UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2004
[ ] 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 0-13634
MACROCHEM CORPORATION
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(Exact name of registrant as specified in its charter)
Delaware 04-2744744
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
110 HARTWELL AVENUE
LEXINGTON, MASSACHUSETTS 02421-3134
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(Address of principal executive offices)
(781) 862-4003
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(Telephone number)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Title of Class Name of Each Exchange on Which Registered
- --------------------------------- -----------------------------------------
Common Stock, $.01 par value The Nasdaq SmallCap Market
Series B Preferred Stock Purchase The Nasdaq SmallCap Market
Rights, $.01 par value
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 by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes No X
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As of June 30, 2004 the aggregate market value of common stock held by
non-affiliates of the registrant approximated $55,849,176 based upon the closing
price of the common stock as reported on the Nasdaq SmallCap Market as of the
close of business on that date. Shares of common stock held by each executive
officer and director and by each entity that owns 10% or more of the outstanding
common stock have been excluded in that such persons may be deemed to be
affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
AS OF MARCH 17, 2005, 38,841,723 SHARES OF COMMON STOCK, $.01 PAR VALUE,
WERE OUTSTANDING.
Portions of the following documents are incorporated into the Parts of this
Report on Form 10-K indicated below:
None.
PART I
ITEM 1. BUSINESS.
NOTE REGARDING FORWARD LOOKING STATEMENTS: THIS ANNUAL REPORT ON FORM 10-K
CONTAINS "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE
SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT"), AND SECTION 21E OF
THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED (THE "EXCHANGE ACT"). THESE
STATEMENTS MAY BE IDENTIFIED BY THE USE OF FORWARD-LOOKING WORDS OR PHRASES SUCH
AS "ANTICIPATE," "BELIEVE," "COULD," "EXPECT," "INTEND," "LOOK FORWARD," "MAY,"
"PLANNED," "POTENTIAL," "SHOULD," "WILL," AND "WOULD." THESE FORWARD-LOOKING
STATEMENTS REFLECT OUR CURRENT EXPECTATIONS AND ARE BASED ON CURRENTLY AVAILABLE
DATA. THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 PROVIDES A "SAFE
HARBOR" FOR SUCH FORWARD-LOOKING STATEMENTS. FORWARD LOOKING STATEMENTS INVOLVE
RISKS AND UNCERTAINTIES AND OUR ACTUAL RESULTS MAY DIFFER SIGNIFICANTLY FROM THE
RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. FACTORS THAT MIGHT CAUSE
SUCH A DIFFERENCE INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED OR REFERRED
TO IN THE SECTION ENTITLED "RISK FACTORS". READERS ARE CAUTIONED NOT TO PLACE
UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS, WHICH SPEAK ONLY AS OF THE
DATE HEREOF. WE UNDERTAKE NO OBLIGATION TO UPDATE PUBLICLY ANY FORWARD-LOOKING
STATEMENTS, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR OTHERWISE.
ALL SUBSEQUENT WRITTEN AND ORAL FORWARD-LOOKING STATEMENTS ATTRIBUTABLE TO THE
COMPANY OR PERSONS ACTING ON ITS BEHALF ARE EXPRESSLY QUALIFIED IN THEIR
ENTIRETY BY THESE CAUTIONARY STATEMENTS. READERS ARE ALSO URGED TO CAREFULLY
REVIEW AND CONSIDER THE VARIOUS DISCLOSURES MADE BY THE COMPANY, IN THIS
DOCUMENT, AS WELL AS THE COMPANY'S PERIODIC REPORTS ON FORMS 10-K, 10-Q AND 8-K
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ("SEC").
MacroChem's Internet address is www.macrochem.com, and the Company
maintains a website at that address. MacroChem makes available, on or through
its Internet website, without charge, its annual reports on Form 10-K, quarterly
reports on Form 10-Q, current reports on Form 8-K, and amendments to those
reports as soon as reasonably practicable after filing them electronically with
the SEC.
The business of MacroChem Corporation is further described in Part II, Item
7, "Management's Discussion and Analysis of Financial Condition and Results of
Operation", which should be read in conjunction with the accompanying financial
statements and related footnotes.
In this Annual Report on Form 10-K, we use the terms "MacroChem", the
"Company", "we", "us" and "our" to refer to MacroChem Corporation. We were
organized and commenced operations as a Massachusetts corporation in 1981 and we
were reincorporated as a Delaware corporation on May 26, 1992. Our principal
executive offices are located at 110 Hartwell Avenue, Lexington, Massachusetts
02421-3134 and our phone number is (781) 862-4003.
OVERVIEW
We are a specialty pharmaceutical company that develops and seeks to
commercialize topically delivered pharmaceutical products by employing SEPA, our
patented topical drug delivery technology (SEPA is an acronym for "Soft
Enhancement of Percutaneous Absorption," where "soft" refers to the
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reversibility of the skin effect, and "percutaneous" means "through the skin").
SEPA enhances the efficiency and rate of diffusion of drugs into and through the
skin. SEPA, when properly combined with active pharmaceutical ingredients, can
provide for a variety of convenient and easy-to-apply formulations, including
creams, gels, ointments, lacquers and solutions for the treatment of a wide
range of systemic and localized conditions. We believe that products
incorporating SEPA may allow selected drugs to be administered more effectively
and with improved patient compliance compared to alternative methods of drug
administration, such as ingestion and injection.
