Filing
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
(Mark one)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Fiscal Year December 31, 2002, or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 000-33219
BIOKEYS PHARMACEUTICALS, INC.
(Name of Small Business Issuer in its charter)
DELAWARE 84-1318182
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
9948 HIBERT STREET, SUITE 100, SAN DIEGO, CALIFORNIA 92131
(Address of principal executive offices)
(858) 271-9671
(Issuer's telephone number, including area code)
Securities registered under Section 12(b) of the Exchange Act: NONE
Securities registered under Section 12(g) of the Exchange Act:
COMMON STOCK, PAR VALUE $0.001 PER SHARE
Indicate by check mark whether the issuer (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 issuer
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-B is not contained herein, and will not be contained, to
the best of issuer's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ ]
State issuer's revenues for its most recent fiscal year: $47,064
The aggregate market value of the Common Stock held by non-affiliates of
the issuer, as of March 31, 2003 was approximately $11,319,973 based upon the
closing price of the issuer's Common Stock reported for such date on the OTC
Bulletin Board. For purposes of this disclosure, shares of Common Stock held by
persons who beneficially own more than 5% of the outstanding shares of Common
Stock and shares held by officers and directors of the issuer have been
excluded because such persons may be deemed to be affiliates of the issuer.
This determination is not necessarily conclusive.
As of March 31, 2003, 32,652,630 shares of the issuer's Common Stock were
outstanding.
No documents are incorporated by reference into this Form 10-KSB.
TABLE OF CONTENTS
PART I
Page
Item 1. Description of Business..........................................................................1
Item 2. Description of Property..........................................................................14
Item 3. Legal Proceedings................................................................................14
Item 4. Submission of Matters to a Vote of Security Holders..............................................15
PART II
Item 5. Market For Common Equity and Related Stockholder Matters.........................................15
Item 6. Management's Discussion and Analysis or Plan of Operation........................................18
Item 7. Financial Statements.............................................................................29
Item 8. Change in and Disagreements With Accountants on Accounting and Financial Disclosure..............29
PART III
Item 9. Director, Executive Officers, Promoters and Control Persons; Compliance With Section 16(a)
of the Exchange Act..............................................................................29
Item 10. Executive Compensation...........................................................................31
Item 11. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters..........................................................................................33
Item 12. Certain Relationships and Related Transactions...................................................34
Item 13. Exhibits and Reports on Form 8-K.................................................................35
Item 14. Controls and Procedures..........................................................................36
PART I
This Annual Report on Form 10-KSB contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended, which include,
without limitation, statements about the market for our technology, our
strategy, competition, expected financial performance and other aspects of our
business identified in this Annual Report, as well as other reports that we
file from time to time with the Securities and Exchange Commission. Any
statements about our business, financial results, financial condition and
operations contained in this Annual Report that are not statements of
historical fact may be deemed to be forward-looking statements. Without
limiting the foregoing, the words "believes," "anticipates," "expects,"
"intends," "projects," or similar expressions are intended to identify
forward-looking statements. Our actual results could differ materially from
those expressed or implied by these forward-looking statements as a result of
various factors, including the risk factors described in Part II., Item 6,
"Management's Discussion and Analysis or Plan of Operation--Risk Factors," and
elsewhere in this report. We undertake no obligation to update publicly any
forward-looking statements for any reason, except as required by law, even as
new information becomes available or other events occur in the future
CoFactor(, BlockAide(, Thiovir(, EradicAide( and Selone( are our trademarks.
Product names, trade names and trademarks of other entities are also referred
to in this report.
ITEM 1. DESCRIPTION OF BUSINESS.
In this report, the terms "Company," "we," "us" and "our" refer to Biokeys
Pharmaceuticals, Inc. The term "Common Stock " refers to the Company's Common
Stock, par value $0.001 per share.
BUSINESS DEVELOPMENT
We were initially organized as a corporation under the Delaware General
Corporation Law in December 1995. In October 2000, we closed the merger of our
wholly owned subsidiary, Biokeys Acquisition Corp., with and into Biokeys, Inc.
In consideration of the merger, we issued an aggregate of 6,999,990 shares of
Common Stock to the holders of capital stock of Biokeys, Inc.
BUSINESS OF ISSUER
We are a biomedical research and development business focused on
treatments for viral infections and cancer. Our business is in the development
stage; we have not generated any significant revenues and we have not yet
marketed any product. Pursuant to license agreements with the University of
Texas M.D. Anderson Cancer Center ("M.D. Anderson"), the National Institutes of
Health (the "NIH") and the University of Southern California ("USC"), we have
been granted development, commercialization, manufacturing and marketing rights
to a number of drug candidates in the fields of antiviral and anticancer
therapy, which are in varying stages of development. Our goal is to become a
leading developer of drug therapies for the treatment of the Human
Immunodeficiency Virus ("HIV"), Acquired Immune Deficiency Syndrome ("AIDS")
and cancer.
Principal Products
We have three products moving toward clinical development and three
products in preclinical research:
Product Line Focus Application Stage of Development
CoFactorTM colorectal cancer 5-FU biomodulator approved to begin Phase II
trials in the US
BlockAide/CRTM HIV/AIDS viral entry inhibitor preclinical; planning for
Phase I trials
EradicAideTM HIV/AIDS therapeutic vaccine preclinical; planning for
Phase I trials
ThiovirTM HIV/AIDS, HPV viral viral replication inhibitor preclinical
infections
BlockAide/VPTM HIV/AIDS viral entry inhibitor preclinical
SeloneTM drug-resistant cancer alkylating agent preclinical
1
CoFactor
CoFactor (5,10-methylenetetrahydrofolate) is a patented new drug which in
clinical trials has significantly improved the performance of 5-FU
(5-Fluorouracil) and other fluoropyrimidines commonly used in cancer
chemotherapy. CoFactor was developed by researchers at USC in Los Angeles and
at the Sahlgrenska University Hospital, University of Goteborg, Sweden, who
discovered its ability to significantly enhance 5-FU's inhibition of a key
enzyme, thymidylate synthase, necessary for cancer cell growth. Because 5-FU is
one of the most extensively used cancer chemotherapy drugs in the world,
including in the United States, the European Union and Japan, and CoFactor
could significantly improve the performance of 5-FU, we believe that the
5-FU/CoFactor combination therapy drug for the treatment of cancer has
significant market potential.
Between November 1989 and March 1993, a Phase I/II clinical study of the
use of CoFactor in combination with 5-FU was performed at Sahlgrenska
University Hospital, under the direction of Dr. Bengt Gustavsson, in close
collaboration with Dr. Colin Paul Spears at USC. Dr. Gustavsson and Dr. Spears
are the co-inventors of this technology. Results of their work with humans were
published in The Cancer Journal, vol. 10, no. 5 September-October 1997.
In human clinical trials conducted at Sahlgrenska University Hospital,
CoFactor was administered to 62 cancer patients receiving 5-FU therapy.
Reductions in the size of tumors were observed in 21% to 55% of colorectal,
pancreas, stomach, gallbladder and breast cancer patients. The magnitude of
reduction was dependent on the type of cancer and the dosage of 5-FU and
CoFactor given to separate groups of those patients. The reductions we observed
demonstrate that CoFactor is highly effective under different conditions and
different dosages. The average duration of cancer remission in patients who
received CoFactor in combination with 5-FU in our clinical trial was nine to 15
months. The average duration of cancer remission in these patients is more than
100% longer than the average duration of cancer remission in patients receiving
5-FU in combination with leucovorin, a drug commonly administered in
combination with 5-FU in an effort to improve the performance of 5-FU. In
clinical trials, the toxicity of the 5-FU/CoFactor drug combination was less
than the toxicity of 5-FU alone and less than the 5-FU/leucovorin drug
combination. No toxicities of CoFactor have been observed. We believe these
results represent a significant improvement over the standard 5-FU/leucovorin
therapy for cancer patients.
Several articles regarding the use of CoFactor in the treatment of cancer
were published during late 1997 and early 1998 in leading medical journals,
including Cancer Investigations, Cancer Treatment, Anticancer Research, and The
Cancer Journal. Such articles discussed the:
o curative results with 5-FU therapy in combination with CoFactor for
liver cancer in animal studies compared to 5-FU alone or to
5-FU/leucovorin therapy;
o significant response to 5-FU/CoFactor in animal colon cancer studies;
o human pharmacokinetic (drug action/metabolism) data documenting high
blood levels of CoFactor for several hours after administration; and
o the achievement of stabilizing the CoFactor compound for routine
administration to patients.
Subsequent to completing our Phase I/II human clinical trials of CoFactor,
we analyzed tissue samples from the 62 patients treated in that trial using
newly developed methods for determining relative human enzyme levels by
analyzing genes. Our further analysis has enhanced our understanding of why
patients responded to the 5-FU/CoFactor combination therapy and will be useful
in studying responses in future trials of CoFactor.
On December 19, 2001, we received approval from the United States Food and
Drug Administration (the "FDA") to conduct Phase II trials of CoFactor in the
United States for initial therapy of patients who are newly diagnosed with
metastatic colorectal cancer. We plan to conduct this Phase II human trial once
we receive adequate funding. We further intend to apply for Phase II trials of
CoFactor in Sweden during 2003 and Phase III trials in both the United States
and Sweden thereafter.
2
BlockAide/CR
BlockAide/CR is a viral entry inhibitor first identified at the National
Institutes of Health and subsequently developed by scientists at M.D. Anderson
Cancer Center for its antiviral properties. This product is licensed to the
Company by both NIH and M.D. Anderson. It represents a new approach to
combating HIV, based on a synthetic peptide (a sequence of amino acids that is
part of a protein), which appears to be able to block the ability of HIV to
infect human immune cells. During in vitro experiments in human cell cultures,
and in preclinical animal tests, BlockAide/CR was able to significantly depress
the level of viral infection (as indicated in blood samples).
Studies from several laboratories, including M.D. Anderson and the NIH,
indicate that at least two cell surface receptors are involved in the mechanism
for HIV binding and immune cell penetration. One is the CD4 receptor, largely
found on T helper cells. Members of a family of chemokine receptors represent
the second receptor, which has only recently been described. HIV researchers
have found that a molecular component called the V3 Loop, which is part of the
gp-120 surface protein on the outer coat of the HIV virus, plays a critical
role in interacting with chemokine receptors, thus initiating the infection
process.
Recent research at M.D. Anderson Cancer Center and the Institute of
Mediterranean Research and Nutrition in Marseilles has described a further
mechanism for HIV infection regarding the CD4 and chemokine receptors. HIV
boards a lipid raft that keeps it afloat as it searches for a way into the
cell. The raft is made up of glycosphingolipids ("GSL"), a group of
carbohydrate-containing fatty acid derivatives. HIV binds to the CD4 receptor
and then to the GSL in the lipid rafts and floats on the lipid rafts until it
finds an appropriate chemokine receptor. The coreceptor then displaces the
lipid raft and begins the membrane fusion process whereby HIV gains entry to
the cell. The lipid raft interacts with the HIV gp-120 envelope glycoprotein in
the presence of CD4.
M.D. Anderson researchers believe that BlockAide/CR, which is structurally
similar to a portion of the V3 Loop present in the outer coat protein of HIV,
mimics the V3 Loop and, by interacting with the lipid raft on immune system
cells, prevents the virus from binding to chemokine receptors and subsequently
penetrating the cell. M.D. Anderson is credited with discovering the inhibitory
effects of BlockAide/CR and likens the V3 Loop to a hook. When HIV, using the
V3 Loop as a hook, tries to hook onto a human immune cell via the lipid raft,
the virus is unsuccessful because its V3 Loop is competitively inhibited by
BlockAide/CR.
In addition to blocking infection, it is believed that BlockAide/CR can
effectively block syncytium formation and prevent or limit the T-cell loss that
invariably occurs with a progressive HIV infection. Syncytium formation is a
very important step in the spread of HIV infection and the destruction of
T-cells. In this process, an HIV infected cell combines with a number of
healthy T-cells to form a large multinuclear mass or syncytium. The syncytia
quickly die, killing the incorporated T-cells and reducing the disease-fighting
capacity of the human immune system. Published studies suggest that, at the
time of transmission, and for a variable period afterwards, HIV exists largely
in nonsyncytial form and is relatively harmless to the body's natural immune
system. It is believed that, during this phase, T-cells generated by the immune
system keep the virus in check. As the virus evolves, however, it acquires the
ability to infect T-cells and the immune system becomes less able to combat the
virus. The result is the emergence of the syncytial form of HIV and the onset
of the illness phase; the point at which the patient begins to develop AIDS.
In an animal trial at M.D. Anderson Cancer Center, rhesus monkeys were
treated with a daily injection of BlockAide/CR to determine effectiveness of
the drug against an acute infection with Simian (monkey)/Human Immunodeficiency
Virus ("SHIV"), a chimeric virus which consists of the core proteins and
genetic material of SIV, or Simian Immunodeficiency Virus, and the outer
envelope proteins and viral binding proteins of HIV. Viral load decreased by
almost 100-fold after approximately two weeks of treatment. The Company
believes that positive results in that testing warrant additional studies in
human clinical trials. It is believed that the injection of BlockAide/CR into
an HIV-infected individual would block the spread of infection from outside the
cell in a way that would be much less toxic to the patient than the use of
current HAART (Highly Active Antiretroviral Therapy) therapy. The Company
intends to proceed with preparations for human testing under the FDA's Fast
Track Program, under a Corporate Investigational New Drug application, in 2003,
utilizing the FDA's current Good Manufacturing Practices ("cGMP") materials,
which have already been prepared for human use.
3
EradicAide
EradicAide is an antiviral drug, which is based upon cell-mediated
immunity technology, a patented immunotherapeutic and vaccine strategy,
developed by M.D. Anderson Cancer Center, in Houston, Texas. It consists of a
cocktail of six synthetic peptides and a carrier system. The technology relies
on eliciting a cell-mediated immunity response to treat individuals already
infected with HIV and to protect against new HIV infections. A unique feature
of this new treatment is that it is designed to not elicit an antibody
response. It is antibody-negative. The Company has licensed the exclusive right
to commercialize this technology from M.D. Anderson.
The survival of the HIV virus in the human body is dependant on its
ability to penetrate special target cells, take over genetic material in those
cells, and use that genetic material to make millions and billions of copies
which then propagate from the surface of the cell, killing the cell in the
process. In cell-mediated immunity, after a virus has penetrated the cell and
released its genetic material, its viral proteins are broken into fragments by
the infected cell. The resulting viral protein fragments are then transported
within the infected cell through a mechanism called the MHC (Major
Histocompatibility Complex) Class I pathway to special sites on the surface of
the infected cell. Here the viral protein fragments are displayed to the body's
immune system as evidence that the cell is infected and should be destroyed
before it can produce new virus particles. Killer T-cells, circulating in the
body, recognize the presence of these displayed viral proteins as a signal to
kill the infected cells and also as a signal to the immune system to produce
more Killer T-cells preprogrammed to seek out and specifically kill off the HIV
infected cells.
A research model system incorporating a special version of HIV has
recently been developed. A form of SHIV has proven to be an invaluable research
tool in the quest for effective approaches to HIV control. Monkeys to whom SHIV
was administered showed rapidly induced immunodeficiency (profound reduction in
CD-4 positive cell counts within three to four weeks after infection),
progressing to an AIDS state nearly identical to that seen in humans infected
with HIV.
Preliminary trials were conducted at the University of Texas animal
research facility in Bastrop, Texas under the supervision of Dr. Jagan Sastry.
Rhesus monkeys were used along with SHIV developed by a group of research labs,
including M.D. Anderson. In an initial trial, test animals were vaccinated with
the antibody-negative immunity-inducing agent, EradicAide, consisting of a
peptide cocktail with complete Freund's adjuvant (mixture of oil, chemicals and
bacteria) followed by two booster immunizations with incomplete Freund's
adjuvant (mixture of oil and chemicals) and the peptide cocktail. Animals were
then infected with live SHIV. Compared to control animals, viral levels in
plasma in treated animals were reduced more than 1,000-fold three weeks after
infection with SHIV. In non-treated control animals, the CD-4 positive T-cell
counts dropped at least 90%, while in treated animals the change in CD-4
positive T-cell counts ranged from 0 to 10% with one animal showing a maximum
30% reduction. Results of the study were published in Vaccine (Vol. 20; 2002,
pages 813-825).
A subsequent trial of EradicAide was conducted during 2001 and 2002,
consisting of a larger number of monkeys divided into a control group, a group
treated with EradicAide peptides delivered with incomplete Freunds adjuvant and
a group treated with EradicAide peptides delivered with autologous dendritic
cells. All the animals were then infected with SHIV. Both groups of treated
animals began showing a drop in viral load four weeks after infection with SHIV
and were maintaining viral control for approximately one year, verifying
previous data in the earlier trial, with all but one of the treated animals
continuing to suppress viral load to undetectable levels.
These data demonstrate scientific proof of principle for the cell-mediated
immunity strategy. We expect that the Company may be able to qualify for the
FDA's Fast Track Program for human trials, which provides for an accelerated
FDA review process of HIV therapeutic drugs, during the second half of 2003.
In September 2002, the Company, along with a collaborating partner,
BioDelivery Sciences International of Newark, New Jersey, announced that the
NIH awarded a research grant, totaling $600,000, to conduct work on the
development of an oral form of EradicAide. Payments under the grant will begin
in January 2003 and be shared equally over a period of two years between
BioDelivery Sciences and the Company's HIV scientists at M.D. Anderson Cancer
Center in Houston, Texas.
4
Thiovir
Thiovir is a sulfur-containing compound synthesized using technology
developed at USC and exclusively licensed to the Company by USC.
Thiovir, and other Thiovir-analogues under development, are parts of a new
class of compounds known as thiophosphonoformates (sulfur/phosphorous
compounds), which have demonstrated powerful antiviral properties. As a result,
Thiovir was designed to be a replacement for the broad-spectrum antiviral drug,
foscarnet. Foscarnet is dosed by central line IV catheter administration and is
FDA-approved for treatment of viral infections, such as HIV, Herpes and CMV
(cytomegalovirus). Although foscarnet is a highly effective, broad-spectrum
antiviral, it has disappointing limitations from a commercial perspective.
Foscarnet is a small molecule whose parent structure restricts modification,
which could lead to improved oral bioavailability or effectiveness. Therefore,
there is a need for a new class of broad-spectrum antiviral compounds that
might address the limitations of foscarnet while still offering the antiviral
advantages.
Thiovir (Thiophosphonoformic acid) can serve as a highly effective oral
replacement for foscarnet as part of HAART (highly active antiretroviral
therapy) where foscarnet is not currently used since it is too difficult to
administer. Thiovir is a NNRTI (non-nucleoside reverse transcriptase
inhibitor), which can be used with NRTIs (nucleoside reverse transcriptase
inhibitors) and protease inhibitors (based upon prior experience with the prior
use of foscarnet). Thiovir has a different mode of action toward HIV, which is
complimentary to NRTIs and protease inhibitors, with the added benefit of
effectiveness against CMV and HSV-6-8, associated with Kaposi's sarcoma.
Preclinical studies on human cells have demonstrated that Thiovir is
equivalent to foscarnet as a reverse transcriptase inhibitor and has a dosage
profile similar to foscarnet to direct HIV inhibition, with lower toxicity
toward human DNA. Preliminary animal studies, with enteric-coated capsules of
Thiovir, demonstrated up to 44% oral bioavailability, delivering three times
more drug than orally dosed foscarnet.
An in vitro test of a group of Thiovir analogues was conducted at the
National Cancer Institute. Results reported to USC between 2001 and 2002
revealed several compounds with better therapeutic values than foscarnet for
HHV-8, a herpes virus linked to Kaposi's sarcoma, the cancer that causes
lesions on the skin of AIDS patients. In addition, studies conducted by the
Company on Thiovir efficacy against papillomaviruses (a viral infection
directly related to genital warts and cervical cancer) between 1999 and 2002,
showed that Thiovir had potential as an antiviral treatment for papillomavirus
infection. However, during 2002, the technical difficulties in testing Thiovir
efficacy in animal models, as well as results obtained during in vitro testing
on analogues of Thiovir, under a US government grant, have led the Company to
change its strategy for HPV testing during 2003. Current research and
development efforts for Thiovir are supported by the Company and by U.S.
government funding, which the Company intends to continue during 2003 to
identify the most effective Thiovir analogues for HPV treatment..
BlockAide/VP
The BlockAide/VP compound was also created and patented by M.D. Anderson
and is licensed to the Company. It works to prevent HIV infection in human
cells in a different way from BlockAide/CR.
HIV depends on its ability to enter and infect host cells in order to
multiply and survive. In the case of HIV, the binding protein gp-120 on the
surface of the HIV particle interacts with a receptor site known as CD4, which
is present on the surface of certain human cells. Interaction of the HIV virus
with CD4 causes a change in the shape of gp-120, uncovering the actual binding
region of gp-120, which then fuses with a second, chemokine receptor.
The BlockAide/VP compound mimics a section of the CD4 receptor. When
BlockAide/VP comes into contact with the gp-120 protein present on the surface
of HIV, it appears to cause a change in the protein-folding configuration of
gp-120, rendering the gp-120 unable to initiate the infection process.
Early tests indicate that HIV virus treated with BlockAide/VP and exposed
to human cells is unable to bind to and infect such cells. The Company does not
know of any other available antiviral agent which can render HIV unable to
infect cells in this manner.
5
BlockAide/VP has progressed through in vitro testing with encouraging
results and must still be tested in animals to gauge effectiveness and toxicity
before progressing to human trials, in the same manner as described above for
BlockAide/CR. BlockAide/VP has demonstrated synergistic and additive effect to
BlockAide/CR in in vitro testing as well. If proven safe and effective in
preclinical testing, and if approved by the FDA through its Fast Track Program,
BlockAide/VP could be used for HIV infected individuals as an adjunct to their
HAART or as a primary therapy for newly infected individuals.
Selone
Selone is the Company's leading compound in a new class of compounds which
are potential new cancer drugs for drug resistant cancer, discovered through
USC research focused on the use of the element selenium, an anti-oxidant. We
are the exclusive licensee of a patent from USC, which encompasses the use of
Selone and other oxygen-carbon-selenium compounds as anticancer agents, as well
as the method for their synthesis.
Selone acts, in part, as a highly nitrogen-specific alkylating agent (a
drug that kills cancer cells by directly attacking their DNA) found to be
effective against cancer cell lines that exhibit drug resistance to currently
available alkylating and platinating (alkylating compounds which contain
platinum) agents. Alkylating agents, as a class, are the most broadly used
anticancer agents in the world, collectively surpassing the use of 5-FU. In
recent years, alkylating agents have been increasingly used, in dose
intensification strategies such as bone marrow transplant, and have exhibited
further promise when used with compounds known as thiophosphate protection
agents. However, a majority of cancers develop resistance to currently
available alkylating and platinating agents, usually through a thiol (sulfur
metabolism) mechanism. Selone was developed to address this problem, through
increased targeting to guanine nitrogen contained in DNA, without increased
susceptibility to the thiol mechanisms connected with drug resistance.
