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 January 31, 2006
or
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to ______________
Commission File Number 001-09974
ENZO BIOCHEM, INC.
----------------------------------------------------
(Exact name of registrant as specified in its charter)
New York 13-2866202
- -------------------- ----------------
(State or Other Jurisdiction (IRS. Employer
of Incorporation or Organization) Identification No.)
60 Executive Blvd., Farmingdale, New York 11735
- ----------------------------------------- -----------
(Address of Principal Executive office) (Zip Code)
631-755-5500
- ------------------------------
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $0.01 Par Value New York Stock Exchange
- ----------------------------- -----------------------
(Title of Class) (Name of Each Exchange on which Registered)
Securities registered pursuant to Section 12(g) of the Act: NONE
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 has
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No |_|
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non- accelerated filer (as defined in Rule 12b-2 of the
Exchange Act).
Large accelerated |_| Accelerated filer |X| Non- accelerated filer |_|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act.)
Yes |_| No |X|
As of March 1, 2006 the Registrant had 32,234,450 shares of
Common Stock outstanding.
ENZO BIOCHEM, INC.
FORM 10-Q
January 31, 2006
INDEX
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets
January 31, 2006 (unaudited) and July 31, 2005 3
Consolidated Statements of Operations
For the three and six months ended January 31, 2006 and 2005 (unaudited) 4
Consolidated Statements of Cash Flows
For the six months ended January 31, 2006 and 2005 (unaudited) 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 15
Item 3. Quantitative and Qualitative Disclosures About Market Risk 23
Item 4. Controls and Procedures 23
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 23
Item 4. Submission of matters to a vote of security holders 24
Item 6. Exhibits 24
Signatures 24
2
PART 1 - FINANCIAL INFORMATION
ITEM 1 - CONSOLIDATED FINANCIAL STATEMENTS
ENZO BIOCHEM, INC.
CONSOLIDATED BALANCE SHEETS
January 31, July 31,
ASSETS 2006 2005
(unaudited)
-------------- --------------
Current assets: (In thousands)
Cash and cash equivalents ............................................................... $ 76,362 $ 76,981
Marketable securities ................................................................... -- 6,714
Accounts receivable, net of allowances .................................................. 11,652 13,421
Inventories ............................................................................. 2,980 2,876
Prepaid expenses ........................................................................ 1,763 2,580
Recoverable income taxes ................................................................ 2,533 1,329
Deferred taxes .......................................................................... -- 900
--------- ---------
Total current assets ....................................................................... 95,290 104,801
Property and equipment, net of accumulated depreciation
and amortization ........................................................................ 3,093 2,669
Goodwill ................................................................................... 7,452 7,452
Patent costs, net of accumulated amortization .............................................. 1,296 1,333
Other ...................................................................................... 210 211
--------- ---------
Total assets ............................................................................... $ 107,341 $ 116,466
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accrued legal fees ...................................................................... $ 1,442 $ 2,717
Trade accounts payable .................................................................. 1,710 2,414
Other accrued expenses .................................................................. 1,288 1,348
Accrued payroll ......................................................................... 570 515
Deferred revenue ........................................................................ -- 359
Accrued research and development expenses ............................................... 163 286
Installment payable ..................................................................... -- 150
--------- ---------
Total current liabilities .................................................................. 5,173 7,789
Deferred taxes ............................................................................. -- 260
Long term installment payable .............................................................. 150 150
Commitments
Stockholders' equity:
Preferred Stock, $.01 par value; authorized 25,000,000 shares; no
shares issued or outstanding ........................................................ -- --
Common Stock, $.01 par value; authorized 75,000,000 shares; shares
issued: 32,787,000 at January 31, 2006 and 32,526,800 at July 31, 2005 ............. 328 325
Additional paid-in capital .............................................................. 234,420 230,644
Less treasury stock at cost: 564,860 shares at January 31, 2006
and 384,400 shares at July 31, 2005 ................................................ (8,428) (5,994)
Accumulated deficit ..................................................................... (124,302) (116,577)
Accumulated other comprehensive loss .................................................... -- (131)
--------- ---------
Total stockholders' equity ................................................................. 102,018 108,267
--------- ---------
Total liabilities and stockholders' equity ................................................. $ 107,341 $ 116,466
========= =========
3
See accompanying notes
ENZO BIOCHEM, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Three Months Ended Six Months Ended
January 31, January 31,
2006 2005 2006 2005
---------------------------------------------------------------
(In Thousands) (In Thousands)
Revenues:
Research product revenues and royalty income ............ $ 2,109 $ 3,271 $ 4,255 $ 5,727
Clinical laboratory services ............................ 8,007 7,964 16,026 15,809
-------- -------- -------- --------
10,116 11,235 20,281 21,536
Costs and expenses and other (income):
Cost of research product revenues ....................... 385 555 926 1,130
Cost of clinical laboratory services .................... 3,431 2,859 6,912 5,773
Research and development expense ........................ 1,911 2,030 3,461 4,243
Selling, general, and administrative expense ............ 7,326 4,738 12,781 8,875
Provision for uncollectible accounts receivable ......... 1,209 1,146 2,354 2,623
Legal expense ........................................... 1,632 1,160 3,494 2,303
Interest income ......................................... (680) (309) (1,387) (639)
Gain on patent litigation settlement .................... -- -- -- (14,000)
-------- -------- -------- --------
15,214 12,179 28,541 10,308
(Loss) income before income taxes .......................... (5,098) (944) (8,260) 11,228
Benefit (provision) for income taxes ....................... 659 416 536 (4,736)
-------- -------- -------- --------
Net (loss) income .......................................... ($ 4,439) ($ 528) ($ 7,724) $ 6,492
======== ======== ======== ========
Net (loss) income per common share:
Basic ................................................... ($ 0.14) ($ 0.02) ($ 0.24) $ 0.20
======== ======== ======== ========
Diluted ................................................. ($ 0.14) ($ 0.02) ($ 0.24) $ 0.20
======== ======== ======== ========
Weighted average common shares outstanding:
Basic ................................................... 32,200 32,076 32,179 32,062
Diluted ................................................. 32,200 32,076 32,179 32,739
4
See accompanying notes
ENZO BIOCHEM, INC
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended
January 31,
2006 2005
-------- --------
OPERATING ACTIVITIES (in thousands)
Net (loss) income .................................................................... ($ 7,724) $ 6,492
Adjustments to reconcile net (loss) income to net cash
(used in)/provided by operating activities:
Depreciation and amortization of property and equipment ....................... 526 383
Amortization of patent costs .................................................. 37 660
Provision for uncollectible accounts receivable ............................... 2,354 2,623
Deferred taxes ................................................................ 640 425
Stock option compensation charge .............................................. 840 --
Restricted stock awards compensation charge ................................... 29 --
Issuance of stock for 401(k) employer match ................................... 401 --
Deferred rent ................................................................. -- (87)
Loss on sales of marketable securities ........................................ 153 98
Changes in operating assets and liabilities:
Accounts receivable before provision for
uncollectible amounts ......................................................... (585) (2,509)
Inventories ................................................................... (104) 150
Prepaid expenses .............................................................. 817 318
Recoverable income taxes ...................................................... (1,204) 533
Trade accounts payable and other accrued expenses ............................. (765) (797)
Accrued research and development expenses ..................................... (123) (28)
Deferred revenue .............................................................. (359) 1,503
Income taxes payable .......................................................... -- 1,978
Accrued legal fees ............................................................ (1,275) (1,540)
Accrued payroll ............................................................... 55 148
Installment payable ........................................................... (150) --
-------- --------
Adjustments - net ................................................................... 1,287 3,858
Net cash (used in)/provided by operating activities ....................... (6,437) 10,350
INVESTING ACTIVITIES
Capital expenditures ............................................................. (948) (715)
Patent costs deferred ............................................................ -- (21)
Sales of marketable securities ................................................... 6,761 5,000
Purchases of marketable securities ............................................... (69) (275)
Security deposits ................................................................ 1 (5)
-------- --------
Net cash provided by investing activities ................................. 5,745 3,984
FINANCING ACTIVITIES
Proceeds from the exercise of stock options ...................................... 73 290
-------- --------
Net cash provided by financing activities ................................. 73 290
Net (decrease) increase in cash and cash equivalents ................................. (619) 14,624
Cash and cash equivalents at the beginning of the period ............................. 76,981 54,499
-------- --------
Cash and cash equivalents at the end of the period ................................... $ 76,362 $ 69,123
======== ========
SUPPLEMENTAL DISCLOSURE FOR STATEMENT OF CASH FLOWS
In October 2005, certain officers of the Company exercised incentive stock
options in a non-cash transaction. The officers surrendered 180,411 shares of
previously acquired common stock in exchange for 221,116 shares. The Company
recorded approximately $2.4 million, the market value of the surrendered shares,
as treasury stock.
