cancerous
tissue, typically under a microscope. More modern variations permit the
examination of tissue without its removal from the body, including
computerized tomography scans, x-rays, nuclear magnetic resonance and
radioisotopic imaging. These techniques, however, are typically not able to
detect cancer until it has begun to grow and spread. Furthermore, they do not
provide any data on the specific genetic abnormalities that define a given
cell as cancerous. For those applications where current techniques do not
provide sufficient or timely information, Aprogenex believes its DNA probes
will be designed to provide earlier and more accurate diagnostic information
regarding cancer than are provided by traditional diagnostics.
Current Product Applications
The Company's resources are currently focused on product activities in three
areas. The first is an assay to detect Human Immunodeficiency Virus ("HIV")
activity in intact cells for use in monitoring patient therapy. The second is
components of a test for prenatal genetic disorders using fetal cells
circulating in maternal blood that could mitigate the need for invasive
procedures such as amniocentesis. In addition to these applications in
virology and genetics, the Company in prior years also performed limited
studies for applications of its technology in the areas of oncology and
microbiology. Recently, the Company has also begun early feasibility testing
of oncology products.
None of the Company's products has been approved by the FDA for commercial
sale as a diagnostic product. As a result, upon completion of development, in
the United States, the Company's products may be sold only for non-diagnostic
laboratory use, research or investigational purposes until such diagnostic
approvals are obtained, either by the Company or its collaborative partners.
In addition, the Company has products in early stages of development. The
Company's products will require substantial additional investment, laboratory
development, clinical investigation and regulatory approval prior to their
commercialization for diagnostic purposes. There can be no assurance that the
Company will be successful in developing such existing or future products,
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that such products will prove to be efficacious in clinical investigations,
that required regulatory approvals can be obtained for such products or that
such products, if developed and approved, will be capable of being
manufactured in commercial quantities at reasonable costs. There can be no
assurance that the Company will not encounter substantial delays in the
development and testing of its products.
The market for DNA probe tests is only now developing and has to date been
limited to market niches. The Company's success will depend not only upon
capturing customers in existing markets but also on the development of new
markets in response to the Company's products. There can be no assurance that
the Company's products will be marketed successfully or will be accepted by
the medical diagnostic community, or that market demand for such products will
be sufficient to allow profitable operations. While the Company has
identified certain broad target markets for its products, there can be no
assurance as to what portion of such target markets, if any, will find the
Company's tests to be either applicable or to be a preferable alternative to
other diagnostics.
The Company's commercialization strategy principally involves the use of
collaborative partners to obtain regulatory approvals and market the Company's
products. As a result, commercialization will be dependent upon the ability
of the Company to obtain collaborative partners as well as, the timing,
strategy and resources of such partners. See "--Strategy for Marketing,
Manufacturing and Collaborative Partners."
HIV
Aprogenex is currently developing an assay that is designed to permit
detection of HIV within cells and to enable quantification of viral activity
within infected cells (i.e., viral load). The ViraFlow assay uses DNA probes
for HIV RNA ("RNA") to detect and quantitate HIV activity. During March,
1997, the Company entered into a collaborative agreement with Centocor, Inc.
whereby Centocor will conduct development activities, seek regulatory
approvals and market an HIV assay for instrumentation platforms other than
flow cytometry. See "- Strategy for Marketing, Manufacturing and
Collaborative Partners."
Any such clinical product would require extensive regulatory approvals before
marketing. Current monitoring of HIV patients includes serum-based measures
of HIV virus, discussed further below, as well as the use of surrogate, or
indirect, markers for the disease, such as counting the number of CD4 cells in
the patient's blood. When used in conjunction with antibodies to categorize
blood cells, the Company's assay may be used to identify HIV activity in
different types of blood cells. Additionally, to the extent that therapeutics
are used to treat HIV infections, the Company believes that its technology
could be used to evaluate therapeutic effectiveness by monitoring the stage of
HIV infection or the level of viral activity for each patient after treatment
with various drugs. The Company anticipates that its test could be used
throughout the treatment of a patient as an analysis of the effectiveness of
therapeutic drugs or as the criteria for modification of therapy, with
multiple tests being performed for each patient. The primary customer for any
such clinical test is expected to be the clinical or hospital laboratory.
Currently, at least two companies market products that will compete directly
with ViraFlow as a drug screening test and as well as a clinical therapy
monitoring test. However, the Company is not aware of any other test that
uses intact cells for analysis. See "- Competition."
The World Health Organization estimated that there were approximately 17
million HIV infected people worldwide in 1994. Of that number, approximately
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1.1 million were in the United States and the European Union, which the
Company believes will be its principal markets for this product. Numerous
pharmaceutical companies have research efforts to develop drugs to combat the
virus or the effects of HIV infection. The Company believes that the number
of HIV-infected individuals receiving therapeutic treatment, and the
complexity of such treatment, will increase as new drugs receive regulatory
approval. However, there can be no assurances as to the final successful
development, market acceptance or commercial success of the Company's HIV
assays.
Prenatal Genetic Testing Products
The Company's efforts in prenatal genetics currently are focused on: (i)
marketing "For-Research-Use-Only" DNA probe products to identify certain
chromosomes, abnormal numbers of which account for common prenatal genetic
disorders (the "AproProbe" product) and (ii) collaborations with third parties
developing products that would use fetal cells circulating in a mother's blood
to screen for prenatal genetic disorders.
Current Prenatal Genetic Testing Procedures. Currently, prenatal
genetic screening involves a long, and sometimes risky, process. Family
history investigations and blood tests are performed on pregnant mothers to
identify those that are susceptible to genetic disorders. Such tests, however
are of only limited accuracy. A more invasive procedure, amniocentesis or
chorionic villus sampling ("CVS"), is required for a more accurate diagnosis.
The Company believes that no currently available product allows for a rapid,
low-cost and accurate method of identifying chromosomal disorders using
maternal blood.
Currently available tests, which are not produced by the Company, involve a
review of the levels of certain proteins in maternal blood. Recent research
has indicated that measuring the levels of three proteins concurrently can
provide a screen for Down's Syndrome, the most common genetic disorder in
pregnancies. Medical reports indicate that this biochemical test has an
accuracy of approximately 70% when used as a screen for all maternal ages,
with approximately 30% of the Down's Syndrome cases going undetected.
However, this test may also result in a large number of false positives.
Recent studies on high-risk mothers have indicated that the blood protein test
can have a higher level of accuracy. While the test may screen approximately
70% of the Down's Syndrome cases, a large number of normal pregnancies are
included within the screened population. There is no currently available
definitive method to determine which is a "false positive" without further
invasive and risky testing procedures. Accordingly, current blood screening
tests merely provide an indication that there may be a genetic abnormality,
and are not a definitive test for Down's Syndrome. Confirmation of the
syndrome requires further testing.
Mothers screened by these tests as well as other high-risk mothers (e.g., over
35 years of age or with prior histories of birth defects) then must seek a
definitive diagnosis through karyotyping. While standard cell culture and
karyotyping can also identify over 95% of the most common prenatal birth
defects, it requires seven to 21 days to perform. Further, each of the two
common forms of procedures for obtaining samples for karyotyping,
amniocentesis and CVS carries risks. Amniocentesis involves the insertion of
a long needle into the womb of the mother to extract amniotic fluid for
analysis. CVS involves the extraction of tissue samples through the cervix
for analysis. Medical reports indicate that spontaneous miscarriage and
permanent damage to the fetus result in approximately one in every 200
amniocentesis procedures performed and one in every 50 CVS procedures
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performed. There were over 200,000 amniocentesis tests performed in the
United States in 1991, according to industry sources.
To a limited extent, certain laboratories in the United States, Europe and
other parts of the world use DNA probes, including AproProbe, to provide a
rapid test for certain chromosomes prior to performing a complete or partial
karyotyping analysis. Most of such tests are marketed as "For Research Use
Only" tests, but the products of some competitors are in various stages of
regulatory approval. Accurate estimates of the size of this market are not
available to the Company, but the number of such tests are believed to be only
a small percentage of the number of amniocentesis procedures. See "-
Competition."
Potential Market for a Prenatal Genetics Test Using Maternal
Blood. During pregnancy, fetal cells may cross the placenta and circulate
within the mother's blood. The number of such fetal cells in maternal
circulation and the gestational ages at which such cells most frequently occur
have not been established by extensive scientific testing. For several years,
various parties have been attempting to develop a test that would utilize the
fetal cells in a sample of maternal blood to screen for prenatal genetic
disorders. Such a test, if successfully developed, would allow the diagnosis
of certain prenatal genetic disorders without the use of invasive procedures
that result in risk to the fetus. A principal component of such a test is a
method for concentrating or separating the rare fetal cells present in the
mother's blood. See "--Market Opportunity for DNA Probes for Prenatal Genetic
Testing."
The Company believes that the potential market for a non-invasive procedure to
screen for prenatal genetic disorders could be extensive. Using a maternal
blood sample, such products would be designed to identify the rare fetal cells
circulating within the mother's blood and to permit the diagnosis of genetic
disorders that account for up to 95% of prenatal genetic abnormalities, such
as Down's Syndrome. If successfully developed, the Company believes that such
products could provide a method of screening pregnancies for early detection
of genetic abnormalities, providing a non-invasive test which could supersede
currently available blood screening tests and mitigate the need for many
amniocentesis and CVS procedures, thereby avoiding the risks associated with
such procedures including spontaneous miscarriage and damage to the fetus.
During 1992, there were approximately 4.1 million live births in the United
States and 4.0 million in the Western Europe, the areas the Company considers
to be the primary markets for such a product.
Market Opportunity for DNA Probes for Prenatal Genetic Testing.
There are a number of research groups currently focusing on the development of
enrichment systems, which are processes designed to enrich the fetal component
of a maternal blood sample by reducing the number of maternal cells present
(i.e., to concentrate the fetal cells present in the maternal blood sample).
The Company expects that any successfully developed enrichment system will
require DNA probes to screen the fetal cells for genetic disorders.
Accordingly, the Company's current strategy is to separately market
(preferably through collaborative arrangements) its DNA probe products to
other companies developing their own versions of a complete prenatal genetics
screen using maternal blood.
During 1996, the Company entered into separate collaborations with AmCell
Corporation and BioSeparations, Inc. for the supply of components to these
companies for prenatal genetics tests under development. The agreements
provide that the Company will provide DNA probes to each company for
incorporation into prenatal genetic testing systems that may be developed by
each company. The Company does not expect any significant revenues from these
<Page 12>
collaborations until, if ever, either company successfully completes its
development activities, obtains any regulatory approvals required, and
achieves market acceptance of its products.
The Company began the sale of a "For-Research-Use-Only" version of AproProbe
in 1995. This product line includes probes to enumerate certain chromosomes
as well as, under the AproProbe Plus trade name, probes for fetal hemoglobin
messenger RNA. The principal customers for these DNA probe products have been
laboratories conducting research on more rapid methods of providing
amniocentesis or karyotyping results, as well as certain companies conducting
research on their own enrichment systems. The Company believes this is a
limited market and does not expect significant sales volumes from this sales
effort until such time as an enrichment system is successfully developed by
others and such companies select the Company as the supplier of DNA probe
products for such system.
There can be no assurances that others will successfully develop enrichment
systems or that such companies will utilize the Company's DNA probes in
conjunction with any successfully developed product. Previously, the Company
has not been successful in its own efforts to develop an enrichment system.
See "-The Company's Previous Efforts to Develop a Complete Test Using Maternal
Blood" and "-Competition."
The Company is currently marketing AproProbe as a "For-Research-Use-Only"
product, and such product may not be used for diagnostic purposes, either
alone or in conjunction with any enrichment system being developed by others,
without regulatory approval in the U.S. The Company has no present plans to
independently seek FDA approval for the product, which may further restrict
its sales. Further, any FDA approval would require the completion of a
clinical investigation, a submission of intended use and require a submission
of data for product performance in conjunction with any enrichment system with
which the product will be used. Accordingly, a determination of the form of
regulatory filing, the timing of such filing, as well as the responsibility
for such filing will depend upon the terms and nature of any collaborations
with other enrichment companies and the success of such companies' development
efforts. See "-Government Regulation." For a discussion of marketing plans,
see "-Strategy for Marketing, Manufacturing and Collaborative Partners."
The Company's Previous Efforts to Develop a Complete Test Using
Maternal Blood. From 1992 through 1996, the Company attempted to develop
its own cell separation technologies for use in enriching for fetal cells
circulating in maternal blood. The Company tried and abandoned several
different technologies for use in the enrichment component. Testing of these
versions produced variable results, as measured both by the number of fetal
cells obtained as well as whether fetal cells were able to be identified.
This variability could be attributable to a variety of factors, among which
are biological (e.g., whether the mother's blood contained fetal cells) as
well as the effect of processing on the target cells.
While development efforts for this enrichment component constituted a
significant portion of the Company's resources prior to 1996, such efforts
were abandoned in 1996 in favor of the strategy of collaboration with others
developing their own cell separation technologies. See "-Competition,"
"-Government Regulation," and "-Strategy for Marketing, Manufacturing and
Collaborative Partners."
<Page 13>
Strategy for Marketing, Manufacturing and Collaborative Partners
Marketing
The Company currently markets "For-Research-Use Only" versions of its products
directly to customers. However, the Company's strategy for regulatory
approvals and product development in significant market areas involve the use
of collaborative partners for the development, regulatory approval and
marketing of products.
Prenatal Genetic Testing Products. The Company is currently marketing
its AproProbe prenatal genetic testing products in the United States and
Europe through the use of one part-time consultant. For a three-year term
which expires in July, 1998, the Company has granted Concorde International
Corporation, a Hong Kong corporation ("Concorde"), the exclusive right to sell
AproProbe in Taiwan, Hong Kong, China and certain other Far East countries.
The sale of AproProbe to certain potential customers is dependent upon the
successful development of their enrichment components as well as other
factors. See "-Current Product Applications; Prenatal Genetic Testing
Products." Such enrichment components will require FDA approval before
commercial use in the U.S. as a diagnostic product, and may also require other
regulatory approvals for sale outside the U.S. The timing of such events as
well as the need for regulatory approval of the Company's products when used
in conjunction with such enrichment components will affect the timing of the
marketing of the Company's product to potential customers. See "-Government
Regulation."
During 1996, the Company entered into separate collaborations with AmCell
Corporation and BioSeparations, Inc. for the supply of components to these
companies for prenatal genetics tests under development. The agreements
provide that the Company will provide DNA probes to each company for
incorporation into prenatal genetic testing systems that may be developed by
each company. The Company does not expect any significant revenues from these
collaborations until, if ever, either company successfully completes its
development activities, obtains any regulatory approvals required, and
achieves market acceptance of its products.
In connection with previous arrangements, the Company granted Dianon Systems,
Inc. for five years (ending June 8, 1998) the right of first refusal for any
exclusive license that the Company may grant for new applications in genetic
testing within the United States. The right applies only if the Company
elects to grant an exclusive license for a particular application, and the
terms of any license will be negotiated at that time, and such rights survived
the termination of the license agreement.
HIV Products. During March, 1997, the Company granted Centocor, Inc. the
exclusive rights to develop and sell products to detect HIV using
instrumentation platforms other than flow cytometry. The Company will seek a
distributor or collaborative partners for the marketing of any other clinical
version of its HIV product, and may seek to engage a distributor for other
efforts, including the marketing of its "For-Research-Use-Only" HIV product.
See "-Current Product Applications; HIV" and "-Competition."
<Page 14>
Collaborative Partners
The Company from time to time engages in discussions with diagnostic and other
companies regarding collaborative arrangements for the expansion of
applications of RIGHTechnology or the license or joint venture of portions of
such technology. Such arrangements, if consummated, may include joint
research and development, product distribution, license or sale of the
technology for specific applications or the issuance of equity or debt
securities of the Company and may involve royalty arrangements. There can be
no assurance that the Company will be successful in consummating any
collaborative arrangement for its technology, nor can there be any assurance
as to the timing or terms of any such agreements.
Such collaborative arrangements, if entered into, may provide for the Company
to receive a royalty for sales of its products by the licensee. Such
royalties will depend in part upon the efforts required of the licensee, which
may include the completion of product research and development, performance of
clinical investigations, obtaining regulatory approvals and manufacturing and
marketing any products. The amount and timing of resources devoted to these
activities will be controlled by the licensee. Should the licensee fail to
perform any required functions, the Company's business and results could be
adversely affected. In addition, there can be no assurance that any of the
Company's collaborative partners would not pursue alternative technologies or
develop alternative products on their own or in collaboration with others,
including the Company's competitors.
Manufacturing
The Company currently operates its own manufacturing facility, which is
located in its headquarters building in Houston, Texas. The Company produces
its DNA probes, test kits and reagents at this location. See "Description of
Property."
To date, the Company has manufactured the limited quantity of its products
required for its development and its limited sales activities. There can be
no assurance that manufacturing or quality control problems will not arise as
the Company increases production of its products, begins significant
commercialization or as additional facilities are required in the future.
Additionally, the manufacturing and sale of any product will be dependent on
adequate supplies and timeliness of delivery of raw materials or component
parts of the product. There can be no assurances as to the availability or
cost of such materials at such times and in such quantities as required by the
Company. The Company's dependence on others for the raw materials or
component parts of its products may adversely affect the Company's
profitability and its ability to manufacture such products on a timely basis.
The Company has no direct experience in marketing and distributing diagnostic
products.
Competition
Competition in the Company's markets is intense and stems from other companies
that compete in these markets and from other technologies. The Company
competes with a large number of companies including large diagnostic, health
care, pharmaceutical and biotechnology companies, many of which have
substantially greater financial, manufacturing, marketing and product research
resources than the Company. Academic institutions, governmental agencies and
other public and private research organizations are also conducting research
activities and may commercialize products on their own or through joint
ventures. Entities are increasingly applying for patents relating to the
identification and detection of particular genes or methods for targeting
<Page 15>
certain DNA or RNA of bacteria. In addition, many companies and institutions
are attempting to identify sequences of genes. In some cases, including the
discovery of whole genes, patent protection for such sequences has been
granted. Increasingly, patent applications are being filed with respect to
sequences for which no gene has been identified. Continuation of this process
of patenting genes and sequences could, to the extent that desired gene
targets for the Company's DNA probes are patented by others, foreclose the
Company from developing probes for such targets or require the Company to pay
license fees in order to market probes for such targets.
There are several methods currently used to diagnose diseases and disorders,
and the Company will compete against any or all of these methods in its
markets. The application of any particular technology to a disease depends
upon the characteristics of both the technology and the disease as well as the
cost of the test. Customers generally choose from among the various forms of
available technology based upon the degree of importance of each
characteristic to the clinical diagnosis. For example, for life-threatening
situations where a rapid diagnosis will affect clinical treatment, the cost of
the diagnostic test is usually less important than the speed in rendering an
appropriate diagnosis. Given the various natures of disease, the criteria
important in the choice of diagnostic technology, and the various competing
technologies, it is unlikely that the Company's products will ever completely
replace other forms of diagnostic technology.
In general, the particular companies with which the Company competes, and the
technologies with which its products compete, vary with the Company's
different products and markets. The Company's tests will compete primarily on
the basis of factors which vary by product and include (i) the speed of the
test, including the time to process the patient's sample and render the
results of the test; (ii) the ease of use, including the availability of
automated instrumentation, the required proficiency of the laboratory
personnel performing the test, and the amount of labor required; (iii) the
cost of the test, including the customer's labor costs and instrumentation
requirements; (iv) the sensitivity of the test, or the ability of the
technology to detect low levels of the target with a high degree of accuracy;
and (v) the specificity of the test, or the accuracy of positive diagnoses.
The Company believes its products when completed will be competitive based on
these factors. The Company's competitive position will also depend on its
ability to attract and retain qualified scientific and other personnel,
develop effective proprietary products, implement production and marketing
plans, obtain patent protection and obtain adequate capital resources.
The Company is aware that other companies have developed or may be developing
probe test systems which may be competitive with the Company's products. The
existence of any competing products or procedures that may be developed in the
future may adversely affect the marketability of products developed by the
Company. The Company is aware of at least two companies that are marketing
assays to measure the amount of HIV virus in plasma, rather than in intact
cells, using the branched chain and PCR technologies. See "-The Company's
RIGHTechnology; Comparison to Other DNA Probe Technologies." Substantial
research has been devoted to the correlation between such measures and the
effect of therapy or the progress of the disease, and both products have been
filed with the FDA. The Company's HIV product will face competition from such
assays and such research or regulatory approval for other products may limit
the market acceptance of the Company's products. Also, several competitors
have announced efforts to develop a prenatal genetic testing product using
maternal blood, including the use of DNA probe technologies from others.
