Polydex Pharmaceuticals (POLXF) 10-Q 2001 Q3 Quarterly report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Form 10-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 October 31, 2000
/ /	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to
Commission File Number 1-8366

POLYDEX PHARMACEUTICALS LIMITED
(Exact name of registrant as specified in its charter)

Commonwealth of the Bahamas
(State or other jurisdiction of
incorporation or organization) None
(I.R.S. Employer Identification No.)

421 Comstock Road, Toronto, Ontario, Canada M1L 2H5
(Address of principal executive offices)

(416) 755-2231
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 Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /x/  No / /

    Indicate the number of shares outstanding of each of the issuer's classes of common shares, as of the latest practicable date.

Common Shares, $.0167 Par Value
(Title of Class) 3,030,717 shares
(Outstanding at December 6, 2000)

POLYDEX PHARMACEUTICALS LIMITED
TABLE OF CONTENTS

		PAGE
PART I	FINANCIAL INFORMATION
Item 1	CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
	Consolidated Balance Sheets October 31, 2000 and January 31, 2000	3
	Consolidated Statements of Operations Three Months ended October 31, 2000 and 1999 and Nine Months ended October 31, 2000 and 1999	4
	Consolidated Statements of Shareholders' Equity Nine Months ended October 31, 2000 and 1999	5
	Consolidated Statements of Cash Flows Nine Months ended October 31, 2000 and 1999	6
	Segmented Information Three Months ended October 31, 2000 and 1999 and Nine Months ended October 31, 2000 and 1999	7
Item 2	MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	8
Item 3	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	11
PART II	OTHER INFORMATION
Item 6	EXHIBITS AND REPORTS ON FORM 8-K	13
	Signatures	14

2

PART I—FINANCIAL INFORMATION

Item 1.  Consolidated Financial Statements.

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

Consolidated Balance Sheets

(Expressed in United States dollars)

				(Unaudited) October 31 2000			January 31 2000
Assets
Current assets:
	Cash			$	476,282		$	799,565
	Trade accounts receivable				1,455,519			1,204,495
	Inventories:
		Finished goods			1,280,604			1,430,329
		Work in process			110,712			30,188
		Raw materials			609,294			590,734
					2,000,610			2,051,251
	Prepaid expenses and other current assets				111,089			73,072
					4,043,500			4,128,383
Property, plant and equipment, net					5,080,116			5,154,333
Patents, net					136,974			153,611
Due from Sparhawk Laboratories Inc.					9,328			—
Due from shareholder					1,381,394			1,396,615
Deferred income taxes					615,002			1,146,000
Other assets					38,320			39,414
				$	11,304,634		$	12,018,356
Liabilities and Shareholders' Equity
Current liabilities:
	Bank indebtedness			$	85,784		$	—
	Accounts payable				1,062,577			1,279,778
	Accrued liabilities				695,983			454,824
	Income taxes payable				18,335			17,072
	Current portion of long-term debt				336,854			523,454
	Current portion of capital lease obligations				119,841			118,093
					2,319,374			2,393,221
Long-term debt					942,028			1,096,473
Capital lease obligations					494,814			616,302
Due to shareholder					710,178			672,766
Deferred income taxes					—			274,960
Total liabilities					4,466,394			5,053,722
Shareholders' equity:
	Capital stock
		Authorized:
			100,000 Class A preferred shares, par value $0.10 per share
			899,400 Class B preferred shares, par value $0.0167 per share
			10,000,000 common shares, par value $0.0167 per share
		Issued and outstanding:
			899,400 Class B preferred shares		15,010			15,010
			3,030,717 common shares (2000—3,021,917)		50,350			50,203
	Contributed surplus				23,169,085			23,121,345
	Deficit				(15,541,311	)		(15,528,932	)
	Accumulated other comprehensive income				(854,894	)		(692,992	)
					6,838,240			6,964,634
				$	11,304,634		$	12,018,356

3

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

Consolidated Statements of Operations (Unaudited)

(Expressed in United States dollars)

