<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1996
Commission File No. 0-22788
ARRIS PHARMACEUTICAL CORPORATION
(Exact name of Registrant as specified in its charter)
_______________________________
Delaware 22-2969941
(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
385 Oyster Point Boulevard, Suite 3, South San Francisco, California 94080
(Address of principal executive offices, including zip code)
Registrant's telephone number, including area code: (415) 829-1000
SECURITIES REGISTERED PURSUANT TO Section 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO Section 12(g) OF THE ACT:
COMMON STOCK $.001 PAR VALUE
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (Section 229.405 of this chapter) is not contained
herein, and will not 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-K or any amendment to this Form 10-K. [X]
The approximate aggregate market value of the voting stock held by
nonaffiliates of the Registrant as of February 28, 1997, based upon the last
trade price of the Common Stock reported on the Nasdaq National Market on
February 28, 1997, was $191,642,259*.
The number of shares of Common Stock outstanding as of February 28, 1997 was
14,936,497.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrants Proxy Statement which will be filed with the
Commission pursuant to Section 14a in connection with the 1997 annual meeting
of stockholders are incorporated herein by reference in Part III of this
report.
*Excludes approximately 335,180 shares of Common Stock held by Directors and
Officers of the Registrant's outstanding Common Stock at February 28, 1997.
Exclusion of shares held by any person should not be construed to indicate
that such person possesses the power, direct or indirect, to direct or cause
the direction of the management or policies of the Registrant, or that such
person is controlled by or under common control with the Registrant.
<PAGE>
PART I.
ITEM 1. BUSINESS
Except for the historical information contained herein, the following
discussion contains forward-looking statements that involve risks and
uncertainties. The Company's actual results could differ materially from
those discussed herein. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed in this section
under "Business Risks" as well as in the remainder of this section and in the
section entitled "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Arris Pharmaceutical Corporation ("Arris" or "the Company") uses an
integrated drug discovery approach combining structure-based drug design,
combinatorial chemistry and its proprietary Delta Technology to discover and
develop diverse small molecule therapeutics for existing markets where
currently available therapies have significant limitations. Arris' product
development includes protease programs targeting the inhibition of enzymes
implicated in asthma, inflammatory disease, blood clotting disorders,
infectious diseases, osteoporosis, cancer and autoimmune disease. The
Company's technology platform also includes receptor-based discovery programs
designed to discover small molecule drugs that mimic important therapeutic
proteins that are already successful products.
BUSINESS RISKS
The Company is at an early stage of development. The Company's
technologies are, in many cases, new and still under development. All of the
Company's potential products are in an early stage of development and will
require significant additional research and development efforts prior to any
commercial use, including extensive preclinical and clinical testing as well
as lengthy regulatory clearance. There can be no assurance that the Company's
research and development efforts will be successful, that any of its
potential products will prove to be safe and efficacious in clinical trials
or that any commercially successful products will ultimately be developed by
the Company. In addition, many of the Company's currently proposed products
are subject to development and licensing arrangements with the Company's
collaborators. Therefore, the Company is dependent on the research and
development efforts of these collaborators. Moreover, the Company is entitled
only to a portion of the revenues, if any, realized from the commercial sale
of any of the potential products covered by the collaborations. The Company
has experienced significant operating losses since its inception and expects
to incur significant operating losses over at least the next several years.
The development of the Company's technology and potential products will
require a commitment of substantial funds to conduct these costly and time
consuming activities. All of the Company's revenues to date have been
received pursuant to the Company's collaborations. Should the Company or its
collaborators fail to perform in accordance with the terms of any of their
agreements, any consequent loss of revenue under the agreements could have a
material adverse effect on the Company's results of operations. The potential
products under development by the Company have never been manufactured on a
commercial scale and there can be no assurance such products can be
manufactured at a cost or in quantities necessary to make them commercially
viable. The Company has no sales, marketing or distribution capability. If
any of its products subject to collaborative agreements are successfully
developed, the Company must rely on its collaborators to market such
2
<PAGE>
products. If the Company develops any products which are not subject to
collaborative agreements, it must either rely on other large pharmaceutical
companies to market such products or must develop a marketing and sales force
with technical expertise and supporting distribution capability in order to
market such products directly. The foregoing risks reflect the Company's
early stage of development and the nature of the Company's industry and
products. Also inherent in the Company's stage of development is a range of
additional risks, including competition, uncertainties regarding protection
of patents and proprietary rights, government regulation and uncertainties
regarding pharmaceutical pricing and reimbursement.
PROTEASE-BASED PROGRAMS
BACKGROUND
Proteases are targets for therapeutic intervention because they are
believed to play an important role in many disease processes. Arris is
developing selective and highly potent inhibitors of serine and cysteine
proteases--two large families of regulatory enzymes. The Company has designed
multiple chemical classes of both serine and cysteine protease inhibitors,
including inhibitors of tryptase, the blood clotting enzymes, chymase and
several cathepsins.
TRYPTASE
Tryptase is a serine protease that has been shown by Arris' scientists to
be a mediator of inflammation. Tryptase is released by mast cells as part of
an immune response to allergens and contributes to a cascade of biological
events which results in inflammation. Inhibition of tryptase is the focus of
the Company's most advanced research and development program.
Arris' tryptase inhibitors are designed to slow or halt the inflammatory
process at an early stage thereby providing safe and effective therapies that
treat the underlying cause of disease rather than the symptoms. The initial
market opportunity being evaluated by the Company in collaboration with Bayer
AG is asthma.
Corticosteroids are increasingly used to treat the chronic underlying
inflammation associated with asthma. However, they may cause immune system
suppression with prolonged use as well as a variety of other side effects,
including insomnia, nervousness, irritability and depression. The Company
believes that tryptase inhibitors may represent replacements for steroids,
the most commonly prescribed anti-inflammatory drugs for asthma.
Arris' first clinical compound, APC-366, is currently in Phase IIa
clinical studies in the United Kingdom for use in the treatment of asthma.
The Company believes that APC-366, in an inhaled aerosol formulation, is the
first drug designed and introduced into humans for its properties as a
tryptase inhibitor. In October 1996, Arris announced that final data from
the Phase IIa study of its tryptase inhibitor, APC-366, in allergen-induced
asthma models confirmed preliminary data released earlier in the year. The
final data showed that APC-366 provided protection against allergen-induced
early and late airway responses as well as protection against
histamine-induced bronchial hyperresponsiveness studied in an allergen
challenge model. Additional Phase IIa studies were initiated in mid-1996. The
results of those studies are expected by the end of the first half of 1997.
These studies are also being conducted in the United Kingdom. Although
conducted outside of the United States, the studies are designed to meet FDA
standards. The clinical trials for APC-366 are being conducted under the
3
<PAGE>
Company's control and at its expense. Pursuant to the Company's collaboration
agreement with Bayer, research and development expenses related to the
Company's first clinical compound, APC-366 will be borne by the Company, at
least through Phase IIb clinical trials. Once Phase IIb studies are complete,
if the compound meets certain criteria agreed upon by Bayer and Arris, Bayer
is obligated to assume further development expense for the compound and to
reimburse Arris for clinical expenses through Phase IIb. If the compound
fails to meet these criteria, neither Arris nor Bayer will further develop
the drug as a therapeutic for asthma.
In September 1996, Bayer elected to initiate clinical development of an
Arris compound, BAY-17-1998, the development costs of which are borne
entirely by Bayer. This compound entered IND-enabling studies in 1996, and it
is expected to enter Phase I clinical trials in 1997.
THROMBIN, FACTOR XA AND FACTOR VIIA
Thrombin, Factor Xa and Factor VIIa are three enzymes involved in the
clotting cascade, a series of biochemical events that contributes to the
formation of blood clots. All three are serine proteases that have been
acknowledged as targets for a host of disorders related to abnormal clotting.
Arris is collaborating with Pharmacia & Upjohn to develop oral therapeutics
based on the inhibition of these proteases.
In 1996, Arris designed and tested a variety of compounds based on the
Delta Technology, and with its partner, Pharmacia & Upjohn, identified six
families of Delta compounds for thrombosis and pharmacokinetic analysis.
Based on the results of that work, Arris and Pharmacia & Upjohn expect to
identify a compound for nomination as a clinical candidate to enter
IND-enabling studies. See "Delta Technology."
CHYMASE
Like tryptase, chymase is a mast cell protease which the Company believes
plays a significant role in inflammation-related diseases and also may have
implications in connective tissue disease and hypertension. The Company's
chymase program is being pursued in collaboration with Bayer and is at an
earlier stage of discovery research than the Bayer-sponsored tryptase program.
A lead compound designed using Arris' proprietary Delta Technology has
been identified with a high degree of potency and selectivity for chymase.
Pharmacological studies have been initiated using this compound to confirm
the therapeutic relevance of chymase in certain inflammatory diseases.
CATHEPSINS K AND L
Cathepsins K and L are cysteine protease targets that were acquired by
Arris as part of their purchase of Khepri Pharmaceuticals in December of
1995, and they are thought to play a role in osteoporosis. In November 1996,
Arris announced a research and development collaboration with Merck & Co. to
develop small molecule inhibitors of these enzymes as a treatment for
osteoporosis.
Cathepsin K and cathepsin L belong to a class of proteases called
cysteine proteases. Specifically, cathepsin K is known to be secreted in
excessive amounts by osteoclasts. In the healthy human body, osteoblast cells
are responsible for bone-building while osteoclasts are responsible for bone
4
<PAGE>
degradation. By maintaining a careful balance in each type of cell's
activity, normal bone remodeling and skeletal integrity is achieved. However,
when the rate at which bone is destroyed by the osteoclasts exceeds the rate
at which new bone is produced by osteoblasts, the result is excessive bone
resorption--a condition that results in brittle bones and is characteristic
of osteoporosis. By inhibiting cathepsin K, Arris and its partner believe
that a new drug may be able to re-balance the activity of osteoclasts and
osteoblasts and arrest the bone-destroying effects of osteoporosis.
Herpes Virus Proteases: CMV, HSV, and HHV
The infectivity of many viral organisms depends on their ability to
replicate within the nucleus of a host cell and "escape" in a special
protective coating called the "capsid." In many instances, the cell's ability
to manufacture the capsid is controlled by a discrete viral protease. It is
believed that if production of the capsid can be inhibited, viral particles
would be prevented from escaping from one cell and infecting others. Indeed,
this is the mechanism targeted by HIV protease inhibitors currently on the
market.
The same process is believed to contribute to the spread of infections by
the herpes family of viruses, including cytomegalovirus (CMV), herpes simplex
virus (HSV), and eight other herpes viruses known collectively as HHV. With
its collaborative partner, SmithKline Beecham, in June 1996 Arris began
working on its first infectious disease program. The goal of that program is
the establishment of proof-of-concept that a herpes virus could be inhibited
intracellularly using inhibitors designed using the Delta principle.
CATHEPSIN B
Cathepsin B may contribute to the growth of tumors in cancer. In IN VITRO
studies, a collaborator of Arris demonstrated that several of the Company's
inhibitors of cathepsin B prevented cancer cells from invading normal
tissues. If this finding proves broadly applicable to a wide range of
cancers, the Company believes that it may be able to develop a drug which
reduces the rate at which cancers spread throughout the body. Arris has
expressed cathepsin B and is currently conducting IN VITRO testing of its
inhibitors of the enzyme.
CATHEPSIN S
Cathepsin S is a cysteine protease found in autoimmune cells. Unlike many
other proteases, it is rarely expressed in other types of cells. It is
believed that cathepsin S functions in a pathway that causes the body to
improperly recognize its own cells as foreign pathogens. As a result, it may
be possible to use inhibitors of cathepsin S to block the pathway and as a
result, protect the body from autoimmune disorders. Arris has expressed
cathepsin S and is conducting in vitro testing of its inhibitors of the
enzyme.
PROTEASES IN INFECTIOUS DISEASE
Arris believes that it may be possible to treat many infectious diseases
through the inhibition of proteases that regulate pathogen invasion and
pathogen survival. Many infectious organisms, including
5
<PAGE>
viral, bacterial and fungal organisms, depend on the activity of proteases
for colonizing their host, obtaining key nutrients or sustaining life.
Specifically, the Company believes that certain protease inhibitors may
provide viable therapeutic alternatives to current anti-infective agents
where resistance has become an increasingly serious problem. The Company is
currently exploring the role that certain expressed serine and cysteine
proteases play in infectious organisms.
OTHER PROTEASE TARGETS
The Company also has a number of other early research programs aimed at
identifying potential biological targets among serine and cysteine proteases,
evaluating their biological relevance in various diseases, and designing
inhibitors to those protease targets implicated in certain pathological
processes. Using sophisticated genetic mapping techniques, the Company
believes it is able to gain proprietary knowledge about how proteases
contribute to key biological events, in particular, those that play a role in
physiological disorders, such as cancer, inflammatory diseases, and
bacterial, fungal and viral infections.
RECEPTOR-BASED PROGRAMS
BACKGROUND
The Company's receptor-based programs to date have been focused on
developing orally active, synthetic molecules that mimic the action of a
group of therapeutically useful proteins called cytokines and growth factors.
The Company believes that oral mimetics of the currently approved products
could significantly expand the indications for which these drugs are
prescribed.
RECEPTOR DIMERIZATION
Arris and its collaborators have discovered that many cytokines and growth
factors activate distinct biological activities via a common mechanism of
action: receptor dimerization --the coming together of two receptor subunits
on the cell surface. Dimerization is stimulated by the binding of the
cytokine or growth factor to its receptor, and the Company believes it may
also be triggered by certain small molecule compounds. Arris' has programs in
this area focused on two cell surface receptor targets that dimerize prior to
signaling: Erythropoietin (EPO) and Human Growth Hormone (HGH).
HUMAN GROWTH HORMONE. Human growth hormone is a pituitary-derived
hormone that promotes musculoskeletal growth. The first recombinant hGH
product was co-developed by Pharmacia & Upjohn and Genentech. Recombinant
human growth hormone is currently approved in the United States for the
treatment of short stature caused by chronic renal insufficiency, Turner's
Syndrome and growth hormone inadequacy in children.
Arris' research program in this area is being conducted in collaboration
with Pharmacia & Upjohn. The program is actively screening potential
compounds through the use of both proprietary assays and cell-based
proliferation assays developed by Arris.
ERYTHROPOIETIN. EPO is a large glycoprotein hormone that helps regulate the
production of red blood cells in the body. The first recombinant EPO product
was developed and successfully commercialized by Amgen. Recombinant EPO is
currently approved in the United States for the treatment of certain
6
<PAGE>
conditions characterized by reduced red blood cell counts, such as anemia
related to chronic kidney failure, cancer-associated chemotherapy and the use
of drugs in certain HIV patients.
Arris' research program in this area is being conducted in collaboration
with Amgen and is in the lead optimization phase. Combinatorial
chemistry is being used to produce and enhance compounds with the
characteristics of drugs.
DELTA TECHNOLOGY
Among the advanced technologies developed by Arris for the design of
protease inhibitors is the Company's proprietary Delta Technology. The
Company's Delta Technology represents a novel and broadly applicable method
for the design of selective and highly potent inhibitors of serine and
cysteine proteases. Arris is leveraging this finding by designing multiple
classes of protease inhibitors. Arris has demonstrated that by using the
Delta Technology, the potency of certain small molecule reversible inhibitors
can be increased as much as 1000+ fold. Protease inhibitor compounds designed
by application of the Delta Technology are generally simple organic molecules
of low molecular weight. The Company believes that the compounds will prove
to be easy to manufacture with correspondingly high yields.
Delta Technology provides a scientific foundation upon which the Company's
collaborations with Pharmacia & Upjohn in blood clotting disorders, its
collaboration with Merck & Co. in osteoporosis, and its collaboration with
SmithKline Beecham in infectious disease are based. The Company is exploiting
the Delta Technology broadly by applying it to existing and new protease
targets and seeking collaborations with pharmaceutical companies for the
application of Delta Technology to their protease discovery programs.
RESEARCH TECHNOLOGIES
The Company has created a platform of general and proprietary discovery
technologies to meet the Company's primary goal: the conversion of promising
leads into molecules which possess desired drug properties as early as
possible in the discovery and development process. Research at Arris
encompasses multiple technologies vital for new drug discovery.
Medicinal Chemistry. Medicinal chemistry at Arris plays a central role in
developing organic compounds as well as in optimizing those identified as
potential clinical candidates. Medicinal chemistry is an iterative
process used to improve the potency, selectivity, oral bioavailability,
metabolic stability and biological half-life of a drug candidate.
Combinatorial Chemistry. Arris uses combinatorial chemistry technologies
to produce large numbers of molecules that can be screened against
biological targets of interest. For example, with its partner Pharmacia &
Upjohn, the Company is building a broad diversity screening library of
250,000 individually synthesized compounds, representing approximately
100 different classes of small molecules.
Structure-Based Design. X-ray crystallography is a physical method that
has been successful in determining the three-dimensional structure of
large, complex proteins. Arris has advanced X-ray crystallographic
instrumentation on site and has applied this technology to the solution of
7
<PAGE>
molecular structures of several proteases--both in its own discovery as
well as its partners research programs. In 1996, an Arris paper on the
structure of cathepsin K was accepted for publication in
Nature/Structural Biology.
Computational Sciences. Arris uses a proprietary suite of computer
algorithms and computational tools to generate ideas for molecular
structures, to direct combinatorial chemical activity and to perform
virtual screening. These tools have been used successfully in both the
Company's protease and receptor programs.
High Throughput Screening. Where the structure of a target protein is not
well understood, the screening of libraries of organic compounds provides
lead structures for medicinal chemistry. Thousands of compounds can be
screened daily at Arris to identify new lead compounds or to optimize
existing ones. The Company has adapted commercially available
technologies to meet the needs of its product development programs.
Protein Biochemistry. In contrast to traditional biotechnology companies,
the Company generally employs the tools of recombinant DNA technology,
including proprietary systems, to produce proteins, not as drugs but as
reagents for screening and for X-ray crystallography.
RESEARCH AND DEVELOPMENT COLLABORATIONS
Arris currently is pursuing product development both on a proprietary
basis and in collaboration with other pharmaceutical companies. All of its
collaborations have been focused on discrete targets in order to preserve for
the Company ownership of certain core technologies and developments as they
apply to expanded programs and new targets. This allows the Company to
proliferate its proprietary programs and to seek multiple partnerships based
on key developments. Through corporate collaborations, the Company augments
its financial resources thereby reducing its dependence on capital markets.
Collaborations also allow the Company to broaden its pipeline of programs,
access complementary technologies and gain significant development and
commercialization expertise. Arris has implemented this strategy by
partnering and thereby fully funding all of its major programs with leading
pharmaceutical companies. See Note 3 to the Company's consolidated financial
statements for the details of the revenue associated with these
collaborations.
Merck & Co.--Osteoporosis
In November 1996, Arris established a collaborative agreement with Merck
for the development of small molecule inhibitors of proteases involved in
osteoporosis. The agreement provides for an initial commitment fee and
research and development funding for a two year term which may be extended at
Merck's option or terminated in certain circumstances. The agreement also
provides benchmark payments upon the achievement of mutually agreed upon
milestones. Arris granted Merck an exclusive license to develop, manufacture
and market certain protease inhibitors. Arris is to receive royalties on
Merck's sales of any licensed products.
SMITHKLINE BEECHAM--VIRAL DISEASES
8
<PAGE>
In June 1996, Arris entered into an agreement with SmithKline Beecham to
develop inhibitors using Arris' proprietary Delta technology with certain
intracellular viral proteases. The agreement incorporates an initial
proof-of-concept phase and an optional research phase, if elected by
SmithKline. Arris has received a license fee and shall receive research
funding and certain milestone payments during the proof-of-concept and
research phases. Subject to the initiation of the research phase of the
program, Arris granted SmithKline an exclusive license to develop inhibitors
of the target proteases using Arris' Delta technology and an exclusive
license to manufacture and market any products developed under the agreement.
In return, Arris shall receive royalties on any product sales.
BAYER AG--TRYPTASE AND CHYMASE
In November 1994, Arris established a collaborative agreement with Bayer
aimed at developing inhibitors of the regulatory enzymes tryptase and chymase
for the treatment of asthma and other inflammatory and auto-immune diseases.
The agreement calls for a five-year research collaboration between the
parties which Bayer may terminate at its discretion after three years. Arris
received an initial commitment fee, is receiving research funding over the
research period, and will receive benchmark payments upon the achievement of
mutually agreed upon milestones. Arris granted Bayer the exclusive right to
develop inhibitors of tryptase and chymase which result from the program,
worldwide manufacturing and marketing rights to these compounds, and assigned
to Bayer certain rights to patents arising out of the collaboration. Arris is
to receive royalties on Bayer's sales of any licensed products. The Bayer
collaboration provides that research and development expenses related to the
Company's first clinical compound, APC-366, will be borne by the Company
through Phase IIb. If the results of the Phase IIb studies meet certain
agreed-upon criteria, Bayer will assume development of APC-366. If the
results fail to meet the criteria, development of APC-366 will be terminated.
In September 1996 Bayer also elected to initiate clinical development of an
Arris compound, designated BAY-17-1998, the development costs of which are
borne entirely by Bayer.
Pharmacia & Upjohn--Combinatorial Chemistry
In March 1996, Arris entered into a research agreement with Pharmacia &
Upjohn to use combinatorial chemistry to create a probe library consisting of
250,000 small molecule synthetic organic compounds. (This agreement
supersedes the December 1994 Pharmacia & Upjohn--Combinatorial Chemistry and
High Throughput Screening collaboration.) Arris granted Pharmacia & Upjohn a
co-exclusive license to the library being developed along with the
technologies used for synthesis and screening. In return for the co-exclusive
license, Arris receives upfront nonrefundable license payments and payments
upon delivery of the compounds.
Pharmacia & Upjohn--Inhibitors of Coagulation
In August 1995, Arris entered into a research and development agreement
with Pharmacia & Upjohn focused on the development of inhibitors of Thrombin,
Factor Xa and Factor VIIa using Arris' Delta Technology, for the treatment of
blood clotting disorders. The agreement calls for a five-year research
collaboration between the parties, which Pharmacia & Upjohn may terminate at
its discretion after three years. Arris received an initial commitment fee,
is receiving research funding over the research period, and will receive
benchmark payments upon the achievement of mutually agreed upon milestones.
Arris granted Pharmacia & Upjohn the exclusive right to develop inhibitors of
Thrombin,
9
<PAGE>
Factor Xa and Factor VIIa which may result from the program, as well as
worldwide manufacturing and marketing rights to these compounds. Arris is to
receive royalties on Pharmacia & Upjohn's sales of any licensed products.
Pharmacia & Upjohn--Human Growth Hormones
In March 1993, Arris entered into a research and development agreement
with Pharmacia & Upjohn aimed at developing certain human growth factor
mimetics, initially focusing on hGH. Pharmacia & Upjohn is a leading marketer
of growth factors, including recombinant hGH. The agreement between Arris and
Pharmacia & Upjohn calls for a research collaboration between the parties,
the funded research phase of which expires in 1997. Further research may be
conducted by Pharmacia & Upjohn pursuant to the agreement. Concurrent with
the signing of the initial agreement, Pharmacia & Upjohn made a $5.4 million
equity investment in Arris. Arris is receiving research funding during the
term of the research collaboration and will receive benchmark payments if
mutually agreed upon milestones are reached. Arris granted Pharmacia & Upjohn
the exclusive right to develop growth factor mimetics discovered as well as
worldwide manufacturing and marketing rights to these compounds. Arris is to
receive royalties on Pharmacia & Upjohn's sales of any licensed products.
Arris retains the rights to technology developed by the Company and gains
licensing rights to certain technology developed by Pharmacia & Upjohn under
the research program that may have application to other cytokine targets
outside the focus of the collaboration.
AMGEN--EPO
In May 1993, Arris entered into an agreement with Amgen aimed at the
development of synthetic, small molecule mimetics of EPO. The agreement, as
amended in 1996, calls for a research collaboration between the parties which
ended in February 1997. Further research will be conducted by Amgen. Arris
received an initial commitment fee, received research funding over the
research period and will receive benchmark payments if certain milestones are
achieved by Amgen. Arris granted Amgen the exclusive right to develop any EPO
mimetic compounds discovered, as well as worldwide manufacturing and
marketing rights to those compounds. Arris is to receive royalties on Amgen's
sales of any licensed products and under certain circumstances Arris is
required to pay royalties to third parties. Arris has retained the rights to
apply all technologies developed solely by the Company to the development of
products outside the EPO field. Either Arris or Amgen can independently
exploit jointly developed technology that does not pertain to EPO. Amgen is a
leading marketer and manufacturer of recombinant EPO.
ACQUISITION OF KHEPRI
On December 22, 1995, Arris acquired Khepri Pharmaceuticals, Inc.
("Khepri") in a transaction accounted for as a purchase. Prior to the
acquisition, Khepri was a privately-held development stage company focused on
the discovery and development of cysteine protease-based therapeutics.
In connection with the acquisition, in December 1995 and 1996 the Company
issued 1,414,759 and 518,701 shares of Common Stock, respectively to
shareholders of Khepri. In addition in July 1996, the Company issued 161,418
shares of Common Stock to the minority interest shareholders of the Canadian
subsidiary of Khepri, in exchange for their 50% ownership in that entity.
10
<PAGE>
PATENTS AND PROPRIETARY RIGHTS
Arris holds five U.S. patents relating to compositions of matter, methods
of treating disease, combinatorial chemistry and computational technologies
expiring through various dates in 2013. Further, Arris has 36 pending patent
applications relating to compositions of matter, methods of treatment,
combinatorial chemistry, assay techniques, transgenic animal models,
computational technologies and novel technology for the discovery of novel
protease inhibitors. Arris intends to file additional patent applications,
when appropriate, relating to its technology and to specific products it
develops.
The Company's policy is to strategically file selected patent applications
to protect technology, inventions and improvements that are important to the
development of its business. The Company also relies upon trade secrets,
know-how, continuing technological innovations and licensing opportunities to
develop and maintain its competitive position.
The patent positions of pharmaceutical and biotechnology firms, including
the Company, are uncertain and involve complex legal and factual questions.
In addition, the scope of the claims in a patent application can be
significantly modified during prosecution before the issued patent is issued.
Consequently, the Company does not know whether any of its applications will
result in the issuance of patents, or if any issued patents will provide
significant proprietary protection or will be circumvented or invalidated.
Since patent applications in the United States are maintained in secrecy
until patents issue, and since publication of discoveries in the scientific
or patent literature often lag behind actual discoveries, the Company cannot
be certain that it was the first creator of inventions covered by its pending
patent applications or that it was the first to file patent applications for
such inventions. Moreover, the Company may have to participate in
interference proceedings declared by the United States Patent and Trademark
Office ("PTO") to determine priority of invention, which could result in
substantial cost to the Company, even if the eventual outcome is favorable to
the Company. There can be no assurance that the Company's pending patent
applications, if issued, or its existing patents, would be held valid. An
adverse outcome could subject the Company to significant liabilities to third
parties, require disputed rights to be licensed from third parties or require
the Company to cease or modify its use of such technology.
The development of therapeutic products for applications in the Company's
product fields is intensely competitive. A number of pharmaceutical
companies, biotechnology companies, universities and research institutions
have filed patent applications or received patents in the areas of the
Company's programs. In addition, patent applications relating to the
Company's potential products or technologies may currently be pending. Some
of these applications or patents may limit or preclude the Company's
applications and could result in a significant reduction of the coverage of
the Company's patents, or potential patents. The Company is aware of pending
patent applications that have been filed by other companies that may pertain
to certain of the Company's technologies. If patents are issued to these or
other companies containing preclusive or conflicting claims, and such claims
are ultimately determined to be valid, the Company may be required to obtain
licenses to these patents or to develop or obtain alternative technology.
Furthermore, the Company has in the past been, and may from time to time in
the future be, notified of claims that the Company may be infringing patents
or other intellectual
11
<PAGE>
property rights owned by third parties. The Company has obtained one license
under a patent, and if necessary or desirable the Company may seek additional
licenses under other patents or intellectual property rights. There can be no
assurance, however, that a license will be available on reasonable terms or
at all. The Company could decide, in the alternative, to resort to litigation
to challenge such claims. Such challenges could be extremely expensive and
time consuming and could have a material adverse effect on the Company's
business, financial condition or results of operations.
The Company also relies on trade secrets and contractual arrangements to
protect certain of its proprietary information, processes and products. 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 will not otherwise become known or be independently discovered
by competitors.
Much of the know-how important to the Company's technology and many of its
processes, which may not be patentable, are dependent upon the knowledge,
experience and skills of key scientific and technical personnel. To protect
its rights to its proprietary know-how and technology, the Company requires
all employees, consultants, advisors and collaborators to enter into
confidentiality agreements that prohibit the disclosure of confidential
information to anyone outside the Company and require disclosure to the
Company of ideas, developments, discoveries and inventions made by them.
There can be no assurance that these agreements will effectively prevent
disclosure of the Company's confidential information or will provide
meaningful protection for the Company's confidential information if there is
unauthorized use or disclosure. The Company's business may be adversely
affected by competitors who develop substantially equivalent technology.
In connection with certain research, the Company has entered into
sponsored research agreements with various researchers and universities.
Generally, under these agreements the Company funds the research of
investigators in exchange for the right or an option to a license to any
patentable inventions that may result in designated areas. The Company is
obligated to make certain payments during the terms of certain of the
agreements, to pay royalties on net sales of any licensed products and, in
some cases, to negotiate in good faith the business terms of any license
executed upon exercise of licensing options. There can be no assurance that
these agreements will not be breached or that the Company would have adequate
remedies for any breach.
COMPETITION
The pharmaceutical industry is intensely competitive. Many companies,
including biotechnology, chemical and pharmaceutical companies, are actively
engaged in the research and development of products in the Company's targeted
areas. Many of these companies have substantially greater financial,
technical and marketing resources than the Company. In addition, some of
these companies have considerable experience in preclinical testing, clinical
trials and other regulatory approval procedures. Moreover, certain academic
institutions, governmental agencies and other research organizations are
conducting research in areas in which the Company is working. These
institutions are becoming increasingly aware of the commercial value of their
findings and are becoming more active in seeking patent protection and
licensing arrangements to collect royalties for the use of technology that
they have developed. These institutions also may market competitive
commercial products on their own or through joint ventures and will compete
with the Company in recruiting highly qualified scientific personnel.