In December 2004, a director of the Company exercised incentive stock options in
a non-cash transaction. The director surrendered 17,056 shares of previously
acquired common stock in exchange for 31,660 shares. The Company recorded
approximately $0.3 million, the market value of the surrendered shares, as
treasury stock.
5
See accompanying notes
ENZO BIOCHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
as of January 31, 2006
and for the three and six month periods ended
January 31, 2006 and 2005
(Unaudited)
NOTE 1. BASIS OF PRESENTATION
The consolidated financial statements are unaudited and reflect all adjustments
(consisting only of normal recurring adjustments) which are, in the opinion of
management, necessary for a fair presentation of the financial position and
operating results for the interim periods. The consolidated financial statements
should be read in conjunction with the consolidated financial statements for the
year ended July 31, 2005 and notes thereto contained in the Company's Annual
Report on Form 10-K filed with the Securities and Exchange Commission. The
results of operations for the three and six months ended January 31, 2006 are
not necessarily indicative of the results to be expected for the entire fiscal
year ending July 31, 2006.
RECLASSIFICATIONS
Certain amounts in prior years have been reclassified to conform to current year
presentation.
NOTE 2. RECENT ACCOUNTING PRONOUNCEMENTS - SFAS NO. 123(R) ACCOUNTING FOR SHARE
BASED PAYMENT
In December 2004, the Financial Accounting Standards Board ("FASB") issued
revised SFAS No. 123 "Accounting for Share Based Payment" ("SFAS 123(R)"), which
requires that the compensation cost relating to share-based payment transactions
be recognized in financial statements. Accordingly, pro forma disclosure of the
compensation effect of share based payment transactions with employees on net
income and earnings per share is no longer an alternative to recognition in the
statements of operations. The compensation cost recognized is measured based on
the fair value of the equity or liability instrument issued. The statement
covers a wide range of share-based compensation arrangements including share
options, restricted share plans, performance-based awards, share appreciation
rights, and employee share purchase plans. The Company was required to adopt
SFAS 123(R) as of August 1, 2005, the first day of its fiscal year ending July
31, 2006. The Company adopted the provisions of SFAS 123(R) using the modified
prospective transition method, which allows for recognition of compensation
expense for awards that vest after August 1, 2005 and awards granted subsequent
to that date.
In November 2005, the FASB issued FSP FAS 123(R)-3, "Transition Election Related
to Accounting for the Tax Effects of Share-Based Payment Awards", to provide an
alternate transition method for the implementation of SFAS No. 123(R). Because
some entities do not have, and may not be able to re-create, information about
the net excess tax benefits that would have qualified as such had those entities
adopted SFAS No. 123(R) for recognition purposes, this FSP provides an elective
alternative transition method. The method comprises (a) a computational
component that establishes a beginning balance of the additional paid in capital
pool ("APIC pool") related to employee compensation and (b) a simplified method
to determine the subsequent impact on the APIC pool of employee awards that are
fully vested and outstanding upon the adoption of SFAS No. 123(R). The Company
is considering applying the principles set forth in this FSP to determine its
APIC pool.
6
As a result of the adoption of SFAS 123(R), the Company recognized in its
consolidated statements of operations approximately $420,000 and $840,000 of
compensation expense relating to the fair value of employee stock options that
vested during the three and six months ended January 31, 2006, and approximately
$29,000 of compensation expense relating to the fair value of restricted stock
that vested during the three and six months ended January 31, 2006.
The following table sets forth the amount of expense related to share-based
payment arrangements included in specific line items in the statements of
operations:
Three months ended Six months ended
(in thousands) January 31, 2006 January 31, 2006
-------------- ---------------- ----------------
Cost of research product revenues $30 $38
Research and development 71 142
Selling, general and administrative 348 689
--- ---
$449 $869
==== ====
The aggregate intrinsic value of stock options exercised during the six months
ended January 31, 2006 and 2005 was $1.7 million and $0.6 million, respectively.
As of January 31, 2006, there was $2.7 million of total unrecognized
compensation cost related to nonvested share-based compensation arrangements
granted under the Company's stock option and restricted stock plans, which will
be recognized over a weighted average life of approximately 2 years as of
January 31, 2006. During the six months ended January 31, 2006, the Company
granted awards for 45,000 shares of restricted stock, which vest over two and
four year periods. There were no stock options awards.
On June 3, 2005, the Board of Directors approved the acceleration of vesting of
unvested "out of the money" stock options held by employees, including executive
officers and directors. The stock options considered as out of the money were
those with an exercise price that was $1.50 or more than the closing price of
the Company's common stock on June 3, 2005 of $14.82. All other terms and
conditions of these "out of the money" options remain unchanged. As a result of
the acceleration, options to purchase approximately 666,000 shares of the
Company's common stock (which represents approximately 21% of the Company's then
outstanding stock options) became exercisable immediately. The accelerated
options ranged in exercise prices from $16.39 to $19.02 and the weighted average
exercise price of the accelerated options was $17.55 per share. The total number
of options subject to acceleration included options to purchase 575,000 shares
held by executive officers and directors of the Company. This action was taken
to avoid expense recognition in future financial statements upon adoption of
SFAS 123(R). The accelerated vesting of the "out of the money" options did not
result in a charge in the Company's statement of operations for the fiscal year
ended July 31, 2005 based on U.S. generally accepted accounting principles. The
Company reported approximately $10.1 million of pro forma compensation expense
for the fiscal year ended July 31, 2005, of which $6.0 million was applicable to
the accelerated "out of the money" options.
