Emisphere is a biopharmaceutical company specializing in the oral delivery of therapeutic macromolecules and other compounds that are not currently deliverable by oral means. Since our inception in 1986, we have devoted substantially all of our efforts and resources to research and development conducted on our own behalf and in collaborations with corporate partners and academic research institutions. Our product pipeline includes product candidates for the treatment of cardiovascular diseases, osteoporosis, growth disorders, diabetes, asthma/allergies, obesity and infectious diseases. Development and commercialization of these product candidates entails risk and significant expense. Since inception, we have had no product sales from these product candidates.
Revenue for the first quarter of 2005 was $1.0 million, and related to our collaborations with Roche and Novartis. We did not record revenue during the first quarter of 2004.
Total operating expenses were $9.2 million in the quarter ended March 31, 2005, an increase of $0.5 million, or 6%, compared to the same period last year. The details of this increase are as follows:
Research and development costs were $4.4 million in the quarter ended March 31, 2005, a decrease of $0.5 million or 10%, compared to the same period last year. The $0.5 million decrease is primarily due to a significant toxicology study undertaken in the first quarter of 2004.
General and administrative expenses were $3.7 million in the quarter ended March 31, 2005, an increase of $1.1 million, or 42%, compared to the same period last year. The $1.1 million increase reflects an overall increase in legal and other professional fees, including $0.8 million associated with the pending Lilly litigation (see “Legal Proceedings” below), $0.2 million associated with the completion of our shelf registration statement on Form S-3 and $0.1 million in consulting fees associated with implementing the requirements of section 404 of the Sarbanes-Oxley Act.
Depreciation and amortization costs were $1.1 million in the quarter ended March 31, 2005, a decrease of $115 thousand, or 9%, compared to the same period in 2004. This decrease primarily is the result of decreased capital expenditures over the past several years.
As a result of the above, our operating loss was $8.2 million for the quarter ended March 31, 2005, a decrease of $0.5 million, or 6%, as compared to $8.7 million for the quarter ended March 31, 2004.
Net other income for the first quarter of 2005 was $14.7 million, compared to $1.2 million of net other expense for the same period last year. The change of $15.9 million reflects a decrease of $1.4 million in interest expense and a gain on extinguishment of debt of $14.7 million, both related to the repurchase of our indebtedness to Elan. Under the accounting for a restructuring of debt, no interest expense should be recognized between the restructuring and maturity of the restructured payable. These amounts were partially offset by decreases in investment and other income.
Based on the above, we had net income of $6.5 million for the quarter ended March 31, 2005 as a result of the $14.7 million gain on the extinguishment of the Elan note, as compared to a net loss of $9.9 million for the same period in 2004.
Liquidity and Capital Resources
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. As of March 31, 2005, our accumulated deficit was approximately $326 million. Our net loss was $37.5 million and $44.9 million for the years ended December 31, 2004 and 2003, respectively. Net income was $6.5 million for the quarter ended March 31, 2005 as a result of the $14.7 million gain on the extinguishment of the note payable. Our stockholders’ equity decreased from $67.5 million as of December 31, 2002 to $8.4 million as of March 31, 2005. We have limited capital resources and 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. These conditions raise substantial doubt about our ability to continue as a going concern. The audit report prepared by our independent registered public accounting firm relating to our consolidated financial statements for the year ended December 31, 2004 includes an explanatory paragraph expressing the substantial doubt about our ability to continue as a going concern.
We anticipate that our existing capital resources, without implementing cost reductions, raising additional capital, or obtaining substantial cash inflows from potential partners for our products, will enable us to continue operations through July of 2005. These circumstances may adversely affect our ability to raise additional capital. If we fail to raise additional capital or obtain substantial cash inflows from potential or existing partners, we will be forced to cease operations. If additional capital is raised through the sale of equity or convertible debt securities, the issuance of such securities would result in dilution to our existing stockholders.
As of March 31, 2005, we had cash, cash equivalents and investments totaling $23.3 million, an increase of $5.7, compared to December 31, 2004. This includes the $13 million paid to Elan on April 1, 2005. Excluding the cash paid to Elan on April 1, 2005, we had cash, cash equivalents and investments of $10.3 million, a decrease of $7.3 million from December 31, 2004.
Net cash used in operations was $7.4 million in the first quarter of 2005, as compared to $7.2 million in the quarter ended March 31, 2004, an increase of $0.2 million resulting primarily from expenses related to the Lilly litigation, partially offset by a decrease in outside lab fees.
Cash provided by investing activities was $4.0 million in the three month period ended March 31, 2005, as compared to $1.6 million in the same period of 2004. Capital expenditures amounted to $41 thousand in the three month period ended March 31, 2005, as compared to $244 thousand for the same period in 2004.
Net cash provided by financing activities was $13.2 million in the three month period ended March 31, 2005, compared to $0.8 million during the three month period ended March 31, 2004, a change of $ 12.4 million. This inflow of cash in the first quarter of 2005 reflects the issuance of 4 million shares of our common stock and warrants to purchase up to 1.5 million shares.