12
<PAGE>
The Company is pursuing areas of product development in which there is a
potential for extensive technological innovation in relatively short periods
of time. The Company's first clinical compound, APC-366, is in clinical
trials for the treatment of asthma. Currently, Schering-Plough, Astra and
Glaxo-Wellcome, among others, produce therapeutics for the treatment of
asthma. The Company's competitors may succeed in developing technologies or
products that are more effective than those of the Company. Rapid
technological change or developments by others may result in the Company's
technology or potential products becoming obsolete or noncompetitive. There
can be no assurance that the Company's competitors will not develop more
efficacious or more affordable products, or achieve earlier product
development completion, patent protection, regulatory approval or product
commercialization than the Company, which would have a material adverse affect
on the Company's business, financial condition and results of operations.
GOVERNMENT REGULATION
The manufacturing and marketing of the Company's proposed products and its
research and development activities are subject to regulation for safety,
efficacy and quality by numerous governmental authorities in the United
States and other countries. In the United States, drugs are subject to
rigorous United States Food and Drug Administration ("FDA") regulation. The
Federal Food, Drug and Cosmetic Act, as amended, and the regulations
promulgated thereunder, and other federal and state statutes and regulations,
govern, among other things, the testing, manufacture, safety, efficacy,
labeling, storage, record keeping, approval, advertising and promotion of the
Company's products. Product development and approval within this regulatory
framework takes a number of years and involves the expenditure of substantial
resources. Failure to comply with applicable regulatory requirements may
subject a company to administrative or judicially imposed sanctions, such as
warning letters, civil penalties, criminal prosecution, injunctions, product
seizure, product recalls, total or partial suspension of production, and FDA
refusal to approve pending New Drug Applications ("NDA") or supplements to
approved applications.
The steps required before a pharmaceutical agent may be marketed in the
United States include (i) preclinical laboratory tests, in vivo preclinical
studies and formulation studies, (ii) the submission to the FDA of an
application for human clinical testing, an Investigational New Drug
Application ("IND"), which must become effective before human clinical trials
commence, (iii) adequate and well-controlled human clinical trials to
establish the safety and efficacy of the drug, (iv) the submission of an NDA
to the FDA and (v) the FDA approval of the NDA prior to any commercial sale
or shipment of the drug. In addition to obtaining FDA approval for each
product, each domestic drug manufacturing establishment must be registered
with the FDA. Domestic drug manufacturing establishments are subject to
biennial inspections by the FDA and must comply with Good Manufacturing
Practices ("GMP"). To supply products for use in the United States, foreign
manufacturing establishments must comply with GMP and are subject to periodic
inspection by the FDA or by corresponding regulatory agencies in such
countries under reciprocal agreements with the FDA. Drug product
manufacturing establishments located in California also must be licensed by
the State of California in compliance with local regulatory requirements.
Preclinical tests include laboratory evaluation of product chemistry and
formulation, as well as animal studies to assess the potential safety and
efficacy of the product. Preclinical safety tests must be conducted by
laboratories that comply with FDA regulations regarding Good Laboratory
Practices. The results of the preclinical tests are submitted to FDA as part
of an IND and reviewed by the FDA prior to the commencement of human clinical
trials. Unless the FDA objects to an IND, the IND will become effective 30
days following its receipt by the FDA. There can be no assurance that
submission of an IND will result in FDA authorization to commence clinical
trials.
13
<PAGE>
Clinical trials involve the administration of the investigational new drug
to healthy volunteers or to patients, under the supervision of a qualified
principal investigator. Clinical trials are conducted in accordance with good
clinical practices under protocols that detail the objectives of the study,
the parameters to be used to monitor safety and the efficacy criteria to be
evaluated. Each protocol must be submitted to the FDA as part of the IND.
Further, each clinical study must be conducted under the auspices of an
independent Institutional Review Board ("IRB") at the institution at which
the study will be conducted. The IRB will consider, among other things,
ethical factors, the safety of human subjects and the possible liability of
the institution.
Clinical trials are typically conducted in three sequential phases, but the
phases may overlap. In Phase I, the initial introduction of the drug into
healthy subjects or patients, the drug is tested to determine its metabolism,
pharmacokinetics and pharmacological actions in humans, the side effects
associated with increasing doses and early evidence of efficacy, if possible.
Phase II involves studies in a limited patient population to (i) determine the
efficacy of the drug for specific, targeted indications, (ii) determine dosage
tolerance and optimal dosage and (iii) identify possible adverse effects and
safety risks. If a compound is found to be effective and to have an acceptable
safety profile in Phase II evaluations, Phase III trials are undertaken to
further evaluate clinical efficacy and to further test for safety within an
expanded patient population at geographically dispersed clinical study sites.
There can be no assurance that Phase I, Phase II or Phase III testing will be
completed successfully within any specific time period, if at all, with respect
to any of the Company's products subject to such testing. Furthermore, the
Company or the FDA may suspend or terminate clinical trials at any time if it is
felt that the subjects or patients are being exposed to an unacceptable health
risk or the FDA finds deficiencies in the IND or the conduct of the
investigation. Further, FDA regulations subject sponsors of clinical
investigations to numerous regulatory requirements, including, among other
requirements, selection of qualified investigators, proper monitoring of the
investigations, recordkeeping and record retention, and ensuring that FDA and
all investigators are promptly informed of significant new adverse effects or
risks with respect to the drug, as well as other ongoing reporting requirements.
The results of the pharmaceutical development, preclinical studies and
clinical studies are submitted to the FDA in the form of an NDA for clearance
of the marketing and commercial shipment of the drug. The testing and
approval process is likely to require substantial time and effort and there
can be no assurance that any approval will be granted on a timely basis, if
at all. The FDA may deny an NDA if applicable regulatory criteria are not
satisfied, may require additional testing or information, or may require
post-marketing testing and surveillance to monitor the safety of the
Company's products if the FDA does not view the NDA as containing adequate
evidence of the safety and efficacy of the drug. Notwithstanding the
submission of such data, the FDA may ultimately decide that the application
does not satisfy its regulatory criteria for approval. Moreover, if
regulatory clearance of a drug is granted, such approval may entail
limitations on the indicated uses for which it may be marketed. Finally,
product approvals may be withdrawn if compliance with regulatory standards is
not maintained or if problems occur following initial marketing.
Among the conditions for NDA approval is the requirement that the
prospective manufacturer's quality control and manufacturing procedures
conform to GMP, which must be followed at all times. In complying with
standards set forth in these regulations, manufacturers must continue to
expend time, monies and effort in the area of production and quality control
to ensure full technical compliance.
14
<PAGE>
In addition to regulations enforced by the FDA, the Company also is
subject to regulation under the Occupational Safety and Health Act, the
Environmental Protection Act, the Toxic Substances Control Act, the Resource
Conservation and Recovery Act and other present and potential future federal,
state or local regulations. The Company's research and development involves
the controlled use of hazardous materials, chemicals and various radioactive
compounds. Although the Company believes that its safety procedures for
handling and disposing of such materials comply with the standards prescribed
by state and federal regulations, the risk of accidental contamination or
injury from these materials cannot be completely eliminated. In the event of
such an accident, the Company could be held liable for any damages that
result and any such liability could exceed the resources of the Company.
For clinical investigation and marketing outside the United States, the
Company also is subject to foreign regulatory requirements governing human
clinical trials and marketing approval for drugs. The requirements governing
the conduct of clinical trials, product licensing, pricing and reimbursement
vary widely for European countries both within, and outside, the European
Community ("EC"). The Company's approach to the European regulatory process
involves the identification of clinical investigators in the member states of
the EC and other European countries to conduct clinical studies. The Company
intends to design these studies to meet FDA, EC and other European countries'
standards. Within the EC, while marketing authorizations must be supported by
clinical trial data of a type and extent set out by EC directives and
guidelines, the approval process for the commencement of clinical trials is
not currently harmonized by EC law and varies from country to country. As far
as possible, the studies will be designed to develop a regulatory package
sufficient for multi-country approval in the Company's European target
markets without the need to duplicate studies for individual country
approvals.
Outside the U.S., the Company's ability to market a product is contingent
upon receiving a marketing authorization from the appropriate regulatory
authority. At present, foreign marketing authorizations are applied for at a
national level, although within the EC certain registration procedures are
available to companies wishing to market the product in more than one EC
member state. If the regulatory authority is satisfied that adequate evidence
of safety, quality and efficacy has been presented, a marketing authorization
will be granted. The system for obtaining marketing authorizations within the
EC changed on January 1, 1995 pursuant to EC legislation recently adopted.
The new EC registration system is a dual one in which certain products, such
as biotechnology and high technology products and those containing new active
substances, will have access to a central regulatory system that provides
registration throughout the entire EC. Other products will be registered by
national authorities in individual EC member states, operating on a principle
of mutual recognition. This foreign regulatory approval process includes all
of the risks associated with FDA approval set forth above.
MANUFACTURING
The Company has no manufacturing facilities. The Company's potential
products have never been manufactured on a commercial scale. Furthermore, the
Company must rely on its collaborators, such as Bayer AG, Pharmacia & Upjohn,
Inc., Amgen, Inc., SmithKline Beecham Corporation and Merck & Co. to manufacture
potential products created by the collaborations. Although the Company
believes that it, or its collaborators or contract manufacturers, will be
able to manufacture its compounds in a commercially viable manner, there can
be no assurance that such compounds can be manufactured at a cost or in
quantities necessary to make them commercially viable. If the Company and its
collaborators are unable to manufacture or
15
<PAGE>
contract with others for a sufficient supply of its compounds on acceptable
terms, or if they should encounter delays or difficulties in their
relationships with third party manufacturers, the Company's preclinical and
clinical testing schedule would be delayed, resulting in delay in the
submission of products for regulatory approval or the market introduction and
subsequent sales of such products, which would have a material adverse effect
on the Company. Moreover, the Company and its collaborators and contract
manufacturers must adhere to current GMP regulations enforced by the FDA
through its facilities inspection program. If these facilities cannot pass a
pre-approval plant inspection, the FDA pre-market approval of the products
will not be granted.
MARKETING
The Company currently has no sales, marketing or distribution capability.
The Company will rely on its collaborative relationships, such as those with
Bayer AG, Pharmacia & Upjohn, Inc., Amgen, Inc., SmithKline Beecham
Corporation, and Merck & Co. to market certain of its potential products, may
enter into future collaborations by which the Company will come to rely on
the collaboration to market its products, and may decide to market other
potential products directly. To market any of its potential products
directly, the Company must develop a marketing and sales force with technical
expertise and with supporting distribution capability. There can be no
assurance that the Company will be able to establish in-house sales and
distribution capabilities or relationships with third parties, or that it
will be successful in gaining market acceptance for its potential products.
Under its existing collaborations, and to the extent that the Company enters
into future co-promotion or other licensing arrangements, any revenues
received by the Company under those collaborations will depend upon the
efforts of third parties, and there can be no assurance that such efforts
will be successful.
HUMAN RESOURCES
As of January 1, 1997, Arris employed 160 individuals, of whom 67 hold
Ph.D. or M.D. degrees and 32 hold other advanced degrees. Approximately 134
employees are engaged in research and development activities, including a
variety of disciplines within the areas of molecular biology and other
biological sciences, medicinal chemistry, computer sciences and clinical
development. Approximately 26 employees are employed in finance, corporate
development and general administrative activities. None of the Company's
employees is covered by collective bargaining agreements, and management
considers relations with its employees to be good. Additionally, Arris
augments its full time staff through part-time consulting arrangements with
experienced, professional scientists and managers.
16
<PAGE>
ITEM 2. PROPERTIES
Arris currently occupies approximately 121,000 square feet of leased
laboratory, support and administrative space in South San Francisco,
California. Leases expire on these facilities on December 31, 1997 with
respect to approximately 2,700 square feet, October 31, 2001 with respect to
the approximately 49,000 square feet, and August 4, 2006 for the remainder of
the Company's facilities. In addition to the above listed facilities, the
Company is subleasing approximately 32,000 square feet to an unrelated third
party, with the lease and sublease expiring on July, 31, 2000. The Company's
existing and planned facilities are believed to be adequate to meet its
present requirements, and the Company currently believes that suitable
additional space will be available to it, when needed, on commercially
reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
17
<PAGE>
PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock began trading on the Nasdaq National Market
under the symbol "ARRS" on November 19, 1993. Prior to that date, there was
no public market for the Company's Common Stock. The following table sets
forth, for the periods indicated, the high and low sales prices of the Common
Stock reported on the Nasdaq National Market. These over-the-counter
quotations reflect inter-dealer prices, without retail markup, markdown or
commission, and may not necessarily represent the sales prices in actual
transactions.
<TABLE>
<CAPTION>
HIGH LOW
--------- ---------
<S> <C> <C>
1995
First Quarter............................................................ $ 7.63 $ 5.72
Second Quarter........................................................... 11.13 7.00
Third Quarter............................................................ 14.25 8.75
Fourth Quarter........................................................... 15.25 9.25
1996
First Quarter............................................................ $ 19.50 $ 12.50
Second Quarter........................................................... 17.25 11.38
Third Quarter............................................................ 14.50 9.50
Fourth Quarter........................................................... 16.25 12.25
</TABLE>
On March 19, 1997, the last sale price reported on the Nasdaq National
Market for the Company's Common Stock was $13.50 per share.
HOLDERS
As of February 28, 1997 there were approximately 283 stockholders of
record of the Company's Common Stock.
DIVIDENDS
The Company has not paid dividends on its Common Stock and currently does
not plan to pay any cash dividends in the foreseeable future.
RECENT SALES OF UNREGISTERED SECURITIES
On December 30, 1996 the Company issued an aggregate of 518,701 shares of
its Common Stock to the former preferred stockholders of Khepri
Pharmaceuticals, Inc., in connection with the second payment obligation to
such stockholders pursuant to the terms of the stock-for-stock acquisition.
See "Item 1. Business -Acquisition of Khepri." Such issuance was made without
registration upon reliance of Section 3(a)(10) of the Securities Act of 1933,
as amended.
18
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
ARRIS PHARMACEUTICAL CORPORATION
The data should be read in conjunction with "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
"Item 8. Financial Statements and Supplementary Data" which is included
elsewhere in this Annual Report on Form 10-K.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------------------------------
1992 1993 1994 1995 (1) 1996
--------- --------- --------- ---------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C>
Consolidated Statements of Operations:
Contract revenues.......................................... $ -- $ 2,542 $ 8,304 $ 16,727 $ 21,560
Operating expenses:
Research and development................................. 6,994 8,910 13,155 14,689 24,319
General and administrative............................... 1,531 2,283 4,010 4,247 5,409
Acquired in-process research and development............. -- -- -- 22,514 230
--------- --------- --------- ---------- ---------
Total operating expenses............................... 8,525 11,193 17,165 41,450 29,958
--------- --------- --------- ---------- ---------
Operating loss............................................. (8,525) (8,651) (8,861) (24,723) (8,398)
Interest income (expense), net............................. (68) 172 522 990 2,470
--------- --------- --------- ---------- ---------
Net loss................................................... $ (8,593) $ (8,479) $ (8,339) $ (23,733) $ (5,928)
--------- --------- --------- ---------- ---------
--------- --------- --------- ---------- ---------
Net loss per share......................................... $ (2.15) $ (2.10) $ (0.97) $ (2.71) $ (0.45)
Weighted average number of shares outstanding.............. 4,006 4,031 8,570 8,745 13,177
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------------------------------
1992 1993 1993 1995 (2) 1996
------------ --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
(IN THOUSANDS)
Consolidated Balance Sheet Data:
Cash, cash equivalents and marketable investments...... $ 8,422 $ 25,610 $ 30,070 $ 31,105 $ 66,720
Total assets........................................... 11,934 31,063 34,786 40,293 80,832
Long-term obligations.................................. 26,429 3,352 7,645 16,490 10,676
Accumulated deficit.................................... (16,325) (24,804) (33,298) (56,876) (62,804)
Total stockholders' equity............................. (16,288) 21,654 13,425 7,278 52,900
</TABLE>
- ------------------------
(1) Includes the results of operations of Khepri from December 22, 1995 through
December 31, 1995, including a one-time charge for acquired in-process
research and development. Excluding such one-time charge, net loss and net
loss per share would have been $1,219,000 and $0.14 per share,
respectively. With the acquisition of Khepri, the Company expects net loss
from continuing operations to increase significantly.
(2) Includes the acquisition of Khepri as of December 22, 1995.
19
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Except for the historical information contained herein, the following
discussion contains forward-looking statements that involve risks and
uncertainties. The Company's actual results could differ significantly from
the results discussed here. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed in this section
as well as under "Item 1. Business," including, "Business Risks."
OVERVIEW
Since its inception in April 1989, the Company has devoted substantially
all of its resources to its research and development programs. To date, the
Company's only source of revenue has been its corporate collaborations with
Pharmacia & Upjohn, Inc. and its predecessors ("PNU"), Amgen, Inc. ("Amgen"),
Bayer AG ("Bayer"), SmithKline Beecham Corporation ("SB") and Merck & Co.
("Merck"). Its collaborations have taken a variety of forms including in each
case certain of the following elements: payments to the Company of an
up-front fee, purchase of the Company's common stock (PNU human growth
hormone collaboration only), research funding payments, milestone payments,
if and when milestones are achieved, and royalties upon the sale of any
resulting products. Where appropriate, the up-front fees have been recorded
as deferred revenue until earned.
On December 22, 1995 and December 30, 1996 the Company issued an
aggregate of 1,933,701 shares of common stock for all of the outstanding
capital stock of Khepri Pharmaceuticals, Inc. ("Khepri"), a development stage
company focusing on the discovery of therapeutic inhibitors of cysteine
proteases. The acquisition was a tax-free reorganization accounted for as a
purchase. The purchase price was allocated to acquired assets and assumed
liabilities based upon their fair value at the date of acquisition.
Approximately $22.5 million of the purchase price was allocated to in-process
research and development, and has been charged as an expense in the year
ended December 31, 1995. The operating results of Khepri from the date of
acquisition to December 31, 1995 have also been included in the Company's
consolidated results of operations for the year ended December 31, 1995. See
"Item 1. Business--Acquisition of Khepri." In July 1996, the minority
interest investors in Arris Canada (formerly Khepri Canada) exercised their
option to exchange their holdings into 161,418 shares of the Company's
Common Stock.
The Company has not been profitable since inception and expects to incur
substantial losses for at least the next several years, primarily due to the
cost of its research and development programs, including preclinical studies
and human clinical trials. The Company expects that losses will fluctuate
from quarter to quarter, that such fluctuations may be substantial, and that
results from prior quarters may not be indicative of future operating
results. As of December 31, 1996, the Company's accumulated deficit was
approximately $62.8 million.
RESULTS OF OPERATIONS
Years Ended December 31, 1996 and 1995
20
<PAGE>
CONTRACT REVENUE
The Company's contract revenues increased to $21.6 million for the year
ended December 31, 1996 from $16.7 million in 1995. The increase was due
primarily to (i) the inclusion of a full year of research and development
funding support under a collaboration with PNU, which commenced in August
1995, for the treatment of blood clotting disorders, (ii) the commencement of
the collaboration with PNU in March 1996, for the use of combinatorial
chemistry to create probe libraries consisting of 250,000 small molecule
synthetic organic compounds, (iii) the commencement of the collaboration with
SB in June 1996, to develop inhibitors using Arris' proprietary Delta
technology targeting intracellular viral proteases, (iv) a milestone payment
from Bayer in September 1996 for the development of a tryptase inhibitor for
the treatment of asthma, and (v) the commencement of the collaboration with
Merck in November 1996 to develop small molecule inhibitors of proteases
involved in osteoporosis.
RESEARCH AND DEVELOPMENT
The Company's research and development expenses increased to $24.3
million for the year ended December 31, 1996, from $14.7 million in 1995,
primarily due to the expansion of the Company's research efforts in new and
existing programs and the expenses of programs and facilities added as part
of the December 22, 1995 acquisition of Khepri. Research and development
expenses increased as a percentage of total expenses (without the
consideration of acquired in-process research and development expenses of
$230,000 and $22.5 million in 1996 and 1995, respectively) to 82% in 1996
from 78% in 1995. The Company expects its research and development costs to
increase in absolute dollars in 1997 and 1998 due to expansion of its
research programs and the conduct of preclinical studies and clinical trials.
GENERAL AND ADMINISTRATIVE
The Company's general and administrative expenses increased to $5.4
million for the year ended December 31, 1996, from $4.2 million in 1995,
primarily due to the addition of programs added as a result of the
acquisition of Khepri, the addition of general and administrative personnel
in support of the Company's expanded research and development efforts, and
the expansion of the Company's facilities as well as business development
activities. In spite of the overall increase, general and administrative
expenses as a percentage of total expenses (without the consideration of
acquired in-process research and development expenses of $230,000 and $22.5
million in 1996 and 1995, respectively) has decreased to 18% in 1996 from 22%
in 1995. The Company expects its general and administrative expenditures to
increase in absolute dollars in 1997 and 1998 in support of expanded research
and development.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT
In July 1996, in connection with the Company's acquisition of Khepri, the
minority interest investors in Arris Pharmaceuticals Canada, Inc. ("Arris
Canada"), exercised their right to exchange their interest in Arris Canada
for 161,418 shares of the Company's Common Stock. Upon conversion of their
shares in Arris Canada, Arris Canada became a wholly owned subsidiary of the
Company. The fair value of the shares issued to those minority interest
investors on the date of exercise exceeded the book value of the minority
interest in Arris Canada by $230,000. This amount has been expensed as
acquired in-process research and development for the year ended December 31,
1996. The Company recorded $22.5 million in 1995 as a one-time expense
related to in-process research and development in connection with the
acquisition.
INTEREST INCOME AND INTEREST EXPENSE
21
<PAGE>
Interest income increased to $3.1 million for the year ended December 31,
1996 from $1.3 million in 1995. The increase was largely due to the higher
average cash balances in 1996 resulting from receipt of net proceeds of
approximately $36.2 million from the follow-on public offering of 3,000,000
shares of the Company's Common Stock which closed on March 27, 1996 and
approximately $5.5 million from the exercise on April 24, 1996 by the
underwriters of the over allotment option in the follow-on public offering of
450,000 shares, and from the receipt of a milestone fee from an existing
collaboration and up-front fees collected under new collaborations. Interest
expense increased to $670,000 for the year ended December 31, 1996 from
$312,000 in 1995 as a result of higher average debt balances incurred to
finance the expansion of the Company's facilities and acquisition of lab
equipment.
PROVISION FOR INCOME TAX
The Company incurred a net operating loss in 1996 and, accordingly, no
provision for federal or state income taxes was recorded. As of December 31,
1996, the Company had federal net operating tax loss carryforwards of
approximately $22.8 million. The Company's ability to utilize its net
operating loss carryforwards may be subject to an annual limitation in future
periods pursuant to the "change in ownership rules" under Section 382 of the
Internal Revenue Code of 1986, as amended.
Years Ended December 31, 1995 and 1994
CONTRACT REVENUE
The Company's contract revenues increased to $16.7 million for the year
ended December 31, 1995 from $8.3 million in 1994. The increase is due to (i)
the inclusion of a full year of research and development funding support
under a collaboration with Bayer, which commenced in November 1994, for the
development of tryptase and chymase inhibitors, (ii) the commencement of the
PNU collaboration regarding inhibitors of clotting factors in August 1995,
(iii) the commencement of the PNU combinatorial chemistry collaboration in
March 1995 and (iv) the expansion of research, resulting in increased
revenues, in accordance with the collaboration with Amgen for the development
of small molecule oral mimetics of erythropoietin, originally commenced in
1993.
RESEARCH AND DEVELOPMENT
The Company's research and development expenses increased to $14.7
million for the year ended December 1995, from $13.2 million in 1994,
primarily due to the expansion of the Company's research efforts under the
programs described above, increases in personnel and expansion of facilities.
GENERAL AND ADMINISTRATIVE
The Company's general and administrative expenses increased to $4.2
million for the year ended December 31, 1995 from $4.0 million in 1994. The
increase was primarily incurred in support of the extension of the Company's
research and development programs, increased business development activities
and expansion of the Company's facilities.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT
In December 1995, the Company recorded a one-time charge of $22.5 million
related to acquired in-process research and development in connection with
the acquisition of Khepri.
INTEREST INCOME AND INTEREST EXPENSE
22
<PAGE>
Interest income increased to $1.3 million for the year ended December 31,
1995 from $869,000 in 1994. The increase was due to higher cash and
investment balances from collaboration commitment fees, as well as higher
interest rates. Interest expense decreased to $312,000 for the year ended
December 31, 1995 from $347,000 in 1994. This decrease was a result of more
favorable financing terms, offset by an overall increase in obligations
outstanding.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations since inception primarily through
private and public offerings of its capital stock and through corporate
collaborations. As of December 31, 1996, the Company had realized
approximately $91 million in net proceeds from offerings of its capital
stock. In addition, the Company has realized $62 million since inception from
its corporate collaborations (excluding the $5.4 million equity investment in
the Company made by PNU).
The Company's principal sources of liquidity are its cash and
investments, which totaled $66.7 million as of December 31, 1996. In
September 1996, the Company arranged for a $12 million line of credit from
Bank of America, which is available through December 1997. As of December 31,
1996 the Company had borrowed $6.4 million and had $5.6 million remaining
available under this line of credit.
During the year ending December 31, 1996, $5.0 million of cash was used
in operations, $6.9 million was expended for the purchase of property and
equipment and $48.2 million was realized through financing activities,
primarily due to the follow-on public offering in March 1996. Additional
equipment is expected to be needed as the Company increases its research and
development activities. The Company received net debt financing of $4.7
million in 1996, which includes $6.4 million in proceeds from the line of
credit, discussed above, and net repayments over proceeds from capital leases
and a bank note payable of $1.7 million.
The Company's revenues presently are attributable to collaborations with
PNU, Amgen, Bayer, SB and Merck. The PNU human growth hormone collaboration
extends through mid-1997. The Amgen erythropoietin collaboration
concluded in February 1997. The proof-of-concept phase of the SB
collaboration ends in June 1997 and can be extended by SB beyond that into a
research phase. All of the Company's other collaborations extend 12 months
beyond March 1997. If the Company is unable to renew any of these existing
collaborations or extend the SB collaboration into the research phase, such
events may have a material adverse effect on the Company's results of
operation and financial condition. The cash received by the Company under all
collaborations for the year ended December 31, 1996 was approximately $20.3
million. This amount includes the up-front payment from PNU in connection
with the combinatorial chemistry agreement which commenced in March 1996, the
up-front payment from SB in connection with the antiviral collaboration which
commenced in June 1996 and the up-front payment from Merck in connection with
the small molecule inhibitors of proteases involved in osteoporosis. The
aggregate collaboration funding to be received by the Company in 1997 and
1998 is expected to be less than that received in 1996, excluding milestone
payments and new collaborations. There can be no assurance that the research
support or any milestone payments will be realized on a timely basis or at
all.
The Company expects that its existing capital resources, including
research and development revenues from existing collaborations, will enable
the Company to maintain current and planned operations through at least the
next 48 months. The Company anticipates that it will need to raise
substantial additional capital to fund its operations beyond that time.
23
<PAGE>
The Company expects that it will seek such additional funding through new
collaborations, through the extension of existing collaborations or through
public or private equity or debt financing. There can be no assurance that
additional financing will be available on acceptable terms or at all. If all
additional funds are raised by issuing equity securities, further dilution to
stockholders may result. If adequate funds are not available, the Company may
be required to delay, to reduce the scope of or to eliminate one or more of
its research or development programs or to obtain funds through arrangements
with collaborative partners or others that may require the Company to
relinquish rights to certain of its technologies or products that the Company
would otherwise seek to develop or commercialize itself, which would have a
material adverse affect on the Company's results of operations and financial
condition.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Report of Ernst & Young LLP, Independent Auditors...................................... 25
Consolidated Balance Sheets at December 31, 1996 and 1995.............................. 26
Consolidated Statements of Operations for the three years ended December 31, 1996...... 27
Consolidated Statement of Stockholders' Equity for the three years ended December 31,
1996................................................................................. 28
Consolidated Statements of Cash Flows for the three years ended December 31, 1996...... 29
Notes to Consolidated Financial Statements............................................. 31
</TABLE>
24
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Stockholders
Arris Pharmaceutical Corporation
We have audited the accompanying consolidated balance sheets of Arris
Pharmaceutical Corporation as of December 31, 1996 and 1995, and the related
consolidated statements of operations, stockholders' equity and cash flows for
each of the three years in the period ended December 31, 1996. 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 consolidated financial position of Arris
Pharmaceutical Corporation at December 31, 1996 and 1995, and the
consolidated results of its operations and its cash flows for each of the
three years in the period ended December 31, 1996, in conformity with
generally accepted accounting principles.
