FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
for the Quarter Ended December 31, 1998
Commission file number 1-9613
Pacific Pharmaceuticals, Inc.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 36-3258753
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(State of incorporation) (I.R.S. Employer Identification No.)
6730 Mesa Ridge Road, Suite A, San Diego, CA 92121
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(Address of principal executive offices) (Zip Code)
(619) 550-3900
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(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
---- -----
As of February 11, 1999, there were 14,671,924 shares of the registrant's
Common Stock, $.02 par value outstanding.
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)
INCORPORATED DECEMBER 23, 1983
INDEX
Cautionary Statement Under the Private Securities
Litigation Reform Act of 1995. . . . . . . . . . . . . . . . . . . . . . . . 1
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements:
Consolidated Balance Sheets -
December 31, 1998 and March 31, 1998 . . . . . . . . . . . . 2
Consolidated Statements of Operations -
Three Months and Nine Months Ended
December 31, 1998 and 1997 (as restated)
and from September 23, 1983 (inception) to
December 31, 1998 . . . . . . . . . . . . . . . . . . . . . . 3
Consolidated Statements of Stockholders'
Equity/(Deficiency)-Nine Months Ended
December 31, 1998 and 1997 (as restated). . . . . . . . . . . 4
Consolidated Statements of Cash Flows -
Nine Months Ended December 31, 1998 and 1997
and from September 23, 1983 (inception) to
December 31, 1998 . . . . . . . . . . . . . . . . . . . . . . 5
Notes to Consolidated Financial Statements. . . . . . . . . . 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations . . . . . . . .11
PART II - OTHER INFORMATION
Item 5. Proposed Merger . . . . . . . . . . . . . . . . . . . . . . .15
Item 6. Exhibits and Reports on Form 8-K. . . . . . . . . . . . . . .15
SIGNATURE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16
CAUTIONARY STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Statements in this Quarterly Report on Form 10-Q under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in the "Notes to Consolidated Financial Statements", and in Item
5, "Proposed Merger", as well as oral statements that may be made by the
Company or by officers, directors or employees of the Company acting on the
Company's behalf, that are not historical fact constitute "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933,
as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended. These forward-looking statements involve risks and uncertainties,
including, but not limited to, the risk that the Company may not be able to
obtain additional financing, if necessary; the risk that the Company may not
be able to continue the necessary development of its operations on a
profitable basis, or that the merger between the Company and Procept, Inc.
will be consummated and, if consummated, be successful. In addition, the
Company's business, operations and financial condition are subject to reports
and statements filed from time to time with the Securities and Exchange
Commission, including the Company's Annual Report on Form 10-K/A for the
fiscal year ended March 31, 1998 and this Quarterly Report on Form 10-Q.
1
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES (A Development Stage Enterprise)
CONSOLIDATED BALANCE SHEETS (unaudited)
December 31, 1998 March 31, 1998
- -----------------------------------------------------------------------------------------------------------------------------
ASSETS
Current Assets:
Cash and cash equivalents $3,561,557 $3,290,176
Accounts receivable, net 15,236 -
Inventory - 38,637
Prepaid expenses 63,261 85,053
- -----------------------------------------------------------------------------------------------------------------------------
Total current assets 3,640,054 3,413,866
Property and equipment, net 48,050 71,840
Patent costs, net 105,322 104,981
- -----------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $3,793,426 $3,590,687
- -----------------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 654,271 $ 661,371
Accrued expenses 476,864 201,125
Current portion of capital leases 4,381 4,066
- -----------------------------------------------------------------------------------------------------------------------------
Total current liabilities 1,135,516 866,562
- -----------------------------------------------------------------------------------------------------------------------------
Capital leases 19,261 22,584
Minority interest 4,665,323 -
- -----------------------------------------------------------------------------------------------------------------------------
Stockholders' Equity/(Deficiency):
Convertible preferred stock, $25 par value, 2,000,000 shares authorized;
36,196 and 40,090 issued and outstanding at December 31,1998
and March 31, 1998, respectively 904,938 1,002,288
(liquidation preference $9,410,960 and $10,423,400, respectively)
Common stock, $.02 par value, 100,000,000 shares authorized;
12,513,656 and 10,777,234 shares issued and outstanding at
December 31, 1998 and March 31, 1998, respectively 250,269 215,545
Capital in excess of par value 48,384,983 46,969,197
Deficit accumulated during the development stage (51,566,865) (45,485,489)
- -----------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity/(deficiency) (2,026,674) 2,701,541
