At December 31, 2003, we performed an evaluation of the recoverability of the purchased technology related to oral heparin and concluded that no impairment loss had been incurred. No events occurred during the quarter ended September 30, 2004 that would require an impairment evaluation of the recoverability of the purchased technology related to the solid forms of oral heparin.
In connection with this transaction, we agreed to sell most of the furniture and equipment in the surrendered space to the subsequent tenant. Through a contractual agreement with us, the subsequent tenant has agreed to make certain payments (“furniture payments”) which will be made directly to the landlord on a monthly basis. A rental credit equal to each furniture payment will be applied against our rent payment to the landlord on a monthly basis. Total payments under the agreement are $1.0 million and extend through August 2012. The transaction between the subsequent tenant and us has been accounted for as an operating lease, with all furniture payments recorded as rental income. We retain a security interest in the furniture and equipment until all required payments have been made. Prior to the transaction, we removed assets with a net book value of $0.4 million for use elsewhere in the Tarrytown facility.
We compared the net book value of the furniture and equipment to be leased to the fair value, which was determined to be the net present value of the furniture payments of $0.7 million, and determined that the assets were impaired. Based on this evaluation, we recorded an impairment charge of $4.3 million during the third quarter of 2003.
During 2003, portable equipment with a net book value of $0.4 million was transferred from the Farmington facility for use at the Tarrytown facility and equipment with a net book value of $0.3 million was sold. The remaining equipment was then evaluated individually for potential impairment. The evaluations were based on the age and condition of the equipment, potential offers from third parties, quotes from scientific equipment resellers, and recent sales of similar equipment at auction or by us. Based on this evaluation, we recorded an impairment charge of $1.0 million for the quarter ended June 30, 2003. No events occurred during the quarter ended September 30, 2004 that would require an impairment evaluation of the equipment available for sale at the Farmington facility.
As a result of the above, the operating loss was $8.7 million in the quarter ended September 30, 2004, a decrease of $5.1 million, or 37%, compared to the same period last year.
Other expense and income increased to $1.4 million of expense, an increase of $0.8 million compared to $0.6 million of expense in the third quarter of 2003. The change is the result of a decrease in investment income of $0.6 million due to lower cash and investment balances and an increase in interest expense of $0.2 million.
Based on the above, we sustained a net loss of $10.1 million in the three months ended September 30, 2004 as compared to a net loss during the three months ended September 30, 2003 of $14.4 million.
Nine Months Ended September 30, 2004 Compared to Nine Months Ended September 30, 2003
Revenue was $180 thousand in the first nine months of 2004 and related to research and development expense reimbursement and contract research arrangements primarily under feasibility agreements with pharmaceutical companies. Included in this revenue is $47 thousand of research and development expense reimbursement for which the costs of revenue approximate such revenue. These costs are included in research and development expenses. Revenue recorded in the first nine months of 2003 was $372 thousand and related to research and development expense reimbursement, primarily related to the completion of proof of concept Phase I clinical studies under a collaboration with Eli Lilly and Company and a feasibility agreement with a pharmaceutical company. Costs of revenue recorded in 2003 approximate such revenue and are included in research and development expenses.
Operating expenses for the first nine months of 2004 were $25.2 million, a decrease of $8.6 million or 25% as compared to the same period in 2003. The details of this decrease are as follows:
Research and development costs were $13.3 million for the nine months ended September 30, 2004, a decrease of $2.9 million or 18%, as compared to the same period in 2003. The reduction includes a decrease in direct research and development expenses of $0.5 million primarily resulting from a decrease in research activity, a decrease in clinical trial expenses of $0.6 million primarily resulting from the final reconciliation of payments related to the PROTECT liquid oral heparin trials, a decrease in employee compensation and related costs of $0.9 million and a decrease in operating expenses of $1.2 million primarily due to the surrender of a portion of the leased space at the Tarrytown facility in late 2003. These decreases were partially offset by a $0.5 million charge to compensation expense related to our Employee Stock Purchase Plan. This charge was the result of variable stock award accounting.
