UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2006
[ ] 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 of (I.R.S. Employer
incorporation or organization) Identification No.)
40 WASHINGTON STREET, SUITE 220
WELLESLEY HILLS, MASSACHUSETTS 02481
(Address of principal executive offices)
(781) 489-7310
(Telephone number)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
TITLE OF CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
- -------------- -----------------------------------------
Common Stock, $.01 par value N/A
Series B Preferred Stock Purchase N/A
Rights, $.01 par value
Indicate by check mark if the registrant is a well-known seasoned issuer,
as defined in Rule 405 of the Securities Act.
Yes No X
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act.
Yes No X
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]
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. (Check
one):
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 Act). Yes No X -------- ------
As of June 30, 2006, the aggregate market value of common stock held by
non-affiliates of the registrant approximated $877,322 based upon the closing
price of the common stock as reported on the Nasdaq Capital Market as of the
close of business on that date. Shares of common stock held by each executive
officer and director and by each entity that owns 10% or more of the outstanding
common stock have been excluded in that such persons may be deemed to be
affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
AS OF MARCH 19, 2007, 2,849,534 SHARES OF COMMON STOCK, $.01 PAR VALUE,
WERE OUTSTANDING.
Portions of the Registrant's proxy statement relating to the 2007 Annual
Meeting of Shareholders are incorporated into Part III of this Form 10-K.
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PART I
ITEM 1. BUSINESS.
NOTE REGARDING FORWARD LOOKING STATEMENTS: THIS ANNUAL REPORT ON FORM 10-K
CONTAINS "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE
SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT"), AND 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 ON CURRENTLY AVAILABLE
DATA. THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 PROVIDES A "SAFE
HARBOR" FOR SUCH FORWARD-LOOKING STATEMENTS. FORWARD LOOKING STATEMENTS INVOLVE
RISKS AND UNCERTAINTIES AND OUR ACTUAL RESULTS MAY DIFFER SIGNIFICANTLY FROM THE
RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. FACTORS THAT MIGHT CAUSE
SUCH A DIFFERENCE INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED OR REFERRED
TO IN THE SECTION ENTITLED "RISK FACTORS". READERS ARE CAUTIONED NOT TO PLACE
UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS, WHICH SPEAK ONLY AS OF THE
DATE HEREOF. WE UNDERTAKE NO OBLIGATION TO UPDATE PUBLICLY ANY FORWARD-LOOKING
STATEMENTS, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR OTHERWISE.
ALL SUBSEQUENT WRITTEN AND ORAL FORWARD-LOOKING STATEMENTS ATTRIBUTABLE TO THE
COMPANY OR PERSONS ACTING ON ITS BEHALF ARE EXPRESSLY QUALIFIED IN THEIR
ENTIRETY BY THESE CAUTIONARY STATEMENTS. READERS ARE ALSO URGED TO CAREFULLY
REVIEW AND CONSIDER THE VARIOUS DISCLOSURES MADE BY THE COMPANY, IN THIS
DOCUMENT, AS WELL AS THE COMPANY'S PERIODIC REPORTS ON FORMS 10-K, 10-Q AND 8-K
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ("SEC").
MacroChem's Internet address is www.macrochem.com, and the Company
maintains a website at that address. MacroChem makes available, on or through
its Internet website, without charge, its annual reports on Form 10-K, quarterly
reports on Form 10-Q, current reports on Form 8-K, and amendments to those
reports as soon as reasonably practicable after filing them electronically with
the SEC.
The business of MacroChem Corporation is further described in Part II, Item
7, "Management's Discussion and Analysis of Financial Condition and Results of
Operation", which should be read in conjunction with the accompanying financial
statements and related footnotes.
In this Annual Report on Form 10-K, we use the terms "MacroChem", the
"Company", "we", "us" and "our" to refer to MacroChem Corporation. We were
organized and commenced operations as a Massachusetts corporation in 1981 and we
were reincorporated as a Delaware corporation on May 26, 1992. Our principal
executive offices are located at 40 Washington Street, Suite 220, Wellesley
Hills, Massachusetts 02481 and our phone number is (781) 489-7310.
SEPA(R), Opterone(R) and Topiglan(R) are registered trademarks of MacroChem
Corporation. EcoNail(TM), MacroDerm(TM) and DermaPass(TM) are trademarks of
MacroChem Corporation.
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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 Annual Report on Form 10-K has been adjusted to reflect these reverse
splits.
OVERVIEW
We are a specialty pharmaceutical company that develops and seeks to
commercialize pharmaceutical products. Currently, our portfolio of proprietary
product candidates is based on our drug delivery technologies: SEPA, MacroDerm
and DermaPass. Our 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 of the technology, and "percutaneous" means
"through the skin") enhances the efficiency and rate of diffusion of drugs into
and through the skin. Our composition of matter patent on the SEPA family of
compounds expired in November 2006. We own five composition of matter and use
patents, with expiration dates ranging from 2015 to 2019, for the combination of
SEPA with numerous existing classes of drugs, including antifungals and human
sex hormones. Our patented MacroDerm drug delivery technology encompasses a
family of low to moderate molecular weight polymers that impede dermal drug or
chemical penetration, which may be usable, for example, to prevent chemicals in
insect repellant from penetrating the skin. We own three patents covering the
composition of matter and methods of use of our MacroDerm polymers that expire
in 2015. 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.
Our lead product candidate is EcoNail, a topically applied SEPA-based
econazole lacquer for the treatment of onychomycosis, a condition commonly known
as nail fungus. Econazole, a commercially available topical antifungal agent
most commonly used to treat fungal skin infections, inhibits in vitro growth of
the fungi most commonly implicated in onychomycosis. When used in EcoNail, SEPA
works by allowing more rapid and complete release of econazole from the lacquer
into and through the nail plate. In a pre-clinical study using human cadaver
nails, EcoNail delivered through the nail more than 14,000 times the minimum
concentration of econazole needed to inhibit the fungi most commonly associated
with onychomycosis. Following our laboratory studies, we conducted a randomized,
double blind controlled Phase 1 tolerance/human exposure trial of EcoNail in
nineteen patients with onychomycosis of the toenails. In this study, EcoNail was
well tolerated, and investigators reported no serious drug-related adverse
events. Serum assays used to determine the level of drug in the bloodstream
showed no detectable levels of econazole, further supporting EcoNail's systemic
safety profile. Full data from the 18-week trial were presented in May 2005 at
the annual meeting of the Society for Investigative Dermatology. We have a
composition of matter and use patent covering EcoNail that will expire in 2019.
We commenced a Phase 2 efficacy study of EcoNail in the third quarter of
2006. This study is being conducted through a contract research organization
with significant experience in onychomycosis trials.
Our other clinical stage product candidate, Opterone, is a topically
applied SEPA-based testosterone cream designed to treat male hypogonadism. Male
hypogonadism is a condition in which men have levels of circulating testosterone
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below the normal range and may exhibit one or more associated symptoms,
including low energy levels, decreased sexual performance, loss of sex drive,
increased body fat or loss of muscle mass. We believe Opterone has significant
advantages over other testosterone delivery methods and that its formulation as
a cream should avoid an oily feel as well as application and cosmetic concerns
reported by some users of gel formulations. To the best of our knowledge,
Opterone is the first and only clinical development stage testosterone cream in
the U.S. In August 2004, we announced the completion of a pharmacokinetics study
of Opterone in hypogonadal males. In May 2005, we announced results from a
bioavailability study of Opterone. In that study, patients using a 2.5 gram dose
of Opterone applied to the upper arms and shoulders reached the natural
physiologic range of testosterone levels over a 24-hour period. In December
2005, we received a letter from the Division of Reproductive and Urologic
Products of the U.S. Food and Drug Administration, or FDA, in response to
questions posed by us regarding a proposed Phase 3 clinical program for
Opterone. In the letter, the FDA requested that we conduct additional
investigation into multiple dose safety and pharmacokinetics before beginning
any eventual Phase 3 protocol. The additional investigation and Phase 3
revisions will increase the time and expense associated with the development of
Opterone. The next step in the development process for Opterone is a Phase 2
trial. We are seeking a partner to advance development of this product
candidate. We may elect not to develop Opterone further if we cannot find a
partner. We have a composition of matter and use patent covering Opterone that
will expire in 2017.
In addition to EcoNail and Opterone, we are evaluating several earlier
stage product candidates. We have developed and tested SEPA-based formulations
to deliver other active pharmaceutical ingredients including topical anesthetic
and topical non-steroidal anti-inflammatory drugs (NSAIDs). We have also tested
application of our MacroDerm polymers for use with cosmetics, pharmaceuticals
and consumer products like insect repellants and sunscreens to decrease skin
penetration and/or improve persistence on the skin. For example, our laboratory
data demonstrated that, when formulated with the insect repellant DEET,
increasing concentrations of MacroDerm reduces the amount of DEET that is
absorbed through human skin. We have performed initial laboratory experiments to
test the ability of DermaPass to improve transdermal delivery of various active
pharmaceutical ingredients.
Since inception, our primary source of funding for our operations has been
the private and public sale of our securities. Our ability to continue
operations after our current capital resources are exhausted depends on our
ability to secure additional financing and to become profitable, which we cannot
guarantee.
OUR STRATEGY
Our strategy is to become a leading provider of specialty pharmaceuticals
by innovating, developing and commercializing a portfolio of proprietary
products through the use of our drug delivery technologies, strategic
partnering, or in-licensing other products or technologies. Key elements of our
strategy include:
o CONTINUE CLINICAL DEVELOPMENT OF OUR LEAD PRODUCT CANDIDATE, ECONAIL. In
the near-term, we intend to focus most of our resources on conducting and
completing clinical trials of our EcoNail product candidate.
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o CREATE VALUE THROUGH STRATEGIC PARTNERSHIPS. Where appropriate, we intend
to seek partners to facilitate the development and commercialization of our
product candidates.
o IN-LICENSE SELECTED PRODUCTS AND TECHNOLOGIES. We intend to identify and in
license products and technologies to complement and expand our portfolio of
product candidates.
o LEVERAGE AND EXPAND OUR EXISTING TECHNOLOGIES TO DEVELOP NEW PRODUCTS. We
believe pharmaceuticals and certain other commercial products used on the
skin may be formulated using our drug delivery technologies and could have
applications in the treatment of other diseases and conditions. We will
seek to identify new product candidates by selecting and developing
additional pharmaceuticals and skin products that can be combined
effectively with our technologies.
OUR DRUG DELIVERY TECHNOLOGIES
To be effective, drugs must reach an intended site in the body, at an
effective concentration, and for an appropriate length of time. Currently, the
vast majority of drugs are administered either orally or by injection. However,
there are numerous drugs for which these modes of administration are not well
suited. For example, oral administration of certain drugs may result in
irritation of the gastro-intestinal tract or undesirable rapid first pass
metabolism. First pass metabolism, which refers to the chemical breakdown of
compounds in the liver and gastro-intestinal tract, can result in a significant
reduction in the amount of drug reaching its intended site of activity in the
body. In some cases, liver damage may occur due to the toxicities associated
with the breakdown of a particular drug. In the case of injectable drugs,
administration may be painful and in many cases requires frequent and costly
office visits to treat chronic conditions.
One alternative method of administering drugs is topical delivery. Topical
delivery works by either introducing drugs into the skin (dermal delivery) for
the treatment of dermatologic or localized conditions and diseases, or through
the skin (transdermal delivery) and into the bloodstream for the treatment of
systemic conditions and diseases. Topical drug delivery has several advantages.
For example, topical drug delivery:
o helps to avoid inactivation of a drug caused by first pass metabolism in
the liver and gastro-intestinal tract;
o can provide local delivery of appropriate concentrations of a drug to the
intended site of action without systemic exposure;
o helps avoid gastro-intestinal distress caused by ingesting a drug; and
o simplifies drug administration to patients who have difficulty swallowing
oral dosage forms or who do not wish to endure the discomfort of
injections.
SEPA DRUG DELIVERY TECHNOLOGY
Delivering drug molecules through the skin is challenging. The skin
naturally serves as the primary barrier that prevents outside organisms,
chemicals and toxins from easily entering the body. Human skin is made up of two
layers: the outer layer or epidermis (which includes the stratum corneum) and
the inner layer or dermis. The stratum corneum acts as the main barrier to drug
delivery. The stratum corneum consists of corneocytes, which are dead, flattened
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skin cells filled with keratin, and a lipid matrix, which is made up of
multi-layered oily molecules that hold the corneocytes together in a sheet.
Our SEPA drug delivery technology is a family of compounds that can enhance
the transport, penetration and controlled delivery of a wide range of drugs
through the skin. We have chosen SEPA 0009, a member of the SEPA family, for
clinical development. SEPA enhances transdermal drug delivery by temporarily and
reversibly disrupting the alignment of the lipid bilayer within the lipid matrix
in the stratum corneum. This disruption renders the skin temporarily permeable,
allowing a drug to diffuse through the stratum corneum in the epidermis, and
then into and through the dermis, where it can enter the bloodstream through the
capillaries.
SEPA possesses the following attributes:
o REVERSIBLE: The alignment of the lipid bilayer within the lipid matrix in
the stratum corneum reverts back to normal after SEPA has diffused through
it without causing permanent changes to the skin.
o RAPIDLY METABOLIZED: The human body rapidly metabolizes SEPA into ethylene
glycol and decanoic acid, two metabolites well understood by regulatory
agencies.
o CHEMICALLY NON-REACTIVE: SEPA does not react chemically with most other
organic molecules and, as a result, is compatible with a wide range of
active pharmaceutical ingredients.
o VERSATILE: The rate and amount of drug absorbed by the skin or body in a
SEPA-based formulation can be controlled by varying the components in the
formulation.
SEPA, when properly combined with active pharmaceutical ingredients, may
provide for a variety of convenient and easy-to-apply formulations, including
creams, gels, ointments, lacquers and solutions for the treatment of a wide
range of systemic and localized conditions. We believe that products
incorporating SEPA 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.
MACRODERM DRUG DELIVERY TECHNOLOGY
For chemicals that penetrate the skin too readily or that can be toxic if
significantly absorbed into the bloodstream, it may be desirable to retard the
rate of drug absorption to achieve an optimal delivery profile. For these
chemicals, we have developed our second drug delivery technology, called
MacroDerm, encompassing a series of low to moderate molecular weight polymers
that impede drug penetration through the skin. We believe MacroDerm may have
uses in cosmetics, personal care products and selected pharmaceuticals.
Potential applications include their formulation with sunscreens, moisturizers
and insect repellents to decrease skin penetration and improve persistence on
the skin. We have synthesized MacroDerm prototypes and we are seeking strategic
partners to evaluate, manufacture and market specific MacroDerm products.
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NEW TRANSDERMAL DRUG DELIVERY TECHNOLOGY
We have also filed a patent application for DermaPass, a new family of
enhancers that we believe can be used with a wider variety of active
pharmaceutical ingredients than SEPA. We have performed initial laboratory
experiments to test the ability of DermaPass to improve transdermal delivery of
various active pharmaceutical ingredients.
OUR LEAD PRODUCT CANDIDATE: ECONAIL FOR ONYCHOMYCOSIS
Onychomycosis, a fungal infection of the nail, is predominantly an
infection of the toe nail bed and nail plate underlying the surface of a nail.
Typical symptoms of onychomycosis can include:
o nail discoloration;
o nail thickening;
o cracking and fissuring of the nail plate; and
o in severe cases, inflammation, pain and secondary infection of the nail bed
and adjacent skin.
According to FITZPATRICK'S DERMATOLOGY IN GENERAL MEDICINE (SIXTH EDITION),
onychomycosis is a common disease, the prevalence of which varies by geographic
region and ranges from approximately 2% to 18% of the worldwide population, with
up to 48% of the population experiencing onychomycosis at least once by age 70.
According to an article published in 2000 in the JOURNAL OF THE AMERICAN ACADEMY
OF DERMATOLOGY, a large scale study found that the prevalence of onychomycosis
in the normal population of North America was approximately 14%.
CURRENT TREATMENTS AND THEIR SHORTCOMINGS
Current treatment options for onychomycosis include oral drugs, debridement
(filing, trimming and scraping), nail avulsion (surgical or chemical excision of
the infected nail plate) and topical drug therapies. There are two oral
therapies marketed for the treatment of onychomycosis in the U.S.: Lamisil
(terbinafine) and Sporanox (itraconazole). The leading oral treatment, Lamisil,
has a complete cure rate of approximately 38%, but also has a 15% relapse rate.
Sporanox has a complete cure rate of approximately 14%. Complete cure refers to
mycological cure, or simultaneous occurrence of a negative KOH (a potassium
hydroxide staining method for direct microscopic examination of nail scrapings)
and a negative fungal culture, plus clinical cure, or clearance of all signs of
infection. One risk associated with each of the oral treatments, both of which
undergo substantial first pass metabolism by the liver, is liver disease. As a
result, patients must continually monitor their liver function for signs of
failure, including fatigue, anorexia, nausea and/or vomiting, jaundice, dark
urine or pale stools. Such monitoring typically requires blood tests and
associated office visits, which can impact patient compliance. In the rare case
that liver failure occurs, it can result in death or the need for a liver
transplant. Mechanical debridement, which is a traditional podiatric approach to
onychomycosis that reduces the thickness of the nail, is not a cure for
onychomycosis and requires time, specialized instruments and experience. Nail
avulsion, which requires surgical or chemical removal of the nail plate causes
discomfort and traumatizes the nail bed.
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TOPICAL ADMINISTRATION
The only topical onychomycosis drug currently marketed in the U.S. is
Penlac(R) (ciclopirox), a nail lacquer which has a complete cure rate of less
than 10% and requires up to 48 weeks of treatment, including periodic removal of
any unattached infected nail by a health care professional.
THE ECONAIL APPROACH
Topically delivered lacquer formulations, like EcoNail, have specific
advantages over other existing oral treatments because they are applied like
nail polish, treat fungal nail infections locally, and facilitate close and
extended contact between an antifungal drug and the outer, or dorsal, nail
surface. Developers of topical nail lacquers for onychomycosis face two major
challenges. First, lacquers with acceptable hardness, durability and drying time
tend not to release antifungal drugs from the lacquer matrix readily. Second,
most antifungal drugs do not penetrate into the deep, or ventral, nail plate
adequately when applied to the outer, or dorsal, nail surface, which results in
insufficient antifungal concentrations at the site of infection.
EcoNail is a topically applied lacquer formulation containing econazole and
SEPA for the topical treatment of onychomycosis. Econazole, a topical antifungal
agent, effectively inhibits IN VITRO growth of the fungi most commonly
implicated in onychomycosis. In contrast to SEPA's action in disrupting the
lipid bilayer of the skin, SEPA as used in EcoNail works to soften the lacquer
in which econazole is contained, thereby allowing for more rapid and complete
release of econazole from the lacquer into and through the nail. A 14-day study
of lacquers containing radioactively labeled econazole on human non-diseased
cadaver nails demonstrated that EcoNail delivered approximately seven times more
econazole to the ventral nail and 200 times more econazole to the nail bed than
a similar lacquer without SEPA. In this study, EcoNail delivered to the ventral
nail more than 14,000 times the minimum concentration of econazole needed to
inhibit the two most common fungi associated with onychomycosis. In addition, we
believe that EcoNail, as a locally applied lacquer, will have a reduced risk of
systemic side effects compared with oral treatments for onychomycosis.
CLINICAL DEVELOPMENT
Following our laboratory studies, we conducted a Phase 1 tolerance/human
exposure clinical trial of EcoNail in patients with onychomycosis and released
six week safety and tolerance data from that trial in November 2004. The trial
was a randomized, double-blind, controlled Phase 1 trial conducted at two U.S.
clinical sites. Nineteen patients with onychomycosis of the toenails completed
the safety-tolerability segment of the study, in which all fingernails and
toenails were treated twice daily for six weeks with either EcoNail or a control
nail lacquer. The six week safety-tolerability segment was followed by an
open-label segment of the trial in which all patients received EcoNail applied
once daily to all nails for an additional 12 weeks to extend patient exposure
experience.
The main objectives of this Phase 1 study were to test the safety and local
tolerability of EcoNail in patients with onychomycosis and to determine systemic
exposure to econazole. In this study, EcoNail was well tolerated, and
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investigators reported no serious drug-related adverse events. Serum assays
showed no detectable levels of econazole, further supporting EcoNail's systemic
safety profile. Full data from the 18 week trial were presented in May 2005 at
the annual meeting of the Society for Investigative Dermatology.