Our funds on hand at December 31, 2004 are not sufficient to fund our
operations through fiscal 2005 and, accordingly, the audit report of Deloitte &
Touche LLP, our independent registered public accounting firm, on our 2004
financial statements includes an explanatory paragraph regarding our ability to
continue as a going concern. The inclusion of this explanatory paragraph may
materially and adversely affect our ability to raise new capital. We are
currently in the process of trying to secure additional capital. We cannot
assure you that sufficient funds will be available to us, if they are available
at all, to enable us to continue to operate. As well, we will need to obtain
stockholder approval for any issuance of additional equity securities at a price
less than the greater of book or market value that would comprise more than 20
percent of the Company's total shares of common stock outstanding at such time.
The Company cannot assure you that it will be successful in obtaining any
required stockholder approval.
We are focused on developing a portfolio of SEPA-based formulations to be
prescribed by physicians specializing in urology, endocrinology, dermatology and
podiatry. We have two SEPA-based product candidates in clinical development:
o OPTERONE: Opterone is a SEPA-based testosterone cream designed to
treat male hypogonadism. SEPA makes the outer layer of the skin more
permeable, enhancing the topical delivery of testosterone into the
body. Male hypogonadism is a condition in which men have levels of
circulating testosterone below the normal range and may exhibit one
or more associated symptoms, including low energy levels, decreased
sexual performance, loss of sex drive, increased body fat or loss of
muscle mass. In August 2004, we announced the completion of a
pharmacokinetics study of Opterone in hypogonadal males. In December
2004, we announced the commencement of a bioavailability study of
Opterone, and we expect to have and release top-line results from
the bioavailability study in the second quarter of 2005. We have a
composition of matter and use patent covering Opterone that will
expire in 2017.
o ECONAIL: EcoNail is a SEPA-based econazole lacquer for the treatment
of onychomycosis, a condition commonly known as nail fungus.
Econazole, a commercially available topical antifungal agent most
commonly used to treat fungal skin infections, inhibits in vitro
growth of the fungi most commonly implicated in onychomycosis. When
used in EcoNail, SEPA works by allowing more rapid and complete
release of econazole from the lacquer into and through the nail
plate. In a pre-clinical study using human cadaver nails, EcoNail
delivered through the nail more than 14,000 times the minimum
concentration of econazole needed to inhibit the fungi most commonly
associated with onychomycosis. In November 2004, we announced six
3
week safety and tolerance data from a randomized, double blind
controlled Phase 1 tolerance/human exposure trial of EcoNail in
eighteen patients with onychomycosis of the toenails. In the six
week safety-tolerability segment, EcoNail was very well tolerated,
and investigators reported no serious drug-related adverse events.
Serum assays showed no detectable levels of econazole, further
supporting EcoNail's systemic safety profile. The six week
safety-tolerability segment was followed by an open-label segment of
the trial in which all patients received EcoNail applied daily to
all nails for an additional 12 weeks to extend patient exposure
experience. We have a composition of matter and use patent covering
EcoNail that will expire in 2019.
We also are developing and testing SEPA-based formulations to deliver other
active pharmaceutical ingredients. In addition, we are developing
second-generation absorption enhancers that have a different drug delivery
profile than SEPA, which we believe could be used with a wider range of active
pharmaceutical ingredients. Although we are focusing these development efforts
on our current specialty markets, we may also pursue other attractive markets.
In addition to our SEPA technology, we are also testing applications for
MacroDerm, our patented drug delivery technology encompassing a family of low to
moderate molecular weight polymers that impede dermal drug penetration. We
believe that these polymers can be applied for use with cosmetics,
pharmaceuticals and consumer products like insect repellants and sunscreens to
decrease skin penetration and/or improve persistence on the skin.
TOPICAL DRUG DELIVERY
To be effective, drugs must reach an intended site in the body, at an
effective concentration, and for an appropriate length of time. Currently, the
vast majority of drugs are administered either orally or by injection. However,
there are numerous drugs for which these modes of administration are not
well-suited. For example, oral administration of certain drugs may result in
irritation of the gastro-intestinal tract or undesirable rapid first pass
metabolism. First pass metabolism, which refers to the chemical breakdown of
compounds in the liver and gastro-intestinal tract, can result in a significant
reduction in the amount of drug reaching its intended site of activity in the
body. In some cases, liver damage may occur due to the toxicities associated
with the breakdown of a particular drug. In the case of injectable drugs,
administration may be painful and in many cases requires frequent and costly
office visits to treat chronic conditions.
An alternative method of administering drugs is topical delivery. Topical
delivery works by either introducing drugs into the skin (dermal delivery) for
the treatment of dermatologic or localized conditions and diseases, or through
the skin (transdermal delivery) and into the bloodstream for the treatment of
systemic conditions and diseases. Topical drug delivery has several advantages.
