Filed pursuant to Rule 424(b)(3) and Rule 424(c)
Registration No. 333-132864
PROSPECTUS SUPPLEMENT NO. 1
MacroChem Corporation
21,463,002 Shares of Common Stock
This prospectus supplement amends the prospectus dated April 18, 2006
related to common stock that may be sold by the selling security holders upon
the conversion of our Series C Cumulative Convertible Preferred Stock or upon
the exercise of warrants to include information related to the financial
condition and the results of operations of MacroChem Corporation as of and for
the quarter ended June 30, 2006.
This prospectus supplement should be read in conjunction with the
prospectus dated April 18, 2006, which is to be delivered with this prospectus
supplement.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ADEQUACY OR ACCURACY OF THIS PROSPECTUS SUPPLEMENT OR THE PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
August 15, 2006
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 June 30, 2006
or
[ ] 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 0-13634
MACROCHEM CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 04-2744744
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
40 WASHINGTON STREET, SUITE 220, WELLESLEY HILLS, MASSACHUSETTS 02481
(Address of principal executive offices, Zip Code)
781-489-7310
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (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 by check mark whether the Registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act.
Large accelerated filer Accelerated filer Non-accelerated filer X
Indicate by check mark whether the Registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes No X
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class OUTSTANDING AT AUGUST 4, 2006:
- ---------------------------- ------------------------------
Common Stock, $.01 par value 1,497,751
1
MACROCHEM CORPORATION
INDEX TO FORM 10-Q
PAGE NUMBER
PART I FINANCIAL INFORMATION
Item 1 Financial Statements
Condensed Balance Sheets
June 30, 2006 (Unaudited) and December 31, 2005 3
Condensed Statements of Operations for the
Three and Six Months Ended June 30, 2006
and 2005 (Unaudited) 4
Condensed Statements of Cash Flows for the
Six Months Ended June 30, 2006
and 2005 (Unaudited) 5-6
Notes to Unaudited Condensed Financial
Statements 7-14
Item 2 Management's Discussion and Analysis of
Financial Condition and Results of Operations 15-22
Item 3 Quantitative and Qualitative Disclosures About
Market Risk 22
Item 4 Controls and Procedures 23
PART II OTHER INFORMATION
Item 1A Risk Factors 24-25
Item 4 Submission of Matters to a Vote of Security Holders 25
Item 6 Exhibits 25-26
SIGNATURES 27
EXHIBIT INDEX 28
2
ITEM 1. FINANCIAL STATEMENTS
MACROCHEM CORPORATION
CONDENSED BALANCE SHEETS
JUNE 30, DECEMBER 31,
2006 2005
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 692,274 $ 3,023,436
Short-term investments 5,835,353 ---
Prepaid expenses and other current assets 309,991 106,761
----------- ---------
Total current assets 6,837,618 3,130,197
Property and equipment, net 50,016 72,203
Patents, net 589,953 579,053
----------- -----------
Total assets $ 7,477,587 $ 3,781,453
=========== ===========
LIABILITIES
Current liabilities:
Accounts payable $ 56,296 $ 125,478
Accrued expenses and other liabilities 308,125 249,552
----------- -----------
Total current liabilities 364,421 375,030
Warrants liability (Note 5) 2,152,308 1,620,778
----------- -----------
Total liabilities 2,516,729 1,995,808
Commitments and contingencies (Note 3)
Preferred stock, $.01 par value, 6,000,000 shares authorized, 823.95 and 250
shares Series C Convertible issued and outstanding at
June 30, 2006 and December 31, 2005, respectively (Note 5) 341,496 330,243
----------- -----------
341,496 330,243
STOCKHOLDERS' EQUITY
Common stock, $.01 par value, 100,000,000 shares authorized; 1,358,242 and
997,438 shares issued at June 30, 2006 and December 31, 2005,
respectively 13,583 9,974
Additional paid-in capital 85,436,650 84,089,530
Accumulated deficit (80,771,761) (82,584,992)
Less treasury stock, at cost, 529 shares at June 30, 2006 and December
31, 2005 (59,110) (59,110)
----------- -----------
Total stockholders' equity 4,619,362 1,455,402
----------- -----------
Total liabilities and stockholders' equity $ 7,477,587 $ 3,781,453
=========== ===========
The accompanying notes are an integral part of these unaudited condensed
financial statements.
3
MACROCHEM CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
For the three and six months ended June 30, 2006 and 2005
(Unaudited)
FOR THE THREE MONTHS ENDED JUNE 30, FOR THE SIX MONTHS ENDED JUNE 30,
2006 2005 2006 2005
OPERATING EXPENSES:
Research and development $ 90,243 $ 739,008 $ 156,225 $ 1,769,068
Marketing, general and administrative 976,560 809,280 2,117,687 1,644,278
--------- --------- --------- ---------
TOTAL OPERATING EXPENSES 1,066,803 1,548,288 2,273,912 3,413,346
--------- --------- --------- ---------
LOSS FROM OPERATIONS (1,066,803) (1,548,288) (2,273,912) (3,413,346)
--------- --------- --------- ---------
OTHER INCOME:
Interest income 73,410 21,942 119,152 45,460
Gain on change in value of warrant liability 4,892,565 --- 4,313,068 ---
--------- --------- --------- ---------
TOTAL OTHER INCOME
(NOTE 5) 4,965,975 21,942 4,432,220 45,460
--------- --------- --------- ---------
NET INCOME OR (LOSS) $ 3,899,172 $(1,526,346) $ 2,158,308 $(3,367,886)
========= ========= ========= =========
BENEFICIAL CONVERSION FEATURE
(NOTE 5) --- --- (11,895) ---
DIVIDEND ON SERIES C CUMULATIVE
PREFERRED STOCK (205,424) --- (345,076) ---
========= ========= ========= =========
NET INCOME OR (LOSS)
ATTRIBUTABLE TO COMMON
STOCKHOLDERS $ 3,693,748 $(1,526,346) $ 1,801,337 $(3,367,886)
========= ========= ========= =========
BASIC AND DILUTED NET INCOME OR
(LOSS) PER SHARE $ 3.39 $ (1.56) $ 1.73 $ (3.54)
========= ========= ========= =========
SHARES USED TO COMPUTE BASIC
AND DILUTED NET INCOME OR
(LOSS) PER SHARE 1,089,441 977,478 1,043,969 951,291
========= ========= ========= =========
The accompanying notes are an integral part of these unaudited condensed
financial statements.
4
MACROCHEM CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
For the six months ended June 30, 2006 and 2005
(Unaudited)
FOR THE SIX MONTHS ENDED JUNE 30,
2006 2005
CASH FLOWS FROM OPERATING ACTIVITIES
Net income or (loss) $ 2,158,308 $(3,367,886)
Adjustments to reconcile net income or loss to net cash
used by operating activities:
Depreciation and amortization 47,455 73,908
Stock-based compensation 674,597 ---
401(k) contributions in company common stock --- 15,610
Deferred rent --- (5,509)
(Gain) on change in value of warrant liability (4,313,068) ---
Change in assets and liabilities:
Prepaid expenses and other current assets (203,230) (51,146)
Accounts payable and accrued expenses (10,609) 110,739
--------- ---------
Net cash used in operating activities (1,646,547) (3,445,762)
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of short-term investments (5,835,354) (14,522)
Expenditures for property and equipment (436) (14,372)
Additions to patents (35,733) (50,365)
--------- ---------
Net cash provided by investing activities (5,871,523) (79,259)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of Series C Cumulative
Convertible Preferred Stock and Warrants 5,186,908 ---
Proceeds from sale of common stock (net of legal and
Financial costs) --- 679,505
Proceeds from exercise of warrants --- 87,500
--------- ---------
Net cash provided by financing activities 5,186,908 767,005
--------- ---------
Net change in cash and cash equivalents (2,331,162) (2,758,008)
Cash and cash equivalents at beginning of period 3,023,436 4,888,868
--------- ---------
Cash and cash equivalents at end of period $ 692,274 $ 2,130,860
========== =========
The accompanying notes are an integral part of these unaudited condensed
financial statements.
