SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark One)
[x] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended June 30, 1999
or
[_] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from____________to
Commission File Number: 0-23930
-------
TARGETED GENETICS CORPORATION
-----------------------------
(Exact name of registrant as specified in its charter)
Washington 91-1549568
---------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1100 Olive Way, Suite 100, Seattle, Washington 98101
---------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(206) 623-7612
--------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [x] No [_]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Common Stock, $.01 par value 33,321,776
- ----------------------------------------- ----------------------------------
(Class) (Outstanding at July 31, 1999)
1
TARGETED GENETICS CORPORATION
Quarterly Report on Form 10-Q
For the quarter ended June 30, 1999
TABLE OF CONTENTS
Page No.
--------
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
a) Condensed Balance Sheets - June 30, 1999 and December 31, 1998 3
b) Condensed Statements of Operations - for the three and six months ended
June 30, 1999 and 1998 4
c) Condensed Statements of Cash Flows - for the six months ended
June 30, 1999 and 1998 5
d) Notes to Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 7
Item 3. Quantitative and Qualitative Disclosure About Market Risk *
PART II OTHER INFORMATION
Item 1. Legal Proceedings *
Item 2. Changes in Securities *
Item 3. Defaults Upon Senior Securities *
Item 4. Submission of Matters to a Vote of Security Holders 11
Item 5. Other Information *
Item 6. Exhibits and Reports on Form 8-K 11
SIGNATURES 12
* No information is provided due to inapplicability of the item.
2
PART 1 FINANCIAL INFORMATION
Item 1. Financial Statements
TARGETED GENETICS CORPORATION
CONDENSED BALANCE SHEETS
June 30, December 31,
1999 1998
------------- -------------
ASSETS (Unaudited)
- ------
Current assets:
Cash and cash equivalents $ 1,990,565 $ 1,870,841
Securities available for sale 3,578,709 10,085,955
Accounts receivable 1,001,563 102,359
Prepaid expenses and other 223,467 387,408
------------ ------------
Total current assets 6,794,304 12,446,563
Property, plant and equipment, net 3,780,567 3,299,253
Other assets 449,967 458,267
------------ ------------
$ 11,024,838 $ 16,204,083
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
- ------------------------------------
Current liabilities:
Accounts payable $ 1,558,148 $ 1,664,074
Accrued payroll and other liabilities 248,956 486,206
Current portion of long-term obligations 1,371,478 1,171,836
------------ ------------
Total current liabilities 3,178,275 3,322,116
Long-term obligations 1,274,582 900,208
Shareholders' equity:
Preferred stock -- --
Common stock (31,172,877 and 30,652,375 shares
outstanding at June 30, 1999 and December 31,
1998, respectively) 91,658,971 88,455,138
Accumulated deficit (85,064,519) (76,501,784)
Accumulated other comprehensive income (loss) (22,471) 28,405
------------ ------------
Total shareholders' equity 6,571,981 11,981,759
------------ ------------
$ 11,024,838 $ 16,204,083
============ ============
The accompanying notes are an integral part of this statement.
3
Item 1. Financial Statements (continued)
TARGETED GENETICS CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
Three months ended Six months ended
June 30, June 30,
--------------------------- ---------------------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
Revenue:
Collaborative agreements $ 1,418,392 $ - $ 2,623,117 $ 8,339
Investment income 94,381 135,020 221,155 177,324
Other - 78,187 - 303,731
----------- ----------- ----------- -----------
Total revenue 1,512,773 213,207 2,844,272 489,394
----------- ----------- ----------- -----------
Expenses:
Research and development 3,482,494 2,628,305 6,660,454 5,834,879
Technology license fee 3,200,000 - 3,200,000 -
General and administrative 654,385 663,768 1,440,850 1,440,560
Interest 54,383 71,822 105,703 144,664
----------- ----------- ----------- -----------
Total expenses 7,391,262 3,363,895 11,407,007 7,420,103
----------- ----------- ----------- -----------
Net loss $(5,878,489) $(3,150,688) $(8,562,735) $(6,930,709)
=========== =========== =========== ===========
Basic and diluted net loss per share $ (0.19) $ (0.12) $ (0.28) $ (0.29)
=========== =========== =========== ===========
Shares used in computation of
basic and diluted net loss per share 30,804,745 27,305,728 30,730,523 23,778,020
=========== =========== =========== ===========
The accompanying notes are an integral part of this statement.
