UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2003
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
Commission file number: 0-21198
ZONAGEN, INC.
(Exact Name of Registrant as Specified in its Charter)
Delaware 76-0233274
(State or other jurisdiction of (IRS Employer
incorporation or Identification No.)
organization)
2408 Timberloch Place, Suite B-10
The Woodlands, Texas 77380
(Address of principal executive
offices and zip code)
(281) 367-5892
(Registrant's telephone number,
including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the past 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
As of November 3, 2003, there were outstanding 11,479,648 shares of
Common Stock, par value $.001 per share, of the Registrant.
ZONAGEN, INC.
(A development stage company)
For the Quarter Ended September 30, 2003
INDEX
PAGE
----
FACTORS AFFECTING FORWARD-LOOKING STATEMENTS 3
PART I. FINANCIAL INFORMATION 4
Item 1. Financial Statements
Consolidated Balance Sheets: September 30, 2003 (Unaudited)
and December 31, 2002 5
Consolidated Statements of Operations: For the three months
ended September 30, 2003 and 2002, nine months ended September
30, 2003 and 2002, and from Inception (August 20, 1987)
through September 30, 2003 (Unaudited) 6
Consolidated Statements of Cash Flows: For the three months
ended September 30, 2003 and 2002, nine months ended September
30, 2003 and 2002, and from Inception (August 20, 1987)
through September 30, 2003 (Unaudited) 7
Notes to Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures About Market Risk 20
Item 4. Controls and Procedures 20
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 21
Item 6. Exhibits and Reports on Form 8-K 22
SIGNATURES 23
CERTIFICATION 24
2
FACTORS AFFECTING FORWARD-LOOKING STATEMENTS
This quarterly report on Form 10-Q includes "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The
words "may," "anticipate," "believe," "expect," "estimate," "project,"
"suggest," "intend" and similar expressions are intended to identify
forward-looking statements. Such statements are subject to certain risks,
uncertainties and assumptions. Should one or more of these risks or
uncertainties materialize, or should underlying assumptions prove incorrect,
actual results may vary materially from those anticipated, believed, expected,
estimated, projected, suggested or intended. These risks and uncertainties
include risks associated with the Company's ability to satisfactorily complete
its proposed self tender offer, the early stage of development of the Company's
proposed new Progenta(TM) technologies, approval of the Company's products by
the Food and Drug Administration ("FDA") and other jurisdictions, the Company's
ability to obtain value from its technology portfolio and other risks and
uncertainties described in the Company's filings with the Securities and
Exchange Commission. For additional discussion of such risks, uncertainties and
assumptions, see "Item 1. Description of Business - Business Risks" and "Item 3.
Legal Proceedings" included in the Company's annual report on Form 10-K for the
year ended December 31, 2002 and "Part I. Financial Information - Item 2.
Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources" included elsewhere in this
quarterly report on Form 10-Q.
3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
The following unaudited consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and with the instructions to
Form 10-Q and Rule 10 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the opinion
of management, all necessary adjustments (which include only normal recurring
adjustments) considered necessary for a fair presentation have been included.
Operating results for the nine-month period ended September 30, 2003 are not
necessarily indicative of the results that may be expected for the year ended
December 31, 2003. For further information, refer to the financial statements
and footnotes thereto included in the Company's annual report on Form 10-K for
the year ended December 31, 2002.
4
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
CONSOLIDATED BALANCE SHEETS
(in thousands except per share amounts)
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- ------------
(unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 5,438 $ 8,683
Marketable securities 18,416 16,455
Note receivable - 1,000
Prepaid expenses and other current assets 428 532
--------- ---------
Total current assets 24,282 26,670
LAB EQUIPMENT, FURNITURE AND LEASEHOLD IMPROVEMENTS, net - 191
OTHER ASSETS, net 533 509
--------- ---------
Total assets $ 24,815 $ 27,370
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 137 $ 86
Accrued expenses 337 433
--------- ---------
Total current liabilities 474 519
--------- ---------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Undesignated Preferred Stock, $.001 par value, 5,000,000
shares authorized, none issued and outstanding - -
Common Stock, $.001 par value, 20,000,000 shares
authorized, 11,929,048 and 11,918,177 shares issued,
respectively; 11,479,648 and 11,502,877 shares
outstanding, respectively 12 12
Additional paid-in capital 114,065 114,051
Cost of treasury stock, 449,400 and 415,300 shares, respectively (7,533) (7,484)
Deficit accumulated during the development stage (82,203) (79,728)
--------- ---------
Total stockholders' equity 24,341 26,851
--------- ---------
Total liabilities and stockholders' equity $ 24,815 $ 27,370
========= =========
The accompanying notes are an integral part of these consolidated
financial statements.