(Continued)
5
MACROCHEM CORPORATION
STATEMENTS OF CASH FLOWS (CONTINUED)
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
The Company did not pay any cash for interest expense or income taxes during the
six-month periods ended June 30, 2006 and 2005.
In February of 2006, the Company issued warrants for the purchase of
approximately 548,095 shares of its Common Stock to the designees of the
placement agent in connection with the sale of Series C Cumulative Convertible
Preferred Stock. The warrants were valued using the Black Scholes model at
$330,415 and are recorded as a non-cash issuance cost.
The accompanying notes are an integral part of these unaudited condensed
financial statements.
6
MACROCHEM CORPORATION
NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS
All references to share amounts, share prices and per share data in the
Unaudited Condensed Financial Statements and these accompanying Notes reflect
both the 1-for-7 reverse stock split effected on December 30, 2005 and the
1-for-6 reverse stock split effected on February 9, 2006. Accordingly, where
appropriate, share amounts, share prices and per share data have been adjusted
to give retroactive effect to the reverse splits.
(1) BASIS OF PRESENTATION AND OPERATIONS The financial statements included
herein have been prepared by MacroChem Corporation ("MacroChem" or the
"Company") without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United
States of America have been condensed or omitted pursuant to such rules and
regulations. In the opinion of management, the accompanying unaudited
condensed financial statements include all adjustments (consisting only of
normal recurring adjustments) necessary to present fairly the financial
position, results of operations and cash flows of the Company at the dates
and for the periods indicated. The unaudited condensed financial statements
included herein should be read in conjunction with the audited financial
statements and the notes thereto included in the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 2005.
The Company has been engaged primarily in research and development since
its inception in 1981 and has derived limited revenues from the commercial
sale of its products, licensing of certain technology and feasibility
studies. The Company has had no revenues relating to the sale of any
products currently under development. The Company has incurred net losses
every year since its inception and the Company anticipates that losses will
continue for the foreseeable future. At June 30, 2006, the Company's
accumulated deficit was $80,771,761. At June 30, 2006, the Company believes
that its existing cash and cash equivalents are sufficient to fund
operations under the Company's operating plan for at least the next twelve
months. The Company's ability to continue operations after its current
capital resources are exhausted depends on its ability to obtain additional
financing and achieve profitable operations, as to which no assurances can
be given. The Company's cash requirements may vary materially from those
now planned because of changes in the focus and direction of its research
and development programs, competitive and technical advances, patent
developments or other developments.
The Company organizes itself as one segment reporting to the chief
executive officer. Products and services consist primarily of research and
development activities in the pharmaceutical industry.
The results disclosed in the Statement of Operations for the six months
ended June 30, 2006 are not necessarily indicative of the results to be
expected for the full year.
7
(2) STOCK BASED COMPENSATION
STOCK INCENTIVE PLANS
The Company has granted options to purchase the Company's common stock to
employees and directors under various stock incentive plans. Under the
plans, employees and non-employee directors are eligible to receive awards
of various forms of equity-based incentive compensation, including stock
options, restricted stock, and performance awards, among others. The plans
are administered by the Board of Directors or the Compensation Committee of
the Board of Directors, which determine the terms of the awards granted.
Stock options are generally granted with an exercise price equal to the
market value of a share of common stock on the date of grant, have a term
of ten years or less, and vest over terms of two to three years from the
date of grant.
ADOPTION OF SFAS 123(R)
Prior to January 1, 2006, the Company accounted for stock-based
compensation issued to employees using the intrinsic value method, which
follows the recognition and measurement principles of Accounting Principles
Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees,"
and Financial Accounting Standards Board ("FASB") Interpretation ("FIN")
No. 44, "Accounting for Certain Transactions Involving Stock Compensation."
Generally, no stock-based employee compensation cost related to stock
options was reflected in net income, as all options granted under
stock-based compensation plans had an exercise price equal to the market
value of the underlying common stock on the grant date. Compensation cost
related to restricted stock units granted to non-employee directors and
certain key employees was reflected in net loss as services were rendered.
On January 1, 2006, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 123(R), "Share-Based Payment," using the modified
prospective method, which requires measurement of compensation cost for all
stock awards at fair value on the date of grant and recognition of
compensation over the requisite service period for awards expected to vest.
The fair value of stock options is estimated using the Black-Scholes
valuation model, and the fair value of restricted stock units is determined
based on the number of shares granted and the quoted price of the Company's
common stock on the date of grant. Such value is recognized as expense over
the requisite service period, net of estimated forfeitures, using the
straight-line attribution method. The estimate of awards that will
ultimately vest requires significant judgment, and to the extent actual
results or updated estimates differ from the Company's current estimates,
such amounts will be recorded as a cumulative adjustment in the period
estimates are revised. The Company considers many factors when estimating
expected forfeitures, including types of awards, employee class and
historical employee attrition rates. Actual results, and future changes in
estimates, may differ substantially from the Company's current estimates.
On March 29, 2005, the Securities and Exchange Commission ("SEC") published
Staff Accounting Bulletin ("SAB") No. 107, which provides the Staff's views
on a variety of matters relating to stock-based payments. SAB No. 107
8
requires that stock-based compensation be classified in the same expense
line items as cash compensation. The Company has classified stock-based
compensation during the six months ended June 30, 2006 within the same
operating expense line items as cash compensation paid to employees.
Stock-based compensation expense under SFAS No. 123(R) was $216,640 and
$674,597 during the three and six months ended June 30, 2006, respectively.
As a result of adopting SFAS No. 123(R) on January 1, 2006, the Company's
income from operations and income for the three and six months ended June
30, 2006 were $216,640 and $674,597, respectively, lower than if it had
continued to account for share-based compensation using the intrinsic
method of accounting. Basic income per share would have been $3.59 and
$2.37 if the Company had not adopted SFAS No. 123(R), compared to the
reported basic income per share of $3.39 and $1.73 for the three and six
months ended June 30, 2006, respectively. Diluted income per share
would have been $3.59 and $.37 if the Company had not adopted SFAS No.
123(R), compared to the reported diluted income per share of $3.39 and $.28
for the three and six months ended June 30, 2006, respectively. The
incremental impact of SFAS No. 123(R) during the three and six months ended
June 30, 2006 represents stock-based compensation expense related to stock
options.
VALUATION ASSUMPTIONS FOR STOCK OPTIONS
The fair value of stock options granted during the three and six months
ended June 30, 2006 and 2005 was estimated using the Black-Scholes
option-pricing model with the following assumptions:
THREE AND SIX MONTHS ENDED
JUNE 30,
2006 2005
Risk-free interest rate 4.72% 4.25%
Expected life of option grants 6 years 6 years
Expected volatility of underlying stock 102% 93%
Expected dividend payment rate, as a percentage of
the stock price on the date of grant --- ---
The dividend yield assumption is based on the Company's history and
expectation of future dividend payouts. The expected volatility is based on
a combination of the Company's historical stock price and implied
volatility. The risk-free interest rate assumption is based upon the U.S.