4
Item 1. Financial Statements (continued)
TARGETED GENETICS CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Six months ended
June 30,
-------------------------------
1999 1998
-------------- --------------
Operating activities:
Net loss $(8,562,735) $ (6,930,709)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 744,633 851,251
Technology fee paid with common stock and warrants 3,200,000 -
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable (899,204) 41,765
Increase (decrease) in accounts payable
and accrued liabilities (377,095) 73,721
Decrease (increase) in other assets 117,244 (88,540)
Decrease (increase) in accrued interest on
securities available for sale 76,015 (24,516)
----------- ------------
Net cash used in operating activities (5,701,142) (6,077,028)
Investing activities:
Sales of securities available for sale 6,881,277 7,076,964
Purchases of securities available for sale (500,922) (12,578,407)
Purchases of property, plant and equipment (1,015,326) (81,782)
Increase in other assets - (15,000)
----------- ------------
Net cash provided by (used in) investing activities 5,365,029 (5,598,225)
Financing activities:
Proceeds from equipment financing 960,283 -
Payments under capital leases and installment loans (508,279) (537,601)
Net proceeds from stock option exercises and other 3,833 40,568
Net proceeds from sale of capital stock - 12,850,318
----------- ------------
Net cash provided by financing activities 455,837 12,353,285
----------- ------------
Net increase in cash and cash equivalents 119,724 678,032
Cash and cash equivalents, beginning of period 1,870,841 1,011,845
----------- ------------
Cash and cash equivalents, end of period $ 1,990,565 $ 1,689,877
=========== ============
Supplemental disclosure of cash:
Equipment financed through capital lease $ 121,705 $ 176,289
Interest paid on capital lease and installment loans 99,163 144,664
The accompanying notes are an integral part of this statement.
5
Item 1. Financial Statements (continued)
TARGETED GENETICS CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Basis of Presentation
- ------------------------------
The condensed financial statements included herein have been prepared by
Targeted Genetics Corporation without audit, according to the rules and
regulations of the Securities and Exchange Commission. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been omitted
pursuant to such rules and regulations. The financial statements reflect, in the
opinion of management, all adjustments (which consist solely of normal recurring
adjustments) necessary to present fairly the financial position and results of
operations as of and for the periods indicated.
The results of operations for the three months and six months ended June
30, 1999, are not necessarily indicative of the results to be expected for the
full year.
Note 2. Revenue Recognition
- ----------------------------
Revenue under collaborative agreements is recognized as defined under the
terms of the respective collaborative agreements. Nonrefundable signing or
licensing fees that are not dependent on future performance are recognized as
revenue when received. Milestone revenue is recognized upon the achievement of
the related milestone and when collection is probable. Revenue earned from the
performance of research and development is recognized ratably over the period in
which the related work is performed. Advance payments received in excess of
amounts earned are classified as deferred revenue. Revenue from the cystic
fibrosis collaboration with Medeva PLC comprised 90% of total Company
revenue during both the second quarter and six months ended June 30, 1999.
Note 3. Alkermes License
- -------------------------
On June 9, 1999, the Company entered into an agreement with Alkermes, Inc.
to acquire the exclusive rights to a patent for the manufacture of Adeno-
Associated Viral (AAV) vectors. The license to this technology, first developed
by Children's Hospital in Columbus, Ohio, covers the use of cell lines for the
manufacture of AAV vectors, which the Company believes will be key to making AAV
vectors in a commercially viable, cost-effective manner. The Company issued
500,000 shares of its common stock and warrants to purchase a total of up to
2,000,000 additional shares in exchange for this technology license. The
warrants, expiring June 9, 2007 and June 9, 2009 are priced at $2.50 and $4.16
per share, respectively. The Company included a $3.2 million non-cash charge
with respect to the Alkermes AAV license in its results for the second quarter
ended June 30, 1999.