5
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited and in thousands except per share amounts)
FROM INCEPTION
(AUGUST 20, 1987)
THROUGH
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30,
------------------------------- ------------------------------- -----------------
2003 2002 2003 2002 2003
-------------- ------------- -------------- ------------- -----------------
REVENUES
Licensing fees $ - $ 3,170 $ - $ 4,227 $ 28,755
Product royalties - - - - 627
Research and development grants 122 213 459 213 961
Interest income 67 153 254 568 12,958
Gain on disposal of fixed assets - - 102 - 102
--------- --------- --------- --------- ---------
Total revenues and other income 189 3,536 815 5,008 43,403
EXPENSES
Research and development 439 (651) 1,583 5,852 91,211
General and administrative 606 802 1,707 1,677 24,664
Interest expense and amortization
of intangibles - - - - 388
--------- --------- --------- --------- ---------
Total expenses 1,045 151 3,290 7,529 116,263
--------- --------- --------- --------- ---------
Loss from continuing operations (856) 3,385 (2,475) (2,521) (72,860)
Income (loss) from discontinued operations - - - - (1,828)
Gain on disposal - - - - 939
--------- --------- --------- --------- ---------
Net loss before cumulative effect of
change in accounting principle (856) 3,385 (2,475) (2,521) (73,749)
Cumulative effect of change in accounting
principle - - - - (8,454)
--------- --------- --------- --------- ---------
NET LOSS $ (856) $ 3,385 $ (2,475) $ (2,521) $ (82,203)
========= ========= ========= ========= =========
INCOME (LOSS) PER SHARE - BASIC AND DILUTED:
Loss from continuing operations $ (0.07) $ 0.30 $ (0.22) $ (0.22)
--------- --------- --------- ---------
Net loss before cumulative effect of
change in accounting principle (0.07) 0.30 (0.22) (0.22)
Cumulative effect of change in accounting
principle - - - -
--------- --------- --------- ---------
NET LOSS $ (0.07) $ 0.30 $ (0.22) $ (0.22)
========= ========= ========= =========
Shares used in loss per share calculation:
Basic 11,480 11,402 11,489 11,382
Diluted 11,480 11,402 11,489 11,382
The accompanying notes are an integral part of these consolidated financial
statements.
6
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited and in thousands)
THREE MONTHS ENDED SEPTEMBER 30,
--------------------------------
2003 2002
----------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (856) $ 3,385
Gain on disposal of discontinued operations - -
Gain on disposal of assets - -
Adjustments to reconcile net loss to net cash
used in operating activities:
Noncash financing costs - -
Noncash inventory impairment - -
Noncash patent impairment - -
Noncash decrease in accounts payable - (1,308)
Depreciation and amortization 2 29
Noncash expenses related to stock-based
transactions - 115
Common stock issued for agreement not to
compete - -
Series B Preferred Stock issued for consulting
services - -
Maturities (purchases) of marketable securities 2,280 3,936
Changes in operating assets and liabilities
(net effects of purchase of businesses in 1988 and 1994):
Decrease (increase) in receivables - (9)
Decrease (increase) in inventory - -
Decrease (increase) in prepaid expenses and other
current assets 203 158
(Decrease) increase in accounts payable and
accrued expenses 98 43
(Decrease) increase in deferred revenue - (3,170)
--------- ---------
Net cash used in (provided by) operating activities 1,727 3,179
CASH FLOWS FROM INVESTING ACTIVITIES
Maturities (purchases) of marketable securities - -
Capital expenditures - (49)
Purchase of technology rights and other assets (15) (21)
Decrease in note receivable - -
Proceeds from sale of PP&E 225 -
Cash acquired in purchase of FTI - -
Proceeds from sale of subsidiary, less
$12,345 for operating losses during
1990 phase-out period - -
Proceeds from sale of the assets of FTI - -
Increase in net assets held for disposal - -
--------- ---------
Net cash provided by (used in) investing activities 210 (70)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock - -
Proceeds from issuance of preferred stock - -
Purchase of treasury stock - -
Proceeds from issuance of notes payable - -
Principal payments on notes payable - -
--------- ---------
Net cash provided by (used by) financing activities - -
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,937 3,109
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 3,501 2,580
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 5,438 $ 5,689
========= =========
FROM INCEPTION
(AUGUST 20, 1987)
NINE MONTHS ENDED SEPTEMBER 30, THROUGH
------------------------------- SEPTEMBER 30,
2003 2002 2003
------------- -------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (2,475) $ (2,521) (82,203)
Gain on disposal of discontinued operations - - (939)
Gain on disposal of assets (102) - (102)
Adjustments to reconcile net loss to net cash
used in operating activities:
Noncash financing costs - - 316
Noncash inventory impairment - 4,417 4,417
Noncash patent impairment - 1,031 1,031
Noncash decrease in accounts payable - (1,308) (1,308)
Depreciation and amortization 75 137 3,761
Noncash expenses related to stock-based
transactions 14 121 2,572
Common stock issued for agreement not to
compete - - 200
Series B Preferred Stock issued for consulting
services - - 18
Maturities (purchases) of marketable securities (1,960) 6,832 10,120
Changes in operating assets and liabilities
(net effects of purchase of businesses in 1988 and 1994):
Decrease (increase) in receivables - (9) (199)
Decrease (increase) in inventory - - (4,447)
Decrease (increase) in prepaid expenses and other
current assets 102 147 (120)
(Decrease) increase in accounts payable and
accrued expenses (44) (201) 1,660
(Decrease) increase in deferred revenue - (4,228) -
--------- --------- ---------
Net cash used in (provided by) operating activities (4,390) 4,418 (65,223)
CASH FLOWS FROM INVESTING ACTIVITIES
Maturities (purchases) of marketable securities - - (28,723)
Capital expenditures - (49) (2,268)
Purchase of technology rights and other assets (31) (232) (2,237)
Decrease in note receivable 1,000 - -
Proceeds from sale of PP&E 225 - 225
Cash acquired in purchase of FTI - - 3
Proceeds from sale of subsidiary, less
$12,345 for operating losses during
1990 phase-out period - - 138
Proceeds from sale of the assets of FTI - - 2,250
Increase in net assets held for disposal - - (213)
--------- --------- ---------
Net cash provided by (used in) investing activities 1,194 (281) (30,825)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock - 31 84,224
Proceeds from issuance of preferred stock - - 23,688
Purchase of treasury stock (49) - (7,533)
Proceeds from issuance of notes payable - - 2,839
Principal payments on notes payable - - (1,732)
--------- --------- ---------
Net cash provided by (used by) financing activities (49) 31 101,486
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (3,245) 4,168 5,438
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 8,683 1,521 -
--------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 5,438 $ 5,689 $ 5,438
========= ========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
7
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
NOTE 1 -- ORGANIZATION AND OPERATIONS
Zonagen, Inc. ("Zonagen" or the "Company") was organized on August 20,
1987 and is a development stage company. The Company is engaged in the
development of pharmaceutical products that address diseases and conditions
associated with the human reproductive system. From inception through September
30, 2003, the Company has been primarily engaged in research and development and
clinical development.