Treasury yield curve in effect at the time of grant for periods
corresponding with the expected life of the option. The expected life of
employee stock options represents the weighted-average period the stock
options are expected to remain outstanding.
9
PRO FORMA INFORMATION FOR PERIOD PRIOR TO SFAS 123(R) ADOPTION
In accordance with FAS 123(R), the Company adopted the provisions of FAS
123(R) at January 1, 2006 using the modified prospective approach. Under
this method, prior periods are not restated. Had the Company previously
recognized compensation costs as prescribed by FAS 123, previously reported
net loss, basic earnings per share and diluted earnings per share would
have changed to the pro forma amounts shown as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 2005 JUNE 30, 2005
Net loss as reported $(1,526,346) $(3,367,886)
Add: Stock-based employee compensation expense
included in reported net loss --- ---
Deduct: Total stock-based employee compensation
measured using the fair value method (314,383) (613,187)
--------- ---------
Pro forma net loss $(1,840,729) $(3,981,073)
========= =========
Basic and diluted net loss per share - as reported $ (1.56) $ (3.54)
========= =========
Basic and diluted net loss per share - pro forma $ (1.88) $ (4.18)
========= =========
Stock option activity for the six months ended June 30,
2006 was as follows:
WEIGHTED WEIGHTED AGGREGATE
NUMBER OF AVERAGE AVERAGE INTRINSIC
OPTIONS EXERCISE PRICE REMAINING LIFE VALUE
Outstanding, December 31, 2005 108.600 $132.24
Granted 945,000 $ 1.62
Exercised --- ---
Canceled or Expired (32,670)
----------- ------- ---- ---------
Outstanding, June 30, 2006 1,020,930 $ 11.80 6.01 $1,655,515
========== ======= ==== =========
Exercisable, June 30, 2006 382,593 $ 27.76 6.01 $ 937,213
=========== ======= ==== =========
(3) COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS- In accordance with certain capital lease contracts, in
the event that they are terminated early, approximately $156,000 would be
owed as early termination payments.
10
(4) BASIC AND DILUTED INCOME OR (LOSS) PER SHARE
The following is a reconciliation of net income (loss)
and weighted average common shares outstanding for purposes of
calculating basic and diluted income (loss) per share:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
---- ---- ---- ----
Basic income (loss) per common share
computation:
Numerator:
Net income (loss) used for basic income
(loss) per common share $3,693,748 $(1,526,346) $1,801,337 $(3,367,886)
========= ========= ========= =========
Denominator:
Weighted average shares used for basic
income (loss) per common share 1,089,441 977,478 1,043,969 951,291
========= ========== ========= =========
Basic income (loss) per common share $ 3.39 $ (1.56) $ 1.73 $ (3.54)
========= =========== ========= =========
Diluted income (loss) per common share
computation:
Numerator:
Net income (loss) used for basic income
(loss) per common share $3,693,748 $(1,526,346) $1,801,337 $(3,367,886)
Dividend on convertible preferred --- --- 345,076 ---
--------- --------- --------- ---------
Net income (loss) used for diluted income
(loss) per common share $3,693,748 $(1,526,346) $2,146,413 $(3,367,886)
========= ========= ========= =========
Denominator:
Weighted average shares used for basic
income (loss) per common share 1,089,441 977,478 1,043,969 951,291
Effect of dilutive securities:
Convertible preferred stock and warrants --- --- 6,633,422 ---
--------- --------- --------- ---------
Weighted average shares used for diluted
income (loss) per common share 1,089,441 977,478 7,677,391 951,291
========= ========= ========= =========
Diluted income (loss) per common share $ 3.39 $ (1.56) $ .28 $ (3.54)
========= ========= ========= =========
Potential common shares are not included in the per share calculations
for diluted loss per share, because the effect of their inclusion would
be anti-dilutive. Anti-dilutive potential shares not included in per
share calculations for the three and six months ended June 30, 2005
were 205,107 and 170,699, respectively. Dilutive shares not included in
the income per share calculation for the three month period ended June
30, 2006 were 17,603,385. These shares were not included as the closing
average price of the Company's common shares for the three months ended
June 30, 2006 was below the conversion and exercise price of the
preferred stock, warrants and options.
5 STOCKHOLDERS' EQUITY
AUTHORIZED CAPITAL STOCK - Authorized capital stock consists of 100,000,000
shares of $.01 par value common stock of which 1,358,242 shares are issued
11
(1,357,713 are outstanding) and 17,603,385 are reserved for issuance upon
exercise of common stock options and warrants and conversion of Series C
Cumulative Convertible Preferred Stock at June 30, 2006. Authorized
preferred stock totals 6,000,000 shares, of which 500,000 shares have been
designated Series A Preferred Stock, 600,000 shares have been designated
Series B Preferred Stock and 1,500 shares have been designated Series C
Cumulative Convertible Preferred Stock (823.95 shares were outstanding at
June 30, 2006). The Series C Preferred Stock has a liquidation value of
$10,000 per share, is entitled to a dividend of 10% per annum, payable in
cash or shares of our common stock at our option, which dividend rate is
subject to increase to 14% upon the occurrence of certain events. The
Series C Preferred Stock is redeemable at the holder's election in the
event the Company fails or refuses to convert any shares of Series C
Preferred Stock in accordance with the terms of the Certificate of
Designation, Rights and Preferences of the Series C Preferred Stock. The
number of shares of common stock into which each share of Series C
Preferred Stock is convertible is determined by dividing the liquidation
value per share plus all accrued and unpaid dividends thereon by $1.05.
During 1998, the Company's Board of Directors authorized the repurchase of
up to 23,809 shares of common stock at market price. The Company
repurchased no shares in 2003, 2004 and 2005. At June 30, 2006, 529
repurchased shares remain available for future use and 16,180 shares are
available to be repurchased.
STOCK SALES - In September 2003, the Company sold 108,420 shares of common
stock and warrants to purchase 21,684 shares of common stock to primarily
institutional investors. Gross proceeds were $3,246,000 ($2,971,505 net of
issuance costs) and were allocated between the common stock and the
warrants based on the relative fair value of the warrants and common stock.
In March 2004, the Company sold 128,619 shares of common stock and warrants
to purchase 25,723 shares of common stock to primarily institutional
investors. Gross proceeds were $7,292,700 ($6,681,274 net of issuance
costs) and were allocated between the common stock and the warrants based
on the relative fair value of the warrants and common stock. In April 2005,
the Company sold approximately 65,040 shares of common stock and warrants
to purchase 32,520 shares of common stock to institutional investors and to
certain executive officers and directors of the Company. Gross proceeds
were $815,000 ($601,342 net of cash issuance costs) and were allocated
between the common stock and the warrants based on the relative fair value
of the warrants and common stock. In December 2005, the Company sold 250
shares of Series C Cumulative Convertible Preferred Stock and warrants to
purchase 2,380,951 shares of common stock to institutional investors. Gross
proceeds were $2,500,000 ($2,125,943 net of cash issuance costs) and were
allocated between the Series C Cumulative Convertible Preferred Stock and
the warrants based on the fair value of the warrants. In February 2006, the
Company sold 575.5 shares of Series C Cumulative Convertible Preferred
Stock and warrants to purchase 5,480,961 shares of common stock to
institutional investors. Gross proceeds were $5,755,000 ($5,186,908 net of
cash issuance costs) and were allocated between the Series C Cumulative
Convertible Preferred Stock and the warrants based on the fair value of the
warrants.
