SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q/A-210-Q
(Mark One)
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Quarterly Period Ended JuneSeptember 30, 20042005
Or
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period fromto
Commission file number: 000-30975
TRANSGENOMIC, INC.
(Exact name of registrant as specified in its charter)
Delaware | 911789357 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
12325 Emmet Street, Omaha, Nebraska | 68164 | |
(Address of principal executive offices) | (Zip Code) |
(402) 452-5400
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934,1934) Yes ¨ No x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act of 1934) Yes ¨ No x
As of August 13, 2004,November 14, 2005, the number of shares of common stock outstanding was 29,070,651.49,172,079.
Explanatory Note
We are amending our quarterly report on Form 10-Q for the quarterly period ended June 30, 2004 (“Form 10-Q”) for certain adjustments that are required to appropriately report cash flows from operating and investing activities in the condensed consolidated statements of cash flows included in Part I, Item 1 herein and related cash flow disclosures included in Part I, Item 2. These restatements are discussed in Note L to the condensed consolidated financial statements and result only in a reclassification of certain items within the condensed consolidated statements of cash flows. They have no effect on the net change in cash and cash equivalents for any period reported or any other line item in the condensed consolidated financial statements. Except to the extent affected by the correction of this error, we have made no other changes to our Form 10-Q.
INDEX
Page No. | ||||
PART I. | 1 | |||
Item 1. | 1 | |||
Unaudited Condensed Consolidated Balance Sheets as of September 30, 2005 and December 31, 2004 | 1 | |||
| ||||
2 | ||||
3 | ||||
Notes to Unaudited Condensed Consolidated Financial Statements | 4 | |||
Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 15 | ||
Item 3. | 26 | |||
Item 4. | ||||
PART | 26 | |||
Item 1. | 26 | |||
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds | 26 | ||
Item 6. | ||||
PART II. FINANCIAL INFORMATION
Transgenomic, Inc. and SubsidiariesUNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
Condensed Consolidated Balance Sheets (Unaudited)
(InDollars in thousands except share and per share data)
June 30, 2004 | December 31, 2003 | September 30, 2005 | December 31, 2004 | |||||||||||||
ASSETS | ||||||||||||||||
Current Assets | ||||||||||||||||
CURRENT ASSETS: | ||||||||||||||||
Cash and cash equivalents | $ | 656 | $ | 1,241 | $ | 1,361 | $ | 1,002 | ||||||||
Short-term investments | 1,405 | — | 1,556 | — | ||||||||||||
Accounts receivable—net | 11,273 | 10,877 | ||||||||||||||
Accounts receivable (net of allowances for bad debts of $896 and $1,051, respectively) | 8,729 | 10,197 | ||||||||||||||
Inventories | 11,129 | 10,584 | 4,101 | 5,366 | ||||||||||||
Prepaid expenses and other current assets | 1,992 | 1,676 | 652 | 1,343 | ||||||||||||
Total current assets | 26,455 | 24,378 | 16,399 | 17,908 | ||||||||||||
Property and Equipment | ||||||||||||||||
PROPERTY AND EQUIPMENT: | ||||||||||||||||
Land and buildings | 2,276 | 2,239 | 2,221 | 2,427 | ||||||||||||
Equipment | 19,548 | 20,362 | 18,066 | 19,263 | ||||||||||||
Furniture and fixtures | 9,101 | 9,054 | 5,833 | 5,781 | ||||||||||||
Total property and equipment | 30,925 | 31,655 | ||||||||||||||
26,120 | 27,471 | |||||||||||||||
Less: accumulated depreciation | 15,066 | 12,951 | 15,509 | 13,946 | ||||||||||||
Net property and equipment | 15,859 | 18,704 | ||||||||||||||
Goodwill | 638 | 10,503 | ||||||||||||||
Intangible and other assets | 3,356 | 3,721 | ||||||||||||||
10,611 | 13,525 | |||||||||||||||
Total assets | $ | 46,308 | $ | 57,306 | ||||||||||||
GOODWILL | 638 | 638 | ||||||||||||||
OTHER ASSETS | 4,141 | 5,387 | ||||||||||||||
$ | 31,789 | $ | 37,458 | |||||||||||||
LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||||||||||
Current Liabilities | ||||||||||||||||
CURRENT LIABILITIES: | ||||||||||||||||
Accounts payable | $ | 3,667 | $ | 3,580 | $ | 2,463 | $ | 3,431 | ||||||||
Other accrued expenses | 4,559 | 3,874 | ||||||||||||||
Accrued expenses | 4,383 | 7,318 | ||||||||||||||
Accrued compensation | 887 | 959 | 530 | 636 | ||||||||||||
Line of credit | 5,487 | 2,142 | 6,935 | 6,514 | ||||||||||||
Current portion of long-term debt | 750 | 1,693 | 675 | 825 | ||||||||||||
Total current liabilities | 15,350 | 12,248 | 14,986 | 18,724 | ||||||||||||
Long Term Liabilities | ||||||||||||||||
Long-term debt | 1,862 | — | 1,226 | 2,199 | ||||||||||||
Total liabilities | 17,212 | 12,248 | 16,212 | 20,923 | ||||||||||||
Stockholders’ Equity | ||||||||||||||||
Preferred stock $.01 par value, 15,000,000 shares authorized, none outstanding | — | — | ||||||||||||||
Common stock $.01 par value, 60,000,000 shares authorized, 29,070,651 and 28,119,122 issued in 2004 and 2003, respectively | 296 | 286 | ||||||||||||||
COMMITMENTS AND CONTINGENCIES (Note F) | ||||||||||||||||
STOCKHOLDERS’ EQUITY: | ||||||||||||||||
Preferred stock, $.01 par value, 15,000,000 shares authorized, none outstanding | — | — | ||||||||||||||
Common stock, $.01 par value, 60,000,000 shares authorized, 34,246,336 and 29,330,874 shares outstanding, respectively | 348 | 299 | ||||||||||||||
Additional paid-in capital | 118,940 | 115,904 | 125,058 | 120,798 | ||||||||||||
Accumulated other comprehensive income (loss) | 1,581 | 1,597 | ||||||||||||||
Accumulated other comprehensive income | 1,051 | 2,539 | ||||||||||||||
Accumulated deficit | (91,721 | ) | (72,729 | ) | (110,880 | ) | (107,101 | ) | ||||||||
Total stockholders’ equity | 29,096 | 45,058 | 15,577 | 16,535 | ||||||||||||
Total liabilities and stockholders’ equity | $ | 46,308 | $ | 57,306 | ||||||||||||
$ | 31789 | $ | 37,458 | |||||||||||||
The accompanyingSee notes are an integral part of theseto consolidated financial statements.
Transgenomic, Inc. and SubsidiariesTRANSGENOMIC INC.
Condensed Consolidated Statements of Operations (Unaudited)UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(InDollars in thousands except share and per share data)
Three Months Ended June 30, | Six Months Ended June 30, | Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||||||||||||||||
2004 | 2003 | 2004 | 2003 | 2005 | 2004 | 2005 | 2004 | |||||||||||||||||||||||||
Net sales | $ | 9,011 | $ | 8,481 | $ | 17,640 | $ | 17,986 | $ | 8,706 | $ | 8,194 | $ | 23,711 | $ | 25,834 | ||||||||||||||||
Cost of goods sold | 5,858 | 5,925 | 11,627 | 11,739 | 4,761 | 6,857 | 13,609 | 18,484 | ||||||||||||||||||||||||
Gross profit | 3,153 | 2,556 | 6,013 | 6,247 | 3,945 | 1,337 | 10,102 | 7,350 | ||||||||||||||||||||||||
Operating expenses: | ||||||||||||||||||||||||||||||||
Selling, general and administrative | 4,268 | 4,265 | 8,513 | 8,908 | 2,885 | 4,353 | 10,023 | 12,866 | ||||||||||||||||||||||||
Research and development | 1,672 | 2,362 | 3,601 | 4,688 | 510 | 1,743 | 1,696 | 5,344 | ||||||||||||||||||||||||
Impairment charges (Note E) | 11,964 | — | 11,964 | — | ||||||||||||||||||||||||||||
Restructuring charges (Note K) | — | 474 | — | 738 | ||||||||||||||||||||||||||||
Impairment charges (Notes C and D) | 247 | — | 247 | 11,964 | ||||||||||||||||||||||||||||
17,904 | 7,101 | 24,078 | 14,334 | 3,642 | 6,096 | 11,966 | 30,174 | |||||||||||||||||||||||||
Loss from operations | (14,751 | ) | (4,545 | ) | (18,065 | ) | (8,087 | ) | ||||||||||||||||||||||||
Income (Loss) from operations | 303 | (4,759 | ) | (1,864 | ) | (22,824 | ) | |||||||||||||||||||||||||
Other income (expense): | ||||||||||||||||||||||||||||||||
Interest and investment income (loss) | — | 12 | (26 | ) | 46 | |||||||||||||||||||||||||||
Interest and financing expense | (346 | ) | (51 | ) | (935 | ) | (93 | ) | ||||||||||||||||||||||||
Interest expense (Note E) | (181 | ) | (723 | ) | (1,919 | ) | (1,684 | ) | ||||||||||||||||||||||||
Loss on debt extinguishment | — | (2,859 | ) | — | (2,859 | ) | ||||||||||||||||||||||||||
Other income (expense), net | (33 | ) | (76 | ) | (61 | ) | (109 | ) | (3 | ) | (100 | ) | 31 | (161 | ) | |||||||||||||||||
(379 | ) | (115 | ) | (1,022 | ) | (156 | ) | (184 | ) | (3,682 | ) | (1,888 | ) | (4,704 | ) | |||||||||||||||||
Loss before income taxes | (15,130 | ) | (4,660 | ) | (19,087 | ) | (8,243 | ) | ||||||||||||||||||||||||
Income(loss) before income taxes | 119 | (8,441 | ) | (3,752 | ) | (27,528 | ) | |||||||||||||||||||||||||
Current income tax expense (benefit) | 2 | 10 | (95 | ) | 24 | 8 | 1 | 27 | (94 | ) | ||||||||||||||||||||||
Net loss | $ | (15,132 | ) | $ | (4,670 | ) | $ | (18,992 | ) | $ | (8,267 | ) | ||||||||||||||||||||
Net income (loss) | $ | 111 | $ | (8,442 | ) | $ | (3,779 | ) | $ | (27,434 | ) | |||||||||||||||||||||
Basic and diluted weighted average shares outstanding | 29,053,226 | 23,540,979 | 28,887,334 | 23,529,858 | 34,242,966 | 29,077,789 | 32,837,078 | 28,951,230 | ||||||||||||||||||||||||
Net loss per common share—basic and diluted | $ | (0.52 | ) | $ | (0.20 | ) | $ | (0.66 | ) | $ | (0.35 | ) | ||||||||||||||||||||
Net income (loss) per common share—basic and diluted | $ | 0.00 | $ | (0.29 | ) | $ | (0.12 | ) | $ | (0.95 | ) |
The accompanyingSee notes are an integral part of theseto consolidated financial statements.
Transgenomic, Inc. and SubsidiariesTRANSGENOMIC INC.
Condensed Consolidated Statements of Cash Flows (Unaudited)
(In thousands)
Six Months Ended June 30, | ||||||||
2004 | 2003 | |||||||
(As restated, see Note L) | ||||||||
Cash Flows from Operating Activities | ||||||||
Net loss | $ | (18,992 | ) | $ | (8,267 | ) | ||
Adjustments to reconcile net loss to net cash flows from operating activities: | ||||||||
Depreciation and amortization | 2,410 | 2,070 | ||||||
Impairment charges (Note E) | 11,964 | — | ||||||
Non-cash restructuring and restructuring related charges | — | 364 | ||||||
Non-cash financing charges | 622 | — | ||||||
Non-cash compensation expense | — | 85 | ||||||
Loss on sale of securities | 27 | 46 | ||||||
Changes in operating assets and liabilities: | ||||||||
Purchase of trading securities | — | (1,565 | ) | |||||
Proceeds from sale of trading securities | — | 1,519 | ||||||
Accounts receivable | (1,926 | ) | 995 | |||||
Inventories | (422 | ) | 326 | |||||
Prepaid expenses and other current assets | (362 | ) | (188 | ) | ||||
Accounts payable | 61 | (522 | ) | |||||
Accrued expenses and other current liabilities | (334 | ) | (1,304 | ) | ||||
Net cash flows from operating activities | (6,952 | ) | (6,441 | ) | ||||
Cash Flows from Investing Activities | ||||||||
Purchase of property and equipment | (1,133 | ) | (4,886 | ) | ||||
Proceeds from the maturities and sale of available for sale securities | 932 | 3,612 | ||||||
Change in other assets | (1 | ) | (161 | ) | ||||
Net cash flows from investing activities | (202 | ) | (1,435 | ) | ||||
Cash Flows from Financing Activities | ||||||||
Issuance of common stock and common stock warrants | 45 | 75 | ||||||
Proceeds from long-term debt | 2,750 | — | ||||||
Payment of long-term debt | (1,729 | ) | — | |||||
Line of credit | 5,586 | 1,337 | ||||||
Net cash flows from financing activities | 6,652 | 1,412 | ||||||
Effect of foreign currency exchange rates on cash | (83 | ) | (226 | ) | ||||
Net change in cash and cash equivalents | (585 | ) | (6,690 | ) | ||||
Cash and cash equivalents at beginning of period | 1,241 | 9,735 | ||||||
Cash and cash equivalents at end of period | $ | 656 | $ | 3,045 | ||||
Non-cash Items: | ||||||||
Available for sale securities acquired for goods and services | $ | 959 | $ | — | ||||
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
The accompanying(Dollars in thousands except per share data)
Nine Months Ended September 30, | ||||||||
2005 | 2004 | |||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||
Net loss | $ | (3,779 | ) | $ | (27,434 | ) | ||
Adjustments to reconcile net loss to net cash flows from operating activities: | ||||||||
Depreciation and amortization | 3,294 | 3,607 | ||||||
Impairment charges | 247 | 11,964 | ||||||
Loss on debt extinguishment | — | 2,859 | ||||||
Non-cash financing costs | 1,298 | 759 | ||||||
(Gain)/Loss on sale of securities | (9 | ) | 370 | |||||
Other | 2 | 12 | ||||||
Changes in operating assets and liabilities: | ||||||||
Accounts receivable | (626 | ) | (2,469 | ) | ||||
Inventories | 960 | 819 | ||||||
Prepaid expenses and other current assets | 650 | (69 | ) | |||||
Accounts payable | (912 | ) | 100 | |||||
Accrued expenses | (3,101 | ) | 774 | |||||
Net cash flows from operating activities | (1,976 | ) | (8,708 | ) | ||||
CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||
Proceeds from the maturities and sale of available for sale securities | 617 | 2,768 | ||||||
Purchase of property and equipment | (554 | ) | (1,250 | ) | ||||
Proceeds from sales of property and equipment | 139 | — | ||||||
Change in other assets | 34 | 26 | ||||||
Net cash flows from investing activities | 236 | 1,544 | ||||||
CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||
Advances on line of credit | 15,367 | 19,691 | ||||||
Payments on line of credit | (12,848 | ) | (13,594 | ) | ||||
Proceeds from long-term debt | — | 2,750 | ||||||
Payments on long-term debt | (178 | ) | (1,729 | ) | ||||
Issuance of common stock, net of expenses | (35 | ) | 67 | |||||
Net cash flows from financing activities | 2,306 | 7,185 | ||||||
EFFECT OF FOREIGN CURRENCY EXCHANGE RATE CHANGES ON CASH | (207 | ) | (137 | ) | ||||
NET CHANGE IN CASH AND CASH EQUIVALENTS | 359 | (116 | ) | |||||
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR | 1,002 | 1,241 | ||||||
CASH AND CASH EQUIVALENTS AT END OF PERIOD | $ | 1,361 | $ | 1,125 | ||||
SUPPLEMENTAL CASH FLOW INFORMATION | ||||||||
Cash paid during the period for: | ||||||||
Interest | $ | 491 | $ | 390 | ||||
Income taxes, net | 27 | (94 | ) | |||||
Non-cash transactions: | ||||||||
Available for sale securities received for goods and services | 2,099 | 3,137 | ||||||
Conversions of debt to equity | 2,535 | 2,000 |
See notes are an integral part of theseto consolidated financial statements.