General and administrative expenses were $8.1 million for the nine months ended September 30, 2004, an increase of $0.5 million or 6% as compared to the nine months ended September 30, 2003. This increase is primarily the result of increased professional fees associated with the filing of a shelf registration on Form S-3 and the ongoing litigation with Eli Lilly and Company.
Depreciation and amortization costs were $3.8 million for the nine months ended September 30, 2004, a decrease of $0.8 million, or 17%, as compared to the same period in 2003. This decrease primarily is the result of the surrender of a portion of the leased space at the Tarrytown facility and the resultant reduction in the cost basis of leasehold improvements.
At December 31, 2003, we performed an evaluation of the recoverability of the purchased technology related to oral heparin and concluded that no impairment loss had been incurred. No events occurred during the nine months ended September 30, 2004 that would require an impairment evaluation of the recoverability of the purchased technology related to the solid forms of oral heparin.
Tarrytown Facility Transaction. During 2003, in order to streamline operations and reduce expenditures, we entered into a transaction to surrender to the landlord approximately 27% of the leased space (the “surrendered space”) at our Tarrytown facility. The surrendered space primarily consists of office space which was subsequently leased to another tenant (the “subsequent tenant”) at the Tarrytown facility. In the event that the subsequent tenant vacates the space before August 31, 2005, we will be contingently liable for the rent payments and will be required to re-let the space through August 31, 2007. Completion of the lease amendment and related agreements took place in October 2003.
In connection with this transaction, we agreed to sell most of the furniture and equipment in the surrendered space to the subsequent tenant. Through a contractual agreement with us, the subsequent tenant has agreed to make certain payments (“furniture payments”) which will be made directly to the landlord on a monthly basis. A rental credit equal to each furniture payment will be applied against our rent payment to the landlord on a monthly basis. Total payments under the agreement are $1.0 million and extend through August 2012. The transaction between the subsequent tenant and us has been accounted for as an operating lease, with all furniture payments recorded as rental income. We retain a security interest in the furniture and equipment until all required payments have been made. Prior to the transaction, we removed assets with a net book value of $0.4 million for use elsewhere in the Tarrytown facility.
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We compared the net book value of the furniture and equipment to be leased to the fair value, which was determined to be the net present value of the furniture payments of $0.7 million, and determined that the assets were impaired. Based on this evaluation, we recorded an impairment charge of $4.3 million during the third quarter of 2003.
Farmington Facility Transaction In December 2003, we entered into a contract of sale for the Farmington facility with a real estate developer. The purchaser’s obligations to close on the facility were contingent on receiving certain governmental approvals, including but not limited to zoning approvals in final form, wetlands approvals and state environmental approvals, by August 12, 2004. An adjoining landowner filed a notice of pendency on the property claiming certain rights under a right of way, and in addition filed suit in a matter captioned “FARMINGTON AVENUE BAPTIST CHURCH, Plaintiff, vs. FARM TECH CORPORATION, Defendant, Superior Court of the State of Connecticut, Judicial District of Hartford”. The purchaser has requested that we clear title and remove the notice of pendency. By way of letter agreement with the purchaser dated August 19, 2004, we extended the dates set forth within the contract of sale so that in the event that the purchaser has not terminated the contract by December 31, 2004 because of the failure to obtain governmental approvals, the purchaser is obligated to close on the premises by the earlier date of the thirtieth day after receipt of governmental approvals or March 31, 2005. The purchaser shall commence paying all taxes on the property on the earlier of (a) submission of all papers to the Planning and Zoning Board of Farmington or (b) December 31, 2004. Since the sale is contingent in part on certain governmental approvals, we cannot predict with certainty when, or if, the closing will take place. No events occurred during the nine months ended September 30, 2004 that would require an impairment evaluation of the land, building and equipment available for sale at the Farmington facility.