On March 27, 2003 the Company terminated its merger agreement with
Lavipharm Corp. On April 15, 2003, the Company announced that its Board of
Directors engaged CIBC World Markets Corp. ("CIBC") to explore strategic
alternatives for the Company.
On October 17, 2003 Zonagen's Board of Directors approved a modified
"Dutch Auction" tender offer to purchase up to 9,836,065 shares, or up to 86% of
its common stock, par value $0.001 per share, at a purchase price not greater
than $2.10 nor less than $1.83 per Share (the "Purchase Price Range"), net to
the seller in cash, without interest thereon, upon the terms and subject to the
conditions set forth in the forthcoming offer to purchase and letter of
transmittal. The tender offer is conditioned upon at least 30% of the shares of
Zonagen's outstanding Common Stock being tendered and certain other conditions
as set forth in the forthcoming offer to purchase.
During the third quarter ended September 30, 2003, the Company
continued to focus its research efforts on two Small Business Innovative
Research ("SBIR") grants that the Company initially received during 2002 and
conducted limited development of the Company's internal research projects
primarily through the use of outside consulting groups. The Company is currently
performing research under a Phase II $836,441 SBIR grant which is being utilized
to develop its SPRM product candidate as an oral treatment for endometriosis,
and continued to perform research in the area of breast cancer under a Phase I
$108,351 SBIR grant. The funding under the Phase I $108,351 SBIR grant was
depleted during the third quarter ending September 30, 2003. The Company had
requested an extension of time under the Phase II $836,441 SBIR grant to March
1, 2004 and has been granted an extension to July 31, 2004. As of October 1,
2003, the Company had approximately $273,000 under this grant to apply to the
research for its oral treatment for endometriosis.
Since the Company is operating primarily as a virtual company utilizing
outside consultants to perform research and development and limited clinical
development activities, the Company held an auction in June 2003 and sold
substantially all of its fixed assets for approximate net proceeds of $225,000,
which was $102,000 over their book value. In addition, the Company's lease on
its 24,000 square foot facility located in The Woodlands, Texas, which had been
partially subleased, expired on May 31, 2003. The Company continued to lease
this facility on a month-to-month basis under the same terms as the expired
lease through July 31, 2003. As of August 1,
8
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
2003, the Company reduced the amount of space leased to a 2,539 square foot
facility. The amended lease expires on July 31, 2004. The landlord has the right
to require the Company to relocate to other premises. If the landlord exercises
this right, the Company has the option to continue in such new space for the
same rent for the remainder of the lease term or to terminate the lease. The
Company anticipates that it will remain in its current leased space.
As of September 30, 2003, the Company had an accumulated deficit of
$82.2 million. Losses have resulted principally from costs incurred in
conducting clinical trials for VASOMAX(R), the Company's oral treatment for male
erectile dysfunction, and the related female sexual dysfunction products, in
research and development activities related to efforts to develop the Company's
other products and from the associated administrative costs required to support
those efforts. The Company has no plans to further develop VASOMAX(R), or the
related female sexual dysfunction products or any of its other
phentolamine-based products.
Zonagen's results of operations may vary significantly from quarter to
quarter and year to year. The Company has experienced negative cash flows from
operations since inception and has funded its activities to date primarily from
equity financings and corporate collaborations. The Company believes that its
capital resources under its revised operating plan after the proposed tender
offer will be sufficient to fund the Company's operations through at least the
end of 2004. There can be no assurance that changes in the Company's revised
strategic plans or other events will not result in accelerated or unexpected
expenditures.
NOTE 2 -- STOCK-BASED COMPENSATION
The Company accounts for its stock option plans under APB No. 25
"Accounting for Stock Issued to Employees." Accordingly, deferred compensation
is recorded for stock options based on the excess of the market value of the
common stock on the measurement date over the exercise price of the options.
This deferred compensation is amortized over the vesting period of each option.
