UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended September 30, 1996
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from ____________ to
____________.
Commission File No. 0-20966
CATALYTICA, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 94-2262240
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
430 FERGUSON DRIVE
MOUNTAIN VIEW, CALIFORNIA 94043
(Address of principal executive offices)
(415) 960-3000
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
[ X ] Yes [ ] No
The number of outstanding shares of the Registrant's Common Stock, $.001 par
value, was 19,328,506 as of October 31, 1996.
CATALYTICA, INC.
FORM 10-Q
TABLE OF CONTENTS
SEPTEMBER 30, 1996
PART I. FINANCIAL INFORMATION
PAGE NO.
--------
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
Condensed Consolidated Balance Sheets 1
Condensed Consolidated Statements of Operations
For the three and nine months ended September 30, 1996 and
September 30, 1995 2
Condensed Consolidated Statements of Cash Flows
For the nine months ended September 30, 1996 and September 30, 1995 3
Notes to Condensed Consolidated Financial Statements 4-6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 7-18
PART II. OTHER INFORMATION 18
SIGNATURES 19
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CATALYTICA, INC.
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
September 30, December 31,
1996 1995
-------------- -------------
ASSETS
Current assets:
Cash and cash equivalents $ 18,119 $ 5,021
Short-term investments 6,617 15,881
Accounts receivable, net 2,049 3,557
Accounts receivable from related 654 --
parties
Notes receivable from employees 332 72
Inventory:
Raw materials 836 498
Work in process 489 178
Finished goods 1,637 178
-------- --------
2,962 854
Prepaid expenses and other current 370 371
assets -------- --------
Total current assets 31,103 25,756
Property and equipment:
Equipment 8,810 7,950
Leasehold improvements 7,403 6,059
-------- --------
16,213 14,009
Less accumulated depreciation and (9,251) (8,626)
amortization -------- --------
6,962 5,383
Notes receivable from employees 50 100
-------- --------
$ 38,115 $ 31,239
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,438 $ 1,339
Accrued payroll and related expenses 1,418 1,392
Deferred revenue 1,647 167
Other accrued liabilities 918 590
Notes Payable -- 1,995
Current portion of long-term debt 793 2,171
-------- --------
Total current liabilities 6,214 7,654
Long-term debt 1,410 1,556
Non-current deferred revenue 5,344 --
Minority interest 8,000 --
Stockholders' equity:
Common stock 19 19
Additional paid-in capital 65,337 65,101
Deferred compensation (52) (86)
Accumulated deficit (48,157) (43,005)
-------- --------
Total stockholders' equity 17,147 22,029
-------- --------
$ 38,115 $ 31,239
======== ========
See accompanying notes.
1
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CATALYTICA, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
Three months Nine months
--------------------- ---------------------
ended September 30, ended September 30,
--------------------- ---------------------
1996 1995 1996 1995
--------- --------- --------- ---------
Revenues:
Product sales $ 1,922 $ 1,893 $ 6,624 $ 4,915
Research revenues 1,693 1,355 4,440 3,778
------- ------- ------- -------
3,615 3,248 11,064 8,693
Costs and expenses:
Cost of sales 1,686 1,604 6,129 4,764
Research and development 2,184 2,340 7,726 7,334
Selling, general and administrative 1,000 1,208 3,461 3,647
------- ------- ------- -------
Total costs and expenses 4,870 5,152 17,316 15,745
------- ------- ------- -------
Operating loss (1,255) (1,904) (6,252) (7,052)
Gain on sale of assets -- -- 505 --
Interest income 345 111 884 406
Interest expense (62) (67) (289) (190)
------- ------- ------- -------
Net loss $ (972) $(1,860) $(5,152) $(6,836)
======= ======= ======= =======
Net loss per share $ (0.05) $ (0.12) $ (0.27) $ (0.45)
======= ======= ======= =======
Shares used in computing net loss 19,326 15,139 19,257 15,104
per share ======= ======= ======= =======
See accompanying notes.
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CATALYTICA, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(IN THOUSANDS)
Nine months ended September 30,
-------------------------------
1996 1995
--------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (5,152) $(6,836)
Adjustments to reconcile net loss to
net cash provided by (used in)
operating activity:
Depreciation and amortization 664 1,149
Changes in:
Accounts receivable, net 1,508 (970)
Accounts receivable from related
parties (654) --
Inventory (2,108) (664)
Prepaid expenses and other 1 501
current assets
Accounts payable 99 (278)
Accrued payroll and related
expenses 26 10
Deferred revenue 6,824 (18)
Royalties payable to related party -- (622)
Other accrued liabilities 328 (70)
-------- -------
NET CASH PROVIDED BY (USED IN)
OPERATING ACTIVITIES 1,536 (7,798)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of investments (19,600) (3,954)
Maturities of investments 29,000 11,000
Acquisition of property and equipment (2,345) (1,116)
-------- -------
NET CASH PROVIDED BY INVESTING
ACTIVITIES 7,055 5,930
CASH FLOWS FROM FINANCING ACTIVITIES:
Net receipts on (issuance of) notes (210) 10
receivable from employees
Additions to debt obligations 1,413 1,874
Payments on debt obligations (4,932) (300)
Minority investment 8,000
Sale of common stock 236 115
-------- -------
NET CASH PROVIDED BY FINANCING
ACTIVITIES 4,507 1,699
-------- -------
Net increase (decrease) in cash and
cash equivalents 13,098 (169)
Cash and cash equivalents at beginning
of period 5,021 3,638
-------- -------
Cash and cash equivalents at end of
period $ 18,119 $ 3,469
======== =======
See accompanying notes.
