UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
x | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2008
OR
o | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from _______ to _______
Commission file number: 000-51622
Velcera, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Delaware (State or other jurisdiction of incorporation or organization) | 20-3327015 (I.R.S. Employer Identification No.) |
777 Township Line Road, Suite 170
Yardley, Pennsylvania 19067
(Address of principal executive offices)
(267) 757-3600
(Issuer’s telephone number)
Indicate by check mark whether the registrant: (1)has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the issuer was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o |
Non-accelerated filer o | Smaller reporting company x |
Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act). Yes o No x
As of May 12, 2008 there were 12,039,804 shares of the issuer’s common stock outstanding.
INDEX
Page | ||
PART I | FINANCIAL INFORMATION | |
Item 1 | Financial Statements | |
Condensed Consolidated Balance Sheets as of March 31, 2008 (unaudited) and December 31, 2007 | 2 | |
Unaudited Condensed Consolidated Statements of Operations for the three months ended March 31, 2008 and 2007 and Period from September 24, 2002 (Inception) to March 31, 2008 | 3 | |
Unaudited Condensed Consolidated Statement of Changes in Stockholders’ Equity for the three months ended March 31, 2008 | 4 | |
Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2008 and 2007 and Period from September 24, 2002 (Inception) to March 31, 2008 | 5 | |
Notes to Unaudited Condensed Consolidated Financial Statements | 6 | |
Item 2 | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 16 |
Item 3 | Quantitative and Qualitative Disclosures About Market Risk | 25 |
Item 4T | Controls and Procedures | 25 |
PART II | OTHER INFORMATION | |
Item 6 | Exhibits | 26 |
Signatures | 27 |
1
PART I — FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS.
VELCERA, INC.
(A Development Stage Company)
Condensed Consolidated Balance Sheets
March 31, 2008 (Unaudited) | December 31, 2007 (See Note 1) | ||||||
ASSETS | |||||||
Current assets: | |||||||
Cash and cash equivalents | $ | 4,280,307 | $ | 5,767,955 | |||
Accounts receivable | 190,000 | 190,000 | |||||
Other current assets | 35,135 | 139,468 | |||||
Total current assets | 4,505,442 | 6,097,423 | |||||
Property and equipment, net | 58,985 | 63,269 | |||||
Other assets | 28,054 | 28,054 | |||||
Total assets | $ | 4,592,481 | $ | 6,188,746 | |||
LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||
Current liabilities: | |||||||
Accounts payable and accrued expenses | $ | 733,350 | $ | 1,067,132 | |||
Deferred revenue | - | 289,744 | |||||
Total liabilities | 733,350 | 1,356,876 | |||||
Commitments and contingencies | |||||||
Stockholders’ equity: | |||||||
Preferred stock, $.001 par value; 10,000,000 shares authorized; none issued | - | - | |||||
Common stock, $.001 par value; 75,000,000 shares authorized; 12,039,804 shares issued and outstanding | 12,040 | 12,040 | |||||
Additional paid-in capital | 16,997,199 | 16,869,867 | |||||
Deficit accumulated during the development stage | (13,150,108 | ) | (12,050,037 | ) | |||
Total stockholders’ equity | 3,859,131 | 4,831,870 | |||||
Total liabilities and stockholders’ equity | $ | 4,592,481 | $ | 6,188,746 |
See Notes to Unaudited Condensed Consolidated Financial Statements.
2
VELCERA, INC.
(A Development Stage Company)
Condensed Consolidated Statements of Operations (Unaudited)
Three months ended March 31, 2008 | Three months ended March 31, 2007 | Period from September 24, 2002 (Inception) to March 31, 2008 | ||||||||
Revenue | $ | 289,744 | $ | 50,000 | $ | 1,954,630 | ||||
Operating expenses: | ||||||||||
Research and development | 688,229 | 661,931 | 8,861,513 | |||||||
General and administrative | 746,127 | 395,550 | 6,757,173 | |||||||
Total operating expenses | 1,434,356 | 1,057,481 | 15,618,686 | |||||||
Loss from operations | (1,144,612 | ) | (1,007,481 | ) | (13,664,056 | ) | ||||
Interest expense | - | - | (4,317 | ) | ||||||
Interest income | 44,541 | 43,672 | 518,265 | |||||||
Net loss | $ | (1,100,071 | ) | $ | (963,809 | ) | $ | (13,150,108 | ) | |
Basic and diluted net loss per common share | $ | (0.09 | ) | $ | (0.12 | ) | ||||
Weighted average common shares outstanding – basic and diluted | 12,039,804 | 8,202,029 |
See Notes to Unaudited Condensed Consolidated Financial Statements.
3
VELCERA, INC.
(A Development Stage Company)
Condensed Consolidated Statement of Changes in Stockholders’ Equity (Unaudited)
For the Three Months Ended March 31, 2008
Deficit | ||||||||||||||||
Accumulated | ||||||||||||||||
Additional | During the | |||||||||||||||
Common Stock | Paid-in | Development | ||||||||||||||
Shares | Amount | Capital | Stage | Total | ||||||||||||
Balance at January 1, 2008 | 12,039,804 | $ | 12,040 | $ | 16,869,867 | $ | (12,050,037 | ) | $ | 4,831,870 | ||||||
Stock-based compensation | - | - | 127,332 | - | 127,332 | |||||||||||
Net loss | - | - | - | (1,100,071 | ) | (1,100,071 | ) | |||||||||
Balance at March 31, 2008 | 12,039,804 | $ | 12,040 | $ | 16,997,199 | $ | (13,150,108 | ) | $ | 3,859,131 |
See Notes to Unaudited Condensed Consolidated Financial Statements.
4
VELCERA, INC.
(A Development Stage Company)
Condensed Consolidated Statements of Cash Flows (Unaudited)
Three months ended March 31 2008 | Three months ended March 31, 2007 | Period from September 24, 2002 (Inception) to March 31, 2008 | ||||||||
Cash flows from operating activities: | ||||||||||
Net loss | $ | (1,100,071 | ) | $ | (963,809 | ) | $ | (13,150,108 | ) | |
Adjustments to reconcile net loss to net cash used in operating activities: | ||||||||||
Expenses paid by related parties satisfied through issuance of notes | - | - | 67,339 | |||||||
Stock-based compensation - restricted stock | - | - | 343,866 | |||||||
Stock-based compensation - options | 127,332 | 131,136 | 1,091,663 | |||||||
Depreciation and amortization | 4,284 | 1,682 | 26,772 | |||||||
Changes in operating assets and liabilities: | ||||||||||
Accounts receivable | - | - | (190,000 | ) | ||||||
Other current assets | 104,333 | (34,497 | ) | (35,135 | ) | |||||
Other assets | - | 18,062 | (28,054 | ) | ||||||
Accounts payable and accrued expenses | (333,782 | ) | (234,309 | ) | 608,350 | |||||
Deferred revenue | (289,744 | ) | (50,000 | ) | - | |||||
Net cash used in operating activities | (1,487,648 | ) | (1,131,735 | ) | (11,265,307 | ) | ||||
Cash flows from investing activities: | ||||||||||
Purchase of certificate of deposit | - | - | (4,500,000 | ) | ||||||
Proceeds from maturity of certificate of deposit | - | - | 4,500,000 | |||||||
Purchases of property and equipment | - | (4,914 | ) | (85,757 | ) | |||||
Net cash used in investing activities | - | (4,914 | ) | (85,757 | ) | |||||
Cash flows from financing activities: | ||||||||||
Proceeds from notes payable to related party | - | 285,000 | 485,000 | |||||||
Repayment of notes payable to related party | - | - | (267,339 | ) | ||||||
Issuance of common stock to founders | - | - | 3,259 | |||||||
Payments of deferred offering costs | - | - | (108,422 | ) | ||||||
Proceeds from private placements of common stock | - | 8,861,295 | 15,518,873 | |||||||
Net cash provided by financing activities | - | 9,146,295 | 15,631,371 | |||||||
Net (decrease) increase in cash and cash equivalents | (1,487,648 | ) | 8,009,646 | 4,280,307 | ||||||
Beginning of period | 5,767,955 | 367,245 | - | |||||||
End of period | $ | 4,280,307 | $ | 8,376,891 | $ | 4,280,307 | ||||
Supplemental schedule of non-cash financing activities: | ||||||||||
Net liabilities assumed as part of recapitalization | $ | - | $ | 125,000 | $ | 125,000 | ||||
Notes payable to related party converted in private placement | $ | - | $ | 285,000 | $ | 285,000 |
See Notes to Unaudited Condensed Consolidated Financial Statements.