Transgenomic, Inc. and SubsidiariesNOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Notes to the Condensed Consolidated Financial Statements (Unaudited)
(InDollars in thousands except share and per share data)
A. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The accompanying unaudited condensed consolidated financial statements of Transgenomic, Inc. and Subsidiaries (the “Company”) have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to such rules and regulations. In the opinion of management of the Company, all adjustments (consisting of only normal and recurring accruals)items) have been made to present fairly the financial positions, the results of operations and cash flows for the periods presented.
The results of operations for the sixthree and nine months ended JuneSeptember 30, 20042005 and 20032004 are not necessarily indicative of the results to be expected for the full year.
Although the Company believes that the disclosures are adequate to make the information presented not misleading, these financial statements should be read in conjunction with the consolidated financial statements for the period ended December 31, 2003, that are included in the Company’s 2004 Annual Reportannual report on Form 10-K/A-2.10-K for the year ended December 31, 2004, as amended.
TheAs discussed in Note L, the Company hascompleted a private placement of additional common stock and warrants subsequent to September 30, 2005 which allowed it to repay outstanding indebtedness to Laurus Master Funds Ltd. (“Laurus”) and provided $5,374 in additional working capital. While we believe that existing sources of liquidity are sufficient to meet expected cash needs through 2006, we have experienced recurring net losses and had an accumulated deficit of $91.7 million at June 30, 2004. Based onhave historically relied upon cash flows from investing and financing activities to offset significant cash outflows from operating activities. To the Company’s 2004 and 2005 operating plans, management believes its existing sources of liquidity will be sufficient to meet its cash needs. Ifextent necessary, the Company’s management believes that they can manage costs and expenses at reduced levels to conserve working capital. The need for any such cost and expense reductions during 2004 and 2005 would likely delay implementation of the Company’s business plan. Additionally, management may pursue additional financing alternatives. Ultimately, the Companywe must achieve sufficient revenue levelsrevenues in order to generate positive net earnings and cash flows from operations.
Business Description
The Company develops, manufactures and sells innovative products for the analysis, synthesis and purification of nucleic acids through two operating segments, BioSystems and Nucleic Acids.
The BioSystems operating segment develops, assembles, manufactures and markets versatile products and provides analytical services to the medical research, clinical and pharmaceutical markets for use in genetic variation analysis. Products and services are sold through a direct sales force in the United States and throughout much of Western Europe. For the rest of the world, products and services are sold through more than 25 dealers and distributors located in those local markets. Net sales from this operating segment are categorized as bioinstruments, bioconsumables and Discovery Services.
TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
The Nucleic Acids operating segment develops, manufactures and markets chemical building blocks for nucleic acid synthesis to biotechnology, pharmaceutical, oligonucleotide synthesis companies and research institutions throughout the world. These products are produced primarily in this operating segment’s only facility in Glasgow, Scotland. Prior to November 11, 2004, this operating segment also manufactured synthesized segments of large-scale, GMP nucleic acids (known as oligonucleotides) in a facility in Boulder, Colorado. On November 11, 2004, the assets associated with this facility were sold to an unaffiliated, third party. As a result, the Nucleic Acids operating segment no longer manufactures and sells these specialized oligonucleotides. A substantial portion of this operating segment’s revenues during 2005 and 2004 have been derived from one customer.
Principles of Consolidation.
The condensed consolidated financial statements include the accounts of Transgenomic, Inc. and its cost structure.wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
Use of Estimates.
The preparation of consolidated financial statements 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. In particular, estimates of the valuation of long-term inventory are subject to considerable estimation error due to the inherent uncertainty in projecting sales of this product over a period of years. In addition, estimates and assumptions associated with the determination of fair value of certain assets and related impairments, and the determination of goodwill impairments require considerable judgment by management. Actual results could differ from the estimates and assumptions used in preparing these financial statements.
Cash and Cash Equivalents.
For purposes of reporting cash flows, cash and cash equivalents include cash and temporary investments with original maturities at acquisition of three months or less.
Accounts Receivable.
Accounts receivable are shown net of allowance for doubtful accounts. The following is a summary of activity for the allowance for doubtful accounts.
Three Months Ended | Nine Months Ended | |||||||||||
September 30, 2005 | September 30, 2004 | September 30, 2005 | September 30, 2004 | |||||||||
Beginning balance | $ | 998 | $ | 550 | $ | 1,051 | $ | 549 | ||||
Charges to income | — | 30 | — | 46 | ||||||||
Deductions from reserves | 102 | — | 155 | 15 | ||||||||
Ending balance | $ | 896 | $ | 580 | $ | 896 | $ | 580 | ||||
TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
Revenue Recognition.
Revenue on the sales of products is recognized in accordance with the terms of the sales arrangement. Such recognition is based on receipt of an unconditional customer order and transfer of title and risk of ownership to the customer, typically upon shipment of the product. Our sales terms do not provide for the right of return unless the product is damaged or defective. Revenues from certain services associated with our analytical instruments, to be performed subsequent to shipment of the products, is deferred and recognized when the services are provided. Such services, mainly limited to installation and training services that are not essential to the functionality of the instruments, typically are performed in a timely manner subsequent to shipment of the instrument. The Company also enters into various service contracts that cover installed automated instrumentWAVE systems. These contracts cover specific time periods and revenue associated with these contracts is deferred and recognized over the service period. At September 30, 2005 and December 31, 2004, deferred revenue associated with the Company’s service contracts was approximately $1,600 and $1,432 respectively, and is included in “accrued expenses” in the accompanying unaudited consolidated balance sheets.
During the first quarter ofnine months ended September 30, 2004, the Company recognized approximately $196,000$646 of product sales under bill-and-hold arrangements. Under these arrangements, the customer had accepted title and risk of ownership to the product, but had requested that the Company store the product on behalf of the customer, in a rented freezer, until the second quarter ofnine months ended September 30, 2004.
During the second quarter of 2004, the Company recognized approximately $450,000 of product There were no sales under bill-and-hold arrangements. Under these arrangements recognized during the customer had accepted title and risk of ownership to the product, but had requested that the Company store the product on behalf of the customer, in a rented freezer, until the third quarter of 2004.nine months ended September 30, 2005.
Stock Based Compensation.
The Company accounts for its employee stock option grants under the provisions of Accounting Principles Board Opinion No. 25,Accounting for Stock Issued to Employees, which utilizes the intrinsic value method. Accordingly, compensation cost for stock options is measured as the excess, if any, of the fair market value of the Company’s common stock at the date of grant over the stock option exercise price. Stock option grants to nonemployeesnon-employees are accounted for using the fair value method of accounting in accordance with Statement of Financial Accounting Standards (SFAS)SFAS No. 123,Accounting for Stock-Based Compensation, using the Black-Scholes model.
The following table illustrates the effect on net loss and loss per share if the Company had applied the fair value recognition provisions of SFAS No. 123Accounting for Stock-Based Compensation, to stock based employee compensation.
Three Months Ended | Six Months Ended | |||||||||||||||
June 30, 2004 | June 30, 2003 | June 30, 2004 | June 30, 2003 | |||||||||||||
Net Loss: | ||||||||||||||||
As reported | $ | (15,132 | ) | $ | (4,670 | ) | $ | (18,992 | ) | $ | (8,267 | ) | ||||
Pro forma | $ | (15,353 | ) | $ | (5,211 | ) | $ | (19,476 | ) | $ | (9,187 | ) | ||||
Basic and Diluted Loss Per Share: | ||||||||||||||||
As reported | $ | (0.52 | ) | $ | (0.20 | ) | $ | (0.66 | ) | $ | (0.35 | ) | ||||
Pro forma | $ | (0.53 | ) | $ | (0.22 | ) | $ | (0.68 | ) | $ | (0.39 | ) |
Transgenomic, Inc. and Subsidiaries
Notes to the Condensed Consolidated Financial Statements (Unaudited)
(In thousands except share and per share data)
B. INVESTMENTS
As of December 31, 2003, the Company had no available-for-sale securities. The amortized cost of available-for-sale securities and their approximate fair values as of June 30, 2004, were as follows:
June 30, 2004 | Amortized | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||
Corporate common stock | $ | 1,577 | $ | — | $ | 172 | $ | 1,405 | ||||
Total securities available-for-sale | $ | 1,577 | $ | — | $ | 172 | $ | 1,405 | ||||
In January and March 2004, the Company entered into addendums to an existing supply agreement with Geron Corporation. The addendums allowed Geron to pay for products being manufactured by the Company under the addendum with Geron common stock. As a result, in January 2004 Geron issued 85,885 shares of common stock, valued at $959,000, to the Company as a prepayment for products. On February 12, 2004 the company sold these shares for $932,000 resulting in a loss of $27,000, which is reflected in the current earnings. In March 2004, Geron issued 33,662 shares of common stock, valued at $289,000, to the Company as a prepayment for products. In April, Geron issued 140,872 shares of common stock valued at $1,288,000, to the Company as payment and prepayment for product. These shares are being accounted for as available for sale securities.
In June 2003, the Company entered into a license agreement with Geron. As part of the agreement, the Company was required to purchase 310,000 share of Geron common stock for $5.05 per share on June 3, 2002. On June 4, 2003, the Company sold the Geron shares. The purchase and sale of these shares was accounted for as a purchase and sale of trading securities. The purchase price was $1,565,500 and the sale proceeds were $1,519,000 resulting in a trading loss of $46,500. This loss is reflected in current earnings.
C. INVENTORIES
At June 30, 2004, and December 31, 2003, inventories consisted of the following:
June 30, 2004 | December 31, 2003 | |||||
Finished goods | $ | 3,712 | $ | 5,319 | ||
Raw materials and work in progress | 7,054 | 5,074 | ||||
Demonstration inventory | 363 | 191 | ||||
$ | 11,129 | $ | 10,584 | |||
D. INTANGIBLES AND OTHER ASSETS
At June 30, 2004, and December 31, 2003, finite lived intangible assets and other assets consisted of the following:
Useful Lives | June 30, 2004 | December 31, 2003 | ||||||||||||||||||
Cost | Accumulated Amortization | Net Book Value | Cost | Accumulated Amortization | Net Book Value | |||||||||||||||
Capitalized software | 3 | $ | 2,132 | $ | 1,114 | $ | 1,018 | $ | 2,132 | $ | 758 | $ | 1,374 | |||||||
Intellectual property | 5-20 | 765 | 207 | 558 | 765 | 165 | 600 | |||||||||||||
Patents | 17.5 | 1,067 | 182 | 885 | 1,035 | 170 | 865 | |||||||||||||
Deferred financing costs | 3 | 576 | 76 | 500 | 409 | — | 409 | |||||||||||||
Other | 3-7 | 562 | 167 | 395 | 656 | 183 | 473 | |||||||||||||
Total | $ | 5,102 | $ | 1,746 | $ | 3,356 | $ | 4,997 | $ | 1,276 | $ | 3,721 | ||||||||
Amortization expense for intangible assets was $243,000 and $200,000 during the three months ended June 30, 2004 and 2003, respectively, and $486,000 and $418,000 during the six months ended June 30, 2004, and 2003, respectively. The Company expects amortization expense for intangible assets to be approximately $588,000 for the remainder of 2004, $1,022,000 in 2005, $367,000 in 2006, $377,000 in 2007, $77,000 in 2008, $104,000 in 2009 and $104,000 in 2010.
Transgenomic, Inc. and Subsidiaries
Notes to the Condensed Consolidated Financial Statements (Unaudited)
(In thousands except share and per share data)
E. GOODWILL
At June 30, 2004, and December 31, 2003, goodwill by operating segment consisted of the following:
BioSystems operating segment | Nucleic Acids operating segment | Total | |||||||||
Net balance December 31, 2003 | $ | 638 | $ | 9,865 | $ | 10,503 | |||||
Impairment Charges | — | (9,865 | ) | (9,865 | ) | ||||||
Net balance June 30, 2004 | $ | 638 | $ | — | $ | 638 | |||||
During the three months ended March 31, 2004, the Company’s Board of Directors directed management to explore strategic alternatives for the Nucleic Acids operating segment. The ongoing process has included significant due diligence by management, its advisors and prospective independent buyers and other interested parties.
Based upon information obtained through this process during the three months ended June 30, 2004, management determined that it was more likely than not that the assets of the Nucleic Acids business were impaired. Accordingly, the Company engaged an external valuation firm to assist with the completion of a mid-year impairment test. As a result, the Company recorded a non-cash charge of $11,964,387 related to its Nucleic Acids segment during the three months ended June 30, 2004. The charge consisted of $9,864,387 related to the impairment of goodwill and $2,100,000 related to the impairment of property and equipment.
F. STOCKHOLDERS’ EQUITY AND STOCK OPTIONS
Other Comprehensive Income.Results of operations for the Company’s foreign subsidiaries are translated using the average exchange rates during the period. Assets and liabilities are translated at the exchange rate in effect on the balance sheet dates. These translation adjustments, along with unrealized gains and losses on available-for-sale securities, are the Company’s only components of other comprehensive income.
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2004 | 2003 | 2004 | 2003 | |||||||||||||
Net loss | $ | (15,132 | ) | $ | (4,670 | ) | $ | (18,992 | ) | $ | (8,267 | ) | ||||
Unrealized loss on available for sale securities | (199 | ) | — | (172 | ) | — | ||||||||||
Currency translation adjustments | (190 | ) | 746 | 156 | 168 | |||||||||||
Total comprehensive loss | $ | (15,521 | ) | $ | (3,924 | ) | $ | (19,008 | ) | $ | (8,099 | ) | ||||
Stock Options.During the six months ended June 30, 2004, the Company granted 360,000 options with an exercise price of $1.32 to $2.57 per share. The following table summarizes activity under the 1997 Stock Option Plan during the six months ended June 30, 2004.
Number of Options | Weighted Average Exercise Price | |||||
Balance at December 31, 2003 | 5,692,916 | $ | 5.37 | |||
Granted | 360,000 | $ | 1.74 | |||
Exercised | — | — | ||||
Forfeited | (234,132 | ) | $ | 5.78 | ||
Balance at June 30, 2004 | 5,818,784 | $ | 5.13 | |||
Exercisable at June 30, 2004 | 4,201,317 | $ | 5.74 |
Three Months Ended | Nine Months Ended | |||||||||||||||
September 30, 2005 | September 30, 2004 | September 30, 2005 | September 30, 2004 | |||||||||||||
Net Income (Loss): | ||||||||||||||||
As reported | $ | 111 | $ | (8,442 | ) | $ | (3,779 | ) | $ | (27,434 | ) | |||||
Less pro forma stock-based employee compensation expense determined under fair value method, net of related tax | (361 | ) | (280 | ) | (504 | ) | (764 | ) | ||||||||
Pro forma | $ | (250 | ) | $ | (8,722 | ) | $ | (4,283 | ) | $ | (28,198 | ) | ||||
Basic and Diluted Income (Loss) Per Share: | ||||||||||||||||
As reported | $ | 0.00 | $ | (0.29 | ) | $ | (0.12 | ) | $ | (0.95 | ) | |||||
Pro forma | $ | 0.00 | $ | (0.30 | ) | $ | (0.13 | ) | $ | (0.97 | ) |
The weighted average fair value of options granted during the first sixnine months ofended September 30, 2005 and 2004 was $0.63 per share and $1.34 per share.share, respectively. The fair value of each stock option granted is estimated at the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions for options granted induring the first sixnine months ofended September 30, 2005 and 2004: no common stock dividends; risk-free interest rates of 4.14% to 4.79%; 95% volatility in 2005 and 85% volatility;in 2004; and an expected option life of 3 years. At JuneSeptember 30, 2004,2005, the weighted average remaining contractual life of options outstanding was 6.15.5 years.
Transgenomic, Inc. and SubsidiariesTRANSGENOMIC INC.
Notes to the Condensed Consolidated Financial Statements (Unaudited)NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(InDollars in thousands except share and per share data)
G.Translation of Foreign Currency.