Based upon current in vitro screening methods, Selone shows promise of
being broadly effective, at even very low concentrations, against human
ovarian, breast, lung and head/neck cancers, and against leukemias and
lymphomas. Its potency is remarkably high for its rate of alkylating activity,
suggesting an increased specificity of action. Demonstrated effectiveness in
central nervous system cell lines, in addition to the extraordinarily high
solubility of Selone in watery and fatty tissues, suggests potential activity
in brain tumors. Selone shows full activity in human cell lines resistant to
other cancer drugs, including antitumor antibiotics, and in
nitrosourea-resistant colon cancer. It has also demonstrated significant
activity against leukemia in mice at doses predicted to readily achieve
effective blood concentrations.
The Company intends to support further research for Selone through
government grants, for which it intends to apply during 2003, to determine the
future course of action for taking this drug toward human testing.
Markets for our Products
Anticancer Agents
On a worldwide basis, cancer killed over 6 million people in 1998,
according to statistics published by the World Health Organization. After
cardiovascular disease, cancer is the second most frequent cause of death in
developing countries, accounting for 21% of all deaths. In the U.S., cancer is
responsible for approximately 23% of all deaths according to recent statistics.
The American Cancer Society reported in 1998 that there were more than 1.4
million new cases of cancer diagnosed in the U.S. and over 560,000 deaths due
to cancer in the previous year.
Treatment choices for the cancer patient depend on the stage of the
cancerous tumor, and whether and/or how far the cancer has spread. Treatment
options include surgery, radiation, chemotherapy, hormone therapy and
immunotherapy. Treatment of cancer with chemicals is referred to as
chemotherapy, which represents a current market in the US of approximately $9
billion ($15 billion worldwide), according to Frost & Sullivan Market Research
and IMS Market Research.
Traditional cancer chemotherapy poisons all body cells to some extent, but
particularly targets rapidly dividing cells such as cancer cells. Its effect on
6
other rapidly dividing cells, such as hair follicles, cells lining the stomach
and red blood cells, accounts for some of the more common negative side effects
of cancer chemotherapy. Current approaches often use several drugs in
combination, aimed at minimizing side effects while attacking the rapidly
proliferating cells at vulnerable times.
Chemotherapy is highly individualized, depending on the type of disease
and its progression, the action of the agents used, and the side effects in the
patient, and may be used alone or in combination with other cancer therapies,
such as surgery or radiation. Chemotherapy drugs such as 5-FU, Ancobon,
Methotrexate, Alkeran and Cyloxan, are commonly used to treat patients.
We believe that the total annual market potential for CoFactor is related
to new cases of cancer, which are often treated by 5-FU therapy, the single
most widely used cancer drug in the world, according to industry experts. Doses
of 5-FU vary widely based upon the cancer being treated. As an example, in U.S.
therapy regimens, approximately 36 doses of 5-FU are administered to
approximately two-thirds of colorectal cancer patients annually, compared with
12 doses of 5-FU to about one-third of breast cancer patients.
Based upon statistics for cancer incidence and cancer treatment reported
by the American Cancer Society, we estimate that the annual potential for
CoFactor use can be based on an assumed annual use of over 4 million doses of
5-FU, with initial emphasis focused on combination therapy with 5-FU for
colorectal cancer. There are approximately 131,000 new cases of colorectal
cancer per year in the US alone. It should be noted that these estimates do not
take into account additional market opportunities to enhance other drugs
similar to 5-FU, such as floxuridine (FUDR), florafur (tegafur),
Doxifluridine(R) (5'deoxyfluorouridine) and Xeloda(R) (capecitiabine).
Selone, which functions in part as an alkylating agent against cancer cell
lines that exhibit drug resistance to currently available alkylating and
platinating agents, may serve as a useful new anticancer drug. Alkylating
agents as a class are the most broadly used anticancer agents in the world,
collectively surpassing the use of 5-FU as single agent. In recent years, they
have been used increasingly in dose intensification strategies, such as bone
marrow transplant, and have exhibited further promise when used with the
thiophosphate protection agents. Approximately one-half of all cancers can
become resistant to treatment with current chemotherapy products. Accordingly,
we believe there is great potential for new products which address drug
resistance in cancer therapy.
HIV/AIDS Therapy
Significant advancements have been made in the treatment of asymptomatic
HIV positive patients. It is now understood that early combination therapy with
a three or four drug "cocktail" can push HIV viral load to below "detectable
levels." This therapy is often referred to as HAART (highly active
antiretroviral therapy). It is widely reported that the average annual drug
cost for such combination therapy in the U.S. is $11,000 per patient.
However, recent studies have shown that, whether or not patients adhere to
the strict therapy regimens required for HAART treatment, antiretroviral
therapy will continue to lead to problems of viral resistance, rendering many
drugs ineffective over time. There is no conclusive evidence that current drugs
can eradicate HIV from the body over the long term. As long as HIV is present
in the body, the opportunity exists for the evolution of HIV escape mutants
resistant to HAART. These mutant strains can reproduce unchecked by HAART,
subsequently becoming the predominant strain and re-establishing high viral
loads in patients. This can lead to permanently damaged immune systems,
opportunistic infections, and the advance to AIDS even if HAART therapy
continues. Currently, no one combination of drugs is effective for all
patients, and therapies are continually modified based upon patient progress.
Therefore, new drugs and new drug approaches continue to be needed for HIV
therapy.
In a recent study reported by the University of California-San Francisco,
based upon treatment of HIV positive patients at San Francisco General
Hospital, 53% of patients had evidence of treatment failure after at least six
months of therapy. Based on these facts, we believe that the demand for new
types of HIV drugs, designed to block infection or to clear HIV-infected cells,
will therefore increase. Additional new therapy is on the horizon, with the
first HIV viral entry inhibitor approved in early 2003, with an annual cost of
$20,000 per patient for therapy. The Company believes therefore, that its
efforts concerning the development of its viral entry inhibitors are
well-founded, since this new mode of HIV treatment is medically valid based
upon clinical trial data and the recent FDA approval, and also because it is
believed that the Company's viral entry inhibitors can be produced and sold at
much lower costs.
7
According to NIAID (National Institute of Allergy and Infectious Disease),
at the end of 2002, there were 42 million people infected with HIV on a
worldwide basis, with 14,000 new infections occurring each day. An estimated 5
million new infections occurred worldwide in 2002. HIV infections are not being
treated in the third world, to even the smallest extent, since cost is
prohibitive and the ability to administer complex therapy is nearly impossible.
Thus, simple, inexpensive new therapies are required.
Thiovir and HPV
According to the Center for Disease Control and the American Cancer
Society, the most prevalent sexually transmitted disease in the U.S. is human
papillomavirus (HPV) infection, which is extremely contagious, with
approximately two-thirds of all people exposed to the virus becoming infected
within a three-month period. The virus exists in over 80 different subtypes, 40
of which affect the urogenital region.
Transmission of HPV usually occurs through direct skin contact during
vaginal, anal or oral sex with an infected individual, and warts (called
genital warts or condylomas) may or may not begin to appear on the skin
surrounding the entrance to infection, depending on the length of the latency
period. Because one of the consequences of HPV infection is the introduction of
abnormal cells, the infection may lead to cancerous growths, particularly on
the cervix. Although HPV and genital warts are treatable, there is currently no
known cure for the infection.
HPV is highly prevalent in women under 30 years of age, and studies
indicate that the majority of college age women are HPV positive without
clinical or cytological evidence. According to American Cancer Society, the
lifetime risk of invasive cancer is 5-10% for untreated HPV infection, and, if
infected with a high-oncogenic form of HPV, there is a 70% risk of having an
abnormal papsmear. Approximately 5.5 million new cases of sexually transmitted
HPV occur in the U.S. each year, with at least 20 million people currently
infected according to pharmaceutical industry estimates. Of special importance
is the link between HPV and cancer, particularly cervical cancer. The role of
HPV as a principal agent in the etiology of cervical cancer has been clearly
established by the American Cancer Society and the American Association of
Obstetrics and Gynecology.
Marketing, Distribution and Sales
We have not received the necessary regulatory approval from the FDA or any
other similar government agency to commercially market, distribute or sell any
of our products. We do not presently have a marketing and sales staff, although
the experience and background of Nicholas Jon Virca, Chief Executive Officer,
includes pharmaceutical marketing and sales functions. If we approach the point
at which we anticipate receiving regulatory approval to commercially market,
distribute or sell any of our products, we will likely arrange with third
parties, such as pharmaceutical companies, to market, distribute and sell our
products. At that point, we would also likely seek to add marketing personnel
for liaison, support and administrative purposes. While we have held
preliminary discussions on a number of occasions with potential
commercialization and marketing partners, we have not yet entered into any
binding agreements regarding the commercialization or marketing of any of our
products.
For further information on the requirements for clinical trials and future
commercialization, see the discussion below under "Government Regulation and
Clinical Testing for New Drugs." See also the discussion under "Risk Factors"
in Item 6 below.
Manufacturing
We do not have our own manufacturing facilities, and do not intend to
establish them. However, the Company has entered into a manufacturing agreement
with Merck Eprova AG, of Schaffhausen, Switzerland, under which Merck Eprova
will produce CoFactor for clinical trial requirements and future product sales.
We have also used the services of Multiple Peptide Systems, Inc., of San Diego,
California, to produce its BlockAide/CR peptide and also intend to use Multiple
Peptide Systems to produce the peptides for EradicAide testing, beginning in
8
the first half of 2003. In the future, we will have to establish one or more
relationships with additional manufacturers as new drug candidates progress
through development, testing and commercialization stages. Consequently, the
Company will be dependent upon various manufacturers for a reliable supply of
its drug products. (See "Risk Factors" in Item 6 below.)
Raw Materials
Raw materials and supplies required for the production of our products for
clinical trials are generally available from various suppliers in quantities
adequate to meet our needs. However, the Company believes that it will need to
be selective with its choice of manufacturers who have expertise in the cGMP
production of either chemical or biological formulations, such as those
required for the Company's products.
Licensing and Research Agreements
M.D. Anderson Agreements
In June 1996, the Company entered into an exclusive worldwide Patent and
Technology License Agreement with M.D. Anderson (the "M.D. Anderson Agreement")
granting development, manufacturing and marketing rights, relating to the
commercialization of technologies described in seven patents and patent
applications developed by scientists at M.D. Anderson in the field of HIV
therapy and preventions. The M.D. Anderson Agreement continues in effect for
the life of the subject patents (including any extensions or renewals), and
requires payment of royalties based on percentages of sales and a share of
sub-licensing revenues from products developed under the Agreement. Our
exclusive license rights are subject to any non-exclusive rights that the U.S.
government may have as a result of any agreement between it and M.D. Anderson
by which government-funded research was provided in connection with the
licensed technology. The M.D. Anderson Agreement requires the Company to
reimburse M.D. Anderson for the cost of preparing, filing, prosecuting and
maintaining the licensed patents.
Pursuant to the terms of the M.D. Anderson Agreement, the Company has the
right to a royalty-bearing, exclusive license to manufacture, have manufactured
and use or sell licensed products. M.D. Anderson's retained interest consists
of royalties on net sales of licensed products and a share of consideration
received by the Company from all sublicenses and assignments. No royalties were
paid under this agreement during the years ended December 31, 2002 and 2001.
The M.D. Anderson License Agreement continues in effect until all patent rights
have expired.
The M.D. Anderson Agreement was amended effective June 15, 2000 (the
"Amendment"). The Amendment incorporated additional licensed subject matter,
revised certain royalty rates due to M.D. Anderson upon commercialization, and
settled past due patent and research and development amounts from the Company
to M.D. Anderson. The Company gave consideration valued at approximately
$172,000 through the issuance of 71,555 shares of common stock to reimburse
M.D. Anderson for patent costs incurred through June 15, 2000. The Company also
issued 414,829 shares of common stock to M.D. Anderson valued at $1,000,000,
based on the market value of the Company's stock at the date of the settlement
agreement, to settle past due research and development obligations. In
addition, the Company committed to funding at least $1,000,000 of research and
development activity through December 31, 2001, including the amounts referred
to in note 7. Finally, the Amendment defined a milestone payment of common
stock with a value of $1,000,000 due to M.D. Anderson upon the enrollment of
the first patient in the first FDA Phase I human trial of any product that
utilizes licensed subject matter.
USC Agreements
Under an Option and License Agreement with USC dated January 23, 1998,
amended August 16, 2000, we hold exclusive license rights to a total of three
patents, two relating to Biokeys Pharmaceuticals' CoFactor product and one
relating to Selone, both of which are intended for use in connection with
cancer chemotherapy. In addition, under a second Option and License Agreement
dated August 17, 2000, we acquired exclusive rights under the five patents
related to Thiovir antiviral technologies. These agreements with USC (the USC
License Agreements) grant us exclusive worldwide licenses to study, use,
manufacture and market drug products covered by the subject patents. Under the
9
USC License Agreements, we are obligated to pay USC for out-of-pocket expenses
incurred in filing, prosecuting, enforcing and maintaining the licensed patent
rights and all future patent-related expenses paid by USC, as long as the USC
License Agreements remain in effect and until the patent rights have expired.
USC's retained interest consists of a running royalty on net sales of licensed
products and a share of consideration received by Biokeys Pharmaceuticals from
all sublicenses and assignments. No royalties have been paid under these
agreements.
NIH Agreement
During December 2002, the Company entered into a worldwide exclusive
patent license agreement with the NIH concerning composition of matter for its
drug, BlockAide/CR. Under the terms of the agreement, the Company agrees to pay
minimum royalty payments during the first year of the license and minimum
annual royalties thereafter or the higher amount based upon a percentage of net
sales. In addition, there are benchmark royalties based upon: initiation of
Phase I trials, initiation of Phase II trials, initiation of Phase III trials,
and upon first approval of a Product License Application for an HIV therapeutic
or vaccine in the US and for first approval in Europe.
Sponsored Research Agreements
We entered into a sponsored research agreement with M.D. Anderson on
September 7, 2000, which provided for studies to test the ability of a mixture
of synthetic HIV-derived peptides to elicit an antibody-negative cell-mediated
immune response. The testing was undertaken to determine if this immune
response can protect against new HIV infection and if the preparation can be
administered after HIV infection as a therapeutic. This required a total of
$814,490 payable in two equal installments for research conducted through 2001
and 2002.
We also have sponsored research arrangements with USC, under which USC
will continue studies in the therapeutic potential of Thiovir and its analogues
as antiviral agents. The Company entered into a grant agreement with USC
effective November 1, 2000, under which USC performed research into Thiovir and
its analogues as inhibitors for HPV and other pathogenic viruses. The budgeted
research costs for this study were approximately $217,000, which have been paid
by the Company and are still under use by USC. The Company and USC also applied
for additional research grants near the end of 2002 for which they might
receive funding in 2003.
In September 2002, the Company, along with a collaborating partner,
BioDelivery Sciences International of Newark, New Jersey, announced that the
NIH awarded a research grant, totaling $600,000, to conduct work on the
development of an oral form of EradicAide. Payments from the grant will begin
in January 2003 and be shared equally over a period of two years between
BioDelivery Sciences and the Company's HIV scientists at the M.D. Anderson
Cancer Center in Houston, Texas.
Competition
If we receive regulatory approval to market, distribute and sell any of
our products, we will face significant competition, and believe significant
long-term competition can be expected, from pharmaceutical companies and
pharmaceutical divisions of chemical companies as well as biotechnology
companies. This competition can be expected to become more intense as
commercial applications for biotechnology products increase. Some competitors,
particularly large pharmaceutical companies, have greater clinical, regulatory
and marketing resources and experience than we do. Many of these companies have
commercial arrangements with other companies in the biotechnology industry to
supplement their own research capabilities.
The introduction of new products or the development of new processes by
competitors or new information about our existing products may impact potential
pricing of our products or cause us to discontinue the development of one or
more of our products, even for products protected by patents. However, we
believe our competitive position is enhanced by our commitment to research
leading to the discovery and development of new products.
Over the longer term, our and our collaborators' abilities to successfully
market, distribute and sell current products, expand their usage and bring new
products to the marketplace will depend on many factors, including, but not
limited to, the effectiveness and safety of the products, FDA and foreign
regulatory agencies' approvals of new products and indications, the degree of
patent protection afforded to particular products and the effect of managed
care as an important purchaser of pharmaceutical products.
10
BlockAide/CR
According to the Pharmaceutical Research and Manufacturers of America,
there are a total of 54 approved medications used to treat AIDS. The currently
approved antiviral medications are designed to inhibit HIV after it has already
infected cells, with the single exception of T-20 (Fuzeon(), a viral fusion
inhibitor co-marketed by Trimeris, Inc. and F. Hoffman-La Roche Ltd. ("Roche").
BlockAide/CR should prove to be a formidable competitor to T-20. The FDA
approved T-20 for sale on March 13, 2003. T-20 is the first product that works
to inhibit HIV from outside the cell. However, T-20 has many difficulties
associated with its manufacture, pricing and therapy, which the Company
believes BlockAide/CR may be able to overcome because of simpler manufacturing,
easier administration and lower patient costs.
Of new medications under development for the treatment or prevention of
AIDS/HIV, 37 are antivirals (including other fusion inhibitors), several are
second-generation protease inhibitors, 12 are vaccines (as of mid 2000; 60
Phase I/II trials of 30 vaccine candidates were being conducted worldwide), 16
are antiinfectives and antifungals to fight opportunistic infections, 10 are
immunomodulators designed to boost the immune system, 24 are anticancer
medications to treat AIDS-related cancers such as lymphoma and KS (Kaposi's
Sarcoma) and five are gene therapies.
EradicAide
On the vaccine front, EradicAide is a therapeutic drug with a formulation
that does not stimulate the production of antibodies, which have been shown to
enhance HIV infection in studies designed to observe how HIV spreads.
Antibody-based vaccines have achieved only mixed results in human testing, such
as the poor results reported by VaxGen in February 2003, a major potential
competitor for EradicAide. EradicAide is based upon a cell-mediated immunity
approach to controlling HIV, by stimulating disease-fighting cells, called
killer-T cells whose job it is to clear infection. Merck & Co., Inc.'s DNA
vaccine, now in human trials, demonstrated the ability to stimulate killer-T
cells in some patients, indicating that this is a viable approach, but needs to
be improved to achieve more universal results. Success of the EradicAide
approach has been demonstrated in multiple primate studies where rhesus monkeys
have been infected with SHIV virus and have been able to keep infection under
control for up to three years with a single series of treatments. The Company
believes that this will translate to superior results in human trials, since
its animal testing has been both successful and extensive compared to animal
testing of DNA vaccines. Currently, HIV vaccines in clinical trials are
injected. Animal studies now being conducted by the Company have already shown
the feasibility for oral delivery of EradicAide, which would make it an
extremely viable candidate for use with current oral HIV drugs and for oral
delivery in third-world countries. Thus oral EradicAide could prove to be
strong competition for injectable vaccines.
CoFactor
The Company intends to target replacement of 5-FU/leucovorin therapy, as
well as 5-FU/leucovorin/CPT-11 (Camptosar(, irinotecan) therapy, which are
toxic and less effective than the results the Company achieved in Phase I/II
trials in Sweden. With an ongoing need for significant improvement in the
clinical response of tens of thousands of cancer patients, especially those
with colorectal cancer where leucovorin performs very poorly, the Company
believes there will be great demand for CoFactor.
There are approximately 40 different companies marketing 5-FU-related
drugs that are generic. One exception is Roche, which markets the prodrug (drug
that activates in vivo) Xeloda(, which is an oral formulation that converts to
5-FU. Since CoFactor is intended to be used with 5-FU, but is only in IV form,
generic forms of leucovorin that are oral represent competition for CoFactor,
which in its current form must be administered by IV. Leucovorin is also
marketed by more than a dozen companies as a generic drug for IV dosing in
conjunction with 5-FU. As an IV drug, leucovorin represents competition to
CoFactor based upon generic pricing.
The Company believes that if it continues to demonstrate superior results
in human trials to 5-FU/leucovorin or 5-FU/leucovorin/CPT-11 performance, it
will be able to command branded pharmaceutical pricing (be sold a much higher
prices due to improved therapy). Further, if the 5-FU/CoFactor can limit the
11
need for addition of CPT-11 to the therapy, than overall toxicity of that
regimen can be lowered significantly to improve the quality of life of patients
being treated, and CoFactor acceptance will be driven by lowering the overall
cost of therapy, measured by the number of drugs administered, the length of
remissions and the need to treat toxicity.
Government Regulation and Clinical Testing for New Drugs
The manufacture and sale of therapeutic drugs are subject to government
regulation in the U.S. and in certain foreign countries. In the U.S., we must
follow rules and regulations established by the FDA requiring the presentation
of data indicating that our products are safe and efficacious and are
manufactured in accordance with cGMP regulations.
Safety and effectiveness standards are required in certain other countries
as well. The Company believes that only a limited number of foreign countries
have extensive regulatory requirements for new drugs, especially Japan and the
countries comprising the European Union.
The steps required to be taken before a new prescription drug may be
marketed in the U.S. include (i) preclinical laboratory and animal tests, (ii)
the submission to the FDA of an Investigational New Drug ("IND") Application,
which must be evaluated and found acceptable by the FDA before human clinical
trials may commence, (iii) adequate and well-controlled human clinical trials
to establish the safety and effectiveness of the drug, (iv) the submission of a
New Drug Application ("NDA") to the FDA and (v) FDA approval of the NDA. Prior
to obtaining FDA approval of an NDA, the facilities that will be used to
manufacture the drug must undergo a preapproval inspection to ensure compliance
with the FDA's cGMP regulations.
Preclinical tests include laboratory evaluation of product chemistry
and/or biology and animal studies to assess the safety and effectiveness of the
product and its formulation. The results of the preclinical tests are submitted
to the FDA as part of an IND, and unless the FDA objects, the IND will become
effective 30 days following its receipt by the FDA, after which clinical trials
can begin. If the FDA has concerns about the proposed clinical trial, it may
delay the trial and require modifications to the trial protocol prior to
permitting the trial to begin.
Clinical trials involve the administration of the pharmaceutical product
to healthy volunteers or to patients identified as having the condition for
which the product is being tested. The pharmaceutical product is administered
under the supervision of a qualified principal investigator. Clinical trials
are conducted in accordance with protocols previously submitted to the FDA as
part of the IND that detail the objectives of the trial, the parameters used to
monitor safety and the efficacy criteria that are being evaluated. Each
clinical trial is conducted under the auspices of an Institutional Review Board
("IRB") at the institution at which the trial is conducted. The IRB considers,
among other things, ethical factors, the safety of the human subjects and the
possible liability risk for the institution.
Clinical trials are typically conducted in three sequential phases that
may overlap. In Phase I, the initial introduction of the pharmaceutical into
healthy human volunteers, the emphasis is on testing for safety (adverse
effects), dosage tolerance, metabolism, distribution, excretion and clinical
pharmacology. Phase II involves trials in a limited patient population to
determine the effectiveness of the pharmaceutical for specific targeted
indications, to determine dosage tolerance and optimal dosage and to identify
possible adverse side effects and safety risks.