5
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Business, basis of presentation and summary of significant accounting policies:
Business:
Velcera, Inc. ("Velcera" or the "Company") was incorporated in the State of Delaware on September 24, 2002 as Veterinary Company, Inc. Velcera is a specialty pharmaceutical company focused on the acquisition, development and commercialization of pharmaceutical products for the pet health market. The Company’s currently licensed a transmucosal spray technology for the metered delivery of pharmaceutical products to animals. This technology, trademarked Promist™ is being developed to create a metered dose oral spray to deliver therapeutic compounds to animals. In the first quarter of 2008, the Company created a wholly-owned subsidiary, Fidopharm, Inc. and has licensed the rights to develop and commercialize parasiticide products for pets in the United States
Basis of presentation:
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and the rules of the Securities and Exchange Commission (“SEC”) for interim financial information. Accordingly, the unaudited condensed consolidated financial statements do not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete annual financial statements. In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments, consisting of only normal recurring adjustments, considered necessary for fair presentation. Interim operating results are not necessarily indicative of results that may be expected for the full year ending December 31, 2008 or for any subsequent period. These unaudited condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto of the Company which are included in post effective-amendment No. 1 on Form S-1 to our SB-2/A Registration Statement filed on April 28, 2008.
The Company’s primary activities since incorporation have been organizational activities, including recruiting personnel, establishing office facilities, acquiring licenses for its pharmaceutical compound pipeline, performing business and financial planning, performing research and development, and raising funds through the issuance of common stock. The Company has not generated significant revenues and, accordingly, the Company is considered to be in the development stage.
The Company has sustained operating losses and negative cash flows from operating activities since its inception and expects such losses and negative cash flows to continue over the next several years. Management plans to continue financing the operations with a combination of equity issuances and debt arrangements. If adequate funds are not available, the Company may be required to delay, reduce the scope of, or eliminate one or more of its research or development programs, or cease operations.
On February 27, 2007, pursuant to a merger agreement dated January 30, 2007 (the “Merger Agreement”), Velcera merged with and into Denali Acquisition Corp. (the “MergerCo”), a Delaware corporation and a wholly owned subsidiary of Denali Sciences, Inc. (“Denali”), which at that time was a reporting public corporation with no operations. For accounting purposes, the merger has been accounted for as an acquisition of Denali and a recapitalization of Velcera. The historical financial statements presented are those of Velcera as a combined entity with Denali. The assets and liabilities of Denali have been included in the balance sheet at their book values. No intangibles were recorded as part of the transaction. This transaction is referred to throughout these condensed consolidated financial statements as the “Recapitalization”.
6
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Business, basis of presentation and summary of significant accounting policies (continued):
Revenue Recognition (continued):
While the Company has not generated significant revenues and is considered to be in the development stage, the Company has entered into licenses and other arrangements. These arrangements are often complex as they may involve license, development and manufacturing components. Licensing revenue recognition requires significant management judgment to evaluate the effective terms of agreements, the Company’s performance commitments and determination of fair value of the various deliverables under the arrangement. SEC Staff Accounting Bulletin No. 101, or SAB 101, superseded in part by SAB 104, provides guidance on the recognition, presentation, and disclosure of revenue in financial statements. SAB 104 establishes the SEC’s view that it is not appropriate to recognize revenue until all of the following criteria are met: persuasive evidence of an arrangement exists; delivery has occurred or services have been rendered; the seller’s price to the buyer is fixed or determinable; and collectibility is reasonably assured. SAB 104 also requires that both title and the risks and rewards of ownership be transferred to the buyer before revenue can be recognized. In addition, the Company will follow the provisions of Emerging Issues Task Force (“EITF”) issue EITF 00-21, “Revenue Arrangements with Multiple Deliverables,” which addresses certain aspects of revenue recognition for arrangements the Company expects to have in future periods that will include multiple revenue-generating activities. EITF 00-21 addresses when and, if so, how an arrangement involving multiple deliverables should be divided into separate units of accounting. In some arrangements, the different revenue-generating activities (deliverables) are sufficiently separable, and there exists sufficient evidence of their fair values, to separately account for some or all of the deliverables (that is, there are separate units of accounting). In other arrangements, some or all of the deliverables are not independently functional, or there is not sufficient evidence of their fair values to account for them separately. Our ability to establish objective evidence of fair value for the deliverable portions of the contracts may significantly impact the time period over which revenues will be recognized. For instance, if there is no objective fair value of undelivered elements of a contract, then the Company may be required to treat a multi-deliverable contract as one unit of accounting, resulting in all revenue being deferred and recognized ratably over the entire contract period. EITF 00-21 does not change otherwise applicable revenue recognition criteria. In arrangements where the deliverables cannot be separated, revenue related to up-front, time-based and performance-based payments will be recognized ratably over the entire contract performance period. For major licensing contracts, this will result in the deferral of significant revenue amounts where non-refundable cash payments have been received, but the revenue will not immediately be recognized due to the long-term nature of the respective agreements.
Subsequent factors affecting the initial estimate of the effective terms of agreements could either increase or decrease the period over which the deferred revenue is recognized.
Due to the requirement to defer significant amounts of revenue and the extended period over which the revenue will be recognized, along with the requirement to amortize the prepaid license discount and certain deferred development costs over an extended period of time, revenue recognized and cost of sales may be materially different from cash flows.
On an overall basis, the Company’s reported revenues could differ significantly from future billings and/or unbilled revenue based on terms in agreements with customers. Unbilled revenues consist of costs incurred, but not billed to the customer or partner as of the end of the period. There were no unbilled amounts at March 31, 2008 or December 31, 2007.
Effective May 29, 2007, the Company signed a License and Development Agreement with Novartis Animal Health (“Novartis”), for Novartis to complete the development and commercialize the drug VEL504.
7
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Business, basis of presentation and summary of significant accounting policies (continued):
Revenue Recognition (continued):
The License and Development Agreement provided for milestone payments and royalties upon commercialization of the product. In addition, during the period from the effective date through August 1, 2007, the Company managed the development as it transitioned the project to Novartis. The Company invoiced Novartis for the direct costs associated with the management of the research and development project. To the extent milestone payments are non-refundable, the Company recognizes these time-based and performance based payments ratably over the contract period. The reimbursement of research and development costs is recognized in accordance with EITF 99-19 “Reporting Revenues Gross as a Principal versus Net as an Agent.” Under the guidance of EITF 99-19, reimbursements received for research and development costs are recorded as revenue in the statement of operations rather than as a reduction in expenses. For the three months ended March 31, 2008 and 2007, the Company recorded no revenue for the reimbursement of research and development costs associated with this project. With the end of the transition period, the Company began to ratably amortize the non-refundable portion of the milestone payments over the contract period.
On September 28 and October 3, 2007, the Company was notified by Novartis that Novartis was temporarily suspending its U.S. clinical study concerning the drug, VEL504, that Novartis licensed from the Company due to issues concerning the quality of VEL504 product received from a third party manufacturer. Novartis reported that other studies being conducted by Novartis concerning this product were on-going, subject to review.
On December 13, 2007, the Company and Novartis entered into a letter agreement pursuant to which Novartis discontinued all work on the present product formulation and had until March 31, 2008 to propose an alternative development plan which was subject to the Company’s approval. The Company and Novartis agreed to discontinue the U.S. clinical study, but would complete the various animal laboratory studies that were underway.
On March 5, 2008, the Company received notice from Novartis that it was terminating the License and Development Agreement. Pursuant to the Termination Notice, all development work on VEL504 by Novartis has ceased and the product and related data will be returned to the Company. Novartis agreed to work with the Company to ensure orderly transfer of the data to Velcera. In connection with the termination, in the fourth quarter of 2007, the Company wrote off approximately $183,000 in accounts receivable.
Use of estimates:
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect certain reported amounts and disclosures. The primary estimates used by management are the determination of the allowance for doubtful accounts, recognition of revenue, and research and development costs. Although these estimates are based on management’s knowledge of current events and actions it may undertake in the future, the estimates may ultimately differ from actual results.