During 2003, $0.4 million of the equipment was transferred from the Farmington facility for use at the Tarrytown facility and $0.3 million of the equipment was sold. The remaining equipment was then evaluated individually for potential impairment. The evaluations were based on the age and condition of the equipment, potential offers from third parties, quotes from scientific equipment resellers, and recent sales of similar equipment at auction or by us. Based on this evaluation, we recorded an impairment charge of $1.0 million during the nine months ended September 30, 2003. No events occurred during the nine months ended September 30, 2004 that would require an impairment evaluation of the equipment available for sale at the Farmington facility.
As a result of the above, the operating loss was $25.0 million in the nine months ended September 30, 2004, a decrease of $8.4 million or 25% compared to the same period last year.
Other expense and income increased to $3.8 million of expense, an increase of $1.5 million compared to $2.3 million of expense in the comparative period in 2003. The change is the result of a decrease in investment income of $0.9 million due to lower cash and investment balances and an increase in interest expense of $0.6 million.
Based on the above, we sustained a net loss of $28.8 million in the nine months ended September 30, 2004 as compared to a net loss of $35.7 million during the nine months ended September 30, 2003.
Liquidity and Capital Resources
As of September 30, 2004, total cash, cash equivalents and investments were $24.3 million, a decrease of $18.7 million as compared to December 31, 2003.
Net cash used in operations was $19.1 million in the nine month period ended September 30, 2004, as compared to $21.1 million in the nine month period ended September 30, 2003. The decrease of $2.1 million primarily was the result of our restructuring efforts, particularly the surrender of the leased space at our Tarrytown facility, all of which occurred prior to 2004.
Cash used in investing activities was $0.4 million in the nine month period ended September 30, 2004, as compared to an inflow of $22.1 million in the same period of 2003. During the nine month period ended September 30, 2004, proceeds from matured investments totaled $5.1 million, which were partially offset by reinvestment of $4.9 million in securities. Capital expenditures, net of proceeds from the sale of fixed assets, amounted to $0.7 million in the nine month period ended September 30, 2004, as compared to $0.9 million for the same period in 2003.
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Since our inception in 1986, we have generated significant losses from operations and we anticipate that we will continue to generate significant losses from operations for the foreseeable future. On September 30, 2004, our accumulated deficit was $323.8 million. Operations to date have been funded with the proceeds from collaborative research agreements, public and private equity and debt financings and income earned on investments. We expect to collect $1.0 million in licensing revenue during the fourth quarter of 2004 related to our recent collaboration with Novartis to develop an oral formulation of recombinant human growth hormone. This amount is included in accounts receivable on the condensed consolidated balance sheets as of September 30, 2004. We could receive an additional $5 million during 2005 and up to $28 million in additional milestone payments during the course of product development as well as royalties based on sales if the product is approved.
In the absence of additional financing, new collaborations, milestone payments and/or closing of the sale of the Farmington facility, we expect that as of December 31, 2004, our cash, cash equivalent and investment balances will be $26 million less than such balances on December 31, 2003, to end the year with total balances of cash, cash equivalents and investments of approximately $17 million. We expect capital expenditures to be approximately $0.8 million in 2004. Capital purchases may be financed by lease arrangements.
We anticipate that our existing capital resources will enable us to continue operations into the fourth quarter of 2005. However, this expectation is based on the current operating plan that could change as a result of many factors and additional funding may be required sooner than anticipated. To the extent operating and capital resources are insufficient to meet future requirements, we will have to raise additional funds to continue the development and commercialization of our products or reduce spending. Historically, we have been able to implement cost reductions when necessary.