First, it helps to avoid inactivation of a drug caused by first pass metabolism
in the liver and gastro-intestinal tract. Second, topical drug delivery can
provide local delivery of appropriate concentrations of a drug to the intended
site of action without systemic exposure. Third, topical drug delivery helps
avoid gastro-intestinal distress caused by ingesting a drug. Fourth, topical
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drug delivery simplifies drug administration to patients who have difficulty
swallowing oral dosage forms or who do not wish to endure the discomfort of
injections.
Delivering drug molecules through the skin is challenging. The skin
naturally serves as the primary barrier that prevents outside organisms,
chemicals and toxins from easily entering the body. Human skin is made up of two
layers: the outer layer or epidermis (which includes the stratum corneum) and
the inner layer or dermis.
The stratum corneum, consisting of flattened and hardened non-living
corneocytes held together by a lipid matrix, acts as the main barrier to drug
delivery. Delivery of a drug through the stratum corneum depends both on the
type of topical drug delivery technology used and on the drug's physical and
chemical characteristics including molecular size and shape, its solubility in
lipids and water and its melting point.
Physical methods of topical delivery that are in development or are
approved for commercial use include electrical current, ultrasound, lasers,
microneedle arrays, and high voltage pulses. All of these physical methods
involve puncturing the stratum corneum, and can deliver only very small volumes
of a drug without causing pain and discomfort.
An alternative to physically puncturing the stratum corneum is the use of
chemicals to increase its permeability, allowing for enhanced penetration of
pharmaceuticals into the skin or through the skin and into the body. Strong
organic solvents are one type of chemical penetration enhancer, which work by
dissolving and extracting lipids from the stratum corneum, leaving gaps in the
lipid matrix through which drug molecules can then pass. One of the main side
effects of applying strong organic solvents to human skin, however, is a
relatively high level of skin irritation in the area of application. Newer types
of chemical penetration enhancers are generally less irritating as they work by
temporarily altering the bilayer structure of lipids in the stratum corneum to
allow drug molecules to diffuse through the stratum corneum.
SEPA DRUG DELIVERY TECHNOLOGY
SEPA is a family of patented compounds that can enhance the transport,
penetration and controlled delivery of a wide range of drugs through the skin.
We have chosen SEPA 0009, a member of the SEPA family, for clinical development.
SEPA enhances transdermal drug delivery by temporarily and reversibly disrupting
the alignment of the lipid bilayer within the lipid matrix in the stratum
corneum. This disruption renders the skin temporarily permeable, allowing a drug
to diffuse through the stratum corneum in the epidermis, and then into and
through the dermis, where it can enter the bloodstream through the capillaries.
SEPA possesses the following attributes:
o REVERSIBLE: The alignment of the lipid bilayer within the lipid
matrix in the stratum corneum reverts back to normal after SEPA has
diffused through it without causing permanent changes to the skin.
o RAPIDLY METABOLIZED: The human body rapidly metabolizes SEPA into
ethylene glycol and decanoic acid, two metabolites well understood
by regulatory agencies.
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o CHEMICALLY NON-REACTIVE: SEPA does not react chemically with most
other organic molecules and, as a result, is compatible with a wide
range of active pharmaceutical ingredients.
o VERSATILE: The rate and amount of drug absorbed in a SEPA-based
formulation can be controlled by varying the components in the
formulation. SEPA can also be used in a wide variety of
formulations, including creams, lacquers, gels, sticks, patches and
ointments.
We believe that SEPA is a well characterized compound. SEPA has been tested
in 48 clinical trials involving more than 4,000 human participants, either alone
or in combination with one of five different pharmaceuticals. Clinical studies
have included Phase 1 trials to assess safety and tolerance and Phase 2 trials
to evaluate the efficacy of SEPA in combination with a specific drug. In
addition to conducting clinical trials to assess patient tolerance to SEPA, we
performed standard tests to quantify allergic response to multiple exposures and
primary irritation in human volunteers. We have also completed a wide array of
pre-clinical safety studies, non-clinical pharmacology studies, genotoxicity
studies, and carcinogenicity studies with SEPA. These data, together with
chemical, manufacturing, and control information, have been assembled into a
Drug Master File, or DMF, on SEPA and filed with the FDA. The complete DMF,
together with any updates, will be reviewed by the FDA in connection with any
application for marketing approval of a SEPA-based topical medication. We
believe the availability of a DMF may streamline the review process for
SEPA-based product submissions.
OPTERONE FOR HYPOGONADISM
Hypogonadism is a condition in which the testes produce insufficient
amounts of testosterone, a hormone responsible for normal growth and development
of the male sex organs and for maintenance of secondary male sex
characteristics. Hypogonadism is generally characterized by serum testosterone
levels of less than 300 nanograms per deciliter together with one or more of the
following signs or symptoms:
o low energy levels;
o decreased sexual performance;
o loss of sex drive;
o increased body fat;
o loss of muscle mass;
o reduced bone density; and
o mild depression.
According to the Endocrine Society, this disorder affects an estimated four
to five million men in the United States, approximately 200,000 of whom receive
hormone replacement therapy. According to a 2001 article published in The
Journal of Clinical Endocrinology & Metabolism, the incidence of hypogonadal
testosterone levels in U.S. males increases from approximately 20% in men over
the age of 60 to approximately 50% in men over the age of 80.