WARRANTS - On February 13, 2006, the Company closed a private placement in
which institutional investors received six-year warrants to purchase
12
5,480,961 shares of the Company's common stock at an exercise price of
$1.26 per share. As of June 30, 2006, none of these $1.26 investor warrants
had been exercised. The placement agent in the transaction received a
warrant to purchase approximately 548,095 shares of common stock at a
purchase price of $1.05 for a period of six years. As of June 30, 2006,
none of these $1.05 placement agent warrants had been exercised. On
December 23, 2005, the Company closed a private placement in which
institutional investors received warrants to purchase 2,380,951 shares of
common stock at an exercise price of $1.26 per share for a period of six
years. As of June 30, 2006, none of these $1.26 investor warrants had been
exercised. The designees of the placement agent in this transaction
received warrants to purchase approximately 238,095 shares of common stock
at a purchase price of $1.05 for a period of five years. As of June 30,
2006, none of the $1.05 placement agent warrants had been exercised. In
accordance with EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock,"
the investor warrants are included as a liability and valued at fair market
value until the Company meets the criteria under EITF 00-19 for permanent
equity. The Company valued the investor warrants at $2,152,308 on June 30,
2006 using the Black-Scholes method with the following assumptions: a
risk-free interest rate of 4.82%, volatility of 100%, and a dividend yield
of 0%.
On April 19, 2005, the Company closed a private placement in which
institutional investors and certain executive officers and directors of the
Company received warrants to purchase approximately 32,520 shares of common
stock for a period of five years. The exercise price of the warrants is
$14.70 per share for the institutional investors and $21.84 for the
participating executive officers and directors. As of June 30, 2006,
approximately 6,012 of the $14.70 warrants issued to the institutional
investors had been exercised and none of the $21.84 warrants issued to
participating executive officers and directors had been exercised. The
placement agent in this transaction received a warrant to purchase
approximately 1,190 shares of common stock at a purchase price of $14.70
for a period of five years. As of June 30, 2006, none of the $14.70
warrants issued to the placement agent had been exercised.
During 2004, the Company conducted a private placement in which primarily
institutional investors received warrants to purchase an aggregate of
25,723 shares of common stock at a purchase price of $87.78 per share for a
period of five years. As of June 30, 2006, none of the $87.78 warrants had
been exercised.
During 2003, the Company conducted a private placement in which primarily
institutional investors received warrants to purchase an aggregate of
21,684 shares of common stock at a purchase price of $49.266 per share for
a period of three years. As of June 30, 2006, 9,011 of the $49.266 warrants
issued to the institutional investors had been exercised. The placement
agent in this transaction received a warrant to purchase 3,571 shares of
common stock at a purchase price of $49.266 for a period of three years. As
of June 30, 2006, none of the $49.266 warrants issued to the placement
agent had been exercised.
During 2001, institutional investors received warrants to purchase an
aggregate of 7,457 shares of common stock at a purchase price of $277.62
per share expiring in five years in connection with a private placement.
13
The warrants are callable by the Company if the closing price of the stock
is higher than $755.58 for 15 consecutive trading days at any time before
expiration. As a result of subsequent financing transactions, the exercise
price of these warrants has been adjusted to $277.62 in accordance with the
terms of the warrants. As of June 30, 2006, none of these warrants had been
exercised.
STOCK OPTION PLANS - The Company has two stock option plans, the 1994
Equity Incentive Plan (1994 Plan) and the 2001 Incentive Plan (the 2001
Plan).
Under the terms of the 1994 Plan, the Company may no longer award any
options. All options previously granted under the 1994 Plan may be
exercised at any time up to ten years from the date of award. During the
six-month period ended June 30, 2006, no options were granted or exercised
and 17,542 options were cancelled under the 1994 Plan.
Under the terms of the 2001 Plan, the Company may grant options to purchase
up to a maximum of 1,373,809 shares of common stock to certain employees,
directors and consultants. During the six months ended June 30, 2006, no
options were granted or exercised and 15,128 options were cancelled under
the 2001 Plan.
STOCK AND STOCK OPTION ISSUANCES OUTSIDE THE STOCK OPTION PLANS - During
the six months ended June 30, 2006, options to purchase an aggregate of
945,000 shares of common stock were granted to executive officers and
directors of the Company. One third of the options vested on the date of
grant and the remaining options vest over a two year period with an
exercise price of $1.62.
During the six months ended June 30, 2006, 75,000 shares of restricted
stock were granted to Robert J. DeLuccia, the Company's Chief Executive
Officer. The restricted stock vests if and when the Company's common stock
trades at or above $4.00 per share for thirty consecutive trading days.
(6) COMPREHENSIVE LOSS
Comprehensive loss is equal to the Company's net loss for the six months
ended June 30, 2006 and 2005.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
NOTE REGARDING FORWARD LOOKING STATEMENTS
This report and the documents incorporated in this report by reference may
contain "forward-looking statements" within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended (the "EXCHANGE Act"). These
statements may be identified by the use of forward-looking words or phrases such
as "anticipate," "believe," "could," "expect," "intend," "look forward," "may,"
"planned," "potential," "should," "will," and "would." These forward-looking
statements reflect our current expectations and are based upon currently
available data. The Private Securities Litigation Reform Act of 1995 provides a
"safe harbor" for such forward-looking statements. In order to comply with the
terms of the safe harbor, we note that a variety of factors could cause actual
results and experience to differ materially from the anticipated results or
other expectations expressed in the forward-looking statements. These factors
include, but are not limited to: our history of operating losses, our decision
to discontinue research and development activities and our need for additional
external financing; our need for significant additional product development
efforts and additional financing; technological uncertainty relating to
transdermal drug delivery systems; the early stage of development of our
proposed products; the lack of success of our prior development efforts;
uncertainties related to clinical trials of our proposed products; uncertainties
relating to government regulation and regulatory approvals; our dependence on
third parties for the FDA application process; uncertainties regarding market
acceptance of our product candidates; uncertainties regarding the potential
health risks of hormone replacement therapies; our ability to identify and
obtain rights to products or technologies in order to build our portfolio of
product candidates; our ability to recruit additional key employees; our limited
personnel and our dependence on continued access to scientific talent; no
assurance of our entering into license arrangements; our lack of laboratory
facilities and scientific personnel and uncertainties regarding our reliance on
third parties to conduct research and development activities for our
technologies and product candidates; uncertainties relating to competition,
patents and proprietary technology; our dependence on third parties to conduct
research and development activities; our dependence on third-party suppliers and
manufacturers; uncertainties relating to risks of product liability claims, lack
of product liability insurance, and expense and difficulty of obtaining adequate
insurance coverage; our majority shareholders, who own a large portion of our
voting stock, could control company decisions and could substantially lower the
market price of our common stock if they were to sell large blocks of our common
stock in the future; uncertainty of pharmaceutical pricing and related matters;
volatility of our stock price; the effect that our quotation on the OTC Bulletin
Board will have on the liquidity of our common stock; and dilution of our shares
as a result of our contractual obligation to issue shares in the future.
Additional information on these and other factors which could affect the
Company's actual results and experience are included in the Company's Annual
Report on Form 10-K for the year ended December 31, 2005 and, in particular, the
section entitled "Risk Factors".
These or other events or circumstances could cause our actual performance
or financial results in future periods to differ materially from those expressed
in the forward-looking statements. We undertake no obligation to make any
revisions to the forward-looking statements contained in this report or the
documents incorporated by reference in this report, or to update the
15
forward-looking statements to reflect events or circumstances occurring after
the date of this report.