The Company has adopted the disclosure requirements of SFAS No. 123
"Accounting for Stock-Based Compensation" for employee stock-based compensation
and has elected not to record related compensation expense in accordance with
this statement. Had compensation expense for its stock option plans been
determined consistent with SFAS No. 123, the Company's net loss and loss per
share would have been increased to the following pro forma amounts (in
thousands, except for per share amounts):
9
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
THREE MONTHS ENDED SEPT. 30, NINE MONTHS ENDED SEPT. 30,
---------------------------------------------------------------
2003 2002 2003 2002
----------- --------- ----------- -------------
Net profit (loss), as reported ....... $ (856) $ 3,385 $ (2,475) $ (2,521)
Add: Stock-based employee
compensation expense included in
reported net income, net of related
tax effects - 115 14 121
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for
all awards, net of related tax
effects (161) (538) (523) (1,622)
--------- --------- --------- ---------
Pro forma net profit (loss) ........ $ (1,017) $ 2,962 $ (2,984) $ (4,022)
========= ========= ========= =========
Profit (loss) per share -
Basic - as reported ................ $ (0.07) $ 0.30 $ (0.22) $ (0.22)
Basic - pro forma (0.09) 0.26 (0.26) (0.35)
Diluted - as reported (0.07) 0.30 (0.22) (0.22)
Diluted - pro forma ................ (0.09) 0.26 (0.26) (0.35)
Under SFAS No. 123, the fair value of each option grant was estimated
on the date of grant using the Black-Scholes option-pricing model. No option
grants were issued in the three-month periods ended September 30, 2003 and 2002.
The following weighted average assumptions were used for grants in the
nine-month periods ended September 30, 2003 and 2002, respectively: risk-free
interest rates of 3.8% and 5.3%; no expected dividends; expected lives of 9.7
and 5.3 years; expected volatility of 90% and 88%. The weighted average fair
value of options granted at market for the nine-month periods ended September
30, 2003 and 2002 was $1.06 and $3.04, respectively.
The Black-Scholes option valuation model and other existing models were
developed for use in estimating the fair value of traded options that have no
vesting restrictions and are fully transferable. In addition, option valuation
models require the input of and are highly sensitive to subjective assumptions
including the expected stock price volatility. The Company's employee stock
options have characteristics significantly different from those of traded
options and changes in the subjective input assumptions can materially affect
the fair value estimate.
NOTE 3 -- MARKETABLE SECURITIES
Management determines the appropriate classification of investments in
debt and equity securities at the time of purchase and re-evaluates such
designation as of each subsequent balance sheet date. Securities which the
Company has the ability and intent to hold to maturity are classified as "held
to maturity". Securities classified as "trading securities" are recorded at fair
10
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
value. Gains and losses on trading securities, realized and unrealized, are
included in earnings and are calculated using the specific identification
method. Any other securities are classified as "available for sale." At
September 30, 2003 all securities were classified as trading securities. The
cost basis including purchased premium, which approximates fair value, for these
securities was $18.4 million and $16.5 million at September 30, 2003 and
December 31, 2002, respectively.
Short-term marketable securities have a remaining maturity of less than
twelve months and long-term marketable securities have a remaining maturity of
greater than twelve months. Marketable securities as of September 30, 2003
consist of only short-term investments totaling $18.4 million. The Company's
investments typically include corporate bonds and notes, Euro-dollar bonds,
taxable auction securities and asset-backed securities. The Company's policy is
to require minimum credit ratings of A2/A and A1/P1 with maturities of up to
three years. The average life of the investment portfolio may not exceed 24
months.
NOTE 4 -- PATENTS
As of September 30, 2003, the Company had approximately $533,000 in
capitalized patents reflected on its balance sheet. Of this amount $239,000
relates to patents for Zonagen's SPRMs, which are being developed as an oral
treatment for endometriosis through an SBIR grant; $181,000 relates to vaccine
adjuvant technologies; $63,000 relates to prostate cancer vaccine technologies;
and $50,000 relates to various other technologies. If Zonagen cannot out-license
the technologies that the Company is no longer developing to another entity,
then part or all of the capitalized patents value could be impaired.
NOTE 5 -- EARNINGS (LOSS) PER SHARE
Basic EPS is computed by dividing net loss by the weighted average
number of shares of common stock outstanding during the year. Diluted EPS is
computed in the same manner as fully diluted EPS, except that, among other
changes, the average share price for the period is used in all cases when
applying the treasury stock method of potentially dilutive outstanding options.
Common stock equivalents of 1,286,664 and 1,572,463 for the periods ended
September 30, 2003 and 2002, respectively, were excluded from the calculation of
diluted EPS since they were antidilutive.
The following table presents information necessary to
calculate earnings per share for the three-month and nine-month periods ended
September 30, 2003 and 2002 (in thousands, except per share amounts):
11
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
THREE MONTHS ENDED SEPT. 30, NINE MONTHS ENDED SEPT. 30,
----------------------------- ---------------------------
2003 2002 2003 2002
Net Profit (Loss) $ (856) $ 3,385 $ (2,475) $ (2,521)
Average common shares outstanding 11,480 11,402 11,489 11,382
Basic earnings per share $ (0.07) $ 0.30 $ (0.22) $ (0.22)
Average common and dilutive
potential common shares outstanding:
Average common shares outstanding 11,480 11,402 11,489 11,382
Assumed exercise of stock options -- -- -- --
Diluted earnings per share $ (0.07) $ 0.30 $ (0.22) $ (0.22)
NOTE 6 -- STOCKHOLDERS' EQUITY
On October 17, 2003 Zonagen's Board of Directors approved a "Dutch
Auction" tender offer to purchase up to 9,836,065 shares of its outstanding
common stock at a purchase price per share no greater than $2.10 nor less than
$1.83. The Board approved the proposed tender offer as a means of distributing
up to $18 million to stockholders who choose to participate in the proposed
offer.
Previously on April 2, 2003, the Company announced that its Board of
Directors had authorized the Company to repurchase up to $2.5 million of the
Company's common stock from time to time through privately negotiated third
party transactions or in the open market. Under this plan during the second
quarter ended June 30, 2003 the Company repurchased 34,100 shares of its common
stock for $49,137. The Company did not repurchase any common stock during the
third quarter ended September 30, 2003 and at this time does not intend to
repurchase any additional common stock other than under the proposed tender
offer.