Loss per common share:
Basic loss per common share excludes dilution and is computed by dividing net income or loss by the weighted average number of common shares outstanding during the period. Diluted earnings per common share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. Since the Company has only incurred losses, basic and diluted loss per share are the same. Potentially dilutive securities excluded from the calculation were for outstanding options and warrants which totaled 4,376,683 and 3,390,955 at March 31, 2008 and 2007, respectively.
8
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Business, basis of presentation and summary of significant accounting policies (continued):
Stock-based compensation:
For the three months ended March 31, 2008 and 2007, the Company recognized stock-based employee compensation expense of $122,976 and $86,669, respectively, in accordance with SFAS 123(R).
For the three months ended March 31, 2008 and 2007, the Company recognized stock-based consulting expense of $4,356 and $44,467, respectively, related to stock options granted to non-employees. As of March 31, 2008, there was approximately $6,700 of unamortized consulting expense associated with the unvested options; the related amortization will be charged to operations through October 2009 as there are no further performance obligations on the part of the consultants.
For the purpose of valuing options granted to employees and non-employees during the three months ended March 31, 2008 and 2007, the Company has used the Black-Scholes option pricing model with the following assumptions:
Three months Ended March 31, 2008 | Three months Ended March 31, 2007 | ||||||
Dividend Yield | 0% | 0% | |||||
Risk-free Interest Rate | 2.88% | 3.94% - 4.90% | |||||
Volatility | 88% | 73% - 86% | |||||
Expected Life - years | 5 | 5 |
Volatility was calculated based on industry comparables at the dates of grant.
Reclassifications:
Certain reclassifications have been made to prior period amounts to conform to the current period presentation.
Recent Accounting Pronouncements:
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Early adoption is permitted. The Company adopted these new requirements beginning January 1, 2008. The adoption of SFAS 157 did not have a material effect on the Company’s consolidated financial position or results of operations.
9
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Business, basis of presentation and summary of significant accounting policies (continued):
Recent Accounting Pronouncements (continued):
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 permits entities to elect to measure financial instruments and certain other items at fair value. Upon adoption of SFAS 159, an entity may elect the fair value option for eligible items that exist at the adoption date. Subsequent to the initial adoption, the election of the fair value option can only be made at initial recognition of the asset or liability or upon a re-measurement event that gives rise to new-basis accounting. SFAS 159 is effective for fiscal years beginning after November 15, 2007. The Company adopted these new requirements beginning January 1, 2008. The adoption of SFAS 159 did not have a material effect on the Company’s consolidated financial position or results of operations.
In June 2007, the Emerging Issues Task Force of the FASB issued EITF Issue No. 07-3, "Accounting for Nonrefundable Advance Payments for Goods or Services Received for Use in Future Research and Development Activities," which is effective for fiscal years beginning after December 15, 2007 and interim periods within those fiscal years. EITF Issue No. 07-03 concluded that nonrefundable advance payments for goods or services that will be used or rendered for future research and development activities should be deferred and capitalized. Such amounts should be recognized as an expense as the related goods are delivered or the services are performed, or when the goods or services are no longer expected to be provided. The Company adopted these new requirements beginning January 1, 2008. The adoption of EITF Issue 07-3 did not have a material effect on the Company’s consolidated financial position or results of operations.
In December 2007, the Emerging Issues Task Force of the FASB issued EITF Issue No. 07-1, "Accounting for Collaborative Arrangements," which is effective for fiscal years beginning after December 15, 2008 and interim periods within those fiscal years. The objective of EITF Issue No. 07-01 is to define the collaborative arrangements and to establish reporting requirements for transactions between participants in a collaborative arrangement and between participants in the arrangement and third parties. The Company is currently assessing the potential impact of implementing this standard, but based on the Company’s business, it expects that this EITF Issue No. 07-01 could have a material effect on its consolidated financial position or results of operations.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS No.141(R)”), which replaces SFAS No. 141, “Business Combinations.” SFAS No. 141(R) retains the underlying concepts of SFAS No. 141 in that all business combinations are still required to be accounted for at fair value under the acquisition method of accounting, but SFAS No. 141(R) changes the method of applying the acquisition method in a number of significant aspects. Acquisition costs will generally be expensed as incurred; noncontrolling interests will be valued at fair value at the acquisition date; in-process research and development will be recorded at fair value as an indefinite-lived intangible asset at the acquisition date; restructuring costs associated with a business combination will generally be expensed subsequent to the acquisition date; and changes in deferred tax asset valuation allowances and income tax uncertainties after the acquisition date generally will affect income tax expense. SFAS No. 141(R) is effective on a prospective basis for all business combinations for which the acquisition date is on or after the beginning of the first annual period subsequent to December 15, 2008, with an exception related to the accounting for valuation allowances on deferred taxes and acquired contingencies related to acquisitions completed before the effective date. SFAS No. 141(R) amends SFAS No. 109 to require adjustments, made after the effective date of this statement, to valuation allowances for acquired deferred tax assets and income tax positions to be recognized as income tax expense. Beginning January 1, 2009, the Company will apply the provisions of SFAS No. 141(R) to its accounting for applicable business combinations.
10
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Business, basis of presentation and summary of significant accounting policies (continued):
Recent Accounting Pronouncements
In December 2007, the FASB issued SFAS No. 160 (“SFAS No. 160”), “Noncontrolling Interests in Consolidated Financial Statements.” SFAS No. 160 changes the classification of noncontrolling (minority) interests on the balance sheet and the accounting for and reporting of transactions between the reporting entity and holders of such noncontrolling interests. Under the new standard, noncontrolling interests are considered equity and are to be reported as an element of stockholders’ equity rather than outside of equity in the balance sheet. In addition, the current practice of reporting minority interest expense or benefit also will change. Under the new standard, net income will encompass the total income before minority interest expense. The income statement will include separate disclosure of the attribution of income between the controlling and noncontrolling interests. Increases and decreases in the noncontrolling ownership interest amount are accounted for as equity transactions. SFAS No. 160 is effective for fiscal years beginning after December 15, 2008 and earlier application is prohibited. Upon adoption, the balance sheet and the income statement should be recast retrospectively for the presentation of noncontrolling interests. The other accounting provisions of the statement are required to be adopted prospectively. The Company will adopt SFAS No. 160 as required and expects that the adoption will not have a material impact on its consolidated financial position or results of operations.
In 2008 the FASB issued Statement No. 161, “Disclosures about Derivative Instruments and Hedging Activities.” This Statement requires enhanced disclosures about derivative instruments and hedging activities to enable investors to better understand a company's use of derivative instruments and their effect on a company's financial position, financial performance, and cash flows. This Statement is effective for the Company beginning on January 1, 2009.
Note 2 - Related party transactions:
Notes payable:
On August 14, 2005, Denali, an affiliate of a significant stockholder of the Company, issued a 5% promissory note payable to Paramount BioCapital Investments, LLC (“PBI”), an affiliate of a significant stockholder of the Company. This note and all accrued interest would have matured on August 14, 2008, or earlier if certain events had occurred. The note was issued to PBI for future expenses that it paid on behalf of the Company. As of December 31, 2006, the principal balance of this note was $31,310. On December 31, 2006, this note was assigned to Paramount BioSciences, LLC (“PBS”, an affiliate of a significant stockholder of the Company). This note was assumed by Velcera in connection with the Recapitalization in February 2007. In May 2007, this note was fully repaid.
On January 30, 2006, Denali issued a 5% promissory note payable to PBS. This note and all accrued interest would have matured on January 30, 2009, or earlier if certain events had occurred. The note was issued to PBS for future expenses that it has since paid on behalf of Denali. As of December 31, 2006, the principal balance of this note was $20,614. This note was assumed by Velcera in connection with the Recapitalization in February 2007. In May 2007, this note was fully repaid.
In January 2007, certain directors of the Company loaned the Company $285,000. These amounts were repaid in shares of the Company’s common stock in the Company’s February 2007 private placement.
11
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 2 - Related party transactions (continued):
Administrative Costs:
In 2004, the Company became obligated to pay monthly fees for administrative services to PBI. The fees, which increased during 2004 from $400 per month to $750 per month, totaled $2,250 and $24,700, for the three months ended March 31, 2007 and the period from September 24, 2002 (inception) to March 31, 2008, respectively. In the second quarter of 2007, this agreement was terminated.