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICENCY) $3,793,426 $ 3,590,687
- -----------------------------------------------------------------------------------------------------------------------------
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
2
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES (A Development Stage Enterprise)
CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
Three Months Ended Nine Months Ended
-------------------------------- ------------------------------------ September 23, 1983
December 31 December 31 (inception) to
1998 1997 1998 1997 December 31, 1998
- ------------------------------------------------------------------ --------------------------------------------------------------
REVENUES (as restated) (as restated)
Product sales $ 2,120 $ 68,810 $ 6,136 $ 69,510 $ 2,025,877
License fees and royalties - 145 - 332 486,612
Contract research - - - - 268,063
Marketing rights - - - - 1,311,500
Interest and other 50,609 59,175 149,963 224,834 2,063,621
- ------------------------------------------------------------------ ------------------------------------ ---------------------
Total revenues 52,729 128,130 156,099 294,676 6,155,673
- ------------------------------------------------------------------ ------------------------------------ -----------------------
COSTS AND EXPENSES
Cost of product sales 13,497 87,471 41,075 122,792 3,179,470
Product development 331,856 411,042 1,312,324 1,433,306 18,473,285
General and administrative 812,724 474,538 1,590,292 1,672,782 19,442,039
Business development
and marketing 4,345 36,888 26,901 159,128 3,803,790
Interest and other 112,963 1,598 131,585 55,725 765,560
- ------------------------------------------------------------------ ------------------------------------ -----------------------
Total costs and expenses 1,275,385 1,011,537 3,102,177 3,443,733 45,664,144
- ------------------------------------------------------------------ ------------------------------------ -----------------------
Loss applicable to
minority interest 73,608 - 159,083 - 159,083
Net loss (1,149,048) (883,407) (2,786,995) (3,149,057) (39,349,388)
- ---------------------------------------------- ------------------ --------------------------------------------------------------
Convertible preferred stock
dividends - 932,170 3,294,381 4,360,158 12,217,477
Net loss applicable to
common shareholders $ (1,149,048) $ (1,815,577) $ (6,081,376) $ (7,509,215) $ (51,566,865)
- ------------------------------------------------------------------ --------------------------------------------------------------
Net loss per share of common
stock-basic and diluted ($0.09) ($0.18) ($0.52) ($0.84)
- ------------------------------------------------------------------ ------------------------------------
Weighted average common
stock outstanding 12,356,069 9,986,058 11,681,950 8,906,236
- ------------------------------------------------------------------ ------------------------------------
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
3
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES (A Development Stage Enterprise)
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY/(DEFICIENCY) (unaudited)
Deficit
Accumulated
Convertible Preferred Stock Common Stock Capital During the
---------------------------- ---------------------- in Excess Development
Shares Par Value Shares Par Value of Par Value Stage Total
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at March 31, 1997
(as restated) 50,000 $1,250,038 8,151,029 $163,021 $38,805,489 ($33,887,139) $ 6,331,409
Exercise of warrants 420,312 8,406 386,687 395,093
Issuance of common stock
for services 1,143 20 980 1,000
Conversion of preferred
stock into common stock (8,394) (209,850) 1,748,753 34,975 174,875 -
Preferred stock unit purchase
option compensation for
financial advisory services 248,666 248,666
Convertible preferred stock
dividends (as restated) 4,360,158 (4,360,158) -
Net loss (3,149,057) (3,149,057)
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1997
(as restated) 41,606 $1,040,188 10,321,237 $206,422 $43,976,855 ($41,396,354) $3,827,111
- -----------------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at March 31, 1998 40,090 $1,002,288 10,777,234 $215,545 $46,969,197 ($45,485,489) $2,701,541
Exercise of warrants 1,563 31 1,438 1,469
Common stock issued for services 571,172 11,423 251,194 262,617
Preferred stock unit purchase
option as compensation for
financial advisory services 138,165 138,165
Conversion of preferred stock
into common stock (3,894) (97,350) 1,163,687 23,270 74,080 -
Convertible preferred
stock dividends 374,056 (3,294,381) (2,920,325)
Proceeds from subsidiary
preferred stock issuance 576,853 576,853
Net loss (2,786,995) (2,786,995)
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1998 36,196 $904,938 12,513,656 $250,269 $48,384,983 ($51,566,865)($2,026,674)
- -----------------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------------
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
4
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES (A Development Stage Enterprise)
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
Nine Months Ended
December 31 September 23, 1983
---------------------------- (inception) to
1998 1997 December 31, 1998
- --------------------------------------------------------------------------------------- ------------------