NOTE 7 -- COMMITMENTS AND CONTINGENCIES
Certain purported class action complaints alleging violations of
Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and
Rule 10b-5 thereunder were filed against the Company and certain of its officers
and directors in 1998. These complaints were filed in the United States District
Court for the Southern District of Texas in Houston, Texas and were consolidated
on May 29, 1998. The plaintiffs purported to bring the suit on behalf of all
purchasers of Zonagen common stock between February 7, 1996 and January 9, 1998.
The plaintiffs asserted that the defendants made materially false and misleading
statements and failed
12
ZONAGEN, INC. AND SUBSIDIARY
(A development stage company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
to disclose material facts about the patents and patent applications of the
Company relating to VASOMAX(R) and Chito-ZN (formerly named ImmuMax(TM)) and
about the Company's clinical trials of VASOMAX(R). The plaintiffs sought to have
the action declared to be a class action, and to have recessionary or
compensatory damages in an unstated amount, along with interest and attorney's
fees. On March 30, 1999, the Court granted the defendants' motion to dismiss and
dismissed the case with prejudice. The plaintiffs filed an appeal. On September
25, 2001, the United States Fifth Circuit Court of Appeals affirmed the
dismissal of all claims except one; the court reversed the trial court's
dismissal of a claim concerning the Company's disclosure about a patent relating
to VASOMAX(R). On June 13, 2003, the court granted the defendants' motion for
summary judgment as to that last remaining claim, and entered a judgment
dismissing the case with prejudice. The plaintiffs have filed an appeal. The
Company's management and the individual defendants believe that these actions
are without merit and intend to defend against them vigorously. No estimate of
loss or range of estimate loss, if any, can be made at this time.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. Such statements reflect
the Company's current views with respect to future events and financial
performance and are subject to certain risks, uncertainties and assumptions.
Should one or more of these risks or uncertainties materialize, or should
underlying assumptions prove incorrect, actual results may vary materially from
those anticipated in such forward-looking statements. See "Factors Affecting
Forward-Looking Statements" included elsewhere in this quarterly report on Form
10-Q.
OVERVIEW
Zonagen, Inc. ("Zonagen" or the "Company") was organized on August 20,
1987 and is a development stage company. The Company is engaged in the
development of pharmaceutical products that address diseases and conditions
associated with the human reproductive system. From inception through September
30, 2003, the Company has been primarily engaged in research and development and
clinical development.
On March 27, 2003 the Company terminated its merger agreement with
Lavipharm Corp. On April 15, 2003, the Company announced that its Board of
Directors engaged CIBC World Markets Corp. ("CIBC") to explore strategic
alternatives for the Company.
On October 17, 2003 Zonagen's Board of Directors approved a modified
"Dutch Auction" tender offer to purchase up to 9,836,065 shares, or up to 86% of
its common stock, par value $0.001 per share, at a purchase price not greater
than $2.10 nor less than $1.83 per Share (the "Purchase Price Range"), net to
the seller in cash, without interest thereon, upon the terms and subject to the
conditions set forth in the forthcoming offer to purchase and letter of
transmittal. Zonagen will select the lowest purchase price out of all of the
prices at which shares are tendered in the tender offer within the Purchase
Price Range (the "Purchase Price") that will allow Zonagen to buy the lesser of
(1) all shares properly tendered and not properly withdrawn or (2) a number of
shares tendered at or below Zonagen's selected price with an aggregate purchase
price of $18 million. All shares acquired in the tender offer will be acquired
at the same Purchase Price. If more shares are properly tendered and not
properly withdrawn at or below the Purchase Price than Zonagen can purchase for
an aggregate Purchase Price of $18 million, Zonagen will first purchase all of
the shares held by stockholders holding less than one hundred shares and will
then purchase the remaining shares on a pro rata basis.
The tender offer is conditioned upon at least 30% of the shares of
Zonagen's outstanding Common Stock being tendered. The tender offer is also
subject to certain other conditions as set forth in the forthcoming offer to
purchase. Only shares properly tendered at or below the Purchase Price selected
by Zonagen out of the prices tendered by the stockholders in the tender offer
and not properly withdrawn will be purchased, upon the terms and subject to the
conditions of the tender offer. However, because of the priority to stockholders
holding less than one hundred shares described above, proration and conditional
tender provisions described in the forthcoming offer to purchase, all of the
shares tendered at or below the Purchase Price may not be purchased. Shares not
purchased in the tender offer will be returned promptly following the
14
expiration of the tender offer.
Zonagen has 11,479,648 shares of common stock outstanding. Neither
Zonagen nor its Board of Directors make any recommendation as to whether
stockholders should tender their shares. Stockholders must make their own
decision as to whether to tender their shares and, if so, how many shares to
tender and at what price. Zonagen urges all stockholders to read the forthcoming
offer to purchase and the related documents filed with such offer to purchase
when it is available because it will contain important information.
Following the proposed tender offer, the Company intends to change its
name to reflect its new focus. The Company will first focus its internal
development programs toward its lead program which relates to four product
opportunities in the female health arena. All of the products are based on the
Selective Progesterone Receptor Modulators (SPRMs) that were previously licensed
from the National Institutes of Health ("NIH") in 1999. These novel compounds
represent a family of new proprietary molecules for which a patent application
has been made. They are orally active and initial animal studies have shown
their utility in the treatment of uterine fibroids, endometriosis and breast
cancer. Zonagen will first focus its clinical product development toward a
therapy to treat uterine fibroids. The Company anticipates performing a small
non-U.S. Phase II human clinical trial for this indication as early as 2004.