Additionally, the Company is aware that several other competitors are
currently marketing probe-based tests utilizing in situ hybridization, some of
which are in various phases of the regulatory approval process. The Company
believes that its products based on RIGHTechnology will have advantages over
<Page 16>
those announced by its competitors; there can be no assurance, however, that
this will be the case.
There can be no assurance that these competitors will not succeed in
developing technologies and products that are more effective, easier to use or
less expensive than those which are being developed by the Company or that
would render the Company's technology and products obsolete and
noncompetitive. In addition, many of the Company's competitors have
significantly greater experience than the Company in conducting clinical
investigations of new diagnostic products and in obtaining FDA and other
regulatory approvals of products for use in health care. Accordingly, the
Company's competitors may succeed in obtaining regulatory approval for
products more rapidly than the Company.
The medical diagnostics industry has experienced a trend toward the automation
of testing procedures that may have an impact on the Company's competitive
position. The Company's ability to develop and market its tests may be
limited by the availability, cost and characteristics of generally available
automated instrumentation. This trend has resulted from, among other things,
the desire for greater precision, reduction of human-based errors and human
exposure to dangerous or infectious material, the desire for quicker test
results and cost reductions and compliance with CLIA and other regulations.
Although the Company believes that its tests are generally automatable, the
Company to date has not engaged in the development or manufacture of automated
instrumentation. Competitive pressures have begun to require diagnostic
companies to provide automated equipment to each laboratory, physician's
office or other customer and to generate sales through such customers' use of
those companies' products in conducting the tests. The Company may not have
the financial resources to purchase and provide such instrumentation to its
customers. The Company may, therefore, be unable to compete effectively with
diagnostics companies that either manufacture their own automated equipment or
that have the capital resources to purchase such equipment. Additionally, as
the trend towards automation continues, the Company will likely be required to
either design its tests so as to be formatted for use with instrumentation
that is then generally available from manufacturers or enter into arrangements
for the manufacture of instrumentation specifically designed for use with the
Company's diagnostics. Additionally, the Company may not have the financial
resources to obtain such specially made instrumentation and will be at a
competitive disadvantage to those diagnostic companies that manufacture such
instrumentation or have the capital resources to purchase such
instrumentation.
If the Company is successful in licensing or acquiring additional
technologies, it will face competition from alternative technologies or
products. Additionally, the Company will face competition from others in such
licensing or acquisition activities, probably from other companies with
substantially greater resources.
<Page 17>
Government Regulation
The Company's diagnostic products, as well as any future diagnostic or
therapeutic products that may be acquired, are subject to extensive regulation
by governmental authorities in the United States, particularly the FDA, and
health authorities in foreign countries. The FDA and corresponding health
authorities in other countries impose substantial requirements which must be
satisfied before newly developed products may be sold for diagnostic use. The
FDA, and similar agencies in foreign countries, have promulgated substantial
regulations which apply to the testing, marketing, export and manufacturing of
diagnostic products. There can be no assurance that any such approvals will
be received on a timely basis or at all. In the U.S., in addition to meeting
FDA regulations, the Company is also subject to other federal, state and local
environmental and safety laws and regulations.
Similar filings and governmental approvals will be required in certain major
foreign countries before the Company's diagnostic products can be marketed in
such countries. In addition, approval to export the products may be required
before sales can occur in foreign countries. There can be no assurance that
any of such permissions and approvals will be received on a timely basis or at
all.
Those of the Company's diagnostic products that are intended "For Laboratory
Use," "For Research Use Only" or "For Investigational Use Only," as opposed to
clinical diagnostic applications, and which are labeled and sold as such, may
currently be marketed in the United States, but only for such purposes.
Regulatory authorities could require the Company to cease sales of such
products if such authorities determine or contend misuse of the products by
customers.
The Company's in vitro diagnostic products, as presently contemplated, will be
regulated as medical devices. There are two principal methods by which FDA
approval may be obtained to market diagnostic products in the United States.
One method is to seek FDA approval through a Pre-Market Notification filing
under Section 510(k) of the federal Food, Drug & Cosmetic Act. Applicants
under the Section 510(k) procedure must prove that the device or results
obtained with the device for which approval is sought is "substantially
equivalent" to devices or results from devices or procedures on the market
prior to the Medical Device Amendments of 1976. Applicable regulations
provide that the review period for a Section 510(k) application is 90 days
from the date of filing the application. However, approval under this
procedure is seldom granted within 90 days if the product qualifies, and
usually takes ten to fourteen months after filing, and may take even longer
for certain products. In any circumstance, FDA requires the manufacturer to
obtain an FDA letter of substantial equivalence determination before beginning
commercial distribution.
The alternate method of obtaining FDA approval for an in vitro diagnostic is
to obtain Pre-Market Approval ("PMA") clearance from the FDA. To obtain
product safety and effectiveness data for a PMA submission, the applicant may
be required to obtain an Investigational Device Exemption, IDE, before
beginning the substantial clinical investigation necessary to produce this
data. The review period under a PMA application is 180 days from the date of
filing, but the application is not automatically deemed approved if not
rejected during that period. PMA applications are seldom granted within such
time period. The average time for approval, if at all, for a PMA for an in
vitro diagnostic device is currently two years or longer. In addition, the
preparation of a PMA application is significantly more complex and time
consuming than the Section 510(k) procedure. The form of requisite regulatory
approval is often uncertain and subject to changes in regulatory policy,
changes in the interpretation of laws and regulation, or the enactment of new
laws or the promulgation of new regulations.
<Page 18>
The fact that the Company has completed preclinical evaluations of a product
does not indicate that all issues have been resolved in the development of the
product or that the results of such evaluations have indicated that no
imperfections exist. Accordingly, the fact that the Company has conducted or
is currently conducting clinical investigations as to a product does not
provide any assurance as to the final successful development of that product.
In addition, the form of requisite regulatory approval is often uncertain and
subject to changes in regulatory policy, changes in interpretation of laws and
regulations, or the enactment of new laws or the promulgation of new
regulations. Additionally, the form of regulatory approval to be required by
the FDA could still be influenced by the form of approval sought by other
diagnostic companies for similar or dissimilar tests. While the Company has
made determinations regarding the appropriate form or forms of approval that
may be required for certain of its products, such determinations are
continually reviewed and may change as a result of various factors, including
changes in FDA policies, discussions with regulatory agencies or consultants
and changes in product composition. There can be no assurance that such
determinations are correct, that the FDA will concur with such conclusions or
that such determinations may not be altered due to new interpretations or new
data that may become available.
The failure of the Company's products to receive requisite approvals, or
significant delays in obtaining any such approvals, could have a materially
adverse effect on the business of the Company. There can be no assurance that
any of the Company's products will receive FDA approval or, even if a
particular product does receive FDA approval, that the Company will ever
recover its costs in connection with obtaining such approval.
The clinical investigation required of the Company's products may take several
months or several years to complete, depending on the nature of the FDA
filing. There can be no assurance that the FDA will act favorably or quickly
in making its reviews, and significant difficulties or costs may be
encountered by the Company in its efforts to obtain FDA approvals that could
delay or preclude the Company from marketing its products for diagnostic
purposes. Furthermore, there can be no assurance that the FDA will not
request the development of additional data following the original submission.
Based upon the data submitted to it, the FDA may also limit the scope of the
labeling or permitted use of the product or deny the application altogether.
With respect to patented products or technologies, delays imposed by the
governmental approval process may materially reduce the period during which
the Company will have the exclusive right to exploit those products or
technologies. There is no assurance that the Company will have sufficient
resources to complete the required testing and regulatory review process or
that it could survive the inability to obtain, or delays in obtaining, such
approvals. There can be no assurance that the necessary approvals will be
obtained by the Company or, if they are obtained, that they will be obtained
on a timely basis. Recently, because of the volume of Section 510(k) and PMA
applications, FDA application backlog and response times have been increasing.
Certain of the Company's products, such as its HIV tests, may require a
Product License Application ("PLA"), rather than a PMA, for approval to market
as a diagnostic test. If a PLA is required, the product's manufacturing
facilities, systems and equipment must also be approved through an
Establishment License Application ("ELA"). Should the Company or its
collaborative partners be required to and succeed in obtaining a PLA and an
ELA for some of its products, substantially greater costs and delays will be
incurred than if marketing approval were received under a Section 510(k)
notification or PMA. There is no assurance when or if such approvals would be
granted or that the Company or its collaborative partners would or could
undergo the commitment of time and resources to file a PLA and an ELA.
<Page 19>
After product approvals have been received, the FDA may still withdraw the
approval if compliance with regulatory standards is not maintained or if
problems occur after the product reaches the market. The FDA may require
surveillance programs to monitor the effect of products which have been
commercialized, and has the power to prevent or limit further marketing of the
products based on the results of these post-marketing programs. In addition
to obtaining FDA approval for each product, the FDA must, under the PMA
guidelines, approve the manufacturing facilities and procedures for the
product. The FDA will also inspect diagnostic companies on a routine basis
for regulatory compliance with its "Good Manufacturing Practices."
Sales of the Company's products outside the United States are also subject to
extensive regulatory requirements, which vary widely from country to country.
There are numerous foreign regulatory bodies that regulate the sale of
diagnostic products, and these bodies may be affected or influenced by
criteria materially different than that of the FDA. The sale of the Company's
products may be materially affected by the policies of these regulatory bodies
or the domestic policies of the countries involved. For example, the offering
of an early prenatal screen for genetic disorders may be prohibited or
restricted in some jurisdictions. The Company has not applied for and does
not have the approval of any foreign country to sell its products in such
country for diagnostic use. Japan has standards similar to those of the FDA
and may require longer product approval periods than in the United States.
The European Union is in the process of developing a new approach to the
regulation of medical products which may significantly change the regulatory
framework in those countries. Diagnostic products that have not been approved
by the FDA may be exported for sale outside the United States only after
labeling the product "For Export Only" and by complying with the regulations
of the importing country.
Any of the Company's products that would be sold "For Laboratory Use," "For
Investigational Use Only" or "For Research Use Only" must be properly labeled
as such, as required by the FDA. The FDA recently became aware that certain
products being sold by other companies for research purposes only were in fact
being used by some customers for broader, prohibited purposes. The FDA has
begun to impose new distribution requirements and procedures on companies
selling research-only products aimed at curbing these abuses, such as the
requirement that the seller receive specified certifications from its customer
as to the customer's intended use of the product. The Company expects that
the FDA will in the near future develop additional restrictions of this
nature. The Company is unable at this time to predict the form these
restrictions may take, their likely magnitude or their ultimate impact on the
Company or its sales.
The Company will be required to comply with the FDA's good manufacturing
practices and to register and list its products with the FDA as a device
manufacturer or distributor. As a result, the Company's manufacturing
facilities will be subject to inspection for compliance with these and other
applicable regulations.
The Company's products will also be affected by the Clinical Laboratory
Improvement Amendments of 1988 ("CLIA"). This law is intended to insure the
quality and reliability of all medical testing in the U.S. regardless of where
tests are performed by, among other things, establishing training and
experience requirements for personnel operating clinical testing devices.
Regulations under CLIA have established three levels of control based on test
complexity-"waived," "moderate complexity" and "high complexity." The Company
believes that most of its tests as currently formatted will fall into the
"high complexity" category. All laboratories performing tests categorized as
being of high complexity must comply with several CLIA requirements including
proficiency testing, patient test management, quality control practices,
personnel requirements and quality assurance program and inspection
<Page 20>
requirements. These are relatively new requirements for a physician's office,
laboratories and small volume test sites, including work sites. The
regulations may, therefore, dissuade those decentralized testing locations
from initiating or expanding patient testing. There can be no assurance that
the CLIA regulations will not have an adverse impact on the market for the
Company's products.
The Company is or may become subject to various federal, state and local laws,
regulations and recommendations including those relating to safe working
conditions, laboratory and manufacturing practices, including the FDA's Good
Manufacturing Practices, and the use and disposal of hazardous or potentially
hazardous substances, including infectious disease agents and radioactive
compounds, used in connection with the Company's research and development
work. The Company is unable to predict the extent of future government
regulation. Existing or future regulations may have an adverse effect on the
Company's operations, including the cost of complying with regulations or
obtaining requisite permits, delays or fines resulting from loss of permits or
failure to comply with regulations, including those of the foregoing that are
associated with the medical hazards of conducting clinical testing or using
biological samples for testing or development.
Third-Party Reimbursement
Hospitals and other health care providers that purchase products such as those
based upon the Company's technologies for use in furnishing care to their
patients typically rely on third-party payers, principally Medicare, Medicaid
and private health insurance plans, to reimburse all or part of the cost or
fees associated with the diagnostic services and treatments performed with
those products, and of the cost of acquiring those products. In April 1983,
Congress enacted the Social Security Act Amendments of 1983 which mandated a
system of Medicare reimbursement for in-patient hospital services based
primarily upon diagnostic related groups known as "DRGs." Under this system,
health care providers are generally paid only a fixed amount per patient plus
additional amounts for certain specific hospital costs. The amount payable
under DRGs for a particular patient depends on many factors, including the
principal diagnosis of the patient, but it usually does not depend upon the
hospital's actual current cost of treating the patient. The prospective
payment system and other cost control measures adopted by third-party payers
in recent years, including reductions in Medicare payments for hospital
outpatient services and capital costs, have had and may continue to have
significant effect on the purchasing practices of many providers, generally
causing them to be more selective in the purchase of medical devices. The
Company currently anticipates that the cost of certain of its products will
generally exceed the cost of available alternatives, while the cost of other
of its products will be less than costs historically associated with certain
currently available alternatives. There can be no assurance that the cost of
the Company's products will be reimbursed or that future changes in
third-party payer reimbursement practices regarding the procedures performed
with products sold by the Company may adversely affect the Company.
Third-party payers may deny reimbursement in some cases. As a result of,
among other things, the changing health care environment, health care
proposals expected to be introduced into Congress, significant uncertainty
exists as to the reimbursement status of newly approved health care products,
diagnostic services and treatments. Failure by users of the Company's
products to obtain reimbursement from payers together with current and future
changes in third-party payer reimbursement practices regarding the diagnostic
services and treatments performed with such products may adversely affect the
Company's business.
While third-party payers generally make their own decisions regarding which
items and services to cover, Medicaid and other third-party payers often apply
<Page 21>
standards similar to Medicare's in determining whether to provide coverage for
a particular medical procedure. The Medicare statute prohibits payment for
any items or services that are not reasonable and necessary for the diagnosis
or treatment of illness or injury or to improve the functioning of a malformed
body member, and the Health Care Financing Administration ("HCFA"), an agency
within the Department of Health and Human Services responsible foadministering
the Medicare program, has interpreted this provision to prohibit Medicare
coverage of procedures or devices that, among other things, are deemed
unnecessary, inappropriate, not cost-effective, unsafe, ineffective,
experimental or used for a non-approved indication. For medical devices, FDA
clearance for marketing is required but is not determinative of whether those
prerequisites for Medicare coverage have been met. In particular, although
the FDA may grant approval to market the Company's products, the HCFA or
another health care administrator could independently determine not to approve
coverage for the use of such products.
While a limited number of national coverage decisions are made by HCFA, in
general, the determination of whether a procedure satisfies these standards is
made by the Medicare carrier or intermediary which processes claims for
reimbursement within that carrier's or intermediary's jurisdiction. Because
the Company believes that procedures utilizing other related products are
currently covered by Medicare, the Company does not expect to request a
national coverage decision with respect to procedures to be performed using
its products. There can be no assurance, however, that the Medicare carrier
or intermediary will agree with the Company's view. The unavailability of
third-party coverage or inadequacy of third-party reimbursement for services
using the Company's products could adversely affect the Company's ability to
market its products.
The unavailability of third-party coverage or the inadequacy of the
reimbursement for medical procedures using the Company's products would
adversely affect the Company's business, financial condition and results of
operations. In this regard, the Clinton Administration and others have made
proposals to reduce healthcare costs, which may involve reductions in
reimbursement rates. If the reimbursement amounts for diagnostic testing
services are decreased in the future, it may decrease the amount which
physicians, clinical laboratories and hospitals are able to charge patients
for such services and consequently the price the Company can charge for its
products. Moreover, the Company is unable to predict what additional
legislation or regulation, if any, may be enacted or adopted in the future
relating to the Company's business or the health care industry, including
third-party coverage and reimbursement, or what effect any such legislation or
regulation may have on the Company.
In 1994, Congress considered a series of legislative and regulatory proposals
aimed at reforming the U.S. health care system. Although these proposals were
not enacted, Congress may consider new health care reform proposals in the
future. While the Company cannot predict whether any such legislative or
regulatory proposals will be considered or adopted or the effect such
proposals may have on its business, the uncertainty of such proposals could
have a material adverse effect on the Company's ability to raise capital and
to identify and reach agreements with potential partners, and the adoption of
such proposals could have a material adverse effect on the Company.
Furthermore, the Company's ability to commercialize its potential product
portfolio may be adversely affected to the extent that such proposals have a
material adverse effect on the business, financial condition and profitability
of other companies that are current or prospective collaborators for certain
of the Company's proposed products.
<Page 22>
Licenses, Patents, Proprietary Technology and Trade Secrets
The basic research underlying the Company's technology was conducted by Dr.
Bresser and others while at the University of Texas M.D. Anderson Cancer
Center in Houston, Texas. Pursuant to arrangements regarding the funding of
this research, rights to this technology were originally assigned to the
Clayton Foundation for Research ("Clayton"), and were later assigned to the
Research Development Foundation of Carson City, Nevada (the "RDF") and
exclusively licensed to the Company. On August 5, 1994, the Company acquired
Clayton's and RDF's interest in this license and directly acquired ownership
of the licensed technology.
Protection of the Company's proprietary technology is important to the
Company's business, and the success of the Company may depend on its ability
or that of its licensors to establish, protect and enforce patent rights on
its products and processes. The Company's policy is to seek, when appropriate,
protection for its proprietary products and processes by filing patent
applications in the United States and certain foreign countries, and to
encourage or further the efforts of others who have exclusively licensed the
technology to the Company to file such patent applications. It is also the
Company's policy to seek, when appropriate, either an exclusive or
nonexclusive license under the patents of others, so that it can sell the
products or use the processes covered by the claims of those patents of
others.
The proprietary technology of the Company currently includes the U.S. patent
titled "One-Step In Situ Hybridization Assay" that is described below, the
U.S. patent application titled "Manual In Situ Hybridization Assay," which is
based on an application filed in 1988, one additional owned and one licensed
U.S. patents, and a number of additional pending patent applications filed in
the U.S., or under the Patent Cooperation Treaty, or in certain foreign
jurisdictions. Some of the applications are co-owned with others.
The patent applications owned or co-owned by the Company either seek to cover
improvements in reagents and methods of performing an in situ hybridization
process or seek to cover methods of identifying and isolating fetal cells for
prenatal diagnosis by in situ hybridization.
The Company is obligated to pay a royalty on gross revenues derived from
products that utilize the technology embodied in the One Step patent or the
Manual patent application. The Company believes that any royalties will apply
to substantially all of the Company's sales, if any, of products currently
being developed. The royalty consists of 1.25% of gross revenues from
products utilizing the licensed technology until the Company recovers the
costs involved in filing and seeking approval of the One Step and the Manual
patent applications. After recovery of such costs, the royalty increases to
2.5% of gross revenues.
The U.S. patent titled "One Step In Situ Hybridization Assay" was issued in
July 1993. Among its claims is one that recites a method for assaying nucleic
acids in a sample of cells having substantially intact membranes. The claimed
method consists essentially of the steps of contacting the sample with a
medium comprising a fixative agent, a denaturing agent, a hybrid stabilizing
agent, a buffering agent, a membrane pore-forming agent and at least one
nucleic acid probe. The contacting is under hybridizing conditions. The
sample is incubated with the medium in the presence of at least one detectable
label, and duplex formation is detected by means of the label, wherein the
method is capable of detecting as few as one to five copies of a target
nucleic acid per cell. Another claim applies to the foregoing process, in
which the detection is carried out by flow cytometry. The patent also
contains claims for kits.
<Page 23>
In June 1994, the Company obtained an exclusive license (subject to the
licensor's rights to practice the invention) under an issued United States
patent relating to the use of certain compounds to enhance in situ
hybridization technology. The license extends for the life of the patent. In
addition, the Company obtained the right to sue infringes of the patent. In
exchange for the license, the Company paid cash of $50,000 and must pay a
royalty of three percent of its sales in the United States that incorporate
the technology, subject to a minimum annual royalty of amounts increasing
stepwise from $10,000 to $25,000.