Ernst & Young LLP
Palo Alto, California
February 10, 1997
25
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1996 1995
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents.............................................. $ 10,822 $ 21,706
Short-term marketable investments...................................... 37,021 9,399
Prepaid expenses and other current assets.............................. 2,217 798
--------- ---------
Total current assets.................................................... 50,060 31,903
Marketable investments.................................................. 11,627 --
Restricted cash and investments......................................... 7,250 --
Property and equipment, net............................................. 10,446 7,423
Note receivable from officer............................................ 750 --
Other assets............................................................ 699 967
--------- ---------
$ 80,832 $ 40,293
--------- ---------
--------- ---------
Liabilities and stockholders' equity
Current liabilities:
Accounts payable....................................................... $ 1,439 $ 872
Accrued compensation................................................... 1,480 1,718
Accrued merger costs................................................... -- 762
Other accrued liabilities.............................................. 1,570 1,889
Current portion of deferred revenue.................................... 10,783 8,585
Current portion of notes payable and capital lease obligations......... 1,984 2,699
--------- ---------
Total current liabilities............................................... 17,256 16,525
Noncurrent portion of deferred revenue.................................. 1,973 5,472
Noncurrent portion of notes payable and capital lease obligations....... 8,703 3,263
Convertible acquisition liability....................................... -- 6,185
Minority interest payable............................................... -- 1,570
Commitments
Stockholders' equity:
Preferred stock, $0.001 par value, 10,000,000 shares authorized, none
issued or outstanding................................................. -- --
Common stock, $0.001 par value; 30,000,000 shares authorized, 14,831,975
shares and 10,169,076 shares issued and outstanding at December 31,
1996 and 1995, respectively........................................... 115,904 64,389
Note receivable from officer........................................... (200) (200)
Deferred compensation.................................................. -- (35)
Accumulated deficit.................................................... (62,804) (56,876)
--------- ---------
Total stockholders' equity.............................................. 52,900 7,278
--------- ---------
$ 80,832 $ 40,293
--------- ---------
--------- ---------
</TABLE>
26
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------
1996 1995 1994
--------- ---------- ---------
(IN THOUSANDS, EXCEPT PER SHARE
AMOUNTS)
<S> <C> <C> <C>
Contract revenue................................................................ $ 21,560 $ 16,727 $ 8,304
Operating expenses:
Research and development....................................................... 24,319 14,689 13,155
General and administrative..................................................... 5,409 4,247 4,010
Acquired in-process research and development................................... 230 22,514 --
--------- ---------- ---------
Total operating expenses........................................................ 29,958 41,450 17,165
--------- ---------- ---------
Operating loss.................................................................. (8,398) (24,723) (8,861)
Interest income................................................................. 3,140 1,302 869
Interest expense................................................................ (670) (312) (347)
--------- ---------- ---------
Net loss........................................................................ $ (5,928) $ (23,733) $ (8,339)
--------- ---------- ---------
--------- ---------- ---------
Net loss per share.............................................................. $ (0.45) $ (2.71) $ (0.97)
--------- ---------- ---------
--------- ---------- ---------
Shares used in computing net loss per share..................................... 13,177 8,745 8,570
--------- ---------- ---------
--------- ---------- ---------
</TABLE>
27
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(In thousands, except share and per share amounts)
<TABLE>
<CAPTION>
NOTE
COMMON STOCK RECEIVABLE TOTAL
------------------------ FROM DEFERRED ACCUMULATED STOCKHOLDERS'
SHARES AMOUNT OFFICER COMPENSATION DEFICIT EQUITY
------------ ---------- ----------- --------------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31, 1993................ 8,493,321 $ 46,981 $ (200) $ (323) $ (24,804) $ 21,654
Exercise of options and warrants to purchase
common stock at $0.07-$5.95 per share...... 114,213 42 -- -- -- 42
Issuance of common stock at $5.46 and $4.89
per share in connection with the Employee
Stock Purchase Plan (net of offering costs
of $60).................................... 27,384 78 -- -- -- 78
Issuance of a warrant to purchase common
stock at $7.00 per share................... -- 1 -- -- -- 1
Amortization of deferred compensation........ -- -- -- 144 -- 144
Unrealized loss on securities held as
available-for-sale......................... -- -- -- -- (155) (155)
Net loss..................................... -- -- -- -- (8,339) (8,339)
---------- ------- ----- ----- ------- -------
Balances at December 31, 1994................ 8,634,918 47,102 (200) (179) (33,298) 13,425
Exercise of options to purchase common stock
at $0.35-$7.00 per share................... 74,484 162 -- -- -- 162
Issuance of common stock at $4.89-$11.50
per share (net of repurchases) for cash
and services............................... 44,915 281 -- -- -- 281
Issuance of common stock and value of
options and warrants issued in connection
with the acquisition of Khepri
Pharmaceuticals, Inc....................... 1,414,759 16,844 -- -- -- 16,844
Amortization of deferred compensation........ -- -- -- 144 -- 144
Recovery of unrealized loss on securities
held as available-for-sale................. -- -- -- -- 155 155
Net loss..................................... -- -- -- -- (23,733) (23,733)
--------- ------- ------ ------ --------- --------
Balances at December 31, 1995................ 10,169,076 64,389 (200) (35) (56,876) 7,278
Exercise of options and a warrant to
purchase common stock at $0.32-$13.02
per share.................................. 466,088 1,425 -- -- -- 1,425
Issuance of common stock at $13.00 per share
net of issuance costs of $3,138............ 3,450,000 41,712 -- -- -- 41,712
Issuance of common stock at $4.89 to $9.46
per share in connection with the Employee
Stock Purchase Plan........................ 66,692 393 -- -- -- 393
Issuance of common stock in connection with
the exercise of the Arris Canada minority
interest option............................ 161,418 1,800 -- -- -- 1,800
Issuance of common stock in connection
with the acquisition of Khepri
Pharmaceuticals, Inc....................... 518,701 6,185 -- -- -- 6,185
Amortization of deferred compensation........ -- -- -- 35 -- 35
Net loss..................................... -- -- -- -- (5,928) (5,928)
Balances at December 31, 1996................ 14,831,975 $ 115,904 $ (200) $ -- $ (62,804) $ 52,900
</TABLE>
28
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Increase (Decrease) in Cash and Cash Equivalents
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------
1996 1995 1994
--------- ---------- ---------
(IN THOUSANDS)
<S> <C> <C> <C>
Cash flows from operating activities
Net loss......................................................................... $ (5,928) $ (23,733) $ (8,339)
Adjustments to reconcile net loss to net cash provided by (used in) operating
activities:
Depreciation and amortization................................................... 3,859 2,454 2,245
Loss on disposal of fixed assets................................................ 209 -- --
Stock issued and issuable for services.......................................... 35 98 --
Acquired in-process research and development.................................... 230 22,514 --
Changes in assets and liabilities:
Prepaid expenses and other current assets...................................... (1,419) 742 (203)
Other assets................................................................... 93 (31) (39)
Accounts payable............................................................... 567 347 (1,645)
Accrued compensation........................................................... (238) 27 460
Accrued merger costs........................................................... (762) -- --
Other accrued liabilities...................................................... (319) 810 222
Deferred revenue............................................................... (1,301) (2,274) 12,053
--------- ---------- ---------
Net cash and cash equivalents (used in) provided by operating activities......... (4,974) 954 4,754
--------- ---------- ---------
Cash flows from investing activities available for-sale-securities:
Purchases....................................................................... (11,628) (8,808) --
Maturities...................................................................... -- 16,853 9,418
Held-to-maturity securities:
Purchases....................................................................... (74,458) (7,890) --
Maturities...................................................................... 46,837 3,506 --
Purchase of restricted cash and investments...................................... (7,250) -- --
Acquisition, net of cash balances................................................ -- 2,266 --
Note receivable from officer..................................................... (750) -- --
Expenditures for property and equipment.......................................... (6,881) (3,827) (1,115)
--------- ---------- ---------
Net cash and cash equivalents (used in) provided by investing activities......... (54,130) 2,100 8,303
--------- ---------- ---------
Cash flows from financing activities
Net proceeds from issuance of common stock....................................... 43,495 345 121
Proceeds from issuance of note payable and capital lease obligations............. 9,164 2,707 2,377
Principal payments on note payable and capital lease obligations................. (4,439) (1,565) (1,522)
--------- ---------- ---------
Net cash and cash equivalents provided by financing activities................... 48,220 1,487 976
--------- ---------- ---------
Net (decrease) increase in cash and cash equivalents............................. (10,884) 4,541 14,033
Cash and cash equivalents, beginning of year..................................... 21,706 17,165 3,132
--------- ---------- ---------
Cash and cash equivalents, end of year........................................... $ 10,822 $ 21,706 $ 17,165
--------- ---------- ---------
--------- ---------- ---------
</TABLE>
29
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
Consolidated Statements of Cash Flows (continued)
Increase (Decrease) in Cash and Cash Equivalents
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1996 1995 1994
--------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C>
Supplemental disclosure of cash flows information
Cash paid during the year for interest.................................... $ 623 $ 291 $ 347
--------- --------- ---------
--------- --------- ---------
Supplemental schedule of noncash investing and financing activities
Issuance of common stock and value of options and warrants issued in
acquisition............................................................. $ 6,185 $ 16,844 $ --
--------- --------- ---------
--------- --------- ---------
Issuance of common stock to Arris Canada minority interest investors...... $ 1,800 $ -- $ --
--------- --------- ---------
--------- --------- ---------
Noncash acquisition of equipment under capital lease...................... $ -- $ -- $ 7
--------- --------- ---------
--------- --------- ---------
</TABLE>
30
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. Organization and Summary of Significant Accounting Policies
ORGANIZATION
Arris Pharmaceutical Corporation ("Arris" or the "Company") uses an
integrated drug discovery approach combining structure-based drug design,
combinatorial chemistry and its proprietary Delta Technology to discover and
develop a number of diverse synthetic small molecule therapeutics for
commercially important disease categories where existing therapies have
significant limitations. Arris' product development includes protease programs
targeting the inhibition of enzymes implicated in asthma, inflammatory
disease, blood clotting disorders, infectious diseases, osteoporosis, cancer
and autoimmune disease. The Company's technology platform also includes
receptor-based discovery programs designed to discover small molecule drugs
that mimic important therapeutic proteins that are already successful
products.
The consolidated financial statements include the accounts of the
Company, its wholly owned subsidiaries, Arris Protease Corporation, Inc., and
Arris Canada (formerly Khepri Pharmaceuticals Canada, Inc.) (see Note 2). All
significant intercompany accounts and transactions have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS AND INVESTMENTS
The Company considers all highly liquid investments with maturities of
three months or less at the date of purchase to be cash equivalents.
Investments with maturities greater than three months and less than one year
are classified as short-term investments. Investments with maturities greater
than one year are classified as long-term investments.
Management determines the appropriate classification of debt securities
at the time of purchase and reevaluates such designation as of each balance
sheet date. Debt securities are classified as held-to-maturity when the
Company has the positive intent and ability to hold the securities to
maturity. Held-to-maturity securities are stated at amortized cost.
31
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. Organization and Summary of Significant Accounting Policies (continued)
CASH AND CASH EQUIVALENTS AND INVESTMENTS (continued)
Debt securities not classified as held-to-maturity are classified as
available-for-sale. Available-for-sale securities are stated at amortized
cost which approximated fair value.
Amortization of premiums and accretion of discounts to maturity are included
in interest income. Realized gains and losses, and declines in value judged
to be other than temporary are also included in interest income. The cost of
securities sold is based on the specific identification method.
DEPRECIATION AND AMORTIZATION
Depreciation is provided for using the straight-line method over the
estimated useful lives of the respective assets. Leasehold improvements are
amortized over the term of the lease or economic useful life, whichever is
shorter.
REVENUE RECOGNITION
Revenue recognized under the Company's collaborative research agreements is
recorded when earned as defined in the respective agreements. Research
funding and commitment fees are recognized over the research period.
Benchmark payments are recognized as revenue upon achievement of mutually
agreed upon milestones. Payments received in advance are recorded as deferred
revenue until earned.
RESEARCH AND DEVELOPMENT
Research and development expenses consist of costs incurred for independent
and collaborative research and development. These costs include direct and
research-related overhead expenses. Research and development expenses under
the collaborative research agreements approximate the revenue recognized
under the agreements in 1996, 1995 and 1994 (exclusive of milestone and
up-front commitment fees).
32
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. Organization and Summary of Significant Accounting Policies (continued)
STOCK-BASED COMPENSATION
In accordance with the provisions of Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"),
the Company has elected to continue to follow Accounting Principles Board
Opinion No. 25 "Accounting for Stock Issue to Employees" ("APB 25") and
related interpretations in accounting for its employee stock option and
purchase plans. See Note 6 for pro forma disclosures required by SFAS 123.
NET LOSS PER SHARE
Net loss per share is computed using the weighted average number of
shares of common stock outstanding. Common equivalent shares from stock
options and warrants are excluded from the computation as their effect is
antidilutive.
2. Acquisition of Khepri Pharmaceuticals, Inc.
On December 22, 1995, the Company acquired all of the outstanding capital
stock of Khepri Pharmaceuticals, Inc. ("Khepri"), a development stage company
engaged in research, development and marketing of protease and protease
inhibitor compounds for the treatment of human diseases and disorders, by
merging Khepri with and into Arris Protease, Inc., a wholly owned subsidiary
of Arris. The transaction was accounted for as a purchase. The purchase price
of $23,039,000 consisted of, among other items, the initial issuance of
1,415,000 shares of Company Common Stock, valued at $15,421,000, in exchange
for all outstanding Khepri capital stock, options and warrants valued at
$1,423,000 and an obligation due on December 30, 1996 for the Company, at its
option, to either pay $6,185,000 in cash or issue approximately 520,000
common shares based on formulas defined in the merger agreement. The Company
fulfilled the December 30, 1996 obligation described above by issuing 518,701
shares of its Common Stock.
In connection with the acquisition, the Company renegotiated the stock
exchange agreements between Khepri and the other investors in Arris Canada.
Under the amended agreements, the Company, acting alone, or the minority
interest investors, acting together, had the option to terminate both parties'
funding obligations of Arris Canada and allow the minority interest investors to
exchange their shares in Arris Canada for shares of the Company. In July 1996,
the minority interest investors elected to convert their interest in Arris
Canada into 161,418 shares of the Company's Common Stock, at which time Arris
Canada became a wholly owned subsidiary.
33
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. Acquisition of Khepri Pharmaceuticals, Inc. (continued)
The fair value of the Company's Common Stock at the time of the election
by the minority interest investors in excess of the book value of the
minority interest in July 1996 was $230,000. This amount was recorded as
additional purchase price and charged to in process research and development
for the year ended December 31, 1996.
3. COLLABORATIVE AGREEMENTS
MERCK
In November 1996, the Company signed a collaborative research and
development agreement with Merck & Co. ("Merck") for the development of small
molecule inhibitors of proteases involved in osteoporosis. Arris received an
initial commitment fee (which is being amortized over the initial research
period). The agreement also calls for a two-year research term which may be
extended at Merck's option, during which Arris receives research funding and
benchmark payments upon the achievement of mutually agreed upon milestones.
Arris granted Merck an exclusive license to develop, manufacture and market
certain proteases inhibitors. Arris is to receive royalties on Merck's sales
of licensed products. Approximately $804,000 in contract revenue was
recognized under this agreement in 1996.
SMITHKLINE BEECHAM
In June 1996, Arris entered into an agreement with SmithKline Beecham
("SB") to develop inhibitors using Arris' proprietary Delta technology with
certain intracellular viral proteases. The agreement incorporates an initial
proof-of concept phase and an optional research phase, if elected by SB.
Arris has received a license fee and shall receive research funding and
certain milestone payments during the proof-of-concept and research phases.
Subject to the initiation of the research phase of the program, Arris granted
SB an exclusive license to develop inhibitors of the target proteases using
Arris' Delta technology and an exclusive license to manufacture and market
products developed under the agreement. In return, Arris shall receive
royalties on product sales. Approximately $725,000 in contract revenue was
recognized under this agreement in 1996.
34
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. Collaborative Agreements (continued)
BAYER
In November 1994, Arris established a collaborative agreement with Bayer
AG ("Bayer") aimed at developing inhibitors of the regulatory enzymes
tryptase and chymase for the treatment of asthma and other inflammatory and
auto-immune diseases. The agreement calls for a five-year research
collaboration between the parties which Bayer may terminate at its discretion
after three years. Arris received an initial commitment fee (which is being
amortized over the noncancelable portion of the research period), is
receiving research funding over the research period, and will receive
benchmark payments upon the achievement of mutually agreed upon milestones.
Arris granted Bayer the exclusive right to develop inhibitors of tryptase and
chymase which result from the program, worldwide manufacturing and marketing
rights to these compounds and assigned to Bayer certain rights to patents
arising out of the collaboration. Arris is to receive royalties on Bayer's
sales of licensed products. The Bayer collaboration provides that clinical
development costs related to the Company's clinical compound, APC-366, will
be borne by the Company through Phase IIb. If the results of the Phase IIb
studies meet certain agreed-upon criteria, Bayer will assume development of
APC-366. If the results fail to meet the criteria, development of APC-366
will be terminated. In September 1996, Bayer elected to initiate clinical
development of an Arris compound, designated BAY-17-1998, the development
costs of which are borne entirely by Bayer. Approximately $7,917,000,
$7,667,000 and $639,000 in contract revenue was recognized under this
agreement in 1996, 1995 and 1994, respectively.
Pharmacia & Upjohn
In March 1996, the Company entered into a research agreement with
Pharmacia & Upjohn, Inc. ("Pharmacia & Upjohn") to use combinatorial
chemistry to create a probe library consisting of 250,000 small molecule
synthetic organic compounds. Arris has granted Pharmacia & Upjohn a
co-exclusive license to the library being developed along with the
technologies used for synthesis and screening. In return for the co-exclusive
license, Arris received an upfront nonrefundable license payment (which is
being amortized over the expected term of the agreement) and payments upon
the delivery of the compounds.
35
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. Collaborative Agreements (continued)
Pharmacia & Upjohn (continued)
In August 1995, Arris entered into a research and development agreement
with Pharmacia & Upjohn focused on the development of inhibitors of Thrombin,
Factor Xa and Factor VIIa for the treatment of blood clotting disorders. The
agreement calls for a five-year research collaboration between the parties
which Pharmacia & Upjohn may terminate at its discretion after three years.
Arris received an initial commitment fee (which is being amortized over the
noncancelable portion of the research period), is receiving research funding
over the research period, and will receive benchmark payments upon the
achievement of mutually agreed upon milestones. Arris granted Pharmacia &
Upjohn the exclusive right to develop inhibitors of Thrombin, FactorEXa and
Factor VIIa which result from the program, as well as worldwide manufacturing
and marketing rights to these compounds. Arris is to receive royalties on
Pharmacia & Upjohn's sales of licensed products.
In January 1994, the Company entered into an agreement with Pharmacia &
Upjohn, which ended in January 1995, to apply the Company's proprietary
computational algorithms to one of Pharmacia & Upjohn's in-house drug
discovery programs.
In March 1993, Arris entered into a research and development agreement
with Pharmacia & Upjohn aimed at developing certain human growth factor
mimetics, initially focusing on human growth hormone. The agreement, as
extended, between Arris and Pharmacia & Upjohn calls for a research
collaboration between the parties, the funded research phase of which
ends in 1997. Further research may be conducted by Pharmacia & Upjohn
pursuant to the agreement. Concurrent with the signing of the initial
agreement, Pharmacia & Upjohn made a $5.4 million equity investment in Arris.
Arris is receiving research funding during the term of the research
collaboration and will receive benchmark payments if mutually agreed upon
milestones are reached. Arris granted Pharmacia & Upjohn the exclusive right
to develop growth factor mimetics discovered as well as worldwide
manufacturing and marketing rights to these compounds. Arris is to receive
royalties on Pharmacia & Upjohn's sales of any licensed products. Arris
retains the rights to technology developed by the Company and gains licensing
rights to certain technology developed by Pharmacia & Upjohn under the
research program that may have application to other cytokine targets outside
the focus of the collaboration.
Arris has recognized a total of $8,585,000, $4,536,000 and $3,440,000 in
revenues under these agreements for the years ended December 31, 1996, 1995
and 1994, respectively.
36
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. Collaborative Agreements (continued)
Pharmacia & Upjohn (continued)
In addition to its activities under these collaborative agreements, the
Company purchased approximately $103,000 and $389,000 in supplies and equipment
from Pharmacia & Upjohn and its subsidiaries in 1996 and 1995, respectively
(none in 1994).
Amgen Inc.
In May 1993, Arris entered into an agreement with Amgen Inc. ("Amgen")
aimed at the development of synthetic, small molecule mimetics of
erythropoietin ("EPO"). The agreement, as amended in 1996, calls for a
research collaboration between the parties through February 1997. Further
research will be conducted by Amgen. Arris received an initial commitment fee
(which was amortized over the initial research period), received research
funding over the research period and will receive benchmark payments as
certain milestones are achieved. Arris granted Amgen the exclusive right to
develop any EPO mimetic compounds discovered, as well as worldwide
manufacturing and marketing rights to those compounds. Arris is to receive
royalties on Amgen's sales of licensed products and under certain
circumstances Arris is required to pay royalties to third parties. Arris has
retained the rights to apply all technologies developed solely by the Company
to the development of products outside the EPO field. Either Arris or Amgen
can independently exploit jointly developed technology that does not pertain
to EPO. Approximately $3,529,000, $4,523,000 and $4,193,000 of contract
revenue was recognized under this agreement in 1996, 1995 and 1994,
respectively.
37
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following is a summary of held-to-maturity securities at December 31,
1996 and 1995:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ------------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
At December 31, 1996:
U.S. treasury securities......................................... $16,550 $ 1 $ -- $16,551
U.S. agency securities........................................... 5,449 7 -- 5,456
Securities of U.S. corporations.................................. 15,022 1 -- 15,023
--------- ---- ----------- -----------
$37,021 $ 9 $ -- $37,030
--------- ---- ----------- -----------
--------- ---- ----------- -----------
At December 31, 1995:
U.S. treasury securities......................................... $ 5,015 $-- $(101) $ 4,914
U.S agency securities............................................ 7,392 -- (23) 7,369
Securities of U.S. corporations.................................. 11,487 -- (14) 11,473
--------- ---- ----------- -----------
$ 23,894 $-- $(138) $23,756
--------- ---- ----------- -----------
--------- ---- ----------- -----------
</TABLE>
The following is a summary of available-for-sale securities at December 31,
1996 (none at December 31, 1995):
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ----------- --------------- -----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
At December 31, 1996:
U.S. treasury securities.............................. $ 9,909 $ -- $ -- $ 9,909
Securities of U.S. corporations....................... 1,718 -- -- 1,718
--------- ----- ---- -----------
$ 11,627 $ -- $ -- $11,627
--------- ----- ---- -----------
--------- ----- ---- -----------
</TABLE>
38
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Balance sheet classification:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
At December 31, 1996:
Short-term marketable investments.................................. $ 37,021 $ 9 $ -- $ 37,030
Long-term marketable investments................................... 11,627 -- -- 11,627
Restricted investments............................................. 7,250 -- -- 7,250
--------- ----------- ----- -----------
$ 55,898 $ 9 $ -- $ 55,907
--------- ----------- ----- -----------
--------- ----------- ----- -----------
At December 31, 1995:
Cash equivalents................................................... $ 14,495 $ -- $ -- $ 14,495
Short-term marketable investments.................................. 9,399 -- (138) 9,261
--------- ----------- ----- -----------
$ 23,894 $ -- $ (138) $ 23,756
--------- ----------- ----- -----------
--------- ----------- ----- -----------
</TABLE>
At December 31, 1996, the contractual maturities of available-for-sale
securities are due after one year and within two years. The contractual
maturities of held-to-maturity securities are due within one year.
The fair value of the note payable is estimated based on current interest
rates available to the Company for debt instruments with similar terms, degree
of risk and remaining maturities. The carrying value of the note payable
approximates its fair value, as the interest rate on the note resets when the
bank s reference rate changes.
The estimated fair value amounts have been determined by the Company using
available market information and appropriate valuation methodologies. However,
considerable judgment is required in interpreting market data to develop the
estimates of fair value. Accordingly, the estimates presented herein are not
necessarily indicative of the amounts that the Company could realize in a
current market exchange.
39
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. PROPERTY AND EQUIPMENT
Property and equipment is recorded at cost and consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1996 1995
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Machinery and equipment................................................. $ 12,345 $ 11,087
Furniture and fixtures.................................................. 487 448
Office equipment........................................................ 274 225
Leasehold improvements.................................................. 5,436 3,743
Construction in progress................................................ 1,234 610
--------- ---------
19,776 16,113
Less accumulated depreciation and amortization.......................... (9,330) (8,690)
--------- ---------
$ 10,446 $ 7,423
--------- ---------
--------- ---------
</TABLE>
Property and equipment includes approximately $10,548,000 and $9,363,000
recorded under capital leases at December 31, 1996 and 1995, respectively.
Amortization is included with depreciation expense, and accumulated amortization
of equipment under capital leases was approximately $6,673,000 and $4,730,000 at
December 31, 1996 and 1995, respectively.
On January 1, 1996, the Company adopted Statement of Financial Accounting
Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed of" ("SFAS 121"). SFAS 121 requires recognition
of impairment of long-lived assets in the event the net book value of such
assets exceeds the future undiscounted cash flows attributable to such assets.
The effect of adopting the statement was immaterial.
40
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. STOCKHOLDERS EQUITY
WARRANTS
In connection with various equipment lease arrangements and equity
financings, the Company has issued warrants to purchase a total of 170,172
shares of the Company's common stock at prices ranging from $2.86 to $13.46 per
share. These warrants expire at various dates from 1996 through 2002. During
1996, warrants to purchase 179 shares of common stock at $2.46 per share were
exercised. Warrants to purchase 67,142 shares of common stock expired in 1996.
STOCK OPTIONS
In 1989, the Company adopted the 1989 Stock Option Plan, whereby directors,
officers, employees, and consultants may be issued restricted stock or granted
incentive stock options or nonqualified stock options to purchase the Company's
common stock at the discretion of the board of directors.
In June 1994, the Company adopted the 1994 Non-Employee Directors Stock
Option Plan, whereby 125,000 shares of common stock have been reserved for
issuance to nonemployee directors upon the exercise of nonqualified stock
options granted pursuant to the Plan.
All options granted under these Plans become exercisable pursuant to the
applicable terms of the grant. Generally, the exercise price of the options are
granted at the average market value of the Company's common stock for the 15
days preceding the grant, vest ratably over four years and expire ten years from
the date of grant.
41
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. Stockholders Equity (continued)
Stock Options (continued)
Transactions under all of the above plans are as follows:
<TABLE>
<CAPTION>
OUTSTANDING STOCK OPTIONS
------------------------------- WEIGHTED-AVERAGE
SHARES NUMBER OF PRICE PER EXERCISE
AVAILABLE SHARES SHARE PRICE
---------- -------------- --------------- -----------------
<S> <C> <C> <C> <C>
Balances at December 31, 1993..................... 212,539 837,423 $ 0.07-$7.00 $ 4.50
Shares reserved................................. 425,000 -- -- --
Options granted................................. (228,856) 228,856 $ 4.88-$7.00 $ 5.56
Options canceled................................ 39,394 (39,394) $ 0.35-$6.95 $ 0.53
Options exercised............................... -- (93,119) $ 0.07-$5.95 $ 0.49
---------- -------------- ---------------- -----------
Balances at December 31, 1994..................... 448,077 933,766 $ 0.07-$7.00 $ 5.33
Shares reserved................................. 478,460 -- -- --
Options granted................................. (626,425) 626,425 $ 6.19-$13.08 $ 8.12
Options assumed................................. (128,460) 128,460 $ 1.23-$2.46 $ 1.90
Options canceled................................ 58,115 (58,115) $ 0.35-$11.60 $ 6.63
Options exercised............................... -- (74,484) $ 0.07-$5.95 $ 2.35
Shares repurchased.............................. 7,142 -- $0.07 $ 0.07
---------- -------------- ---------------- -----------
Balances at December 31, 1995..................... 236,909 1,556,052 $ 0.07-$13.08 $ 4.65
Shares reserved................................. 550,000 -- -- --
Options granted................................. (857,076) 857,076 $ 10.89-$16.12 $ 13.64
Options exercised............................... -- (431,409) $ 0.70-$13.02 $ 2.11
Options canceled................................ 217,363 (217,363) $ 0.84-$16.12 $ 9.17
---------- -------------- ---------------- -----------
Balances at December 31, 1996..................... 147,196 1,764,356 $ 0.07-$16.12 $ 9.10
---------- -------------- ---------------- -----------
---------- -------------- ---------------- -----------
</TABLE>
At December 31, 1996, options to purchase 534,517 shares under the plans
were exercisable (655,267 and 371,366 at December 31, 1995 and 1994,
respectively). The weighted average fair value of stock options granted were
$11.13 and $8.30 in 1996 and 1995, respectively.
42
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. Stockholders Equity (continued)
Stock Options (continued)
Options outstanding and exercisable by price range at December 31, 1996:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------------------------------------
WEIGHTED-
OPTIONS AVERAGE WEIGHTED- OPTIONS WEIGHTED-
RANGE OF OUTSTANDING AT REMAINING AVERAGE EXERCISABLE AT AVERAGE
EXERCISE DECEMBER 31, CONTRACTUAL EXERCISE DECEMBER 31, EXERCISE
PRICES 1996 LIFE PRICE 1996 PRICE
- --------------- ------------------ -------------- ---------- --------------- -------------
(IN YEARS)
<S> <C> <C> <C> <C> <C>
$0.07-$1.26..... 185,569 5.83 $ 0.63 172,137 $ 0.59
$1.85-$5.95..... 214,557 7.17 $ 3.87 142,828 $ 3.91
$5.96-$11.30.... 670,926 8.47 $ 8.69 210,619 $ 8.26
$11.32-$16.12... 693,304 9.45 $14.20 75,284 $14.36
--------- -------
1,764,356 8.32 $ 9.10 600,868 $ 5.49
--------- ---- ------ ------- ------
--------- ---- ------ ------- ------
</TABLE>
In fiscal 1993, the Company recorded $404,000 in deferred compensation
expense for the difference between the exercise price and the deemed fair
value for financial statement presentation purposes of the Company's Common
Stock, as determined by the board of directors, for certain options granted
prior to the Company's initial public offering effective date (November 19,
1993). Such options were granted at prices ranging from $0.84 to $5.95 per
share with a deemed fair value ranging from $1.08 to $6.80 per share and the
deferred compensation is being amortized over a three-year period.
Amortization of deferred compensation for 1996, 1995 and 1994 was $35,000,
$144,000 and $144,000, respectively.
EMPLOYEE STOCK PURCHASE PLAN
In October 1993, the Company adopted the 1993 Employee Stock Purchase Plan
(the "Purchase Plan") for which employees who meet certain minimum employment
criteria are eligible. Under the Purchase Plan, a total of 108,879 shares are
reserved for future issuance; 66,692 shares were issued in 1996 (47,045 shares
were issued in 1995). Eligible employees may purchase stock at 85% of the lower
of the fair market value of the stock at the enrollment or purchase date.
43
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. Stockholders Equity (continued)
Stock Bonus Plan
In December 1993, the Company adopted the 1993 Employee Stock Bonus Plan,
whereby the Company would reward employees for contributions to the Company and
encourage the alignment of the employees long-term interests with those of the
Company by granting stock to certain employees for no consideration. These
shares do not vest unless the recipient remains an employee of the Company for
two years from the date of grant. Under the plan, 50,000 common shares were
reserved for grant. Grants for 10,050 shares were outstanding under this plan at
December 31, 1996. Additionally, 34,500 shares had vested as of December 31,
1996.
STOCK-BASED COMPENSATION
As of December 31, 1996, the Company has four stock-based compensation
plans, which are described above. The Company has elected to follow APB 25 and
related interpretations in accounting for its employee stock-based awards
because, as discussed below, the alternative fair value accounting provided for
under SFAS 123 requires use of option valuation models that were not developed
for use in valuing employee stock options and employee stock-based awards.
Compensation expense with respect to such awards has been immaterial.
