UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------------------------
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1996
OR
[ ] TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to .
--------------- ---------------
Commission File Number: 0-22788
ARRIS PHARMACEUTICAL CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 22-2969941
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
385 OYSTER POINT BOULEVARD
SOUTH SAN FRANCISCO, CALIFORNIA 94080
(Address of principal executive offices)
(415) 829-1000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
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, $0.001 par
value, was 13,992,805 as of April 30, 1996.
1
ARRIS PHARMACEUTICAL CORPORATION
INDEX
PAGE
PART I: FINANCIAL INFORMATION
ITEM 1. Financial Statements *
Consolidated Balance Sheets - March 31, 1996 and
December 31, 1995............................................. 3
Consolidated Statements of Operations - Three months
ended March 31, 1996 and 1995................................. 4
Consolidated Statements of Cash Flows - Three months ended
March 31, 1996 and 1995....................................... 5
Notes to Consolidated Financial Statements - March 31, 1996......... 6
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................... 9
PART II: OTHER INFORMATION
ITEM 6. Exhibits and Reports on Form 8-K...................................13
SIGNATURES...................................................................14
* The financial information should be read in conjunction with the financial
statements and notes thereto included in the Company's Report on Form 10-K for
the year ended December 31, 1995, filed on March 14, 1996.
2
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED BALANCE SHEETS
(unaudited)
March 31, December 31,
1996 1995
--------- ------------
(IN THOUSANDS)
ASSETS
Current assets:
Cash and cash equivalents $ 48,127 $ 21,706
Short-term marketable investments 18,256 9,399
Prepaid expenses and other current assets 1,466 798
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Total current assets 67,849 31,903
Property and equipment, net 8,084 7,423
Other assets 908 967
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TOTAL ASSETS $ 76,841 $ 40,293
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--------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,355 $ 872
Accrued compensation 1,195 1,718
Other accrued liabilities 1,356 2,651
Current portion of deferred revenue 10,251 8,585
Current portion of capital lease and
debt obligations 2,357 2,699
--------- ---------
Total current liabilities 16,514 16,525
Deferred revenue, net of current portion 5,934 5,472
Capital lease and debt obligations, net of
current portion 4,051 3,263
Convertible acquisition liability 6,185 6,185
Minority interest payable 1,570 1,570
Stockholders' equity:
Preferred stock, $.001 par value; 10,000,000 shares
authorized, none issued or outstanding -- --
Common stock, $.001 par value; 30,000,000 shares
authorized, 13,333,126 shares and 10,169,076
shares issued and outstanding at March 31, 1996
and December 31, 1995, respectively 101,226 64,389
Note receivable from officer (200) (200)
Deferred compensation -- (35)
Accumulated deficit (58,439) (56,876)
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Total stockholders' equity 42,587 7,278
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 76,841 $ 40,293
--------- ---------
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See accompanying notes to consolidated financial statements.
3
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended
March 31,
----------------------------
1996 1995
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(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Contract revenues $ 5,044 $ 3,873
Operating expenses:
Research and development 5,644 3,568
General and administrative 1,205 1,089
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Total operating expenses 6,849 4,657
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Operating loss (1,805) (784)
Interest income 357 319
Interest expense (115) (70)
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Net loss $ (1,563) $ (535)
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---------- ----------
Net loss per share $ (0.15) $ (0.06)
---------- ----------
---------- ----------
Shares used in computing net loss
per share 10,404 8,672
---------- ----------
---------- ----------
See accompanying notes to consolidated financial statements.
4
ARRIS PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Three months ended
March 31,
-----------------------
1996 1995
-----------------------
(IN THOUSANDS)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (1,563) $ (535)
Adjustments to reconcile net loss
to net cash and cash equivalents
provided by (used in) operating
activities:
Depreciation and amortization 1,017 507
Loss on fixed assets -- 50
Changes in assets and liabilities:
Prepaid expenses and other current
assets (728) (146)
Other assets 59 (7)
Accounts payable, accrued liabilities
and deferred revenue 977 (1,759)
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Net cash and cash equivalents used in
operating activities (238) (1,890)
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CASH FLOWS FROM INVESTING ACTIVITIES:
Available-for-sale securities:
Purchases -- (8,808)
Maturities -- --
Purchase of held-to-maturity security (8,857) --
Expenditures for property and equipment (1,583) (531)
Proceeds from lease financing of equipment 1,664 --
----------- ---------
Net cash and cash equivalents used in
investing activities (8,776) (9,339)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of common stock 36,653 147
Principal payments on note payable and
capital leases (1,218) (771)
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Net cash and cash equivalents provided
by (used in) financing activities 35,435 (624)
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Net increase (decrease) in cash and
cash equivalents 26,421 (11,853)
Cash and cash equivalents, beginning
of period 21,706 17,165
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Cash and cash equivalents, end of period $ 48,127 $ 5,312
----------- ---------
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See accompanying notes to consolidated financial statements.