Future funding may not be available on favorable terms, or at all. If additional capital is raised through the sale of equity or convertible debt securities, the issuance of such securities could result in dilution to our existing stockholders. If we fail to generate sufficient revenue, raise additional funds or undergo further restructuring, the resultant reduction of our available cash resources would have a material adverse effect on our ability to continue as a going concern. If we are successful in securing a partner for any of our product candidates not currently licensed to a third party, we may receive milestone payments, upfront fees, expense reimbursements and/or cash infusions. Such cash inflows could delay our need to raise additional funds to maintain operations through the fourth quarter of 2005 and beyond. In the event that we are unable to achieve long-term profitability and/or obtain additional capital, future operations will need to be scaled back or discontinued.
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The following table summarizes our significant contractual obligations as of September 30, 2004:
| | | | | Amount Due in | |
| | | | |
| |
Type of Obligation | | Total
Obligation | | Less than
1 year | | 1 to 3
years | | 4 to 5
years | | More than
5 years | |
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|
| |
|
| |
|
| |
|
| |
|
| |
| | (in thousands) | |
Long-term debt (1) | | $ | 55,000 | | $ | — | | $ | 55,000 | | $ | — | | $ | — | |
Capital lease obligations | | | 504 | | | 202 | | | 302 | | | — | | | — | |
Operating lease obligations (2) | | | 5,121 | | | 1,751 | | | 1,757 | | | 1,613 | | | — | |
Clinical research organizations (3) | | | 151 | | | 151 | | | — | | | — | | | — | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 60,776 | | $ | 2,104 | | $ | 57,059 | | $ | 1,613 | | $ | — | |
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(1) | In July 1999, we acquired from Elan our ownership interest in Ebbisham (a jointly owned entity created by Emisphere and Elan), in exchange for a seven year, $20 million zero coupon note due July 2006 carrying a 15% interest rate, compounding semi-annually (the “Note”), plus royalties on oral heparin product sales, subject to an annual maximum and certain milestone payments. In connection with any payment from us on the Note, we have the right to require Elan to purchase our common stock at the market price at an aggregate price equal to such payment made, subject to the following conditions: (i) the acceptance by the FDA of a new drug application from Emisphere involving any heparin product, (ii) our closing stock price remaining at or above $25.00 per share for the 20 consecutive trading days prior to the date we exercise this right and (iii) the exercise of this right would not require the application of the equity accounting method by Elan. At September 30, 2004, the balance on the Elan Note was $42.8 million. |
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(2) | The operating lease is related to the Tarrytown facility. Under the terms of the agreement with the landlord to surrender a portion of this space in 2003, we are contingently liable for the rent payments and will be required to re-let the space through August 31, 2007 if the subsequent tenant vacates the surrendered space before August 31, 2005. We have excluded such payments from the above table because we believe that the possibility of such an event occurring is remote. In the event that the subsequent tenant vacates the space, the maximum amount which we would be obligated to pay would be $3.0 million ($1.0 million in less than one year and $2.0 million in one to three years) for rent, real estate taxes and operating expenses. |
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(3) | We are obligated to make payments under certain contracts with third parties who provide clinical research services to support our ongoing research and development. |
Item 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
Our primary investment objective is to preserve principal while maximizing yield without significantly increasing risk. Our investments consist of U.S. Treasuries, commercial paper, corporate notes and corporate equities. Our investments totaled $18.7 million at September 30, 2004. Of this total, $18.6 million were debt securities with fixed interest rates, of which $14.6 million mature in less than one year and $4.0 million mature in one to two years. We have classified all investments as short-term based on our intent to liquidate the investments to fund operations over the upcoming twelve month period.
Due to the conservative nature of our short-term fixed interest rate investments (maturities in less than one year), we do not believe that we have a material exposure to interest rate risk. The value of our fixed interest rate long-term investments is sensitive to changes in interest rates. Interest rate changes would result in a change in the fair value of these investments due to differences between the current market interest rate and the rate prevailing at the date of original purchase of the investment. Reasonably expected changes in prevailing interest rates would not materially impact the value of our long term investments.