PRO FORMA DISCLOSURES
Pro forma information regarding net loss and net loss per share is required
by SFAS 123, and has been determined as if the Company had accounted for its
stock-based awards granted subsequent to December 31, 1994 under the fair value
method of SFAS 123. The fair value for these stock-based awards was estimated at
the date of grant using a Black-Scholes option pricing model for the multiple
option approach. Under this approach, the expected life of the option is defined
as the period from the vesting date to the expected exercise date. The
Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's stock-based awards have characteristics significantly different
from those of traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of the Company's stock-based awards to its employees.
44
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. Stockholders Equity (continued)
STOCK-BASED COMPENSATION (CONTINUED)
PRO FORMA DISCLOSURES (CONTINUED)
The fair value of the Company's stock-based awards to employees was
estimated assuming no expected dividends and the following weighted-average
assumptions:
<TABLE>
<CAPTION>
EMPLOYEE STOCK
OPTIONS PURCHASE PLAN
-------------------- --------------------
1996 1995 1996 1995
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Expected life (years)............................................................. 1.0 1.0 0.5 0.5
Expected volatility............................................................... 0.63 0.66 0.56 0.56
Risk-free interest rate........................................................... 5.90% 6.91% 5.30% 5.88%
</TABLE>
For purposes of pro forma disclosures, the estimated fair value of the
stock-based awards are amortized to pro forma net loss over the options vesting
period and the purchase plans six-month purchase period. The Company's as
reported and pro forma information follows (in thousands, except for net loss
per share information):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1996 1995
------------ ------------
<S> <C> <C>
Net loss
As reported........................................................... $ (5,928) $ (23,733)
Pro forma............................................................. $ (8,308) $ (24,632)
Net loss per share
As reported........................................................... $ (0.45) $ (2.71)
Pro forma............................................................. $ (0.63) $ (2.82)
</TABLE>
Because SFAS 123 is applicable only to options granted subsequent to
December 31, 1994, its pro forma effect will not be fully realized until 1998.
45
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. COMMITMENTS
LEASES
The Company leases office and laboratory facilities and equipment. Rent
expense, net of sublease income of $32,000 in 1996 (none in 1995 and 1994), for
the years ended December 31, 1996, 1995 and 1994 was approximately $1,155,000,
$825,000 and $555,000, respectively.
Future minimum lease payments under noncancelable leases, net of
noncancelable subleases, are as follows:
<TABLE>
<CAPTION>
CAPITAL OPERATING
LEASES LEASES
--------- -----------
(IN THOUSANDS)
<S> <C> <C>
1997...................................................... $ 2,288 $ 1,063
1998...................................................... 1,262 1,032
1999...................................................... 782 1,061
2000...................................................... 352 1,183
2001...................................................... 270 1,081
Thereafter................................................ -- 3,053
--------- --------
Total minimum lease payments.............................. 4,954 $ 8,473
--------
--------
Less amount representing interest......................... (667)
---------
Present value of future lease payments.................... 4,287
Less current portion...................................... (1,984)
---------
Noncurrent portion of capital lease obligations........... $ 2,303
---------
---------
</TABLE>
NOTE PAYABLE
In September 1996, the Company obtained a line of credit agreement to borrow
up to $12 million by December 1997. Interest only payments are due monthly until
April 1, 1998, at which time principal and interest is payable in 20 quarterly
installments. The interest rate under the agreement varies depending upon the
underlying collateral. The interest rate at December 31, 1996 was the LIBOR rate
plus 1.5%, which was 7.1%. Borrowings under this agreement is secured by cash
and marketable securities held by the financial institution. Accordingly, such
marketable securities are classified as noncurrent, restricted cash and
investments.
46
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. COMMITMENTS (CONTINUED)
NOTE PAYABLE (CONTINUED)
Principal maturities of the note payable at December 31, 1996 are as follows:
(IN THOUSANDS)
---------------
1997........ $ --
1998........ 960
1999........ 1,280
2000........ 1,280
2001........ 1,280
Thereafter.. 1,600
8. RELATED PARTY TRANSACTIONS
On September 3, 1996, the Company loaned $750,000 to an executive officer
for the purpose of assisting in the purchase of a residence in exchange for a
note receivable. The note is full-recourse and is secured by 130,236 shares of
the Company's common stock owned by the executive. The note is subject to an
interest rate of 6.02% per annum. All accrued interest and principal are due
September 3, 1998.
9. INCOME TAXES
As of December 31, 1996, the Company had federal and state net operating
loss carryforwards of approximately $22,800,000. The federal net operating loss
carryforwards will expire at various dates beginning in 2004 through 2011.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amount used for income tax purposes.
47
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. INCOME TAXES (CONTINUED)
Significant components of the Company's deferred tax assets are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1996 1995
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Net operating loss carryforwards........................................ $ 7,900 $ 6,500
Research credits (expiring 2004-2011)................................... 2,300 2,200
Capitalized research and development.................................... 12,800 11,800
Other, net.............................................................. 1,900 2,100
--------- ---------
Total deferred tax assets............................................... $ 24,900 $ 22,600
Valuation allowance of deferred tax assets.............................. (24,900) (22,600)
--------- ---------
Net deferred tax assets................................................. $ -- $ --
--------- ---------
--------- ---------
</TABLE>
Because of the Company's lack of earnings history, the deferred tax assets
have been fully offset by a valuation allowance. The valuation allowance
increased by approximately $3,500,000 and $3,000,000 during 1995 and 1994,
respectively.
Utilization of the net operating losses and credits may be subject to a
substantial annual limitation due to the ownership change provisions of the
Internal Revenue Code of 1986. The annual limitation may result in the
expiration of net operating losses and credits before utilization.
48
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable.
49
<PAGE>
PART III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is incorporated by reference from the
information under the captions "Election of Directors" and "Executive Officers
and Key Employees" contained in the Company's definitive proxy statement to be
filed no later than April 30, 1997 in connection with the solicitation of
proxies for the Company's Annual Meeting of Stockholders to be held May 21, 1997
(the "Proxy Statement").
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference from the
information under the caption "Executive Compensation" contained in the Proxy
Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference from the
information under the captions "Security Ownership of Certain Beneficial Owners
Management" contained in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference from
the information under the caption "Certain Relationships and Related
Transactions" contained in the Proxy Statement.
50
<PAGE>
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K
(a) (1) Index to Financial Statements
The Financial Statements required by this
item are submitted in Part II, Item 8 of this
report.
(2) Index to Financial Statements Schedules
All schedules are omitted because they are
not applicable or the required information is
shown in the Financial Statements or in the
notes thereto.
(3) Exhibits.
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- --------- --------------------------------------------------------------------------------------------------------
<C> <S>
3.1 Amended and Restated Certificate of Incorporation.(1)
3.2 Amended and Restated Bylaws.(1)
10.1 Registration Rights Agreement, among the Registrant and the other parties therein, dated April 16,
1993.(1)
10.2 1989 Stock Plan, as amended.(2)
10.3 Form of Employee Stock Purchase Plan and Form of Offering Document.(2)(15)
10.4 Letter Agreement between the Company and John P. Walker, dated January 19, 1993.(1)(2)
10.6 Standard Industrial Lease between the Registrant and Shelton Properties, Inc., dated October 15, 1992,
with related addenda and amendment.(1)
10.7 Third Amendment to Lease between Registrant and Shelton Properties, Inc., dated March 29, 1994.(5)
10.8 Master Equipment Lease Agreement between the Registrant and Phoenix Leasing Incorporated, dated as of
April 12, 1993, with related amendments.(1)
10.9 Re-Lease Agreement No. 6132A between the Registrant and PacifiCorp Credit Inc., dated December 27, 1992,
with related agreements.(1)
10.10 Master Equipment Lease Agreement No. 2982 between the Registrant and MMC/GATX Partnership No. I, dated
as of January 7, 1992, with related addenda.(1)
10.11 Research and License Agreement between the Registrant and Amgen Inc., dated May 28,
1993.(1)(3)
10.12 Sponsored Research Agreement between the Registrant, the Whitehead Institute for Biomedical Research and
Dr. Harvey Lodish, dated May 28, 1993.(1)(3)
10.13 License Agreement between the Registrant, the Whitehead Institute for Biomedical Research and
Massachusetts Institute of Technology, dated May 28, 1993.(1)(3)
10.14 Consent and Waiver between the Registrant, Amgen Inc., and the Whitehead Institute for Biomedical
Research, dated May 28, 1993.(1)
10.15 Collaboration Agreement between the Registrant and Pharmacia AB, dated March 29, 1993.(1)(3)
51
<PAGE>
10.15(a) Collaboration Agreement between the Registrant and Pharmacia AB, dated March 29, 1993, page 42.(1)
10.16 Project Agreement between the Registrant and Pharmacia AB, dated March 29, 1993.(1)(3)
10.17 Form of Restricted Stock Purchase Agreement.(1)(2)
10.18 Form of Indemnity Agreement entered into between the Registrant and its officers and directors.(1)(2)
10.19 Stock Bonus Grant Plan.(2)(4)
10.20 Financing Agreement between Hambrecht and Quist Guaranty Finance, L.P., dated March 29, 1994, including
Security Agreement and Warrant Purchase Agreement of even date.(5)
10.21 Loan and Security Agreement between Registrant and Silicon Valley Bank dated April 30, 1994.(5)
10.22 1994 Non-Employee Directors' Stock Option Plan.(2)
10.23 Fourth Amendment to Lease dated October 15, 1992 between the Registrant and Shelton Properties, Inc.
dated October 1, 1994.(7)
10.24 Collaborative Research and License Agreement between the Registrant and Bayer AG, a German corporation,
dated November 28, 1994.(3)(8)
10.25 Research Agreement between the Registrant and Pharmacia AB, a Swedish corporation, dated December 21,
1994.(3)(7)
10.26 Form of Fifth Amendment to Lease dated October 15, 1992 between the Registrant and Shelton Properties,
Inc. dated August 28, 1996.(8)
10.27 Master Equipment Lease Agreement between the Registrant and GE Capital dated August 18, 1995.(8)
10.28 Collaborative Research and License Agreement between the Registrant and Pharmacia AB, a
Swedish corporation, dated August 29, 1995.(8)(9)
10.30 Agreement and Plan of Merger and Reorganization among the Registrant, Chapel Acquisition Corp. and
Khepri Pharmaceuticals, Inc., dated November 7, 1995.(11)
10.31 Form of Stockholder Agreement between the Registrant and certain former stockholders of Khepri
Pharmaceuticals, Inc. (11)
10.32 Form of Agreements among the Registrant, Khepri Pharmaceuticals Canada, Inc. and the holders of Class B
Shares of Khepri Pharmaceuticals Canada, Inc. (11)
10.33 Amendment to Agreement dated March 29, 1993 between the Registrant and Kabi Pharmacia AB, dated January
31, 1996. (12)
10.34 First Amendment to Research and License Agreement dated May 28, 1993 between Registrant and Amgen, Inc.,
dated February 2, 1996. (12)
10.35 Research Agreement between the Registrant and Pharmacia & Upjohn, Inc., a Delaware corporation, dated
February 29, 1996. (12)
10.36 Form of Sixth Amendment to Lease dated October 15, 1992 between the Registrant and Shelton Properties,
Inc. dated March 29, 1996. (12)
10.37 Financing Agreement between Hambrecht and Quist Guaranty Finance, LLC, dated March 29, 1996, including
Security Agreement and Warrant Purchase Agreement of even date. (12)
10.38 Amendment to Lease Schedule under Master Property Lease Agreement dated March 29, 1994 between Hambrecht
and Quist Guaranty Finance, L.P., dated March 29, 1996. (12)
10.39 Standard Industrial Lease between the Registrant and The Equitable Life Assurance Society of the United
States, dated August 5, 1996. (13)
10.40 Business Loan Agreement between Registrant and Bank of America National Trust and
52
<PAGE>
Savings Association, dated September 24, 1996. (13)
10.41 Sublease Agreement between Registrant and Fibrogen, Inc., dated September 30, 1996. (13)
10.42 Promissory Note and Pledge Agreement, dated September 3, 1996, by John P. Walker in favor of Registrant.
(13)
10.43 Research Collaboration and License Agreement between Merck & Co., Inc. and the Registrant, dated
November 6, 1996.*
10.44 Transitional Services Agreement between Dr. N. Jean Warner and the Registrant, dated November 3, 1995.(2)
10.45 Collaborative Research and License Agreement between SmithKline Beecham Corporation and the Registrant,
dated June 27, 1996. (14)
10.46 Loan and Security Agreement between Registrant and Silicon Valley Bank, dated March 29,
1996. (14)
23.1 Consent of Ernst & Young LLP
24.1 Power of Attorney (incorporated in the signature page of this Form 10-K).
27 Financial Data Schedule
</TABLE>
- ------------------------
* Confidential treatment requested
(1) Incorporated herein by reference to the Registration Statement on Form S-1
filed October 5, 1993, or amendments thereto (file number 33-69972).
(2) Compensation plan.
(3) Subject to confidential treatment order.
(4) Incorporated herein by reference to the Registration Statement on Form S-8
filed January 31, 1994 (file number 33-69972).
(5) Incorporated herein by reference to the Registrant's Statement on Form 10-Q
for the Quarter ended March 31, 1994.
(6) Incorporated herein by reference to the Registration Statement on Form S-8
filed June 22, 1994 (file number 33-69972).
(7) Incorporated herein by reference to the Registrant's Annual Report on Form
10-K for the fiscal year ended December 31, 1994.
(8) Incorporated herein by reference to the Registrant's Statement on Form 10-Q
for the Quarter ended September 30, 1995.
(9) Confidential treatment has been requested for portions of this document.
Brackets indicate portions of text that have been omitted. A separate
filing of such omitted text has been made with the Commission as part of
the Company's application for confidential treatment.
(10) Incorporated herein by reference to the Registration Statement on Form S-8
filed June 20, 1995 (file number 33-92900).
(11) Incorporated herein by reference to the Registrant's Current Report on Form
8-K, filed November 13, 1995.
(12) Incorporated herein by reference to the Registration Statement on Form 10-Q
for the Quarter ended March 31, 1996.
(13) Incorporated herein by reference to the Registration Statement on Form
10-Q for the Quarter ended September 30, 1996.
(14) Incorporated herein by reference to the Registration Statement filed on
Form S-3/A filed September 19, 1996 (file number 333-09307).
(15) Incorporated by reference to the Registration Statement on Form S-8
filed July 29, 1996 (file number 333-09095).
53
<PAGE>
(b)(1) On November 13, 1995 the Registrant filed a report on Form 8-K with the
Securities and Exchange Commission disclosing under "Item 5--Other
Events" that (i) the Registrant had entered into an agreement with
Khepri Pharmaceuticals, Inc. ("Khepri") pursuant to which the Registrant
would acquire Khepri in a merger, (ii) that the Registrant had entered
into agreements with certain stockholders of Khepri whereby such
stockholders agreed to take certain actions to facilitate the merger and
(iii) that the Registrant had entered into agreements with the
stockholders of a subsidiary of Khepri modifying existing contracts with
Khepri, subject to consummation of the merger.
(2) On January 5, 1996 the Registrant filed a report on Form 8-K, and
amended on February 5, 1996 with the Securities and Exchange Commission,
in conjunction with the Company's acquisition of Khepri Pharmaceuticals,
Inc., which was completed on December 22, 1995.
(c) See Exhibits listed under Item 14(a)(3).
(d) All schedules are omitted because they are not applicable or the
required information is shown in the Financial Statements or in the
noted thereto.
54
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized on the 28th day of
March, 1997.
ARRIS PHARMACEUTICAL CORPORATION
BY:
-----------------------------------------
John P. Walker
PRESIDENT AND CHIEF EXECUTIVE OFFICER
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears on
the following page constitutes and appoints John P. Walker and Frederick J.
Ruegsegger, or any of them, his attorneys-in-fact, each with the power of
substitution, for him in any and all capacities, to sign any amendments to this
Report on Form 10-K, and to file the same, with exhibits thereto and other
documents in connection therewith, with the Securities and Exchange Commission,
hereby ratifying and confirming all that the said attorney-in-fact, or his
substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
Registrant and in the capacities indicated on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ --------------------------- -------------------
<S> <C> <C>
- ------------------------------ President, Chief Executive March 28, 1997
John P. Walker Officer and Director
(Principal executive officer)
- ------------------------------ Vice President March 28, 1997
Frederick J. Ruegsegger and Chief Financial Officer
(Principal financial and
accounting officer)
- ------------------------------ Director March 28, 1997
Brook H. Byers
- ------------------------------ Director March 28, 1997
Anthony B. Evnin, Ph.d.
</TABLE>
55
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ --------------------------- -------------------
<S> <C> <C>
- ------------------------------ Director March 28, 1997
Vaughn M. Kailian
- ------------------------------ Director March 28, 1997
Donald Kennedy, Ph.d.
- ------------------------------ Director March 28, 1997
Hans U. Sievertsson, Ph.d.
</TABLE>
56
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------------------- -----
<C> <S>
3.1 Amended and Restated Certificate of Incorporation.(1)
3.2 Amended and Restated Bylaws.(1)
10.1 Registration Rights Agreement, among the Registrant and the other parties therein, dated April 16,
1993.(1)
10.2 1989 Stock Plan, as amended.(2)
10.3 Form of Employee Stock Purchase Plan and Form of Offering Document.(2)(15)
10.4 Letter Agreement between the Company and John P. Walker, dated January 19, 1993.(1)(2)
10.6 Standard Industrial Lease between the Registrant and Shelton Properties, Inc., dated October 15, 1992,
with related addenda and amendment.(1)
10.7 Third Amendment to Lease between Registrant and Shelton Properties, Inc., dated March 29, 1994.(5)
10.8 Master Equipment Lease Agreement between the Registrant and Phoenix Leasing Incorporated, dated as of
April 12, 1993, with related amendments.(1)
10.9 Re-Lease Agreement No. 6132A between the Registrant and PacifiCorp Credit Inc., dated December 27, 1992,
with related agreements.(1)
10.10 Master Equipment Lease Agreement No. 2982 between the Registrant and MMC/GATX Partnership No. I, dated
as of January 7, 1992, with related addenda.(1)
10.11 Research and License Agreement between the Registrant and Amgen Inc., dated May 28,
1993.(1)(3)
10.12 Sponsored Research Agreement between the Registrant, the Whitehead Institute for Biomedical Research and
Dr. Harvey Lodish, dated May 28, 1993.(1)(3)
10.13 License Agreement between the Registrant, the Whitehead Institute for Biomedical Research and
Massachusetts Institute of Technology, dated May 28, 1993.(1)(3)
10.14 Consent and Waiver between the Registrant, Amgen Inc., and the Whitehead Institute for Biomedical
Research, dated May 28, 1993.(1)
10.15 Collaboration Agreement between the Registrant and Pharmacia AB, dated March 29, 1993.(1)(3)
<PAGE>
10.15(a) Collaboration Agreement between the Registrant and Pharmacia AB, dated March 29, 1993, page 42.(1)
10.16 Project Agreement between the Registrant and Pharmacia AB, dated March 29, 1993.(1)(3)
10.17 Form of Restricted Stock Purchase Agreement.(1)(2)
10.18 Form of Indemnity Agreement entered into between the Registrant and its officers and directors.(1)(2)
10.19 Stock Bonus Grant Plan.(2)(4)
10.20 Financing Agreement between Hambrecht and Quist Guaranty Finance, L.P., dated March 29, 1994, including
Security Agreement and Warrant Purchase Agreement of even date.(5)
10.21 Loan and Security Agreement between Registrant and Silicon Valley Bank dated April 30, 1994.(5)
10.22 1994 Non-Employee Directors' Stock Option Plan.(2)
10.23 Fourth Amendment to Lease dated October 15, 1992 between the Registrant and Shelton Properties, Inc.
dated October 1, 1994.(7)
10.24 Collaborative Research and License Agreement between the Registrant and Bayer AG, a German corporation,
dated November 28, 1994.(3)(8)
10.25 Research Agreement between the Registrant and Pharmacia AB, a Swedish corporation, dated December 21,
1994.(3)(7)
10.26 Form of Fifth Amendment to Lease dated October 15, 1992 between the Registrant and Shelton Properties,
Inc. dated August 28, 1996.(8)
10.27 Master Equipment Lease Agreement between the Registrant and GE Capital dated August 18, 1995.(8)
10.28 Collaborative Research and License Agreement between the Registrant and Pharmacia AB, a
Swedish corporation, dated August 29, 1995.(8)(9)
10.30 Agreement and Plan of Merger and Reorganization among the Registrant, Chapel Acquisition Corp. and
Khepri Pharmaceuticals, Inc., dated November 7, 1995.(11)
10.31 Form of Stockholder Agreement between the Registrant and certain former stockholders of Khepri
Pharmaceuticals, Inc. (11)
10.32 Form of Agreements among the Registrant, Khepri Pharmaceuticals Canada, Inc. and the holders of Class B
Shares of Khepri Pharmaceuticals Canada, Inc. (11)
10.33 Amendment to Agreement dated March 29, 1993 between the Registrant and Kabi Pharmacia AB, dated January
31, 1996. (12)
10.34 First Amendment to Research and License Agreement dated May 28, 1993 between Registrant and Amgen, Inc.,
dated February 2, 1996. (12)
10.35 Research Agreement between the Registrant and Pharmacia & Upjohn, Inc., a Delaware corporation, dated
February 29, 1996. (12)
10.36 Form of Sixth Amendment to Lease dated October 15, 1992 between the Registrant and Shelton Properties,
Inc. dated March 29, 1996. (12)
10.37 Financing Agreement between Hambrecht and Quist Guaranty Finance, LLC, dated March 29, 1996, including
Security Agreement and Warrant Purchase Agreement of even date. (12)
10.38 Amendment to Lease Schedule under Master Property Lease Agreement dated March 29, 1994 between Hambrecht
and Quist Guaranty Finance, L.P., dated March 29, 1996. (12)
10.39 Standard Industrial Lease between the Registrant and The Equitable Life Assurance Society of the United
States, dated August 5, 1996. (13)
10.40 Business Loan Agreement between Registrant and Bank of America National Trust and
<PAGE>
Savings Association, dated September 24, 1996. (13)
10.41 Sublease Agreement between Registrant and Fibrogen, Inc., dated September 30, 1996. (13)
10.42 Promissory Note and Pledge Agreement, dated September 3, 1996, by John P. Walker in favor of Registrant.
(13)
10.43 Research Collaboration and License Agreement between Merck & Co., Inc. and the Registrant, dated
November 6, 1996.*
10.44 Transitional Services Agreement between Dr. N. Jean Warner and the Registrant, dated November 3, 1995.(2)
10.45 Collaborative Research and License Agreement between SmithKline Beecham Corporation and the Registrant,
dated June 27, 1996. (14)
10.46 Loan and Security Agreement between Registrant and Silicon Valley Bank, dated March 29,
1996. (14)
23.1 Consent of Ernst & Young LLP
24.1 Power of Attorney (incorporated in the signature page of this Form 10-K).
27 Financial Data Schedule
</TABLE>
- ------------------------
* Confidential treatment requested
(1) Incorporated herein by reference to the Registration Statement on Form S-1
filed October 5, 1993, or amendments thereto (file number 33-69972).
(2) Compensation plan.
(3) Subject to confidential treatment order.
(4) Incorporated herein by reference to the Registration Statement on Form S-8
filed January 31, 1994 (file number 33-69972).
(5) Incorporated herein by reference to the Registrant's Statement on Form 10-Q
for the Quarter ended March 31, 1994.
(6) Incorporated herein by reference to the Registration Statement on Form S-8
filed June 22, 1994 (file number 33-69972).
(7) Incorporated herein by reference to the Registrant's Annual Report on Form
10-K for the fiscal year ended December 31, 1994.
(8) Incorporated herein by reference to the Registrant's Statement on Form 10-Q
for the Quarter ended September 30, 1995.
(9) Confidential treatment has been requested for portions of this document.
Brackets indicate portions of text that have been omitted. A separate
filing of such omitted text has been made with the Commission as part of
the Company's application for confidential treatment.
(10) Incorporated herein by reference to the Registration Statement on Form S-8
filed June 20, 1995 (file number 33-92900).
(11) Incorporated herein by reference to the Registrant's Current Report on Form
8-K, filed November 13, 1995.
(12) Incorporated herein by reference to the Registration Statement on Form 10-Q
for the Quarter ended March 31, 1996.
(13) Incorporated herein by reference to the Registration Statement on Form
10-Q for the Quarter ended September 30, 1996.
(14) Incorporated herein by reference to the Registration Statement filed on
Form S-3/A filed September 19, 1996 (file number 333-09307).
(15) Incorporated by reference to the Registration Statement on Form S-8
filed July 29, 1996 (file number 333-09095).
<PAGE>
Exhibit 10.2
ARRIS PHARMACEUTICAL CORPORATION
1989 STOCK PLAN
Adopted May 16, 1989
As Amended by the Board March 25, 1992
Approved by Stockholders March 25, 1992
As Amended by the Board April 6, 1993
Approved by Stockholders October 5, 1993
As Amended by the Board April 20, 1994
Approved by Stockholders June 7, 1994
As Amended by the Board February 8, 1995
Approved by Stockholders June 7, 1995
As Amended by the Board February 27, 1996
Approved by Stockholders June 5, 1996
As Amended by the Board February 6, 1997
Approved by Stockholders _________, 1997
1. Purposes of the Plan. The purposes of this Plan are to attract and
retain the best available personnel for positions of substantial
responsibility, to provide additional incentive to Employees and Directors of
and Consultants to the Company and its Subsidiaries and to promote the
success of the Company's business. Options granted under the Plan may be
incentive stock options (as defined under Section 422 of the Code) or
nonstatutory stock options, as determined by the Administrator at the time of
grant of an option and subject to the applicable provisions of Section 422 of
the Code, as amended, and the regulations promulgated thereunder. Stock
purchase rights may also be granted under the Plan.
2. Definitions. As used herein, the following definitions shall apply:
(a) "Administrator" means the Board or any of its Committees
appointed pursuant to Section 4 of the Plan.
(b) "Board" means the Board of Directors of the Company.
(c) "Code" means the Internal Revenue Code of 1986, as amended.
(d) "Committee" means the Committee appointed by the Board in
accordance with paragraph (a) of Section 4 of the Plan.
(e) "Common Stock" means the Common Stock of the Company.
(f) "Company" means Arris Pharmaceutical Corporation, a Delaware
corporation.
1
<PAGE>
(g) "Consultant" means any person, including an advisor, who is
engaged by the Company or any Parent or Subsidiary to render consulting
services and is compensated for such services, provided that the term
Consultant shall not include Directors who are not compensated for their
services as a Director or are paid only a director's fee by the Company.
(h) "Continuous Status as an Employee, Director or Consultant"
means the absence of any interruption or termination of the individual's
service relationship with the Company, whether through employment or as a
Director or Consultant. Continuous Status as an Employee, Director or
Consultant shall not be considered interrupted in the case of: (i) sick
leave; (ii) military leave; (iii) any other leave of absence approved by the
Board, provided that such leave is for a period of not more than ninety (90)
days, unless reemployment upon the expiration of such leave is guaranteed by
contract or statute, or unless provided otherwise pursuant to Company policy
adopted from time to time; or (iv) in the case of transfers between locations
of the Company or between the Company, its Subsidiaries or its successor.
(i) "Director" means a member of the Board.
(j) "Employee" means any person, including officers and Directors,
employed by the Company or any Parent or Subsidiary of the Company. The
payment of a director's fee by the Company shall not be sufficient to
constitute "employment" by the Company.
(k) "Exchange Act" means the Securities Exchange Act of 1934, as
amended.
(l) "Fair Market Value" means the value of the Common Stock of the
Company as determined in good faith by the Administrator.
(m) "Incentive Stock Option" means an Option intended to qualify as
an incentive stock option within the meaning of Section 422 of the Code.
(n) "Non-Employee Director" means a Director who either (i) is not
a current Employee or officer of the Company or its Parent or Subsidiary,
does not receive compensation (directly or indirectly) from the Company or
its Parent or Subsidiary for services rendered as a Consultant or in any
capacity other than as a Director (except for an amount as to which
disclosure would not be required under Item 404(a) of Regulation S-K
promulgated pursuant to the Securities Act ("Regulation S-K")), does not
possess an interest in any other transaction as to which disclosure would be
required under Item 404(a) of Regulation S-K, and is not engaged in a
business relationship as to which disclosure would be required under Item
404(b) of Regulation S-K; or (ii) is otherwise considered a "non-employee
director" for purposes of Rule 16b-3.
(o) "Nonstatutory Stock Option" means an Option not intended to
qualify as an Incentive Stock Option.
(p) "Option" means a stock option granted pursuant to the Plan.
2
<PAGE>
(q) "Optioned Stock" means the Common Stock subject to an Option.
(r) "Optionee" means an Employee or Consultant who receives an
Option.
(s) "Outside Director" means a Director who either (i) is not a
current employee of the Company or an "affiliated corporation" (within the
meaning of Treasury regulations promulgated under Section 162(m) of the
Code), is not a former employee of the Company or an "affiliated corporation"
receiving compensation for prior services (other than benefits under a
tax-qualified pension plan), was not an officer of the Company or an
"affiliated corporation" at any time, and is not currently receiving
compensation, either directly or indirectly, for personal services in any
capacity other than as a Director, or (ii) is otherwise considered an
"outside director" for purposes of Section 162(m) of the Code.
(t) "Parent" means a "parent corporation," whether now or hereafter
existing, as defined in Section 424(e) of the Code.
(u) "Plan" means this 1989 Stock Plan, as amended from time to time.
(v) "Restricted Stock" means shares of Common Stock acquired
pursuant to a grant of Stock Purchase Rights under Section 11 below.
(w) "Rule 16b-3" means Rule 16b-3 of the Exchange Act or any
successor to Rule 16b-3, as in effect when discretion is being exercised with
respect to the Plan.
(x) "Share" means a share of the Common Stock, as adjusted in
accordance with Section 13 of the Plan.
(y) "Stock Purchase Right" means the right to purchase Restricted
Stock in accordance with the provisions of Section 11 below.
(z) "Subsidiary" means a "subsidiary corporation," whether now or
hereafter existing, as defined in Section 424(f) of the Code.
3. Stock Subject to the Plan. Subject to the provisions of Section 13
of the Plan, the maximum aggregate number of shares which may be optioned and
sold under the Plan is three million four hundred seven thousand five hundred
(3,407,500) of Common Stock. Such share reserve is comprised of (i) the
aggregate two million six hundred sixty-seven thousand five hundred
(2,667,500) shares reserved under the Plan prior to the February 1997
amendment and restatement plus (ii) an additional
seven hundred forty thousand (740,000) shares reserved pursuant to the
February 1997 amendment and restatement. The shares may be authorized, but
unissued, or reacquired Common Stock.