In October 2006, we began enrollment in a Phase II study of EcoNail in
patients with onychomycosis. We expect to enroll approximately 40 patients in
this U.S. multi-center open label trial. Patients participating in the study,
which is being conducted under our U.S. Investigational New Drug application
filed with the FDA, will receive 48 weeks of treatment and will undergo efficacy
assessments using standard criteria of nail appearance and mycology. The study
protocol also specifies an interim assessment after all patients complete 24
weeks of treatment. At both the interim and final assessments, we plan to
utilize a panel of independent onychomycosis experts to assist with the efficacy
evaluations.
OTHER PRODUCT CANDIDATES
OPTERONE FOR HYPOGONADISM
Hypogonadism is a condition in which the testes produce insufficient
amounts of testosterone, a hormone responsible for normal growth and development
of the male sex organs and for maintenance of secondary male sex
characteristics. Hypogonadism is generally characterized by serum testosterone
levels of less than 300 nanograms per deciliter together with one or more of the
following signs or symptoms:
o low energy levels;
o decreased sexual performance;
o loss of sex drive;
o increased body fat;
o loss of muscle mass;
o reduced bone density; and
o mild depression.
According to the Endocrine Society, this disorder affects an estimated four
to five million men in the United States, approximately 200,000 of whom receive
hormone replacement therapy. According to a 2001 article published in THE
JOURNAL OF CLINICAL ENDOCRINOLOGY & METABOLISM, the incidence of hypogonadal
testosterone levels in U.S. males increases from approximately 20% in men over
the age of 60 to approximately 50% in men over the age of 80.
Diagnosis of testosterone-deficiency often occurs when a patient seeks
treatment for other conditions or symptoms. Routine testing of testosterone
levels has become a more common part of men's health evaluations by specialists,
although testosterone testing is still relatively new among the majority of
primary care physicians.
CURRENT TREATMENTS AND THEIR SHORTCOMINGS
Currently available treatment options for hypogonadism in the U.S. include
testosterone delivered via intramuscular injections, transdermal patches, buccal
tablets that are placed between the cheek and gum, and topical gels. Each of
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these treatments, however, has certain disadvantages. Intramuscular injections
are often painful, require a medical office visit, and cause rapid increases in
circulating testosterone to supraphysiological levels within days of
administration, followed by rapid decreases. Patients often report severe acne,
unwanted hair growth, and increased aggression shortly after a testosterone
injection. Testosterone patches may be inconvenient to apply, can cause severe
skin irritation and require frequent rotation of the application site to avoid
skin lesions. The resulting discomfort can potentially reduce patient compliance
with the treatment. Buccal tablets, which must be applied twice daily between
the cheek and gum, can become displaced or swallowed and can cause taste
perversion and gum irritation. Topical gels, while more convenient to use than
other treatments, can require application of a large volume of product to the
patient's body, often drip during application or run when applied to the skin
and can produce an oily feel on the skin.
THE OPTERONE APPROACH
Opterone is our topically applied cream formulation of 1% testosterone and
SEPA. To the best of our knowledge, Opterone is the first and only clinical
development stage testosterone cream in the U.S. In both laboratory and clinical
settings, we demonstrated that SEPA enhances the absorption of testosterone
through the skin. IN VITRO studies using human cadaver skin showed that our
enhanced cream formulation delivered two to three times more testosterone
transdermally over a 24-hour period when compared to equivalent doses of the
currently marketed gel products. These IN VITRO studies also suggested that our
enhanced cream formulation may deliver comparable amounts of testosterone in
smaller dose volumes than currently marketed gel products. In addition, we
believe that the creamy texture and consistency, the non-oily feel and the other
physical attributes of Opterone cream will provide a more cosmetically pleasing
application than available gel treatments.
CLINICAL DEVELOPMENT
In August of 2004, we announced the top-line results of a pharmacokinetics
study of Opterone. The trial was designed to study the pharmacokinetics of
testosterone following administration of Opterone to hypogonadal adult males.
Thirty-two patients were randomized to receive one of three dose volumes of
Opterone, with all patients completing the assigned dosing regimen. In this
study, Opterone delivered testosterone into the bloodstream within the first few
hours of application and also provided a more sustained delivery of testosterone
over 24 hours compared to our prior gel formulation. We also observed that
Opterone was generally well tolerated with no patients dropping out of the study
due to adverse events. Local application site symptoms, when observed, were mild
to moderate and transient. Full data from the study were presented in June 2005
at the 8th International Congress of Andrology in Seoul, Korea. The results of
this dose proportionality study guided the design of a bioavailability study,
the next step in the clinical development plan.
In December 2004, we initiated a bioavailability study of Opterone. Results
from this trial were announced in May 2005. In the study, patients receiving a
2.5 gram dose of Opterone applied to the upper arms and shoulders, half the
amount of the recommended starting dose of currently marketed gel products,
reached the natural physiologic range of testosterone levels over a 24-hour
period. Within the trial, the treatment group receiving 2.5 grams of Opterone
applied to the upper arms and shoulders reached an average maximum circulating
total testosterone level of 577 ng/dL, while the three treatment groups in the
study ranged from 408 to 577 ng/dL. Typical circulating total testosterone
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levels range from 300 to 1000 ng/dL. Opterone was well tolerated in the trial
with only mild adverse events, the most common being headache and mild
application site reaction.
On December 5, 2005, we received a response from the Division of
Reproductive and Urologic Products at the FDA to questions posed by us regarding
the proposed Phase 3 clinical program for Opterone. In the response, the FDA
reiterated its concerns regarding the skin irritation potential of SEPA related
to pre-clinical studies of SEPA, including without limitation, a 26-week
transgenic-mouse (Tg.AC) carcinogenicity study of SEPA. To address these
concerns as well as other issues related to Opterone's safety and efficacy
program, the FDA requested that we conduct additional investigation into
multiple dose safety and pharmacokinetics before beginning any eventual Phase 3
study. The FDA also requested that we revise our proposed Phase 3 protocol to
include additional patients and to extend patient exposure and safety follow-up.
The additional investigation and Phase 3 revisions will increase the time and
expense associated with the development of Opterone. Accordingly, the next step
in the development process for Opterone is a Phase 2 trial. We are seeking a
partner to advance development of this product candidate. We may elect not to
develop Opterone further if we cannot find a partner.
EARLIER STAGE PRODUCT CANDIDATES
We have also tested a number of formulations containing our proprietary
drug delivery technologies combined with various active pharmaceutical
ingredients. As we continue to build our product candidate portfolio, we review
our pre-clinical-stage product opportunities to identify those that show
sufficient promise to be advanced into clinical development. We evaluate each
new product candidate on its potential for success based on both scientific and
commercialization criteria. These criteria include:
o technical feasibility (formulation, product stability and laboratory
results);
o likelihood of laboratory results translating into a meaningful clinical
benefit;
o expected clinical studies needed and the regulatory pathway required to
obtain marketing approval;
o determination of the product candidate's expected competitive advantage in
the marketplace;
o duration of development timeline leading to commercialization;
o financial investment needed for development and availability of necessary
financial resources; and
o expected sales and profitability.
COMPETITION
We compete with a number of companies, 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., Connetics Corporation, Antares Pharma, Inc. and Barrier Therapeutics, Inc.
Established competitors in the therapeutic areas that our clinical stage product
candidates seek to address include, with respect to onychomycosis, Novartis AG,
Johnson & Johnson and Sanofi Aventis (Dermik Laboratories), and with respect to
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male hypogonadism, Solvay Pharmaceuticals, Inc., Auxilium Pharmaceuticals, Inc.,
Watson Pharmaceuticals, Inc. and Columbia Laboratories, Inc. Compared with us,
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
distribution of products.
With respect to onychomycosis, Novartis AG and Johnson & Johnson each offer
an orally administered antifungal therapy and Sanofi Aventis (Dermik
Laboratories) offers a topical nail lacquer therapy for treating fungal
infections of the nail. A number of other companies, including Nexmed,
Inc./Novartis AG, Schering-Plough/Anacor Pharmaceuticals, Inc. and
Ivrea/MediQuest Therapeutics, Inc., are also developing topical therapies for
these infections.
With respect to male hypogonadism, Solvay Pharmaceuticals, Inc. and
Auxilium Pharmaceuticals, Inc. each offer a topically administered testosterone
gel, Watson Pharmaceuticals, Inc. offers a testosterone patch, and Columbia
Laboratories, Inc. offers a testosterone buccal film product. A number of other
companies are also developing topical testosterone products.
We expect any products approved for sale to compete primarily on the basis
of efficacy, safety, patient compliance, reliability, convenience, 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 will also
depend on our ability to 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.
GOVERNMENT REGULATION
The production and marketing of our drug delivery systems and
pharmaceutical products are subject to regulation for safety, efficacy and
quality by numerous federal, state and local agencies and comparable agencies in
foreign countries.
In the United States, the Federal Food, Drug and Cosmetics Act, the Public
Health Service Act, the Controlled Substances Act and other federal statutes and
regulations govern or influence the testing, manufacture, safety, labeling,
storage, record keeping, approval, advertising and promotion of our proposed
products and technologies.
Non-compliance with applicable requirements can result in fines and other
judicially imposed sanctions including recalls and criminal prosecutions based
on violation of statutory requirements by products, promotional practices,
clinical practices or manufacturing practices. In addition, administrative
remedies can involve voluntary recalls or cessation of sale of products,
administrative detention, public notice, voluntary changes in labeling,
manufacturing or promotional practices, as well as refusal of the government to
approve New Drug Applications (NDAs). The FDA also has the authority to withdraw
approval of drugs in accordance with statutory procedures.
The FDA approval procedure involves completion of certain pre-clinical and
manufacturing/stability studies and the submission of the results of these
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studies to the FDA in an Investigational New Drug (IND) application in support
of performing clinical trials. IND allowance is then followed by performance of
human clinical trials, and additional pre-clinical and manufacturing quality
control studies, supporting safety, efficacy and manufacturing quality control.
The safety, chemistry, manufacturing and stability and clinical studies
developed under the IND are generally compiled into an NDA or Abbreviated New
Drug Application (ANDA) and submitted to the FDA for approval to market.
Pre-clinical studies involve laboratory evaluation of product
characteristics and animal studies to assess the efficacy and safety of the
product. Human clinical trials are typically conducted in three sequential
phases, but the phases may overlap. Phase 1 trials typically consist of testing
of the product in a small number of normal volunteers primarily for safety. In
Phase 2, in addition to safety, the efficacy of the product is typically
evaluated in a small patient population. Phase 3 trials typically involve
multicenter testing for safety and clinical efficacy in an expanded population
of patients at geographically dispersed test sites. A clinical plan, or
"protocol," accompanied by the identification of the institutions participating
in the trials, must be submitted to the FDA prior to commencement of each
clinical trial. The FDA may order the temporary or permanent discontinuation of
a clinical trial at any time if adverse events that endanger patients in the
trials are observed. In addition, the FDA may request Phase 4 clinical trials,
to be performed after marketing approval, to resolve any lingering questions.
A 30-day waiting period after the filing of each IND application is
required by the FDA prior to the commencement of clinical testing in human
subjects. If the FDA does not comment on or question the IND application within
30 days, initial clinical studies may begin. However, any FDA comments or
questions must be answered to the satisfaction of the FDA before initial
clinical testing can begin. In some instances, this process can result in
substantial delay and expense.
The results of the pre-clinical and clinical studies on new drugs are
submitted to the FDA in the form of NDAs for approval to commence commercial
sales. Following extensive review, the FDA may grant marketing approval, require
additional testing or information, or deny the application. All products must
continue to comply with all FDA requirements and the conditions in an approved
application, including product specifications, manufacturing process and
labeling requirements. Failure to comply, or the occurrence of unanticipated
adverse events during commercial marketing, could lead to the need for labeling
changes, product recall, seizure, injunctions against distribution or other
FDA-initiated action, which could delay further marketing until the products are
brought into compliance.
In certain cases, an ANDA may be filed in lieu of filing an NDA. An ANDA
relies on bioequivalency tests that compare the applicant's drug with an already
approved reference drug, rather than on clinical trials. For example, an ANDA
may be available for a new topical formulation of a drug which has already been
approved by the FDA in other topical dosage forms.
The NDA itself is a complicated and detailed document and must include the
results of extensive animal, clinical and other testing, the cost of which is
substantial. Although the FDA is required to review applications within 180 days
of filing, in the process of reviewing applications the FDA frequently requests
that additional information be submitted and restarts the 180-day regulatory
review period when the requested additional information is submitted. The effect
13
of such requests and subsequent submissions can significantly extend the time
for the NDA review process. Until an NDA is actually approved, no assurance can
be given that the information requested and submitted will be considered
adequate by the FDA to justify approval.
In addition, packaging and labeling of our proposed products are subject to
FDA regulation. We must get FDA approval for all labeling and packaging prior to
marketing of a regulated product.
Whether or not FDA approval has been obtained, approval of a product by a
comparable regulatory authority must be obtained in most foreign countries
before marketing of the product in that country. The approval procedure varies
from country to country and may involve additional testing, and the time
required may differ from that required for FDA approval. Although some
procedures for unified filings exist for certain European countries, in general
each country has its own procedure and requirements, many of which are time
consuming and expensive. Thus, substantial delays in obtaining required
approvals from foreign regulatory authorities can result after the relevant
applications are filed. After such approvals are obtained, further delays may be
encountered before the products become commercially available. Moreover,
differing reimbursement regulations in various foreign countries may affect
pricing of our drug candidates.
We cannot guarantee that any required FDA or other governmental
approval will be granted or, if granted, will not be withdrawn. Governmental
regulation may prevent or substantially delay the marketing of our proposed
products, cause us to undertake costly procedures and furnish a competitive
advantage to the more substantially capitalized companies with which we plan to
compete. In addition, we cannot predict the extent of potentially adverse
government regulations that may arise from future administrative action or
legislation.
RESEARCH AND DEVELOPMENT
In August 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. Following this staff reduction, in order to conduct
research and development activities, including stability studies, tests of our
unique formulations and the design of manufacturing processes for our drug
delivery technologies, we have contracted and will continue to contract with
third parties to perform this work. We believe that there are numerous third
party contractors who would be able to perform such research and development
activities.
Prior to the staff reduction in August 2005, we conducted our research and
development activities through our own staff and facilities, and also through
collaborative arrangements with universities, contract research organizations
and independent consultants. Research and developmental expenditures were
$4,221,039, $2,291,721 and $679,759 during the years ended December 31, 2004,
2005 and 2006, respectively. We also rely upon third parties to conduct clinical
studies and to obtain FDA and other regulatory approvals.
PATENTS, TRADEMARKS AND LICENSE RIGHTS
Our composition of matter patent on the SEPA family of compounds expired in
November 2006. We own five composition of matter and use patents, with
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expiration dates ranging from 2015 to 2019, for the combination of SEPA with
numerous existing classes of drugs, including antifungals and human sex
hormones. The patent for SEPA combined with antifungals covers the combination
of SEPA and econazole in EcoNail, and the patent for SEPA combined with human
sex hormones covers the combination of SEPA and testosterone in Opterone.
With respect to our MacroDerm technology, we have three U.S. patents
covering the chemical composition and use of the MacroDerm polymers, which
expire in 2015.
We intend to seek other composition of matter and use patents regarding
various formulations based on our drug delivery technologies and for new
technologies. In 2006, we did not file any new U.S. patent applications.
In addition to the patent activity, we have trademarks for the marks SEPA
and Opterone. We also have pending trademark applications for the marks
MacroDerm and EcoNail.
We believe that patent protection of our technologies, processes and
products is important to our future operations. The success of our proposed
products may depend, in part, upon our ability to obtain patent and trademark
protection. We intend to enforce our patent position and intellectual property
rights vigorously. The cost of enforcing our patent rights in lawsuits, if
necessary, may be significant and could interfere with our operations.
EMPLOYEES
As of December 31, 2006, we had five full time employees and one part-time
employee, none of whom are dedicated to research and development and regulatory
affairs. Effective as of March 15, 2007, Glenn E. Deegan resigned his position
as our Vice President and General Counsel and Secretary. None of our employees
are covered by a collective bargaining agreement, and we consider relations with
our employees to be good.
MANUFACTURING
In order to manufacture our product candidates for clinical trials and for
commercial distribution following FDA approval, we will need to contract with a
third party manufacturer to produce the product. We believe that there are
numerous third party manufacturers who would be able to manufacture our product
candidates for clinical trial purposes and on a commercial scale.
15
ITEM 1A. RISK FACTORS.
INVESTING IN OUR COMMON STOCK IS RISKY. IN ADDITION TO THE OTHER INFORMATION IN
THIS ANNUAL REPORT ON FORM 10-K, YOU SHOULD CONSIDER CAREFULLY THE FOLLOWING
RISK FACTORS IN EVALUATING US AND OUR BUSINESS. IF ANY OF THE EVENTS DESCRIBED
IN THE FOLLOWING RISK FACTORS WERE TO OCCUR, OUR BUSINESS, FINANCIAL CONDITION
OR RESULTS OF OPERATIONS LIKELY WOULD SUFFER. IN THAT EVENT, THE TRADING PRICE
OF OUR COMMON STOCK COULD DECLINE, AND YOU COULD LOSE ALL OR A PART OF YOUR
INVESTMENT.
RISKS RELATED TO OUR BUSINESS
WE HAVE A HISTORY OF OPERATING LOSSES, EXPECT TO CONTINUE TO INCUR LOSSES AND
RELY EXTENSIVELY ON EXTERNAL FINANCING TO MAINTAIN OUR OPERATIONS. IF WE ARE
UNABLE TO OBTAIN EXTERNAL FINANCING, WE WOULD BE REQUIRED TO FURTHER LIMIT,
SCALE BACK OR CEASE OUR OPERATIONS ENTIRELY.
Since 1981, we have been engaged primarily in research and development and
have derived limited revenues from feasibility studies and the licensing of our
technology. We have not generated any material revenues from the sale of any
products. In addition, we have incurred net operating losses every year since we
began doing business and we anticipate that we will continue to incur operating
losses for the foreseeable future. As of December 31, 2006, we had an
accumulated deficit of approximately $81,385,779. For the fiscal year ended
December 31, 2006, we had net income of $1,951,279, however, such net income was
the result of a non-cash gain in a liability classified warrant caused by a
decline in our stock price. For the fiscal years ended December 31, 2005 and
2004, we had a net loss of $5,760,475 and $8,274,521, respectively.
On August 31, 2005, due to our financial condition at the time and our
inability to raise sufficient capital to maintain operations, we discontinued
all research and development activities and terminated substantially all of our
non-management personnel. In December 2005 and February 2006, we raised an
aggregate of $8.25 million in a private placement of our securities to
institutional investors. As a result of this private placement, we resumed
operations with a focus on advancing clinical development of our lead product,
EcoNail. Our ability to continue operations after our current capital resources
are exhausted depends on our ability to secure additional financing and to
become profitable, which we cannot guarantee.
Before we or any of our potential licensees may market any of our product
candidates, significant additional development efforts and substantial testing
will be necessary. We will require substantial additional financing to fund
clinical studies on our product candidates. We may not be able to secure
financing on favorable terms or at all. If we are unable to obtain external
financing, we would have to reduce, delay or eliminate our clinical studies.
OUR PRODUCT CANDIDATES ARE IN THE EARLY STAGES OF DEVELOPMENT AND ARE SUBJECT TO
THE RISK OF FAILURE INHERENT IN THE DEVELOPMENT OF INNOVATIVE TECHNOLOGIES.
Various pharmaceutical companies have developed systems to enhance the
topical delivery of specific drugs, but relatively limited research has been
conducted about using topical delivery systems for a wider range of
16
pharmaceutical products. Topical delivery systems currently are used only in a
limited number of products. In addition, some topical delivery systems have
demonstrated adverse side effects for users, including skin irritation and
delivery difficulties.
Our product candidates are in the early stages of development and will
require significant further research, development, testing and regulatory
clearances. Our product candidates are subject to the risks of failure inherent
in the development of products based on innovative technologies. These risks
include the possibilities that any or all of our product candidates may be found
to be ineffective or toxic, or otherwise may fail to receive necessary
regulatory clearances.