OPERATING ACTIVITIES
Net loss ($2,786,995) ($3,149,057) ($39,349,386)
Adjustments to reconcile net loss to net cash
used by operating activities:
Depreciation and amortization 53,357 62,742 1,718,358
Loss allocated to minority interest (159,083) - (159,083)
Non-cash expense upon issuance of common stock
options, common stock and warrants 400,782 248,666 1,252,643
Net book value of asset disposals 70,871 58,534 312,563
Option income from retirement of stock
or amounts previously advanced by customer - - (400,000)
Changes in assets and liabilities:
Accounts receivable (15,236) 23,996 (15,236)
Inventory 38,637 3,040 -
Prepaid expenses and other assets 21,792 (20,311) (74,236)
Accounts payable (7,100) (486,751) 654,271
Accrued expenses 275,739 87,647 332,841
Customer advances - - 140,863
Other liabilities - 1,506 (4,869)
- -------------------------------------------------------------------------------------- -------------------------
Net cash used by operating activities (2,107,236) (3,169,988) (35,591,271)
INVESTING ACTIVITIES
Purchases of short-term investments - - (10,461,867)
Maturities of short-term investments - 1,484,788 10,461,867
Capital expenditures (6,213) (16,637) (854,142)
Patent costs (94,566) (58,321) (1,071,938)
Other 316 - 8,145
- -------------------------------------------------------------------------------------- -------------------------
Net cash provided (used) by investing activities (100,463) 1,409,830 (1,917,935)
FINANCING ACTIVITIES
Issuance of notes payable - - 2,183,867
Repayment of notes payable - - (1,965,124)
Repayment of capital lease obligations (3,324) (3,592) (186,871)
Long-term customer advances - - 100,000
Issuance of common and preferred stock 578,322 396,093 39,034,809
Minority interest investment in subsidiary 1,904,082 - 1,904,082
- -------------------------------------------------------------------------------------- -------------------------
Net cash provided by financing activities 2,479,080 392,501 41,070,763
- -------------------------------------------------------------------------------------- -------------------------
Net increase (decrease) in cash
and cash equivalents 271,381 (1,367,657) 3,561,557
Cash and cash equivalents at beginning of period 3,290,176 1,784,599 -
- -------------------------------------------------------------------------------------- -------------------------
Cash and cash equivalents at end of period $3,561,557 $416,942 $3,561,557
- -------------------------------------------------------------------------------------- -------------------------
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
5
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. PRINCIPLES OF INTERIM PERIOD REPORTING
The consolidated financial statements include the accounts of Pacific
Pharmaceuticals, Inc. and its wholly owned subsidiaries, Perio Test, Inc.,
XYX Acquisition Corp. and BG Development Corp., a majority owned subsidiary,
(collectively the "Company"). All significant intercompany balances and
transactions have been eliminated.
The Company has not earned significant revenues from planned principal
operations. Accordingly, the Company's activities have been accounted for as
those of a "Development Stage Enterprise" as set forth in Financial
Accounting Standards Board Statement No. 7 ("FAS 7"). Among the disclosures
required by FAS 7 are that the Company's financial statements be identified
as those of a development stage enterprise, and that certain consolidated
financial statements disclose activity since the date of the Company's
inception.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amount 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 period. Actual
results may differ from those estimates.
In the opinion of the Company, the unaudited consolidated financial
statements contain all of the adjustments, consisting only of normal
recurring adjustments and accruals, necessary to present fairly the financial
position of the Company as of December 31, 1998 and March 31, 1998, results
of operations for the nine months ended December 31, 1998 and 1997 (as
restated) and from September 23, 1983 (inception) to December 31, 1998 and
cash flows for the nine months ended December 31, 1998 and 1997 and from
September 23, 1983 (inception) to December 31, 1998. The results of
operations for the nine months ended December 31, 1998 are not necessarily
indicative of the results to be expected in subsequent periods or for the
year as a whole. For further information, refer to the consolidated
financial statements and footnotes thereto as set forth in the Company's
Annual Report on Form 10-K and 10-K/A for the year ended March 31, 1998.
The Company adopted Financial Accounting Standards Board Statement No. 128
("FAS 128"), EARNINGS PER SHARE (EPS). This statement requires the
presentation of earnings per share to reflect both "Basic EPS" as well as
"Diluted EPS" on the face of the statement of operations. In general, Basic
EPS is a function of weighted average number of common shares outstanding for
the periods. Diluted EPS does reflect the potential dilution created by stock
issuable pursuant to outstanding options, warrants, convertible debt or
equity securities and other contingently issuable shares. The requirements of
FAS 128 have been applied retroactively to all periods presented. There was
no impact on reported net loss per common share as a result of the adoption
of this FAS.