Collectively, the Company has named these drugs Progenta(TM). Management
believes that besides the above listed indications, progestin free hormone
replacement therapy represents another product opportunity for these compounds.
In addition, the Company will attempt to extract some value from its
other technology opportunities as a means of offsetting some of its future
costs.
To date, between governmental grants and Zonagen's own expenditures,
over $1 million has been spent on Progenta(TM). These expenditures do not
include the significant discovery costs absorbed by the NIH while it conducted
the basic research regarding Progenta(TM).
The Company has four full-time employees and management does not
anticipate an increase in full-time personnel in the near future, including
after completion of the proposed tender offer. Management believes that its
current personnel can manage outside consulting firms and continue to advance
its internal product development.
During the third quarter ended September 30, 2003, the Company
continued to focus its research efforts on two Small Business Innovative
Research ("SBIR") grants that the Company initially received during 2002 and
conducted limited development of the Company's internal research projects
primarily through the use of outside consulting groups. The Company is currently
performing research under a Phase II $836,441 SBIR grant which is being utilized
to develop its SPRM product candidate as an oral treatment for endometriosis,
and continued to perform research in the area of breast cancer under a Phase I
$108,351 SBIR grant. The funding under the Phase I $108,351 SBIR grant was
depleted during the third quarter ending September 30, 2003. The Company had
requested an extension of time under the Phase II $836,441 SBIR grant to March
1, 2004 and has been granted an extension to July 31, 2004. As of October 1,
2003, the Company had approximately $273,000 under this grant to apply to the
research for its oral
15
treatment for endometriosis.
Since the Company is operating primarily as a virtual company utilizing
outside consultants to perform research and development and limited clinical
development activities, the Company held an auction in June 2003 and sold
substantially all of its fixed assets for approximate net proceeds of $225,000,
which was $102,000 over their book value. In addition, the Company's lease on
its 24,000 square foot facility located in The Woodlands, Texas, which had been
partially subleased, expired on May 31, 2003. The Company continued to lease
this facility on a month-to-month basis under the same terms as the expired
lease through July 31, 2003. As of August 1, 2003, the Company reduced the
amount of space leased to a 2,539 square foot facility. The amended lease
expires on July 31, 2004. The landlord has the right to require the Company to
relocate to other premises. If the landlord exercises this right, the Company
has the option to continue in such new space for the same rent for the remainder
of the lease term or to terminate the lease. The Company anticipates that it
will remain in its current leased space.
As of September 30, 2003, the Company had an accumulated deficit of
$82.2 million. Losses have resulted principally from costs incurred in
conducting clinical trials for VASOMAX(R), the Company's oral treatment for male
erectile dysfunction, and the related female sexual dysfunction products, in
research and development activities related to efforts to develop the Company's
other products and from the associated administrative costs required to support
those efforts. The Company has no plans to further develop VASOMAX(R), or the
related female sexual dysfunction products or any of its other
phentolamine-based products.
Zonagen's results of operations may vary significantly from quarter to
quarter and year to year. The Company has experienced negative cash flows from
operations since inception and has funded its activities to date primarily from
equity financings and corporate collaborations. The Company believes that its
capital resources under its revised operating plan after the proposed tender
offer will be sufficient to fund the Company's operations through at least the
end of 2004. There can be no assurance that changes in the Company's revised
strategic plans or other events will not result in accelerated or unexpected
expenditures. See "Item 1. Description of Business -- Business Risks --
Uncertainties Related to Early Stage of Development," " -- Business Risks --
History of Operating Losses; Accumulated Deficit" and "Note 1. Organization and
Operations" of Notes to Consolidated Financial Statements in the Company's
annual report on Form 10-K for the fiscal year ended December 31, 2002.
CRITICAL ACCOUNTING POLICIES AND THE USE OF ESTIMATES
The preparation of the Company's financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the Company's financial statements and accompanying notes. Actual results could
differ materially from those estimates. The items in the Company's financial
statements requiring significant estimates and judgments are as follows:
- Management determines the appropriate short and long-term
classification of investments in debt and equity securities at the time
of purchase and re-evaluates such designation as of each subsequent
balance sheet date. Securities for which the Company has the ability
16
and intent to hold to maturity are recorded at amortized cost in the
Company's consolidated balance sheets, which approximates fair value.
Securities classified as "trading securities" are recorded at fair
value. Gains and losses on trading securities, realized and unrealized,
are included in earnings and are calculated using the specific
identification method. The Company holds no securities classified as
"available for sale." Short-term marketable securities have a remaining
maturity of less than twelve months and long-term marketable securities
have a remaining maturity of greater than twelve months. Marketable
securities as of September 30, 2003 were all classified as trading
securities and consist of only short term investments totaling $18.4
million.
- The Company is currently involved in certain legal proceedings as
discussed in the "Commitments and Contingencies" in the Notes to
Consolidated Financial Statements. The Company does not believe these
legal proceedings will have a material adverse effect on its
consolidated financial position, results of operations or cash flows.
However, were an unfavorable ruling to occur in any quarterly period,
there exists the possibility of a material impact on the operating
results of that period.