In serious diseases such as HIV/AIDS, patients suffering from the disease
rather than healthy volunteers are used in Phase I trials. In addition, Phase I
trials may be divided between Phase Ia, in which single doses of the drug are
given, and Phase Ib, in which multiple doses are given. In the latter instance,
some efficacy data may be obtained if the subjects are patients suffering from
the disease rather than healthy volunteers, and these trials are referred to as
"Phase Ib/IIa."
After a compound has been shown in Phase II trials to have an acceptable
safety profile and probable effectiveness, Phase III trials are undertaken to
evaluate clinical effectiveness further and to further test for safety within
an expanded patient population at multiple clinical study sites. The FDA
reviews both the clinical trial plans and the results of the trials at each
phase, and may discontinue the trials at any time if there are significant
safety issues.
The results of the preclinical tests and clinical trials are submitted to
the FDA in the form of an NDA for marketing approval. The testing and approval
12
process requires substantial time and effort, and FDA approval may not be
granted on a timely basis or at all. The approval process is affected by a
number of factors, including the severity of the disease, the availability of
alternative treatments and the risks and benefits demonstrated in clinical
trials. Additional animal studies or clinical trials may be requested during
the FDA review process and may delay marketing approval.
Upon approval, a drug may be marketed only for the FDA approved
indications in the approved dosage forms. Further clinical trials are necessary
to gain approval for the use of the product for any additional indications or
dosage forms. The FDA may also require post-market reporting and may require
surveillance programs to monitor the side effects of the drug, which may result
in withdrawal of approval after marketing begins.
The FDA has developed several regulatory procedures to accelerate the
clinical testing and approval of drugs intended to treat serious or
life-threatening illnesses under certain circumstances. For example, in l988,
the FDA issued regulations to expedite the development, evaluation and
marketing of drugs for life-threatening and severely debilitating illnesses,
especially where no alternative therapy exists (the "l988 Regulations"). These
procedures encourage early consultation between the IND sponsors and the FDA in
the preclinical testing and clinical trial phases to determine what evidence
will be necessary for marketing approval and to assist the sponsors in
designing clinical trials. Under this program, the FDA works closely with the
IND sponsors to accelerate and condense Phase II clinical trials, which may, in
some cases, eliminate the need to conduct Phase III trials or limit the scope
of Phase III trials. Under the l988 Regulations, the FDA may require
post-marketing clinical trials (Phase IV trials) to obtain additional
information on the drug's risks, benefits and optimal use.
In l992, the FDA issued regulations establishing an accelerated NDA
approval procedure for certain drugs under Subpart H of the agency's NDA
approval regulations ("Subpart H Regulations"). The Subpart H Regulations
provide for accelerated NDA approval for new drugs intended to treat serious or
life-threatening diseases where the drugs provide a meaningful therapeutic
advantage over existing treatment. Under this accelerated approval procedure,
the FDA may approve a drug based on evidence from adequate and well-controlled
studies of the drug's effects. This approval is conditional on the favorable
completion of trials to establish and define the degree of clinical benefits to
the patient. In this case, post-marketing clinical trials would usually be
underway when the product obtains accelerated approval. If, after approval, a
post-marketing clinical study establishes that the drug does not perform as
expected, or if post-marketing restrictions are not adhered to or are not
adequate to ensure the safe use of the drug, or other evidence demonstrates
that the product is not safe and/or effective under its conditions of use, the
FDA may withdraw approval. The Subpart H Regulations can complement the l988
Regulations for expediting the development, evaluation and marketing of drugs.
These two procedures for expediting the clinical evaluation and approval of
certain drugs may shorten the drug development process by as much as two to
three years.
We believe that several of our drugs may be candidates for accelerated
development and/or approval under the l988 Regulations and/or the Subpart H
Regulations. This would include our HIV/AIDS drugs as well as the Company's
anticancer agents.
Once the sale of a product is approved, the FDA regulates the
manufacturing and marketing of the product. The FDA periodically inspects both
domestic and foreign drug manufacturing facilities to ensure compliance with
applicable cGMP regulations and other requirements. In addition, manufacturers
in the U.S. must register with the FDA and submit a list of every drug in
commercial distribution. Foreign manufacturers are subject only to the drug
listing requirement. Post-marketing reports are also required to monitor the
product's usage and effects. Product approvals may be withdrawn, or sanctions
imposed, if compliance with regulatory requirements is not maintained.
Many foreign countries also regulate the clinical testing, manufacturing,
marketing and use of pharmaceutical products. The requirements relating to the
conduct of clinical trials, product approval, manufacturing, marketing, pricing
and reimbursement vary widely from country to country. In addition to the
import requirements of foreign countries, a company must also comply with U.S.
laws governing the export of FDA regulated products.
13
Health Care Reform Measures and Third Party Reimbursement
Pharmaceutical companies are affected by the efforts of governments and
third party payors to contain or reduce the cost of health care through various
means. A number of legislative and regulatory proposals aimed at changing the
health care system have been proposed in recent years. In addition, an
increasing emphasis on managed care in the U.S. has and will continue to
increase pressures on pharmaceutical pricing. While the Company cannot predict
whether legislative or regulatory proposals will be adopted or the effect such
proposals or managed care efforts may have on its business, the announcement
and/or adoption of such proposals or efforts could have a material adverse
effect on the Company. In the U.S. and elsewhere, sales of prescription
pharmaceuticals are dependent in part on the availability of reimbursement to
the consumer from third party payors, such as government and private insurance
plans that mandate predetermined discounts from list prices.
Research and Development Outlays
During fiscal year 2002 and 2001, the Company expended $282,966 and
$946,419, respectively, on research and development activities.
Environment
We seek to comply with all applicable statutory and administrative
requirements concerning environmental quality. We have made, and will continue
to make, expenditures for environmental compliance and protection. Expenditures
for compliance with environmental laws have not had, and are not expected to
have, a material effect on our capital expenditures, results of operation,
financial position or competitive position.
Employees
At December 31, 2002, the Company had three employees all of whom were
employed on a full-time basis.
ITEM 2. DESCRIPTION OF PROPERTY.
The Company's principal office is located at 9948 Hibert St., Suite 100 in
San Diego, California. Our principal office consists of 1,553 square feet of
office space which we use pursuant to a lease which will expire on January 14,
2004. The lease rate for this space is currently $32,458 per year, which amount
includes incremental operating cost adjustments.
Our research and development activities during 2002 were conducted mainly
on the premises of M.D. Anderson, USC, and Sahlgrenska University Hospital,
pursuant to the terms of sponsored research arrangements.
We believe our facilities are in good operating condition and that the
real property leased by the Company is adequate for all present and near term
uses. We believe any additional facilities we may need in the foreseeable
future can be obtained with our capital resources.
Until December 2002, the Company leased approximately 800 square feet of
office space at 333 N. Sam Houston Parkway, Suite 1035, Houston, Texas pursuant
to a month to month lease at a cost of $1,860.75 per month. The office in
Houston was closed in December 2002, at which time we terminated the lease for
our Houston office and consolidated operations at our San Diego office.
The Company does not have any investments in and does not plan to make any
investments in any real estate, real estate mortgages or securities of or
interests in persons primarily engaged in real estate activities. The Company
does not own or have an interest in any real property the book value of which
amounts to 10% or more of the total assets of the Company and its consolidated
subsidiaries.
ITEM 3. LEGAL PROCEEDINGS.
The Company was a defendant in the action entitled Karo Bio USA, Inc. v.
Biokeys Pharmaceuticals, Inc. (Case No. 01-455), commenced in the United States
14
District Court for the District of Delaware on July 3, 2001 (the "Trademark
Lawsuit"). In the Trademark Lawsuit, Karo Bio asserted among other things that
the Company was infringing the trademark BIOKEY(R) that Karo Bio registered
with the United States Patent and Trademark Office. Karo Bio sought to prevent
us from continuing to use "Biokeys" as part of our name, as well as an
unspecified amount of damages. Pursuant to the terms of the Settlement
Agreement, dated March 14, 2002, between Karo Bio USA, Inc. and the Company
(the "Settlement Agreement"), the Company agreed to cease using the "Biokeys"
mark, with certain permitted excepted uses by us. The Company retains the right
to use the name "Biokeys Pharmaceuticals, Inc." The Settlement Agreement also
required that Karo Bio and the Company dismiss all claims and counterclaims in
the Trademark Lawsuit and to file a stipulated dismissal with the United States
District Court for the District of Delaware. The settlement with Karo Bio has
not had and we believe it will not have a material adverse effect on the
Company or our business.
From time to time we may be subject to additional legal proceedings and
claims in the ordinary course of business. These claims, even if not
meritorious, could result in the expenditure of significant financial and
managerial resources. We are not aware of any legal proceedings or claims that
we believe could harm our business or cause our stock price to fall.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter was submitted to a vote of securities holders, through
solicitation of proxies or otherwise, during the fourth quarter of 2002. We did
not hold an annual meeting of stockholders in 2002 and have not scheduled an
annual meeting for 2003.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
MARKET INFORMATION.
Our Common Stock is quoted on the National Association of Securities
Dealers' OTC Bulletin Board under the symbol BKYS. From December 7, 1999 until
June 11, 2002, our Common Stock was quoted on Pink Sheets LLC's Electronic
Quotation Service under the symbol HIVX.
The following table lists the high and low bid information for our Common
Stock for each quarter for the fiscal years 2001 and 2002. All prices listed
herein reflect inter-dealer prices, without retail mark-up, mark-down or
commission, and may not represent actual transactions.
QUARTER ENDING HIGH LOW
March 31, 2001 $5.25 $2.75
June 30, 2001 $2.90 $2.10
September 30, 2001 $3.10 $2.00
December 31, 2001 $3.30 $1.40
March 31, 2002 $2.00 $1.55
June 30, 2002 $4.00 $1.11
September 30, 2002 $1.85 $0.46
December 31, 2002 $0.51 $0.15
HOLDERS.
The number of record holders of Common Stock as of December 31, 2002 was
approximately 178.
DIVIDENDS.
The Company has never paid cash dividends on its Common Stock and does not
expect to pay any cash dividends on its Common Stock in the foreseeable future.
Pursuant to the terms of our Certificate of Designations, Preferences, Rights
and Limitations of Series A 8% Convertible Preferred Stock filed with the
15
Secretary of State of the state of Delaware on September 11, 2000, so long as
any shares of our Series A 8% Convertible Preferred Stock ("Series A Preferred
Stock") remain outstanding, we may not declare or pay any dividend or other
distribution upon our Common Stock, unless all amounts then due to the holders
of Series A Preferred Stock have been paid. As of March 31, 2003, 473 shares of
Series A Preferred Stock were outstanding. Pursuant to the terms of our
Certificate of Designation of Series B Convertible Preferred Stock and Series C
Convertible Preferred Stock filed with the Secretary of State of the state of
Delaware on September 23, 2002, so long as any shares of our Series C
Convertible Preferred Stock ("Series C Preferred Stock") remain outstanding, we
may not declare or pay any dividend or other distribution upon our Common
Stock, unless all amounts then due to the holders of Series C Preferred Stock
have been paid. As of March 31, 2003, no shares of Series C Preferred Stock
were outstanding.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS.
As of December 31, 2002, other than the individual compensation
arrangements set forth in the table below, the Company did not have any
compensation plans under which our equity securities are authorized for
issuance.
--------------------------------------------------------------------------------------------------------------
NUMBER OF SHARES OF WEIGHTED-AVERAGE NUMBER OF SECURITIES
COMMON STOCK TO BE EXERCISE PRICE OF REMAINING AVAILABLE FOR
ISSUED UPON EXERCISE OF OUTSTANDING OPTIONS, FUTURE ISSUANCE UNDER
OUTSTANDING OPTIONS WARRANTS AND RIGHTS EQUITY COMPENSATION
PLANS
--------------------------------------------------------------------------------------------------------------
EQUITY COMPENSATION PLANS
APPROVED BY SECURITY 0 $0.00 0
HOLDERS
--------------------------------------------------------------------------------------------------------------
EQUITY COMPENSATION PLANS
NOT APPROVED BY SECURITY 1,690,000 $0.23 0
HOLDERS
--------------------------------------------------------------------------------------------------------------
TOTAL 1,690,000 $0.23 0
--------------------------------------------------------------------------------------------------------------
On October 28, 2002, the Compensation Committee of the Board of Directors
of the Company granted three stock options to Nicholas J. Virca, our Chief
Executive Officer. One of the stock options granted to Mr. Virca represents the
right to purchase up to 1,000,000 shares of Common Stock at an exercise price
of $0.20 per share, which right was completely vested on the date of grant.
Another of the stock options granted to Mr. Virca represents the right to
purchase up to 500,000 shares of Common Stock at an exercise price of $0.20 per
share, which right will vest with respect to 125,000 shares on July 1, 2003 and
will continue to vest with respect to 125,000 shares each quarterly anniversary
thereafter until fully-vested. The last stock option granted to Mr. Virca
represents the right to purchase up to 165,000 shares of Common Stock at an
exercise price of $0.50 per share, which right was completely vested on the
date of grant. The Compensation Committee also granted a stock option to an
employee of the Company to purchase up to 25,000 shares of Common Stock at an
exercise price of $0.20 per share, which right was vested with respect to
12,500 shares on the date of grant and will vest with respect to the remaining
12,500 shares on December 30, 2003. Each of the foregoing options will expire
on December 30, 2008 and each of the foregoing options provide that the
optionholder may exercise the option on a "net issue" or "cashless" basis.
RECENT SALES OF UNREGISTERED SECURITIES.
As described in detail immediately above, on October 28, 2002, the
Compensation Committee of the Board of Directors of the Company granted three
stock options to Nicholas J. Virca, our Chief Executive Officer, to purchase up
to an aggregate of 1,665,000 shares of Common Stock and one stock option to an
employee of the Company to purchase up to 25,000 shares of Common Stock.
On October 31, 2002, the Company offered each holder of its Series A
Preferred Stock the right to exchange their shares of Series A Preferred Stock
for shares of Common Stock at an exchange rate of 600 shares of Common Stock
for each share of Series A Preferred Stock. The exchange offer expired on
November 27, 2002. On November 26, 2002, one of the holders of Series A
Preferred Stock accepted the exchange offer and exchanged 3,000 shares of
Series A Preferred Stock for 1,800,000 shares of Common Stock. The Company
received no remuneration for this exchange.
16
In December 2002, the Company closed sales of an aggregate of 8,809.3
shares of its Series C Preferred Stock to 7 investors for gross proceeds of
$88,093 in cash. Shares of Series C Preferred Stock are convertible at any time
after March 1, 2003 by the holders thereof into shares of Common Stock at the
initial conversion rate of 200 shares of Common Stock per share of Series C
Preferred Stock (an effective initial conversion price of $0.05 per share).
Each purchaser of Series C Preferred Stock represented their intention to
acquire shares of Series C Preferred Stock for investment only and not with a
view to or for sale in connection with any distribution thereof, and
appropriate legends were affixed to the share certificates to issued to each
purchaser of Series C Preferred Stock.
In connection with the purchases and sales of Series C Preferred Stock in
December 2002, the Company and one of the purchasers of Series C Preferred
Stock executed amendments to two warrants to purchase a total of 45,000 shares
of Common Stock held by such purchaser. Pursuant to the amendments, the per
share exercise price of each warrant was reduced to $0.50. Prior to the
execution of the amendments, each of these warrants had a per share exercise
price of $4.00 through December 31, 2002, and thereafter a per share exercise
price equal to the higher of $2.50 or the average closing price of the Common
Stock during the 20 trading days prior to December 31, 2002, not to exceed
$4.00. The Company received no remuneration for the amendment of the warrants.
In January 2003, pursuant to the terms of promissory notes issued by the
Company in October and December 2001, the Company issued an aggregate of
119,454 shares of Common Stock to the holders of such notes in payment of
accrued interest that was due such holders.
On March 4, 2003, the Board of Directors of the Company granted an option
to Evan M. Levine, our Chief Operating Officer, to purchase up to 1,000,000
shares of Common Stock at an exercise price of $0.50 per share, which right
vested with respect to 125,000 shares on April 1, 2003 and will continue to
vest with respect to 125,000 shares each quarterly anniversary thereafter until
fully-vested. The Board of Directors also granted an option to Joan Robbins,
our Chief Technical Officer, to purchase up to 300,000 shares of Common Stock
at an exercise price of $0.50 per share, which right vested with respect to
100,000 shares on the date of grant, will vest with respect to 100,000 shares
on March 4, 2004 and will vest with respect to 100,000 shares on March 4, 2005.
Each of the foregoing options will expire on December 30, 2008 and each of the
foregoing options provide that the optionholder may exercise the option on a
"net issue" or "cashless" basis.
On March 25, 2003, the Company issued three warrants to three individuals
in consideration of certain investment banking advice. The three warrants
represent the right to purchase 50,000, 50,000 and 10,000 shares of Common
Stock at an exercise price of $0.50 per share. Each warrant will expire on
March 25, 2006.
On March 25, 2003, the Company issued 75,000 shares of Common Stock and
two warrants to one entity in consideration of such entity's introduction of
the Company to investors that purchased shares of Common Stock between January
2003 and March 2003. Each of the two warrants represents the right to purchase
37,500 shares of Common Stock at an exercise price of $0.50 per share. Each
warrant will expire on March 25, 2006.
On March 26, 2003, the Board of Directors of the Company granted an option
to M. Ross Johnson, Ph.D., our Chairman of the Board, to purchase up to 500,000
shares of Common Stock at an exercise price of $0.50 per share, which right
vested with respect to 62,500 shares on April 1, 2003 and will continue to vest
with respect to 62,500 shares each quarterly anniversary thereafter until
fully-vested. The Board of Directors also granted an option to Steven M. Plumb,
CPA, our Chief Financial Officer, to purchase up to 100,000 shares of Common
Stock at an exercise price of $0.50 per share, which right vested with respect
to 12,500 shares on April 1, 2003 and will continue to vest with respect to
12,500 shares each quarterly anniversary thereafter until fully-vested. Each of
the foregoing options will expire on December 30, 2008 and each of the
foregoing options provide that the optionholder may exercise the option on a
"net issue" or "cashless" basis.
Between January 9, 2003 and March 31, 2003, the Company closed sales of an
aggregate of 1,589,856 shares of Common Stock to eight investors for gross
proceeds of $635,949 in cash. These purchasers of Common Stock represented
their intention to acquire the shares for investment only and not with a view
to or for sale in connection with any distribution thereof, and appropriate
legends will be affixed to the share certificates to be issued to these
purchasers of Common Stock.
17
In March 2003, all of the holders of Series C Preferred Stock converted
all of their shares of Series C Preferred Stock into an aggregate of 14,021,860
shares of Common Stock pursuant to the terms of our Certificate of Designation
of Series B Convertible Preferred Stock and Series C Convertible Preferred
Stock filed with the Secretary of State of the state of Delaware on September
23, 2002. As of March 31, 2003, no shares of Series C Preferred Stock were
outstanding.
On April 11, 2003, the Company issued 25,785 shares of Common Stock to an
entity in consideration of such entity's introduction of the Company to
investors that purchased shares of Common Stock in January 2003.
In April 2003, pursuant to the terms of promissory notes issued by the
Company in October and December 2001, the Company issued an aggregate of 23,411
shares of Common Stock to the holders of such notes in payment of accrued
interest that was due such holders.
Except as otherwise noted above, no commission was paid or given, directly
or indirectly, for soliciting any of the above sales, amendments, issuances,
exchanges or conversions.
The issuances of the above securities were deemed to be exempt from
registration under the Securities Act of 1933, as amended (the "Securities
Act"), in reliance on Section 4(2) of the Securities Act or Regulation D
promulgated under the Securities Act, as transactions by an issuer not
involving a public offering or, in the case of the exchange offer and the
conversion of all of the outstanding shares of Series C Preferred Stock, in
reliance on 3(a)(9) of the Securities Act, as an exchange by the Company with
one of its security holders where no commission or other remuneration is paid
or given directly or indirectly for soliciting such exchange.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
This Management's Discussion and Analysis of Financial Condition and Results of
Operations should be read in conjunction with the accompanying consolidated
financial statements and notes included in this report.
GENERAL
As a development-stage biomedical research company, we have not yet
generated any revenues from any of our products. We have had no earnings since
inception, and have an accumulated deficit of $26,149,069 as of December 31,
2002. Our expenses have related mainly to costs incurred in research activities
for the development of our drug candidates and from administrative expenses
required to support these efforts. We expect losses to continue for the near
future, and such losses will likely increase as human clinical trials are
undertaken in the U.S. and Europe for our cancer and HIV drugs. Future
profitability will be dependent upon our ability to complete the development of
our pharmaceutical products, obtain necessary regulatory approvals and
effectively market such products. Also, future profitability will require that
the Company establish agreements with other parties for the clinical testing,
manufacturing, commercialization and sale of its products.
Since inception, the Company has generally funded itself through
short-term loans and the sale of equity securities. We will need to obtain
additional financing in order to sustain our efforts, as discussed below under
"Liquidity and Capital Resources."
RESULTS OF OPERATIONS
Year Ended December 31, 2002 compared with year ended December 31, 2001.
We used the proceeds of our August 2000 equity financing to significantly
expand our research and development efforts in connection with our EradicAide
and BlockAide/CR products for HIV/AIDS. Results in preliminary, small-scale
non-human primate trials warranted an expansion of the Company's research
program into larger scale non-human primate trials conducted through
researchers at M.D. Anderson. In addition, we continued to fund research and
development efforts in connection with CoFactor and Thiovir. However as these
18
funds were expended our research efforts have been reduced. Recent successful
capital acquisition efforts will enable the Company to again expand its
research and development efforts. Accordingly, our research and development
expenses decreased from $946,419 in the year ended December 31, 2001 to
$282,966 in the year ending December 31, 2002.
General and administrative expenses decreased by approximately 32%, from
$2,038,130 in 2001 to $1,388,020 in 2002 primarily due to efforts to streamline
operations and reduce overhead.
Depreciation and amortization decreased by approximately 94%, from
$7,672,112 in 2001 to $428,109 in 2002 due to amortization of goodwill that was
recorded in 2001 and not recorded in 2002 due to the write-off of all goodwill
at December 31, 2001 due to the impairment of the goodwill at that time.
Amortization of goodwill in 2001 was $7,602,836.
Impairment loss - write off of goodwill decreased from $5,702,130 in 2001
to zero in 2002. Through December 31, 2001, the Company had not been able to
raise sufficient capital to ensure future funding of its research and
development; consequently, the Company reviewed the carrying value of goodwill
for impairment and reduced its carrying value to zero through a noncash charge
of $5,702,130 at December 31, 2001.
Interest expense increased by 347%, from $12,019 in 2001 to $53,696 in
2002 due to interest expense incurred in relation to the Bridge Financing Notes
Payable issued in October and December 2001.
As a result of the factors described above, the Company's net loss
decreased from $(16,339,120) in 2001 to $(2,105,727) in 2002 and the loss per
share decreased from $(1.12) in 2001 to $(0.15) in 2002.
LIQUIDITY AND CAPITAL RESOURCES
The Company has incurred negative cash flows since its inception, and has
funded its activities primarily through short-term loans and sales of equity
securities. As of December 31, 2002 and 2001, the Company had cash and
equivalents of $103,928 and $164,476, respectively.