3
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
---------------------
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for
the nine-month period ended September 30, 1996 are not necessarily
indicative of the results that may be expected for the year ended December
31, 1996. For further information, refer to the consolidated financial
statements and footnotes thereto included in the Catalytica, Inc. annual
report on Form 10-K for the year ended December 31, 1995.
2. NET LOSS PER SHARE
Net loss per share is computed using the weighted average number of common
shares outstanding. Common equivalent shares from stock options and
warrants are excluded in the computation as their effect is antidilutive.
3. FINANCIAL INSTRUMENTS
For the purposes of the consolidated cash flows, all investments with
maturities of three months or less at the date of purchase held as
available-for-sale are considered to be cash and cash equivalents;
instruments with maturities of three months or less at the date of purchase
which are held-to-maturity (none at September 30, 1996) and investments with
maturities greater than three months which are available-for-sale
($6,617,000 at September 30, 1996) are considered to be short-term
investments; investments with maturities greater than one year are
considered to be long-term investments and are available-for-sale (none
outstanding at September 30, 1996). All investments at September 30, 1996
were carried at amortized cost, which approximated fair market value. The
classification of investments is made at the time of purchase with
classification for held-to-maturity made when the Company has the positive
intent and ability to hold the investments to maturity.
4. USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles 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
4
date of financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
5. PFIZER MINORITY INTEREST
On May 8, 1996, Pfizer Inc. ("Pfizer") entered into a Collaborative Research
and License Agreement and a Stock Purchase Agreement with Catalytica Fine
Chemicals, Inc. ("CFC"), a subsidiary of Catalytica, Inc. that included the
purchase of 150,000 shares of Series B Preferred stock by Pfizer. In
consideration of receipt of $7,000,000 of the $15,000,000 paid, CFC is
obligated to perform specified agreed upon research for a five year period.
Accordingly, Catalytica has recognized Pfizer's minority interest in CFC at
$8 million and has recorded deferred revenue of $7 million to be recognized
as research is performed.
6. SALE OF ADVANCED SENSOR DEVICES, INC. NET ASSETS
On June 28, 1996 Catalytica completed the sale of substantially all the
business of its wholly owned subsidiary Advanced Sensor Devices, Inc. (ASD)
to Monitor Labs, Inc. ASD produces continuous emission monitors (CEMs)
based on proprietary catalytic sensors. The terms for selling substantially
all of ASD's assets included an initial payment of approximately $1.1
million at the closing, an additional amount payable ($0.5 million) which is
contingent on obtaining final certification for the CEM product before the
end of 1996, and a royalty stream based on future revenues. In the second
quarter, Catalytica realized a $0.5 million net gain over book value on the
sale of ASD's assets to Monitor Labs, Inc. This gain reflects only the
payments received thus far by Catalytica. Any future payments and related
gains are at this time uncertain, and therefore the gains, if any, will be
recorded in the period of actual receipt of any future payments.
7. FORMATION OF GENXON/TM/ JOINT VENTURE WITH WOODWARD GOVERNOR COMPANY
On October 15, 1996 Catalytica's wholly owned subsidiary Catalytica
Combustion Systems Inc. (CCSI) and Woodward Governor Company formed a
Delaware limited liability company in connection with a 50/50 joint venture
to serve the gas turbine retrofit market for installed, out-of-warranty
engines. The new company, GENXON/TM/ Power Systems, LLC, will initially
provide gas turbine fleet asset planning and utilization services for both
power generation and mechanical drive markets.
The initial capital commitment of the GENXON joint venture partners is $10
million -- $2 million from CCSI and $8 million from Woodward -- payable over
time as the funds are required by the joint venture. These capital
infusions are predicated upon reaching certain milestones, and neither joint
venture partner is contractually required to make further capital infusions
if these milestones are not met. CCSI will account for its share of the
joint venture gain or loss upon the first cash infusion scheduled for
January 1997.
5
As of September 30, 1996, an accounts receivable for $654K exists from the
joint venture for costs incurred by Catalytica, Inc. subsequent to August 1,
1996 on behalf of the joint venture. Accordingly these costs have not been
included in the consolidated entity.
8. RENEWAL OF BANK LINE OF CREDIT
On October 23, 1996, Catalytica signed an extension of it's line of credit
agreement with Silicon Valley Bank. The new line of credit totals $3.5
million and expires on September 21, 1997. It will be used to finance
accounts receivable and other working capital needs. In addition to the
line of credit, Silicon Valley Bank granted a $0.5 million five year term
loan to be used to finance equipment purchases at the Bay View Facility. No
amounts were outstanding under these new lines of credit as of September 30,
1996.