In January 2006, Denali became obligated to pay $1,000 per month for administrative services to PBS. The balance payable under this agreement of $14,000 was assumed by the Company in connection with the recapitalization in February 2007. On February 27, 2007, this agreement was terminated. In May 2007, all amounts outstanding under this agreement were fully repaid.
In May 2004, the Company signed an agreement to lease office space from the CEO. This operating lease commenced effective May 1, 2004 and was on a month-to-month basis and was terminated at the end of August 2007. Rent expense for the three months ended March 31, 2007 was $7,800.
Employment Agreement:
The Company has an employment agreement with its CEO. At March 31, 2008, future employment contract commitments for the CEO total $275,000.
Note 3 - Stockholders' Equity:
Preferred Stock:
Velcera is authorized to issue 10,000,000 shares of undesignated preferred stock, $.001 par value per share. The Board of Directors has the authority to issue preferred stock in one or more classes, to fix the number of shares constituting a class and the stated value thereof, and to fix the terms of any such class, including dividend rights, dividend rates, conversion or exchange rights, voting rights, rights and terms of redemption, the redemption price and the liquidation preference of such shares or class.
Common Stock:
Velcera is authorized to issue 75,000,000 shares of common stock, $.001 par value per share, of which a total of 12,039,804 shares were issued at both March 31, 2008 and December 31, 2007.
Stock Options:
During the three months ended March 31, 2008, the Company granted 151,700 stock options under its stock option plan to employees with an exercise price of $2.00 per share. The options have a 10-year term and vest over a three-year period from the date of grant.
12
VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 3 - Stockholders' Equity (continued):
A summary of the Company’s stock option activity and related information is as follows:
Three months ended March 31, 2008 | Three months ended March 31, 2007 | ||||||||||||
Shares | Weighted Average Exercise Prices | Shares | Weighted Average Exercise Price | ||||||||||
Outstanding at beginning of period | 1,242,610 | $ | 2.09 | 408,630 | $ | 2.07 | |||||||
Granted | 151,700 | $ | 2.00 | 40,000 | $ | 1.87 | |||||||
Outstanding at end of period | 1,394,310 | $ | 2.08 | 448,630 | $ | 2.05 | |||||||
Options exercisable | 449,573 | $ | 1.66 | 236,660 | $ | 2.42 | |||||||
Weighted-average fair value of options granted during the period | $ | 0.94 | $ | 0.84 |
The weighted average remaining contractual life of options outstanding and exercisable at March 31, 2008 is 8.6 years. The weighted average fair value of options outstanding as of March 31, 2008 is approximately $1.23 per option, as determined using the Black-Scholes option pricing model. The weighted average fair value of exercisable options as of March 31, 2008 is approximately $0.53.
As of March 31, 2008, total employee compensation expense related to non-vested options not yet recognized totaled approximately $833,000. The weighted-average remaining requisite service period of the unvested options was approximately 2 years. Subsequent to the end of the quarter, the Company issued its annual nonemployee director option grants to purchase in aggregate of 130,000 of shares common stock with a strike price of $0.90, fair market value on the date of the grant, which vest over three years with a 10 year term.
The aggregate intrinsic value of stock options outstanding at March 31, 2008 totaled $47,000 which represents the total intrinsic value (the difference between the Company’s closing stock price on December 31, 2007 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders, had all option holders been able to and in fact, had exercised their options on December 31, 2007. The aggregate intrinsic value of exercisable options at March 31, 2008 was $47,000.
Note 4 –Private Placement:
On February 27, 2007, the Company completed a private placement whereby the Company raised gross proceeds of approximately $9,998,327 ($9,140,607 net of offering costs) through the sale of 5,346,699 units, each consisting of one share of common stock and a warrant to purchase one-half of a share of common stock (the “Offering”). The per unit purchase price was $1.87. Each warrant has an exercise price equal to $1.87 per share, and is exercisable for 5 years from the final closing date of the Offering. The warrants do not have a cashless exercise feature, unless after one year from the date of issuance of a warrant, there is no effective registration statement registering, or no current prospectus available for, the resale of the common stock underlying the warrants held by an investor in the Offering. In that event, the warrants may also be exercised at such time by means of a “cashless exercise” in which the investor shall be entitled to receive a certificate for a certain number of warrant shares as set forth in the warrant held by such investor.
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VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 4 –Private Placement (continued):
In connection with the Offering, the Company entered into a placement agency agreement, as amended, pursuant to which the Company agreed to pay the placement agent for its services, compensation in the form of: (a) cash commissions equal to 7% of the gross proceeds from the Offering and; (b) a warrant (the “Agent Warrant”) to acquire a number of shares of common stock equal to 2% of the number of shares issued in the Offering. The Agent Warrant is exercisable for a period of five years from the closing of the Offering at an exercise price equal to $2.06 per share and contains a cashless exercise feature. Additionally, Velcera reimbursed the placement agent for its out-of-pocket expenses related to the Offering in an amount equal to $50,000, and has indemnified the placement agent for certain liabilities, including liabilities under the Securities Act.
In connection with the Offering, the Company agreed to register the common stock and the common stock issuable upon the exercise of the warrants with the SEC on Form SB-2 or other appropriate form (the “Registration Statement”). The Registration Statement was required to be filed with the SEC no later than April 27, 2007 or the Company would be subject to certain liquidating damages. The Registration Statement was filed with the SEC on April 27, 2007 and therefore no liquidated damages were incurred by the Company. The Company filed an amended Registration Statement on various dates the last of which was filed on October 18, 2007. The registration statement was declared effective on October 31, 2007.
Velcera provided weighted average anti-dilution protection to those investors who invested in Velcera’s offering of common stock that closed in 2004 covering an aggregate of 2,031,634 shares of common stock (the “2004 Velcera Offering”), in the event Velcera sells common stock for a price per share (or issues securities convertible into common stock with a conversion rate) that is less than the $3.50 per share, subject to exceptions for certain types of issuances (the “2004 Anti-Dilution Rights”). As a result of the Offering, the 2004 Anti-Dilution Rights resulted in the Company issuing 711,005 shares of common stock to investors who invested in the 2004 Velcera Offering.
Note 5 – Recapitalization:
On February 27, 2007, pursuant to The Merger Agreement, Velcera merged with and into Merger Co., a wholly-owned subsidiary of Denali, which at that time was a reporting public corporation with no operations. On February 27, 2007 and immediately following the Recapitalization, the Company completed a short-form merger with Denali, whereby Velcera was merged with and into Denali, and changed Denali’s name to Velcera, Inc.
At the effective time of the Recapitalization, the legal existence of Merger Co. ceased and all of the shares of Velcera common stock (the “Velcera Common Stock”) that were outstanding immediately prior to the Recapitalization were cancelled. Simultaneously, Denali issued to the former holders of Velcera Common Stock in consideration of their Velcera Common Stock, an aggregate of 12,037,864 shares of Denali’s common stock, representing the aggregate outstanding shares of Velcera Common Stock immediately prior to the Recapitalization. In addition, all securities convertible or exercisable into shares of Velcera Common Stock outstanding immediately prior to the Recapitalization were cancelled, and the holders thereof received similar securities for the purchase of an aggregate of 3,390,955 shares of common stock of the Company after the Recapitalization.
Immediately following the effective time of the Recapitalization and pursuant to the terms of the Merger Agreement, Denali redeemed 123,060 shares of common stock held by various stockholders of Denali in exchange for $125,000 less Denali’s liabilities as of the closing date (the “Redemption”). Following the Redemption, 1,940 shares of common stock held prior to the Recapitalization by Denali’s other stockholders remained issued and outstanding. As a part of the Recapitalization, Velcera assumed $84,126 of liabilities from Denali (net of cash acquired totaling $3,126).
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VELCERA, INC.
(A Development Stage Company)
Notes to Unaudited Condensed Consolidated Financial Statements
Note 5 – Recapitalization (continued):
For accounting purposes, the merger has been accounted for as an acquisition of Denali and a recapitalization of Velcera. The historical financial statements presented are those of Velcera as a combined entity with Denali as of the date of the Recapitalization. The net assets and liabilities have been recorded at their book values. No intangibles were recorded as part of the transaction.