- Research and development ("R&D") costs consist of direct and indirect
costs associated with specific projects as well as fees paid to various
entities that perform research on behalf of the Company. Expenses
include salaries and related employee costs, insurance coverage for
clinical trials and prior product sales, contracted research and
consulting fees, facility costs and direct costs associated with
specific projects. The Company expenses R&D costs in the period they
are incurred.
RESULTS OF OPERATIONS
Three Month and Nine Month Periods Ended September 30, 2003 and 2002
Total revenues for the three month period ended September 30, 2003
decreased to $189,000 as compared with $3.5 million for the same period in the
prior year and were approximately $815,000 for the nine-month period ended
September 30, 2003 as compared to $5.0 million for the same period in the prior
year.
Licensing fees for the three-month period ended September 30, 2003 were
zero as compared to $3.2 million for the same period in the prior year and were
zero for the nine-month period ended September 30, 2003 as compared to $4.2
million for the same period in the prior year. All licensing fees for the
nine-month period ended September 30, 2002 were from agreements that were
mutually terminated in July 2002 between Zonagen and Schering-Plough Corporation
relating to Zonagen's phentolamine-based products which included VASOMAX(R). Due
to the Company's January 1, 2000 adoption of U.S. Securities and Exchange
Commission Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial
Statements" ("SAB 101") which requires up-front, non-refundable license fees to
be deferred and recognized over the performance period and the July 2002 mutual
termination of the agreements, the Company recognized the remaining $3.2 million
from those agreements in licensing fees in the three-month period ended
September 30, 2002. The Company received the proceeds from these revenues in
prior periods. The Company does not expect to receive any revenues relating to
VASOMAX(R) in the near future.
17
Research and development grants for the three-month period ended
September 30, 2003 were $122,000 as compared to $213,000 for the same period in
the prior year and were $459,000 for the nine-month period ended September 30,
2003 as compared to $213,000 for the same period in the prior year. All grant
revenue relates to three SBIR grants that were awarded to the Company in the
third quarter ended September 30, 2002. The Company performed a portion of that
paid research during the nine-month period ended September 30, 2003 and the
three-month period ended September 30, 2002. Interest income decreased 56% to
$67,000 for the three-month period ended September 30, 2003, as compared to
$153,000 for the same period in the prior year and decreased 55% to $254,000 for
the nine-month period ended September 30, 2003 as compared to $568,000 for the
same period in the prior year. This decrease is due to a reduction in interest
rate yields and lower cash balances, offset by interest income on a prior $1.0
million loan receivable from Lavipharm Corp., which was repaid in April 2003.
The Company sold substantially all of its fixed assets, which
management felt were not required to redeploy the Company's overall assets, for
approximate net proceeds of $225,000 and recognized a gain of $102,000 over
their book value. These proceeds were collected in July 2003.
Research and Development Expenses. Research and development ("R&D")
expenses include contracted research, regulatory affairs activities and general
research and development expenses. R&D expenses increased 167% to $439,000 for
the three-month period ended September 30, 2003 as compared to ($651,000) for
the same period in the prior year and decreased 73% to $1.6 million for the
nine-month period ended September 30, 2003 as compared to $5.9 million for the
same period in the prior year. Included in the three-month period ended
September 30, 2002 is a reduction in R&D expenses of a liability that was due to
Schering-Plough of $1.3 million relating to a prior joint clinical development
program for VASOMAX(R) which was forgiven due to the mutual termination of the
Schering-Plough agreements in July 2002. In addition to the funded SBIR research
performed during the three-month period ended September 30, 2003, the Company
also continued to conduct a human Phase I/II clinical study relating to its
Androxal(TM) project at the cost of approximately $154,000. Included in the
nine-month period ended September 30, 2002 is the write-off of both the
Company's bulk phentolamine inventory previously valued at $4.4 million and its
VASOMAX(R) patent estate previously valued at approximately $1.0 million. These
assets were written-off due to the mutual termination of the Schering-Plough
agreements in July 2002 and the future uncertainty surrounding the VASOMAX(R)
product. In addition, R&D expenses in the nine-month period ended September 30,
2002 were reduced by $188,000 due to a reimbursement of prior clinical expenses
for VASOMAX(R) that was received from a clinical research organization after a
reconciliation was completed comparing actual expenses to payments made by the
Company.
General and Administrative Expenses. General and administrative ("G&A")
expenses decreased 24% to $606,000 for the three-month period ended September
30, 2003, as compared to $802,000 for the same period in the prior year and
remained constant at $1.7 million for both nine-month periods ended September
30, 2003 and 2002. The decrease in expenses for the three-month period ended
September 30, 2003 is primarily due to the decrease in costs associated with
potential strategic alternatives, a decrease in non-cash compensation expense
and a decrease in professional services partially offset by an increase in
insurance rates.
18
LIQUIDITY AND CAPITAL RESOURCES
Since Inception, the Company has financed its operations primarily with
proceeds from private placements and public offerings of equity securities and
with funds received under collaborative agreements. The Company's primary use of
cash to date has been in operating activities to fund research and development,
including preclinical studies and clinical trials, and general and
administrative expenses. The Company had cash, cash equivalents and marketable
securities of approximately $23.9 million at September 30, 2003, as compared to
$25.1 million at December 31, 2002.