6
2. BGDC PRIVATE PLACEMENT FINANCING AND MINORITY INTEREST
During the nine months ended December 31, 1998, the Company entered into a
placement agency agreement with Paramount Capital Inc. ("Paramount). Under
the terms of the agreement, Paramount was to use its best efforts to sell up
to 60 Units ( with an overallotment option for an additional 40 Units) for
$100,000 per unit, which consist of 50,000 shares of Series A Convertible
Preferred Stock ("BGDC Units"), valued at $2.00 per share of BG Development
Corp. ("BGDC"). The BGDC Units are redeemable in cash by BGDC and the BGDC
Units may be exchanged for cash or common stock of the Company under the
circumstances described in the subscription agreement between the Company and
shareholders of BGDC. Pursuant to the subscription agreement, seventy-five
percent of the net proceeds are allocated to BGDC for development costs
associated with O6 Benzylguanine technology. Twenty-five percent of the net
proceeds of the BGDC private placement went to the Company to be used for
general purposes.
The BGDC Units accrue dividends as follows:
Dividend Date Dividend Amount
-------------------------- ----------------
Upon final closing $1.99 per share
30-36 months after closing $0.82 per share
36-42 months after closing $0.82 per share
42-48 months after closing $1.16 per share
48-60 months after closing $1.16 per share
After 60 months Compounded rate of 35%
On June 22, 1998, the Company completed a closing on 29.35 BGDC Units of the
private placement for gross proceeds of $2,900,000 (net proceeds of
$2,455,000). Paramount, who is affiliated with certain significant
shareholders of the Company, received an aggregate dollar commission of
$264,000 and a non-accountable expense allowance of $117,000 as compensation
for the BGDC private placement. Additionally, Paramount received warrants to
purchase 10% of the number of BGDC Units issued in the private placement at
$110,000 per unit. BGDC and Paramount also entered into a 24 month Financial
Advisory Services Agreement in which BDGC will pay Paramount $3,000 per month
for such services plus warrants ("Advisory Warrants") to purchase 15% of the
number of BGDC Units issued in the private placement at $110,000 per Unit.
The Company valued the Advisory Warrants at $88,000 and is amortizing these
advisory services over a 24 month period ending in June 2000.
Subsequent to the closing of the private placement, BGDC Preferred
Stockholders own 16.4% of voting rights in BGDC. This minority interest, as
reflected in the accompanying Consolidated Balance Sheet as of December 31,
1998, includes the initial net proceeds to BGDC of $1,886,000, plus the
initial dividend of $2,920,000, or $1.99 per preferred share outstanding,
paid in capital associated with the amortization of the Advisory Warrants and
16.4% of BGDC's operating loss through December 31, 1998.
BGDC and the Company have entered into a one-year renewable Corporate
Services and Management Agreement pursuant to which the Company will provide
financial/accounting, administrative, advisory and managerial support to
BGDC. For such services, the Company will receive from BGDC a management fee
equal to $500,000 per year, payable in equal monthly installments. The
Company does not expect any further closings to occur for the private
placement.
7
3. TERMINATION OF PTM PRODUCT
During the quarter ended December 31, 1998, the Company determined that it
would no longer continue to sell its Periodontal Tissue Monitor ("PTM")
product. In that connection, the Company recorded an expense of $113,000,
which consists of the following:
Amount
-------
Inventory $55,000
Unamortized patent costs 58,000
--------
Total $113,000
--------
4. NON-CASH CONVERTIBLE PREFERRED STOCK DIVIDENDS
In fiscal year 1997, the Company completed a private equity financing ("1997
Private Placement") in two stages with the initial closing completed on
December 19, 1996 (the "Initial Closing") and the final closing completed on
March 7, 1997 (the "Final Closing") in which it raised $8,542,000, net of
offering expenses.
The Company sold 100 Premium Preferred Units ("Units") at a price per Unit of
$100,000, each Unit consisting of 500 shares of Convertible Preferred Stock
("Preferred Stock"), par value $25 per share, and 50,000 detachable Common
Stock Purchase Warrants ("Warrants"), to accredited individuals and
institutional investors pursuant to Regulation D under the Securities Act of
1933, as amended. Each Warrant entitles the holder to purchase one share of
Common Stock at a price of $1 per share and may be exercised until March 7,
2007.
The initial conversion ratio for the Preferred Stock was 208.33 shares of
Common Stock for each share of Preferred Stock. The 1997 Private Placement
contained an adjustment provision to reset the conversion ratio under certain
conditions. For Preferred Stock converted after March 7, 1998, the new
conversion ratio is 290.89 shares of common stock for each share of Preferred
Stock.