Note 6 – Subsequent event
On April 28, 2008, Velcera entered into an exclusive License and Development Agreement (the “Agreement”) with a European Company. Pursuant to the Agreement, the European Company granted to Velcera a non-royalty-bearing exclusive right for the United States, to develop and commercialize a parasiticide product for pets. Velcera has agreed to pay an upfront license fee of $500,000 and potential reimbursement of certain development costs. The Agreement has a term of 10 years and includes customary representations and warranties.
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VELCERA, INC.
(A Development Stage Company)
Item 2. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION. |
The statements contained in this Quarterly Report on Form 10-Q that are not historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding the expectations, beliefs, intentions, or strategies regarding the future. We intend that all forward-looking statements be subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. In particular, this “Management’s Discussion and Analysis of Financial Condition and Results of Operation” includes forward-looking statements that reflect our current views with respect to future events and financial performance. We use words such as we “expect,” “anticipate,” “believe,” and “intend” and similar expressions to identify forward-looking statements. A number of important factors could, individually or in the aggregate, cause actual results to differ materially from those expressed or implied in any forward-looking statement. A number of important factors could, individually or in aggregate, cause actual results to differ materially from those expressed or implied in any forward-looking statements. Such factors include, but are not limited to, our ability to obtain additional financing, our ability to develop and maintain customer relationships, regulatory developments relating to our products, and our ability to protect our patented technology. Other risks are described under the section entitled “Risk Factors” in our registration statement on Form 10-KSB filed on March 26, 2008.
Further, any forward-looking statement speaks only as of the date on which it is made, and we undertake no obligation to update any forward-looking statement or statements to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events. New factors emerge from time to time, and it is not possible for us to predict which factors will arise. In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statement.
Overview
We are developing a transmucosal oral mist drug delivery technology for use in companion animals. This innovative delivery technology called “PromistTM” may address unmet needs for improved bioavailability, convenience of dosing and dosing compliance in the growing pet pharmaceutical market. We are currently developing two new pet medicines based upon known drugs delivered by the PromistTM technology with expected international approval dates through 2012.
Promist™ Delivery Technology
1. | The VEL504 product is based upon a drug already approved for use in dogs, but now will be delivered via PromistTM technology. VEL504 is a potential new patent-protected product in the canine pain management category. Within an estimated global category of approximately $320 million per year, our product would be unique in convenience, speed of absorption and formulation differentiation. Effective May 29, 2007, we entered into an exclusive License and Development Agreement with Novartis. Pursuant to the agreement, we granted to Novartis a royalty-bearing worldwide exclusive right to finish the development and commercialize VEL504 for pets. In connection with the agreement, we have received certain upfront license fees from Novartis, a portion of which were subject to forfeiture in the event of termination by either party as specified under the agreement. Under the agreement, we were also entitled to receive from Novartis certain milestone payments upon the occurrence of certain events and royalties based on sales of the product. On September 28 and October 3, 2007, we were notified by Novartis that Novartis was temporarily suspending its U.S. clinical study concerning the drug, VEL504, that Novartis licensed from us due to issues concerning the quality of VEL504 product received from a third party manufacturer Novartis reported that other studies being conducted by Novartis concerning this product continued subject to review. On December 13, 2007 the Companies entered into a letter agreement pursuant to which Novartis discontinued all work on the present product formulation and had until March 31, 2008 to propose an alternative development plan which was subject to the Company’s approval. The Companies agreed to discontinue the U.S. clinical study, but would complete the various animal laboratory studies that were underway. On March 5, 2008 we received notice from Novartis that it was terminating the License and Development Agreement. Pursuant to the Termination Notice, all development work on VEL504 by Novartis has ceased and the product and related data will be returned to us. Novartis agreed to work with us to ensure orderly transfer of any data to Velcera. We continue to believe that based upon current data the formulation of VEL504 is expected to be safe, effective and stable and can move forward through development to registration. Thus, we are now implementing plans as to the best path to maximize the value of the VEL504 product. This includes resuming direct contact with the FDA and other regulatory authorities as well as meeting with potential licensing partners. |
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2 | The VEL502 product is based upon a drug approved for human use, but now will be delivered via PromistTM technology. VEL502 is a potential new patent-protected veterinary product for treating allergic atopic dermatitis in dogs. The options for treating canine allergies are currently very limited and rely largely upon immunosuppressive drugs, e.g., steroids. VEL502 is a commonly used human health drug with low bioavailability in canines when administered in conventional forms. However, our studies with PromistTM administration indicate the total drug exposure in the blood stream increased by approximately 30 fold compared to conventional tablet administration. We may be pursuing sub-licensing opportunities with other animal health companies to generate near-term licensing revenues and longer-term royalty streams for VEL502. In January 2008, we announced the results of two studies. The first study reported was a non-pivotal acute safety trial, which resulted in no reported adverse events associated with VEL502 when administered at three and five times the projected dose. The second study reported was a double-blind, placebo-controlled pilot clinical study that evaluated VEL502 when administered after an initial one-week steroid treatment. Results from this study did not demonstrate a statistical difference between the treatment and placebo groups. These data differed from the results of a prior double-blind, placebo controlled pilot clinical study which showed a statistically valid treatment effect with VEL502 using two weeks of initial steroid treatment. Based on the results of VEL502 from the previous study, during the first quarter of 2008 we have initiated a confirmatory clinical study using the initial two-week steroid treatment protocol. |
We are also seeking strategic partners for the sub-licensing of PromistTM technology for deployment with patented and non-patented animal health compounds that could benefit from any of multiple advantages afforded by the technology. The benefits of this delivery over conventional ingested forms are: (a) unique pharmacokinetic characteristics of speed of absorption as well as increased drug bioavailability due to avoidance of the ‘first-pass’ liver metabolism, (b) convenience of dosing with no need for the “patient” to swallow, (c) confidence of dosing with nothing to be spit-out or expelled, (d) potential for improved side effects by the avoidance of the gastro intestinal system, and (e) extended product lifecycle via patented, novel delivery.
Within our Promist development activities we are focusing resources on these first two Promist products to maximize the value of these products to potential license partners and shareholders in the near term.
Non-Promist Pet Health Products
We are exploring opportunities beyond the use of Promist™ delivery technology and have created a subsidiary to evaluate these non-Promist™ potential pet product candidates. These include parasiticides for dogs and cats, currently the largest pharmaceutical segment in pet health representing nearly 20% of the animal health market. At this stage we have identified potential candidates for further investigation. We have met with the regulatory agency responsible for approving these products which has provided insight into the potential regulatory pathways for one potential product candidate. On April 28, 2008, we entered into an exclusive License and Development Agreement with a European Company. Pursuant to this License and Development Agreement, the European Company granted us a non-royalty-bearing exclusive right for the United States, to develop and commercialize parasiticide products for pets. We have agreed to pay an upfront license fee of $500,000 and potential reimbursement of certain development costs. This License and Development Agreement has a term of 10 years and includes customary representations and warranties.
Due to its overall market size, we intend to focus more resources in the coming periods in order to develop potential product candidates for the parasiticide market that we expect can increase shareholder value.
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Results of Operations
Three Months Ended March 31, 2008 and 2007
Revenue: For the three months ended March 31, 2008, revenue was $290,000 compared to $50,000 for the three months ended March 31, 2007 representing an increase of $240,000. The increase in revenue was attributable to the amortization of defined milestone revenue associated with the License and Development Agreement with Novartis. This agreement was terminated in March 2008 and no additional revenue will be recorded from this agreement. We are actively pursuing a strategy to license VEL504 in the short-term.
General and administrative expenses: For the three months ended March 31, 2008, general and administrative expense was $746,000 compared to $396,000 for the three months ended March 31, 2007, representing an increase of $350,000. This increase is mainly attributable to the following: (1) a $99,000 increase in legal, accounting and other fees associated with becoming a public company; (2) a $212,000 increase in compensation associated with the retention of a new CFO, an increase in compensation to our chief executive officer and the issuance of options to the members of the board of directors and to certain executive officers and; (3) $28,000 in marketing expenses. We can expect our general and administrative costs to increase in the coming quarters associated with being a public company and an increase spent on marketing costs associated with our Fidopharm subsidiary.