Excluding maturities and purchases of marketable securities of $2.3
million and $3.9 million in the three-month period ended September 30, 2003 and
2002, respectively, net cash of approximately $553,000, inclusive of $119,000
received from SBIR accounts receivable, was used in operating activities during
the three-month period ended September 30, 2003 as compared to $757,000 for the
same period in the prior year. The decreased use of cash for the three-month
period ended September 30, 2003 as compared to the same period in the prior year
is primarily due to a decrease in research and development activities which
includes a staff reduction in the first quarter of 2003, reduced expenses
related to the Company's phentolamine-based products as well as a decrease in
costs associated with potential strategic alternatives offset by a reduction in
both SBIR grant funding and lower interest yields on the Company's investment
portfolio.
Excluding maturities and purchases of marketable securities of ($2.0)
million and $6.8 million in the nine-month period ended September 30, 2003 and
2002, respectively, net cash of approximately $2.4 million was used in operating
activities during both nine-month periods ended September 30, 2003 and 2002.
Although cash usage remained constant for both periods, the Company had a
decrease in research and development activities which includes a staff reduction
in the first quarter of 2003, reduced expenses relating to the Company's
internal development programs offset by an increase in costs associated with
potential strategic alternatives, higher insurance costs and the net reduction
in an increase in SBIR grant funding offset by lower interest yields on the
Company's investment portfolio in the nine month period ended September 30, 2003
as compared to the nine month period ended September 30, 2002.
The Company has experienced negative cash flows from operations since
inception and has funded its activities to date primarily from equity financings
and corporate collaborations. The Company believes that its capital resources
under its revised operating plan after the proposed tender offer will be
sufficient to fund the Company's operations through at least the end of 2004.
There can be no assurance that changes in our current strategic plans or other
events will not result in accelerated or unexpected expenditures.
19
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable.
ITEM 4. CONTROLS AND PROCEDURES
Based on their evaluation as of the end of the period covered by this
Quarterly Report on Form 10-Q, the Company's Chief Executive Officer and Chief
Financial Officer have concluded that the Company's disclosure controls and
procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of
1934, as amended) are effective in insuring that the information required to be
disclosed by the Company in the reports that it files or submits under the
Exchange Act is recorded, processed, summarized and reported within the required
time periods.
In connection with the evaluation described above, the Company
identified no change in internal control over financial reporting that occurred
during the fiscal quarter ended September 30, 2003 that has materially affected,
or is reasonably likely to materially affect, the Company's internal control
over financial reporting.
20
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Certain purported class action complaints alleging violations of
Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and
Rule 10b-5 thereunder were filed against the Company and certain of its officers
and directors in 1998. These complaints were filed in the United States District
Court for the Southern District of Texas in Houston, Texas and were consolidated
on May 29, 1998. The plaintiffs purported to bring the suit on behalf of all
purchasers of Zonagen common stock between February 7, 1996 and January 9, 1998.
The plaintiffs asserted that the defendants made materially false and misleading
statements and failed to disclose material facts about the patents and patent
applications of the Company relating to VASOMAX(R) and Chito-ZN (formerly named
ImmuMax(TM)) and about the Company's clinical trials of VASOMAX(R). The
plaintiffs sought to have the action declared to be a class action, and to have
recessionary or compensatory damages in an unstated amount, along with interest
and attorney's fees. On March 30, 1999, the Court granted the defendants' motion
to dismiss and dismissed the case with prejudice. The plaintiffs filed an
appeal. On September 25, 2001, the United States Fifth Circuit Court of Appeals
affirmed the dismissal of all claims except one; the court reversed the trial
court's dismissal of a claim concerning the Company's disclosure about a patent
relating to VASOMAX(R). On June 13, 2003, the court granted the defendants'
motion for summary judgment as to that last remaining claim, and entered a
judgment dismissing the case with prejudice. The plaintiffs have filed an
appeal. The Company's management and the individual defendants believe that
these actions are without merit and intend to defend against them vigorously. No
estimate of loss or range of estimate loss, if any, can be made at this time.
21
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits
10.1* PHS Patent License Agreement dated April 16,
1999 between the Company and certain agencies of the
United States Public Health Service within the
Department of Health and Human Services, with
amendments
31.1 Certification pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (Chief Executive Officer).
31.2 Certification pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (Chief Financial Officer).
32.1 Certification furnished pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (Chief Executive
Officer).
32.2 Certification furnished pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (Chief Financial
Officer).
* Portions of this exhibit have been omitted based on
a request for confidential treatment pursuant to Rule
24b-2 of the Exchange Act. Such omitted portions have
been filed separately with the Commission.
b. Reports on Form 8-K
The Company filed a current report on Form 8-K on
August 14, 2003 reporting an event under Item 12.
22
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
ZONAGEN, INC.
Date: November 12, 2003
By: /s/ Joseph S. Podolski
--------------------------------------------
Joseph S. Podolski
President and
Chief Executive Officer
(Principal Executive Officer)
Date: November 12, 2003
By: /s/ Louis Ploth, Jr.
--------------------------------------------
Louis Ploth, Jr.
Vice President Business Development and
Chief Financial Officer
(Principal Financial and Accounting Officer)
23
INDEX TO EXHIBITS
10.1* PHS Patent License Agreement dated April 16,
1999 between the Company and certain agencies of the
United States Public Health Service within the
Department of Health and Human Services, with
amendments
31.1 Certification pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (Chief Executive Officer).
31.2 Certification pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (Chief Financial Officer).
32.1 Certification furnished pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (Chief Executive
Officer).
32.2 Certification furnished pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (Chief Financial
Officer).
* Portions of this exhibit have been omitted based on
a request for confidential treatment pursuant to Rule
24b-2 of the Exchange Act. Such omitted portions have
been filed separately with the Commission.