6
PART I - FINANCIAL INFORMATION
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF
OPERATIONS AND FINANCIAL CONDITION
OVERVIEW
--------
Management's Discussion and Analysis of Financial Condition and Results of
Operations contains certain forward-looking statements which involve risks
and uncertainties. The Company's actual results could differ materially from
the results anticipated in these forward-looking statements as a result of
certain factors set forth under "Risk Factors" and elsewhere in this report.
Catalytica is developing advanced products and manufacturing processes which
use the Company's proprietary chemical catalysis technologies. These products
and processes can yield economic and environmental benefits, including lower
manufacturing costs and reduced hazardous byproducts than those associated
with traditional manufacturing processes. The Company has developed
significant expertise in catalysis, an essential step in the production of
many industrial products. Approximately 96% of the Company's fiscal 1995
product sales were derived from sales of fine chemicals products and its
research and development revenues were derived from the Company's other lines
of business, including natural gas combustion systems. In December 1993, the
Company acquired a manufacturing facility from Sandoz to obtain fine
chemicals manufacturing capacity. As part of the acquisition, Sandoz entered
into a five-year contract for the manufacture of a fine chemical
intermediate. Under the terms of the agreement, Sandoz transferred certain
equipment and technology relating to the manufacture of the particular
intermediate, and agreed to purchase all of its requirements of such
intermediate from the Company, subject to certain volume limitations. These
requirements represent approximately $3.0 million of revenue per year.
However, the timing of receipt of revenues under this contract varies,
depending on the timing of receipt of orders and shipment of products. During
the year ended December 31, 1995 and the nine months ended September 30,
1996, 49% and 27% respectively of the Company's fine chemical product
revenues were derived from sales to Sandoz. The Company has no contractual
volume commitments from Sandoz beyond May 31, 1998, and there can be no
assurance the Sandoz contract will be renewed. The Company plans to
eventually replace the Sandoz contractual products with higher margin product
sales to new customers. The agreement may be terminated by either party upon
30 days prior written notice for failure to perform a material provision of
the agreement, if such failure is not cured within 60 days after receipt of
the notice.
The Company's business has not been profitable to date, and as of September
30, 1996, the Company had an accumulated deficit of $48.2 million. The
Company anticipates incurring additional losses for at least the next 12 to
18 months. The Company expects that losses will fluctuate from quarter to
quarter, as a result of differences in the amount and timing of expenses
incurred and the revenues received. In particular, the Company's operating
results are affected by the size and timing of orders and shipment schedules
of its fine chemicals products, as well as the amount and timing of payments
and expenses under the Company's
7
research and development contracts. Through 1993, substantially all of the
Company's revenues were derived from research and development contracts. Most
of the Company's research and development contracts are subject to periodic
review with the funding partner, which may result in modifications, including
a reduction or termination of funding. The Company's research and development
revenues declined in 1994 and 1995 as certain research projects were
terminated. There can be no assurance the Company will continue to receive
research and development funding, and the Company expects that in the future
it will increasingly rely on product sales for its revenues. In 1994, the
Company began deriving revenues from the sale of fine chemicals products. To
achieve profitable operations, Catalytica must increase significantly its
commercial sales of fine chemicals and successfully develop, manufacture,
introduce, and market or license its combustion systems. There can be no
assurance that the Company will be able to achieve profitability on a
sustained basis, or at all.
On May 8, 1996, Catalytica Fine Chemicals, Inc., announced that Pfizer Inc.
had signed an agreement to infuse $15 million in Catalytica Fine Chemicals.
These funds give Pfizer a 15 percent interest in Catalytica Fine Chemicals
Inc. and a five-year R&D commitment by Catalytica Fine Chemicals to develop
new processes and technology for the manufacture of Pfizer products. Prior
to this investment, Catalytica Fine Chemicals was a wholly-owned subsidiary
of Catalytica, Inc.
During the past four years, Catalytica Fine Chemicals and Pfizer have
collaborated on the development of proprietary processes for key
intermediate products for several of Pfizer's promising new pharmaceuticals.
The Pfizer drugs are at varying stages of approval by the Food and Drug
administration, ranging from Phase II clinical trials through the New Drug
Application stage. In the past, Catalytica Fine Chemicals has manufactured
intermediates for certain Pfizer drugs and anticipates becoming a supplier
of intermediates to Pfizer for other pharmaceutical products in the future.
On June 28, 1996 Catalytica completed the sale of substantially all the
assets of Advanced Sensor Devices, Inc. (ASD) to Monitor Labs, Inc. ASD
produces continuous emission monitors (CEMs) based on proprietary catalytic
sensors. The terms for selling substantially all of ASD's assets included
an initial payment of approximately $1.1 million at the closing, an
additional amount payable ($0.5 million) which is contingent on obtaining
final certification for the CEM product before December 31, 1996, and a
royalty stream based on future revenues.
On October 15, 1996 Catalytica's wholly owned subsidiary Catalytica
Combustion Systems Inc. (CCSI) and Woodward Governor Company formed a
Delaware limited liability company in connection with a 50/50 joint venture
to serve the gas turbine retrofit market for installed, out-of-warranty
engines. The new company, GENXON/TM/ Power Systems, LLC, will initially
provide gas turbine fleet asset planning and utilization services for both
power generation and mechanical drive markets. These planning services will
result in the delivery of an integrated product portfolio which includes
CCSI's XONON/TM/ technology for ultra low NOx emissions, Woodward's
NetCon/R/ control systems, turbine overhaul and upgrades, as well as
contract maintenance and service.