Up to and including the fiscal year that ended July 31, 2005, the Company
accounted for stock option grants to employees under the recognition and
measurement principles of APB Opinion No. 25, "Accounting for Stock Issued to
Employees," and related Interpretations. Under APB No. 25, because the exercise
price of the Company's employee stock options equaled the market price of the
underlying stock on the date of grant, no compensation expense was recorded. Pro
forma information regarding net income (loss) applicable to common stockholders
was required by FASB Statement No. 123 ("SFAS 123"), "Accounting for Stock-Based
Compensation," which also required that the information be determined as if the
Company had accounted for its stock options under the fair value method of that
statement.
The following table illustrates the effect on net income and earnings per share
if the Company had applied the fair value recognition provisions of SFAS No. 123
to stock-based compensation for the periods ended January 31, 2005:
7
Three months ended Six months ended
(in thousands, except for share data) January 31, 2005 January 31, 2005
- ------------------------------------- ---------------- ----------------
Reported net (loss) income $ (528) $ 6,492
Pro forma compensation expense (1,051) (2,032)
------- -------
Pro forma net (loss) income $(1,579) $ 4,460
======= =======
(Loss) earnings per share:
Basic - as reported $(.02) $.20
Basic - pro forma $(.05) $.14
Diluted - as reported $(.02) $.20
Diluted - pro forma $(.05) $.14
NOTE 3 (LOSS) EARNINGS PER SHARE
The Company applies SFAS No. 128, "Earnings per Share" which establishes
standards for computing and presenting earnings per share. Basic net (loss)
income per share represents net (loss) income divided by the weighted average
number of common shares outstanding during the period. The dilutive effect of
potential common shares, consisting of outstanding stock options and restricted
stock awards, is determined using the treasury stock method in accordance with
SFAS No. 128. Diluted weighted average shares outstanding for the three and six
months ended January 31, 2006 and the three months ended January 31, 2005 does
not include the effect of dilutive employee and director stock options in all
periods and restricted stock awards in the 2006 periods because to do so would
have been antidilutive. Accordingly, basic and diluted net loss per share for
these periods is the same. The following table sets forth the computation of
basic and diluted net (loss) income per share pursuant to SFAS 128.
Three months ended Six months ended
(In thousands, except for share data) January 31, January 31,
2006 2005 2006 2005
---- ---- ---- ----
Numerator:
Net (loss) income ($4,439) ($528) ($7,724) $6,492
======= ===== ======= ======
Denominator:
Weighted average number of common shares
outstanding (basic) 32,200 32,076 32,179 32,062
Dilutive stock options --- --- --- 677
--- --- --- ---
Weighted average number of common and common equivalent
shares outstanding (diluted)
32,200 32,076 32,179 32,739
====== ====== ====== ======
Basic net (loss) income per share ($.14) ($.02) ($.24) $0.20
===== ===== ===== =====
Diluted net (loss) income per share ($.14) ($.02) ($.24) $0.20
===== ===== ===== =====
The following table summarizes the potential number of shares issued from
exercise of "in the money" stock options, net of shares repurchased with the
option exercise proceeds, and potential shares from restricted stock awards,
which are excluded from the above computation of diluted net (loss) per share
because the effect of their potential issuance is anti-dilutive.
8
Three months ended Six months ended
(In thousands) January 31, January 31,
2006 2005 2006 2005
---- ---- ---- ----
Potential net shares, issued from exercise of 427 861 496 --
"in the money" employee and director stock === === === --
options and restricted stock awards, excluded
from diluted net (loss) per share calculation
The following table summarizes the number of "out of the money" options excluded
from the computation of diluted net (loss) and net income per share because the
effect of their potential exercise is anti-dilutive.
Three months ended Six months ended
(In thousands) January 31, January 31,
2006 2005 2006 2005
---- ---- ---- ----
"Out of the money" employee and director 963 111 963 111
stock options === === === ===
The Company declared a 5% stock dividend on October 5, 2004 which was paid on
November 15, 2004 to shareholders of record as of October 25, 2004. The Company
recorded a charge to accumulated deficit and a credit to common stock and
additional paid-in-capital in the amount of $23.4 million which reflected the
fair value of the dividend on the date of declaration.
NOTE 4. INVENTORIES
Inventories consist of the following, as of:
January 31, July 31,
(In thousands) 2006 2005
-------------- ---- ----
Raw Materials $29 $52
Work in process 1,777 1,767
Finished products 1,174 1,057
----- -----
$2,980 $2,876
====== ======
9
NOTE 5 - STOCKHOLDERS' EQUITY
INCENTIVE STOCK OPTION PLANS
A summary of the information relating to the Company's stock option plans for
the six months ended January 31, 2006 and 2005 is as follows:
January 31, 2006 January 31, 2005
--------------------------------------------------------------------------------------------
Weighted Weighted
Average Average
Exercise Exercise
Options Price Options Price
------- ----- ------- -----
Outstanding at
beginning
of period 3,154,125 $11.86 2,856,801 $11.86
Granted --- --- 431,975 $16.57
Exercised (227,816) $11.01 (69,535) $7.54
Cancelled (15,300) $14.05 (6,271) $7.00
-------- --------
Outstanding at
end of period 2,911,009 $12.74 3,212,970 $12.56
========= =========
Exercisable at
end of period 1,898,628 $11.32 2,174,400 $11.23
========= =========
Weighted average fair
value of options granted
during period --- $11.76
The following table summarizes information for stock options outstanding at
January 31, 2006:
Options outstanding Options exercisable
Weighted- Weighted- Weighted-
Average Average Average
Range of Contractual Exercise Exercise
Exercise Prices Shares Life Price Shares Price
------ ------ ---- ----- ------ -----
$5.45-8.08 291,451 2.7 years $5.64 291,451 $5.64
$8.33-12.25 1,602,275 4.8 years $11.06 1,312,250 $10.89
$12.93-19.02 937,406 7.9 years $16.73 215,050 $16.60
$20.20-24.42 61,644 5.5 years $21.42 61,644 $21.42
$36.05 18,233 4.0 years $36.05 18,233 $36.05
--------- ---------
2,911,009 1,898,628
========= =========
As of January 31, 2006, there were approximately 806,800 shares available for
grant under the Company's stock option plans. During the six months ended
January 31, 2006, the Company granted 45,000 shares of restricted stock and no
stock options.
NOTE 6. INCOME TAXES
For the three months ended January 31, 2006, the Company's benefit for income
taxes was $0.6 million, which represents its federal tax carryback benefit for
taxes paid in fiscal 2005, net of minimum state and local taxes due for the
period. In computing this federal tax carryback benefit, the effective rate used
considered limitations on the Company's ability to carryback its estimated net
operating loss for the full fiscal year which ends July 31, 2006.
10
For the six months ended January 31, 2006, the Company's benefit for income
taxes was $0.5 million, which is the net of a benefit for income taxes of $1.2
million which will be carried back against federal taxes paid for fiscal 2005,
offset by a valuation allowance of $0.6 million equal to net deferred tax assets
at the beginning of the period and by minimum state and local taxes due for the
six months. In computing the $1.2 million federal tax carryback benefit, the
effective rate used considered limitations on the Company's ability to carryback
its estimated net operating loss for the full fiscal year which ends July 31,
2006.