Financial statements of subsidiaries outside the U.S. are measured using the local currency as the functional currency. The adjustments to translate those amounts into U.S. dollars are accumulated in a separate account in stockholders’ equity and are included in other comprehensive income. Foreign currency transaction gains or losses resulting from changes in currency exchange rates are included in the determination of net income(loss). Foreign currency transaction adjustments reduced operating expenses by approximately $191 and $263 during the three months ended September 30, 2005 and 2004, respectively. Foreign currency transaction adjustments increased operating expenses by approximately $237 during the nine months ended September 30, 2005 and reduced operating expenses by approximately $135 during the nine months ended September 30, 2004.
Earnings or Loss Per Share.
Basic earnings or loss per share is calculated based on the weighted-average number of common shares outstanding during each period. Diluted earnings or loss per share includes shares issuable upon exercise of outstanding stock options and warrants or conversion of convertible notes, where dilutive. For all periods presented, basic and diluted weighted average shares outstanding and loss per share are identical, since all potentially dilutive securities are antidilutive. Potentially dilutive securities consist of stock options and warrants representing 5,5541,015 and 1,159,421 shares of common stock, respectively, at September 30, 2005,. Additionally, the Company’s gross indebtedness to Laurus totaling $8,263 at September 30, 2005 is convertible into the Company’s common stock at $1.00 per share, which was the closing price of the Company’s common stock on September 30, 2005. As described in Note L, this indebtedness was repaid subsequent to September 30, 2005.
Recently Issued Accounting Pronouncements
On December 16, 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123R, “Share-Based Payment”. SFAS No.123R addresses the accounting for share-based payment transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments. SFAS No. 123R eliminates the ability to account for share-based compensation transactions using Accounting Principles Board Opinion No. 25 and generally requires that such transactions be accounted for using a fair-value-based method. The Company expects to adopt this standard on January 1, 2006. The Company is currently assessing the final impact of this standard on its financial position, results of operations or cash flows. This assessment includes evaluating option valuation methodologies and assumptions as well as potential changes to compensation strategies.
On November 24, 2004, the FASB issued SFAS No. 151, “Inventory Costs” – an amendment of ARB No. 43. SFAS No. 151 requires idle facility expenses, freight, handling costs, and wasted material (spoilage) costs to be excluded from the cost of inventory and expensed when incurred. It also requires that allocation of fixed production overhead be based on the normal capacity of the production facilities. SFAS No. 151 will be effective for the Company on January 1, 2006. The Company is currently assessing the final impact of this standard on its financial position, results of operations or cash flows.
B. INVENTORIES
Inventories consisted of the following:
BioSystems Operating Segment | Nucleic Acids Operating Segment | Total | ||||||||||||||||
September 30, 2005 | December 31, 2004 | September 30, 2005 | December 31, 2004 | September 30, 2005 | December 31, 2004 | |||||||||||||
Finished Goods | $ | 2,155 | $ | 2,637 | $ | 1,529 | $ | 2,380 | $ | 3,684 | $ | 5,017 | ||||||
Raw materials and work in process | 516 | 780 | 2,393 | 2,275 | 2,909 | 3,055 | ||||||||||||
Demonstration inventory | 123 | 153 | — | — | 123 | 153 | ||||||||||||
2,794 | 3,570 | 3,922 | 4,655 | 6,716 | 8,225 | |||||||||||||
Less inventory classified as a long-term asset | — | — | 2,615 | 2,859 | 2,615 | 2,859 | ||||||||||||
Net Inventory | $ | 2,794 | $ | 3,570 | $ | 1,307 | $ | 1,796 | $ | 4,101 | $ | 5,366 | ||||||
TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
The Nucleic Acids operating segment inventory at September 30, 2005 and December 31, 2004 consisted primarily of chemical building blocks for synthetic nucleic acids (know as phosphoramadites) and the raw materials to produce phosphoramadites which are used and produced at the Company’s facility in Glasgow, Scotland. As of September 30, 2005, the Company has classified a portion of this inventory as a long-term other asset based on its existing sales forecasts for these products.
The Company periodically evaluates its inventory of phosphoramadites to determine whether they continue to meet quality and other specifications and over what time period such products are expected to be sold. Product that does not meet quality and other specifications can generally be re-worked to enhance purity. Costs to purify such product and related yield losses are expensed as incurred.
C. GOODWILL
Goodwill totaled $638 at September 30, 2005 and December 31, 2004 and related entirely to the BioSystems operating segment. The following summarizes goodwill adjustments for the nine months ended September 30, 2005 and 2004.
Nine Months Ended | |||||||
September 30, 2005 | September 30, 2004 | ||||||
Beginning balance | $ | 638 | $ | 10,503 | |||
Adjustments | — | (9,865 | ) | ||||
Ending balance | $ | 638 | $ | 638 | |||
The Company recorded a charge of $9,865 during the nine months ended September 30, 2004 related to the impairment of goodwill associated with the Nucleic Acids operating segment. The amount of the impairment charges was based, in part, on an independent valuation performed by an unaffiliated valuation firm. The charge resulted from an interim period impairment test performed during the second quarter of 2004.
The interim period impairment test became necessary after the Company’s Board of Directors directed management during the second quarter of 2004 to explore strategic alternatives for the Nucleic Acids operating segment. This process included significant due diligence by management, third-party advisors and prospective independent buyers and other interested parties. Information obtained through this process indicated that it was more likely than not that the assets associated with the Nucleic Acids operating segment were impaired.
The Company also recorded a charge of $2,100 during the nine months ended September 30, 2004 related to the impairment of property and equipment associated with the Nucleic Acids operating segment.
D. OTHER ASSETS
Finite lived intangible assets and other assets consisted of the following:
September 30, 2005 | December 31, 2004 | |||||||||||||||||
Cost | Accumulated Amortization | Net Book Value | Cost | Accumulated Amortization | Net Book Value | |||||||||||||
Finite Lived Intangible Assets | ||||||||||||||||||
Capitalized software | $ | 2,132 | $ | 1,978 | $ | 154 | $ | 2,132 | $ | 1,468 | $ | 664 | ||||||
Intellectual property | 765 | 518 | 247 | 765 | 476 | 289 | ||||||||||||
Patents | 651 | 114 | �� | 537 | 1,071 | 194 | 877 | |||||||||||
3,548 | 2,610 | 938 | 3,968 | 2,138 | 1,830 | |||||||||||||
Other Assets | ||||||||||||||||||
Long Term Inventory | 2,615 | — | 2,615 | 2,859 | — | 2,859 | ||||||||||||
Deferred Financing Costs | 576 | 326 | 250 | 576 | 183 | 393 | ||||||||||||
Other | 543 | 205 | 338 | 452 | 147 | 305 | ||||||||||||
3,734 | 531 | 3,203 | 3,887 | 330 | 3,557 | |||||||||||||
Total | $ | 7,282 | $ | 3,141 | $ | 4,141 | $ | 7,855 | $ | 2,468 | $ | 5,387 | ||||||
TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
During the three months ended September 30, 2005, management determined that certain international patent pursuits were no longer consistent with the Company’s strategic plan. Accordingly, the Company recorded an impairment charge of $247 related to the abandonment of such pursuits.
Amortization expense for intangible assets was approximately $222 and $242 during the three months ended September 30, 2005 and 2004, respectively, and $717 and $728 for the nine months ended September 30, 2005 and 2004, respectively. Amortization expense for intangible assets is expected to be approximately $297 for the remainder of 2005, $342 in 2006, $331 in 2007, $62 in 2008, $134 in 2009, $134 in 2010 and $26 in 2011.
E. DEBT
Debt consisted of the following:
September 30, 2005 | December 31, 2004 | |||||||
Credit Line (“Credit Line”) with Laurus | ||||||||
Gross amount due (accruing interest at 2% above prime or 8.75% and 7.25% at September 30, 2005 and December 31, 2004, respectively, due December 2006) | $ | 6,588 | $ | 5,948 | ||||
Debt premium | 435 | 1,004 | ||||||
Debt discount - warrants | (61 | ) | (85 | ) | ||||
Debt discount - beneficial conversion premium | (27 | ) | (353 | ) | ||||
$ | 6,935 | $ | 6,514 | |||||
Long-Term Debt with Laurus (“Term Note”) | ||||||||
Convertible debt (accruing interest at 2% above prime or 8.75% and 7.25% at September 30, 2005 and December 31, 2004, respectively, due February 2007) | $ | 1,675 | $ | 2,550 | ||||
Debt premium | 226 | 474 | ||||||
Less current portion | (675 | ) | (825 | ) | ||||
$ | 1,226 | $ | 2,199 | |||||
Funds available under the Credit Line are determined by a borrowing base equal to 90% of eligible accounts receivable balances plus up to $1,000 related to inventory balances.
On August 31, 2004, Laurus agreed to extend a then existing borrowing base waiver, defer certain payments due under the Term Note and reduce the interest rate on both of the Laurus Loans to 0% for any day the closing sale price of the Company’s common stock is at or above $1.75 per share. In return, the Company lowered the conversion price on each of the Laurus Loans to $1.00 per share and issued a warrant to Laurus covering an additional 400,000 common shares at an exercise price of $1.25 per share. The closing price of the Company’s common stock on August 31, 2004 was $1.20 per share.
The August 31, 2004 Laurus modifications were treated as extinguishments for financial reporting purposes since the change in present value of expected cash flows between the original and modified agreements is greater than 10%. As such, the Company recorded a loss on extinguishment of debt of $2,859 at August 31, 2004 reflecting the difference between (i) the recorded amount of debt, net of related discounts, of $7,427 and (ii) the fair value of
TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
the new debt instrument of $10,287 plus the fair value of the new warrants of $111. The difference between the fair value of the new debt of $10,287 and the face value of the debt of $8,572 represents a premium, which will be reflected as a reduction of interest expense over the life of the new debt.
On March 18, 2005, Laurus agreed to further extend the waiver of the borrowing base until March 31, 2006. In connection with this extension, the Company agreed to allow Laurus to convert $1,879 of the outstanding principal balance under the Credit Line into 3,600,000 shares of its common stock at $0.52 per share. In addition, on March 24, 2005 the Company agreed to allow Laurus to convert $650 of the outstanding principal balance of the Term Note into 1,250,000 shares of common stock at $0.52 per share. Laurus agreed to apply this Term Note conversion against substantially all remaining 2005 scheduled principal payments on such loan. The closing market price of the Company’s common stock the day before each of these conversions was $0.58 per share. No other provisions of the Company’s Credit Line or Term Note (collectively, the “Laurus Loans”) were modified, including the $1.00 conversion price for remaining debt. In conjunction with these conversions, the Company accelerated amortization of $409 of related debt premiums and discounts and recorded a charge of $1,365 related to the fair value of incremental shares received by Laurus.
Interest expense consisted of the following:
Three Months Ended | Nine Months Ended | |||||||||||||
September 30, 2005 | September 30, 2004 | September 30, 2005 | September 30, 2004 | |||||||||||
Interest paid or accrued on outstanding debt | $ | 172 | $ | 494 | $ | 477 | $ | 761 | ||||||
Amortization of debt premiums | (124 | ) | — | (816 | ) | — | ||||||||
Amortization of debt discounts – warrants | 4 | — | 24 | — | ||||||||||
Amortization of debt discount – beneficial conversion feature | 81 | 191 | 725 | 809 | ||||||||||
Fair value of incremental shares received by Laurus | — | — | 1,365 | — | ||||||||||
Deferred Financing Costs | 48 | 38 | 144 | 114 | ||||||||||
$ | 181 | $ | 723 | $ | 1,919 | $ | 1,684 | |||||||
As of September 30, 2005 principal repayments under the Term Note are scheduled as follows: $0 for the remainder of 2005, $875 in 2006, and $800 in 2007. As describe in Note L, the Company repaid the entire principal balance and terminated the Laurus Loans subsequent to September 30, 2005 with the proceeds from the private placement. Accordingly, the Company no longer has any borrowings which require scheduled principal and interest payments.
F. COMMITMENTS AND CONTINGENCIES
Subsequent to June 30, 2004, the Company received notification of a lawsuit from a prospective distributor located in Spain. The plaintiff claims breach of promise associated with negotiations for a geographic-specific distributorship and are seeking monetary relief of approximately $500,000.
The Company is subject to a number of other claims forof various amounts, which arise out of the normal course of its business. In the opinion of management, the disposition of all claims currently pending will not have a material adverse effect on the Company’s financial position, results of operations or cash flows.
The Company leases certain equipment, vehicles and operating facilities. The Company’s leases related to its operating facilities currently expire on various dates through 2010. At September 30, 2005, the future minimum lease payments required under non-cancelable lease provisions were approximately $359 for the remainder of 2005, $1,233 in 2006, $443 in 2007, $189 in 2008, $193 in 2009, and $167 in 2010. Rent expense related to all operating leases was approximately $306 and $521 for the three months ended September 30, 2005 and 2004, respectively, and $968 and $1,689 for the nine months ended September 30, 2005 and 2004, respectively.
At September 30, 2005, the Company had firm commitments totaling $872 to purchase components used in WAVE Systems.
H.TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
G. INCOME TAXES
The Company’sIncome tax expense (benefit) relatesrecorded during the three and nine months ended September 30, 2005 and 2004 related to its operationsincome taxes in certainstates, foreign countries and certain states. The tax benefit recorded in the second quarter of 2004 relates to payments in the United Kingdom. other local jurisdictions offset by refunds received.
Due to the Company’s cumulative losses, expected losses in future years and inability to utilize any additional losses as carrybacks, the Company has not provided for an income tax benefit during the sixthree and nine months ended JuneSeptember 30, 2005 or 2004 based on management’s determination that it was more likely than not that such benefits would not be realized. The Company will continue to assess the recoverability of deferred tax assets and the related valuation allowance. To the extent the Company begins to generate taxable income in future periods and it determines that such valuation allowance is no longer required, the tax benefit of the remaining deferred tax assets will be recognized at such time. As of JuneSeptember 30, 2004,2005 and December 31, 2003,2004, the Company’s deferred tax assets were offset by a valuation allowance of approximately $38.0 million$41,227 and $30.6 million,$38,287, respectively.
H. STOCKHOLDERS’ EQUITY
The following shows changes to the components of stockholders’ equity during the nine months ended September 30, 2005.
Common Stock | Additional Paid in Capital | Accumulated Deficit | Accumulated Other Comprehensive Income (Loss) | Total | ||||||||||||||||
Outstanding Shares | Par Value | |||||||||||||||||||
Balance, January 1, 2005 | 29,330,874 | $ | 299 | $ | 120,798 | $ | (107,101 | ) | $ | 2,539 | $ | 16,535 | ||||||||
Net loss | — | — | — | (3,779 | ) | (3,779 | ) | (3,779 | ) | |||||||||||
Other comprehensive income (loss): | ||||||||||||||||||||
Foreign currency translation adjustment | — | — | — | — | (1,553 | ) | (1,553 | ) | ||||||||||||
Unrealized gain on available for sale securities | — | — | — | — | 65 | 65 | ||||||||||||||
Comprehensive loss | — | — | — | — | (5,267 | ) | ||||||||||||||
Beneficial conversion premium | — | — | 399 | — | — | 399 | ||||||||||||||
Issuance of shares upon conversion of Laurus Loans | 4,900,000 | 48 | 2,487 | — | — | 2,535 | ||||||||||||||
Fair value of incremental shares issued | — | — | 1,365 | — | — | 1,365 | ||||||||||||||
Issuance of shares for employee stock purchase plan | 15,462 | 1 | 9 | — | — | 10 | ||||||||||||||
Balance, September 30, 2005 | 34,246,336 | $ | 348 | $ | 125,058 | $ | (110,880 | ) | $ | 1,051 | $ | 15,577 | ||||||||
During the three and nine months ended September 30, 2005, the Company issued zero and 4,900,000 shares, respectively, of common stock in conjunction with conversions under the Laurus Loans.
Date | Price | Shares Issued | Proceeds | Facility | Applied To | |||||||
January 2005 | $ | 1.00 | 50,000 | $ | 50 | Term Note | Principal | |||||
March 2005 | $ | 0.52 | 3,600,000 | 1,835 | Credit Line | Principal | ||||||
March 2005 | $ | 0.52 | 1,250,000 | 650 | Term Note | Principal | ||||||
4,900,000 | $ | 2,535 | ||||||||||
I. STOCK OPTIONS
Options representing 951,000 and 1,123,500 shares of the Company’s common stock were granted during the three and nine months ended September 30, 2005, respectively, with weighted average exercise prices of $1.03 per share and $1.04 per share, respectively. The following table summarizes activity under the 1997 Stock Option Plan during the nine months ended September 30, 2005.