As of March 31, 2005, we completed the sale of 4 million registered shares of common stock and warrants to purchase up to 1.5 million shares of common stock. The stock and warrants were sold as units, each unit consisting of one share of common stock and a warrant to purchase 0.375 shares of common stock (see Note 6), with a price of $3.935 per unit. Gross proceeds from the sale were $15.7 million. The net proceeds from this offering were $15.1 million, net of total issuance costs of $0.6 million. Of this amount, $2.0 was not received until April 1, 2005, and is included in prepaid expenses and other current assets on the condensed consolidated balance sheet at March 31, 2005 (see Note 3). The fair value of the warrants issued was estimated using the Black-Scholes option pricing model. As of March 31, 2005, the warrants have an initial fair value of $3.9 million and have been classified as a liability (see Note 6). Issuance costs allocated to the warrants amounted to $0.2 million and have been expensed. The remaining net proceeds of $11.4 million are allocated to the common stock issued and are included in stockholders’ equity as of March 31, 2005. $13 million of the proceeds were used on April 1, 2005 for the extinguishment of the Elan note and the remaining proceeds will be used for general corporate purposes.
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On December 27, 2004, we entered into a Common Stock Purchase Agreement with Kingsbridge, providing for the commitment of Kingsbridge to purchase up to $20 million of our common stock until December 27, 2006. In return for the commitment, we issued to Kingsbridge a warrant to purchase 250,000 shares of our common stock at an exercise price of $3.811 (representing a premium to the market price of shares of our common stock on the date of issuance of the warrant). Under the terms of the Common Stock Purchase Agreement, we may, at our election, draw funds from Kingsbridge in amounts up to 3% of our market capitalization at the time of the draw. Only one drawdown is permitted per drawdown pricing period, which is a period of 15 days, with a minimum of 5 trading days between each drawdown pricing period. In exchange for each draw, we will sell to Kingsbridge newly issued shares of our common stock priced at a discount of between 8-12% of the average trading price of our common stock during the financing period, with the reduced discount applying if the price of the common stock is equal to or greater than $8.50 per share. We will set the minimum acceptable purchase price of any shares to be issued to Kingsbridge during the term of the Common Stock Purchase Agreement, which, in no event, may be less than $2.00 per share. Our right to begin drawing funds will commence upon the SEC’s declaring effective a registration statement to be filed by us. We are under no obligation to access any of the capital available under the Common Stock Purchase Agreement. Kingsbridge may terminate this agreement based on material adverse effects on our business, operations, properties or financial condition excluding material adverse effects relating to formation or dissolution of partnerships or the results of any clinical trials. In addition, we can effect other debt and equity financings without restriction, provided that such financings do not use any floating or other post-issuance adjustable discount to the market price of our common stock. Kingsbridge is precluded from short selling any of our common stock during the term of the Common Stock Purchase Agreement.
In 1996, we entered into a joint venture with Elan to develop oral heparin. In connection with the re-purchase of Elan’s joint venture interest in 1999, we issued a zero coupon note (the “Original Elan Note”) to Elan. The Original Elan Note had an issue price of $20 million and an original issue discount at maturity of $35 million and a maturity date of July 2, 2006. On December 27, 2004, we entered into a Security Purchase Agreement with Elan, providing for our purchase of our indebtedness to Elan under the Original Elan Note. The value of the Original Elan Note plus accrued interest on December 27, 2004 was approximately $44 million. Pursuant to the Security Purchase Agreement, we paid Elan $13 million and issued to Elan 600,000 shares of our common stock with a market value of approximately $2 million. Also, we issued to Elan a new zero coupon note with an issue price of approximately $29 million (the “Modified Elan Note”), representing the accrued value of the Original Elan Note minus the sum of the cash payment and the value of the 600,000 shares. Under the Security Purchase Agreement, prior to March 31, 2005, we had the right to make a cash payment of $13 million, and issue to Elan a warrant to purchase 600,000 shares of our common stock (with an exercise price equal to the volume weighted average price for our common stock for the period of twenty consecutive trading days ending on the trading day immediately preceding the date of issuance of such warrant) in exchange for the Modified Elan Note (an “Accelerated Closing”). As of March 31, 2005, we issued to Elan a warrant to purchase up to 600,000 shares of our common stock at an exercise price of $3.88. On April 1, 2005, we made the $13 million payment to Elan, and Elan issued a letter to us acknowledging that an Accelerated Closing had occurred and that we were released from all outstanding indebtedness to Elan.
Off-Balance Sheet Arrangements
As of March 31, 2005, we had no off-balance sheet arrangements, other than operating leases.