Diagnosis of testosterone-deficiency often occurs when a patient seeks
treatment for erectile dysfunction. Routine testing of testosterone levels has
6
become a more common part of men's health evaluations by specialists, although
testosterone testing is still relatively new among the majority of primary care
physicians. Restoring testosterone to normal levels through testosterone
replacement therapy can help to relieve associated symptoms. Because
testosterone deficiency is typically a chronic condition, testosterone
replacement therapy generally involves long-term treatment.
CURRENT TREATMENTS AND THEIR SHORTCOMINGS
-----------------------------------------
Currently available treatment options for hypogonadism in the U.S. include
testosterone delivered via intramuscular injections, transdermal patches, buccal
tablets that are placed between the cheek and gum and topical gels. Each of
these treatments, however, has certain disadvantages. Intramuscular injections
are often painful, require a medical office visit, and cause rapid increases in
circulating testosterone to supraphysiological levels within days of
administration, followed by rapid decreases. Patients often report severe acne,
unwanted hair growth, and increased aggression shortly after a testosterone
injection. Testosterone patches may be inconvenient to apply, can cause severe
skin irritation and require frequent rotation of the application site to avoid
skin lesions. The resulting discomfort can potentially reduce patient compliance
with the treatment. Buccal tablets, which must be applied twice daily between
the cheek and gum, can become displaced or swallowed and can cause taste
perversion and gum irritation. Topical gels, while more convenient to use than
other treatments, can require application of a large volume of product to the
patient's body, often drip during application or run when applied to the skin
and can produce an oily feel on the skin.
THE OPTERONE APPROACH
---------------------
Opterone is our cream formulation of 1% testosterone and SEPA. Opterone is
the first, and we believe the only, testosterone cream in clinical development.
In both laboratory and clinical settings, we demonstrated that SEPA enhances the
absorption of testosterone through the skin. In vitro studies using human
cadaver skin showed that our enhanced cream formulation delivered two to three
times more testosterone transdermally over a 24-hour period when compared to
equivalent doses of the currently marketed gel products. These in vitro studies
also suggested that our enhanced cream formulation may deliver comparable
amounts of testosterone in smaller dose volumes than currently marketed gel
products. In addition, we believe that the creamy texture and consistency, the
non-oily feel and the other physical attributes of Opterone cream will provide a
more cosmetically pleasing application than available gel treatments.
CLINICAL DEVELOPMENT
--------------------
Initially, we formulated Opterone as a gel. In 2001, we studied this gel
formulation in a three-site, three-way crossover pharmacokinetics trial. In that
study, 15 men with total average serum testosterone levels of less than 250
ng/dL were dosed with 5 grams of the then-marketed gel, or 1.25 or 2.5 grams of
our SEPA-based gel formulation. Each patient was dosed with one formulation
daily for three days, followed by a four-day "washout" period during which the
patient received no treatment. Each patient then crossed over to one of the
other formulations for a second three-day period. In that study, 2.5 grams of
our SEPA-based gel formulation and 5 grams of the then-marketed gel resulted in
essentially the same total systemic exposure to testosterone over a 24-hour
period, as measured by the area under the concentration versus time curve. The
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study also revealed that our SEPA-based gel formulation delivered most of the
testosterone into the bloodstream within the first 12 hours of administration.
In an effort to achieve a more controlled delivery of testosterone, we
re-formulated Opterone as a cream. In laboratory studies, the new cream
formulation provided a similar level of testosterone delivery, but with a more
sustained delivery profile.
Following our laboratory studies, we conducted a pharmacokinetics study of
Opterone, the top-line results of which were released in August of 2004. The
trial was designed to study the pharmacokinetics of testosterone following
administration of Opterone to hypogonadal adult males. Thirty-two patients were
randomized to receive one of three dose volumes of Opterone, with all patients
completing the assigned dosing regimen. In this study, Opterone delivered
testosterone into the bloodstream within the first few hours of application and
also provided a more sustained delivery of testosterone over 24 hours compared
to our prior gel formulation. We also observed that Opterone was generally well
tolerated with no patients dropping out of the study due to adverse events.
Local application site symptoms, when observed, were mild to moderate and
transient. Furthermore, the amount of testosterone delivered was not linearly
correlated to dose volume, which depends on many factors, including the
solubility of the formulation in water, the skin and surface area of the
application site, the subcutaneous fat content of the patients, and the
metabolic enzyme activities in the patients. The results of this dose
proportionality study guided the design of a bioavailability study, the next
step in the clinical development plan.
In December 2004 we announced the commencement of a bioavailability study
of Opterone. We expect to have and release top-line results from that study in
the second quarter of 2005.
ECONAIL FOR ONYCHOMYCOSIS
Onychomycosis, a fungal infection of the nail, is predominantly an
infection of the toe nail bed and nail plate underlying the surface of a nail.
Typical symptoms of onychomycosis can include:
o nail discoloration;
o nail thickening;
o cracking and fissuring of the nail plate; and
o in severe cases, inflammation, pain and secondary infection of the
nail bed and adjacent skin.
According to Fitzpatrick's Dermatology in General Medicine (Sixth Edition),
onychomycosis is a common disease, the prevalence of which varies by geographic
region and ranges from approximately 2% to 18% of the worldwide population, with
up to 48% of the population experiencing onychomycosis at least once by age 70.
