AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 31, 2003
REGISTRATION NO. 333 -
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM SB-2
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
---------------------------
ENTROPIN, INC.
(Name of Small Business Issuer as Specified in its Charter)
DELAWARE 8741
(State or Other Jurisdiction of (Primary Standard Industrial
Incorporation or Organization) Classification Code Number)
68-0150827
(I.R.S. Employer
Identification Number)
---------------------------
45926 OASIS STREET
INDIO, CALIFORNIA 92201
(760) 775-8333
(Address and Telephone Number of Principal Executive Offices
and Principal Place of Business)
---------------------------
THOMAS G. TACHOVSKY, PH.D.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
ENTROPIN, INC.
45926 OASIS STREET
INDIO, CALIFORNIA 92201
(760) 775-8333
(Name, Address and Telephone Number of Agent for Service)
---------------------------
COPIES TO:
CRAIG S. ANDREWS, ESQ.
RYAN A. MURR, ESQ.
HELLER EHRMAN WHITE & MCAULIFFE, LLP
4350 LA JOLLA VILLAGE DRIVE, 7TH FLOOR
SAN DIEGO, CA 92122
(858) 450-8400
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
AS SOON AS PRACTICABLE AFTER THE EFFECTIVE DATE OF THIS REGISTRATION STATEMENT.
- -------------------------------------------------------------------------------
If any of the securities being registered on this Form are to be offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [X]
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ] _______
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] _______
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] _______
If delivery of the prospectus is expected to be made pursuant to Rule 434, check
the following box. [ ]
CALCULATION OF REGISTRATION FEE
==================================================== =========================================== =========================
TITLE OF EACH CLASS OF PROPOSED MAXIMUM AMOUNT OF
SECURITIES TO BE REGISTERED AGGREGATE OFFERING PRICE (1) REGISTRATION FEE (2)
- ---------------------------------------------------- ------------------------------------------- -------------------------
Shares of common stock, par value $.0001 per share $4,000,000 $324
- ---------------------------------------------------- ------------------------------------------- -------------------------
(1) Represents the maximum aggregate offering price for all shares of
common stock that the Registrant may sell from time to time pursuant to
this Registration Statement.
(2) Calculated in accordance with Rule 457(o) under the Securities Act of
1933. The Registrant is registering 20,000,000 shares of common stock,
par value $.0001 per share, for sale under this Registration Statement.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES
AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE
A FURTHER AMENDMENT THAT SPECIFICALLY STATES THIS REGISTRATION STATEMENT SHALL
THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES
ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SECTION 8(a), MAY
DETERMINE.
PRELIMINARY PROSPECTUS SUBJECT TO COMPLETION OCTOBER __, 2003
THE INFORMATION IN THIS PRELIMINARY PROSPECTUS IS NOT COMPLETE AND MAY BE
CHANGED. THESE SECURITIES MAY NOT BE SOLD UNTIL THE REGISTRATION STATEMENT FILED
WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PRELIMINARY
PROSPECTUS IS NOT AN OFFER TO SELL NOR DOES IT SEEK AN OFFER TO BUY THESE
SECURITIES IN ANY JURISDICTION WHERE THE OFFER OR SALE IS NOT PERMITTED.
THIS OFFERING IS BEING MADE ONLY TO ACCREDITED INVESTORS IN ARIZONA, CALIFORNIA,
COLORADO, ILLINOIS, INDIANA, IOWA, MICHIGAN, MISSISSIPPI, OKLAHOMA AND TEXAS.
SEE "INVESTOR SUITABILITY REQUIREMENTS" BEGINNING ON PAGE 34.
[ENTROPIN LOGO]
ENTROPIN, INC.
NEW FRONTIERS IN PHARMACEUTICALS
$4,000,000
COMMON STOCK
This is a "best efforts" offering to raise between $2,000,000 and $4,000,000
through the sale of up to 20,000,000 shares of Entropin, Inc. common stock. The
offering is expected to continue until February 1, 2004 and funds will be placed
in escrow until the first purchase of at least $2 million is completed through
this offering. If we do not sell $2 million in shares of our common stock by
February 1, 2004, we will promptly refund all proceeds in the escrow account,
without interest. We will deliver stock certificates representing shares
purchased as soon as practicable, but in no event later than 30 days after the
initial close or any subsequent close of the offering. The minimum investment
will be $50,000, unless we agree to accept a smaller purchase. InvestLinc
Securities, LLC, a registered broker-dealer, is serving as our placement agent
for this offering. Broker fees and commissions, in addition to the expenses of
this offering, will be deducted directly from the proceeds of the offering.
PER SHARE TOTAL MINIMUM TOTAL MAXIMUM
--------- ------------- -------------
Offering price ............................. $ $2,000,000 $4,000,000
Placement agent discounts and commissions... $ $ 120,000 $ 240,000
Proceeds to us before expenses ............. $ $1,880,000 $3,760,000
Our common stock and warrants are traded on the Over-The-Counter Bulletin Board
under the symbols "ETOP" and "ETOPW," respectively.
INVESTING IN OUR COMMON STOCK INVOLVES SIGNIFICANT RISKS. SEE "RISK FACTORS"
BEGINNING ON PAGE 4 TO READ ABOUT FACTORS YOU SHOULD CONSIDER BEFORE BUYING
THESE SECURITIES.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY OTHER REGULATORY BODY HAS
APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
THESE SECURITIES ARE REGISTERED UNDER THE SECURITIES ACT OF ARIZONA, BUT THE
FACT OF THE REGISTRATION IS NOT TO BE DEEMED A FINDING BY THE ARIZONA
CORPORATION COMMISSION OR THE DIRECTOR OF THE SECURITIES DIVISION THAT THIS
PROSPECTUS IS TRUE OR ACCURATE, NOR DOES THE REGISTRATION MEAN THAT THE
COMMISSION OR THE DIRECTOR HAS PASSED ON THE MERITS OF OR OTHERWISE APPROVED THE
SECURITIES DESCRIBED IN THIS PROSPECTUS.
FORWARD-LOOKING INFORMATION
Some of the statements in this prospectus and in our periodic filings with the
SEC may constitute forward-looking statements. The forward looking statements
are principally contained in the sections entitled "Prospectus Summary,"
"Business" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations." Any of these statements involve known and unknown risks,
significant uncertainties and other factors that may cause our actual results,
levels of activity, performance or achievements to be materially different from
any future results, levels of activity, performance or achievements expressed or
implied by these forward-looking statements.
In some cases, you can identify the forward-looking statements by terminology
such as "may," "will," "should," "could," "expects," "plans," "anticipates,"
"believes," "estimates," "predicts," "potential" or "continue" or the negative
of these terms or other comparable terminology.
Although we believe that the expectations reflected in any such forward-looking
statements are reasonable, we cannot guarantee our future results, levels of
activity, performance or achievements. The information contained in this
prospectus is accurate only as of the date of this prospectus, regardless of the
time of delivery of this prospectus or any securities purchased under this
prospectus. Except as required by Federal securities laws, we assume no
obligation to update any forward-looking statements to reflect events or
circumstances arising after the date of this prospectus.
You should rely only on the information contained in this prospects. We have not
authorized anyone to provide you with information different from that contained
in this prospectus.
YOU SHOULD CAREFULLY REVIEW AND CONSIDER THE VARIOUS DISCLOSURES IN THIS
PROSPECTUS REGARDING FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER
MATERIALLY FROM ANTICIPATED RESULTS, INCLUDING THOSE FACTORS UNDER THE CAPTION
"RISK FACTORS" STARTING AT PAGE 4.
TABLE OF CONTENTS
FORWARD-LOOKING INFORMATION...................................................i
PROSPECTUS SUMMARY............................................................1
RISK FACTORS..................................................................4
USE OF PROCEEDS...............................................................9
MARKET FOR COMMON STOCK AND RELATED STOCKHOLDER MATTERS......................10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS......................................................11
BUSINESS.....................................................................15
LEGAL PROCEEDINGS............................................................24
FACILITIES...................................................................24
EMPLOYEES....................................................................25
MANAGEMENT...................................................................25
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS...............................31
INDEMNIFICATION FOR SECURITIES ACT LIABILITIES...............................32
DESCRIPTION OF SECURITIES....................................................32
INVESTOR SUITABILITY REQUIREMENTS............................................34
PLAN OF DISTRIBUTION.........................................................36
LEGAL MATTERS................................................................37
EXPERTS......................................................................37
WHERE YOU CAN FIND MORE INFORMATION..........................................37
INDEX TO FINANCIAL STATEMENTS...............................................F-1
i
PROSPECTUS SUMMARY
YOU SHOULD READ THE FOLLOWING SUMMARY TOGETHER WITH THE MORE DETAILED
INFORMATION REGARDING US, THE SALE OF OUR COMMON STOCK IN THIS OFFERING, OUR
FINANCIAL STATEMENTS AND THE NOTES TO THOSE FINANCIAL STATEMENTS THAT APPEAR
ELSEWHERE IN THIS PROSPECTUS.
BUSINESS OVERVIEW
We are a pharmaceutical research and development company focused on the
development of proprietary compounds for pain therapy. Our primary activities
since inception have been research and development, including preclinical
studies, and tests focused on securing U.S. Food and Drug Administration, or
FDA, approval for our proprietary compounds. We have previously completed
preclinical animal studies, Phase I, Phase II and Phase II/III human clinical
trials for our first pain-relief product, known as Esterom(R) solution. In
January 2002, we reported that one of our researchers at Harvard Medical School
had identified the active ingredient in Esterom solution, which we named
ENT-102. Results of our initial preclinical studies revealed that ENT-102 may
effectively block nerve impulse conduction and, when injected into animals, may
have long-lasting properties to reduce and manage pain.
Based on these findings and the results of our Phase II/III clinical
study with Esterom solution, we decided to forego further development of Esterom
solution and pursue development of ENT-102. In January 2003, we announced the
discovery of a new chemical entity, ENT-103, a simplified derivative of ENT-102.
Due to the perceived demonstrated pain reduction equivalency of ENT-103 and
ENT-102 in preclinical studies, and the perceived advantages of pursuing
regulatory approval with a simpler molecular structure, we decided to focus on
the development of ENT-103 as a therapy for treatment of acute pain.
We believe that ENT-103 has the potential to effectively treat a number
of medical conditions using various delivery systems. At present, we are
actively pursuing injectable and topical delivery systems for ENT-103. A third
delivery system, inhalation therapy, is also being evaluated. We believe that
ENT-103 and related compounds could have a significant impact on the pain
market. In conjunction with our drug development activities, we are raising
funds to initiate clinical trials and the regulatory approval process.
THE COMPANY
We were incorporated in California in 1984 as Entropin, Inc., or old
Entropin, and in 1998, completed a merger with and into Vanden Capital Group,
Inc., after which Vanden changed its name to Entropin, Inc. For accounting
purposes, the acquisition was treated as a recapitalization of old Entropin
based upon historical cost, with old Entropin as the acquirer. In conjunction
with the merger, Entropin, Inc. became a Colorado corporation. In June 2002, we
changed our state of incorporation from Colorado to Delaware. Our principal
executive offices are located at 45926 Oasis Street, Indio, California 92201.
Our telephone number is (760) 775-8333. Our website is located at
www.entropin.com. We do not consider information contained in our website to be
part of this prospectus. Entropin and Esterom are registered trademarks of
Entropin, Inc. This prospectus also refers to trademarks and trade names of
other companies and organizations.
THE OFFERING
With this offering, we are seeking to raise between $2 million (the
"Minimum Offering") and $4 million (the "Maximum Offering") through the sale and
issuance of up to 20 million shares of common stock to accredited investors.
Investments will be held by an escrow agent until we have at least $2 million in
total investments in this offering or until February 1, 2004, the offering
termination date. If we have not reached the Minimum Offering by February 1,
2004, the escrow agent will promptly return all escrowed funds, without
interest, and the offering will terminate. If we have reached the Minimum
Offering by February 1, 2004, but have not reached the Maximum Offering, we may
extend the offering for up to 30 days. See "Plan of Distribution" on page 36.
1
Set forth below is certain additional information regarding the terms
of this offering.
Common stock we are offering............................. Up to 20,000,000 shares.
Common stock to be outstanding after this offering....... Up to 31,545,341 shares, depending on offering subscription.(1)
Over-The-Counter Bulletin Board symbol................... ETOP
Use of proceeds.......................................... The net proceeds of this offering will be used to support the
further development of ENT-103 and for other general corporate
purposes, including working capital. See "Use of Proceeds."
- -------------
(1) We had 11,545,341 shares of common stock and 3,210,487 shares of Series
A' Preferred Stock outstanding as of September 30, 2003, excluding:
o Options to purchase up to 2,396,619 shares of common stock at
a weighted-average exercise price of $3.21 per share;
o Warrants to purchase up to 3,283,500 shares of common stock at
a weighted-average exercise price of $8.63 per share; and
o Warrants to be issued to the placement agent following
completion of the offering for 7% of the total shares sold in
the offering with an exercise price equal to the price per
share in this offering. See "Plan of Distribution."
CAPITALIZATION
Set forth below is the selected unaudited pro forma capitalization of
Entropin at June 30, 2003, after giving effect to (A) the hypothetical sale of
$2,000,000 of shares of common stock, which represents the Minimum Offering, and
(B) the hypothetical sale of $4,000,000 of shares of common stock, which
represents the Maximum Offering, in each case the hypothetical proceeds shown
are net of Placement Agent's 6% commission. Other expenses of this offering will
be deducted from the proceeds.
MINIMUM OFFERING JUNE 30, 2003
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PRO FORMA PRO FORMA,
ACTUAL ADJUSTMENTS AS ADJUSTED
-------------------- -------------------- --------------------
Balance Sheet Data:
Cash, cash equivalents and short-term investments $ 2,179,035 $ 1,880,000 $ 4,059,035
Working capital 2,177,607 1,880,000 4,057,607
Total assets 2,702,235 1,880,000 4,582,235
Total stockholders' equity 1,959,617 1,880,000 3,839,617
MAXIMUM OFFERING JUNE 30, 2003
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PRO FORMA PRO FORMA,
ACTUAL ADJUSTMENTS AS ADJUSTED
-------------------- -------------------- --------------------
Balance Sheet Data:
Cash, cash equivalents and short-term investments $ 2,179,035 $ 3,760,000 $ 5,939,035
Working capital 2,177,607 3,760,000 5,937,607
Total assets 2,702,235 3,760,000 6,462,235
Total stockholders' equity 1,959,617 3,760,000 5,719,617
2
SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Financial Statements and notes thereto. The selected
financial data as of December 31, 2001 and 2002, and for the years then ended
are derived from audited financial statements included in this prospectus. The
selected balance sheet data as of June 30, 2003, is derived from unaudited
financial statements included in this prospectus. derived
Cumulative
Years ended Six months amounts from
Statement of Operations Data: December 31, ended inception through
------------------------------- June 30, June 30,
2001 2002 2003 2003
------------- ------------- ------------- -------------
Revenue $ -- $ -- $ -- $ --
Costs and expenses:
Research and development 2,315,076 3,048,063 504,467 15,198,045
General and administrative 1,973,401 2,403,835 1,400,905 16,293,271
------------- ------------- ------------- -------------
Operating loss $ (4,288,477) $ (5,451,898) $ (1,905,372) $(31,491,316)
Other income, net 497,462 190,102 16,823 1,240,140
------------- ------------- ------------- -------------
Net loss (3,791,015) (5,261,796) (1,888,549) (30,251,176)
Dividends applicable to Series B
preferred stockholders (96,384) (91,033) (32,750) (1,100,895)
------------- ------------- ------------- -------------
Net loss applicable to common stockholders $ (3,887,399) $ (5,352,829) $ (1,921,299) $(31,352,071)
============= ============= ============= =============
Basic and diluted net loss per common share $ (0.40) $ (0.54) $ (0.19) $ (5.09)
============= ============= ============= =============
Weighted average number of shares outstanding 9,739,000 9,874,000 10,144,000 6,164,000
============= ============= ============= =============
BALANCE SHEET DATA: December 31,
----------------------------------
2001 2002
---- ----
Cash and short-term investments $8,708,254 $3,896,853
Working capital 8,598,595 3,840,357
Total assets 9,122,767 4,328,784
Total liabilities 142,986 62,450
Redeemable preferred stock 4,035,536 3,923,034
Stockholders' equity 4,944,245 343,300
June 30, 2003
---------------------------------------------
Actual Pro forma (1) Pro forma (2)
------ ------------- -------------
Cash and cash equivalents $2,179,035 $4,059,035 $5,939,035
Working capital 2,177,607 4,057,607 5,937,607
Total assets 2,702,235 4,582,235 6,462,235
Total liabilities 104,554 104,554 104,554
Redeemable preferred stock 3,848,551 3,848,551 3,848,551
Stockholders' equity 1,959,617 3,839,617 5,719,617
(1) This pro forma balance sheet data reflects net proceeds of $1,880,000
from the minimum offering.
(2) This pro forma balance sheet data reflects net proceeds of $3,760,000
from the maximum offering.
3
RISK FACTORS
THE SHARES WE ARE OFFERING ARE HIGHLY SPECULATIVE IN NATURE AND INVOLVE
A HIGH DEGREE OF RISK. THEY SHOULD BE PURCHASED ONLY BY PERSONS WHO CAN AFFORD
TO LOSE THEIR ENTIRE INVESTMENT. THEREFORE, EACH PROSPECTIVE INVESTOR SHOULD,
PRIOR TO PURCHASE, consider carefully the following information about these
risks, together with other information contained in this prospectus and our
filings with the Securities and Exchange Commission. If any of the following
risks actually occur, our business, financial condition and prospects would
likely suffer. Additional riskS and uncertainties not presently known to us or
that we currently CONSIDER immaterial may also impair our operations.
RISKS ASSOCIATED WITH OUR COMPANY AND ITS BUSINESS
EVEN IF THIS OFFERING IS SUCCESSFUL, WE WILL NEED TO RAISE ADDITIONAL
FUNDS TO SUPPORT OUR OPERATIONS. IF WE ARE UNABLE TO RAISE THESE FUNDS, WE WILL
BE UNABLE TO COMPLETE OUR PRODUCT DEVELOPMENT AND WILL NEED TO REDUCE OR CEASE
OUR OPERATIONS.
Our independent auditors' opinion on our 2002 financial statements
(which were filed with the SEC on April 30, 2003 in our annual report on Form
10-KSB, as amended) includes an explanatory paragraph indicating substantial
doubt about our ability to continue as a going concern. We currently are able to
pay our debts and meet our obligations as they become due, and we believe that
our existing capital resources will be sufficient to satisfy our current and
projected funding requirements for the next several months, which should carry
us through the first quarter of 2004. If the Minimum Offering of $2,000,000 is
raised, we estimate that the net proceeds will be sufficient to permit us to
operate through year-end 2004 while we complete the preclinical studies and the
initial Phase I/II human clinical trial for ENT-103. If the Maximum Offering of
$4,000,000 is raised, we estimate that the net proceeds of this offering will be
sufficient to permit us to operate for an additional six months (through the
second quarter of 2005) and possibly longer while we complete our Phase II human
clinical trials for ENT-103.
Even if this offering is successful, we will need to raise additional
funds to continue the development of ENT-103 and complete the FDA approval
process, which we expect will cost less than $100 million. Our future funding
requirements will depend on many factors, including:
o progress with preclinical and toxicology studies of ENT-103;
o the costs of clinical tests and obtaining regulatory approval
for ENT-103;
o the costs and expenses associated with defending against the
securities lawsuit recently filed against us and certain of
our executive officers;
o the magnitude of our research and development programs;
o the costs involved in obtaining and maintaining patent and
other intellectual property rights; and
o the cost of manufacturing and of commercialization activities
and arrangements.
We intend to seek additional funding to support our future operations
through public or private sales of our equity or debt securities. Any additional
equity or debt financings would be dilutive to our stockholders. We also intend
to seek additional funding through potential corporate partnerships, licensing
arrangements and/or merger/acquisition transactions. Any such collaborative
arrangements, if necessary to raise additional funds, may require us to
relinquish rights to some of our technologies or products, and may be dilutive
to our stockholders. We cannot guarantee that we will be able to secure
additional funds on reasonable terms, or at all. If we are unable to obtain
additional funds to support our operations, we will be unable to complete our
product development and will need to reduce or cease our operations.
4
WE HAVE A HISTORY OF LOSSES AND WE MAY NEVER ACHIEVE OR MAINTAIN
PROFITABILITY.
To date we have experienced significant operating losses in funding the
research, development and testing of our previous drug candidate, Esterom
solution, and our subsequent and current drug candidates, ENT-102 and ENT-103.
We expect to continue to incur substantial operating losses during our research,
development and preclinical testing of ENT-103 and during the regulatory
approval process for ENT-103, including filing a New Drug Application and
conducting clinical trials. From our inception through June 30, 2003, we have
incurred cumulative net operating losses of $31.4 million. We will not be able
to pursue generating revenues from sales of ENT-103 unless it is approved by the
FDA for marketing. FDA approval will take several years, if ENT-103 is approved
at all. In addition, even if we successfully complete this offering, we will
need to raise substantial additional capital to pursue the regulatory approval
of ENT-103. As a result, we may never achieve a profitable level of operations,
or even if we achieve profitability, we may not be able to sustain it on an
ongoing basis.
NEGATIVE OR INCONCLUSIVE RESULTS GENERATED BY OUR ONGOING PRECLINICAL
STUDIES OF ENT-103 WILL HAVE A MATERIAL ADVERSE EFFECT ON OUR OPERATIONS AND
PROSPECTS.
To date, we have completed limited preclinical studies on our sole drug
candidate, ENT-103. We are currently in the process of conducting additional
preclinical and toxicology studies that will be important in determining whether
ENT-103 remains a viable drug candidate. We can give no assurances as to the
results of or the time to complete these preclinical studies. ENT-103 may be
found to be ineffective or cause harmful side effects during preclinical
testing. In addition, interim results do not necessarily predict final results.
Negative or inconclusive results generated during these preclinical or
toxicology studies, or any future clinical studies, will have an immediate
material adverse effect on our operations and future prospects. In addition, any
delay in the timing of the preclinical studies will adversely affect our ability
to meet certain milestones, which could significantly harm our prospects given
our limited remaining funds. Further, any negative results or delay in the
preclinical studies will adversely affect our ability to raise additional funds
through the issuance of securities or consummation of corporate partnering
relationships.
IF WE FAIL TO OBTAIN REGULATORY APPROVAL TO COMMERCIALIZE ENT-103, OR
IF APPROVAL IS DELAYED, IT WILL INCREASE THE COST OF DEVELOPMENT, AND WILL
LIKELY PREVENT OR DELAY OUR ABILITY TO SELL ENT-103 AND GENERATE REVENUE.
Our only current drug candidate, ENT-103, is in the preclinical
development stage and we do not anticipate beginning human clinical trials with
ENT-103 until the third quarter of 2004. We have not yet filed an application to
commence human clinical trials, known as an Investigational New Drug, or IND,
application, nor have we requested or received regulatory approval from the FDA
for marketing products containing ENT-103. Neither ENT-103 nor any other
products that may result from our research and development programs are expected
to be commercially available for several years, if at all.
The development of new pharmaceutical products is highly uncertain and
subject to a number of risks. The FDA approval process generally takes years and
consumes substantial capital resources with no assurance of ultimate success. We
cannot apply for FDA approval to market ENT-103 until the product successfully
completes all of the required clinical trials. Several factors may prevent our
successful completion of the clinical trials, including negative or inconclusive
preclinical results, failure or delays in the FDA approval process, insufficient
capital resources, inability to properly design and complete clinical trials or
insufficient proof that ENT-103 is safe and effective.
There can be no assurance that development of ENT-103 will be completed
successfully, that we will not encounter problems in preclinical studies or
clinical trials that will cause the delay or suspension of such trials, that
current or future testing will show ENT-103 to be effective or that ENT-103 will
receive regulatory approval. Moreover, even if ENT-103 does receive regulatory
approval, there can be no assurance that ENT-103 will be commercially
successful, or have all of the patent and other regulatory protections necessary
to prevent competitors from producing similar products. The failure of ENT-103
to receive timely regulatory approval and achieve commercial success will have a
material adverse effect on our business and results of operations.
In addition, as a controlled substance, ENT-103 will be subject to
expensive and burdensome administrative requirements that will increase our
costs.
5
WE RELY ON THIRD PARTIES TO TEST, RESEARCH, DEVELOP AND MANUFACTURE
ENT-103 AND THOSE THIRD PARTIES MAY NOT PERFORM SUCCESSFULLY, WHICH COULD HARM
OUR BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
We depend on contractual arrangements with third parties for the
provision of services and expertise in selected areas. Under these contractual
arrangements, third parties are responsible for:
o conducting preclinical research and toxicology studies;
o conducting clinical trials and obtaining regulatory approvals;
o process and analytical methods development;
o clinical supply and commercial manufacturing;
o product packaging;
o research; and
o enhanced drug formulation(s).
Our existing contractual relationships place substantial responsibility
on these third parties, which could result in delays or termination if they fail
to perform as predicted. We may not be able to maintain these existing
relationships, or establish new ones on favorable terms, if at all. If these
third parties fail to perform their contractual obligations, it could have a
material adverse effect on our business and results of operations.
WE ARE DEPENDENT ON CONTRACT MANUFACTURERS FOR THE PRODUCTION OF
ENT-103 AND OUR FAILURE TO OBTAIN OR RETAIN THESE CONTRACT MANUFACTURERS WOULD
HAVE A MATERIAL ADVERSE AFFECT ON OUR BUSINESS AND RESULTS OF OPERATIONS.