TRANSGENOMIC INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Dollars in thousands except per share data)
Number of Options | Weighted Average Exercise Price | |||||
Balance at January 1, 2005 | 5,088,037 | $ | 5.09 | |||
Granted | 1,123,500 | $ | 1.04 | |||
Cancelled | (670,522 | ) | $ | 4.21 | ||
Balance at September 30, 2005 | 5,541,015 | $ | 4.37 | |||
Exercisable at September 30, 2005 | 4,396,281 | $ | 5.11 | |||
The following table summarizes information about options outstanding as of September 30, 2005:
Options Outstanding | Options Exercisable | |||||||||||
Range of Exercise Prices | Number Outstanding | Weighted-Average Remaining Contractual Life | Weighted-Average Exercise Price | Number Exercisable | Weighted-Average Exercise Price | |||||||
(in years) | ||||||||||||
$ 1.00—$ 1.30 | 1,360,167 | 9.2 | $ | 1.08 | 558,384 | $ | 1.12 | |||||
$ 1.31—$ 2.60 | 798,167 | 7.6 | $ | 1.91 | 510,682 | $ | 1.92 | |||||
$ 2.61—$ 3.90 | 35,000 | 7.1 | $ | 2.90 | 23,334 | $ | 2.90 | |||||
$ 3.91—$ 5.20 | 2,074,700 | 2.3 | $ | 5.00 | 2,074,700 | $ | 5.00 | |||||
$ 5.21—$ 6.50 | 692,750 | 5.6 | $ | 6.15 | 662,150 | $ | 6.15 | |||||
$ 6.51—$ 9.10 | 10,000 | 5.6 | $ | 9.00 | 10,000 | $ | 9.00 | |||||
$ 9.11—$10.40 | 300,500 | 5.3 | $ | 9.88 | 296,500 | $ | 9.88 | |||||
$10.41—$13.00 | 269,731 | 4.6 | $ | 12.80 | 260,531 | $ | 12.83 | |||||
5,541,015 | 5.5 | $ | 4.37 | 4,396,281 | $ | 5.11 | ||||||
J. OPERATING SEGMENT AND GEOGRAPHIC INFORMATION
The Company’s operations are managed based uponOperations for the nature of the products and services provided. Accordingly, the Company has determined that it operates in two segments, BioSystems and Nucleic Acids. Operations for theseAcids operating segments are evaluated based upon specific identification of revenues and expenses associated with the business activities resulting in a segment operating income (loss).income. Expenses that cannot be directly identified to an operating activity or are considered corporate overhead are not allocated to the segments in arriving at operating income (loss) for the segment. Generally, decisions regarding asset allocation, financing, taxes or other items impacting the Company’s balance sheet are made at the corporate level and, accordingly, operating segment balance sheet information is not typically reviewed by operating segment.
The BioSystems operating segment generates revenue from the sale of automated instrument systems and associated consumable products and services. This segment’s products are based upon separations chemistries and enzymology. Specifically, this segment’s main products are the WAVE System, related bioconsumables and research services.
The Nucleic Acids operating segment generates revenue from the sale of products and services based upon nucleic acid chemistries, separations chemistries and enzymology. Specifically, this segment’s main products are nucleic acid building blocks or phosphoramidites, oligonucleotides, fluorescent markers, dyes and associated reagents and novel chemistry and process development services.decision makers.
The following is information fortable sets forth net sales and operating income (loss) by segment.
Three Months Ended June 30, | Six Months Ended June 30, | Three Months Ended | Nine Months Ended | |||||||||||||||||||||||||||||
2004 | 2003 | 2004 | 2003 | September 30, 2005 | September 30, 2004 | September 30, 2005 | September 30, 2004 | |||||||||||||||||||||||||
Sales | ||||||||||||||||||||||||||||||||
Net Sales | ||||||||||||||||||||||||||||||||
BioSystems | $ | 6,563 | $ | 6,660 | $ | 12,948 | $ | 13,599 | $ | 6,663 | $ | 5,501 | $ | 20,479 | $ | 18,450 | ||||||||||||||||
Nucleic Acids | 2,448 | 1,821 | 4,692 | 4,387 | 2,043 | 2,693 | 3,232 | 7,384 | ||||||||||||||||||||||||
Total | $ | 9,011 | $ | 8,481 | $ | 17,640 | $ | 17,986 | $ | 8,706 | $ | 8,194 | $ | 23,711 | $ | 25,834 | ||||||||||||||||
Loss from Operations | ||||||||||||||||||||||||||||||||
Income (Loss) from Operations | ||||||||||||||||||||||||||||||||
BioSystems | $ | (158 | ) | $ | (625 | ) | $ | (675 | ) | $ | (1,288 | ) | $ | 875 | $ | (634 | ) | $ | 2,227 | $ | (1,309 | ) | ||||||||||
Nucleic Acids, including impairment charges of $11,964 in 2004 (Note E) | (13,178 | ) | (1,871 | ) | (14,561 | ) | (2,757 | ) | ||||||||||||||||||||||||
Nucleic Acids | 637 | (2,512 | ) | (630 | ) | (17,073 | ) | |||||||||||||||||||||||||
Corporate | (1,415 | ) | (2,049 | ) | (2,829 | ) | (4,042 | ) | (1,209 | ) | (1,613 | ) | (3,461 | ) | (4,442 | ) | ||||||||||||||||
Total | $ | (14,751 | ) | $ | (4,545 | ) | $ | (18,065 | ) | $ | (8,087 | ) | $ | 303 | $ | (4,759 | ) | $ | (1,864 | ) | $ | (22,824 | ) | |||||||||
Transgenomic, Inc. and SubsidiariesTRANSGENOMIC INC.
Notes to the Condensed Consolidated Financial Statements (Unaudited)NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(InDollars in thousands except share and per share data)
During the three and nine months ended September 30, 2005, sales to a large pharmaceutical company totaled $599 and $2,009, respectively, and represented 9.0% and 9.8%, respectively, of net sales within the Company’s BioSystems operating segment and 6.9% and 8.5%, respectively, of total consolidated net sales. Sales to this customer are governed by a non-binding master services agreement dated August 22, 2002.
During the three and nine months ended September 30, 2005, sales to Geron Corporation (“Geron”) totaled $1,624 and $1,729, respectively, and represented 79.5% and 53.5%, respectively, of net sales within the Company’s Nucleic Acids operating segment and 18.7% and 7.3%, respectively, total net consolidated sales. During the three and nine months ended September 30, 2004, sales to Geron totaled $1,695 and $3,591, respectively, and represented 62.9% and 48.6%, respectively, of net sales within the Company’s Nucleic Acids operating segment and 20.7% and 13.9%, respectively, of total consolidated net sales. Sales to Geron are governed by a non-binding supply agreement dated June 15, 2002, as amended. Under the supply agreement and related addendums, Geron has historically paid the Company for goods and services with its common stock. The terms of each addendum generally provide that Geron pre-pay 50% of the total sales price of goods sold under the addendum upon execution of the addendum and the remaining 50% upon acceptance of the related goods and services. Geron shares received by the Company are restricted for resale until they are registered with the Securities and Exchange Commission. The Company assumes all market risk related to the value of these securities and any selling costs are paid by the Company. Once registered, it has been the Company’s intent and practice to sell such securities as soon as practical.
The following is a summary of Geron shares received and sold during the nine months ended September 30, 2005 and 2004.
Date Received | Shares | Product Sales Price | Date Sold | Net Proceeds | Gain (Loss) | |||||||||
January 2004 | 85,855 | $ | 959 | February 2004 | $ | 932 | $ | (27 | ) | |||||
March 2004 | 33,662 | $ | 289 | July 2004 | $ | 263 | $ | (26 | ) | |||||
April 2005 | 101,801 | $ | 608 | May 2005 | $ | 617 | $ | 9 | ||||||
August 2005 | 151,550 | $ | 1,491 | October 2005 | $ | 1,534 | $ | 43 |
J. LINE OF CREDIT AND LONG-TERM DEBTK. RESTRUCTURING PLAN
InThe Company had accrued expenses associated with its 2004 restructuring plan of $368 and $1,909 at September 30, 2005 and December 2003,31, 2004, respectively. The balance at September 30, 2005 relates primarily to future rents on closed facilities (net of projected sublease rents) of which $27 is expected to be paid during the remainder of 2005 and $341 in 2006 and thereafter.
L. SUBSEQUENT EVENT
On October 31, 2005, the Company entered intoclosed on a new, $7.5 million lineprivate placement of credit facility with Laurus Master Fund, Ltd. (“Laurus”).securities to institutional investors. The term of the agreement is three years carrying an interest rate of 2.0% over the prime rate or a minimum of 6.0%. Funds available under the line are determined by a borrowing base equal to 90% of eligible accounts receivable balances plus up to $1.0 million related to inventory balances. This line of credit is secured by most of the Company’s assets. Payment of interest and principal can, under certain circumstances, be made withsecurities issued consisted of: (i) 14,925,743 shares of the Company’s common stock, at a fixed conversion price of $2.20 per share. Conversion of this debt to common stock may be made at the election of Laurus or the Company. The Company may elect to convert only if its shares trade at a price exceeding $2.42 per share for ten consecutive trading days and such conversion is further subject to trading volume limitations and a limitation on the total beneficial ownership by Laurus of the Company’s common stock. In connection with the line of credit facility, the Company issuedplus (ii) five-year, non-callable warrants to Laurus to acquire 550,000 shares of its common stock at exercise prices that exceed the average trading price of the Company’s common stock over the ten trading days prior to execution of the new line of credit.
In February 2004, the Company entered into a separate $2.75 million convertible note with Laurus. The note carries an interest rate of 2.0% over the prime rate or a minimum of 6.0% and has a term of 3 years. The principal and interest on the note may be converted into common stock of the Company at a fixed conversion price of $2.61 per share. In connection with this agreement, the Company issued warrants to Laurus to acquire 125,000 shares of its common stock at exercise prices that exceed the average trading price of the Company’s common stock over the ten trading days prior to the execution of the note. Portions of the proceeds from this transaction were used to retire the mortgage debt on the Company’s Glasgow facility. The remaining proceeds of approximately $750,000 were used to further the build-out of the Glasgow facility, complete the consolidation of operations into the new facility and provide funds for operations.
Certain features of the line of credit facility and convertible note require the Company to separately account for the value of certain amounts related to the warrants issued and the conversion feature of the facility. Specifically, Emerging Issues Task Force (“EITF”) No. 00-27,Application of Issue No. 98-5 to Certain Convertible Instruments, requires the Company to separately value the warrants issued and the “beneficial conversion premium” related to these agreements. Any borrowings under the line of credit facility may result in additional beneficial conversion premiums. The value of the warrants and the beneficial conversion premium have been recorded on the balance sheet as a debt discount and an increase to additional paid in capital. The debt discount recorded for these items will be amortized as expense to the income statement over the term of the facility or as the warrants are exercised or the debt is converted into common stock thereby increasing the effective interest rate on these agreements.
In February 2004, Laurus waived the borrowing base limitation on the Company’s line of credit, thereby making the full $7.5 million facility available to the Company regardless of the available collateral. The waiver will expire on December 19, 2004. As of June 30, 2004, the Company had approximately $6.6 million outstanding on this line of credit facility. In January and February 2004, Laurus exercised its conversion rights on the line of credit and converted $2.0 million of amounts outstanding on the line into approximately 910,000purchase another 5,970,297 shares of common stock with an exercise price of $1.20 per share (the “Offering”). The aggregate purchase price for the Company.securities sold in the private placement was $1.01 per share of common stock initially being sold (the “Purchase Price”) or $15,075. In connectionconjunction with the conversion of $2.0 million of debt incurred under the line of credit facility in January and February 2004,private placement, the Company has acceleratedissued a warrant to Oppenheimer & Co., Inc. (“Oppenheimer”) to purchase 932,859 shares at $1.20 per share as part of their placement fee for the amortization of approximately $539,000 of the beneficial conversion premium.private placement.
The following table detailsContemporaneously with the componentsclosing of the Company’s lineprivate placement, the Company repaid all outstanding principal and accrued interest on the Laurus Loans, including fees to facilitate the private placement and prepayment penalties to Laurus in the sum of credit$824. As a result, the Credit Line with Laurus has been cancelled and long-term debt as of June 30, 2004 and December 31, 2003.is no longer available to the Company.
TRANSGENOMIC INC.
June 30, 2004 | December 31, 2003 | |||||
Line of Credit | $ | 6,578 | $ | 2,992 | ||
Less: | ||||||
Debt discount - warrants | 637 | 370 | ||||
Debt discount - beneficial conversion premium | 454 | 480 | ||||
5,487 | 2,142 | |||||
Long-term debt | ||||||
Convertible debt | 2,750 | — | ||||
Mortgage debt | — | 1,693 | ||||
Less: | ||||||
Debt discount - warrants | 78 | — | ||||
Debt discount - beneficial conversion premium | 60 | — | ||||
Current portion | 750 | 1,693 | ||||
$ | 1,862 | $ | — | |||
Transgenomic, Inc. and SubsidiariesNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Notes to the Condensed Consolidated Financial Statements (Unaudited)
(InDollars in thousands except share and per share data)
K. CORPORATE RESTRUCTURING
The Company has historically experienced net lossesis required to register all shares of common stock sold in the Offering and negative cash flows from operations. As a result, during the fourth quarter of 2002, management formulated a restructuring plan designed to reduce expenses thereby better aligning the Company’s expense structure with current business prospects. The plan included employee terminations, office closures, and termination of collaborations and write-offs of abandoned intellectual property. A significant portionissuable upon exercise of the plan was executedwarrants. The common stock issued to these institutional investors may be sold in the fourth quartersecondary market at any time once such registration is effective. Failure to register these shares in a timely manner will subject the Company to liquidated damages of 2002 resulting in the recording of $3.3 million in restructuring charges. The Company had accrued expenses and other liabilities associated with the restructuring activities of approximately $59,000 and $227,000 at June 30, 2004, and December 31, 2003, respectively. The accrued expenses at June 30, 2004, were related to lease payments associated with office closures.
L. RESTATEMENT OF CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Subsequent to the issuance1.5% of the Company’s financial statementsaggregate purchase price per month for the year ended December 31, 2004, the Company’s management determined that it had incorrectly included the amortization of software development costs within net cash flows from investing activities rather than within net cash flows from operating activities.
Aseach successive 30-day period, calculated on a result, the Company’s condensed consolidated statements of cash flowspro rata basis for the six months ended June 30, 2004 and 2003 have been restated from the amounts previously reported to correct these errors. This restatement had no impact on the Company’s condensed consolidated balance sheets or condensed consolidated statements of operations. The impact of this restatement on the condensed consolidated statements of cash flows is as follows: (dollars in thousands):any partial 30-day period.
Six Months Ended June30, 2004 | Six Months Ended June 30, 2003 | |||||||||||||||
As Previously Reported | As Restated | As Previously Reported | As Restated | |||||||||||||
Depreciation and amortization | $ | 2,102 | $ | 2,410 | $ | 1,762 | $ | 2,070 | ||||||||
Net cash flows from operating activities | (7,260 | ) | (6,952 | ) | (6,749 | ) | (6,441 | ) | ||||||||
Change in other assets | 307 | (1 | ) | 147 | (161 | ) | ||||||||||
Net cash flows from investing activities | 106 | (202 | ) | (1,127 | ) | (1,435 | ) |
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.Operations
The following analysis gives effect to the restatement of our condensed consolidated statements of cash flows for the six months ended June 30, 2004 and 2003, as discussed in Note L to the accompanying unaudited condensed consolidated financial statements.
Overview
We provideThe Company develops, manufactures and sells innovative products and services for the analysis, synthesis purification and analysispurification of nucleic acids. We develop, assemble, manufacture and market our products and services to the life sciences industry to be used in research focused on molecular genetics of humans and other organisms. Such research could lead to development of new diagnostics and therapeutics. Our products can be used to analyze DNA or RNA at the molecular level, amplify, separate, and isolate nucleic acid fragments of particular interest and synthesize conventional or chemically-modified nucleic acid molecules. These capabilities are central to research seeking to discover and understand variations in the genetic code, the relationship of these variations to disease and, ultimately, to develop diagnostics and therapeutics based on this understanding. Our business plan is to participate in the value chain associated with these activities by providing key technology, tools, consumables, biochemical reagents and services to those entities engaged in basic biomedical research and the development of diagnostics and therapeutic agents.