The Company does not have any bank or any other commercial financing
arrangements. The Company's operations over the last twelve months have been
funded by the proceeds from private equity placements.
To continue operations as a going concern through at least December 31,
2003, the Company will need to raise a total of approximately $2,000,000 for
the second half of calendar 2003 and will require approximately $1,000,000 for
overhead expenses and another $2,000,000 to fund expanded testing of its drug
candidates in 2003. (See "Risk Factors," below.)
In December 2001, we obtained FDA approval to commence a Phase II clinical
trial of our CoFactor product. In March 2002, we completed planning for a Phase
I clinical trial of our BlockAide/CR product in affiliation with Paraxel, Inc.,
a contract research organization, at a hospital in Berlin, Germany. At that
time, we did not have the resources to conduct these two trials and are seeking
a strategic partner to finance and conduct the CoFactor trial or to raise the
necessary money on our own for the CoFactor trial. We intend to finance the
BlockAide/CR trial as well as an EradicAide trial on our own at this time.
While the Company has had discussions with a number of potential CoFactor
development partners, it has not yet entered into any agreement for the conduct
and financing of clinical trials. If we are unable to enter into such an
agreement on acceptable terms, we will have to delay such clinical trials or
seek an outright sale of our CoFactor rights. The Company has not had
discussions with potential development partners for its HIV drugs.
The Company's dependence on raising additional capital will continue at
least until the Company is able to begin marketing its new technologies. The
Company's future capital requirements and the adequacy of its financing depend
upon numerous factors, including the successful commercialization of the
Company's drug candidates, progress in its product development efforts,
progress with preclinical studies and clinical trials, the cost and timing of
production arrangements, the development of effective sales and marketing
activities, the cost of filing, prosecuting, defending and enforcing
intellectual property rights, competing technological and market developments,
and the development of strategic alliances for the marketing of its products.
The Company will be required to obtain such funding through equity or debt
financing, strategic alliances with corporate partners and others, or through
19
other sources not yet identified. The Company does not have any committed
sources of additional financing, and cannot guarantee that additional funding
will be available on acceptable terms, if at all. If adequate funds are not
available, the Company may be required to delay, scale-back or eliminate
certain aspects of its operations or attempt to obtain funds through
arrangements with collaborative partners or others that may require the Company
to relinquish rights to certain of its technologies, product candidates,
products or potential markets.
QUANTITATIVE AND QUALITATIVE INFORMATION ABOUT MARKET RISK
We do not engage in trading market-risk sensitive instruments and do not
purchase hedging instruments or "other than trading" instruments that are
likely to expose us to market risk, whether interest rate, foreign currency
exchange, commodity price or equity price risk. We have no outstanding debt
instruments, have not entered into any forward or future contracts, and have
purchased no options and entered into no swaps. We have no credit lines or
other borrowing facilities, and do not view ourselves as subject to interest
rate fluctuation risk at the present time.
CRITICAL ACCOUNTING POLICIES
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Management
believes that the estimates utilized in preparing its financial statements
are reasonable and prudent. Actual results could differ from those
estimates.
The most significant accounting estimates relate to valuing equity
transactions as described below.
ACCOUNTING FOR STOCK-BASED COMPENSATION
The Company applies Statement of Financial Accounting Standards No. 123
and related interpretations in accounting for employee stock-based
compensation, and includes the required footnote disclosures thereon.
The Company accounts for nonemployee stock-based compensation in
accordance with EITF 96-18. Amounts are based on the fair value of the
consideration received or the fair value of the equity instruments issued,
whichever is more reliably measurable.
The value assigned to stock warrants granted to non-employees are
accounted for in accordance with SFAS No. 123 and Emerging Issues Task
Force (EITF) 96-18, Accounting for Equity Instruments That Are Issued to
Other Than Employees for Acquiring, or in Conjunction with Selling, Goods
or Services, which require that such costs be measured at the end of each
reporting period to account for changes in the fair value of the Company's
20
common stock until the options are vested. The Company values warrants
using the Black-Scholes pricing model. Common stock is valued using the
market price of common stock on the measurement date as defined in EITF
96-18. Series A and Series B preferred stock are valued at the liquidation
value of $1,000 and $10 per share, respectively.
REVENUE RECOGNITION
The Company recognizes revenue at the time service is performed on
commercial contracts and collectability is assured. Revenue from
government grants is a reimbursement for expenditures associated with the
research. The Company submits bills to the grant agency and revenue is
recognized at the time the expenses are reimbursed.
RESEARCH AND DEVELOPMENT COSTS
All research and development costs are expensed as incurred, including
Company-sponsored research and development and cost of patent rights and
technology rights under license agreements that have no alternative future
use when incurred.
IMPAIRMENT OF LONG-LIVED ASSETS
In the event that facts and circumstances indicate that property and
equipment and intangible or other long-lived assets with definitive lives
21
may be impaired, an evaluation of the recoverability of currently recorded
costs will be made. If an evaluation is required, the estimated value of
undiscounted future net cash flows associated with the asset is compared
to the asset's carrying value to determine if impairment exists. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds
the fair value of the assets.
INCOME TAXES
Income taxes are accounted for using the asset and liability method under
which deferred tax assets and liabilities are recognized for estimated
future tax consequences attributable to temporary differences between the
financial statement carrying amounts of existing assets and liabilities
and their respective tax bases, and operating loss and tax credit
carryforwards. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the enactment date.
Deferred tax expense or benefit is recognized as a result of the change in
the asset or liability during the period.
NEW ACCOUNTING PRONOUNCEMENTS
The FASB issued Statement of Financial Accounting Standards No.
142, Goodwill and Other Intangible Assets ("SFAS No. 142"), which was effective
for the Company as of January 1, 2002. SFAS No. 142 requires that goodwill and
other intangible assets with indefinite lives no longer be amortized. SFAS No.
142 further requires that the fair value of goodwill and other intangible
assets with indefinite lives be tested for impairment upon adoption of this
statement, annually and upon the occurrence of certain events and be written
down to fair value if considered impaired. SFAS No. 142 eliminates the annual
amortization expense related to goodwill. The adoption of SFAS No. 142 did not
have a material impact on the Company's financial statements because, as of
December 31, 2002 and 2001, the Company had no goodwill or other intangible
assets with indefinite lives.
The FASB issued Statement of Financial Accounting Standards No. 143,
Accounting for Asset Retirement Obligations ("SFAS No. 143"), which addresses
financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. This statement applies to all entities that have legal obligations
associated with the retirement of long-lived assets that result from the
acquisition, construction, development, or normal use of the assets. SFAS No.
143 will be effective for the Company as of January 1, 2003. The Company does
not expect the adoption of SFAS No. 143 to have a significant impact on its
financial condition or results of operations.
The FASB issued Statement of Financial Accounting Standards No. 144,
Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS No.
144"), which addresses financial accounting and reporting for the impairment or
disposal of long-lived assets. While SFAS No. 144 supersedes SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed of, it retains many of the fundamental provisions of that
statement. SFAS No. 144 also supersedes the accounting and reporting provisions
of APB Opinion No. 30, Reporting the Results of Operations - Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual, and
Infrequently Occurring Events and Transactions, for the disposal of a segment
of a business. SFAS No. 144 was effective for the Company as of January 1,
2002. The adoption of SFAS No. 144 did not have a significant impact on its
financial condition or results of operations.
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148, Accounting for Stock-Based Compensation - Transition and
Disclosure - an amendment of FASB Statement No. 123 ("SFAS No. 148"). SFAS No.
148 amends SFAS No. 123 to provide alternative methods of transition
for a voluntary change to the fair value based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent
disclosures in both annual and interim financial statements about the method of
accounting for stock-based employee compensation and the effect of the method
used on reported results. SFAS No. 148 is effective for the fiscal years
beginning after December 15, 2002. The Company already uses SFAS No. 123 to
account for stock-based employee compensation.
The adoption of these new pronouncements did not have or is not expected
to have a material effect on the Company's consolidated financial position or
results of operations.
22
RISK FACTORS
If any of the following risks actually occur, our business, results of
operations and financial condition could suffer significantly.
WE HAVE CERTAIN FINANCIAL STATEMENT ITEMS THAT RAISE SUBSTANTIAL
DOUBT AS TO OUR ABILITY TO CONTINUE AS A GOING CONCERN.
The Company has suffered recurrig losses from operations resulting in an
accumulated deficit of $26,149,069 as of December 31, 2002. Since the Company
presently has no source of revenues and is committed to continuing its product
research and development program, significant expenditures and losses will
continue until development of new products is completed and such products have
been clinically tested, approved by the FDA and successfully marketed. In
addition, the Company has funded its operations primarily through the sale of
Company securities, and has had limited working capital for its product
development and other activities.
WE HAVE NO CURRENT PRODUCT SALES REVENUES OR PROFITS.
The Company has devoted its resources to developing a new generation of
therapeutic drug products, but such products cannot be marketed until clinical
testing is completed and governmental approvals have been obtained.
Accordingly, there is no current source of revenues, much less profits, to
sustain the Company's present activities, and no revenues will likely be
available until, and unless the new products are clinically tested, approved by
the FDA and successfully marketed, either by the Company or a marketing
partner, an outcome which the Company is not able to guarantee.
IT IS UNCERTAIN THAT THE COMPANY WILL HAVE ACCESS TO FUTURE CAPITAL OR
GOVERNMENT GRANTS.
It is not expected that the Company will generate positive cash flow from
operations for at least the next several years. As a result, substantial
additional equity or debt financing or the receipt of one or more government
grants for research and development and/or clinical development may be required
to fund our activities. We cannot assure that we will be able to consummate any
such financing on favorable terms, if at all, or receive any such government
grants or that such financing or government grants will be adequate to meet our
capital requirements. Any additional equity financing could result in
substantial dilution to stockholders, and debt financing, if available, may
involve restrictive covenants which preclude the Company from making
distributions to stockholders and taking other actions beneficial to
stockholders. If adequate funds are not available, the Company may be required
to delay or reduce the scope of its drug development program or attempt to
continue development by entering into arrangements with collaborative partners
or others that may require the Company to relinquish some or all of its rights
to proprietary drugs. The inability to fund its capital requirements would have
a material adverse effect on the Company.
THE COMPANY IS NOT CERTAIN THAT IT WILL BE SUCCESSFUL IN THE DEVELOPMENT
OF ITS DRUG CANDIDATES.
The successful development of any new drug is highly uncertain and is
subject to a number of significant risks. Our drug candidates, which are in a
development stage, require significant, time-consuming and costly development,
testing and regulatory clearance. This process typically takes several years
and can require substantially more time. Risks include, among others, the
possibility that a drug candidate will (i) be found to be ineffective or
unacceptably toxic, (ii) have unacceptable side effects, (iii) fail to receive
necessary regulatory clearances, (iv) not achieve broad market acceptance, (v)
be subject to competition from third parties who may market equivalent or
superior products, or (vi) be affected by third parties holding proprietary
rights that will preclude the Company from marketing a drug product. There can
be no assurance that the development of drug candidates will demonstrate the
efficacy and safety of a drug candidate as a therapeutic drug, or, even if
demonstrated, that there will be sufficient advantages to its use over other
drugs or treatments so as to render the drug product commercially viable. In
the event that the Company is not successful in developing and commercializing
one or more drug candidates, investors are likely to realize a loss of their
entire investment.
POSITIVE RESULTS IN PRECLINICAL AND EARLY CLINICAL TRIALS DO NOT ENSURE
THAT FUTURE CLINICAL TRIALS WILL BE SUCCESSFUL OR THAT DRUG CANDIDATES WILL
RECEIVE ANY NECESSARY REGULATORY APPROVALS FOR THE MARKETING, DISTRIBUTION OR
SALE OF SUCH DRUG CANDIDATES.
23
Success in preclinical and early clinical trials does not ensure that
large-scale clinical trials will be successful. Clinical results are frequently
susceptible to varying interpretations that may delay, limit or prevent
regulatory approvals. The length of time necessary to complete clinical trials
and to submit an application for marketing approval for a final decision by a
regulatory authority varies significantly and may be difficult to predict.
THE COMPANY WILL FACE INTENSE COMPETITION FROM OTHER COMPANIES IN THE
PHARMACEUTICAL INDUSTRY.
The Company is engaged in a segment of the pharmaceutical industry that is
highly competitive and rapidly changing. If successfully developed and
approved, any of the Company's drug candidates will likely compete with several
existing therapies. In addition, other companies are pursuing the development
of pharmaceuticals that target the same diseases as are targeted by the drugs
being developed by the Company. The Company anticipates that it will face
intense and increasing competition in the future as new products enter the
market and advanced technologies become available. We cannot assure that
existing products or new products developed by competitors will not be more
effective, or more effectively marketed and sold than those by the Company.
Competitive products may render the Company's drugs obsolete or noncompetitive
prior to the Company's recovery of development and commercialization expenses.
Many of the Company's competitors will also have significantly greater
financial, technical and human resources and will likely be better equipped to
develop, manufacture and market products. In addition, many of these
competitors have extensive experience in preclinical testing and clinical
trials, obtaining FDA and other regulatory approvals and manufacturing and
marketing pharmaceutical products. A number of these competitors also have
products that have been approved or are in late-stage development and operate
large, well-funded research and development programs. Smaller companies may
also prove to be significant competitors, particularly through collaborative
arrangements with large pharmaceutical and biotechnology companies.
Furthermore, academic institutions, government agencies and other public and
private research organizations are becoming increasingly aware of the
commercial value of their inventions and are actively seeking to commercialize
the technology they have developed. Accordingly, competitors may succeed in
commercializing products more rapidly or effectively than the Company, which
would have a material adverse effect on the Company.
THERE IS NO ASSURANCE THAT THE COMPANY'S PRODUCTS WILL HAVE MARKET
ACCEPTANCE.
The success of the Company will depend in substantial part on the extent
to which a drug product achieves market acceptance. The degree of market
acceptance will depend upon a number of factors, including (i) the receipt and
scope of regulatory approvals, (ii) the establishment and demonstration in the
medical community of the safety and efficacy of a drug product, (iii) the
product's potential advantages over existing treatment methods and (iv)
reimbursement policies of government and third party payors. We cannot predict
or guarantee that physicians, patients, healthcare insurers or maintenance
organizations, or the medical community in general, will accept or utilize any
drug product of the Company.
THE UNAVAILABILITY OF HEALTH CARE REIMBURSEMENT FOR ANY OF OUR PRODUCTS
WILL LIKELY ADVERSELY IMPACT OUR ABILITY TO EFFECTIVELY MARKET SUCH PRODUCTS
AND WHETHER HEALTH CARE REIMBURSEMENT WILL BE AVAILABLE FOR ANY OF OUR PRODUCTS
IS UNCERTAIN.
The Company's ability to commercialize its technology successfully will
depend in part on the extent to which reimbursement for the costs of such
products and related treatments will be available from government health
administration authorities, private health insurers and other third-party
payors. Significant uncertainty exists as to the reimbursement status of
newly-approved medical products. The Company cannot guarantee that adequate
third-party insurance coverage will be available for the Company to establish
and maintain price levels sufficient for realization of an appropriate return
on its investments in developing new therapies. Government, private health
insurers, and other third-party payors are increasingly attempting to contain
health care costs by limiting both coverage and the level of reimbursement for
new therapeutic products approved for marketing by the FDA. Accordingly, even
if coverage and reimbursement are provided by government, private health
insurers, and third-party payors for uses of the Company's products, the market
acceptance of these products would be adversely affected if the amount of
reimbursement available for the use of the Company's therapies proved to be
unprofitable for health care providers.
24
UNCERTAINTIES RELATED TO HEALTH CARE REFORM MEASURES MAY AFFECT THE
COMPANY'S SUCCESS.
There have been a number of federal and state proposals during the last
few years to subject the pricing of health care goods and services, including
prescription drugs, to government control and to make other changes to U.S.
health care system. It is uncertain which legislative proposals will be adopted
or what actions federal, state, or private payors for health care treatment and
services may take in response to any health care reform proposals or
legislation. The Company cannot predict the effect health care reforms may have
on its business, and there is no guarantee that any such reforms will not have
a material adverse effect on the Company.
FURTHER TESTING OF OUR DRUG CANDIDATES WILL BE REQUIRED AND THERE IS NO
ASSURANCE OF FDA APPROVAL.
The FDA and comparable agencies in foreign countries impose substantial
requirements upon the introduction of medical products, through lengthy and
detailed laboratory and clinical testing procedures, sampling activities and
other costly and time-consuming procedures. Satisfaction of these requirements
typically takes several years or more and varies substantially based upon the
type, complexity, and novelty of the product.
The effect of government regulation and the need for FDA approval may be
to delay marketing of new products for a considerable period of time, to impose
costly procedures upon the Company's activities, and to provide an advantage to
larger companies that compete with the Company. There can be no assurance that
FDA or other regulatory approval for any products developed by the Company will
be granted on a timely basis or at all. Any such delay in obtaining, or failure
to obtain, such approvals would materially and adversely affect the marketing
of any contemplated products and the ability to earn product revenue. Further,
regulation of manufacturing facilities by state, local, and other authorities
is subject to change. Any additional regulation could result in limitations or
restrictions on the Company's ability to utilize any of its technologies,
thereby adversely affecting the Company's operations.
Human pharmaceutical products are subject to rigorous preclinical testing
and clinical trials and other approval procedures mandated by the FDA and
foreign regulatory authorities. Various federal and foreign statutes and
regulations also govern or influence the manufacturing, safety, labeling,
storage, record keeping and marketing of pharmaceutical products. The process
of obtaining these approvals and the subsequent compliance with appropriate
U.S. and foreign statutes and regulations are time-consuming and require the
expenditure of substantial resources. In addition, these requirements and
processes vary widely from country to country.
Among the uncertainties and risks of the FDA approval process are the
following: (i) the possibility that studies and clinical trials will fail to
prove the safety and efficacy of the drug, or that any demonstrated efficacy
will be so limited as to significantly reduce or altogether eliminate the
acceptability of the drug in the marketplace, (ii) the possibility that the
costs of development, which can far exceed the best of estimates, may render
commercialization of the drug marginally profitable or altogether unprofitable,
and (iii) the possibility that the amount of time required for FDA approval of
a drug may extend for years beyond that which is originally estimated. In
addition, the FDA or similar foreign regulatory authorities may require
additional clinical trials, which could result in increased costs and
significant development delays. Delays or rejections may also be encountered
based upon changes in FDA policy and the establishment of additional
regulations during the period of product development and FDA review. Similar
delays or rejections may be encountered in other countries.
THE COMPANY'S SUCCESS WILL BE DEPENDENT ON LICENSES AND PROPRIETARY RIGHTS
IT RECEIVES FROM OTHER PARTIES, AND ON ANY PATENTS IT MAY OBTAIN.
Our success will depend in large part on the ability of the Company and
its licensors to (i) maintain license and patent protection with respect to
their drug products, (ii) defend patents and licenses once obtained, (iii)
maintain trade secrets, (iv) operate without infringing upon the patents and
proprietary rights of others and (iv) obtain appropriate licenses to patents or
proprietary rights held by third parties if infringement would otherwise occur,
both in the U.S. and in foreign countries. The Company has obtained licenses to
patents and other proprietary rights from M.D. Anderson, USC and the NIH.
25
The patent positions of pharmaceutical companies, including those of the
Company, are uncertain and involve complex legal and factual questions. There
is no guarantee that the Company or its licensors have or will develop or
obtain the rights to products or processes that are patentable, that patents
will issue from any of the pending applications or that claims allowed will be
sufficient to protect the technology licensed to the Company. In addition, we
cannot assure that any patents issued to or licensed by the Company will not be
challenged, invalidated, infringed or circumvented, or that the rights granted
thereunder will provide competitive disadvantages to the Company.
Litigation, which could result in substantial cost, may also be necessary
to enforce any patents to which the Company has rights, or to determine the
scope, validity and unenforceability of other parties' proprietary rights,
which may affect the rights of the Company. U.S. patents carry a presumption of
validity and generally can be invalidated only through clear and convincing
evidence. There can be no assurance that the Company's licensed patents would
be held valid by a court or administrative body or that an alleged infringer
would be found to be infringing. The mere uncertainty resulting from the
institution and continuation of any technology-related litigation or
interference proceeding could have a material adverse effect on the Company
pending resolution of the disputed matters.
The Company may also rely on unpatented trade secrets and know-how to
maintain its competitive position, which it seeks to protect, in part, by
confidentiality agreements with employees, consultants and others. There can be
no assurance that these agreements will not be breached or terminated, that the
Company will have adequate remedies for any breach, or that trade secrets will
not otherwise become known or be independently discovered by competitors.
THE COMPANY'S LICENSE AGREEMENTS CAN BE TERMINATED IN THE EVENT OF A
BREACH.
The license agreements pursuant to which the Company has licensed its core
technologies for its potential drug products permit the licensors, respectively
M.D. Anderson, NIH and USC, to terminate the agreement under certain
circumstances, such as the failure by the licensee to use its reasonable best
efforts to commercialize the subject drug or the occurrence of any other
uncured material breach by the licensee. The license agreements also provide
that the licensor is primarily responsible for obtaining patent protection for
the technology licensed, and the licensee is required to reimburse it for the
costs it incurs in performing these activities. The license agreements also
require the payment of specified royalties. Any inability or failure to observe
these terms or pay these costs or royalties could result in the termination of
the applicable license agreement in certain cases. The termination of any
license agreement would have a material adverse effect on the Company.
PROTECTING OUR PROPRIETARY RIGHTS IS DIFFICULT AND COSTLY.
The patent positions of pharmaceutical and biotechnology companies can be
highly uncertain and involve complex legal and factual questions. Accordingly,
we cannot predict the breadth of claims allowed in these companies' patents or
whether the Company may infringe or be infringing these claims. Patent disputes
are common and could preclude the commercialization of our products. Patent
litigation is costly in its own right and could subject us to significant
liabilities to third parties. In addition, an adverse decision could force us
to either obtain third-party licenses at a material cost or cease using the
technology or product in dispute.
THE COMPANY'S SUCCESS IS DEPENDENT ON ITS KEY PERSONNEL.
The Company is dependent on a small management group and on independent
researchers, some of whom are inventors of the patents licensed to the Company
for core technologies and drugs developed at M.D. Anderson and USC. Scientific
personnel may from time to time serve as consultants to the Company and may
devote a portion of their time to the Company's business, as well as continue
to devote substantial time to the furtherance of the Company's sponsored
research at M.D. Anderson, USC and other affiliated institutions as may be
agreed to in the future, but such personnel are not employees of the Company
and are not bound under written employment agreements. The services of such
persons are important to the Company, and the loss of any of these services may
adversely affect the Company.
26
WE MAY BE UNABLE TO RETAIN SKILLED PERSONNEL AND MAINTAIN KEY
RELATIONSHIPS.
The success of our business depends, in large part, on our ability to
attract and retain highly qualified management, scientific and other personnel,
and on our ability to develop and maintain important relationships with leading
research institutions and consultants and advisors. Competition for these types
of personnel and relationships is intense from numerous pharmaceutical and
biotechnology companies, universities and other research institutions. There
can be no assurance that the Company will be able to attract and retain such
individuals on commercially acceptable terms or at all, and the failure to do
so would have a material adverse effect on the Company.