The subscribers to the Private Placement purchased the Units at a discount
from the closing prices of the Company's common stock on the Initial Closing
date of 23% and the Final Closing date of 36%. The detachable stock purchase
warrants issued as part of the Units had a fair value at the date of issuance
of $1,967,000. The aggregate value of the beneficial conversion feature and
warrants at the date of issuance was $6,721,000 and has been recognized as a
return to the Preferred Stockholders from the date of issuance of the
Preferred Stock to the date in which the Preferred Stock was eligible for
conversion into Common Stock. The reset of the conversion ratio during March
1998 generated an additional non-cash dividend of $2,576,000.
As discussed in Note 2, the BGDC private placement includes a provision that
the subscribers are entitled to receive $1.99 per share dividends declared by
to Board of Directors of BGDC. The dividends of $2,920,000, which have been
credited to minority interest during the nine months ended December 31, 1998,
accumulate until paid in cash or common stock by BGDC.
8
Below is a summary of Preferred Stock Dividends recognized during the periods
indicated:
Three Months Ended December 31, Nine Months Ended December 31, September 23, 1983
------------------------------- ----------------------------- (inception) to
Description 1998 1997 1998 1997 December 31, 1998
------ ------ ------ ------ ------------------
(as restated) (as restated)
Dividend from beneficial
Conversion feature - 665,786 128,036 3,114,179 4,754,075
Dividend from reset of conversion - - 194,752 - 2,576,077
Dividend from warrant valuation - 266,384 51,268 1,245,979 1,967,000
BGDC Preferred Stock dividends - - 2,920,325 - 2,920,325
------ ------- --------- --------- ----------
Total - 932,170 3,294,381 4,360,158 12,217,477
------ ------- --------- --------- ----------
5. 1997 RESTATEMENT
Subsequent to the issuance of the Company's 1997 financial statements, the
Company's management determined that the accounting for the convertible
Preferred Stock issued during the fiscal year did not reflect the value of
the detachable stock purchase warrants issued in connection with the 1997
Private Placement described in Note 4. The fair value of such warrants, as
calculated by an independent valuation consulting firm, was $1,967,000, and
has been recorded as a return to the Preferred Stockholders from the date of
issue of the Preferred Stock to the date in which the Preferred Stock was
eligible for conversion into Common Stock. As a result, net loss applicable
to Common Shareholders and net loss per share for the quarter ended December
31, 1997 and nine months ended December 31, 1997 have been restated from the
amounts previously reported. Such restatement resulted in increases of
$461,000 and $980,000 in both capital in excess of par value and the deficit
accumulated in development stage for the quarter and nine months ended
December 31, 1997, respectively.
A summary of the effect of the restatement is as follows:
Quarter Nine Months
ended Quarter ended Nine Months
December 31, Ended December 31, Ended
1997 December 31, 1997 December 31,
As Previously 1997 As Previously 1997
Reported As Restated Reported As Restated
------------- ------------ ------------- --------------
Convertible
Preferred stock
Dividends $ 665,786 $ 932,170 $ 3,114,179 $ 4,360,158
------------- ------------ ------------- --------------
Net loss applicable
To common
Shareholders $(1,549,193) $(1,815,577) $(6,263,236) $ (7,509,215)
------------- ------------ ------------- --------------
Net loss per
Share of
Common stock-
Basic and diluted $ (0.16) $ (0.18) $ (0.72) $ (0.86)
------------- ------------ ------------- --------------
9
6. PROPOSED MERGER
On December 10, 1998, the Company entered into an Agreement and Plan of
Merger ("Merger Agreement") with Procept, Inc. ("Procept"), a
biopharmaceutical company engaged in the development of novel drugs for the
prevention of infectious diseases. The Merger Agreement provides that each of
the Company's shares of common stock (including preferred stock on an as
converted basis into common stock) will convert into 0.11 shares of Procept
common stock or a total of 2,755,000 Procept shares (of which 1,151,048
shares of Procept common stock to be issued in the merger to the holders of
the Company's preferred stock shall be accompanied by certain contractual
rights identical to contractual rights held by purchasers in Procept's 1998
private placement, and as a result of such contractual rights, the holders of
the Company's preferred stock will also receive 470,137 additional Procept
shares). In addition, Procept has agreed to assume an approximately $7.3
million obligation of the Company's subsidiary, BG Development Corp., and
Procept has agreed to exchange all of the Company's outstanding warrant, unit
purchase option and stock option obligations into like instruments of
Procept. The merger remains contingent upon the final approval by both
companies' shareholders. Both Companies' have scheduled Special Shareholders
Meetings in mid-March 1999 to vote on the proposed merger.
In conjunction with the Merger Agreement, the Company entered into a
severence agreement with its former Chairman and President and recorded
$325,000 liability under such agreement.