3
<PAGE>
If an Option should expire or become unexercisable (for any reason)
without having been exercised in full, the unpurchased Shares which were
subject thereto shall, unless the Plan shall have been terminated, become
available for future grant under the Plan.
4. Administration of the Plan.
(a) Procedure. The Board may delegate administration of the Plan
to a committee composed of not fewer than two (2) members (the "Committee"),
all of the members of which Committee may (but need not) be, in the
discretion of the Board, Non-Employee Directors and/or Outside Directors. If
administration is delegated to a Committee, the Committee shall have, in
connection with the administration of the Plan, the powers theretofore
possessed by the Board (and references in this Plan to the Board shall
thereafter be to the Committee), subject, however, to such resolutions, not
inconsistent with the provisions of the Plan, as may be adopted from time to
time by the Board. The Board may abolish the Committee at any time and
revest in the Board the administration of the Plan. Notwithstanding anything
in this Section 4 to the contrary, the Board or the Committee may delegate to
a committee of one or more members of the Board the authority to grant
options to eligible persons who are not then subject to Section 16 of the
Exchange Act and to eligible persons with respect to whom the Company does
not wish to comply with Section 162(m) of the Code.
(b) Powers of the Administrator. Subject to the provisions of the
Plan and in the case of a duly authorized committee, the specific duties
delegated by the Board to such duly authorized committee, the Administrator
shall have the authority, in its discretion:
(i) to determine the Fair Market Value of the Common Stock, in
accordance with Section 2(l) of the Plan;
(ii) to select the persons to whom Options and Stock Purchase
Rights may from time to time be granted hereunder;
(iii) to determine whether and to what extent Options and
Stock Purchase Rights or any combination thereof, are granted hereunder;
(iv) to determine the number of shares of Common Stock to be
covered by each such award granted hereunder;
(v) to approve forms of agreement for use under the Plan;
(vi) to determine the terms and conditions, not inconsistent
with the terms of the Plan, of any award granted hereunder (including, but
not limited to, the share price and any restriction or limitation, regarding
any Option or other award and/or the shares of Common Stock relating thereto,
based in each case on such factors as the Administrator shall determine, in
its sole discretion);
4
<PAGE>
(vii) to determine whether and under what circumstances an
Option may be settled in cash under subsection 9(f) instead of Common Stock;
(viii) to determine whether, to what extent and under what
circumstances Common Stock and other amounts payable with respect to an award
under this Plan shall be deferred either automatically or at the election of
the participant (including providing for and determining the amount, if any,
of any deemed earnings on any deferred amount during any deferral period); and
(ix) to determine the terms and restrictions applicable to
Stock Purchase Rights and the Restricted Stock purchased by exercising such
Stock Purchase Rights.
Notwithstanding the foregoing, the Company does not have the ability
to reduce the exercise price of any Option to the then current Fair Market
Value if the Fair Market Value of the Common Stock covered by such Option
shall have declined since the date the Option was granted.
(c) Effect of Committee's Decision. All decisions, determinations
and interpretations of the Administrator shall be final and binding on all
Optionees and any other holders of awards granted under the Plan.
5. Eligibility.
(a) Stock Purchase Rights may be granted to Employees, Directors
and Consultants.
(b) Nonstatutory Stock Options may be granted to Employees,
Directors and Consultants. Incentive Stock Options may be granted only to
Employees. An Employee or Consultant who has been granted an Option may, if
he is otherwise eligible, be granted an additional Option or Options.
(c) Each Option shall be designated in the written option agreement
as either an Incentive Stock Option or a Nonstatutory Stock Option. However,
notwithstanding such designations, to the extent that the aggregate Fair
Market Value of the Shares with respect to which Options designated as
Incentive Stock Options are exercisable for the first time by any Optionees
during any calendar year (under all plans of the Company or any Parent or
Subsidiary) exceeds $100,000, such excess Options shall be treated as
Nonstatutory Stock Options.
(d) No person shall be eligible to be granted Options covering more
than three hundred thousand (300,000) shares of the Company's Common Stock in
any calendar year.
(e) For purposes of Section 5(c), Incentive Stock Options shall be
taken into account in the order in which they were granted, and the Fair
Market Value of the Shares shall be determined as of the time the Option with
respect to such Shares is granted.
5
<PAGE>
(f) The Plan shall not confer upon any grantee of an award under
the Plan any right with respect to continuation of employment or consulting
relationship with the Company, nor shall it interfere in any way with his
right or the Company's right to terminate his employment or consulting
relationship at any time, with or without cause.
6. Term of Plan. The Plan shall be come effective upon the earlier to
occur of its adoption by the Board of Directors or its approval by the
Shareholders of the Company as described in Section 19 of the Plan. It shall
continue in effect for a term of ten (10) years unless sooner terminated
under Section 15 of the Plan.
7. Term of Option. The term of each Option shall be the term stated in
the Option agreement; provided, however, that the term of an Option shall be
no more than ten (10) years from the date of grant thereof or such shorter
term as may be provided in the Option agreement. However, in the case of an
Option granted to an Optionee who, at the time the Option is granted, owns
stock representing more than ten percent (10%) of the voting power of all
classes of stock of the Company or any Parent or Subsidiary, the term of the
Option shall be five (5) years from the date of grant thereof or such shorter
term as may be provided in the Option agreement.
8. Option Exercise Price and Consideration.
(a) The per share exercise price for the Shares to be issued
pursuant to exercise of an Option shall be such price as is determined by the
Board, but shall be subject to the following:
(i) In the case of an Incentive Stock Option
(A) granted to an Employee who, at the time of the grant
of such Incentive Stock Option, owns stock representing more than ten percent
(10%) of the voting power of all classes of stock of the Company or any
Parent or Subsidiary, the per Share exercise price shall be no less than 110%
of the Fair Market Value per Share on the date of grant.
(B) granted to any Employee, the per Share exercise price
shall be no less than 100% of the Fair Market Value per Share on the date of
grant.
(ii) In the case of a Nonstatutory Stock Option granted to any
person, the per Share exercise price shall be no less than 85% of the Fair
Market Value per Share on the date of grant.
(b) The consideration to be paid for the Shares to be issued upon
exercise of an Option, including the method of payment, shall be determined
by the Administrator (and, in the case of an Incentive Stock Option, shall be
determined at the time of grant) and may consist entirely of (1) cash, (2)
check, (3) promissory note, (4) other Shares which (x) in the case of Shares
acquired upon exercise of an Option either have been owned by the Optionee
for more than six months on the date of surrender or were not acquired,
directly or indirectly, from the
6
<PAGE>
Company, and (y) have a Fair Market Value on the date of surrender equal to
the aggregate exercise price of the Shares as to which said Option shall be
exercised, (5) authorization from the Company to retain from the total number
of Shares as to which the Option is exercised that number of Shares having a
Fair Market Value on the date of exercise equal to the exercise price for the
total number of Shares as to which the Option is exercised, (6) delivery of a
properly executed exercise notice together with irrevocable instructions to a
broker to promptly deliver to the Company the amount of sale or loan proceeds
required to pay the exercise price, (7) by delivering an irrevocable
subscription agreement for the Shares which irrevocably obligates the option
holder to take and pay for the Shares not more than twelve months after the
date of delivery of the subscription agreement, (8) any combination of the
foregoing methods of payment, (9) or such other consideration and method of
payment for the issuance of Shares to the extent permitted under applicable
laws. In making its determination as of the type of consideration to accept,
the Board shall consider if acceptance of such consideration may be
reasonably expected to benefit the Company (Section 153 of the Delaware
Corporation law).
9. Exercise of Option.
(a) Procedure for Exercise; Rights as a Stockholder. Any Option
granted hereunder shall be exercisable at such times and under such
conditions as determined by the Board, including performance criteria with
respect to the Company and/or the Optionee, and as shall be permissible under
the terms of the Plan.
An Option may not be exercised for a fraction of a Share.
An Option shall be deemed to be exercised when written notice
of such exercise has been given to the Company in accordance with the terms
of the Option by the person entitled to exercise the Option and full payment
for the Shares with respect to which the Option is exercised has been
received by the Company. Full payment may, as authorized by the Board,
consist of any consideration and method of payment allowable under Section
8(b) of the Plan. Until the issuance (as evidenced by the appropriate entry
on the books of the Company or of a duly authorized transfer agent of the
Company) of the stock certificate evidencing such Shares, no right to vote or
receive dividends or any other rights as a stockholder shall exist with
respect to the Optioned Stock, notwithstanding the exercise of the Option.
The Company shall issue (or cause to be issued) such stock certificate
promptly upon exercise of the Option. No adjustment will be made for a
divided or other right for which the record date is prior to the date the
stock certificate is issued, except as provided in Section 13 of the Plan.
Exercise of an Option in any manner shall result in a decrease
in the number of Shares which thereafter may be available, both for purposes
of the Plan and for sale under the Option, by the number of Shares as to
which the Option is exercised.
(b) Termination of Employment or Relationship as a Director or
Consultant. In the event an Optionee's Continuous Status as an Employee,
Director or Consultant terminates (other than upon the Optionee's death or
disability), such Optionee may,
7
<PAGE>
but only within ninety (90) days (or such other period of time as is
determined by the Board, with such determination in the case of an Incentive
Stock Option being made at the time of grant of the Option and not exceeding
ninety (90) days) after the date of such termination (but in no event later
than the expiration date of the term of such Option as set forth in the
Option agreement), exercise his Option of the extent that Optionee was
entitled to exercise it at the date of such termination. To the extent that
Optionee was not entitled to exercise the Option at the date of such
termination, or if Optionee does not exercise such Option to the extent so
entitled within the time specified herein, the Option shall terminate.
(c) Disability of Optionee. Notwithstanding the provisions of
Section 9(b) above, in the event an Optionee's Continuous Status as an
Employee, Director or Consultant terminates as a result of his or her total
and permanent disability (as defined in Section 22(e)(3) of the Code), the
Optionee may, but only within twelve (12) months from the date of such
termination (but in no event later than the expiration date of the term of
such Option as set forth in the Option agreement), exercise the Option to the
extent otherwise entitled to exercise it at the date of such termination. To
the extent that Optionee was not entitled to exercise the Option at the date
of such termination, or if Optionee does not exercise such Option to the
extent so entitled within the time specified herein, the Option shall
terminate.
(d) Death of Optionee. In the event of the death of an Optionee,
the Option may be exercised, at any time within twelve (12) months following
the date of death (but in no event later than the expiration date of the term
of such Option as set forth in the Option agreement), by the Optionee's
estate or by a person who acquired the right to exercise the Option by
bequest or inheritance, but only to the extent the Optionee was entitled to
exercise the Option at the date of death. To the extent that Optionee was
not entitled to exercise the Option at the date of termination, or if
Optionee does not exercise such Option to the extent so entitled within the
time specified herein, the Option shall terminate.
(e) Rule 16b-3. Options granted to persons subject to Section
16(b) of the Exchange Act must comply with Rule 16b-3 and shall contain such
additional conditions or restrictions as may be required thereunder to
qualify for the maximum exemption from Section 16 of the Exchange Act with
respect to Plan transactions.
(f) Buyout Provisions. The Administrator may at any time offer to
buy out for a payment in cash or Shares, an Option previously granted, based
on such terms and conditions as the Administrator shall establish and
communicate to the Optionee at the time that such offer is made.
10. Transferability of Options. The Option may not be sold, pledged,
assigned, hypothecated, transferred, or disposed of in any manner other than
by will or by the laws of descent or distribution and may be exercised,
during the lifetime of the Optionee, only by the Optionee; provided, however,
that in the case of a Nonstatutory Stock Option, the Option may be
transferable to the extent specified in the Option agreement, in which case
the Option may be transferred upon such terms and conditions as are set forth
in the Option, as the Board or the
8
<PAGE>
Committee shall determine in its discretion, including (without limitation)
pursuant to a "domestic relations order" within the meaning of such rules,
regulations or interpretations of the Securities and Exchange Commission as
are applicable for purposes of Section 16 of the Exchange Act.
Notwithstanding the foregoing, the person to whom an Option is granted may,
by delivering written notice to the Company, in a form satisfactory to the
Company, designate a third party who, in the event of the death of the
Optionee, shall thereafter be entitled to exercise the Option.
11. Stock Purchase Rights.
(a) Rights to Purchase. Stock Purchase Rights may be issued either
alone, in addition to, or in tandem with other awards granted under the Plan
and/or cash awards made outside of the Plan. After the Administrator
determines that it will offer Stock Purchase Rights under the Plan, it shall
advise the offeree in writing of the terms, conditions and restrictions
related to the offer, including the number of Shares that such person shall
be entitled to purchase, the price to be paid (which price shall not be less
than 100% of the Fair Market Value of the Shares as of the date of the
offer), and the time within which such person must accept such offer, which
shall not exceed thirty (30) days (or such longer time as may be determined
by the Administrator) from the date upon which the Administrator made the
determination to grant the Stock Purchase Right. The offer shall be accepted
by execution of a Restricted Stock purchase agreement in the form determined
by the Administrator. Shares purchased pursuant to the grant of a Stock
Purchase Right shall be referred to herein as "Restricted Stock."
(b) Repurchase Option. Unless the Administrator determines
otherwise, the Restricted Stock purchase agreement shall grant the Company a
repurchase option exercisable upon the voluntary or involuntary termination
of the purchaser's employment with the Company for any reason (including
death or disability). The purchase price for Shares repurchased pursuant to
the Restricted Stock purchase agreement shall be the original price paid by
the purchaser and may be paid by cancellation of any indebtedness of the
purchaser to the Company. The repurchase option shall lapse at such rate as
the Committee may determine.
(c) Other Provisions. The Restricted Stock purchase agreement
shall contain such other terms, provisions and conditions not inconsistent
with the Plan as may be determined by the Administrator in its sole
discretion. In addition, the provisions of Restricted Stock purchase
agreements need not be the same with respect to each purchaser.
(d) Rights as a Stockholder. Once the Stock Purchase Right is
exercised, the purchaser shall have the rights equivalent to those of a
stockholder, and shall be a stockholder when his or her purchase is entered
upon the records of the duly authorized transfer agent of the Company. No
adjustment will be made for a dividend or other right for which the record
date is prior to the date the Stock Purchase Right is exercised, except as
provided in Section 13 of the Plan.
12. Stock Withholding to Satisfy Withholding Tax Obligations. At the
discretion of the Administrator, grantees of an Option or Stock Purchase
Right may satisfy
9
<PAGE>
withholding obligations as provided in this paragraph. When a grantee incurs
tax liability in connection with an Option or Stock Purchase Right, which tax
liability is subject to tax withholding under applicable tax laws, and the
grantee is obligated to pay the Company an amount required to be withheld
under applicable tax laws, the grantee may satisfy such obligation by
electing to have the Company withhold from the Shares to be issued upon
exercise of the Option, or the Shares to be issued in connection with the
Stock Purchase Right, that number of Shares having a Fair Market Value equal
to the amount required to be withheld. The Fair Market Value of the Shares
to be withheld shall be determined on the date that the amount of tax to be
withheld is to be determined (the "Tax Date").
All elections by a grantee to have Shares withheld for this purpose
shall be made in writing in a form acceptable to the Administrator and shall
be subject to the following restrictions:
(a) the election must be made on or prior to the applicable Tax
Date;
(b) once made, the election shall be irrevocable as to the
particular Shares of the Option or Right as to which the election is made;
(c) all elections shall be subject to the consent or disapproval of
the Administrator;
(d) if the grantee is subject to Rule 16b-3, the election must
comply with the applicable provisions of Rule 16b-3 and shall be subject to
such additional conditions or restrictions as may be required thereunder to
qualify for the maximum exemption from Section 16 of the Exchange Act with
respect to Plan transactions.
In the event the election to have Shares withheld is made by a
grantee and the Tax Date is deferred under Section 83 of the Code because no
election is filed under Section 83(b) of the Code, the grantee shall receive
the full number of Shares with respect to which the Option or Stock Purchase
Right is exercised but such grantee shall be unconditionally obligated to
tender back to the Company the proper number of Shares on the Tax Date.
13. Adjustments Upon Changes in Capitalization or Merger. Subject to
any required action by the stockholders of the Company, the number of shares
of Common Stock covered by each outstanding Option, and the number of shares
of Common Stock which have been authorized for issuance under the Plan but as
to which no Options have yet been granted or which have been returned to the
Plan upon cancellation or expiration of an Option, and the maximum number of
shares of Common Stock that may be covered by Options granted to any person
pursuant to the limitation in Section 5(d), as well as the price per share of
Common Stock covered by each such outstanding Option, shall be
proportionately adjusted for any increase or decrease in the number of issued
shares of Common Stock resulting from a stock split, reverse stock split,
stock dividend, combination or reclassification of the Common Stock, or any
other increase or decrease in the number of issued shares of Common Stock
effected without receipt of
10
<PAGE>
consideration by the Company; provided, however, that conversion of any
convertible securities of the Company shall not be deemed to have been
"effected without receipt of consideration." Such adjustment shall be made
by the Board, whose determination in that respect shall be final, binding and
conclusive. Except as expressly provided herein, no issuance by the Company
of shares of stock of any class, or securities convertible into shares of
stock of any class, shall affect, and no adjustment by reason thereof shall
be made with respect to, the number or price of shares of Common Stock
subject to an Option.
In the event of the proposed dissolution or liquidation of the
Company, the Board shall notify the Optionee at least fifteen (15) days prior
to such proposed action. To the extent it has not been previously exercised,
the Option will terminate immediately prior to the consummation of such
proposed action. In the event of a merger of the Company with or into
another corporation, the Option shall be assumed or an equivalent option
shall be substituted by such successor corporation or a parent or subsidiary
of such successor corporation.
14. Time of Granting Options. The date of grant of an Option shall, for
all purposes, be the date on which the Administrator makes the determination
granting such Option, or such other date as is determined by the Board.
Notice of the determination shall be given to each person to whom an Option
is so granted within a reasonable time after the date of such grant.
15. Amendment and Termination of the Plan.
(a) Amendment and Termination. The Board may at any time amend,
alter, suspend or discontinue the Plan, but no amendment, alteration,
suspension or discontinuation shall be made which would impair the rights of
any grantee under any grant theretofore made, without his or her consent. In
addition, to the extent necessary and desirable to comply with Rule 16b-3
under the Exchange Act or with Sections 162(m) or 422 of the Code (or any
other applicable law or regulation, including the requirements of the Nasdaq
National Market or any established stock exchange in which the Shares are
then listed), the Company shall obtain stockholder approval of any Plan
amendment in such a manner and to such a degree as required.
(b) Effect of Amendment or Termination. Any such amendment or
termination of the Plan shall not affect Options or Stock Purchase Rights
already granted and such awards shall remain in full force and effect as if
this Plan had not been amended or terminated, unless mutually agreed
otherwise between the grantee and the Board, which agreement must be in
writing and signed by the grantee and the Company.
16. Conditions Upon Issuance of Shares. Shares shall not be issued
pursuant to the exercise of an Option unless the exercise of such Option and
the issuance and delivery of such Shares pursuant thereto shall comply with
all relevant provisions of law, including, without limitation, the Securities
Act of 1933, as amended, the Exchange Act, the rules and regulations
promulgated thereunder, and the requirements of the Nasdaq National Market or
any stock exchange upon which the Shares may then be listed, and shall be
further subject to the approval of counsel for the Company with respect to
such compliance.
11
<PAGE>
As a condition to the exercise of an Option, the Company may require
the person exercising such Option to represent and warrant at the time of any
such exercise that the Shares are being purchased only for investment and
without any present intention to sell or distribute such Shares if, in the
opinion of counsel for the Company, such a representation is required by any
of the aforementioned relevant provisions of law.
17. Reservation of Shares. The Company, during the term of this Plan,
will at all times reserve and keep available such number of Shares as shall
be sufficient to satisfy the requirements of the Plan.
The inability of the Company to obtain authority from any regulatory
body having jurisdiction, which authority is deemed by the Company's counsel
to be necessary to the lawful issuance and sale of any Shares hereunder,
shall relieve the Company of any liability in respect of the failure to issue
or sell such Shares as to which such requisite authority shall not have been
obtained.
18. Agreements. Options and Stock Purchase Rights shall be evidenced by
written agreements in such form as the Board shall approve from time to time.
19. Stockholder Approval. Continuance of the Plan shall be subject to
approval by the stockholders of the Company within twelve (12) months before
or after the date the Plan is adopted. Such stockholder approval shall be
obtained in the degree and manner required under applicable state and federal
law.
20. Information to Optionee. The Company shall provide to each
Optionee, during the period for which such Optionee has one or more Options
outstanding, copies of all annul reports and other information which are
provided to all stockholders of the Company. The Company shall not be
required to provide such information if the issuance of Options under the
Plan is limited to key employees whose duties in connection with the Company
assure their access to equivalent information.
12
<PAGE>
Exhibit 10.22
ARRIS PHARMACEUTICAL CORPORATION
1994 NON-EMPLOYEE DIRECTORS' STOCK OPTION PLAN
Adopted on April 20, 1994
Approved by Stockholders on June 7, 1994
Amended on February 6, 1997
Approved by Stockholders on ____________, 1997
1. Purpose.
(a) The purpose of the 1994 Non-Employee Directors' Stock Option Plan
(the "Plan") is to provide a means by which each new director of Arris
Pharmaceutical Corporation (the "Company") who is not otherwise an employee
of the Company or of any Affiliate of the Company (each such person being
hereafter referred to as a "Non-Employee Director") will be given an
opportunity to purchase stock of the Company.
(b) The word "Affiliate" as used in the Plan means any parent
corporation or subsidiary corporation of the Company as those terms are
defined in Sections 424(e) and (f), respectively, of the Internal Revenue
Code of 1986, as amended from time to time (the "Code").
(c) The Company, by means of the Plan, seeks to secure and retain the
services of persons capable of serving as Non-Employee Directors of the
Company, and to provide incentives for such persons to exert maximum efforts
for the success of the Company.
2. Administration.
(a) The Plan shall be administered by the Board of Directors of the
Company (the "Board") unless and until the Board delegates administration to
a committee, as provided in subparagraph 2(b).
1
<PAGE>
(b) The Board may delegate administration of the Plan to a committee
composed of two (2) or more members of the Board (the "Committee"), all of
the members of which Committee may (but need not) be, in the discretion of
the Board, "non-employee directors" within the meaning of Rule 16b-3
promulgated under the Securities Exchange Act of 1934, as amended (the
"Exchange Act") or "outside directors" within the meaning of Section 162(m)
of the Code. If administration is delegated to a Committee, the Committee
shall have, in connection with the administration of the Plan, the powers
theretofore possessed by the Board, subject, however, to such resolutions,
not inconsistent with the provisions of the Plan, as may be adopted from time
to time by the Board. The Board may abolish the Committee at any time and
revest in the Board the administration of the Plan.
3. Shares Subject To The Plan.
(a) Subject to the provisions of paragraph 10 relating to adjustments
upon changes in stock, the stock that may be sold pursuant to options granted
under the Plan shall not exceed in the aggregate one hundred twenty-five
thousand (125,000) shares of the Company's common stock. If any option
granted under the Plan shall for any reason expire or otherwise terminate
without having been exercised in full, the stock not purchased under such
option shall again become available for the Plan.
(b) The stock subject to the Plan may be unissued shares or reacquired
shares, bought on the market or otherwise.
4. Eligibility.
Options shall be granted only to Non-Employee Directors of the Company.
5. Non-Discretionary Grants.
2
<PAGE>
(a) Each person who is elected or appointed for the first time to serve
as a Non-Employee Director on or after February 6, 1997 shall, upon the date
of such initial election or appointment, be granted an option to purchase
thirty thousand (30,000) shares of common stock of the Company on the terms
and conditions set forth herein.
(b) On the date of the Company's annual meeting of its stockholders each
year, commencing with the 1997 annual meeting, each person who is then
serving as a Non-Employee Director and has continuously served as a
Non-Employee Director for at least the preceding three (3) months shall be
granted an option to purchase five thousand (5,000) shares of common stock of
the Company on the terms and conditions set forth herein.
6. Option Provisions.
Each option shall contain the following terms and conditions:
(a) The term of each option commences on the date it is granted and,
unless sooner terminated as set forth herein, expires on the date
("Expiration Date") ten (10) years from the date of grant. If the optionee's
service as a Director or as an employee of or consultant to the Company or
any Affiliate of the Company terminates for any reason or for no reason, the
option shall terminate on the earlier of the Expiration Date or the date
three (3) months following the date of termination of service; provided,
however, that if such termination of service is due to the optionee's death,
the option shall terminate on the earlier of the Expiration Date or twelve
(12) months following the date of the optionee's death. In any and all
circumstances, an option may be exercised following termination of the
optionee's service as a Director of the Company only as to that number of
shares as to which it was exercisable on the date of termination of such
service under the provisions of subparagraph 6(e).
3
<PAGE>
(b) The exercise price of each option shall be one hundred percent
(100%) of the fair market value of the stock subject to such option on the
date such option is granted.
(c) The optionee may elect to make payment of the exercise price under
one of the following alternatives:
(i) Payment of the exercise price per share in cash at the
time of exercise; or
(ii) Provided that at the time of the exercise the Company's
common stock is publicly traded and quoted regularly in the Wall Street
Journal, payment by delivery of shares of common stock of the Company already
owned by the optionee, held for the period required to avoid a charge to the
Company's reported earnings, and owned free and clear of any liens, claims,
encumbrances or security interest, which common stock shall be valued at fair
market value on the date preceding the date of exercise; or
(iii) Payment by a combination of the methods of payment
specified in subparagraph 6(c)(i) and 6(c)(ii) above.
Notwithstanding the foregoing, this option may be exercised pursuant to a
program developed under Regulation T as promulgated by the Federal Reserve
Board which results in the receipt of cash (or check) by the Company prior to
the issuance of shares of the Company's common stock.
(d) An option shall not be transferable except by will or by the laws of
descent and distribution, and shall be exercisable during the lifetime of the
person to whom the option is granted only by such person or by his or her
guardian or legal representative, unless otherwise specified in the option,
in which case the option may be transferred upon such terms and conditions as
are set forth in the option, as the Board or the Committee shall determine in
its
4
<PAGE>
discretion, including (without limitation) pursuant to a "domestic relations
order." Notwithstanding the foregoing, the person to whom an option is
granted may, by delivering written notice to the Company, in a form
satisfactory to the Company, designate a third party who, in the event of the
death of the optionee, shall thereafter be entitled to exercise the option.
(e) The option shall become exercisable in installments over a period of
four (4) years from the date of grant at the rate of twenty five percent
(25%) of the total shares granted under such option in four (4) equal annual
installments commencing on the date one year after the date of grant of the
option, provided that the optionee has, during the entire period prior to
such vesting date, continuously served as a Director or as an employee of or
consultant to the Company or any Affiliate of the Company, whereupon such
option shall become fully exercisable in accordance with its terms with
respect to that portion of the shares represented by that installment.
(f) The Company may require any optionee, or any person to whom an
option is transferred under subparagraph 6(d), as a condition of exercising
any such option: (i) to give written assurances satisfactory to the Company
as to the optionee's knowledge and experience in financial and business
matters; and (ii) to give written assurances satisfactory to the Company
stating that such person is acquiring the stock subject to the option for
such person's own account and not with any present intention of selling or
otherwise distributing the stock. These requirements, and any assurances
given pursuant to such requirements, shall be inoperative if (i) the issuance
of the shares upon the exercise of the option has been registered under a
then-currently-effective registration statement under the Securities Act of
1933, as amended (the "Securities Act"), or (ii), as to any particular
requirement, a determination is made by counsel for the Company that such
requirement need not be met in the circumstances under the then-applicable
securities laws.
5
<PAGE>
(g) Notwithstanding anything to the contrary contained herein, an option
may not be exercised unless the shares issuable upon exercise of such option
are then registered under the Securities Act or, if such shares are not then
so registered, the Company has determined that such exercise and issuance
would be exempt from the registration requirements of the Securities Act.
7. Covenants Of The Company.
(a) During the terms of the options granted under the Plan, the Company
shall keep available at all times the number of shares of stock required to
satisfy such options.
(b) The Company shall seek to obtain from each regulatory commission or
agency having jurisdiction over the Plan such authority as may be required to
issue and sell shares of stock upon exercise of the options granted under the
Plan; provided, however, that this undertaking shall not require the Company
to register under the Securities Act either the Plan, any option granted
under the Plan, or any stock issued or issuable pursuant to any such option.
If the Company is unable to obtain from any such regulatory commission or
agency the authority which counsel for the Company deems necessary for the
lawful issuance and sale of stock under the Plan, the Company shall be
relieved from any liability for failure to issue and sell stock upon exercise
of such options.
8. Use Of Proceeds From Stock.
Proceeds from the sale of stock pursuant to options granted under the
Plan shall constitute general funds of the Company.
6
<PAGE>
9. Miscellaneous.
(a) Neither an optionee nor any person to whom an option is transferred
under subparagraph 6(d) shall be deemed to be the holder of, or to have any
of the rights of a holder with respect to, any shares subject to such option
unless and until such person has satisfied all requirements for exercise of
the option pursuant to its terms.
(b) Nothing in the Plan or in any instrument executed pursuant thereto
shall confer upon any Non-Employee Director any right to continue in the
service of the Company or any Affiliate or shall affect any right of the
Company, its Board or stockholders or any Affiliate to terminate the service
of any Non-Employee Director with or without cause.
(c) No Non-Employee Director, individually or as a member of a group,
and no beneficiary or other person claiming under or through such
Non-Employee Director, shall have any right, title or interest in or to any
option reserved for the purposes of the Plan except as to such shares of
common stock, if any, as shall have been reserved for such Non-Employee
Director pursuant to any previous option grant.
(d) In connection with each option made pursuant to the Plan, it shall
be a condition precedent to the Company's obligation to issue or transfer
shares to a Non-Employee Director, or to evidence the removal of any
restrictions on transfer, that such Non-Employee Director make arrangements
satisfactory to the Company to insure that the amount of any federal or other
withholding tax required to be withheld with respect to such sale or
transfer, or such removal or lapse, is made available to the Company for
timely payment of such tax.
7
<PAGE>
10. Adjustments Upon Changes In Stock.
(a) If any change is made in the stock subject to the Plan, or subject
to any option granted under the Plan, without the receipt of consideration by
the Company (through merger, consolidation, reorganization, recapitalization,
stock dividend, dividend in property other than cash, stock split,
liquidating dividend, combination of shares, exchange of shares, change in
corporate structure or other transaction not involving the receipt of
consideration by the Company), the Plan will be appropriately adjusted in the
class(es) and maximum number of shares subject to the Plan pursuant to
subparagraph 3(a), and the outstanding options will be appropriately adjusted
in the class(es) and number of shares and price per share of stock subject to
such outstanding options. Such adjustments shall be made by the Board or the
Committee, the determination of which shall be final, binding and conclusive.