The Company’s operations are managed based upon the nature of the products and services provided. Accordingly, the Company has determined that it operates inacids through two operating segments, BioSystems and Nucleic Acids. Operations for these segments are evaluated based upon specific identification of revenues and expenses associated with the business activities resulting in a segment operating income. Expenses that cannot be directly identified to an operating activity or are considered corporate overhead are not allocated to the segments in arriving at operating income for the segment.
The BioSystems operating segment develops, assembles, manufactures and markets versatile products and provides analytical services to the medical research, clinical and pharmaceutical markets for use in genetic variation analysis. Products and services are sold through a direct sales force in the United States and throughout much of Western Europe. For the rest of the world, products and services are sold through more than 25 dealers and distributors located in those local markets. Net sales from this operating segment are categorized as bioinstruments, bioconsumables and discovery services.
The Nucleic Acids operating segment generates revenue from the sale of productsdevelops, manufactures and services based uponmarkets chemical building blocks for nucleic acid chemistries, separations chemistriessynthesis to biotechnology, pharmaceutical, oligonucleotide synthesis companies and enzymology. Specifically, this segment’s mainresearch institutions throughout the world. These products are produced primarily in this operating segment’s only facility in Glasgow, Scotland. Prior to November 11, 2004, this operating segment also manufactured synthesized segments of large-scale, GMP nucleic acid building blocks or phosphoramidites, oligonucleotides, fluorescent markers, dyesacids (known as oligonucleotides) in a facility in Boulder, Colorado. On November 11, 2004, the assets associated with this facility were sold to an unaffiliated, third party. As a result, the Nucleic Acids operating segment no longer manufactures and associated reagentssells these specialized oligonucleotides. A substantial portion of this operating segment’s revenues during 2005 and novel chemistry and process development services.2004 have been derived from one customer.
WeSince 2000 (the year of our initial public offering), we have incurred net losses of $98.54 million largely related to our Nucleic Acids operating segment. We instituted significant losses resulting principally from costs incurredchanges during the fourth quarter of 2004 designed to, among other things, better align our cost structure with projected revenues, focus on opportunities in researchour BioSystems operating segment, and development and selling, general and administrative costs. At June 30,minimize the adverse financial effect of our Nucleic Acids operating segment. Specifically, during the fourth quarter of 2004, we sold our manufacturing facility in Boulder, Colorado and implemented a restructuring plan (the “2004 Restructuring Plan”). While the primarily goals of these changes were to provide the foundation for a self-sustaining, growth-oriented company with positive cash flows and earnings, there can be no assurance that we can achieve these goals.
Our liquidity and working capital positions improved during the first nine months of 2005 due principally to conversions of $2.53 million of borrowings under our credit line (“Credit Line”) and term note (“Term Note”) (collectively, the “Laurus Loans”) with Laurus Master Fund, Ltd. (“Laurus”) into common stock. At September 30, 2005, we had working capital of $1.21 million and an accumulated deficit of $91.7$110.88 million. We expectSubsequent to continue
September 30, 2005, we finalized the private placement of securities to incur substantial researchinstitutional investors that resulted in gross proceeds of $15.08 million that were used to repay the Laurus Loans and development and selling,for our future general and administrative costs.working capital purposes.
Executive Summary
The following isAs discussed more thoroughly below and throughout this report, the quarter was one of progress on many fronts. From a summaryproduct perspective, we introduced a new WAVE platform. We expect this will provide for additional instrument sales and upgrade opportunities in the coming quarters. We also enhanced our laboratory infrastructure and product offerings in order to capitalize on the increasing demand for molecular-based personalized medicine. For the first time in our history, we reported positive quarterly income from operations and net income. These results were driven by 21% year-over-year revenue growth in our BioSystems operating segment and the production and sale of significant items or events that have had an effect on the Company’s financial position, resultsamount of operations, and liquidity during the quarter:
Based upon information obtained through this process during the three months ended June 30, 2004, we determined that it was more likely than not that the assets of the Nucleic Acids business were impaired. Accordingly, we engaged an external valuation firm to assist with the completion of a mid-year impairment test. As a result, we recorded a non-cash charge of $11,964,387 relatedcash to our Nucleic Acids segment during the three months ended June 30, 2004. The charge consisted of $9,864,387 related to the impairment of goodwill and $2,100,000 related to the impairment of property and equipment.consolidated balance sheet.
We introduced the third consecutive quarter, although total sales in this segment continued at levels below the same period of 2003. However, our installed base of WAVE Systems continues to expand, and second quarter consumables revenues represented a 17% increase over the comparable quarter of 2003. We continue to work diligently to expand instrument and consumables sales through expansion of our product offering which recently included a newnewest version of our WAVE platform, the WAVE MD Model 4000,4500.The WAVE 4500 includes enhancements that are designed to optimize sensitivity and throughput for our customers while reducing our overall product and maintenance cost. In addition to new product sales, certain enhanced components of the WAVE 4500, including the oven and software, will provide modular upgrade opportunities for our existing customers.
Our laboratory in Omaha, Nebraska has been certified under the Clinical Laboratory Improvement Amendments, and beginning in the fourth quarter of this year, we will receive the first patient samples for molecular-based testing for hematology, oncology and certain inherited diseases for physicians and third-party laboratories.We believe there is a significant opportunity for us to capitalize on the increasing demand for molecular-based personalized medicine by leveraging on our technologies and experience gained from the genomic biomarker analysis that our Discovery Services Group has and will continue to provide to pharmaceutical and biopharmaceutical companies.
We generated quarterly income from operations and net income which we believe will aidcontinues a positive trend that began in expansionthe first quarter of our installed base and entry into new market segments.
2005 Quarters Ended | Nine Months Ended September 30, 2005 | ||||||||||||||
September 30 | June 30 | March 31 | |||||||||||||
Income (loss) from operations | $ | 303 | $ | (935 | ) | $ | (1,232 | ) | $ | (1,864 | ) | ||||
Net income (loss) | $ | 111 | $ | (998 | ) | $ | (2,892 | ) | $ | (3,779 | ) |
Year-over-year net sales increases of 21% in our BioSystems operating losses, particularly insegment, sales from our Nucleic Acids operating segment increased investmentsto Geron Corporation (“Geron”), and cost reductions associated with our 2004 Restructuring Plan led to our record performance. Recurring net sales associated with our increasing installed base of 1,269 WAVE systems grew to represent 32% of consolidated net sales and nearly 42% of net sales in accounts receivable, short-term investments, inventory,our BioSystems operating segment. We consider net sales of consumables and service contracts to a lesser extent, purchases of property and equipment. These operating losses and investments were funded primarily by our credit facility.
Subsequent to September 30, 2005, we finalized the private placement of securities to institutional investors that resulted in gross proceeds to the efforts described above relatedCompany of $15.08 million. On October 31, 2005, we closed a private placement of the following securities to institutional investors: (i) 14,925,743 shares of the Nucleic Acids operating segment, we are currently assessing multiple optionsCompany’s common stock, plus (ii) five-year, non-callable warrants to purchase another 5,970,297 shares of common stock with an exercise price of $1.20 per share. The aggregate purchase price for the securities sold in the private placement was $1.01 per share of common stock initially being sold for $15.08 million. The proceeds from the private placement allowed us to enhance our liquidity and overall working capital. Among other things, we have adopted a processcapital positions by eliminating all convertible debt with Laurus and adding approximately $5.37 million of cash to improve the collection of receivables, we are evaluating alternatives to continue to reduce operating expenses, and we are exploring additional capital sources.
Results of Operations Three Months Ended JuneSeptember 30, 20042005 and 20032004
Amounts in thousands | 2004 | 2003 | Change | % Change | ||||||||||||||||||||||||
Dollars in thousands | 2005 | 2004 | Change | % Change | ||||||||||||||||||||||||
Net Sales | ||||||||||||||||||||||||||||
Bioinstruments and Discovery Services | $ | 4,504 | $ | 4,904 | $ | (400 | ) | (8 | )% | |||||||||||||||||||
Bioinstruments | $ | 3,745 | $ | 2,932 | $ | 813 | 28 | % | ||||||||||||||||||||
Bioconsumables | 2,059 | 1,767 | 292 | 17 | % | 2,210 | 2,057 | 153 | 7 | % | ||||||||||||||||||
Discovery Services | 708 | 512 | 196 | 38 | % | |||||||||||||||||||||||
Total BioSystems Business Unit | 6,563 | 6,671 | (108 | ) | (2 | )% | 6,663 | 5,501 | 1,162 | 21 | % | |||||||||||||||||
Chemical Building Blocks | 1,740 | 1,550 | 190 | 12 | % | 2,043 | 2,280 | (237 | ) | (10 | )% | |||||||||||||||||
Specialty Oligonucleotides and Services | 708 | 260 | 448 | 172 | % | — | 413 | (413 | ) | (100 | )% | |||||||||||||||||
Total Synthetic Nucleic Acids Business Unit | 2,448 | 1,810 | 638 | 35 | % | 2,043 | 2,693 | (650 | ) | (24 | )% | |||||||||||||||||
Total Net Sales | 9,011 | 8,481 | 530 | 6 | % | 8,706 | 8,194 | 512 | 6 | % | ||||||||||||||||||
Cost of Goods Sold | ||||||||||||||||||||||||||||
Bioinstruments and Services | 1,983 | 1,948 | 35 | 2 | % | |||||||||||||||||||||||
Bioinstruments | 1,818 | 1,198 | 620 | 52 | % | |||||||||||||||||||||||
Bioconsumables | 982 | 982 | — | 0 | % | 1,116 | 1,077 | 39 | 4 | % | ||||||||||||||||||
Discovery Services | 611 | 386 | 225 | 58 | % | |||||||||||||||||||||||
Total BioSystems Business Unit | 2,965 | 2,930 | 35 | 1 | % | 3,545 | 2,661 | 884 | 33 | % | ||||||||||||||||||
Chemical Building Blocks | 1,335 | 1,694 | (359 | ) | (21 | )% | 1,216 | 2,659 | (1,443 | ) | (54 | )% | ||||||||||||||||
Specialty Oligonucleotides and Services | 1,558 | 1,301 | 257 | 20 | % | — | 1,537 | (1,537 | ) | (100 | )% | |||||||||||||||||
Total Synthetic Nucleic Acids Business Unit | 2,893 | 2,995 | (102 | ) | (3 | )% | 1,216 | 4,196 | (2,980 | ) | (71 | )% | ||||||||||||||||
Total Cost of Goods Sold | 5,858 | 5,925 | (67 | ) | (1 | )% | 4,761 | 6,857 | (2,096 | ) | (31 | )% | ||||||||||||||||
Selling, General and Administrative Expenses | 4,268 | 4,265 | 3 | — | 2,885 | 4,353 | (1,468 | ) | (34 | )% | ||||||||||||||||||
Research and Development Expenses | 1,672 | 2,362 | (690 | ) | (29 | )% | 510 | 1,743 | (1,233 | ) | (71 | )% | ||||||||||||||||
Impairment Charges | 11,964 | — | 11,964 | 100 | % | |||||||||||||||||||||||
Restructuring and Restructuring Related Charges | — | 474 | (474 | ) | (100 | )% | ||||||||||||||||||||||
Impairment charge | 247 | — | 247 | 100 | % | |||||||||||||||||||||||
Other Income (Expense) | (184 | ) | (3,682 | ) | (3,498 | ) | (95 | )% |
Net Sales. SalesNet sales for the quarter ended September 30, 2005 increased $0.51 million or 6% from the same period of 2004 as a result of a $1.16 million or 21% increase in sales in our BioSystems operating segment decreased in the second quarter of 2004 compared to the second quarter 2003. Bioinstruments revenues were significantly lower than 2003, but this decrease was partially offset by increaseda $0.65 million or 24% decrease in sales in our Nucleic Acids operating segment.
The increase in sales in our BioSystems operating segment resulted from increases of $0.81 million or 28% from bioinstruments, $0.15 million or 7% from bioconsumables and $0.20 million or 38% from Discovery Services. WAVE Systems sold totaled 28 during the quarter ended September 30, 2005 compared to 19 during the same period of 2004. The declineselling prices of our instruments vary based on the specific model and optional accessories. We had an installed base of approximately 1,269 units at September 30, 2005 compared to 1,193 units at December 31, 2004. The increase in systemsthe installed base of instruments continues to drive increases in sales is mainly due to weak demand from our North American customer base. Increasedof bioconsumables used with these instruments. The increase in discovery services revenue isduring 2005 was primarily attributable to our activities focused on providing genetic variationthe discovery and analysis services agreements that we entered into with a large pharmaceutical company to a pharmaceutical base of customers. We believe that our genetic variation discovery and analysis services provide an ongoing revenue opportunity. A discovery service agreement with Novartis Pharmaceuticals Corp. supporting thesupport their clinical development of oncology therapeutics has provided a templatetherapeutics. During the three months ended September 30, 2005, Discovery Services sales to utilizethis customer totaled $0.60 million and represented 9% of net sales within the BioSystems operating segment and 7% of total consolidated net sales. We have no long-term agreement with this customer, therefore, sales will fluctuate and may be zero. Future revenues from our BioSystems operating segment would be substantially reduced if this customer’s need for our services offering. Bioconsumable product sales strengthened as the installed base of WAVE Systems has increased, resulting in increased consumable usage.products declined.
Nucleic Acids operating segment sales decreased by $0.65 million or 24% during the quarter ended September 30, 2005 compared to the same period of 2004 as a result of fewer chemical building block sales to Geron Corporation (“Geron”) and the sale of our specialty oligonucleotides facility in Boulder, Colorado. Sales to Geron during the third quarter of 2005 totaled $1.62 million compared to $1.73 million during the third quarter of 2004. Net sales to Geron during the quarter ended September 30, 2005 represented 80% of net sales in our Nucleic AcidAcids operating segment increased inand 19% of total consolidated net sales. Net sales to Geron during the second quarter ended September 30, 2004 represented 63% of 2004 due to an increased demandnet sales within our Nucleic Acids operating segment and 21% of total consolidated net sales. We have no long-term agreement with Geron, therefore, sales will fluctuate and may be zero. Future revenue from our Nucleic Acids operating segment would be substantially reduced if Geron’s need for our specialty chemical phosphoramidates. These products are used by onedeclined. As a result of the sale of our major customers as raw materials in DNA based drug candidates. Increased demand for oligonucleotides manufactured by our start-up manufacturing facility in Boulder, Colorado, resulted in additional sales increases. Part of our business strategy has been to position ourselves as a unique partner to biopharmaceutical and pharmaceutical companies in the early stages of their efforts to develop genomic-based diagnostics and therapeutics. As part of this strategy we are focusing our sales efforts on large consumers of our Synthetic Nucleic Acid products who are willing to commit to long-term supply agreements. While we expect to see increasednet sales of these products based upon this strategy, we also may see varying demand depending on the success of the biopharmaceutical and pharmaceutical company’s diagnostic and therapeutic products. As a result we may see large variations in revenue flows for these products.specialty oligonucleotides decreased by $0.41 million. We no longer manufacture or sell oligonucleotides.
CostCosts of Goods Sold. CostCosts of goods sold remained relatively flat year to year despiteinclude material costs for the increase in our revenues. Fixedproducts that we sell and substantially all other costs associated with excessour manufacturing capacityfacilities (primarily personnel costs, rent and depreciation). It also includes direct costs (primarily personnel costs and supplies) associated with our Discovery Services operations. Depreciation expense included in costs of goods sold totaled $0.70 million and $0.76 million during the quarters ended September 30, 2005 and 2004, respectively.
Costs of goods sold during the quarter ended September 30, 2005 decreased $2.10 million or 31% from the same period of 2004 as a result of a $2.98 million or 71% decrease in our Nucleic Acids business unitoperating segment offset by a $0.88 million or 33% increase in our BioSystems operating segment. The overall decrease was primarily attributable to the sale of our oligonucleotide facility and from termination of associated personnel and the elimination of facilities related costs in conjunction with our 2004 Restructuring Plan.