According to an article published in 2000 in the Journal of the American Academy
of Dermatology, a large scale study found that the prevalence of onychomycosis
in the normal population of North America was approximately 14%.
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CURRENT TREATMENTS AND THEIR SHORTCOMINGS
-----------------------------------------
Current treatment options for onychomycosis include oral drugs, debridement
(filing, trimming and scraping), nail avulsion (surgical or chemical excision of
the infected nail plate) and topical drug therapies. There are two oral
therapies marketed for the treatment of onychomycosis in the U.S.: Lamisil and
Sporanox. The leading oral treatment, Lamisil, has a complete cure rate, which
refers to mycological cure plus clinical cure, of approximately 38%, but also
has a 15% relapse rate. Sporanox has a complete cure rate of approximately 14%.
One of the main risks associated with each of the oral treatments, both of which
undergo substantial first pass metabolism by the liver, is liver disease. As a
result, patients must continually monitor their liver function for signs of
failure, including fatigue, anorexia, nausea and/or vomiting, jaundice, dark
urine or pale stools. In the rare case that liver failure occurs, it can result
in death or the need for a liver transplant. Mechanical debridement, which is a
traditional podiatric approach to onychomycosis that reduces the thickness of
the nail, is not a cure for onychomycosis and requires time, specialized
instruments and experience. Nail avulsion, which requires surgical or chemical
removal of the nail plate, causes discomfort and traumatizes the nail bed. The
currently marketed topical onychomycosis drug, Penlac, a nail lacquer, has a
complete cure rate of less than 10% and requires up to 48 weeks of treatment,
including periodic removal of any unattached infected nail by a health care
professional.
As a topical delivery method, lacquer formulations have specific advantages
over other existing treatments because they are applied like nail polish, treat
fungal nail infections locally, and facilitate close and extended contact
between an antifungal drug and the dorsal nail surface. Developers of topical
nail lacquers for onychomycosis face two major challenges. First, lacquers with
acceptable hardness, durability and drying time tend not to release antifungal
drugs from the lacquer matrix readily. Second, most antifungal drugs do not
penetrate into the deep, or ventral, nail plate adequately when applied to the
outer, or dorsal, nail surface, which results in insufficient antifungal
concentrations at the site of infection.
THE ECONAIL APPROACH
--------------------
EcoNail is a lacquer formulation containing econazole and SEPA for the
topical treatment of onychomycosis. Econazole, a topical antifungal agent,
effectively inhibits in vitro growth of the fungi most commonly implicated in
onychomycosis. In contrast to SEPA's action in disrupting the lipid bilayer of
the skin, SEPA as used in EcoNail works to soften the lacquer in which econazole
is contained, thereby allowing for more rapid and complete release of econazole
from the lacquer into and through the nail. A 14-day study of lacquers
containing radioactively labeled econazole on human non-diseased cadaver nails
demonstrated that EcoNail delivered approximately seven times more econazole to
the ventral nail and 200 times more econazole to the nail bed than a similar
lacquer without SEPA. In this study, EcoNail delivered to the ventral nail more
than 14,000 times the minimum concentration of econazole needed to inhibit the
two most common fungi associated with onychomycosis. In addition, we believe
that EcoNail, as a locally applied lacquer, will have a reduced risk of systemic
side effects compared with oral treatments for onychomycosis.
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CLINICAL DEVELOPMENT
--------------------
Following our laboratory studies, we conducted a Phase 1 tolerance/human
exposure clinical trial of EcoNail in patients with onychomycosis and released
six week safety and tolerance data from that trial in November 2004. The trial
was a randomized, double-blind, controlled Phase 1 trial conducted at two U.S.
clinical sites. Eighteen patients with onychomycosis of the toenails completed
the safety-tolerability segment of the study, in which all fingernails and
toenails were treated twice daily for six weeks with either EcoNail or a control
nail lacquer. The six week safety-tolerability segment was followed by an
open-label segment of the trial in which all patients received EcoNail applied
once daily to all nails for an additional 12 weeks to extend patient exposure
experience.
The main objectives of this Phase 1 study were to test the safety and local
tolerability of EcoNail in patients with onychomycosis, and to determine
systemic exposure to econazole. In the six week segment, EcoNail was very well
tolerated, and investigators reported no serious drug-related adverse events.
Serum assays showed no detectable levels of econazole, further supporting
EcoNail's systemic safety profile.
OTHER SEPA-BASED PRODUCT CANDIDATES AND OUR MACRODERM TECHNOLOGY
OTHER PRODUCT CANDIDATES
------------------------
We are testing a number of SEPA-based formulations with various active
pharmaceutical ingredients in our laboratories. We focus on product candidates
within our areas of strategic priority (i.e., dermatology, urology,
endocrinology and podiatry), but also opportunistically pursue high-potential
product candidates in other specialty areas. As we continue to build our product
candidate portfolio, we review our pre-clinical-stage product opportunities to
identify those that show sufficient promise to be advanced into clinical
development. We evaluate each new product candidate on its potential for success
based on both scientific and commercialization criteria. These criteria include:
o technical feasibility (formulation, product stability and laboratory
results);
o likelihood of laboratory results translating into a meaningful
clinical benefit;
o expected clinical studies needed and regulatory pathway required to
obtain marketing approval;
o determination of the product candidate's expected competitive
advantage in the marketplace;
o duration of development timeline leading to commercialization;
o financial investment needed for development; and
o expected sales and profitability.