(The conversion of any convertible securities of the Company shall not be
treated as a "transaction not involving the receipt of consideration by the
Company".)
(b) In the event of: (1) a merger or consolidation in which the Company
is not the surviving corporation; (2) a reverse merger in which the Company
is the surviving corporation but the shares of the Company's common stock
outstanding immediately preceding the merger are converted by virtue of the
merger into other property, whether in the form of securities, cash or
otherwise; or (3) any other capital reorganization in which more than fifty
percent (50%) of the shares of the Company entitled to vote are exchanged,
the time during which options outstanding under the Plan may be exercised
shall be accelerated and the options terminated if not exercised prior to
such event.
8
<PAGE>
11. Amendment Of The Plan.
(a) The Board at any time, and from time to time, may amend the Plan.
Except as provided in paragraph 10 relating to adjustments upon changes in
stock, no amendment shall be effective unless approved by the stockholders of
the Company to the extent stockholder approval is necessary for the Plan to
satisfy the requirements of Rule 16b-3 under the Exchange Act or any Nasdaq
or securities exchange listing requirements.
(b) Rights and obligations under any option granted before any amendment
of the Plan shall not be altered or impaired by such amendment unless (i) the
Company requests the consent of the person to whom the option was granted and
(ii) such person consents in writing.
12. Termination Or Suspension Of The Plan.
(a) The Board may suspend or terminate the Plan at any time. Unless
sooner terminated, the Plan shall terminate on April 1, 2004. No options may
be granted under the Plan while the Plan is suspended or after it is
terminated.
(b) Rights and obligations under any option granted while the Plan is in
effect shall not be altered or impaired by suspension or termination of the
Plan, except with the consent of the person to whom the option was granted.
(c) The Plan shall terminate upon the occurrence of any of the events
described in Section 10(b) above.
13. Effective Date Of Plan; Conditions Of Exercise.
(a) The Plan shall become effective upon adoption by the Board of
Directors, subject to the condition subsequent that the Plan is approved by
the stockholders of the Company.
(b) No option granted under the Plan shall be exercised or exercisable
unless and until the condition of subparagraph 13(a) above has been met.
9
<PAGE>
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
Exhibit 10.43
RESEARCH COLLABORATION AND LICENSE AGREEMENT
between
MERCK & CO., INC.
and
ARRIS PHARMACEUTICAL CORPORATION
<PAGE>
TABLE OF CONTENTS
Article I--Definitions.............................................. 1
Article II--Research Program........................................ 8
Section 2.1--General........................................... 8
Section 2.2--Conduct of Research............................... 8
Section 2.3--Use of Research Funding........................... 8
Section 2.4--Exchange of Information........................... 8
Section 2.5--Joint Research Committee.......................... 8
Section 2.6--Records and Reports............................... 8
Subsection 2.6.1--Records................................. 8
Subsection 2.6.2--Copies and Inspection of Records........ 9
Subsection 2.6.3--Quarterly Reports....................... 9
Section 2.7--Research Program Information and Inventions....... 9
Section 2.8--Research Program Term............................. 9
Section 2.9--ARRIS Delta Technology............................ 10
Section 2.10--Rights to Compounds.............................. 10
Article III--License; Development and Commercialization............. 11
Section 3.1--Research License Grants........................... 11
Section 3.2--Commercialization License......................... 12
Section 3.3--Development and Commercialization................. 12
Section 3.4--Exclusivity in the Field.......................... 12
Article IV--Confidentiality and Publication......................... 12
Section 4.1--Nondisclosure Obligations......................... 12
Section 4.2--Restriction on ARRIS Delta Technology............. 12
Section 4.3--Exceptions........................................ 12
Section 4.4--Permitted Disclosure of Proprietary Information... 13
Section 4.5--Publication....................................... 13
Section 4.6--Press Releases.................................... 14
Article V--Payments; Royalties and Reports.......................... 14
Section 5.1--Commitment Fee.................................... 14
i
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
Section 5.2--Research Program Funding.......................... 14
Section 5.3--Milestone Payments................................ 15
Section 5.4--Royalties......................................... 16
Subsection 5.4.1--Royalties Payable By MERCK.............. 16
Subsection 5.4.2--Managed Pharmaceutical Contracts........ 18
Subsection 5.4.3--Change in Sales Practices............... 18
Subsection 5.4.4--Bulk Compound .......................... 18
Subsection 5.4.5--Compulsory Licenses..................... 18
Subsection 5.4.6--Third Party Licenses.................... 18
Section 5.5--Reports; Payment of Royalties..................... 18
Section 5.6--Audits............................................ 19
Section 5.7--Payment Exchange Rate............................. 20
Section 5.8--Income Tax Withholding............................ 20
Article VI--Representations and Warranties.......................... 20
Section 6.1--ARRIS Representations and Warranties.............. 20
Section 6.2--MERCK Representations and Warranties.............. 21
Article VII--Patent Matters......................................... 21
Section 7.1--Filing, Prosecution and Maintenance of Patents.... 21
Section 7.2--Right to Prosecute and Maintain Patents........... 22
Section 7.3--Interference, Opposition, Reexamination and
Reissue........................................... 23
Section 7.4--Enforcement and Defense........................... 23
Section 7.5--Patent Term Restoration........................... 25
Article VIII--Term and Termination.................................. 25
Section 8.1--Term and Expiration............................... 25
Section 8.2--Termination by MERCK.............................. 25
Section 8.3--Termination....................................... 27
Subsection 8.3.1--Termination for Cause................... 27
Subsection 8.3.2--Effect of Termination for Bankruptcy.... 28
Section 8.4--Effect of Expiration or Termination............... 28
Article IX--Miscellaneous........................................... 29
ii
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
RESEARCH COLLABORATION AND LICENSE AGREEMENT
THIS AGREEMENT is effective as of November , 1996 (the "Effective
Date"), between MERCK & CO., INC., a corporation organized and existing under
the laws of New Jersey ("MERCK") and ARRIS PHARMACEUTICAL CORPORATION, a
corporation organized and existing under the laws of Delaware ("ARRIS").
WITNESSETH:
WHEREAS, ARRIS has developed ARRIS Know-How (as defined below) and has
rights to ARRIS Patents (as defined below);
WHEREAS, MERCK and ARRIS desire to enter into a research collaboration upon
the terms and conditions set forth herein;
WHEREAS, MERCK desires to obtain a license under the ARRIS Patents and ARRIS
Know-How, upon the terms and conditions set forth herein;
NOW, THEREFORE, in consideration of the foregoing and the mutual covenants
contained herein, the parties hereby agree as follows:
ARTICLE I
DEFINITIONS
Unless specifically set forth herein to the contrary, the following terms,
whether used in the singular or plural, shall have the respective meanings set
forth below:
1.1 "Active Compound" shall mean any compound in purified form that
(A)
(1) is a [ * ] compound characterized by having the ability to inhibit
(or, in the case of a prodrug, an active species of which inhibits)
human cathepsin K or human cathepsin L [ * ] and having greater than
[ * ] and having greater than [ * ] in an [ * ] wherein the
concentration of the compound is not greater than [ * ], and
(2) satisfies one or more of the following:
(a) is discovered, identified or synthesized by or on behalf of ARRIS
and/or MERCK, or an Affiliate of either of them, pursuant to work
conducted under this Agreement, and is determined by the JRC to
1
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
meet the criteria of Subsection 1.1(A)(1) above either [* ] pursuant
to work conducted under [ * ] or (ii) [ * ] pursuant to work
deriving directly from or based directly upon the results of the
work conducted under the Agreement; or
(b) is acquired prior to the end of the Research Program Term (including
without limitation acquisition of rights thereto) by ARRIS or MERCK,
or an Affiliate of either of them, from a third party, on an
absolute or contingent basis (such as rights under an option), and
is determined by the JRC to meet the criteria of Subsection
1.1(A)(1) above pursuant to work conducted under this Agreement
during the Research Program Term; or
(c) is generically described within a claim describing a genus of
compounds the utility of which is given as human cathepsin K or
human cathepsin L inhibition, as defined in any pending or issued
claim of any unexpired ARRIS Patent, MERCK Patent or Collaboration
Patent filed in the United States or Japan or as a European Patent
Application, or as a Patent Cooperation Treaty ("PCT") application
designating the United States and the contracting states of the
European Patent Convention, and as to which the JRC determines that
at least one member of such genus meets the requirements of either
Subsection 1.1(A)(1)(a) or 1.1(A)(1)(b) above, PROVIDED THAT such
compound is synthesized and assayed [ * ];
or
(B) (1) is (a) identified to the JRC from the ARRIS library by ARRIS or from
the MERCK library by MERCK, or (b) discovered or synthesized by or
on behalf of ARRIS and/or MERCK, or an Affiliate of either of them
pursuant to work conducted under this Agreement [ * ], or (c)
acquired by ARRIS or MERCK, or an Affiliate of either of them,
pursuant to work conducted under this Agreement prior to [ * ],
and (2) is designated an Active Compound by the JRC by [ * ].
Notwithstanding the provisions of Subsections 1.1(A) and (B) above, Active
Compounds shall not include:
(x) Any compound that meets the requirements for being an Active Compound as
set forth above but that has not been determined to be or selected as a
Program Compound by the later of: (i) [
2
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
* ], or (ii) [ * ] by a party hereunder; or
(y) Any compound marketed by MERCK or its Affiliates as of the Effective
Date; or
(z) Any compound for which MERCK as of the Effective Date is conducting
human clinical trials or has filed an IND (which has not been
abandoned or withdrawn), provided that such compound is not known as
of the Effective Date to have human cathepsin K and/or L inhibitory
activity.
1.2 "ARRIS Delta Technology" shall mean that specific technology, methods,
techniques, materials, know-how, inventions, information and data
described generally in a letter from ARRIS to MERCK of even date with
this Agreement, all improvements to and inventions incorporating the
ARRIS Delta Technology (but excluding (i) Active Compounds, (ii) any
improved or modified Active Compounds which are themselves Active Compounds
and (iii) those inventions which arise from the use by MERCK or its
Affiliates or sublicensees of ARRIS Delta Technology to the extent
permitted under Section 4.3 of this Agreement) made prior to [ * ], and
the Patents owned or Controlled by ARRIS at any time covering the
foregoing.
1.3 "Affiliate" shall mean (i) any corporation or business entity of which more
than 50% of the securities or other ownership interests representing the
equity, the voting stock or general partnership interest are owned,
controlled or held, directly or indirectly, by MERCK or ARRIS; or (ii) any
corporation or business entity which, directly or indirectly, owns,
controls or holds 50% (or the maximum ownership interest permitted by law)
or more of the securities or other ownership interests representing the
equity, the voting stock or, if applicable, the general partnership
interest, of MERCK or ARRIS.
1.4 "ARRIS Know-How" shall mean all information, materials and technology,
including without limitation methods, techniques, know-how, inventions,
data, ARRIS Research Information, Technology and Improvements, to the
extent (a) owned or Controlled by ARRIS or an ARRIS Affiliate at any time
prior to [ * ], and (b) necessary or useful to the work MERCK shall perform
in the Field pursuant to the Agreement, but excluding ARRIS Patents,
Collaboration Patents, and ARRIS Delta Technology.
1.5 "ARRIS Patents" shall mean all Patents owned or Controlled by ARRIS that
claim (a) Active Compounds, the manufacture or use of Active Compounds,
or methods or materials used for discovering, identifying, or assaying for
Active Compounds, or (b) to the extent not covered in subsection (a), any
ARRIS Know-How or ARRIS Research Information, where such Patents cover
inventions made prior to [ * ], but excluding the ARRIS Delta Technology.
3
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
1.6 "ARRIS Research Information" shall mean all Research Program
Information and Inventions developed or invented solely by
ARRIS (including by its employees, agents or consultants).
1.7 "Calendar Quarter" shall mean the respective periods of
three consecutive calendar months ending on March 31, June
30, September 30 and December 31.
1.8 "Calendar Year" shall mean each successive period of 12
months commencing on January 1 and ending on December 31.
1.9 "Combination Product" shall mean a Licensed Product which
includes one or more active ingredients other than a Program
Compound in combination with one or more Program Compounds.
1.10 "Collaboration Patents" shall mean all Patents that claim
inventions in Research Program Information and Inventions
that are invented jointly by ARRIS and MERCK (including by
their respective employees, agents or consultants).
1.11 "Collaboration Research Information" shall mean all Research
Program Information and Inventions developed or invented
jointly by ARRIS and MERCK (including by their respective
employees, agents or consultants).
1.12 "Control" shall mean, with respect to a compound, material,
information or intellectual property right, possession by a
party of a license with the right to sublicense existing as
of the Effective Date or that is acquired during the term of
this Agreement.
1.13 "Field" shall mean the discovery, identification, synthesis,
assaying, manufacture, and research use of Active Compounds
and the clinical development of Program Compounds and the
manufacture, use, sale or importation of Licensed Products.
1.14 "First Commercial Sale" shall mean, with respect to any
Licensed Product, the first sale by MERCK or its Affiliates
or sublicensees to a third party intended for end use or
consumption of such Licensed Product in a country after all
required approvals, including marketing and pricing
approvals, have been granted by the governing health
authority of such country.
1.15 "Improvement" shall mean any enhancement in the manufacture,
formulation, ingredients, preparation, presentation, means
of delivery, dosage or packaging of Program Compound or
Licensed Product.
1.16 "JRC" shall mean the Joint Research Committee described in
Section 2.5 of this Agreement.
4
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
1.17 "Licensed Product" shall mean a preparation in final form
for sale by prescription, over-the-counter or any other
method for any and all uses, including, without limitation,
in humans and/or animals and/or agriculture, and all other
uses, which contains a Program Compound, including, without
limitation, any Combination Product.
1.18 "MERCK Know-How" shall mean all information, materials, and
technology, including without limitation methods,
techniques, know-how, inventions, data, MERCK Research
Information, Technology or Improvements, to the extent (a)
owned or Controlled by MERCK or a MERCK Affiliate at any
time prior to [ * ], and (b) in the reasonable opinion of
MERCK necessary or useful to the work ARRIS shall perform in
the Field pursuant to the Agreement, but excluding MERCK
Patents, and Collaboration Patents.
1.19 "MERCK Research Information" shall mean all Research Program
Information and Inventions developed or invented solely by
MERCK (including by its employees, agents or consultants).
1.20 "MERCK Patents" shall mean all Patents owned or Controlled
by MERCK that claim (a) Active Compounds, the manufacture or
use of Active Compounds, or methods or materials used for
discovering, identifying, or assaying for Active Compounds,
or (b) to the extent not covered in subsection (a), any
MERCK Know-How or MERCK Research Information, where such
Patents cover inventions made prior to [ * ].
1.21 "Net Sales" shall mean [ * ] Licensed Product sold by
MERCK, its Affiliates or sublicensees (which term does not
include distributors) to the first independent third party
after deducting, if not previously deducted, from the amount
invoiced:
(a) trade and quantity discounts;
(b) credits and allowances on account of returned or
rejected products;
(c) rebates, chargebacks and other amounts paid on sale or
dispensing of Licensed Product;
(d) [ * ];
(e) [ * ]; and
5
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
<PAGE>
(f) [ * ] used for [ * ] Licensed Product as it is
sold, to the extent included within the gross invoice
price of Licensed Product.
With respect to sales of Combination Products, Net Sales
shall be calculated on the basis of the invoice price of
Licensed Product(s) containing the same weight of Program
Compound sold without other active ingredients. If such
Licensed Product is not sold without other active
ingredients, Net Sales shall be calculated on the basis of
[ * ] which shall be the [ * ] which shall be the
[ * ], but in no event shall such [ * ] shall be
determined [ * ] in accordance with [ * ].
1.22 "Patents" shall mean any and all issued patents and patent
applications (which shall be deemed to include certificates
of invention and applications for certificates of invention)
and including all divisions, continuations,
continuations-in-part, reissues, renewals, extensions,
supplementary protection certificates or the like of any of
the foregoing patents and patent applications and foreign
equivalents thereof.
1.23 "Program Compound" shall mean
(a) an Active Compound that:
(i) has [ * ] against human cathepsin K or L;
(ii) [ * ];
(iii) if a human cathepsin K inhibitor, has greater
than [ * ]; or, if a human cathepsin L
inhibitor, has greater than [ * ]; and
(iv) [ * ];
or
6
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
(b) any other Active Compound designated as a Program
Compound by the JRC by the [ * ]; or
(c) any compound deemed to be a Program Compound as
provided in Section 2.10(d) of this Agreement.
1.24 "Proprietary Information" shall mean all scientific,
clinical, regulatory, marketing, financial and commercial
information or data, whether communicated in writing, orally
or by any other means, that is provided by one party to the
other party in connection with this Agreement. Proprietary
Information shall include, without limitation, MERCK
Know-How, ARRIS Know-How and ARRIS Delta Technology.
1.25 "Research Program Information and Inventions" shall mean all
discoveries, Improvements, processes, formulas, data,
inventions, know-how and trade secrets, patentable or
otherwise, developed or discovered under or arising from the
parties' work, alone or jointly, under the Research Program.
1.26 "Research Program" shall mean the collaborative research
effort between the parties as set forth in Article II of
this Agreement and Attachment 2.1 hereto.
1.27 "Technology" shall mean all polynucleotides encoding human
cathepsins, the expression vectors and systems containing
the coding regions of the polynucleotides encoding the human
cathepsins, various organisms (including, but not limited
to, [ * ]) transformed with the polynucleotides encoding
the human cathepsins and required for the production of
recombinant human cathepsin polypeptides, protocols and
biochemical expertise involved in the activation and
purification of human cathepsins, [ * ], substrates,
assays, non-reversible and reversible inhibitors of human
cathepsins, and all additional know-how involved in the
design of cathepsin inhibitors.
1.28 "Territory" shall mean all of the countries in the world.
1.29 "Valid Patent Claim" shall mean a claim of an issued and
unexpired patent included within the ARRIS Patents, MERCK
Patents or Collaboration Patents, which has not been revoked
or held unenforceable or invalid by a decision of a court or
other governmental agency of competent jurisdiction,
unappealable or unappealed within the time allowed for
appeal, and which has not been disclaimed, denied or
admitted to be invalid or unenforceable through reissue or
disclaimer or otherwise.
7
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
ARTICLE II
RESEARCH PROGRAM
2.1 General. ARRIS and MERCK shall engage in the Research
Program upon the terms and conditions set forth in this
Agreement. The activities to be undertaken during the
Research Program are set forth in Attachment 2.1 which may
be amended from time to time upon the mutual written
agreement of the authorized representatives of the parties.
2.2 Conduct of Research. ARRIS and MERCK each shall conduct the
Research Program in good scientific manner, and in
compliance in all material respects with all requirements of
applicable laws, rules and regulations and all applicable
good laboratory practices to attempt to achieve their
objectives efficiently and expeditiously.
2.3 Use of Research Funding. ARRIS shall apply the research
funding it receives from MERCK under this Agreement in
accordance with the Research Program attached hereto as
Attachment 2.1, as such may be amended from time to time
upon the mutual written agreement of authorized
representatives of the parties.
2.4 Exchange of Information. Upon execution of this Agreement,
ARRIS shall disclose to MERCK in English and in writing all
ARRIS Know-How not previously disclosed. During the term of
this Agreement, ARRIS shall also promptly disclose to MERCK
in English and in writing on an ongoing basis all ARRIS
Know-How. MERCK shall promptly disclose to ARRIS during the
term of this Agreement MERCK Know-How which MERCK
determines, in its discretion, may be necessary or useful to
ARRIS in the performance of the Research Program.
2.5 Joint Research Committee. The parties shall form a Joint
Research Committee ("JRC") which shall be composed of three
scientists from each party and chaired by MERCK. The JRC
shall meet at least monthly during the Research Program Term
to monitor and evaluate the progress of and direct the
Research Program. The JRC may designate compounds as Active
Compounds in accordance with Subsection 1.1(B) or Program
Compounds in accordance with Subsection 1.23(b) during the
period ending on [ * ]. Such meetings may be face-to-face
or by teleconference or videoconference, except that there
must be one face-to-face meeting approximately every three
months at alternating sites. In the event of any unresolved
differences between the parties with respect to issues that
come before the JRC, [ * ].
2.6 Records and Reports.
2.6.1 Records. ARRIS and MERCK each shall maintain
records which shall be complete and accurate and shall
8
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
fully and properly reflect all work done and
results achieved in the performance of the Research Program in
sufficient detail and in good scientific manner appropriate for
patent and regulatory purposes.
2.6.2 Copies and Inspection of Records. MERCK shall have the
right, during normal business hours and upon reasonable
notice no more than [ * ], to inspect and copy all of the
records of ARRIS referenced in Section 2.6.1, except that
ARRIS need not disclose any data or information relating to
compounds in ARRIS's library as of the Effective Date that
do not meet the criteria in Subsection 1.1(A)(1). MERCK
shall maintain such records and the information disclosed
therein in confidence in accordance with Section 4.1. MERCK
shall have the right to arrange for a reasonable number of
its employees, agents and outside consultants to visit ARRIS
at its offices and laboratories during normal business hours
and upon reasonable notice, and to discuss the Research
Program and its results in detail with the technical
personnel and consultants of ARRIS. All inspections,
copying and visits hereunder shall be conducted in a manner
so as not to disrupt ARRIS's business or cause any
disclosure of any other ARRIS confidential information.
2.6.3 Quarterly Reports. Within 30 days following the end of each
Calendar Quarter during the term of this Agreement, ARRIS
shall provide to MERCK a written progress report which shall
describe the work performed to date on the Research Program,
evaluate the work performed in relation to the goals of the
Research Program and provide such other information required
by the Research Program or reasonably requested by MERCK
relating to the progress of the goals or performance of the
Research Program. Upon request, ARRIS shall provide copies
of the records described in Section 2.6.1. above (excluding
the data and information excluded as set forth in Section
2.6.2).
2.7 Research Program Information and Inventions. The Research
Program Information and Inventions developed or invented
under this Agreement shall be owned as follows:
(a) ARRIS Research Information shall be owned [ * ];
(b) MERCK Research Information shall be owned [ * ]; and
(c) Collaboration Research Information shall be owned
[ * ].
Each party shall promptly disclose to the other the
development, making, conception and reduction to practice of
all Research Program Information and Inventions. ARRIS
shall not be required to disclose to MERCK the invention or
development of ARRIS Delta Technology except to the extent
such inventions or developments relate directly to the
Field.
2.8 Research Program Term. Except as otherwise provided herein,
the term of the Research Program shall commence on the
Effective Date and continue for a
9
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
period of two years (or three years if extended as provided below
in this Section 2.8) (the "Research Program Term"), except that
MERCK may terminate the Research Program and this Agreement in
accordance with Section 8.2. The parties by mutual written
agreement executed by authorized representatives may extend the
Research Program Term for one additional year. Upon extension of
the Research Program Term, if applicable, Attachment 2.1 setting
forth the Research Program shall be amended in writing by mutual
agreement.
2.9 ARRIS Delta Technology. As part of its efforts under the
Research Program, ARRIS shall use all reasonable efforts to
apply the ARRIS Delta Technology to the identification,
discovery and synthesis of Active Compounds. The ARRIS
Delta Technology shall remain proprietary to ARRIS. MERCK
agrees not to make any use of the Delta Technology, except
as may be permitted under Section 4.3 of this Agreement.
The parties understand and agree, however, that incident to
MERCK's research and development activities in collaboration
with ARRIS under the Research Program, MERCK and/or its
Affiliates (including their respective employees or agents)
may make inventions or developments relating to or based
upon the ARRIS Delta Technology. MERCK hereby assigns to
ARRIS all improvements to and inventions incorporating the
ARRIS Delta Technology (excluding (i) Active Compounds, (ii)
any improved or modified Active Compounds which are
themselves Active Compounds and (iii) those inventions which
arise from the use of ARRIS Delta Technology by MERCK or its
Affiliates or sublicensees as may be permitted under Section
4.3 of this Agreement) made during the Agreement.
2.10 Rights to Compounds. The parties contemplate that each of
them will make compounds from its library available for
testing for purposes of this Agreement and that additional
compounds may be invented and/or synthesized in the course
of the Research Program. In respect of such compounds, the
parties agree as follows:
(a) Pre-existing compounds which are tested in the
Research Program and are determined, under the
provisions of Section 1.1, not to be Active Compounds
shall revert to the party which made such compound
available, without any restriction under this
Agreement.
(b) Compounds which are invented in the course of the
Research Program shall be owned [ * ] each such
compound, with compounds which are invented jointly by
the parties [ * ], and all such compounds that are
determined under the provisions of Section 1.1 not to
be Active Compounds shall [ * ] such compounds,
[ * ] under this Agreement.
(c) Active Compounds shall not be subject to clinical
development (but shall be available for pre-clinical
investigation) by either party except pursuant to the
terms of this Agreement unless and until such Active
10
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
Compound is released from this Agreement. Active Compounds shall
be released from this Agreement if such Active Compound is not
determined to be or designated as a Program Compound under the
provisions of Section 1.23 by the later of: (i) [ * ], or (ii)
[ * ] such Active Compound was first synthesized by a party
hereunder. Rights in Active Compounds which are released from
this Agreement shall be determined in accordance with subsections
(a) and (b) above.
(d) Neither party shall develop or market any compound that
at any time during the periods specified in Section 1.1
met the definition of Active Compound under Section
1.1, even if such compound later was released from the
terms of this Agreement as provided in subsection (c)
above and subsection (x) of Section 1.1, except
pursuant to the terms of this Agreement if such
compound is developed for its inhibition of cathepsin K
or L. Any such compound developed shall be deemed a
Program Compound for all purposes hereunder.
(e) Program Compounds shall be developed and marketed only
in accordance with the terms of this Agreement.
(f) No implied license under patent rights is granted under
this Section 2.10.
ARTICLE III
LICENSE; DEVELOPMENT AND COMMERCIALIZATION
3.1 Research License Grants.
(a) Upon the terms and conditions set forth herein, ARRIS
hereby grants MERCK the sole license under the ARRIS
Know-How and the ARRIS Patents solely as necessary to
conduct the discovery, research and development of
Active Compounds under this Agreement. The foregoing
license may be sublicensed to MERCK Affiliates and,
with the consent of the parties, to third party
sublicensees.
(b) Upon the terms and conditions set forth herein, MERCK
hereby grants ARRIS the sole license under the MERCK
Know-How and the MERCK Patents solely as necessary to
conduct the discovery, research and development of
Active Compounds under this Agreement.
(c) As used in Subsections 3.1(a) and (b) above, the phrase
"sole license" shall mean that the licensor has not
granted and shall not grant to any third party during
the term of this Agreement the license rights granted
to the licensee in the applicable Subsection.
11
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
3.2 Commercialization License. Upon the terms and conditions
set forth herein, ARRIS hereby grants MERCK the exclusive
license under the ARRIS Know-How and the ARRIS Patents and
ARRIS' interest in the Collaboration Research Information
and the Collaboration Patents solely to develop, make, have
made, use, import and sell Program Compounds and Licensed
Products in the Territory. The foregoing license may be
sublicensed to MERCK Affiliates and third party
sublicensees.
3.3 Development and Commercialization. MERCK shall use [ * ]
in developing and commercializing [ * ] pharmaceutical
products, at its own expense, to develop and commercialize a
Licensed Product in such countries in the Territory [ * ].
3.4 Exclusivity in Field. ARRIS and MERCK each covenant to the
other that during the period commencing on the Effective
Date and continuing until [ * ], it will conduct no
activity concerning discovering, identifying, researching or
developing compounds which meet the criteria of Subsection
1.1(A)(1) except pursuant to this Agreement (provided that
the foregoing shall not prevent a party or its Affiliates
from conducting pre-clinical investigations on such
compounds for uses outside of their inhibition of cathepsin
K or cathepsin L). The foregoing shall not be interpreted
to limit the other obligations under this Agreement,
including without limitation those under Sections 2.9 and
2.10 and Article IV.
ARTICLE IV
CONFIDENTIALITY AND PUBLICATION
4.1 Nondisclosure Obligations. All Proprietary Information
disclosed by one party to the other hereunder shall be
maintained in confidence by the receiving party and shall
not be disclosed to any non-party or used for any purpose
except as expressly permitted herein without the prior
written consent of the other party to this Agreement, except
that the foregoing shall not apply to the extent provided in
Section 4.3 below.
4.2 Restriction on ARRIS Delta Technology. MERCK agrees
[ * ] not to disclose ARRIS Delta Technology to any of its
employees except to those MERCK employees who reasonably
require same for the purposes of this Agreement and who have
been apprised of the confidential nature of such disclosure.
4.3 Exceptions. The non-use and non-disclosure obligations of
Sections 4.1 and 4.2 shall not apply to the extent that the
Proprietary Information:
(a) is known by the receiving party at the time of its
receipt, and not through a prior disclosure by the
disclosing party, as documented by business records;
12
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
(b) is properly in the public domain;
(c) is subsequently disclosed to the receiving party by a
third party who may lawfully do so and is not under an
obligation of confidentiality to the disclosing party;
or
(d) is developed by the receiving party independently of
Proprietary Information received from the disclosing
party.
4.4 Permitted Disclosure of Proprietary Information.
Notwithstanding Section 4.1, a party receiving Proprietary
Information of the other party may disclose such Proprietary
Information:
(a) to governmental or other regulatory agencies in order
to gain approval to conduct clinical trials or to
market Licensed Product, but such disclosure may be
only to the extent reasonably necessary to obtain such
authorizations;
(b) by MERCK to its permitted sublicensees, agents,
consultants, Affiliates and/or other third parties to
the extent necessary for the research and development,
manufacturing and/or marketing of the Licensed Product
(or for such parties to determine their interest in
performing such activities) in accordance with this
Agreement on the condition that such third parties
agree to be bound by the confidentiality obligations
contained within this Agreement, PROVIDED the term of
confidentiality for such third parties shall be no less
than[ * ], or
(c) if required to be disclosed by law or court order,
provided that notice is promptly delivered to the other
party in order to provide an opportunity to challenge
or limit the disclosure obligations.
(d) Notwithstanding the foregoing, [ * ].
4.5 Publication. MERCK and ARRIS each acknowledge the other's
interest in publishing its results to obtain recognition
within the scientific community and to advance the state of
scientific knowledge. Each party also recognizes the mutual
interest in obtaining valid patent protection and in
protecting business interests and trade secret information.