In general, the patent position of biotechnology firms is highly uncertain and
involves complex legal, scientific and factual questions. There can be no
assurance that any other patents will be granted with respect to the patent
applications filed by or licensed to the Company. Furthermore, there can be
no assurance that any patents issued or licensed to the Company will provide
commercial benefit to the Company or will not be infringed, invalidated or
circumvented by others. The United States Patent and Trademark Office
currently has a significant backlog of biotechnology patent applications, and
the approval or rejection of patents may take several years. Prior to actual
issuance, the contents of U.S. patent applications are generally not made
public. Once issued, such a patent would constitute prior art from its filing
date, which might predate the date of a patent application on which the
Company relies. Conceivably, the issuance of such a patent, or the discovery
of "prior art" of which the Company is currently unaware, could invalidate a
patent of the Company or its licensor or prevent commercialization of a
product disclosed therein.
The availability of patents in foreign markets, and the nature of any
protection against competition that may be afforded by such patents, is often
difficult to predict, and varies significantly from country to country.
Moreover, the Company or its licensor may choose not to seek, or may for any
of various reasons be unable to obtain, patent protection in a country that
might become an important market for the Company's products or technology.
The Company's products and processes may give rise to claims that they
infringe the patents of others. The Company may not become aware of such
patents until after it has made a substantial investment in the products or
processes. Such other persons, companies or institutions could bring legal
actions against the Company or its commercial partners claiming damages and
seeking an injunction that would prevent them, the Company or its partners
from testing, manufacturing or marketing the affected product or process. If
such action were successful, in addition to potential liability for damages,
the Company or its commercial partners could be required to obtain a license
in order to continue to test, manufacture or market the affected product or
use the affected process. There can be no assurance that any such required
license would be made available or, if available, would be available on
acceptable terms. The Company expects that it might have to expend
substantial resources in litigation, either in enforcing its patents,
defending against the infringement claims of others, or both.
In addition to patent protection, the Company also relies on trade secrets,
proprietary know-how and technological advances which it seeks to protect, in
part, by confidentiality agreements with its collaborators, employees and
consultants. There can be no assurance that these agreements will not be
breached, that the Company would have adequate remedies for any breach or that
the Company's trade secrets and proprietary know-how will not otherwise become
known or be independently discovered by others.
<Page 24>
Product Liability and Insurance
The Company's business may involve the risk of product liability claims. The
testing, marketing, manufacturing or sale of products could expose the Company
to the risk of product liability claims. The Company currently maintains
limited amounts of product liability insurance coverage for its diagnostic
products. There can be no assurance that the Company will be able to continue
to obtain such insurance on reasonable terms or at all. There can be no
assurance that product liability insurance will prove adequate or that a
product liability claim, insured or uninsured, would not have a material
adverse effect on the Company. Even if a product liability claim is not
successful, the time and expense of defending against such a claim may
adversely affect the Company.
Employees of the Company dealing with human blood and tissue specimens may be
exposed to risks of infection from HIV, hepatitis and other blood and
specimen-borne diseases if appropriate laboratory practices are not followed.
There can be no assurance that such infections will not occur in the future or
result in liability to the Company. The Company's research and development
involves the controlled use of hazardous materials and chemicals, and the
Company's prenatal diagnostic test includes reagents that are known
carcinogens. Accidental contamination or injury from these materials could
result in a material adverse effect on the Company. The Company may also
incur substantial costs to comply with environmental regulations.
Employees
The Company had 10 full and part-time employees at March 1, 1997, including
seven laboratory and manufacturing personnel and three employees (two of whom
are part-time employees) in administration and finance. In addition, the
Company's Chief Executive is engaged pursuant to contractual arrangement. The
Company also engaged one temporary person in administration. None of the
Company's employees is represented by a labor union. The Company has
experienced no work stoppages and believes that its relations with its
employees are excellent.
The Company's ability to successfully develop marketable products and to
maintain a competitive position will depend in large part on its ability to
attract and retain highly qualified scientific and management personnel and to
develop and maintain relationships with leading research institutions and
consultants. The Company is highly dependent upon the principal members of
its management, the loss of any of whom could have a material adverse effect
on the Company. See "Directors, Executive Officers, Promoters and Control
Persons; Compliance With Section 16(a) of the Exchange Act."
Forward-Looking Statements
The statements contained in all parts of this document regarding future
business activities, products and product developments, financial performance,
future regulatory approvals, business strategies, market acceptance, business
arrangements, and results and other statements which are not historical facts
are forward-looking statements that involve risks and uncertainties,
including, but not limited to, those relating to: the Company's business
strategy and intended acquisitions of technologies; the intention to contract
with other organizations for the research, development and, if applicable,
registration of product candidates, as well as seeking joint development or
licensing arrangements with pharmaceutical, diagnostic, or instrumentation
companies, the research or development of particular products, compounds or
technologies; the uncertainty of the results of such development activities
and related clinical trials or of required regulatory approvals; and the
<Page 25>
reliance on collaborative partners for development, regulatory or marketing
activities. Many important factors affect the Company's ability to achieve
the stated outcomes and to successfully develop and commercialize its product
candidates or to acquire additional technologies, including, among other
things, the ability to obtain substantial additional funds, obtain and
maintain all necessary patents or licenses, to demonstrate the safety and
efficacy of product candidates at each stage of development, to meet
applicable regulatory standards and receive required regulatory approvals, to
be capable of producing product candidates in commercial quantities at
reasonable costs, to compete successfully against other products and to market
products in a profitable manner. As a result, there also can be no assurance
that the forward looking statements included herein will prove to be accurate.
In light of the significant uncertainties inherent in the forward looking
statements included herein, the inclusion of such information should not be
regarded as a representation by the Company or any other person that the
objectives and plans of the Company will be achieved.
Item 2. Description of Property.
The Company's administrative, marketing, manufacturing and research and
development facilities consist of approximately 12,990 square feet in Houston,
Texas. The Company occupies these premises under a lease agreement expiring
on July 31, 1997. The Company believes that its facilities are adequate for
its manufacturing and research needs and that suitable space will be available
as needed.
Item 3. Legal Proceedings.
The Company from time to time receives notice of or itself asserts that the
employment of individuals by itself or others, respectively, may violate non-
compete or other contractual relationships with employees. Additionally, see
"Description of Business - Licenses, Patents, Proprietary Technology and Trade
Secrets."
In September 1996, a lawsuit styled Roy Fugman, Marilyn Fugman, Lillian O.
Fugman, and The Estate of George Oskvarek v. Aprogenex. Inc., Joel Bresser, J.
Donald Payne and Luis Cantarero was filed in United States District Court for
the Northern District of Illinois. In general, the plaintiffs allege that
their transactions in the Company's stock were made in reliance upon a
stockbroker's recommendations and analyses which, in turn, were allegedly
predicated on misleading or erroneous information provided to the stockbroker
by officers of Aprogenex. The complaint alleges among other things that
officers of the Company made oral statements inconsistent with the Company's
careful and cautious written public disclosures and that the stockbroker was
persuaded by the Company's representatives to disregard warnings in public
disclosures and, instead, to rely on other assurances of Aprogenex personnel.
The plaintiffs in this lawsuit allege that the defendants (the Company and
certain current and former officers and directors) employed devices, schemes
and artifices to defraud; made untrue statements of material fact or omitted
to state material facts necessary in order to make statements made, in light
of the circumstances under which they were made, not misleading; or engaged in
acts or practices in a course of business that operated as a fraud or deceit
upon plaintiff and others similarly situated in connection with their
purchases and sales of Aprogenex stock and that such alleged actions violated
Section 10b of the Securities Exchange Act of 1934 and Rule 10b 5 promulgated
thereunder. The plaintiffs have requested damages, costs of suit and such
other and further relief, at law or in equity, to which they may be entitled
and have alleged aggregate net losses in excess of $175,000. The Company
expects to contest the case vigorously.
<Page 26>
Item 4. Submission of Matters to a Vote of Security-Holders.
No matters were submitted to the stockholders for voting during the three
months ended December 31, 1996.
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
Market for Common Stock. The Company's Common Stock, $.001 par value,
traded on the American Stock Exchange (the "Exchange") under the symbol "APG"
prior to April, 1997. During March, 1997, the Exchange notified the Company
that it intended to remove the Company's Common Stock from trading on the
Exchange. There can be no assurance that the Company's Common Stock will not
be delisted from the Exchange, nor that delisting would not have an adverse
affect on the liquidity of or price of the Company's Common Stock or the
Company's ability to obtain financing.
The following table sets forth, for the periods indicated, the high and low
closing sales prices per share for the Common Stock as reported on the
American Stock Exchange Composite Tape:
<TABLE>
Period High Low
-------- -------- -------
<S> <C> <C>
1995:
First quarter $ 8.625 $ 5.375
Second quarter 7.000 5.563
Third quarter 6.063 3.313
Fourth quarter 3.938 1.500
1996:
First quarter $ 1.6875 $ .875
Second quarter 1.5000 .940
Third quarter 1.3800 .560
Fourth quarter 1.0000 .310
</TABLE>
Daily trading volume of the Common Stock has generally been limited. The
market prices for securities of diagnostic or biotechnology companies have
historically been highly volatile, and recently a number of biotechnology
companies' stock prices have decreased sharply following announcement of
disappointing clinical trials. The trading price of the Common Stock has
experienced considerable fluctuation since the Company's initial public
offering in 1993 and is extremely sensitive to large volume trades.
Announcements of or changes in product development timelines, technological
innovations or new products by the Company or its competitors, developments
concerning proprietary rights, including patents and litigation matters,
publicity regarding actual or potential results with respect to products under
development by the Company or others, regulatory and health care reform
developments in both the United States and foreign countries and public
concern as to the safety of new technologies and other factors, may have a
significant impact on the market price of the Common Stock.
Substantially all of the outstanding Common Stock and any Common Stock
issuable upon conversion of the Series A Preferred Stock and related placement
agent warrants are eligible for sale either as a result of registration or
pursuant to Rule 144 of the Securities Act of 1933 (the "Securities Act").
Additionally, the Common Stock issuable upon conversion of the Convertible
Notes is expected to become eligible for sale through a pending registration
statement. The sale of such shares in the open market by existing stockholders
<Page 27>
under Rule 144 or otherwise or through the exercise of warrants, outstanding
vested options, registration rights or otherwise could adversely affect the
market price of the Common Stock and may have a material adverse effect on the
Company's ability to raise the capital necessary to fund its future
operations.
The Company has also granted registration rights to certain stockholders of
the Company prior to its initial public offering, certain warrant holders, and
the recipient of Common Stock issued in an acquisition. These registration
rights generally require the Company to file one or more registration
statements at its expense upon demand or to include such holders' shares in
any registration statement filed by the Company. Registration of shares under
the Securities Act would result in such shares becoming freely tradable
without the restriction under the Securities Act (except for shares purchased
by affiliates of the Company) immediately upon the effectiveness of such
registration. The Company may grant additional registration rights if it
issues securities in the future.
Number of Stockholders of Record. As of January 31, 1997, there were
approximately 110 record holders of Common Stock. Such number excludes the
number of beneficial owners holding shares in street name.
Dividends. The Company has never paid any cash dividends on the Common
Stock and does not anticipate paying any cash dividends on the Common Stock in
the foreseeable future. The terms of the Series A Preferred Stock, so long as
50% of such shares are outstanding and have not been converted into Common
Stock, prohibit the Company from declaring any dividend on any class of stock
prior to May 26, 1998, or from paying any dividend in which the Series A
Preferred Stock does not participate. Such restrictions may be waived with
the consent of holders of at least two thirds of the outstanding Series A
Preferred Stock.
Additionally, any subsequent preferred stock issued or future borrowing
arrangements may prohibit or restrict dividends paid on the Common Stock.
Transfer Agent. American Securities Transfer, Incorporated and United
Missouri Trust Company of New York serve as the Co-Transfer Agents and Co-
Registrars for the Common Stock.
Item 6. Management's Discussion and Analysis or Plan of
Operations
The Company commenced operations in 1989 to develop diagnostic products using
its proprietary DNA probe technology. Since its inception, the Company has
engaged principally in research and development activities; however, limited
sale of research-use-only products began in 1995.
The following table summarizes certain financial data that should be read in
conjunction with the Company's Financial Statements and related notes thereto
and the discussion in this Item 6. The selected financial data as of
December 31, 1995 and 1996, for each of the years in the three-year period
ended December 31, 1996, and for the period from inception (January 25, 1989)
through December 31, 1996, are derived from financial statements that have
been audited by Arthur Andersen LLP, independent public accountants, whose
report thereon includes an explanatory paragraph that describes the
uncertainty regarding the Company's ability to continue as a going concern as
a result of its financial resources as of December 31, 1996. The selected
financial data as of December 31, 1992, 1993 and 1994, and for the years ended
December 31, 1992 and 1993, are derived from audited financial statements not
included herein.
<Page 28>
<TABLE>
For the
Period From
Inception
(January 25,
For the Year Ended December 31, 1989) Through
----------------------------------------- December 31,
1992 1993 1994 1995 1996 1996
------- ------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
(In Thousands, except Per Share Amounts)
Statement of
Operations Data:
Revenues $ 50 $ -- $ -- $ 39 $ 63 $ 244
Research and
development
expenses (1,721) (1,511) (6,466) (3,497) (1,826) (17,097)
Selling, general
and administrative
expenses (1,527) (1,717) (3,065) (1,926) (1,050) (11,067)
Interest expense (78) (69) (56) (78) (182) (761)
Interest income
and other, net 46 7 185 185 57 673
------- ------- ------- ------- ------- --------
Net loss $(3,230) $(3,290) $(9,402) $(5,277) $(2,938) $(28,008)
======= ======= ======= ======= ======= ========
Net loss per
Common share $ (1.24) $ (.96) $ (1.96) $ (1.04) $ (.57)
Shares used in
computing net loss
per Common share 2,598 3,439 4,795 5,070 5,196
</TABLE>
<TABLE>
For the Year Ended December 31,
-----------------------------------------------------
1992 1993 1994 1995 1996
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Balance Sheet Data: (In Thousands)
Working Capital $ 978 $ 8,621 $ 1,326 $ 711 $ (21)
Total assets $ 2,446 $ 9,591 $ 3,381 $ 2,392 $ 1,154
Capital lease
obligations net
of current portion $ 95 $ 33 $ 381 $ 204 $ --
Convertible Notes $ -- $ -- $ -- $ -- $ 2,069
Redeemable, convertible
Preferred Stock $ 9,381 $ -- $ -- $ -- $ --
Deficit accumulated
during the
development stage $ (7,634) $ (11,324) $ (20,726) $ (26,003) $ (28,941)
Stockholders'
equity (deficit) $ (7,696) $ 9,128 $ 2,199 $ 1,493 $ (1,379)
</TABLE>
Liquidity and Capital Resources
At December 31, 1996, the Company had cash resources of $327,400 available to
it and had net working capital deficit of $21,000.
To date, the Company has financed its operations primarily through private
placements of its equity and debt securities and its initial public offering
<Page 29>
in 1993. The Company has raised approximately $25.7 million in net proceeds
through these transactions, including $4.5 million of such sales consummated
through the conversion of the Company's debt securities into equity.
Additionally, the Company has financed $1.3 million of its approximately $2.6
million of capital expenditures since inception through equipment leases.
The Company has expended and is expected to continue to expend in the future
substantial funds to license or acquire additional technologies or products,
to continue the research and development of its existing products which are in
various stages of development or of new products, conduct clinical
investigations, make capital expenditures, and manufacture and market its
products. Additional amounts will be expended in research activities,
continuing development of products, testing of these existing and other
products in field trials and clinical investigations, seeking regulatory
approval of successfully tested products, and the manufacturing and marketing
of products approved for sale. If regulatory approvals are obtained, the
Company expects to expend substantial funds on marketing and distribution
activities. The amount and timing of anticipated expenditures will depend
upon numerous factors both within and outside the Company's control. Factors
within the Company's control include the number of products under development,
the timing of the commencement of clinical investigations and regulatory
filings, and the extent of pre-marketing or marketing activities. Factors
generally beyond the control of the Company include the results of research
and development activities, the extent of clinical investigations and the
regulatory process to obtain FDA or other approvals of products and
technological advances of, and products developed by, its competitors.
Moreover, even if the Company's activities are successful, the ability to
generate income from the sale of products will be dependent upon, among other
things, acceptance of products by customers, access to distribution channels
for products and the Company's ability to obtain reimbursement approval from
government and third-party payers. The necessity for instrumentation to be
used with the Company's diagnostic products may also affect capital
requirements. See "Description of Business."
In addition to the foregoing, the Company's working capital requirements
during the next 12 months may vary depending upon numerous additional factors,
including the success of the Company's program to license or acquire
additional technologies or products, the progress of the Company's research
and development program, the results of laboratory testing, the time and cost
required to seek regulatory approvals, the need to obtain licenses to
proprietary rights held by others, any required adjustments to the Company's
operating plan to respond to the competitive pressures or technological
advances, the time of pre-marketing and marketing activities, and the success
of the Company in developing collaborative arrangements with others for the
development of its technology.
The Company's cash and marketable securities as of December 31, 1996, are
expected to be used as set forth in "Plan of Operations" below. The Company
anticipates that its resources (including resources obtained through
collaborations through March 1997) will be sufficient to fund its activities
into the second quarter of 1997. The report of the Company's independent
auditors on the financial statements for the year ended December 31, 1996
included an explanatory paragraph with respect to the need for future
financing. The Company expects to seek additional financing in 1997 to fund
its operations during 1997 and into 1998.
The Company will seek to obtain additional funds through equity or debt
financing, collaborative or other arrangements with corporate partners and
others, and from other sources. If additional funds are raised by issuing
equity securities, dilution to stockholders is expected to occur. The Board
of Directors of the Company is empowered, without stockholder approval (other
than in certain cases approvals of the holders of the Series A Convertible
<Page 30>
Preferred Stock), to issue additional shares of Series A Preferred Stock or
other series of preferred stock with dividend, liquidation, conversion, voting
and other rights that could adversely affect the voting power or other rights
of the holders of the Company's securities. If debt securities are issued, a
portion of the Company's cash flow will have to be dedicated to payment of
principal and interest on such indebtedness and the Company may be subject to
certain restrictive financial and operating restrictions in the agreements and
instruments relating to such indebtedness. The Company believes that any
additional financing will require the Company to induce conversion of the
Company's outstanding Series A Preferred Stock and the Convertible Notes into
the Company's Common Stock. Such conversion is expected to be at or below the
then-current market price of the Company's Common Stock and would result in a
substantial increase in the Company's outstanding Common Stock, resulting in
additional dilution to Common stockholders.
There can be no assurance that there will be significant sales of the
Company's products or that such revenues will be sufficient for operations.
In such event, the Company would also be required to seek additional funds.
There can be no assurance that additional financing, whenever required, will
be available when needed or on terms acceptable to the Company. If adequate
funds are not available, the Company may be required to delay or to eliminate
expenditures for certain of its products, to license to third parties the
rights to commercialize additional products or technologies that the Company
would otherwise seek to develop itself or if no other reasonable alternative
is available, to cease operations.
Additionally, depending on market conditions or future business opportunities,
the Company may decide to issue additional equity or debt securities for cash
or to acquire assets or technology of others. The working capital of the
Company may also be used to acquire such assets or technology, reducing the
funds available for alternative use.
The Company from time to time engages in discussions with diagnostic companies
regarding collaborative arrangements for the development and sale of
applications of the Company's technology which, depending upon the terms and
requirements of such arrangements, could expand the Company's research
activities. Such arrangements, if consummated, could significantly reduce the
amount of capital that would be required for the development and
commercialization of certain applications. It is possible, however, that the
net proceeds ultimately derived from any such arrangement could be less than
would be the case if the Company undertook and completed development of such
products itself. There can be no assurance as to the ability of the Company to
consummate any such arrangement, or the terms or timing of any such
arrangement. Additionally, from time to time the Company engages in
exploratory discussions with others regarding mergers, acquisitions, joint
ventures, dispositions and other transactions. There can be no assurance,
however, that any such transaction will be effected by the Company or on what
terms.
The Company's liquidity will be reduced as amounts are expended for continuing
activities. While not currently anticipated, the Company's liquidity could
also be substantially reduced if significant amounts are expended for
additional facilities, equipment or to license or acquire proprietary
technology owned by others or to legally defend its proprietary technology.
Plan of Operations
During the next 12 months, the principal focus of the Company's activities is
currently expected to be (i) the licensing, acquisition and development of
additional technologies, (ii) the development and manufacturing of HIV
products for collaborative partners, (iii) the marketing of DNA probe products
<Page 31>
to other companies for use in their genetics programs, (iv) the development of
other products and enhancements to the Company's technology, and (v) if any of
the foregoing development activities are successful, conducting field trials
for, seeking any required regulatory approvals of, and the marketing of these
products. These planned activities reflect an increased emphasis on the
acquisition and development of new technologies. Such planned activities may
change depending upon business opportunities that present themselves, the
success of development activities, the financial position of the Company and
other matters that may arise in the future.