We have, and currently plan to continue to utilize, third party
manufacturing for the production of material for use in our research and
clinical trials and for the potential commercialization of ENT-103 and any
future products we may develop. We have no experience in manufacturing and do
not have any manufacturing facilities. Consequently, we are solely dependent on
contract manufacturers for all production of ENT-103 for development and
commercialization purposes. In the event that we are unable to obtain or retain
third-party manufacturing, we will not be able to manufacture ENT-103 as
planned.
IF WE ARE UNABLE TO DEFEND OUR PATENTS AND PROPRIETARY RIGHTS, OR IF
OTHERS DEVELOP SUBSTANTIALLY EQUIVALENT PRODUCTS, OUR BUSINESS WOULD BE
IMPACTED.
Our patent, trademarks and other intellectual property rights are
important to our success. Others may challenge, seek to invalidate, infringe or
circumvent any patents we own, and the rights we have under those patents may
not provide competitive advantages to us. If we are unable to defend our
existing patents or if others develop similar products beyond the protection of
our existing patents, our business could be impaired.
In addition, the manufacture, use or sale of our products may infringe
on the patent rights of others. Competitors and other third parties may initiate
patent litigation against us in the United States or in foreign countries based
on existing patents or patents that may be granted in the future. Many of our
competitors have obtained patents covering competing products and processes and
they may assert these patents against us. Patent litigation can be extremely
expensive and time consuming.
We may also need to initiate litigation, which could be time-consuming
and expensive, to enforce our proprietary rights or to determine the scope and
validity of others' rights. Any such litigation could result in substantial
costs and diversion of resources, regardless of the outcome. In addition, a
court may find our patents invalid or may find that we have infringed on a
competitor's rights. If any claims or actions are asserted against us, we may be
required to participate in expensive interference proceedings to determine who
has the right to a patent for the technology.
6
WE MAY BE EXPOSED TO PRODUCT LIABILITY CLAIMS THAT COULD ADVERSELY
AFFECT OUR BUSINESS AND FINANCIAL CONDITION.
The clinical testing of products containing ENT-103 entails risk of
product liability claims. Medical testing has historically been litigious and we
face financial exposure to product liability claims in the event that use of our
products results in personal injury. We also face the possibility that defects
in the manufacture of ENT-103 based products might necessitate a product recall.
There can be no assurance that we will not experience losses due to product
liability claims or recalls in the future. We currently have no product
liability insurance, although we anticipate purchasing product liability
insurance in reasonable and customary amounts prior to our sale of ENT-103 based
products. Such insurance can be expensive, difficult to obtain and may not be
available in the future at reasonable cost or in sufficient amounts to protect
us against losses. An inability to maintain insurance or to otherwise protect
against potential product liability could prevent or inhibit the
commercialization of ENT-103 products. Moreover, a product liability claim in
excess of our insurance coverage limits or product recall could have a material
adverse effect on our business, financial condition and results of operations.
WE MAY FACE INTENSE COMPETITION AND MAY NOT BE ABLE TO COMPETE
EFFECTIVELY.
The pharmaceutical industry is characterized by intense competition and
is subject to rapid and significant technological change. Rapid technological
development may cause ENT-103 and any other products we develop to become
obsolete before we can recoup all or any portion of our development expenses.
Our competitors include major pharmaceutical companies, biotechnology firms,
universities and other research institutions, both in the United States and
abroad, which are actively engaged in research and development of products in
the therapeutic areas being pursued by us. Most of our competitors have
substantially greater financial, technical, manufacturing, marketing and human
resource capabilities than us. In addition, many of our competitors have
significantly greater experience in testing new or improved therapeutic products
and obtaining regulatory approval of products. Accordingly, our competitors may
succeed in obtaining regulatory approval for their products more rapidly than we
are able to obtain approval for ENT-103. If we commence significant commercial
sales of our products, we will also be competing with respect to manufacturing
efficiencies and marketing capabilities, areas in which we have no prior
experience.
RAPID TECHNOLOGICAL CHANGE COULD MAKE OUR PRODUCTS OBSOLETE.
Pharmaceutical technologies have undergone rapid and significant
change. We expect that pharmaceutical technologies will continue to develop
rapidly. Our future will depend in large part on our ability to maintain a
competitive position with respect to these technologies. Any compounds, products
or processes that we develop may become obsolete before we recover any expenses
incurred in connection with their development. Rapid technological change could
make our products obsolete, which could materially adversely affect our
business, financial condition and results of operations.
WE DEPEND ON KEY PERSONNEL WHO WOULD BE DIFFICULT TO REPLACE AND OUR
BUSINESS WILL LIKELY BE HARMED IF WE LOSE THEIR SERVICES.
Our future operating results depend in significant part on the
continued contributions of our management personnel, who would be difficult to
replace. In addition, we rely on the current members of our Scientific and
Advisory Board and a significant number of consultants to assist in formulating
our research and development strategy. The loss of any these people could impede
the achievement of our objectives and our business would likely be harmed.
WE ARE EXPOSED TO VARIOUS LEGAL PROCEEDINGS, WHICH IF DETERMINED
ADVERSELY, COULD NEGATIVELY AFFECT OUR BUSINESS AND RESULTS OF OPERATIONS.
In February 2003, a complaint was filed in the Superior Court of the
State of California against us and certain of our executive officers seeking
unspecified damages and alleging that the defendants violated federal and state
securities laws. Although we believe the claims are without merit and have filed
a motion for summary judgment, we can provide no assurances that we will succeed
in defending or settling this action. In addition, we will incur legal and other
fees to defend against this action and our management team may be distracted or
need to devote significant time to this matter. As a result, there can be no
assurance that the action will not have a material adverse effect on our
business.
7
RISKS OF THE OFFERING
THE EXISTING TRADING MARKET FOR OUR SECURITIES IS LIMITED.
Our common stock was recently delisted from the Nasdaq SmallCap Market
and now trades on the NASD OTC Bulletin Board. Securities trading on the OTC
Bulletin Board typically suffer from lower liquidity, which may lead to
depressed trading prices. Prior to this offering, there has been a limited
trading market for our common stock. No prediction can be made as to when, if
ever, a fully developed public market for the common stock will occur. If a
developed public trading market for the common stock does develop at a future
time, there are no assurances that it will be sustained for any period of time.
Any sales of shares by stockholders in substantial amounts in the public market
could adversely affect the prevailing market price and could impair our future
ability to raise capital through the sale of equity securities.
In addition, the SEC has adopted regulations which generally define
"penny stock" to be any listed, trading equity security that has a market price
less than $5.00 per share or an exercise price of less than $5.00 per share.
These requirements may restrict the ability of broker-dealers to sell our common
stock and may affect the ability of purchasers in this offering to sell our
securities in the secondary market.
WE MAY SPEND THIS OFFERING PROCEEDS IN WAYS WITH WHICH OUR STOCKHOLDERS
MAY NOT AGREE.
In order to accommodate changing circumstances, our management may
reallocate the proceeds of this offering among the purposes specified in the
section of this prospectus captioned "USE OF PROCEEDS." Accordingly, our
management will have broad discretion in the application of the proceeds of this
offering. We cannot predict that the proceeds will be invested to yield a
favorable return.
WE MAY SELL ADDITIONAL SHARES OF CAPITAL STOCK IN THE FUTURE, WHICH
COULD DILUTE YOUR INVESTMENT.
Our Certificate of Incorporation authorizes the issuance of up to
50,000,000 shares of common stock and up to 20,000,000 shares of preferred
stock. Upon the sale of shares offered pursuant to this prospectus (assuming the
Maximum Offering is completed), there will be 31,545,341 shares of common stock
issued and outstanding and 3,210,487 shares of Series A' Preferred stock. We may
seek to raise additional capital to meet our financial needs at any time and
from time to time as our Board of Directors deems necessary and in our best
interests, through the sale of equity or other securities. Our Board of
Directors has the power to issue substantial additional shares of common stock
and preferred stock without stockholder approval. Potential investors should be
aware that any such stock issuance may result in reduction of the book value or
market price, if any, of the outstanding shares of common stock. If we issue any
additional shares of common stock or preferred stock, such issuance will reduce
the proportionate ownership and voting power of each other stockholder. Further,
any new issuance of shares may result in a change in control of our company.
OUR STOCK PRICE HAS BEEN VOLATILE AND MAY CONTINUE TO EXPERIENCE
SIGNIFICANT PRICE FLUCTUATIONS.
The market prices and trading volumes for our securities, and the
securities of development stage companies in general, have historically been
highly volatile and have experienced significant price and volume fluctuations
that are unrelated to operating performance. As a result, you may not be able to
sell your shares at or above the offering price.
The following factors may have an adverse effect on the price of our
securities:
o announcements of the results of research or development by us
or by our competitors;
o preclinical and/or clinical trial results;
o our failure to receive regulatory approval;
o government regulation of our industry;
o developments concerning patents or other proprietary rights;
8
o sales of substantial amounts of our common stock by existing
stockholders; and
o comments by securities analysts and market or economic
conditions in general.
The market price of our common stock may continue to experience
significant fluctuations in the future, including fluctuations that are
unrelated to our performance.
USE OF PROCEEDS
We estimate the proceeds from the sale of the shares we are offering to
be $3,760,000 if the Maximum Offering of $4,000,000 in shares are sold in this
offering, and $1,880,000 if the Minimum Offering of $2,000,000 in shares are
sold in this offering, in each case after deducting expenses payable by us in
connection with this offering. These offering expenses include, but are not
limited to, a 6% commission to be paid to our placement agent for all shares
sold in this offering. See "PLAN OF DISTRIBUTION."
We believe our current cash and short-term investments will be
sufficient to fund our operations through the first quarter of 2004. If the
Minimum Offering of $2,000,000 is raised, we estimate that the net proceeds will
be sufficient to allow us to operate through year-end 2004 while we complete the
preclinical studies and the initial Phase I/II human clinical trial for ENT-103.
If the Maximum Offering of $4,000,000 is raised, we estimate that the net
proceeds of this offering will be sufficient to allow us to operate for an
additional five to six months while we complete our Phase II human clinical
trials for ENT-103. We expect to use the net proceeds of this offering as
follows:
AMOUNT OF PROCEEDS
------------------
MINIMUM MAXIMUM
USE(S) OFFERING OFFERING
------ -------- --------
Preclinical development of ENT-103 ...................... $ 1,200,000 $ 1,200,000
Phase I/II Clinical Trial for ENT-103 ................... 125,000 125,000
Phase II Clinical Trial for ENT-103 ..................... -- 1,000,000
General office and administrative expenses and working
capital (includes salaries, insurance, rent, travel
and professional fees) ................................ * 555,000 $*1,435,000
------------ ------------
$ 1,880,000 $ 3,760,000
============ ============
____________
*Additional expenditure after using currently available cash and cash
equivalents.
Pending utilization of the net proceeds of this offering as set forth
above, we intend to make deposits in interest bearing accounts, purchase
certificates of deposit, United States government obligations or other short
term, investment-grade, interest-bearing investments.
THESE ESTIMATES ARE SUBJECT TO MATERIAL CHANGE IF, IN THE OPINION OF
MANAGEMENT, OUR ACTUAL OPERATIONS JUSTIFY DIFFERENT EXPENDITURES OR A DIFFERENT
ALLOCATION OF PRIORITIES.
9
MARKET FOR COMMON STOCK AND RELATED STOCKHOLDER MATTERS
PRICE RANGE OF COMMON STOCK
From February 25, 1998 until March 13, 2000, our common stock traded on
the OTC Bulletin Board under the trading symbol "ETOP." From March 14, 2000 to
June 25, 2003, our common stock was traded on the Nasdaq SmallCap Market under
the trading symbol "ETOP." Since June 26, 2003, our common stock has been traded
on the OTC Bulletin Board under the trading symbol "ETOP." Although quotations
for shares of our common stock may be obtained through the OTC Bulletin Board,
because secondary market activity for shares of our common stock has been
limited and sporadic, such quotations may not accurately reflect the price or
prices at which purchasers or sellers would currently be willing to purchase or
sell such shares. The quotations on the OTC Bulletin Board reflect inter-dealer
prices, without retail mark-up, mark-down or commission, and may not necessarily
represent actual transactions. The following table sets forth the high and low
closing prices per share for our common stock for the quarters indicated.
Year ended December 31, 2001 High Low
---------------------------- ----- ----
First Quarter............................... $3.59 $1.63
Second Quarter.............................. $2.60 $1.56
Third Quarter............................... $2.13 $1.63
Fourth Quarter.............................. $2.30 $1.87
Year ended December 31, 2002 High Low
---------------------------- ----- ---
First Quarter............................... $3.80 $2.05
Second Quarter.............................. $3.85 $2.36
Third Quarter............................... $3.73 $0.38
Fourth Quarter.............................. $0.44 $0.27
Year ending December 31, 2003 High Low
----------------------------- ----- ---
First Quarter............................... $0.92 $0.25
Second Quarter.............................. $1.10 $0.33
Third Quarter............................... $0.80 $0.45
On October 30, 2003, the closing price of our common stock on the OTC Bulletin
Board was $0.28 per share.
STOCKHOLDERS
As of October 15, 2003, approximately 360 holders of record owned
approximately 5,447,205 shares of our common stock with the remaining shares
held in street name through registered brokers. As of October 15, 2003,
approximately 24 holders of record owned warrants to purchase a total of 983,500
shares of our common stock, with the remaining warrants held in street name
through registered brokers.
DIVIDENDS
We have never declared or paid dividends on our common stock and do not
intend to pay dividends on our common stock in the foreseeable future. Instead,
we intend to retain any earnings to finance the expansion of our business and
for general corporate purposes. Any payment of dividends on the common stock is
subject to the prior dividend rights of the outstanding Series A' Preferred
stock.
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONJUNCTION
WITH THE AUDITED AND UNAUDITED FINANCIAL STATEMENTS AND NOTES THERETO INCLUDED
IN THIS PROSPECTUS.
The following Management's Discussion and Analysis of Financial
Condition and Results of Operations may contain forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended and are subject to the Safe Harbor provisions created by that statute.
Our business and results of operations are subject to various risks and
uncertainties including, but not limited to, those discussed under the caption
"Risk Factors" included elsewhere in this report, and in the risk factors
contained in our periodic reports filed with the Securities and Exchange
Commission. Such risk factors include, but are not limited to, our need and
ability to raise significant additional capital; our history of significant
operating losses; the ability to successfully complete formulation, development
and preclinical studies for our sole drug candidate, ENT-103; the time, cost and
uncertainty of obtaining regulatory approvals; and the ability to successfully
commercialize products. The actual results that we achieve may differ materially
from any forward-looking statements due to such risks and uncertainties and we
undertake no obligation to update any such forward-looking statements.
OVERVIEW
We were incorporated in California in 1984 as Entropin, Inc., or old
Entropin, and in 1998 completed a merger with and into Vanden Capital Group,
Inc. pursuant to which all of the issued and outstanding common shares of old
Entropin were converted into a majority of Vanden's common stock. Vanden
subsequently changed its name to Entropin, Inc. For accounting purposes, the
acquisition was treated as a recapitalization of old Entropin based upon
historical cost, with old Entropin as the acquirer. In conjunction with the
merger, Entropin, Inc. became a Colorado corporation. In June 2002, we changed
our state of incorporation from Colorado to Delaware.
From our inception in August 1984, we have devoted our resources
primarily to funding our research and development efforts and conducting
clinical trials on our products. We have been unprofitable since inception and
have had no revenue from the sale of products, and do not expect revenue for the
foreseeable future until we have received FDA approval for one of the
proprietary compounds we are attempting to develop. We expect to continue to
incur losses for the foreseeable future through the completion of our
preclinical and clinical trials and the FDA approval process. As of June 30,
2003, our accumulated deficit was approximately $31.3 million.
RESEARCH AND DEVELOPMENT
Prior to our current focus on ENT-103, we completed four preclinical
animal studies, Phase I, Phase II and Phase II/III human clinical trials for our
first product, known as Esterom solution. In January 2002, we reported that our
researchers at Harvard Medical School had identified the active ingredient in
Esterom solution, which we named ENT-102. Results of our initial preclinical
studies revealed that ENT-102 effectively blocks nerve impulse conduction and
when injected into animals may have long-lasting properties to reduce and manage
pain.
Based on these findings and the results of our Phase II/III clinical
study with Esterom solution, we decided to forego further development of Esterom
solution and pursue development of ENT-102. In January 2003, we announced the
discovery of a new chemical entity, ENT-103, a simplified derivative of ENT-102.
ENT-103 is a single chemical compound that exists as a single molecular species.
In contrast, ENT-102 is a single chemical compound comprised of a mixture of
four chemical species. Due to the demonstrated pain reduction equivalency of
ENT-103 and ENT-102 in preclinical studies, and the advantages of pursuing
regulatory approval with a single molecule versus a mixture of four molecules,
we decided to focus on the development of ENT-103 as a therapy for treatment of
acute pain.
As of June 30, 2003, we have spent a total of approximately $31.4
million developing ENT-103 and its predecessor products, ENT-102 and Esterom
solution.
11
PLAN OF OPERATION
Based on our current operating budget, we believe our existing
resources will fund our operations for approximately the next several months,
through the first quarter of 2004. If the Minimum Offering of $2,000,000 is
raised, we estimate that the net proceeds will be sufficient to permit us to
operate through year-end 2004 while we complete the preclinical studies and the
initial Phase I/II human clinical trial for ENT-103. We intend to use our
remaining funds to continue to cover operating costs and finance limited
development of our proprietary compound, ENT-103.
We recognize our need to obtain additional funds to support our
operations. With this in mind, we have retained the investment banking firm,
InvestLinc Capital Services LLC. We believe that InvestLinc will be able to
assist us in identifying potential strategic relationships and sources of
additional capital to finance our growth and further development of our
proprietary compound, ENT-103. We also believe that InvestLinc will help us
identify potential investors and/or strategic partners, including merger and
acquisition candidates. We cannot guarantee that we will be able to accomplish
our financing goals, establish suitable strategic relationships or identify
suitable merger or acquisition candidates. Moreover, our actual expenses,
obligations and liabilities may exceed those estimated in our budget, which
would significantly shorten the time in which we could maintain our operations
without obtaining additional funds.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2002, COMPARED TO YEAR ENDED DECEMBER 31, 2001.
The net loss for the year 2002 was approximately $5.4 million, or $0.54
per basic and diluted share on approximately 9.9 million weighted average shares
outstanding. In comparison, the net loss for the year 2001 was approximately
$3.9 million, or $0.40 per share on approximately 9.7 million weighted average
shares outstanding. The net loss incurred during 2002 exceeds the net loss
incurred during 2001, primarily because of the costs associated with conducting
and closing our clinical trial for Esterom(R) solution during 2002.
Total research and development expenses were approximately $3.0 million
for 2002, as compared to approximately $2.3 million for 2001. These expenses
include non-cash compensation expense associated with stock issued and stock
options granted in exchange for services of approximately $3,000 in 2002 and
approximately $18,000 in 2001.
Total general and administrative expenses were approximatly $2.4
million for 2002, as compared to approximately $2.0 million for 2001. These
expenses include non-cash compensation expense associated with stock issued and
stock options granted in exchange for services of approximately $545,000 in 2002
and approximately $580,000 in 2001.
The decrease in non-cash compensation from 2001 to 2002 reflects the
declining value of stock options granted in exchange for services as the
underlying stock price declined and the options vested and were fully expensed.
Our interest income was approximately $190,000 in 2002, as compared to
approximately $497,000 in 2001. This decrease reflects lower balances and
declining interest rates for cash, cash equivalents and short-term investments
during 2002.
QUARTER AND SIX MONTHS ENDED JUNE 30, 2003, COMPARED TO QUARTER AND SIX
MONTHS ENDED JUNE 30, 2002.
The net loss for the first six months of 2003 was approximately
$1,921,000, or $0.19 per basic and diluted share on approximately 10.1 million
weighted average shares outstanding. In comparison, the net loss for the first
six months of 2002 was approximately $3,145,000 million, or $0.32 per share on
approximately 9.9 million weighted average shares outstanding. The net loss
incurred during the first six months of 2002 exceeded the net loss incurred
during the first six months of 2003, primarily because of the costs associated
with conducting our clinical trial for Esterom solution during 2002.
Total research and development expenses were approximately $504,000 for
the first six months of 2003, as compared to approximately $1,894,000 for the
first six months of 2002. Research and development expenses during the first six
12
months of 2002 exceeded expenses during the first six months of 2003, primarily
because of clinical trial expenses incurred during 2002.
Total general and administrative expenses were approximately $1,401,000
for the first six months of 2003, as compared to approximately $1,317,000 for
the first six months of 2002. These expenses include non-cash compensation
expense associated with stock issued and stock options granted in exchange for
services of approximately $218,000 for the first six months of 2003 and
approximately $306,000 for the first six months of 2002.
We earned interest income of approximately $16,800 during the first six
months of 2003, as compared to approximately $108,000 during the first six
months of 2002. This decrease reflects lower balances and declining interest
rates for cash, cash equivalents and short-term investments during 2003.
LIQUIDITY AND CAPITAL RESOURCES
We have financed our operations since inception primarily through the
net proceeds generated from the sale of our common and preferred stock, and
through loans and advances from stockholders that were subsequently converted
into equity securities. From inception through June 30, 2003, we have received
net cash proceeds from financing activities aggregating approximately $20.3
million. As of June 30, 2003 and September 30, 2003, our working capital was
approximately $2.2 million and approximately $1.6 million, respectively.
Our liquidity and capital needs relate primarily to working capital,
research and development of ENT-103, and other general corporate requirements.
We have not received any cash from operations since inception. Based on our
current plans, we believe that our available resources will provide sufficient
capital resources to fund our operations through the first quarter of 2004.
Expectations about our liquidity may prove inaccurate if development progress
for our proprietary compounds is delayed, or if our expenses are greater than
currently anticipated. We will not generate revenue from sales of any products
in the foreseeable future.
On August 11, 2003, the holders of all outstanding shares of Series B
preferred stock exchanged each share of Series B preferred stock for 9.4967
shares of common stock pursuant to a recapitalization agreement with the
Company. As a result, there are no shares of Series B preferred stock
outstanding subsequent to August 11, 2003.
Net cash used in operating activities was approximately $4.7 million
and $1.7 million during fiscal 2002 and the first six months of 2003,
respectively, compared with approximately $3.1 million and $2.7 million during
fiscal 2001 and the first six months of 2002, respectively. The cash used in
operations was primarily related to funding clinical trials, expanding research
and development activities and maintaining our administrative infrastructure. As
of June 30, 2003 and September 30, 2003, our principal source of liquidity was
approximately $2.2 million in cash and approximately $1.5 million in cash,
respectively.
We believe that our operating expenses will remain relatively low until
we complete our preclinical research and will increase as we proceed with
clinical trials, the new drug application, or NDA, process and other activities
related to the FDA approval process. The estimated period for which we expect
available sources of cash to be sufficient to meet our funding needs is a
forward-looking statement that involves risks and uncertainties. We will need to
raise additional capital to fund future clinical trials and continue other
research and development activities. Our future liquidity and capital funding
requirements will depend on numerous factors, including the success or failure
of our preclinical research and studies on ENT-103, the timing of future
clinical trials and other activities related to the FDA approval process, the
cost and timing of sales, marketing and manufacturing activities, the extent to
which our products, if any, gain market acceptance, and the impact of
competitors' products. There can be no assurance that such additional capital
will be available on terms acceptable to us, if at all. If adequate funds are
not available, we may be forced to significantly curtail our operations or to
obtain funds through entering into collaborative agreements or other
arrangements that may be on unfavorable terms. Our failure to raise sufficient
additional funds on favorable terms, or at all, would have a material adverse
effect on our business, results of operations and financial position.
As of June 26, 2003, our common stock and warrants were delisted from
the Nasdaq SmallCap Market for failure to comply with the $1.00 minimum bid
price requirement. Our common stock and warrants now trade on the OTC Bulletin
Board under the symbols "ETOP" and "ETOPW," respectively. Trading on the OTC
Bulletin Board could result in a less liquid market available for existing and
potential investors to trade shares of our common stock and warrants and could
ultimately further depress the trading price of our common stock and warrants.
13
In addition, we may have more difficulty in raising necessary additional funds
as a result of not trading on the Nasdaq SmallCap Market.
To meet future capital needs, we are currently pursuing the following
financing options:
o stock offerings, such as this offering,
o licensing agreements with established pharmaceutical
companies, and
o investment from, and partnership(s) with, established
pharmaceutical companies.
We are currently open to licensing discussions with established
pharmaceutical companies that have drugs or research and development efforts in
areas complementary to those in which we have a focus. We believe that ENT-103
can be a complementary co-therapeutic agent for drugs targeting the pain market.
Our management is also pursuing direct investments by strategic partners. The
desired strategic partner would be expected to participate in the development
process from a scientific advisory board standpoint and in any other manner that
is deemed mutually beneficial. There can be no assurance that we will be able to
complete any of these arrangements or that it will be able to do so on terms we
deem acceptable.
CRITICAL ACCOUNTING POLICIES
We routinely grant stock options to compensate officers, directors and
employees for their services. This practice allows us to conserve our cash
resources for our drug development program. We have adopted the fair value
accounting provisions of Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation". Under these provisions, stock based
compensation is measured based on the fair value of the options granted using
the Black-Scholes option-pricing model. Amounts recorded for options granted to
non-employees are determined in accordance with Statement of Financial
Accounting Standards No. 123 and EITF 96-18 based on the fair value of the
consideration or the fair value of the equity instruments issued, whichever is
more reliably measured. Deferred charges related to options granted to
non-employees are periodically remeasured as the underlying options vest and are
included as unearned stock compensation in the stockholders' equity section of
the balance sheet.