6
Note 4. Subsequent Event
- -------------------------
Subsequent to June 30, 1999, the Company announced that it entered into an
agreement to combine its gene delivery expertise with Elan Corporation, plc's
drug delivery expertise to form a joint venture to develop therapeutic gene
delivery products. This joint venture, expected to be named Emerald Gene
Systems ("Emerald"), will be initially owned 80.1% by Targeted Genetics and
19.9% by Elan Corporation, plc ("Elan"). The terms of the agreement include
Elan's purchase of $12 million of Targeted Genetics convertible exchangable
preferred stock. According to terms of the joint venture agreement, the
preferred stock will bear a dividend of 7%, accrued semi-annually and added to
principal, and is convertible, at Elan's option, to Targeted Genetics common
stock at a price equivalent to $3.32 per share until July 21, 2005.
Additionally, Elan has an option to exchange the preferred stock for a 30.1%
interest in Emerald Gene Systems, increasing Elan's ownership in Emerald to 50%.
This exchange option is exercisable up to 6 months after the completion of a
research and development program that is currently anticipated to be 36 to 48
months in length. The Company will use the proceeds of the preferred stock sale
to fund its share of the joint venture's initial capitalization. Elan will also
loan Targeted Genetics up to $12 million to support Targeted Genetics' share of
the joint venture's research and development costs. The loan, a convertible debt
instrument, and earned interest on the loan computed at 12% per annum, will be
convertible to Targeted Genetics' common stock at conversion prices set at 150%
of market price at the time loan proceeds are drawn. The agreement includes
provisions allowing Targeted Genetics to convert this debt into Targeted
Genetics common stock at the current market price at its option.
Emerald will pay a $15 million technology license fee to Elan for the use
of its drug delivery technology. The Company will be consolidating the results
of Emerald and recording its pro rata share of Emerald's net income or loss.
In a related transaction, the Company entered into an agreement with Elan
that requires Elan to purchase up to $10 million of Targeted Genetics common
stock at a premium to the market price. Elan purchased $5 million coincident
with closing the joint venture arrangement, representing 2,148,899 shares of
common stock, and will purchase an additional $5 million at the Company's
option, one year from closing of the joint venture arrangement at 120% of market
at that time.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Risks and Uncertainties
This discussion contains forward-looking statements that are subject to
certain risks and uncertainties that could cause actual results to differ
materially from those projected. Our future cash requirements and expense
levels will depend on numerous factors, including continued scientific progress
in our research and development programs; the results of research and
development activities; preclinical studies and clinical trials; acquisition of
products or technology, if any; relationships with existing and future corporate
collaborators, if any; competing technological and market developments; the time
and costs involved in obtaining
7
regulatory approvals; the costs involved in filing, prosecuting and enforcing
patent claims; the time and costs of manufacturing scale-up and
commercialization activities; and other factors. Please refer to our Annual
Report on Form 10-K for a more detailed description of such factors. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date of this report. We undertake no obligation to publicly
release the results of any revisions to these forward-looking statements that
may be made to reflect events or circumstances after the date of this report or
to reflect the occurrence of unanticipated events.
Results of Operations
Revenue for the quarter ended June 30, 1999 was $1.5 million, compared to
$213,000 in the second quarter of 1998. Revenue for the six-month period ended
June 30, 1999 was $2.8 million, compared to $489,000 in the same period in 1998.
The increase in 1999 revenue primarily reflects our collaboration with Medeva
PLC to develop tgAAV-CF, our potential cystic fibrosis gene therapy product.
This collaboration, which began in the fourth quarter of 1998, contributed $1.4
million and $2.5 million to second quarter 1999 and first half 1999 revenue.
Investment income for the second quarter ended June 30, 1999 was $94,000,
compared to $135,000 in the second quarter of 1998 as average cash balances were
higher a year ago resulting from a private placement of securities early in the
second quarter of 1998. Investment income for the first six months of 1999 was
$221,000, compared to $177,000 for the same period in 1998 due to higher average
balances in the 1999 period.
Research and development expenses increased to $3.4 million and $6.5
million for the three and six months ended June 30, 1999, respectively, compared
to $2.6 million and $5.8 million in the same periods in 1998. These increases
were attributable to the hiring of additional scientists to support our Medeva
collaboration, as well as increased process development costs associated with
tgAAV-CF product development. We expect to see continued modest quarter-to-
quarter increases in costs associated with developing our cystic fibrosis
product, as well as costs related to ongoing clinical trials.