OUR PRODUCT CANDIDATES MUST UNDERGO A RIGOROUS REGULATORY APPROVAL PROCESS,
WHICH INCLUDES EXTENSIVE PRE-CLINICAL AND CLINICAL TESTING, TO DEMONSTRATE
SAFETY AND EFFICACY BEFORE WE CAN MARKET THEM. IF THE RESULTS OF OUR
PRE-CLINICAL AND CLINICAL TESTING INDICATE THAT OUR PRODUCT CANDIDATES ARE NOT
SAFE OR EFFECTIVE, OUR BUSINESS WILL SUFFER.
Each of our product candidates, including EcoNail and Opterone, must
undergo a rigorous regulatory approval process, including significant
pre-clinical and clinical testing to demonstrate that they are safe and
effective for human use, before we can market them. Conducting clinical trials
is a lengthy, expensive and uncertain process. Completion of clinical trials may
take several years or more. In addition, our clinical trials may be delayed by
many factors, including:
o inability to fund clinical trials;
o slow or insufficient patient enrollment;
o failure of the FDA to approve our clinical trial protocols;
o inability to manufacture significant amounts of our product
candidates for use in a trial;
o safety issues; and
o government or regulatory delays.
In addition, the results of pre-clinical studies and early clinical trials
may not accurately predict results that we will obtain in later testing. A
number of other companies in the pharmaceutical industry have suffered
significant setbacks in advanced clinical trials, even after they achieved
promising results in earlier trials. If we, the FDA or physicians do not believe
that our clinical trials demonstrate that our product candidates are safe and
effective, our business, financial condition and results of operations will be
materially adversely affected.
OUR PRODUCT CANDIDATES ARE SUBJECT TO SIGNIFICANT FDA SUPERVISION AND MAY
NOT SUCCESSFULLY COMPLETE THE EXTENSIVE REGULATORY APPROVAL PROCESS REQUIRED
PRIOR TO THE MARKETING OF ANY PHARMACEUTICAL PRODUCT.
Our activities are regulated by a number of government authorities in the
United States and other countries, including the FDA. The FDA regulates
pharmaceutical products, including their manufacture and labeling. Before
obtaining regulatory approval to market any product candidate under development,
17
we must demonstrate to the FDA that the product is safe and effective for use in
each proposed indication through, among other things, pre-clinical studies and
clinical trials. Data obtained from testing is subject to varying
interpretations which can delay, limit or prevent FDA approval.
On October 11, 2002, the FDA advised us that further clinical trials of our
drugs containing SEPA had been placed on clinical hold pending review of
questions surrounding a 26-week transgenic-mouse (Tg.AC) carcinogenicity study
of SEPA we performed in 1999. On April 10, 2003, the FDA lifted this clinical
hold. In releasing the hold, the FDA requested additional information on that
1999 study, which we have provided.
On December 5, 2005, we received a response from the Division of
Reproductive and Urologic Products at the FDA to questions posed by us regarding
the proposed Phase 3 clinical program for Opterone, a topical cream for male
testosterone deficiency containing SEPA. In the response, the FDA reiterated its
safety concerns regarding the skin irritation potential of SEPA related to
pre-clinical studies of SEPA, including without limitation, the 26-week
transgenic-mouse (Tg.AC) carcinogenicity study of SEPA. The FDA also expressed
concern regarding skin irritation observed in some patients in recently
completed Opterone clinical studies. To address these concerns as well as other
issues related to Opterone's safety and efficacy program, the FDA requested that
we, if we intend to pursue clinical development of Opterone, conduct additional
investigation into multiple dose safety and pharmacokinetics before beginning
any eventual Phase 3 study. The FDA also confirmed the requirement for other
clinical pharmacology studies prior to any NDA submission and requested that we
revise our proposed Phase 3 protocol to include additional patients and to
extend patient exposure and safety follow-up. If we decide to pursue the
clinical development of Opterone, the additional investigation and Phase 3
revisions will increase the time and expense associated with the development of
Opterone and may materially adversely affect our ability to find a partner to
advance the development of Opterone. Furthermore, there can be no assurance that
the results of the studies, if conducted, will address the FDA's safety concerns
or justify further development of Opterone or that any SEPA-based product will
be approved by the FDA.
To date, neither the FDA nor any of its international equivalents has
approved any of our technologies or product candidates for marketing. If the FDA
does not approve our product candidates for marketing, we will be materially
adversely affected.
We face additional risks associated with the regulatory approval process,
including:
o Changes in existing regulatory requirements could prevent or affect our
regulatory compliance. Federal and state laws, regulations and policies may
be changed with possible retroactive effect. In addition, how these rules
actually operate can depend heavily on administrative policies and
interpretations over which we have no control. We also may lack the
experience with these policies and interpretations to assess their full
impact upon our business.
o Obtaining FDA clearances is time-consuming and expensive and we cannot
guarantee that such clearances will be granted or, if granted, will not be
withdrawn.
18
o The FDA review process may prevent us from marketing our product candidates
or may involve delays that significantly and negatively affect our product
candidates. We also may encounter similar delays in foreign countries.
o Regulatory clearances may place significant limitations on the uses for
which any approved products may be marketed.
o Any marketed product and its manufacturer are subject to periodic review by
the FDA. Any discovery of previously unrecognized problems with a product
or a manufacturer could result in suspension or limitation of previously
obtained or new approvals.
BECAUSE THE REGULATORY APPROVAL PROCESS IS COMPLEX, WE CANNOT ACCURATELY PREDICT
THE REGULATORY APPROVAL TIMELINE FOR OUR PRODUCT CANDIDATES.
The laws and regulations administered by the FDA are complex, and
compliance with these laws and regulations requires substantial time, effort and
expense. Because of this complexity, and because the regulatory approval path
for our product candidates has not yet been confirmed by the FDA, we cannot
guarantee that our efforts will be sufficient to ensure compliance with all
applicable laws and regulations, nor can we accurately predict the regulatory
approval timeline for our product candidates.
IF OUR PRODUCT CANDIDATES ARE NOT ACCEPTED BY PHYSICIANS AND PATIENTS, WE MAY
NEVER GENERATE PROFITS FROM OPERATIONS.
Even if our product candidates receive regulatory approval, we may not be
able to market them effectively, they may be uneconomical to market or third
parties may market equivalent or superior products. We will need to expend
significant effort to educate physicians and patients regarding any product
candidate that receives regulatory approval. Consequently, unless our product
candidates obtain market acceptance, we may never be profitable.
IF PHYSICIANS OR PATIENTS PERCEIVE THAT TESTOSTERONE REPLACEMENT THERAPIES
CREATE HEALTH RISKS, THE VIABILITY OF OPTERONE MAY BE QUESTIONED, AND OUR
BUSINESS AND THE PRICE OF OUR STOCK MAY BE NEGATIVELY AFFECTED.
Recent studies of female hormone replacement therapy products have reported
an associated increase in health risks. As a result of these studies, some
companies that sell or develop female hormone replacement products have
experienced decreased sales of these products, and in some cases, a decline in
their stock. From time to time, publications have suggested potential health
risks associated with testosterone replacement therapy, including fluid
retention, sleep apnea, breast tenderness or enlargement, increased red blood
cells, development of clinical prostate disease, increased cardiovascular
disease risk and the suppression of sperm production. It is possible that
studies on the effect of testosterone replacement therapy could demonstrate
these or other adverse health risks. This, along with the negative publicity
surrounding hormone replacement therapy in general, could negatively impact
market acceptance of Opterone, which could adversely affect our business and the
price of our stock.
19
WE DEPEND ON PATENTS TO PROTECT OUR TECHNOLOGIES AND IF OUR CURRENT PATENTS ARE
INEFFECTIVE OR WE ARE UNABLE TO SECURE AND MAINTAIN ADEQUATE PATENT PROTECTION,
OUR ABILITY TO COMPETE WITH OTHER PHARMACEUTICAL COMPANIES MAY BE NEGATIVELY
AFFECTED.
We believe that patent protection of our technologies, processes and
products is important to our future operations. The success of our product
candidates depends, in part, on our ability to secure and maintain adequate
patent protection.
Although we have filed and intend to file additional patent applications,
the patent application process is lengthy and expensive and there is no
guarantee that a patent will be issued or, if issued, that it will be of
commercial benefit to us. In addition, it is impossible to anticipate the
breadth or degree of protection that any patents we obtain may afford us.
Further, products that we develop could infringe patents held by third parties.
In these cases, we may have to obtain licenses from third parties, which may not
be available on commercially acceptable terms, if at all. We do not maintain
separate insurance to cover intellectual property infringement.
Our composition of matter patent covering SEPA expired in November 2006.
The expiration of that patent will enable competitors to develop SEPA-based
product candidates covering applications for which we have not obtained
composition and use patents. As a result, our competitive position may be
adversely affected.
Currently, we are not involved in any litigation, settlement negotiations
or other legal action regarding patent issues and are not aware of any patent
litigation threatened against us. We may, however, become involved in patent
litigation against third parties to enforce our patent rights, to invalidate
patents held by those third parties or to defend against claims of those third
parties. We intend to enforce our patent position and defend our intellectual
property rights vigorously. The cost to us of any patent litigation or similar
proceeding could be substantial and it may absorb significant management time.
In the event of an unfavorable resolution of any infringement litigation against
us, we may be enjoined from manufacturing or selling any products without a
license from a third party.
IF WE ARE NOT ABLE TO PROTECT THE CONFIDENTIALITY OF OUR PROPRIETARY INFORMATION
AND KNOW-HOW, THE VALUE OF OUR TECHNOLOGIES MAY BE ADVERSELY AFFECTED.
In addition to patent protection, we utilize significant unpatented
proprietary technology and rely on unpatented trade secrets and proprietary
know-how to protect certain aspects of our technologies. To the extent that we
rely on unpatented proprietary technology, we cannot guarantee that others will
not independently develop or obtain substantially equivalent or superior
technologies or otherwise gain access to our trade secrets, that any obligation
of confidentiality will be honored or that we will be able to effectively
protect our rights to our proprietary technologies.
IF WE ARE NOT ABLE TO RETAIN OUR KEY PERSONNEL AND/OR RECRUIT ADDITIONAL KEY
PERSONNEL IN THE FUTURE, OUR BUSINESS MAY SUFFER.
The success of our business depends on our ability to attract, retain and
motivate qualified senior management personnel and qualified scientific
personnel. We consider Robert J. DeLuccia, our President and Chief Executive
Officer, to be a key employee and we have entered into an employment agreement
20
with him. We do not maintain key person life insurance on any of our employees.
In our industry, the competition for experienced personnel is intense and can be
expected to increase. From time to time we may face, and in the past have faced,
difficulties in attracting and retaining employees with the requisite experience
and qualifications. If we fail to retain or attract this type of personnel, it
could have a significant negative effect on our ability to develop our
technologies.
OUR FAILURE TO IDENTIFY PHARMACEUTICALS THAT ARE COMPATIBLE WITH OUR DRUG
DELIVERY TECHNOLOGIES OR ADDITIONAL PRODUCT CANDIDATES OR TECHNOLOGIES WOULD
IMPAIR OUR ABILITY TO GROW.
Our growth depends on our ability to identify drugs suitable for delivery
using our proprietary drug delivery technologies, our ability to identify other
product candidates or technologies, and our ability, financially or otherwise,
to obtain such product candidates and technologies. Identifying suitable drugs
or product candidates is a lengthy and complex process. Even if identified, the
drugs or product candidates may not be available to us or we may otherwise be
unable to enter into licenses or other agreements for their use. Other
companies, including those with substantially greater financial, marketing and
sales resources, may compete with us for the licensing or acquisition of drugs
and product candidates and we may not be able to enter into licenses or other
agreements on acceptable terms, or at all. If we are unable to identify and
license or acquire drugs that are compatible with our drug delivery technologies
or additional product candidates or technologies, our ability to grow our
portfolio of product candidates and our prospects would be adversely affected.
WE DO NOT HAVE ANY LABORATORY FACILITIES OR SCIENTIFIC PERSONNEL AND DEPEND ON
THIRD PARTIES TO CONDUCT RESEARCH AND DEVELOPMENT ACTIVITIES FOR OUR
TECHNOLOGIES AND PRODUCT CANDIDATES.
We do not have laboratory facilities or scientific personnel capable of
conducting research and development activities for our technologies and product
candidates and currently we do not have plans to obtain such facilities and
personnel. Accordingly, our ability to conduct research and development
activities is and will be limited and we will depend to a significant extent on
third-party contractors for such research and development activities. If any of
our third-party contractors fails to perform its obligations in a timely fashion
or in accordance with applicable regulations, it may adversely affect our
business. If we decide to establish internal research and development
capabilities, we would need to hire and retain significant additional personnel,
locate and acquire appropriate laboratory facilities, comply with extensive
government regulations, and obtain additional capital, which may not be
available on acceptable terms, or at all.
WE DO NOT HAVE ANY MANUFACTURING FACILITIES AND DEPEND ON THIRD PARTIES TO
MANUFACTURE OUR PRODUCT CANDIDATES.
We do not have facilities capable of manufacturing any of our product
candidates and we do not have plans to obtain these facilities. Accordingly, we
will depend on third-party contractors, licensees, or corporate partners to
manufacture our products. If any of our third-party manufacturers fails to
perform its obligations in a timely fashion or in accordance with applicable
regulations, it may delay clinical trials, the commercialization of our product
21
candidates or our ability to supply our product candidates for sale. If we
decide to establish a commercial manufacturing facility, we would need to hire
and retain significant additional personnel, comply with extensive government
regulations, and obtain significant amounts of additional capital, which may not
be available on acceptable terms, or at all.
WE FACE THE RISK OF PRODUCT LIABILITY CLAIMS, AND WE MAY NOT HAVE SUFFICIENT
PRODUCT LIABILITY INSURANCE TO COVER SUCH CLAIMS. IT MAY BE EXPENSIVE AND
DIFFICULT TO OBTAIN ADEQUATE INSURANCE COVERAGE.
The design, development, manufacture and sale of our product candidates
involve risk of liability claims and associated adverse publicity. We have
product liability insurance coverage with an aggregate policy limit of
approximately $10,000,000 for claims related to our product candidates that may
arise from clinical trials conducted prior to November 1, 2002. We also have
product liability insurance coverage with aggregate policy limits between
approximately $3,000,000 and $5,000,000 for claims related to our product
candidates that may arise from clinical trials conducted after September 25,
2003. In the event that our products receive regulatory approval and become
commercialized, we would need to acquire additional coverage. Product liability
insurance is expensive, may be difficult to obtain and may not be available on
acceptable terms, if at all. If we obtain coverage, we cannot guarantee that the
coverage limits of these insurance policies will be adequate. A successful claim
against us if we are uninsured, or which is in excess of our insurance coverage,
could have a material adverse effect on us and our financial condition.
WE RELY ON A THIRD-PARTY SUPPLIER FOR A NON-ACTIVE INGREDIENT IN SOME OF OUR
PRODUCT CANDIDATES AND, IN THE EVENT THE SUPPLIER IS UNABLE TO SUPPLY US WITH
ADEQUATE PRODUCT, OUR BUSINESS MAY BE NEGATIVELY AFFECTED IF WE ARE NOT ABLE TO
TIMELY OBTAIN A SUBSTITUTE INGREDIENT.
We rely on a third-party supplier, Seppic Inc., for a non-active ingredient
that is important to the formulation and production of some of our topical
product candidates. While we believe similar products are available from other
suppliers, if Seppic Inc. were unable or unwilling to supply its product in
sufficient quantities at a reasonable price, our results could suffer, as we may
encounter significant costs and delays in identifying and measuring the efficacy
of replacement third party products.
TOGETHER, CERTAIN OF OUR SHAREHOLDERS OWN A MAJORITY OF OUR STOCK AND COULD
ULTIMATELY CONTROL DECISIONS REGARDING US.
In our private placement which closed in December 2005 and February 2006,
we issued 825.5 shares of our Series C Cumulative Convertible Preferred Stock
and warrants to purchase 7,861,912 shares of our common stock. The Series C
Cumulative Convertible Preferred Stock is convertible into shares of common
stock and votes together with the common stock on an as-if-converted to common
stock basis. Unless a holder of Series C Cumulative Convertible Preferred Stock
elects otherwise, its ability to convert its Series C Cumulative Convertible
Preferred Stock into common stock or to vote on an as-if-converted to common
stock basis is restricted to the extent that such conversion would result in the
holder owning more than 4.95% of our issued and outstanding common stock or
voting together with the common stock on an as-if-converted to common stock
basis in respect of more than 4.95% of our issued and outstanding common stock.
22
The warrants issued in the private placement are subject to a similar
restriction on their exercise. SCO Capital Partners LLC, Beach Capital LLC and
Perceptive Life Sciences Master Fund Ltd. ("Perceptive") have elected not to be
governed by these restrictions, although we have entered into an agreement with
Perceptive whereby Perceptive's ability to convert or vote their shares of
Series C Preferred Stock will be subject to a beneficial ownership cap of 9.95%
instead of 4.95%. Consequently, as of March 7, 2007, giving effect to the
beneficial ownership cap restrictions, the Series C Preferred Stock acquired by
the investors is convertible into 4,967,920 shares of common stock and the
holders of the Series C Cumulative Convertible Preferred Stock vote on an
as-converted basis with the holders of our common stock, and therefore hold
approximately 63.5% of the voting power of our outstanding securities. Assuming
both the conversion of the Series C Cumulative Convertible Preferred Stock and
the exercise of all of the Warrants held by the investors, in each case without
regard to the beneficial ownership cap restrictions as of March 7, 2007, the
investors would hold approximately 84.9% of the outstanding common stock of the
Company. In addition, for so long as 20% of the Series C Cumulative Convertible
Preferred Stock issued in the private placement remains outstanding, SCO Capital
Partners LLC has the right to designate two members to our board of directors.
Jeffrey B. Davis and Howard S. Fischer are currently serving on our board of
directors as the designees of SCO Capital Partners LLC.
Because of the voting rights of the Series C Cumulative Convertible
Preferred Stock and the fact that the parties described above currently own a
large portion of our voting stock, they may be able to generally determine or
they will be able to significantly influence the outcome of corporate actions
requiring shareholder approval. As a result, these parties may be in a position
to control matters affecting our company, including amendments to our articles
of incorporation and bylaws; payment of dividends on our common stock; and
acquisitions, sales of all or substantially all of our assets, mergers or
similar transactions, including transactions involving a change of control. As a
result, some investors may be unwilling to purchase our common stock. In
addition, if the demand for our common stock is reduced because of these
shareholders' control of the Company, the price of our common stock could be
materially depressed.
CERTAIN OF OUR SHAREHOLDERS OWN LARGE BLOCKS OF OUR COMMON STOCK AND OWN
SECURITIES CONVERTIBLE OR EXERCISABLE INTO SHARES OF OUR COMMON STOCK, AND ANY
EXERCISES, CONVERSIONS OR SALES BY THESE SHAREHOLDERS COULD SUBSTANTIALLY LOWER
THE MARKET PRICE OF OUR COMMON STOCK.
Several of our shareholders, including those shareholders that acquired
Series C Cumulative Convertible Preferred Stock and warrants to acquire common
stock in our recent private placement, own large blocks of our voting stock. The
shares of our common stock owned by these shareholders (or issuable to them upon
exercise or conversion of warrants or Series C Cumulative Convertible Preferred
Stock) will be registered. Future sales of large blocks of our common stock by
any of the above investors could substantially depress our stock price.
23
RISKS RELATED TO OUR INDUSTRY
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., 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, 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 companies, including NexMed, Inc./Novartis AG, IVREA/MediQuest
Therapeutics, Inc., and Schering-Plough/Anacor Pharmaceuticals, Inc. are also
developing topical 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.
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
24
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.
GOVERNMENT AND PRIVATE INITIATIVES TO REDUCE HEALTH CARE COSTS COULD HAVE A
MATERIAL ADVERSE EFFECT ON PHARMACEUTICAL PRICING AND ON OUR OPERATIONS.
The future revenues and profitability of, and availability of capital for,
biomedical and pharmaceutical companies may be affected by the continuing
efforts of governmental and private third-party payers to contain or reduce the
costs of health care through various means. Reimbursement by payors such as
government and managed care organizations has become an increasingly important
factor in the success of a drug, as has the listing of new products on large
formulary lists (as well as their designated "Tier" on such lists), including
those of managed care organizations, pharmaceutical benefit providers and group
buying organizations. Failure of a pharmaceutical product to be included on
formulary lists, to obtain a Tier position on such formulary lists which
provides for a sufficiently low patient cost, or to be reimbursed by government
or managed care organizations, could negatively impact the profitability of a
drug.