WE CURRENTLY HAVE NO SALES OR MARKETING CAPABILITY.
The Company does not have marketing or sales personnel. The Company will
have to develop a sales force, or rely on marketing partners or other
arrangements with third parties for the marketing, distribution and sale of any
drug product which is ready for distribution. There is no guarantee that the
Company will be able to establish marketing, distribution or sales capabilities
or make arrangements with third parties to perform those activities on terms
satisfactory to the Company, or that any internal capabilities or third party
arrangements will be cost-effective.
In addition, any third parties with which the Company may establish
marketing, distribution or sales arrangements may have significant control over
important aspects of the commercialization of a drug product, including market
identification, marketing methods, pricing, composition of sales force and
promotional activities. There can be no assurance that the Company will be able
to control the amount and timing of resources that any third party may devote
to the products of the Company or prevent any third party from pursuing
alternative technologies or products that could result in the development of
products that compete with, and/or the withdrawal of support for, the products
of the Company.
THE COMPANY DOES NOT HAVE MANUFACTURING CAPABILITIES AND MAY NOT BE ABLE
TO EFFICIENTLY DEVELOP MANUFACTURING CAPABILITIES OR CONTRACT FOR SUCH SERVICES
FROM THIRD PARTIES ON COMMERCIALLY ACCEPTABLE TERMS.
The Company will not have any manufacturing capacity. When required, the
Company will seek to establish relationships with third-party manufacturers for
the manufacture of clinical trial material and the commercial production of a
drug product just as it has with Merck Eprova AG and Multiple Peptide Systems,
Inc. There can be no assurance that the Company will be able to establish
relationships with third-party manufacturers on commercially acceptable terms
or that third-party manufacturers will be able to manufacture a drug product on
a cost-effective basis in commercial quantities under good manufacturing
practices mandated by the FDA.
The dependence upon third parties for the manufacture of products may
adversely affect future costs and the ability to develop and commercialize a
drug product on a timely and competitive basis. Further, there can be no
assurance that manufacturing or quality control problems will not arise in
connection with the manufacture of the drug product or that third party
manufacturers will be able to maintain the necessary governmental licenses and
approvals to continue manufacturing such products. Any failure to establish
relationships with third parties for its manufacturing requirements on
commercially acceptable terms would have a material adverse effect on the
Company.
THE COMPANY DOES NOT HAVE ITS OWN RESEARCH FACILITIES AND WILL BE
DEPENDENT ON THIRD PARTIES FOR DRUG DEVELOPMENT.
The Company does not have its own research and development facilities and
engages consultants and independent contract research organizations to design
and conduct clinical trials in connection with the development of a drug. As a
result, these important aspects of a drug's development will be outside the
direct control of the Company. In addition, there can be no assurance that such
third parties will perform all of their obligations under arrangements with the
Company or will perform those obligations satisfactorily.
27
IN THE FUTURE, WE ANTICIPATE THAT WE WILL NEED TO OBTAIN ADDITIONAL OR
INCREASED PRODUCT LIABILITY INSURANCE COVERAGE AND IT IS UNCERTAIN THAT SUCH
INCREASED OR ADDITIONAL INSURANCE COVERAGE CAN BE OBTAINED ON COMMERCIALLY
REASONABLE TERMS.
The business of the Company will expose it to potential product liability
risks that are inherent in the testing, manufacturing and marketing of
pharmaceutical products. There can be no assurance that product liability
claims will not be asserted against the Company. The Company intends to obtain
additional limited product liability insurance for its clinical trials,
directly or through its marketing development partners or CRO (contract
research organization) partners, when they begin in the U.S. and to expand its
insurance coverage if and when the Company begins marketing commercial
products. However, there can be no assurance that the Company will be able to
obtain product liability insurance on commercially acceptable terms or that the
Company will be able to maintain such insurance at a reasonable cost or in
sufficient amounts to protect against potential losses. A successful product
liability claim or series of claims brought against the Company could have a
material adverse effect on the Company.
INSURANCE COVERAGE IS INCREASINGLY MORE DIFFICULT TO OBTAIN OR MAINTAIN.
Obtaining insurance for our business, property and products is
increasingly more costly and narrower in scope, and we may be required to
assume more risk in the future. If we are subject to third-party claims or
suffer a loss or damage in excess of our insurance coverage, we may be required
to share that risk in excess of our insurance limits. Furthermore, any first-
or third-party claims made on any of our insurance policies may impact our
ability to obtain or maintain insurance coverage at reasonable costs or at all
in the future.
THE MARKET PRICE OF OUR SHARES, LIKE THAT OF MANY BIOTECHNOLOGY COMPANIES,
IS HIGHLY VOLATILE.
Market prices for the Company's Common Stock and the securities of other
medical and biomedical technology companies have been highly volatile and may
continue to be highly volatile in the future. Factors such as announcements of
technological innovations or new products by the Company or its competitors,
government regulatory action, litigation, patent or proprietary rights
developments, and market conditions for medical and high technology stocks in
general can have a significant impact on any future market for the Common
Stock.
WE ARE NOT PAYING DIVIDENDS ON OUR COMMON STOCK.
The Company has never paid cash dividends on Common Stock, and does not
intend to do so in the foreseeable future.
THE ISSUANCE OF SHARES OF OUR PREFERRED STOCK MAY ADVERSELY AFFECT OUR
COMMON STOCK.
The Board of Directors is authorized to designate one or more series and
to fix the rights, preferences, privileges and restrictions thereof, without
any action by the stockholders. The designation and issuance of such shares of
our preferred stock may adversely affect the Common Stock, if the rights,
preferences and privileges of such preferred stock (i) restrict the declaration
or payment of dividends on Common Stock, (ii) dilute the voting power of Common
Stock, (iii) impair the liquidation rights of the Common Stock or (iv) delay or
prevent a change in control of the Company from occurring, among other
possibilities.
UNDER PROVISIONS OF THE COMPANY'S CERTIFICATE OF INCORPORATION, BYLAWS AND
DELAWARE LAW, THE COMPANY'S MANAGEMENT MAY BE ABLE TO BLOCK OR IMPEDE A CHANGE
IN CONTROL.
The Company's Certificate of Incorporation authorizes the Board of
Directors (the "Board") to issue shares of undesignated preferred stock without
stockholder approval on such terms as the Board may determine. The rights of
the holders of Common Stock will be subject to, and may be adversely affected
by, the rights of the holders of any such preferred stock that may be issued in
the future. Moreover, the issuance of preferred stock may make it more
difficult for a third party to acquire, or may discourage a third party from
acquiring, a majority of the voting stock. These and other provisions of the
Certificate of Incorporation and the by-laws, as well as certain provisions of
Delaware law, could delay or impede the removal of incumbent directors and
could make more difficult a merger, tender offer or proxy contest involving a
change of control of the Company, even if such events could be beneficial to
the interest of the stockholders as a whole. Such provisions could limit the
price that certain investors might be willing to pay in the future for the
Common Stock.
28
OFFICERS' AND DIRECTORS' LIABILITIES ARE LIMITED UNDER DELAWARE LAW.
Pursuant to the Company's Certificate of Incorporation and by-laws, as
authorized under applicable Delaware law, directors are not liable for monetary
damages for breach of fiduciary duty, except in connection with a breach of the
duty of loyalty, for acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of law, for dividend payments or
stock repurchases illegal under Delaware law or for any transaction in which a
director has derived an improper personal benefit. The Certificate of
Incorporation and by-laws provide that the Company must indemnify its officers
and directors to the fullest extent permitted by Delaware law for all expenses
incurred in the settlement of any actions against such persons in connection
with their having served as officers or directors.
ITEM 7. FINANCIAL STATEMENTS.
See the Financial Statements and Reports of J.H. Cohn LLP and KPMG LLP set
forth in Item 13, which are incorporated herein by reference.
ITEM 8. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On February 10, 2003, we filed a current report on Form 8-K to report a
change in independent accountants. There were no disagreements with our
preceding independent accountants on any matter of accounting principles or
practices, financial statement disclosure, or auditing scope or procedure.
PART III
ITEM 9. DIRECTOR, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT.
DIRECTORS, EXECUTIVE OFFICERS AND SIGNIFICANT EMPLOYEES.
The names of the Company's Directors and executive officers, including
those persons nominated or chosen to become such, and significant employees as
of April 1, 2003 and certain information about each them are set forth below:
NAME AGE POSITION(S) WITH THE COMPANY
--------------------------------------------------------------------------------------------------------
Nicholas J. Virca 56 Chief Executive Officer, President, Secretary and Director
M. Ross Johnson, Ph.D. (1)(2) 58 Chairman of the Board
Evan Levine (1)(2) 37 Chief Operating Officer and Director
Steven M. Plumb, CPA 43 Chief Financial Officer
Joan M. Robbins 42 Chief Technical Officer
----------------------------------------------------
(1) Member of the Audit Committee of the Board of Directors.
(2) Member of the Compensation Committee of the Board of Directors.
M. Ross Johnson, Ph.D. Dr. Johnson has served as our Chairman of the Board
since October 2002. Since October 2000, Dr. Johnson has also served as a
Director for Biokeys, Inc., our wholly owned subsidiary. Dr. Johnson is also
currently Chief Executive Officer, Director and Co-Founder of Parion Sciences,
Inc. He has served on numerous boards and currently holds additional board
positions with Cortex Pharmaceuticals, Inc. (COR), ChemCodes, Inc., the Board
of Governors of Research Triangle Institute and the University of North
Carolina Education Advancement Board. He also currently serves on the Advisory
Board of the Chemistry Department at the University of California at Berkley
and the University of North Carolina at Chapel Hill. From 1995 to 1999, he was
President, Chief Executive Officer and Chief Scientific Officer of Trimeris,
Inc. (TRMS), a company he took public in 1997. From 1987 to 1994, he was Vice
President of Chemistry at Glaxo Inc. (GSK) where he was part of the original
scientific founding team for Glaxo's research entry in the United States. From
1971 to 1987 Dr. Johnson served in key scientific and research management
positions with Pfizer Central Research (PFE). He has also served as a Special
Advisor to Nobex Corporation, Ceretec, AtheroGenics, Inc. (AGIX) and Albany
Molecular Research, Inc. (AMRI). Dr. Johnson received his B.S. in Chemistry
from the University of California at Berkeley in 1967 and a Ph.D. in organic
chemistry from the University of California at Santa Barbara in 1970.
29
Nicholas J. Virca. Mr. Virca has served as our Chief Executive Officer and
a Director since October 2002. From 1997 to the present, Mr. Virca served as
the President and Chief Executive Officer and a Director of Biokeys, Inc., our
wholly owned subsidiary. In 1991 Mr. Virca co-founded and from 1991 to 1997 Mr.
Virca served as the Vice President of Operations and a Director of Diametrix
Detectors, Inc., a privately held immunosensor company which was focused on the
airborne vapor detection of narcotics using monoclonal antibodies. From 1994 to
1997, Mr. Virca served as Business Unit Manager, Security Products, for Nicolet
Imaging Systems, a company that purchased substantially all of IRT
Corporation's assets in 1994. From 1991 to 1994, Mr. Virca served as Vice
President, Business Operations, of IRT Corporation, a publicly held company
that specialized in x-ray inspection and imaging systems for industrial and
security applications. Earlier employment includes key marketing and general
management positions with Fisher Scientific, Damon Biotech, Promega
Corporation, the Ortho Division of Johnson & Johnson and the Ross Division of
Abbott Laboratories. Mr. Virca received a B.A. in Biology from Youngstown State
University.
Evan M. Levine. Mr. Levine has served as our Chief Operating Officer and a
Director since October 2002. Currently, Mr. Levine also acts as the Managing
Member of Mark Capital LLC, a venture capital and consulting firm specializing
in technology and biotechnology investments. From March 2002 to June 2002, Mr.
Levine served as the Interim Chief Executive Officer of Digital Courier
Technologies, Inc., a provider of advanced e-payment services for businesses,
merchants and financial institutions. From 1997 to 2001, Mr. Levine served as a
Managing Principal and Portfolio Manager of Brown Simpson Asset Management,
specializing in structured finance for public companies. From 1996 to 1997, Mr.
Levine served as Senior Vice President of Convertible Sales and Trading at
Dillon Read & Company, a financial services company. From 1993 to 1996, Mr.
Levine served as Vice President of Convertible Sales and Trading at Hambrecht &
Quist, a financial services company. From 1992 to 1993, Mr. Levine served as a
Global Arbitrage Trader at Spectrum Trading Partners, financial derivatives
trading company. Mr. Levine received his B.A. in Economics and Finance from
Rutgers University and has completed graduate coursework for his MBA at New
York University's Stern School of Business.
Steven M. Plumb, CPA. Mr. Plumb has served as our Chief Financial Officer
since February 2003. Prior to joining the Company as its Chief Financial
Officer, Mr. Plumb provided financial consulting services to the Company. Mr.
Plumb is President of Steven M. Plumb, P.C., a business consulting firm. Mr.
Plumb has over 20 years experience in accounting and consulting in a diverse
array of industries, including biotechnology, healthcare, and
telecommunications. Prior to founding Steven M. Plumb, P.C. in 1992, Mr. Plumb
served as the Chief Financial Officer of DePelchin Children's Center and as a
controller of Memorial City Rehabilitation Hospital. He is also a former
auditor for and consultant with KPMG. Mr. Plumb earned his B.B.A. in accounting
from the University of Texas in Austin, Texas. He is a Certified Public
Accountant and a member of the American Institute of Certified Public
Accountants and a member of the Information Technology section of the American
Institute of CPAs.
Joan M. Robbins, Ph.D. Dr. Robbins has served as our Chief Technical
Officer since April 1, 2003. From 1996 through March 2003, Dr. Robbins served
in multiple roles at Immusol, Inc., a biopharmaceutical company specializing in
cancer therapeutics, including Vice President, Product Development, Senior
Director, Product Development, and Director, Therapeutics. From 1994 to 1995,
Dr. Robbins was a Research Scientist and Project Leader for Cancer Research at
Immusol. From 1992 to 1993, Dr. Robbins was a Post Graduate Researcher at
University of California, San Diego. From 1990 to 1991, Dr. Robbins was a
Research Fellow at the Garvin Institute for Medical Research, Centre for
Immunology in Sydney, Australia. From 1981 to 1989, Dr. Robbins was a
Microbiologist at the Laboratory of Tumor Immunology and Biology at National
Cancer Institute, Bethesda, Maryland. Dr. Robbins received her B.S. in genetics
the University of California, Davis and a Ph.D. in genetics from George
Washington University.
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), requires the Company's Directors and officers, and persons who
own more than 10% of a registered class of the Company's equity securities
("Section 16 Persons"), to file with the Securities and Exchange Commission
(the "SEC") initial reports of ownership and reports of changes in ownership of
Common Stock and other equity securities of the Company. Section 16 Persons are
required by SEC regulation to furnish the Company with copies of all Section
30
16(a) reports they file. Based on the Company's review of the forms it has
received, on other reports filed by Section 16 Persons with the SEC and on the
Company's records, the Company believes that during the fiscal years preceding
and including 2002: (1) Warren C. Lau, the former Chief Financial Officer and
President and a former Director of the Company, failed to timely file a Form 3
and failed to timely file a Form 4 to report certain changes in his beneficial
ownership of Common Stock; (2) Loius R. Reif, the former Chief Executive
Officer and Chairman of the Board of the Company, failed to timely file a Form
3; (3) Robert Whitworth, the former Secretary and a former Director of the
Company failed to timely file a Form 3, (4) M. Ross Johnson failed to timely
file a Form 3 when the Company became subject to the periodic filing
requirements of the Exchange Act and failed to timely file a Form 4 to report
certain changes in his beneficial ownership of Common Stock; and (5) Nicholas
J. Virca failed to timely file a Form 3 when the Company became subject to the
periodic filing requirements of the Exchange Act and failed to timely file a
Form 4 to report certain changes in his beneficial ownership of Common Stock.
ITEM 10. EXECUTIVE COMPENSATION.
SUMMARY COMPENSATION TABLE
The following Summary Compensation Table sets forth summary information as
to compensation received by the Company's Chief Executive Officer and each of
the other most highly compensated persons who were serving as executive
officers of the Company as of December 31, 2002, one former executive who would
have been among the four most highly compensated persons but for the fact that
he was not employed by the Company as of December 31, 2002 and two executives
of the Company who would have been among the four most highly compensated
persons but for the fact they were not employed by the Company as of December
31, 2002 (collectively, the "named executive officers") for services rendered
to the Company in all capacities during the three fiscal years ended December
31, 2002. The table below does not list Louis R. Reif, the former Chief
Executive Officer and Chairman of the Board of the Company. Mr. Reif was Chief
Executive Officer and Chairman of the Board of the Company until October 7,
2002, at which time the Board of Directors of the Company appointed Nicholas J.
Virca as Chief Executive Officer of the Company and appointed M. Ross Johnson,
Ph.D. as Chairman of the Board. Mr. Reif resigned his position as a member of
the Board of Directors of the Company effective January 10, 2003. Mr. Reif did
not receive any annual salary, other compensation or options or warrants to
purchase Common Stock in fiscal years 2002, 2001 and 2000.
SECURITIES
ANNUAL UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY (1) OPTIONS COMPENSATION
Nicholas J. Virca 2002 $120,192 1,665,000 --
Chief Executive Officer, President and Secretary 2001 $124,000 -- --
2000 $30,000 (2) -- --
Evan Levine (3) 2002 $-- -- --
Chief Operating Officer 2001 $-- -- --
2000 $-- -- --
Steven M. Plumb, CPA (4) 2002 $-- -- --
Chief Financial Officer 2001 $-- -- --
2000 $-- -- --
Joan M. Robbins (5) 2002 $-- -- --
Chief Technical Officer 2001 $-- -- --
2000 $-- -- --
Warren C. Lau (6) 2002 $105,818 -- $35,036 (7)
Former Chief Financial Officer and President 2001 $114,000 -- --
2000 $114,000 -- --
- -------------------------------------------
(1) None of the named executives received any bonus or other annual
compensation in any of the years listed.
(2) Mr. Virca became an executive of Biokeys, Inc. in March 1997. Biokeys,
Inc. became a wholly-owned subsidiary of the Company in October 2000. The
$30,000 listed represents that portion of Mr. Virca's salary that he
received as an executive of Biokeys, Inc. while Biokeys, Inc. was a
wholly-owned subsidiary of the Company. Mr. Virca started serving as an
executive of the Company in October 2002.
31
(3) Mr. Levine became an executive of the Company in October 2002. Mr. Levine
did not receive any salary or other compensation from the Company in any
of the years listed and has not yet been reimbursed for any actual
expenses in connection with his position as an executive of the Company.
(4) Mr. Plumb was hired as Chief Financial Officer, on a part-time basis, on
February 10, 2003. From July 1, 2001 to February 10, 2003, Mr. Plumb
served as a consultant to the Company. In 2001 and 2002, Mr. Plumb
received an aggregate of $21,618 and $55,150, respectively, for services
rendered to the Company as a consultant. Mr. Plumb's annual salary as
Chief Financial Officer is $60,000.
(5) Dr. Robbins began her employment with the Company on April 1, 2003. Dr.
Robbins annual salary is $170,000.
(6) Mr. Lau resigned from his position as Chief Financial Officer and
President of the Company as of December 12, 2002.
(7) This amount reflects a $5,000 separation payment to Mr. Lau and the
forgiveness of $30,036 of debt Mr. Lau owed the Company.
OPTION GRANTS.
NUMBER OF SHARES OF PERCENT OF TOTAL OPTIONS
COMMON STOCK GRANTED TO EMPLOYEES IN
UNDERLYING OPTIONS THE FISCAL YEAR ENDED
GRANTED DECEMBER 31, 2002 EXERCISE PRICE EXPIRATION DATE
Nicholas J. Virca 1,665,000 98.5% $0.23 (4) 12/30/2008
Evan Levine - - - -
Steven M. Plumb, CPA - - - -
(1)
Joan M. Robbins (2) - - - -
Warren C. Lau (3) - - - -
-------------------------------------------
(1) Mr. Plumb started as Chief Financial Officer of the Company on February
10, 2003.
(2) Dr. Robbins started as Chief Technical Officer of the Company on April
1, 2003.
(3) Mr. Lau resigned from his position as Chief Financial Officer and
President of the Company as of December 12, 2002.
(4) This is a weighted-average exercise price.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END VALUES
No executive officer or Director of the Company exercised any options
during the fiscal year ended December 31, 2002.
The following table provides information regarding the number of shares
covered by both exercisable and unexercisable stock options held by the named
executive officers as of December 31, 2002, and the value of "in-the-money"
options, which values represent the positive spread between the exercise price
of any such options and the fiscal year-end value of the Common Stock.
NUMBER OF SECURITIES VALUE OF IN-THE-MONEY
UNDERLYING UNEXERCISED OPTIONS AT
OPTIONS AT DECEMBER 31, 2002 DECEMBER 31, 2002 (1)
EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
Nicholas J. Virca 1,165,000 (2) 500,000 $190,000 $95,000
Evan Levine - - - -
Steven M. Plumb, CPA - - - -
Joan M. Robbins - - - -
Warren C. Lau - - - -
- -------------------------------------------
(1) Value based on the closing price of Common Stock of $0.39 on December 31,
2002, less the option exercise price.
32
(2) Does not include a warrant to purchase 29,435 shares of Common Stock at
$0.49 per share held by Mr. Virca.
LONG-TERM INCENTIVE PLANS
The Company does not have a long-term incentive plan and no shares or
other rights were awarded to any executive officer or Director of the Company
under any long-term incentive plan during the fiscal year ended December 31,
2002.
COMPENSATION OF DIRECTORS
Members of our Board of Directors do not receive compensation for their
services as Directors.
EMPLOYMENT CONTRACTS
Warren C. Lau, the Company's former Chief Financial Officer and President,
and the Company entered into an Employment Agreement dated December 1, 1999.
Pursuant to the terms of the Employment Agreement, if a "Change of Control" of
the Company, as defined in the Employment Agreement, occurs and Mr. Lau's
working condition or status materially and adversely changes without his
consent, then Mr. Lau could terminate the Employment Agreement and the Company
would be obligated to pay Mr. Lau a severance payment equal to one year's
salary. Mr. Lau terminated his Employment Agreement effective November 30,
2002, however, no "Change of Control" of the Company had occurred pursuant to
the terms of the Employment Agreement and Mr. Lau did not receive a severance
payment pursuant to the terms of the Employment Agreement.
On December 12, 2002, the Company entered into a Separation Agreement and
Release with Warren C. Lau pursuant to which Mr. Lau resigned from the
Company's Board of Directors and specifically waived and released any claims
Mr. Lau may have under the Employment Agreement. Pursuant to the terms of the
Separation Agreement and Release, in consideration of Mr. Lau's resignation,
surrender of shares of the Company's Common Stock held by Mr. Lau and waiver
and release of claims, the Company paid Mr. Lau $5,000 and agreed to reimburse
Mr. Lau for certain premiums for medical insurance coverage until June 10,
2003.