We are also developing second generation enhancers that we believe can be
used with a wider variety of active pharmaceutical ingredients.
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MACRODERM DRUG DELIVERY TECHNOLOGY
----------------------------------
For chemicals that penetrate the skin too readily or that can be toxic if
significantly absorbed into the bloodstream, it may be desirable to retard the
rate of drug absorption to achieve an optimal delivery profile. For these
chemicals, we have developed our second drug delivery technology, called
MacroDerm, encompassing a series of low to moderate molecular weight polymers
that impede drug penetration through the skin. We believe MacroDerm may have
uses in cosmetics, personal care products and selected pharmaceuticals.
Potential applications include their formulation with sunscreens, moisturizers
and insect repellents to decrease skin penetration and improve persistence on
the skin. We have synthesized and are testing and evaluating MacroDerm
prototypes and we are seeking strategic partners to manufacture and market
specific MacroDerm products.
COMPETITION
We compete with a number of companies, all of which are large,
multi-national organizations with worldwide distribution. We believe that our
major competitors in the drug delivery sector of the health care industry
include Bentley Pharmaceuticals, Inc., Biosante Pharmaceuticals, Inc., NexMed,
Inc., ALZA Corporation and Elan Corporation, plc. Established competitors in the
therapeutic areas that our lead product candidates seek to address include, with
respect to male hypogonadism, Solvay Pharmaceuticals, Inc., Auxilium
Pharmaceuticals, Inc., Watson Pharmaceuticals, Inc. and Columbia Laboratories,
Inc., and with respect to onychomycosis, Novartis AG, Johnson & Johnson and
Dermik Laboratories. Compared with us, all of these companies have substantially
greater capital resources, research and development and technical staffs,
facilities and experience in obtaining regulatory approvals, as well as in
manufacturing, marketing and distribution of products.
With respect to male hypogonadism, Solvay Pharmaceuticals, Inc. and
Auxilium Pharmaceuticals, Inc. each offer a topically administered testosterone
gel, Watson Pharmaceuticals, Inc. offers a testosterone patch, and Columbia
Laboratories, Inc. offers a testosterone buccal film product. A number of other
companies are also developing topical testosterone products.
With respect to onychomycosis, Novartis AG and Johnson & Johnson each offer
an orally administered antifungal therapy and Dermik Laboratories offers a
topical nail lacquer therapy for treating fungal infections of the nail. A
number of other companies are also developing topical and oral therapies for
these infections.
We expect any products approved for sale to compete primarily on the basis
of efficacy, safety, patient compliance, reliability, price and patent position.
Generally, the first pharmaceutical product to reach the market in a therapeutic
or preventive area often has a significant advantage compared with later
entrants to the market. Our competitive position will also depend on our ability
to attract and retain qualified scientific and other personnel, develop
effective proprietary products, implement production and marketing plans, obtain
patent protection and secure adequate capital resources.
11
GOVERNMENT REGULATION
The production and marketing of our drug delivery systems and
pharmaceutical products are subject to regulation for safety, efficacy and
quality by numerous federal, state and local agencies and comparable agencies in
foreign countries.
In the United States, the Federal Food, Drug and Cosmetics Act, the Public
Health Service Act, the Controlled Substances Act and other federal statutes and
regulations govern or influence the testing, manufacture, safety, labeling,
storage, record keeping, approval, advertising and promotion of our proposed
products and technologies.
Non-compliance with applicable requirements can result in fines and other
judicially imposed sanctions including recalls and criminal prosecutions based
on violation of statutory requirements by products, promotional practices,
clinical practices or manufacturing practices. In addition, administrative
remedies can involve voluntary recalls or cessation of sale of products,
administrative detention, public notice, voluntary changes in labeling,
manufacturing or promotional practices, as well as refusal of the government to
approve New Drug Applications (NDAs). The FDA also has the authority to withdraw
approval of drugs in accordance with statutory procedures.
The FDA approval procedure involves completion of certain pre-clinical and
manufacturing/stability studies and the submission of the results of these
studies to the FDA in an Investigational New Drug (IND) application in support
of performing clinical trials. IND allowance is then followed by performance of
human clinical trials, and additional pre-clinical and manufacturing quality
control studies, supporting safety, efficacy and manufacturing quality control.
The safety, chemistry, manufacturing and stability and clinical studies
developed under the IND are generally compiled into an NDA or Abbreviated New
Drug Application (ANDA) and submitted to the FDA for approval to market.
Pre-clinical studies involve laboratory evaluation of product
characteristics and animal studies to assess the efficacy and safety of the
product. Human clinical trials are typically conducted in three sequential
phases, but the phases may overlap. Phase 1 trials typically consist of testing
of the product in a small number of normal volunteers primarily for safety. In
Phase 2, in addition to safety, the efficacy of the product is typically
evaluated in a small patient population. Phase 3 trials typically involve
multicenter testing for safety and clinical efficacy in an expanded population
of patients at geographically dispersed test sites. A clinical plan, or
"protocol," accompanied by the identification of the institutions participating
in the trials, must be submitted to the FDA prior to commencement of each
clinical trial. The FDA may order the temporary or permanent discontinuation of
a clinical trial at any time if adverse events that endanger patients in the
trials are observed. In addition, the FDA may request Phase 4 clinical trials,
to be performed after marketing approval, to resolve any lingering questions.