Furthermore, in some foreign markets pricing or profitability of
prescription pharmaceuticals is subject to government control and to possible
reform in the health care system. Frequently, it is not possible to obtain
pricing in foreign markets that is as favorable as that obtainable in the U.S.
In the U.S., there have been, and we expect there will continue to be, a number
of federal and state proposals to impose similar governmental control. While we
cannot predict whether any of these legislative or regulatory proposals will be
adopted, the announcement or adoption of these proposals could have a material
adverse effect on our prospects.
If we succeed in bringing to market one or more of our product candidates,
we cannot assure you that these product candidates will be cost effective or
that reimbursement to the consumer will be available or will be sufficient to
allow us to sell these products on a profitable basis.
25
RISKS RELATED TO THE SECURITIES MARKET
OUR STOCK PRICE HAS BEEN, AND LIKELY WILL CONTINUE TO BE, HIGHLY VOLATILE, AND
AS A RESULT, AN INVESTMENT IN OUR STOCK IS SUBJECT TO SUBSTANTIAL RISK.
The market price of our stock has been, and will likely continue to be,
highly volatile due to the risks and uncertainties described in this section of
this document, as well as other factors, including:
o the discontinuance in August 2005 of all of our research and product
development activities and our dependence on additional external funding in
resuming such activities;
o the results of our previously conducted clinical trials for our SEPA-based
formulations;
o conditions and publicity regarding the pharmaceutical industry generally as
well as the specific therapeutic areas our product candidates seek to
address;
o price and volume fluctuations in the stock market at large which do not
relate to our operating performance; and
o our ability to raise additional capital.
Over the two-year period ending December 31, 2006, the closing price of our
common stock as reported on The Nasdaq National Market, The Nasdaq Capital
Market, the Pink Sheets LLC and the OTC Bulletin Board ranged from a high of
$33.60 to a low of $$0.26. On March 16, 2007, the closing price for our common
stock on the OTC Bulletin Board was $0.55. In the past, companies that have
experienced stock price volatility have sometimes been the subject of securities
class action litigation. If litigation were instituted on this basis, it could
result in substantial costs and a diversion of management's attention and
resources. As a result of this volatility, an investment in our stock is subject
to substantial risk.
ON NOVEMBER 22, 2005, OUR COMMON STOCK WAS DELISTED FROM THE NASDAQ CAPITAL
MARKET FOR FAILURE TO MEET ITS LISTING STANDARDS. OUR COMMON STOCK CURRENTLY IS
QUOTED ON THE OTC BULLETIN BOARD, WHICH INVESTORS MAY PERCEIVE AS LESS DESIRABLE
AND WHICH COULD NEGATIVELY AFFECT THE LIQUIDITY OF AN INVESTMENT IN OUR COMMON
STOCK.
Our listing on The Nasdaq Capital Market was conditioned on our compliance
with Nasdaq's continued listing requirements. The minimum standards for
continued listing on The Nasdaq Capital Market include stockholders' equity of
$2.5 million or market capitalization of $35 million and a minimum bid price of
$1.00.
On October 18, 2005, we received a Nasdaq Staff Determination indicating
that our securities were subject to delisting from The Nasdaq Capital Market as
we did not comply with the minimum bid price requirement for continued listing.
We requested a hearing before a Nasdaq Listing Qualifications Panel to review
the Staff Determination. On November 21, 2005, we withdrew our appeal of the
Nasdaq Staff Determination and our common stock was delisted from quotation on
the Nasdaq Capital Market effective as of Tuesday, November 22, 2005.
26
Immediately thereafter, our common stock was quoted on the Pink Sheets LLC, and
on December 22, 2005, our stock became eligible for quotation on the OTC
Bulletin Board and presently trades under the symbol "MACM.OB."
The over-the-counter market is generally considered to be a less efficient
system than markets such as Nasdaq or other national exchanges because of lower
trading volumes, transaction delays and reduced security analyst and news media
coverage. These factors could contribute to lower prices and larger spreads in
the bid and ask prices for our common stock. Additionally, trading of our common
stock in an over-the-counter market may make us less desirable to institutional
investors and may, therefore, limit our future equity funding options.
WE ARE CONTRACTUALLY OBLIGATED TO ISSUE SHARES IN THE FUTURE, DILUTING YOUR
INTEREST IN US.
As of March 7, 2007, our Series C Cumulative Convertible Preferred Stock is
convertible into an aggregate of, giving effect to the beneficial ownership
restrictions on conversion, 4,967,920 shares of common stock (7,442,853 shares
of common stock without regard to the beneficial ownership restrictions on
conversion). In addition, we are required to issue quarterly dividends on our
Series C Convertible Preferred Stock, which we may elect to pay in shares of our
common stock. In addition, as of March 7, 2007, there are outstanding and
exercisable warrants to purchase approximately 8,701,573 shares of our common
stock, at a weighted average exercise price of $1.48 per share. As of March 7,
2007, there also are outstanding and exercisable options to purchase
approximately 724,850 shares of our common stock, at a weighted average exercise
price of $14.04 per share. Moreover, we expect to issue additional options to
purchase shares of our common stock to compensate employees, consultants and
directors and may issue additional shares to raise capital, acquire other
companies or technologies, to pay for services, or for other corporate purposes.
Any such issuances will have the effect of further diluting the interest of
common stockholders.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
Not applicable.
ITEM 2. PROPERTIES.
We currently occupy approximately 4,000 square feet of office space under a
sublease which terminates in January, 2008. This space is located within one
floor of a three story building in Wellesley Hills, Massachusetts. We believe
that this facility is adequate to meet our current requirements, and we are
evaluating our future facility requirements. We also believe that suitable
alternative locations are readily available.
ITEM 3. LEGAL PROCEEDINGS.
We are not currently engaged in any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
27
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES.
MARKET PRICE OF SECURITIES AND RELATED MATTERS
Our common stock is traded on the OTC Bulletin Board under the symbol
"MACM.OB." Prior to February 10, 2006, our common stock was traded on the OTC
Bulletin Board under the symbol "MCMP.OB." Between November 24, 2003 and
November 21, 2005, our common stock was traded on The Nasdaq Capital Market
under the symbol "MCHM" and, prior to November 24, 2003, it was traded on The
Nasdaq National Market under the symbol "MCHM."
The following chart shows the high and low closing prices for our common
stock for the periods indicated:
COMMON STOCK
MACM
YEAR ENDED HIGH LOW
DECEMBER 31, 2005
First Quarter $33.60 $16.38
Second Quarter 19.32 7.98
Third Quarter 12.18 2.10
Fourth Quarter 2.52 0.84
DECEMBER 31, 2006
First Quarter $2.70 $1.08
Second Quarter 1.60 0.70
Third Quarter 0.85 0.26
Fourth Quarter 0.54 0.30
These prices are between dealers and do not reflect retail markups,
markdowns or commissions and may not necessarily represent actual transactions.
As of March 14, 2007, there were 7,813 holders of record of our common stock.
We have never paid cash dividends on our common stock and our Board of
Directors does not contemplate declaring any dividends in the foreseeable
future. We intend to retain any earnings to finance research, development, and
expansion of our business.
PERFORMANCE GRAPH
The following five-year performance graph compares the cumulative total
shareholder return (assuming reinvestment of dividends) on $100 invested in the
Company's common stock for the five-year period from December 31, 2001 through
December 31, 2006 with similar investments in the Nasdaq Stock Market (U.S.)
Index of companies and a New Peer Group of four companies that provide services
similar to those provided by the Company: Auxilium Pharmaceutical, Inc., Bentley
28
Pharmaceuticals, Inc., Biosante Pharmaceuticals, Inc. and NexMed, Inc. The New
Peer Group replaces the Old Peer Group that we previously used in our Proxy
Statement for the Annual Meeting of Stockholders held in 2006, which included
Cellegy Pharmaceuticals, Inc., NexMed, Inc., VIVUS, Inc. and Bentley
Pharmaceuticals, Inc. Auxilium Pharmaceutical, Inc. and Biosante Pharmaceuticals
Inc. have been added because they more closely resemble the Company in size,
focus and character of its activities. Cellegy Pharmaceuticals, Inc. and VIVUS,
Inc. have been deleted because they bear less of a resemblance to the Company in
the size, focus and character of their activities.
[GRAPHIC OMITTED]
Cumulative Total Return
- --------------------------------------------------------------------------------
12/01 12/02 12/03 12/04 12/05 12/06
- --------------------------------------------------------------------------------
MacroChem Corporation 100.00 16.75 27.87 23.93 0.98 0.35
NASDAQ Composite 100.00 69.66 99.71 113.79 114.47 124.20
Old Peer Group(1) 100.00 60.44 89.38 71.01 67.09 51.51
New Peer Group(2) 100.00 55.49 111.52 80.81 78.61 92.29
- --------------------------------------------------------------------------------
(1) New Peer Group Companies: Auxilium Pharmaceutical, Inc., Bentley
Pharmaceuticals, Inc., Biosante Pharmaceuticals, Inc. and NexMed, Inc.
(2) Old Peer Group Companies: Cellegy Pharmaceuticals, Inc., NexMed, Inc.,
VIVUS, Inc. and Bentley Pharmaceuticals, Inc. Auxilium Pharmaceutical, Inc. and
Biosante Pharmaceuticals Inc.
29
ITEM 6. SELECTED FINANCIAL DATA.
The selected financial data set forth below should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our financial statements and related notes included elsewhere in
this Annual Report on Form 10-K. The selected statement of operations data and
the selected balance sheet data for each year presented below have been derived
from our audited financial statements. These historical data are not necessarily
indicative of results to be expected for any future period.
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 Annual Report on Form 10-K has been adjusted to reflect these reverse
splits.
-------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------------------------
2006 2005 2004 2003 2002
(1)
STATEMENTS OF OPERATIONS DATA:
SALE OF PATENT $ --- $ --- $ --- $ 1,000,000 $ ---
RESEARCH CONTRACTS --- --- 10,031 42,925
--------- --------- ----------- ----------- -----------
TOTAL REVENUES $ --- $ --- $ --- $ 1,010,031 $ 42,925
RESEARCH AND DEVELOPMENT
EXPENSES 679,759 2,291,721 4,221,039 2,938,026 3,998,388
NET INCOME (LOSS) 1,951,279 (5,760,475) (8,274,521) (5,661,694) 7,514,514)
BENEFICIAL CONVERSION FEATURE $ (11,895) (330,243) $ --- $ --- $ ---
DIVIDEND ON SERIES C
CUMULATIVE PREFERRED STOCK (752,066) --- --- --- ---
NET INCOME (LOSS) ATTRIBUTABLE
TO COMMON STOCKHOLDERS $1,187,318 $(6,090,718) $(8,274,521) $(5,661,694) $(7,514,514)
BASIC NET INCOME (LOSS) PER
COMMON SHARE $ 0.84 $ (6.25) $ (9.23) $ (8.03) $ (11.30)
DILUTED NET INCOME (LOSS) PER
COMMON SHARE $ 0.24 $ (6.25) $ (9.23) $ (8.03) $ (11.30)
WEIGHTED AVERAGE SHARES USED
TO COMPUTE BASIC NET INCOME
(LOSS) PER COMMON SHARE 1,423,665 974,367 896,039 704,621 664,965
WEIGHTED AVERAGE SHARES USED
TO COMPUTE DILUTED NET
INCOME (LOSS) PER COMMON
SHARE 8,260,510 974,367 896,039 704,621 664,965
BALANCE SHEET DATA:
WORKING CAPITAL $4,778,127 $ 2,755,167 $ 5,635,331 $ 6,345,396 $ 8,704,944
CURRENT ASSETS 5,048,962 3,130,197 6,403,182 7,325,361 9,119,723
TOTAL ASSETS 5,653,957 3,781,453 7,109,864 8,249,648 10,132,007
CURRENT LIABILITIES 268,835 375,030 767,851 979,965 414,779
TOTAL LIABILITIES 1,138,933 1,995,808 773,360 1,013,328 462,488
STOCKHOLDERS' EQUITY $4,181,241 $ 1,455,402 $ 6,336,504 $ 7,236,320 $ 9,669,519
- ----------------------------------------------------------------------------------------------------------------
<FN>
(1) See Note 1 to our Financial Statements beginning on page 49 of this Annual
Report of Form 10-K for a description of the restatement.
</FN>
30
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
YOU SHOULD READ THE FOLLOWING DISCUSSION IN CONJUNCTION WITH OUR FINANCIAL
STATEMENTS AND RELATED NOTES AND OTHER FINANCIAL INFORMATION APPEARING ELSEWHERE
IN THIS ANNUAL REPORT ON FORM 10-K. IN ADDITION TO HISTORICAL INFORMATION, THE
FOLLOWING DISCUSSION AND OTHER PARTS OF THIS ANNUAL REPORT ON FORM 10-K CONTAIN
FORWARD-LOOKING INFORMATION THAT INVOLVES RISKS AND UNCERTAINTIES. OUR ACTUAL
RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED BY SUCH FORWARD-LOOKING
INFORMATION DUE TO THE FACTORS DISCUSSED UNDER "RISK FACTORS," "NOTE REGARDING
FORWARD-LOOKING STATEMENTS" AND ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K.
GENERAL
We are a specialty pharmaceutical company that develops and seeks to
commercialize pharmaceutical products. Currently, our portfolio of proprietary
product candidates is based on our drug delivery technologies: SEPA, MacroDerm
and DermaPass. Our 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 operating 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 December 31, 2006, we had an
accumulated deficit of $81,385,779. 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. Please see our financial statements
included elsewhere in this Annual Report on Form 10-K for a more detailed
description of our financial history.
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;
31
o the degree of our research, marketing and administrative efforts;
o our ability to raise additional capital;
o the signing of licenses and product development agreements;
o the timing of revenues recognized pursuant to license agreements; and
o the achievement of milestones by licensees.
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 will 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 completed a private placement of our securities to institutional
investors, consisting of two closings, for approximately $8,255,000 in gross
proceeds. The first closing of the private placement, in which institutional
investors acquired 250 shares of Series C Cumulative Convertible Preferred Stock
(the "Series C Preferred Stock") and six-year warrants to purchase 2,380,951
shares of common stock at an exercise of $1.26 per share, for an aggregate
purchase price of $2,500,000, took place on December 23, 2005 and is described
in our Report on Form 8-K filed on December 27, 2005. The second closing of the
private placement, in which institutional investors acquired 575.5 shares of our
Series C Preferred Stock and six-year warrants to purchase 5,480,961 shares of
the Company's common stock at an exercise price of $1.26 per share, for an
aggregate purchase price of $5,755,000, occurred on February 13, 2006 and is
described in our Current Report on Form 8-K filed on February 16, 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 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.
We believe that our existing cash, cash equivalents and short term
investments of $4,895,302 as of December 31, 2006 will be sufficient to meet our
current operating expenses and capital expenditure requirements for at least the
next twelve months.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist of:
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
32
o allocable costs, including occupancy and depreciation.
Because a significant 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 fiscal
year ended December 31, 2006, we spent $679,759 on research and development,
including $591,008 in costs associated with clinical trials for EcoNail, and
$88,751 in costs not specifically tracked to a project. Opterone was not in a
clinical trial in 2006. For the fiscal year ended December 31, 2005, we spent
$2,291,721 on research and development, including $229,650 and $111,739 in costs
associated with clinical trials for EcoNail and Opterone, respectively, and
$1,950,332 in costs not specifically tracked to a project. For the fiscal year
ended December 31, 2004, we spent $4,221,039 on research and development,
including $469,515, $1,109,345 and $388,360 in costs associated with our
clinical trials for EcoNail, Opterone and Topiglan (our topical formulation of
SEPA and alprostadil for treatment of erectile dysfunction), respectively, and
$2,253,819 in costs not specifically tracked to a project. Following a complete
review of the results of a Phase 2 pharmacodynamic study of Topiglan in which
Topiglan did not meet its primary clinical endpoints, we have no plans for
further clinical studies of Topiglan. Accordingly, as of June 30, 2004, we
recorded a reduction of $124,853 to the carrying value of certain patent assets
related to Topiglan. For the year ending December 31, 2007, we expect to
continue to spend significant amounts on clinical trials for EcoNail, which we
estimate may cost up to $1,200,000.
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. 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
33
we begin, when appropriate, to license, partner, or market our product
candidates if and when they receive regulatory approval.
STOCK BASED COMPENSATION. 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.
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 elsewhere in
this Annual Report on Form 10-K 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.
RESEARCH AND DEVELOPMENT . Research and development costs are expensed as
incurred.
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
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.
DEFERRED TAXES. As part of the process of preparing our financial
statements we are required to estimate our income taxes in each of the
jurisdictions in which we operate. This process involves estimating our actual
current tax exposure together with assessing temporary differences resulting
from differing treatments of items for tax and accounting purposes. These
differences result in deferred tax assets and liabilities. In addition, as of
December 31, 2006, we had federal tax net operating loss carryforwards of
34
approximately $73,367,079, which expire through 2026. We also have research and
development credit carryforwards of $2,475,048. We have recorded a valuation
allowance to fully offset against these otherwise recognizable net deferred tax
assets due to the uncertainty surrounding the timing of the realization of the
tax benefit. In the event that we determine in the future that we will be able
to realize all or a portion of the net deferred tax benefit, an adjustment to
deferred tax valuation allowance would increase net income in the period in
which such a determination is made. The utilization of net operating loss
carryforwards and credits available to be used in any given year may be limited
in the event of significant changes in ownership interest, as defined.
WARRANTS LIABILITY. Based on certain terms in the warrants that we issued
in connection with the sale of our Series C Cumulative Convertible Preferred
Stock, we determined that the warrants should be classified as a liability and
valued at fair market value each reporting period, with the changes in fair
value recorded in earnings, in accordance with EITF 00-19, "Accounting for
Derivative 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.
STOCK BASED COMPENSATION. 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.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2006 COMPARED TO THE YEAR ENDED DECEMBER 31, 2005
The Company had no revenues for the years ended December 31, 2006 and 2005,
respectively. For the year ending December 31, 2007, we do not expect to have
any revenues.
Research and development costs for 2006 decreased by $1,611,962 from
$2,291,721 in 2005 to $679,759 in 2006, a 70.3% decrease. The decrease is
primarily attributable to the temporary cessation of research and development
activities in August 2005, resulting in a reduction in payroll and employee
related expenses of $692,824 and a reduction in lab operating expenses of
$674,166 for the year ended December 31, 2006. In addition, there was a decrease
in clinical development costs of $244,320. For the year ending December 31,
2007, we expect to incur clinical development costs of approximately $1,200,000.
35
Marketing, general and administrative costs for 2006 increased by $724,914,
or 24.3% to $3,713,006, from $2,988,092 in 2005. The increase was 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 $941,127. In addition, expenses
related to conferences and investor meetings increased by approximately
$265,311. The effect of these amounts on marketing, general and administrative
expenses for the year 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 approximately $603,428 during the year ended December 31,
2006. For the year ending December 31, 2007, we expect the marketing, general
and administrative expenses to approximate $2,750,000.
For the year ended December 31, 2006, other income increased by $6,278,494
to $6,344,044 compared to $65,550 for the year ended December 31, 2005. This
gain 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. As a result, the fair value of the warrant liability decreased by
$6,100,615. Interest income for the year December 31, 2006 increased by $177,879
to $243,429 compared to interest income of $65,550 for the year ended December
31, 2005. The increase in interest income is due to the higher amounts of cash
available for investing purposes and higher interest rate returns available for
the cash that is invested.
For the reasons described above, the Company's financial statements reflect
a net income of $1,951,279 for the year ended December 31, 2006 compared to a
net loss of $(5,760,475) for the year ended December 31, 2005.
YEAR ENDED DECEMBER 31, 2005 COMPARED TO THE YEAR ENDED DECEMBER 31, 2004
We had no revenues for the years ended December 31, 2005 and December 31,
2004.
Research and development costs for 2005 decreased by $1,929,318, from
$4,221,039 in 2004 to $2,291,721 in 2005, a 45.7% decrease. The decrease is
primarily attributable to the cessation of research and development activities
in August 2005, including a reduction in spending on clinical trials of
$1,832,516 compared with 2004 and a reduction in payroll and related expenses of
$204,494 in 2005 as a result of a staff reduction in August 2005. The decrease
in research and development costs as a result of these reductions was offset in
part by increases in payments to technical consultants of $115,000 and other
miscellaneous research expenses.