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Item 4. | CONTROLS AND PROCEDURES |
We conducted an evaluation of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. The evaluation was conducted under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer. Based upon this evaluation, each concluded that our disclosure controls and procedures are effective in alerting them on a timely basis to material information required to be included in our filings under the Securities Exchange Act of 1934. There has been no significant change in our internal controls over financial reporting during the period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or internal controls over financial reporting will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the system are met and cannot detect all deviations. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud or deviations, if any, within our company have been detected. While we believe that our disclosure controls and procedures have been effective, in light of the foregoing, we intend to continue to examine and refine our disclosure controls and procedures and monitor ongoing developments in this area.
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PART II. | OTHER INFORMATION |
There is currently pending in the United States District Court for the Southern District of Indiana, Indianapolis Division, a lawsuit with Eli Lilly and Company (“Lilly”). The suit results from a notice that we delivered to Lilly declaring that Lilly was in material breach of certain research and collaboration agreements entered into with Lilly with respect to the development of oral formulations of recombinant parathyroid hormone, PTH 1-34. Following receipt of the notice, Lilly filed a complaint seeking (i) a declaratory judgment declaring that Lilly is not in breach of its agreements with us concerning oral formulations PTH 1-34, and (ii) an order preliminarily and permanently enjoining us from terminating those agreements. On February 12, 2004, we served Lilly with an amended counterclaim, alleging that Lilly filed certain patent applications relating to the use of our proprietary technology in combination with another drug, in violation of our agreements with Lilly, and that the activities disclosed in such applications infringe upon our patents. We are also alleging that Lilly has breached the agreements by failing to make a milestone payment of $3 million, as required upon the completion of oral PTH 1-34 product Phase I studies. Lilly has denied that the $3 million currently is due on the basis that the requisite Phase I studies have not been completed and that the patent applications that it filed relating to the use of our proprietary technology in combination with another drug is not in violation of our agreements with Lilly, and that the activities disclosed in such applications do not infringe upon our patents. On February 13, 2004, the court entered a case management plan and the parties commenced the exchange of discovery materials in March 2004. By notice dated August 23, 2004, the Company notified Lilly that in light of Lilly’s ongoing, repeated and uncured violations of its PTH 1-34 license agreement, both its agreements with us were terminated. Thereafter, Lilly amended its complaint to seek a declaration that we are not entitled to terminate those agreements and also to seek declarations that Lilly has not infringed our patents. The case is currently set for trial on January 31, 2005. An adverse determination in this litigation could limit our future ability to realize the potential value of our patents.
Item 4. | SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS |
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None | |
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Item 6. | EXHIBITS AND REPORTS ON FORM 8-K |
| (a) | Exhibits |
| | | |
| Exhibit
Number | | Description of Exhibit |
|
| |
|
| 31.1 | | Certification pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to section 302 of the Sarbanes- Oxley Act of 2002 (filed herewith). |
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| 31.2 | | Certification pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith). |
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| 32.1 | | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes- Oxley Act of 2002 (furnished herewith). |
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| 32.2 | | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes- Oxley Act of 2002 (furnished herewith). |
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| (b) | Reports on Form 8-K |
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| | | On September 23, 2004, we furnished a Current Report on Form 8-K pursuant to Item 1.01 Entry into a Material Definitive Agreement containing a copy of a press release announcing that we have entered into a licensing agreement with Novartis Pharma AG to develop an oral formulation of recombinant human growth hormone (rhGH). |
| | | |
| | | On November 8, 2004, we furnished a Current Report on Form 8-K pursuant to Item 2.02 Results of Operations and Financial Condition containing a copy of a press release announcing our preliminary financial results for the quarterly period ended September 30, 2004. |
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SIGNATURES
Pursuant to the requirement 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: November 12, 2004 | |
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| EMISPHERE TECHNOLOGIES, INC. |
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| /S/ MICHAEL M. GOLDBERG, M.D. |
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| Michael M. Goldberg, M.D.
Chairman and Chief Executive Officer |
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| /S/ ELLIOT M. MAZA |
|
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| Elliot M. Maza
Chief Financial Officer |
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