GENERAL
On December 30, 2005 we implemented a 1-for-7 reverse stock split of our
common stock and on February 9, 2006 we implemented a subsequent 1-for-6 reverse
stock split of our common stock. Unless otherwise noted, data used throughout
this Quarterly Report on Form 10-Q has been adjusted to reflect these reverse
splits.
We are a specialty pharmaceutical company that develops and seeks to
commercialize pharmaceutical products. Currently, our portfolio of product
candidates is based on our proprietary drug delivery technologies: SEPA(R),
MacroDerm(TM) and DermaPass(TM). Our patented SEPA topical drug delivery
technology (SEPA is an acronym for "Soft Enhancement of Percutaneous
Absorption," where "soft" refers to the reversibility of the skin effect, and
"percutaneous" means "through the skin") enhances the efficiency and rate of
diffusion of drugs into and through the skin. Our patented MacroDerm drug
delivery technology encompasses a family of low to moderate molecular weight
polymers that impede dermal drug or chemical penetration. We have also filed a
patent application for our DermaPass family of transdermal absorption enhancers
that have a different drug delivery profile than SEPA, which we believe could be
used with a wider range of active pharmaceutical ingredients. Currently, we have
two clinical stage investigational new drugs: EcoNail, our lead product, for the
treatment of fungal infections of the nails and Opterone, for the treatment of
male hypogonadism. We believe that products incorporating our drug delivery
technologies may allow selected drugs to be administered more effectively and
with improved patient compliance compared to alternative methods of drug
administration, such as ingestion and injection.
Since inception, we have been engaged primarily in research and
development. We have not generated any meaningful revenues from operations and
we have sustained significant operating losses. We anticipate that we will
continue to incur significant losses for the foreseeable future. We cannot
guarantee that we will be successful in commercializing our products, or that we
will ever become profitable. As of June 30, 2006, we had an accumulated deficit
of $80,771,761. Our product candidates are in discovery or developmental stages
and must undergo a rigorous regulatory approval process, which includes costly
and extensive pre-clinical and clinical testing, to demonstrate safety and
efficacy before we can market any resulting product. To date, neither the FDA
nor any of its international equivalents has approved any of our product
candidates for marketing.
Our results of operations can vary significantly from year-to-year and
quarter-to-quarter, and depend, among other factors, on:
o the progress of clinical trials we conduct;
o the degree of our research, marketing and administrative efforts;
o our ability to raise additional capital; and
16
o the signing of licenses and product development agreements.
The timing of our revenues may not match the timing of our associated
product development expenses. To date, our research and development expenses
generally have exceeded our revenues in any particular period or fiscal year.
We expect to continue to spend significant amounts on developing and
seeking regulatory approval of our lead product, EcoNail. Ultimately, if we
receive regulatory approval for EcoNail, significant expenses may be incurred in
connection with its commercialization. In addition, we also plan to identify and
develop, internally, through in-licensing, or through other collaborative
arrangements, additional product candidates and technologies that fit within our
growth strategy. If we identify potential product candidates, we will incur
additional costs in connection with testing and seeking regulatory approval of
those product candidates.
We believe that our existing cash and cash equivalents and short term
investments of $6,527,627 as of June 30, 2006 will be sufficient to meet our
operating expenses and capital expenditure requirements for at least the next
twelve months.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist of:
o salaries and expenses for our research and development personnel;
o payments to consultants, investigators, contract research organizations
and manufacturers in connection with our pre-clinical and clinical
trials;
o costs associated with conducting our clinical trials;
o costs of developing and obtaining regulatory approvals; and
o allocable costs, including occupancy and depreciation.
Because a portion of our research and development expenses (including
employee payroll and related benefits, laboratory supplies, travel, dues and
subscriptions, temporary help costs, consulting costs and allocable costs such
as occupancy and depreciation) benefit multiple projects or our drug delivery
technologies in general, we do not track these expenses by project. On August
31, 2005, we discontinued all research and development activities and terminated
substantially all of our non-management personnel. For the three-month period
ended June 30, 2006, we spent $90,243 on research and development, including
$83,215 in costs associated with a clinical trial for EcoNail and $7,028 in
costs not specifically tracked to a project. For the three months ended June 30,
2005, we spent $739,008 on research and development, including $22,965 and
$111,739 in costs associated with our clinical trials for EcoNail and Opterone,
respectively, and $604,304 in costs not specifically tracked to a project. For
the six-month period ended June 30, 2006, we spent $156,225 on research and
development, including $147,847 in costs associated with a clinical trial for
EcoNail and $8,378 in costs not specifically tracked to a project. For the six
months ended June 30, 2005, we spent $1,769,068 on research and development,
including $195,434 and $327,434 in costs associated with our clinical trials for
EcoNail and Opterone, respectively, and $1,246,200 in costs not specifically
tracked to a project.
17
Each of our research and development programs is subject to risks and
uncertainties, including the requirement to seek regulatory approval, that are
outside of our control. Moreover, the product candidates identified in these
research and development programs, which currently are in developmental stages,
must overcome significant technological, manufacturing and marketing challenges
before they can be successfully commercialized. As a result of these risks and
uncertainties, we are unable to predict with any certainty the period in which
material net cash inflows from these projects could be expected to commence or
the completion date of these programs. For example, we are seeking a partner to
advance development of our Opterone product candidate. We cannot predict whether
our efforts to find a partner will be successful nor can we predict the manner
and timing in which any eventual partner may elect to pursue development of
Opterone. Moreover, we may elect not to develop Opterone further if we cannot
find a partner. In addition, these risks and uncertainties also prevent us from
estimating with any certainty the specific timing and future costs of our
clinical development programs, although historical trends at similarly situated
companies indicate that research and development expenses tend to increase in
later stages of clinical development. Our failure to obtain requisite
governmental approvals timely or at all will delay or preclude us from licensing
or marketing our products or limit the commercial use of our products, which
could adversely affect our business, financial condition and results of
operations.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. Marketing, general and
administrative expenses consist primarily of salaries and other related costs
for personnel, marketing and promotion, professional fees and facilities costs.
Assuming we are able to raise sufficient capital, we anticipate that marketing,
general and administrative expenses will increase over the next several years as
we begin, when appropriate, to license, partner, or market our product
candidates if and when they receive regulatory approval.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of
operations are based on our financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States of
America. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses. Note 1 to our financial statements included within our
Annual Report on Form 10-K for the year ended December 31, 2005, includes a
summary of the significant accounting policies and methods we use in the
preparation of our financial statements. The following is a brief discussion of
the more significant accounting policies and methods that affect the judgments
and estimates used in the preparation of our financial statements.
PATENT ASSETS. We defer costs and expenses incurred in connection with
pending patent applications. We amortize costs related to successful patent
applications over the estimated useful lives of the patents using the
straight-line method. We charge accumulated patent costs and deferred patent
application costs related to patents that are considered to have limited future
value to operations. Estimates we use to determine the future value of deferred
patent costs include analysis of potential market size, time and cost to
complete clinical trials, anticipated interest in our products and potential
value for licensing or partnering opportunities. We recognize revenues derived
18
or expected to be derived from the sale, assignment, transfer, or licensing of
patents or other intellectual property based upon the terms of the relevant
agreement.