Marketing, general and administrative costs for 2005 decreased by
$1,170,360, from $4,158,452 in 2004 to $2,988,092 in 2005, a 28.0% decrease. The
decrease is primarily attributable to a staff reduction in August 2005 which
resulted in a reduction of salary and related expenses of $524,562. In addition,
in 2005 legal and audit expenses decreased by approximately $230,000, travel
expenses decreased by $40,000, insurance expenses decreased by $75,000,
consulting and investor relations expenses decreased by $320,000 and market
development expenses decreased by $110,000. The aggregate decrease in marketing,
general and administrative costs was offset, in part, by a payment of
36
approximately $370,000 to certain executive officers and administrative staff
under transition agreements.
As reported on a Current Report on Form 8-K filed on September 7, 2005, the
Company terminated substantially all its non-management personnel on August 31,
2005. The costs associated with this staff reduction and related expenses were
approximately $156,839. As reported on a Current Report on Form 8-K filed on
September 16, 2005, the Company entered into transition agreements with its
executive officers in September 2005. 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. The total costs
associated with all executive transition agreements were approximately $709,646.
Of this total, approximately $320,000 was charged to marketing, general and
administrative expenses. These agreements also provided for aggregate payments
of approximately $35,000 on November 30, 2005 and $35,000 on December 15, 2005.
Total other income decreased by $39,421 or 37.5%, from $104,971 in 2004 to
$65,550 in 2005. The decrease is attributable to lower cash balances available
for investment purposes in 2005. For the year ended December 31, 2005, our net
loss was $5,760,475 as compared to a loss of $8,274,521 for the previous year, a
30.4% decrease, which was due to the factors mentioned above.
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 2004, we received net proceeds of $443,817 from the
exercise of warrants, and proceeds of $6,681,275 (net of issuance costs) as a
result of the sale of our common stock in a private placement financing
transaction. During 2005, we received net proceeds of $87,500 from the exercise
of warrants, and proceeds of $815,000 ($601,342 net of issuance costs) as a
result of the sale of our common stock and proceeds of $2,500,000 ($2,125,943
net of issuance costs) as a result of the sale of our Series C Cumulative
Convertible Preferred Stock in private placement financing transactions. On
February 13, 2006, we received gross proceeds of $5,755,000 ($5,186,908 net of
issuance costs) as a result of the sale of our Series C Cumulative Convertible
Preferred Stock in a private placement financing transaction.
At December 31, 2006, working capital was approximately $4.8 million,
compared to $2.7 million at December 31, 2005. The increase in our working
capital reflects the receipt of private placement proceeds of $5,186,908 (net of
issuance costs) in February 2006, partially offset by the funds used in
operations.
On March 9, 2004, we sold approximately 128,619 shares of our common stock
for $7,292,700 in gross proceeds ($6,681,275 net of issuance costs) in a private
placement to institutional investors. The investors also received warrants to
purchase approximately 25,717 shares of common stock at a purchase price of
$87.78 per share expiring five years from the closing date. On April 19, 2005,
we sold approximately 65,040 shares of our common stock to institutional
investors and to certain executive officers and directors of the Company for
37
$815,000 in gross proceeds ($601,342 net of issuance costs). The investors also
received warrants to purchase approximately 32,520 shares of common stock at
exercise prices $14.70 for the institutional investors and $21.84 for the
officers and directors. On December 23, 2005, we sold 250 shares of Series C
Cumulative Convertible Preferred Stock for $2,500,000 in gross proceeds
($2,125,943 net of issuance costs) in a private placement to institutional
investors. The investors also received warrants to purchase 2,380,951 shares of
common stock at an exercise price of $1.26 per share. 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 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 fiscal year ended December 31, 2006,
we did not repurchase any shares of common stock. At December 31, 2006, 529
repurchased shares remain available for future use and 16,180 shares remain
available for repurchase under the plan.
There were no capital expenditures and patent development costs were
$40,770 for the year ended December 31, 2006. Capital expenditures were $14,519
and patent development costs were $105,080 for the year ended December 31, 2005.
We anticipate additional capital and patent expenditures will be approximately
$100,000 for the fiscal year ending December 31, 2007.
On July 10, 2003, the Board of Directors approved retention payments for
certain key employees, including certain executive officers, in order to enhance
retention of those employees. We made payments of approximately $84,000 on
January 8, 2004 and we made payments of approximately $153,000 on July 2, 2004.
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 of December 31, 2006, we had $4,895,302 in cash, cash equivalents and
short-term investments. As noted above, on February 13, 2006 we received
$5,755,000 in gross proceeds ($5,186,908 net of issuance costs) from the sale of
our Series C Preferred Stock and warrants to purchase shares of our common
38
stock. We believe that our existing cash, cash equivalents and short-term
investments will be sufficient to meet our current 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, 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.
At December 31, 2006, the Company had no long-term contractual obligations.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2006, the FASB issued FASB Interpretation 48, "ACCOUNTING FOR
UNCERTAINTY IN INCOME TAXES, AN INTERPRETATION OF FASB STATEMENT NO. 109" ("FIN
48"), which clarifies the accounting for uncertainty in income taxes recognized
in a company's financial statements in accordance with SFAS 109 "ACCOUNTING FOR
INCOME TAXES." FIN 48 prescribes a recognition threshold and measurement
attribute for the financial statement recognition and measurement of a tax
position taken or expected to be taken in a tax return. FIN 48 becomes effective
for fiscal years beginning after December 15, 2006. The Company does not expect
the adoption of FIN 48 to have a material impact on its financial position or
results of operations.
In September 2006, the FASB issued Statement 157 "FAIR VALUE MEASUREMENTS"
("SFAS 157"), which establishes a framework for measuring fair value in
generally accepted accounting principles and expands disclosures about fair
value financial instruments. SFAS 157 becomes effective for fiscal years
beginning after November 15, 2007. The Company will adopt this statement
prospectively once it is effective and applicable. The Company does not expect
SFAS 157 to have a material impact on its financial position or results of
operations.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities ("SFAS 159"). SFAS 159 provides
companies with an option to report selected financial assets and liabilities at
fair value. SFAS 159 also establishes presentation and disclosure requirements
designed to facilitate comparisons between companies that choose different
measurement attributes for similar types of assets and liabilities and to
provide additional information that will help investors and other financial
statement users to more easily understand the effect of the company's choice to
use fair value on its earnings. Finally, SFAS 159 requires entities to display
the fair value of those assets and liabilities for which the company has chosen
to use fair value on the face of the balance sheet. SFAS 159 is effective as of
the beginning of an entity's first fiscal year beginning after November 15,
2007. Early adoption is permitted. The Company is currently assessing the impact
of SFAS 159 which it will be required to adopt.
39
In September 2006, the Securities and Exchange Commission issued SAB 108,
which provided guidance on the consideration of the effects of prior year
misstatements in quantifying current year misstatements for the purpose of a
materiality assessment. SAB 108 was effective for fiscal years ending after
November 15, 2006. The adoption of SAB 108 did not have a material impact on the
Company's financial position or results of operations.
SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
FIRST SECOND THIRD FOURTH
----------------------------------------------------------
2006 Quarters
Revenues $ --- $ --- $ --- $ ---
Loss from Operations (1,207,109) (1,066,803) (1,160,767) (958,086)
Net Income (Loss) (1,991,360) 4,410,432 685,163 (1,152,956)
Net Income (Loss) Attributable
to Common Stockholders (2,142,907) 4,205,008 481,164 (1,355,947)
Basic Net Income (Loss) per
Common Share $ (1.98) $ 3.86 $ 0.33 $ (0.64)
Diluted Net Income (Loss) per
Common Share $ (1.98) $ 0.57 $ 0.08 $ (0.64)
2005 Quarters
Revenues $ --- $ --- $ --- $ ---
Net Loss Attributable to Common
Stockholders $(1,841,540) $(1,526,346) $(1,820,992) $ (901,840)
Net Loss per Share
(basic and diluted) $ (1.99) $ (1.56) $ (1.83) $ (0.87)
The quarters ended March 31, June 30 and September 30, 2006 have been
restated (Notes 1 and 5). The restatement is in connection with the Series C
Cumulative Convertible Preferred Stock Offering, the Company issued warrants to
the private placement agent for services rendered. The fair value of the award
was originally accounted for as an offset to the proceeds of the Series C
Preferred offering and a credit to additional paid in capital. Upon further
review of the terms of the warrants, it was determined that the private
placement agent's warrants' put feature enables the holder, at their option, to
require the Company to repurchase the award for cash in the event of a change in
control. The Company determined that the warrants meet the definition of a
derivative investment as defined in SFAS 133, Accounting for Derivative
Financial Instruments Indexed to, and Potentially Settled in, a Company's Own
Stock, and should be adjusted to its current fair value at each reporting period
and classified as a warrant liability. As such, the net loss for the quarter
ended March 31, 2006 increased by $250,496, and the net income for the quarters
ended June 30, 2006 and September 30, 2006, increased by $260,764 and $438,854,
respectively.
40
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
As of December 31, 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 twelve months ending December 31, 2006, based on December
31, 2006 balances.
THE FOREGOING STATEMENTS IN THIS REPORT INCLUDE FORWARD-LOOKING STATEMENTS
THAT INVOLVE RISKS AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS MAY DIFFER
SIGNIFICANTLY FROM THE RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS.
FACTORS THAT MIGHT CAUSE SUCH A DIFFERENCE INCLUDE THOSE DISCUSSED OR REFERRED
TO IN ITEM 1A, RISK FACTORS.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The information required under this Item 8 is set forth on pages 41 through
65 of this report.
41
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of MacroChem Corporation:
We have audited the accompanying balance sheets of MacroChem Corporation (the
"Company") as of December 31, 2006 and 2005, and the related statements of
operations, stockholders' equity, and cash flows for the years then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with the auditing standards of the Public
Company Accounting Standards Board (United States). Those standards require that
we plan and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audits included consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the accompanying financial statements referred to above present
fairly, in all material respects, the financial position of the Company as of
December 31, 2006 and 2005, and the results of its operations and its cash flows
for the years then ended in conformity with accounting principles generally
accepted in the United States of America.
As discussed in Note 1 to the consolidated financial statements, the Company
adopted the provisions of Statement of Financial Accounting Standard No. 123(R),
"Share-Based Payment," effective January 1, 2006.
/s/ VITALE, CATURANO & COMPANY, LTD.
Boston, Massachusetts
March 30, 2007
42
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of MacroChem Corporation:
We have audited the accompanying balance sheet of MacroChem Corporation (the
"Company") as of December 31, 2004, and the related statements of operations,
stockholders' equity, and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with the auditing standards of the Public
Company Accounting Standards Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. An audit includes consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of the Company as of December 31, 2004, and the
results of their operations and their cash flows for the year ended December 31,
2004 in conformity with accounting principles generally accepted in the United
States of America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 1 to the
financial statements at December 31, 2004, the Company's recurring losses from
operations raised substantial doubt about its ability to continue as a going
concern. Management's plans concerning these matters are also described in Note
1. The financial statements do not include any adjustments that might result
from the outcome of the uncertainty.
/s/ DELOITTE & TOUCHE LLP
Boston, Massachusetts
MARCH 24, 2005
43
MACROCHEM CORPORATION
BALANCE SHEETS
FISCAL YEAR ENDED DECEMBER 31,
-------------------------------
2006 2005
ASSETS ------------- ----------------
(Restated
See Note 1)
Current assets:
Cash and cash equivalents $ 738,264 $ 3,023,436
Short-term investments 4,157,038 ---
Prepaid expenses and other current assets 153,660 106,761
------------ ------------
Total current assets 5,048,962 3,130,197
------------ ------------
Property and equipment, net 37,391 72,203
------------ ------------
Patents, net 567,604 579,053
------------ ------------
Total assets $ 5,653,957 $ 3,781,453
============ ============
LIABILITIES
Current liabilities:
Accounts payable $ 85,473 $ 125,478
Accrued expenses and other liabilities 183,362 249,552
------------ ------------
Total current liabilities 268,835 375,030
Warrants liability 870,098 1,795,700
------------ ------------
Total liabilities 1,138,933 2,170,730
------------ ------------
Commitments and contingencies (Note 1)
Preferred stock, $.01 par value, 6,000,000 shares
authorized; liquidation value of $8,053,400
and $2,500,000, 805 and 250 shares Series C
Convertible issued and outstanding at
December 31, 2006 and December 31, 2005,
respectively (Notes 5) 333,783 330,243
------------ ------------
STOCKHOLDERS' EQUITY
Common stock, $.01 par value, 100,000,000 shares
authorized; 2,620,679 and 997,438 shares
issued at December 31, 2006 and December
31, 2005, respectively 26,206 9,974
Additional paid-in capital 85,599,924 83,914,608
Accumulated deficit (81,385,779) (82,584,992)
Less treasury stock, at cost, 529 shares at
December 31, 2006 and December 31, 2005 (59,110) (59,110)
------------ ------------
Total stockholders' equity 4,181,241 1,280,480
------------ ------------
Total liabilities and stockholders' equity $ 5,653,957 $ 3,781,453
============ ============
See notes to financial statements.
44
MACROCHEM CORPORATION
STATEMENTS OF OPERATIONS
FISCAL YEAR ENDED DECEMBER 31,
----------------------------------------------
2006 2005 2004
------------- --------------- --------------
REVENUES: $ --- $ --- $ ---
----------- ------------ ------------
OPERATING EXPENSES:
Research and development 679,759 2,291,721 4,221,039
Marketing, general and administrative 3,713,006 2,988,092 4,158,452
Costs associated with staff reduction and transition
agreements --- 546,212 ---
----------- ------------ ------------
TOTAL OPERATING EXPENSES 4,392,765 5,826,025 8,379,492
----------- ------------ ------------
LOSS FROM OPERATIONS (4,392,765) (5,826,025) (8,379,492)
OTHER INCOME:
Interest income 243,429 65,550 104,971
Gain on change in value of warrant liability 6,100,615 --- ---
----------- ------------ ------------
TOTAL OTHER INCOME (NOTES 1 AND 5) 6,344,044 65,550 104,971
----------- ------------ ------------
NET INCOME (LOSS) $ 1,951,279 $(5,760,475) $(8,274,521)
=========== ============ ============
BENEFICIAL CONVERSION FEATURE (NOTE 5) $ (11,895) $ (330,243) $ ---
DIVIDEND ON SERIES C CUMULATIVE PREFERRED STOCK $ (752,066) $ --- $ ---
----------- =----------- ------------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON STOCKHOLDERS $ 1,187,318 $(6,090,718) $(8,274,521)
=========== ============ ============
BASIC NET INCOME (LOSS) PER COMMON SHARE $ 0.84 $ (6.25) $ (9.23)
=========== ============ ============
DILUTED NET INCOME (LOSS)
PER COMMON SHARE $ 0.24 $ (6.25) $ (9.23)
=========== ============ ============
WEIGHTED AVERAGE SHARES USED TO COMPUTE BASIC NET INCOME
(LOSS) PER COMMON SHARE 1,423,665 974,367 896,039
=========== ============ ============
WEIGHTED AVERAGE SHARES USED TO COMPUTE DILUTED NET INCOME
(LOSS) PER COMMON SHARE 8,260,510 974,367 896,039
=========== ============ ============
See notes to financial statements.
45
MACROCHEM CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY
COMMON STOCK SHARES ADDITIONAL COST OF TOTAL
-------------------- COMMON PAID-IN UNEARNED ACCUMULATED TREASURY STOCKHOLDERS'
ISSUED TREASURY STOCK CAPITAL COMPENSATION DEFICIT SUBTOTAL STOCK EQUITY
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE,
JANUARY 1, 2004 784,387 (2,770) 7,843 76,100,544 (2,451) (68,549,996) 7,555,941 (319,621) 7,236,320
========= ======= ======= ========== ======== ============= ============ ========== ============
Stock based
compensation --- --- --- 26,740 2,451 --- 29,191 --- 29,191
Exercise of
common stock
options 9,011 --- 90 443,727 --- --- 443,817 --- 443,817
Stock issued
to 401(k) trust --- 1,288 --- (91,411) --- --- (91,411) 150,471 59,060
Issuance of
common stock,
net 128,619 --- 1,286 6,679,989 --- --- 6,681,275 --- 6,681,275
Issuance of
restricted stock 4,268 --- 43 161,319 --- --- 161,362 --- 161,362
Net loss --- --- --- --- --- (8,274,521) (8,274,521) --- (8,274,521)
--------- ------- ------- ----------- -------- ------------- ------------ ---------- ------------
BALANCE,
DECEMBER 31,
2004 926,285 (1,482) $ 9,263 $83,320,908 $ --- $(76,824,517) $ 6,505,654 $(169,150) $ 6,336,504
========= ======= ======= =========== ========= ============= ============ ========== ============
Exercise of
warrants 6,012 --- 60 87,440 --- --- 87,500 --- 87,500
Stock issued to
401(k) trust --- 953 --- (94,431) --- --- (94,431) 110,040 15,609
Issuance of common
stock, net 65,141 --- 651 417,430 --- --- 418,081 --- 418,081
Issuance of
warrants in
connection with sale
of common stock --- --- --- 183,260 --- --- 183,260 --- 183,260
Net loss --- --- --- --- --- (5,760,475) (5,760,475) --- (5,760,475)
-------- ------- ------- ----------- --------- ------------- ------------ ---------- ------------
BALANCE,
DECEMBER 31,
2005 997,438 (529) $ 9,974 $83,914,608 $ --- $(82,584,992) $ 1,339,590 $ (59,110) $ 1,280,480
========= ======= ======== =========== ========= ============= ============ ========== ============
Non-cash dividend
paid on preferred
stock 1,429,700 --- 14,297 737,769 --- (752,066) --- --- ---
Stock-based
compensation
expense --- --- --- 941,127 --- --- 941,127 --- 941,127
Conversion of
preferred stock
to common 193,541 --- 1,935 6,420 --- --- 8,355 --- 8,355
Net income --- --- --- --- --- $ 1,951,279 $ 1,951,279 --- $ 1,951,279
--------- ------- ------- ----------- --------- ------------- ------------ ---------- ------------
BALANCE,
DECEMBER 31,
2006 2,620,679 (529) $26,206 $85,599,924 $ --- $(81,385,779) $ 4,240,351 $ (59,110) $ 4,181,241
========= ======= ======= =========== ========= ============= ============ ========== ============
See notes to financial statements.
46
MACROCHEM CORPORATION
STATEMENTS OF CASH FLOWS
Year Ended December 31,
-------------- -------------- --------------
2006 2005 2004
-------------- -------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ 1,951,279 $ (5,760,475) $ (8,274,521)
Adjustments to reconcile net income (loss) to
net cash used by operating activities:
Depreciation and amortization 87,031 175,024 172,906
Stock-based compensation 941,127 --- 190,553
Loss on disposal --- --- 767
401(k) contributions in company common stock --- 15,610 59,060
Deferred rent --- (5,509) (27,854)
Reduction to capitalized patents --- --- 124,853
(Gain) on change in value of warrant liability (6,100,615) --- ---
Change in assets and liabilities:
Prepaid expenses and other current assets (46,900) 222,147 (12,842)
Accounts payable and accrued expenses (106,195) (392,821) (212,111)
Deposits --- --- 29,193
-------------- -------------- --------------
Net cash used in operating activities (3,274,272) (5,746,024) (7,949,996)
-------------- -------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Sales of short-term investments --- 1,185,406 2,000,000
Purchases of short-term investments (4,157,038) --- (15,883)
Expenditures for property and equipment --- (14,519) (73,526)
Additions to patents (40,770) (105,080) (36,591)
-------------- -------------- --------------
Net cash (used in) provided by investing activities (4,197,808) 1,065,807 1,874,000
-------------- -------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of Series C
Cumulative Convertible Preferred Stock 5,186,908 2,125,943 ---
Net proceeds from sale of common stock --- 601,342 6,681,275
Proceeds from exercise of warrants --- 87,500 443,817
-------------- -------------- --------------
Net cash provided by financing activities $ 5,186,908 $ 2,814,785 $ 7,125,092
-------------- -------------- --------------
See notes to financial statements. (Continued)
47
MACROCHEM CORPORATION
STATEMENTS OF CASH FLOWS (Continued)
Years Ended December 31,
---------------- ----------------- ----------------
2006 2005 2004
---- ---- ----
NET CHANGE IN CASH
AND CASH EQUIVALENTS $ (2,285,172) $(1,865,432) $ 1,049,096
CASH AND CASH EQUIVALENTS,
BEGINNING OF YEAR 3,023,436 4,888,868 3,839,772
------------- ------------- --------------
CASH AND CASH EQUIVALENTS,
END OF YEAR $ 738,264 $ 3,023,436 $ 4,888,868
============= ============= ==============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for taxes $ --- $ --- $ ---
Cash paid for interest $ --- $ --- $ ---
Non-cash dividend to Series C Preferred stockholders $ 752,066 $ --- $ ---
Beneficial conversion feature associated with Series C
Preferred Stock $ 11,895 $ 330,243 $ ---
Conversion of Series C Preferred Stock to Common $ 8,355 $ --- $ ---
See notes to financial statements.