RECENT ACCOUNTING PRONOUNCEMENTS
In November 2002, the Financial Accounting Standards Board ("FASB")
issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" ("FIN 45"). FIN 45 requires that a liability be recorded in the
guarantor's balance sheet upon issuance of a guarantee. In addition, FIN 45
requires certain disclosures about each of the entity's guarantees. The
disclosure provisions of FIN 45 are effective for annual and interim periods
that end after December 15, 2002. The recognition provisions of FIN 45 are
applicable prospectively to guarantees entered after December 31, 2002. The
adoption of FIN 45 effective January 1, 2003 did not have a material effect on
our results of operations or financial position.
In December 2002, the FASB issued SFAS No. 148, ACCOUNTING FOR
STOCK-BASED COMPENSATION, TRANSITION AND DISCLOSURE. SFAS No. 148 provides
alternative methods of transition for those entities that elect to voluntarily
adopt the fair value accounting provisions of SFAS 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION. SFAS No. 148 also requires more prominent disclosures
of the pro forma effect of using the fair value method of accounting for
stock-based employee compensation as well as pro forma disclosure of the effect
in interim financial statements. The transition and annual disclosure provisions
of SFAS No. 148 are effective for fiscal years ending after December 15, 2002.
The interim disclosure requirements are effective for the first interim period
ending after December 15, 2002. Entropin has previously adopted the fair value
accounting provisions of SFAS No. 123 and therefore the adoption of SFAS No. 148
did not have a material effect on the Company's results of operations or
financial position.
In May 2003, the FASB issued Statement of Financial Accounting
Standards No. 150, "Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity" ("SFAS No. 150"). This statement
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. This
statement is effective for financial instruments entered into or modified after
14
May 31, 2003, and otherwise is effective for the first interim period beginning
after June 15, 2003, with certain exceptions. We do not expect the adoption of
SFAS No. 150 to have a material effect on our results of operations or financial
position.
BUSINESS
BUSINESS OVERVIEW
Entropin is a pharmaceutical research and development company focused
on the development of proprietary compounds for pain therapy. Our primary
activities since inception have been research and development, including
preclinical studies, and tests focused on securing U.S. Food and Drug
Administration (FDA) approval for our proprietary compounds. We believe that our
current compound, ENT-103, has the potential to effectively treat a number of
medical conditions using various delivery systems. At present, we are actively
pursuing two delivery systems, injectable and topical, for ENT-103. A third
delivery system, inhalation therapy, is being evaluated. We believe that drugs
developed using our proprietary compound, ENT-103, could have a revolutionary
impact on the pain market.
The discovery of ENT-103 began in Northern California in August of
1984. Lowell M. Somers, M.D., a general practitioner, had identical twin
brothers as patients. The genetically identical twins were 35 years old and
appeared to be in good physical health until one developed severe rheumatoid
arthritis. Dr. Somers began to research how one twin could be symptom-free and
the other incapacitated and struggling to survive as a result of the disease.
Dr. Somer's investigation led to the discovery that the symptom-free twin was
addicted to cocaine (chemically known as benzoylmethylecgonine or BME). Based on
this knowledge, Dr. Somers began to look beyond the abusive characteristics of
cocaine to research the drug's potential medicinal characteristics. He began to
explore the potential of BME in his laboratory and developed a rudimentary
mixture of a drug later called Esterom. Dr. Somers administered the mixture to
the dying twin over a two-week period with remarkable results. Signs of active
arthritis began to disappear and the previously bed-ridden twin became more
mobile. Subsequent testing revealed that the previously debilitating rheumatoid
arthritis was in remission. Following this discovery, three more rheumatoid
arthritis patients were treated with the Esterom solution for two weeks each to
validate the initial results. The disease went into remission in all three
patients.
Cocaine (BME) has been used for over a century as a potent pain
reliever. Its use, however, was limited because of the potential for addiction
following repeated use of the drug. Although the Esterom solution is derived
from cocaine, we believe the results of Entropin's clinical studies indicate
that the Esterom solution does not demonstrate any of the adverse clinical
effects of cocaine, such as euphoria, rapid heart beat, or elevated blood
pressure and is non-addictive. We believe that our proprietary development
process allows us to isolate the positive medical benefits of cocaine and avoid
the negative side effects, potentially representing a major breakthrough in the
treatment of pain.
In the late 1980s Entropin filed an Investigational New Drug, or IND,
application with the FDA seeking approval of Esterom solution as a topical
application. Based on our successful completion of four preclinical animal
studies with no material adverse events, the FDA approved the application. In
1991, Entropin began a Phase I double-blind clinical toxicity study of Esterom
as a topically applied solution to determine the drug's safety profile. We
believe the results of the study returned the following positive findings:
o No significant changes in diastolic or systolic blood
pressure;
o No significant differences in blood pressure between active
and placebo;
o No significant differences in pulse rate between active and
placebo;
o No cardiovascular effects;
o No irritation attributed to Esterom;
o No central nervous system effects (including euphoria); and
o No change in blood chemistry.
15
A small number of patients reported mild pruritus (itching) and redness
(skin irritation) after the fifth day of application in both the drug and
placebo groups. A post study patch test performed on all subjects revealed no
evidence of allergic sensitization and suggested that this side effect was
likely related to the irritant effect of propylene glycol which was in both
Esterom and the placebo.
Phase I results were submitted to the FDA and Entropin was allowed to
proceed with a randomized double blind placebo controlled Phase II clinical
study to continue testing for any toxic effects and to begin determining the
efficacy of Esterom. Improvement in range of motion was measured in two separate
patient groups (acute back sprain and painful shoulders) to determine the drug's
efficacy. Entropin reported in January 1996 that the Phase II clinical trials
showed statistically significant improvement in range of motion was achieved in
both groups within ten minutes of application which was sustained for the length
of the study (seven days). No significant toxicity was observed.
Following the submission of the Phase II results, the FDA permitted
Entropin to proceed with a Phase III clinical study with primary endpoints
measuring shoulder range of motion and, at the FDA's request, quality of life
improvement, as measured by a subjective questionnaire. The results of this
Phase III study, released in October of 2000, indicated that Esterom showed some
degree of efficacy, although not at the statistically significant levels
required by the FDA. No significant adverse events (side effects) were observed.
Based on the positive dose trending and lack of toxicity observed in
our Phase III trials, we designed, and received FDA approval for, a Phase II/III
clinical study using a different subjective questionnaire to measure quality of
life improvement, as required by the FDA. Results of this trial were released in
September of 2002 and were similar to our earlier Phase III trial; Esterom
demonstrated safety and efficacy, but did not achieve the FDA required levels of
statistical significance.
DISCOVERY OF ENT-102 AND ENT-103
In an effort to understand Esterom's mechanism of action, or MOA, and
to identify and quantify each component of our Esterom solution, Entropin
contracted for the synthesis of each of the chemical entities in the Esterom
solution and began MOA studies with researchers from Brigham & Women's Hospital
at Harvard Medical School and the University of Arizona Medical Center.
From these studies, we discovered that Esterom works by effectively
blocking nerve impulse conduction, resulting in anesthetic and potentially
long-lasting analgesic properties. Having both anesthetic and analgesic
properties makes Esterom extremely unique. Testing the individual components
that comprise the Esterom solution, we discovered the hydroxypropyl esters of
benzoylecgonine, which we named ENT-102, are very potent and comprise the active
molecules in the mixture. In preclinical animal models, these molecules were
shown to be 30- to 50-times more potent as analgesics than their non-ester
parent compounds, and 5-times more potent than lidocaine, a commonly used
anesthetic for local analgesia (pain suppression). Subsequently, we discovered a
method of synthetically preparing ENT-102 and have U.S. and foreign patents
pending for this method.
Based on the discovery of ENT-102 and the preclinical research findings
at Harvard and the University of Arizona using ENT-102, coupled with the results
of our Phase II/III clinical study with Esterom solution, we decided to halt
further development of Esterom and pursue development of ENT-102. In January
2003, these development efforts yielded a new chemical entity, ENT-103, the
simplified next generation of ENT-102.
ENT-103 is a single chemical compound that exists as a single molecular
species. In contrast, ENT-102 is a single chemical compound comprised of a
mixture of four chemical species. Based on the demonstrated pain reduction
equivalency of ENT-103 and ENT-102 in preclinical studies, and the advantages of
pursuing regulatory approval with a single molecule versus a mixture of four
molecules, we elected to focus on the development of ENT-103 as a therapy for
treatment of acute pain.
In February 2003, our executive management team and Board of Directors
met with our key scientific advisors to review the progress of the preclinical
studies. Following that meeting, we assembled a committee of independent pain
experts to critique the work performed by our collaborators. The committee
performed an in-depth review of the research and the preclinical studies and
concluded, among other things, that ENT-103 appeared to demonstrate performance
as an active pain reliever in preclinical models for post-incisional pain and
neuropathic pain. Based on these conclusions, we were encouraged to continue our
preclinical research with ENT-103. Accordingly, we are now actively
16
investigating two delivery systems, injectable and topical, for administering
ENT-103. A third delivery system, inhalation therapy, is under consideration. It
is believed that ENT-103 may be effective for treating a number of medical
conditions using various delivery systems.
RELATED PRODUCTS
Our research has not only led to the discovery of ENT-103, but also to
the discovery of potential new therapeutic compounds using our proprietary
Structural Activity Relationship, or SAR, technology. We believe that this
technology will allow us to develop new pharmaceutical compounds by treating
compounds like building blocks. By combining different compounds in novel ways,
new products can be developed that are safer and more effective. For example,
minor chemical modifications have produced new non-steroidal anti-inflammatory
compounds that have fewer gastrointestinal side effects than the existing base
product currently on the market.
Two of Entropin's issued patents describe the SAR technology that forms
the basis for systematically developing New Chemical Entities, or NCEs, which
may expand our product pipeline. These NCEs have the potential for different
safety and efficacy profiles, as well as the potential for treating new and
different disease indications as compared to ENT-103 and Esterom solution. The
following table identifies the NCEs that combine benzoylecgonine with eight
chemical entities representing drugs currently on the market. The resulting NCEs
appear to combine the pain killing properties of ENT-103 with each of these
well-known anti-inflammatory compounds, resulting in potentially more potent
anti-inflammatory/analgesic products:
GENERIC NAME TRADE NAME
Acetylsalicylic acid Aspirin
Ibuprofen Advil
Piroxicam Feldene
Naproxen Naprosyn
Indomethacin Indocin
Fenoprofen Nalfon
Acetaminophen Excedrin
Mefenamic acid Ponstel
Although we have not commenced any pre-clinical or clinical trials
testing the safety or efficacy of these NCEs, we believe that the clinical
properties of the component parts will not be adversely affected by combining
the generic anti-inflammatory / analgesic product with ENT-103.
SCIENTIFIC OVERVIEW
When BME (cocaine) is mixed with a pharmaceutical solvent called
propylene glycol and heated under defined conditions, the addictive potential of
the BME is essentially eliminated. In our clinical studies using the Esterom
solution prepared in this manner, there was no evidence of any of the
physiological effects associated with the use of BME.
Our preclinical studies have shown that the removal of the chemical
structure called methyl from benzoylMETHYLecgonine and the substitution of a
propylene structure to give HYDROXYPROPYL benzoylecgonine, results in the
generation of a potent anesthetic/analgesic. As noted above, both our clinical
studies with Esterom solution and a study performed by our collaborators at
Research Triangle Institute indicate that little, if any,
HYDROXYPROPYLbenzoylecgonine is likely to pass into the brain.
There are two forms of propylene glycol - 1,2 and 1,3 propylene glycol
- - that can be used to prepare HYDROXYPROPYLbenzoylecgonine. We have called the
drug prepared using 1,2 propylene glycol ENT-102; drug prepared with 1,3
propylene glycol is called ENT-103. Both of these chemicals have been shown to
be active in preclinical testing in models for pain and both are potent
anesthetics/analgesics. The difference between the two compounds has to do with
the chemical structures and how they react with benzoylecgonine to form the
HYDROXYPROPYLbenzoylecgonine. Figure 1 below depicts the structure of ENT-102
and Figure 2 below depicts ENT-103. We believe that the relative chemical
simplicity of ENT-103 will make it easier to obtain regulatory approval of the
compound.
17
FIGURE 1
--------
ENT-102
[GRAPHIC DEPICTING CHEMICAL STRUCTURE APPEARS HERE]
FIGURE 2
--------
ENT-103
[GRAPHIC DEPICTING CHEMICAL STRUCTURE APPEARS HERE]
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In February 2003, we met with our key scientific advisors to review the
progress of the preclinical studies being performed at Harvard Medical School
and the University of Arizona. These preclinical studies indicate that ENT-103
performs as an active pain reliever in preclinical models for post-incisional
pain and neuropathic pain. Demonstrating preclinical pharmacology is the
essential first step in the development of a drug and the data reviewed at this
recent meeting continues to support the activity of ENT-103 as a potential new
pain therapeutic. The key scientific observations from our review of these
preclinical studies include:
o ENT-103 is effective in acute pain states;
o ENT-103 is effective against the consequences of acute
inflammatory pain;
o ENT-103 is effective against experimental neuropathic pain;
and
o ENT-103 suppresses the abnormal pain to tactile stimulation
that occurs after an incision.
Preclinical research conducted at the University of Arizona evaluated
the effects of ENT-103 in three pain models: (1) acute pain representative of
post-operative pain; (2) pain associated with acute and chronic inflammatory
pain; and (3) neuropathic pain. This preclinical research indicates that ENT-103
is an active compound that is effective in acute pain states, acute inflammatory
pain, and neuropathic pain, but does not alter chronic inflammatory pain at the
dose tested. Assuming the use of a delivery system that will effectively get the
drug to the site of action, ENT-103 has demonstrated efficacy in the treatment
of pain.
Research conducted at Harvard Medical School expanded studies of
ENT-103 to treat the elevated pain, or hyperalgesia, which follows a surgical
incision. These preclinical studies indicated that ENT-103 demonstrates complete
anesthesia of the skin for up to two hours after injection.
Our preclinical studies also revealed that ENT-103 has at least a
3-fold greater safety profile for cardiotoxic reactions over bupivacaine and
that ENT-103 was approximately 4-fold safer than bupivacaine with regard to
neurotoxicity. Additionally, through "in silico" (computerized prediction of
chemical activity) modeling, we have concluded that ENT-103 is expected to have
little blood-brain barrier penetration potential, suggesting that ENT-103 is
unlikely to pass from the bloodstream into the brain in any significant amount.
PRODUCT DEVELOPMENT STATUS
We have yet to commence human clinical studies with ENT-103. We expect
to complete our ENT-103 preclinical research and toxicology studies and begin
human trials in late 2004. In anticipation of the commencement of human clinical
studies, we have conducted and will continue to conduct preclinical testing as
required by the FDA. These studies include additional assessment of
pharmacologic activity, assessment of cardiotoxic and neurotoxic potential, as
well as other potential toxicology studies required by the FDA, and studies to
address the absorption, distribution, metabolism and elimination of ENT-103 in a
variety of formulations.
PRODUCTION PROCESS
The ENT series of compounds are manufactured from a readily available
source, pharmaceutical-grade cocaine. We obtain the starting material from our
manufacturing partner, Macfarlan Smith of Edinburgh, Scotland. Macfarlan Smith
is a 100+ year old company recognized as one of the premier active
pharmaceutical ingredient manufacturers and they are regarded as particularly
expert at the production of narcotic substances. We believe that we would be
able to obtain, on commercially reasonable terms, adequate supplies of the ENT
series compounds from another supplier if there was any significant disruption
of our supply relationship with Macfarlan Smith.
The production process, for which we have filed a manufacturing patent,
is a simple, straightforward three-step process that typically has yields in
excess of 95%. We have also prepared the free-base form and several salts of
ENT-103 that facilitate the development of various potential delivery forms of
ENT-103, such as a topical and/or inhaled form of the drug.
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MARKET OVERVIEW
Pain is common to nearly all medical conditions. The type and severity
of the pain determines the treatment. For this reason, the pharmaceutical market
for pain is divided into two main categories, acute and chronic pain, and then
further segregated by the underlying disease causing the pain.
The characteristics of the pain market have been defined by Frontline
Strategic Management in a 2001 study entitled, "Pain Management: A Strategic
Market Analysis." The key market characteristics identified are:
o Total sales worldwide in 2000 for prescription drugs to treat
pain - $21.6 billion;
o U.S. prevalence (total number of patients with the medical
problem) of chronic pain - 85.1 million; and
o U.S. incidence (total number of occurrences of a medical
problem) of acute pain - 192.7 million.
There are two major classes of compounds to treat pain: non-steroidal
anti-inflammatory drugs (NSAIDs) and narcotics. According to Frontline, these
two classes of pain relievers had sales of more than $10 billion in the U.S.
alone in 2000. These drugs, however, often have significant side effects
associated with their use. A new product for the treatment of pain that does not
have the associated side effects could be expected to capture a significant
segment of this very large market.
We retained MediCorp, a division of the investment bank Leerink Swan,
to identify the segments of the pain market with major unmet needs. MediCorp's
medical consultants concluded that a product with the characteristics of ENT-103
has the potential to become a significant new medical product in the treatment
of a variety of significant indications, including the following:
o Herpes zoster (shingles);
o Post-operative pain;
o Lower-back pain;
o Fibromyalgia;
o Sprains and strains;
o Atopic dermatitis;
o Mucositis;
o Herpes simplex virus II;
o Minor dermatological procedures;
o Trigeminal neuralgia;
o Nerve entrapment syndromes;
o Intra-muscular injections;
o Oral & esophageal candidiasis; and
o Phelbotomy and IV placement.
We believe that the market for pharmaceutical products to treat pain
has substantial unmet needs and presents a substantial opportunity for Entropin.
Because ENT-103 can be formulated for topical and injectable delivery, we
20
believe our compound has the potential to address many unmet needs in this
market, such as an injected product for the treatment of post-operative pain and
a topical product for the treatment of a variety of localized painful conditions
including Herpes zoster (shingles), dermatologic/cosmetic procedures, and Herpes
simplex type II. Additionally, we have begun investigation into an inhalable
formulation of ENT-103 that may have use for the treatment of chronic pain. Each
of these indications represent large markets in the U.S. and abroad and we
believe that ENT-103 and related products discovered through our SAR technology
potentially represent significant advances in the treatment of patients in each
market.
COMPETITION
The pharmaceutical industry is characterized by rapidly evolving
technology and intense competition. Many companies of all sizes, including major
pharmaceutical companies and specialized biotechnology companies, may currently
be engaged in activities similar to our activities. Many of our competitors have
substantially greater financial and other resources and larger research and
development and clinical and regulatory affairs staffs. In addition, colleges,
universities, governmental agencies and other public and private research
organizations continue to conduct research and are becoming more active in
seeking patent protection and licensing arrangements to collect royalties for
use of technologies that they have developed, some of which may be in direct
competition with our proposed products. We also must compete with these
institutions in recruiting highly qualified scientific personnel. We do not have
the resources to compete with major pharmaceutical companies on a wide-scale
basis in the areas of preclinical and clinical testing, regulatory approvals,
manufacturing and marketing. In addition, many of our competitors have
significantly greater experience in testing new or improved therapeutic products
and obtaining regulatory approval of products. Accordingly, our competitors may
succeed in obtaining regulatory approval for their products more rapidly than we
are able to obtain approval for ENT-103.
The PhRMA "2003 Survey: Medicines In Development For Older Americans"
lists 29 products in various stages of development for the treatment of pain.
The products under development include new chemical entities as well as product
line extensions of existing products. Both large and small biotechnology and
pharmaceutical companies are supporting development of pain products. To the
best of our knowledge, none of these companies are developing products based
upon cocaine. In light of our patent portfolio, the tight import controls and
regulatory restrictions on cocaine and coca leaves (from which cocaine is
derived), and the fact that the active compound in cocaine cannot be synthesized
in the laboratory, we believe that there is a relatively small risk that another
pharmaceutical company will be able to successfully develop a pain product
derived from cocaine.
INTELLECTUAL PROPERTY
Our policy is to file patent applications to protect technology,
inventions and improvements to our inventions that are considered important to
the development of our business. In general, our patents relate to novel, active
ingredients that are useful in preventing and treating a number of important
diseases and disorders. These include immunoregulatory disorders, neuromuscular
disorders, joint disorders (including arthritis, osteoarthritis and related
inflammatory disorders), connective tissue disorders, circulatory disorders and
pain indications. We also have issued patents covering processes for producing
these compounds and for methods of treating or preventing multiple diseases and
disorders using these compounds.
We currently hold 63 issued and pending patent applications worldwide,
including seven issued U.S. patents and 42 issued foreign patents; we have four
patents pending in the U.S. The issued U.S. patents include two
composition-of-matter patents covering the molecules contained in Esterom
solution (including ENT-102) that expire in 2012 and 2013, respectively. We have
also filed a patent application with the United States Patent Office along with
international counterparts that describes a method for the enrichment of the
compounds covered in our composition of matter patents that will extend the
protection of ENT-102. This patent application describes a method for the
production of Esterom solution and its components, including ENT-102.
In August 2002, we filed a patent describing the manufacturing process
for ENT-102. This application describes the preparation of commercial quantities
of ENT-102 and other related compounds (including ENT-103). The patent
application is currently in the process of being filed abroad. In December 2002,
we filed a composition of matter patent application for ENT-103. We believe that
composition-of-matter patents provide the strongest protection available.
21
Our new patent application claims composition of matter containing
ENT-103 and also provides the potential for the development of a number of
additional new chemical entities. We believe our other patents also provide the
foundational framework for the discovery of additional new chemical entities
using our SAR technology, resulting in new and different products.
We also rely on trade secret protection of our intellectual property.
We regularly enter into confidentiality agreements with third parties, employees
and consultants. We believe that these agreements generally protect our
intellectual property rights by providing assignment of interests in patents and
other intellectual property to Entropin arising from work done and restricting
the disclosure and misuse of confidential information. However, trade secrets
may be lawfully reverse-engineered by competitors and generally provide less
protection than patents.
BUSINESS ORGANIZATION
We maintain a limited management team and support structure comprised
of three full-time employees and have historically contracted with professional
organizations and third parties who have provided services and expertise in
areas such as research and development, preclinical and toxicology studies,
clinical trial organization and management, regulatory matters, clinical supply
and manufacturing of our products, product packaging, and enhanced drug
formulation.
We have employed this virtual outsourcing business model since the late
eighties. This model has effectively kept costs low and allowed us to maximize
our limited resources. Outsourcing allows us to secure the most qualified
individuals and institutions without encumbering us with heavy fixed costs. By
employing this business model, we believe that we can more effectively control
the cost of bringing a drug to market. It is estimated that major pharmaceutical
companies spend more than $800 million dollars to secure FDA approval and bring
a new product to market. We estimate we can bring ENT-103 to market for less
than $100 million, assuming that the compound proves to be safe and effective in
clinical trials.
The primary organizations and third party providers with whom we have
contracted, and intend to contract with in the future, for professional services
are identified below along with the services they have provided.
PARTY RELATIONSHIP
Macfarlan Smith Macfarlan Smith, a wholly owned subsidiary of
Johnson Matthey plc, manufactures active
pharmaceutical ingredients and initially
manufactured the Esterom solution used in our
clinical trials. Subsequently, their scientists have
developed a method for manufacturing scale-up of
ENT-103.
RTI International RTI International, a research institute affiliated
with Research Triangle Park (a collaboration among
North Carolina State University, Duke University and
the University of North Carolina at Chapel Hill),
prepared as analytical reference standards each of
the components in the Esterom solution, providing us
with the tool to determine the active ingredient and
proceed with the development of ENT-103. We expect
that we will continue to collaborate with researchers
at RTI on the development of additional compounds
using SAR technology.
Brigham & Women's In 2001, we entered into a collaboration with Gary
Hospital, Harvard Strichartz, Ph.D., Professor of Anesthesiology and
Medical School Director of the Pain Research Center to study the
effects of Esterom Solution and its components in
various preclinical pain models. Through this work we
identified ENT-102/103 as the active component. We
expect that we will continue to collaborate with
researchers at Harvard Medical School on future
development of ENT-103.
University of Arizona To expand and corroborate the work done by Dr.
School of Medicine Strichartz, we entered into a collaboration with
Frank Porreca, Ph.D., Professor of Pharmacology,
University of Arizona School of Medicine to evaluate
the effects of Esterom and its various components in
preclinical models of inflammatory and neuropathic
pain. We expect that we will continue to collaborate
with researchers at the University of Arizona School
of Medicine on the future development of ENT-103.
22
The Miami Project to Cure We have commenced additional preclinical pharmacology
Paralysis, University of and the evaluation of new formulations of ENT-103 in
Miami School of a collaboration with Jacqueline Sagen, Ph.D. Dr.
Medicine Sagen will be testing ENT-103 in certain models for
both acute and chronic pain. We expect that we will
continue to collaborate with researchers at the
University of Miami School of Medicine on the future
development of ENT-103.
Additionally, we have entered into a research agreement with a
specialty pharmaceutical company pursuant to which they will attempt to combine
ENT-103 with their proprietary excipient to create a topical formulation. We
expect that any new formulations will be tested by our paid researches at
Harvard Medical School, the University of Arizona or other academic institutions
as deemed appropriate. The goal of this research arrangement is to determine the
feasibility of developing new products with ENT-103 for commercialization.
GOVERNMENT REGULATION
We are subject to two principal areas of governmental regulation, as
described below.