Technology license fees for the second quarter and first half of 1999 were
attributable to a $3.2 million non-cash charge related to the issuance of stock
and warrants to Alkermes, Inc. in exchange for an exclusive sub-license to a
patent for the manufacture of Adeno-Associated Viral (AAV) vectors, which are
used in our tgAAV-CF cystic fibrosis program. The license to this technology,
first developed by Children's Hospital in Columbus, Ohio, covers the use of cell
lines for the manufacture of AAV vectors, which we believe will be key to making
AAV vectors in a commercially viable, cost-effective manner. We issued 500,000
shares of our common stock and warrants to purchase up to 2,000,000 additional
shares in exchange for this technology license.
General and administrative expenses for the second quarter of 1999 and 1998
were generally unchanged at $654,000 and $664,000, respectively, as second
quarter 1999 increases in administrative costs to support the Medeva
collaboration were about equal to second quarter 1998 non-recurring corporate
development costs. General and administrative expenses for the first half of
1999 were also generally unchanged compared to the first half of 1998.
Increased administrative costs in the first half of 1999 supporting our
collaboration activity were about the
8
same as the combined costs associated with a first quarter 1998 reduction in
force and the second quarter 1998 corporate development costs.
Interest expense decreased to $54,000 for the quarter ending June 30, 1999
from $72,000 for the quarter ended June 30, 1998. Interest expense was $106,000
and $145,000 for the 6 months ended June 30, 1999 and 1998, respectively. The
decreases in both periods were primarily due to lower average principal balances
as compared to the prior year.
Financial Condition
- -------------------
As of June 30, 1999, we had $5.6 million in cash, cash equivalents and
securities available for sale, compared to a total of $12.0 million at December
31, 1998. This decrease was primarily attributable to operating losses
experienced during the first six months of 1999. Net cash used for operations
was $5.7 million for the first six months ended June 30, 1999, compared to $6.1
million for the first six months of 1998. Our capital expenditures totaled $1.0
million in the quarter ended June 30, 1999 compared to $82,000 in the same
period of 1998. The majority of the expenditures in 1999 related to
construction of our pilot 100-liter scale AAV vector manufacturing facility and
improvements to our information systems. We expect the manufacturing facility
to be substantially complete before the end of the third quarter. We currently
fund substantially all of our equipment purchases with capital leases.
Since we began operations, our primary sources of revenue have been from
license fees and research funding under collaborative agreements and income
earned from investments. These sources have covered less than twenty percent of
our expenses since we started business. Gene and cell therapy products are
subject to long development timelines and the risks of failure inherent in the
development of products based on innovative technologies. Although our
technology appears promising, it is unknown whether any commercially viable
products will result from our research and development activities. Since we do
not anticipate that we will have any product-related revenue for a number of
years, we expect to incur substantial additional losses over the next several
years.
We currently estimate that based on current revenue sources (predominantly
our cystic fibrosis partnership and our newly formed joint venture with Elan)
and our current planned rate of spending, that our existing cash, cash
equivalents and securities available for sale, together with the funding
expected to be provided by our collaborative partners, will be sufficient to
meet our operating and capital requirements into the second quarter of 2001.
There can be no assurance that the underlying assumed levels of revenue and
expense will prove to be accurate. Whether or not these assumptions prove to be
accurate, we will need to raise substantial additional capital. We intend to
seek additional funding through more collaborative arrangements and may seek
additional funding through government grants, public or private equity or debt
financing. There can be no assurance, however, that adequate funds will be
available when needed or on terms favorable to us, if at all.
Impact of Year 2000
- -------------------
The Year 2000 Issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of our computer
programs or hardware that have date-sensitive software or embedded computer
chips may recognize a date using "00" as the
9
year 1900 rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions or engage in normal
business activity.
Because we have been in business for a relatively short time, our exposure
to the Year 2000 Issue is limited in comparison to more established companies.
Based on recent and ongoing assessments, we believe that we will not be required
to undertake any major activities or incur any significant costs related to the
Year 2000 Issue.
We are addressing three potential areas of impact for review and
remediation with respect to the Year 2000 Issue: (1) information technology
including computer hardware, networked equipment, PC based software applications
and financial systems (IT systems), (2) operating equipment including research
and development and manufacturing equipment with embedded chips and software
(operations equipment) and (3) third party vendors, suppliers and subcontractors
(external agents).