48
MACROCHEM CORPORATION
NOTES TO FINANCIAL STATEMENTS
All references to share amounts, share prices and per share data in these
Notes to Financial Statements 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. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.
MacroChem Corporation (the "Company") is a specialty pharmaceutical company
that develops and seeks to commercialize pharmaceutical products using its
proprietary drug delivery technologies.
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 losses from operations every year since
its inception and the Company anticipates that operating losses may continue for
the foreseeable future. At December 31, 2006 and 2005, the Company's accumulated
deficit was approximately $81.4 million and $82.6 million, respectively . 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
believes that its existing cash, cash equivalents and short-term investments
will be sufficient to fund operations under the Company's current plan for at
least the next twelve months. 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 year end December 31, 2005 balance sheet has been restated to reflect
the changes in the accounting for the Series C Cumulative Preferred Stock
Offering (Note 5). In connection with the offering, the Company issued warrants
to the private placement agent for services rendered. The fair value of the
award was originally accounted for as an offset to the proceeds of the Series C
Preferred offering and a credit to additional paid in capital. Upon further
review of the terms of the warrants, it was determined that the private
placement agent's warrants' put feature enables the holder, at their
option, to require the Company to repurchase the award for cash in the event of
a change in control. The Company determined that the warrants meet the
definition of a derivative investment as defined in SFAS 133, Accounting for
Derivative Financial Instruments Indexed to, and Potentially Settled in, a
Company's Own Stock, and should be adjusted to its current fair value at each
reporting period and classified as a warrant liability. As such, the Balance
Sheet has been adjusted to reflect a reclass of $174,922 from additional paid in
capital to warrant liability. There was no impact on the Statement of Operations
or the Statement of Cash Flows for the year ended December 31, 2005. As a result
of the error, each of the quarters ended March 31, June 30 and September 30,
2006 have been restated.
49
ACCOUNTING ESTIMATES - The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. The primary estimates
underlying the Company's financial statements include the fair market value of
warrants included in liabilities, the carrying value and useful lives of the
Company's patents and property and equipment, the valuation allowance
established for the Company's deferred tax assets, and the underlying
assumptions to apply the pricing model to value stock options under SFAS No.
123(R). Management bases its estimates on certain assumptions, which it believes
are reasonable in the circumstances, and while actual results could differ from
those estimates, management does not believe that any change in those
assumptions in the near term would have a significant effect on the financial
position or the results of operations.
FAIR VALUE OF FINANCIAL INSTRUMENTS - The carrying amounts of cash, cash
equivalents, short-term investments, accounts payable and accrued expenses
approximate their fair value because of their short-term nature.
CONCENTRATION OF RISK - Cash, cash equivalents and short-term investments
at December 31, 2006 and 2005 are primarily comprised of certificates of
deposit.
CASH AND CASH EQUIVALENTS - Cash equivalents consist of short-term, highly
liquid investments with a maturity of three months or less when purchased.
SHORT-TERM INVESTMENTS - Short-term investments are liquid certificates of
deposit with a carrying value of $4,157,038 at December 31, 2006 and $0 in 2005.
PROPERTY AND EQUIPMENT - Property and equipment are stated at cost.
Depreciation and amortization are provided on the straight-line method over the
estimated useful lives of the related assets, which range from three to ten
years.
PATENTS - The Company has filed applications for United States and foreign
patents covering aspects of its technology. Costs and expenses incurred in
connection with pending patent applications are deferred. Costs related to
successful patent applications are amortized over the estimated useful lives of
the patents, not exceeding 20 years, using the straight-line method. Accumulated
patent costs and deferred patent application costs related to patents that are
considered to have limited future value are charged to expense. Accumulated
amortization aggregated approximately $376,228 and $324,008, respectively, at
December 31, 2006 and 2005. On an on-going basis, the Company evaluates the
recoverability of the net carrying value of various patents by reference to the
patent's expected use in drug and other research activities as measured by
outside interest in the Company's patented technologies and management's
determination of potential future uses of such technologies.
LONG-LIVED ASSETS - The Company reviews its long-lived assets for
impairment when events or changes in circumstances indicate that the carrying
amount of a long-lived asset may not be recoverable. Recoverability of such
assets to be held and used is measured by a comparison of the carrying amount of
the asset to future undiscounted net cash flows expected to be generated by the
asset. If such assets are considered to be impaired, the impairment to be
50
recognized is measured by the amount by which the carrying amount of the assets
exceeds the fair value of the assets. Following a complete review of the results
of a Phase 2 pharmacodynamic study of Topiglan in 2004 in which Topiglan did not
meet its primary clinical endpoints, the Company recorded a reduction of
$124,853 to the carrying value of certain patent assets related to Topiglan.
RESEARCH AND DEVELOPMENT - Research and development costs are charged to
operations as incurred. Such costs include proprietary research and development
activities and expenses associated with research and development contracts,
whether performed by the Company or contracted with independent third parties.
STOCK BASED COMPENSATION - 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 as an expense 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.
Stock based compensation expense for the years ended December 31, 2006,
2005 and 2004 is as follows:
YEAR ENDED DECEMBER 31,
2006 2005 2004
---- ---- ----
Research and development $ --- $ --- $ 8,069
Marketing, general and administrative 941,127 --- 21,122
------------ ------------ -------------
$ 941,127 $ --- $ 29,191
============ ============ =============
On November 10, 2005, the Financial Accounting Standards Board ("FASB")
issued FASB Staff Position SFAS 123(R)-3 "Transition Election Related to
51
Accounting for Tax Effects of Share-Based Payment Awards." The Company has
elected to adopt the alternative transition method provided the FASB Staff
Position for calculating the tax effects (if any) of stock-based compensation
expense pursuant to SFAS 123(R). The alternative transition method includes
simplified methods to establish the beginning balance of the additional paid-in
capital pool related to the tax effects of employee stock-based compensation,
and to determine the subsequent impact to the additional paid-in capital pool
and the consolidated statements of operations and cash flows of the tax effects
of employee stock-based compensation awards that are outstanding upon adoption
of SFAS 123(R).
INCOME TAXES - The Company recognizes deferred tax assets and liabilities
for the expected future tax consequences of events that have been included in
the Company's financial statements or tax returns. Deferred tax assets and
liabilities are determined based upon the difference between the financial
reporting basis and the tax basis of existing assets and liabilities using
enacted tax rates expected to be in effect in the year(s) in which the
differences are expected to reverse. A valuation allowance is provided against
deferred tax assets if it is more likely than not that such assets will not be
realized.
REVERSE STOCK SPLIT - On December 30, 2005, the Company implemented a
1-for-7 reverse stock split of its common stock and on February 9, 2006, the
Company implemented a subsequent 1-for-6 reverse stock split of its common
stock. Unless otherwise noted, data used throughout the Financial Statements
have been adjusted to reflect these reverse splits.
BASIC AND DILUTED INCOME OR (LOSS) PER SHARE - Basic earnings per share is
computed using the weighted average number of common shares outstanding during
each year. Diluted earnings per common share for the year ended December 31,
2006 reflect the effect of the Company's outstanding Series C Convertible
Preferred shares, options and warrants, except where such items would be
anti-dilutive. For the years ended December 31, 2005 and 2004, potential common
shares are not included in the per share calculations for diluted EPS, because
the effect of their inclusion would be anti-dilutive. Anti-dilutive potential
shares from stock options and warrants not included in per share calculations
under the treasury stock method for 2006, 2005 and 2004 were 9,769,170,
2,807,673 and 155,919 shares, respectively.
BASIC AND DILUTED INCOME (LOSS) PER SHARE YEAR ENDED DECEMBER 31,
---------------------------------------------------
2006 2005 2004
---- ---- ----
Basic net income (loss) attributable to common
stockholders (Numerator) $ 1,187,318 $ (6,090,718) $ (8,274,521)
-------------- --------------- ---------------
Dividend on Series C Cumulative Preferred Stock $ 752,066 $ --- $ ---
-------------- --------------- ---------------
Net income (loss) used to compute diluted net income
(loss) per common share (Numerator) $ 1,939,384 $ (6,090,718) $ (8,274,521)
-------------- --------------- ---------------
Basic net income (loss) per common share $ 0.84 $ (6.25) $ (9.23)
Diluted net income (loss) per common share $ 0.24 $ (6.25) $ (9.23)
Weighted average shares used to compute basic net
income (loss) per common share (Denominator) 1,423,665 974,367 896,039
Weighted average shares used to compute diluted net
income (loss) per common share (Denominator) 8,260,510 974,367 896,039
52
RECENT ACCOUNTING PRONOUNCEMENT - In June 2006, the FASB issued FASB
Interpretation 48, "ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES, AN
INTERPRETATION OF FASB STATEMENT NO. 109" ("FIN 48"), which clarifies the
accounting for uncertainty in income taxes recognized in a company's financial
statements in accordance with SFAS 109 "ACCOUNTING FOR INCOME TAXES." FIN 48
prescribes a recognition threshold and measurement attribute for the financial
statement recognition and measurement of a tax position taken or expected to be
taken in a tax return. FIN 48 becomes effective for fiscal years beginning after
December 15, 2006. The Company does not expect the adoption of FIN 48 to have a
material impact on its financial position or results of operations.
In September 2006, the FASB issued Statement 157 "FAIR VALUE MEASUREMENTS"
("SFAS 157"), which establishes a framework for measuring fair value in
generally accepted accounting principles and expands disclosures about fair
value financial instruments. SFAS 157 becomes effective for fiscal years
beginning after November 15, 2007. The Company will adopt this statement
prospectively once it is effective and applicable. The Company does not expect
SFAS 157 to have a material impact on its financial position or results of
operations.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities ("SFAS 159"). SFAS 159 provides
companies with an option to report selected financial assets and liabilities at
fair value. SFAS 159 also establishes presentation and disclosure requirements
designed to facilitate comparisons between companies that choose different
measurement attributes for similar types of assets and liabilities and to
provide additional information that will help investors and other financial
statement users to more easily understand the effect of the company's choice to
use fair value on its earnings. Finally, SFAS 159 requires entities to display
the fair value of those assets and liabilities for which the company has chosen
to use fair value on the face of the balance sheet. SFAS 159 is effective as of
the beginning of an entity's first fiscal year beginning after November 15,
2007. Early adoption is permitted. The Company is currently assessing the impact
of SFAS 159 which it will be required to adopt.
In September 2006, the Securities and Exchange Commission issued SAB 108,
which provided guidance on the consideration of the effects of prior year
misstatements in quantifying current year misstatements for the purpose of a
materiality assessment. SAB 108 was effective for fiscal years ending after
November 15, 2006. The adoption of SAB 108 did not have a material impact on the
Company's financial position or results of operations.
2. PROPERTY AND EQUIPMENT.
Property and equipment consists of the following as of December 31:
2006 2005
------------- -------------
Laboratory equipment $ 1,139,249 $ 1,139,249
Office equipment 489,459 489,459
Leasehold improvements 250,049 250,049
------------- -------------
Total 1,878,757 1,878,757
Less: accumulated depreciation (1,841,366) (1,806,554)
------------- -------------
Property and equipment, net $ 37,391 $ 72,203
============= =============
53
3. ACCRUED EXPENSES.
Accrued expenses and other liabilities consists of the following as of
December 31:
2006 2005
------------- -------------
Accrued professional fees $ 98,300 $ 115,192
Accrued vacation 31,103 ---
Accrued vendor invoices 53,959 134,360
------------- -------------
$ 183,362 $ 249,552
============= =============
4. 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.
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.
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. On May 18, 2006, at the Company's Annual Meeting of
Stockholders, the Company's stockholders approved an amendment 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 from 123,809, resulting in a
maximum of 1,373,809 shares of Common Stock that may be granted as options. The
options may be awarded as incentive stock options (employees only) and
non-incentive stock options (certain employees, directors and consultants).
The 2001 Plan and the 1994 Plan state that the exercise price of options
shall not be less than fair market value at the date of grant. 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 the award. The 2001 Plan has a total of 1,373,809 shares
reserved for issuance, as of December 31, 2006, there were outstanding options
of 77,155 with 1,296,654 shares remaining available for future grants.
STOCK-BASED COMPENSATION - Prior to January 1, 2006, the Company had
followed Accounting Principles Board ("APB") Opinion No. 25, "Accounting for
Stock Issued to Employees", and related interpretations, which resulted in the
accounting for grants of awards to employees at their intrinsic value in the
consolidated financial statements. Accordingly, no compensation expense was
recorded for options issued to employees in fixed amounts and with
54
fixed exercise prices equal to the fair market value of the Company's common
stock at the date of grant. Effective January 1, 2006, the Company adopted FAS
No. 123(R), "Accounting for Stock-Based Compensation," ("FAS 123(R)") using the
modified prospective method, which results in the provisions of FAS 123(R) being
applied to the financial statements on a going-forward basis. FAS 123(R)
requires companies to recognize stock-based compensation awards granted to its
employees as compensation expense on a fair value method. Under the fair value
recognition provisions of FAS 123(R), stock-based compensation cost is measured
at the grant date based on the fair value of the award and is recognized as
expense over the service period, which generally represents the vesting period.
The grant date fair value of stock options is calculated using the Black-Scholes
option-pricing model and the grant date fair value of restricted stock is based
on intrinsic value. The expense recognized over the service period is required
to include an estimate of the awards that will be forfeited.
All stock-based awards to non-employees are accounted for at their fair
market value in accordance with FAS 123(R) and Emerging Issues Task Force No.
96-18, "Accounting for Equity Instruments That Are Issued to Other Than
Employees for Acquiring, or in Conjunction with Selling, Goods or Services."
Under this method, the equity-based instrument was valued at either the fair
value of the consideration received or the equity instrument issued on the date
of grant. The resulting compensation cost was recognized and charged to
operations over the service period, which was usually the vesting period.
As a result of adopting FAS 123(R), the impact to the Statement of
Operations for 2006 was $941,127, or $0.07 per share, all of which was recorded
in marketing, general and administrative.
For purposes of recording stock option-based compensation expense as
required by Statement No. 123(R), the fair values of each stock option granted
under the Company's stock option plan for the fiscal year ended December 31,
2006 were estimated as of the date of grant using the Black-Scholes
option-pricing model.
The fair values of all stock option grants issued were determined using the
following assumptions:
YEAR ENDED DECEMBER 31, 2006
----------------------------
Risk-free interest rate 4.86%
Expected life of option grants 6 years
Expected volatility of underlying stock 102%
Expected dividend payment rate, as a percentage of
the stock price on the date of grant 0%
The dividend yield assumption is based on the Company's history and
expectation of future dividend payouts. The Company estimated stock price
volatility using the historical volatility in the market price of its common
stock for the expected term of the options. 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.
55
As share-based compensation expense is recognized based on awards
ultimately expected to vest, it must be reduced for estimated forfeitures. FAS
123(R) requires forfeitures to be estimated at the time of grant and revised, if
necessary, in subsequent periods if actual forfeitures differ from those
estimates. Forfeiture rates are calculated based on actual historical
forfeitures.
The expected life of employee stock options represents the weighted-average
period the stock options are estimated to remain outstanding. The expected life
of employee stock options is, in part, a function of the options' remaining
contractual life and the extent to which the option is in-the-money (i.e., the
average stock price during the period is above the strike price of the stock
option). The Company estimates that, based on these variables, options are
likely on average to be exercised in approximately 6 years.
SFAS No. 123 requires the presentation of pro forma information for the
comparative periods prior to the adoption as if all of the Company's employee
stock options had been accounted for under the fair value method of the original
SFAS No. 123. The following table illustrates the effect on net loss and loss
per share if the Company had applied the fair value recognition provisions of
SFAS No. 123 to stock-based employee compensation in the prior-year periods:
2005 2004
------------- -------------
Net loss attributable to common
stockholders as reported $ (6,090,718) $ (8,274,521)
Add: Stock-based employee compensation
expense included in reported net loss --- 7,325
Deduct: Total stock-based employee
compensation measured using the fair
value method (733,414) (1,038,725)
------------- -------------
Pro forma net loss $ (6,824,132) $ (9,305,921)
============= =============
Basic and diluted net loss per share - as
reported $ (6.25) $ (9.23)
============= =============
Basic and diluted net loss per share - pro
forma $ (7.00) $ (10.39)
============= =============
For purposes of determining the disclosures required by SFAS No. 123, the
fair values of each stock option granted in the fiscal years ended December 31,
2005 and 2004 under the Company's stock option plan were estimated on the date
of grant using the Black-Scholes option-pricing model. The Company granted 9,142
and 31,319 options under its Stock Option Plans for the years ended December 31,
2005 and 2004, respectively.
56
The Company uses the Black-Scholes option-pricing model to estimate the
fair value of the options at the grant date. The weighted average grant date
fair value of all stock option grants issued for the years ended December 31,
2005 and 2004 was $91,907 and $178,852, respectively, using the following
assumptions:
YEAR ENDED DECEMBER 31,
2005 2004
---- ----
Risk-free interest rate 4.25% 4.14%
Expected dividend yield 0$ 0%
Volatility 100% 97%
Forfeiture rate 10% 15%
Expected life of option grants (years) 6 years 6 years
STOCK OPTION ACTIVITY - During the year ended December 31, 2006, the
Company granted stock options to existing employees and Directors, as part of
the Company's yearly review process. All such options were granted with exercise
prices equal to the current market value of the underlying common stock on the
date of grant. Stock option activity under the 1994, and 2001 Plans was as
follows:
WEIGHTED-
WEIGHTED AVERAGE AGGREGATE
AVERAGE REMAINING INTRINSIC
NUMBER OF EXERCISE PRICE CONTRACTUAL VALUE
SHARES PER SHARE TERM
$ 171.78
BALANCE, JANUARY 1, 2004 87,007
Granted 9,142 68.04
Exercised --- ---
Canceled (11,619) 125.16
------------- -------------
BALANCE, DECEMBER 31, 2004 84,530 167.16
Granted 39,319 12.67
Exercised --- ---
Canceled (17,153) 29.85
------------- -------------
BALANCE, DECEMBER 31, 2005 106,696 132.24
Granted 988,000 1.58
Exercised --- ---
Canceled (39,003) 136.04
------------- -------------
BALANCE, DECEMBER 31, 2006 1,055,693 $ 10.21 8.92 $ ---
============= ============= ============= =============
Exercisable, December 31, 2006 408,436 $ 23.43 8.69 ---
Exercisable, December 31, 2005 88,360 $ 153.81 3.72 $ ---
Exercisable, December 31, 2004 67,993 $ 192.78 --- ---
57
The following table summarizes information relating to currently
outstanding and exercisable options as of December 31, 2006 as follows:
OUTSTANDING WEIGHTED WEIGHTED
WEIGHTED-AVERAGE AVERAGE EXERCISABLE AVERAGE
NUMBER OF REMAINING EXERCISE NUMBER EXERCISE
EXERCISE PRICE SHARES CONTRACTUAL LIFE (IN YRS) PRICE OF SHARES PRICE
-------------- ------ ------------------------- ----- --------- --------
$0.45 - $10.50 54,937 5.1 $2.80 28,977 $2.28
$17.22 - $48.30 19,277 7.3 $28.83 19,277 $28.83
$53.34 - $76.44 8,696 6.7 $70.65 5,496 $71.78
$106.30 - $246.75 9,616 4.1 $188.52 9,616 $188.52
$254.94 - $532.90 18,167 3.1 $313.85 18,167 $313.85
As of December 31, 2006, there was $535,008 of total expected unrecognized
compensation cost related to unvested stock options granted under the Company's
stock-based compensation plans. That cost is expected to be recognized over a
period of three years.