U.S. FOOD AND DRUG ADMINISTRATION
The research, development, testing, manufacturing, promotion, marketing
and distribution of drug products are extensively regulated by government
authorities in the United States and other countries. Drugs are subject to
rigorous regulation by the Food and Drug Administration, or FDA, in the United
States and similar regulatory bodies in other countries. The steps ordinarily
required before a new drug may be marketed in the United States, which are
similar to steps required in most other countries, include:
o preclinical safety studies in animals and formulation studies;
o submission to the FDA of an Investigational New Drug, or IND,
application, approval of which must be received prior to
commencing human clinical studies with a new drug;
o adequate and well-controlled clinical trials to establish the
safety and efficacy of the drug for each medical indication;
o submission of a New Drug Application, or NDA, to the FDA; and
o FDA review and approval of the NDA.
Preclinical animal tests include laboratory evaluation of product
chemistry, stability, pharmaceutical properties and formulation, as well as
studies to prove the product is safe in animals. The results of preclinical
testing are submitted to the FDA for review prior to submission of an IND; the
FDA can prevent us from commencing human clinical studies should it find these
studies inadequate. The FDA may halt proposed or ongoing clinical trials at any
time and/or allow the trials to continue under specified terms.
Clinical trials to support new drug applications are typically
conducted in three sequential phases. During Phase I safety studies, the initial
introduction of the drug to healthy human subjects, the drug is tested to assess
how it is handled in the body and to measure the level of the drug in the body
over time, as well as any side effects associated with increasing doses.
Phase II usually involves studies in a limited patient population to:
(1) assess the efficacy of the drug in specific, targeted indications; (2)
assess dosage tolerance and optimal dosage; and/or (3) identify possible adverse
effects and safety risks.
If a compound is found to be potentially effective and to have an
acceptable safety profile in Phase II evaluations, Phase III trials (also called
pivotal studies, major studies or advanced clinical trials) are undertaken to
further demonstrate clinical efficacy and further test for safety of the product
within an expanded patient population at geographically dispersed clinical study
sites.
23
After successful completion of the required clinical testing, the NDA
is generally submitted. The FDA may request additional information before
accepting the NDA for filing, in which case the application must be resubmitted
with the additional information. Once the submission has been accepted for
filing, the FDA has 180 days to review the application and respond to the
applicant. The review process is often significantly extended by FDA requests
for additional information or clarification. The FDA may refer the new drug
application to an appropriate advisory committee for review, evaluation and
recommendation as to whether the application should be approved, but the FDA is
not bound by the recommendation of an advisory committee.
If FDA evaluations of the new drug application, or NDA, and the
manufacturing facilities are favorable, the FDA may issue either an approval
letter or an approvable letter. An approvable letter will usually contain a
number of conditions that must be met in order to secure final approval of the
NDA and authorization of commercial marketing of the drug for certain
indications. The FDA may refuse to approve the NDA or issue a not approvable
letter, outlining the deficiencies in the submission and often requiring
additional testing or information.
The manufacturers of approved products and their manufacturing
facilities are subject to continual review and periodic inspections. Because we
intend to contract with third parties for manufacturing our product, our control
over compliance with FDA requirements will be more complicated. In addition,
identification of certain side effects or the occurrence of manufacturing
problems after any of our drugs are on the market could cause subsequent
withdrawal of approval, reformulation of the drug, additional clinical trials,
and changes in labeling of the product.
Outside the United States, our ability to market our products will also
be contingent upon receiving marketing authorizations from the appropriate
regulatory authorities. Although the requirements governing the conduct of
clinical trials and marketing authorization vary widely from country to country,
the foreign regulatory approval process includes all of the risks associated
with the FDA approval set forth above. At present, foreign marketing
authorizations are applied for at a national level, although within Europe
procedures are available to companies wishing to market a product in more than
one European Union member state.
We will choose the appropriate route of European regulatory filing to
accomplish the most rapid regulatory approvals. However, the regulatory strategy
may not secure regulatory approvals or approvals of the chosen product
indications. We intend to contract with an experienced third party to assist
with our European clinical development and regulatory approvals.
U.S. DRUG ENFORCEMENT ADMINISTRATION
The DEA has designated Esterom solution as a Schedule II controlled
substance. Because ENT-103 is a derivative component of Esterom solution, and
also contains benzoylecgonine; this compound is also considered a Schedule II
controlled substances. The manufacture, storage, shipment and use of a Schedule
II controlled substance are subject to stringent government regulations.
LEGAL PROCEEDINGS
In February 2003, a complaint was filed in the Superior Court of the
State of California against us and certain of our executive officers seeking
unspecified damages. The suit alleges that we made false and misleading
statements in publicly disseminated press releases, registration statements and
other filings with the SEC and that one of our directors sold stock for personal
gain in violation of federal and state securities laws. We believe the claims
are without merit and have filed a motion for summary judgment with the court.
However, there can be no assurance that we will succeed in defending or settling
this action. Additionally, there can be no assurance that the action will not
have a material adverse effect on our business.
FACILITIES
We sublease 800 square feet of office space in Indio, California from
one of our principal stockholders, Thomas T. Anderson, for a monthly rent of
$800 on a month-to-month basis. We believe this lease is at or below market
prices for comparable office space. We believe that our current space is
adequate for our current and identified future needs.
24
EMPLOYEES
We have two full-time executive officers, Thomas G. Tachovsky,
President and Chief Executive Officer and Patricia G. Kriss, Chief Financial
Officer, Vice President of Finance and Administration, and Secretary/Treasurer,
and one full-time administrative employee. The core management team is augmented
by Higgins D. Bailey, Chairman of the Board, and Joseph R. Ianelli, Vice
Chairman of the Board. The members of our Board of Directors, including the
Chairman and the Vice Chairman, are compensated with stock options rather than
cash salaries.
MANAGEMENT
The names, ages and current positions of our Directors and Executive
Officers are as follows:
Name Age Position
- ---- --- --------
Higgins D. Bailey. Ed.D. 73 Chairman of the Board and Director
Joseph R. Ianelli, M.B.A. 64 Vice Chairman of the Board and Director
Thomas G. Tachovsky, Ph.D. 56 President, Chief Executive Officer and Director
Patricia G. Kriss, M.B.A. 52 Chief Financial Officer, Vice President of Finance &
Administration and Secretary/Treasurer
Wilson S. Benjamin 59 Director
Randall L. Carpenter, M.D. 50 Director
Paul V. Maier, M.B.A. 55 Director
Bruce R. Manning R.Ph. 60 Director
Dennis K. Metzler, J.D. 63 Director
Set forth below is biographical information for each of our Executive
Officers and each member of our Board of Directors.
HIGGINS D. BAILEY, ED.D., joined us as an officer and director in July
1992 and is currently our Chairman of the Board. From July 1995 to December
1996, Dr. Bailey was President and Chief Executive Officer for the
Pharmaceutical Educational and Development Foundation at the Medical University
of South Carolina, Charleston, South Carolina, which formulates and manufactures
pharmaceutical products. Since 1991, he has served as the business manager for
Thomas T. Anderson Law Firm, Indio, California. Thomas T. Anderson is one of our
principal stockholders. Dr. Bailey currently serves as Chairman of the Board for
Criticare Systems, Inc., a public company that manufacturers and sells vital
signs medical monitoring equipment. Dr. Bailey received a B.A. degree in biology
from Eastern Washington University, an M.S. degree in program planning and
personnel and an Ed.D. degree in administration and management from the
University of California, Berkeley, California.
JOSEPH R. IANELLI, M.B.A., joined us as a director in February 2000.
Since June 2002 he has been Vice President of Licensing for Paratek
Pharmaceuticals. From August 2000 to June 2002, Mr. Ianelli owned and operated
Ianelli Associates, LLP, a consulting firm focused on serving the
pharmaceutical, biotechnology and medical device industries. From 1999 through
2000 he was the President and Chief Executive Officer of PharmaConnect, Inc.
responsible for design and development of an Internet website for physicians.
From 1999 through 2000 he also served as the President and Chief Executive
Officer of Renaissance Pharmaceuticals, Inc., a development stage company
involved in drug delivery technologies. From 1983 to January 1999 he served as
the Senior Vice President of Business Development for Astra USA, Inc. where he
was responsible for acquisitions and licensing. At Astra, he served on the
Executive Committee and was a member of the Management Advisory Board. Mr.
Ianelli currently serves as a director of Bioject Medical Technologies, Inc. a
leading developer of needle-free drug delivery systems. Mr. Ianelli received a
B.A. in Biology from Marist College, a M.A. in Biology from the State University
of New York and an M.B.A. from Iona College.
25
THOMAS G. TACHOVSKY, PH.D., joined us as a director, President and
Chief Executive Officer in November 1999. Since June 1997 he has held a series
of interim senior management positions in development stage bio-pharmaceutical
companies including Redox Pharmaceuticals Corporation, Novavax, Inc. and
Paracelsian, Inc. From June 1995 to November 1997, he was a director and
executive vice-president of Protyde Pharmaceuticals, Inc. From June 1991 to
February 1998, he was general partner of MATCO & Associates, a
bio-pharmaceutical industry consulting firm for corporate partnering, technology
assessment and market valuation. He has held business development positions with
Cytogen Corporation and Creative Biomolecules and was a research and development
manager with Johnson & Johnson. Dr. Tachovsky received a B.S. degree in biology
from Gonzaga University; a M.S. degree in management from Lesley College; and a
Ph.D. degree in microbiology from the University of Rochester School of
Medicine.
PATRICIA G. KRISS, M.B.A., joined us in January of 2000 from
Kendall-Jackson Winery, where she was employed since January 1995, serving
initially as Director of Finance and since 1997, as Corporate Treasurer. From
1984 to 1994, she was employed by Bay View Federal Bank where she held a number
of increasingly responsible management positions, ultimately becoming Senior
Vice President of Finance. Earlier in her career, Ms. Kriss served as Chief
Financial Officer of Atlantex Industries, a manufacturing, sales and
distribution company located in New Jersey, and Vice President of Harris,
Bretall & McEldowney, Inc., an investment management firm located in San
Francisco. Ms. Kriss received a B.S. in Business from the University of Missouri
and an M.B.A. degree in finance from the College of Notre Dame.
WILSON S. BENJAMIN joined us as a director in February 2000. Since 1992
he has been the President and Chief Executive Officer of Al Fawaris Co., a large
investment group dealing in real estate and financial sectors specializing in
Middle Eastern countries, where he is responsible for Al Fawaris' investments
and participates in the management of certain of its portfolio companies. Since
1992 he has also served as the Chairman of the Board of Directors and Chief
Executive Officer of ATO Ram 2 Ltd., an international investment group, where he
is responsible for managing ATO's operations and its investments in public and
private companies in the United States, Europe and the Persian Gulf States. Mr.
Benjamin received a B.A. in business administration from Al Hikma University in
Baghdad, Iraq.
RANDALL L. CARPENTER, M.D., joined us as a director in January 2001.
Since 2001 he has been the Chief Executive Officer and a member of the Board of
Directors for Sention, Inc., a pharmaceutical development company focused on the
discovery and development of drugs to treat memory impairment and other central
nervous system disorders. From 1998 though 2000, Dr. Carpenter served as Vice
President, Clinical Research & Development for Adolor Corporation, a publicly
held biopharmaceutical company. Dr. Carpenter was the Director, 1998, and
Associate Director, 1997 of Astra USA, and Astra Pain Control, now AstraZeneca,
an international research based pharmaceutical company engaged in the
development, manufacture and marketing of prescription pharmaceutical products.
He has also served as an adjunct Associate Professor in the Department of
Anesthesiology at Duke University Medical Center since 1998. From 1994 to 1997,
he was an Associate Professor in the Department of Anesthesia at the Bowman Gray
School of Medicine of Wake Forest University. Dr. Carpenter received his M.D.
degree from the University of Michigan Medical School.
PAUL V. MAIER, M.B.A., joined us as a director in July 2000. Since 1992
he has been the Senior Vice President and Chief Financial Officer of Ligand
Pharmaceuticals, Inc., a specialty pharmaceutical company, and has been a
director and Chief Executive Officer of several of its subsidiaries. Mr. Maier
also served as a Director, Vice Chairman and Treasurer of The Wellness Community
in San Diego, California from 1993 until April 2003. Mr. Maier received a B.S.
in Business Logistics from Pennsylvania State University and an M.B.A. from
Harvard University.
BRUCE R. MANNING, R.PH., joined us as a director in July 2001. Mr.
Manning is the president of New England Biomedical Research, Inc., or NEBR, a
consulting firm organized to provide regulatory affairs and product development
services to the pharmaceutical, medical device and biotechnology industries.
Prior to founding NEBR in 1990, he was vice president of regulatory affairs and
product development for Astra Pharmaceutical Products. During his 20-year career
with Astra, he was part of teams responsible for development and obtaining
regulatory approval for over 150 medical products. Mr. Manning's extensive
experience with the FDA began early in his career when he was employed by the
agency as a reviewer. He is a registered pharmacist with a B.S. in Pharmacy from
the Massachusetts College of Pharmacy in Boston.
26
DENNIS K. METZLER joined us as a director in January 2002. Mr. Metzler
is an attorney and entrepreneur with over 30 years of business experience. Since
1989 Mr. Metzler has been President of Metzler Enterprises, Inc., a firm that
engages in real estate development and various investment activities. From 1977
to 1989 Mr. Metzler was Chief Executive Officer and co-owner of his family's
diversified and integrated farming business, H.P. Metzler & Sons, based in
Fresno, California. Prior to that Mr. Metzler practiced law in Los Angeles for
twelve years with the law firm of Shutan and Trost (now Sidley, Austin, Brown &
Wood). He received his J.D. from the University of Southern California Law
School.
All members of our Board hold office until the election and
qualification of their successors, or until death, resignation or removal.
Wilson S. Benjamin, Randall L. Carpenter, Joseph R. Ianelli, Paul V. Maier,
Bruce R. Manning and Dennis K. Metzler are independent directors. Officers serve
at the discretion of our Board of Directors.
BOARD COMMITTEES
We have five standing committees: the executive committee, the audit
committee, the compensation & benefits committee, the scientific committee and
the legal & insurance committee.
EXECUTIVE COMMITTEE
Our executive committee was formed to attend to and report to our board
of directors on day-to-day operating, financial, regulatory and other matters.
The committee consists of Higgins D. Bailey, Joseph R. Ianelli and Thomas G.
Tachovsky. The duties of the executive committee members are in addition to
their duties as members of our board of directors.
AUDIT COMMITTEE
Our audit committee attends to and reports to our board of directors
with respect to matters regarding our independent public accountants, including,
without limitation: annual review of its charter; approving the firm to be
engaged as our independent public accountants for the next fiscal year;
reviewing with our independent public accountants the scope and results of its
audit and any related management letter; consulting with our independent public
accountants and our management with regard to our accounting methods and
adequacy of our internal accounting controls; approving the professional
services rendered by our independent public accountants; reviewing the
independence, management consulting services and fees of our independent public
accountants; inquiring about significant risks or exposures and methods to
minimize such risk; ensuring effective use of audit resources, and preparing and
supervising the Securities and Exchange Commission reporting requirements. Our
audit committee currently consists of Paul V. Maier, Wilson S. Benjamin and
Joseph R. Ianelli, who are all independent directors. Our audit committee is
required to meet at least four times in each fiscal year.
COMPENSATION & BENEFITS COMMITTEE
Our compensation & benefits committee was formed to attend to and
report to our board of directors with respect to the appropriate compensation of
our directors and executive officers and is responsible for administering all of
our employee benefit plans. The Compensation Committee currently consists of
Joseph R. Ianelli, Wilson S. Benjamin and Thomas G. Tachovsky.
SCIENTIFIC COMMITTEE
The scientific committee was formed by the board of directors to attend
to and report to the board of directors with respect to clinical trials and
scientific issues. The scientific committee currently consists of Thomas G.
Tachovsky, Randall L. Carpenter and Bruce R. Manning.
LEGAL & INSURANCE COMMITTEE
The legal & insurance committee was formed to attend to and report to
the board of directors with respect to legal matters such as contracts and other
legal matters and to assist management with respect to insurance coverage,
including directors and officers' liability insurance. The legal and insurance
committee currently consists of Dennis K. Metzler, Joseph R. Ianelli and Paul V.
Maier.
27
The Board may establish other committees to facilitate the management
of our business.
As of August 15, 2003, the Board has determined that a majority of the
members of the Board are "independent" within the meaning of the rules and
regulations of the SEC. In addition, the audit committee has determined that
Paul V. Maier qualifies as an audit committee finance expert within the meaning
of the rules and regulations of the SEC.
EXECUTIVE COMPENSATION AND OTHER INFORMATION
SUMMARY OF CASH AND CERTAIN OTHER COMPENSATION
The following table provides certain summary information concerning
compensation paid to our executive officers for the calendar years 2000, 2001
and 2002 for their services rendered in all capacities to the Company. The
listed individuals shall be referred to herein as the "Named Executive
Officers."
SUMMARY COMPENSATION TABLE
Long-term
Compensation Awards
Annual Securities
Compensation Underlying
Options
Name and Position Year Salary ($) (# shares)
- ----------------- ---- ---------- ----------
Thomas G. Tachovsky, (1) 2002 $242,000 42,000
President and Chief Executive Officer 2001 $220,000 123,200
2000 $200,000 -0-
Patricia G. Kriss, (2) 2002 $151,250 13,750
Chief Financial Officer, Vice President of Finance 2001 $137,500 109,500
& Administration, Secretary/Treasurer 2000 $100,000 20,000
- ------------------
(1) Dr. Tachovsky received options to purchase 400,000 shares of our common
stock at $5.00 per share of which 100,000 shares became exercisable upon
completion of the Phase IIIA trial and submission of the trial results to
the FDA; 150,000 shares become exercisable upon submission of the NDA, and
150,000 shares upon approval of the NDA. Dr. Tachovsky subsequently
assigned 20,000 of these options to Patricia G. Kriss, our Chief Financial
Officer. The options expire five years from the date they become
exercisable. During 2001, Dr. Tachovsky was granted options to purchase
100,000 shares of our common stock at $2.05 per share exercisable upon the
completion of the Phase II/III trial and submission of the trial results to
the FDA. Dr. Tachovsky was also granted options to purchase 23,200 shares
of our common stock at $1.00 per share as a performance bonus for the year
ended December 31, 2000. The options expire five years from the date they
become exercisable.
(2) Ms. Kriss was granted 20,000 shares as assigned by Dr. Tachovsky, all of
which vested upon the completion of the Phase IIIA clinical trial and the
submission of the trial results to the FDA. During 2001, Ms. Kriss was
granted options to purchase 95,000 shares of our common stock at $2.05 per
share exercisable upon the completion of the Phase II/III trial and
submission of the trial results to the FDA. Ms. Kriss was also granted
options to purchase 14,500 shares of our common stock at $1.00 per share as
a performance bonus for the year ended December 31, 2000. The options
expire five years from the date they become exercisable.
28
STOCK OPTION GRANTS
In 2002, the Named Executive Officers were granted a total of 55,750
options to purchase our common stock. Of these options, 35,750 represent
performance bonuses, and are exercisable at $2.05 per share for a period of five
years and were fully vested as of June 14, 2002. The remaining 20,000 of these
options were granted to Dr. Tachovsky to replace 20,000 options he assigned to
Ms. Kriss in 2000 and are exercisable at $3.05 per share
The following table sets forth certain information regarding grants of
stock options to the Named Executive Officers during 2002.
Underlying Granted to Exercise Market Price
Options Employees in Price(s) Expiration on Date
Name Granted Fiscal Year ($/share) Date of Grant
- ---- ------- ----------- --------- ---- --------
Thomas G. Tachovsky 22,000 39.46% $ 2.05 6/14/07 $3.05
20,000 35.87% $ 3.05 6/14/07 $3.05
Patricia G. Kriss 13,750 24.67% $ 2.05 6/14/07 $3.05
DIRECTOR COMPENSATION
Our non-employee directors receive $1,000 for each meeting of our Board
of Directors they attend in person, $500 for each meeting of our Board of
Directors they participate in by telephone conference and $500 for each
committee meeting they participate in, either in person or by telephone
conference. We also reimburse our directors for out-of-pocket expenses incurred
to attend meetings of the Board of Directors or its committees. In addition, on
April 1, 2002, each of our directors other than Dr. Tachovsky received options
to purchase 20,000 shares of our common stock. Such options were fully vested as
of March 31, 2003, remain exercisable for a period of five years after the date
of grant and have an exercise price of $3.85 per share. In addition, on January
1, 2002, our Chairman, Dr. Bailey, and our Vice Chairman, Mr. Ianelli, received
options to purchase 40,000 and 30,000 shares of our common stock, respectively.
Such options were fully vested as of December 31, 2002, remain exercisable for a
period of five years after the date of grant and have an exercise price of $1.05
per share.
EXECUTIVE EMPLOYMENT AGREEMENTS
We entered into an employment agreement with Dr. Tachovsky on December
1, 1999, under which Dr. Tachovsky serves as our President and Chief Executive
Officer. Dr. Tachovsky was granted options in conjunction with his employment
agreement to purchase up to 400,000 shares of common stock at a purchase price
of $5.00 per share. These shares vest over time based on the achievement of
specified performance objectives. If the performance objectives are not met, Dr.
Tachovsky will not be eligible to vest in these performance vesting shares. Dr.
Tachovsky assigned options to purchase 20,000 shares of our common stock to
Patricia G. Kriss, our Chief Financial Officer. In the event of a change of
control, merger or consolidation, all unvested options shall become fully vested
at the effective date of such merger, consolidation or change of control. Dr.
Tachovsky's employment agreement may be terminated by either party at any time,
with or without cause, by providing written notice and is not for any specific
period of time. In the event of termination of the employment agreement, all
non-vested options will also terminate.
29
EQUITY COMPENSATION PLANS
The following table provides information as of December 31, 2002 with
respect to the shares of our common stock that may be issued under our existing
equity compensation plans:
NUMBER OF SECURITIES
REMAINING AVAILABLE FOR
NUMBER OF SECURITIES TO BE WEIGHTED-AVERAGE EXERCISE FUTURE ISSUANCE UNDER
ISSUED UPON EXERCISE OF PRICE OF OUTSTANDING EQUITY COMPENSATION PLANS
OPTIONS, WARRANTS AND OPTIONS, WARRANTS AND (EXCLUDING SECURITIES
RIGHTS RIGHTS REFLECTED IN
PLAN CATEGORY COLUMN (a))
(a) (b) (c)
- ------------------------------- ---------------------------- ---------------------------- ----------------------------
Equity compensation plans
approved by our -- -- 393,780
stockholders(1)
Equity compensation plans not 1,455,119 $3.34 0
approved by our
stockholders(2)
Total 1,455,119 $3.34 393,780
- ------------------------------- ---------------------------- ---------------------------- ----------------------------
(1) Consists solely of the 1998 Compensatory Stock Plan.
(2) Consists of option grants to officers, directors and employees pursuant
to individual non-qualified stock option agreements. These option
grants have exercise prices ranging from $1.00 per share to $6.00 per
share. Each option generally vests in installments over the optionee's
period of service, although some options vest upon the achievement of
certain milestones related to the development of our products and some
options are fully vested on the date of grant. The options will vest on
an accelerated basis in the case of any merger or consolidation of the
Company with or into another corporation or any other type of
reorganization which results in a change of control whereby the
Company's board of directors prior to the reorganization represents
less than a majority of the Company's board of directors after the
reorganization. Each option generally has a maximum term of five to ten
years. In addition, upon the death of an optionee, any options that the
optionee was entitled to exercise on the date of death will be
exercisable until the stated expiration date of the optionee's option
by the person or persons to whom the optionee's rights pass under a
will or by the laws of descent and distribution. All of the options are
non-statutory options under the Federal tax laws.
PRINCIPAL STOCKHOLDERS
The following table sets forth information known to us with respect to
the beneficial ownership of our common stock as of September 30, 2003, by:
o each person known by us to own beneficially 5% or more of our
common stock,
o each of our executive officers and directors, and
o all of our executive officers and directors as a group.
The beneficial ownership is determined in accordance with the rules of
SEC and generally includes voting or investment power with respect to
securities. Shares of common stock issuable on exercise of currently exercisable
or convertible securities or securities exercisable or convertible within 60
days after the anticipated closing of this offering (February 1, 2004) are
deemed beneficially owned and outstanding for computing the percentage owned by
the person holding such securities, but are not considered outstanding for
computing the percentage of any other person. Except as indicated by footnote,
and subject to community property laws where applicable, the persons or entities
named in the table have sole voting and investment power with respect to all
shares of common stock shown as beneficially owned by them. The address of each
person below is 45926 Oasis Street, Indio, California 92201.
30
NUMBER OF PERCENTAGE
SHARES NUMBER OF OF SHARES
BENEFICIALLY EXERCISABLE BENEFICIALLY
NAME OF BENEFICIAL OWNERS OWNED OPTIONS OWNED
- ------------------------- ----- ------- -----
5% STOCKHOLDERS
- ---------------
Thomas T. Anderson............................ 1,394,093 - 12.07 %
DIRECTORS AND EXECUTIVE OFFICERS
- --------------------------------
Higgins D. Bailey............................. 1,301,316 (1) 405,834 14.28 %
Wilson S. Benjamin............................ 125,000 (2) 63,334 1.62 %
Randall L. Carpenter.......................... 1,334 40,000 *
Joseph R. Ianelli............................. - 123,334 1.06 %
Patricia G. Kriss............................. 10,250 (3) 73,250 *
Paul V. Maier................................. 6,003 40,000 *
Bruce R. Manning.............................. - 36,667 *
Dennis K. Metzler............................. 5,000 25,000 *
Thomas G. Tachovsky........................... 19,000 (4) 245,200 2.24 %
All directors and executive officers as a group
(9 persons)................................... 1,467,903 1,052,619 21.25 %
- ------------------
* Less than 1%
(1) Includes shares owned in joint tenancy with Shirley A. Bailey, the
spouse of Dr. Bailey.