Research and development expenses: For the three months ended March 31, 2008, research and development expense was $688,000 compared to $662,000 for the three months ended March 31, 2007, representing an increase of $26,000. Research and development expense primarily consists of development costs and patent legal development of our pet healthy products. The increase in research and development expense was a result of an increase of $40,000 in higher compensation associated with additional head count; $60,000 in additional spending on regulatory consultants for work on our parasiticide product; and an additional $61,000 in expenses for attorneys associated with patent work on our products. In addition, the Company incurred $47,000 in the amortization of our prepaid license fee with NovaDel. These costs were partially offset by $151,000 lower spending on Promist™ project costs and $40,000 in lower compensation expenses for options issued to consultants. Research and development costs will fluctuate depending on the number of drugs in development and the stage of development of the drugs.
Interest income: For the three months ended March 31, 2008, interest income was $45,000 as compared to $44,000 for the three months ended March 31, 2007. The increase in interest income of $1,000 was a result of higher cash balances in 2008 over the same period in 2007. Interest rates have decreased significantly and we do not expect to have the same level of interest income in the coming quarters.
Net loss: For the three months ended March 31, 2008 our net loss was $1,100,000 compared to a net loss of $964,000 for the three months ended March 31, 2007. This increase in net loss of $136,000 is primarily related to an increase in research and development costs with both VEL504 and VEL502 in development in 2007, an increase in general and administrative costs associated with being a public company partially offset by an increase in revenue.
Liquidity and Capital resources
From inception to March 31, 2008, we have incurred an aggregate net loss of $13,150,108 and negative cash flows from operating activities of $11,265,307, primarily as a result of expenses incurred through a combination of research and development activities related to the various technologies under our control and expenses supporting those activities.
We have financed our operations from inception through March 31, 2008 primarily through a 2004 equity financing totaling approximately $6.6 million in net proceeds and a February 2007 equity financing totaling approximately $9.1 million in net proceeds (see Recent Financings below) and cash received from our now terminated License and Development Agreement with Novartis. Total cash and cash equivalents as of March 31, 2008 were approximately $4.3 million. We believe that we have sufficient capital to fund our operations through the third quarter of 2008, but will need additional financing thereafter until we can achieve profitability and positive cash flows from operating activities, if ever.
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Recent Financings
We completed a private placement offering in February 2007 whereby we raised gross proceeds of $9,998,327 ($9,140,607 net of offering expenses) through the sale of 5,346,699 units, each unit consisting of one share of common stock and a warrant to purchase one-half of a share of common stock at $1.87 per share (the “Offering”). The per unit purchase price was $1.87. Each warrant has an exercise price equal to $1.87 per share, and is exercisable through February 27, 2012. The warrants do not have a cashless exercise feature, unless after one year from the date of issueance of a warrant, there is no effective registration statement registering, or no current prospectus available for, the resale of the common stock underlying the warrants held by an investor in the Offering. In that event, the warrants may also be exercised at such time by means of a “cashless exercise” in which the investor shall be entitled to receive a certificate for a certain number of warrant shares as set forth in the warrant held by such investor.
In connection with the Offering, Velcera and Maxim Group, LLC (“Maxim”) entered into a placement agency agreement, as amended pursuant to which we agreed to pay to Maxim for its services as placement agent, compensation in the form of (a) cash commissions equal to 7% of the gross proceeds from the Offering and (b) a warrant (the “Agent Warrant”) to acquire a number of shares of common stock equal to 2% of the number of shares issued in the Offering. The Agent Warrant is exercisable for a period of 5 years from the closing of the Offering at an exercise price equal to $2.06 per share and contains a cashless exercise feature. Additionally, we reimbursed Maxim for its out-of-pocket expenses related to the Offering in an amount equal to $50,000, and indemnified Maxim for certain liabilities, including liabilities under the Securities Act.
In connection with the Offering, we agreed to register the common stock and the common stock issuable upon the exercise of the warrants with the SEC on Form SB-2 or other appropriate form. The Company was obligated to file this registration statement prior to or on April 27, 2007 or the Company would be subject to certain liquidating damages. This registration statement was filed with the SEC on April 27, 2007 and therefore no liquidated damages were incurred by the Company. The Company filed an amended Registration Statement on various dates the last of which was filed on October 18, 2007. The registration statement was declared effective on October 31, 2007.
We agreed to make such filings as are necessary to keep the registration statement effective until the date on which all of the shares of common stock held by each investor are fully saleable pursuant to Rule 144 (or any successor thereto) under the Securities Act. We also agreed to file any additional registration statements necessary to cover any additional shares of common stock issuable pursuant to any adjustments in the warrants and to cover any shares issuable upon payment of dividends in shares of common stock.
We bear the registration expenses (exclusive of transfer taxes, underwriters’ discounts and commission) of all such registrations required in connection with the Offering; all reasonable costs (excluding commissions) related to the sale of common stock held by the investors in the Offering under Rule 144, as well as all reasonable fees and expenses of counsel to such investors up to $10,000 in an aggregate amount with respect to the review of any registration statement.
We also provided investors in the Offering with corporate anti-dilution protection in the event of (a) a stock dividend or distribution payable in shares of capital stock (b) a subdivision of outstanding common stock into a larger number of shares, (c) a combination of outstanding common stock into a smaller number of shares or (d) the issuance by reclassification of common stock of any shares of capital stock.
We provided weighted average anti-dilution protection to those investors who invested in our 2004 offering relating to an aggregate of 2,031,634 shares of common stock (the “2004 Velcera Offering”), in the event we sell common stock for a price per share (or issues securities convertible into common stock with a conversion rate) that is less than the $3.50 per share, subject to exceptions for certain types of issuances (the “2004 Anti-Dilution Rights”). As a result of the 2004 Anti-Dilution Rights, we issued 711,005 shares of common stock to investors who invested in the 2004 Velcera Offering.
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Future Financing Needs
Our continued operations will depend on whether we are able to raise additional funds through various potential sources, such as equity and debt financing. Through March 31, 2008, all of our financing has been through private placements of common stock and cash received from our now terminated License and Development Agreement with Novartis. We will continue to fund operations from cash on hand and through various sources of capital, including equity and debt instruments. We can give no assurances that any additional capital that we are able to obtain will be sufficient to meet our needs. Based on our current resources, we believe that we have sufficient capital to fund our operations through the third quarter of 2008, but will need additional financing thereafter until we can achieve profitability, if ever.
We have incurred negative cash flow from operations since our inception. We have spent, and we expect to continue to spend, substantial amounts in connection with implementing our business strategy, including planned product development efforts, clinical trials, and research and discovery efforts. Given the current and desired pace of development of our two product candidates and the development of a potential parasiticide, over the next 12 months we estimate that that our research and development expenses will be approximately $2.6 million. We expect we will need approximately $4.1 million for general and administrative expenses during the next 12 months. These expenditures are estimates and any number of occurrences could negatively impact our expected cash flow.
The actual amount of funds we will need to operate is subject to many factors, some of which are beyond our control. These factors include, but are not limited to, the following:
· | the progress of research activities; |
· | the number and scope of research programs; |
· | the progress of pre-clinical and clinical development activities; |
· | the progress of the development efforts of parties with whom we may enter into research and development or licensing agreements; |
· | the amount of sub-licensing revenue earned; |
· | our ability to maintain current research and development programs and to establish new research and development and licensing arrangements; |
· | the cost involved in prosecuting, enforcing and defending patent claims and other intellectual property rights; |
· | legal challenges form business partners or competitors; and |
· | the cost and timing of regulatory approvals. |
We have based our estimate on assumptions that may prove to be wrong. We may need to obtain additional funds sooner then planned or in greater amounts than we currently anticipate. Potential sources of financing include strategic relationships, public or private sales of equity or debt and other sources. We may seek to access the public or private equity markets when conditions are favorable due to our long-term capital requirements. It is uncertain whether additional funding will be available when we need it on terms that will be acceptable to us, or at all. If we raise funds by selling additional shares of common stock or other securities convertible into common stock, the ownership interest of our existing stockholders will be diluted. If we are not able to obtain financing when needed, we may be unable to carry out our business plan. As a result, we may have to significantly limit our operations and our business, financial condition and results of operations would be materially harmed.