8
The initial capital commitment of the GENXON joint venture partners is $10
million -- $2 million from CCSI and $8 million from Woodward -- payable over
time as the funds are required by the joint venture. These capital
infusions are predicated upon reaching certain milestones, and neither joint
venture partner is contractually required to make further capital infusions
if these milestones are not met. In addition to the capital commitment,
CCSI has contributed to the joint venture an exclusive license for the use
of its catalytic combustion technology, and Woodward contributed to the
joint venture an exclusive license for the use of its instrumentation and
control systems for gas turbine catalytic combustors. CCSI will account
for its share of the joint venture gain or loss upon the first cash infusion
scheduled for January 1997.
RESULTS OF OPERATIONS
---------------------
Net revenues for the three months ended September 30, 1996 were up 11% when
compared to the same period in 1995 primarily due to a 25% increase in
research revenues coupled with a 2% increase in product sales. The increase
in research revenues can primarily be attributed to increased contract
research being performed by the Company's Advanced Technology subsidiary for
various clients coupled with the initiation of a funded research commitment
associated with the five-year R&D agreement between Catalytica Fine
Chemicals and Pfizer to develop new processes and technology for the
manufacture of Pfizer products. These increases in research revenues were
partially offset by the cessation of funding of research activities
associated with Advanced Sensor Devices (ASD) following the sale of its
assets at the end of the second quarter, 1996 (See Overview above). The
slight increase in product sales during the third quarter of 1996 as
compared to 1995 reflects a modest increase in Fine Chemical product
shipments which was partially offset by the discontinuation of product sales
from ASD. ASD generated $0.2 million in research revenues and $0.2 million
in product sales during the third quarter, 1995.
Net revenues for the first nine months of 1996 were up 27% when compared to
the same period in 1995 primarily due to a 35% increase in product sales
coupled with an 18% increase in research revenues. Product sales during the
first two quarters of 1996 were up significantly when compared to the same
periods of 1995 primarily due to the shipment of fine chemical products to
new and existing customers. The increase in research revenues reflects
initiation of the aforementioned new funded research commitment associated
with the five-year R&D agreement between Catalytica Fine Chemicals and
Pfizer plus increased funding of the Company's work on nanoscale materials
used in catalysts and related contract research activities. The work on
nanoscale materials, which is being conducted through a joint venture with
Microfluidics International Corp., is being funded by a $2 million grant
awarded in 1994 by the U.S. Department of Commerce's National Institute of
Standards and Technology and by funding from potential customers of this
technology.
Cost of goods sold increased 5% for the third quarter of 1996 and increased
29% for the first nine months of 1996 compared to the same periods in 1995.
The increase in cost of goods sold for both the three and nine month periods
reflects increased physical volume of product sales coupled with higher than
normal costs associated with production start-up of
9
several new fine chemical products. Margins were also adversely impacted
with lower margins on the fine chemical products being manufactured for
Sandoz under a five-year agreement negotiated in connection with the
purchase of the Company's Bay View facility as well as start-up
manufacturing costs incurred earlier in the year by the Company's subsidiary
Advanced Sensor Devices. Margins on the fine chemical products are subject
to fluctuations from quarter to quarter due to various factors including the
mix of products being manufactured, manufacturing efficiencies achieved on
production runs, the length of down-time associated with setting up new
productions runs, and numerous other variables present in the chemical
manufacturing environment.
Research and development expenses decreased 7% to $2.2 million for the third
quarter of 1996 from $2.3 million for the same quarter last year. On a
year-to-date basis, however, research and development expenses increased 5%
to $7.7 million for the first nine months of 1996 from $7.3 million for the
first nine months of 1995. The decrease during the third quarter is
primarily due to a shift of certain catalytic combustion research and
development costs from Catalytica to the newly formed GENXON joint venture.
This transfer of R&D funding occurred August 1, 1996, and resulted in
approximately $0.6 million of research and development costs being financed
by the joint venture rather than Catalytica. On an absolute basis, (i.e.
excluding the $0.6 million transfer of R&D expenses) R&D spending on
catalytic combustion technology actually increased $0.4 million over 1995
levels during the third quarter. Cessation of all research activities of
Advanced Sensor Devices (ASD) following the sale of its assets (See Overview
above) also contributed approximately $0.3 million towards the reduction of
R&D expenses. This decrease in R&D funding during the third quarter due to
the formation of the joint venture and sale of ASD was partially offset by
increases in R&D expenses elsewhere in the Company reflecting new work on
nanoscale materials used in catalysts plus increased research activities
supporting the research commitment to Pfizer Inc.. The increase in R&D
expenses on a year-to-date basis reflects a significant increase in research
and development efforts related to the Company's combustion systems
technology (partially offset by the $0.6 million transfer in costs to the
new joint venture) coupled with work on nanoscale materials used in
catalysts plus a ramp up of research efforts supporting the research
commitment to Pfizer, Inc. Research and development expenses may fluctuate
from quarter to quarter.