For our IT systems and operations equipment exposure, we have completed our
assessment of systems that could be affected by the Year 2000 Issue. All of our
software applications are purchased from established vendors and we believe
substantially all IT systems and operations equipment are compliant with Year
2000 requirements or can be remediated with currently available upgrades. We
are approximately 95% finished with implementing the upgrades that we believe
are necessary to make our IT systems and operations equipment year 2000
compliant. No significant issues have been identified to date that cannot be
resolved through minor upgrades that are currently available. We expect to
complete remediation and upgrades for our IT systems and operations equipment by
the third quarter of 1999.
We have queried all significant external agents regarding the status of
their IT systems with respect to the Year 2000 Issue. Responses have not
indicated any external agent with a Year 2000 compliance issue that would
materially impact our operations. To the extent any external agents have Year
2000 issues, we have no means of ensuring that such issues will be identified
and communicated on a timely basis or that external agents will achieve Year
2000 readiness. The inability of external agents to complete their Year 2000
resolution process in a timely fashion could materially impact our operations.
The total estimated cost of our Year 2000 remediation project is expected
to be less than $100,000 and is being expensed as incurred. If we encounter
significant unforeseen Year 2000 problems, in our IT systems and equipment,
operations equipment or with our external agents, actual remediation costs could
be significant. We expect to complete all phases of the Year 2000 readiness
effort by the end of the third quarter of 1999. All parts of the company are
involved in the Year 2000 effort.
Management of the company believes it has an effective program in place to
resolve the Year 2000 issue within an acceptable time frame. As noted above, we
have not yet completed all necessary phases of the Year 2000 program. In the
event that we do not complete the additional work required, our research and
development activities may be adversely impacted. The significance of any such
impact cannot be reasonably estimated at this time.
10
We believe that the most reasonably likely worst-case scenario arising from
the Year 2000 issue is impact to our operations resulting from non-compliant
systems of third parties. Where needed, we will establish formal and informal
contingency plans based on results of our evaluation and assessment of our
internal operations risks and risks associated with external agents. We
anticipate the majority of our contingency plans to be in place by early in the
fourth quarter of 1999.
PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
An annual meeting of the Company's shareholders ("Shareholders") was held
on May 5, 1999 (the "Annual Meeting"). Of the 30,660,077 shares outstanding as
of the record date, March 8, 1999, 26,196,824 shares, or 85% of the total shares
eligible to vote at the Annual Meeting, were represented in person or by proxy.
Three matters were submitted to a vote of the Shareholders at the Annual
Meeting. First, an amendment of the restated articles of incorporation to
increase the number of authorized shares of common stock by 40,000,000 from
40,000,000 to 80,000,000 was approved by 79% of the shares outstanding. Second,
the adoption of the 1999 Stock Option Plan providing for 1,500,000 shares of
Common Stock available for issuance was approved by 99% of the votes cast at the
meeting. Third, James D. Grant and Louis P. Lacasse were elected as Directors
of the Company, each receiving greater than 93% of the votes cast at the
meeting.
No other matters were submitted to a vote of the Shareholders.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as part of this report.
Exhibit No. Description
- ----------- -----------
10.36 * Licensing Agreement, dated June 9, 1999, by and between Targeted
Genetics Corporation and Alkermes, Inc.
10.37 Common Stock Purchase Agreement, dated June 9, 1999, by and
between Targeted Genetic Corporation and Alkermes, Inc.
10.38 Warrant Agreements, dated June 9, 1999, by and between Targeted
Genetic Corporation and Alkermes, Inc.
27.1 Financial Data Schedule
* Confidential Treatment Requested
(b) We did not file any reports on Form 8-K during the quarter ended June 30,
1999.
11
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
TARGETED GENETICS CORPORATION
-----------------------------
(Registrant)
Date: August 5, 1999 /s/ H. Stewart Parker
-------------- ------------------------------------------
H. Stewart Parker, Chief Executive Officer
(Principal Executive Officer)
Date: August 5, 1999 /s/ James A. Johnson
-------------- --------------------------------------------
James A. Johnson, Chief Financial Officer
(Principal Financial and Accounting Officer)
12