Consequently, either party, its employees, agents or
consultants wishing to make such a publication shall deliver
to the other party a copy of the proposed written
publication or an outline of an oral disclosure at least
[ * ] prior to submission for publication or presentation.
The reviewing party shall have the right (a) to propose
modifications to the publication for patent reasons, trade
secret reasons or business reasons or (b) to request a
reasonable delay in publication or presentation in order to
protect know-how and patentable information.
13
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
If the reviewing party requests a delay, the publishing party shall
delay submission or presentation for [ * ] after the filing of
the initial patent application to enable patent applications
protecting each party's rights in such information to be filed in
accordance with Article VII below. Upon expiration of such
[ * ], the publishing party shall be free to proceed with the
publication or presentation. If the reviewing party requests
modifications to the publication, the publishing party shall edit
such publication to prevent disclosure of trade secret or
proprietary business information prior to submission of the
publication or presentation.
4.6 Press Releases. Each party shall have the right to make
public announcements concerning this Agreement or the
subject matter hereof, provided that the other party shall
have reasonable opportunity and the right to approve the
content of such announcement prior to its being made, which
approval shall not be delayed or unreasonably withheld.
MERCK shall have reasonable opportunity and the right to
review all filings describing the terms of this Agreement,
prior to their submittal by ARRIS to the SEC, including all
proposed redacted copies of this Agreement. ARRIS shall
give due respect to any reasonable and timely request by
MERCK with respect thereto, including confidential treatment
of selected portions of this Agreement.
ARTICLE V
PAYMENTS; ROYALTIES AND REPORTS
5.1 Commitment Fee. In consideration of ARRIS's commitment to
perform its obligations under the Research Program and for
access to the ARRIS Know-How granted hereunder, MERCK shall
pay ARRIS a non-refundable commitment fee of [ * ] upon
execution of this Agreement by both parties.
5.2 Research Program Funding. In consideration for ARRIS's
performance of its obligations under the Research Program,
and subject to the terms and conditions contained herein,
MERCK shall pay ARRIS:
(a) For the First Year of the Research Program Term: an
amount equal to [ * ] (representing [ * ] per Full
Time Equivalent ("FTE") for [ * ]), payable in four
equal quarterly installments of [ * ] each. The
first such quarterly installment of [ * ] shall be
due upon execution of this Agreement by both parties.
The remaining three such quarterly installments of
[ * ] each shall be due on the first day of the
respective three month period, i.e., on February 1,
1997, May 1, 1997 and August 1, 1997. Should the
parties agree to amend the Research Program to require
[ * ] additional FTEs during the First Year, the
additional payment for such FTE(s) shall equal [ * ]
per FTE.
14
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
(b) For the Second Year of the Research Program Term: an
amount equal to [ * ] (representing [ * ] per FTE
for [ * ]), payable in four quarterly installments of
[ * ] each. Such quarterly installments shall be due
on the first day of the respective three month period,
i.e., on November 1, 1997, February 1, 1998, May 1,
1998 and August 1, 1998. If the JRC determines to
accelerate the Research Program during the Second Year
by requiring up to as many as [ * ] during the Second
Year, the parties shall amend the Research Program
accordingly and the additional payment for such FTE(s)
shall equal [ * ] per FTE.
(c) For any Third Year of the Research Program Term: If
the Research Program Term is extended for a Third Year
as set forth in Section 2.8 above, payments for such
Third Year shall equal [ * ] per required FTE.
5.3 Milestone Payments. Subject to the terms and conditions of
this Agreement, MERCK shall pay to ARRIS the following
milestone payments:
(a) [ * ] upon [ * ] set forth in Section [ * ] of
this Agreement;
(b) [ * ] upon [ * ]of a [ * ];
(c) [ * ] upon [ * ] of a Program Compound for [ * ]
as defined by MERCK;
(d) [ * ] upon [ * ] of [ * ] using a Program
Compound;
(e) [ * ] upon [ * ] of [ * ] using a Program
Compound;
(f) [ * ] upon [ * ] a Licensed Product for [ * ];
(g) [ * ] upon [ * ] a Licensed Product in the [ * ].
ARRIS shall notify MERCK in writing within [ * ] upon the
achievement of the milestone described in (b) above, and
MERCK shall pay ARRIS the appropriate milestone payment
within [ * ] of its receipt of such notice. MERCK shall
notify ARRIS in writing within [ * ] upon the achievement of
15
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
each milestone described in (a) and (c) through (g) above, and
upon such notice shall pay ARRIS the appropriate milestone
payment.
The milestone payments described in (a) through (c) above
shall be payable only upon the initial achievement of such
milestone and no amounts shall be due hereunder for
subsequent or repeated achievement of such milestone.
The milestone payments described in (d) through (g) above
shall be payable only upon the achievement of each such
milestone for the [ * ] a particular milestone event.
Notwithstanding the foregoing, if a Program Compound is
approved and marketed as a Licensed Product, and MERCK
elects to develop or to continue developing, e.g., as a
second generation product, another Program Compound (which
does not contain the same Program Compound or any salt form,
different formulation, or stereo-isomer thereof as such
Licensed Product) as a Licensed Product, MERCK shall make
the required payment for [ * ] described in [ * ] any
such [ * ], which shall include payment of all milestone
payments described in [ * ] that were [ * ] of such
Licensed Product.
[ * ] of each milestone payment made for the achievement
of a milestone described in (f) and (g) as set forth above
[ * ] for the Program Compound for which such milestone
was paid; PROVIDED, HOWEVER, that the [ * ] for such
Program Compound [ * ] in such year.
5.4 Royalties.
5.4.1 Royalties Payable By MERCK. Subject to the terms and
conditions of this Agreement, MERCK shall pay to ARRIS
royalties during each Calendar Year on a country-by-country
basis:
(a) if the Licensed Product is covered by a Valid Patent
Claim in the country of sale, then:
(i) an amount equal to [ * ] of the Net Sales of
such Licensed Products in such countries, until
the total annual Net Sales of Licensed Products
by MERCK, its Affiliates or sublicensees equals
[ * ];
(ii) for that amount of annual Net Sales of Licensed
Products by MERCK, its Affiliates or sublicensees
greater than [ * ] and less than or equal to
[ * ], an amount equal to [ * ]
16
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
of such Net Sales in such countries; and
(iii) for that amount of annual Net Sales of
Licensed Products by MERCK, its Affiliates or
sublicensees greater than [ * ], an amount equal
to [ * ] of such Net Sales in such countries; or
(b) for sales in countries other than those covered in
Subsection 5.4.1(a) above:
(i) an amount equal to [ * ] of the Net Sales of
such Licensed Products in such countries, until
the total annual Net Sales of Licensed Products by
MERCK, its Affiliates or sublicensees equals
[ * ];
(ii) for that amount of annual Net Sales of Licensed
Products by MERCK, its Affiliates or sublicensees
greater than [ * ] and less than or equal to
[ * ], an amount equal to [ * ] of such Net
Sales in such countries; and
(iii) for that amount of annual Net Sales of
Licensed Products by MERCK, its Affiliates or
sublicensees greater than [ * ], an amount equal
to [ * ] of such Net Sales in such countries.
Royalties on each Licensed Product at the rates set forth
above shall be effective as of the date of First Commercial
Sale of Licensed Product in a country and shall continue
until either (i) the expiration of the last applicable
patent on such Licensed Product in such country in the case
of sales under Subsection 5.4.1(a) above or (ii) until the
[ * ] in such country in the case of sales of Licensed
Product under Subsection 5.4.1(b) above, in each case
subject to the following conditions:
(x) that only one royalty shall be due with respect to the
same unit of Licensed Product;
(y) that no royalties shall be due upon the sale or other
transfer among MERCK, its Affiliates or sublicensees,
but in such cases the royalty shall be due and
calculated upon MERCK's or its Affiliate's or its
sublicensee's Net Sales to the first independent third
party; and
(z) no royalties shall accrue on the disposition without
charge of Licensed Product in reasonable quantities by
MERCK, its Affiliates or its sublicensees as samples
(promotion or otherwise) or as donations (for
17
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
example, to non-profit institutions or government agencies for a
non-commercial purpose).
5.4.2 Managed Pharmaceutical Contracts. MERCK may sell Licensed
Products to an independent third party (such as a retailer
or wholesaler) and may subsequently perform services
relating to Licensed Products and other products under a
managed pharmaceutical benefits contract or other similar
contract. In such cases, Net Sales shall be based [ * ]
in Section 1.21, [ * ] receive compensation arising from
the performance of such services.
5.4.3 Change in Sales Practices. The parties acknowledge that
during the term of this Agreement, MERCK's sales practices
for the marketing and distribution of Licensed Product may
change to the extent to which the calculation of the payment
for royalties on Net Sales may become impractical or even
impossible. In such event the parties agree to meet and
discuss in good faith new ways of compensating ARRIS to the
extent currently contemplated under Section 5.4.1.
5.4.4 Bulk Compound. In a country other than a Major Market
Country (which shall be for purposes of this Section the
United States, the United Kingdom, France, Canada, Germany,
Japan, Italy and Spain) in those cases where MERCK sells
bulk Program Compound to a third party other than a
sublicensee rather than Licensed Product in packaged form,
and is unable to determine Net Sales, the royalty
obligations of this Article V shall be [ * ].
5.4.5 Compulsory Licenses. If a compulsory license is granted
with respect to Licensed Product in any country in the
Territory with a royalty rate lower than the royalty rate
provided by Section 5.4.1., then the royalty rate to be paid
by MERCK on Net Sales in that country under Section 5.4.1
shall be [ * ].
5.4.6 Third Party Licenses. If one or more patent licenses from a
third party or parties are required by MERCK, its Affiliates
and/or sublicensees to develop, make, have made, use, sell
or import Compound or Licensed Product in a particular
country ("Third Party Patent License(s)"), any royalties
actually paid by MERCK under such Third Party Patent
License(s) with respect to sale of such Licensed Product in
such country based on rates [ * ] the rates to be paid
ARRIS under Section 5.4.1(a) with respect to such sales,
shall be credited against the royalty payments to be paid
ARRIS by MERCK with respect to the sale of such Licensed
Products in such country; PROVIDED, HOWEVER, that the
royalties payable to ARRIS in any given year shall not be
reduced by more than [ * ] in such year.
5.5 Reports; Payment of Royalty. Following the First Commercial
Sale of a Licensed Product and during the term of the
Agreement, MERCK shall furnish
18
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
to ARRIS a quarterly written report for the Calendar Quarter
showing the sales of all Licensed Products subject to
royalty payments sold by MERCK, its Affiliates and its
sublicensees in the Territory during the reporting period
and the royalties payable under this Agreement. Reports
shall be due on the [ * ] following the close of each
Calendar Quarter. Royalties that have accrued in a
particular Calendar Quarter shall be due and payable on the
date such royalty report is due. MERCK shall keep complete
and accurate records in sufficient detail to enable the
royalties payable hereunder to be determined.
5.6 Audits.
(a) Upon the written request of ARRIS and not more than
once in each Calendar Year, MERCK shall permit an
independent certified public accounting firm of
nationally recognized standing selected by ARRIS and
reasonably acceptable to MERCK, at ARRIS's expense, to
have access during normal business hours to such of the
records of MERCK as may be reasonably necessary to
verify the accuracy of the royalty reports hereunder
for any Calendar Year ending not more than [ * ]
prior to the date of such request. The accounting firm
shall disclose to ARRIS only whether the royalty
reports are correct or incorrect and the specific
details concerning any discrepancies. No other
information shall be provided to ARRIS.
(b) If such accounting firm correctly concludes that
additional royalties were owed during such period,
MERCK shall pay [ * ] of the date ARRIS delivers
to MERCK such accounting firm's written report so
correctly concluding.
(c) MERCK shall include in each sublicense granted by it
pursuant to this Agreement a provision requiring the
sublicensee to make reports to MERCK, to keep and
maintain records of sales made pursuant to such
sublicense and to grant access to such records by
ARRIS's independent accountant to the same extent
required of MERCK under this Agreement. Upon the
expiration of [ * ] following the end of any Calendar
Year, the calculation of royalties payable with respect
to such Calendar Year shall be binding and conclusive
upon ARRIS, and MERCK and its sublicensees shall be
released from any liability or accountability with
respect to royalties for such Calendar Year.
(d) ARRIS shall treat all information subject to review
under this Section 5.6 or under any sublicense
agreement in accordance with the confidentiality
provisions of Article IV of this Agreement, and shall
cause its accounting firm to enter into an acceptable
confidentiality agreement with MERCK obligating such
firm to retain all such financial information in
confidence pursuant to such confidentiality agreement.
19
_______________________________________________________________________________
* Certain confidential information contained in this document, marked by
brackets, has been ommitted and filed separately with the Securities and
Exchange Commission pursuant to Rule 24b-2 of the Securities Exhange Act of
1934, as amended.
_______________________________________________________________________________
<PAGE>
5.7 Payment Exchange Rate. All payments to be made by MERCK to
ARRIS under this Agreement shall be made in United States
dollars and may be paid by check made to the order of ARRIS
or bank wire transfer in immediately available funds to such
bank account in the United States designated in writing by
ARRIS from time to time. In the case of sales outside the
United States, the rate of exchange to be used in computing
the amount of currency equivalent in United States dollars
due ARRIS shall be the rate of exchange used by MERCK in its
worldwide accounting system, prevailing on the fourth to the
last MERCK business day of the Calendar Quarter during which
such sales were made, which shall be generally reflective of
then prevailing actual currency exchange rates.
5.8 Income Tax Withholding. If laws, rules or regulations
require withholding of income taxes or other taxes imposed
upon payments set forth in this Article V, MERCK shall make
such withholding payments as required and subtract such
withholding payments from the payments set forth in this
Article V. MERCK shall submit appropriate proof of payment
of the withholding taxes to ARRIS within a reasonable period
of time.
ARTICLE VI
REPRESENTATIONS AND WARRANTIES
6.1 Arris Representations and Warranties. ARRIS represents and
warrants to MERCK that as of the date of this Agreement:
(a) to the best of ARRIS's knowledge, the ARRIS Patents and
ARRIS Know-How existing as of the Effective Date are
subsisting and are not invalid or unenforceable, in
whole or in part;
(b) it has the full right, power and authority to enter
into this Agreement, to perform the Research Program
and to grant the licenses granted under Article III
hereof;
(c) to the best of ARRIS's knowledge, the ARRIS Patents,
ARRIS Know-How and ARRIS Delta Technology practiced as
permitted herein do not infringe on any intellectual
property rights owned by any third party, and do not
result from a misappropriation by ARRIS of any property
owned by any third party;
(d) there are no claims, judgments or settlements against
or owed by ARRIS or pending or threatened claims or
litigation relating to the ARRIS Patents, ARRIS
Know-How and ARRIS Delta Technology;
(e) it has disclosed to MERCK all relevant information
regarding the ARRIS Patents and ARRIS Know-How
reasonably relating to activities under this Agreement;
20
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
(f) that during the course of the Research Program, ARRIS
will not knowingly infringe any valid patents; and
(g) [ * ] of the Effective Date of this Agreement and
[ * ] hereunder was [ * ].
6.2 Merck Representations and Warranties. MERCK represents and
warrants to ARRIS that as of the date of this Agreement it
has the full right, power and authority to enter into this
Agreement, to perform the Research Program and to grant the
licenses granted under Section 3.1(b) hereof.
ARTICLE VII
PATENT MATTERS
7.1 Filing, Prosecution and Maintenance of Patents.
(a) Each party agrees at its expense to file, prosecute and
maintain in the Territory, upon appropriate
consultation with the other party, United States patent
applications relating to the Research Program
Information and Inventions owned in whole or in part by
such party, and, with respect to ARRIS, the inventions
in the ARRIS Patents licensed to MERCK under this
Agreement; PROVIDED, HOWEVER, with respect to
Collaboration Research Information, [ * ] obligation
to file, prosecute, and maintain at its expense the
United States patent applications for such inventions
and [ * ] fully and shall cause its employees to
cooperate fully on the filing and prosecution of such
patents. In each case, the filing party shall give the
non-filing party an opportunity to review the text of
the application before filing, shall consult with the
non-filing party with respect thereto, and shall supply
the non-filing party with a copy of the application as
filed, together with notice of its filing date and
serial number. Each party shall keep the other advised
of the status of the actual and prospective patent
filings and upon the request of the other party,
provide advance copies of any papers related to the
filing, prosecution and maintenance of such patent
filings. Each party promptly shall give notice to the
other of the grant, lapse, revocation, surrender,
invalidation or abandonment of any Patents for which
the party is responsible hereunder for the filing,
prosecution and maintenance.
(b) Each party agrees to file, within one year of the
filing date of any patent application it files pursuant
to Subsection 7.1(a), a counterpart International
Application under the PCT designating all member
countries and any additional counterpart national
patent applications in non-PCT member states so
requested by the other party and to maintain and/or
prosecute such applications. [ * ] for the [ * ]
pursuant to this Subsection 7.1(b). The costs and
expenses relating to filing, prosecuting and/or
maintaining all national patent applications in non-PCT
member countries and all national patent applications
arising from the National
21
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
Stage of any PCT patent applications filed pursuant to this Subsection
7.1(b) [ * ]. For Collaboration Patents, MERCK shall file any
United States non-provisional and PCT patent applications and bear
all costs and expenses related to such filings.
(c) Each party agrees to be responsible for maintaining
through the end of its term each patent issuing from
any patent application it files pursuant to Subsections
7.1(a) and (b). [ * ] for the [ * ] of each United
States patent issuing from any patent application it
files pursuant to Subsection 7.1(a). The costs and
expenses relating to the maintenance of each patent
issuing from any patent application filed pursuant to
Subsection 7.1(b) shall be [ * ].
(d) Notwithstanding the foregoing, ARRIS shall have the
first right to file and prosecute all patent
applications claiming Active Compounds identified,
designed or developed using or based upon the ARRIS
Delta Technology. Such applications shall be reviewed
by MERCK prior to filing. All such patent prosecution
efforts shall be paid for as provided in Subsections
7.1(a) through (c) above.
7.2 Right to Prosecute and Maintain Patents.
(a) Each party shall give timely notice to the other of its
decision to forego filing of any patent application
required under Section 7.1 or to cease prosecution
and/or maintenance of such applications or patents and,
in such case, shall permit the other party, [ * ], to
continue prosecution or maintenance [ * ]. If the
other party elects to continue prosecution or
maintenance, or to file based on such party's election
not to file pursuant to Section 7.1 above, such
notifying party shall execute such documents and
perform such acts [ * ] as may be reasonably
necessary to permit the other party to continue such
prosecution or maintenance. Any patents or patent
applications so prosecuted or maintained shall be
assigned to such other party.
(b) Notwithstanding any provisions of this Agreement,
either party, upon appropriate consultation with and
assent by the other party, may forego or postpone the
filing of any patent applications required under
Section 7.1 of this Agreement or may terminate the
prosecution and/or maintenance or have the other party
take responsibility for filing, prosecuting and/or
maintaining any patent applications or other Patents
22
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
required, filed or perfected under or pursuant to Section 7.1
without any loss of rights granted or provided for under this
Agreement.
7.3 Interference, Opposition, Reexamination and Reissue.
(a) Each party, within ten days of learning of such event,
shall inform the other party of any request for, or
filing or declaration of, any interference, opposition,
or reexamination relating to the ARRIS Patents or
Collaboration Patents. MERCK and ARRIS thereafter
shall consult and cooperate fully to determine a course
of action with respect to any such proceeding. MERCK
shall have the right to review and approve any
submission to be made in connection with such
proceeding.
(b) ARRIS shall not institute any opposition,
reexamination, or reissue proceeding relating to the
ARRIS Patents or Collaboration Patents without the
prior written consent of MERCK, which consent shall not
unreasonably be withheld.
(c) In connection with any interference, opposition,
reissue, or reexamination proceeding relating to the
ARRIS Patents or Collaboration Patents, MERCK and ARRIS
will cooperate fully and will provide each other with
any information or assistance that either reasonably
may request. ARRIS shall keep MERCK informed of
developments in any such action or proceeding,
including, to the extent permissible, the status of any
settlement negotiations and the terms of any offer
related thereto.
(d) Each party [ * ] proceeding relating to any patent
application it files pursuant to Subsection 7.1(a) or
patent issuing therefrom. The parties shall [ * ]
any interference, opposition, reexamination or reissue
proceeding relating to any patent application filed
under Subsection 7.1(b) or patent issuing therefrom.
7.4 Enforcement and Defense.
(a) Each party shall give the other notice of either (x)
any infringement of ARRIS Patents or Collaboration
Patents in the Field, or (y) any misappropriation or
misuse of ARRIS Know-How, that may come to ARRIS's
attention. MERCK and ARRIS thereafter shall consult
and cooperate fully to determine a course of action
including, without limitation, the commencement of
legal action by either or both of MERCK and ARRIS, to
terminate any infringement of such patent rights in the
Field or any misappropriation or misuse of ARRIS
Know-How in the Field. However, ARRIS, upon notice to
MERCK, shall have the first right to initiate and
prosecute such legal action [ * ] in the name of
ARRIS (and, if appropriate, MERCK), or to control the
defense of
23
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
any declaratory judgment action relating to ARRIS
Patents, Collaboration Patents or ARRIS Know-How.
ARRIS promptly shall inform MERCK if it elects not to
exercise such first right, and if such infringement or
misuse materially adversely affects MERCK's efforts
under this Agreement, MERCK thereafter shall have the
right either to initiate and prosecute such action or
to control the defense of such declaratory judgment
action in the name of MERCK and, if necessary, ARRIS.
(b) If ARRIS elects not to initiate and prosecute an action
as provided in Subsection 7.4(a), and, due to material
adverse effect on MERCK, MERCK has the right and chose
to prosecute an action, the cost of any agreed-upon
course of action to terminate infringement of ARRIS
Patents or Collaboration Patents, misappropriation or
misuse of ARRIS Know-How, including the costs of any
legal action commenced or the defense of any
declaratory judgment, [ * ]. Any proceeds from such
action [ * ] will be [ * ].
(c) For any action to terminate any infringement of ARRIS
Patents or Collaboration Patents or any
misappropriation or misuse of ARRIS Know-How, in the
event that either MERCK or ARRIS is unable to initiate
or prosecute such action solely in its own name as
provided herein, the other party will join such action
voluntarily and will execute and cause its Affiliates
under its control to execute all documents necessary
for the party seeking to initiate litigation to
prosecute and maintain such action. In connection
with any such action, MERCK and ARRIS will cooperate
fully and will provide each other with any information
or assistance that either reasonably may request. Each
party shall keep the other informed of developments in
any such action or proceeding, including, to the extent
permissible by law, the status of any settlement
negotiations and the terms of any offer related
thereto.
(d) Any recovery obtained by either or both MERCK and
ARRIS, in connection with or as a result of any action
contemplated by this Section 7.4 to terminate an
infringement or misuse where such infringement or
misuse materially adversely affects MERCK's efforts
under the Agreement, whether by settlement or
otherwise, shall be shared in order as follows:
(i) [ * ] for such action, then [ * ];
(ii) if [ * ], then any proceeds shall be [ * ].
24
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
(e) ARRIS shall inform MERCK of any certification regarding
any ARRIS Patents it has received pursuant to either 21
U.S.C. Sections 355(b)(2)(A)(iv) or (j)(2)(A)(vii)(IV)
or under [ * ] and shall provide MERCK with a copy of
such certification within five days of receipt.
ARRIS's and MERCK's rights with respect to the
initiation and prosecution of any legal action as a
result of such certification or any recovery obtained
as a result of such legal action shall be as defined in
Subsections 7.4(a) through (d) hereof; PROVIDED,
HOWEVER, that ARRIS shall exercise its first right to
initiate and prosecute any action and shall inform
MERCK of such decision within ten days of receipt of
the certification, after which time MERCK shall have
the right to initiate and prosecute such action.
(f) For any action for which the parties are [ * ] which
is [ * ] shall control the action. If the parties
are [ * ] shall control the action.
7.5 Patent Term Restoration. The parties shall cooperate in
obtaining patent term restoration or supplemental protection
certificates or their equivalents in any country in the
Territory where applicable to ARRIS Patents. If elections
with respect to obtaining such patent term restoration are
to be made, [ * ] shall have the right to make the
election and [ * ] shall abide by such election.
ARTICLE VIII
TERM AND TERMINATION
8.1 Term and Expiration. This Agreement shall be effective as
of the Effective Date and, unless terminated earlier under
Sections 8.2 or 8.3 below, shall continue in effect until
expiration of all royalty obligations hereunder. Upon
expiration of this Agreement due to expiration of all
royalty obligations hereunder, MERCK's licenses pursuant to
Section 3.1 shall become fully paid-up, perpetual licenses.
8.2 Termination by MERCK. Notwithstanding anything to the
--------------------
contrary herein, MERCK shall have the right to terminate
this Agreement
(a) at any time after the end of the Research Program Term
for any reason by giving [ * ] advance written notice
to ARRIS; or
(b) during the Research Program Term, upon [ * ] written
notice, solely in the event that MERCK in its
reasonable judgment exercised in good faith determines
that
(i) the parties have demonstrated, [ * ]
25
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
, or
(ii) [ * ].
[ * ] under Subsection 8.2 (b)(i) above is one that
would demonstrate that [ * ].
In the event of termination under this Section 8.2,
(i) the rights and obligations hereunder, including
any payment obligations not due or accrued as of
the termination date, shall terminate, and
(ii) MERCK shall have [ * ] for all internal
research purposes excluding inhibition of
cathepsin K or L, and
(iii) To the extent not previously disclosed under
Section 2.7, upon termination of this Agreement
pursuant to this Section 8.2, MERCK shall disclose
to ARRIS the development, making, conception and
reduction to practice of all Research Program
Information and Inventions as of the effective
date of such termination. ARRIS shall have the
option to obtain an exclusive license under
MERCK's interest in the Research Program
Information and Inventions and the Collaboration
Patents solely for use in discovering, developing,
making, using, importing and selling inhibitors of
cathepsin K and L, and an exclusive license under
the MERCK Patents solely for use in discovering,
developing, making, using, importing and selling
inhibitors of cathepsin K and L pursuant to a
license agreement to be negotiated in good faith
by the parties promptly after the exercise of such
option. ARRIS shall have the right to exercise
such option within a [ * ] of the effective date
of termination of this Agreement under this
Section 8.2, after which period such option shall
expire if unexercised. Such license agreement
shall contain at least the following terms: (a)
that ARRIS [ * ] to be [ * ] (b) that ARRIS
shall not [ * ]; (c) that ARRIS shall not [ * ]
26
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
[ * ]; (d) that ARRIS shall not [ * ]; (e) that ARRIS shall
[ * ] with respect to [ * ] having [ * ]; (f) that ARRIS
shall [ * ] of the license agreement; (g) that ARRIS shall
[ * ] of the [ * ] with respect to [ * ] under the license;
(h) that ARRIS shall [ * ] as follows: (i) with respect to
[ * ] and are [ * ] of this Agreement on the terms set forth
in [ * ], and (ii) [ * ] with respect to [ * ] which are
commercialized by ARRIS under the license; and (i) [ * ] to any
[ * ] as of the Effective Date. Such license agreement also
shall contain such other commercially reasonable terms as
typically are in license agreements. Upon exercise by ARRIS of
such option, MERCK and ARRIS promptly thereafter shall negotiate
in good faith and enter into such license agreement.
8.3 Termination.
8.3.1 Termination for Cause. This Agreement may be terminated by
notice by either party at any time during the term of this
Agreement:
(a) if the other party is in breach of its material
obligations hereunder by causes and reasons within its
control and has not cured such breach within [ * ]
after receipt of a letter requesting such cure; or
(b) in the event ARRIS materially breaches its obligations
during the Research Program Term, and fails to cure
such breach within [ * ] after notice of such breach,
then MERCK may, in lieu of termination under Subsection
8.3.1(a) above, terminate the Research Program, the
research license granted to ARRIS under Subsection
3.1(b) and all of MERCK's obligations to fund any
further research hereunder, PROVIDED, HOWEVER that all
other rights and obligations of MERCK and ARRIS
hereunder shall be preserved, including without limitation,
the licenses
27
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
retained by MERCK under Subsection 3.1(a) and Section 3.2 of this
Agreement.
(c) In the event ARRIS materially breaches its obligations
at any time during the term of this Agreement and MERCK
either notifies ARRIS of the termination of this
Agreement under Section 8.3.1(a) or initiates
arbitration against ARRIS for breach of this Agreement,
or both, any [ * ] may be [ * ] of this Agreement
[ * ].
8.3.2 Effect of Termination for Bankruptcy.
If this Agreement is terminated by ARRIS or its appointed
trustee based on bankruptcy, all rights and licenses granted
under or pursuant to this Agreement by ARRIS to MERCK are,
and shall otherwise be deemed to be, for purposes of Section
365(n) of the Bankruptcy Code, licenses of rights to
"intellectual property" as defined under Section 101(52) of
the Bankruptcy Code. The parties agree that MERCK, as a
licensee of such rights under this Agreement, shall retain
and may fully exercise all of its rights and elections under
the Bankruptcy Code. The parties further agree that, in the
event of the commencement of a bankruptcy proceeding by or
against ARRIS under the Bankruptcy Code, MERCK shall be
entitled to a complete duplicate of (or complete access to,
as appropriate) any such intellectual property and all
embodiments of such intellectual property upon written
request therefore by MERCK. Such intellectual property and
all embodiments thereof promptly shall be delivered to MERCK
(i) upon any such commencement of a bankruptcy proceeding
upon written request therefore by MERCK, unless ARRIS elects
to continue to perform all of its obligations under this
Agreement or (ii) if not delivered under (i) above, upon the
rejection of this Agreement by or on behalf of ARRIS upon
written request therefore by MERCK.
8.4 Effect of Expiration or Termination. Expiration or
termination of this Agreement shall not relieve the parties
of any obligation accruing prior to such expiration or
termination, and the provisions of Sections 2.6, 2.7, 2.9,
2.10, Sections 3.1 and 3.2 to the extent provided in Article
VIII, 5.6, and Articles I, IV, VII, VIII and IX shall
survive the termination or expiration of the Agreement, with
Article IV continuing in effect for [ * ] thereafter. Any
expiration or early termination of this Agreement shall be
without prejudice to the rights of either party against the
other accrued or accruing under this Agreement prior to
termination, including, without limitation, the obligation
to pay royalties for Licensed Products or Program Compound
sold prior to such termination.