The Company expects to either renew its lease for its facilities in 1997 or to
move to a new location. Any move would require the construction of new
manufacturing and laboratory facilities. Capital expenditures of other
equipment are not expected to exceed $500,000 during the next 12 months.
However, all such expenditures will vary based on the success of the Company's
efforts, its financial resources, changes in manufacturing, research or
development programs, relocation of its facilities and other factors.
The Company does not believe that it is likely that the sales of its "For
Research Use Only" genetic testing products or HIV collaborations will provide
sufficient commercialization to fund its operations. There can be no
assurance that the Company will ever achieve profitability or that its
products will be marketed successfully or become commercially viable. There
can be no assurance that the Company will not encounter substantial expenses
related to further testing and development, regulatory compliance, production
and marketing problems, and competition or defense of the Company's license
and patent rights.
As of March 1, 1997, the Company employed 10 full and part-time employees and
engaged one contract employee. If the Company is successful in its
development and marketing activities, the number of employees and temporary
personnel will increase. The number of such personnel will depend on the
progress of the Company's efforts and cannot be forecast with certainty.
The foregoing plan of operation includes certain objectives of the Company,
and there can be no assurance that these objectives will be achieved within
the stated period, if at all. Furthermore, this plan of operation is subject
to change based on future events and circumstances, many of which are beyond
the control of the Company.
Results of Operations
The Company's net losses for the years ended December 31, 1994, 1995 and 1996
were $9.4 million $5.3 million, and $2.9 million respectively. The larger
loss in 1994 reflects the $2.7 million expense ($2.4 million of which was a
non-cash charge) related to the acquisitions of technology during 1994. See
Note 9 of "Notes to Financial Statements". The Company expects to incur
substantial operating losses in 1997 as it continues the development and
testing of its products and acquired technologies. The Company expects to
incur additional losses thereafter until such time, if ever, as there is
sufficient commercialization of its products to offset its research and
development activities. As of December 31, 1996, the Company had an
accumulated deficit of $29 million. There can be no assurance that the
Company will be able to achieve or sustain profitability.
The revenues of the Company prior to 1993 consisted of $42,000 in grant
revenues and $100,000 representing advances under a prior "For Research Use
Only" product agreement. The Company had no revenues in 1993 or 1994. During
1995 and 1996, approximately $39,000 and $63,000 in revenues were generated
from the sale of research-use-only genetic testing and HIV products.
<Page 32>
Research and development expenditures have varied with the nature and scope of
the Company's research activities. These amounts include the costs of basic
and product-related research, product development efforts, and costs
associated with field trials. Such amounts in 1994 included $2.7 million
related to the costs of acquiring technology and patent rights which were
expensed as costs of acquired research activities. See Note 9 of "Notes to
Financial Statements." Research and development expenditures during 1995 were
approximately the same as 1994 levels, excluding the effects of technology
acquired in 1994, as the Company continued its development efforts for
genetics products. Such amounts declined in 1996 from $3.5 million to $1.8
million as the Company shifted its research efforts from genetics to HIV
products. The Company previously was engaged in the development of a complete
prenatal genetic testing product using maternal blood, including an enrichment
or cell separation component. During 1996, the Company ceased development
efforts for the cell separation component and began a strategy of
collaboration with others developing such systems. See "Description of
Business - Strategy for Marketing, Manufacturing and Collaborative Partners."
The Company expects the level of research and development expenditures,
exclusive of acquisition costs, during the next twelve months to depend on its
financial resources, the success of its development and testing activities for
certain products, and market acceptance of its products and the need for
product enhancements, and such expenditures may increase as a result of such
activities. Expenses could increase as a result of any additional
acquisitions of intellectual property or other research costs.
The cost of materials sold is currently included in research and development
costs because such materials manufactured are principally used for development
activities. The costs associated with products sold in 1995 and 1996 were
not material.
Selling, general and administrative expenses for 1994 include approximately
$240,000 attributable to certain attempted financing activities. Selling,
general and administrative expenses decreased by $ 1.1 million to $1.9 million
in 1995 as the result of reduced personnel costs as the Company reduced the
number of employees because of delays in its product development activities,
partially offset by financing costs expensed in 1994. Selling, general and
administrative expenses decreased from $1.9 million in 1995 to $1.1 million in
1996 as a result of reductions in personnel costs consistent with the
reduction in research activities.
The Company's selling expenses are included in selling, general and
administrative expenses, but have not been material to date. The Company
currently intends to employ distributors for certain products or market
through collaborative partners, and selling expenses will vary depending upon
the success of this strategy. See "Description of Business - Strategy for
Marketing, Manufacturing and Collaborative Partners."
Interest expense is principally attributable to loans from investors and the
interest portion of capital lease obligations. Interest expense increased
from $56,000 in 1994 to $78,000 in 1995 as a result of the higher capital
equipment borrowings from the new equipment leasing facility entered into in
July, 1994. Interest expense increased to $182,000 in 1996 principally as a
result of interest expense on the Convertible Notes issued in June, 1996.
Interest income and other, net for 1994 and 1995 was $185,000 in each year,
but declined to $57,000 in 1996. This decline is principally the result of a
reduction in the funds available for investment.
As of December 31, 1996, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $24.5 million. These
carryforwards will begin to expire in 2004 if not otherwise used.
<Page 33>
Additionally, the Company has $625,000 of research and development tax credit
carryforwards for tax purposes which expire in varying amounts beginning in
2004. The Company's ability to utilize substantially all of its tax loss and
credit carryforwards is limited by the "change in ownership," as such term is
defined by federal income tax laws and regulations, that occurred upon the
closing of the initial public offering in October 1993. The amount of such
operating loss and/or credit carryforward as of that date that may be utilized
each year to offset future taxable income from operations is limited to
approximately $1.5 million. Any portions of the annual limitation that are
not utilized in a tax year may be carried forward against future taxable
income. As of December 31, 1996, the Company estimates that use of
approximately $2 million of its net operating loss carryforward is subject to
such limitation. Additionally, gains from certain limited categories of
licensing activities that may arise subsequent to October 1993, could also
result in the utilization of additional amounts of the carryforward. Losses
generated subsequent to October 1993, are not limited by the October 1993
change in ownership. However, any future change in ownership, including such
changes that may occur as a result of the Company's 1997 funding activities,
may further restrict or substantially eliminate the ability to utilize tax
carryforwards against future taxable income.
Item 7. Financial Statements.
The information required by this item is incorporated by reference to the
Financial Statements set forth on pages F-1 through F-25 hereof.
Item 8. Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure.
None.
PART III
Item 9. Directors, Executive Officers, Promoters and Control
Persons; Compliance With Section 16(a) of the Exchange Act
Directors and Executive Officers - The following table sets forth
certain information as to the directors, executive officers and other
significant members of management of the Company. Directors of the Company
are elected annually and hold office until their successors have been elected
and qualified or their earlier resignation or removal. All officers of the
Company are elected by the Board of Directors to hold office until the earlier
of their resignation, removal or termination.
<TABLE>
Name Age Position
- ------- --- ----------------------------------------
<S> <C> <C>
David Leech 50 President and Chief Executive Officer and
Director (3)
Peter Carbonaro 38 Vice President - Operations
Dr. Michael Hogan 45 Director (1)
Christopher Kelly 50 Director (1) (2)
J. Donald Payne 41 Director
Terry Ward 48 Director (1) (3)
</TABLE>
(1) Member of the Compensation Committee of the Board of Directors.
(2) Member of the Audit Committee of the Board of Directors.
(3) Member of the Nominating Committee of the Board of Directors.
(4) Mr. Payne also served as Vice President - Finance through February, 1997.
<Page 34>
David Leech. Mr. Leech has been a director of the Company and Acting
President and Chief Executive Officer since April 1996. Mr. Leech is also a
consultant to the Company. See "Executive Compensation." Mr. Leech is the
founder and President of Nestor Consulting, Inc., which provides consulting
services to biopharmaceutical and medical device companies. From February
1992 to September 1995, Mr. Leech was the President and Chief Executive
Officer of Argus Pharmaceuticals, Inc., a biopharmaceutical company. From
1988 to 1992, Mr. Leech was the President and Chief Executive Officer of
Houston Biotechnology Incorporated, which was engaged in the development of
ophthamalic and neurological therapeutics. Prior to 1988, Mr. Leech served in
various senior marketing and management positions with American Cyanamid
Corporation and Sterling Drug Company.
Peter Carbonaro. Mr. Carbonaro has served as the Vice President -
Operations since June 1996, and was previously the Director of Operations of
the Company since April 1994. From March 1988 to April 1994, he served as
Production Manager for Roche Diagnostic Systems, Inc., and served in other
manufacturing capacities with Roche from 1985 to 1988. Mr. Carbonaro received
a BS in Biology from Siena College in 1980 and an MBA from Iona College in
1982.
Dr. Michael E. Hogan. Dr. Hogan has been a director of the Company since
May 1996. Dr. Hogan has been the Professor of Molecular Physiology and
Biophysics, Baylor College of Medicine since 1994 and a Professor at Baylor's
Center for Biotechnology since 1987. Dr. Hogan is the scientific founder of
Triplex Pharmaceutical Corporation and currently serves on the Scientific
Advisory Board of Aronex Pharmaceuticals, Inc., Lark Sequencing Technologies
and Genometrix Corporation. From 1981 to 1987, Dr. Hogan was an Assistant
Professor at Princeton University. In addition to 75 publications in the area
of nucleic acid structure and biophysics, Dr. Hogan currently has 23 pending
and issued patent applications for oligonucleotide therapeutics and nucleic
acid based diagnostics.
Christopher T. Kelly. Mr. Kelly has been a director of the Company since
May 1996. In September 1993, Mr. Kelly co-founded Spectral Pharmaceuticals,
Inc., formed to identify, develop and commercialize diagnostic imaging agents,
and has served as President and Chief Executive Officer of that company since
March 1994. From March 1992 to August 1993, Mr. Kelly was the Vice President
Commercial Development of Triplex Pharmaceutical Corporation. From March 1986
to March 1992, Mr. Kelly held senior strategic planning and business
development positions at Sterling Drug, Inc., serving as Vice President
Business Development, Consumer Health Products from November 1989 to March
1992. Mr. Kelly previously held senior marketing positions with Boehringer
Mannheim Diagnostics, CooperBiomedical, Inc., and Hoffmann-LaRoche Inc.
J. Donald Payne. Mr. Payne has been a Director of the Company since
September 1995. He served as Vice President-Finance and Chief Financial
Officer of the Company from May 1992 until February 1997. Mr. Payne also
served as Secretary from March 1993 to February 1997. From 1984 to May 1989,
he served as Vice President and Chief Financial Officer of Entex Energy
Development, Ltd. He held the same positions with the Energy Resource Group of
Entex, Inc. and its successor entities from 1981 through 1990. Mr. Payne is a
Certified Public Accountant and received a BBA from Texas A&M University and
an MBA from Rice University.
Terry Ward. Mr. Ward has been a director of the Company since March 1994.
Mr. Ward has been the Chief Financial Officer of W.S. Farish & Company since
1979. He is also a director for W.S. Farish & Company, a private trust
company engaged in investments, venture capital and other activities. Mr.
Ward has been a director of the ForeFront Group, Inc. since October 1993, and
a director of Meretek Diagnostics, Inc. since February 1994. In November
<Page 35>
1996, Mr Ward was elected to the board of California Microwave, Inc. Mr. Ward
received his BA in Economics from Rice University in 1971. He graduated cum
laude and is a member of Phi Beta Kappa. Mr. Ward is a Certified Public
Accountant.
Compliance With Section 16(a) of the Securities Exchange Act -
Under Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), directors, certain officers and beneficial owners of 10% or
more of the Company's Common Stock are required from time to time to file with
the Securities and Exchange Commission (the "Commission") reports on Forms 3,
4 or 5 relating principally to transactions in the Company's securities by
such person. Based solely upon a review of Forms 3, 4 and 5 submitted to the
Company during and with respect to 1996, the Company believes that all of the
directors and executive officers of the Company have timely filed their
respective Forms 3, 4 or 5 required by Section 16 (a) of the Exchange Act,
during 1996.
Item 10. Executive Compensation.
Summary Compensation Table - The following table contains information
regarding compensation for services in all capacities to the Company for 1994,
1995 and 1996 of those persons who were at December 31, 1996, the executive
officers of the Company.
Summary Compensation Table
Summary Compensation Table
<TABLE>
Long-Term
Compensation
Annual Compensation Award
--------------------- -----------
Name and Other Securities All Other
Principal Annual Underlying Compensation
Position Year Salary Compensation Options (1)
--------- ---- ------ ------------ ----------- ------------
<S> <C> <C> <C> <C> <C>
David Leech
President/CEO (2) 1996 $ -- $90,000(2) -- --
Peter Carbonaro 1996 $ 94,500 -- 104,000(3) $4,320
Vice President- 1995 $ 94,500 -- 21,000(4) $4,214
Operations 1994 $ 60,577 -- 15,000 $2,746
J. Donald Payne 1996 $ 99,000 -- 40,000 $4,320
Vice President- 1995 $ 99,000 -- 40,000(4) $4,214
Finance 1994 $ 97,615 -- -- $4,200
</TABLE>
(1) Consists of the Company's contributions to the respective officers'
accounts under the Company's "cafeteria plan" within the meaning of
Section 125 of the Internal Revenue Code of 1986, as amended.
(2) David Leech joined the Company in April 1996 pursuant to a consulting
arrangement. Such amounts represent payments as a consultant.
(3) During 1996, options previously granted to Mr. Carbonaro during 1994 and
1995 were repriced and an option granted during 1996 was amended. The
amounts set forth include both the original grant and the repriced or
amended option as if it were a separate grant.
(4) During 1995, options previously granted to Mr. Carbonaro during 1994 and
earlier in 1995 and to Mr. Payne earlier in 1995 were repriced. The
amounts set forth include both the original grant and the repriced option
<Page 36>
as if it were a separate grant.
On April 3, 1996, the Board of Directors elected David Leech to the Board of
Directors and approved a consulting arrangement with Mr. Leech wherein he
would also assume the duties of Acting President and Chief Executive Officer
of the Company. The consulting agreement with Mr. Leech had a six month term
commencing April 1, 1996 and is currently being extended on a month to month
basis. Either the Company or Mr. Leech may terminate the arrangement upon
thirty days notice to the other party. The agreement provides for a
consulting fee of $10,000 per month and a performance bonus of up to a maximum
of $250,000 if certain corporate objectives are achieved.
Option Grants Table - The following table contains information regarding
stock options granted during 1996 to those persons who were at December 31,
1996, the executive officers of the Company.
Options Granted During 1996
<TABLE>
Percent of Total
Options Options Granted Exercise Expiration
Name Granted To Employees in 1996 Price Date
- ----------- --------- -------------------- ---------- ----------
<S> <C> <C> <C> <C>
Peter Carbonaro 34,000(1) 14.2% $ 1.500 03/22/06
70,000(2) 29.2% $ 1.500 08/05/06
J. Donald Payne 40,000(3) 16.7% $ 1.500 03/22/06
</TABLE>
(1) Exercisable based on certain performance milestones. The vesting
provision of such option was amended during 1996. See Note (2).
(2) Represents an amendment of options previously granted, including the
34,000 granted in Note (1). Exercisable ratably over a 24 month period.
(3) Exercisable based on certain performance milestones. As of December 31,
1996, 50% of such option had been forfeited.
On August 5, 1996, the Compensation Committee of the Board of Directors
amended the terms of options previously issued to Peter Carbonaro. The
options amended had previous exercise prices of $1.50 for 34,000 shares,
$3.375 for 10,000 shares and $4.00 for 26,000 shares. The amendment combined
the options into one option with an exercise price of $1.50 and amended the
vesting provisions to provide that the option will vest ratably over a 24
month period. In making the decision to reprice the options, the Committee
considered various factors. The decline in the trading price of the Company's
Common Stock in 1995 and 1996 resulted in stock options granted to Mr.
Carbonaro having exercise prices substantially above the recent trading price.
The Committee believes that stock options represents a substantial part of the
compensation package for Mr. Carbonaro, and that the retention of employees,
particularly given the current financial condition of the Company, is heavily
influenced by the potential for gain from stock option grants. The Committee
believes that the Company's success will depend in a large part upon the
ability to retain its key employees, that the competition for such employees
is intense, and that the loss of key employees could have an adverse impact
upon the Company. The Committee concluded that it was cost-effective to
reprice certain options to a price closer to current trading prices, and that
such action would provide a greater incentive for the retention of key
employees and thereby avoid costs associated with the potential recruitment of
replacements. Rather than grant new options, the Committee determined that it
was in the best interests of the Company to reprice existing option grants.
The Committee set the new exercise price of the repriced options at $1.50 per
share, which was above the closing market price of $1.00 on the date of the
repricing. This higher price was established after review of the trading
<Page 37>
history of the Company's stock prior to August 1996, which was when the
Committee first began to consider such repricing.
Option Exercises and Year-End Values Table - The table set forth
below contains information with respect to (i) the unexercised options to
purchase Common Stock granted in 1996 and prior years under the Company's 1990
Stock Option Plan to the executive officers named in the Summary Compensation
Table and held by them at December 31, 1996, (ii) the aggregate number of
shares acquired by such executive officers upon the exercise during 1996 of
options to purchase Common Stock and (iii) the value of unexercised in-the-
money options at December 31, 1996.
<Page 38>
<TABLE>
Aggregated Option Exercises in Last Fiscal Year
and Fiscal Year-End Option Values
Number of
Securities Underlying Value of Unexercised
Unexercised Options at In-the-Money Options at
Shares December 31, 1996 December 31, 1996 (1)
Acquired on Value -------------------------- --------------------------
Name Exercise Realized Exercisable Unexercisable Exercisable Unexercisable
- ----------- ----------- -------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
David Leech -- -- -- -- -- --
Peter
Carbonaro -- -- 5,833 64,167 -- --
J. Donald
Payne -- -- 47,594 22,000 -- --
(1) Based on the closing price of the Common Stock on the American Stock Exchange on
December 31, 1996 ($.50).
</TABLE>
<Page 39>
Compensation of Directors - In June, 1994, the Company established the
Directors' Stock Option Plan for non-employee members of the Board of
Directors, and amended the plan in June, 1996. The plan currently provides
for the grant of an option to acquire 10,000 shares of Common Stock to each
non-employee director upon their initial selection or appointment. The
exercise price of the option is the closing market price of the Company's
Common Stock on the date of grant, and the option is exercisable in annual
increments on the first and second anniversary of the date of grant, unless
previously forfeited as a result of termination of service as a director. The
option expires five years from the date of grant. During 1996, options to
acquire 60,000 shares of Common Stock were issued pursuant to these
provisions, with exercise prices ranging from $1.00 to $1.19 per share.
Additionally, under previous provisions of the Plan, options to acquire 28,000
shares at an exercise price of $7.375, 18,400 shares at an exercise price of
$1.75, and 800 shares at an exercise price of $.563 were issued to directors
for services rendered in 1994, 1995, and 1996, respectively. These options
are fully vested and expire five years from the date of grant.
Directors who are not also executive officers are not eligible to participate
in any other benefit plan of the Company. The Company will also pay ordinary
and necessary out-of-pocket expenses for nonmanagement directors to attend
Board and committee meetings.
Item 11. Security Ownership of Certain Beneficial Owners and
Management.
Common Stock. The following table sets forth information regarding the
beneficial ownership of shares of Common Stock as of December 31, 1996, for
(i) each person known by the Company to be the beneficial owner of more than
5% of the Common Stock, (ii) each current director of the Company, (iii) each
of the current executive officers of the Company and (iv) all executive
officers and directors of the Company as a group. See "Certain Relationships
and Certain Transactions." Except as otherwise indicated, the persons named
below have sole investment and voting power with respect to the shares of
Common Stock shown as beneficially owned by them. The business address of
each director and officer is c/o Aprogenex, Inc., 8000 El Rio Street, Houston,
Texas 77054.
<TABLE>
Number Percent of
of Common
Common Stock
Name and Address of Beneficial Owner Shares Owned
- ------------------------------------ -------- -----------
<S> <C> <C>
WestMed Venture Partners, L.P. (1) 703,300 12.9
Oppenheimer Tower
World Financial Center
New York, New York 10281
The Genesis Fund, Ltd (2) 360,968 6.9
c/o Acorn Ventures
520 Post Oak Blvd., Suite 130
Houston, Texas 77027
W.S. Farish & Company (3)
1100 Louisiana Street, Suite 1200
Houston, Texas 77002 1,696,889 26.1
William S. Farish (4) 1,805,670 27.7
Dr. Joel Bresser 308,917 5.9
Dr. Michael Hogan -- --
Christopher Kelly 4,000 .1
David Leech -- --
Peter Carbonaro (5) 17,233 .3
J. Donald Payne (6) 67,856 1.3
Terry Ward (7) 1,800,475 27.6
All current executive officers and directors
as a group (6 persons) (8) 1,897,102 28.9
</TABLE>
<Page 40>
(1) Includes 34,450 shares issuable upon exercise of warrants exercisable
within 60 days of December 31, 1996 and 192,111 shares issuable upon
conversion of Convertible Notes and accrued interest as of December 31,
1996.