The Company and Steven M. Plumb, P.C., a professional corporation
wholly-owned by Steven M. Plumb, CPA (the "Plumb Company"), entered into a
letter agreement dated January 20, 2003, retroactively effective as of January
1, 2003, pursuant to which the Company agreed to pay the Plumb Company a
monthly fee of $5,000 for up to 30 hours of Mr. Plumb's services each month.
Any additional services in a given month will be billed at the rate of $165 per
hour. The Plumb Company agreed that Mr. Plumb would provide services to the
Company as the Company's Chief Financial Officer. The letter agreement with the
Plumb Company has a term of one year that will automatically renew for
additional one-year terms unless either the Company or the Plumb Company gives
notice to the other party at least 60 days prior to the end of then-current
term of such party's termination of the letter agreement.
Pursuant to an offer letter dated March 5, 2003, the Company offered Joan
M. Robbins, Ph.D. the position of Chief Technical Officer of the Company which
offer Dr. Robbins accepted. To provide an incentive to Dr. Robbins to secure
government grants to the Company and to introduce or refer the Company to
potential investors, the Company agreed to issue to Dr. Robbins an option to
purchase shares of Common Stock for each government grant the Company receives
and each investment in the Company made by an investor that is introduced or
referred by Dr. Robbins; each option so granted will be for a number of shares
of Common Stock equal to 5% of the dollar amount of the relevant grant or
investment.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The following table sets forth certain information as of March 31, 2003,
concerning the ownership of Common Stock by (i) each stockholder of the Company
known by the Company to be the beneficial owner of more than 5% of the
outstanding shares of Common Stock or Preferred Stock, (ii) each current member
of the Board of Directors of the Company and (iii) each executive officer of
the Company named in the Summary Compensation Table appearing under "Executive
Compensation" above other than Warren C. Lau, our former Chief Financial
Officer and President.
33
Beneficial ownership is determined in accordance with Rule 13d-3 of the
Securities Exchange Act of 1934, as amended, and includes all shares over which
the beneficial owner exercises voting or investment power. Options and warrants
to purchase Common Stock or Preferred Stock of the Company that are presently
exercisable or exercisable within 60 days of March 31, 2003 and shares of
Preferred Stock of the Company that are presently convertible or convertible
within 60 days of March 31, 2003 that are held by the persons listed below are
included in the total number of shares beneficially owned for such person and
are considered outstanding for the purpose of calculating the percentage
ownership of such holder. The Company has relied on information supplied by its
officers, directors and certain stockholders and on information contained in
filings with the SEC in completing the table below. Except as otherwise
indicated, and subject to community property laws where applicable, we believe,
based on information provided by these persons, that the persons named in the
table have sole voting and investment power with respect to all shares of
Common Stock or Preferred Stock of the Company shown as beneficially owned by
them.
TITLE OR CLASS NAME AND ADDRESS OF BENEFICIAL OWNER (1) AMOUNT AND NATURE OF PERCENT OF
BENEFICIAL OWNERSHIP AS CLASS (2)
OF MARCH 31, 2003
Common Stock Mark Capital LLC 4,268,792 13.03%
300 Felton Drive
Menlo Park, CA 94025
Common Stock Matthew Balk (3) 3,884,531 11.88%
245 Park Avenue, 44th Floor
New York, NY 10167
Preferred Stock Emisphere Technologies, Inc. 200,000 99.76%
CURRENT DIRECTORS
Common Stock Nicholas J. Virca 1,526,693 4.51%
Common Stock M. Ross Johnson, Ph.D. 1,810,092 5.44%
Common Stock Evan M. Levine (4) 4,473,792 13.57%
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
Common Stock Steven M Plumb, CPA 12,500 0.04%
Common Stock Joan M. Robbins, Ph.D.(5) 100,000 0.31%
- -------------------------------------------
(1) Unless indicated otherwise, the address of each person listed in the table
is c/o Biokeys Pharmaceuticals, Inc.; 9948 Hibert Street, Suite 100; San
Diego, California 92131
(2) The percentage of beneficial ownership of Common Stock is based on
32,652,630 shares of Common Stock outstanding as of March 31, 2003 and
excludes all shares of Common Stock issuable upon the exercise of
outstanding options or warrants to purchase Common Stock or conversion of
any outstanding preferred stock of the Company, other than the shares of
Common Stock issuable upon the exercise of options or warrants to purchase
Common Stock held by the named person to the extent such options or
warrants are exercisable within 60 days of March 31, 2003. The percentage
of beneficial ownership of preferred stock of the Company is based on
201,473 shares of preferred stock of the Company outstanding as of March
31, 2003.
(3) Includes 251,263 shares of Common Stock held by Mr. Balk's wife; 400,000
shares of Common Stock held by Mr. Balk's wife's retirement plan; 706,650
shares of Common Stock held by Mr. Balk as custodian for his two children;
and 200,000 shares of Common Stock held by Mr. Balk's retirement plan.
(4) Includes 4,268,792 shares of Common Stock beneficially held by Mark
Capital LLC. Mr. Levine is the managing member of Mark Capital LLC.
(5) Dr. Robbins started as the Company's Chief Technical Officer on April 1,
2003. Dr. Robbin's beneficial interest is shown as she may have been
deemed to hold an option to purchase 300,000 shares of Common Stock of the
Company as of March 31, 2003 which option was vested as to 100,000 shares
as of the date of grant.
34
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
On October 3, 2002, Dr. Johnson purchased 6,000 shares of Series C
Preferred Stock for $60,000 in cash and Matthew Balk, currently the beneficial
holder of more than 10% of the outstanding shares of Common Stock, and entities
related to or under the control of Matthew Balk purchased an aggregate of
15,600 shares of Series C Preferred Stock for $106,000 cash and cancellation of
$50,000 of indebtedness pursuant to the terms of the Series C Convertible
Preferred Stock Purchase Agreement, dated September 27, 2002, among the Company
and the purchasers of Series C Preferred Stock (the "Series C Purchase
Agreement"). On October 4, 2003, Evan Levine, the Company's Chief Operating
Officer and a member of the Board of Directors of the Company, purchased 20,000
shares of Series C Preferred Stock for $100,000 in cash and cancellation of
$100,000 of indebtedness. Prior to the foregoing purchases of shares of Series
C Preferred Stock, neither Dr. Johnson, Mr. Balk nor Mr. Levine were either
officers, directors or the beneficial holders of more than 10% of the
outstanding shares of Common Stock. Dr. Johnson, however, has been a member of
the Board of Directors of Biokeys, Inc., our wholly-owned subsidiary, since
October 2000. In connection with the foregoing purchases of shares of Series C
Preferred Stock and pursuant to the terms of the Series C Purchase Agreement,
Dr. Johnson was appointed as Chairman of the Board of the Company and Mr.
Levine was appointed as a member of the Board of Directors of the Company. Mr.
Levine was also appointed to serve the Company as its Chief Operating Officer
on October 7, 2002.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
FINANCIAL STATEMENTS INCORPORATED BY REFERENCE
The Financial Statements and Reports of J.H. Cohn LLP and KPMG LLP which
are set forth in the index to Consolidated Financial Statements on pages F-1
through F-16 of this report are filed as part of this report.
PAGE
Report of J.H. Cohn LLP F-1
Report of KPMG LLP F-2
Consolidated Balance Sheets F-3
Consolidated Statements of Operations F-4
Consolidated Statements of Stockholders' Equity (Deficit) F-5
Consolidated Statements of Cash Flows F-7
Notes to Consolidated Financial Statements F-8
EXHIBITS.
EXHIBIT DESCRIPTION
NUMBER
2.1* Agreement and Plan of Merger dated May 19, 2000 among BioQuest, Inc.;
BioQuest Acquisition Corp.; and Biokeys, Inc.
3.1* Certificate of Amendment of Certificate of Incorporation of BioQuest,
Inc.
3.2* Certificate of Amendment of Certificate of Incorporation of BioQuest,
Inc.
3.3* Certificate of Merger of BioQuest Acquisition Corp. into Biokeys, Inc.
3.4* Certificate of Incorporation of BioQuest Acquisition Corp.
3.6* Amended and Restated Bylaws of Biokeys Pharmaceuticals, Inc.
4.1* Certificate of Designation of BioQuest, Inc.
4.2 Certificate of Designation of Series B Convertible Preferred Stock and
Series C Convertible Preferred Stock of Biokeys Pharmaceuticals, Inc.
effective September 23, 2002
10.1** Patent and Technology License Agreement with M.D. Anderson - June,
1996 (Request for confidential treatment of certain data)
10.2** Amendment to M.D. Anderson Licensing Agreement June 15, 2000 (Request
for confidential treatment of certain data)
10.3** Option and License Agreement with USC - June 23, 1998 (Co Factor and
Selone) (Request for confidential treatment of certain data)
10.4* Amendment to Option and License Agreement with USC dated August 16,
2000 (Co Factor and Selone) (Request for confidential treatment of
certain data)
35
10.5** Option and License Agreement with USC dated August 17, 2000 (Thiovir)
(Request for confidential treatment of certain data)
10.6 Not currently in use
10.7*** Patent License Agreement, effective August 1, 2002, between Biokeys,
Inc. and the National Institutes of Health
10.8 Letter Agreement, effective January 1, 2003, between Biokeys
Pharmaceuticals, Inc. and Steven M. Plumb, P.C.
10.9 Offer Letter, dated March 5, 2003, from Biokeys Pharmaceuticals, Inc.
to Joan M. Robbins, Ph.D.
11.1* Statement Regarding Computation of Per Share Earnings
21.1 Subsidiaries of Biokeys Pharmaceuticals, Inc. as of December 31, 2002
24.1* Powers of Attorney (included on signature pages)
99.1 Certificate Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002,
18 U.S.C. Section 1350
* Incorporated by reference to the same-numbered exhibit to the Company's
Registration Statement on Form 10-SB, filed October 2, 2001.
** Incorporated by reference to the same-numbered exhibit to the Company's
Registration Statement on Form 10-SB/A, filed January 11, 2002.
*** Incorporated by reference to the same-numbered exhibit to the Company's
Quarterly Report on Form 10-QSB, filed November 26, 2002.
REPORTS ON FORM 8-K.
On February 10, 2003, we filed a current report on Form 8-K to report a
change in independent accountants.
ITEM 14. CONTROLS AND PROCEDURES.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Within the 90-day period prior to the date of this report, the Company
carried out an evaluation, under the supervision and with the participation of
the Company's management, including the Company's Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures pursuant to Rule 13a-14 of the
Securities Exchange Act of 1934 (the "Exchange Act"). Based upon that
evaluation, the Company's principal executive and financial officers concluded
that the Company's disclosure controls and procedures are effective in timely
providing them with material information relating to the Company, as required
to be disclosed by the Company in the reports that it files or submits under
the Exchange Act, within the time periods specified in the Securities and
Exchange Commission's rules and forms.
CHANGES IN INTERNAL CONTROLS
There were no significant changes in the Company's internal controls or
other factors that could significantly affect those controls subsequent to the
date of the Company's evaluation, including any corrective actions with regard
to significant deficiencies and material weaknesses.
36
SIGNATURES
Pursuant to the requirements of the 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 15th day of
April 2003.
Biokeys Pharmaceuticals, Inc.
By:/s/ Nicholas J. Virca
---------------------------------------------
Nicholas J. Virca
Chief Executive Officer, President and Secretary
By:/s/ Steven M. Plumb
---------------------------------------------
Steven M. Plumb, CPA
Chief Financial Officer
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Nicholas J. Virca and Steven M. Plumb, CPA, and
each of them, as his true and lawful attorneys-in-fact and agents, with full
power of substitution and resubstitution, for him and in his name, place and
stead, in any and all capacities, to sign any and all amendments to his Report
on Form 10-KSB, and to file the same, with all exhibits thereto, and other
documents in connection therewith, with the Securities and Exchange Commission,
granting unto said attorneys-in-fact and agents, and each of them, full power
and authority to do and perform each and every act and thing requisite and
necessary to be done in connection therewith, as fully to all intents and
purposes as he might or could do in person, hereby ratifying and confirming all
that said attorneys-in-fact and agents, or any of them, or their or his
substitute or substitutes, may lawfully 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 and on the dates indicated.
SIGNATURE TITLE DATE
__________________________ _____________________________________ ______________
/s/ Nicholas J. Virca
- --------------------------
Nicholas J. Virca Chief Executive Officer, President and April 15, 2003
Secretary
/s/ Steven M. Plumb
- --------------------------
Steven M. Plumb, CPA Chief Financial Officer April 15, 2003
/s/ M. Ross Johnson
- --------------------------
M. Ross Johnson Chairman of the Board April 15, 2003
/s/ Evan Levine
- --------------------------
Evan Levine Director April 15, 2003
37
BIOKEYS PHARMACEUTICALS, INC.
CERTIFICATE PURSUANT TO
RULE 13A-14 PROMULGATED UNDER THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED
I, Nicholas J. Virca, Chief Executive Officer of Biokeys Pharmaceuticals, Inc.,
certify that:
1. I have reviewed this annual report on Form 10-KSB of Biokeys
Pharmaceuticals, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the Registrant as of, and for, the periods presented in this annual
report;
4. The Registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we
have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
b) evaluatedthe effectiveness of the Registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c) presentedin this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The Registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the Registrant's auditors and the audit
committee of Registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to
record, process, summarize and report financial data and have
identified for the Registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
April 15, 2003
/s/ Nicholas J. Virca
-----------------------------------------
Nicholas J. Virca
Chief Executive Officer
38
BIOKEYS PHARMACEUTICALS, INC.
CERTIFICATE PURSUANT TO
RULE 13A-14 PROMULGATED UNDER THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED
I, Steven M. Plumb, CPA, Chief Financial Officer of Biokeys Pharmaceuticals,
Inc., certify that:
1. I have reviewed this annual report on Form 10-KSB of Biokeys
Pharmaceuticals, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the Registrant as of, and for, the periods presented in this annual
report;
4. The Registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we
have:
a. designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
b. evaluatedthe effectiveness of the Registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c. presentedin this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The Registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the Registrant's auditors and the audit
committee of Registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to
record, process, summarize and report financial data and have
identified for the Registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
April 15, 2003
/s/ Steven M. Plumb, CPA
---------------------------------------------
Steven M. Plumb, CPA
Chief Financial Officer
39
CONFIDENTIAL
BIOKEYS PHARMACEUTICALS, INC. AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
Report of J.H. Cohn LLP F-1
Report of KPMG LLP F-2
Consolidated Balance Sheets F-3
Consolidated Statements of Operations F-4
Consolidated Statements of Shareholders' Equity (Deficit) F-5
Consolidated Statements of Cash Flows F-7
Notes to Consolidated Financial Statements F-8
40
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To The Board of Directors
Biokeys Pharmaceuticals, Inc.:
We have audited the accompanying consolidated balance sheet of Biokeys
Pharmaceuticals, Inc. and Subsidiary (a development stage enterprise) as of
December 31, 2002, and the related consolidated statements of operations,
shareholders' equity (deficit) and cash flows for the year then ended and for
the period from June 12, 1996 (date of inception) through December 31, 2002.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audit. The consolidated financial statements for the period from June
12, 1996 (date of inception) through December 31, 2001 were audited by other
auditors whose report, dated April 10, 2002, expressed an unqualified opinion
and included an explanatory paragraph concerning the uncertainty as to the
Company's ability to continue as a going concern. Our opinion on the
consolidated statements of operations, shareholders' equity (deficit) and cash
flows for the period from June 12, 1996 (date of inception) through December
31, 2002, insofar as it relates to amounts for the period for June 12, 1996
(date of inception) through December 31, 2001, is based solely on the report of
the other auditors.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, based on our audit and the report of the other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Biokeys Pharmaceuticals, Inc. and
Subsidiary (a development stage enterprise) as of December 31, 2002, and their
results of operations and cash flows for the year then ended and for the period
from June 12, 1996 (date of inception) through December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
The consolidated financial statements referred to above have been prepared
assuming that the Company will continue as a going concern. As discussed in
Note 12 to the consolidated financial statements, the Company has suffered
recurring losses from operations and had a working capital deficiency and an
accumulated deficit at December 31, 2002. These matters raise substantial doubt
about the Company's ability to continue as a going concern. Management's plans
in regard to these matters are also described in Note 12. The consolidated
financial statements referred to above do not include any adjustments that
might result from the outcome of this uncertainty.
J. H. COHN LLP
/s/ J.H. Cohn LLP
San Diego, California
March 18, 2003, except for Note 5
the date for which is April 1, 2003
F-1
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Biokeys Pharmaceuticals, Inc.:
We have audited the accompanying consolidated balance sheet of Biokeys
Pharmaceuticals, Inc. and subsidiary (a development stage enterprise) (the
Company) as of December 31, 2001, and the related consolidated statements of
operations, shareholders' equity (deficit), and cash flows for the year then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Biokeys
Pharmaceuticals, Inc. and subsidiary (a development stage enterprise) as of
December 31, 2001, and the results of their operations and their cash flows for
the year then ended in conformity with accounting principles generally accepted
in the United States of America.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in note 12 to
the consolidated financial statements, the Company has suffered recurring
losses from operations; this fact raises substantial doubt about the Company's
ability to continue as a going concern. Management's plans in regard to these
matters are also described in note 12. The consolidated financial statements do
not include any adjustments that might result from the outcome of this
uncertainty.
/s/ KPMG LLP
Houston, Texas
April 10, 2002
F-2
BIOKEYS PHARMACEUTICALS, INC. AND SUBSIDIARY
(A Development Stage Enterprise)
Consolidated Balance Sheets
DECEMBER 31,
-------------------------------
ASSETS 2002 2001
--------------- ---------------
Current
assets:
Cash and cash equivalents $ 103,928 $ 164,476
Advances to employees -- 29,872
Note receivable - related party -- 35,993
--------------- ---------------
Total current assets 103,928 230,341
Property and equipment, net 13,434 13,612
Other assets 12,983 34,053
--------------- ---------------
Total assets $ 130,345 $ 278,006
=============== ===============
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current
liabilities:
Accounts payable and accrued liabilities $ 579,146 $ 430,216
Accrued salary and related taxes 115,021 303,837
Accrued dividends payable 34,960 128,000
Current portion of notes payable 197,075 54,439
--------------- ---------------
Total current liabilities 926,202 916,492
Notes payable, net of current portion 56,873 --
--------------- ---------------
Total liabilities 983,075 916,492
--------------- ---------------
Commitments and contingencies -- --
--------------- ---------------
Shareholders' equity (deficit):
Series A cumulative convertible preferred stock, $0.01 par value.
Authorized 8,000 shares; issued and outstanding, 473
shares in 2002 and 3,337 shares in 2001 (aggregate involuntary
liquidation preference $337,000 at December 31, 2002) 4 33
Series B convertible preferred series stock, $0.01 par
value.
Authorized 200,000 shares; issued and outstanding, 200,000
shares in 2002 2,000 --
Series C convertible preferred stock, $0.01 par value.
Authorized 125,000 shares; issued and outstanding, 70,109
shares in 2002 (aggregate involuntary liquidation preference
$701,093 at December 31, 2002) 701 --
Common stock, $0.001 par value. Authorized 50,000,000 shares;
issued and outstanding, 17,496,257 shares in 2002 and
15,005,191 shares in 2001 17,496 15,005
Additional paid-in capital 25,276,138 23,389,818
Deficit accumulated during the development stage (26,149,069) (24,043,342)
--------------- ---------------
Total shareholders' equity (deficit) (852,730) (638,486)
--------------- ---------------
Total liabilities and shareholders' equity (deficit) $ 130,345 $ 278,006
=============== ===============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
F-3
BIOKEYS PHARMACEUTICALS, INC. AND SUBSIDIARY
(A Development Stage Enterprise)
Consolidated Statements of Operations
INCEPTION
(JUNE 12, 1996)
THROUGH
YEAR ENDED DECEMBER 31, DECEMBER 31,
------------------------------
2002 2001 2002
-------------- --------------- -----------------
Net sales $ -- $ -- $ 174,830
Cost of goods sold -- -- 51,094
-------------- --------------- -----------------
Gross margin -- -- 123,736
Grant revenue 45,792 -- 126,130
Interest income 1,272 31,690 89,967
-------------- --------------- -----------------
47,064 31,690 339,833
-------------- --------------- -----------------
Operating expenses:
Research and development 282,966 946,419 3,980,929
General and administrative 1,388,020 2,038,130 6,829,248
Depreciation and amortization 428,109 7,672,112 10,089,737
Impairment loss - write off of goodwill
(note 2) -- 5,702,130 5,702,130
Interest expense 53,696 12,019 177,704
Equity in loss of investee -- -- 178,936
-------------- --------------- -----------------
Total operating expenses 2,152,791 16,370,810 26,958,684
-------------- --------------- -----------------
Loss before cumulative effect of
change in accounting principle (2,105,727) (16,339,120) (26,618,851)
Cumulative effect of change in accounting
principle -- -- (25,821)
-------------- --------------- -----------------
Net loss (2,105,727) (16,339,120) (26,644,672)
Preferred stock dividends (242,200) (256,000) (583,400)
-------------- --------------- -----------------
Net loss applicable to common stock $(2,347,927) $(16,595,120) $ (27,228,072)
============== =============== =================
Loss per common share - basic and
diluted (note 9) $ (.15) $ (1.12)
============== ===============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
F-4
BIOKEYS PHARMACEUTICALS, INC. AND SUBSIDIARY
(A Development Stage Enterprise)
Consolidated Statements of Shareholders' Equity (Deficit)
Inception (June 12, 1996) through December 31, 2002
CUMULATIVE CONVERTIBLE CONVERTIBLE PREFERRED CONVERTIBLE PREFERRED
PREFERRED STOCK, SERIES A STOCK, SERIES B STOCK, SERIES C
-------------------------- ----------------------- ---------------------
SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT
------------ ------------ ----------------------- ---------------------
Balances at June 12, 1996 (date of incorporation) -- $ -- -- $ -- -- $ --
Sale of common stock without par value -- -- -- -- -- --
Change in par value of common stock -- -- -- -- -- --
Issuance of common stock and net liabilities assumed in -- -- -- -- -- --
acquisition
Issuance of common stock -- -- -- -- -- --
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 1996 -- -- -- -- -- --
Sale of common stock, net of offering costs of $9,976 -- -- -- -- -- --
Issuance of common stock in acquisition -- -- -- -- -- --
Minority interest deficiency at acquisition charged to the -- -- -- -- -- --
Company
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 1997 -- -- -- -- -- --
Rescission of acquisition -- -- -- -- -- --
Issuance of common stock at conversion of notes payable -- -- -- -- -- --
Expense related to stock warrants issued -- -- -- -- -- --
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 1998 -- -- -- -- -- --
Sale of common stock -- -- -- -- -- --
Expense related to stock warrants issued -- -- -- -- -- --
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 1999 -- -- -- -- -- --
Sale of preferred stock, net of offering costs of $76,500 3,200 32 -- -- -- --
Issuance of common stock at conversion of notes and -- -- -- -- -- --
interest payable
Issuance of common stock at conversion of notes payable -- -- -- -- -- --
Issuance of common stock to settle obligations -- -- -- -- -- --
Issuance of common stock for acquisition -- -- -- -- -- --
Issuance of warrants for acquisition -- -- -- -- -- --
Stock issued for acquisition costs -- -- -- -- -- --
Expense related to stock warrants issued -- -- -- -- -- --
Dividends payable on preferred stock -- -- -- -- -- --
Cashless exercise of warrants -- -- -- -- -- --
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 2000 3,200 32 -- -- -- --
Dividends payable on preferred stock -- -- -- -- -- --
Repurchase of warrants -- -- -- -- -- --
Sale of warrants -- -- -- -- -- --
Cashless exercise of warrants -- -- -- -- -- --
Issuance of common stock to pay preferred dividends -- -- -- -- -- --
Detachable warrants issued with notes payable -- -- -- -- -- --
Issuance of warrants to pay operating expenses -- -- -- -- -- --
Issuance of common stock to pay operating expenses -- -- -- -- -- --
Issuance of preferred stock to pay operating expenses 137 1 -- -- -- --
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 2001 3,337 33 -- -- -- --
Dividends payable on preferred stock -- -- -- -- -- --
Repurchase of warrants -- -- -- -- -- --
Sale of warrants -- -- -- -- -- --
Cashless exercise of warrants -- -- -- -- -- --
Exercise of warrants -- -- -- -- -- --
Sale of preferred stock -- -- 200,000 2,000 70,109 701
Conversion of preferred stock into common stock (3,000) (30) -- -- -- --
Preferred stock dividends forgiven -- -- -- -- -- --
Issuance of warrants to pay operating expenses -- -- -- -- -- --
Issuance of common stock to pay operating expenses -- -- -- -- -- --
Issuance of preferred stock to pay operating expenses 136 1 -- -- -- --
Issuance of stock options to employees -- -- -- -- -- --
Net loss -- -- -- -- -- --
------------ ------------ ----------------------- ----------------------
Balances at December 31, 2002 473 $ 4 200,000 $ 2,000 70,109 $ 701
============ ============ ======================= ======================
THE TABLE ABOVE IS CONTINUED ON THE FOLLOWING PAGE.