Pursuant to SFAS 109 "Accounting for Income Taxes", during the six months ended
January 31, 2006 the Company recorded a valuation allowance equal to its net
deferred tax assets. The Company believes that the valuation allowance is
necessary as it is more likely than not that the deferred tax assets will not be
realized in the foreseeable future based on positive and negative evidence
available at this time. This conclusion was reached because of uncertainties
relating to future taxable income, in terms of both its timing and its
sufficiency, which would enable the Company to realize the deferred tax assets.
The benefit (provision) for income taxes is as follows:
(000's) (000's)
Three months ended Six months ended
January 31, January 31,
2006 2005 2006 2005
Current benefit (provision): ---- ---- ---- ----
Federal $676 $162 $1,209 $(4,048)
State and local (17) 37 (33) (262)
Deferred benefit (provision) -- 217 (640) (426)
---- ---- ------ -------
Benefit (provision) for income taxes $659 $416 $ 536 $(4,736)
==== ==== ====== =======
The components of deferred tax assets (liabilities) as of January 31, 2006 and
July 31, 2005 are as follows:
(000's)
January 31, July 31,
Current deferred tax assets (liabilities): 2006 2005
- ------------------------------------------ ---- ----
Provision for uncollectible accounts receivable $733 $889
State and local tax carry forward losses 595 245
Other, net 7 (234)
Realized and unrealized losses on marketable securities 138 129
Less: valuation reserve for losses on marketable securities - (129)
----- -----
Current deferred tax assets, net 1,473 $900
----- ----
Non Current Deferred Tax Assets (Liabilities):
- ----------------------------------------------
Deferred patent costs (287) (293)
Research and development tax credit carry forward 44 -
Depreciation 97 33
----- -----
Non current deferred tax (liabilities), net (146) (260)
----- -----
Net deferred tax assets - before valuation allowance 1,327 640
Less: valuation allowance (1,327) -
------ -----
Deferred tax assets, net $ - - $640
===== ====
11
NOTE 7. GAIN ON PATENT LITIGATION SETTLEMENT
In fiscal 2005, the Company as plaintiff finalized and executed a settlement and
license agreement with Digene Corporation to settle a patent litigation lawsuit
(the "Digene agreement"). Under the terms of the agreement, the Company received
an initial payment of $16.0 million, would earn in the first "annual period"
(October 1, 2004 to September 30, 2005) a minimum royalty payment of $2.5
million, and receive a minimum royalty of $3.5 million in each of the next four
annual periods. In addition, the agreement provides for the Company to receive
quarterly running royalties on the net sales of Digene products subject to the
license until the expiration of the patent on April 24, 2018. These quarterly
running royalties are fully creditable against the minimum royalty payments due
in the first five years of the agreement. The balance, if any, of the minimum
royalty payment is recognized in the final quarter of the applicable annual
royalty period.
As a result of the Digene agreement, the Company recorded a gain on patent
litigation settlement of $14.0 million during the six months ended January 31,
2005 and deferred $2 million which was earned from net sales of the Company's
licensed products covered by the agreement during the first annual period.
The following table summarizes royalty income recognized:
Three months ended Six months ended
(In thousands) January 31, January 31,
2006 2005 2006 2005
---- ---- ---- ----
Royalty income $675 $497 $1,534 $497
==== ==== ====== ====
NOTE 8 - COMMITMENT
In December 2005, the Company entered into a contract to purchase for
approximately $3.1 million a 23,000 square foot building adjacent to its
corporate headquarters in Farmingdale, NY to expand its manufacturing and
research and development operations. The Company expects to close on the
purchase transaction by the fourth quarter of fiscal year ending July 31, 2006.
Upon execution of the purchase contract, the Company made a $310,000 escrow
deposit which is included in property and equipment.
12
ENZO BIOCHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 2006
(UNAUDITED)
Note 9--Segment Reporting
The Company applies SFAS No. 131, "Disclosures about Segments of an Enterprise
and Related Information." SFAS No. 131 establishes standards for reporting
information regarding operating segments in annual financial statements and
requires selected information for those segments to be presented in interim
financial reports. SFAS No. 131 also establishes standards for related
disclosures about products and services and geographic areas. The chief
operating decision maker or decision-making group, in making decisions on how to
allocate resources and assess performance, identifies operating segments as
components of an enterprise about which separate discrete financial information
is available for evaluation.
The Company has two reportable segments: research and development and clinical
laboratories. The Company's research and development segment conducts research
and development activities and sells products derived from these activities. The
clinical laboratories segment provides diagnostic services to the health care
community. The Company evaluates segment performance based on segment income
(loss) before taxes. Costs excluded from segment income (loss) before taxes and
reported as other consist of corporate general and administrative costs which
are not allocable to the two reportable segments. Management of the Company
assesses assets on a consolidated basis only and therefore, assets by reportable
segment have not been included in the reportable segments below. The accounting
policies of the reportable segments are the same as those described in the
summary of significant accounting policies.