(2) Includes 50,000 shares owned indirectly by ATO Ram 2, Ltd. in which Mr.
Benjamin is a partner.
(3) Includes shares owned jointly by Patricia G. Kriss and Ronald F. Kriss
and shares held by Ronald F. Kriss, spouse of Ms. Kriss.
(4) Includes shares held jointly with Lynn Baird, spouse of Dr. Tachovsky.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
We sublease approximately 800 square feet of office space from Thomas
T. Anderson, one of our principal stockholders. The rent on the sublease is $800
per month. We believe this is a competitive lease rate for similar real estate
in the area where the office is located.
31
INDEMNIFICATION FOR SECURITIES ACT LIABILITIES
Our certification of incorporation and bylaws require us to indemnify
our directors and officers, to the fullest extent authorized or permitted by
applicable law, in any suit or proceeding, whether civil, criminal,
administrative or investigative, relating to that person's service as a director
or officer of the Company. Additionally, we may have certain obligations under
state law to indemnify its employees, including its officers, for actions taken
in their capacity as an employee of the Company. Insofar as indemnification for
liabilities arising under the Securities Act of 1933, or the "Act," may be
permitted to directors, officers and controlling persons of the small business
issuer pursuant to the foregoing provisions, or otherwise, we have been advised
that, in the opinion of the Securities and Exchange Commission, such
indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable.
DESCRIPTION OF SECURITIES
Our authorized capital stock consists of 70,000,000 shares of capital
stock, divided into the following classes: (i) 50,000,000 shares of common
stock, $0.0001 par value per share, and (ii) 20,000,000 shares of preferred
stock, $0.0001 par value per share.
The following summary is qualified in its entirety by reference to our
certificate of incorporation, certificate of designation of Series A' Preferred
stock, and bylaws, copies of which are filed as exhibits to our previous filings
with the SEC and incorporated herein by reference.
COMMON STOCK
As of September 30, 2003, there were 11,545,341 shares of common stock
outstanding, 2,396,619 shares of common stock issuable upon exercise of
outstanding options and 3,283,500 shares of common stock issuable upon exercise
of outstanding warrants. Upon completion of this offering there will be
31,545,341 shares of common stock outstanding assuming the sale of 20,000,000
shares.
Subject to the preferences that may be applicable to any preferred
stock outstanding at the time, the holders of common stock are entitled to the
following:
Voting. The holders of shares of our common stock are entitled to one
vote for each share on all matters on which the holders of common stock are
entitled to vote. There is no cumulative voting for the election of directors.
Dividends. Holders of common stock are entitled to receive dividends
out of assets legally available for the payment of dividends at the times and in
the amounts as the Board from time to time may determine.
Liquidation. Holders of the common stock are entitled to share ratably
in our net assets upon liquidation or dissolution after payment or provision for
the liquidation preferences of our preferred stock and all other liabilities.
Each outstanding share of common stock is, and all shares of common
stock to be outstanding upon completion of this offering will be, upon payment
therefore, duly and validly issued, fully-paid and non-assessable.
PREFERRED STOCK
Our Board is authorized, without action by our stockholders, to
designate and issue up to 20,000,000 shares of preferred stock in one or more
series. Our Board can also fix the rights, preferences and privileges of the
shares of each series of preferred stock, and any qualifications, limitations
and restrictions on these shares. The Board has designated 3,210,487 shares as
Series A' Preferred and, as of September 30, 2003, 3,210,487 shares of Series A'
Preferred stock were issued and outstanding. No other shares of preferred stock
were outstanding as of that date.
SERIES A' PREFERRED STOCK
The holders of Series A' Preferred stock are entitled to the following:
32
Voting. The holders of our shares of Series A' Preferred stock are not
entitled to vote upon matters submitted to our stockholders.
Dividends. The holders of our shares of Series A' Preferred stock are
entitled to receive an annual dividend equal to eight percent of the value of
each share, which value has been set at $1.00 per share. This dividend is
non-cumulative. These dividends are only payable from earnings.
Redemption. The Series A' Preferred stock is to remain issued and
outstanding until no later than January 16, 2015 (the "Series A
Redemption/Cancellation Period"), at which time the Series A' Preferred stock
shall have been redeemed in whole or in part from "designated available
earnings" as determined by the Board of Directors, or cancelled.
All outstanding shares of Series A' Preferred stock are subject to
mandatory redemption by us each fiscal year during the Series A
Redemption/Cancellation Period. Each stockholder holding Series A' Preferred
stock is entitled to participate on a pro rata basis in any mandatory
redemption. This redemption right is non-cumulative. The total number of shares
of Series A' Preferred stock to be redeemed in each fiscal year during the
Series A Redemption/Cancellation Period is determined by dividing: (x) the
"designated available funds" amount for that fiscal year; by (y) the number of
issued and outstanding shares of Series A' Preferred stock as of the last day of
such fiscal year. "Designated available funds" are determined by our Board of
Directors and are an amount designated by our Board of Directors out of funds,
if any, equal to more than 20% but less than 50% of our "earnings" and in no
event in excess of "net cash flow from operating activities," as such terms are
defined under GAAP.
In addition, we may from time to time at our option redeem or otherwise
acquire any or all outstanding shares of Series A' Preferred stock for cash of
$1.00 per share on a pro rata basis.
Liquidation. In the event of any voluntary or involuntary liquidation,
dissolution or winding-up of our affairs during the Series A
Redemption/Cancellation Period, after payment or provision for payment of our
debts and other liabilities, the holders of Series A' Preferred stock are
entitled to receive, prior and in preference to any distribution of any of our
assets or surplus funds to the holders of our common stock or other preferred
stock, by reason of their ownership thereof, an amount equal to $1.00 for each
share, as appropriately adjusted to reflect any stock split, stock dividend,
combination, recapitalization and the like.
All preferential amounts to be paid to the holders of the Series A'
Preferred stock are to be paid or set apart for payment before the payment or
setting apart for payment of any amount for (or the distribution of any of our
assets to) the holders of other preferred stock or common stock, and the holders
of such other preferred stock or common stock shall share ratably all of our
remaining assets with no further right of participation accruing to any holder
of Series A' Preferred stock. If the assets or surplus funds to be distributed
to the holders of the Series A' Preferred stock are insufficient to permit the
payment to such holders of their full preferential amount in the event of a
liquidation, dissolution or winding up of our affairs, the assets and surplus
funds legally available for distribution are to be distributed ratably among the
holders of the Series A' Preferred stock in proportion to the full preferential
amount each such holder would otherwise be entitled to receive.
OPTIONS
As of September 30, 2003, options to purchase up to 2,766,619 shares of
our common stock, at an average exercise price of $2.44 per share, were
outstanding and 2,396,619 were exercisable. The following table provides a
summary of our outstanding options.
33
Wtd. average
remaining
Option Number Options contractual
exercise price per share of shares exercisable life in years
------------------------ --------- ----------- -------------
$0.75 50,000 50,000 2.42
$1.00 177,700 177,700 3.01
$1.50 65,000 65,000 3.02
$2.00 147,169 147,169 2.71
$2.05 230,750 160,750 3.54
$3.00 625,000 625,000 2.92
$3.05 20,000 20,000 3.96
$3.85 140,000 140,000 3.76
$4.00 811,000 811,000 0.54
$5.00 460,000 160,000 2.08
$6.00 40,000 40,000 2.59
------ ----------- ----------- -----
$2.44 2,766,619 2,396,619 2.14
=========== ===========
WARRANTS
As of September 30, 2003, warrants to purchase up to 3,283,500 shares
of our common stock, at an average exercise price of $8.63 per share, were
outstanding and exercisable. The following table provides a summary of our
outstanding warrants.
Wtd. average
remaining
Warrant Number Warrants contractual
exercise price per share of shares exercisable life in years
------------------------ --------- ----------- -------------
$3.00 700,000 700,000 1.40
$4.00 83,500 83,500 1.42
$8.75 200,000 200,000 2.22
$10.50 2,300,000 2,300,000 2.22
------- --------------- --------------- -----
$8.63 3,283,500 3,283,500 2.02
============== ==============
At September 30, 2003, holders of outstanding options and warrants
representing the right to purchase a total of 3,588,500 shares of common stock
have certain registration rights, and options and warrants representing the
right to purchase a total of 6,015,119 shares of common stock contain certain
cashless exercise provisions.
INVESTOR SUITABILITY REQUIREMENTS
The shares offered hereby are being offered and sold only to
"accredited investors" as such term is defined in Regulation D under the
Securities Act of 1933, or the Securities Act, and will be offered and sold only
to prospective investors who meet the standards set forth below. Additionally,
this offering is limited to persons or entities located in the following states:
Arizona, California, Colorado, Illinois, Indiana, Iowa, Michigan, Mississippi,
Oklahoma and Texas. Investors in Arizona and Illinois must meet certain
additional accreditation standards described below.
An investor is an "accredited investor" only if such investor meets one
or more of the following:
(i) the investor is a natural person who has net worth, or joint net
worth with that person's spouse exceeding $1,000,000 at the time of purchase;
34
(ii) the investor is a natural person who individually had income in
excess of $200,000 in each of the two most recent years, or joint income with
that person's spouse in excess of $300,000 in each of those years, and who
reasonably expects income in excess of those levels in the current year;
(iii) the investor is a director or executive officer of the Company;
(iv) the investor is either (a) a bank as defined in Section 3(a)(2) of
the Securities Act , or a savings and loan association or other institution as
defined in Section 3(a)(5)(A) of the Securities Act , whether acting in its
individual or fiduciary capacity; (b) any broker or dealer registered pursuant
to Section 15 of the Securities Exchange Act of 1934 as amended; (c) an
insurance company as defined in Section 2(13) of the Securities Act; (d) an
investment company registered under the Investment Company Securities Act of
1940 or a business development company as defined in Section 2(a)(48) of such
Securities Act; (e) a Small Business Investment Company licensed by the United
States Small Business Administration under Section 301(c) or (d) of the Small
Business Investment Securities Act of 1958; (f) a plan established and
maintained by a state, its political subdivisions, or any agency or
instrumentality of a state or its political subdivisions, for the benefit of its
employees, if such plan has total assets in excess of $7,000,000; (g) an
employee benefit plan within the meaning of Title I of the Employee Retirement
Income Security Act of 1974, as amended, if the investment decision is made by a
plan fiduciary, which is either a bank, a savings and loan association,
insurance company, or registered investment advisor, or if the plan has assets
in excess of $7,000,000, or if a self-directed plan, with the investment
decisions made solely by persons that are accredited investors;
(v) the investor is a private business development company under
Section 202(a)(22) of the Investment Advisers Securities Act of 1940;
(vi) the investor is any organization described in Section 501(c)(3) of
the Internal Revenue Code and certain other corporations, Massachusetts or
similar business trust, or partnership, not formed for the specific purpose of
acquiring the securities offered, with total assets in excess of $7,000,000;
(vii) the investor in any trust with total assets in excess of
$7,000,000, not formed for the specific purpose of acquiring the securities
offered, whose purchase is directed by a sophisticated person as defined in
Section 230. 506(b)(2)(ii) of Regulation D promulgated under the Securities Act;
or
(viii) the investor is any entity in which all of the equity owners are
accredited investors.
In the case of a husband and wife subscribing jointly, satisfaction of
the net worth standards must be determined by aggregating their net worth and
satisfaction of the income standards must be determined by joint or individual
tax returns, as the case may be. Any other persons subscribing for shares
jointly, including members of partnerships formed for the purpose of purchasing
shares, must each satisfy the applicable net worth and income standards without
regard to the other joint purchasers. In the case of a subscriber that is itself
a partnership (other than a partnership formed for the purpose of purchasing
shares) or a trust, the applicable net worth and income standards must be
satisfied by the entity. In the case of a subscriber purchasing as custodian for
a minor, the applicable net worth and income standards must be satisfied by the
custodian.
Each subscriber will be required to satisfy the investor suitability
standards set forth above. An investment in the shares is only suitable for
those investors who have adequate means to provide for their current needs and
personal contingencies and who have no need for liquidity in this investment.
Furthermore, investors must demonstrate an appropriate level of financial
sophistication. Investors should recognize that the suitability standards set
forth above are minimum requirements and that the satisfaction of these
standards does not necessarily mean that investment in the shares is suitable
for an investor meeting these standards. We reserve the right to reject any
subscription for any reason whatsoever.
We will require each investor to make representations and warranties
relating to the suitability of an investment in the shares for each investor as
set forth in the form of subscription agreement attached as Annex A to this
prospectus. We may also make or cause to be made such further inquiry as we deem
appropriate. We may, in our absolute discretion, reject subscriptions, in whole
or in part, or allot to a particular investor fewer than the number of shares
for which the investor subscribed. We reserve the right to modify or increase
the suitability standards with respect to certain investors, in order to comply
with any applicable state or local laws, rules or regulations or otherwise. In
addition to satisfying the investor suitability standards described above,
investors in Arizona and Illinois must satisfy the following accreditation
standards:
o Arizona: Investors must have either: (i) a gross income of at
least $150,000 individually (or $200,000 with the investor's
spouse) in the prior year and a reasonable expectation of such
income in the current year; or (ii) a net worth of at least
$350,000 (or $400,000 with the investor's spouse) excluding the
investor's home, home furnishings and automobiles, and the
investment must not exceed 10% of the investor's net worth
(combined with the investor's spouse, if applicable).
35
o Illinois: Investors must have either: (i) a net worth in excess of
$1 million, excluding the value of the investor's principal
residence; or (ii) a gross income of at least $200,000 (alone or
with the investor's spouse) in each of the two most recent years
and a reasonable expectation of such an income in the current
year.
INVESTOR SUITABILITY STANDARDS REPRESENT MINIMUM REQUIREMENTS FOR
INVESTORS AND THE SATISFACTION OF THESE STANDARDS DOES NOT NECESSARILY MEAN THE
SHARES ARE A SUITABLE INVESTMENT FOR ANY INVESTOR.
Each prospective investor should consult with his, her or its own
attorney, accountant and/or financial advisor to discuss the implications of the
information contained herein and the merits and risks of an investment in the
shares. We reserve the right to make our own determination, in our sole
discretion, as to whether any prospective investor meets the above suitability
standards.
PLAN OF DISTRIBUTION
THE OFFERING
We are offering for sale through our placement agent, InvestLinc
Securities, LLC, a minimum of $2,000,000 in shares and a maximum of $4,000,000
in shares. The offering is being made only to "accredited investors," as
described under the heading "Investor Suitability Requirements." The minimum
purchase is $50,000, unless we agree to accept a smaller purchase. All proceeds
from subscriptions will be held in an escrow account pending acceptance of at
least the minimum offering amount of $2,000,000. The offering period will expire
on the earliest of the following (the "Termination Date"):
o the sale of all shares offered under this prospectus;
o as agreed between us and the placement agent; and
o February 1, 2004.
If the Minimum Offering has been completed on or before the Termination
Date, then the Termination Date may, at our discretion, be extended for up to 30
days in order to complete up to the Maximum Offering of $4,000,000. If the
Minimum Offering has not been completed and we have not received the sale
proceeds by the Termination Date, the escrow agent will promptly return all
amounts, without interest, previously placed in escrow. See "Escrow of Funds"
below.
We have paid the placement agent a retainer of $15,000 and 28,571
unregistered, restricted shares of our common stock. The placement agent will
also receive a commission equal to 6% of the gross proceeds from shares sold to
investors and a five-year warrant to purchase 7% of the number of shares sold in
this offering at a price per share equal to the price of the shares sold in this
offering. In addition, we have agreed to indemnify the placement agent and
various other persons against certain liabilities in connection with this
offering, including liabilities arising under the Securities Act.
ESCROW OF FUNDS
All proceeds with respect to subscriptions for the shares will be
deposited in an escrow account to be established with a bank or other financial
institution that is not affiliated with us, our officers or directors or our
placement agent. The escrow of the funds will continue until the earlier to
occur of: (A) the deposit and acceptance by us of subscriptions of at least
$2,000,000, or (B) the termination of this offering. All subscriptions held in
escrow are irrevocable by the subscriber. If circumstances result in the
termination of this offering (including due to a failure to reach the Minimum
Condition by the Termination Date), all escrowed funds will be returned without
interest to the subscribers and without deduction for expenses. Funds placed in
the escrow account will not be subject to claims of our creditors, placement
agent or affiliates unless and until the proceeds are released to us.
SUBSCRIPTION AGREEMENT AND PROCEDURES
All subscriptions must be made by the execution and delivery of a
subscription agreement, a form of which is attached to this prospectus as Annex
A. By executing the subscription agreement, each purchaser will agree to pay the
purchase price of the shares subscribed for at the closing at which such
subscription is accepted. We have the right to revoke any offers made under this
prospectus and to refuse to sell shares to a particular subscriber if the
subscriber does not promptly supply all information we request or if we
disapprove the sale. Subscriptions are not binding until accepted. We will
refuse any subscription by giving written notice to the subscriber by personal
36
delivery or first-class mail. We may reject any subscription at any time prior
to acceptance, in whole or in part, in our sole discretion.
In order to subscribe for shares, a prospective investor must deliver
the following documents to the placement agent:
1. a complete and executed subscription agreement, in the form attached
to this prospectus as Annex A;
2. a complete and executed investor suitability questionnaire, in the
form provided by the Company; and
3. The full amount of the subscription price paid in United States
dollars in cash or by check, bank draft or money order made payable to the
escrow agent.
LEGAL MATTERS
The validity of the shares of common stock offered hereby will be
passed upon for us by Heller Ehrman White & McAuliffe LLP, San Diego,
California.
EXPERTS
The balance sheets of the Company as of December 31, 2001 and 2002, and
the related statements of operations, changes in stockholders' equity (deficit),
and cash flows for the years then ended, and for the period from August 27, 1984
(inception) through December 31, 2002, except for the statements of operations,
changes in stockholders' equity (deficit), and cash flows of the Company for the
period from August 27, 1984 (inception) through December 31, 1999, included in
this prospectus have been audited by Deloitte & Touche LLP, independent
auditors, as stated in their report appearing herein (which report expresses an
unqualified opinion and includes an explanatory paragraph relating to the
Company's ability to continue as a going concern). The statements of operations,
changes in stockholders' equity (deficit), and cash flows of the Company for the
period from August 27, 1984 (inception) through December 31, 1999 (not presented
separately herein) have been audited by Causey Demgen & Moore Inc., independent
auditors, as stated in their report included herein. Such financial statements
of the Company are included herein in reliance upon the respective reports of
such firms given upon their authority as experts in accounting and auditing.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the Securities and Exchange Commission a
registration statement on Form SB-2, including exhibits, schedules and
amendments, under the Securities Act with respect to the shares of common stock
to be sold in this offering. This prospectus does not contain all the
information included in the registration statement. For further information
about us and the shares of our common stock to be sold in this offering, please
refer to this registration statement. Complete exhibits have been filed with our
registration statement on Form SB-2.
You may read and copy any contract, agreement or other document
referred to in this prospectus and any portion of our registration statement or
any other information from our filings at the Securities and Exchange
Commission's public reference room at 450 Fifth Street, N.W., Washington, D.C.
20549. You can request copies of these documents, upon payment of a duplicating
fee, by writing to the Securities and Exchange Commission. Please call the
Securities and Exchange Commission at 1-800-SEC-0330 for further information
about the public reference rooms. Our filings with the Securities and Exchange
Commission, including our registration statement, are also available to you on
the Securities and Exchange Commission's Web site, http://www.sec.gov.
37
We are subject to the information and reporting requirements of the
Securities Exchange Act of 1934, and file and furnish to our stockholders annual
reports containing financial statements audited by our independent auditors,
make available to our stockholders quarterly reports containing unaudited
financial data for the first three quarters of each fiscal year, proxy
statements and other information with the Securities and Exchange Commission.
You may read and copy any reports, statements or other information on
file at the public reference rooms. You can also request copies of these
documents, for a copying fee, by writing to the Commission.
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]
38
INDEX TO FINANCIAL STATEMENTS
PAGE
----
YEARS ENDED DECEMBER 31, 2002 AND 2001
- --------------------------------------
Independent Auditors' Report.......................................................................................F-2
Report of Independent Certified Public Accountants.................................................................F-3
Balance Sheets.....................................................................................................F-4
Statements of Operations...........................................................................................F-5
Statements of Changes in Stockholders' Equity (Deficit)............................................................F-6
Statements of Cash Flows...........................................................................................F-7
Notes to Financial Statements......................................................................................F-9
SIX MONTHS ENDED JUNE 30, 2003 AND 2002
- ---------------------------------------
Balance Sheets (unaudited).........................................................................................F-21
Statements of Operations (unaudited)...............................................................................F-22
Statements of Changes in Stockholders' Equity (Deficit) (unaudited)................................................F-23
Statements of Cash Flows (unaudited)...............................................................................F-24
Notes to Financial Statements (unaudited)..........................................................................F-26
F-1
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of Entropin, Inc.
We have audited the accompanying balance sheets of Entropin, Inc. (a development
stage company) as of December 31, 2001 and 2002, and the related statements of
operations, changes in stockholders' equity (deficit), and cash flows for the
years then ended, and for the period from August 27, 1984 (inception) through
December 31, 2002. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits. The Company's financial statements for
the period from August 27, 1984 (inception) through December 31, 1999 were
audited by other auditors whose report, dated February 4, 2000, expressed an
unqualified opinion on those statements. The financial statements for the period
from August 27, 1984 (inception) through December 31, 1999 reflect a net loss
applicable to common stockholders of $14,993,971 of the related total. The other
auditors' report has been furnished to us, and our opinion, insofar as it
relates to the amounts included for such prior period, is based solely on the
report of such other auditors.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits and the report of
other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of other auditors, such
financial statements present fairly, in all material respects, the financial
position of Entropin, Inc. as of December 31, 2001 and 2002, and the results of
its operations and its cash flows for the years then ended and for the period
from August 27, 1984 (inception) through December 31, 2002, in conformity with
accounting principles generally accepted in the United States of America.
The accompanying financial statements for the year ended December 31, 2002 have
been prepared assuming that the Company will continue as a going concern. As
discussed in Note 1 to the financial statements, the Company's recurring losses
from operations and requirement for additional funding raise substantial doubt
about its ability to continue as a going concern. Management's plans concerning
these matters are also described in Note 1. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.
DELOITTE & TOUCHE LLP
San Diego, California
March 4, 2003
F-2
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors and Stockholders
of Entropin, Inc.
We have audited the statements of operations, changes in stockholders' equity
(deficit) and cash flows for the period from August 27, 1984 (inception) through
December 31, 1999 of Entropin, Inc. (a development stage company) none of which
are presented separately herein. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the results of operations of Entropin, Inc. and its cash
flows for the period from August 27, 1984 (inception) through December 31, 1999,
in conformity with accounting principles generally accepted in the United States
of America.
CAUSEY DEMGEN & MOORE INC.