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ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31,1996
(unaudited)
ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Arris Pharmaceutical Corporation, a Delaware corporation ("Arris" or the
"Company") uses an integrated drug discovery approach combining
structure-based drug design, combinatorial chemistry and its proprietary
Delta Technology to discover and develop diverse small molecule therapeutics
for commercially important disease categories where existing therapies have
significant limitations. Arris' product development programs include: (1)
protease-based discovery programs targeting the inhibition of enzymes
implicated in inflammatory and other diseases, and (2) receptor-based
discovery programs including those designed to discover small molecule drugs
that mimic important therapeutic proteins that are already successful
products.
The consolidated financial statements include the accounts of the Company, its
wholly-owned subsidiary, Arris Protease, Inc., and its 50%-owned subsidiary,
Arris Pharmaceuticals Canada, Inc., which has been consolidated based on the
Company's ability to demonstrate effective control over this entity. All
significant intercompany accounts and transactions have been eliminated.
BASIS OF PRESENTATION
The consolidated financial statements included herein have been prepared by the
Company, without audit, according to the rules and regulations of the Securities
and Exchange Commission. Certain information and footnote disclosures normally
included in complete financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. The financial statements reflect, in the opinion of
management, all adjustments (which include only normal recurring adjustments)
necessary to state fairly the financial position and results of operations as of
and for the periods indicated. The results of operations for the three-month
period ended March 31, 1996 are not necessarily indicative of the results to be
expected for subsequent quarters or the full fiscal year.
These financial statements should be read in conjunction with the audited
financial statements and the notes thereto included in the Company's 1995 Annual
Report on Form 10-K filed with the Securities and Exchange Commission.
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ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CASH AND CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
The Company considers all highly liquid investments with maturities of three
months or less at the date of purchase to be cash equivalents. Short-term and
long-term investments consist of U.S. treasury and agency securities, municipal
obligations and high-grade corporate obligations. Amortization of premiums and
accretion of discounts to maturity are included in interest income.
SECURITIES HELD-TO-MATURITY: Management determines the appropriate
classification of debt securities at the time of purchase and reevaluates such
designation as of each balance sheet date. Debt securities are classified as
held-to-maturity when the Company has the positive intent and ability to hold
the securities to maturity. Held-to-maturity securities are stated at amortized
cost.
The following is a summary of held-to-maturity debt securities at March 31, 1996
and December 31, 1995:
HELD-TO-MATURITY SECURITIES
-------------------------------------------------------
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ---------- ---------- ----------
(IN THOUSANDS)
Balances at March 31, 1996
U.S. treasury securities $ 5,015 $ -- $ (25) $ 4,990
U.S. agency securities 1,948 -- (11) 1,937
U.S. corporate securities 11,293 -- (11) 11,282
--------------------------------------------------------
$ 18,256 $ -- $ (47) $ 18,209
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Balances at December 31, 1995
U.S. treasury securities $ 5,015 $ -- $ (101) $ 4,914
U.S. agency securities 7,392 -- (23) 7,369
U.S. corporate securities 11,487 -- (14) 11,473
-------------------------------------------------------
$ 23,894 $ -- $ (138) $ 23,756
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
At March 31, 1996, all held-to-maturity securities were included in short-term
marketable investments. At December 31, 1995, $14,495,000 was included in cash
and cash equivalents and $9,399,000 was included in short-term marketable
investments. As of March 31, 1996, the average remaining portfolio duration of
held-to-maturity securities was approximately two and one-half months and the
contractual maturity did not exceed five months.