STOCK AND STOCK OPTION ISSUANCES TO NON-EMPLOYEES - During 2006 and 2005,
there were no options granted to non-employees or consultants. During 2004, the
Company issued stock grants and options to consultants and recorded unearned
compensation of $15,322.
STOCK AND STOCK OPTION ISSUANCES OUTSIDE THE STOCK OPTION PLANS - During
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. On the date of the grant, the per
share fair value of these options was $1.32.
During 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. No compensation expense was recorded as vesting
was not considered probable.
During 2003, an option to purchase 11,904 shares of common stock was
granted to Robert J. DeLuccia, the Company's new Chief Executive Officer, of
which 3,571 shares vested immediately, with the remainder vesting over two
years, with an exercise price of $44.52 per share.
5. STOCKHOLDERS' EQUITY.
AUTHORIZED CAPITAL STOCK - Authorized capital stock consists of 100,000,000
shares of $.01 par value common stock of which 2,620,679 shares are issued
(2,620,150 are outstanding) and 21,431,437 are reserved for issuance upon
exercise of common stock options and warrants and conversion of Series C
Cumulative Convertible Preferred Stock at December 31, 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 of which 805 shares were outstanding at December 31,
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
58
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
2004, 2005 and 2006. At December 31, 2006, 529 repurchased shares remain
available for future use and 16,180 shares are available to be repurchased.
SERIES C CONVERTIBLE PREFERRED STOCK - On December 23, 2005, pursuant to
the terms of a Preferred Stock and Warrant Purchase Agreement (the "Purchase
Agreement"), the Company completed the first closing of a private placement (the
"Series C Financing") in which institutional investors (the "Purchasers")
acquired 250 shares of Series C Cumulative Convertible Preferred Stock (the
"Series C Preferred Stock") and six-year warrants (the "Warrants") to purchase
2,380,951 shares of common stock at an exercise price of $1.26 per share, for an
aggregate purchase price of $2.5 million (the "First Closing"). The net proceeds
from the First Closing were $2,125,943. In the second closing of the Series C
Financing, on February 13, 2006, the Company issued to institutional investors
575.5 shares of Series C Preferred Stock and six-year warrants to purchase
5,480,961 shares of the Company's common stock at an exercise price of $1.26 per
share, for an aggregate purchase price of approximately $5.75 million (the
"Second Closing"). The net proceeds from the Second Closing were $5,186,908. The
terms of the Series C Preferred Stock and Warrants issued in the First Closing
and the Second Closing were identical.
RELEVANT MATERIAL TERMS: The terms and provisions of the Series C Preferred
Stock are set forth in the Certificate of Designations, Rights and Preferences
of Series C Cumulative Convertible Preferred Stock (the "Certificate of
Designations"). Certain material terms of the Series C Preferred Stock relevant
to this response are summarized below:
OBLIGATIONS TO REGISTER SHARES: When issued, the securities offered and
sold to the Purchasers in the Series C Financing were not registered under the
Securities Act of 1933, as amended (the "Securities Act") and were sold in
reliance upon the exemption from securities registration afforded by Regulation
D under the Securities Act. All of the Purchasers represented to MacroChem that
they were "accredited investors", as defined in Rule 501 of Regulation D. In
connection with the Series C Financing, MacroChem entered into an Investor
Rights Agreement with the Purchasers, pursuant to which MacroChem was required
to file a registration statement with the Securities and Exchange Commission
covering the resale of the common stock issuable upon conversion of the Series C
Preferred Stock, issuable as payment of dividends on the Series C Preferred
Stock and issuable upon exercise of the Warrants and the warrants issued to the
placement agent, no later than March 27, 2006, and to use its best efforts to
cause the registration statement to become effective within a specified time
period. The registration statement became effective on April 18, 2006.
DIVIDENDS: The Series C Preferred Stock accrues dividends at the rate of
10% of the stated price annually, payable quarterly in cash or common stock. The
first dividend payment date was March 31, 2006.
59
LIQUIDATION: Upon liquidation, dissolution or winding up, the holders of
Series C Preferred Stock are entitled, before any distributions are made to the
holders of the common stock, or any other class or series of capital stock of
the Company ranking junior to the Series C Preferred Stock as to such
distributions, to be paid an amount equal to $10,000 per share and any unpaid
dividends thereon, subject to adjustment.
VOTING: The Certificate of Designations contains a provision that restricts
a holder of Series C Preferred Stock from (i) converting Series C Preferred
Stock into common stock to the extent that such conversion would result in the
holder owning more than 4.95% of the issued and outstanding common stock of the
Company or (ii) voting together with the common stock on an as-if-converted to
common stock basis in respect of more than 4.95% of the issued and outstanding
common stock of the Company. The Warrants issued pursuant to the purchase
agreement contain a similar restriction (collectively, the "Beneficial Ownership
Cap"). A holder of Series C Preferred Stock or a Warrant may elect, subject to
certain conditions, to be exempt from the Beneficial Ownership Cap. Subject to
the Beneficial Ownership Cap restrictions, as of the date of the second closing
of the private placement financing in February 2006 (the "Second Closing"), the
Series C Preferred Stock acquired by the purchasers was convertible into
4,057,885 shares of common stock and the holders of the Series C Preferred Stock
vote on an as-converted basis with the holders of our common stock, and
therefore held approximately 80.28% of the voting power of our outstanding
securities. Assuming both the conversion of the Series C Preferred Stock and the
exercise of all of the Warrants acquired by the purchasers, in each case subject
to the Beneficial Ownership Cap restrictions, the purchasers would have held
approximately 89.06% of the outstanding common stock of the Company as of the
date of the Second Closing.
REDEMPTION: If the Company fails or refuses to convert any shares of Series
C Preferred Stock in accordance with the terms of the Series C Preferred Stock,
the holders of the Series C Preferred Stock are entitled to elect to require the
Company to redeem their Series C Preferred Stock. In the event of a redemption,
the redemption price per share of Series C Preferred Stock is an amount in cash
equal to the greater of (1) all accrued but unpaid dividends as of the date the
holder makes the demand for redemption with respect to each share to be redeemed
plus the $10,000 liquidation preference per share or (2) the total number of
shares of common stock into which such Series C Preferred Stock is convertible
multiplied by the then-current market price of the common stock.
Given that the redemption provision described above does not embody an
unconditional obligation requiring the Company to redeem the instrument at a
specified or determinable date or upon an event certain to occur, the Series C
Preferred Stock is not a mandatorily redeemable financial instrument. Therefore,
the Company determined that the guidance in FAS 150, ACCOUNTING FOR CERTAIN
FINANCIAL INSTRUMENTS WITH CHARACTERISTICS OF BOTH LIABILITIES AND EQUITY, which
requires liability classification for mandatorily redeemable financial
instruments, does not apply.
Rule 5-02.28 of Regulation S-X requires securities with redemption features
that are not solely within the control of the issuer to be classified outside of
permanent equity. The holders of the Series C Preferred Stock control a majority
of the voting power of the Company's common stock and, as a result of this
control, could directly or indirectly influence the triggering of the redemption
provision by, for example, refusing to approve an increase in the authorized but
unissued shares of common stock of the Company if, in the future, such increase
were necessary
60
to effect the conversion of the Series C Preferred Stock. Accordingly, the
redemption provision is not solely within the Company's control, and thus the
Series C Preferred Stock is not permanent equity.
Because the Series C Preferred Stock did not qualify for treatment as a
liability or as permanent equity as described above, the Company recorded the
portion of the proceeds attributable to the Series C Preferred Stock as
mezzanine equity pursuant to EITF Topic D-98, Classification and Measurement of
Redeemable Securities. Because the Company has a substantial amount of
authorized but unissued common stock (in excess of 95 million shares), the
occurrence of a redemption event is not considered probable, and thus the
carrying value of the Series C Preferred Stock is not being accreted to its
redemption value.
CONVERSION: Each convertible preferred share is convertible into shares of
common 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 but unpaid dividends thereon by
$1.05. The conversion price for the Series C Preferred Stock and the Warrant
exercise price were each subject to reset adjustment such that if the average
price of the common stock over the twenty trading days immediately preceding May
8, 2006 (the "Average Price") was lower than the conversion and/or exercise
price, then such conversion and/or exercise price would have been adjusted to
equal the Average Price.
The Company evaluated whether the embedded conversion feature in the Series
C Preferred Stock required bifurcation and determined, in accordance with
paragraph 12 of SFAS 133, that the economic characteristics and risks of the
embedded conversion feature in the Series C Preferred Stock were clearly and
closely related to the underlying common stock. In conducting this evaluation,
the Company recognized that the cumulative fixed dividend and the potential
redemption requirement of the Series C Preferred Stock are characteristics of
debt. The Company also recognized, however, that the Series C Preferred Stock
had the following equity like characteristics: the Series C Preferred Stock
clearly gives the stockholders both existing and ongoing rights of ownership
(i.e., a residual interest), as the holders of Series C Preferred Stock are
entitled to vote on an as-converted basis with the holders of our common stock;
the dividend, while fixed, is payable quarterly in cash or common stock at the
Company's election, and, to date, the Company's Board of Directors has declared
each quarterly dividend to be paid in shares of common stock; the redemption
rights of the Series C preferred stock are perpetual and do not have a stated
maturity or redemption date, unlike debt instruments; and the right of the
holders of the Series C Preferred stock to receive payments, including the
liquidation preference, is not secured by any collateral. Consequently, when all
of the economic characteristics and risks of the Series C Preferred Stock are
considered as a whole, the Company concluded that the Series C Preferred Stock
is more akin to equity than to debt and, as a result, the Company concluded that
bifurcation was not required under SFAS 133.
Pursuant to the guidance in paragraph 5 of EITF 00-27, APPLICATION OF ISSUE
NO. 98-5 TO CERTAIN CONVERTIBLE INSTRUMENTS, the Company allocated the proceeds
from the Series C financing between the Series C Preferred Stock and the
warrants based upon their estimated fair values as of the closing date. The
Company then calculated the intrinsic value of the beneficial conversion feature
embedded in the Series C Preferred Stock. As the amount of the beneficial
conversion feature exceeded the value allocated to the Series C Preferred Stock,
the amount of the beneficial conversion feature recorded was limited to the
proceeds allocated to the Series C Preferred Stock. The beneficial conversion
value was recognized as an additional discount on the
61
Series C Preferred Stock which amount was immediately accreted and treated as a
deemed dividend to the holder of the shares of Series C Preferred Stock as all
of the Series C Preferred Stock was eligible for conversion upon issuance.
STOCK SALES - 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.
WARRANTS - In addition to the issuance of shares of Series C Preferred
Stock, the Company issued warrants to the investors to purchase an aggregate of
up to 2,380,951 and 5,480,952 shares of common stock at a per share exercise
price of $1.26 per share in 2005 and 2006, respectively. In addition, the
Company issued warrants to the placement agent to purchase 238,095 and 548,095
shares of Common Stock at a per share exercise price of $1.05 per share, in 2005
and 2006, respectively. The warrants have a term of exercise expiring in 6
years. The warrants contain a "cashless exercise" feature that allows the
holders, under certain circumstances, to exercise the warrants without making a
cash payment to the Company. In addition, upon the occurrence of a change of
control, a warrant holder, at its option, can require the Company to repurchase
the warrant for an aggregate purchase price, payable in cash, calculated
according to a specified formula (the "Put Feature").
The Company allocated the proceeds between the stock and the warrants based
upon their estimated fair values as of the closing date. The Company determined
the fair value of the warrants using the Black-Scholes option pricing model with
the following assumptions: weighted average risk free rate of 4.18%; volatility
of 100% and a dividend yield of 0%. The Company determined that the warrants
meet the definition of a derivative instrument as defined in SFAS 133,
Accounting for Derivative Instruments and Hedging Activities. The fair value of
the warrants are recorded as liabilities pursuant to the guidance in paragraphs
12 and 27 of EITF 00-19, ACCOUNTING FOR DERIVATIVE FINANCIAL INSTRUMENTS INDEXED
TO, AND POTENTIALLY SETTLED IN, A COMPANY'S OWN STOCK, because the Put Feature
is a form of net cash settlement in that it allows a holder of the warrant to
require the Company to repurchase the warrant for cash in the event of a change
in control. Changes in the fair value of the warrants are recorded each
reporting period through earnings.
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 December 31, 2005, 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 December 31, 2005, none of the
$14.70 warrants issued to the placement agent had been exercised.
62
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 December 31, 2005, none of the $87.78 warrants had been
exercised.
SHAREHOLDER RIGHTS PLAN - The Company has adopted a shareholder rights
plan. The Company declared a dividend consisting of one Right for each share of
common stock outstanding on September 10, 1999. Stock issued after that date
will be issued with an attached Right.
Each Right entitles the holder, upon the occurrence of certain events, to
purchase 42/100th of a share of Series B Preferred Stock of the Company at an
initial exercise price of $2,100.00, subject to adjustments for stock dividends,
splits and similar events. The Rights are exercisable only if a person or group
acquires 20% or more of the Company's outstanding common stock, or announces an
intention to commence a tender or exchange offer, the consummation of which
would result in ownership by such person or group of 20% or more of the
Company's outstanding common stock.
On December 23, 2005, the shareholder rights plan was amended to provide
that the acquisition of the Company's Series C Cumulative Convertible Preferred
Stock and warrants to acquire shares of its common stock by the purchasers in
the Company's recent private placement, and any subsequent acquisition by the
purchasers of common stock upon the conversion or exercise of those securities,
would not result in the Rights becoming exercisable.
The Board of Directors may, at its option after the occurrence of one of
the events described above, exchange all of the then outstanding and exercisable
Rights for shares of common stock at an exchange ratio of one share of common
stock per Right.
The Board of Directors may redeem the Rights at the redemption price of
$0.01 per Right at any time prior to the expiration of the rights plan on August
13, 2009. Distribution of the Rights is not a taxable event to shareholders.
The Board of Directors has authorized 600,000 shares of Series B Preferred
Stock.
6. COMMITMENTS AND CONTINGENCIES.
At December 31, 2006, the Company had no long-term contractual obligations.
7. INCOME TAXES.
No income tax provision or benefit has been provided for federal or state
income tax purposes as the Company has incurred losses in all periods reported
and recoverability of these losses in future tax filings is uncertain. As of
December 31, 2006, the Company has available net operating loss carryforwards of
approximately $73,367,079 for federal income tax purposes, expiring through 2026
and $42,199,117 for state income tax purposes, expiring through 2011. In
addition, the Company has unused investment and research and development tax
credits for federal and state income tax purposes aggregating $1,615,177 and
$859,871, respectively. The use of the federal net operating loss may also be
restricted due to changes in ownership in accordance with definitions as stated
in the Internal Revenue Code.
63
Income taxes computed using the federal statutory income tax rate differs
from the Company's effective tax rate primarily due to the following:
YEAR ENDED DECEMBER 31,
2006 2005 2004
----- ----- -----
Statutory U.S. federal tax rate (34.0%) (34.0%) (34.0%)
State taxes, net of federal tax benefit (6.2%) (6.2%) (6.2%)
Federal research and development credits (0.5%) (1.5%) (0.6%)
Valuation allowance on deferred tax assets 40.7% 41.7% 40.8%
------- ------- -------
---% ---% ---%
------- ------- -------
The net tax effect of differences in the timing of certain revenue and
expense items and the related carrying amounts of assets and liabilities for
financial reporting and tax purposes are not material and, accordingly, are not
displayed in the table below. The components of the Company's deferred tax
assets as of December 31, 2006 and 2005 are as follows:
2006 2005
--------------- -----------------
Deferred Tax Assets:
Net operating loss carryforwards $ 25,920,000 $ 26,386,000
Tax credit carryforwards 2,475,000 2,432,000
---------------- ----------------
28,395,000 28,818,000
Valuation allowance (28,395,000) (28,818,000)
---------------- ----------------
Deferred tax asset, net $ --- $ ---
================ ================
For the year ended December 31, 2006 the valuation allowance decreased by
approximately $423,000 and for the year ended December 31, 2005 increased by
approximately $1,345,000, respectively, due to the uncertainty of future
realization of currently generated net operating loss and tax credit
carryforwards.
8. EMPLOYEE BENEFIT PLAN.
The Company sponsors a qualified 401(k) Retirement Plan (the "Plan") under
which employees are allowed to contribute certain percentages of their pay, up
to the maximum allowed under Section 401(k) of the Internal Revenue Code.
Company contributions to the Plan are at the discretion of the Board of
Directors. The Company did not make any matching contributions for the year
ended December 31, 2006. The Company contributed 953 shares of common stock in
2005 and 1,288 shares of common stock in 2004, valued at $15,610 and $59,060,
respectively. The Company also contributed $42,539 in cash to the Plan in 2005.
64
9. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
THE QUARTERS ENDED MARCH 31, JUNE 30 AND SEPTEMBER 30, 2006 HAVE BEEN
RESTATED. (SEE FOOTNOTE 1)
FIRST SECOND THIRD FOURTH
------------------- ------------------- ------------------- -------------------
------------------- ------------------- ------------------- -------------------
2006 Quarters
Revenues $ --- $ --- $ --- $ ---
Loss from Operations (1,207,109) (1,066,803) (1,160,767) (958,086)
Net Income (Loss) (1,991,360) 4,410,432 685,163 (1,152,956)
Net Income (Loss) Attributable
to Common Stockholders (2,142,907) 4,205,008 481,164 (1,355,947)
Basic Net Income (Loss) per
Common Share $ (1.98) $ 3.86 $ 0.33 $ (0.64)
Diluted Net Income (Loss) per
Common Share $ (1.98) $ 0.57 $ 0.08 $ (0.12)
2005 Quarters
Revenues $ --- $ --- $ --- $ ---
Net Loss Attributable to Common
Stockholders $ (1,841,540) $ (1,526,346) $ (1,820,992) $ (901,840)
Net Loss per Share (basic and
diluted) $ (1.99) $ (1.56) $ (1.83) $ (0.87)
The quarters ended March 31, June 30 and September 30, 2006 have been
restated (Notes 1 and 5). The restatement is in connection with the Series C
Cumulative Convertible Preferred Stock Offering, the Company issued warrants to
the private placement agent for services rendered. The fair value of the award
was originally accounted for as an offset to the proceeds of the Series C
Preferred offering and a credit to additional paid in capital. Upon further
review of the terms of the warrants, it was determined that the private
placement agent's warrants' put feature enables the holder, at their option, to
require the Company to repurchase the award for cash in the event of a change in
control. The Company determined that the warrants meet the definition of a
derivative investment as defined in SFAS 133, Accounting for Derivative
Financial Instruments Indexed to, and Potentially Settled in, a Company's Own
Stock, and should be adjusted to its current fair value at each reporting period
and classified as a warrant liability. As such, the net loss for the quarter
ended March 31, 2006 increased by $250,496, and the net income for the quarters
ended June 30, 2006 and September 30, 2006, increased by $260,764 and $438,854,
respectively.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE.
On January 24, 2006, Deloitte & Touche LLP ("Deloitte") resigned as our
independent registered public accounting firm.
Deloitte's report relating to the financial statements of the Company for
the year ended December 31, 2004 did not contain an adverse opinion or a
disclaimer of opinion, and was not qualified or modified as to audit scope or
accounting principles, except the report contained an explanatory paragraph
relating to the Company's ability to continue as a going concern.
During the Company's fiscal year ended December 31, 2004, and through
January 24, 2006, the date which Deloitte resigned, the Company had no
disagreement with Deloitte on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or
65
procedure, which, if not resolved to Deloitte's satisfaction, would have caused
Deloitte to make reference to the subject matter of the disagreement in
connection with its report for such period. During the Company's fiscal year
ended December 31, 2004, and through January 24, 2006, there were no reportable
events as defined in Item 304(a)(1)(v) of Regulation S-K.
On February 14, 2006 and effective the same date, on the recommendation of
the Company's Audit Committee, the Company engaged Vitale, Caturano & Company
Ltd. ("Vitale") as its independent registered public accounting firm to audit
the Company's financial statements as of and for the fiscal year ending December
31, 2005 and to perform procedures related to the financial statements included
in the Company's quarterly reports on Form 10-Q, beginning with quarter ended
March 31, 2006.