WARRANTS LIABILITY. Based on certain terms in the warrants that we issued
in connection with the sale of our Series C Convertible Preferred Stock, we
determined that the warrants should be classified as a liability and valued at
fair market value in accordance with EITF 00-19, "Accounting for Derivatve
Financial Investments Indexed to, and Potentially Settled in, a Company's Own
Stock." We will continue to evaluate the warrants under EITF 00-19 to
determine when, if ever, they meet certain criteria under EITF 00-19 for
permanent equity.
RESULTS OF OPERATIONS
We had no revenues for the three-month and six month periods ending June
30, 2006 and June 30, 2005. For the year ending December 31, 2006, we do not
expect to have any revenues.
For the three-month period ended June 30, 2006, research and development
costs decreased by $648,765, or 87.8%, to $90,243 from $739,008 in the
three-month period ended June 30, 2005. The decrease is primarily attributable
to the temporary cessation of research and development activities in August
2005, including a reduction in spending on clinical trials of $51,489 in the
three-month period ended June 30, 2006 compared with the same period in 2005. In
addition, there was a reduction in payroll and related expenses of $246,409 and
a reduction in laboratory operating expenses of $334,528 in the three-month
period ended June 30, 2006. For the six-month period ended June 30, 2006,
research and development costs decreased by $1,612,843, or 91.2%, to $156,225
from $1,769,068 in the six-month period ended June 30, 2005. The decrease is
primarily attributable to the temporary cessation of research and development
activities in August 2005, including a reduction in spending on clinical trials
of $418,266 in the six-month period ended June 30, 2006 compared with the same
period in 2005. In addition, there was a reduction in payroll and related
expenses of $516,346 and a reduction in laboratory operating expenses of
$661,893 in the six-month period ended June 30, 2006 compared to the same period
in 2005. For each of the next two quarters, we expect research and development
spending to increase significantly from the level seen in the first two quarters
of 2006 as we expect to commence a clinical trial for EcoNail in the third
quarter of 2006.
For the three-month period ended June 30, 2006, marketing, general and
administrative costs increased by $167,280, or 20.7%, to $976,560, from $809,280
in the three-month period ended June 30, 2005. The increase is primarily
attributable to the Company's adoption of SFAS No. 123(R), which requires the
expensing of stock options granted to employees based on the fair value on the
date of the grant, resulting in an expense of $216,640. The Company also
incurred additional costs of $30,000 relating to certain SEC and other filings.
In addition, expenses relating to conferences and investor relations meetings
increased by approximately $50,000. The effect of these amounts on marketing,
general and administrative expenses for the three-month period ended June 30,
2006 was partially offset by savings attributable to a staff reduction in August
2005 which resulted in a reduction of salary and related expenses of $53,200
during the three-month period ended June 30, 2006. In addition, in the
three-month period ended June 30, 2006, legal and audit expenses decreased by
approximately $23,928 and patent and search fees decreased by approximately
$40,000. For the six-month period ended June 30, 2006, marketing, general and
administrative costs increased by $473,409, or 28.8%, to $2,117,687, from
$1,644,278 in the six-month period ended June 30, 2005. The increase is
primarily attributable to the Company's adoption of SFAS No. 123(R), which
19
requires the expensing of stock options granted to employees based on the fair
value on the date of the grant, resulting in an expense of $674,597. The Company
also incurred additional costs of $90,200 relating to certain SEC filings and
reverse stock splits. The effect of these amounts on marketing, general and
administrative expenses for the six-month period ended June 30, 2006 was
partially offset by savings attributable to a staff reduction in August 2005
which resulted in a reduction of salary and related expenses of $190,643 during
the six-month period ended June 30, 2006. In addition, in the six-month period
ended June 30, 2006, legal and audit expenses decreased by approximately
$36,900, insurance expenses decreased by approximately $12,000 and patent and
search fees decreased by approximately $40,000. For each of the next two
quarters, we expect marketing, general and administrative spending to
approximate the same level as seen in the second quarter of 2006.
For the three-month period ended June 30, 2006, other income increased by
$4,944,033 to $4,965,975 compared to $21,942 in the three-month period ended
June 30, 2005. This is primarily a non-cash increase as a result of a change in
the valuation of warrants in accordance with EITF 00-19, "Accounting for
Derivative Financial Instruments Indexed to, and Potentially Settled in, a
Company's Own Stock" to reflect a decline in price of our common stock for which
the warrants are exercisable. Application of EITF 00-19 resulted in a decrease
in the valuation of warrants of $4,892,565. Interest income for the three-month
period ended June 30, 2006 increased by $51,468 to $73,410 compared to interest
income of $21,942 in the three-month period ended June 30, 2005. The increase in
interest income is due to higher amounts of cash available for investing
purposes and higher interest rate returns available for cash that is invested.
For the six-month period ended June 30, 2006, other income increased by
$4,386,760 to $4,432,220 compared to $45,460 in the six-month period ended June
30, 2005. The increase is primarily the result of the valuation of warrants in
accordance with EITF 00-19, "Accounting for Derivative Financial Instruments
Indexed to, and Potentially Settled in, a Company's Own Stock." Application of
EITF 00-19 resulted in a net decrease in the valuation of warrants of
$4,313,068. Interest income for the six-month period ended June 30, 2006
increased by $73,692 to $119,152 compared to interest income of $45,460 in the
three-month period ended June 30, 2005. The increase in interest income is due
to higher amounts of cash available for investing purposes and higher interest
rate returns available for cash that is invested.
For the reasons described above, the Company's financial statements reflect
a net gain of $3,693,748 in the three-month period ended June 30, 2006 compared
with a net loss of $1,526,346 in the three-month period ended June 30, 2005. For
the six-month period ended June 30, 2006, the Company's financial statements
reflect a net gain of $1,801,337 compared with a net loss of $3,367,886 in the
six-month period ended June 30, 2005.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, our primary source of funding for our operations has been
the private and public sale of our securities, and, to a lesser extent, the
licensing of our proprietary technology and products, research collaborations,
feasibility studies, government grants and the limited sales of products and
test materials. During the first six months of 2006, we received no proceeds
from the exercise of options and warrants, and gross proceeds of $5,755,000
($5,186,908 net of cash issuance costs) as a result of the sale of our Series C
Cumulative Convertible Preferred Stock in a private placement financing
20
transaction. During the first six months of 2005, we received no proceeds from
the exercise of options and warrants or the sale of stock.
At June 30, 2006, working capital was approximately $6.5 million, compared
to $2.8 million at June 30, 2005. The increase in our working capital reflects
the receipt of private placement proceeds, partially offset by the use of funds
in operations. On February 13, 2006, we sold 575.5 shares of our Series C
Cumulative Convertible Preferred Stock for $5,755,000 in gross proceeds
($5,186,908 net of cash issuance costs) in a private placement to institutional
investors. The investors also received warrants to purchase 5,480,961 shares of
the Company's common stock at an exercise price of $1.26 per share. Until such
time as we obtain agreements with third-party licensees or partners to provide
funding for our anticipated business activities, or otherwise generate revenue
from the commercialization of our products, we will use our working capital to
fund our operating activities.
Pursuant to a plan approved by our Board of Directors in 1998, we are
authorized to repurchase 23,809 shares of our common stock to be held as
treasury shares for future use. During the six-month period ended June 30, 2006,
we did not repurchase any shares of common stock. At June 30, 2006, 529
repurchased shares remain available for future use and 16,180 shares remain
available for repurchase under the plan.
Capital and patent development expenditures were $36,169 for the first six
months of 2006. Capital and patent development expenditures were $50,121 for the
six-month period ended June 30, 2005. We anticipate additional capital and
patent expenditures will be approximately $50,000 for the remainder of the
fiscal year ending December 31, 2006.