F-5
THE TABLE BELOW IS A CONTINUATION OF THE TABLE ON THE PRECEDING PAGE.
THE TABLE ON THE PRECEDING PAGE CONTINUES FROM LEFT TO RIGHT
BEGINNING WITH THE COLUMN "COMMON STOCK"
DEFICIT
ACCUMULATED TOTAL
ADDITIONAL DURING THE SHAREHOLDERS'
COMMON STOCK PAID-IN DEVELOPMENT EQUITY
--------------------------
SHARES AMOUNT CAPITAL STAGE (DEFICIT)
-------------- ---------- -------------- --------------- ---------------
Balances at June 12, 1996 (date of incorporation) -- $ -- $ -- $ -- $ --
Sale of common stock without par value 503 5 5 -- 10
Change in par value of common stock -- (4) 4 -- --
Issuance of common stock and net liabilities assumed in 1,716,132 1,716 3,224 (18,094) (13,154)
acquisition
Issuance of common stock 2,010,111 2,010 456 (2,466) --
Net loss -- -- -- (259,476) (259,476)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 1996 3,726,746 3,727 3,689 (280,036) (272,620)
Sale of common stock, net of offering costs of $9,976 1,004,554 1,004 1,789,975 -- 1,790,979
Issuance of common stock in acquisition 375,891 376 887,874 -- 888,250
Minority interest deficiency at acquisition charged to the -- -- -- (45,003) (45,003)
Company
Net loss -- -- -- (1,979,400) (1,979,400)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 1997 5,107,191 5,107 2,681,538 (2,304,439) 382,206
Rescission of acquisition (375,891) (376) (887,874) 561,166 (327,084)
Issuance of common stock at conversion of notes payable 450,264 451 363,549 -- 364,000
Expense related to stock warrants issued -- -- 260,000 -- 260,000
Net loss -- -- -- (1,204,380) (1,204,380)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 1998 5,181,564 5,182 2,417,213 (2,947,653) (525,258)
Sale of common stock 678,412 678 134,322 -- 135,000
Expense related to stock warrants issued -- -- 212,000 -- 212,000
Net loss -- -- -- (1,055,485) (1,055,485)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 1999 5,859,976 5,860 2,763,535 (4,003,138) (1,233,743)
Sale of preferred stock, net of offering costs of $76,500 -- -- 3,123,468 -- 3,123,500
Issuance of common stock at conversion of notes and 412,487 412 492,085 -- 492,497
interest payable
Issuance of common stock at conversion of notes payable 70,354 70 83,930 -- 84,000
Issuance of common stock to settle obligations 495,111 496 1,201,664 -- 1,202,160
Issuance of common stock for acquisition 6,999,990 7,000 9,325,769 -- 9,332,769
Issuance of warrants for acquisition -- -- 4,767,664 -- 4,767,664
Stock issued for acquisition costs 150,000 150 487,350 -- 487,500
Expense related to stock warrants issued -- -- 140,000 -- 140,000
Dividends payable on preferred stock -- -- (85,000) -- (85,000)
Cashless exercise of warrants 599,066 599 (599) -- --
Net loss -- -- -- (3,701,084) (3,701,084)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 2000 14,586,984 14,587 22,299,866 (7,704,222) 14,610,263
Dividends payable on preferred stock -- -- (256,000) -- (256,000)
Repurchase of warrants -- -- (55,279) -- (55,279)
Sale of warrants -- -- 47,741 -- 47,741
Cashless exercise of warrants 218,493 219 (219) -- --
Issuance of common stock to pay preferred dividends 93,421 93 212,907 -- 213,000
Detachable warrants issued with notes payable -- -- 450,000 -- 450,000
Issuance of warrants to pay operating expenses -- -- 167,138 -- 167,138
Issuance of common stock to pay operating expenses 106,293 106 387,165 -- 387,271
Issuance of preferred stock to pay operating expenses -- -- 136,499 -- 136,500
Net loss -- -- -- (16,339,120) (16,339,120)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 2001 15,005,191 15,005 23,389,818 (24,043,342) (638,486)
Dividends payable on preferred stock -- -- (242,400) -- (242,400)
Repurchase of warrants -- -- -- -- --
Sale of warrants 240,000 240 117,613 -- 117,853
Cashless exercise of warrants 100,201 100 (100) -- --
Exercise of warrants 344,573 345 168,477 -- 168,822
Sale of preferred stock -- -- 998,392 -- 1,001,093
Conversion of preferred stock into common stock 1,800,000 1,800 (1,770) -- --
Preferred stock dividends forgiven -- -- 335,440 -- 335,440
Issuance of warrants to pay operating expenses -- -- 163,109 -- 163,109
Issuance of common stock to pay operating expenses 6,292 6 12,263 -- 12,269
Issuance of preferred stock to pay operating expenses 6,000 -- 6,001
Issuance of stock options to employees -- -- 329,296 -- 329,296
Net loss -- -- -- (2,105,727) (2,105,727)
-------------- ---------- -------------- --------------- ---------------
Balances at December 31, 2002 17,496,257 $17,496 $25,276,138 $(26,149,069) $ (852,730)
============== ========== ============== =============== ===============
F-6
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
BIOKEYS PHARMACEUTICALS, INC. AND SUBSIDIARY
(A Development Stage Enterprise)
Consolidated Statements of Cash Flows
INCEPTION
(JUNE 12, 1996)
YEAR ENDED DECEMBER 31, THROUGH
------------------------------- DECEMBER 31,
2002 2001 2002
------------- --------------- -----------------
Cash flows from operating activities:
Net loss $ (2,105,727) $ (16,339,120) $ (26,644,672)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation and amortization 32,548 7,617,673 9,639,737
Amortization of debt discount 395,561 54,439 450,000
Forgiveness of employee advance 30,036 -- 30,036
Impairment loss - write off of goodwill -- 5,702,130 5,702,130
Expenses paid by warrants 163,109 167,138 330,247
Expenses paid by preferred stock 6,001 136,500 142,501
Expenses related to stock warrants issued -- -- 612,000
Expenses related to employee stock options issued 329,296 -- 329,296
Expenses paid by issuance of common stock 12,269 387,271 610,749
Equity in loss of investee -- -- 178,936
Write-off of license agreement -- -- 152,866
Cumulative effect of change in accounting principle -- -- 25,821
Changes in assets and liabilities, net of effect of acquisitions:
(Increase) decrease in other assets (9,094) 12,386 (152,351)
Increase in accounts payable and accrued
liabilities 44,062 550,482 119,405
Increase in sponsored research payable and
license obligation -- -- 924,318
------------- --------------- -----------------
Net cash used in operating activities (1,101,939) (1,711,101) (7,548,981)
------------- --------------- -----------------
Cash flows from investing activities:
Purchase of certificate of deposit -- -- (1,016,330)
Maturity of certificate of deposit -- 1,016,330 1,016,330
Purchases of property and equipment (2,370) (16,093) (106,093)
Payment on obligation under license agreement -- -- (106,250)
Cash acquired in acquisition of subsidiary -- -- 64,233
Issuance of note receivable - related party -- (35,000) (35,000)
Payments on note receivable 35,993 -- 405,993
Advance to subsidiary -- -- (90,475)
Cash transferred in rescission of acquisition -- -- (19,475)
Cash received in rescission of acquisition -- -- 230,000
------------- --------------- -----------------
Net cash provided by investing activities 33,623 965,237 342,933
------------- --------------- -----------------
Cash flows from financing activities:
Proceeds from sale of preferred stock 1,001,093 -- 4,200,993
Proceeds from sale of common stock -- -- 1,935,965
Proceeds from sale or excersice of warrants 286,675 47,741 334,516
Repurchase of warrants -- (55,279) (55,279)
Payment of financing and offering costs -- -- (98,976)
Payments of notes payable and long-term debt (280,000) -- (351,961)
Proceeds from issuance of notes payable and detachable warrants -- 450,000 1,344,718
------------- --------------- -------------------
Net cash provided by financing activities 1,007,768 442,462 7,309,976
------------- --------------- -----------------
Net increase (decrease) in cash and cash equivalents (60,548) (303,402) 103,928
Cash and cash equivalents at beginning of period 164,476 467,878 --
------------- --------------- -----------------
Cash and cash equivalents at end of period $ 103,928 $ 164,476 $ 103,928
============= =============== =================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
F-7
CONFIDENTIAL
BIOKEYS PHARMACEUTICALS, INC. AND SUBSIDIARY
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(1) DESCRIPTION OF THE COMPANY
Biokeys Pharmaceuticals, Inc., a Delaware corporation, (the Company), is a
development stage enterprise, which conducts biomedical research and
development focused on treatments for cancer and certain viral infections,
including HIV. The Company currently does not market any product. Through
its license agreements with University of Texas M.D. Anderson Cancer
Center (M.D. Anderson), University of Southern California (USC) and
National Institutes of Health (NIH), the Company has rights to drug
candidates in varying early stages of development.
The Company's shares trade in the over-the-counter market under the symbol
BKYS.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements of the Company include the accounts
of Biokeys Pharmaceuticals, Inc. and its wholly owned subsidiary, Biokeys,
Inc. All intercompany balances and transactions have been eliminated in
consolidation.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Management
believes that the estimates utilized in preparing its financial statements
are reasonable and prudent. Actual results could differ from those
estimates.
ACCOUNTING FOR STOCK-BASED COMPENSATION
The Company applies Statement of Financial Accounting Standards No. 123
and related interpretations in accounting for employee stock-based
compensation.
The Company accounts for nonemployee stock-based compensation in
accordance with Emerging Issues Task Force (EITF) 96-18, Accounting for
Equity Instruments That Are Issued to Other Than Employees for Acquiring,
or in Conjunction with Selling, Goods or Services (EITF 96-18). Amounts
are based on the fair value of the consideration received or the fair
value of the equity instruments issued, whichever is more reliably
measurable.
The value assigned to stock warrants granted to non-employees are
accounted for in accordance with SFAS No. 123 and EITF 96-18,
which require that such
F-8
costs be measured at the end of each reporting period to account for
changes in the fair value of the Company's common stock until the options
are vested. The Company values warrants using the Black-Scholes pricing
model. Common stock is valued using the market price of common stock on
the measurement date as defined in EITF 96-18. Series A and Series B
preferred stock are valued at the liquidation value of $1,000 and $10 per
share, respectively.
CASH EQUIVALENTS
Highly liquid investments with original maturities of three months or less
when purchased are considered to be cash equivalents.
FINANCIAL INSTRUMENTS
The carrying amounts of cash and cash equivalents, certificateS of deposit,
advances to employees, note receivable, and accounts payable are a
reasonable estimate of their fair values at the balance sheet dates due to
the short-term nature of these instruments. The fair value of notes
payable at the date of issuance and at December 31, 2002 was not
determinable.
The Company maintains cash and cash equivalents with banks, which from
time to time may exceed federally insured limits. The Company periodically
assesses the financial condition of the institutions and believes that the
risk of any loss is minimal.
GOODWILL
Goodwill (excess of purchase price over fair value of net assets acquired)
was being amortized using the straight-line method over two years. The
Company recorded amortization of goodwill of $7,602,836 during the year
ended December 31, 2001. Through December 31, 2001, the Company had not
been able to raise sufficient capital to ensure future funding of its
research and development; consequently, the Company reviewed the carrying
value of goodwill for impairment and reduced its carrying value to zero
through a noncash charge of $5,702,130 at December 31, 2001.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and amortization
are calculated using the straight-line method over the estimated useful
lives of the assets. The costs of improvements that extend the lives of
the assets are capitalized. Repairs and maintenance are expensed as
incurred.
DEFERRED FINANCING COSTS
Costs associated with arranging debt financing are deferred and amortized
using the effective interest method over the term of the notes payable.
DEBT DISCOUNT
The discount on notes payable is being amortized using the effective
interest method through the stated due dates of each note.
REVENUE RECOGNITION
The Company recognizes revenue at the time service is performed on
commercial contracts and collectability is assured. Revenue from
F-9
government grants is a reimbursement for expenditures associated with the
research. The Company submits bills to the grant agency and revenue is
recognized at the time the expenses are reimbursed.
RESEARCH AND DEVELOPMENT COSTS
All research and development costs are expensed as incurred, including
Company-sponsored research and development and costs of patent rights and
technology rights under license agreements that have no alternative future
use when incurred.
IMPAIRMENT OF LONG-LIVED ASSETS
In the event that facts and circumstances indicate that property and
equipment and intangible or other long-lived assets with definitive lives
may be impaired, an evaluation of the recoverability of currently recorded
costs will be made. If an evaluation is required, the estimated value of
undiscounted future net cash flows associated with the asset is compared
to the asset's carrying value to determine if impairment exists. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds
the fair value of the assets.
INCOME TAXES
Income taxes are accounted for using the asset and liability method under
which deferred tax assets and liabilities are recognized for estimated
future tax consequences attributable to temporary differences between the
financial statement carrying amounts of existing assets and liabilities
and their respective tax bases, and operating loss and tax credit
carryforwards. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the enactment date.
Deferred tax expense or benefit is recognized as a result of the change in
the asset or liability during the period.
SUPPLEMENTARY CASH FLOW INFORMATION
Interest of $7,425 and $3,000 was paid during 2002 and 2001, respectively.
No income taxes were paid during 2002 and 2001.
Noncash investing and financing transactions excluded from the statements
of cash flows for the years ended December 31, 2002 and 2001 are as
follows:
2002 2001
-------------- ------------------
Issuance of common stock to pay preferred dividends $ -- $ 213,000
Detachable warrants issued with notes payable -- 450,000
Issuance of warrants, common stock, and preferred stock to pay 181,372 690,909
operating expenses
Dividends payable 242,400 256,000
Cashless exercise of warrants 100 219
F-10
Conversion of notes payable and accrued interest into common 220,000 --
stock
Dividends forgiven 335,440 --
Trade payable converted to note payable 83,948 --
NEW ACCOUNTING PRONOUNCEMENTS
The FASB issued Statement of Financial Accounting Standards No. 142,
Goodwill and Other Intangible Assets (SFAS No. 142), which was effective
for the Company as of January 1, 2002. SFAS No. 142 requires that goodwill
and other intangible assets with indefinite lives no longer be amortized.
SFAS No. 142 further requires that the fair value of goodwill and other
intangible assets with indefinite lives be tested for impairment upon
adoption of this statement, annually and upon the occurrence of certain
events and be written down to fair value if considered impaired. SFAS No.
142 eliminates the annual amortization expense related to goodwill. The
adoption of SFAS No. 142 did not have a material impact on the Company's
financial statements because, as of December 31, 2002 and 2001, the
Company had no goodwill or other intangible assets with indefinite lives.
The FASB issued Statement of Financial Accounting Standards No. 143,
Accounting for Asset Retirement Obligations (SFAS No. 143), which
addresses financial accounting and reporting for obligations associated
with the retirement of tangible long-lived assets and the associated asset
retirement costs. This statement applies to all entities that have legal
obligations associated with the retirement of long-lived assets that
result from the acquisition, construction, development, or normal use of
the assets. SFAS No. 143 will be effective for the Company as of January
1, 2003. The Company does not expect the adoption of SFAS No. 143 to have
a significant impact on its financial condition or results of operations.
The FASB issued Statement of Financial Accounting Standards No. 144,
Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS No.
144), which addresses financial accounting and reporting for the
impairment or disposal of long-lived assets. While SFAS No. 144 supersedes
SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of, it retains many of the fundamental
provisions of that statement. SFAS No. 144 also supersedes the accounting
and reporting provisions of APB Opinion No. 30, Reporting the Results of
Operations - Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual, and Infrequently Occurring Events and
Transactions, for the disposal of a segment of a business. SFAS No. 144
was effective for the Company as of January 1, 2002. The adoption of SFAS
No. 144 did not have a significant impact on its financial condition or
results of operations.
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148, Accounting for Stock-Based Compensation - Transition
and Disclosure - an amendment of FASB Statement No. 123 (SFAS No. 148).
SFAS 148 amends SFAS No. 123 to provide alternative methods of
transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. In addition, SFAS No. 148
amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial statements
about the method of accounting for stock-based employee compensation and
the effect of the method used on reported results. SFAS No. 148 is
effective for the fiscal years beginning after December 15, 2002. The
Company already uses SFAS No. 123 to account for stock-based employee
compensation.
The adoption of these new pronouncements did not have or is not expected
to have a material effect on the Company's consolidated financial position
or results of operations.
F-11
(3) NOTE RECEIVABLE - RELATED PARTY
In August 2001, the Company loaned $35,000 to a company whose owner is
also the co-founder of Biokeys, Inc., the Company's wholly-owned
subsidiary. The note accrues interest at prime plus 1% (4.25% at December
31, 2002). The note receivable on the 2001 consolidated balance sheet
included accrued interest. The note was repaid with interest in July 2002.
(4) PROPERTY AND EQUIPMENT
Property and equipment at December 31, 2002 and 2001 were as follows:
Useful 2002 2001
lives
----------------- ------------------ -----------------
Office furniture and equipment 5 years $ 31,883 $ 32,198
Computer software and equipment 3 years 11,845 9,160
------------------ -----------------
43,728 41,358
Less accumulated depreciation and (30,294) (27,746)
amortization ------------------ ------------------
$ 13,434 $ 13,612
================== ==================
(5) NOTES PAYABLE
In October and December 2001, the Company issued notes payable totaling
$300,000 and $150,000 respectively. The notes bear interest at 12% and
were originally due on the earlier of November 1, 2002 or the date of
receipt by the Company of gross proceeds of at least $600,000 from private
placement offerings.Interest accrues at 12% annually and was to be paid in
shares of common stock when the notes were to be repaid, based on the
five-day average closing price of common stock preceding the date when
interest is due. The notes were issued with detachable warrants to
purchase a total of 450,000 shares of common stock through November 2006
at an exercise price of $4.00 per share through December 31, 2002, and
thereafter at an exercise price that will be fixed at the higher of $2.50
or the average closing price of the Company's common stock during the
20 trading days prior to December 31, 2002, not to exceed $4.00 per share.
The entire proceeds of $450,000 were allocated to the warrants and debt
discount. The fair value of the warrants, calculated using the
Black-Scholes pricing model, is greater than the proceeds. The fair value
of the notes payable was not determinable at the dates of issuance. The
original debt discount of $450,000 is being amortized to the redemption
value of the debt through the initial stated due date of the notes payable;
$395,561 and $54,439 was amortized during 2002 and 2001, respectively.
In October 2002, the notes and warrants were amended and $220,000 in notes
were converted to preferred stock in the Company. $60,000 in notes was
repaid and the due date of the $170,000 in remaining notes were extended
to April 1, 2003. The exercise price of the warrants was amended to $.50
per share. The outstanding balance on the notes was $170,000 and $54,439
at December 31, 2002 and 2001, respectively.
Subsequent to year end the Company converted a trade payable into a note
payable in the amount of $83,948. The note carries interest at 10% per
year and calls for eighteen monthly payments of $5,000 per month beginning
July 1, 2003. The trade payable was reclassified as of December 31, 2002
with current and long term portions of $27,075 and $56,873, respectively.
The maturities of notes payable in years subsequent to December 31, 2002
are as follows:
Year Ended December 31, Amount
----------------------- ------
2003 $ 197,075
2004 56,873
-------------------
Total $ 253,948
===================
F-12
(6) INCOME TAXES
Significant components of income tax expense for the years ended December
31, 2002 and 2001 are as follows:
2002 2001
------------------ ------------------
Deferred tax benefit $ 601,110 $ 799,623
Increase in valuation allowance for deferred tax assets (601,110) (799,623)
------------------ ------------------
Income tax expense $ -- $ --
================== ==================
The tax effects of temporary differences that give rise to deferred tax
assets at December 31, 2002 and 2001 are as follows:
2002 2001
------------------ -----------------
Net operating loss carryforward $ 4,051,425 3,436,311
Organization costs and license agreement, due to
differences in amortization 30,534 44,538
------------------ -----------------
Total deferred tax assets 4,081,959 3,480,849
Less valuation allowance (4,081,959) (3,480,849)
------------------ -----------------
Net deferred tax assets $ -- --
================== =================
At December 31, 2002, the Company had an unused net operating loss
carryforwards of approximately $11,900,000 for tax reporting purposes,
which expire from 2112 through 2113 and 2119 through 2122.
(7) EQUITY TRANSACTIONS
In a private placement offering to European investors pursuant to
Regulation S of the Securities and Exchange Commission, the Company sold a
total of 3,200 shares of its Series A 8% Convertible Preferred Stock for
gross proceeds of $3,200,000 between August and September 2000. In
addition to the shares of Series A Convertible Preferred Stock, which are
convertible into common stock at $4.00 per share, the offering included
warrants to purchase a total of 400,000 shares of common stock at $5.00
per share. The preferred stock has a liquidation preference of $1,000 per
share plus accrued and unpaid dividends, carries cumulative dividends at
8% per annum payable semi-annually, and provides for future adjustments in
conversion price if specified dilutive events take place. The preferred
stock is redeemable at the option of the Company at any time the closing
price of common stock remains at a level of at least $8 per share for 20
consecutive days if the Company is listed on the American Stock Exchange
or NASDAQ at such time, with the redemption price being equal to the
liquidation preference. In addition, at any time after July 1, 2003, the
Company may call all of any portion of the outstanding preferred stock for
redemption on at least 30 days' notice, at a redemption price equal to
105% of the liquidation preference plus all accrued and unpaid dividends.