			Quarter Ended October 31 2000			Quarter Ended October 31 1999			Year to Date October 31 2000			Year to Date October 31 1999
Sales			$	4,053,774		$	3,674,392		$	10,552,501		$	9,872,318
Cost of products sold				3,027,483			2,562,712			7,746,123			6,952,360
				1,026,291			1,111,680			2,806,378			2,919,958
Other Revenue				182,400			—			182,400			—
Expenses:
	General and administrative			408,630			431,887			1,232,882			1,222,412
	Research and development			348,635			186,608			706,744			430,124
	Depreciation			149,494			124,399			431,992			374,555
	Interest expense			73,915			44,476			224,703			115,863
	Selling and promotion			40,447			33,479			121,994			86,350
	Amortization			5,546			5,480			16,637			16,433
				1,026,667			826,329			2,734,952			2,245,737
Income (loss) from operations				182,024			285,351			253,826			674,221
Other income:
	Interest and other			5,004			7,818			25,534			24,118
Income before the undernoted				187,028			293,169			279,360			698,339
Provision for income taxes				(124,727	)		(77,020	)		(291,739	)		(278,710	)
Net income (loss) for the period			$	62,301		$	216,149		$	(12,379	)	$	419,629
Per share information:
	Earnings (loss) per common share for the period:
		Basic	$	0.02		$	0.07		$	(0.00	)	$	0.14
		Diluted	$	0.02		$	0.07		$	(0.00	)	$	0.14
Weighted average number of common shares outstanding for the period				3,030,717			3,016,917			3,026,942			3,016,917

4

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

Consolidated Statements of Shareholders' Equity and Comprehensive Income (Unaudited)

(Expressed in United States dollars)

		Year to Date October 31 2000			Year to Date October 31 1999
Preferred Shares:
	Balance, beginning of period	$	15,010		$	15,010
	Private placement of preferred shares		—			—
	Balance, end of period	$	15,010		$	15,010
Common Shares:
	Balance, beginning of period	$	50,203		$	48,552
	Sale of shares under purchase contingency		—			300
	Common share options exercised		147			—
	Balance, end of period	$	50,350		$	48,852
Contributed Surplus:
	Balance, beginning of period	$	23,121,345		$	22,464,783
	Sale of shares under purchase contingency		—			73,488
	Common share options exercised		29,740			—
	Common share options granted		18,000			—
	Balance, end of period	$	23,169,085		$	22,538,271
Deficit:
	Balance, beginning of period	$	(15,528,932	)	$	(16,498,775	)
	Net income (loss) for the period		(12,379	)		419,629
	Balance, end of period	$	(15,541,311	)	$	(16,079,146	)
Accumulated Other Comprehensive Income:
	Balance, beginning of period	$	(692,992	)	$	(783,542	)
	Currency translation adjustment for the period		743,342			47,744
Balance, end of period		$	50,350		$	(735,798	)
Comprehensive Income for the period:
	Net income (loss) for the period	$	(12,379	)	$	419,629
	Currency translation adjustment for the period		743,342			47,744
		$	730,963		$	467,373

5

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(Expressed in United States dollars)

			Year to Date October 31 2000			Year to Date October 31 1999
Cash provided by (used in):
Operating activities:
	Net income (loss) for the period		$	(12,379	)	$	419,629
	Add (deduct) items not affecting cash:
		Depreciation and amortization		448,629			390,988
		Imputed interest on long-term debt		62,437			—
		Expenses related to granting of common share options		18,000			—
		Deferred income taxes		238,159			265,160
		Legal expenses charged to deferred gain		—			(11,194	)
Change in non-cash operating working capital				(247,118	)		(400,032	)
				507,728			664,551
Investing activities:
	Additions to property, plant and equipment and patents			(521,102	)		(1,050,613	)
	Repayment of due from shareholder, net			15,221			46,610
				(505,881	)		(1,004,003	)
Financing activities:
	Proceeds from long-term debt			49,896			77,422
	Repayment of long-term debt			(448,937	)		(83,252	)
	Repayment of capital lease obligations			(85,727	)		—
	Payment of mandatorily redeemable capital stock			—			(100,000	)
	Proceeds from (repayment of) advances from shareholder, net			37,412			25,359
	Increase (decrease) in bank indebtedness			85,784			—
	Exercise of common share options			29,887			—
				(331,685	)		(80,471	)
	Effect of exchange rate changes on cash			6,555			10,030
Increase (decrease) in cash position				(323,283	)		(409,893	)
Cash, beginning of period				799,565			655,131
Cash, end of period			$	476,282		$	245,238

6

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

Segmented Information (Unaudited)

(Expressed in United States dollars)

    All operations are carried out through Dextran Products Limited ("Dextran") in Canada and through Chemdex, Inc. ("Chemdex") in the United States. The operations of Chemdex represent the veterinary products business and the operations are carried out through its wholly-owned subsidiary, Veterinary Laboratories, Inc. Each of Dextran and Chemdex operates as a strategic business unit offering different products. Each subsidiary comprises a reportable segment as follows:

Dextran—	Manufactures and sells bulk quantities of dextran and several of its derivatives to large pharmaceutical companies throughout the world.
Veterinary Products—	Manufactures and sells veterinary pharmaceutical products and specialty chemicals in the United States. The primary customers are distributors and private labelers, who in turn sell to the end-user of these products.