28
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
ARTICLE IX
MISCELLANEOUS
9.1 Force Majeure. Neither party shall be held liable or
responsible to the other party nor be deemed to have
defaulted under or breached this Agreement for failure or
delay in fulfilling or performing any term of this Agreement
when such failure or delay is caused by or results from
causes beyond the reasonable control of the affected party
including, but not limited to, fire, floods, mudslides,
earthquakes, embargoes, war, acts of war (whether war be
declared or not), insurrections, riots, civil commotions,
strikes, lockouts or other labor disturbances, acts of God
or acts, omissions or delays in acting by any governmental
authority or the other party. The affected party shall
notify the other party of such force majeure circumstances
as soon as reasonably practical.
9.2 Excused Performance. The obligation of MERCK with respect
to any Licensed Product under Section 3.3 is expressly
conditioned upon [ * ] relating to the [ * ]. The
obligation of MERCK to develop or market any such Licensed
Product shall be delayed or suspended so long as [ * ].
All judgments as to [ * ] shall be made by [ * ].
9.3 Binding Effect; Assignment. This Agreement shall inure to
the benefit of and be binding upon each party and its
successors and permitted assigns. Except as otherwise
provided in Subsections 9.3(a) and (b), neither party shall,
directly or indirectly, assign this Agreement or any of its
rights or obligations hereunder without the prior written
consent of the other party. Without limiting the generality
of the foregoing, a merger, acquisition or change of control
of a party hereto shall be deemed to be an assignment. As
used in this Section 9.3, change of control shall mean a
transaction pursuant to which a person or group acting in
concert, other than the currently controlling person or
group, immediately after such transaction shall effectively
control election of directors, but shall not include changes
in the identity of owners of a party's publicly held stock
not involving any stock owner achieving ownership of more
than [ * ] of a party's publicly held stock entitled to
vote for the election of directors.
(a) Notwithstanding the foregoing, MERCK may, without
consent, assign this Agreement and its rights and
obligations hereunder to an Affiliate or in connection
with the transfer or sale of all or substantially all
of its assets related to the Licensed Product or the
business, or in the event of its merger or
consolidation or change of control or similar
transaction. Any such assignee shall assume all
obligations of its assignor under the Agreement.
(b) Notwithstanding the foregoing, ARRIS may assign this
Agreement without consent in connection with a merger
of, acquisition of, or sale of
29
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
all or substantially all of the assets of ARRIS, PROVIDED,
HOWEVER, that such assignment shall be [ * ] of the obligations
of ARRIS hereunder, and further that if such merger, acquisition
or sale of assets [ * ], where ARRIS is not the surviving
entity, then such assignment shall be subject to Section 9.4
below. In the event of any such assignment by ARRIS hereunder,
the licenses granted MERCK hereunder shall not cover any
intellectual property of such assignee not previously Controlled
by ARRIS existing prior to the date of such assignment.
9.4 Consequences of Certain Assignments by ARRIS. In the event
that ARRIS, during the Research Program Term, assigns this
Agreement as permitted in Section 9.3(b) [ * ], ARRIS,
immediately upon its ability [ * ] such merger,
acquisition or sale, shall [ * ] merger, acquisition or
sale and MERCK may, at its choice, on written notice to such
assignee given at any time within 30 days of such
assignment, [ * ] shall be [ * ] the assignment of this
Agreement:
(a) [ * ] and any further obligation [ * ] research
efforts under the Research Program. After such
[ * ], PROVIDED HOWEVER, that the [ * ] as
specified under Section [ * ] shall be [ * ] shall
be equal to the number of days in the Research Program
Term from the Effective Date to the [ * ];
(b) [ * ], and immediately thereafter such assignee shall
[ * ] hereunder;
(c) possession, during the Research Program Term, of the
[ * ] and under [ * ] and the [ * ] under this
Agreement. The [ * ] during the Research Program
Term to MERCK Affiliates and to third party
sublicensees; and
30
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
(d) possession of a [ * ] at the end of the Research
Program Term.
(e) For purposes of Subsections 9.4 (a), (c) and (d) above
and Article I, the "Research Program Term" shall have
the period of time such term had under the provisions
of Section 2.8 just prior to the assignment of the
Agreement by ARRIS.
Upon any such assignment, and whether or not [ * ] in
Subsections 9.4(a) through (d) above, MERCK shall retain all
of its rights under this Agreement, including without
limitation the licenses granted to MERCK in Sections 3.1(a)
and 3.2 of this Agreement.
9.5 Severability. If one or more of the provisions contained in
this Agreement are held invalid, illegal or unenforceable in
any respect, the validity, legality and enforceability of
the remaining provisions shall not be affected or impaired
thereby, unless the absence of the invalidated provision(s)
adversely affects the substantive rights of the parties.
The parties shall in such case use their best efforts to
replace the invalid, illegal or unenforceable provision(s)
with valid, legal and enforceable provision(s) which,
insofar as practical, implement the purposes of this
Agreement.
9.6 Use of Names. Neither party may use the names of the other
party or those of its Affiliates, sublicensees, employees,
agents or consultants or any of their trademarks, names,
logotypes or symbols without the prior written consent of
the other party.
9.7 Notices. All notices or other communications which are
required or permitted hereunder shall be in writing and
sufficient if delivered personally, sent by telecopier (and
promptly confirmed by personal delivery, registered or
certified mail or overnight courier), sent by
nationally-recognized overnight courier or sent by
registered or certified mail, postage prepaid, return
receipt requested, addressed as follows:
if to ARRIS, to:
Arris Pharmaceutical Corporation
385 Oyster Point Boulevard, Suite 3
South San Francisco, California 94080
Attention: President, Chief Executive Officer
Telecopier No.: 415/829-1067
31
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
with a copy to: Cooley Godward LLP
3000 El Camino Real
Palo Alto, California 94306
Attention: Robert L. Jones, Esq.
Telecopier No.: 415/857-0603
if to MERCK, to: Merck & Co., Inc.
One Merck Drive
P.O. Box 100
Whitehouse Station, NJ 08889-0100
Attention: Office of Secretary
Telecopier No.: 908/735-1246
with a copy to: Attention: Office of Assistant General Counsel
Telecopier No.: 908/735-1226
or to such other address as the party to whom notice is to
be given may have furnished to the other party in writing in
accordance herewith. Any such communication shall be deemed
to have been given when delivered if personally delivered or
sent by telecopier on a business day, on the business day
after dispatch if sent by nationally-recognized overnight
courier and on the third business day following the date of
mailing if sent by mail.
9.8 Applicable Law. This Agreement shall be governed by and
construed in accordance with the laws of the State of New
Jersey and the United States without reference to any rules
of conflict of laws or renvoi.
9.9 Arbitration. Any disputes arising between the parties
relating to, arising out of or in any way connected with
this Agreement or any term or condition hereof, or the
performance by either party of its obligations hereunder,
whether before or after termination of the Agreement, shall
be finally resolved by binding arbitration. Whenever a
party shall decide to institute arbitration proceedings, it
shall give written notice to that effect to the other party.
The party giving such notice shall refrain from instituting
the arbitration proceedings for a period of [ * ]
following such notice. During such period, the parties
shall make good faith efforts to amicably resolve the
dispute without arbitration. Any arbitration hereunder
shall be conducted under the rules of the American
Arbitration Association. Each such arbitration shall be
conducted by a panel of three arbitrators: one arbitrator
shall be appointed by each of MERCK and the ARRIS and the
third shall be appointed by the American Arbitration
Association. Any such arbitration shall be held in New
York, New York. The arbitrators shall have the authority to
grant specific performance. Judgment upon the award so
rendered may be entered in any court having jurisdiction or
application may be made to such court for judicial
acceptance of any award and an order of enforcement, as the
case may be. In no event shall a demand for arbitration be
made after the date when institution
32
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
of a legal or equitable proceeding based on such claim, dispute or other
matter in question would be barred by the applicable statute
of limitations.
9.10 Entire Agreement. This Agreement contains the entire
understanding of the parties with respect to the subject
matter hereof. All express or implied agreements and
understandings, either oral or written, heretofore made are
expressly merged in and made a part of this Agreement. This
Agreement may be amended, or any term hereof modified, only
by a written instrument duly executed by both parties
hereto.
9.11 Headings. The captions to the Articles, Sections and
Subsections of this Agreement are not a part of the
Agreement, but are merely guides or labels to assist in
locating and reading the Articles, Sections and Subsections.
9.12 Independent Contractors. ARRIS and MERCK shall be
independent contractors and the relationship between them
shall not constitute a partnership, joint venture or agency.
Neither party shall have the authority to make any
statements, representations or commitments of any kind, or
to take any action, which shall be binding on the other,
without the prior written consent of the other party.
9.13 Waiver. The waiver by a party of any right under this
Agreement or of the other party's failure to perform or
breach shall not be a waiver of any other right, failure or
breach whether of a similar nature or otherwise.
9.14 Counterparts. This Agreement may be executed in two or more
counterparts, each of which shall be deemed an original, but
all of which together shall constitute one and the same
instrument.
IN WITNESS WHEREOF, the parties have executed this Agreement
as of its Effective Date.
MERCK & CO., INC. ARRIS PHARMACEUTICAL CORPORATION
BY: ________/s/______________ BY: ____/s/_____________________
Raymond V. Gilmartin John P. Walker
TITLE: Chairman, President TITLE: President &
and Chief Executive Chief Executive Officer
Officer
DATE: November 6, 1996 DATE: November 6, 1996
33
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
ATTACHMENT 2.1
RESEARCH PROGRAM
1. [ * ]
[ * ]
2. [ * ]
[ * ]
34
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
3. [ * ]
4. [ * ]
5. [ * ]
35
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
6. [ * ]
7. [ * ]
a. [ * ]
b. [ * ]
c. [ * ]
36
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
APPENDIX A-1
[ * ]
37
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
APPENDIX A-2
[ * ]
38
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
APPENDIX B
[ * ]
[ * ]
39
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
APPENDIX C
[ * ]
40
CERTAIN CONFIDENTIAL INFORMATION CONTAINED IN THIS DOCUMENT, MARKED BY
BRACKETS, HAS BEEN OMMITTED AND FILED SEPARATELY WITH THE SECURITIES AND
EXCHANGE COMMISSION PURSUANT TO RULE 24b-2 OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED.
<PAGE>
Exhibit 10.44
[Arris Pharmaceutical Corporation Letterhead]
November 3, 1995
N. Jean Warner, M.D.
1823 Van Buren Circle
Mountain View, CA 94040
Re: Transition Services
Dear Jean:
Arris Pharmaceutical Corporation (the "Company") is pleased to offer you
the position of Vice-President of Medical Affairs of the Company on the terms
set forth in this letter agreement (the "Agreement").
As Vice-President of Medical Affairs of the Company, you will perform
such duties relating to the integration of the Khepri Pharmaceuticals, Inc.
("Subsidiary") and the Company following consummation of the merger (the
"Merger") contemplated by the Agreement and Plan of Reorganization among them
and a subsidiary of the Company dated as of November 3, 1995 (the
"Reorganization Agreement") as may be assigned by the Company as well as the
duties customarily associated with this position, and such duties as may be
assigned to you by the Company. You will report to John Walker.
Your initial base salary will be two hundred thousand dollars ($200,000)
per year, payable in accordance with the Company's regular payroll practices,
less payroll deductions and withholdings. In addition, you will receive an
increase in your base salary effective January 1, 1996 in the amount equal to
the percentage increase determined by the Compensation Committee of the Board
of Directors to be awarded to outstanding "1" employees effective on the same
date. Management will also recommend to the Company's Board of Directors
that, upon the consummation of the Merger, you be granted a stock option to
purchase 10,000 shares of the Company's Common Stock with an exercise price
and vesting provisions in accordance with Company policies.
In addition to your salary, stock option grant and the lump sum bonus
contemplated below, the Company will also provide you with sick and vacation
leave, and medical, dental and life insurance coverage and participation in
the Company's 401(k) plan, employee stock purchase plans, new stock options
and management bonus program consistent with Company policy for other Company
Vice-Presidents. Details about these benefits are provided in the employee
handbook and summary plan descriptions available for your review. Of course,
the Company reserves the right to modify your job duties, compensation and
benefits from time to time, as it deems necessary, subject to your rights
described below.
<PAGE>
N. Jean Warner, M.D.
Page 2
You will be expected to abide by all of the Company's policies and
procedures, and acknowledge in writing that you have received and read the
Company's employee handbook. As a condition of your employment, you also
agree to sign and comply with the Company's Proprietary Information and
Inventions Agreement (attached hereto as Exhibit A).
By accepting this offer, you represent and warrant that your employment
with the Company will not violate any agreements, obligations or
understandings that you may have with any third party or prior employer. You
agree not to make any unauthorized disclosure to the Company or use on behalf
of the Company any confidential information belonging to any of your former
employers (except in accordance with agreements between the Company and any
such former employer). Of course, during your employment with the Company,
you may make use of information generally known and used by persons with
training and experience comparable to your own, and information which is
common knowledge in the industry or is otherwise legally available in the
public domain.
If you still are employed on a date one year from the date on which
the Merger becomes effective (the "First Anniversary"), you will receive a
one-time lump sum Bonus payment of fifty percent (50%) of your then base
annual salary (the "Lump Sum Bonus").
Either you or the Company may terminate your employment
relationship at any time for any reason whatsoever, with or without cause or
advance notice. This at-will employment relationship cannot be changed
except in a writing signed by a duly authorized officer of the Company. If
the Company terminates your employment without cause during the term of this
Agreement (i) you will receive, as severance, twelve (12) months salary and
(ii) all stock options held by you on the date of severance shall continue to
vest during such severance period and for twelve months thereafter in
accordance with their vesting schedule. In the event of such termination,
you will not be entitled to any additional compensation or benefits beyond
what is provided in this paragraph. If you resign unless you have resigned
for "Good Reason" or if your employment is terminated for cause, all
compensation and benefits will cease immediately, and you will receive no
severance benefits. For purposes of this Agreement, "cause" shall mean
misconduct, including: (i) conviction of any felony or any crime involving
moral turpitude or dishonesty; (ii) participation in a fraud or act of
dishonesty against the Company; (iii) willful breach of the Company's policies;
(iv) intentional damage to the Company's property; (v) material breach of this
Agreement or your Proprietary Information and Inventions Agreement; or (vi)
conduct by you which in the good faith and reasonable determination of the
Company's Board of Directors demonstrates gross unfitness to serve. Physical
or mental disability shall not constitute "cause." "Good Reason" shall mean
(i) a material diminution in your compensation, (ii) a material diminution in
your duties or (iii) a reassignment to any location outside of the San
Francisco Bay Area.
You agree that, for one year following the termination of your
employment with the Company, you will not, either directly or through others,
solicit or attempt to solicit any employee, consultant
<PAGE>
N. Jean Warner, M.D.
Page 3
or independent contractor of the Company to terminate his or her relationship
with the Company in order to become an employee, consultant or independent
contractor to or for any other person or business entity.
You understand that your existing agreements relating to Subsidiary
stock options or restricted stock will be assumed by, or assigned to, the
Company pursuant to the terms of the Reorganization Agreement and that your
existing vesting schedule will continue in full force and effect. In
addition, you hereby agree to not sell, otherwise dispose of or reduce your
risk relating to any Company Common Stock you own for a period of up to 90
days following the effectiveness of any underwritten registered offering of
securities by the Company (an "Offering") pursuant to any underwriter's "lock
up agreement" required by the underwriters of the Offering so long as all
executive officers of the Company agree to such lock up agreement.
To ensure rapid and economical resolution of any disputes which may
arise under this Agreement, you and the Company agree that any and all
disputes or controversies, whether of law or fact of any nature whatsoever
(including, but not limited to, all state and federal statutory and
discrimination claims), with the sole exception of those disputes which may
arise from your Proprietary Information and Inventions Agreement, arising
from or regarding the interpretation, performance, enforcement or breach of
this Agreement shall be resolved by final and binding arbitration (rather
than trial by jury or court or resolution in some other forum) under the then
existing Rules of Practice and Procedure of Judicial Arbitration and
Mediation Services Inc.
This Agreement, including Exhibit A, represents the complete, final and
exclusive embodiment of the entire agreement between you and the Company
with respect to the terms and conditions of your employment. This Agreement
is entered into without reliance upon any promise, warranty or
representation, written or oral, other than those expressly contained herein,
and it supersedes any other such promises, warranties, representations or
agreements. It may not be amended or modified except by a written instrument
signed by you and a duly authorized officer of the Company. If any provision
of this Agreement is determined to be invalid or unenforceable, in whole or
in part, this determination will not affect any other provision of this
Agreement. This Agreement shall be construed and interpreted in accordance
with the laws of the State of California.
As required by law, this offer of employment is subject to satisfactory
proof of your right to work in the United States.
This Agreement will become effective upon the closing of the Merger and
shall be void and have no legal effect if the Merger is not consummated.
This Agreement shall terminate on the First Anniversary.
<PAGE>
N. Jean Warner, M.D.
Page 4
We look forward to your favorable reply, and to a productive and
enjoyable work relationship.
Very truly yours,
ARRIS PHARMACEUTICAL CORPORATION
By: /s/ John P. Walker
-------------------------------------
John P. Walker
President and Chief Executive Officer
Accepted by: /s/ N. Jean Warner, M.D.
------------------------
N. Jean Warner, M.D.
Date: 11/3/95
----------
<PAGE>
Exhibit A
Proprietary Information and Inventions Agreement
<PAGE>
ARRIS PHARMACEUTICAL CORPORATION
----------------------------------------------------
EMPLOYMENT, CONFIDENTIAL INFORMATION AND
INVENTION ASSIGNMENT AGREEMENT
As a condition of my employment with ARRIS Pharmaceutical Corporation
("ARRIS"), and in consideration of my employment with ARRIS and my receipt of
the compensation now and hereafter paid to me by ARRIS, I agree to the
following:
1. AT-WILL EMPLOYMENT. I understand and acknowledge that my employment
with ARRIS is for an unspecified duration and constitutes "at-will" employment.
I acknowledge that this employment relationship may be terminated at any time,
with or without cause, at the option of either ARRIS or myself, with or without
notice.
2. CONFIDENTIAL INFORMATION.
(a) ARRIS AND THIRD PARTY INFORMATION. I agree at all times during
the term of my employment and thereafter, to hold in strictest confidence, and
not to use, except for the benefit of ARRIS, or to disclose to any person, firm
or corporation without written authorization of an officer of ARRIS, any
Confidential Information of ARRIS. I understand that "Confidential Information"
means any ARRIS proprietary information, technical data, trade secrets or know-
how, including, but not limited to, research and product plans, products,
services, customer lists and customers (including, but not limited to, customers
of ARRIS on whom I called or with whom I became acquainted during the term of my
employment), markets, developments, inventions, processes, formulas, technology,
marketing, finances or other business information disclosed to me by ARRIS
either directly or indirectly in writing, orally or otherwise. I recognize that
ARRIS has received and in the future will receive from third parties their
confidential or proprietary information subject to a duty on ARRIS's part to
maintain the confidentiality of such information and to use it only for certain
limited purposes, and I understand that such information is also Confidential
Information. I further understand that Confidential Information does not
include any of the foregoing items that has become publicly known and made
generally available through no wrongful act of mine or of others who were under
confidentiality obligations as to the item or items involved.
(b) FORMER EMPLOYER INFORMATION. I agree that I will not, during my
employment with ARRIS, improperly use of disclose any proprietary information or
trade secrets of any former or concurrent employer or other person or entity and
that I will not bring onto the premises of ARRIS any unpublished document or
proprietary information belonging to any such employer, person or entity unless
consented to in writing by such employer, person or entity.
3. INVENTIONS.
(a) INVENTIONS RETAINED AND LICENSED. I have attached hereto, as
Exhibit A, a list describing all inventions, original works of authorship,
developments, improvements, and trade secrets that were made by me prior to my
employment with
<PAGE>
ARRIS (collectively referred to as "Prior Inventions"), that belong to me,
that relate to ARRIS's proposed business, products or research and
development, and that are not assigned to ARRIS hereunder; or, if no such
list is attached, I represent that there are no such Prior Inventions. If in
the course of my employment with ARRIS, I incorporate into an ARRIS product,
process or machine a Prior Invention owned by me or in which I have an
interest, ARRIS is hereby granted and will have a non-exclusive,
royalty-free, irrevocable, perpetual, worldwide license, with the right to
grant sublicenses, to make, have made, modify, use and sell such Prior
Invention as part of or in connection with such product, process or machine.
(b) ASSIGNMENT OF INVENTIONS. I agree that I will promptly make full
written disclosure to ARRIS, and will hold in trust for the sole right and
benefit of ARRIS, and hereby assign to ARRIS, or its designee, all my right,
title and interest in and to any and all inventions, original works of
authorship, developments, concepts, improvements or trade secrets, whether or
not patentable or registrable under patent, copyright or similar laws, that I
may solely or jointly conceive or develop or reduce to practice, or cause to be
conceived or developed or reduced to practice, during the period of time I am in
the employ of ARRIS (collectively referred to as "Inventions"), except as
provided in Section 3(e) below. I further acknowledge that all original works
of authorship that are made by me (solely or jointly with others) within the
scope of and during the period of my employment with ARRIS and that are
protectable by copyright are works made for hire, as that term is defined in the
United States Copyright Act.
(c) MAINTENANCE OF RECORDS. I agree to keep and maintain adequate and
current written records of all Inventions made by me (solely or jointly with
others) during the term of my employment with ARRIS. The records will be in the
form of notes, sketches, drawings, and any other format that may be specified by
ARRIS. The records will be available to and remain the sole property of ARRIS
at all times.
(d) PATENT AND COPYRIGHT REGISTRATIONS. I agree to assist ARRIS, or
its designee, at ARRIS's expense, in every way to secure ARRIS's rights in the
Inventions and any copyrights, patents, mask work rights or other intellectual
property rights relating thereto in any and all countries, including disclosing
to ARRIS all pertinent information and data with respect thereto, and executing
all applications, specifications, oaths, assignments and all other instruments
that ARRIS shall deem necessary in order to apply for and obtain such rights and
in order to assign and convey to ARRIS, its successors, assigns and nominees the
sole and exclusive rights, title and interest in and to such Inventions, and any
copyrights, patents, mask work rights or other intellectual property rights
relating thereto. I further agree that my obligation to execute or cause to be
executed, when it is in my power to do so, any such instrument or papers will
continue after the termination of this Agreement. If ARRIS is unable because of
my mental or physical incapacity or for any other reason to secure my signature
to apply for or to pursue any application for any United States or foreign
patents or copyright registrations covering Inventions or original works of
authorship assigned to ARRIS as above, then I hereby irrevocably designate and
appoint ARRIS and its duly authorized officers and agents as my agent and
attorney in fact, to act for and in my behalf and stead to execute and file any
such applications and to do all other lawfully permitted acts to further the
prosecution and issuance of letters
<PAGE>
patent or copyright registrations thereon with the same legal force and
effect as if executed by me.
(e) EXCEPTION TO ASSIGNMENTS. I understand that the provisions of
this Agreement requiring assignment of Inventions to ARRIS do not apply to any
invention that qualifies fully under the provisions of California Labor Code
Section 2870 (attached hereto as Exhibit B). I will advise ARRIS promptly in
writing of any inventions that I believe meet the criteria in California Labor
Code Section 2870 and that are not otherwise disclosed on Exhibit A.
4. CONFLICTING EMPLOYMENT. I agree that, during the term of my employment
with ARRIS, I will not engage in any other employment, occupation, consulting or
other business activity directly related to the business in which ARRIS is now
involved or becomes involved during the term of my employment, nor will I engage
in any other activities that conflict with my obligations to ARRIS.
5. RETURNING ARRIS DOCUMENTS. I agree that, at the time of leaving the
employ of ARRIS, I will deliver to ARRIS (and will not keep in my possession,
recreate or deliver to anyone else) any and all documents or property, or
reproductions of any such documents or property, developed by me pursuant to my
employment with ARRIS or otherwise belonging to ARRIS, its successors or
assigns.
6. SOLICITATION OF EMPLOYEES. I agree that for a period of twelve (12)
months immediately following the termination of my relationship with ARRIS for
any reason, whether with or without cause, I will not either directly or
indirectly solicit, induce, recruit or encourage any of ARRIS's employees to
leave their employment, or take away such employees, or attempt to solicit,
induce, recruit, encourage or take away employees of ARRIS, either for myself or
for any other person or entity.
7. REPRESENTATIONS. I agree to execute any proper oath or verify any
proper document requested by ARRIS to carry out the terms of this Agreement. I
represent that my performance of all the terms of this Agreement will not breach
any agreement to keep in confidence proprietary information acquired by me in
confidence or in trust prior to my employment by ARRIS. I have not entered
into, and I agree I will not enter into, any oral or written agreement in
conflict with the terms of this Agreement.
8. ARBITRATION AND EQUITABLE RELIEF.
(a) ARBITRATION. Except as provided in Section 8(b) below, I agree
that any dispute or controversy arising out of or relating to any
interpretation, construction, performance or breach of this Agreement, will be
settled by arbitration to be held in San Mateo County, California, in accordance
with the rules then in effect of the American Arbitration Association. The
arbitrator may grant injunctions or other relief in such dispute or controversy.
The decision of the arbitrator will be final, conclusive and binding on the
parties to the arbitration. Judgment may be entered on the arbitrator's
decision in any court having jurisdiction. ARRIS and I will each pay one-half
of the costs and expenses of such arbitration, and each of us will separately
pay our counsel fees and expenses.
<PAGE>
(b) EQUITABLE REMEDIES. I agree that it would be impossible or
inadequate to measure and calculate ARRIS's damages from any breach of the
covenants set forth in Sections 2, 3, and 5 herein. Accordingly, I agree that
if I breach my obligations under any of such Sections, ARRIS will have, in
addition to any other right or remedy available, the right to obtain an
injunction from a court of competent jurisdiction restraining such breach or
threatened breach and to specific performance of any such provision of this
Agreement. I further agree that no bond or other security will be required in
obtaining such equitable relief and I hereby consent to the issuance of such
injunction and to the ordering of specific performance. I hereby further
consent to the personal jurisdiction of the state and federal courts located in
California for any lawsuit filed there against me by ARRIS arising from or
relating to this Agreement.
9. GENERAL PROVISIONS
(a) GOVERNING LAW. This Agreement will be governed by the laws of the
State of California without reference to conflicts of laws principles.
(b) ENTIRE AGREEMENT. This Agreement sets forth the entire agreement
and understanding between ARRIS and me relating to the subject matter hereof and
merges all prior discussions between us. No modification of or amendment to
this Agreement, or any waiver of any rights under this Agreement, will be
effective unless in writing signed by the party to be charged. Any subsequent
change or changes in my duties, salary or compensation will not affect the
validity or scope of this Agreement.
(c) SEVERABILITY. If one or more of the provisions in this Agreement
are deemed void by law, then the remaining provisions will continue in full
force and effect.
<PAGE>
(d) SUCCESSORS AND ASSIGNS. This Agreement will be binding upon my
heirs, executors, administrators and other legal representatives and will be for
the benefit of ARRIS, its successors, and its assigns.
Date: 3 November 1995 Signature:
--------------------- ---------------------
Nathalie J. Warner
-------------------------------
Name of Employee (typed)
ARRIS Pharmaceutical Corporation
Name:
---------------------------
Print Name: Daniel H. Petree
---------------------
Title: VP., CFO
--------------------------
<PAGE>
EXHIBIT A
LIST OF PRIOR INVENTIONS
AND ORIGINAL WORKS OF AUTHORSHIP
Identifying Number
Name Date or Brief Description
- ----------------------------------------------------------------------
No inventions or improvements
- -------
X Additional Sheets Attached
- -------
Signature of Employee:
---------------------
Print Name of Employee: Nathalie J. Warner
-----------------------
Date: 3 November 1995
Signature of Supervisor:
---------------------
Print Name of Supervisor:
----------------------
Date:
-------------------
EXHIBIT B
<PAGE>
CALIFORNIA LABOR CODE SECTION 2870
EMPLOYMENT AGREEMENTS; ASSIGNMENT OF RIGHTS
"(a) Any provision in an employment agreement which provides that an
employee shall assign, or offer to assign, any of his or her rights in an
invention to his or her employer shall not apply to any invention that the
employee developed entirely on his or her own time without using the employer's
equipment, supplies, facilities, or trade secret information except for those
inventions that either:
(1) Relate at the time of conception or reduction to practice of the
invention to the employer's business, or actual or demonstrably anticipated
research or development of the employer.
(2) Result from any work performed by the employee for the employer.
(b) To the extent a provision in an employment agreement purports to
require an employee to assign an invention otherwise excluded from being
required to be assigned under subdivision (a), the provision is against the
public policy of this state and is unenforceable."
<PAGE>
Exhibit 23.1
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
(Form S-8 Nos., 33-74720 and 33-80852) pertaining to the 1989 Stock Plan,
1993 Employee Stock Purchase Plan, 1994 Employee Stock Bonus Plan and 1994
Non-Employee Directors' Stock Option Plan and the Registration Statement
(Form S-8, No.333-09095) pertaining to the 1989 Stock Plan and Employee Stock
Purchase Plan of Arris Pharmaceutical Corporation, of our report dated
February 10, 1997 with respect to the consolidated financial statements of
Arris Pharmaceutical Corporation included in the Annual Report (Form 10-K)
for the year ended December 31, 1996, filed with the Securities and Exchange
Commission.
ERNST & YOUNG LLP
Palo Alto, California
March 28, 1997
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS, STATEMENTS OF OPERATIONS, STOCKHOLDERS'
EQUITY AND CASH FLOWS INCLUDED IN THE COMPANY'S FORM 10-K FOR THE YEAR
ENDED DECEMBER 31, 1996, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS AND NOTES THERETO.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 10,822
<SECURITIES> 55,898
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 50,060
<PP&E> 19,776
<DEPRECIATION> (9,330)
<TOTAL-ASSETS> 80,832
<CURRENT-LIABILITIES> 17,256
<BONDS> 0
0
0
<COMMON> 14,832
<OTHER-SE> 52,900
<TOTAL-LIABILITY-AND-EQUITY> 80,832
<SALES> 0
<TOTAL-REVENUES> 21,560
<CGS> 0
<TOTAL-COSTS> 24,319
<OTHER-EXPENSES> 5,409
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 670
<INCOME-PRETAX> (5,928)
<INCOME-TAX> 0
<INCOME-CONTINUING> (5,928)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (5,928)
<EPS-PRIMARY> (.45)
<EPS-DILUTED> (.45)
</TABLE>