7. SUBSEQUENT EVENTS
On February 4, 1999, the Company completed the merger with Binary
Therapeutics, Inc. ("BTI"). The Company issued 2,158,268 shares of its common
stock and assumed notes payable and accrued interest totaling $727,000. The
Company also assumed a common stock warrant obligation and an obligation to
issue shares of its common stock to a licensor in the event certain
regulatory milestones are achieved. The transaction will be accounted for as
a purchase.
10
PACIFIC PHARMACEUTICALS, INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)
INCORPORATED SEPTEMBER 23, 1983
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
QUARTER ENDED DECEMBER 31, 1998 COMPARED TO DECEMBER 31, 1997
Total revenues aggregated $53,000 for the quarter ended December 31, 1998, a
$75,000 decrease from revenues of $128,000 recorded during the same period of
the prior year. Current year revenues relate primarily to interest income
generated on the Company's cash balances. Revenues for the same period in the
prior year consisted of $59,000 in interest income and $69,000 in sales of
the Company's Periodontal Tissue Monitor kit ("PTM").
Cost of product sales in the current quarter were $13,000 or a $74,000
decrease from the same quarter in the prior year. The current year cost of
product sales are fixed costs which relate to the PTM product, even though
the Company had no sales of the PTM product in the current quarter. During
the same quarter of the prior year, the Company sold approximately 1,000 PTM
kits and incurred manufacturing and quality assurances costs associated with
the PTM product. As described in Note 3, during the quarter ended December
31, 1998, the Company determined it would no longer continue to sell the PTM
product.
Product development costs totaled $332,000 for the current quarter, a
decrease of $79,000 or 19% over the prior year second quarter costs of
$411,000. The decrease relates to the following areas: (i) decrease of
$110,000 in funding of product development expenses in accordance with the
Agreement and Plan of Merger with Binary Therapeutics, Inc. ("BTI"), the
holder of certain technologies in the area of Photodynamic Therapy ("PDT")
for the treatment of cancer; (ii) a decrease of $52,000 in expenses related
to Cancer Immunotherapy technology; (iii) a decrease of $21,000 in expenses
related PTM product development; (iv) an increase of $96,000 in expenses
related to the development of the Company's O(6) Benzylguanine ("BG")
technology acquired in March 1998 and (v) a decrease of $1,000 in general
product development expenses.
General and administrative expenses for the current quarter were $813,000, an
increase of $338,000 from the same period of the prior year. During the
current year quarter, the Company signed a Merger Agreement with Procept and
recorded $325,000 for a severence agreement with its former Chairman and
President. Also during the quarter, the Company incurred significant legal
and accounting fees in connection with the Merger Agreement. There were no
such expenses incurred during the same quarter of the prior year.
During the quarter ended December 31, 1998, the Company determined that it
would no longer continue to sell it's PTM product. In that connection, the
Company recorded as an other expense, $113,000 to write-off inventory and
unamortized patent costs. There were no such other expenses incurred during
the same quarter of the prior year.
11
Net loss for the quarter ended December 31, 1998 totaled $1,149,000 or a 30%
increase over the prior year's third quarter loss of $883,000. This increase
is primarily the result of greater general and administrative and other
expenses described above. Basic and diluted net loss per share of common
stock for the quarter ended December 31, 1998 was $.09 compared to $.18 in
the same quarter in the previous year. During the quarter ended December 31,
1997, the Company recognized a non-cash convertible preferred stock dividend
of $932,000, as restated. No such dividend was recognized during the current
year quarter.
NINE MONTHS ENDED DECEMBER 31, 1998 COMPARED TO DECEMBER 31, 1997
Total revenues were $156,000 for the nine months ended December 31, 1998, a
$137,000 decrease from revenues of $295,000 recorded during the same period
of the prior year. Current revenues relate primarily to interest income
generated on the Company's cash balances. Revenues for the same period in the
prior year consisted of $225,000 in interest income and $70,000 in sales of
PTM kits.
Cost of product sales was $41,000, relating to quality assurance and patent
amortization expenses on the Company's PTM product. During the same period of
the prior year, the Company sold approximately 1,000 PTM kits and incurred
manufacturing and quality assurances costs associated with the PTM product.
As described in Note 3, during the quarter ended December 31, 1998, the
Company determined it would no longer continue to sell the PTM product.
The Company continued work on its first human clinical trial for its PDT
cancer treatment, Boronated Porphyrin (BOPP). The Company also continued the
development of the BG compound. Product development costs for the nine months
ended December 31, 1998 decreased by $121,000 or 8% to $1,312,000 compared to
the same period of the prior year. The decrease related to the following
areas: (i) a decrease of $525,000 in funding of product development expenses
for BOPP; (ii) an increase of $633,000 on expenses for the acquisition and
development of BG (iii) $103,000 decrease in expenses related to Cancer
Immunotherapy technology; (iv) a decrease of $120,000 in expenses related to
PTM product development.