Gross profit was $3.95 million or 45% of total net sales during the third quarter of 2005 compared to $1.34 million and 16% during the same period of 2004. A summary of gross profit by operating segment follows (dollars in thousands):
Quarter Ended September 30, | |||||||||||||
2005 | 2004 | ||||||||||||
Gross Profit | Percent of Revenue | Gross Profit/(Loss) | Percent of Revenue | ||||||||||
BioSystems operating segment | $ | 3,118 | 47 | % | $ | 2,840 | 52 | % | |||||
Nucleic Acids operating segment | 827 | 41 | % | (1,503 | ) | (56 | )% | ||||||
$ | 3,945 | 45 | % | $ | 1,337 | 16 | % | ||||||
The decrease in BioSystems operating segment gross profit as a lower numberpercent of high margin WAVE Systems sold kept our costrevenue to 47% from 52% for the quarters ended September 30, 2005 and 2004, respectively, is largely attributable to changes in the composition of products sold. Generally, sales of WAVEs and ancillary instrumentation generate higher gross profits than sales of third party platforms. Sales of specialty consumables (SURVEYOR Nuclease, HPLC separation columns, etc.) generate higher gross profits than base buffers and enzymes. Gross profits from discovery services are currently less than expected due to the continuing build out of capacity and expansion of product offerings. Our Nucleic Acids operating segment continues to have excess capacity in its Glasgow, Scotland manufacturing facility that will adversely impact costs of goods sold comparable to the second quarter of 2003. The BioSystems business unit cost of goods sold as a percentage of sales increased year over year but remained within historical ranges at approximately 44%. We expect that our BioSystems margins will fluctuate within historical ranges based upon the sales mix of systems, consumables and services. Currently our Nucleic Acid products are sold at lower margins compared to our BioSystems products. The margins in our Nucleic Acids business unit have been negatively impacted by higher manufacturing costs and excess capacity due largely to our plant expansion efforts in Glasgow, Scotland and Boulder, Colorado. We anticipate that our cost of goods sold for our Nucleic Acid products will remain under pressure due to continued excess capacity during 2004. Overall we anticipate that our cost of goods sold as a percentage of sales will be consistent with 2003 or slightly lower as we are hopeful thatgross profit until demand for our Nucleic AcidAcids building block products will rebound slightly. Margin improvement will depend largely on the return of product demand thereby more fully utilizing our manufacturing capacity and spreading fixed costs across a larger revenue base.increase.
Selling, General and Administrative Expenses. Selling, general and administrative expenses remained comparableprimarily include personnel costs, marketing, travel and entertainment costs, professional fees, and facility costs. These costs totaled $2.89 million during the quarter ended September 30, 2005 compared to $4.35 million during the second quartersame period of 2003. Reductions in2004, a decrease of $1.47 million or 34%. As a percentage of net sales, selling, general and administrative expenses totaled 33% and 53% during the quarters ended September 30, 2005 and 2004, respectively. This decrease resulted primarily from termination of associated personnel and personnelthe elimination of facilities related costs in conjunction with the 2004 Restructuring Plan. Foreign currency transaction adjustments reduced operating expenses by approximately $0.19 million and travel costs decreased but were offset by foreign currency increases. We will remain focused on controlling$0.26 million during the three months ended September 30, 2005 and reducing2004. Depreciation expense included in selling, general and administrative expenses totaled $0.14 million and $0.27 million during 2004.the quarters ended September 30, 2005 and 2004, respectively.
Research and Development Expenses. Research and development expenses decreased asprimarily include personnel costs, supplies, and facility costs. These costs totaled $0.51 million during the quarter ended September 30, 2005 compared to $1.74 million during the same period of 2004, a resultdecrease of $1.23 million or 71%. The decrease resulted primarily from the 2004 Restructuring Plan, which resulted in the elimination of substantially all research and development efforts associated with our Nucleic Acids operating segment. Depreciation expense included in research and development expenses included $0.13 million and $0.25 million during the quarters ended September 30, 2005 and 2004, respectively.
As a percentage of net sales, research and development expenses totaled 6% and 21% of revenue during the quarters ended September 30, 2005 and 2004, respectively. We expect to continue to invest up to 10% of our restructuringrevenues in research and development activities primarily associated with our BioSystems operating segment. Research and focus on expense control. Approximately 68%development costs are expensed in the period in which they are incurred.
Impairment Charge. During the quarter ended September 30, 2005, we determined that certain international patent pursuits were no longer consistent with our strategic plan. Accordingly, we recorded an impairment charge of $247 related to the total decrease was in personnel and personnel related expenses as we have reduced our employee headcount. Additionally, reductions in outside services and supplies were realized. We will remain focused on controlling and reducing expenses during 2004.abandonment of such pursuits.
GoodwillOther Income (Expense). Other expense during the quarter ended September 30, 2005 of $0.18 million consisted primarily of interest expense. Other expense during the quarter ended September 30, 2004 consisted of interest expense of $0.72 million, loss on debt extinguishment of $2.86 million and Asset Impairment Charges:During the three months ended March 31, 2004, our Board$0.10 million of Directors directed us to explore strategic alternatives for the Nucleic Acids operating segment. The ongoing process has included significant due diligence by us, our advisors and prospective independent buyers and other interested parties.expense, which consisted primarily of net investment losses associated with sales of Geron stock.
Based upon information obtained through this processInterest expense consisted of the following (in thousands):
Quarter Ended September 30, | |||||||
2005 | 2004 | ||||||
Interest paid or accrued on outstanding debt | $ | 172 | $ | 494 | |||
Amortization of debt premiums | (124 | ) | — | ||||
Amortization of debt discounts – warrants | 4 | — | |||||
Amortization of debt discount – beneficial conversion feature | 81 | 191 | |||||
Other | 48 | 38 | |||||
$ | 181 | $ | 723 | ||||
The decrease in interest paid or accrued on outstanding debt resulted from lower average debt balances partially offset by higher interest rates. Gross debt (before related premiums and discounts) totaled $8.26 million at September 30, 2005 with an interest rate of 8.75% compared to $8.50 million at December 31, 2004 with an interest rate of 7.25%. Our Laurus Loans had average balances during the quarters ended September 30, 2005 and 2004 of $8.07 million and $9.15 million, respectively. The high and low borrowings under our Credit Line during the quarter ended September 30, 2005 were $6.83 million and $5.88 million, respectively.
Income Tax Expense. Income tax recorded during the three months ended JuneSeptember 30, 2005 and 2004 we determinedrelated to income taxes in states, foreign countries and other local jurisdictions, offset by refunds received.
Due to the Company’s cumulative losses, expected losses in future years and inability to utilize any additional losses as carrybacks, the Company did not provided for an income tax benefit during the three months ended September 30, 2005 or 2004 based on management’s determination that it was more likely than not that the assets of the Nucleic Acids business were impaired. Accordingly, we engaged an external valuation firm to assist with the completion of a mid-year impairment test. As a result, we recorded a non-cash charge of $11,964,387 related to its Nucleic Acids segment during the three months ended June 30, 2004.such benefits would not be realized. The charge consisted of $9,864,387 related to the impairment of goodwill and $2,100,000 related to the impairment of property and equipment.
Restructuring Charges. During the fourth quarter of 2002 management formulated and executed a significant portion of a restructuring plan. The plan was developed to reduce expenses thereby better aligning the Company’s expense structure with current business prospects. The plan included employee terminations, office closures, termination of collaborations and write-offs of abandoned intellectual property. We continued to execute the plan during the second quarter of 2003 resulting in the additional charges recorded in 2003. These charges consisted of mainly employee severance costs and office closings. We did not incur restructuring charges in the second quarter of 2004.
Income Taxes. The Company’s tax expense (benefit) relates to its operations in certain foreign countries and certain states. The tax benefit recorded in the second quarter of 2004 relates to payments in the United Kingdom. No further tax benefits are being recorded due to our cumulative losses, expected losses and the uncertainty as to whether we will be able to utilize any additional losses as carrybacks. WeCompany will continue to assess the recoverability of deferred tax assets and the related valuation allowance. We expect to continue to incur losses and expect to continue to provide valuation allowances against deferred tax assets. To the extent we beginthe Company begins to generate taxable income in future yearsperiods and it is determined that such valuation allowance is no longer required; the tax benefit of the remaining deferred tax assets will be recognized. Our deferred tax assets as of June 30, 2004 were $38.0 million and were offset by a valuation allowance of $38.0 million.
Results of Operations Six Months Ended June 30, 2004 and 2003
Amounts in thousands | 2004 | 2003 | Change | % Change | ||||||||
Net Sales | ||||||||||||
Bioinstruments and Discovery Services | $ | 8,719 | $ | 10,236 | (1,517 | ) | (15 | )% | ||||
Bioconsumables | 4,229 | 3,363 | 866 | 26 | % | |||||||
Total BioSystems Business Unit | 12,948 | 13,599 | (661 | ) | (5 | )% | ||||||
Chemical Building Blocks | 3,308 | 4,013 | (705 | ) | (18 | )% | ||||||
Specialty Oligonucleotides and Services | 1,384 | 374 | 1,010 | 270 | % | |||||||
Total Synthetic Nucleic Acids Business Unit | 4,692 | 4,387 | 305 | 7 | % | |||||||
Total Net Sales | 17,640 | 17,986 | (346 | ) | (2 | )% | ||||||
Cost of Goods Sold | ||||||||||||
Bioinstruments and Services | 3,858 | 4,094 | (236 | ) | (6 | )% | ||||||
Bioconsumables | 1,903 | 1,737 | 166 | 10 | % | |||||||
Total BioSystems Business Unit | 5,761 | 5,831 | (70 | ) | (1 | )% | ||||||
Chemical Building Blocks | 2,794 | 3,466 | (672 | ) | (19 | )% | ||||||
Specialty Oligonucleotides and Services | 3,072 | 2,442 | 630 | 26 | % | |||||||
Total Synthetic Nucleic Acids Business Unit | 5,866 | 5,908 | (42 | ) | (1 | )% | ||||||
Total Cost of Goods Sold | 11,627 | 11,739 | (112 | ) | (1 | )% | ||||||
Selling, General and Administrative Expenses | 8,513 | 8,908 | (395 | ) | (4 | )% | ||||||
Research and Development Expenses | 3,601 | 4,688 | (1,087 | ) | (23 | )% | ||||||
Impairment Charges | 11,964 | — | 11,964 | 100 | % | |||||||
Restructuring and Restructuring Related Charges | — | 738 | (738 | ) | (100 | )% |
Net Sales. Sales in our BioSystems operating segment decreased in 2004 compared to 2003. Bioinstruments revenues were significantly lower than 2003, but this decrease was partially offset by increased sales in our Discovery Services. The decline in systems sales is mainly due to weak demand from our North American customer base. Increased services revenue is attributable to our activities focused on providing genetic variation discovery and analysis services to a pharmaceutical base of customers. We believe that our genetic variation discovery and analysis services provide an ongoing revenue opportunity. A discovery service agreement with Novartis Pharmaceuticals Corp. supporting the clinical development of oncology therapeutics has provided a template to utilize for our services offering. Bioconsumable product sales strengthened as the installed base of WAVE Systems has increased, resulting in increased consumable usage.
Sales in our Nucleic Acid operating segment increased in the first six months of 2004 due to an increased demand for our specialty chemical phosphoramidates. These products are used by one of our major customers as raw materials in DNA-based drug candidates. An increased demand for oligonucleotides manufactured by our start-up manufacturing facility in Boulder, Colorado, resulted in additional sales increases. Part of our business strategy has been to position ourselves as a unique partner to biopharmaceutical and pharmaceutical companies in the early stages of their efforts to develop genomic-based diagnostics and therapeutics. As part of this strategy we are focusing our sales efforts on large consumers of our Synthetic Nucleic Acid products who are willing to commit to long-term supply agreements. While we expect to see increased sales of these products based upon this strategy, we also may see varying demand depending on the success of the biopharmaceutical and pharmaceutical company’s diagnostic and therapeutic products. As a result we may see large variations in revenue flows for these products.
Cost of Goods Sold. Cost of goods sold declined year to year consistent with the decline in our revenues. Fixed costs associated with excess manufacturing capacity in our Nucleic Acids business unit and a lower number of high margin WAVE Systems sold kept our cost of goods sold comparable to 2003. The BioSystems business unit cost of goods sold as a percentage of sales increased year over year but remained within historical ranges at approximately 44%. We expect that our BioSystems margins will fluctuate within historical ranges based upon the sales mix of systems, consumables and services. Currently, our Nucleic Acid products are sold at lower margins compared to our BioSystems products. The margins in our Nucleic Acids business unit have been negatively impacted by higher manufacturing costs and excess capacity due largely to our plant expansion efforts in Glasgow, Scotland and Boulder, Colorado. We anticipate that our cost of goods sold for our Nucleic Acid products will remain under pressure due to continued excess capacity during 2004. Overall, we anticipate that our cost of goods sold as a percentage of sales will be consistent with 2003 or slightly lower as we are hopeful that demand for our Nucleic Acid products will rebound slightly. Margin improvement will depend largely on the return of product demand thereby more fully utilizing our manufacturing capacity and spreading fixed costs across a larger revenue base.
Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased as a result of our focus on expense control. Reductions in personnel and personnel related expenses and travel costs attributed to the decrease, partially offset by foreign currency increases. We will remain focused on controlling and reducing expenses during 2004.
Research and Development Expenses. Research and development expenses decreased as a result of our restructuring activities and focus on expense control. Approximately 65% of the total decrease was in personnel and personnel related expenses as we have reduced our employee headcount. Additionally, reductions in outside services and supplies were realized. We will remain focused on controlling and reducing expenses during 2004.
Goodwill and Asset Impairment Charges:During the three months ended March 31, 2004, our Board of Directors directed us to explore strategic alternatives for the Nucleic Acids operating segment. The ongoing process has included significant due diligence by us, our advisors and prospective independent buyers and other interested parties.
Based upon information obtained through this process during the three months ended June 30, 2004, we determined that it was more likely than not that the assets of the Nucleic Acids business were impaired. Accordingly, we engaged an external valuation firm to assist with the completion of a mid-year impairment test. As a result, we recorded a non-cash charge of $11,964,387 related to its Nucleic Acids segment during the three months ended June 30, 2004. The charge consisted of $9,864,387 related to the impairment of goodwill and $2,100,000 related to the impairment of property and equipment.
Restructuring Charges. During the fourth quarter of 2002 management formulated and executed a significant portion of a restructuring plan. The plan was developed to reduce expenses thereby better aligning the Company’s expense structure with current business prospects. The plan included employee terminations, office closures, termination of collaborations and write-offs of abandoned intellectual property. We continued to execute the plan during the first quarter of 2003 resulting in the additional charges recorded in 2003. These charges consisted of mainly employee severance costs and office closings. We have not incurred any restructuring charges in 2004.
Income Taxes. The Company’s tax expense (benefit) relates to its operations in certain foreign countries and certain states. The tax benefit recorded in 2004 relates to refunds received in the United Kingdom. No further tax benefits
are being recorded due to our cumulative losses, expected losses and the uncertainty as to whether we will be able to utilize any additional losses as carrybacks. We will continue to assess the recoverability of deferred tax assets and the related valuation allowance. We expect to continue to incur losses and expect to continue to provide valuation allowances against deferred tax assets. To the extent we begin to generate taxable income in future years and it is determineddetermines that such valuation allowance is no longer required, the tax benefit of the remaining deferred tax assets will be recognized. Ourrecognized at such time. As of September 30, 2005, the Company’s deferred tax assets as of June 30, 2004 were $38.0 million and were offset by a valuation allowance of $38.0approximately $41.2 million.