		Quarter Ended October 31 2000		Quarter Ended October 31 1999		Year to Date October 31 2000		Year to Date October 31 1999
Sales:
	Dextran	$	1,295,709	$	1,317,412	$	3,849,833	$	3,844,457
	Veterinary products		2,886,175		2,527,543		7,062,198		6,411,459
	Total segment sales		4,181,884		3,844,955		10,912,031		10,255,916
	Less: intercompany sales elimination		128,110		170,563		359,530		383,598
	Total consolidated sales	$	4,053,774	$	3,674,392	$	10,552,501	$	9,872,318
Income from operations:
	Dextran	$	118,097	$	283,534	$	493,682	$	850,986
	Veterinary products		357,310		210,062		519,102		392,717
	Total income from operations from segments		475,407		493,596		1,012,784		1,243,703
	Less: Unallocated corporate expenses		293,383		208,245		758,958		569,482
	Total consolidated income from operations	$	182,024	$	285,351	$	253,826	$	674,221
Assets:
	Dextran					$	5,509,822	$	5,327,810
	Veterinary products						4,398,928		4,240,391
	Total assets from segments						9,908,750		9,568,201
	Corporate assets						1,395,884		1,492,361
	Total consolidated assets					$	11,304,634	$	11,060,562

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Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations.

(a) Results of Operations

    During the fiscal quarter ended October 31, 2000, the Registrant's pre-tax income from operations amounted to $182,024, as compared to $285,351 for the third quarter of fiscal 2000, ended October 31, 1999. This decrease in results is primarily due to a decrease in operating profits during the quarter, as compared to the third quarter of fiscal 2000, at Dextran Products Limited ("Dextran") of $165,437 and an increase in corporate expenses of $85,138. These decreases were partially offset by an increase in operating profits during the quarter, as compared to the third quarter of fiscal 2000, at Veterinary Laboratories Inc. ("Vet Labs") of $147,248. The increase in operating profits at Vet Labs is primarily attributable to an increase in margin resulting from sales increases and a decrease in research and development expenses as compared to the same quarter last year. The decrease in operating profits at Dextran is primarily attributable to a significant decrease in margin as compared to the same quarter last year.

    Sales volume for the third quarter of fiscal 2001 increased from $3,674,392 to $4,053,774, representing an increase of $379,382 or 10%.

    Vet Labs experienced an increase in sales of $358,632 or 14% in the third quarter of fiscal 2001, compared to the third quarter of fiscal 2000, due to increases in all product lines resulting from increased demand. Vet Labs continues to have strong sales of the injectable vitamin products. As in the previous quarter, there continues to be regulatory problems with the raw material supplier of the euthanasia products. The shortage of raw materials did not have a significant impact on sales in third quarter and is not expected to have a significant impact on sales in the fourth quarter. Sales at Dextran remained constant as compared to the third quarter in fiscal 2000.

    Gross margins decreased from 30% in the third quarter of fiscal 2000 to 25% in the third quarter of fiscal 2001. Dextran's quarter over quarter gross margin decreased from 41% to 31% while Vet Labs' gross margin increased from 19% to 22%. The increase in margin at Vet Labs is a result of the significantly increased sales levels, particularly in the higher margin injectable product line. Management expects the gross margin at Vet Labs to continue to be in the range of 20% to 22%.

    The margin decrease at Dextran is primarily due to increased utility costs. Increased oil and gas costs in the third quarter of fiscal 2001 have contributed to higher utility costs at Dextran. The new production equipment uses more power because of its increased capacity. Management expects to realize significant cost savings from the more efficient new production equipment once the plant refurbishment is completed and production capacity is increased. These higher oil and gas costs have also contributed to higher costs of raw materials.

    Management expects sales and margins at Dextran to continue at levels consistent with the sales and margins achieved during the third quarter of fiscal 2001. Management expects sales levels in the fourth quarter of fiscal 2001 to be consistent with sales levels in the fourth quarter of fiscal 2000 at Vet Labs. Third quarter is typically the highest sales levels of the year at Vet Labs due to distributors stocking up on inventory for the winter season as animals are brought in from pasture.

    Other revenue in the third quarter of fiscal 2001 amounted to $182,400. This revenue resulted from the sale of a developmental batch of raw material for a human injectable product. There was no similar revenue in the prior year.