On August 31, 2005, at the direction of our Board of Directors, we
discontinued all research and development activities and terminated
substantially all of our non-management personnel. We made payments of
approximately $156,839 in connection with this staff reduction and related
expenses. In September 2005, the Company entered into transition agreements with
its executive officers. The transition agreements terminated the existing
employment and severance agreements between the Company and each executive.
Pursuant to the terms of the transition agreements, the executives agreed that
they would remain employed by the Company until November 30, 2005. Three
executives executed amendments to their transition agreements extending their
employment through December 31, 2005 and beyond. We made payments of
approximately $709,646 in connection with all executive transition agreements.
We also made aggregate payments of approximately $35,000 on November 30, 2005
and $35,000 on December 15, 2005 under a separate provision of the transition
agreements. There are no further payments due as a result of the staff reduction
or under the transition agreements. As disclosed in our Annual Report on Form
10-K for the period ended December 31, 2005, we entered into employment
agreements of indefinite length with our three remaining executive officers on
February 13, 2006.
As of June 30, 2006, we had $6,527,627 in cash, cash equivalents and
short-term investments. We believe that our existing cash and cash equivalents
will be sufficient to meet our operating expenses and capital expenditure
requirements for at least the next twelve months. Our cash requirements may vary
materially from those now planned because of changes in the focus and direction
of our research and development programs, competitive and technical advances,
21
patent developments or other developments. We will require additional financing
to continue operations after we exhaust our current capital resources and to
continue our long-term plans for clinical trials and new product development. We
expect to continue financing our operations through sales of our securities,
strategic alliances or other financing vehicles, if any, that might become
available to us on terms that we deem acceptable.
We do not enter into financial instrument transactions for trading or
speculative purposes. We do not intend to establish any special purpose entity
and do not have any material off balance sheet financing transactions. We do not
believe that inflation will have any significant effect on the results of our
operations.
As described in our current report on Form 8-K filed on July 25, 2006, we
entered into a 20-month sublease of approximately 4,000 square feet of office
space at, and relocated our principal executive offices to, 40 Washington St.,
Suites 220 and 240, Wellesley Hills, Massachusetts, 02481, effective as of June
1, 2006. Our new telephone number is (781) 489-7310. At June 30, 2006, with the
exception of this sublease, the Company had no long-term contractual
obligations.
RECENT ACCOUNTING PRONOUNCEMENTS
In May 2005, the FASB issued Statement of Financial Accounting Standards
No. 154, "Accounting Changes and Error Corrections, a replacement of APB Opinion
No. 20, Accounting Changes and FASB Statement No. 3, Reporting Accounting
Changes in Interim Financial Statements" ("SFAS No. 154"). SFAS No. 154 provides
guidance on the accounting for and reporting of accounting changes and error
corrections. It establishes, unless impracticable, retrospective application as
the required method for reporting a change in accounting principle in the
absence of explicit transition requirements specific to the newly adopted
accounting principle. SFAS No. 154 also provides guidance for determining
whether retrospective application of a change in accounting principle is
impracticable and for reporting a change when retrospective application is
impracticable. The provisions of SFAS No. 154 are effective for accounting
changes and corrections of errors made in fiscal periods beginning after
December 15, 2005. The adoption of the provisions of SFAS No. 154 is not
expected to have a material impact on the Company's financial position or
results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
As of June 30, 2006, we were exposed to market risks, which relate
primarily to changes in U.S. interest rates. Our cash equivalents and short-term
investments are subject to interest rate risk and will decline in value if
interest rates increase. Due to the short duration of these financial
instruments, generally one year or less, changes in interest rates would not
have a material effect on our financial position. A hypothetical 10% change in
interest rates would not have a material effect on our Statement of Operations
or Cash Flows for the six months ending June 30, 2006.
22
ITEM 4. CONTROL AND PROCEDURES
As of the end of the period covered by this report, we carried out a
review, under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of our disclosure controls and procedures (as defined in the SEC
rules promulgated under the Securities Exchange Act of 1934, as amended), which
are designed to ensure that information required to be disclosed in our
Securities and Exchange Commission reports is properly and timely recorded,
processed, summarized and reported. Based upon that review, our Chief Executive
Officer and Chief Financial Officer concluded that while our disclosure controls
and procedures are effective in timely alerting them to material information
required to be included in our periodic filings with the Securities and Exchange
Commission, there is a lack of segregation of duties at the Company due to the
small number of employees dealing with general administrative and financial
matters. This constitutes a significant deficiency in financial reporting.
However, at this time management has decided that, considering the employees
involved and the control procedures in place, the risks associated with such
lack of segregation are insignificant, and the potential benefits of adding
additional employees to clearly segregate duties do not justify the expenses
associated with such increases. Management will continue to evaluate this
segregation of duties.
There were no changes in our internal control over financial reporting that
occurred during the quarter ended June 30, 2006 that have materially affected,
or are reasonably likely to materially affect, our internal control over
financial reporting.
23
PART II - OTHER INFORMATION
ITEM 1A. RISK FACTORS.
The following updates and supplements the risk factors included in Item 1A of
Part I of our Annual Report on Form 10-K for the year ended December 31, 2005.
Other than as set forth below, there have been no material changes to the risk
factors included in Item 1A of Part I of our Annual Report on Form 10-K for the
year ended December 31, 2005.
OUR INDUSTRY IS HIGHLY COMPETITIVE AND OUR COMPETITORS HAVE OR MAY HAVE
SIGNIFICANTLY MORE RESOURCES THAN WE HAVE.
We compete with a number of firms, many of which are large, multi-national
organizations with worldwide distribution. We believe that our major competitors
in the drug delivery sector of the health care industry include Bentley
Pharmaceuticals, Inc., Biosante Pharmaceuticals, Inc., NexMed, Inc., ALZA
Corporation, Connetics Corporation, Antares Pharma, Inc. and Barrier
Therapeutics, Inc. Competitors with approved products in the therapeutic areas
that our clinical stage product candidates seek to address include, with respect
to onychomycosis:
o Novartis AG, maker of Lamisil(R), an oral therapy;
o Johnson & Johnson, maker of Sporanox(R), an oral therapy; and
o Sanofi Aventis (Dermik Laboratories), maker of Penlac(R), a topical nail
lacquer.
and with respect to male hypogonadism:
o Solvay Pharmaceuticals, Inc., maker of Androgel(R), a topical gel
therapy;
o Auxilium Pharmaceuticals, Inc., maker of Testim(R), a topical gel
therapy;
o Watson Pharmaceuticals, Inc., maker of Androderm(R), a transdermal patch;
and
o Columbia Laboratories, Inc., maker of Striant(R), a buccal film which is
placed between the patient's cheek and gum;
A number of other companies, including Nexmed, Inc., MediQuest
Therapeutics, Inc. and Anacor Pharmaceuticals, Inc., are also developing topical
and/or oral therapies for onychomycosis. In addition, a number of other
companies, including Auxilium Pharmaceuticals, Inc., are also developing topical
and/or transmucosal testosterone products.
These companies have or may have substantially greater capital resources,
research and development and technical staff, facilities and experience in
obtaining regulatory approvals, as well as in manufacturing, marketing and
distributing products, than we do. Recent trends in this industry are toward
further market consolidation of large drug companies into a smaller number of
very large entities, further concentrating financial, technical and market
strength and increasing competitive pressure in the industry. Academic
institutions, hospitals, governmental agencies and other public and private
research organizations also are conducting research and seeking patent
protection and may develop competing products or technologies of their own
through joint ventures or other arrangements. In addition, recently developed
technologies, or technologies that may be developed in the future, may or could
be the basis for competitive products which may be more effective or less costly
to use than any products that we currently are developing.