The following financial information (in thousands) represents the operating
results of the reportable segments of the Company:
THREE MONTHS ENDED JANUARY 31,
Research and Clinical
Development Laboratories Other Consolidated
----------- ------------ ----- ------------
2006 2005 2006 2005 2006 2005 2006 2005
---- ---- ---- ---- ---- ---- ---- ----
OPERATING REVENUES:
Research product revenues and royalty income $ 2,109 $ 3,271 -- -- -- -- $ 2,109 $ 3,271
Clinical laboratory services ............... -- -- $ 8,007 $ 7,964 -- -- 8,007 7,964
COST AND EXPENSES (INCOME):
Cost of research product revenues .......... 385 555 -- -- -- -- 385 555
Cost of clinical laboratory services ....... -- -- 3,431 2,859 -- -- 3,431 2,859
Research and development expense ........... 1,911 2,030 -- -- -- -- 1,911 2,030
Provision for uncollectible accounts ....... -- -- 1,209 1,146 -- -- 1,209 1,146
Depreciation and amortization .............. 48 327 226 112 7 14 281 453
Other costs and expenses ................... 521 298 3,446 2,948 4,710 2,199 8,677 5,445
Interest income ............................ -- -- -- -- (680) (309) (680) (309)
------- ------- ------- ------- ------- ------- ------- -------
Income (loss) before income taxes .......... $ (756) $ 61 $ (305) $ 899 ($4,037) ($1,904) $(5,098) $ (944)
======= ======= ======= ======= ======= ======= ======= =======
STOCK BASED COMPENSATION
INCLUDED IN ABOVE COST AND EXPENSES:
Cost of research product revenues .......... $ 30 -- -- -- -- -- $ 30 --
Research and development expense ........... 71 -- -- -- -- -- 71 --
Other costs and expenses ................... 20 -- $ 153 -- $ 175 -- 348 --
------- ------- ------- ------- ------- ------- ------- -------
Totals ..................................... $ 121 -- $ 153 -- $ 175 -- $ 449 --
======= ======= ======= ======= ======= ======= ======= =======
13
ENZO BIOCHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 2006
(UNAUDITED)
Note 9--Segment Reporting
SIX MONTHS ENDED JANUARY 31,
Research and Clinical
Development Laboratories Other Consolidated
----------- ------------ ----- ------------
2006 2005 2006 2005 2006 2005 2006 2005
---- ---- ---- ---- ---- ---- ---- ----
OPERATING REVENUES:
Research product revenues and royalty income $ 4,255 $ 5,727 -- -- -- -- $ 4,255 $ 5,727
Clinical laboratory services ............... -- -- $ 16,026 $ 15,809 -- -- 16,026 15,809
COST AND EXPENSES (INCOME):
Cost of research product revenues .......... 926 1,130 -- -- -- -- 926 1,130
Cost of clinical laboratory services ....... -- -- 6,912 5,773 -- -- 6,912 5,773
Research and development expense ........... 3,461 4,243 -- -- -- -- 3,461 4,243
Provision for uncollectible accounts ....... -- -- 2,354 2,623 -- -- 2,354 2,623
Depreciation and amortization .............. 97 684 447 332 18 27 562 1,043
Other costs and expenses ................... 996 575 6,555 5,535 8,162 4,025 15,713 10,135
Gain on patent litigation settlement ....... -- (14,000) -- -- -- -- -- (14,000)
Interest income ............................ -- -- -- -- (1,387) (639) (1,387) (639)
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) before income taxes .......... $ (1,225) $ 13,095 $ (242) $ 1,546 $ (6,793) $ (3,413) $ (8,260) $ 11,228
======== ======== ======== ======== ======== ======== ======== ========
STOCK BASED COMPENSATION
INCLUDED IN ABOVE COST AND EXPENSES:
Cost of research product revenues .......... $ 38 -- -- -- -- -- $ 38 --
Research and development expense ........... 142 -- -- -- -- -- 142 --
Other costs and expenses ................... 40 -- $ 292 -- $ 357 -- 689 --
-------- -------- -------- -------- -------- -------- -------- --------
Totals ..................................... $ 220 -- $ 292 -- $ 357 -- $ 869 --
======== ======== ======== ======== ======== ======== ======== ========
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion of our financial condition and results of operations
should be read in conjunction with our financial statements and related notes.
This discussion contains forward-looking statements that involve risks and
uncertainties. Our actual results could differ materially from those anticipated
in these forward-looking statements. See "Forward-Looking and Cautionary
Statements" in our Form 10-K for the year ended July 31, 2005. Because of those
factors, you should not rely on past financial results as an indication of
future performance, and be aware that our consolidated results of operations may
fluctuate significantly from quarter to quarter.
Enzo Biochem, Inc. (the "Company" or "Enzo") is a leading life sciences and
biotechnology company focused on harnessing genetic processes to develop
research tools, diagnostics and therapeutics. Enzo also provides clinical
laboratory services to the medical community. In addition, our work in gene
analysis has led to our development of significant therapeutic product
candidates, several of which are currently in clinical trials, and several in
preclinical studies.
The business activities of the Company are performed by the Company's three
wholly owned subsidiaries. These activities are: (1) research and development,
manufacturing and marketing of biomedical research products and tools through
Enzo Life Sciences and research and development of therapeutic products through
Enzo Therapeutics, and (2) the operation of a clinical reference laboratory
through Enzo Clinical Labs. For information relating to the Company's business
segments, see Note 9 of the Notes to Consolidated Financial Statements.
The Company's source of revenue has been from the direct sales of research
products of labeling and detection reagents for the genomics and sequencing
markets, as well as from non-exclusive distribution agreements. The other source
of revenue has been from the clinical laboratory service market. Clinical
laboratory services are provided to patients covered by various third party
insurance programs, including Medicare, and to patients who are self payers.
Revenues from the clinical laboratory are recognized upon completion of the
testing process for a specific patient and reported to the ordering physician.
These revenues and the associated accounts receivable are based on gross amounts
billed or billable for services rendered, net of a contractual allowance, which
is the difference between amounts billed to payers and the expected receipts
from such payers. The clinical laboratory is subject to seasonal fluctuations in
operating results. Volume of testing generally declines during the summer
months, the year-end holiday period and other major holidays. In addition,
volume declines due to inclement weather may reduce net revenues. Therefore,
comparison of the results of successive quarters may not accurately reflect
trends or results for the full year. For the six months ended January 31, 2006
and 2005, respectively, approximately 21% and 27% of the Company's operating
revenues were derived from research product sales and royalty income and
approximately 79% and 73% were derived from clinical laboratory services.
LIQUIDITY AND CAPITAL RESOURCES
At January 31, 2006, cash and cash equivalents and marketable securities totaled
$76.4 million, a decrease of $7.3 million from July 31, 2005. We had working
capital of $90.1 million at January 31, 2006 compared to $97.0 million at July
31, 2005.
15
Net cash used in operating activities for the six month period ended January 31,
2006 was approximately $6.4 million as compared to net cash provided by
operating activities of $10.4 million for the six months ended January 31, 2005.
The decrease in net cash provided by operating activities was primarily due to
the 2006 period's net loss as compared to net income which was the result of the
$14 million settlement and license agreement with Digene Corporation recognized
in the 2005 period. During the six months ended January 31, 2005, the Company as
plaintiff finalized and executed a settlement and license agreement with Digene
Corporation to settle a patent litigation lawsuit. Under the terms of the
agreement, the Company received an initial payment of $16.0 million, of which
$2.0 million was used to offset royalty income payments due based on net sales
of licensed products covered by the agreement during the first year. As a result
of this settlement and license agreement with Digene (the "Digene agreement"),
the Company recorded a gain on patent litigation settlement of $14.0 million
during the six months ended January 31, 2005.
Net cash provided by investing activities was approximately $5.7 million during
the six months ended January 31, 2006, as compared $4.0 million during the six
months ended January 31, 2005. The increase during the 2006 period was primarily
the result of the net sales of marketable securities of approximately $6.7
million, versus net sales of approximately $4.7 million during the 2005 period.
During the six months ended January 31, 2006, the Company disbursed
approximately $948,000 for capital expenditures, including a $310,000 escrow
deposit toward the purchase, for approximately $3.1 million, of a 23,000 square
foot building to expand its manufacturing and research and development
operations. The Company expects to close on the purchase transaction by the
fourth quarter of fiscal year ending July 31, 2006.
Net cash provided by financing activities was approximately $0.1 million during
the six months ended January 31, 2006, as compared $0.3 million during the six
months ended January 31, 2005, and was from the exercise of stock options.
We believe that our current cash position is sufficient for our foreseeable
liquidity and capital resource needs, although there can be no assurance that
future events will not alter such view. Management is not aware of any material
claims, disputes or settled matters concerning third-party reimbursements that
would have a material effect on our financial statements.
CRITICAL ACCOUNTING POLICIES
GENERAL
Management's discussion and analysis of financial condition and results of
operations are based on the Company's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires the
Company to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses; these estimates and judgments also
affect related disclosure of contingent assets and liabilities. On an on-going
basis, we evaluate our estimates, including those related to contractual
allowance, allowance for uncollectible accounts, intangible assets and income
taxes. The Company bases its estimates on experience and on various assumptions
that are believed to be reasonable under the circumstances, the results of which
form the basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual results may
differ from these estimates under different assumptions or conditions.