General and administrative expenses for the nine months ended December 31,
1998 were $1,590,000, a decrease of $82,000 from the same period of the prior
year. In December 1998, the Company signed a Merger Agreement with Procept
and recorded $325,000 for a severence agreement with its former Chairman and
President. Also during the nine months period of the current year, the
Company incurred significant legal and accounting fees in connection with the
Merger Agreement.
Business development costs for the nine month period of the current year
totaled $27,000, a decrease of $132,000, from the same period of the prior
year. Expenses decreased as the Company spent less time and resources in
developing corporate partnerships for its various products compared to the
prior year.
During the quarter ended December 31, 1998, the Company determined that it
would no longer continue to sell it's PTM product. In that connection, the
Company recorded as an other expense, $113,000 to write-off inventory and
unamortized patent costs. There were no such other expenses incurred during
the same period of the prior year.
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Net loss for the nine months ended December 31, 1998 totaled $2,787,000 or a
13% decrease over the prior year loss of $3,149,000. This decrease is
primarily the result of lower general and administrative and product
development expenses described above. Basic and diluted net loss per share of
common stock for the nine months ended December 31, 1998 was $.52 compared to
$.84 in the same period in the previous year. During the nine months ended
December 31, 1998, the Company recognized a non-cash convertible preferred
stock dividend of $3,294,000 compared to $4,360,000 (as restated) during the
same period in the prior year.
CAPITAL RESOURCES AND LIQUIDITY
As described in Note 6 to the Consolidated Financial Statements, the Company
has entered into a Merger Agreement with Procept, Inc. The merger is subject
to approval by both companies' shareholders.
Cash and cash equivalents at December 31, 1998 totaled $3,562,000, an
increase of $271,000 from the March 31, 1998 balance. Working capital at
December 31, 1998 decreased by $43,000 from March 31, 1998 to $2,504,000.
These increases were primarily due to the closing on net proceeds of
$2,455,000 of a private placement financing for the Company's majority owned
subsidiary, BG Development Corp. ("BGDC"), offset by the net loss before
convertible preferred stock dividends for the nine months ending December 31,
1998. Seventy five percent of the net proceeds of the BGDC private placement
will be used by BGDC for development costs associated with BG and 25% will go
to the Company to be used for general purposes. In order to conserve cash,
the Company has instituted a plan to reduce its cash burn rate.
Since inception, the Company has experienced negative cash flow from
operations, and the Company considers it prudent to anticipate that negative
cash flow from operations will continue for the foreseeable future, and that
outside sources of funding will continue to be required. Without significant
future revenues, the Company's financial resources are anticipated to be
adequate through June 1999, based on a continuation of the pattern of
expenses which have prevailed during fiscal years 1998 and 1997.
In March 1998, the Company signed a license agreement for the drug compound
O(6) Benzylguanine ("BG") with the owners of the patents: Pennsylvania State
University, the National Institutes of Health (NIH), the University of
Chicago, and Case Western Reserve University, (collectively, the
"Co-Owners"), and in turn, assigned it to its subsidiary BGDC.
The Company entered into a Cooperative Research and Development Agreement
("CRADA") with the NIH to fund studies and clinical trials. Under the terms
of the CRADA, the Company is obligated to provide funding of $125,000 per
year for five years for joint research. The Company is also obligated to make
additional milestone, royalty and patent reimbursement payments to the
Co-Owners during the term of the License Agreement. The agreement also has a
provision in which the Company may make certain portions of the
aforementioned payments in common stock of the Company.
In connection with the license agreement for BG, the Company entered into an
introduction agreement with Paramount Capital Investments LLC ("PCI"). The
Company paid PCI a commission of $100,000 plus 100,000 shares of the
Company's common stock valued at $75,000 and reimbursed PCI $100,000 for its
expenses in connection with the acquisition of the BG technology. The Company
is also obligated to make milestone payments to PCI in the
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Company's common stock of up to 900,000 shares if the BG compound
successfully reaches certain milestones. The Company recorded $96,000 in
product development expenses during the third quarter of FY 1999 and $933,000
since inception of the program to develop the BG technology.
In June 1996 the Company entered into an agreement which granted the Company
the option to acquire Binary Therapeutics, Inc. ("BTI"). Under the agreement
as amended, the Company recorded expenses of $195,000 during the third
quarter of FY 1999 and $3,426,000 since inception of the agreement, the
Company is currently funding substantially all expenses of BTI. As described
in Note 7, the Company completed the merger of BTI into a wholly owned
subsidiary of the Company in February 1999.