Results of Operations Nine Months Ended September 30, 2005 and 2004
Dollars in thousands | 2005 | 2004 | Change | % Change | |||||||||||
Net Sales | |||||||||||||||
Bioinstruments | $ | 11,343 | $ | 10,766 | $ | 577 | 5 | % | |||||||
Bioconsumables | 6,977 | 6,286 | 691 | 11 | % | ||||||||||
Discovery Services | 2,159 | 1,398 | 761 | 54 | % | ||||||||||
Total BioSystems Business Unit | 20,479 | 18,450 | 2,029 | 11 | % | ||||||||||
Chemical Building Blocks | 3,232 | 5,588 | (2,356 | ) | (42 | )% | |||||||||
Specialty Oligonucleotides and Services | — | 1,796 | (1,796 | ) | (100 | )% | |||||||||
Total Synthetic Nucleic Acids Business Unit | 3,232 | 7,384 | (4,152 | ) | (56 | )% | |||||||||
Total Net Sales | 23,711 | 25,834 | (2,123 | ) | (8 | )% | |||||||||
Cost of Goods Sold | |||||||||||||||
Bioinstruments | 5,396 | 4,401 | 995 | 23 | % | ||||||||||
Bioconsumables | 3,334 | 2,981 | 353 | 12 | % | ||||||||||
Discovery Services | 1,744 | 1,041 | 703 | 68 | % | ||||||||||
Total BioSystems Business Unit | 10,474 | 8,423 | 2,051 | 24 | % | ||||||||||
Chemical Building Blocks | 3,135 | 5,452 | (2,317 | ) | (43 | )% | |||||||||
Specialty Oligonucleotides and Services | — | 4,609 | (4,609 | ) | (100 | )% | |||||||||
Total Synthetic Nucleic Acids Business Unit | 3,135 | 10,061 | (6,926 | ) | 69 | % | |||||||||
Total Cost of Goods Sold | 13,609 | 18,484 | (4,875 | ) | (26 | )% | |||||||||
Selling, General and Administrative Expenses | 10,023 | 12,866 | (2,843 | ) | (22 | )% | |||||||||
Research and Development Expenses | 1,696 | 5,344 | (3,648 | ) | (68 | )% | |||||||||
Impairment Charges | 247 | 11,964 | (11,717 | ) | (98 | )% | |||||||||
Other Income (Expense) | (1,888 | ) | (4,704 | ) | (2,816 | ) | (60 | )% |
Net Sales. Net sales for the nine months ended September 30, 2005 decreased $2.12 million or 8% from the same period of 2004 as a result of a $4.15 million or 56% decrease in net sales from our Nucleic Acids operating segment offset by a $2.03 million or 11% increase in net sales in our BioSystems operating segment.
The increase in net sales in our BioSystems operating segment resulted from an increase of $0.58 million or 5% from bioinstruments, $0.69 million or 11% from bioconsumables, and $0.76 million or 54% from discovery services. WAVE Systems sold totaled 76 during the nine months ended September 30, 2005 compared to 85 during the same period of 2004. The selling prices of our instruments vary based on the specific model and optional accessories. We had an installed base of approximately 1,269 units at September 30, 2005 compared to 1,193 units at December 31, 2004. The increase in the installed base of instruments continues to drive increases in sales of bioconsumables used with these instruments. The increase in discovery services revenue during 2005 was primarily attributable to the discovery services agreements that we entered into with a large pharmaceutical company to support their clinical development of oncology therapeutics. During the nine months ended September 30, 2005, discovery services sales to this customer totaled $2.01 million and represented 10% of net sales within the BioSystems operating segment and 9% of total consolidated net sales. We have no long-term agreement with customer, therefore, sales will fluctuate and may be zero. Future revenues from our BioSystems operating segment would be substantially reduced if this customer’s need for our products declined.
Nucleic Acids operating segment sales decreased by $4.15 million or 56% during the nine months ended September 30, 2005 compared to the same period of 2004 as a result of fewer chemical building block sales to Geron and the sale of our specialty oligonucleotides facility in Boulder, Colorado. Net sales to Geron during the nine month ended September 30, 2005 totaled $1.73 million compared to $3.59 million during the same period of 2004. Net sales to Geron during the nine months ended September 30, 2005 represented 54% of net sales in our Nucleic Acids operating segment and 7% of total consolidated net sales. Net sales to Geron during the nine months ended September 30, 2004, represented 49% of net sales within our Nucleic Acids operating segment and 14% of total consolidated net sales. We have no long-term agreement with Geron, therefore, sales will fluctuate and may be zero. Future revenue from our Nucleic Acids operating segment would be substantially reduced if Geron’s need for our products declined. As a result of the sale of our facility in Boulder, Colorado, net sales of specialty oligonucleotides decreased by $1.80 million. We no longer manufacture or sell oligonucleotides.
Costs of Goods Sold.Costs of goods sold include material costs for the products that we sell and substantially all other costs associated with our manufacturing facilities (primarily personnel costs, rent and depreciation). It also includes direct costs (primarily personnel costs and supplies) associated with our Discovery Services operations. Depreciation expense included in costs of goods sold totaled $2.23 million and $2.22 million during the nine months ended September 30, 2005 and 2004, respectively.
Costs of goods sold during the nine months ended September 30, 2005 decreased $4.88 million or 26% from the same period of 2004 as a result of a $6.93 million or 69% decrease in our Nucleic Acids operating segment offset by a $2.05 million or 24% increase in our BioSystems operating segment. The overall decrease was primarily attributable to the sale of our oligonucleotide facility and from termination of associated personnel and the elimination of facilities related costs in conjunction with our 2004 Restructuring Plan.
Gross profit was $10.10 million or 43% of total net sales during the nine months ended September 30, 2005 compared to $7.35 million and 28% during the same period of 2004. A summary of gross profit by operating segment follows (dollars in thousands):
Nine Months Ended September 30, | |||||||||||||
2005 | 2004 | ||||||||||||
Gross Profit | Percent of Revenue | Gross Profit/(Loss) | Percent of Revenue | ||||||||||
BioSystems operating segment | $ | 10,005 | 49 | % | $ | 10,027 | 54 | % | |||||
Nucleic Acids operating segment | 97 | 3 | % | (2,677 | ) | (36 | )% | ||||||
$ | 10,102 | 43 | % | $ | 7,350 | 28 | % | ||||||
The decrease in BioSystems operating segment gross profit as a percent of revenue to 49% from 54% for the nine months ended September 30, 2005 and 2004, respectively, is largely attributable to changes in the composition of products sold. Generally, sales of WAVEs and ancillary instrumentation generate higher gross profits than sales of third party platforms. Sales of specialty consumables (SURVEYOR Nuclease, HPLC separation columns, etc.) generate higher gross profits than base buffers and enzymes. Gross profits from discovery services are currently less than expected due to the continuing build out of capacity and expansion of product offerings. Our Nucleic Acids operating segment continues to have excess capacity in its Glasgow, Scotland manufacturing facility that will adversely impact costs of goods sold and gross profit until demand for our Nucleic Acids building block products increase.
Selling, General and Administrative Expenses. Selling, general and administrative expenses primarily include personnel costs, marketing, travel and entertainment costs, professional fees, and facility costs. These costs totaled $10.02 million during the nine months ended September 30, 2005 compared to $12.87 million during the same period of 2004, a decrease of $2.85 million or 22%. As a percentage of revenue, selling, general and administrative expenses totaled 42% and 50% during the nine months ended September 30, 2005 and 2004, respectively. This decrease resulted primarily from termination of associated personnel and the elimination of facilities related costs in conjunction with the 2004 Restructuring Plan. Foreign currency transaction adjustments increased operating expenses by approximately $0.24 million during the nine months ended September 30, 2005 compared to the same period of 2004 when foreign currency transaction adjustments reduced operating expenses by approximately $0.14 million. Depreciation expense included in selling, general and administrative expenses totaled $0.50 million and $0.74 million during the nine months ended September 30, 2004 and 2004, respectively.
Research and Development Expenses. Research and development expenses primarily include personnel costs, supplies, and facility costs. These costs totaled $1.70 million during the nine months ended September 30, 2005 compared to $5.34 million during the same period of 2004, a decrease of $3.65 million or 68%. The decrease related primarily to the 2004 Restructuring Plan, which resulted in the elimination of substantially all research and development efforts associated with our Nucleic Acids operating segment. Depreciation expense included in research and development expenses included $0.42 million and $0.75 million during the nine months ended September 30, 2005 and 2004, respectively.
As a percentage of revenue, research and development expenses totaled 7% and 21% of revenue during the nine months ended September 30, 2005 and 2004, respectively. We expect to continue to invest up to 10% of our revenues in research and development activities primarily associated with our BioSystems operating segment. Research and development costs are expensed in the year in which they are incurred.
Impairment Charges.During the nine months ended September 30, 2005, we determined that certain international patent pursuits were no longer consistent with our strategic plan. Accordingly, we recorded an impairment charge of $247 related to the abandonment of such pursuits.
During the second quarter of 2004, our Board of Directors directed us to explore strategic alternatives for the Nucleic Acids operating segment. The process included significant due diligence by us, our advisors and prospective independent buyers and other interested parties. Based upon information obtained through this process, we determined that it was more likely than not that the value of the assets associated with this business was impaired. We engaged an external valuation firm to assist us in conducting an interim period impairment test that resulted in us recording a non-cash charge of $11.96 million related to these assets during the nine months ended September 30, 2004. The charge consisted of $9.87 million related to the impairment of goodwill and $2.10 million related to the impairment of property and equipment.
Other Income (Expense). Other expense during the nine months ended September 30, 2005 of $1.89 million consisted of interest expense of $1.92 million and other income of $0.03 million. Other expense during the nine months ended September 30, 2004 consisted of interest expense of $1.68 million, loss on debt extinguishment of $2.86 million and other expense of $0.16 million, which consisted primarily of net investment losses associated with sales of Geron stock.
Interest expense consisted of the following (in thousands):
Nine months Ended September 30, | |||||||
2005 | 2004 | ||||||
Interest paid or accrued on outstanding debt | $ | 477 | $ | 761 | |||
Amortization of debt premiums | (816 | ) | — | ||||
Amortization of debt discounts – warrants | 24 | — | |||||
Amortization of debt discount – beneficial conversion feature | 725 | 809 | |||||
Valuation charge associated with March 2005 conversions | 1,365 | — | |||||
Other | 144 | 114 | |||||
$ | 1,919 | $ | 1,684 | ||||
The increase in interest paid or accrued on outstanding debt resulted from higher average debt balances and interest rates. Gross debt (before related premiums and discounts) totaled $8.26 million at September 30, 2005 with an interest rate of 8.75% compared to $8.50 million at December 31, 2004 with an interest rate of 7.25%. During the nine months ended September 30, 2005 and 2004, we had average debt of $8.03 million and $7.81 million, respectively. The high and low borrowings under our Credit Line during the nine months ended September 30, 2005 were $6.90 million and $4.75 million, respectively.
On March 18, 2005, the Company agreed to allow Laurus to convert $1.88 million of the outstanding principal balance under the Credit Line into 3,600,000 shares of its common stock at $0.52 per share. In addition, on March 24, 2005 the Company agreed to allow Laurus to convert $0.65 million of the outstanding principal balance of the Term Note into 1,250,000 shares of common stock at $0.52 per share. Laurus agreed to apply this Term Note conversion against substantially all remaining 2005 scheduled principal payments on such loan. The closing market price of the Company’s common stock the day before each of these conversions was $0.58 per share. No other provisions of our Credit Line or Term Note were modified, including the $1.00 conversion price for remaining debt. In conjunction with these conversions we accelerated amortization of $0.41 million of related debt premiums and discounts and recorded a charge of $1.37 million related to the fair value of incremental shares received by Laurus.
Loss on debt extinguishment totaled $2.86 million during the nine months ended September 30, 2004. As described in Note E to the accompanying consolidated financial statements, certain August 31, 2004 modifications to our Laurus Loans were treated as extinguishments for financial reporting purposes since the change in present value of expected cash flows between the original and modified agreements was greater than 10%. As such, we recorded a loss on extinguishment of debt of $2.86 million at August 31, 2004 reflecting the difference between (i) the recorded amount of debt, net of related discounts, of $7.43 million and (ii) the fair value of the new debt instrument of $10.29 million plus the fair value of the new warrants of $0.11 million. The difference between the fair value of the new debt of $10.29 million and the face value of the debt of $8.57 million represents a premium, which will be reflected as a reduction of interest expense over the life of the new debt.
Income Tax Expense. Income tax recorded during the nine months ended September 30, 2005 and 2004 related to income taxes in states, foreign countries and other local jurisdictions, offset by refunds received.
Due to the Company’s cumulative losses, expected losses in future years and inability to utilize any additional losses as carrybacks, the Company did not provided for an income tax benefit during the nine months ended September 30, 2005 or 2004 based on management’s determination that it was more likely than not that such benefits would not be realized. The Company will continue to assess the recoverability of deferred tax assets and the related valuation allowance. To the extent the Company begins to generate taxable income in future periods and it
determines that such valuation allowance is no longer required, the tax benefit of the remaining deferred tax assets will be recognized at such time. As of September 30, 2005, the Company’s deferred tax assets were offset by a valuation allowance of approximately $41.2 million.
Liquidity and Capital Resources
Overview
Our liquidity and working capital positions deterioratedat September 30, 2005 and December 31, 2004 were as follows (in thousands):
September 30, 2005 | December 31, 2004 | Change | |||||||||
Current assets(1) | $ | 16,399 | $ | 17,908 | $ | (1,509 | ) | ||||
Current liabilities | 14,986 | 18,724 | (3,738 | ) | |||||||
Working Capital | $ | 1,413 | $ | (816 | ) | $ | 2,229 | ||||
(1) | Current assets include cash and cash equivalents of $1.32 million and $1.00 million at September 30, 2005 and December 31, 2004, respectively. |
The improvement in our working capital position during the quarterfirst nine months of 2005 was due predominantlyprimarily to operating losses, particularlyconversions of $2.58 million of borrowings under our Laurus Loans into shares of our common stock. We had $0.91 million available under our Credit Line at September 30, 2005. On October 31, 2005, we closed the private placement of securities to institutional investors that resulted in our Nucleic Acids operating segment, increased investmentsgross proceeds to the Company of $15.08 million. The securities sold in accounts receivable, short-term investments, inventory,the private placement consisted of (i) 14,925,743 shares of the Company’s common stock, and (ii) five-year, non-callable warrants to purchase another 5,970,297 shares of common stock with an exercise price of $1.20 per share. The aggregate purchase price for the securities sold in the private placement was $1.01 per share of common stock initially being sold. Contemporaneously with the closing of the private placement, we repaid all outstanding principal and accrued interest on both of the Laurus Loans, including fees to facilitate the private placement and prepayment penalties to Laurus in the sum of $0.82 million. As a lesser extent, purchases of propertyresult, the Credit Line with Laurus has been cancelled and equipment. These operating losses and investments were funded primarily by our credit facility.is no longer available to the Company.
WeWhile we believe that existing sources of liquidity are sufficient to meet expected cash needs through 2006, we have experienced recurring net losses and had an accumulated deficit of $91.7 million at June 30, 2004. Based on our 2004have historically relied upon cash flows from investing and 2005financing activities to offset significant cash outflows from operating plans,activities. To the extent necessary, we believe existing sources of liquidity will be sufficient to meet cash needs. If necessary, we believethat we can manage costs and expenses at reduced levels to conserve working capital. The need for any such cost and expense reductions during 2004 and 2005 would likely delay implementation of our business plan. Additionally, we may pursue additional financing alternatives. Ultimately, we must achieve sufficient revenue levelsrevenues in order to support its cost structure.
As of June 30, 2004 and December 31, 2003, we had approximately $656,000 and $1.2 million, respectively, in cashgenerate positive net earnings and cash equivalents. In addition, we had $1.4 million in short-term investments as of June 30, 2004 and no short-term investments as of December 31, 2003, for total cash and short-term investments of approximately $2.1 million and $1.2 million, as of June 30, 2004 and December 31, 2003, respectively.flows from operations.
The following table summarizes our short-term liquidityshows the actual and sourcesas adjusted effects of the private placement and uses of cashdebt repayment on the Company’s September 30, 2005 consolidated balance sheet as of Juneif the transaction had occurred on September 30, 2004 and December 31, 2003 and for the periods ended June 30, 2004 and 2003:2005 (in thousands).