16
REVENUE RECOGNITION
RESEARCH PRODUCT REVENUES AND ROYALTY INCOME
Revenues from research product sales are recognized when the products are
shipped, the sales price is fixed or determinable and collectibility is
reasonably assured. Under the terms of a settlement and license agreement to
settle a patent litigation lawsuit, the Company earned in the "first annual
period" (October 1, 2004 to September 30, 2005) a minimum royalty payment of
$2.5 million, and will receive a minimum royalty of $3.5 million in each of the
next four annual periods. In addition, the agreement provides for the Company to
receive quarterly running royalties on the net sales of products subject to the
license until the expiration of the patent in April 2018. The quarterly running
royalties are fully creditable against the minimum royalty payments due in the
first five years of the agreement. The balance, if any, of the minimum royalty
payment is recognized in the final quarter of the applicable annual royalty
period.
CLINICAL LABORATORY SERVICES - REVENUES AND ACCOUNTS RECEIVABLE
Revenues from the clinical laboratory are recognized upon completion of the
testing process for a specific patient and reported to the ordering physician.
These revenues and the associated accounts receivable are based on gross amounts
billed or billable for services rendered, net of a contractual allowance, which
is the difference between amounts billed to payers and the expected approved
reimbursable settlements from such payers.
The following are tables of the clinical laboratory segment's net billings and
billing percentages by billing category for the three and six months ended
January 31, 2006 and 2005:
Net billings Three months ended Three months ended
January 31, 2006 January 31, 2005
---------------- ----------------
Billing category (In 000's) (in %) (In 000's) (in %)
- ---------------- ---------- ------ ---------- ------
Medicare $1,968 24 $1,539 19
Third party carriers 3,852 48 3,729 47
Patient self-pay 1,727 22 2,418 30
HMO's 460 6 278 4
------ ---- ------ ----
Total $8,007 100% $7,964 100%
====== ==== ====== ====
Net billings Six months ended Six months ended
January 31, 2006 January 31, 2005
---------------- ----------------
Billing category (In 000's) (in %) (In 000's) (in %)
- ---------------- ---------- ------ ---------- ------
Medicare $3,803 24 $3,340 21
Third party carriers 8,565 53 8,166 52
Patient self-pay 2,730 17 3,688 23
HMO's 928 6 615 4
------- ---- ------- ----
Total $16,026 100% $15,809 100%
======= ==== ======= ====
17
The following is a table of the Company's net accounts receivable by segment.
The clinical laboratory segment's net receivables are detailed by billing
category and as a percent to its total net receivables:
Net accounts receivable As of As of
January 31, 2006 July 31, 2005
---------------- ----------------
Billing category (In 000'S) (in %) (In 000'S) (in %)
- ---------------- ---------- ------ ---------- ------
Medicare $1,447 14 $1,594 13
Third party carriers 4,973 47 6,742 54
Patient self-pay 3,420 33 3,819 30
HMO's 603 6 394 3
------- ---- ------- ----
Total clinical laboratory $10,443 100% $12,549 100%
==== ====
Research and development 1,209 872
------- -------
Net accounts receivable $11,652 $13,421
======= =======
CONTRACTUAL ALLOWANCES
The Company's estimate of contractual allowances is based on significant
assumptions and judgments, such as its interpretation of the applicable payer's
reimbursement policies, and bears the risk of change. The estimation process is
based on a rolling monthly analysis of the experience of amounts approved as
reimbursable and ultimately settled by payers, versus the corresponding gross
amount billed to the respective payers. The difference between the gross billing
and the reimbursement percentage is the contractual allowance percentage and
represents the proportion of the gross billed amounts the Company does not
expect to become approved reimbursable settlements. In summary, the contractual
allowance is an estimate that reduces gross revenue, based on gross billing
rates, to amounts expected to be approved and reimbursable. The Company adjusts
revenues in the period that approved settlements are received. The Company
adjusts the contractual allowance estimate periodically, based on its evaluation
of historical settlement experience with payers, industry reimbursement trends,
and other relevant factors.
If the Company experiences a significant change in reimbursement policies or
procedures for a particular payer, the contractual allowance percentage is
reviewed by management for that payer. However, services authorized by an
insured's healthcare provider and rendered by the Company, and the corresponding
approval of those services and their settlement by the insured's payer are often
subject to interpretation which could result in payments that differ from our
estimates.
During the six months ended January 31, 2006 and 2005, the contractual allowance
percentages, determined using the rolling monthly average historical
reimbursement statistics, were 75.7% and 74.3%, respectively. The Company
projects (by using a sensitivity analysis) that each 1% point change in the
contractual allowance percentage could result in a change in the net accounts
receivable of approximately $461,000 and $476,000 as of January 31, 2006 and
2005, respectively, and a change in clinical laboratory services revenues of
approximately $635,000, and $591,000 for the six months ended January 31, 2006
and 2005, respectively.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company determines the estimated allowance for doubtful accounts after the
estimated contractual allowance expense has been applied to the gross open
receivables. The allowance for doubtful accounts represents amounts that the
Company does not expect to collect after the Company has exhausted its
collection procedures.
18
In summary, the Company estimates its allowance for doubtful accounts in the
period the related services are billed and adjusts the estimate in future
accounting periods as necessary. It bases the estimate for the allowance on the
evaluation of historical collection experience, the aging profile of accounts
receivable, the historical doubtful account write-off percentages, payer mix,
and other relevant factors.
The allowance for doubtful accounts includes the balances, after receipt of the
approved settlements, from third party payers for the insufficient diagnosis
information received from the ordering physician, which result in denials of
payment, and the uncollectible portion of receivables from self payers,
including deductibles and copayments, which are subject to credit risk and
patients' ability to pay. The Company wrote off 100% of all accounts receivable
(for all payers) over 210 days during the six months ended January 31, 2006 as
it assumed all these accounts are uncollectible. The written off amounts are
kept on the aging for patient billing and demographic information. The Company
also set up an allowance for accounts less than 210 days during the six months
ended January 31, 2006. The Company adjusts the historical collection analysis
for any recoveries on an ongoing basis.
The Company's ability to collect outstanding receivables from third party payers
is critical to its operating performance and cash flows. The primary collection
risk lies with uninsured patients or patients for whom primary insurance has
paid but a patient portion remains outstanding. The Company also assesses the
current state of its billing functions in order to identify any known collection
or reimbursement issues in order to assess the impact, if any, on the allowance
estimates, which involves judgment. The Company believes that the collectibility
of its receivables is directly linked to the quality of its billing processes,
most notably, those related to obtaining the correct information in order to
bill effectively for the services provided. Should circumstances change (e.g.
shift in payer mix, decline in economic conditions or deterioration in aging of
receivables), our estimates of net realizable value of receivables could be
reduced by a material amount.