A 30-day waiting period after the filing of each IND application is
required by the FDA prior to the commencement of clinical testing in human
subjects. If the FDA does not comment on or question the IND application within
30 days, initial clinical studies may begin. However, any FDA comments or
questions must be answered to the satisfaction of the FDA before initial
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clinical testing can begin. In some instances, this process can result in
substantial delay and expense.
The results of the pre-clinical and clinical studies on new drugs are
submitted to the FDA in the form of NDAs for approval to commence commercial
sales. Following extensive review, the FDA may grant marketing approval, require
additional testing or information, or deny the application. All products must
continue to comply with all FDA requirements and the conditions in an approved
application, including product specifications, manufacturing process and
labeling requirements. Failure to comply, or the occurrence of unanticipated
adverse events during commercial marketing, could lead to the need for labeling
changes, product recall, seizure, injunctions against distribution or other
FDA-initiated action, which could delay further marketing until the products are
brought into compliance.
In certain cases, an ANDA may be filed in lieu of filing an NDA. An ANDA
relies on bioequivalency tests that compare the applicant's drug with an already
approved reference drug, rather than on clinical trials. An ANDA may be
available to us for a new formulation of a drug, which has already been approved
by the FDA in other topical dosage forms.
The NDA itself is a complicated and detailed document and must include the
results of extensive animal, clinical and other testing, the cost of which is
substantial. Although the FDA is required to review applications within 180 days
of filing, in the process of reviewing applications the FDA frequently requests
that additional information be submitted and restarts the 180-day regulatory
review period when the requested additional information is submitted. The effect
of such requests and subsequent submissions can significantly extend the time
for the NDA review process. Until an NDA is actually approved, no assurance can
be given that the information requested and submitted will be considered
adequate by the FDA to justify approval.
In addition, packaging and labeling of most of our proposed products are
subject to FDA regulation. We must get FDA approval for all labeling and
packaging prior to marketing of a regulated product.
Whether or not FDA approval has been obtained, approval of a product by a
comparable regulatory authority must be obtained in most foreign countries
before marketing of the product in that country. The approval procedure varies
from country to country and may involve additional testing, and the time
required may differ from that required for FDA approval. Although some
procedures for unified filings exist for certain European countries, in general
each country has its own procedure and requirements, many of which are time
consuming and expensive. Thus, substantial delays in obtaining required
approvals from foreign regulatory authorities can result after the relevant
applications are filed. After such approvals are obtained, further delays may be
encountered before the products become commercially available.
We cannot guarantee that any required FDA or other governmental approval
will be granted or, if granted, will not be withdrawn. Governmental regulation
may prevent or substantially delay the marketing of our proposed products, cause
us to undertake costly procedures and furnish a competitive advantage to the
more substantially capitalized companies with which we plan to compete. In
addition, we cannot predict the extent of potentially adverse government
regulations that may arise from future administrative action or legislation.
13
RESEARCH AND DEVELOPMENT
We conduct our research and development activities through our own staff
and facilities, and also through collaborative arrangements with universities,
contract research organizations and independent consultants. Research and
developmental expenditures were $3,998,388, $2,938,026 and $4,221,039 during the
years ended December 31, 2002, 2003 and 2004, respectively. We also rely upon
third parties to conduct clinical studies and to obtain FDA and other regulatory
approvals.
We conduct stability studies, test our unique formulations and design
manufacturing processes for our SEPA compounds and MacroDerm polymer
technologies at our facility and other facilities. We have cGMP (current Good
Manufacturing Practices) facilities for the manufacture of dosage forms for
clinical evaluations.
PATENTS, TRADEMARKS AND LICENSE RIGHTS
We own a composition of matter patent on the SEPA family of compounds,
which will expire in 2006. We also own five composition of matter and use
patents, with expiration dates ranging from 2015 to 2019, for the combination of
SEPA with numerous existing classes of drugs, including human sex hormones and
antifungals. The patent for SEPA combined with human sex hormones covers the
combination of SEPA and testosterone in Opterone, and the patent for SEPA
combined with antifungals covers the combination of SEPA and econazole in
EcoNail. We intend to seek composition of matter and use patents regarding
various formulations based on our topical drug delivery technologies and for new
technologies. In 2004, we filed two international patent applications,
requesting protection in both the U.S. and foreign jurisdictions, for topical
administration compositions: one for a new class of absorption enhancer
compounds and the other for a new cream based carrier system.
With respect to our MacroDerm technology, we have three U.S. patents
covering the chemical composition of the MacroDerm polymers, which expire in
2015.
In addition to the patent activity, we have trademarks for the marks SEPA
and Opterone. We also have pending trademark applications for the marks
MacroDerm and EcoNail.
We believe that patent protection of our technologies, processes and
products is important to our future operations. The success of our proposed
products may depend, in part, upon our ability to obtain patent and trademark
protection. We intend to enforce our patent position and intellectual property
rights vigorously. The cost of enforcing our patent rights in lawsuits, if
necessary, may be significant and could interfere with our operations.