SECURITIES AVAILABLE-FOR-SALE: Debt securities not classified as held-to-
maturity are classified as available-for-sale. Available-for-sale securities are
stated at fair market value, with the unrealized gains and losses included in
accumulated deficit. The company had no securities classified as available-
for-sale at March 31, 1996 or December 31, 1995.
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ARRIS PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
ACCOUNTING FOR STOCK BASED COMPENSATION
The Company accounts for its stock option plan in accordance with the provisions
of the Accounting Principals Board Opinion No. 25 (APB 25) "Accounting for Stock
Issued to Employees". In 1995, the Financial Accounting Standards Board
released the Statement of Financial Accounting Standard No. 123 (SFAS 123),
"Accounting for Stock Based Compensation". SFAS 123 provides an alternative to
APB 25 and is effective for fiscal years beginning after December 15, 1995. The
Company expects to continue to account for its stock plans in accordance with
the provisions of APB 25. Accordingly, SFAS 123 is not expected to have any
material impact on the Company's financial position or results of operations.
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ARRIS PHARMACEUTICAL CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS, IN ADDITION TO HISTORICAL
INFORMATION, FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES.
THE COMPANY'S ACTUAL RESULTS COULD DIFFER SIGNIFICANTLY FROM THE RESULTS
DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE OR
CONTRIBUTE TO SUCH DIFFERENCES INCLUDE THOSE DISCUSSED BELOW.
OVERVIEW
Since its inception in April 1989, the Company has devoted substantially all of
its resources to its research and development programs. To date, the Company's
only source of revenue has been its corporate collaborations with Pharmacia &
Upjohn, Inc. and its predecessors ("PNU"), Amgen, Inc. ("Amgen"), and Bayer AG
("Bayer"). Such collaborations, except for the initial collaboration with PNU,
provided for the payment to the Company of initial up-front commitment fees,
research funding and support fees upon the achievement of milestones and
royalties upon the sale of any resulting products. Up-front fees are recorded
as deferred revenue until earned. The initial collaboration with PNU was of a
similar structure except that PNU made an equity investment in the company of
$5.4 million and did not pay a commitment fee.
In January 1996, PNU exercised an option to extend the human growth hormone
("hGH") collaboration between it and the Company through April 1997. In
February 1996, Amgen and the Company restructured the erythropoietin ("EPO")
agreement between the two companies to extend through mid-February 1997, unless
further extended by Amgen.
In March 1996, the Company announced a new collaboration agreement with PNU to
significantly expand Arris' combinatorial chemistry and high throughput
screening capabilities. The Company is to share the technologies used for
synthesis and screening with PNU and to use combinatorial chemistry to create a
probe library consisting of 250,000 small molecule synthetic organic compounds
for the Company's and PNU's exclusive use. The Company received a commitment fee
at the initiation of the agreement and will receive additional commitment fees
at the first and second anniversary dates of the agreement. In addition, the
Company will be paid a fee for the compounds delivered.
The Company has not been profitable since inception and expects to incur
substantial losses for at least the next several years, primarily due to the
cost of its research and development programs, including preclinical studies and
human clinical trials. The Company expects that losses will fluctuate from
quarter to quarter, that such fluctuations may be substantial, and that results
from prior quarters may not be indicative of future operating results. As of
March 31, 1996, the Company's accumulated deficit was approximately $58.4
million.
RESULTS OF OPERATIONS
The Company's contract revenues increased to $5.0 million for the three months
ended March 31, 1996 from $3.9 million in the comparable period of 1995. The
increase for 1996 was primarily due to (i) commencement of a collaboration with
PNU in April 1995 for the
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ARRIS PHARMACEUTICAL CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
development of combinatorial organic library synthesis and high throughput
screening, (ii) commencement of a collaboration with PNU in August 1995 for the
discovery and development of oral therapeutics inhibitors of the serine
proteases involved in the blood clotting cascade, and (iii) commencement of the
combinatorial chemistry and high throughput screening collaboration commenced in
March 1996 and described above.
Research and development expenses increased to $5.6 million for the three months
ended March 31, 1996 from $3.6 million in the comparable period in 1995,
primarily due to the expansion of the Company's research efforts in new and
existing programs and the expenses of programs and facilities added as part of
the December 22, 1995 acquisition of Khepri Pharmaceuticals, Inc. ("Khepri").