INCOME TAXES
The Company accounts for income taxes under the liability method of accounting
for income taxes. Under the liability method, deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases. The liability method requires
that any tax benefits recognized for net operating loss carry forwards and other
items be reduced by a valuation allowance where it is more likely than not the
benefits may not be realized. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled. Under
the liability method, the effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
Pursuant to SFAS 109 "Accounting for Income Taxes", the Company recorded a
valuation allowance charge of $0.6 million for its net deferred tax assets
during the three months ended October 31, 2005, and subsequent to that date has
applied a full valuation allowance against increases in its net deferred tax
assets. The Company believes that the full valuation allowance is necessary as
it is more likely than not that the net deferred tax assets will not be realized
in the foreseeable future based on positive and negative evidence available at
this time. This conclusion was reached because of uncertainties relating to
future taxable income, in terms of both its timing and its sufficiency, which
would enable the Company to realize the net deferred tax assets.
19
RESULTS OF OPERATIONS
THREE MONTHS ENDED JANUARY 31, 2006 AS COMPARED TO JANUARY 31, 2005
Research product revenues and royalty income was $2.1 million during the three
months ended January 31, 2006 compared to $3.3 million in the year ago quarter,
a decrease of $1.2 million or 36%. The decrease was due to both a decline in
direct sales of research products and the dispute with former distributors,
whereby the Company did not record revenue in the 2006 quarter as compared to
$0.8 million of revenue recorded from these distributors in the 2005 quarter.
Clinical laboratory revenues were comparable at $8.0 million during the three
months ended January 31, 2006 and 2005.
The cost of research products revenues during the three months ended January 31,
2006 was $0.4 million compared to $0.6 million in the year ago quarter, a
decrease of $0.2 million or 31%, due to lower research product sales.
The cost of clinical laboratory services during the three months ended January
31, 2006 was $3.4 million compared to $2.8 million in the year ago quarter, an
increase of $0.6 million or 20%, due to the higher cost of esoteric tests and
the higher volume of test performed.
Research and development expenses were $1.9 million during the three months
ended January 31, 2006 compared to $2.0 million in the year ago quarter, a
decrease of $0.1 million or 6%. During the 2006 quarter, an increase in clinical
trial study activities for the therapeutics program was offset by a decrease in
the amortization of deferred patent expenses.
Selling, general and administrative expenses were $7.3 million during the three
months ended January 31, 2006 compared to $4.7 million in the year ago quarter,
an increase of $2.6 million or 55%. The increase was due to the recognition of
stock option compensation charges required by the adoption of SFAS 123(R) during
the quarter ended January 31, 2006.In addition, there was an increase in
expenditures for corporate governance, consulting and other professional fees,
and an increase in administrative personnel costs.
The provision for uncollectible accounts receivable in the clinical reference
laboratory segment during the three months ended January 31, 2006 was comparable
to the year ago quarter.
Legal expenses were $1.6 million during the three months ended January 31, 2006
compared to $1.1 million in the year ago quarter, an increase of $0.5 million or
41%, due to an increase in on going patent litigation activities.
Interest income increased $0.4 million or 120% to $0.7 million during the three
months ended January 31, 2006 compared to $0.3 million during the year ago
quarter, due to higher interest rates offered on cash and cash equivalents. The
Company earns interest on its cash and cash equivalents by investing primarily
in short term (30 days) financial instruments with high credit ratings.
For the three months ended January 31, 2006, the Company's benefit for income
taxes was $0.6 million, which represents a current carryback benefit for federal
income taxes paid in fiscal 2005. In computing this federal tax carryback
benefit, the effective rate used considered limitations on the Company's ability
to carryback its estimated net operating loss for the full fiscal year which
ends July 31, 2006. During the 2006 quarter, the Company recognized no benefit
for deferred taxes. Pursuant to SFAS 109 "Accounting for Income Taxes", the
Company believes it is more likely than not that net deferred tax assets
generated during the 2006 quarter will not be realized in the foreseeable future
based on positive and negative evidence available at this time. This conclusion
was reached because of uncertainties relating to future taxable income, in terms
of both its timing and its sufficiency, which would enable the Company to
realize deferred tax assets.
20
For the three months ended January 31, 2005, the Company's benefit for income
taxes was $0.4 million, based on the combined effective federal, state and local
income tax rates applied to the period's loss before taxes.
SEGMENT (LOSS) INCOME BEFORE INCOME TAXES
THREE MONTHS ENDED JANUARY 31, 2006 AS COMPARED TO JANUARY 31, 2005
The research and development segment's loss before income taxes was
approximately $0.8 million for the three months ended January 31, 2006, compared
to income of $0.1 million in the 2005 period. The 2006 loss was the result of
both a decline in direct sales of research products and the dispute with former
distributors, whereby the Company did not record revenue in the 2006 quarter as
compared to $0.8 million of revenue recorded from these distributors in the 2005
quarter.
The clinical reference laboratory segment's loss before income taxes was $0.3
million in the 2006 quarter versus income of $0.9 million in the 2005 quarter.
The 2006 period was impacted by higher cost of services due to an increase in
the number of tests performed, the higher cost of esoteric tests, and an
increase in administrative personnel costs and other service support departments
to support the expansion into the New Jersey market.
The Other segment's loss before income taxes was ($4.0) million in the 2006
quarter versus ($1.9) million in 2005, due to the recognition of stock option
compensation charges required by the adoption of SFAS 123(R) during the 2006
quarter. In addition, there was an increase in expenditures for corporate
governance, consulting and legal fees, partially offset by higher interest
income earned on cash equivalents.
RESULTS OF OPERATIONS
SIX MONTHS ENDED JANUARY 31, 2006 AS COMPARED TO JANUARY 31, 2005
Research product revenues and royalty income was $4.2 million during the six
months ended January 31, 2006 compared to $5.7 million in the year ago period, a
decrease of $1.5 million or 26%. The decrease was due to both a decline in
direct sales of research products and the dispute with former distributors,
whereby the Company did not record revenue in the 2006 period as compared to
$1.5 million of revenue recorded from these distributors in the 2005 period.
Clinical laboratory revenues during the six months ended January 31, 2006 and
2005 were comparable.
The cost of research products revenues during the six months ended January 31,
2006 was $0.9 million versus $1.1 million in the 2005 period, a decrease of $0.2
million or 18%, due to the decline in direct sales of research products.
The cost of clinical laboratory services during the six months ended January 31,
2006 was $6.9 million compared to $5.8 million in the year ago period, an
increase of $1.1 million or 20%, due to an increase in the number of tests being
performed and the higher cost of esoteric tests.
Research and development expenses were $3.4 million during the six months ended
January 31, 2006 compared to $4.2 million in the year ago period, a decrease of
$0.8 million or 18%. During the 2006 period, there was a decrease in the
amortization of deferred patent expenses as compared to the 2005 period.
Selling, general and administrative expenses were $12.8 million during the six
months ended January 31, 2006 compared to $8.9 million in the year ago period,
an increase of $3.9 million or 44%. The increase was due to the recognition of
stock option compensation charges required by the adoption of SFAS 123(R) during
the 2006 period.
21
In addition, there was an increase in expenditures for corporate governance,
consulting and other professional fees, and an increase in administrative
personnel costs.