Denver, Colorado
February 4, 2000
F-3
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
BALANCE SHEETS
Years ended December 31,
ASSETS 2001 2002
- ------ ------------- -------------
Current assets:
Cash and cash equivalents $ 4,609,562 $ 2,906,853
Short-term investments 4,098,692 990,000
Accrued interest receivable 33,327 5,954
------------- -------------
Total current assets 8,741,581 3,902,807
Patent costs, less accumulated amortization of
$132,997 (2001) and $163,869 (2002) 329,035 410,641
Property and equipment, net 11,197 12,210
Prepaid assets and deposits 40,954 3,126
------------- -------------
$ 9,122,767 $ 4,328,784
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------
Current liabilities:
Accounts payable $ 142,986 $ 62,450
Series A redeemable preferred stock, $.001 (2001) and $.0001
(2002) par value, 3,210,487 shares authorized, issued and
outstanding, $1.00 per share redemption value 3,210,487 3,210,487
Series B redeemable convertible preferred stock, $.001 (2001)
and $.0001 (2002) par value, 400,000 shares authorized,
168,500 (2001) and 143,500 (2002) shares issued and
outstanding, $5.00 per share redemption value 825,049 712,547
Commitments and contingencies (Note 6)
Stockholders' equity:
Common stock, $.001 (2001) and $.0001 (2002) par value,
50,000,000 shares authorized, 9,798,480 (2001) and
9,912,587 (2002) shares issued and outstanding 9,798 991
Additional paid-in capital 29,037,558 29,801,165
Unearned stock compensation (62,780) (72,479)
Deficit accumulated during the development stage (24,040,331) (29,386,377)
------------- -------------
Total stockholders' equity 4,944,245 343,300
------------- -------------
$ 9,122,767 $ 4,328,784
============= =============
F-4
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2001 and 2002
and for the Period from August 27, 1984 (Inception) Through December 31, 2002
December 31, Inception through
2001 2002 December 31, 2002
------------- ------------- -----------------
Costs and expenses:
Research and development $ 2,315,076 $ 3,048,063 $ 14,693,578
General and administrative 1,973,401 2,403,835 14,892,366
------------- ------------- -------------
Operating loss (4,288,477) (5,451,898) (29,585,944)
------------- ------------- -------------
Other income (expense):
Interest income 497,462 190,102 1,466,128
Interest expense -- -- (242,811)
------------- ------------- -------------
Total other income, net 497,462 190,102 1,223,317
------------- ------------- -------------
Net loss (3,791,015) (5,261,796) (28,362,627)
Dividends applicable to Series B
preferred stockholders (96,384) (91,033) (1,068,145)
------------- ------------- -------------
Net loss applicable to common stockholders $ (3,887,399) $ (5,352,829) $(29,430,772)
============= ============= =============
Basic and diluted net loss per common share $ (.40) $ (.54) $ (4.86)
============= ============= =============
Weighted average common shares outstanding 9,739,000 9,874,000 6,057,000
============= ============= =============
F-5
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
For the Years Ended December 31, 2001 and 2002
and for the Period from August 27, 1984 (Inception) Through December 31, 2002
Deficit
accumulated Total
Additional Unearned during the stockholders'
Common stock paid-in Stock stock development equity
Shares Amount capital subscriptions compensation stage (deficit)
----------- ------- ------------ ---------- ------------ ------------- -------------
Balance, August 27, 1984
(inception) -- $ -- $ -- $ -- $ -- $ -- $ --
Cash contribution from
stockholder -- -- 50,000 -- -- -- 50,000
Cash received for common
stock subscription -- -- -- 150,000 -- -- 150,000
Stock contributions from
stockholders -- -- 927,000 -- -- -- 927,000
Shares issued pursuant to
recapitalization 480,051 480 219,620 -- -- -- 220,100
Shares issued pursuant to
private placements 1,508,700 1,509 4,163,931 -- -- -- 4,165,440
Shares and warrants issued
pursuant to secondary
offering 2,180,000 2,180 13,678,154 -- -- -- 13,680,334
Conversion of promissory
notes to common stock 100,831 101 201,561 -- -- -- 201,662
Change in par value of
common stock in connection
with reincorporation in
Delaware -- (8,878) 8,878 -- -- -- --
Unearned stock compensation
pursuant to issuance of
common stock options -- -- 8,710,006 -- (8,710,006) -- --
Amortization and valuation
adjustment of unearned
stock compensation -- -- -- -- 8,637,527 -- 8,637,527
Shares issued from exercise
of common stock options
and warrants 132,785 133 80,159 -- -- -- 80,292
Common stock warrants canceled
in exchange for cash -- -- (330,000) -- -- -- (330,000)
Shares issued for cash 1,252,802 1,253 303,747 (150,000) -- -- 155,000
Shares issued for services 4,073,418 4,066 334,303 -- -- -- 338,369
Issuance of Series B preferred
stock with a beneficial
conversion feature -- -- 613,750 -- -- (613,750) --
Shares issued for Series B
preferred stock dividend 82,000 68 409,932 -- -- (410,000) --
Conversion of Series B
preferred stock to common
stock 102,000 79 493,237 -- -- -- 493,317
Accretion to mandatory
redemption amount for
Series B preferred stock -- -- (63,113) -- -- -- (63,113)
Net loss for the period from
August 27, 1984 (inception)
through December 31, 2002 -- -- -- -- -- (28,362,627) (28,362,627)
----------- ------- ------------ ---------- ------------ ------------- -------------
Balance, December 31, 2002 9,912,587 991 29,801,165 -- (72,479) (29,386,377) 343,301
=========== ======= ============ ========== ============ ============= =============
F-6
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2001 and 2002
and for the Period From August 27, 1984 (Inception) Through December 31, 2002
December 31, Inception through
2001 2002 December 31, 2002
------------ ------------ -----------------
Cash flows from operating activities:
Net loss $(3,791,015) $(5,261,796) $(28,362,627)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization 30,761 28,115 223,380
Loss on disposal of assets -- 1,837 1,837
Services received in exchange for stock,
stock options and warrants 596,990 548,350 9,864,338
Services received in exchange for
compensation agreements -- -- 2,231,678
Decrease (increase) in accrued interest receivable 198,312 27,373 (5,954)
(Decrease) increase in accounts payable (89,491) (80,536) 270,147
Other (37,955) 47,736 55,487
------------ ------------ -------------
Net cash used in operating activities (3,092,398) (4,688,921) (15,721,714)
------------ ------------ -------------
Cash flows from investing activities:
Maturities (purchases) of short-term investments, net 1,722,377 3,108,692 (990,000)
Patent costs (30,866) (112,478) (574,510)
Purchase of property and equipment (8,030) (10,002) (130,516)
------------ ------------ -------------
Net cash provided by (used in) investing activities 1,683,481 2,986,212 (1,695,026)
------------ ------------ -------------
Cash flows from financing activities:
Proceeds from shares issued pursuant to recapitalization -- -- 220,100
Proceeds from issuance of common stock and warrants 292 -- 18,281,066
Proceeds from issuance of preferred stock -- -- 1,142,750
Proceeds from stockholder loans -- -- 809,677
Proceeds from stockholder advances -- -- 98,873
Repayments of stockholder advances -- -- (98,873)
Payment for cancellation of common stock warrant -- -- (330,000)
Proceeds from convertible notes payable -- -- 200,000
------------ ------------ -------------
Net cash provided by financing activities 292 -- 20,323,593
------------ ------------ -------------
Net (decrease) increase in cash (1,408,625) (1,702,709) 2,906,853
Cash and cash equivalents at beginning of period 6,018,187 4,609,562 --
------------ ------------ -------------
Cash and cash equivalents at end of period $ 4,609,562 $ 2,906,853 $ 2,906,853
============ ============ =============
F-7
(Continued from preceding page)
Supplemental disclosure of cash flow information:
Inception through
2001 2002 December 31, 2002
---- ---- -----------------
Cash paid for interest $ -- $ -- $ 242,811
Supplemental disclosure of non-cash investing and financing activities:
During the year ended December 31, 1998, the Company issued
3,210,487 shares of Series A preferred stock in exchange for an
aggregate $1,710,487 of notes payable to stockholders plus
accrued interest and a $1,500,000 compensation agreement.
During the year ended December 31, 1999, the Company converted
promissory notes payable with outstanding principal and interest
balances totaling $201,662 into 100,831 shares of common stock.
During the years ended December 31, 2001 and 2002 and the period
from August 27, 1984 (inception) through December 31, 2002, the
Company issued 69,811, 12,653 and 4,073,418 shares of common
stock for services totaling $175,570, $18,087 and $338,369,
respectively.
During the years ended December 31, 2001 and 2002 and the period
from August 27, 1984 (inception) through December 31, 2002, the
Company issued 18,050, 16,850 and 82,000 shares, respectively,
of common stock at $5.00 per share as payment of accrued
dividends on Series B preferred stock.
During the years ended December 31, 2001 and 2002 and the period
from August 27, 1984 (inception) through December 31, 2002, the
Company issued 22,000, 25,000 and 102,000 shares of common stock
for conversion of an equal number of shares of Series B
preferred stock totaling $106,203, $122,410 and $493,317,
respectively.
F-8
NOTES TO FINANCIAL STATEMENTS
1. Organization and summary of significant accounting policies
-----------------------------------------------------------
Organization and basis of presentation:
Entropin, Inc. (the "Company"), a Delaware corporation, was organized as a
California corporation in August 1984. The Company is a pharmaceutical
research and development company focused on the development of its
proprietary compound ENT-103(R) as a potent therapy for pain. Activities
from inception include research and development, seeking the U.S. Food and
Drug Administration, or FDA, approval for its proprietary compounds,
including its current drug, ENT-103, as well as fund raising.
The Company's financial statements have been presented on a going concern
basis which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. The Company is in the
development stage and has been primarily involved in research and
development activities. This has resulted in significant operating losses
and an accumulated deficit at December 31, 2002 of $29,386,377. Management
anticipates additional operating losses for the foreseeable future. In
addition, if the Company's outstanding Series B preferred shares have not
been converted to shares of common stock prior to their July 15, 2003
mandatory redemption date, the Company will be required to redeem them at
an approximate cost of $717,500. These factors among others may indicate
that the Company will be unable to continue as a going concern for a
reasonable period of time. The financial statements do not include any
adjustments related to the recoverability of recorded asset amounts that
may be necessary should the Company be unable to continue as a going
concern. The Company will need to raise significant additional funds to
continue its planned development activities. In the absence of positive
cash flows from operations, the Company is highly dependent on its ability
to secure additional funding through the issuance of debt or equity
instruments or corporate partnering arrangements. If adequate funds are not
available, the Company may be forced to significantly curtail its
operations or to obtain funds through entering into collaborative
agreements or other arrangements that may be on unfavorable terms. The
Company's failure to raise sufficient additional funds on favorable terms,
or at all, would have a material adverse effect on its business, results of
operations and financial position. The Company's ultimate continued
existence is currently dependent on its ability to complete development of,
obtain approval for, and successfully market its proprietary compound
ENT-103.
Because the Company has not yet completed product development, obtained
regulatory approval, or verified the market acceptance and demand for any
products it may develop, its activities have been accounted for as those of
a "development stage enterprise" as set forth in Statement of Financial
Accounting Standards No. 7, "Accounting and Reporting by Development Stage
Enterprises".
During 1998, the Company consummated an agreement and plan of merger with
Vanden Capital Group, Inc. ("Vanden"), a Colorado corporation, under which
Vanden acquired all of the issued and outstanding common shares of the
Company (see Note 5). The Company was merged into Vanden, and Vanden
changed its name to Entropin, Inc. For accounting purposes, the acquisition
has been treated as a recapitalization of the Company, based upon
historical cost, and a reverse acquisition with the Company as the
acquirer.
The Company completed the recapitalization during 1998. The Company also
completed private offerings of 245,500 shares of Series B convertible
preferred stock for gross proceeds of $1,227,500, $200,000 of convertible
notes payable, and 1,508,700 shares of common stock for gross proceeds of
$4,664,800. In addition, the Company raised approximately $13,700,000
through a secondary offering and sale of the underwriter's over-allotment
during the first half of 2000.
F-9
Use of estimates:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Income taxes:
The Company provides for income taxes utilizing the asset and liability
approach under which deferred income taxes are recognized based upon
currently enacted tax laws and rates applicable to the periods in which the
taxes are expected to become payable. A valuation allowance is established
for deferred income tax assets when their realization is not reasonably
assured.
Property and equipment:
Office furniture and equipment is recorded at cost. Depreciation commences
as items are placed in service and is computed using the straight-line
method over their estimated useful lives of three years.
Leasehold improvements are recorded at cost and amortized using the
straight-line method over the shorter of their estimated useful life or the
related lease term.
Research and development costs:
Research and development costs are expensed as incurred.
Patents:
Patents are stated at cost less accumulated amortization which is
calculated on a straight-line basis over their useful lives, estimated by
management to average 16 years. Costs associated with internally developed
patents (with the exception of legal costs) are expensed in the period
incurred.
The Company currently holds fifty six issued and pending patent
applications worldwide, including seven issued U.S. patents and 37 foreign
patents and has three patents pending. The issued patents include two
material composition patents covering the molecules contained in Esterom(R)
solution (including ENT-102) which expire in 2012 and 2013. The Company has
also filed a patent application with the United States Patent Office along
with international counterparts that describes a method for the enrichment
of the compounds covered in our composition of matter patents. This patent
application describes a method for the production of Esterom(R) solution
and its components, including ENT-102
In August 2002, the Company filed a patent describing the manufacturing
process for ENT-102. This patent application describes the preparation of
commercial quantities of ENT-102 and other related compounds. In December
2002, the Company filed a composition of matter patent application for
ENT-103.
F-10
Impairment of long-lived assets:
The Company evaluates its long-lived assets for impairment whenever events
or changes in circumstances indicate that the carrying amount of such
assets or intangibles may not be recoverable. Recoverability of assets to
be held and used is measured by a comparison of the carrying amount of an
asset to future undiscounted net cash flows expected to be generated by the
asset. If such assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying amount of the
assets exceeds the fair value of the assets. Assets to be disposed of are
reported at the lower of the carrying amount or fair value less costs to
sell.
Cash equivalents and short-term investments:
The Company considers cash equivalents to include only highly liquid
securities with an original maturity of three months or less. Investments
with an original maturity of more than three months are considered
short-term investments and have been classified by management as
held-to-maturity. At December 31, 2002, the Company's short-term
investments consisted entirely of certificates of deposit that are carried
at amortized cost with an average remaining maturity period of 64 days.
Concentrations of credit risk:
The Company invests its excess cash principally in certificates of deposit.
The Company has established guidelines relative to diversification and
maturities that maintain safety and liquidity. These guidelines are
periodically reviewed and modified to take advantage of trends in yields
and interest rates. The Company has not experienced any losses on its cash
equivalents or short-term investments.
Stock-based compensation:
The Company follows the fair value method of accounting for employee stock
based compensation provided for in Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation". Compensation
cost for stock option grants is measured as the fair value of the options
using the Black-Scholes option pricing model. Amounts recorded for options
granted to non-employees are determined in accordance with Statement of
Financial Accounting Standards No. 123 and EITF 96-18 based on the fair
value of the consideration or the fair value of the equity instruments
issued, whichever is more reliably measured. Deferred charges related to
options granted to non-employees are periodically remeasured as the
underlying options vest and are included as unearned stock compensation in
the stockholders' equity section of the balance sheet.
Fair value of financial instruments:
The carrying amounts of cash, cash equivalents, short-term investments,
receivables and accounts payable are considered to be representative of
their respective fair values because of their short-term nature. The
Company believes that it is not practical to estimate the fair market value
of its Series A and Series B preferred stock because of the numerous
features unique to these securities, as described in Note 4, without
incurring excessive costs.
Loss per share:
Net loss per common share is computed using the weighted average number of
common shares outstanding. Basic and diluted net loss per common share
amounts are equivalent for the periods presented as the inclusion of common
stock equivalents in the number of shares used for the diluted computation
would be anti-dilutive. Dividends on preferred stock, consisting of 10%
cumulative dividends and deemed dividends related to the beneficial
conversion feature and mandatory redemption accretion of Series B preferred
stock, are added to net loss for the purpose of determining net loss and
net loss per share amounts applicable to common stockholders.
F-11
Segment reporting:
The Company currently operates in a single segment. In addition, financial
results are prepared and reviewed by management as a single operating
segment. The Company continually evaluates its operating activities and the
method utilized by management to evaluate such activities and will report
on a segment basis when appropriate to do so.
Recent accounting pronouncements:
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations". SFAS No. 141 requires the use of the purchase method of
accounting for all business combinations initiated after June 30, 2001 and
eliminates the pooling-of-interests method. The adoption of SFAS No. 141
did not have a material effect on the Company's results of operations or
financial position.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets". SFAS No. 142 requires that goodwill and other intangible assets
with indefinite lives no longer be amortized, but instead tested for
impairment at least annually. In addition, the standard addresses how
intangible assets that are acquired individually or with a group of other
assets, other than as part of a business combination, should be accounted
for upon their acquisition. The adoption of SFAS No. 142 effective January
1, 2002 did not have a material effect on the Company's results of
operations or financial position.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". This statement addresses
financial accounting and reporting for the impairment or disposal of
long-lived assets. This statement supersedes FASB Statement No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of", and the accounting and reporting provisions of
APB Opinion No. 30, "Reporting the Results of Operations - Reporting the
Effects of a Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions", for the
disposal of a segment of a business (as previously defined in that
Opinion). The adoption of SFAS No. 144 effective January 1, 2002 did not
have a material effect on the Company's results of operations or financial
position.
In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN 45"),
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others". FIN 45 requires
that a liability be recorded in the guarantor's balance sheet upon issuance
of a guarantee. In addition, FIN 45 requires certain disclosures about each
of the entity's guarantees. The disclosure provisions of FIN 45 are
effective for annual and interim periods that end after December 15, 2002.
The recognition provisions of FIN 45 are applicable prospectively to
guarantees entered after December 31, 2002. The Company does not believe
that the adoption of FIN 45 will have a material effect on its results of
operations or financial position.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation, Transition and Disclosure". SFAS No. 148 provides alternative
methods of transition for those entities that elect to voluntarily adopt
the fair value accounting provisions of SFAS 123, "Accounting for
Stock-Based Compensation". SFAS No. 148 also requires more prominent
disclosures of the pro forma effect of using the fair value method of
accounting for stock-based employee compensation as well as pro forma
disclosure of the effect in interim financial statements. The transition
and annual disclosure provisions of SFAS No. 148 are effective for fiscal
years ending after December 15, 2002. The interim disclosure requirements
are effective for the first interim period ending after December 15, 2002.
Entropin has previously adopted the fair value accounting provisions of
SFAS No. 123 and therefore the adoption of SFAS No. 148 did not have a
material effect on the Company's results of operations or financial
position.
2. Related party transactions
--------------------------
Lease agreement:
The Company subleases on a month-to-month basis approximately 800 square
feet of office space from a principal stockholder, at $800 per month. Rent
expense related to the sublease was $9,600, $9,600 and $47,114 for the
years ended December 31, 2001 and 2002 and for the period from August 27,
1984 (inception) through December 31, 2002, respectively.
Conversion of long-term debt - stockholders:
During January 1998, the Company converted $1,710,487 of long-term debt and
accrued interest, incurred for cash advances and past services associated
with research and development, into 1,710,487 shares of 8% non-voting,
non-cumulative Series A preferred stock at $1.00 per share (see Note 4).
The debt was owed to significant stockholders.
F-12
3. Income taxes
------------
The Company has not recorded income tax expense or benefit for the years
ended December 31, 2001 and 2002 and the period from August 27, 1984
(inception) through December 31, 2002. This differs from the income tax
benefit that would result from applying the federal statutory rate of 34%
to net loss for these periods primarily as a result of a valuation
allowance provided for deferred income tax assets and losses incurred
through 1998 while the Company was reporting as an S Corporation for income
tax purposes.
At December 31, 2002, the Company has net operating loss carry-forwards of
approximately $15,482,000 for federal purposes and $13,612,000 for state
purposes. The federal and state net operating loss carry-forwards begin to
expire in 2018 and 2004, respectively. At December 31, 2001 and 2002,
deferred income tax balances and the related valuation allowance are as
follows:
2001 2002
---- ----
Deferred income tax assets (liabilities) resulting from:
Net operating loss carry-forwards $ 4,397,000 $ 6,034,000
Research and development credit carry-forwards 583,000 457,000
Basis difference in patent costs and
property and equipment (117,000) (152,000)
Accrual to cash basis adjustments 11,000 21,000
Unearned stock compensation 3,473,000 3,454,000
Capital loss contribution 28,000 --
Capitalized research and development costs -- 49,000
----------- -----------
Total 8,375,000 9,863,000
Less valuation allowance (8,375,000) (9,863,000)
----------- -----------
$ -- $ --
============ ============
A full valuation allowance has been established for deferred income tax
assets, as utilization of the loss carry-forwards and realization of other
deferred income tax assets is not reasonably assured.
4. Redeemable preferred stock
--------------------------
In December 1997, the Board of Directors approved an amendment to the
Company's articles of incorporation to authorize the issuance of 10,000,000
shares of $.001 par value preferred stock in various series. In June 2002,
the Company reincorporated in Delaware and changed the par value of its
preferred stock from $.001 to $.0001 per share.
In January 1998, the Company issued 3,210,487 shares of its Series A
redeemable, non-voting, non-cumulative 8% preferred stock in exchange for
an aggregate $1,710,487 of notes payable to stockholders, accrued interest,
and a $1,500,000 compensation agreement. The annual 8% dividend is based
upon a $1.00 per share value and is only payable out of earnings. The
F-13
Series A preferred stock is redeemable from 20% to 50% of annual earnings,
as long as redemption amounts do not exceed net cash flow from operating
activities. Prior to February 14, 2003, the Series A preferred stock
agreement required any redemption by the Company to be in the form of cash
at a value of $1.00 per share and was to be automatically cancelled on
January 16, 2005. On February 14, 2003, the Company entered into separate
agreements with each of the holders of its Series A preferred stock, in
which these stockholders agreed to exchange each outstanding share of
Series A preferred stock for one share of Series A' preferred stock. The
terms of the Series A' preferred stock are the same as the terms of the
Series A preferred stock except the redemption provision of the Series A'
preferred stock allows us to redeem the Series A' preferred stock in cash,
common stock or any combination thereof and extends the redemption period
to January 15, 2015. Because the Company can redeem the Series A' preferred
stock with common stock at its discretion, the Company can include the
outstanding Series A' preferred stock balance in the Company's
stockholders' equity effective February 14, 2003. Had the exchange been
completed effective as of December 31, 2002, the resulting inclusion of the
outstanding Series A' preferred stock balance in the Company's
stockholders' equity would have increased total stockholders' equity as of
December 31, 2002 to $3,553,787.
In July 1998, the Company completed a private placement of 245,500 shares
of Series B preferred stock at $5.00 per share, for total net proceeds of
$1,142,750. The Series B preferred stock is designated as redeemable 10%
cumulative non-voting convertible preferred stock with $.0001 par value.
The shares are convertible on a one-for-one basis into common stock. The
$613,750 intrinsic value of this beneficial conversion feature was recorded
by allocating this portion of the total net proceeds to additional paid-in
capital, with an equal amount treated as an immediate deemed dividend to
the preferred stockholders. The dividends accrue at the rate of $.50 per
share per annum and are paid annually commencing July 15, 1999. At the
Company's election, annual dividends were paid in shares of the Company's
common stock at $5.00 per share at July 15, 1999, 2000, 2001 and 2002. A
total of 102,000 Series B preferred shares have been converted as of
December 31, 2002. All unconverted shares are subject to mandatory
redemption at $5.00 per share on or before July 15, 2003. As of December
31, 2002, 143,500 shares of Series B preferred stock remained outstanding.
If these shares have not been converted to shares of common stock prior to
the mandatory redemption date, we will be required to redeem them at a cost
of approximately $717,500. The Company is accreting its Series B preferred
stock up to the mandatory redemption amount. Such accretion amounts are
treated as deemed dividends to preferred stockholders.
5. Stockholders' equity
--------------------
Recapitalization:
In December 1997, the Company entered into an agreement and plan of merger
with Vanden to exchange all of the issued and outstanding common shares of
the Company, in exchange for 5,220,000 shares of Vanden's $.001 par value
common stock, in a reverse acquisition.
Pursuant to the agreement, Vanden agreed to have cash of $220,000 and no
unpaid liabilities at the effective date of the transaction. The exchange
was consummated during January 1998 and is presented on the statement of
changes in stockholders' equity as an issuance of 480,051 shares of common
stock for cash proceeds of $220,100 pursuant to recapitalization. In
connection with the recapitalization, the Company issued options to
purchase 180,001 shares of its $.001 par value common stock for cash of
$100 and options to purchase an additional 180,001 shares of common stock
for $2.80 per share, as required by a management advisory services contract
as compensation for arranging the merger. The difference between the fair
value of the stock, estimated by the Company to be $2.75 per share, and the
purchase price for the initial 180,001 shares was treated as additional
cost of the merger and charged to capital, consistent with accounting for
the reverse acquisition as a recapitalization. The net effect of this
transaction was to record an increase and related decrease to additional
paid-in capital of $495,000. The remaining options to acquire 180,001
shares were exercisable for a five-year period and expired in October 2002.
F-14
Following the exchange, the Company's stockholders owned approximately 95%
of the outstanding common stock of Vanden. The reverse acquisition has been
accounted for as a recapitalization of the Company based upon historical
cost. Accordingly, the common stock and additional paid-in capital amounts
have been restated on the statements of changes in stockholders' equity to
give retroactive effect to the recapitalization.
Reincorporation:
In June 2002, the Company changed its state of incorporation from Colorado
to Delaware. The reincorporation was approved by the holders of a majority
of its outstanding shares. The reincorporation was accomplished by merging
with and into Entropin, Inc., a Delaware corporation and our formerly
wholly-owned subsidiary. Each share of common stock of the Colorado
corporation was converted into one share of common stock of the Delaware
corporation. Each share of Series A preferred stock of the Colorado
corporation was converted into one share of Series A preferred stock of the
Delaware corporation. Each share of Series B preferred stock of the
Colorado corporation was converted into one share of Series B preferred
stock of the Delaware corporation.
Private placements:
In January 1998, the Company completed a private placement of 300,000
shares of its common stock at $2.75 per share for proceeds of $825,000.
In April 1999, the Company completed a private placement of 497,500 shares
of its common stock at $2.00 per share for proceeds of $995,000.
In June 1999, the Company completed a private placement of 304,750 shares
of its common stock at $4.00 per share for proceeds of $1,219,000.
In September 1999, the Company completed a private placement of 406,450
shares of its common stock at $4.00 per share for proceeds of $1,625,800.
Secondary public offering:
On March 20, 2000, the Company completed a secondary public offering. The
Company received net proceeds of approximately $12,500,000 (net of offering
costs of approximately $2,000,000) from the sale of 2,000,000 shares of
common stock and 2,000,000 redeemable common stock purchase warrants. The
warrants are exercisable at $10.50 per share at any time until March 14,
2005. After March 14, 2001, under certain conditions, the Company may
redeem the warrants at $.25 per warrant. The Company also issued to the
underwriter warrants to purchase up to 200,000 shares at an exercise price
of $8.25 per share and an option to purchase up to 200,000 warrants to
purchase 200,000 shares at $.30 per warrant. On May 1, 2000, the Company
received net proceeds of $1,185,000 from the over-allotment sale of 180,000
shares of common stock and 300,000 warrants. The warrants carry the same
terms as those sold in the public offering.
Stock options and warrants:
In 2000, the Company provided stock option agreements to two directors to
purchase 20,000 shares of the Company's common stock exercisable for five
years at $6.00 per share. The options vested ratably on a monthly basis
commencing February 1, 2000, and ending on February 1, 2001.
In 1998, the Company provided a stock option agreement to purchase 450,000
shares of the Company's common stock at $1.50 per share to an organization
retained to provide assistance in taking Esterom(R) through the clinical
trial and NDA approval process. In July 2000, upon completion of enrollment
in the initial Phase III clinical trial, the Company terminated its
agreements with this organization. The termination agreement allowed the
F-15
organization to retain fully vested options to purchase 75,000 shares of
the Company's common stock at $1.50 per share and options to purchase
15,195 shares at $1.50 that the organization had previously assigned to its
employees and advisors. In addition, the Company granted the organization
fully vested options to purchase 90,000 shares at $2.50 per share. The
Company canceled previously issued options to purchase 359,805 shares of
its common stock at $1.50 per share. The organization invoked its cashless
exercise provision to exercise its option to purchase 75,000 shares at
$1.50 in January 2001.