The Company expects its research and development costs to increase during the
remainder of 1996 and into 1997 due to expansion of its research programs and
the conduct of additional preclinical studies and clinical trials.
The Company's general and administrative expenses increased to $1.2 million for
the three months ended March 31, 1996 from $1.1 million in the comparable period
in 1995, primarily due to the acquisition of Khepri, and the addition of general
and administrative personnel in support of the Company's expanded research and
development efforts. The Company expects its general and administrative costs
to increase for the remainder of 1996 and into 1997.
Interest income increased to $357,000 in the three months ended March 31, 1996
from $319,000 in the comparable period in 1995, largely due to the higher
average cash balances resulting from receipt of commitment fees under new
collaborations and net proceeds of approximately $36 million from the follow-on
offering of 3,000,000 shares of the Company's common stock, which closed on
March 27, 1996. Interest expense increased to $115,000 from $70,000 in the
comparable period of 1995 as a result of higher average debt balances incurred
to finance the expansion of the Company's facilities and acquisition of lab
equipment.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations since inception primarily through
private and public offerings of its capital stock and through corporate
collaborations. As of March 31, 1996, the Company had realized approximately
$84.4 million in net proceeds from offerings of its capital stock (excluding the
$16.8 million of common stock issued in the acquisition of Khepri in 1995). In
addition, the Company has realized $48.8 million from its corporate
collaborations (excluding the $5.4 million equity investment in the Company made
by PNU). On April 24, 1996 the underwriters in the Company's March 1996 public
offering exercised the over-allotment option for an additional 450,000 shares,
providing net equity proceeds of an additional $5.5 million to the Company.
The Company's principal sources of liquidity are its cash and investments, which
totaled $66.4 million as of March 31, 1996, which does not include the $5.5
million received from the exercise of the over-allotment option. The Company
currently has approximately $3.3 million available
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ARRIS PHARMACEUTICAL CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
under various capital lease and debt lines. Cash used by operating activities
during the three month period ended March 31, 1996 was $238,000. This includes
the receipt of research and development funding support and an up-front
commitment fee from PNU in relation to the combinatorial chemistry collaboration
agreement which commenced in March 1996. It also includes the Company's
operating expenditures for the period and payment of certain accrued expenses
related to the Khepri acquisition. Cash used in operating activities is
expected to fluctuate from quarter to quarter depending, in part, upon the
timing of cash received from new or expanded collaboration agreements. There
can be no assurances that such payments will be received on a quarterly basis or
at all. The Company also spent approximately $1.6 million for the purchase of
property, plant and equipment. Additional equipment will be needed as the
Company increases its research and development activities. The Company received
net financing of $446,000, including proceeds under leasing agreements, net of
principal repayments under the new and existing lease agreements.
At this time, the Company's contract revenues and collaboration funding is
attributable to collaborations with PNU, Amgen and Bayer. PNU recently
exercised an option to extend the hGH collaboration for one year through April
1997. Amgen and Arris recently restructured their collaboration to extend
through mid-February 1997, unless further extended by Amgen. All of the
Company's other collaborations extend beyond the next 12 months. If the Company
is unable to renew any of these collaborations, such event may have a material
adverse effect on the Company's business and financial condition.
The cash received by the Company under collaborations for the three months ended
March 31, 1996 was approximately $7.2 million, which includes an up-front
payment from Pharmacia & Upjohn for the new combinatorial chemistry agreement
signed February 29, 1996. The aggregate collaboration funding to be received by
the Company in 1996 is expected to be approximately $16 million, excluding
payments which may be received upon the acheivement of certain milestones.
There can be no assurance that the research proceeds or any milestone payments
will be realized on a timely basis or at all.
The Company expects that its existing capital resources, including research and
development revenues from existing collaborations, will enable the Company to
maintain current and planned operations through at least the next 48 months.
The Company may need to raise substantial additional capital to fund its
operations before the end of such period. The Company expects that it will seek
such additional funding through new collaborations, through the extension of
existing collaborations or through public or private equity or debt financing.
There can be no assurance that additional financing will be available on
acceptable terms or at all. If additional funds are raised by issuing
equity securities, further dilution to stockholders may result. If adequate
funds are not available, the Company may be required to delay, to reduce the
scope of or to eliminate one or more of its research or development programs
or to obtain funds through arrangements with collaborative partners or others
that may require the Company to relinquish rights to certain of its
technologies or products that the Company would otherwise seek to develop or
commercialize itself.