Selling, general and administrative expenses decreased approximately $0.2
million for the three and nine months ended September 30, 1996. Prior to
the third quarter, SG&A expenses had been running at comparable levels to
1995. The decrease in the third quarter can be attributed to two events.
First, the discontinuation of the Advanced Sensor Devices subsidiary at the
end of the second quarter resulted in about two-thirds of the decrease in
SG&A expenses. Secondly, the formulation of the new GENXON joint venture
resulted in a shift of some administrative expenses to the joint venture as
certain Catalytica employees spent time on joint venture organization
activities for which the Company will be reimbursed by the joint venture
entity. Once the joint venture comes "up to speed", these management
activities being temporarily manned by Catalytica employees will be taken
over by full time GENXON employees. Thus, to the extent that Catalytica's
SG&A costs are being reimbursed by GENXON, these reductions should be
considered temporary and SG&A expenses will return to a more normalized
level in 1997. The reduction in SG&A
10
costs due to the discontinuation of Advanced Sensor Devices, however, are
permanent savings.
The $0.5 million gain on sale of assets represents the net realized gain
over book value on the sale of ASD's assets to Monitor Labs, Inc. on June
28, 1996 (See Overview above). This gain reflects only the payments received
thus far by Catalytica. Any future payments and related gains are at this
time uncertain, and therefore the gains, if any, will be recorded in the
period of actual receipt of any future payments.
Net interest income increased 543% for the third quarter of 1996 and
increased 175% for the first nine months of 1996 compared to the same
periods in 1995 due to higher balances of cash and short-term investments
associated with the Company's $14.7 million public offering (November 3,
1995) and $15 million cash infusion by Pfizer on May 8, 1996. This
increased interest income was partially offset by increased interest expense
on a line of credit and other short-term working capital financing at the
Catalytica Fine Chemicals Bay View manufacturing facility.
LIQUIDITY AND CAPITAL RESOURCES
-------------------------------
Total cash and cash equivalents plus short-term investments increased to
$24.7 million compared to $20.9 million at December 31, 1995. This increase
is primarily due to the $15.0 million cash payment by Pfizer for it's equity
investment in Fine Chemicals and prepaid research and development, coupled
with the $1.1 million payment received for the sale of ASD's assets. This
increase was partially offset by the loss for the year-to-date period
coupled with the payments on several working capital lines of credit
agreements associated with the Catalytica Fine Chemicals Bay View
manufacturing facility plus expenditures on capital equipment at the Bay
View facility.
In 1994 and 1995, the Company obtained various lines of credit to fund
capital purchases and future working capital needs of its Fine Chemicals
subsidiary. Two of these credit facilities, a working capital line of credit
agreement with $1.4 million outstanding on June 30, 1996 and a promissory
note of $1.5 million used to refinance a subsidiary's outstanding
subordinated debt, expired on July 1, 1996. The $1.5 million promissory
note was repaid in June, and the line of credit balance was repaid on July
1, 1996. In early August, the bank approved a new working capital line of
credit. It provides a $3.5 million line of credit based on accounts
receivable and expires on September 21, 1997. No borrowings were
outstanding under this new line of credit as of September 30, 1996. In
addition, the bank granted a $0.5 million term loan to be used for capital
equipment purchases at the Bay View facility. No draw-downs under this new
term loan had occurred as of September 30, 1996.
The Company's operations to date have required substantial amounts of cash.
The Company anticipates that existing capital resources, product revenues,
and research and development revenues will enable the Company to maintain
current and planned operations for at least the next 18 months. The
Company's future capital requirements will depend on many factors, including
rate of commercialization of the Company's catalytic combustion systems and
the need to expand manufacturing capacity for both its fine chemicals and
combustion
11
systems business. Although there can be no assurance the Company will obtain
orders sufficient to fill the capacity by such time, the Company's
manufacturing facility for pharmaceutical intermediates is expected to reach
capacity in 1997. The Company intends to augment its current pharmaceutical
intermediates manufacturing capacity by acquiring or constructing additional
plant capacity. However, to date, the Company has made plans only to modestly
expand its fine chemicals production capacity through expansion of its Bay
View plant. Adequate funds for future operations, whether from the financial
markets or from collaborative or other arrangements, may not be available
when needed or on terms acceptable to the Company and, if available or
acceptable to the Company, may result in significant dilution to existing
stockholders. If adequate funds are not available, the Company may be
required to delay, scale back or eliminate some or all of its research and
product development programs.
RISK FACTORS
History of Operating Losses and Uncertainty of Future Results
-------------------------------------------------------------
The Company's business has not been profitable to date, and as of September
30, 1996, the Company had an accumulated deficit of $48.2 million. The
Company anticipates incurring additional losses for at least the next 12 to
18 months. The Company expects that losses will fluctuate from quarter to
quarter as a result of differences in the amount and timing of expenses
incurred and revenues received. In particular, the Company's operating
results are affected by the size and timing of receipt of orders for and
shipments of its fine chemicals products, as well as the amount and timing of
payments and expenses under the Company's research and development contracts.