    General and administrative expenses in the third quarter of fiscal 2001, as compared to the third quarter of fiscal 2000, decreased by $23,257 or 5% from the third quarter of fiscal 2000 due primarily to general cost control measures. Depreciation and amortization in the third quarter of fiscal 2001 increased by $25,161 or 19% from the third quarter of fiscal 2000 due primarily to the capital expenditures at Dextran relating to plant refurbishment.

8

    Research and development expense in the third quarter of fiscal 2001, as compared to the third quarter of fiscal 2000, increased by $162,027 or 87% due to the continued development of a raw material for a human injectable product and the cellulose sulfate project at Dextran, and the development of new products at Vet Labs. Development costs for these products are expected to continue for the remainder of the year.

    Research and development, in conjunction with the Rush Medical Center in Chicago, relating to Cellulose Sulfate gel is progressing. Pre-IND tests have indicated that this gel holds great promise as a topical prophylactic for sexually transmitted diseases, including AIDS, and as a contraceptive. One Phase I human clinical trial to test the safety and tolerance of this gel was successfully completed. This trial was funded by the Consortium for Industrial Collaboration in Contraceptive Research (CICCR). The project team is moving ahead to prepare clinical supplies for long-term toxicology and further clinical trials. Management expects funding to continue from CICCR for this project.

    Interest expense in the third quarter of fiscal 2001 increased by $29,439 or 66% as compared to the third quarter in fiscal 2000 due to imputed interest of $26,246 on long-term payables incurred in the fourth quarter of fiscal 2000 and the financing of capital expenditures for production equipment in fiscal 2000.

    Selling and promotion expenses in the third quarter of fiscal 2001 increased by $6,968 or 21% as compared to the third quarter of fiscal 2000 primarily due to imputed compensation costs related to common share options granted to independent contractors.

    Operating results for the quarter ended October 31, 2000 are not necessarily indicative of the results that may be expected for the year ended January 31, 2001. For further information, refer to the consolidated statements and footnotes thereto included in the Registrant's annual report on Form 10-K for the year ended January 31, 2000.

(b) Liquidity and Capital Resources

    The Registrant in the third quarter of fiscal 2001 generated cash flow from operations of $19,039 compared to the third quarter of fiscal 2000 cash flow from operations of $570,745. This decrease of $551,706 is primarily attributable to the large increase in accounts receivable during the quarter, resulting from the significant increase in sales during the quarter.

    There were no significant changes in inventory levels at either Dextran or Vet Labs during the quarter.

    The majority of the $130,662 of capital expenditures on plant and equipment during the third quarter of fiscal 2001 related to production equipment at Dextran. For the nine months ended October 31, 2000, approximately $300,000 has been spent on plant refurbishment at Dextran. Although plant refurbishment is continuing at Dextran, there are no major capital expenditures planned during the fourth quarter of fiscal 2001. There are no production interruptions planned for the next quarter due to this refurbishment.

    During the third quarter of fiscal 2001, management negotiated an extension of payment terms on the long-term debt due to ContiGroup Companies, Inc. Under the new terms, semi-annual repayments of $90,000 will be required on May 1 and November 1 each year commencing May 1, 2001 with a final lump-sum payment of $105,343 on November 1, 2004.

Long-term Objectives

    At the beginning of the year, two critical long-term objectives were identified.

1.

Bring new products to market. During the third quarter, development work has continued on the cellulose sulfate project and a raw material for a human injectable product. Vet Labs is

9

continuing development of new veterinary products. The product development focus at Vet Labs is currently on new licensed products primarily in the area of antibiotics.

2.

Upgrade and refurbish existing production facilities to increase capacity and efficiency. Implementation of the refurbishment plan of the Dextran plant is continuing. Management is committed to minimizing production interruptions during this refurbishment.

FORWARD-LOOKING STATEMENTS SAFE HARBOR

    This Form 10-Q, including the Management's Discussion and Analysis of Financial Condition and Results of Operations, contains various "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which represent the Company's expectations or beliefs concerning future events, including, but not limited to statements regarding management's expectations of regulatory approval and the commencement of sales. In addition, statements containing expressions such as "believes", "anticipates", "plans" or "expects" used in this Form 10-Q, the Company's Annual Report, and the Company's periodic reports on Forms 10-K and 10-Q previously filed with the Securities and Exchange Commission are intended to identify forward-looking statements. The Company cautions that these and similar statements in this Form 10-Q, the Company's Annual Report, and in previously filed periodic reports including reports filed on Forms 10-K and 10-Q are further qualified by important factors that could cause actual results to differ materially from those in the forward-looking statements. These factors include, without limitation, changing market conditions, the progress of clinical trials, and the results obtained, the establishment of new corporate alliances, the impact of competitive products and pricing, and the timely development, FDA approval and market acceptance of the Company's products, none of which can be assured.