The Company incurred consulting fees totaling $76,500, paid to a
stockholder who acted as a finder and agent in this transaction.
F-13
In February 2001, the Company granted 100,000 shares of common stock to a
consulting firm for financial consulting services to be provided in 2001.
The Company recognized the value of these shares, $375,000, as a noncash
charge to expense during 2001.
In May 2001, the Company repurchased warrants to purchase 50,254 shares of
common stock for $55,279 and sold the same warrants in June 2001 for
$47,741. The warrants have an exercise price of $0.49 per share.
In August 2001, two warrant holders exercised warrants through a cashless
exercise. Warrants to purchase a total of 271,758 shares of common stock
were exchanged for a total of 218,493 shares of common stock.
In October 2001, the Company issued 93,421 shares of common stock valued
at $213,000 to pay dividends on preferred stock through June 30, 2001.
In December 2001, the Company entered into a consulting agreement with a
third party for financial consulting services. The services are being paid
through the issuance of 273 shares of Series A Preferred Stock with a fair
value of $273,000, 12,585 shares of common stock with a fair value of
$24,541, and five-year warrants to purchase 34,125 shares of common stock
at an exercise price of $5.00 per share with a fair value of $62,280. The
compensation vests 50% in December 2001 and 50% in December 2002. The
Company recognized the value of 50% of these equity instruments in 2002
and 2001 and recorded a noncash charge to expense of $154,769 and
$315,909, respectively. The warrants were valued using the Black-Scholes
pricing model. Common stock was valued using the market price of common
stock as defined in EITF 96-18. Preferred stock was valued at the
liquidation value of $1,000 per share.
In March 2002, the Company transferred warrants which had previously been
held in escrow to three investors who immediately exercised the warrants
for the purchase of a total of 229,573 shares of common stock at $0.49 per
share.
In April 2002, warrants to purchase a total of 240,000 shares of common
stock at $.49 per share were exercised.
In April 2002, the Company entered into a preliminary agreement (the
"Preliminary Agreement") with a corporate investor under which the
investor agreed to subscribe for 200,000 shares of a new class of Series
B Convertible Preferred Stock to be authorized and issued by the Company.
The Preliminary Agreement contemplated an initial subscription payment of
$300,000, which was received by the Company in April 2002, with an option
to purchase additional shares of Series B Preferred Stock. The Company
also granted the investor a right of first refusal to serve as a provider
of an oral delivery system for future company products, which expired in
June 2002.
In December 2002, the Company issued 200,000 shares of Series B
Convertible Preferred Stock to the corporate investor pursuant to the
terms of the Preliminary Agreement.
In June 2002, a warrant holder exercised warrants through a cashless
exercise. Warrants to purchase a total of 144,435 shares of common stock
were exchanged for a total of 100,201 shares of common stock.
In July 2002, warrants to purchase a total of 115,000 shares of common
stock at $0.49 per share were exercised for $56,350.
In October and December 2002, the Company issued an aggregate of 70,109.3
shares of Series C Convertible Preferred Stock with a par value of $0.01
per share. The Series C preferred stock is convertible into common stock
at $0.05 per share and has a liquidation preference of $10 per share plus
accrued and unpaid dividends. In conjunction with the issuance of 45,000
shares of the Series C preferred stock, $220,000 in Bridge Financing loans
were forgiven and related warrants to purchase common stock issued with
the Bridge Loans were amended to modify the purchase price of the common
stock to $0.50 per share.
On November 21, 2002 the Company exchanged 3,000 Series A preferred stock
for 1,800,000 shares of common stock. In conjunction with this transaction
the Company purchased 400,000 warrants from the preferred stockholder for
F-14
$100. In conjunction with the exchange, accumulated preferred dividends in
the amount of $335,440, which had been accrued through the date of the
exchange, were forgiven by the shareholder.
Nonemployee stock-based compensation is valued, as of the grant date,
using the Black-Scholes pricing model with the following assumptions for
grants in 2002 and 2001: no dividend yield for either year; expected
volatility of 125% to 170%; risk-free interest rates 4.25% to 6.8%; and
expected lives of three and seven years, respectively.
At December 31, 2002, there were outstanding warrants to purchase a total
of 2,537,804 shares of common stock as follows:
EXERCISE
WARRANTS PRICE EXPIRATION DATE
------------------ -------------------- ---------------------
100,506 $ 0.49 May 2003
50,000 4.00 August 2003
25,000 5.00 August 2003
689,148 0.49 December 2003
620,622 0.49 September 2005
450,000 0.50 October 2005
100,000 3.00 April 2006
502,528 0.49 June 2006
(8) STOCK COMPENSATION PLANS
In October 2002 the Company granted to employees three non-statutory stock
options to purchase an aggregate of 1,525,000 and one non-statutory stock
option to purchase 165,000 shares of common stock at $.20 and $.50 per
share, respectively. The fair value of the options was $329,296, based on
the Black-Scholes model using the assumptions given in Note 7. None of the
foregoing options were issued pursuant to a stock option plan. The options
expire on December 30, 2008 and additional information regarding the
options follows:
2002
------------------------------------
SHARES WEIGHTED-AVERAGE
(000) EXERCISE PRICE
--------------------------- ------ --------------
Outstanding at beginning of year -- --
Granted 1,690 $0.23
Exercised -- --
Forfeited -- --
Outstanding at end of year ------------
1,690 $0.23
============
Options exercisable at year-end 1,177
Weighted-average fair value of options
granted during the year $0.19
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------- ---------------------------------
WEIGHTED-
AVERAGE WEIGHTED- WEIGHTED-
NUMBER REMAINING AVERAGE NUMBER AVERAGE
RANGE OF OUTSTANDING CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
EXERCISE PRICE AT 12/31/02 LIFE PRICE AT 12/31/02 PRICE
----------------- --------------- ----------- ------------ ---------------- ---------------
$0.20 to $0.50 1,690,000 6.23 years $0.23 1,177,000 $0.24
(9) NET LOSS PER COMMON SHARE
The computation of basic and diluted net loss per share for the years
ended December 31, 2002 and 2001 is as follows:
2002 2001
------------------ ------------------
Numerator:
Net loss $ (2,105,727) $ (16,335,346)
Preferred stock dividends (242,400) (256,000)
------------------ ------------------
Numerator for basic and diluted loss
per share $ (2,348,127) $ (16,591,346)
================== ==================
Denominator for basic and diluted loss per share -
weighted average common shares outstanding 15,681,743 14,805,150
================== ==================
Loss per common share - basic and diluted $ (0.15) $ (1.12)
================== ==================
Net loss per common share is calculated according to Statement of
Financial Accounting No. 128, Earnings per Share, using the weighted
average number of shares of common stock outstanding during the period. At
December 31, 2002 and 2001, 2,537,803 and 3,826,409 potentially dilutive
shares, respectively, were not included in the computation of net loss per
common share - diluted, as their effect would have been antidilutive due
to the Company's net loss incurred in 2002 and 2001.
(10) LICENSE AGREEMENTS
M.D. ANDERSON
Pursuant to a patent and technology license agreement dated June 14, 1996
between M.D. Anderson and the Company (the M.D. Anderson License
Agreement), the Company acquired a license to seven patents and patent
applications related to technology for HIV/AIDS therapy and prevention.
Under the M.D. Anderson License Agreement, the Company is obligated to pay
M.D. Anderson for all out-of-pocket expenses incurred in filing,
prosecuting, enforcing, and maintaining the licensed patent rights and all
future patent-related expenses paid by M.D. Anderson as long as the M.D.
Anderson License Agreement remains in effect.
The M.D. Anderson License Agreement was amended effective June 15, 2000
(the Amendment). The Amendment incorporated additional licensed subject
matter, revised certain royalty rates due to M.D. Anderson upon
commercialization, and settled past due patent and research and
development amounts from the Company to M.D. Anderson. The Company gave
consideration valued at approximately $172,000 through the issuance of
71,555 shares of common stock to reimburse M.D. Anderson for patent costs
incurred through June 15, 2000. The Company also issued 414,829 shares of
common stock to M.D. Anderson valued at $1,000,000, based on the market
value of the Company's stock at the date of the settlement agreement, to
settle past due research and development obligations. In addition, the
Company committed to funding at least $1,000,000 of research and
development activity through December 31, 2001. Finally, the Amendment
defined a milestone payment of common stock with a value of $1,000,000 due
to M.D. Anderson upon the enrollment of the first patient in the first FDA
Phase I human trial of any product that utilizes licensed subject matter.
Under the amended M.D. Anderson License Agreement, the Company has the
right to a royalty-bearing, exclusive license to manufacture, have
F-15
manufactured, and use and/or sell licensed products. M.D. Anderson's
retained interest consists of royalties on net sales of licensed products
and a share of consideration received by the Company from all sublicenses
and assignments. No royalties were paid under this agreement during the
years ended December 31, 2002 and 2001. The M.D. Anderson License
Agreement continues in effect until all patent rights have expired.
USC
Under an Option and License Agreement with USC dated January 23, 1998,
amended August 16, 2000, Biokeys acquired license rights to a total of
three patents, two relating to Biokeys' CoFactor product and one relating
to Selone, both of which are intended for use in connection with cancer
chemotherapy. In addition, under a second Option and License Agreement
dated August 17, 2000, Biokeys acquired rights under four patents related
to its Thiovir anti-viral technologies. These agreements with USC (the USC
License Agreements) grant Biokeys exclusive worldwide licenses to study,
use, manufacture and market drug products covered by the subject patents.
Under the USC License Agreements, Biokeys is obligated to pay USC for
out-of-pocket expenses incurred in filing, prosecuting, enforcing, and
maintaining the licensed patent rights and all future patent-related
expenses paid by USC as long as the USC License Agreements remain in
effect and until the patent rights have expired. USC's retained interest
consists of royalties on net sales of licensed products and a share of
consideration received by Biokeys from all sublicenses and assignments. No
royalties have been paid under this agreement. The USC License Agreements
continue in effect until all patent rights have expired.
NIH AGREEMENT
During December 2002, the Company entered into a worldwide exclusive
patent license agreement with NIH concerning composition of matter for its
drug, BlockAide/CR. Under the terms of the agreement, the Company agrees
to pay minimum royalty payments during the first year of the license and
minimum annual royalties thereafter or the higher amount based upon a
percentage of net sales. In addition, there are benchmark royalties based
upon: initiation of Phase I trials, initiation of Phase II trials,
initiation of Phase III trials, and upon first approval of a Product
License Application for an HIV therapeutic or vaccine in the US and for
first approval in Europe.
(11) SPONSORED RESEARCH
Since September 1996, the Company has entered into a total of four
Sponsored Research Agreements (SRAs) with M.D. Anderson. Under the SRAs,
M.D. Anderson agreed to conduct specific research activities for the
Company, at the expense of the Company, into various aspects of treating
HIV infections using technologies made available under the M.D. Anderson
License Agreement. All amounts due to M.D. Anderson under the first three
SRAs were paid or settled as of December 31, 2000, and such SRAs have been
terminated. The most recent SRA with M.D. Anderson, entered into September
7, 2000, provides for studies to test the ability of a mixture of
synthetic HIV derived peptides to elicit an antibody-negative cell
mediated immune response. The testing will seek to determine if this
immune response can protect against new infection and if the preparation
can be administered after HIV infection as a therapeutic. This SRA
requires a total of $814,490 payable in two equal installments for
research to be conducted through 2001 and into 2002. The first installment
was paid by the Company in 2000 and the second in 2001.
(12) OPERATIONAL STATUS
The accompanying consolidated financial statements have been prepared on a
going-concern basis which contemplates the realization of assets and
satisfaction of liabilities and commitments in the normal course of
F-16
business. The Company has incurred losses since inception and had net
losses of $2,105,727 and $16,339,120 for the years ended December 31, 2002
and 2001, respectively. In addition the Company had a working capital
deficiency and an accumulated deficit at December 31, 2002.
Through December 31, 2002 the Company has been principally engaged in
licensing and research and development efforts. The Company has no current
revenues, is not marketing any products, and projects a loss from
operations for 2003. The Company will require additional capital, which it
intends to obtain through equity and debt offerings and/or strategic
partnership in order to continue to operate its business. The Company's
ability to meet its obligations as they become due and to continue as a
going concern must be considered in light of the expenses, difficulties
and delays frequently encountered in operating a new business,
particularly since the Company will focus on research, development and
unproven technology which may require a lengthy period of time and
substantial expenditures to complete. Even if the Company is able to
successfully develop new products or technologies, there can be no
assurance that the Company will generate sufficient revenues from the sale
or licensing of such products and technologies to be profitable.
Management believes that the Company's ability to meet its obligations as
they become due and to continue as a going concern through at least
December 31, 2003 is dependent upon obtaining additional financing. The
consolidated financial statements do not include any adjustments that
might result from the outcome of this uncertainty.
(13) COMMITMENTS AND CONTINGENCIES
LITIGATION
In the normal course of business, the Company may become subject to
lawsuits and other claims and proceedings. Such matters are subject to
uncertainty and outcomes are not predictable with assurance. Management is
not aware of any pending or threatened lawsuit or proceeding that would
have a material adverse effect on the Company's financial position,
liquidity or results of operations.
EMPLOYMENT CONTRACTS
Effective January 1, 2002 the Company entered into a letter agreement with
its Chief Financial Officer to retain his services for a period of one
year at a monthly cost of $5,000. The letter agreement will automatically
renew for additional one-year terms unless either the Company or the Chief
Financial Officer gives notice to the other party at least 60 days prior
to the end of the then current term of such party's termination of the
letter agreement.
OPERATING LEASES
The Company is obligated under operating leases for office space and
equipment. A lease for office space expired in November 2000 and was
continued on a month to month basis through October 31, 2002. Rent expense
was $57,996 and $51,609 during the years ended December 31, 2002 and 2001,
respectively.
In February 2001, the Company leased office facilities in San Diego,
California. The lease requires a monthly payment of $2,900 and expires in
January 2004.
The following table summarizes the future rental commitments under all
operating leases for years subsequent to December 31, 2002:
YEAR ENDED DECEMBER 31, AMOUNT
--------------------------- ---------------
2003 $ 38,493
2004 2,951
---------------
Total 41,444
===============
F-17
(14) SUBSEQUENT EVENTS
In January 2003 the Company initiated a private placement offering in an
effort to raise $1,200,000 in additional capital. Through March 18, 2003,
the Company has raised $635,949 in connection with this offering.
In March 2003 the Company converted 70,109.3 shares of Series C
convertible preferred stock into 14,021,860 shares of common stock.
In March 2003 the Company granted options under a non-statutory stock
option plan to purchase 2,412,500 shares of the Company's stock at .50
price per share. The options were valued using the Black-Scholes pricing
model. The value of the options on the date of the grant was $948,846. The
options expire on December 30, 2008 and vest on varying dates from March
2003 to April 2005.
F-18
EXHIBIT 10.8
20, January 2003
Mr. Nicholas J. Virca
Biokeys Pharmaceuticals, Inc.
9948 Hibert Street, Suite 100
San Diego, CA
Dear Nick:
This contract is between Biokeys Pharmaceuticals, Inc. (Biokeys) and Steven M.
Plumb, P.C. (Firm). This is an employee leasing contract. The Firm will provide
a Chief Financial Officer (CFO) for Biokeys. The Firm has identified the
following employee to provide this service for Biokeys:
Steven M. Plumb, CPA
The Firm will be responsible for all benefits, taxes and other costs related to
Mr. Plumb's employment. The Firm will provide 30 hours per month of Mr. Plumb's
time for a monthly fee of $5,000. If the amount of time Mr. Plumb spends on
Biokeys activities exceeds 30 hours per month, the excess time will be billed
at $165 per hour. Our standard billing rate is $175 per hour. A no interest
bearing retainer will be due upon execution of this contract.
Biokeys is required to maintain Directors and Officers insurance (Insurance)
during the term of this contract. The CFO will be under the control of the
management of Biokeys. The CFO will sign SEC reports filed by Biokeys. However,
if Insurance is not in force during any portion of this contract, CFO will not
sign any SEC documents during that period of time. CFO retains the right to
modify the SEC disclosure requirements mandated by the Sarbanes-Oxley Act.
The Firm has not been engaged to provide, nor will it provide, any attestation
services, such as auditing, review or compilation services under this contract.
The effective date of this contract is retroactive to January 1, 2003 and is
for a period of one year. If Biokeys cancels the contract or fails to perform
for any reason, then it shall pay the Firm damages equal to the balance that it
would have paid had the contract been fully performed. Unless canceled by
either party with written notice sixty (60) days prior to the end of the
contract, the contract will automatically renew for another twelve (12) month
period with a 5% fee increase. The contract will roll over automatically until
canceled in writing by either party within sixty (60) days notice prior to the
end of the contract. The retainer will be applied to the last months billing.
Should the contract be renewed, the retainer shall be rolled forward and will
apply to the last billing of the renewed contract. If Steven M. Plumb becomes
disabled or unable to perform due to circumstances beyond his control, then the
Firm is released from this contract and the Firm has no liability under this
agreement. Biokeys may cancel this contract with 60 days written notice.
Payment will be due on the 15th of each month via wire transfer. Payment for
the month of January 2003 is due immediately. Funds will be wired to the
account of Steven M. Plumb, P.C. at Compass Bank, Routing Number 113040547,
Account Number 71392791. Interest of 1.5% per month will be charged on all
outstanding balances. The payment due upon execution of this contract is
$10,000, which consists of $5,000 for January and the $5,000 retainer. If
Biokeys becomes 60 days or more in arrears on payments to the Firm, the Firm
has the right to stop performing services under this contract.
All outstanding invoices, for services previously billed by the Firm, will be
paid by February 15, 2003. Any outstanding invoices that are still outstanding
after this date will be subject to a finance charge of 1.5% per month. It is
the intent of both parties to resolve the outstanding balance before the next
SEC filing deadline, March 31, 2003. If the SEC deadline is extended, then this
data shall also be extended.
Biokeys will reimburse Firm for reasonable expenses such as travel, mileage,
photocopies, long distance, postage and supplies. Biokeys will pay for a
subscription to SEC practice procedures. The cost of this subscription is
estimated to be $900 per year.
This contract does not cover any services rendered prior to January 1, 2003.
Fees for these services will be billed separately and are due upon receipt.
Late payment of these fees will result in an interest charge of 1.5% per month
on the unpaid balance.
All agreements between the parties are contained in this document. There are no
oral agreements between the parties.
This agreement is governed exclusively by Texas substantive law without
reference to Texas choice of law rules. The parties agree that all disputes
arising out of or related to this agreement must be litigated in the state
district courts of Harris County, Texas, which the parties agree shall be the
exclusive forum for any and all litigation between them. Biokeys expressly
agrees that it is subject to personal jurisdiction in Texas for any and all
disputes between the parties. Biokeys further agrees that subject matter
jurisdiction for any and all disputes between the parties lies exclusively in
the Texas state courts.
Please indicate your acceptance of the above understanding by signing below. A
copy is enclosed for your records. If your needs change during the year, the
nature of our services can be adjusted appropriately. Likewise, if you have
special projects with which we can assist, please let us know.
Sincerely,
Steven M. Plumb, P.C.
Steven Plumb, CPA
The undersigned represents that he is authorized by Biokeys Pharmaceuticals,
Inc. to sign on behalf of Biokeys Pharmaceuticals, Inc. and hereby accepts this
contract.
Accepted by: __________________________________ Date ________________
Nicholas J. Virca
President
EXHIBIT 10.9
March 5, 2003
Joan M. Robbins, Ph.D.
10265 Pinetree Drive
San Diego, CA 92131
Dear Joan:
Biokeys Pharmaceuticals, Inc. is pleased to offer you the position of Chief
Technical Officer, reporting directly to me. Responsibilities will encompass
all aspects of moving our product portfolio from the research lab through
clinical development and regulatory authorities. This is a key position in the
Company, intended to take full advantage of your experience base, while
offering you an opportunity to grow in responsibility and be rewarded through a
lucrative compensation package as follows:
COMPENSATION PACKAGE
1. Annual Salary of $170,000, paid every two weeks (You will be entitled
to a compensation review at the one year anniversary of employment.)
2. 300,000 Incentive Stock Options struck at 50 cents per share that
expire on 12/30/08. 100,000 will vest upon acceptance of this offer,
100,000 will vest at the one year anniversary of your employment and
100,000 will vest at the two year anniversary of your employment.
3. A Bonus Schedule of 5% for all government grants received by the
Company to be paid in incentive stock options. (For example, if the
Company receives a grant for $1,000,000, then we will reserve 50,000
additional incentive options priced at the close of business on the day
that the Company is notified of the grant. When the grant is received,
you will receive the options.)
4. A Bonus Schedule of 5% paid in incentive stock options for all capital
received by the Company that is a direct result of your introduction,
which does not require that you consummate the investment, but rather
you only need refer the new party. (For example, if the Company
receives an investment for $2,000,000 from an Investor that you
introduce or refer to the Company, then we will issue to you 100,000
additional incentive stock options priced at the close of business on
the day that the investment is received.)
5. You will receive four weeks paid vacation per year, which will begin to
accrue at one week per quarter, plus paid holidays.
6. You will be offered a paid healthcare benefits package if you do not
have coverage.
7. The Company will pre-pay or reimburse you for all pre-approved job
related expenses for performance of your duties.
We believe you can contribute significantly to the success of our Company, grow
with us, and be rewarded appropriately for your accomplishments. Please let us
know if you want to join our team.
Sincerely,
Nicholas J. Virca
Chief Executive Officer
EXHIBIT 21.1
LIST OF SUBSIDIARIES
Biokeys, Inc., a corporation incorporated under the laws of the state of
Delaware, is a wholly-owned subsidiary of Biokeys Pharmaceuticals, Inc.
Biokeys, Inc. does business only under the name Biokeys, Inc.
EXHIBIT 99.1
CERTIFICATION OF CEO AND CFO PURSUANT TO
18 U.S.C. Section 1350,
AS ADOPTED PURSUANT TO
Section 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report on Form 10-KSB of Biokeys Pharmaceuticals,
Inc. (the "Company") for the fiscal year ended December 31, 2002 as filed with
the Securities and Exchange Commission on the date hereof (the "Report"), each
of Nicholas J. Virca, Chief Executive Officer of the Company, and Steven M.
Plumb, CPA, Chief Financial Officer of the Company, hereby certify, pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, to the best of his knowledge, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934, as amended; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and result of operations of the Company.
/s/ Nicholas J. Virca
- -----------------------
Nicholas J. Virca
Chief Executive Officer
April 15, 2003
/s/ Steven M. Plumb
- -----------------------
Steven M. Plumb, CPA
Chief Financial Officer
April 15, 2003
This certification accompanies this Report pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the
Sarbanes-Oxley Act of 2002, or otherwise required, be deemed filed by the
Company for purposes of Section 18 of the Securities Exchange Act of 1934, as
amended.
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