Operating Activities
Net cash used in operating activities was $1,488,000 for the three months ended March 31, 2008 as compared to $1,132,000 for the three months ended March 31, 2007. This $356,000 increase in cash used in operations is primarily a result of a $136,000 increase in the net loss, a decrease of $290,000 in deferred revenue in connection with the terminated License and Development Agreement with Novartis and a $334,000 decrease in accounts payable and accrued expenses. These changes were partially offset by the decrease in prepaid licensing fee for cash paid in connection with milestone payments from the agreement with Novartis which the Company was recognizing ratably of the term of the contract.
Total assets decreased by $1,597,000 from $6,189,000 at December 31, 2007 to $4,592,000 at March 31, 2008 primarily as a result of a decrease in cash from year end used to fund our operations. Total liabilities decreased by $624,000 from $1,357,000 at December 31, 2007 to $733,000 at March 31, 2008 primarily as a result of a decrease in deferred revenue from cash received in connection with milestone payments received from Novartis which the Company was recognizing ratably of the term of the contract and a decrease in accounts payable and accrued expenses.
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Plan of Operation
Our plan of operation for the period from April 1, 2008 through March 31, 2009 is to continue implementing our business strategy, including the development of our two product candidates, out-licensing initiatives and the development of a potential parasiticide. We expect our principal expenditures during the next 12 months to include:
· | operating expenses, including research and development, legal and general and administrative expenses; and |
· | product development expenses. |
We intend to use clinical research organizations and third parties to perform our formulation research, clinical studies and manufacturing. Currently, we are focusing resources on our first two Promist products delivered by Promist technology and potential parasiticide products to maximize the value of these products to potential partners and shareholders in the near term and due to the size of the parasiticide market, we intend to focus more resources in the coming periods on candidate parasiticide products.
Research and Development Projects
VEL504 delivered by PromistTM technology
We have introduced our first PromistTM-based pharmaceutical product into full development using an active ingredient already approved for use in dogs, VEL504. This active ingredient is approved for use in dogs in all major country markets in the pain management therapeutic category. VEL504 when delivered by the Promist™ technology is expected to show bioequivalence to the approved pioneer product which has been shown to be safe and effective in the major pet markets of North America and Europe. Because canine pain management products require daily dosing, the improved convenience of Promist™ delivery is anticipated to be the primary advantage of VEL504 over other products in the category.
A product formulation has been selected, clinical supplies have been manufactured under GMP conditions and a contract manufacturer has been selected for international markets. Regulatory plans have been established and meetings have been held with the regulatory authorities in the United States, the European Union, Australia and New Zealand. Because VEL504 is expected to show bioequivalence with the commercial pioneer product, the regulatory hurdles may be reduced in some countries.
Effective May 29, 2007, we entered into an exclusive License and Development Agreement with Novartis Animal Health, Inc. (“Novartis”). Pursuant to the agreement, we granted to Novartis a royalty-bearing worldwide exclusive right to finish the development and commercialize VEL504 for pets. In connection with the agreement, we have received certain upfront license fees from Novartis, a portion of which were subject to forfeiture in the event of termination by either party as specified under the agreement. Under the agreement, we were also entitled to receive from Novartis certain milestone payments upon the occurrence of certain events and royalties based on sales of the product.
On September 28 and October 3, 2007, the Company was notified by Novartis that Novartis was temporarily suspending its U.S. field study for VEL504 due to issues concerning the quality of VEL504 product received from a third party manufacturer. Novartis reported that other studies being conducted by Novartis concerning this product continued subject to review.
On December 13, 2007, the Company and Novartis entered into a letter agreement pursuant to which Novartis discontinued all work on the present product formulation and had until March 31, 2008 to propose an alternative development plan which was subject to the Company’s approval. The Company and Novartis agreed to discontinue the U.S. clinical study, but to continue the various animal laboratory studies that were underway.
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On March 5, 2008 we received a notice from Novartis that it was terminating the License and Development Agreement. Pursuant to such termination notice, all development work on VEL504 by Novartis has ceased and the product and related data will be returned to us. Novartis agreed to work with us to ensure orderly transfer of all data to Velcera. We continue to believe that based upon current data the formulation of Promist™ VEL504 is expected to be safe, effective and stable and can move forward through development to registration. We are now implementing plans to maximize the value of the VEL504 product. This includes resuming direct contact with the Food and Drug Administration (the “FDA”) and other regulatory authorities as well as meeting with other potential licensing partners.
VEL502 delivered by Promist ™ technology
The VEL502 product is based upon a drug approved for human use, but now will be delivered via PromistTM technology. VEL502 is a potential new patent-protected veterinary product for treating allergic atopic dermatitis in dogs. The options for treating canine allergies are currently very limited and rely largely upon immunosuppressive drugs, e.g., steroids. VEL502 is a commonly used human health drug with low bioavailability in canines when administered in conventional forms. However, our studies with PromistTM administration indicate the total drug exposure in the blood stream increased by approximately 30 fold compared to conventional tablet administration. We may be pursuing sub-licensing opportunities with other animal health companies to generate near-term licensing revenues and longer-term royalty streams for VEL502. In January 2008, we announced the results of two studies. The first study reported was a non-pivotal acute safety trial, which resulted in no reported adverse events associated with VEL502 when administered at three and five times the projected dose. The second study reported was a double-blind, placebo-controlled pilot clinical study that evaluated VEL502 when administered after an initial one-week steroid treatment. Results from this study did not demonstrate a statistical difference between the treatment and placebo groups. These data differed from the results of a prior double-blind, placebo controlled pilot clinical study which showed a statistically valid treatment effect with VEL502 using two weeks of initial steroid treatment. Based on the results of VEL502 from the previous study, during the first quarter of 2008 we have initiated a confirmatory clinical study using the initial two-week steroid treatment protocol.
Non-Promist Pet Health Products
We are exploring opportunities beyond the use of Promist™ delivery technology and have created a subsidiary to evaluate these non-Promist™ potential pet product candidates. These include parasiticides for dogs and cats, currently the largest pharmaceutical segment in pet health representing nearly 20% of the animal health market. At this stage we have identified potential candidates for further investigation. We have met with the regulatory agency responsible for approving these products which has provided insight into the potential regulatory pathways for one potential product candidate. On April 28, 2008, we entered into an exclusive License and Development Agreement with a European Company. Pursuant to this License and Development Agreement, the European Company granted us a non-royalty-bearing exclusive right for the United States, to develop and commercialize parasiticide products for pets. We have agreed to pay an upfront license fee of $500,000 and potential reimbursement of certain development costs. This License and Development Agreement has a term of 10 years and includes customary representations and warranties.
Due to its overall market size, we intend to focus more resources in the coming periods in order to develop potential product candidates for the parasiticide market that we expect can increase shareholder value.
Critical Accounting Policies
In December 2001, the SEC requested that all registrants discuss their most “critical accounting policies” in management’s discussion and analysis of financial condition and results of operations. The SEC indicated that a “critical accounting policy” is one which is both important to the portrayal of the company’s financial condition and results and requires management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
Use of estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect certain reported amounts and disclosures. The primary estimates used by management are the determination of the allowance for doubtful accounts, recognition of revenue, and research and development costs. Although these estimates are based on management’s knowledge of current events and actions it may undertake in the future, the estimates may ultimately differ from actual results.
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Revenue Recognition
While the Company has not generated significant revenues and is considered to be in the development stage, the Company has entered into licenses and other arrangements. These arrangements are often complex as they may involve license, development and manufacturing components. Licensing revenue recognition requires significant management judgment to evaluate the effective terms of agreements, the Company’s performance commitments and determination of fair value of the various deliverables under the arrangement. SEC Staff Accounting Bulletin No. 101, or SAB 101, superseded in part by SAB 104, provides guidance on the recognition, presentation, and disclosure of revenue in financial statements. SAB 104 establishes the SEC’s view that it is not appropriate to recognize revenue until all of the following criteria are met: persuasive evidence of an arrangement exists; delivery has occurred or services have been rendered; the seller’s price to the buyer is fixed or determinable; and collectibility is reasonably assured. SAB 104 also requires that both title and the risks and rewards of ownership be transferred to the buyer before revenue can be recognized. In addition, the Company will follow the provisions of Emerging Issues Task Force (“EITF”) issue EITF 00-21, “Revenue Arrangements with Multiple Deliverables,” which addresses certain aspects of revenue recognition for arrangements the Company expects to have in future periods that will include multiple revenue-generating activities. EITF 00-21 addresses when and, if so, how an arrangement involving multiple deliverables should be divided into separate units of accounting. In some arrangements, the different revenue-generating activities (deliverables) are sufficiently separable, and there exists sufficient evidence of their fair values, to separately account for some or all of the deliverables (that is, there are separate units of accounting). In other arrangements, some or all of the deliverables are not independently functional, or there is not sufficient evidence of their fair values to account for them separately. Our ability to establish objective evidence of fair value for the deliverable portions of the contracts may significantly impact the time period over which revenues will be recognized. For instance, if there is no objective fair value of undelivered elements of a contract, then the Company may be required to treat a multi-deliverable contract as one unit of accounting, resulting in all revenue being deferred and recognized ratably over the entire contract period. EITF 00-21 does not change otherwise applicable revenue recognition criteria. In arrangements where the deliverables cannot be separated, revenue related to up-front, time-based and performance-based payments will be recognized ratably over the entire contract performance period. For major licensing contracts, this will result in the deferral of significant revenue amounts where non-refundable cash payments have been received, but the revenue will not immediately be recognized due to the long-term nature of the respective agreements.