(2) Includes 2,408 shares issuable upon exercise of warrants exercisable
within 60 days of December 31, 1996.
(3) Includes 141,882 shares issuable upon exercise of warrants exercisable
within 60 days of December 31, 1996 and 1,123,852 shares issuable upon
conversion of Convertible Notes and accrued interest as of December 31,
1996.
(4) Includes 5,784 shares issuable upon exercise of warrants exercisable
within 60 days of December 31, 1996 and 96,056 shares issuable upon
conversion of Convertible Notes and accrued interest as of December 31,
1996. Mr. Farish is a director of W.S. Farish & Company, and therefore
may be deemed the beneficial owner of the 1,696,889 shares beneficially
owned by W.S. Farish & Company. Mr. Farish disclaims beneficial
ownership of such shares.
(5) Includes 5,833 shares issuable upon exercise of options exercisable
within 60 days of December 31, 1996.
(6) Includes 47,594 shares issuable upon exercise of options exercisable
within 60 days of December 31, 1996.
(7) Includes 19,382 shares issuable upon exercise of options and warrants
exercisable within 60 days of December 31, 1996 and 67,239 shares
issuable upon conversion of Convertible Notes and accrued interest as of
December 31, 1996. Mr. Ward is the Chief Financial Officer and a
director of W.S. Farish & Company, and therefore may be deemed the
beneficial owner of the 1,696,889 shares beneficially owned by W.S.
Farish & Company. Mr. Ward disclaims beneficial ownership of such
shares.
(8) Includes 214,691 shares issuable upon exercise of options and warrants
exercisable within 60 days of December 31, 1996 and 1,191,091 shares
issuable upon conversion of Convertible Notes and accrued interest as of
December 31, 1996.
<Page 41>
Series A Convertible Preferred Stock. The following table sets forth
information regarding the beneficial ownership of shares of Series A
Convertible Preferred Stock as of December 31, 1996, for (i) each person known
by the Company to be the beneficial owner of more than 5% of the Series A
Convertible Preferred Stock, (ii) each current director of the Company, (iii)
each of the current executive officers of the Company and (iv) all executive
officers and directors of the Company as a group. Except as otherwise
indicated, the persons named below have sole investment and voting power with
respect to the shares of Series A Convertible Preferred Stock shown as
beneficially owned by them.
<TABLE>
Number of Percent of
Series A Series A
Convertible Convertible Preferred
Name of Beneficial Owner Preferred Shares Stock Owned
- ------------------------ ---------------- ---------------------
<S> <C> <C>
Hugh Virgil Sherill 25,000 5.4%
M.D. Sabbah 40,000 8.7%
Keys Foundation 50,000 10.9%
South Ferry #2, L.P. 25,000 5.4%
All current executive officers
and directors as a group -- --
</TABLE>
Item 12. Certain Relationships and Certain Transactions.
In December, 1993, the Company engaged a director of the Company, Wayne
Fritzsche, to assist it in establishing collaborative arrangements for the
commercialization of infectious disease applications for the Company's
technology. Mr. Fritzsche was granted a vested three-year option to acquire
8,600 shares of Common Stock at $8.75 per share and received a monthly
retainer of $7,500 commencing in January, 1994. This retainer was to be
recouped from any future incentive payments to Mr. Fritzsche, which consist of
a varying percentage (ranging from 5% of the first $1 million to 1% of amounts
over $5 million) of cash proceeds to the Company from these collaborative
activities. During April, 1994, the Company terminated this relationship, but
the Company continues to be obligated for the future incentive payments if the
Company consummates a transaction with certain entities contacted by
Mr. Fritzsche. Mr. Fritzsche was paid $31,321 under this agreement, including
$1,321 of expenses.
The Company is a party to an Amended and Restated Stockholders' Agreement
dated June 8, 1993 (the "Stockholders' Agreement"), as amended, with certain
holders of Common Stock and certain holders of the Company's warrants. The
Stockholders' Agreement also provides for certain registration rights.
Item 13. Exhibits and Reports on Form 8-K.
(a) Exhibits:
Exhibits incorporated by reference to a prior filing are designated by an
asterisk (*).
Exhibit
Number Description
3.1* Amended and Restated Certificate of Incorporation of the Company.
(Incorporated by reference from Exhibit 3.1 to the Company's Registration
Statement on Form SB-2, Reg. No. 33-66586-FW, declared effective October 15,
1993).
<Page 42>
3.2* Certificate of Amendment of Amended and Restated Certificate of
Incorporation effective as of June 10, 1994. (Incorporated by reference from
Exhibit 3.1 to the Company's Form 10-QSB dated as of June 30, 1994).
3.3* Certificate of Designations of Series A Convertible Preferred Stock
(Incorporated by reference from Exhibit 4.4 to the Company's Registration
Statement on Form S-3, Reg. No. 33-95014, filed on July 26, 1995).
3.4* Bylaws of the Company (Incorporated by reference from Exhibit 4.3 to
the Company's Registration Statement on Form S-3, Reg. No. 33-95014, filed on
July 26, 1995)..
4.1* Form of Certificate of Common Stock. (Incorporated by reference
from Exhibit 4.1 to the Company's Registration Statement on Form SB-2, Reg.
No. 33-66586-FW, declared effective October 15, 1993.)
4.2* Form of Certificate of Series A Convertible Preferred Stock
(Incorporated by reference from Exhibit 4.6 to the Company's Registration
Statement on Form S-3, Reg. No. 33-95014, filed on July 26, 1995).
4.3* Amended and Restated Stockholders' Agreement dated June 8, 1993
among the Company and the securityholders listed therein. (Incorporated by
reference from Exhibit 4.2 to the Company's Registration Statement on Form
SB-2, Reg. No. 33-66586-FW, declared effective October 15, 1993.)
4.4* Amendment No. 1 to Amended and Restated Stockholders' Agreement,
dated as of April 29, 1994. (Incorporated by reference from Exhibit 4.1 to
the Company's Form 8-K dated as of August 5, 1994)
4.5* Registration Rights Agreement dated April 21, 1994 between MediGene,
Inc. and Aprogenex, Inc. (Incorporated by reference from Exhibit 4.1 to the
Company's Form 8-K dated as of April 21, 1994)
4.6* Warrant to Purchase Shares of Series B Preferred Stock of the
Company dated March 27, 1990. (Incorporated by reference from Exhibit 4.3 to
the Company's Registration Statement on Form SB-2, Reg. No. 33-66586- FW,
declared effective October 15, 1993.)
4.7* Warrant to Purchase Shares of Series B Preferred Stock of the
Company dated July 10, 1992. (Incorporated by reference from Exhibit 4.4 to
the Company's Registration Statement on Form SB-2, Reg. No. 33-66586- FW,
declared effective October 15, 1993.)
4.8* Warrant Agreement (including a form of warrant to purchase shares of
Common Stock) between the Company and H.J. Meyers & Co., Inc. dated October
22, 1993. (Incorporated by reference from Exhibit 4.5 to the Company's Form
10-KSB for the fiscal year ended December 31, 1993)
4.9* Warrant Agreement (including a form of warrant to purchase shares of
Common Stock) dated as of May 17, 1993. (Incorporated by reference from
Exhibit 4.6 to the Company's Registration Statement on Form SB-2, Reg. No.
33-66586-FW, declared effective October 15, 1993.)
4.10* Warrant Agreement dated April 21, 1994 between MediGene, Inc. and
Aprogenex, Inc. (Incorporated by reference from Exhibit 4.2 to the Company's
Form 8-K dated as of April 21, 1994).
4.11* Warrant to purchase Common Stock issued to MMC/GATX Partnership No.
1 (Incorporated by reference from Exhibit 4.4 to the Company's Form 10- QSB
dated as of June 30, 1994).
<Page 43>
4.12* Form of Premium Preferred Stock-Subscription Agreement for U.S.
investors (Incorporated by reference from Exhibit 4.7 to the Company's
Registration Statement on Form S-3, Reg. No. 33-95014, filed on July 26,
1995).
4.13* Form of Premium Preferred Stock-Subscription Agreement for non-
U.S. investors (Incorporated by reference from Exhibit 4.8 to the Company's
Registration Statement on Form S-3, Reg. No. 33-95014, filed on July 26,
1995).
4.14* Form of Warrant for Purchase of Shares Series A Convertible
Preferred Stock (Incorporated by reference from Exhibit 4.9 to the Company's
Registration Statement on Form S-3, Reg. No. 33-95014, filed on July 26,
1995).
4.15* Form of Common Stock Subscription Agreement (Incorporated by
reference from Exhibit 4.5 to the Company's Registration Statement on Form S-
3, Reg. No. 33-92780, filed on May 26, 1995).
4.16* Form of Common Stock Warrant Agreement (Incorporated by reference
from Exhibit 4.6 to the Company's Registration Statement on Form S-3, Reg.
No. 33-92780, filed on May 26, 1995).
4.17(a)* Convertible Note Subscription Agreement dated as of May 1, 1996
among Aprogenex, Inc. and the various purchasers (Incorporated by reference
from Exhibit 4.2(a)* to the Company's Form 10-QSB dated as of June 30, 1996).
4.17(b)* Form of Convertible Note dated as of June 12, 1996 (Incorporated by
reference from Exhibit 4.2(b)* to the Company's Form 10-QSB dated as of June
30, 1996).
4.18* Warrant Agreement dated as of May 1, 1996 among Aprogenex, Inc. and
the various warrantholders (Incorporated by reference from Exhibit 4.3* to the
Company's Form 10-QSB dated as of June 30, 1996).
10.1(a)* License Agreement dated January 25, 1989 between the Clayton
Foundation for Research and the Company. (Incorporated by reference from
Exhibit 10.1(a) to the Company's Registration Statement on Form SB-2, Reg. No.
33-66586-FW, declared effective October 15, 1993.)
10.1(b)* Amendment to License Agreement dated July 31, 1989 between the
Clayton Foundation for Research and the Company. (Incorporated by reference
from Exhibit 10.1(b) to the Company's Registration Statement on Form SB-2,
Reg. No. 33-66586-FW, declared effective October 15, 1993.)
10.1(c)* Royalty Waiver Agreement dated January 25, 1989 between the Clayton
Foundation for Research and Dr. Joel Bresser. (Incorporated by reference from
Exhibit 10.1(c) to the Company's Registration Statement on Form SB-2, Reg. No.
33-66586-FW, declared effective October 15, 1993.)
10.1(d)* Settlement and Release Agreement dated as of August 4, 1989 among
M.D. Anderson Cancer Center, the Clayton Foundation for Research, Research
Development Foundation, the Company, Dr. Joel Bresser and Dr. Mary Jean
Evinger-Hodges. (Incorporated by reference from Exhibit 10.1(d) to the
Company's Registration Statement on Form SB-2, Reg. No. 33-66586-FW, declared
effective October 15, 1993.)
10.1(e)* Assignment dated as of August 4, 1989 from Dr. Joel Bresser to the
Board of Regents of the University of Texas System. (Incorporated by
reference from Exhibit 10.1(e) to the Company's Registration Statement on Form
SB-2, Reg. No. 33-66586-FW, declared effective October 15, 1993.)
<Page 44>
10.1(f)* Assignment dated as of August 4, 1989 from Dr. Mary Jean Evinger-
Hodges to the Board of Regents of the University of Texas System.
(Incorporated by reference from Exhibit 10.1(f) to the Company's Registration
Statement on Form SB-2, Reg. No. 33-66586-FW, declared effective October 15,
1993.)
10.1(g)* Assignment dated as of September 6, 1989 from the Board of Regents
of the University of Texas System, on behalf of M.D. Anderson Cancer Center to
the Clayton Foundation for Research. (Incorporated by reference from Exhibit
10.1(g) to the Company's Registration Statement on Form SB-2, Reg. No. 33-
66586-FW, declared effective October 15, 1993.)
10.1(h)* Technology Acquisition Agreement, dated as of July 1, 1994, among
Aprogenex, Inc., Clayton Foundation for Research and Research Development
Foundation. (Incorporated by reference from Exhibit 2.1 to the Company's Form
8-K dated as of August 5, 1994).
10.1(i)* Consent, Release and Indemnity Agreement, dated as of July 1, 1994,
among Aprogenex, Inc., Clayton Foundation for Research, Research Development
Foundation and University of Texas, M.D. Anderson Cancer Center.
(Incorporated by reference from Exhibit 2.2 to the Company's Form 8-K dated as
of August 5, 1994).
10.2(a)* Lease Agreement dated October 9, 1989 between Plaza del Oro Business
Center and the Company, as amended effective May 28, 1993. (Incorporated by
reference from Exhibit 10.3 to the Company's Registration Statement on Form
SB-2, Reg. No. 33-66586-FW, declared effective October 15, 1993.)
10.2(b)* Second Amendment, effective February 14, 1994, to Lease Agreement
dated October 9, 1989 between Plaza del Oro Business Center and the Company.
(Incorporated by reference from Exhibit 10.2 (b) to the Company's Form 10-KSB
dated as of December 31, 1994).
10.2(c) Third Amendment, effective December 31, 1996, to Lease Agreement
dated October 9, 1989 between Plaza del Oro Business Center and the Company.
10.3* Master Equipment Lease Agreement dated as of June 30, 1994, between
MMC/GATX Partnership No. 1 and the Company. (Incorporated by reference from
Exhibit 10.2 to the Company's Form 10-QSB dated as of June 30, 1994).
10.4* 1990 Stock Option Plan of the Company. (Incorporated by reference
from Exhibit 4.6 to the Company's Registration Statement on Form S-8, Reg. No.
33-94286 as filed on July 3, 1995.)
10.5* Form of Nonstatutory Stock Option Agreement pursuant to the 1990
Stock Option Plan of the Company. (Incorporated by reference from Exhibit 10.6
to the Company's Registration Statement on Form SB-2, Reg. No. 33-66586-FW,
declared effective October 15, 1993.)
10.6* Form of Incentive Stock Option Agreement pursuant to the 1990 Stock
Option Plan of the Company. (Incorporated by reference from Exhibit 10.7 to
the Company's Registration Statement on Form SB-2, Reg. No. 33-66586-FW,
declared effective October 15, 1993.)
10.7* Director Stock Option Plan of the Company, as amended and restated
on July 12, 1996. (Incorporated by reference from Exhibit 4.8* to the
Company's Registration Statement on Form S-8, Reg. No. 33-94258 as filed on
July 3, 1995.)
10.8* Key Management Proprietary Information and Inventions and
Noncompetition Agreement dated January 19, 1989 between Dr. Joel Bresser and
the Company. (Incorporated by reference from Exhibit 10.8 to the Company's
<Page 45>
Registration Statement on Form SB-2, Reg. No. 33-66586-FW, declared effective
October 15, 1993.)
10.9* Terms of Consulting Agreement with David Leech (Incorporated by
reference from Exhibit 10.1 to the Company's Form 8-K dated as of April 1,
1996).
23.1 Consent of Independent Public Accountants
27 Financial Data Schedule
(b) Reports on Form 8-K
None
<Page 46>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Aprogenex, Inc.:
We have audited the accompanying balance sheets of Aprogenex, Inc. (a Delaware
corporation in the development stage), as of December 31, 1995 and 1996, and
the related statements of operations, preferred stock and stockholders' equity
(deficit) and cash flows for the years ended December 31, 1994, 1995 and 1996,
and for the period from inception (January 25, 1989) through December 31,
1996. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits 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 audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Aprogenex, Inc. as of
December 31, 1995 and 1996, and the results of its operations and its cash
flows for the years ended December 31, 1994, 1995 and 1996, and for the period
from inception (January 25, 1989) through December 31, 1996 in conformity with
generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 1 to the
financial statements, the Company has operated as a development stage
enterprise since its inception by devoting substantially all of its efforts to
raising capital, performing research and development, developing a business
structure and developing markets for its products. Consequently, as shown in
the accompanying financial statements, the Company has not realized
significant revenues, has a cumulative loss of $28 million since its inception
and has limited cash resources which are expected to be adequate to fund
operations into March, 1997, all of which raises substantial doubt about its
ability to continue as a going concern. Accordingly, the Company's continued
existence is dependent upon its ability to obtain additional working capital
to complete the research and development and other activities and to attain
successful future operations. The financial statements do not include any
adjustments relating to the recoverability and classification of asset
carrying amounts, including furniture, equipment and leasehold improvements,
or the amount and classification of liabilities that might result should the
Company be unable to continue as a going concern.
ARTHUR ANDERSEN LLP
Houston, Texas
February 5, 1997
F-1
<Page 47>
Aprogenex
(A Delaware Corporation in the Development Stage)
Balance Sheets
<TABLE>
December 31, December 31,
1995 1996
ASSETS ----------- -----------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 1,301,934 $ 327,400
Accounts receivable and prepaid expenses 103,412 115,655
----------- -----------
Total current assets 1,405,346 443,055
Property and equipment, net 956,034 614,279
Debt issuance costs and other, net 30,574 96,632
----------- -----------
$ 2,391,954 $ 1,153,966
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $ 273,361 $ 111,626
Accrued liabilities 244,491 166,583
Current portion of capital lease obligations 176,962 185,742
---------- ----------
Total current liabilities 694,814 463,951
Capital lease obligations, net of current portion 203,905 ---
Convertible Notes Payable, net of discount,
including accrued interest of $114,000 -- 2,069,126
Commitments and contingencies
Stockholders' equity (deficit)
Undesignated Preferred Stock, 10,320,000 shares
authorized, none issued -- --
Series A Convertible Preferred Stock, $.001
par value; 880,000 shares authorized; 459,000
and 444,000 shares issued and outstanding,
respectively; liquidation preference of
$13 per share (aggregating to $5,967,000
and $5,772,000, respectively) 459 444
Common Stock, $.001 par value; 20,000,000 shares
authorized; 5,156,345 and 5,225,498 shares
issued and outstanding, respectively 5,156 5,226
Additional paid-in capital 27,311,550 27,312,410
Deficit accumulated during the
development stage (26,002,816) (28,941,077)
Warrants to purchase Common and Preferred Stock 178,886 243,886
----------- -----------
Total stockholders' equity (deficit) 1,493,235 (1,379,111)
----------- -----------
$ 2,391,954 $ 1,153,966
=========== ===========
The accompanying notes are an integral part of these financial statements.
</TABLE>
F-2
<Page 48>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Operations
<TABLE>
For the
Period From
Inception
(January 25,
For the Year Ended December 31, 1989)Through
------------------------------ December 31,
1994 1995 1996 1996
----------- ----------- ------------ ------------
<S> <C> <C> <C> <C>
Revenues:
Sales $ -- $ 38,644 $ 63,115 $ 101,759
Other revenues -- -- -- 142,085
----------- ----------- ----------- ------------
Total revenues -- 38,644 63,115 243,844
----------- ----------- ----------- ------------
Costs and expenses:
Research and
development 6,466,112 3,496,538 1,825,571 17,096,754
Selling, general and
administrative 3,065,216 1,925,742 1,049,971 11,067,343
----------- ----------- ------------ ------------
Total costs
and expenses 9,531,328 5,422,280 2,875,542 28,164,097
----------- ----------- ------------ ------------
Loss before interest
and other (9,531,328) (5,383,636) (2,812,427) (27,920,253)
----------- ----------- ------------ ------------
Interest expense (55,920) (78,244) (182,336) (761,426)
Interest income
and other, net 185,193 185,094 56,502 673,257
----------- ----------- ------------ ------------
Net loss $(9,402,055) $(5,276,786) $ (2,938,261) $(28,008,422)
=========== =========== ============ ============
Net loss per
Common share $ (1.96) $ (1.04) $ (.57)
=========== =========== ============
Shares used in
computing net loss
per Common share 4,794,917 5,070,493 5,195,562
=========== =========== ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<Page 49>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Preferred Stock and Stockholders' Equity (Deficit) for the
Period from Inception (January 25, 1989) Through December 31, 1996
<TABLE>
Redeemable Convertible
Preferred Stock Common Stock Additional
-------------------------- -------------------------- Paid-in
Shares Amount Shares Amount Capital
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance at Inception
(January 25, 1989) -- $ -- -- $ -- $ --
Issuance of Common Stock on January
19, 1989, for the right, title
and interest in certain
proprietary technology and a
promissory note, recorded at
$.144 per share -- -- 347,101 347 49,653
Issuance of Redeemable, Convertible
Preferred Stock on January 25,
1989, net cash proceeds
of $.43 per share 1,000,000 428,275 -- -- --
Issuance of Common Stock for cash,
recorded at $.144 per share -- -- 34,710 35 4,965
Accretion of Preferred Stock -- 44,878 -- -- (44,878)
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1989 1,000,000 473,153 381,811 382 9,740
Issuance of Redeemable, Convertible
Preferred Stock, net cash
proceeds of $1.00 per share 2,094,518 2,094,518 -- -- --
Issuance of Common Stock warrants
for consulting services -- -- -- -- --
Purchase of treasury stock, 34,710
shares of Common Stock at
$.18 per share -- -- -- -- --
Accretion of Preferred Stock -- 144,880 -- -- (9,740)
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1990 3,094,518 2,712,551 381,811 382 --
Issuance of Redeemable, Convertible
Preferred Stock, net cash
proceeds of $1.34 per share 1,024,868 1,373,033 -- -- --
Issuance of Common Stock pursuant
to exercise of options issued
in exchange for services, at
$.58 per share -- -- 17,356 17 9,983
Issuance of Common Stock in exchange
for services, at $.29 per share -- -- 2,759 3 792
Accretion of Preferred Stock -- 154,091 -- -- (10,775)
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1991 4,119,386 $ 4,239,675 401,926 $ 402 $ --
----------- ----------- ----------- ----------- -----------
</TABLE>
(Continued)
The accompanying notes are an integral part of these financial statements.