Through 1993, substantially all of the Company's revenues were derived from
research and development contracts. Most of the Company's research and
development contracts are subject to periodic review by the funding partner,
which may result in modifications, including reduction or termination of
funding. The Company's research and development revenues declined in 1995 and
1994 as certain research projects were terminated. There can be no assurance
the Company will continue to receive research and development funding, and
the Company expects that it will increasingly rely on product sales for its
revenues.
In 1994, the Company began deriving revenues from the sale of fine chemicals
products. Through December 31, 1995, a significant portion of the Company's
product revenues has been derived from sales to Sandoz Agro, Inc. ("Sandoz")
under a five-year contract pursuant to which Sandoz committed to buy certain
minimum volumes for the first four years and eight months. The Company has no
contractual volume commitment from Sandoz beyond May 31, 1998. There can be
no assurance the Sandoz contract will be renewed or replaced with new
business. The Sandoz agreement may be terminated by either party upon 30 days
prior written notice for failure to perform a material provision of the
agreement, if such failure is not cured within 60 days after receipt of
notice. The Company expects that it will need to manufacture new products to
increase revenue. Typically, new products have lower gross margins during the
initial manufacturing phase, which could have an adverse effect on the
Company's results of operations. To achieve profitable operations, Catalytica
must significantly increase its commercial sales of fine chemicals and
successfully develop, manufacture, introduce and market or license its
combustion
12
systems. There can be no assurance that the Company will be able to achieve
profitability on a sustained basis, or at all.
Commercialization; Shift from Research and Development
------------------------------------------------------
The Company's success will depend on its ability to complete the transition
from emphasizing research and development to full commercialization and sale
of its products. The Company began manufacturing, marketing and selling
pharmaceutical intermediates in 1994. Success of the Company's fine chemicals
business is dependent upon development and commercialization of appropriate
catalytic processes for new customers and new fine chemicals products. There
can be no assurance the Company will be able to develop and commercialize
such processes. In addition, sales of certain of the Company's fine chemicals
intermediates are dependent upon the customer obtaining clearance from the
United States Food and Drug Administration ("FDA") for marketing of the
customer's end-product. Failure of the Company's customers to obtain the
necessary FDA clearance would have an adverse affect on sales of certain fine
chemicals products.
The Company, through its subsidiary Catalytica Combustion Systems, Inc.,
(CCSI) and the GENXON joint venture, is still conducting research and
development on its combustion systems. Prior to commercialization of its
combustion systems, the Company's products will be required to undergo
rigorous testing by various turbine manufacturers and end users. Ultimate
sales of the Company's combustion system products will depend upon the
acceptance of the Company's technology by a limited number of turbine
manufacturers and the Company's ability to enter into commercial
relationships with these manufacturers and users. The Company's subsidiary
CCSI is currently working with leading turbine original equipment
manufacturers (OEM's), including: General Electric in large turbines, and
Allison Engine Co., a subsidiary of Rolls Royce, and Solar Turbines Inc., a
subsidiary of Caterpillar, Inc., in medium size turbines. In addition,
through its joint venture company GENXON, the company is developing complete
combustor systems for Affiliated Group of Companies (AGC), to be used on
small Kawasaki Heavy Industries turbines for mobile cogeneration
applications. GENXON is also developing complete combustor systems utilizing
Catalytica's combustion technology for end users to be "retro fitted" on
older "out-of-warranty" turbines no longer supported by OEM's. Neither the
Company, its subsidiary CCSI, or joint venture company GENXON have formal
long-term agreements in place with any of these companies. The Company's
ability to complete research and development and introduce commercial systems
for these markets could be adversely affected if one or more of these
companies terminated its relationship with the Company or GENXON. If such
terminations occurred, there is no assurance as to whether the Company could
enter into a similar relationship with another manufacturer. The Company
currently has limited manufacturing and marketing capability for its
combustion products. The Company's existing facilities could be inadequate
for commercial production of the combustion products under development, and
to the extent that the Company chooses to produce commercial quantities of
its products, the Company will be required to develop or acquire
manufacturing capability. In order to market any of its combustion system
products, the Company will be required to develop marketing capability,
either on its own or in conjunction with others. There can be no assurance
that the Company will be able to manufacture its products successfully or
develop an effective marketing and sales
13
organization. In addition, the Company's combustion systems and processes are
expected to be sold as components of large systems such as natural gas
turbines for electric power plants. Accordingly, the rate of adoption of the
Company's systems and processes may depend in part on economic conditions
which affect capital investment decisions, as well as the regulatory
environment. There can be no assurance that the Company's products will be
economically attractive when compared to competitive products.
Future Capital Requirements and Uncertainty of Additional Funding
-----------------------------------------------------------------
See Management's Discussion and Analysis of Financial Condition and Results
of Operations - Liquidity and Capital Resources.