Amounts in Thousands | June 30, 2004 | December 31, 2003 | ||||||
Short-term liquidity: | ||||||||
Current assets | $ | 26,455 | $ | 24,378 | ||||
Current liabilities | (15,350 | ) | (12,248 | ) | ||||
Net working capital | 11,105 | 12,130 | ||||||
Cash and cash equivalents | 656 | 1,241 | ||||||
Short-term investments | 1,405 | — | ||||||
Available borrowings on line of credit | 923 | 1,673 | ||||||
For the period June 30, 2004 | For the period June 30, 2003 | |||||||
Net cash flows: | ||||||||
Operating activities | $ | (6,952 | ) | $ | (6,441 | ) | ||
Investing activities | (202 | ) | (1,435 | ) | ||||
Financing activities | 6,652 | 1,412 | ||||||
Effect of foreign currency exchange rates on cash | (83 | ) | (226 | ) | ||||
Net change in cash and cash equivalents | $ | (585 | ) | $ | (6,690 | ) | ||
We expect to devote substantial capital resources to continue our research and development efforts, to support our marketing and sales and customer support activities, and for other general corporate activities. Our capital requirements for operations depend on a number of factors, including sales of product and services, amounts paid for research and development activities, resources we devote to developing and supporting our products and services and general capital expenditures.
September 30, 2005 | |||||||
Actual | As Adjusted | ||||||
Cash and cash equivalents | $ | 1,322 | $ | 6,696 | (1)(3) | ||
Line of credit | $ | 6,935 | $ | — | (1)(2) | ||
Current portion of long-term debt | $ | 675 | $ | — | (1)(2) | ||
Long-term debt | $ | 1,226 | $ | — | (1)(2) | ||
Total stockholder’s equity | $ | 15,662 | $ | 29,415 | (1)(2)(3) | ||
(1) | Net proceeds from the private placement (after transaction costs of $1.18 million,) totaled $13.90 million and were used in part to prepay all indebtedness and prepayment fees to Laurus totaling $8.52 million. The remaining proceeds of $5.37 million will be used for the future working capital needs of the Company. Transaction costs included fees to Oppenheimer of $1.06 million and other transaction specific costs of approximately $0.13 million. |
(2) | The as adjusted presentation assumes that net premiums related to the Laurus Loans totaling $0.57 million at September 30, 2005 will result in a gain upon prepayment of these loans. This gain will be offset by fees to Laurs of $0.50 million to facilitate the private placement and prepayment penalties of $0.32 million. |
(3) | At November 14, 2005, we have 49,172,079 shares outstanding and 13,603,592 potentially dilutive securities consisting of 5,541,015 options issued under our stock option plan and warrants representing 8,062,577 shares. |
In December 2003, we entered into a three-year line of credit facility with Laurus. Under the terms of the agreement, we can borrow up to $7.5 million based on eligible accounts receivable and inventory balances. The agreement carries an interest rate of 2.0% over the prime rate or a minimum of 6.0%. Funds available under the line are determined by a borrowing base equal to 90% of eligible accounts receivable balances plus up to $1.0 million related to inventory balances. This line of credit is secured by most of our assets. Payment of interest and principal can, under certain circumstances, be made with shares of our common stock at a fixed conversion price of $2.20 per share. In January and February 2004, Laurus exercised its conversion rights on the line of credit and converted $2.0 million of amounts outstanding on the line into approximately 910,000 shares of common stock of the Company. In February 2004, Laurus waived the borrowing base limitation on our line through December 19, 2004, thereby making the full $7.5 million facility available to us regardless of the available collateral. As of August 13, 2004, we had approximately $2.3 million available under this facility.
In February 2004, we entered into a $2.75 million convertible note with Laurus, our line of credit provider. Management determined that the terms of the convertible note with Laurus were more favorable to the Company as compared to the previously announced proposed sale/leaseback transaction on our Glasgow, Scotland facility. The note carries an interest rate of prime plus 2% over the prime rate or a minimum of 6.0% and has a term of 3 years. The principal and interest on the note may be converted into common stock of the Company at a fixed conversion price of $2.61 per share. Proceeds from this transaction were used to retire the mortgage debt on the Glasgow facility, further the build-out and consolidation of the Glasgow facility and provide funds for operations. Proceeds, net of transaction costs and amounts used to repay our existing mortgage debt on the Glasgow facility, were approximately $750,000.
Based upon our current projections, we expect to meet our cash needs for the remainder of 2004 from existing cash, additional cash generated from our working capital, and funds available to us under our $7.5 million credit facility plus additional capital resulting from one or more of the strategic alternatives related to the Nucleic Acids operating segment. These projections may or may not be realized based upon actual operating results and capital project requirements. Thus, during or after this period, if our existing cash balances, cash generated by our working capital, available borrowings under credit agreements and other available capital are insufficient to satisfy our liquidity requirements, we may need to sell additional equity or debt securities, or obtain additional credit arrangements. We are monitoring our liquidity position and are prepared to take appropriate measures, as needed, to address liquidity. Such measures may include, but are not limited to, further expense reductions, an expansion of our line of credit, asset sales and the placement of equity or debt. We cannot assure you that any financing arrangement will be available in amounts or on terms acceptable to us. Our failure to raise additional capital, if needed, would harm our financial condition, results of operations and our business.
Analysis of Cash Flows
Net Change in Cash and Cash Equivalents.Cash and cash equivalents increased $0.32 million during the nine months ended September 30, 2005 as a result of net cash from investing activities and financing activities of $0.24 million and $2.35 million, respectively, offset by net cash used in operating activities of $2.06 million, and changes in foreign currency exchange rates of $0.21 million.
Cash Flows from Operating Activities.Cash flows used in operating activities totaled approximately $7.0$2.06 million during the sixnine months ended JuneSeptember 30, 20042005 compared to $6.4$8.71 million during the comparablesame period of 2003.2004. The use during 2004 is largely attributablein 2005 related primarily to operating losses particularly in our Nucleic Acids business segment and a net investmentloss of $3.78 million offset by non-cash charges of $4.59 million. Non-cash charges consisted primarily of depreciation and amortization and certain financing costs. Working capital and other adjustments decreased cash flows from operating activities by $2.87 million. We spent $1.54 million during the nine months ended September 30, 2005 related to the 2004 Restructuring Plan. We had accrued expenses associated with this plan of $0.37 million at September 30, 2005. This balance relates primarily to future rents on closed facilities (net of projected sublease rents) of which $0.03 million is expected to be paid during the remainder of 2005 and $0.34 million in working capital.2006 and thereafter.
Cash Flows from Investing Activities. Cash flows provided by investing activities totaled $0.24 million during the nine months ended September 30, 2005 compared to cash flows used in investing activities totaled $202,000 during the six months ended June 30, 2004 compared to $1.4of $1.54 million during the comparablesame period of 2003.2004. The investingprincipal source of cash flows generatedfrom investing activities in 20042005 were from thesales of available for sale securities (Geron stock) of short-term investments$0.62 million that were offset by purchases of $0.55 million of property and equipment.equipment primarily associated with the build out of our Glasgow, Scotland manufacturing facility that is substantially complete. We currently estimate that consolidated capital expenditures will not exceed $0.25 million for the remainder of 2005.
Cash Flows from Financing Activities.Cash flows from financing activities totaled $6.7$2.35 million during the sixnine months ended JuneSeptember 30, 20042005 compared to $1.4$7.19 million during the comparable period2004. The principal source of 2003. The cash flows from financing activities in 2004 relate primarily to2005 was net draws on our Laurus credit facility and proceeds fromCredit Line that were offset by payments on our Term Note. There are no scheduled principal payments for the separate convertible note with Laurus.
Obligations and Commitments
Our ongoing capital commitments consist of debt service requirements and obligations under capital leases. The following table sets forth our contractual obligations as of September 30, 2005 along with cash payments due in each period indicated:indicated (in thousands):
Payments Due by Period | |||||||||||||||
Amounts in Thousands | 2004 | 2005 | 2006 | 2007 | 2008 and Thereafter | ||||||||||
Line of credit1 | $ | 6,578 | $ | — | $ | — | $ | — | $ | — | |||||
Long-term debt principal payments | 350 | 850 | 900 | 650 | — | ||||||||||
Operating lease payments | 3,624 | 3,304 | 2,203 | 662 | — | ||||||||||
Total contractual obligations | $ | 10,552 | $ | 4,154 | $ | 3,103 | $ | 1,312 | $ | — | |||||
Payments Due by Period | ||||||||||||||||||
Total | 2005 | 2006 | 2007 | 2008 | 2009 and thereafter | |||||||||||||
Credit Line(1) | $ | 6,119 | $ | 6,119 | $ | — | $ | — | $ | — | $ | — | ||||||
Term Note(1) | 1,675 | — | 875 | 800 | — | — | ||||||||||||
Operating lease payments(2) | 2,584 | 359 | 1,233 | 443 | 189 | 360 | ||||||||||||
Purchase obligations | 872 | 248 | 370 | 254 | — | — | ||||||||||||
Total contractual obligations | $ | 11,250 | $ | 6,726 | $ | 2,478 | $ | 1,497 | $ | 189 | $ | 360 | ||||||
(2) | These are gross lease commitments. Certain facilities underlying these commitments are sublet to independent third parties. Annual rents from these subtenants are expected to total $0.04 million, $0.17 million, and $0.02 million in for the |
At September 30, 2005, we had firm commitments totaling $0.88 million to purchase components used in our WAVE Systems.
Off Balance Sheet Arrangements
At JuneSeptember 30, 2005 and December 31, 2004, and 2003, the Companywe did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
Critical Accounting Policies
Accounting policies used in the preparation of the condensed consolidated financial statements may involve the use of management judgments and estimates. Certain of the Company’s accounting policies are considered critical as they are both important to the portrayal of the Company’s financial statements and they require significant or complex judgments on the part of management. Our judgments and estimates are based on experience and assumptions that we believe are reasonable under the circumstances. Further, we evaluate our judgments and estimates from time to time as circumstances change. Actual financial results based on judgmentsjudgment or estimates may vary under different assumptions or circumstances.
The Company considers itsCompany’s critical accounting policies are discussed in our annual report on Form 10-K, as amended, for the year ended December 31, 2004. There have been no significant changes with respect to be:these estimates during the nine months ended September 30, 2005.
Recently Issued Accounting Pronouncements
For additional discussionOn December 16, 2004, the Financial Accounting Standards Board (FASB) issued Statement of these criticalFinancial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment”. SFAS No.123R addresses the accounting policies, see the “Management Discussion and Analysis” sectionfor share-based payment transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the Company’s 2003 Annual Reportenterprise or (b) liabilities that are based on Form 10-K.the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments. SFAS No. 123R eliminates the ability to account for share-based compensation transactions using Accounting Principles Board Opinion No. 25 and generally requires that such transactions be accounted for using a fair-value-based method. We expect to adopt this standard on January 1, 2006. We are currently assessing the final impact of this standard on our financial position, results of operations or cash flows. This assessment includes evaluating option valuation methodologies and assumptions as well as potential changes to compensation strategies.
On November 24, 2004, the FASB issued SFAS No. 151, “Inventory Costs – an amendment of ARB No. 43”. SFAS No. 151 requires idle facility expenses, freight, handling costs, and wasted material (spoilage) costs to be excluded from the cost of inventory and expensed when incurred. It also requires that allocation of fixed production overhead to be based on the normal capacity of the production facilities. SFAS No. 151 will be effective for the Company on January 1, 2006. We are currently assessing the final impact of this standard on our financial position, results of operations or cash flows.
Impact of Inflation
We do not believe that price inflation had a material adverse effect on our financial condition or results of operations during the periods presented.
Foreign Currency Rate Fluctuations
During the last three fiscal years, our international sales have represented approximately 50-65% of our net sales. These sales of products in foreign countries are mainly completed in either British Pounds Sterling or the Euro. Additionally, we have two wholly owned subsidiaries, Transgenomic, LTD., and Cruachem, LTD., whose operating currency is British Pounds Sterling and the Euro. Results of operations for the Company’s foreign subsidiaries are translated using the average exchange rate during the period. Assets and liabilities are translated at the exchange rate
in effect on the balance sheet dates. As a result we are subject to exchange rate risk. The operational expenses of our foreign subsidiaries help to reduce the currency exposure we have based on our sales denominated in foreign currencies by converting foreign currencies directly into goods and services. As such, management feels we feel do not have a material exposure to foreign currency rate fluctuations at this time.
Forward-looking Information
This report contains a number of “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. Many of these forward-looking statements refer to our plans, objective, expectations and intentions, as well as our future financial results. You can identify these forward-looking statements by forward-looking words such as “expects,” “anticipates,” “intends,” “plans,” “may,” “will,” “believes,” “feels,” “seeks,” “estimates,” and similar expressions. Because these forward-looking statements involve risks and uncertainties, there are important factors that could cause our actual results to differ materially from those expressed or implied by these forward-looking statements. Such factors would include the growth of the markets for DNA analysis technology and consumable products, the acceptance of our technology, our ability to continue to improve our products, the development of competing technologies, and our ability to protect our intellectual property rights.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Previously, our principal market risk was interest rate risk on our variable-rate borrowings under the Laurus Loans. Subsequent to September 30, 2005, we repaid the entire principal balance of the Laurus Loans with the proceeds from the private placement and have terminated these loans. Accordingly, we no longer have any borrowings which subject us to material interest rate risk.
Item 4. Controls and Procedures
A review and evaluation was performed by the Company’s management, including the Company’s Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the period covered by this quarterly report. Based on that review and evaluation, the CEO and CFO concluded that the Company’s disclosure controls and procedures, as designed and implemented, were effective. There have been no changes in the Company’s internal controls subsequent to the date of their evaluation
(a) | Evaluation of Disclosure Controls and Procedures. A review and evaluation was performed by the Company’s management, including the Company’s Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as defined in 240.13a-15(e) or 240.15d-15(e) as of the end of the period covered by this quarterly report. Based on that review and evaluation, the CEO and CFO concluded that the Company’s current disclosure controls and procedures, as designed and implemented, were effective in assuring that information required to be disclosed is recorded, processed, summarized and reported in the reports the Company submits under the Securities Exchange Act of 1934. |
(b) | Change in Internal Control Over Financial Reporting. There have been no changes in the Company’s internal control over financial reporting during the quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. |
This review and evaluation took into account the restatements described in Note L to the accompanying unaudited condensed consolidated financial statements and, after considering the nature of and the isolated effects of such restatements on the condensed consolidated statements of cash flows and the controls underlying the accumulation of the related information, the Company’s management has concluded that the restatement was not the result of a material weakness in internal control over financial reporting.
The Company is subject to a number of claims of various amounts, which arise out of the normal course of its business. In the opinion of management, the disposition of claims currently pending will not have a material adverse effect on the Company’s financial position, results of operations or cash flows after considering amounts already reflected in the consolidated financial statements.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The Company made no repurchases of its common stock during the third quarter of 2005; therefore, tabular disclosure is not presented.
Item 6. Exhibits and Reports on Form 8-K
(a) | Exhibits |
(3.1) | ||
(3.2) | Bylaws of the Registrant (incorporated by reference to Exhibit 3.2 to Registration Statement on Form S-1 (Registration No. 333-32174) as filed on March 10, 2000) | |
(4) | Form of Certificate of the Registrant’s Common Stock (incorporated by reference to Exhibit 4 to Registration Statement on Form S-1 (Registration No. 333-32174) as filed on March 10, 2000) | |
(10.1) | Form of Securities Purchase Agreement by and between the Registrant and various counterparties dated | |
(32.1) | Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350) |
(32.2) | Certification pursuant to |
The Registrant filed a Report on Form 8-K on April 28, 2004, reporting the announcement of an agreement to provide additional quantities of modified nucleic acid building block compounds to Geron Corporation under terms of multiple new addendums to an existing Master Supply Agreement, pursuant to Item 5 of Form 8-K.
The Registrant furnished a Report on Form 8-K on May 11, 2004, reporting the announcement of its results of operations for the quarter ended March 31, 2004, pursuant to Item 9 of Form 8-K.
The Registrant furnished a Report on Form 8-K on August 13, 2004, reporting the announcement of its results of operations for the quarter ended June 30, 2004, pursuant to Item 9 of Form 8-K.
Pursuant to the requirements 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.
TRANSGENOMIC, INC. | ||||
Date: | By: | /s/ MICHAEL A. SUMMERS | ||
Michael A. Summers Chief Financial Officer (authorized officer and principal financial officer) |
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