In 2000, the Board of Directors approved a compensation plan for members of
the Company's Scientific and Medical Advisory Board, which included stock
options aggregating 8,000 shares in exchange for services. The options are
exercisable at $2.00 per share and vested in equal portions in December
2001 and 2002. The options expire five years from the dates they became
exercisable.
In 2001, the Company provided stock option agreements to each of its
directors to purchase 1,666.67 shares of its common stock for each month of
service as a director exercisable until February 1, 2006, at $2.00 per
share. The options vest ratably on a monthly basis commencing February 1,
April 1, or July 1, 2001, based on each director's service period, and
ending upon the earlier of April 1, 2002 or the termination of the
recipient's term as a director.
In 2001, the Board of Directors approved a compensation award for the
Chairman and Vice Chairman of the Board for services provided to the
Company. The award provided for the Chairman and Vice Chairman to receive
annual compensation in stock options with market values of $40,000 and
$30,000, respectively. The options granted in January of 2001 vested
ratably over a twelve month period and are exercisable for five years at
$1.00 per share.
In 2001, the Company provided a stock option agreement to purchase 100,000
shares of common stock to its president and chief operating officer at an
exercise price of $2.05 per share. The options vest upon completion of
specific performance milestones and expire five years from the date they
become exercisable.
In 2001, the Company provided a stock option agreement to purchase 95,000
shares of common stock to its vice president and chief financial officer at
an exercise price of $2.05 per share. The options vest upon completion of
specific milestones and expire five years from the date they become
exercisable.
In 2001, the Company provided a stock option agreement to purchase 23,200
shares of common stock to its president and chief operating officer
exercisable at $1.00 per share for a period of five years.
In 2001, the Company provided a stock option agreement to purchase 14,500
shares of common stock to its vice president and chief financial officer
exercisable at $1.00 per share for a period of five years.
In 2001, the Company provided a stock option agreement to a new director to
purchase 1,666.67 shares of its common stock for each month of service as a
director, exercisable until February 1, 2006, at $2.00 per share. The
options vested and became exercisable ratably on a monthly basis from
January 1, 2002 to April 1, 2002.
In 2002, the Board of Directors approved a compensation award for the
Chairman and Vice Chairman of the Board for services provided to the
Company. The award provided for the Chairman and Vice Chairman to receive
annual compensation in stock options with market values of $40,000 and
$30,000, respectively. The options granted in January of 2002 vested
ratably over a twelve month period and are exercisable for five years at
$1.05 per share.
In 2002, the Company provided stock option agreements to each of its
directors (except the Company's president and chief executive officer) to
purchase 1,666.67 shares of its common stock for each month of service
(20,000 shares per each year of service) as a director exercisable until
April 1, 2007, at $3.85 per share. The options vest ratably on a monthly
basis commencing April 1, 2002, and ending upon the earlier of April 1,
2003 or the termination of the recipient's term as a director.
F-16
In 2002, the Company provided a stock option agreement to purchase 40,000
shares of common stock to its president and chief executive officer for
services provided to the Company. The 40,000 options were fully vested at
grant and exercisable for a period of five years with 20,000 exercisable at
$2.05 per share and 20,000 exercisable at $3.05 per share.
In 2002, the Company provided a stock option agreement to purchase 13,750
shares of common stock to its vice president and chief financial officer
for services provided to the Company. The options were fully vested at
grant and exercisable at $2.05 per share for a period of five years.
In December 2002, the Company granted options to acquire 100,000 shares of
the Company's common stock to a consulting organization retained to provide
investor relations services to the Company. The options were fully vested
at grant with 50,000 options exercisable at $0.75 per share and 50,000
options exercisable at $1.50 per share until December 1, 2005.
The following is a summary of stock option activity:
Options Exercisable
-------------------
Option Wtd avg. Wtd avg.
Number price per exercise Number exercise
of shares share price of shares price
--------- ----- ----- --------- -----
BALANCE, DECEMBER 31, 1997 --
Granted 1,505,002 $.001 to $4.00 $2.26
Canceled (180,001) $0.001 $0.001
------------------ -------
BALANCE, DECEMBER 31, 1998 1,325,001 $2.56 713,528 $3.31
Granted 1,371,000 $3.00 to $5.00 $4.07
Exercised (20,000) $4.00 $4.00
Canceled (55,000) $3.00 to $4.00 $3.36
------------------ -------
BALANCE, DECEMBER 31, 1999 2,621,001 $3.43 1,647,669 $3.52
Granted 138,000 $2.00 to $6.00 $3.49
Exercised (95,000) $4.00 $4.00
Canceled (359,805) $1.50 $1.50
------------------ -------
BALANCE, DECEMBER 31, 2000 2,304,196 $3.14 1,849,335 $3.44
Granted 441,869 $1.00 to $2.05 $1.78
Exercised (195) $1.50 $1.50
------------------ -------
BALANCE, DECEMBER 31, 2001 2,745,870 $2.96 2,210,859 $3.32
Granted 365,750 $1.00 to $3.85 $2.34
Exercised (165,000) $1.50 to $2.50 $2.05
Expired (180,001) $2.80 $2.80
------------------ -------
BALANCE, DECEMBER 31, 2002 2,766,619 $2.90 2,356,619 $3.20
==================
F-17
The following is a summary of stock warrant activity:
Wtd avg.
Number Warrant price exercise
of shares per share price
--------- --------- -----
BALANCE, DECEMBER 31, 1998 --
Granted 1,200,181 $3.00 to $4.00 $3.17
Canceled (205,000) $3.00 to $4.00 $3.02
------------------ -------
BALANCE, DECEMBER 31, 1999 995,181 $3.20
Granted 2,500,000 $8.75 to $10.50 $10.36
Exercised (10,000) $4.00 $4.00
Canceled (101,681) $4.00 $4.00
------------------ -------
BALANCE, DECEMBER 31, 2000 3,383,500 $8.46
Canceled (100,000) $3.00 $3.00
------------------ -------
BALANCE, DECEMBER 31, 2001
AND DECEMBER 31, 2002 3,283,500 $8.63
==================
The following is additional information with respect to those options and
warrants outstanding at December 31, 2002:
Wtd avg.
remaining
Option Number Options contractual
exercise price per share of shares exercisable life in years
------------------------ --------- ----------- -------------
$0.75 50,000 50,000 2.92
$1.00 177,700 137,700 3.50
$1.50 65,000 65,000 3.51
$2.00 147,169 142,169 3.21
$2.05 230,750 160,750 3.21
$3.00 625,000 625,000 3.41
$3.05 20,000 20,000 4.45
$3.85 140,000 105,000 4.25
$4.00 811,000 811,000 1.04
$5.00 460,000 160,000 2.57
$6.00 40,000 40,000 3.09
------------- ------------- ------
2,766,619 2,356,619 2.61
============= =============
F-18
Wtd avg.
remaining
Warrant Number Warrants contractual
exercise price per share of shares exercisable life in years
------------------------ --------- ----------- -------------
$3.00 700,000 700,000 1.40
$4.00 83,500 83,500 1.42
$8.75 200,000 200,000 2.22
$10.50 2,300,000 2,300,000 2.22
--------------- --------------- ------
3,283,500 3,283,500 2.02
=============== ===============
At December 31, 2002, outstanding options and warrants aggregating
3,588,500 shares have certain registration rights and options and warrants
aggregating 6,010,119 shares contain certain cashless exercise provisions.
The fair value of issued but unearned options has been recorded as
additional paid-in capital and unearned stock compensation. Unearned stock
compensation was amortized to research and development and general and
administrative expense over the term of the related agreements, as follows:
Year ended December 31, Inception through
2001 2002 December 31, 2002
---- ---- -----------------
Research and development $ 15,597 $ 2,866 $ 897,765
General and administrative 444,381 527,397 7,739,762
---------- ----------- --------------
$459,978 $ 530,263 $ 8,637,527
========= ========== ==============
6. Commitments and contingencies
-----------------------------
Compensation agreements:
In 1993, the Company entered into a thirty-year compensation agreement with
certain limited partners owning 64.28% of the I.B.C. Limited Partnership
("I.B.C."). The limited partnership participated in the early development
of Esterom(R) and owned the rights to three patents and certain
intellectual property rights. Under the terms of the agreement, the Company
acquired these patents and intellectual property rights in exchange for
certain compensation to the limited partners, which is dependent upon the
Company's receipt of a marketing partner's technological access fee and
royalty payments. The limited partnership was subsequently dissolved.
Compensation under the agreement includes a bonus payment of $96,420 to be
paid at the time the Company is reimbursed by a pharmaceutical company for
past expenses paid for development of Esterom(R) and/or products derived
from the acquired patents and developed by the Company, as well as 64.28%
of a decreasing payment rate (3% to 1%) on cumulative annual royalties
received by the Company. As of December 31, 2002, no amounts have been
earned or accrued with respect to this agreement.
In a separate agreement with certain former I.B.C. limited partners, the
Company has agreed to pay the partners 35.72% of a decreasing earned
payment (3% to 1% on cumulative annual sales of Esterom(R) and/or products
derived from the acquired patents and developed by the Company) until
October 10, 2004. From October 10, 2004 until October 10, 2014, the Company
will pay the partners 17.86% of the earned payment. In accordance with the
F-19
agreement, the Company has agreed to pay these former limited partners the
amount of $40,000 and a minimum earned payment of $3,572 per calendar
quarter beginning on December 1, 1989. Such minimum payment is only payable
when the Company is either reimbursed for expenditures for the development
of Esterom(R) and/or products derived from the acquired patents and
developed by the Company, or from the first revenue received by the Company
from net sales of Esterom(R) and/or products derived from the acquired
patents and developed by the Company. The quarterly payments are to be
applied against the earned payment due the limited partners. The Company
will receive a credit against the earned payments of 50% of monies expended
in connection with preparing, filing, obtaining, and maintaining patents
involved with the acquired rights.
Development and supply agreements:
In July 2000, the Company entered into an agreement with a clinical
research organization to assist in the clinical and regulatory processes
for the preparation, submission, filing and approval of a NDA. The Company
agreed to compensate the organization on an hourly basis at pre-approved
consulting rates, plus reasonable and necessary expenses. The agreement may
be terminated at any time by mutual written consent of the parties.
In addition, the Company contracts with various organizations to provide
research, development, manufacturing and packaging services on an as needed
basis.
Litigation:
In February 2003, a complaint was filed in the Superior Court of the State
of California against the Company and certain of its executive officers
seeking unspecified damages and alleging that the defendants violated
federal and state securities laws. The Company believes the claims are
without merit and intends to defend the action vigorously. However, there
can be no assurance that the Company will succeed in defending or settling
this action. Additionally, there can be no assurance that the action will
not have a material adverse effect on the Company's business. As of the
date of this report, the Company is not a party to any other material legal
proceedings.
F-20
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
BALANCE SHEETS
ASSETS June 30, 2002 June 30, 2003
- ------ ------------- -------------
(Unaudited) (Unaudited)
Current assets:
Cash and cash equivalents $ 3,949,357 $ 2,179,035
Short-term investments 1,996,340 --
Accrued interest receivable 23,904 --
Refundable deposits 121,250 103,126
------------- -------------
Total current assets 6,090,851 2,282,161
Patent costs, less accumulated amortization of
$147,398 (2002) and $181,379 (2003) 350,889 411,198
Property and equipment, net 15,694 8,876
------------- -------------
$ 6,457,434 $ 2,702,235
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------
Current liabilities:
Accounts payable $ 274,530 $ 104,554
Series A redeemable preferred stock, $.0001 par value; 3,210,487 shares
authorized, issued and outstanding,
$1.00 per share redemption value 3,210,487 --
Series B redeemable convertible preferred stock, $.0001 par value; 400,000
shares authorized, 168,500 (2002) and 128,500 (2003) shares issued and
outstanding, $5.00 per share redemption value 825,049 638,064
Contingencies (Note 2)
Stockholders' equity:
Series A' redeemable preferred stock, $.0001 par value; 3,210,487 shares
authorized, issued and outstanding,
$1.00 per share redemption value -- 3,210,487
Common stock, $.0001 par value; 50,000,000 shares
authorized, 9,863,920 (2002) and 10,283,587 (2003)
shares issued and outstanding 986 1,028
Additional paid-in capital 29,556,012 30,023,201
Unearned stock compensation (266,114) (173)
Deficit accumulated during the development stage (27,143,516) (31,274,926)
------------- -------------
Total stockholders' equity 2,147,368 1,959,617
------------- -------------
$ 6,457,434 $ 2,702,235
============= =============
F-21
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2003
AND FOR THE PERIOD FROM AUGUST 27, 1984 (INCEPTION) THROUGH JUNE 30, 2003
(UNAUDITED)
June 30, Inception through
2002 2003 June 30, 2003
------------- ------------- -------------
Costs and expenses:
Research and development $ 1,894,096 $ 504,467 $ 15,198,045
General and administrative 1,317,275 1,400,905 16,293,271
------------- ------------- -------------
Operating loss (3,211,371) (1,905,372) (31,491,316)
------------- ------------- -------------
Other income (expense):
Interest income 108,186 16,823 1,482,951
Interest expense -- -- (242,811)
------------- ------------- -------------
Total other income, net 108,186 16,823 1,240,140
------------- ------------- -------------
Net loss (3,103,185) (1,888,549) (30,251,176)
Dividends applicable to Series B
preferred stockholders (42,125) (32,750) (1,100,895)
------------- ------------- -------------
Net loss applicable to common stockholders $ (3,145,310) $ (1,921,299) $(31,352,071)
============= ============= =============
Basic and diluted net loss per common share $ (.32) $ (.19) $ (5.09)
============= ============= =============
Weighted average common shares outstanding 9,850,000 10,144,000 6,164,000
============= ============= =============
F-22
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
FOR THE SIX MONTHS ENDED JUNE 30, 2003 (UNAUDITED)
Deficit
Unearned accumulated
Series A' redeemable Additional stock during the Total
preferred stock Common stock paid-in compensa- development stockholders'
Shares Amount Shares Amount capital tion stage equity
---------- ----------- ----------- ------- ------------ --------- ------------- ------------
Balance, January 1, 2003 -- $ -- 9,912,587 $ 991 $29,801,165 $(72,479) $(29,386,377) $ 343,300
Conversion of Series
A preferred stock to
Series A' preferred
stock 3,210,487 3,210,487 -- -- -- -- -- 3,210,487
Amortization and
valuation adjustment
of unearned stock
compensation -- -- -- -- 230 72,306 -- 72,536
Shares issued for
services -- -- 356,000 35 147,324 -- -- 147,359
Conversion of Series
B preferred stock
to common stock -- -- 15,000 2 74,482 -- -- 74,484
Net loss for the period -- -- -- -- -- -- (1,888,549) (1,888,549)
---------- ----------- ----------- ------- ------------ --------- ------------- ------------
Balance, June 30, 2003 3,210,487 $3,210,487 10,283,587 $1,028 $30,023,201 $ (173) $(31,274,926) $ 1,959,617
========== =========== =========== ======= ============ ========= ============= ============
F-23
ENTROPIN, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2003
AND FOR THE PERIOD FROM AUGUST 27, 1984 (INCEPTION) THROUGH JUNE 30, 2003
June 30, Inception through
2002 2003 June 30, 2003
---- ---- -------------
Cash flows from operating activities:
Net loss $ (3,103,185) $ (1,888,549) $(30,251,176)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization 17,687 20,845 244,225
Services received in exchange for stock,
stock options and warrants 306,308 219,895 10,084,233
Services received in exchange for
compensation agreements -- -- 2,231,678
Decrease in accrued interest receivable 9,423 5,954 --
Increase in refundable deposits -- (100,000) (100,000)
Increase in accounts payable 131,544 42,104 312,251
Other (83,421) -- 57,326
------------- ------------- -------------
Net cash used in operating activities (2,721,644) (1,699,751) (17,421,463)
------------- ------------- -------------
Cash flows from investing activities:
Maturities of short-term investments, net 2,102,352 990,000 --
Patent costs (36,255) (18,067) (592,577)
Purchase of property and equipment (4,658) -- (130,517)
------------- ------------- -------------
Net cash provided by (used in) investing activities 2,061,439 971,933 (723,094)
------------- ------------- -------------
Cash flows from financing activities:
Proceeds from shares issued pursuant to recapitalization -- -- 220,100
Proceeds from issuance of common stock and warrants -- -- 18,281,066
Proceeds from issuance of preferred stock -- -- 1,142,750
Proceeds from stockholder loans -- -- 809,676
Proceeds from stockholder advances -- -- 98,873
Repayments of stockholder advances -- -- (98,873)
Payment for cancellation of common stock warrant -- -- (330,000)
Proceeds from convertible notes payable -- -- 200,000
------------- ------------- -------------
Net cash provided by financing activities -- -- 20,323,592
------------- ------------- -------------
Net (decrease) increase in cash and cash equivalents (660,205) (727,818) 2,179,035
Cash and cash equivalents at beginning of period 4,609,562 2,906,853 --
------------- ------------- -------------
Cash and cash equivalents at end of period $ 3,949,357 $ 2,179,035 $ 2,179,035
============= ============= =============
F-24
(Continued from preceding page)
Supplemental disclosure of cash flow information:
Six Months Ended June 30, Inception through
2002 2003 June 30, 2003
---- ---- -------------
Cash paid for interest
during the period $ -- $ -- $ 242,811
Supplemental disclosure of non-cash investing and financing activities:
During the period from August 27, 1984 (inception) through June
30, 2003, the Company issued 3,210,487 shares of Series A
preferred stock in exchange for an aggregate $1,710,487 of notes
payable to stockholders plus accrued interest and a $1,500,000
compensation agreement.
During the period from August 27, 1984 (inception) through June
30, 2003, the Company converted promissory notes payable with
outstanding principal and interest balances totaling $201,662
into 100,831 shares of common stock.
During the period from August 27, 1984 (inception) through June
30, 2003, the Company issued 82,000 shares of common stock at
$5.00 per share as payment of accrued dividends on Series B
preferred stock.
During the six months ended June 30, 2002 and 2003, and the
period from August 27, 1984 (inception) through June 30, 2003,
the Company issued none, 15,000 and 127,000 shares of common
stock for conversion of an equal number of shares of Series B
preferred stock totaling $0, $79,448 and $572,766, respectively.
F-25
NOTES TO FINANCIAL STATEMENTS
The accompanying financial statements of Entropin, Inc. (the "Company") have
been prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and with the
instructions to Form 10-QSB and Item 310(b) of Regulation S-B. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted under such rules and regulations. Accordingly, they do not
include all of the information and footnotes required by accounting principles
generally accepted in the United States of America for complete financial
statements. In the opinion of management, the financial statements reflect all
adjustments considered necessary for a fair presentation. The results of
operations for the six months ended June 30, 2002 and 2003 are not necessarily
indicative of the results to be expected for the full year. For further
information, refer to the financial statements and footnotes thereto included in
our annual report on Form 10-KSB/A for the year ended December 31, 2002 as filed
with the Securities and Exchange Commission on April 30, 2003.
1. Organization and selected accounting policies
---------------------------------------------
Organization and basis of presentation:
Entropin, Inc. (the "Company"), a Delaware corporation, was organized as a
California corporation in August 1984. The Company is a pharmaceutical
research and development company focused on the development of its
proprietary compound ENT-103 as a potent therapy for pain. Activities from
inception include research and development, seeking the U.S. Food and Drug
Administration, or FDA, approval for its proprietary compounds, including
its current drug candidate, ENT-103, as well as fund raising.
The Company's financial statements have been presented on a going concern
basis which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. The Company is in the
development stage and has been primarily involved in research and
development activities. This has resulted in significant operating losses
and an accumulated deficit at June 30, 2003 of $31,274,926. Management
anticipates additional operating losses for the foreseeable future. These
factors among others may indicate that the Company will be unable to
continue as a going concern for a reasonable period of time. The financial
statements do not include any adjustments related to the recoverability of
recorded asset amounts that may be necessary should the Company be unable
to continue as a going concern. The Company will need to raise significant
additional funds to continue its planned development activities. In the
absence of positive cash flows from operations, the Company is highly
dependent on its ability to secure additional funding through the issuance
of debt or equity instruments or corporate partnering arrangements. If
adequate funds are not available, the Company may be forced to
significantly curtail its operations or to obtain funds through entering
into collaborative agreements or other arrangements that may be on
unfavorable terms. The Company's failure to raise sufficient additional
funds on favorable terms, or at all, would have a material adverse effect
on its business, results of operations and financial position. The
Company's ultimate continued existence is currently dependent on its
ability to complete development of, obtain approval for, and successfully
market its proprietary compound ENT-103.
Because the Company has not yet completed product development, obtained
regulatory approval, or verified the market acceptance and demand for any
products it may develop, its activities have been accounted for as those of
a "development stage enterprise" as set forth in Statement of Financial
Accounting Standards No. 7, "Accounting and Reporting by Development Stage
Enterprises".
During 1998, the Company consummated an agreement and plan of merger with
Vanden Capital Group, Inc. ("Vanden"), a Colorado corporation, under which
Vanden acquired all of the issued and outstanding common shares of the
Company. The Company was merged into Vanden, and Vanden changed its name to
Entropin, Inc. For accounting purposes, the acquisition has been treated as
a recapitalization of the Company, based upon historical cost, and a
reverse acquisition with the Company as the acquirer.
F-26
During 1998, the Company also completed private offerings of 245,500 shares
of Series B convertible preferred stock for gross proceeds of $1,227,500,
$200,000 of convertible notes payable, and 1,508,700 shares of common stock
for gross proceeds of $4,664,800. During the first half of 2000, the
Company raised approximately $13,700,000 through a secondary offering and
sale of the underwriter's over-allotment.
Stockholders' equity:
As of June 30, 2003, 128,500 shares of the Company's Series B preferred
stock remained outstanding. On July 15, 2003, all outstanding shares of our
Series B preferred stock were subject to redemption at the original
purchase price of $5.00 per share, along with all accrued and unpaid
dividends. On July 18, 2003, the Company's Board of Directors resolved to
pay the final annual dividend with stock and authorized the issuance of
12,850 shares of the Company's common stock as payment for the final
dividend. On July 30, 2003, the Company sent each holder of Series B
preferred stock a recapitalization agreement, under which the Company
agreed to exchange each outstanding share of Series B preferred stock for
9.4967 shares of its common stock rather than redeeming the Series B
preferred stock for cash. As of August 11, 2003, the holders of all
outstanding shares of Series B preferred stock had agreed to exchange their
shares of Series B preferred stock for common stock pursuant to a
recapitalization agreement with the Company. As a result, there are no
longer any shares of Series B preferred stock outstanding as of August 11,
2003, and the Company's redemption obligation to the prior holders of
Series B preferred stock has terminated.
Use of estimates:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Patents:
The Company believes that patents and other proprietary rights are
important to its business. It is the Company's policy to file patent
applications to protect its technology, inventions and improvements to
inventions that are considered important to the development of its
business. The Company currently holds 61 issued and pending patent
applications worldwide, including seven issued U.S. patents and 42 issued
foreign patents. The Company has four patents pending in the U.S. and eight
pending foreign patents. The issued U.S. patents include two material
composition patents covering the molecules contained in Esterom(R) solution
(including ENT-102) which expire in 2012 and 2013, respectively. The
Company has also filed a patent application with the United States Patent
Office along with international counterparts that describes a method for
the enrichment of the compounds covered in its composition of matter
patents. This patent application describes a method for the production of
Esterom(R) solution and its components, including ENT-102.
In August 2002, the Company filed a patent describing the manufacturing
process for ENT-102. The patent application describes the preparation of
commercial quantities of ENT-102 and other related compounds.
In December 2002, the Company filed a composition of matter patent
application for ENT-103. The patent application describes a new chemical
entity, or NCE, that is prepared by combining benzoylecgonine and 1,3
propanediol. ENT-102 is prepared synthetically by combining benzoylecgonine
and 1,2 propanediol. This is an example of Structure Activity Relationship,
or SAR, technology, which is the basis for systematically developing NCEs
with potentially different safety and efficacy profiles, as well as NCEs
for new indications. This new patent application claims composition of
matter containing ENT-103 and also provides the potential for the
development of a number of additional new chemical entities. The Company
believes its other patents also provide the framework for the discovery of
additional NCEs using SAR.
F-27
Stock-based compensation:
The Company follows the fair value method of accounting for employee stock
based compensation provided for in Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation". Compensation
cost for stock option grants is measured as the fair value of the options
using the Black-Scholes option pricing model. Amounts recorded for options
granted to non-employees are determined in accordance with Statement of
Financial Accounting Standards No. 123 and EITF 96-18 based on the fair
value of the consideration or the fair value of the equity instruments
issued, whichever is more reliably measured. Deferred charges related to
options granted to non-employees are periodically remeasured as the
underlying options vest and are included as unearned stock compensation in
the stockholders' equity section of the balance sheet.
Loss per share:
Net loss per common share is computed using the weighted average number of
common shares outstanding. Basic and diluted net loss per common share
amounts are equivalent for the periods presented as the inclusion of common
stock equivalents in the number of shares used for the diluted computation
would be anti-dilutive. Dividends on preferred stock, consisting of 10%
cumulative dividends and deemed dividends related to the beneficial
conversion feature and mandatory redemption accretion of Series B preferred
stock, are added to net loss for the purpose of determining net loss and
net loss per share amounts applicable to common stockholders.
Segment reporting:
The Company currently operates in a single segment. In addition, financial
results are prepared and reviewed by management as a single operating
segment. The Company continually evaluates its operating activities and the
method utilized by management to evaluate such activities and will report
on a segment basis when appropriate to do so.