The provision for uncollectible accounts receivable in the clinical reference
laboratory segment during the six months ended January 31, 2006 was $2.3
million, compared to $2.6 million during the year ago period, a decrease of $0.3
million or 10%. The decrease was primarily due to improved billing procedures
and new customer accounts from the New Jersey region, which improved the overall
mix of patient demographics.
Legal expenses were $3.5 million during the six months ended January 31, 2006
compared to $2.3 million in the year ago period, an increase of $1.2 million or
52%, due to an increase in on going patent litigation activities.
Interest income increased $0.7 million or 117% to $1.4 million during the six
months ended January 31, 2006 compared to $0.6 million during the year ago
period, due to higher interest rates offered on cash and cash equivalents. The
Company earns interest on its cash and cash equivalents by investing primarily
in short term (30 days) financial instruments with high credit ratings.
For the six months ended January 31, 2006, the Company's net benefit for income
taxes was $0.5 million, comprised of a current carryback benefit of $1.2 million
for federal income taxes paid in the fiscal year ended July 31, 2005, offset by
a valuation allowance charge of $0.6 million equal to net deferred tax assets as
of July 31, 2005, and by state and local minimum taxes of $0.1 million. In
computing the $1.2 million carryback benefit, the effective rate used considered
limitations on the Company's ability to carryback its estimated net operating
loss for the full fiscal year which ends July 31, 2006. Pursuant to SFAS 109
"Accounting for Income Taxes", the Company recorded a valuation allowance charge
during the period ended January 31, 2006 equal to its net deferred tax assets at
July 31, 2005 and has applied a full valuation allowance against increases in
its net deferred tax assets during the 2006 period. The Company believes that
the valuation charge and valuation allowance are necessary as it is more likely
than not that net deferred tax assets will not be realized in the foreseeable
future based on positive and negative evidence available at this time. This
conclusion was reached because of uncertainties relating to future taxable
income, in terms of both its timing and its sufficiency, which would enable the
Company to realize the net deferred tax assets.
For the six months ended January 31, 2005, the Company's (provision) for income
taxes was $4.7 million which was based on the effective federal, state and local
income tax rates applied to 2005 period's taxable income, which was primarily
comprised of the $14 million gain from the Digene agreement. The provision for
income taxes, at an effective rate of 42%, was different from the U.S. federal
statutory rate of 34% due to state income taxes net of federal of 7%, and other
of 1%.
SEGMENT (LOSS) INCOME BEFORE INCOME TAXES
SIX MONTHS ENDED JANUARY 31, 2006 AS COMPARED TO JANUARY 31, 2005
The research and development segment's loss before income taxes was
approximately $1.2 million for the six months ended January 31, 2006, compared
to income of $13.1 million in the 2005 period. The 2006 loss was the result of a
decline in direct sales of research products and the dispute with former
distributors, whereby the Company did not record revenue in the 2006 period as
compared to $1.5 million of revenue recorded from these distributors in the 2005
period. The 2005 period's income was the result of the $14 million gain from the
Digene agreement.
The clinical reference laboratory segment's loss before income taxes was $0.2
million in the 2006 period versus income of $1.5 million in 2005. The 2006
period was impacted by higher cost of services due to an increase in the number
of tests performed, the higher cost of esoteric tests, and an increase in
administrative personnel costs and other service support departments to support
the expansion into the New Jersey market.
22
The Other segment's loss before income taxes was ($6.8) million in the 2006
period versus ($3.4) million in 2005, due to the recognition of stock option
compensation charges required by the adoption of SFAS 123(R) during the 2006
period. In addition, there was an increase in expenditures for corporate
governance, consulting and legal fees, partially offset by higher interest
income earned on cash equivalents.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's earnings and cash flows are subject to fluctuations due to changes
in interest rates primarily from its investment of available cash balances in
investment grade corporate and U.S. government securities. Under its current
policies, the Company does not use interest rate derivative instruments to
manage exposure to interest rate changes.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, the Company's management
conducted an evaluation (as required under Rules 13a-15(b) and 15d-15(b) under
the Securities Exchange Act of 1934, as amended (the "Exchange Act")) of the
Company's "disclosure controls and procedures" (as such term is defined under
the Exchange Act), under the supervision and with the participation of the
principal executive officer and the principal financial officer. Based on this
evaluation, the principal executive officer and the principal financial officer
concluded that the Company's disclosure controls and procedures are effective as
of the end of the period covered by this report. Notwithstanding the foregoing,
a control system, no matter how well designed and operated can provide only
reasonable, not absolute, assurance that it will detect or uncover failures
within the Company to disclose material information otherwise required to be set
forth in the Company's periodic reports.
(b) Changes in Internal Controls
There was no change in the Company's internal controls over financial reporting
(as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange
Act) during the Company's most recently completed fiscal period that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
There have been no material developments with respect to previously reported
legal proceedings. See the annual report on Form 10-K for the fiscal year ended
July 31, 2005 filed with the Securities and Exchange Commission for a discussion
of the Company's ongoing legal proceedings.
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Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Annual Meeting of Shareholders was held on January 19, 2006.
(b) The following matters were voted upon and the results were as follows:
(1) Elazar Rabbani, Ph.D., John B. Sias, and Marcus A Conant, M.D. were
nominated by management and elected by the shareholders to serve as Class III
Directors until the 2009 Annual Meeting of Shareholders or until their
respective successors are elected and shall qualify. The shareholders voted
29,493,295, 26,032,528 and 26,080,631 shares in the affirmative for Elazar
Rabbani, Ph.D., John B. Sias, and Marcus A Conant, M.D, respectively, and
withheld 1,220,631, 4,681,397 and 4,633,631 shares for Elazar Rabbani, Ph.D.,
John B. Sias, and Marcus A Conant, M.D, respectively.
(2) The shareholders voted 15,632,081 shares in the affirmative with respect to
the amendment and restatement of the Company's 2005 Equity Compensation
Incentive Plan, to among other things, (a) permit restricted stock unit awards
to be made under the plan, (b) add specific performance criteria that may be
used to establish performance objectives for awards intended to qualify as
"performance-based compensation" under Section 162(m) of the Internal Revenue
Code of 1986, as amended, and (c) eliminate automatic annual option grants to
the Company's non-employee directors. A total of 1,669,956 shares voted against
this proposal, 188,688 shares abstained, and 11,223,668 shares were broker
non-votes.
(3) The shareholders voted 30,418,541 shares in the affirmative with respect to
the ratification of Ernst & Young LLP as the Company's independent auditors for
the fiscal year ending July 31, 2006, 249,278 shares against and 46,107 shares
abstained.
Item 6. EXHIBITS
EXHIBIT NO. EXHIBIT
31(a) Certification of Elazar Rabbani, Ph.D.
pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
31(b) Certification of Barry Weiner pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
32(a) Certification of Elazar Rabbani, Ph.D.
pursuant to 18 U.S.C. ss. 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
32(b) Certification of Barry Weiner pursuant to 18
U.S.C. ss.1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
ENZO BIOCHEM, INC.
------------------
(Registrant)
Date: March 13, 2006 by: /s/Barry Weiner
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Chief Financial Officer
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