During the two most recent fiscal years and through February 14, 2006, the
Company has not consulted with Vitale on any matter which was the subject of any
disagreement or any reportable event as defined in Regulation S-K Item
304(a)(1)(iv) and Regulation S-K Item 304(a)(1)(v), respectively, or on the
application of accounting principles to a specified transaction, either
completed or proposed, or the type of audit opinion that might be rendered on
the Company's financial statements, relating to which either a written report
was provided to the Company or oral advice was provided that Vitale concluded
was an important factor considered by the Company in reaching a decision as to
the accounting, auditing or financial reporting issue.
ITEM 9A. CONTROL AND PROCEDURES.
(A) EVALUATION OF DISCLOSURE CONTROLS 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, as of December 31, 2006, our disclosure controls and
procedures were not effective due to the fact that we had misapplied generally
accepted accounting principles related to the accounting for derivative
liabilities in accordance with EITF 00-19 and SFAS 133. At the time of the
December 2005 and February 2006 sale of our Series C Cumulative Convertible
Preferred Stock, the Company failed to determine that the warrants to purchase
shares of common stock issued to the private placement agent, as part of the
fees for services rendered, were required to be accounted for as liabilities. As
a result, we had not classified these warrants as liabilities in our historical
financial statements.
We have restated our financial statements for the year ended December 31,
2005 and the quarters ended March 31, June 30 and September 30, 2006, in order
to correct the accounting in such financial statements with respect to the
warrants to purchase shares of common stock in accordance with EITF 00-19 and
SFAS 133. Over the course of 2006, we have taken steps to improve our internal
controls over financial reporting and disclosure controls and procedures by
66
providing improved training regarding accounting for debt and preferred stock
and related warrants.
Also, 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.
We believe that our disclosure controls and procedures are effective, as of
the date of filing this Annual Report on form 10-K, to ensure that information
required to be disclosed by us in the reports that we file or submit under
the Securities Exchange Act of 1934, as amended, is recorded, processed,
summarized and reported within the time periods specified in the SEC rules and
forms. Management will continue to evaluate the status of our disclosure
controls and procedures.
(B) CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING
There were no changes in our internal control over financial reporting that
occurred during the year ended December 31, 2006 that have materially affected,
or are reasonably likely to materially affect, our internal control over
financial reporting.
ITEM 9B. OTHER INFORMATION.
Not applicable.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information called for by this Item will be contained in our Proxy
Statement, which we intend to file within 120 days following our fiscal year
end, December 31, 2006, under the headings "Executive Officers", "Election of
Directors", "Corporate Governance", and "Section 16(a) Beneficial Ownership
Reporting Compliance" and such information is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION.
The information called for by this Item will be contained in our Proxy
Statement, which we intend to file within 120 days following our fiscal year
end, December 31, 2006, under the heading "Compensation of Directors and
Executive Officers" and such information is incorporated herein by reference.
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ITEM 12. SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
The information called for by this Item will be contained in our Proxy
Statement, which we intend to file within 120 days following our fiscal year
end, December 31, 2006, under the headings "Beneficial Ownership of Voting
Securities" and "Securities Authorized for Issuance under Equity Compensation
Plans" and such information is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE.
The information called for by this Item will be contained in our Proxy
Statement, which we intend to file within 120 days following our fiscal year
end, December 31, 2006, under the headings "Certain Relationships and Related
Transactions" and "Director Independence" and such information is incorporated
herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The information called for by this Item will be contained in our Proxy
Statement, which we intend to file within 120 days following our fiscal year
end, December 31, 2006, under the headings "Report of the Audit Committee" and
"Audit and Related Fees" and such information is incorporated herein by
reference.
68
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES.
(a)(1) The following Financial Statements as of December 31, 2006 and 2005
and for the three years in the period ended December 31, 2006 are
included in Part II of this Annual Report on Form 10-K:
Report of Independent Registered Public Accounting Firm - Vitale,
Caturano & Company, Ltd.
Report of Independent Registered Public Accounting Firm - Deloitte &
Touche LLP
Balance Sheets
Statements of Operations
Statements of Stockholders' Equity
Statements of Cash Flows
Notes to Financial Statements
(a)(2) The following Financial Statement Schedules are filed herewith:
None.
Schedules not included herein are omitted because they are not applicable
or the required information appears in the Financial Statements or Notes
thereto.
(a)(3) The following exhibits are filed herewith or are incorporated by
reference as may be indicated:
3.1 Amended and Restated Certificate of Incorporation of MacroChem
Corporation dated as of February 9, 2006, incorporated by reference
to Exhibit 3.1 to our Annual Report on Form 10-K for the year ended
December 31, 2005 (File No. 0-13634).
3.2 Amended and Restated Bylaws of MacroChem Corporation, incorporated
by reference to Exhibit 5 to our Current Report on Form 8-K dated
August 13, 1999 (File No. 0-13634).
4.1 Stock Purchase Warrant, incorporated by reference to Exhibit 4 to
our Annual Report on Form 10-K for the year ended December 31, 1996
(File No. 0-13634).
4.2 Rights Agreement dated as of August 13, 1999 between MacroChem and
American Stock Transfer & Trust Company, as Rights Agent, including
Form of Certificate of Designation with respect to the Series B
Preferred Stock, par value $.01 per share (attached as Exhibit A to
the Rights Agreement), Form of Rights Certificate (attached as
Exhibit B to the Rights Agreement), and Summary of Rights (attached
as Exhibit C to the Rights Agreement), incorporated by reference to
Exhibits 1, 2, 3 and 4, respectively, to our Current Report on Form
8-K dated August 13, 1999 (File No. 0-13634).
4.3 Amendment No. 1 to the Rights Agreement dated as of December 23,
2005 between MacroChem Corporation and American Stock Transfer &
Trust Company incorporated by reference to Exhibit 4.2 to our
Current Report on Form 8-K dated December 27, 2005 (File No.
0-13634).
69
4.4 Common Stock Certificate, incorporated by reference to Exhibit 4c to
our Annual Report on Form 10-K for the year ended December 31, 1999
(File No. 0-13634).
4.5 Form of Common Stock Purchase Warrant dated as of April 19, 2005
incorporated by reference to Exhibit 10.4 to our Current Report on
Form 8-K dated April 22, 2005 (File No. 0-13634).
4.6 Certificate of Designations, Rights and Preferences of Series C
Cumulative Convertible Preferred Stock of MacroChem Corporation
incorporated by reference to Exhibit 4.1 to our Current Report on
Form 8-K dated December 27, 2005 (File No. 0-13634).
4.7 Common Stock Purchase Warrant, incorporated by reference to Exhibit
10.3 to our Current Report on Form 8-K dated December 27, 2005 (File
No. 0-13634).
4.8 Common Stock Purchase Warrant, incorporated by reference to Exhibit
10.3 to our Current Report on Form 8-K dated February 16, 2005 (File
No. 0-13634).
10.1* MacroChem Corporation 2001 Incentive Plan incorporated by reference
to Exhibit 99 to our Form S-8 as filed on August 8, 2001 (File No.
333-67080).
10.2* 1994 Equity Incentive Plan as amended November 14, 1997,
incorporated by reference to Exhibit 99.1 to our Annual Report on
Form 10-K for the year ended December 31, 1997 (File No. 0-13634).
10.3* 1984 Non-Qualified Stock Option Plan as amended November 15,
1996, incorporated by reference to Exhibit 10.2 to our Annual Report
on Form 10-K for the year ended December 31, 1996 (File No.
0-13634).
10.4* 1984 Incentive Stock Option Plan as amended November 15, 1996,
incorporated by reference to Exhibit 10.3 to our Annual Report on
Form 10-K for the year ended December 31, 1996 (File No. 0-13634).
10.5* MacroChem Corporation Option Certificate between the Company
and Robert J. Palmisano, incorporated by reference to Exhibit 10.3
to our Quarterly Report on Form 10-Q for the quarter ended June 30,
2001 (File No. 0-13634).
10.6* Form of Severance Agreement between MacroChem and Dr. Thomas C.K.
Chan, dated as of October 25, 2002 incorporated by reference to
Exhibit 10i to our Annual Report on Form 10-K for the year ended
December 31, 2002 (File No. 0-13634).
10.7* Form of Noncompetition Agreement between MacroChem and Glenn E.
Deegan, Esq., dated as of June 5, 2001 incorporated by reference to
Exhibit 10.12 to our Annual Report on Form 10-K for the year ended
December 31, 2003 (File No. 0-13634).
10.8* Form of Confidentiality Agreement between MacroChem and Glenn E.
Deegan, Esq., dated as of June 5, 2001 incorporated by reference to
Exhibit 10.13 to our Annual Report on Form 10-K for the year ended
December 31, 2003 (File No. 0-13634).
10.9* Form of Employment Agreement between MacroChem and Robert J.
DeLuccia incorporated by reference to Exhibit 10.1 to our Quarterly
Report on Form 10-Q for the period ended September 30, 2003 (File
No. 0-13634).
70
10.10* MacroChem Corporation Option Certificate reflecting grant by
MacroChem to Robert J. DeLuccia incorporated by reference to Exhibit
10.2 to our Quarterly Report on Form 10-Q for the period ended
September 30, 2003 (File No. 0-13634).
10.11* Form of Retention Agreement between MacroChem and Bernard R.
Patriacca incorporated by reference to Exhibit 10.3 to our Quarterly
Report on Form 10-Q for the period ended September 30, 2003 (File
No. 0-13634).
10.12* Form of Retention Agreement between MacroChem and Melvin A. Snyder
incorporated by reference to Exhibit 10.4 to our Quarterly Report on
Form 10-Q for the period ended September 30, 2003 (File No.
0-13634).
10.13* Form of Retention Agreement between MacroChem and Thomas C.K. Chan
incorporated by reference to Exhibit 10.5 to our Quarterly Report on
Form 10-Q for the period ended September 30, 2003 (File No.
0-13634).
10.14* Form of Retention Agreement between MacroChem and Glenn E. Deegan
incorporated by reference to Exhibit 10.6 to our Quarterly Report on
Form 10-Q for the period ended September 30, 2003 (File No.
0-13634).
10.15* Form of Severance Agreement, dated as of December 17, 2004, by and
between MacroChem and Melvin A. Snyder incorporated by reference to
Exhibit 10.3 to our Current Report on Form 8-K dated February 3,
2005 (File No. 0-13634).
10.16* Transition Agreement, dated as of September 12, 2005, by and between
MacroChem Corporation and Bernard R. Patriacca, incorporated by
reference to Exhibit 10.2 to our Current Report on Form 8-K dated
September 16, 2005 (File No. 0-13634).
10.17* Transition Agreement, dated as of September 13, 2005, by and between
MacroChem Corporation and Thomas C.K. Chan, incorporated by
reference to Exhibit 10.3 to our Current Report on Form 8-K dated
September 16, 2005 (File No. 0-13634).
10.18* Transition Agreement, dated as of September 12, 2005, by and between
MacroChem Corporation and Melvin A. Snyder, incorporated by
reference to Exhibit 10.4 to our Current Report on Form 8-K dated
September 16, 2005 (File No. 0-13634).
10.19* Transition Agreement, dated as of September 12, 2005, by and between
MacroChem Corporation and Glenn E. Deegan, incorporated by reference
to Exhibit 10.5 to our Current Report on Form 8-K dated September
16, 2005 (File No. 0-13634).
10.20* Transition Agreement, dated as of September 16, 2005, by and between
MacroChem Corporation and Robert J. DeLuccia, incorporated by
reference to Exhibit 10.6 to our Current Report on Form 8-K dated
September 16, 2005 (File No. 0-13634).
10.21* Form of Employment Agreement, dated February 13, 2006, by and
between the Company and Robert J. DeLuccia incorporated by reference
to Exhibit 10.4 to our Current Report on Form 8-K dated February 16,
2006 (File No. 0-13634).
10.22* Form of Employment Agreement, dated February 13, 2006, by and
between the Company and Bernard R. Patriacca, including Form of
Confidential Information, Inventions and Non-Competition Agreement
(attached as Exhibit B to the Form of Employment Agreement),
incorporated by reference to Exhibit 10.5 to our Current Report on
Form 8-K dated February 16, 2006 (File No. 0-13634).
71
10.23* Form of Severance Agreement, dated February 13, 2006, by and between
the Company and Bernard R. Patriacca, incorporated by reference to
Exhibit 10.6 to our Current Report on Form 8-K dated February 16,
2006 (File No. 0-13634).
10.24* Form of Employment Agreement, dated February 13, 2006, by and
between the Company and Glenn E. Deegan, including Form of
Confidential Information, Inventions and Non-Competition Agreement
(attached as Exhibit B to the Form of Employment Agreement),
incorporated by reference to Exhibit 10.7 to our Current Report on
Form 8-K dated February 16, 2006 (File No. 0-13634).
10.25* Form of Severance Agreement, dated February 13, 2006, by and between
the Company and Glenn E. Deegan, incorporated by reference to
Exhibit 10.8 to our Current Report on Form 8-K dated February 16,
2006 (File No. 0-13634).
10.26 Securities Purchase Agreement among MacroChem, Bay Harbor
Investments, Inc. and Strong River Investments, Inc., incorporated
by reference to Exhibit 10.1 to our Current Report on Form 8-K dated
October 23, 2000 (File No. 0-13634).
10.27 Form of Registration Rights Agreement by and among MacroChem, Bay
Harbor Investments, Inc. and Strong River Investments, Inc.,
incorporated by reference to Exhibit 10.4 to our Current Report on
Form 8-K dated October 23, 2000 (File No. 0-13634).
10.28 Securities Purchase Agreement among MacroChem, Pine Ridge Financial
Ltd., DMG Legacy International, Ltd., SDS Merchant Fund, LP, Par
Investment Partners, L.P., Narragansett I, LP, and Narragansett
Offshore Ltd., incorporated by reference to Exhibit 10.1 to our
Current Report on Form 8-K dated July 24, 2001 (File No. 0-13634).
10.29 Form of Warrant incorporated by reference to Exhibit 10.2 to our
Current Report on Form 8-K dated July 24, 2001 (File No. 0-13634).
10.30 Form of Registration Rights Agreement by and among MacroChem, Pine
Ridge Financial Ltd., DMG Legacy International, Ltd., SDS Merchant
Fund, LP, Par Investment Partners, L.P., Narragansett I, LP, and
Narragansett Offshore Ltd., incorporated by reference to Exhibit
10.3 to our Current Report on Form 8-K dated July 24, 2001 (File No.
0-13634).
10.31 Securities Purchase Agreement, dated as of September 10, 2003, by
and among MacroChem and the purchasers listed on Schedule A thereto,
incorporated by reference to Exhibit 10.1 to our Current Report on
Form 8-K dated September 12, 2003 (File No. 0-13634).
10.32 Form of Warrant dated as of September 10, 2003, incorporated by
reference to Exhibit 10.2 to our Current Report on Form 8-K dated
September 12, 2003 (File No. 0-13634).
10.33 Registration Rights Agreement, dated as of September 10, 2003, by
and among MacroChem and the investors listed on the signature page
thereto, incorporated by reference to Exhibit 10.3 to our Current
Report on Form 8-K dated September 12, 2003 (File No. 0-13634).
72
10.34 Securities Purchase Agreement, dated as of March 9, 2004, by and
among MacroChem and the purchasers listed on Schedule A thereto,
incorporated by reference to Exhibit 10.1 to our Current Report on
Form 8-K dated March 10, 2004 (File No. 0-13634).
10.35 Form of Warrant dated as of March 9, 2004, incorporated by reference
to Exhibit 10.2 to our Current Report on Form 8-K dated March 10,
2004 (File No. 0-13634).
10.36 Registration Rights Agreement, dated as of March 9, 2004, by and
among MacroChem and the investors listed on the signature page
thereto, incorporated by reference to Exhibit 10.3 to our Current
Report on Form 8-K dated March 10, 2004 (File No. 0-13634).
10.37 Securities Purchase Agreement, dated as of April 19, 2005, by and
between MacroChem Corporation and the institutional investors listed
on the signature pages thereto, incorporated by reference to Exhibit
10.1 to our Current Report on Form 8-K dated April 22, 2005 (File
No. 0-13634).
10.38 Securities Purchase Agreement, dated as of April 19, 2005, by and
between MacroChem Corporation and the directors and officers of
MacroChem Corporation listed on the signature pages thereto,
incorporated by reference to Exhibit 10.2 to our Current Report on
Form 8-K dated April 22, 2005 (File No. 0-13634).
10.39 Registration Rights Agreement, dated as of April 19, 2005 by and
among MacroChem Corporation and the purchasers listed on the
signature page thereto, incorporated by reference to Exhibit 10.3 to
our Current Report on Form 8-K dated April 22, 2005 (File No.
0-13634).
10.40 Preferred Stock and Warrant Purchase Agreement, dated as of December
23, 2005, by and between MacroChem Corporation and the purchasers
listed on Schedule 1 thereto, incorporated by reference to Exhibit
10.1 to our Current Report on Form 8-K dated December 27, 2005 (File
No. 0-13634).
10.41 Amended and Restated Preferred Stock and Warrant Purchase Agreement,
dated as of February 13, 2006 by and among MacroChem Corporation and
the purchasers listed on the signature page thereto, incorporated by
reference to Exhibit 10.1 to our Current Report on Form 8-K dated
February 16, 2006 (File No. 0-13634).
10.42 Investor Rights Agreement dated as of December 23, 2005 between
MacroChem Corporation, SCO Capital Partners LLC and Lake End Capital
Partners LLC incorporated by reference to Exhibit 10.2 to our
Current Report on Form 8-K dated December 27, 2005 (File
No.0-13634).
10.43 Amended and Restated Investor Rights Agreement dated as of February
13, 2006, between MacroChem Corporation and the purchasers listed on
the signature pages thereto incorporated by reference to Exhibit
10.2 to our Current Report on Form 8-K dated February 16, 2006 (File
No.0-13634).
10.44 Lease between GLB Lexington Limited Partnership and MacroChem dated
as of July 21, 1999, for space located at 110 Hartwell Avenue,
Lexington, MA 02421, incorporated by reference to Exhibit 10.11 to
our Annual Report on Form 10-K for the year ended December 31, 1999
(File No. 0-13634).
73
10.45 First Amendment to Lease between GLB Lexington Limited Partnership
and MacroChem dated as of October 19, 2004, for space located at 110
Hartwell Avenue, Lexington, MA 02421, incorporated by reference to
Exhibit 10.39 to our Annual Report on Form 10-K for the year ended
December 31, 2004 (File No. 0-13634).
10.46 Sublease Agreement, dated as of August 31, 2005, by and between
MacroChem Corporation and ActivBiotics, Inc., incorporated by
reference to Exhibit 10.1 to our Current Report on Form 8-K dated
September 16, 2005 (File No. 0-13634).
10.47 Sublease Agreement, 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).
16.1 Letter from Deloitte & Touche LLP to the Securities and Exchange
Commission dated January 27, 2006, incorporated by reference to
Exhibit 16.1 to our Current Report on Form 8-K dated January 30,
2006 (File No. 0-13634).
23.1 Consent of Vitale, Caturano & Company, Ltd., an Independent
Registered Public Accounting Firm
23.2 Consent of Deloitte & Touche, LLP, an Independent Registered Public
Accounting Firm
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.
- --------------------------
*Management contract or compensatory plan or arrangement
74
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
MACROCHEM CORPORATION
Dated: MARCH 30, 2007 By: /S/ ROBERT J. DELUCCIA
------------------- ----------------------------
Robert J. DeLuccia
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant in
the capacities indicated on March 30, 2007.
/S/ ROBERT J. DELUCCIA President and
- --------------------------------- Chief Executive Officer
Robert J. DeLuccia
/S/ BERNARD R. PATRIACCA Vice President and
- --------------------------------- Chief Financial Officer
Bernard R. Patriacca
/S/ JOHN L. ZABRISKIE Chairman, Board of Directors
- ---------------------------------
John L. Zabriskie, Ph.D.
/S/ PETER G. MARTIN Director
- ---------------------------------
Peter G. Martin
/S/ MICHAEL A. DAVIS Director
- ---------------------------------
Michael A. Davis, M.D.
/S/ JEFFREY B. DAVIS Director
- ---------------------------------
Jeffrey B. Davis
/S/ PAUL S. ECHENBERG Director
- ---------------------------------
Paul S. Echenberg
/S/ HOWARD S. FISCHER Director
- ---------------------------------
Howard S. Fischer
75