Recent accounting pronouncements:
In November 2002, the Financial Accounting Standards Board ("FASB") issued
FASB Interpretation No. 45 ("FIN 45"), "Guarantor's Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others." FIN 45 requires that a liability be recorded for
the fair value of the obligation in the guarantor's balance sheet upon
issuance of a guarantee. In addition, FIN 45 requires certain disclosures
about each of the entity's guarantees. The disclosure provisions of FIN 45
are effective for annual and interim periods that end after December 15,
2002. The recognition provisions of FIN 45 are applicable prospectively to
guarantees entered after December 31, 2002. The adoption of FIN 45
effective January 1, 2003 did not have a material effect on the Company's
results of operations or financial position.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation, Transition and Disclosure". SFAS No. 148 provides alternative
methods of transition for those entities that elect to voluntarily adopt
the fair value accounting provisions of SFAS 123, "Accounting for
Stock-Based Compensation". SFAS No. 148 also requires more prominent
disclosures of the pro forma effect of using the fair value method of
accounting for stock-based employee compensation as well as pro forma
disclosure of the effect in interim financial statements. The transition
and annual disclosure provisions of SFAS No. 148 are effective for fiscal
years ending after December 15, 2002. The interim disclosure requirements
are effective for the first interim period ending after December 15, 2002.
Entropin has previously adopted the fair value accounting provisions of
SFAS No. 123 and therefore the adoption of SFAS No. 148 did not have a
material effect on the Company's results of operations or financial
position.
In May 2003, the FASB issued Statement of Financial Accounting Standards
No. 150, "Accounting for Certain Financial Instruments with Characteristics
of Both Liabilities and Equity" ("SFAS No. 150"). This statement
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity.
This statement is effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective for the first
interim period beginning after June 15, 2003, with certain exceptions. The
Company does not expect the adoption of SFAS No. 150 to have a material
effect on the Company's results of operations or financial position.
2. Litigation
----------
In February 2003, a complaint was filed in the Superior Court of the State
of California against the Company and certain of its executive officers
seeking unspecified damages and alleging that the defendants violated
federal and state securities laws. The Company believes the claims are
without merit and filed a motion for summary judgment with the court on
July 30, 2003. However, there can be no assurance that the Company will
succeed in defending or settling this action. Additionally, there can be no
assurance that the action will not have a material adverse effect on the
F-28
Company's business. As of the date of this report, we are not a party to
any other material legal proceedings.
3. Series A' preferred stock
-------------------------
In February 2003, the Company's Board of Directors approved and authorized
a Certificate of Designations of Series A' preferred stock. The Company
subsequently entered into separate agreements with each of the holders of
its Series A preferred stock, in which these stockholders agreed to
exchange each outstanding share of Series A preferred stock for one share
of Series A' preferred stock. The terms of the Series A' preferred stock
are the same as the terms of the Series A preferred stock except the
redemption provision of the Series A' preferred stock allows the Company to
redeem the Series A' preferred stock in cash, common stock or any
combination thereof and extends the redemption period to January 15, 2015.
Adding the option to redeem these preferred shares in common stock allowed
the Company to include the Series A' preferred stock in stockholders'
equity.
4. Nasdaq delisting
----------------
Effective June 26, 2003, the Company's common stock and warrants were
delisted from the Nasdaq SmallCap Market for failure to comply with the
$1.00 minimum bid price requirement. The Company's common stock and
warrants now trade on the OTC Bulletin Board under the symbols "ETOP" and
"ETOPW," respectively. Trading on the OTC Bulletin Board could result in a
less liquid market available for existing and potential investors to trade
shares of the Company's common stock and warrants and could ultimately
further depress the trading price of the Company's common stock and
warrants. In addition, the Company may have more difficulty in raising
necessary additional funds as a result of not trading on the Nasdaq
SmallCap Market.
5. Subsequent events
-----------------
On July 21, 2003, the Company announced a research agreement with a
specialty pharmaceutical company. Under the research agreement, the Company
will provide its proprietary compound, ENT-103, and the partner will create
several new formulations that will include its proprietary excipient. The
partner's excipient promotes enhanced absorption of drugs across dermal,
mucosal and ocular membranes. The new formulations will be tested by the
Company's paid researchers at Harvard Medical School, the University of
Arizona or other academic institutions as deemed appropriate. The goal of
this research agreement is to determine the feasibility of developing new
topical products with ENT-103 for commercialization.
On July 29, 2003, the Company announced that it had engaged InvestLinc
Capital Services, a full-service investment banking firm. InvestLinc will
assist the Company in identifying potential strategic relationships and
sources of additional capital to finance the Company's growth and further
development of its proprietary compound, ENT-103. InvestLinc will also help
identify potential investors and/or strategic partners for the Company,
including merger and acquisition candidates. The Company cannot guarantee
that it will be able to accomplish its financing goals, establish suitable
strategic relationships or identify suitable merger or acquisition
candidates.
F-29
ANNEX A
FORM OF COMMON STOCK SUBSCRIPTION AGREEMENT
Entropin, Inc.
45926 Oasis Street
Indio, CA 92201
Ladies and Gentlemen:
This subscription agreement relates to the offer made by Entropin,
Inc., a Delaware corporation (the "Company"), to sell between $2,000,000 (the
"Minimum Offering") and $4,000,000 (the "Maximum Offering") in shares of Company
common stock, par value, $.0001 per share (the "Shares"), pursuant to the
prospectus filed with the SEC under Rule 424(b)(3) on _______ __, 2003, and as
same may be amended or supplemented from time to time (the "Prospectus"). The
undersigned has received a copy of the Prospectus and wishes to purchase Shares
on the terms, and subject to the conditions, set forth below and in the
Prospectus.
1. Subscription.
1.1 The undersigned hereby irrevocably subscribes, in
accordance with the terms and conditions of this Subscription Agreement (the
"Agreement"), for the purchase of the number of Shares, at the price per Share,
set forth on the signature page to the Agreement. The undersigned hereby
delivers to the Company (i) an executed copy of this Agreement, (ii) an executed
copy of the Investor Suitability Questionnaire, and (iii) a check or wire
transfer for the aggregate purchase price, as reflected on the signature page to
this Agreement (the "Purchase Price"), payable to _____________, as Escrow agent
(the "Escrow Agent"), as follows:
[Escrow Agent]
[Bank]
[ABA Routing No.]
[Account No.]
[Reference]
1.2 The Purchase Price and the executed Agreement will be held
for the benefit of the undersigned until accepted by the Company pursuant to
Section 2 below. If the Agreement is not accepted by February 1, 2004 (the
"Termination Date"), then the Purchase Price will be promptly returned to the
undersigned, without interest.
1.3 After a determination has been made, based upon the
undersigned's representations herein and the Investor Suitability Questionnaire,
that the undersigned is a suitable purchaser of the Shares and the conditions
set forth in Section 2 are met, the Company will accept this Agreement and the
Escrow Agent will deliver the Purchase Price to the Company. Following delivery
of the Purchase Price, the Company shall promptly deliver to the undersigned a
stock certificate representing the number of Shares for which the undersigned
hereby subscribes (or, if the subscription is accepted for less than all the
Shares requested, a certificate representing the number of allotted Shares and a
pro rata refund of a portion of the Purchase Price).
2. Acceptance of Agreement. It is understood and agreed that the
Company shall have the right to accept or reject this Agreement, in whole or in
part, for any reason whatsoever upon receiving notice from the Escrow Agent that
it has received aggregate subscriptions for Shares in an amount that equals or
exceeds the Minimum Offering. If the Escrow Agent has not received subscriptions
totaling at least the Minimum Offering by the Termination Date, then the Company
will instruct the Escrow Agent to promptly return the Purchase Price to the
undersigned, without interest. If the Company has received subscriptions for at
least the Minimum Offering by the Termination Date, then it may extend the
offering period for up to an additional 30 days, or until it has received
subscriptions totaling the Maximum Offering.
A-1
3. Representations and Warranties of Subscriber. The undersigned hereby
represents and warrants to the Company (knowing that the Company will be relying
on these matters to determine the undersigned's suitability as an investor and
the availability of securities law exemptions) that:
3.1 The undersigned has received the Prospectus. Additionally,
the Company has afforded the undersigned or the undersigned's representative
with access to and an opportunity to obtain other information regarding the
Company requested by the undersigned. The undersigned has not relied on any oral
representations of any kind.
3.2 The undersigned is an "accredited investor" as that term
is defined in Rule 501 of Regulation D under the Securities Act of 1933 (the
"Securities Act"), meaning that the undersigned has either (i) an individual net
worth or joint net worth with the undersigned's spouse in excess of $1,000,000,
or (ii) an individual annual income in excess of $200,000 in each of the two
most recent years or a joint income with the undersigned's spouse in excess of
$300,000 in each of those years, and has a reasonable expectation of reaching
the same income level in the current year, or (iii) if a corporation, trust or
partnership not formed for the specific purpose of the investment in the Shares,
total assets in excess of $7,000,000. All statements made by the undersigned in
the Investor Suitability Questionnaire are true, complete and correct.
3.3 Immediately prior to the undersigned's execution of this
Agreement, the undersigned had such knowledge and experience in financial and
business matters (including experience with investments of a similar nature),
that the undersigned was capable of evaluating the merits and risks of an
investment in the Shares.
3.4 The undersigned recognizes that the purchase of the Shares
is a speculative investment that involves a high degree of risk, including but
not limited to those risks referred to in the Prospectus, and is suitable only
for persons with the financial capability of making and holding long-term
investments not readily reducible to cash.
3.5 The undersigned, if not an individual investor, is
empowered and duly authorized to enter into this Agreement under its governing
document, trust instrument, pension plan, charter, certificate of incorporation,
bylaw provision and the like.
3.6 The type of ownership in which the undersigned is applying
to purchase Shares is as follows:
(Check One)
______ INDIVIDUAL OWNERSHIP (One signature required)
______ JOINT TENANTS WITH RIGHT OF SURVIVORSHIP (Both parties must
sign)
______ TRUST (Please include name of trustee, date trust was formed and
a copy of the Trust Agreement or other authorization)
______ CORPORATION (Please include Certified Corporate Resolution
authorizing signature)
______ PARTNERSHIP (Please include a copy of the Statement of
Partnership or Partnership Agreement authorizing signature)
______ COMMUNITY PROPERTY (Two signatures required)
______ TENANTS-IN-COMMON (Both parties must sign)
4. Continuing Obligation to Furnish Information. These representations
and warranties are true, complete and accurate as of the date hereof and shall
be true, complete and accurate as of the date of delivery of the Purchase Price
to the Company and shall survive such delivery. If, in any respect, such
representations and warranties shall not be true and accurate prior to receipt
of notice of acceptance of this Agreement, the undersigned shall give written
notice of such fact to the Company, specifying which representations and
warranties are not true and accurate and the reasons therefore.
A-2
5. Miscellaneous.
5.1 Survival. The representations and warranties made herein
shall survive the consummation of the transaction contemplated hereby.
5.2 Governing Law. This Agreement shall be governed by, and
construed and enforced in accordance with, the laws of the State of California,
without regard to principles of conflicts of laws.
5.3 Entire Agreement; Amendment. This Agreement constitutes
the entire agreement between the parties with respect to the subject matter
hereof, and supersedes all other written or oral agreements, understandings and
negotiations. This Agreement may not be amended except by a writing signed by
both the Company and the undersigned.
5.4 Attorneys' Fees. If any action at law or in equity
(including arbitration) is necessary to enforce or interpret the terms of any of
the Transaction Agreements, the prevailing party shall be entitled to reasonable
attorney's fees, costs and necessary disbursements in addition to any other
relief to which such party may be entitled.
5.5 Counterparts. This Agreement may be executed in two or
more counterparts, each of which shall be deemed an original and all of which
together shall constitute one instrument.
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]
A-3
IN WITNESS WHEREOF, the undersigned has executed this Agreement as of
the ___ day of _______________, 200__.
_____________________________________ _______________________________________
Print Name
_____________________________________ _______________________________________
Signature Address
_____________________________________ _______________________________________
Title (if applicable) Taxpayer ID Number
SUBSCRIPTION INFORMATION
_____________________________________ _______________________________________
Number of Shares Purchased Price Per Share
_____________________________________
Aggregate Purchase Price
SUBSCRIPTION ACCEPTED:
Entropin, Inc.,
a Delaware corporation
By: _______________________________________________
Name: _______________________________________________
Title:_______________________________________________
Date: _______________________________________________
[SIGNATURE PAGE TO SUBSCRIPTION AGREEMENT]
A-4
PART II: INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Article 5 of the registrant's Certificate of Incorporation (the
"Certificate") provides that, except to the extent prohibited by the Delaware
General Corporation Law (the "DGCL"), no director shall be personally liable to
the Corporation or any of its stockholders for monetary damages for breach of
fiduciary duty as a director, except for liability (i) for any breach of the
director's duty of loyalty to the Company or its stockholders, (ii) for acts or
omissions not in good faith or which involve intentional misconduct or a knowing
violation of law, (iii) pursuant to Section 174 of the DGCL or (iv) for any
transaction from which the director derived an improper personal benefit.
Article 8 of the Certificate provides that the Company shall indemnify
its directors and officers to the fullest extent authorized or permitted by law,
as now or hereafter in effect, and such right to indemnification shall continue
as to a person who has ceased to be a director or officer of the Company and
shall inure to the benefit of his or her heirs, executors and personal or legal
representatives; PROVIDED, HOWEVER, that, except for proceedings to enforce
rights to indemnification, the Company shall not be obligated to indemnify any
director or officer (or his or her heirs, executors or personal or legal
representatives) in connection with a proceeding (or part thereof) initiated by
such person unless such proceeding (or part thereof) was authorized or consented
to by the Board of Directors. The right to indemnification conferred by Article
8 includes the right to have paid by the Company the expenses incurred in
defending or otherwise participating in any proceeding in advance of its final
disposition. The Company may also, to the extent authorized from time to time by
the Board of Directors, provide rights to indemnification and to the advancement
of expenses to employees and agents of the Company similar to those conferred in
Article 8 to the Company's directors and officers.
The Company's bylaws contain the following provisions regarding the
indemnification of the Company's officers and directors:
(A) The Company shall indemnify any person who was or is a party or is
threatened to be made a party to any threatened, pending or completed action,
suit or proceeding, whether civil, criminal, administrative or investigative
(other than an action by or in the right of the administrative or investigative
(other than an action by or in the right of the Company)) by reason of the fact
that such person is or was a director or officer of the Company, or is or was a
director or officer of the Company serving at the request of the Company as a
director of officer, employee or agent of another Company, partnership, joint
venture, trust, employee benefit plan or other enterprise, against expenses
(including attorneys' fees), judgments, fines and amounts paid in settlement
actually and reasonably incurred by such person in connection with such action,
suit or proceeding if such person acted in good faith and in a manner such
person reasonably believed to be in or not opposed to the best interests of the
Company, and, with respect to any criminal action or proceeding, had no
reasonable cause to believe such person's conduct was unlawful. The termination
of any action, suit or proceeding by judgment, order, settlement, conviction, or
upon a plea of nolo contendere or its equivalent, shall not, of itself, create a
presumption that the person did not act in good faith and in a manner which such
person reasonably believed to be in or not opposed to the best interests of the
Company, and, with respect to any criminal action or proceeding, had reasonable
cause to believe that such person's conduct was unlawful.
(B) The Company shall indemnify any person who was or is a party or is
threatened to be made a party to any threatened, pending or completed action or
suit by or in the right of the Company to procure a judgment in its favor by
reason of the fact that such person is or was a director or officer of the
Company, or is or was a director or officer of the Company serving at the
request of the Company as a director, officer, employee or agent of another
Company, partnership, joint venture, trust, employee benefit plan or other
enterprise against expenses (including attorneys' fees) actually and reasonably
incurred by such person in connection with the defense or settlement of such
action or suit if such person acted in good faith and in a manner such person
reasonably believed to be in or not opposed to the best interests of the
Company; except that no indemnification shall be made in respect of any claim,
issue or matter as to which such person shall have been adjudged to be liable to
the Company unless and only to the extent that the Court of Chancery or the
court in which such action or suit was brought shall determine upon application
that, despite the adjudication of liability but in view of all the circumstances
of the case, such person is fairly and reasonably entitled to indemnity for such
expenses which the Court of Chancery or such other court shall deem proper.
i
(C) Any indemnification under the Company's bylaws (unless ordered by a
court) shall be made by the Company only as authorized in the specific case upon
a determination that indemnification of the director or officer is proper in the
circumstances because such person has met the applicable standard of conduct set
forth above in paragraph (A) or (B), as the case may be. Such determination
shall be made, with respect to a person who is a director or officer at the time
of such determination, (i) by a majority vote of the directors who are not
parties to such action, suit or proceeding, even though less than a quorum, or
(ii) by a committee of such directors designated by a majority vote of such
directors, even though less than a quorum, or (iii) if there are no such
directors, or if such directors so direct, by independent legal counsel in a
written opinion or (iv) by the stockholders. Such determination shall be made,
with respect to former directors and officers, by any person or persons having
the authority to act on the matter on behalf of the Company. To the extent,
however, that a present or former director of officer of the Company has been
successful on the merits or otherwise in defense of any action, suit or
proceeding described above, or in defense of any claim, issue or matter therein,
such person shall be indemnified against expenses (including attorneys' fees)
actually and reasonably incurred by such person in connection therewith, without
the necessity of authorization in the specific case.
Additionally, certain provisions of the California Labor Code (the
"Labor Code") require an employer to indemnify its employees in certain
circumstances. These statutory obligations may require the registrant to
indemnify its officers and other employees as set forth in the Labor Code.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The expenses to be paid by the registrant are as follows. All amounts
other than the SEC registration fee are estimates.
AMOUNT TO BE
PAID
SEC registration fee............................... $ 324
Blue sky fees...................................... 5,000
Legal fees and expenses............................ 75,000
Accounting fees and expenses....................... 5,000
Printing and engraving............................. 25,000
Transfer agent fees................................ 5,000
Miscellaneous...................................... 10,000
Total..................................... $ 125,324
=============
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES
Since October 1, 2000, the registrant has sold the following securities
in transactions that were not registered under the Securities Act of 1933:
o In April 2003, the registrant issued 225,000 shares of common
stock to Mirador Consulting in partial consideration for
investor relations services to be provided by Mirador. This
issuance was deemed to be exempt from registration under the
Act in reliance upon the exemption provided by Section 4(2) of
the Act and/or Regulation D promulgated under the Act. This
issuance was made without general solicitation or advertising.
The recipient was a sophisticated investor and had adequate
access to information about the registrant. No underwriters or
broker-dealers were involved in connection with the issuances
of these securities.
o In August 2003, the registrant issued 28,571 shares of common
stock to InvestLinc Capital Services LLC as partial
consideration for its services as placement agent in this
offering. This issuance was deemed to be exempt from
registration under the Act in reliance upon the exemption
provided by Section 4(2) of the Act and/or Regulation D
promulgated under the Act. This issuance was made without
general solicitation or advertising. The recipient was a
ii
sophisticated investor and had adequate access to information
about the registrant. No underwriters or broker-dealers were
involved in connection with the issuances of these securities.
o In August 2003, the registrant issued 1,220,333 shares of
common stock upon conversion of outstanding shares of the
registrant's Series B Preferred Stock. This issuance was
deemed to be exempt from registration under Section 3(a)(9) of
the Securities Act of 1933.
ITEM 27. EXHIBITS
EXHIBIT DESCRIPTION
------- ------------------------------------------------------------
1.1 Investment Banking Agreement, dated as of July 28, 2003,
between Entropin, Inc. and Invest Linc Securities LLC
3.1 Certificate of Incorporation of Entropin, Inc. (2)
3.2 Bylaws of Entropin, Inc. (2)
3.3 Certificate of Designations of Series A' Preferred Stock of
Entropin, Inc. (1)
5.1 Opinion of Heller Ehrman White & McAuliffe LLP
10.1 Lease Agreement, dated February 1, 1998, between the
Registrant and Thomas T. Anderson (4)
10.2 Stock Option Plan (3)
10.3 1998 Compensatory Stock Plan (5)
10.4 Form of Common Stock Subscription Agreement (attached to
prospectus as Annex A)
23.1 Consent of Heller Ehrman White & McAuliffe LLP (contained in
Exhibit 5.1)
23.2 Consent of Deloitte & Touche LLP
23.3 Consent of Causey Demgen & Moore Inc.
24.1 Power of Attorney (contained on signature page)
- ---------------
(1) Incorporated by reference from the Registrant's Annual Report on Form
10-KSB for the year ended December 31, 2002.
(2) Incorporated by reference from the like numbered exhibits as filed with
Registrant's Current Report on Form 8-K on June 26, 2002.
(3) Incorporated by reference from the like numbered exhibits filed with the
Registrant's Registration Statement on Form S-1, No. 33-23693 effective
October 21, 1989.
(4) Incorporated by reference from the like numbered exhibits filed with the
Registrant's Annual Report on Form 10-KSB, dated April 15, 1998, as
amended.
(5) Incorporated by reference from the like numbered exhibit as filed with the
Registrant's Registration Statement on Form S-8 as filed on December 30,
1998.
iii
ITEM 28. UNDERTAKINGS
The registrant hereby undertakes that it will:
(1) File, during any period in which it offers or sells securities, a
post-effective amendment to this registration statement to:
(i) Include any prospectus required by section 10(a)(3) of the
Securities Act;
(ii) Reflect in the prospectus any facts or events which,
individually or together, represent a fundamental change in the
information in the registration statement. Notwithstanding the
foregoing,, any increase or decrease in volume of securities
offered (if the total dollar value of securities offered would not
exceed that which was registered) any deviation from the low or
high end of the estimated maximum offering range may be reflected
in the form of prospectus filed with the Commission pursuant to
Rule 424(b) if, in the aggregate, the changes in volume and price
represent no more than a 20% change in the maximum aggregate
offering price set forth in the "Calculation of Registration Fee"
table in the effective registration statement; and
(iii) Include any additional or changed material information on
the plan of distribution.
(2) For determining liability under the Securities Act, treat each
post-effective amendment as a new registration statement of the
securities offered, and the offering of the securities at that time to
be the initial bona fide offering.
(3) File a post-effective amendment to remove from registration any of
the securities that remain unsold at the end of the offering.
The undersigned registrant hereby undertakes to provide to the
Placement Agent at the closing specified in the Placement Agent agreement,
certificates in such denominations and registered in such names as required by
the Placement Agent to permit prompt delivery to each purchaser.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the registrant pursuant to the foregoing provisions, or otherwise, the
registrant has been advised that in the opinion of the SEC such indemnification
is against public policy as expressed in the Act, and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by the registrant of expenses incurred or
paid by a director, officer or controlling person of the registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of counsel the matter has
been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act
of 1933 the information omitted from the form of prospectus filed as part of
this registration statement in reliance upon Rule 430A and contained in a form
of prospectus filed by the registrant pursuant to Rule 424 (b)(1) or (4), or
497(h) under the Securities Act of 1933, shall be deemed to be part of this
registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act of 1933 each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
* * *
iv
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 the
Registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in Indio, California on
this 30th day of October, 2003.
ENTROPIN, INC.
By: /S/ THOMAS G. TACHOVSKY
-----------------------------------
Name: Thomas G. Tachovsky
Title: President & Chief Executive Officer
POWER OF ATTORNEY
We, the undersigned directors and/or officers of ENTROPIN, INC. (the
"Company"), hereby severally constitute and appoint Thomas G. Tachovsky, Chief
Executive Officer and Patricia G. Kriss, Chief Financial Officer, and each of
them individually, with full powers of substitution and resubstitution, our true
and lawful attorneys, with full powers to them and each of them to sign for us,
in our names and in the capacities indicated below, the Registration Statement
on Form SB-2 filed with the SEC, and any and all amendments to said Registration
Statement (including post-effective amendments), and any registration statement
filed pursuant to Rule 462(b) under the Securities Act of 1933 in connection
with the registration under the Securities Act of 1933 of the Company's equity
securities, and to file or cause to be filed the same, with all exhibits thereto
and other documents in connection therewith, with the SEC, granting unto said
attorneys, and each of them, full power and authority to do and perform each and
every act and thing requisite and necessary to be done in connection therewith,
as fully to all intents and purposes as each of them might or could do in
person, and hereby ratifying and confirming all that said attorneys, and each of
them, or their substitute or substitutes, shall do or cause to be done by virtue
of this Power of Attorney.
Pursuant to the requirements of the Securities Act of 1933 this
Registration Statement has been signed by the following persons in the
capacities indicated on October 30, 2003:
SIGNATURE TITLE(S)
- --------- --------
/S/ THOMAS G. TACHOVSKY President, Chief Executive Officer and Director
- ---------------------------- (principal executive officer)
Thomas G. Tachovsky
/S/ PATRICIA G. KRISS Chief Financial Officer, Vice President of
- ---------------------------- Finance & Administration and Secretary/Treasurer
Patricia G. Kriss (principal financial and accounting officer)
/S/ HIGGINS D. BAILEY Chairman of the Board, Director
- ----------------------------
Higgins D. Bailey
/S/ JOSEPH R. IANELLI Vice Chairman of the Board, Director
- ----------------------------
Joseph R. Ianelli
Director
- ----------------------------
Wilson S. Benjamin
v
/S/ RANDALL L. CARPENTER Director
- ----------------------------
Randall L. Carpenter
/S/ PAUL V. MAIER Director
- ----------------------------
Paul V. Maier
/S/ BRUCE R. MANNING Director
- ----------------------------
Bruce R. Manning
/S/ DENNIS K. METZLER Director
- ----------------------------
Dennis K. Metzler
vi