F-4
<Page 50>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Preferred Stock and Stockholders' Equity (Deficit) for the
Period from Inception (January 25, 1989) Through December 31, 1996
(Continued)
<TABLE>
Redeemable Convertible
Preferred Stock Common Stock Additional
-------------------------- -------------------------- Paid-in
Shares Amount Shares Amount Capital
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1991 4,119,386 $ 4,239,675 401,926 $ 402 $ --
Issuance of Redeemable, Convertible
Preferred Stock, net cash proceeds
of $1.34 per share 3,568,644 4,793,002 -- -- --
Deferred compensation related to
issuance of certain stock options -- -- -- -- 94,300
Amortization of deferred compensation -- -- -- -- --
Accretion of Preferred Stock -- 348,625 -- -- (94,300)
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1992 7,688,030 9,381,302 401,926 402 --
Exercise of Founders' Options,
recorded at $.144 per share -- -- 106,777 107 15,275
Issuance of Redeemable, Convertible
Preferred Stock, net cash proceeds
of $1.35 per share 12,500 16,875 -- -- --
Exercise of stock options, recorded
at average of $.76 per share -- -- 13,567 13 10,295
Issuance of Common Stock warrants in
conjunction with Bridge Loans -- -- -- -- --
Issuance of Series E Preferred Stock,
net cash proceeds of $8.20
per share, and related warrants 75,949 622,854 -- -- --
Sale of Common Stock in initial
public offering, net of offering
costs, average cash proceeds of
$7.45 per share -- -- 1,335,000 1,335 9,940,828
Retirement of treasury stock -- -- (34,710) (35) (6,215)
Expiration of warrants -- -- -- -- 20,000
Cashless exercise of warrants -- -- 8,916 9 27,491
Sale of warrants to underwriter
in the initial public offering -- -- -- -- --
Conversion of Redeemable, Convertible
Preferred Stock into Common Stock
upon the closing of the initial
public offering (7,776,479) (10,431,478) 2,748,795 2,749 10,428,729
Amortization of deferred compensation -- -- -- -- --
Accretion of Preferred Stock -- 410,447 -- -- 10,572)
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1993 -- $ -- 4,580,271 $ 4,580 $20,425,831
----------- ----------- ----------- ----------- -----------
</TABLE>
(Continued)
The accompanying notes are an integral part of these financial statements.
F-5
<Page 51>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Preferred Stock and Stockholders' Equity (Deficit) for the
Period from Inception (January 25, 1989) Through December 31, 1996
(Continued)
<TABLE>
Convertible
Preferred Stock Common Stock Additional
-------------------------- -------------------------- Paid-in
Shares Amount Shares Amount Capital
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1993 -- $ -- 4,580,271 $ 4,580 $20,425,831
Exercise of Founders' Option,
recorded at $.144 per share -- -- 98,301 98 14,062
Exercise of stock option, recorded
at average of $.437 per share -- -- 18,757 19 8,176
Acquisition of MediGene research
program, recorded at
$11.50 per share -- -- 100,000 100 1,149,900
Acquisition of Clayton patent rights,
recorded at $9.375 per share -- -- 125,000 125 1,171,750
Amortization of deferred compensation -- -- -- -- --
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1994 -- -- 4,922,329 4,922 22,769,719
Issuance of Series A Convertible
Preferred Stock, net cash proceeds
of $8.49 per share, and related
warrants 459,000 459 -- -- 3,896,923
Issuance of Common Stock for cash,
recorded at $3.91 per share,
and related warrants -- -- 144,300 144 563,871
Exercise of stock options, recorded
at average of $.681 per share -- -- 89,716 90 61,037
Expiration of warrants -- -- -- -- 20,000
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1995 459,000 459 5,156,345 5,156 27,311,550
Conversion of Series A Convertible
Preferred Stock (15,000) (15) 67,500 68 (52)
Exercise of Stock Options,
recorded at average of
$.553 per share -- -- 1,653 2 912
Issuance of Common Stock warrants
in conjunction with
Convertible Notes Payable -- -- -- -- --
Net loss -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1996 444,000 $ 444 5,225,498 $ 5,226 $27,312,410
=========== =========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<Page 52>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Preferred Stock and Stockholders' Equity (Deficit) for the
Period from Inception (January 25, 1989) Through December 31, 1996
(Continued)
<TABLE>
Deficit
Accumulated
During the Deferred
Development Compen- Treasury
Stage sation Warrants Stock
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Balance at Inception
(January 25, 1989) $ -- $ -- $ -- $ --
Issuance of Common Stock on January
19,1989, for the right, title
and interest in certain
proprietary technology and a
promissory note, recorded at
$.144 per share -- -- -- --
Issuance of Redeemable, Convertible
Preferred Stock on January 25,
1989, net cash proceeds
of $.43 per share -- -- -- --
Issuance of Common Stock for cash,
recorded at $.144 per share -- -- -- --
Accretion of Preferred Stock -- -- -- --
Net loss (667,945) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1989 (667,945) -- -- --
Issuance of Redeemable, Convertible
Preferred Stock, net cash
proceeds of $1.00 per share -- -- -- --
Issuance of Common Stock warrants
for consulting services -- -- 27,500 --
Purchase of treasury stock, 34,710
shares of Common Stock at
$.18 per share -- -- -- (6,250)
Accretion of Preferred Stock (135,140) -- -- --
Net loss (1,445,624) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1990 (2,248,709) -- 27,500 (6,250)
Issuance of Redeemable, Convertible
Preferred Stock, net cash
proceeds of $1.34 per share -- -- -- --
Issuance of Common Stock pursuant
to exercise of options issued in
exchange for services, at
$.58 per share -- -- -- --
Issuance of Common Stock in
exchange for services, at
$.29 per share -- -- -- --
Accretion of Preferred Stock (143,316) -- -- --
Net loss (1,757,853) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1991 $(4,149,878) $ -- $ 27,500 $ (6,250)
----------- ----------- ----------- -----------
</TABLE>
(Continued)
The accompanying notes are an integral part of these financial statements.
F-7
<Page 53>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Preferred Stock and Stockholders' Equity (Deficit) for the
Period from Inception (January 25, 1989) Through December 31, 1996
(Continued)
<TABLE>
Deficit
Accumulated
During the Deferred
Development Compen- Treasury
Stage sation Warrants Stock
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Balance, December 31, 1991 $(4,149,878) $ -- $ 27,500 $ (6,250)
Issuance of Redeemable, Convertible
Preferred Stock, net cash proceeds
of $1.34 per share -- -- -- --
Deferred compensation related to
issuance of certain stock options -- (94,300) -- --
Amortization of deferred compensation -- 10,800 -- --
Accretion of Preferred Stock (254,325) -- -- --
Net loss (3,229,771) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1992 (7,633,974) (83,500) 27,500 (6,250)
Exercise of Founders' Options,
recorded at $.144 per share -- -- -- --
Issuance of Redeemable, Convertible
Preferred Stock, net cash proceeds
of $1.35 per share -- -- -- --
Exercise of stock options, recorded
at average of $.76 per share -- -- -- --
Issuance of Common Stock warrants in
conjunction with Bridge Loans -- -- 30,000 --
Issuance of Series E Preferred Stock,
net cash proceeds of $8.20
per share, and related warrants -- -- 40,000 --
Sale of Common Stock in initial
public offering, net of offering
costs, average cash proceeds of
$7.45 per share -- -- -- 6,250
Retirement of treasury stock -- -- (20,000) --
Expiration of warrants -- -- -- --
Cashless exercise of warrants -- -- (27,500) --
Sale of warrants to underwriter
in the initial public offering -- -- 100 --
Conversion of Redeemable, Convertible
Preferred Stock into Common Stock
upon the closing of the initial
public offering -- -- -- --
Amortization of deferred compensation -- 54,600 -- --
Accretion of Preferred Stock (399,874) -- -- --
Net loss (3,290,127) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1993 $(11,323,975) $ (28,900) $ 50,100 $ --
----------- ----------- ----------- -----------
(Continued)
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-8
<Page 54>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Preferred Stock and Stockholders' Equity (Deficit) for the
Period from Inception (January 25, 1989) Through December 31, 1996
(Continued)
<TABLE>
Deficit
Accumulated
During the Deferred
Development Compen- Treasury
Stage sation Warrants Stock
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Balance, December 31, 1993 $(11,323,975) $ (28,900) $ 50,100 $ --
Exercise of Founders' Options,
recorded at $.144 per share -- -- -- --
Exercise of stock options, recorded
at average of $.437 per share -- -- -- --
Acquisition of MediGene research
program, recorded at
$11.50 per share -- -- 100,000 --
Acquisition of Clayton patent
rights, recorded at $9.375 per share -- -- -- --
Amortization of deferred compensation -- 28,900 -- --
Net loss (9,402,055) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1994 (20,726,030) -- 150,000 --
Issuance of Series A Convertible
Preferred Stock, net cash proceeds
of $8.49 per share, and related
warrants -- -- 45,900 --
Issuance of Common Stock for cash,
recorded at $3.91 per share,
and related warrants -- -- 2,886 --
Exercise of stock options, recorded
at average of $.681 per share -- -- -- --
Expiration of warrants -- -- (20,000) --
Net loss (5,276,786) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1995 (26,002,816) -- 178,886 --
Conversion of Series A Convertible
Preferred Stock -- -- -- --
Exercise of Stock Options,
recorded at average of
$.553 per share -- -- -- --
Issuance of Common Stock warrants
in conjunction with
Convertible Notes Payable -- -- 65,000 --
Net loss (2,938,261) -- -- --
----------- ----------- ----------- -----------
Balance, December 31, 1996 $(28,941,077) $ -- $ 243,886 $ --
=========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-9
<Page 55>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Cash Flows
<TABLE>
For the
Period From
Inception
(January 25,
For the Year Ended December 31, 1989)Through
------------------------------ December 31,
1994 1995 1996 1996
----------- ----------- ----------- ------------
<S> <C> <C> <C> <C>
Operating Activities:
Net loss $(9,402,055) $(5,276,786) $(2,938,261) $(28,008,422)
Adjustments to reconcile to net cash used
by operating activities:
Depreciation and amortization 386,212 342,759 384,274 2,036,902
Interest expense accrued on Convertible
Notes, payable in 1998 -- -- 113,509 113,509
Amortization of discount
on Convertible Notes -- -- 15,617 15,617
Amortization of deferred compensation
related to certain stock options 28,900 -- -- 94,300
Non-cash portion of technology acquisition 2,421,875 -- -- 2,421,875
Interest expense on notes payable
converted into Preferred Stock -- -- -- 186,154
Issuance of Common Stock, options, or
warrants for services -- -- -- 48,295
Changes in assets and liabilities
(Increase) decrease in prepaid expenses,
receivables and other (44,416) 13,095 (12,387) (136,219)
Increase (decrease) in accounts payable
and accrued liabilities 269,836 (121,632) (239,643) 278,209
----------- ----------- ----------- ------------
Net cash used by
operating activities (6,339,648) (5,042,564) (2,676,891) (22,949,780)
----------- ----------- ----------- ------------
Investing Activities:
Purchases of marketable securities -- -- -- (5,018,891)
Disposition of marketable securities 4,018,891 1,000,000 -- 5,018,891
Purchases of property and equipment (1,083,327) (80,580) (2,751) (2,239,113)
Proceeds from sale-leaseback agreement 571,871 -- -- 982,416
Deferred organization costs -- -- -- (1,788)
----------- ----------- ----------- ------------
Net cash provided (used) by
investing activities $ 3,507,435 $ 919,420 $ (2,751) $ (1,258,485)
----------- ----------- ----------- ------------
</TABLE>
(Continued)
The accompanying notes are an integral part of these financial statements.
F-10
<Page 56>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Statements of Cash Flows (Continued)
<TABLE>
For the
Period From
Inception
(January 25,
For the Year Ended December 31, 1989)Through
------------------------------ December 31,
1994 1995 1996 1996
----------- ----------- ----------- ------------
<S> <C> <C> <C> <C>
Financing Activities:
Net proceeds from sale of Preferred Stock $ -- $ 3,897,382 $ -- $ 8,676,736
Net proceeds from sale of Common Stock -- 564,015 -- 10,511,178
Net borrowings under Convertible Notes -- -- 1,834,318 1,834,318
Exercise of stock options 22,355 61,127 915 110,087
Proceeds from sale of warrants -- 48,786 65,000 183,886
Principal payments under capital
lease obligations (122,987) (161,785) (195,125) (1,137,338)
Borrowings under notes payable converted
into Preferred Stock -- -- -- 4,363,048
Net borrowings under Bridge Loans -- -- -- 570,000
Repayment of Bridge Loans -- -- -- (570,000)
Purchase of treasury stock -- -- -- (6,250)
----------- ----------- ------------ -----------
Net cash provided (used) by
financing activities (100,632) 4,409,525 1,705,108 24,535,665
----------- ----------- ------------ -----------
Increase (decrease) in cash
and cash equivalents (2,932,845) 286,381 (974,534) 327,400
Cash and cash equivalents,
beginning of period 3,948,398 1,015,553 1,301,934 --
----------- ----------- ------------ -----------
Cash and cash equivalents, end of period $ 1,015,553 $ 1,301,934 $ 327,400 $ 327,400
=========== =========== ============ ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-11
<Page 57>
Aprogenex, Inc.
(A Delaware Corporation in the Development Stage)
Notes to Financial Statements
1. Organization and Significant Accounting Policies
Description of Business and Certain Significant Risks -
Aprogenex, Inc. ("Aprogenex" or the "Company") was incorporated as Molecular
Analysis Incorporated on August 1, 1988, and commenced operations on January
25, 1989. The Company was organized to research, develop, and market medical
diagnostic products using DNA probes to detect and identify diseases and
genetic disorders. The proprietary technology of Aprogenex includes methods
of in situ hybridization using synthesized DNA probes.
Aprogenex is in the development stage and has only generated limited
revenues from the sale of research-use-only products. The future success of
the Company is dependent upon many factors, including the protection of its
proprietary technology, the ability to practice its technology without
infringing patents issued to others, the successful identification and
development of saleable products using this technology, obtaining regulatory
approvals to market such products, the penetration of markets for these
products, and obtaining funds necessary to complete these activities.
The Company's technology can be utilized to develop products that serve
various markets ranging from genetics to infectious diseases. The potential
customers for the Company's product candidates are generally laboratories
throughout the world, and such laboratories may require a broader range of
products or instrumentation than is available from the Company. Additionally,
the Company's product candidates must compete with products from other
companies developed using similar technologies, as well as with products
developed using other technologies. Most competitors have substantially
greater resources than the Company, which will make penetration of markets for
the Company's products difficult.
The Company estimates that, as of December 31, 1996, it has cash
resources to fund its normal operations into March, 1997. Accordingly, the
Company does not have sufficient funding to complete its product development
activities or to sustain operations through the commercialization of such
products. The Company intends to seek funds through the sale of equity or the
license of portions of its technology. The ability of the Company to continue
its activities, to realize or recover its investment in property and
equipment, or to continue as a going concern is dependent upon its ability to
obtain additional funding. There can be no assurance that the Company will be
able to obtain such funding, or the terms upon which any such funding may
occur. If unsuccessful in these activities, the Company may consider a
merger, joint venture, disposition of assets or other transactions.
Cash Equivalents and Marketable Securities - The Company
considers all highly liquid investments with a maturity of three months or
less when purchased to be cash equivalents. Marketable securities consist of
obligations that are not highly liquid or with maturities greater than three
months at the date of purchase. At December 31, 1996, the cash equivalents of
the Company consisted of a debt obligation that matured during January, 1997.
All marketable securities purchased with the intent to hold to maturity are
stated at cost plus accrued interest, which approximates the market price of
the securities.
Statements of Cash Flows - The accompanying Statements of Cash Flows
present cash transactions during the respective periods. Interest paid by the
Company during the years ended December 31, 1994, 1995 and 1996, including the
interest portion of financing leases, totaled $55,920, $78,244 and $53,210,
respectively. No income tax payments were made in any period.
F-12
<Page 58>
Calculation of Net Loss Per Common Share - Net loss per Common
share is computed using the weighted average number of Common shares
outstanding during the period. The number of shares of Common Stock issuable
upon the conversion of the Series A Convertible Preferred Stock issued in 1995
(see Note 5), or issuable upon conversion of the Convertible Notes Payable
issued in 1996 (see Note 4) as well as the effect of outstanding options or
warrants were not included because the effect of their inclusion would be
anti-dilutive.
Research and Development - Research and development costs include
the costs of conducting basic research, developing product applications,
conducting preclinical investigations, performing trials to obtain data for
regulatory filings for product approvals or product marketing and costs
associated with the acquisition of technology owned or developed by third
parties. Research and development costs, including such acquisition costs,
are expensed as incurred. Research and development expense in 1994 includes
$2,715,000 related to the acquisitions of technology and patent rights. See
Note 9.
Use of Estimates - The preparation of financial statements in
conformity with generally accepted accounting principles requires management
to make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Property and Equipment - Property and equipment is carried at cost
and depreciated on a straight-line basis over the estimated useful economic
lives of the assets involved or, in the case of leasehold improvements, over
the remaining term of the lease.
The estimated useful lives employed in computing depreciation are five
years for equipment, furniture, and fixtures, four years for computer
equipment, three years for software, and the lease term for leasehold
improvements. When property is retired or otherwise disposed of, the cost and
accumulated depreciation are removed from the accounts, and any resulting gain
or loss is included in income. Maintenance and repairs are charged to expense
when incurred.
Property and equipment consisted of the following:
<TABLE>
December 31,
---------------------------
1995 1996
------------ -----------
<S> <C> <C>
Equipment $ 1,902,240 $ 1,535,832
Leasehold improvements 316,000 243,671
Computer equipment and software 205,441 112,448
Furniture and fixtures 126,902 126,795
------------ -----------
Total property and equipment 2,550,583 2,018,746
Less - Accumulated depreciation (1,594,549) (1,404,467)
------------ -----------
Net property and equipment $ 956,034 614,279
============ ===========
</TABLE>
<Page 59>
2. Federal Income Taxes
The Company has not made any income tax payments since inception. At
December 31, 1996, the Company had a net operating loss carryforward for
federal income tax purposes of approximately $24,503,000. This carryforward
will begin to expire in 2004 if not otherwise used. Additionally, the Company
has approximately $625,000 of research and development tax credit
carryforwards for tax purposes, which expire in varying amounts beginning in
2004. For financial reporting purposes, a valuation allowance of $10,157,000
has been recorded as of December 31, 1996 to fully offset the deferred tax
asset related to these carryforwards. The principal components of the
deferred tax asset as of December 31, 1995 and 1996, assuming a 35% federal
tax rate, are as follows:
<TABLE>
1995 1996
------------ ------------
<S> <C> <C>
Temporary differences:
Start-up costs, net of amortization $ 426,000 $ 213,000
Intangible assets acquired, expensed
for book purposes, net of amortization 715,000 671,000
Book depreciation in excess of
tax depreciation 60,000 70,000
Other, net 2,000 2,000
------------ ------------
Total temporary differences 1,203,000 956,000
Federal tax losses and credits not
currently utilizable 7,929,000 9,201,000
------------ ------------
Total deferred tax assets 9,132,000 10,157,000
Deferred tax valuation allowance (9,132,000) (10,157,000)
------------ ------------
Net deferred tax asset $ -- $ --
============ ============
</TABLE>
The net increase in the deferred tax valuation allowance for 1994, 1995
and 1996 was $3,468,000, $1,962,000, and $1,025,000 respectively. Other than
the net operating loss and tax credit carryforwards, there is no significant
difference between the statutory federal income tax rate and the Company's
effective tax rate during 1994, 1995 and 1996.