Influence of Environmental Regulations on Rate of Commercialization
-------------------------------------------------------------------
The rate at which the Company's catalytic combustion systems are adopted by
industrial companies will be heavily influenced by the enactment and
enforcement of environmental regulations at the federal, state and local
levels. Current federal law governing air pollution generally does not
mandate the specific means for controlling emissions, but instead, creates
ambient air quality standards for individual geographic regions to attain
through individualized planning on a regional basis in light of the general
level of air pollution in the region. Federal law requires state and local
authorities to determine specific strategies for reducing emissions or
specific pollutants. Among other strategies, state and local authorities in
all areas which do not meet ambient air quality standards must adopt
performance standards for all major new and modified sources of air
pollution. The more polluted the air in a particular region has become, the
more stringent such controls must be. The Company's revenues will depend, in
part, on the standards, permit requirements and programs these state and
local authorities promulgate for reducing emissions (including emissions of
NOx) addressed by the Company's combustion and monitoring products systems.
Demand for the Company's systems and processes will be affected by how
quickly the standards are implemented and the level of reductions required.
Certain industries or companies may successfully delay the implementation of
existing or new regulations or purchase or acquire emissions credits from
other sources, which could delay or eliminate their need to purchase the
Company's systems and processes. Moreover, new environmental regulations may
impose different requirements which may not be met by the systems and
processes being developed by Catalytica or which may require costly
modifications of the Company's products. The United States Congress is
continually reviewing existing environmental regulations. There can be no
certainty as to whether Congress will amend or modify existing regulations in
a manner that could have an adverse effect on demand for the Company's
combustion system products.
Effect of FDA Regulations on Fine Chemicals Manufacturing
---------------------------------------------------------
Many of the fine chemicals products the Company manufactures, or will
manufacture in the future, and the final drug products in which they are used
are subject to regulation for safety and efficacy by the FDA and foreign
regulatory authorities before such products can be commercially marketed. The
process of obtaining regulatory clearances for marketing is
14
uncertain, costly and time consuming. The Company cannot predict how long the
necessary regulatory approvals will take or if its customers will ever obtain
such approval for their products. To the extent the Company's customers do
not obtain the necessary regulatory approvals for marketing new products, the
Company's fine chemicals product sales will be adversely affected.
In the future, the Company intends to manufacture bulk actives. To do so, the
Company would be required to comply with the FDA's current Good Manufacturing
Practices ("cGMP") regulations, and certain of the Company's customers may
also require the Company to adhere to cGMP regulations, even if not required
by the FDA. To comply with cGMP regulations, a manufacturer must continue to
expend time, money and effort in production, recordkeeping and quality
control to ensure that the product meets applicable specifications and other
requirements. The FDA periodically inspects drug manufacturing facilities to
ensure compliance with applicable cGMP requirements. Failure to comply
subjects the manufacturer to possible FDA action, such as suspension of
manufacturing. The FDA also may require the submission of any lot of the
product for inspection and may restrict the release of any lot that does not
comply with FDA regulations, or may otherwise order the suspension of
manufacture, recall or seizure. Failure of the Company's customers to obtain
and to maintain FDA clearance for marketing of the products manufactured by
the Company, or failure of the Company to comply with cGMP regulations as
required by the FDA or the Company's customers, would have a material adverse
effect on the Company's results of operations.
Competition and Technological Change
------------------------------------
There are numerous competitors in a variety of industries in the United
States, Europe and Japan which have commercialized and are working on
technologies that could be competitive with those under development by the
Company, including both catalytic and other technological approaches. Some of
these competitive products are in more advanced stages of development and
testing. The Company's competitors may develop technologies and systems and
processes that are more effective than those being developed by the Company
or that would render the Company's technology and systems and processes less
competitive or obsolete. In the fine chemicals market, the Company faces its
primary competition from pharmaceutical companies that produce their own fine
chemicals and from other fine chemicals manufacturers such as Lonza AG and
DSM Fine Chemicals. In the combustion systems market, the Company faces its
primary competition from large gas turbine power generation manufacturers,
such as General Electric Co. ("General Electric"), Allison Engine Company
("Allison") and Solar Turbines Incorporated ("Solar"), each of which is
developing competing systems for their own turbines. Many of the Company's
competitors in the combustion systems market are also potential customers of
the Company, and the Company expects to at least partially rely on these
potential customers to help commercialize its products. Most of these
competitors have greater research and development capabilities, financial
resources, managerial resources, marketing experience and manufacturing
experience than the Company. If these companies are successful in developing
such products, the Company's ability to sell its systems and processes would
be materially adversely affected. Further, since many of the Company's
competitors are existing or potential customers, the Company's ability to
gain market share may be limited.
15
Patents and Intellectual Property
---------------------------------
The Company has an active program of pursuing patents for its inventions in
the United States and in markets throughout the world relevant to its
business areas. The Company has 54 United Stated patents and 15 pending
United States patent applications.