The Company has an agreement with Wound Healing of Oklahoma ("WHO") under
which it acquired an exclusive license to certain proprietary technology for
Cancer Immunotherapy. The Company incurred $19,000 during the third quarter
of FY 1999 and $738,000 in product development expenses since the acquisition
of the license and expects to continue funding such efforts associated with
the commercialization of the licensed technology, including the commencement
of human clinical trials, which will increase the Company's net utilization
of cash. However, there can be no assurance that FDA and other regulatory
approval required to commence such trials will be forthcoming.
In September 1998, the Company's common stock was removed from trading on the
American Stock Exchange ("AMEX") because the Company no longer satisfies all
of the financial guidelines of the AMEX for continued listing. The Company's
common stock began trading on the NASD Electronic Bulletin Board under the
ticker symbol PHAA.
YEAR 2000 COMPLIANCE. The Company recognizes the need to ensure its
operations will not be adversely impacted by the inability of the Company's
systems to process data having dates on or after January 1, 2000 ("Year
2000"). Processing errors due to software failure arising from calculations
using the Year 2000 date are recognized as a risk. The Company is currently
assessing the risk, with respect to the availability and integrity of its
financial systems and the reliability of its operating systems, and is in the
process of communicating with suppliers, customers, financial institutions
and others with whom it conducts business to assess whether they are or will
be Year 2000 compliant.
The Company's information technology systems consist of a series of personal
computers which process data using purchased software programs produced and
maintained by large software vendors. All of the software presently installed
on the Company's systems is Year 2000 compliant.
The Company has contacted all of its vendors to determine each vendors'
compliance with Year 2000 issues. As of December 31, 1998, 80% of all of the
Company's vendors have responded that they are now Year 2000 compliant. The
Company is continuing to determine the Year 2000 compliance status of the
remaining vendors. The Company hopes to have responses from all vendors and
institutions with whom it does business by March 31, 1999. The Company's
critical suppliers and financial institutions are large organizations and the
Company believes all are now or will be Year 2000 compliant by December 31,
1999.
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The Company believes its exposure to any material Year 2000 problems is
relatively small because its financial and operating systems have been
produced and maintained by large software vendors which are Year 2000
compliant and the Company relies on very large Year 2000 compliant vendors
for its critical services. However, there can be no assurance that the
Company's systems or systems of other companies on which the Company's
operations rely will be converted on a timely basis and will not have a
material effect on the Company.
The cost of the Company's Year 2000 initiatives has not been or is not
expected to be material to the Company's results of operations or financial
position.
PART II-OTHER INFORMATION
ITEM 5. OTHER INFORMATION
On December 10, 1998, the Company entered into an Agreement and Plan of
Merger ("Merger Agreement") with Procept, Inc. ("Procept"), a
biopharmaceutical company engaged in the development of novel drugs for the
prevention of infectious diseases. The Merger Agreement provides that each of
the Company's shares of common stock (including preferred stock on an as
converted basis into common stock) will convert into approximately 0.11
shares of Procept common stock or a total of 2,755,000 Procept shares (of
which 1,151,048 shares of Procept common stock to be issued in the merger to
the holders of the Company's preferred stock shall be accompanied by certain
contractual rights identical to contractual rights held by purchasers in
Procept's 1998 private placement, and as a result of such contractual rights,
the holders of the Company's preferred stock will also receive 470,137
additional Procept shares). In addition, Procept has agreed to assume an
approximately $7.3 million obligation of the Company's subsidiary, BG
Development Corp., and Procept has agreed to exchange all of the Company's
outstanding warrant, unit purchase option and stock option obligations into
like instruments of Procept. The merger remains contingent upon the approval
by both companies' shareholders.
On February 4, 1999, the Company completed the merger with BTI. The Company
issued 2,158,268 shares of its common stock and assumed notes payable and
accrued interest totaling $727,000. The Company also assumed a common stock
warrant obligation and an obligation to issue shares of its common stock to a
licensor in the event certain regulatory milestones are achieved.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBITS
Exhibit
Number Description of Exhibit
- ------------ ----------------------
10.44 Agreement and Plan of Merger Between Procept, Inc., Procept
Acquisition Corp. and Pacific Pharmaceuticals, Inc., dated
December 10, 1998
10.45 Amendment to Agreement and Plan of Merger
REPORTS ON FORM 8-K
None
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Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Pacific Pharmaceuticals, Inc.
Date: February 12, 1999 /s/ James Hertzog
------------------
James Hertzog
Controller
(Principal Accounting Officer and
duly authorized to sign this report on
behalf of the registrant)
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