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ARRIS PHARMACEUTICAL CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
CERTAIN BUSINESS RISKS
The Company is at an early stage of development. The Company's technologies
are, in many cases, new and still under development. All of the Company's
proposed products are in research or development and will require significant
additional research and development efforts prior to any commercial use,
including extensive preclinical and clinical testing as well as lengthy
regulatory approval. There can be no assurance that the Company's research and
development efforts will be successful, that any of its proposed products will
prove to be safe and efficacious in the clinical trials or that any commercially
successful products will ultimately be developed by the Company. In addition,
many of the Company's currently proposed products are subject to development and
licensing arrangements with the Company's collaborators. Therefore, the Company
is dependent on the research and development efforts of these collaborators.
Moreover, the Company is entitled only to a portion of the revenues, if any,
realized from the commercial sale of any of the proposed products covered by the
collaborations. The Company has experienced significant operating losses since
its inception and expects to incur significant operating losses over at least
the next several years. The development of the Company's technology and
proposed products will require a commitment of substantial funds to conduct
these costly and time consuming activities. All of the Company's revenues to
date have been received pursuant to the Company's collaborations. Should the
Company or its collaborators fail to perform in accordance with the terms of any
of their agreements, any consequent loss of revenue under the agreements could
have a material adverse effect on the Company's results of operations. The
proposed products under development by the Company have never been manufactured
on a commercial scale and there can be no assurance that such products can be
manufactured at a cost or in quantities necessary to make them commercially
viable. The Company has no sales, marketing or distribution capability. If any
of its products subject to collaborative agreements are successfully developed,
the Company must rely on its collaborators to market such products.
If the Company develops any products which are not subject to collaborative
agreements, it must either rely on other large pharmaceutical companies to
market such products or must develop a marketing and sales force with technical
expertise and supporting distribution capability in order to market such
products directly. The foregoing risks reflect the Company's early stage of
development and the nature of the Company's industry and products. Also
inherent in the Company's stage of development is a range of additional risks,
including competition, uncertainties regarding protection of patents and
proprietary rights, government regulation and uncertainties regarding health
care reform.
12
ARRIS PHARMACEUTICAL CORPORATION
PART II: OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
10.33 Amendment to Agreement dated March 29, 1993 between
the Registrant and Kabi Pharmacia AB, dated
January 31, 1996. (1)
10.34 First Amendment to Research and License Agreement dated
May 28, 1993 between Registrant and Amgen, Inc., dated
February 2, 1996. (1)
10.35 Research Agreement between the Registrant and
Pharmacia & Upjohn, Inc., a Delaware corporation,dated
February 29, 1996. (1)
10.36 Form of Sixth Amendment to Lease dated October 15, 1992
between the Registrant and Shelton Properties, Inc.
dated March 27, 1996.
10.37 Financing Agreement between Hambrecht and Quist
Guaranty Finance, LLC, dated March 29, 1996, including
Security Agreement and Warrant Purchase Agreement of
even date.
10.38 Amendment to Lease Schedule under Master Property
Lease Agreement dated March 29, 1994 between Hambrecht
and Quist Guaranty Finance, L.P., dated March 29, 1996.
(b) Reports on Form 8-K
A Current Report on Form 8-K was filed on January 5, 1996, as
amended on February 5, 1996, in conjunction with the Company's
acquisition of Khepri Pharmaceuticals, Inc., which was completed
on December 22, 1995.
-------------------------
(1) Confidential treatment has been requested for portions to this document.
Brackets indicate portions of text that have been omitted. A separate filing of
such omitted text has been made with the Commission as part of the Company's
application for confidential treatment.
13
ARRIS PHARMACEUTICAL CORPORATION
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.
ARRIS PHARMACEUTICAL CORPORATION
Date: May 13, 1996 By: /s/ John P. Walker
---------------------------------------
John P. Walker
President, Chief Executive Officer
and Director
Date: May 13, 1996 By: /s/ Daniel H. Petree
---------------------------------------
Daniel H. Petree
Vice President, Corporate Development
and Chief Financial Officer
(Principal Financial and Accounting
Officer)
14