The Company's success will depend on the ability to continue to obtain
patents, protect trade secrets and operate without infringing on the
proprietary rights of others in the United States and other countries. There
can be no assurance that the Company's patent applications will result in the
issuance of any patent, that any of the Company's existing patents or any
patents that may be issued in the future will provide significant proprietary
protection, that any such patents will be sufficiently broad to protect the
Company's technology, or that any such patents will not be challenged,
circumvented or invalidated. There can also be no assurance that the patents
of others will not have an adverse effect on the Company. Others may
independently develop similar systems or processes or design around patents
issued to the Company. In addition, the Company may be required to obtain
licenses to patents or other proprietary rights. The Company cannot assure
that any licenses required under any such patents or proprietary rights would
be made available on terms acceptable to the Company, if at all. If
Catalytica requires and does not obtain such licenses, it could encounter
delays in system or process introductions while it attempts to design around
such patents, or it could find that the development, manufacture, sale or
licensing of systems or processes requiring such licenses could be
foreclosed. The Company could incur substantial costs in defending itself or
its licensees in litigation brought by others or prosecuting infringement
claims against third parties. The Company could incur substantial costs in
interference proceedings declared by the United States Patent and Trademark
Office in connection with one or more of the Company's or third parties'
patents or patent applications, and those proceedings could also result in an
adverse decision as to the priority of the Company's inventions. The Company
also protects its proprietary technology and processes in part by
confidentiality agreements with its collaborative partners, employees and
consultants. There can be no assurance that these agreements will not be
breached, that the Company will have adequate remedies for any breach, or
that the Company's trade secrets will not otherwise become known or be
independently discovered by competitors.
Dependence on Key Personnel
---------------------------
The Company's success is dependent on the retention of principal members of
its management and scientific staff and on the ability to continue to
attract, motivate and retain additional key personnel. Competition for such
key personnel is intense, and the loss of the services of key personnel or
the failure to recruit necessary additional personnel could have a material
adverse effect upon the Company's operations and on its research and
development efforts. The Company does not have non-competition agreements
with any of its key employees. The Company's anticipated expansion into areas
and activities requiring additional expertise, such as manufacturing,
marketing and distribution, are expected to place increased demands on the
Company's resources. These activities are expected to require the addition of
new personnel with expertise in these areas and the development of
16
additional expertise by existing personnel. The failure to acquire such
personnel or to develop such expertise could materially adversely affect
prospects for the Company's success.
Hazardous Materials and Environmental Matters
---------------------------------------------
The Company's research and development activities and fine chemicals
manufacturing involve the use of many hazardous chemicals. The Company is
subject to extensive federal, state and local laws and regulations governing
the use, manufacture, storage, handling and disposal of such materials and
associated waste products. The Company believes that its properties and
operations comply in all material respects with applicable environmental
laws; however, the risk of environmental liabilities cannot be completely
eliminated. Public awareness of environmental issues has increased the impact
of such laws on the conduct of manufacturing operations and ownership of
property. Any failure by the Company to comply with present or future
environmental laws could result in cessation of portions or all of the
Company's operations, impositions of fines, restrictions on the Company's
ability to carry on or expand its operations, significant expenditures by the
Company to comply with environmental laws and regulations, and/or liabilities
in excess of the resources of the Company. The Company does not have
environmental impairment liability insurance. In 1992, the Company completed
a renovation of its research and development facilities at a cost of
approximately $2.3 million to comply with environmental laws and regulations.
There can be no assurance, however, that the Company will not be required to
make additional renovations or improvements to comply with environmental laws
and regulations in the future. The Company's operations, business or assets
could be materially adversely affected in the event such environmental laws
or regulations require the Company to modify current facilities substantially
or otherwise limit the Company's ability to conduct or expand its operations.
The Company leases the land on which its fine chemicals facility is located
from Rhone Poulenc, Inc., ("Rhone Poulenc"). The past activities of Rhone
Poulenc's predecessor caused significant soil and groundwater contamination
of the facility and a down gradient area located along the San Francisco Bay.
Consequently, the site is subject to a clean up and abatement order issued by
the Bay Area Regional Water Quality Control Board ("RWQCB") which currently
requires stabilization, containment and monitoring of the arsenic and
volatile organic contamination at the site and surrounding areas. The ground
lease between Rhone Poulenc and the Company includes an indemnity by Rhone
Poulenc against any costs and liabilities that the Company might incur to
fulfill the RWQCB order and to otherwise address the contamination that is
the subject of the order. The Company also has obtained an indemnification
from Sandoz (the immediately preceding owner/operator of the facility)
against any costs and liability the Company may incur with respect to any
contamination caused by Sandoz' operations. However, there can be no
assurance that the Company will not be held responsible with respect to the
existing contamination or named in an action brought by a governmental agency
or a third party because of such contamination. If the Company is held
responsible and it has contributed to the contamination, it will be liable
for any damage to third parties, and will be required to indemnify Rhone
Poulenc and Sandoz for any additional clean up costs or liability they may
incur, with respect to the contamination caused by the Company. The
determination of
17
the existence and additional cost of any such incremental contamination
contribution by the Company could involve costly and time-consuming
negotiations and litigation. Further, any such incremental contamination by
the Company or the unenforceability of either of the indemnity agreements
described above could materially adversely affect the Company's business and
results of operations.
PART II - OTHER INFORMATION
Item 6
Exhibits
27.1 Financial Data Schedule
All information required by other items in Part II is omitted because the
items are inapplicable, the answer is negative or substantially the same
information has been previously reported by the registrant.
18
CATALYTICA, INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: November 13, 1996 CATALYTICA, INC.
-----------------
(Registrant)
By: /s/ Lawrence W. Briscoe
-----------------------
Lawrence W. Briscoe
Vice President and Chief
Financial Officer
Signing on behalf of the
registrant and as principal
financial officer
19