    The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normally recurring accruals) considered necessary for a fair presentation have been included.

10

Item 3.  Quantitative and Qualitative Disclosures about Market Risk.

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

October 31, 2000

Interest Rate Sensitivity

    The table below provides information about the Company's financial instruments that are sensitive to changes in interest rates. All financial instruments are held for other than trading purposes. The Company does not have a material exposure to interest rate risk.

    The table presents principal cash flows and related weighted average interest rates by expected maturity dates.

			Expected Maturity Date
			31-Jan-01		31-Jan-02		31-Jan-03		31-Jan-04		31-Jan-05		Thereafter		Total		Fair Value
			(US$ Equivalent)
Assets
Notes receivable:
	Variable rate ($US)		34,272		10,630		11,587		12,630		13,767		602,160		685,046		685,046
		Average interest rate	8.87	%	9.00	%	9.00	%	9.00	%	9.00	%	9.00	%	8.98	%
Liabilities:
Long-term debt:
	Fixed rate ($US)		388,570		331,646		487,241		163,451		186,777		—		1,557,685		1,557,685
		Average interest rate	9.19	%	9.13	%	9.06	%	9.01	%	9.00	%	0.00	%	9.08	%
	Fixed rate ($CDN)		159,180		180,820		83,750		84,554		92,485		202,150		802,938		802,938
		Average interest rate	9.04	%	9.03	%	9.23	%	9.00	%	9.00	%	9.00	%	9.05	%
	Variable rate ($US)		(53,547	)	(46,820	)	(50,565	)	(54,611	)	(58,979	)	883,722		619,200		619,200
		Average interest rate	9.00	%	9.00	%	9.00	%	9.00	%	9.00	%	9.00	%	9.00	%

11

POLYDEX PHARMACEUTICALS LIMITED AND SUBSIDIARIES

October 31, 2000

Exchange Rate Sensitivity

    The table below provides information about the Company's financial instruments that are sensitive to changes in foreign currency exchange rates. All financial instruments are held for other than trading purposes. The Company's major exposure to exchange rate risk is that the Canadian dollar rises dramatically in relation to the U.S. dollar and that this significantly reduces the gross margin experienced at Dextran Products. Management monitors the margin at Dextran to ensure that an acceptable margin level is maintained. Management has the ability, to some extent, to adjust sales prices to maintain an acceptable margin level.

    The table presents principal cash flows and related weighted average interest rates by expected maturity dates.

			Expected Maturity Date
																	Fair Value
			31-Jan-01		31-Jan-02		31-Jan-03		31-Jan-04		31-Jan-05		Thereafter		Total
			(US$ Equivalent)
Liabilities:
Long-term debt:
	Fixed rate ($CDN)		159,180		180,820		83,750		84,554		92,485		202,150		802,938		802,938
		Average interest rate	9.04	%	9.03	%	9.23	%	9.00	%	9.00	%	9.00	%	9.05	%

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PART II—OTHER INFORMATION

Item 6.  Exhibits and Reports on Form 8-K.

(a)

Exhibits

3.1	Memorandum of Association of Polydex Pharmaceuticals Limited, as amended to date (filed as Exhibit 3.1 to the Annual Report on Form 10-K filed April 30, 1997, and incorporated herein by reference)
3.2	Articles of Association of Polydex Pharmaceuticals Limited, as amended to date (filed as Exhibit 3.2 to the Quarterly Report on Form 10-Q filed September 13, 1999, and incorporated herein by reference)
27	Financial Data Schedule

(b)

Reports on Form 8-K

Not applicable.

13

SIGNATURES

    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.

Date: December 14, 2000	POLYDEX PHARMACEUTICALS LIMITED (Registrant)
	By:	/s/ GEORGE G. USHER   George G. Usher Chairman, President and Chief Executive Officer (Principal Executive Officer)
	By:	/s/ SHARON L. WARDLAW   Sharon L. Wardlaw Treasurer, Secretary and Chief Financial and Accounting Officer (Principal Financial Officer)

14

EXHIBIT INDEX

Exhibit Number	Exhibit Description
27	Financial Data Schedule

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POLYDEX PHARMACEUTICALS LIMITED TABLE OF CONTENTS
PART I—FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

FORWARD-LOOKING STATEMENTS SAFE HARBOR

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

PART II—OTHER INFORMATION

Item 6. Exhibits and Reports on Form 8-K.

SIGNATURES
EXHIBIT INDEX