Significant contractual obligations as of March 31, 2005 are as follows:
| | Amount Due in | |
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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) | | $ | 12,515 | | $ | — | | $ | — | | $ | 12,515 | | $ | — | |
Short-term debt (2) | | | 13,166 | | | 13,166 | | | — | | | — | | | — | |
Capital lease obligations | | | 396 | | | 211 | | | 185 | | | — | | | — | |
Operating lease obligations (3) | | | 4,245 | | | 1,753 | | | 2,492 | | | — | | | — | |
Clinical research organizations (4) | | | 70 | | | 70 | | | — | | | — | | | — | |
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Total | | $ | 30,392 | | $ | 15,200 | | $ | 2,677 | | $ | 12,515 | | $ | — | |
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(1) | In December 2004, we issued a $10 million convertible note payable to Novartis (the “Novartis Note”) due December 2009. Interest may be paid annually or accreted as additional principal. We may convert the Novartis Note at any time prior to maturity into a number of shares of our common stock equal to the principal and accrued and unpaid interest to be converted divided by the then market price of our common stock, provided certain conditions are met, including that the number of shares issued to Novartis, when issued, does not exceed 19.9% of the total shares of Company common stock outstanding, that at the time of such conversion no event of default under the Note has occurred and is continuing, and that there is either an effective shelf registration statement in effect covering the resale of the shares issued in connection with such conversion or the shares may be resold by Novartis pursuant to SEC Rule 144(k). Upon the occurrence of an event of default prior to conversion, any unpaid principal and accrued interest on the Novartis Note would become immediately due and payable. If the Novartis Note is converted into our common stock, Novartis would have the right to require us to repurchase the shares of common stock within six months after an event of default under the Novartis Note, for an aggregate purchase price equal to the principal and interest that was converted, plus interest from the date of conversion, as if no conversion had occurred. At March 31, 2005, the balance on the Novartis Note was $10.2 million. |
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(2) | Included herein is the $13 million paid to Elan on April 1, 2005 to complete the Accelerated Closing of the repurchase of our indebtedness to Elan, as well as $166 thousand related to an installment note for the payment of certain corporate insurance. See “Liquidity and Capital Resources” above for further information concerning the extinguishment of the Elan note. |
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(3) | 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 $2.5 million ($1.0 million in less than one year and $1.5 million in one to three years) for rent, real estate taxes and operating expenses. |
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(4) | 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 DISCLOSURE ABOUT MARKET RISK |
Our primary investment objective is to preserve principal while maximizing yield without significantly increasing risk. Our investments consist of U.S. mortgage-backed securities, commercial paper, corporate notes and corporate equities. Our fixed rate interest-bearing investments totaled $6.5 million at March 31, 2005. Of this total, $2.5 million mature in less than one year and $4 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 they 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.
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 to ensure that information required to be included in our filings under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Security and Exchange Commission’s rules and forms, except as described below. 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.
In connection with the preparation of this Quarterly Report, we determined that our disclosure controls and procedures failed to ensure that our reports, which disclosed that interest under loans made by us to our Chief Executive Officer in 2000 and 2001 is payable monthly, clearly indicated that interest has been accrued rather than paid. While this matter did not cause a misstatement in any of our financial statements, as the full amount of the indebtedness, including accrued interest, is reflected in such financial statements, we nonetheless concluded in consultation with legal counsel that this matter indicated the existence of a deficiency in our disclosure controls and procedures as of March 31, 2005. To eliminate this deficiency, we have determined that we will implement procedures to periodically review the terms of our material agreements, including those that are the subject of fina ncial statement disclosures, in order to ensure appropriate compliance with their principal terms. We expect that these procedures will be implemented during the third quarter of fiscal 2005.
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PART II
ITEM 1. LEGAL PROCEEDINGS
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. 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 PTH 1-34. Following receipt of the notice, Lilly filed a complaint seeking a declaratory judgment declaring that Lilly is not in breach of its agreements with us concerning oral formulations of PTH 1-34, and 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, we 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 went to trial on January 31, 2005. The trial lasted 4 days and closing arguments were heard on February 9, 2005. An adverse determination in this litigation concerning our claim that Lilly breached our agreements could limit our future ability to realize on the potential value of our oral PTH 1-34 assets. Although the costs of litigating this matter to its ultimate resolution may be material, we anticipate that we will have sufficient financial resources to fund near-term costs and we do not anticipate any significant impact on our ability to develop our product candidates. Through March 31, 2005, we have incurred approximately $2.3 million in expenses relating to this litigation.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS
Exhibit
Number | | Description of Exhibit |
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10.1 | | Placement Agency Agreement dated as of March 31, 2005 between Emisphere and Harris Nesbitt Corp. |
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10.2 | | Warrant dated as of March 31, 2005 between Emisphere and MHR Capital Partners LP |
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10.3 | | Warrant dated as of March 31, 2005 between Emisphere and NR Securities LTD |
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10.4 | | Warrant dated as of March 31, 2005 between Emisphere and Atticus European Fund LTD |
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10.5 | | Warrant dated as of March 31, 2005 between Emisphere and MHR Capital Partners (100) LP |
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10.6 | | Side letter dated as of March 31, 2005 between Emisphere and MHR Capital Partners LP |
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10.7 | | Side letter dated as of March 31, 2005 between Emisphere and Atticus European Fund LTD |
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10.8 | | Warrant dated as of March 31, 2005 between Emisphere and Elan International Services, Ltd. |
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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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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: May 12, 2005
| 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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