24
We expect any future products approved for sale to compete primarily on the
basis of product efficacy, safety, patient compliance, reliability, price and
patent position. Generally, the first pharmaceutical product to reach the market
in a therapeutic or preventive area often has a significant commercial advantage
compared with later entrants to the market. Our competitive position also will
depend on our ability to resume research and development activities, engage
third parties to conduct research and development activities, attract and retain
qualified scientific and other personnel, develop effective proprietary
products, implement production and marketing plans, obtain patent protection and
secure adequate capital resources.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company's Annual Meeting of Stockholders was held on May 18, 2006. At the
meeting (i) all seven director nominees were elected, (ii) the appointment of
Vitale, Caturano & Company, Ltd. as the Company's independent registered public
accounting firm was ratified, and (iii) amendments to the Company's 2001
Incentive Plan to increase the number of shares of Common Stock authorized for
issuance under the Incentive Plan by 1,250,000, were approved.
(i) The following directors were elected for one year terms by the
votes indicated:
Robert J. DeLuccia, 4,286,260 for, 57,513 against or withheld;
John L. Zabriskie, 4,290,247 for, 53,526 against or withheld;
Peter G. Martin, 4,291,047 for, 52,726 against or withheld;
Jeffrey B. Davis, 4,289,546 for, 54,227 against or withheld;
Michael A. Davis, 4,290,432 for, 53,341 against or withheld;
Paul S. Echenberg, 4,291,082 for, 52,691 against or withheld;
and Howard S. Fischer, 4,291,136 for, 52,637 against or
withheld.
(ii) The appointment of Vitale, Caturano & Company, Ltd. was ratified
by a vote of 4,287,867 for, 7,169 against and 48,735 abstaining.
(iii) Amendments to the Company's 2001 Incentive Plan to increase the
number of shares of Common Stock authorized for issuance under the
Incentive Plan by 1,250,000 were approved by vote of 3,606,899
for, 83,011 against, 46,631 abstaining and 607,230 broker
non-votes.
ITEM 6. EXHIBITS.
The following is a list of exhibits to this Quarterly Report on Form 10-Q:
3.1 Amended and Restated Certificate of Incorporation, incorporated by
reference to Exhibit 3.1 to the Company's Annual Report on Form 10-K
for the year ended December 31, 2005 (File No. 0-13634).
3.2 Amended and Restated By-Laws of the Company, incorporated by
reference to Exhibit 5 to the Company's Current Report on Form 8-K
dated August 13, 1999 (File No. 0-13634).
25
10.1 Sublease, dated as of May 23, 2006, by and between MacroChem
Corporation and Lincoln Technologies, Inc., incorporated by reference
to Exhibit 10.1 to our Current Report on Form 8-K dated July 25, 2006
(File No. 0-13634).
31.1 Certification of Principal Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Principal Financial Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Principal Executive Officer Pursuant to Section
1350, Chapter 63 of Title 18, United States Code, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Principal Financial Officer Pursuant to Section
1350, Chapter 63 of Title 18, United States Code, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MACROCHEM CORPORATION
(Registrant)
August 14, 2006 /S/ ROBERT J. DELUCCIA
------------------------------------
Robert J. DeLuccia
President and Chief Executive Officer
(Principal Executive Officer)
/S/ BERNARD R. PATRIACCA
-------------------------------------
Bernard R. Patriacca
Vice President, Chief Financial Officer and Treasurer
(Principal Financial Officer)
27
EXHIBIT INDEX
The following is a list of exhibits to this Quarterly Report on Form 10-Q:
3.1 Amended and Restated Certificate of Incorporation, incorporated by
reference to Exhibit 3.1 to the Company's Annual Report on Form 10-K
for the year ended December 31, 2005 (File No. 0-13634).
3.2 Amended and Restated By-Laws of the Company, incorporated by
reference to Exhibit 5 to the Company's Current Report on Form 8-K
dated August 13, 1999 (File No. 0-13634).
10.1 Sublease, dated as of May 23, 2006, by and between MacroChem
Corporation and Lincoln Technologies, Inc., incorporated by reference
to Exhibit 10.1 to our Current Report on Form 8-K dated July 25, 2006
(File No. 0-13634).
31.1 Certification of Principal Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Principal Financial Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Principal Executive Officer Pursuant to Section
1350, Chapter 63 of Title 18, United States Code, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Principal Financial Officer Pursuant to Section
1350, Chapter 63 of Title 18, United States Code, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
28
EXHIBIT 31.1
CERTIFICATION PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
CERTIFICATIONS
I, Robert J. DeLuccia, certify that:
1. I have reviewed this quarterly report on Form 10-Q of MacroChem
Corporation;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and we have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
29
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
Date: AUGUST 14, 2006
/S/ ROBERT J. DELUCCIA
-------------------------------------
Robert J. DeLuccia
President and Chief Executive Officer
30
EXHIBIT 31.2
CERTIFICATION PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
CERTIFICATIONS
I, Bernard R. Patriacca, certify that:
1. I have reviewed this quarterly report on Form 10-Q of MacroChem
Corporation;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and we have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
31
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
Date: AUGUST 14, 2006
/S/ BERNARD R. PATRIACCA
---------------------------------------
Bernard R. Patriacca
Vice President, Chief Financial Officer
and Treasurer
32
EXHIBIT 32.1
CERTIFICATION PURSUANT TO
SECTION 1350, CHAPTER 63 OF TITLE 18, UNITED STATES CODE,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned, as
chief executive officer of MacroChem Corporation (the "Company"), does hereby
certify that to the undersigned's knowledge:
1) the Company's Quarterly Report on Form 10-Q for the period ended June 30,
2006 as filed with the Securities and Exchange Commission (the "FORM 10-Q")
fully complies with the requirements of Section 13(a) or 15(d) of
the Securities Exchange Act of 1934; and
2) the information contained in the Company's Form 10-Q fairly presents, in
all material respects, the financial condition and results of operations of
the Company.
/S/ ROBERT J. DELUCCIA
--------------------------------------
Robert J. DeLuccia
President and Chief Executive Officer
Dated: AUGUST 14, 2006
A signed original of this written statement required by Section 906 has been
provided to MacroChem Corporation and will be retained by MacroChem Corporation
and furnished to the Securities and Exchange Commission or its staff upon
request.
33
EXHIBIT 32.2
CERTIFICATION PURSUANT TO
SECTION 1350, CHAPTER 63 OF TITLE 18, UNITED STATES CODE,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned, as
chief financial officer of MacroChem Corporation (the "Company"), does hereby
certify that to the undersigned's knowledge:
1) Company's Quarterly Report on Form 10-Q for the period ended June 30, 2006
as filed with the Securities and Exchange Commission (the "FORM 10-Q")
fully complies with the requirements of Section 13(a) or 15(d) of the
Securities Exchange Act of 1934; and
2) the information contained in the Company's Form 10-Q fairly presents, in
all material respects, the financial condition and results of operations of
the Company.
/S/ BERNARD R. PATRIACCA
---------------------------------------
Bernard R. Patriacca
Vice President, Chief Financial Officer
and Treasurer
Dated: AUGUST 14, 2006
A signed original of this written statement required by Section 906 has been
provided to MacroChem Corporation and will be retained by MacroChem Corporation
and furnished to the Securities and Exchange Commission or its staff upon
request.
34