Subsequent factors affecting the initial estimate of the effective terms of agreements could either increase or decrease the period over which the deferred revenue is recognized.
Due to the requirement to defer significant amounts of revenue and the extended period over which the revenue will be recognized, along with the requirement to amortize the prepaid license discount and certain deferred development costs over an extended period of time, revenue recognized and cost of sales may be materially different from cash flows.
On an overall basis, the Company’s reported revenues could differ significantly from future billings and/or unbilled revenue based on terms in agreements with customers. Unbilled revenues consist of costs incurred, but not billed to the customer or partner as of the end of the period. There were no unbilled amounts at March 31, 2008 or December 31, 2007.
Effective May 29, 2007, the Company signed a License and Development Agreement with Novartis Animal Health (“Novartis”), for Novartis to complete the development and commercialize the drug VEL-504. The License and Development Agreement provided for milestone payments and royalties upon commercialization of the product. In addition, during the period from the effective date through August 1, 2007, the Company managed the development as it transitioned the project to Novartis. The Company invoiced Novartis for the direct costs associated with the management of the research and development project. To the extent milestone payments are non-refundable, the Company recognizes these time-based and performance based payments ratably over the contract period. The reimbursement of research and development costs is recognized in accordance with EITF 99-19 “Reporting Revenues Gross as a Principal versus Net as an Agent.” Under the guidance of EITF 99-19, reimbursements received for research and development costs are recorded as revenue in the statement of operations rather than as a reduction in expenses. For the three months ended March 31, 2008 and 2007, the Company recorded no revenue for the reimbursement of research and development costs associated with this project. With the end of the transition period, the Company began to ratably amortize the non-refundable portion of the milestone payments over the contract period.
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On September 28 and October 3, 2007, the Company was notified by Novartis that Novartis was temporarily suspending its U.S. clinical study concerning the drug, VEL504, that Novartis licensed from the Company due to issues concerning the quality of VEL504 product received from a third party manufacturer. Novartis reported that other studies being conducted by Novartis concerning this product were on-going, subject to review.
On December 13, 2007, the Company and Novartis entered into a letter agreement pursuant to which Novartis discontinued all work on the present product formulation and had until March 31, 2008 to propose an alternative development plan which was subject to the Company’s approval. The Company and Novartis agreed to discontinue the U.S. clinical study, but would complete the various animal laboratory studies that were underway.
On March 5, 2008, the Company received notice from Novartis that it was terminating the License and Development Agreement. Pursuant to the Termination Notice, all development work on VEL504 by Novartis has ceased and the product and related data will be returned to the Company. Novartis agreed to work with the Company to ensure orderly transfer of any data to Velcera. In connection with the termination, in the fourth quarter of 2007, the Company wrote off approximately $183,000 in accounts receivable.
Research and development
Research and development expenditures are expensed as incurred. We often contract with third parties to facilitate, coordinate and perform agreed upon research and development activities. To ensure that research and development are expensed as incurred, we measure and record prepaid assets or accrue expenses on a quarterly basis for such activities based on the work performed under the contracts. These contracts typically call for the payment of fees for services at the initiation of the contract and/or upon the achievement of certain clinical trial milestones. In the event that we prepay fees for future milestones, we record the prepayment as a prepaid asset and amortize the asset into research and development expense over the period of time the contracted research and development services are performed. Most professional fees are incurred throughout the contract period. These professional fees are expensed based on their percentage of completion at a particular date. These contracts generally include pass through fees. Pass through fees include, but are not limited to, regulatory expenses, investigator fees, travel costs and other miscellaneous costs including shipping and printing fees. Because these fees are incurred at various times during the contract term and they are used throughout the contract term, we record them as incurred.
Stock-based compensation
Effective January 1, 2006, we adopted Statement of Financial Accounting Standards (“SFAS”) No. 123(R), “Share-Based Payment,” (“SFAS 123(R)”) for employee options using the modified prospective transition method. SFAS 123(R) revised SFAS No. 123, “Accounting for Stock-Based Compensation,” (“SFAS 123”), to eliminate the option to use the intrinsic value method and requires us to expense the fair value of all employee options over the vesting period. We selected the Black-Scholes method to determine the fair value of options granted to employees. Under the modified prospective transition method, we recognized compensation cost for the three months ended March 31, 2008 and 2007 which includes 1) current period compensation cost related to stock-based payments granted prior to, but not yet vested, as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123; and 2) current period compensation cost related to stock-based payments granted on or after January 1, 2006, based on the grant date fair value estimated in accordance with SFAS 123(R). In accordance with the modified prospective method, we have not restated prior period results.
Effective January 1, 2006, we account for stock options granted to non-employees on a fair value basis over the vesting period using the Black-Scholes option pricing method in accordance with SFAS 123(R) and Emerging Issues Task Force (“EITF”) No. 96-18, “Accounting for Equity Instruments That are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services” (“EITF No. 96-18”). The initial non-cash charge to operations for non-employee options with vesting is revalued at the end of each reporting period based upon the change in the fair value of our common stock and amortized to consulting expense over the related vesting period. Prior to January 1, 2006, we accounted for stock options granted to non-employees on a fair value basis over the vesting period using the Black-Scholes option pricing method in accordance with SFAS 123 and EITF No. 96-18.
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Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Our financial instruments include cash and cash equivalents, U.S. Treasury and Agency securities, corporate bonds, auction rate securities and short-term municipal securities. Our main investment objectives are the preservation of investment capital and the maximization of after-tax returns on our investment portfolio. Consequently, we invest with only high-credit-quality issuers and limit the amount of credit exposure to any one issuer. We do not use derivative instruments for speculative or investment purposes.
Our cash and cash equivalents are not subject to significant interest rate risk due to the short maturities of these instruments. As of March 31, 2008, the carrying value of our cash and cash equivalents approximated fair value. We have in the past and may in the future obtain marketable debt securities (principally consisting of commercial paper, corporate bonds and government securities) having a weighted average duration of one year or less. Consequently, such securities would not be subject to significant interest rate risk.
Item 4T. CONTROLS AND PROCEDURES.
Evaluation of disclosure controls and procedures
As of the end of the period covered by this report, the Company conducted an evaluation, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15 and 15d-15 of the Exchange Act). Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms. It should be noted that the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.
Changes in Internal Control Over Financial Reporting
There has been no change in our internal control over financial reporting during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
Internal controls over financial reporting includes those policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements.
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VELCERA, INC.
(A Development Stage Company)
PART II – OTHER INFORMATION
Item 6. EXHIBITS
Exhibit No. | Description | |
31.1 | Certification of Principal Executive Officer | |
31.2 | Certification of Principal Financial Officer | |
32.1 | Certifications of Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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SIGNATURES
In accordance with the requirements of the Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
VELCERA, INC. | ||
Date: May 12, 2008 | By: | /s/ Dennis F. Steadman |
Dennis F. Steadman | ||
President and Chief Executive Officer | ||
Date: May 12, 2008 | By: | /s/ Matthew C. Hill |
Matthew C. Hill | ||
Chief Financial Officer |
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Index to Exhibits Filed with this Report
Description | ||
31.1 | Certification of Principal Executive Officer | |
Certification of Principal Financial Officer | ||
32.1 | Certifications of Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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