The Company's ability to utilize its tax loss and credit carryforwards
generated prior to 1994 is limited by the "change in ownership," as such term
is defined by federal income tax laws and regulations, that occurred upon the
closing of the initial public offering in October, 1993. The amount of such
operating loss and/or credit carryforward as of that date that may be utilized
each year to offset future taxable income from operations is limited to
approximately $1.5 million. Any portions of the annual limitation that are
not utilized in a tax year may be carried forward against future taxable
income. As of December 31, 1996, the Company estimates that use of
approximately $2 million of its net operating loss carryforward is subject to
such limitations. Additionally, gains from certain limited categories of
licensing activities that may arise subsequent to October, 1993, could also
result in the utilization of additional amounts of the carryforward. Losses
generated subsequent to October, 1993, are not limited by the October, 1993
change in ownership. However, any future change in ownership may further
restrict the ability to utilize tax carryforwards against future taxable
income. To the extent that the Company sells additional equity securities or
existing holders of equity securities sell such securities, an additional
change in ownership could occur.
<Page 60>
3. Lease Obligations
Aprogenex has financed the acquisition of certain property and equipment
through leases with various parties. These arrangements have been recorded as
capital leases in the accompanying financial statements. During 1994, the
Company executed a leasing arrangement to provide for financing of additional
capital expenditures. The implicit interest rate of the lease will vary with
fluctuations in three-year U.S. Treasury rates. At the end of the initial
lease term, the Company may either purchase the equipment at approximately its
fair market value or extend the lease for an additional twelve months. During
July, 1994, the Company sold and leased back approximately $572,000 of its
equipment acquired during 1994. This portion of the lease, including
sales taxes, is subject to an implicit interest rate of 17%. No additional
draws are allowed under this leasing facility.
For additional consideration issued in connection with leases, see Note
5. The carrying basis of the assets financed pursuant to these leases is as
follows:
<TABLE>
December 31,
---------------------------
1995 1996
------------ -----------
<S> <C> <C>
Property and equipment $ 629,308 $ 629,184
Less - Accumulated depreciation (231,389) (358,167)
------------ -----------
Net property and equipment $ 397,919 $ 271,017
============ ===========
</TABLE>
Upon the expiration of the term under certain leases in 1993 and 1994,
Aprogenex acquired the leased equipment for $54,000 and $17,000, respectively.
During 1995, ownership of certain leased equipment reverted to the Company at
the end of the lease term.
At December 31, 1996, minimum lease payments under these capital leases
are as follows:
<TABLE>
<C> <C>
During 1997 $ 204,680
Less - Amount representing interest (implicit
rates ranging from 11.3% to 17.0%) 18,938
---------
Present value of remaining lease payments 185,742
Less - Amount due within one year 185,742
---------
Capital lease obligations, net of current portion $ --
=========
</TABLE>
The lease for the Company's office and laboratory space expires on July
31, 1997. Payments under this lease and other operating leases are expected to
be approximately $80,000 in 1997. Aprogenex recognized $125,962, $147,579 and
$139,758 in rental expense in 1994, 1995 and 1996, respectively.
4. Convertible Notes
During June, 1996, the Company issued $2,005,000 principal amount of
Convertible Notes due on May 29, 1998 (the "Convertible Notes") and warrants
to acquire 130,323 shares of Common Stock (the "1996 Warrants") for total
consideration of $2,005,000. The Convertible Notes bear interest at the rate
of 10% per annum, based on a 365 day year, compounded quarterly. Interest is
payable at maturity or upon prepayment.
<Page 61>
Convertible Notes in the principal amount of $70,000, $1,170,000 and
$100,000 were acquired by a director of the Company, a shareholder of a
company for whom the director is employed, and a director of this same
company. Additionally, 1996 Warrants to acquire 4,550, 76,050 and 6,500
shares of Common Stock were acquired by these parties, respectively.
The Company has the right to prepay principal and accrued interest upon
twenty days notice to the holders of the Convertible Notes. However, the
holders have the right to convert the Convertible Notes into Common Stock
prior to such redemption as set forth below.
The principal and accrued interest of the Convertible Notes become
immediately due and payable upon the insolvency of the Company, the commission
of any act of bankruptcy by the Company, the execution by the Company of a
general assignment for the benefit of creditors, the filing by or against the
Company of any petition in bankruptcy or any petition for relief under the
provisions of the federal bankruptcy act or any other state or federal law for
the relief of debtors and the continuation of such petition without dismissal
for a period of 30 days or more, or the appointment of a receiver or trustee
to take possession of the property or assets of the Company.
The net proceeds from the sale of the Convertible Notes and the 1996
Warrants totaled approximately $1.8 million after deducting the expenses and
fees related to the offering. A value of $65,000 was assigned to the 1996
Warrants, resulting in a discount of $65,000 assigned to the Convertible
Notes. This discount is being amortized over the life of the Convertible
Notes, of which $16,000 was recorded as interest expense during 1996.
Additionally, interest on the Convertible Notes of $114,000 accrued through
December 31, 1996 is payable at maturity and is included in the long-term
liability in the accompanying balance sheet. Debt issuance costs of $106,000
are being amortized over the life of the Convertible Notes.
The principal and accrued interest on the Convertible Notes are
convertible into the Common Stock of the Company at the rate of one share of
Common Stock for every $1.10 in principal and accrued interest, or
approximately 1,926,000 shares of Common Stock as of December 31, 1996. On
the twentieth business day prior to the maturity date of the Convertible
Notes, the conversion price will be adjusted to the average of the closing
price of the Common Stock on the American Stock Exchange (or such other
trading forum as may be applicable at that time) for the ten trading days
prior to such date if and only if such new conversion price is lower than the
then-current conversion price. However, any such new conversion price shall
not be less than 50% of the then-conversion price. The Convertible Notes also
contain provisions to protect the holders against dilution by adjusting the
number of shares issuable upon conversion thereof.
For a description of the terms of the 1996 Warrants, See Note 5.
5. Capital Stock
Authorized Capital Stock - As of December 31, 1996, the authorized
capital of the Company consisted of 20,000,000 shares of Common Stock, of
which 5,225,498 shares were outstanding, and 11,200,000 shares of Preferred
Stock, of which 880,000 have been designated as Series A Convertible Preferred
Stock and of which 444,000 shares were outstanding. The Board of Directors,
in its sole discretion, but subject to the limitations imposed by the terms of
the Series A Convertible Preferred Stock, may determine dividend rights,
dividend rates, conversion rights, voting rights, rights and terms of
redemption, redemption prices, liquidation preferences, the number of shares
<Page 62>
constituting any additional series of Preferred Stock, and any other relative
rights, preferences and limitations on that series.
Registration Rights of Certain Securityholders - In connection
with previous sales of securities, the Company granted registration rights to
substantially all of its securityholders who acquired securities prior to
October 15, 1993. Pursuant to these agreements, at the request of the holders
of a majority of such securities, the Company must, at its expense,
file up to two registration statements and an additional three registration
statements on Form S-3 to effect the sale of Common Stock held by these
securityholders. During 1994, the Company and holders of these registration
rights amended their agreement to include in such registration rights the
125,000 shares of Common Stock issued in a technology acquisition described in
Note 9. Also, in connection with the initial public offering, the Company
granted one demand registration right to one of the underwriters for warrants
issued in connection with the offering. Additionally, all of these
securityholders were granted limited rights to participate in other
registration statements filed by the Company. In connection with both the
acquisition of technology for 100,000 shares of Common Stock as described in
Note 9 and the sale of Common Stock warrants in 1995, the Company granted the
limited right to participate in other registration statements filed by the
Company. In connection with the sale of Common Stock, the sale of Series A
Convertible Preferred Stock in 1995, and the issuance of the Convertible Notes
in 1996, the Company filed Registration Statements on Form S-3 to register the
resale of the Common Stock issued or to be issued upon conversion of the
Series A Convertible Preferred Stock, Preferred Stock warrant and Convertible
Note. One such Registration Statement also registered the resale of the
100,000 shares of Common Stock issued in the acquisition set forth above.
Redeemable Convertible Preferred Stock Outstanding Prior to
the Company's Initial Public Offering - On October 22, 1993, in
connection with the closing of the Company's initial public offering, all
outstanding shares of the four series of Redeemable Convertible Preferred
Stock (the "Pre-IPO Preferred Stock") were automatically converted into
2,748,795 shares of Common Stock. Except for certain registration rights
described above, all rights, preferences and privileges associated with the
Pre-IPO Preferred Stock terminated upon the conversion. All warrants
exercisable for shares of the Pre-IPO Preferred Stock automatically became
exercisable for shares of Common Stock.
On January 25, 1989, the Company sold Pre-IPO Preferred Stock for
$500,000 in cash, or $.50 per share. The direct costs related to the issuance
were $71,725. On January 25, 1990, the Company issued Pre-IPO Preferred Stock
in exchange for the conversion of certain notes payable and related accrued
interest totaling $2,094,518. On June 21, 1990, the Company effected a 2.03-
to-one split of the Pre-IPO Preferred Stock which resulted in the issuance of
an additional 1,062,736 shares. The Pre-IPO Preferred Stock was issued during
1991, 1992 and 1993. On October 25, 1991, 1,024,868 shares were issued in
exchange for the conversion of certain notes payable and related accrued
interest totaling $1,078,574 and cash of $305,001. The expenses of the
transaction totaled $10,542. During February, 1992, Aprogenex sold 222,222
shares of Pre-IPO Preferred Stock for $300,000. In May, 1992, Aprogenex sold
3,346,422 shares of Pre-IPO Preferred Stock for $3,141,560 in cash and the
conversion of certain notes payable and related accrued interest totaling
$1,376,110. Direct costs related to the 1992 issuances were $24,668. See
Note 8. The Company issued an additional 12,500 shares of Pre-IPO Preferred
Stock in February, 1993 for $16,875. On June 8, 1993, the Company sold 75,775
shares of Pre-IPO Preferred Stock for $660,000 in cash, or $8.71 per share.
The direct costs related to the issuance were $37,146. As a result of certain
anti-dilution provisions, these shares became convertible into a total of
75,949 shares of Common Stock, or an
<Page 63>
increase of 174 shares. The accompanying
financial statements reflect the sale including the effect of the anti-
dilution adjustment.
All series of Pre-IPO Preferred Stock possessed mandatory redemption
provisions. Prior to the automatic conversion into Common Stock, the
difference between the issue price and the redemption price was accreted
using the interest method. No redemption provisions survived the automatic
conversion.
Series A Convertible Preferred Stock Sold in 1995 - During May,
1995, the Company sold 459,000 shares of a new class of preferred stock
designated as the Series A Convertible Preferred Stock. Each share of the
Series A Convertible Preferred Stock was sold for $10 per share, and after
deducting the placement agent's fees and the expenses of the offering, the net
proceeds to the Company were approximately $3.9 million. Each share of Series
A Convertible Preferred Stock has a liquidation preference of $13 per share,
or a total liquidation preference of approximately $6.0 million.
The shares of Series A Convertible Preferred Stock were initially
convertible into Common Stock at the rate of 1.8182 shares of Common for each
share of Series A Convertible Preferred Stock. During November, 1995,
pursuant to the terms of the Series A Convertible Preferred Stock, the
conversion rate was reset to 4.26 shares (i.e., a conversion price of $2.35
per share) of Common for every share of Series A Convertible Preferred Stock.
During June, 1996, the conversion rate was reset to 4.98 shares (i.e., a
conversion price of $2.01 per share) of Common for every share of Series A
Convertible Preferred Stock (or a total of 2,211,120 shares of Common Stock
upon conversion of all 444,000 shares of Series A Convertible Preferred Stock
outstanding at December 31, 1996). The conversion price of the Series A
Convertible Preferred Stock is subject to further adjustment for certain anti-
dilution events. The Company can require the conversion of the Series A
Convertible Preferred Stock into Common Stock if the closing price of the
Common Stock exceeds 150% of the then-applicable conversion price for at least
20 days in any 30 day consecutive trading period.
Each share of Series A Convertible Preferred Stock is entitled to voting
rights equal to the as-converted number of Common shares. The holders of the
Series A Convertible Preferred Stock are entitled to receive any separate
dividend declared for such class or to share ratably on an as-converted basis
in any dividend declared on the Common Stock. Additionally, the Series A
Convertible Preferred Stock has the right as a class to approve certain
matters, including (i) the creation of any class of stock on a parity with or
superior to the Series A Convertible Preferred Stock as to liquidation
preference or providing for certain dividends that are not otherwise payable
to the Series A Convertible Preferred Stock holders; (ii) the payment of any
dividend or distribution to the holders of Common Stock or any class of
preferred stock prior to May 25, 1998; and (iii) certain amendments to the
Company's charter and bylaws.
As described below, the Company also issued warrants (the "Placement
Agent Warrants") to purchase 45,900 shares of Series A Convertible Preferred
Stock to certain persons designated by the placement agent in the offering.
Notes Convertible Into Common Stock Sold in 1996 - During June,
1996, the Company issued the Convertible Notes convertible into the Common
Stock of the Company. See Note 4.
Common Stock - The Company granted 8,678 options during 1990 and
8,677 options during 1991 to a director and consultant. These options were
not issued under the 1990 Stock Option Plan, and were exercised in 1991 at an
exercise price of $.29 per share. For the 1991 grant, the Company recorded
related compensation expense of $5,000 during 1991.
<Page 64>
During 1993 and 1994, certain of the options issued to the two founders
of the Company were exercised and 205,078 shares of Common Stock were issued
at the exercise price of $.144 per share.
During July, 1993, the Company granted the holders of warrants to acquire
27,500 shares of Common Stock the right to exchange the warrant for Common
Stock equal to the net value of the warrants based upon the initial public
offering price. This warrant was exercised on October 19, 1993, in exchange
for 8,916 shares of Common Stock.
On October 15, 1993, the Company issued 1,250,000 shares of Common Stock
in an underwritten public offering. The offering price to the public was
$8.75 per share, and the net proceeds to the Company were $9,278,036, after
deducting underwriters' discounts and commissions, an expense allowance to the
underwriter, and out-of-pocket expenses of $636,964. On December 2, 1993, the
underwriters exercised in part their over-allotment option and acquired 85,000
shares of Common Stock. The net proceeds to the Company were $664,127, after
deducting underwriters' discounts and commissions, an expense allowance to the
underwriter, and out-of-pocket expenses of $7,373.
During October, 1993, the Company retired the 34,710 shares of Common
Stock held in treasury.
During April, 1994, the Company issued 100,000 shares of Common Stock
and warrants to acquire 100,000 shares of Common Stock for an exercise price
of $16 per share to acquire certain technology. See Note 7.
During August, 1994, the Company issued 125,000 shares of Common Stock to
acquire certain rights to its previously licensed core technology. See Note
9.
During May, 1995, the Company sold 144,300 shares of Common Stock and
warrants to purchase 28,860 shares of Common Stock. These securities were
sold in units of one share of Common Stock and one-fifth of a warrant at a
price of $4.50 per unit. The net proceeds to the Company were $567,000 after
deducting brokerage fees and other expenses. In October, 1995, the Company's
Registration Statement on Form S-3 to register the resale of the Common Stock
acquired in the offering became effective. In addition to the shares sold in
the offering, the Registration Statement also registered the resale of 100,000
shares of Common Stock acquired in an acquisition of technology. See Note 9.
Warrants and Options to Acquire Common Stock - The following
table sets forth the outstanding warrants and options to acquire Common Stock
or Series A Convertible Preferred Stock as of December 31, 1996:
<TABLE>
Number of Common
or Common Equivalent
Shares at
December 31, 1996
-------------------
<C> <C>
Warrants to acquire Common Stock at $5.67
per share issued in connection with the 1993
Bridge Loans, currently exercisable, expiring
on October 22, 1998 144,586
Warrants to acquire Common Stock at $8.01 per
share, issued to an underwriter in the initial
public offering, currently exercisable, expiring
on October 14, 1998 147,424
<Page 65>
Warrants to acquire Common Stock (formerly Pre-IPO
Preferred Stock) at $2.881 per share issued to an
equipment lessor, currently exercisable, expiring
on March 27, 2000 10,665
Warrants to acquire Common Stock at $16 per share
issued in a technology acquisition, currently
exercisable, expiring on April 15, 1998 100,000
Warrants to acquire Common Stock at $7.24 per share
issued in connection with an equipment lease,
currently exercisable, expiring on June 30, 1999 15,951
Warrants to acquire Common Stock at prices ranging
from $3.00 to $7.25 per share issued in connection
with a financing, currently exercisable, expiring
on March 31, 1997. 28,860
Warrants to acquire Common Stock at $1.10 per share
issued in conjunction with the sale of Convertible
Notes, expiring on May 28, 1999 130,323
Warrants to acquire 45,900 shares of Series A Convertible
Preferred Stock at $11.00 per share (or $2.21 per
Common equivalent share), currently exercisable,
expiring on May 26, 2000; such shares of Series A
Convertible Preferred Stock are convertible into
4.98 shares of Common Stock 228,582
Options to acquire Common Stock issuable under the
Directors' Stock Option Plan, immediately exercisable,
expiring five years from date of grant 112,000
Options to acquire Common Stock at various prices issued
to employees and consultants under the 1990 Stock
Option Plan, vesting over various periods, expiring
three to ten years from the date of grant 184,788
</TABLE>
During May, 1993 the Company issued warrants to acquire 104,124 shares of
Common Stock in connection with certain loans from investors. The warrants
associated with the loans were initially exercisable at 90% of the offering
price of the Company's initial public offering, or $7.875 per share, subject
to anti-dilution adjustments for future issuances of securities. These
warrants were valued at $30,000. See Note 8. During 1995 and 1996, as a
result of anti-dilution adjustments triggered by the sale of Common Stock,
Series A Convertible Preferred Stock, Convertible Notes and related warrants,
the number of shares and the exercise price per share was adjusted to 144,586
and $5.67, respectively.
In connection with the sale of Pre-IPO Preferred Stock in June, 1993, the
Company sold two warrants to acquire 69,045 shares of Common Stock, formerly
Pre-IPO Preferred Stock, for $40,000 in cash. The warrants were exercisable
at $8.69 per share, reflecting certain anti-dilution adjustments, and both
expired unexercised.
In connection with the Company's initial public offering, on October 22,
1993, the Company sold for $100 in cash warrants to acquire 100,000 shares of
Common Stock to one of the underwriters. The exercise price was initially
$11.81 per share, subject to certain anti-dilution adjustments for future
issuances of securities. During 1995 and 1996, as a result of anti-dilution
adjustments triggered by the sale of Common Stock, Series A Convertible
Preferred Stock, Convertible Notes and related warrants, the number of shares
<PAGE 66>
and the exercise price per share was adjusted to 147,424 and $8.01,
respectively.
In connection with the acquisition of a research program, the Company
issued to the seller options to acquire 100,000 shares of Common Stock. The
warrants are exercisable on or before April 15, 1998, at a price of $16.00 per
share. The warrants do not bear registration rights, but may be exercised on
a "net exercise" basis. See Note 9.
In connection with the execution of a capital equipment leasing facility
in June 1994, the Company granted the lessor a warrant to acquire 11,000
shares of Common Stock. The exercise price was initially $10.50 per share,
subject to certain anti-dilution adjustments for future issuances of
securities. During 1995 and 1996, as a result of anti-dilution adjustments
triggered by the sale of Common Stock, Series A Convertible Preferred Stock,
Convertible Notes and related warrants, the number of shares and the exercise
price per share was adjusted to 15,951 and $7.24, respectively.
In connection with the sale of Common Stock in 1995, the Company issued
warrants to acquire 28,860 shares of Common Stock. The warrants originally
were exercisable at $7.25 per share at any time until March 31, 1997. During
1995, the terms of certain of the warrants were amended to reduce the exercise
price to $3.00 per share. The holders of the warrants have "piggyback"
registration rights to require the Company to include the Common Stock
underlying such warrants in certain registration statements filed by the
Company.
In connection with the sale of the Series A Convertible Preferred Stock
in 1995, the Company issued warrants to purchase 45,900 shares of Series A
Convertible Preferred Stock to certain persons designated by the placement
agent in the offering. The Placement Agent Warrants are currently exercisable
until May 25, 2000 at a price of $11.00 per share of Series A Convertible
Preferred Stock, subject to certain anti-dilution adjustments for future
issuances of securities.
In connection with the sale of Convertible Notes in 1996, the Company
issued warrants to acquire 130,323 shares of Common Stock (the "1996
Warrants"). The 1996 Warrants are exercisable on or before May 28, 1999, at a
price of $1.10 per share. The holders of the warrants have "piggy back"
registration rights to require the Company to include the Common Stock
underlying such warrants in certain registration statements file by the
Company.
In June, 1994, the Company established the Directors' Stock Option Plan
for non-management members of the Board of Directors, and amended the plan in
June, 1996 (the "Director's Plan). The plan currently provides for the grant
of an option to acquire 10,000 shares of Common Stock to each non-employee
director upon their initial selection or appointment. The exercise price of
the option is the closing market price of the Company's Common Stock on the
date of grant, and the option is exercisable in annual increments on the first
and second anniversary of the date of grant, unless previously forfeited as a
result of termination of service as a director. The option expires five years
from the date of grant. Additionally, under previous provisions of the Plan,
options issued to directors for services rendered in 1994, 1995, and 1996,
were fully vested and expire five years from the date of grant.
During 1990, the Company established the 1990 Stock Option Plan (the
"1990 Plan") covering employees of and consultants to the Company. The 1990
Plan provides for the granting of options, either incentive or nonstatutory,
to purchase up to 347,100 shares of the Company's common stock. The purchase
price shall be no less than the fair value at the date of the grant for
<Page 67>
incentive stock options and no less than 85 percent of the fair market value
at the date of the grant for nonstatutory options. Options granted generally
have terms ranging from three years to ten years and generally are exercisable
over periods from three to five years from the date of grant.
For certain options granted during the twelve months prior to the
Company's initial public offering, the Company recognized as compensation
expense the excess of the deemed value for accounting purposes of the common
stock on the date the options were granted over the aggregate exercise price
of such options. This compensation expense was amortized ratably over the
vesting period of each option. The Company recorded $94,300 of deferred
compensation for options granted during 1992, of which $10,800, $54,600 and
$28,900 was recognized as expense during the years ended December 31, 1992,
1993 and 1994, respectively.
During 1995, certain options previously granted during 1994 and 1995 were
amended by reducing the exercise price under the option to prices
approximating a small premium to then-current market prices. The options
before amendment provided the right to acquire up to 89,500 shares of Common
Stock at exercise prices ranging from $7.75 to $11.50 per share. As amended,
the options provide for the right to acquire up to 89,500 shares of Common
Stock at an exercise price of $4.00 per share.
During 1996, certain options previously granted during 1995 were amended
by reducing the exercise price and modifying the vesting provisions. The
options before amendment provided the right to acquire 70,000 shares of Common
Stock at exercise prices ranging from $1.50 to $4.00 per share, generally
vesting over a four year period or having various performance provisions. As
amended, the option provided for the right to acquire 70,000 shares of Common
Stock at an exercise price of $1.50 per share, exercisable over a two year
period.
<Page 68>
The following is a summary of options outstanding under the 1990 Plan and
Director's Plan during the periods:
<TABLE>
1992 Plan Director Plan
------------- -----------------
Wtd Avg. Wtd Avg
Options Exercise Price Options Exercise Price
----------- -------------- ----------- --------------
<S> <C> <C> <C> <C>
Balance, December, 1993 170,889 $ 1.10 -- $ --
Granted 80,500 9.93 32,800 7.69
Forfeited (2,765) .79 -- --
Exercised (18,757) .43 -- --
----------- -----------
Balance, December, 1994 229,867 4.25 32,800 7.69
Granted, including options repriced 246,400 4.32 18,400 1.75
Options repriced (89,500) 9.65 --
Forfeited (84,360) 4.00 --
Exercised (89,716) .68 --
----------- -----------
Balance, December 31, 1995 212,691 3.66 51,200 5.55
Granted, including options repriced 240,000 1.46 60,800 1.12
Options repriced (70,000) 2.70 -- --
Forfeited (196,250) 2.62 -- --
Exercised (1,653) .55 -- --
----------- -----------
Balance, December 31, 1996 184,788 2,39 112,000 3.15
=========== ===========
Exercisable at:
December 31, 1994 $105,296 1.43 32,800 $7.69
December 31, 1995 112,075 4.90 51,200 5.55
December 31, 1996 78,615 3.34 52,200 5.48
</TABLE>
<Page 69>
The Company accounts for its employee stock based compensation plans under
Accounting Principles Board Opinion No. 25 ("APB 25"). Accordingly,
deferreded compensation expense is recorded for stock options granted under
the 1990 Plan and the Director's Plan based on the excess of the market value
of the Common Stock on the date the options were granted over the aggregate
exercise price of the options. This deferred compensation is amortized over
the vesting period of each option. As the exercise price of options granted
under the 1990 Plan and the Director's Plan has been equal to or greater than
the market price of the Company's Common Stock on the date of grant, no
compensation expense related to these plans has been recorded.
The Financial Accounting Standards Board has issued Statement of Financial
Accounting Standards No. 123 ("SFAS 123") which required adoptees to record
stock-based compensation at fair value, where such fair value is determined
using various option pricing formulas commonly used in financial markets. The
Company is required to adopt the provisions of SFAS 123 for options granted
other than to employees or directors. For employees and directors, the
Company will continue to account for grants under the provisions of APB 25. A
substantial portion of the options granted in 1995 and 1996 had exercise
prices in excess of the market price on the date of grants resulting in
insignificant values being attributed to such options under the provisions of
SFAS 123. On a pro forma basis, net loss and net loss per Common Share for
1995 and 1996 computed applying the provisions of SFAS 123 would be
substantially the same as reported under APB 25. However, because SFAS 123
was not applied to options granted prior to 1995, and 1995 and 1996 grants had
exercise prices in excess of then-current market prices, such pro forma
results may not be representative of that to be expected in future years.
The fair value of each option grant was established on the date of grant using
the Black-Scholes option pricing model with the following assumptions used
for the option grants in 1995 and 1996: weighted average risk-free interest
rate of 6.01 percent; no expected dividends;and an expected life of 5 years.
6. Genetics Collaborations
During 1996, the Company entered into separate collaborations with AmCell
Corporation and BioSeparations, Inc. for the supply of components to these
companies for prenatal genetics tests under development. The agreements
provide that the Company will provide DNA probes to each company for
incorporation into prenatal genetic testing systems that may be developed by
each company. The Company does not expect any significant revenues from these
collaborations until, if ever, either company successfully completes its
development activities, obtains any regulatory approvals required, and
achieves market acceptance of its products.
7. Commitments and Contingencies
The Company previously had licensed certain proprietary technology from a
private research foundation and was required to pay royalties equal to 3.75
percent of revenues earned on products produced and sold using this
technology. During August, 1994, the Company acquired the patent rights of
the private research foundation, and reduced its royalty obligation to
approximately 2.5 percent of revenues earned on products produced and sold
using this technology. See Note 9. Also during 1994, the Company licensed an
issued United States patent relating to the use of certain compounds to
enhance in situ hybridization technology. The Company must pay a royalty of
three percent of its sales in the United States that incorporate the licensed
technology, subject to a minimum annual royalty beginning in 1996 of amounts
increasing stepwise from $10,000 to $20,000. The Company paid royalties of
$90 and $10,000 for 1995 and 1996 under this license. See Note 9.
<Page 70>
The Company is subject to numerous risks and uncertainties because of the
nature of and status of its operations as well as because of its financing
efforts. The Company maintains insurance coverage for events and in amounts
that it deems appropriate. There can be no assurance that the level of
insurance maintained will be sufficient to cover any claims incurred by the
Company or that the type of claims will be covered by the terms of insurance
coverage. See Note 10.
On April 3, 1996, the Board of Directors elected David Leech to the Board
of Directors and approved a consulting arrangement with Mr. Leech wherein he
would also assume the duties of Acting President and Chief Executive Officer
of the Company. The consulting agreement with Mr. Leech had a six month term
commencing April 1, 1996 and is currently being extended on a month to month
basis. Either the Company or Mr. Leech may terminate the arrangement upon
thirty days notice to the other party. The agreement provides for a
consulting fee of $10,000 per month and a performance bonus of up to a maximum
of $250,000 if certain corporate objectives are achieved.
8. Transactions with Affiliates
During January and March, 1992, Aprogenex borrowed $1,363,048 from
certain of its investors through convertible promissory notes bearing interest
at 8.5 percent and 10.0 percent, respectively. The principal and accrued
interest of $13,062 were converted into Pre-IPO Preferred Stock in May, 1992.
An additional $11,407 in interest was paid on these notes. See Note 5.
During January and February, 1992, the Company borrowed $13,200 from a
shareholder and officer of the Company under three notes bearing interest at
3.52 percent. The principal and $31 of accrued interest were repaid in March,
1992.
During May, 1993, existing investors loaned the Company $600,000 under
notes due May 31, 1994 (the "Bridge Loans"), bearing interest at 10% per annum
and bearing detachable warrants. The notes and $26,795 of accrued interest
were repaid with the proceeds of the initial public offering during October,
1993. After consideration of the value of the combined securities issued to
the noteholders, the warrants were valued at $30,000, and the Bridge Loans
were recorded net of this $30,000. This discount and the $32,343 of issue
costs were amortized over the term of the Bridge Loans. See also Note 5.
In December, 1993, the Company engaged a Director of the Company to
assist it in establishing collaborative arrangements for the commercialization
of infectious disease applications for its technology. The Director was
granted a vested three-year option to acquire 8,600 shares of Common Stock at
$8.75 per share and received a monthly retainer of $7,500 commencing in
January, 1994. This retainer was to be recouped from any future incentive
payments to the Director, which consist of a varying percentage (ranging from
5% of the first $1 million to 1% of amounts over $5 million) of cash proceeds
to the Company from these collaborative activities. During April, 1994, the
Company terminated this relationship, but the Company continues to be
obligated for the future incentive payments if the Company consummates a
transaction with certain entities contacted by the Director. The Director was
paid $31,321 under this agreement, including $1,321 of expenses.
During June, 1996, a director of the Company and certain of his related
parties purchased Convertible Notes and 1996 Warrants. See Note 4.
<Page 71>
9. Acquisitions of Technology
MediGene Acquisition - During 1994, the Company acquired all of the
assets of the research program of MediGene, Inc. ("MediGene") involved in
fetal cell isolation. The Company paid cash in the amount of $185,000 and
issued 100,000 shares of its Common Stock, $.001 par value, and four-year
warrants to acquire 100,000 shares of its Common Stock at $16.00 per share in
exchange for the assets and assumed certain liabilities associated with the
assets. As of the date of acquisition by the Company, the research had not
resulted in a commercial product.
In connection with the acquisition, the Company acquired tangible
equipment with an estimated market value of $219,200 and assumed $202,600 of
debt under an equipment financing facility related to the equipment. The debt
was retired in May, 1994.
Based on the closing price of the Company's Common Stock on the American
Stock Exchange immediately preceding the announcement of the acquisition, or
$11.50 per share, the value of the consideration paid by the Company,
excluding the liabilities assumed and the legal costs associated with the
acquisition, was $1,435,000. See Note 5. Approximately $1.5 million of the
purchase price was allocated to the patent applications, licenses and research
results, $219,200 was allocated to the equipment, and a liability of $202,600
was recorded. The $1.5 million of consideration allocated to the patent
applications, licenses and research results was expensed in the second quarter
of 1994 as the cost of an acquired research program.
Of the 100,000 shares of Common Stock and warrants to acquire 100,000
shares of Common Stock, 20,000 shares and warrants to acquire 20,000 shares
(together, the "Escrow Shares") were placed in escrow pending the resolution
of certain matters. During 1995 and 1996, the Escrow Shares were distributed
to MediGene.
Clayton Patent Rights Acquisition - During 1994, the Company
acquired the interest of Clayton Foundation for Research ("Foundation") and
Research Development Foundation ("RDF", and collectively with Foundation,
"Clayton") in a U.S. patent, certain U.S. patent applications and their
foreign counterparts previously licensed to the Company in 1989 pursuant to a
worldwide, exclusive license (the "License"). The Company issued 125,000
shares of newly issued Common Stock, $.001 par value, in exchange for
Clayton's royalty interest in the patents and patent applications. By
acquiring Clayton's interest in the License, the Company has acquired direct
ownership of its core technology patent and patent applications.
Clayton's interest in the License consisted principally of the royalty of
2.50% of the Company's gross revenues payable to RDF before the recovery of
Clayton's costs in seeking approval of and maintaining the patents (estimated
to be approximately $600,000 as of July 1, 1994) and 1.25% after such cost
recovery. As a result of the acquisition, this royalty is no longer payable
by the Company. Additionally, the Company assumed the obligation to pay for
costs of filing new patent applications, prosecuting new and existing patent
applications, defending against claims against its patents and pursuing
infringements of its patents by others. The Company also agreed to indemnify
Clayton from claims arising after July 1, 1994.
In addition to the 125,000 shares of newly issued Common Stock, the
Company incurred an estimated $10,000 in costs associated with the
acquisition. The Company also granted RDF the right to share in the
registration rights granted to certain previous investors in the Company.
The closing price of the Company's Common Stock on the American Stock
Exchange on August 4, 1994, which was immediately prior to the acquisition,
<Page 72>
was $9.375 per share. Accordingly, the value of the consideration paid by the
Company was $1.2 million, including the estimated $10,000 in costs associated
with the transaction. The Company expensed the approximately $1.2 million
cost during the third quarter of 1994, as the cost of acquired research and
development efforts.
Additional License - During 1994, the Company licensed an issued
United States patent relating to the use of certain compounds to enhance in
situ hybridization technology. The license extends for the life of the
patent. In exchange for the license, the Company paid cash of $50,000 and
must pay a royalty of three percent of its sales in the United States that
incorporate the licensed technology, subject to a minimum annual royalty
beginning in 1996 of amounts increasing stepwise from $10,000 to $20,000. The
$50,000 payment was expensed in 1994.
10. Litigation
In September 1996, a lawsuit styled Roy Fugman, Marilyn Fugman, Lillian
O. Fugman, and The Estate of George Oskvarek v. Aprogenex. Inc., Joel Bresser,
J. Donald Payne and Luis Cantarero was filed in United States District Court
for the Northern District of Illinois. In general, the plaintiffs allege
that their transactions in the Company's stock were made in reliance upon a
stockbroker's recommendations and analyses which, in turn, were allegedly
predicated on misleading or erroneous information provided to the stockbroker
by officers of Aprogenex. The complaint alleges among other things that
officers of the Company made oral statements inconsistent with the Company's
careful and cautious written public disclosures and that the stockbroker was
persuaded by the Company's representatives to disregard warnings in public
disclosures and, instead, to rely on other assurances of Aprogenex personnel.
The plaintiffs in this lawsuit allege that the defendants (the Company
and certain current and former officers and directors) employed devices,
schemes and artifices to defraud; made untrue statements of material fact or
omitted to state material facts necessary in order to make statements made, in
light of the circumstances under which they were made, not misleading; or
engaged in acts or practices in a course of business that operated as a fraud
or deceit upon plaintiff and others similarly situated in connection with
their purchases and sales of Aprogenex stock and that such alleged actions
violated Section 10b of the Securities Exchange Act of 1934 and Rule 10b 5
promulgated thereunder. The plaintiffs have requested damages, costs of suit
and such other and further relief, at law or in equity, to which they may be
entitled and have alleged aggregate net losses in excess of $175,000. The
Company plans to contest the case vigorously. Any adverse result from a
litigation may have a material impact on the Company's financial position.
11. Quarterly Financial Data (Unaudited)
The following table presents summary unaudited financial data for the
years ended December 31, 1994, 1995 and 1996. The Company believes that this
information reflects all adjustments, consisting of only normal recurring
items, considered necessary for a fair presentation of the quarterly financial
information presented. The operating results for any quarterly period are not
necessarily indicative of the results that may be expected for future periods.
<Page 73>
<TABLE>
First Second Third Fourth
Quarter Quarter Quarter Quarter
---------- ---------- ---------- ----------
(In thousands except per share amounts)
1994
--------
<S> <C> <C> <C> <C>
Revenues $ -- $ -- $ -- $ --
Net loss $ (1,491) $ (3,406) (a) $ (2,770) (b) $ (1,735)
Net loss per
Common share $ (.32) $ (.72) $ (.57) $ (.35)
1995
--------
Revenues $ -- $ 8 $ 18 $ 13
Net loss $ (1,447) $ (1,438) $ (1,228) $ (1,164)
Net loss per
Common share $ (.29) $ (.29) $ (.24) $ (.22)
1996
--------
Revenues $ 17 $ 13 $ 16 $ 17
Net loss $ (776) $ (797) $ (753) $ (612)
Net loss per
Common share $ (.15) $ (.15) $ (.14) $ (.13)
(a) The loss for the second quarter of 1994 includes approximately $1.5
million expensed in connection with the acquisition of technology. See Note
9.
(b) The loss for the third quarter of 1994 includes approximately $1.2
million expensed in connection with the acquisition of certain patent rights.
See Note 9.
<Page 74>
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, on the 28th day of March, 1997.
APROGENEX, INC.
BY: /s/ David M. Leech
-----------------------------
David M. Leech
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.
DATED: March 28, 1997 BY: /s/ David M. Leech
----------------------------
David M. Leech
President and Chief Executive
Officer
DATED: March 28, 1997 BY: /s/ J. Donald Payne
---------------------------
Director
DATED: March 28, 1997 BY: /s/ Terry W. Ward
---------------------------
Director
<Page 75>
Index to Exhibits
Exhibit
Number Description
------- -----------
10.2(c) Third Amendment to Lease Agreement Page 76
23.1 Consent of Independent Public
Accountants Page 77
27 Financial Data Schedule Page 78
</TABLE>
Exhibit 10.2(c)
Third Amendment to Lease Agreement
LEASE AMENDMENT
THE STATE OF TEXAS
KNOW ALL MEN BY THESE PRESENTS:
COUNTY OF HARRIS
WHEREAS, Sam H. Hawkins, D/B/A PLAZA DEL ORO BUSINESS CENTER (hereinafter
called "LANDLORD"), entered into a Lease Agreement (hereinafter called the
"LEASE") with Molecular Analysis, Inc., now called Aprogenex, Inc., a Delaware
Corporation (hereinafter called the "TENANT") dated October 9, 1989, for
certain premises (hereinafter called the "LEASED PREMISES") consisting of a
space in Plaza del Oro Business Center, a Business Center in Harris County,
Texas, which Lease and all Amendments thereto are incorporated herein by
reference and made a part hereof for all purposes;
WHEREAS, Lessor and Lessee wish to amend the Lease as hereinafter set
forth:
NOW, THEREFORE, in consideration of the mutual promises by and between
the parties hereto, the Lease is hereby amended as follows:
1. ARTICLE II, Paragraph A. term., is hereby amended by adding the
------
following thereto:
"Subject to and upon the terms and conditions set forth herein, this
Lease shall continue in force for an extended term of seven (7) months
beginning on the 1st day of January, 1997 and ending on the 31st day of July,
1997.
AGREED TO AND ACCEPTED THIS 31st DAY OF DECEMBER, 1996.
SAM H. HAWKINS D/B/A PLAZA DEL ORO BUSINESS CENTER
BY:______________________________________
Sam H. Hawkins, Landlord
APROGENEX, INC., DELAWARE CORPORATION
BY:______________________________________
Vice President (J. Donald Payne)
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
We hereby consent to the incorporation by reference in Aprogenex
Inc.'s previously filed Registration Statements on from S-8 Nos.
33-80358, 33-94286 and 33-39757 and on Form S-3 Nos. 33-92780,
33-95014 and 33-39849 of our report dated February 5, 1997,
appearing in the Annual Report on Form 10-KSB
of Aprogenex, Inc., for the year ended December 31, 1996.
ARTHUR ANDERSEN LLP
Houston, Texas
March 26, 1997
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> DEC-31-1996
<CASH> 327400
<SECURITIES> 0
<RECEIVABLES> 115655
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 443055
<PP&E> 2018746
<DEPRECIATION> 1404467
<TOTAL-ASSETS> 1153966
<CURRENT-LIABILITIES> 463951
<BONDS> 2069126
0
444
<COMMON> 5226
<OTHER-SE> (1384781)
<TOTAL-LIABILITY-AND-EQUITY> 1153966
<SALES> 63115
<TOTAL-REVENUES> 63115
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 2875542
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 182336
<INCOME-PRETAX> (2938261)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2938261)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2938261)
<EPS-PRIMARY> (.57)
<EPS-DILUTED> (.57)
</TABLE>