EMPLOYEES
As of December 31, 2004, we had 17 full time employees, 9 of whom are
dedicated to research and development and regulatory affairs. None of our
employees are covered by a collective bargaining agreement, and we consider
relations with our employees to be good.
14
MANUFACTURING
We currently manufacture our product candidates for early stage clinical
trials in our laboratory space at our facility in Lexington, Massachusetts. In
order to manufacture our product candidates for larger late-stage clinical
trials and for commercial distribution following FDA approval, we will need to
contract with a third party manufacturer to produce the product in commercial
quantities. We believe that there are numerous third party manufacturers who
would be able to manufacture our product candidates on a commercial scale.
RISK FACTORS
INVESTING IN OUR COMMON STOCK IS RISKY. IN ADDITION TO THE OTHER INFORMATION IN
THIS ANNUAL REPORT ON FORM 10-K, YOU SHOULD CONSIDER CAREFULLY THE FOLLOWING
RISK FACTORS IN EVALUATING US AND OUR BUSINESS. IF ANY OF THE EVENTS DESCRIBED
IN THE FOLLOWING RISK FACTORS WERE TO OCCUR, OUR BUSINESS, FINANCIAL CONDITION
OR RESULTS OF OPERATIONS LIKELY WOULD SUFFER. IN THAT EVENT, THE TRADING PRICE
OF OUR COMMON STOCK COULD DECLINE, AND YOU COULD LOSE ALL OR A PART OF YOUR
INVESTMENT.
RISKS RELATED TO OUR BUSINESS
-----------------------------
WE HAVE A HISTORY OF OPERATING LOSSES, EXPECT TO CONTINUE TO INCUR LOSSES AND
RELY EXTENSIVELY ON EXTERNAL FINANCING TO SUSTAIN OUR OPERATIONS. IF WE ARE
UNABLE TO OBTAIN EXTERNAL FINANCING, WE WOULD BE REQUIRED TO LIMIT, SCALE BACK
OR CEASE OUR OPERATIONS.
Since 1981, we have been engaged primarily in research and development and
have derived limited revenues from feasibility studies and the licensing of our
technology. We have not generated any material revenues from the sale of any
products. In addition, we have incurred net losses every year since we began
doing business and we anticipate that we will continue to incur losses for the
foreseeable future. As of December 31, 2004, we had an accumulated deficit of
approximately $76.8 million. For the fiscal years ended December 31, 2002, 2003
and 2004, we had a net loss of $7,514,514, $5,661,694 and $8,274,521,
respectively. We expect to incur operating losses for the foreseeable future.
Our ability to continue operations after our current capital resources are
exhausted depends on our ability to secure additional financing and to become
profitable, which we cannot guarantee. Our funds on hand at December 31, 2004
are not sufficient to fund our operations through fiscal 2005 and, accordingly,
the audit report of Deloitte & Touche LLP, our independent registered public
accounting firm, on our 2004 financial statements includes an explanatory
paragraph regarding our ability to continue as a going concern. The inclusion of
this explanatory paragraph may materially and adversely affect our ability to
raise new capital. As well, we will need to obtain stockholder approval for any
issuance of additional equity securities at a price less than the greater of
book or market value that would comprise more than 20 percent of the Company's
total shares of common stock outstanding at such time. The Company cannot assure
you that it will be successful in obtaining any required stockholder approval.
Before we or any of our potential licensees may market any products based
on our technology, significant additional development efforts and substantial
testing will be necessary. We will require substantial additional financing to
fund clinical studies on our product candidates. We may not be able to secure
15
financing on favorable terms or at all. If we are unable to obtain external
financing, we would have to reduce, delay or eliminate our clinical studies.
OUR PRODUCT CANDIDATES ARE IN THE EARLY STAGES OF DEVELOPMENT AND ARE SUBJECT TO
THE RISK OF FAILURE INHERENT IN THE DEVELOPMENT OF INNOVATIVE TECHNOLOGIES.
Various pharmaceutical companies have developed systems to enhance the
transdermal delivery of specific drugs, but relatively limited research has been
conducted about using transdermal delivery systems for a wider range of
pharmaceutical products. Transdermal delivery systems currently are used only in
a limited number of products. In addition, some transdermal delivery systems
have demonstrated adverse side effects for users, including skin irritation and
delivery difficulties.
Our product candidates are in the early stages of development and will
require significant further research, development, testing and regulatory
clearances. Our product candidates are subject to the risks of failure inherent
in the development of products based on innovative technologies. These risks
include the possibilities that any or all of our product candidates may be found
to be ineffective or toxic, or otherwise may fail to receive necessary
regulatory clearances. For example, in April 2004, we determined that
preliminary data from a Phase 2 pharmacodynamic study of one of our proposed
products, Topiglan, a SEPA-based topical cream for erectile dysfunction,
demonstrated that Topiglan did not meet the study's primary clinical endpoints.
OUR PRODUCT CANDIDATES MUST UNDERGO A RIGOROUS REGULATORY APPROVAL PROCESS,
WHICH INCLUDES EXTENSIVE PRE-CLINICAL AND CLINICAL TESTING, TO DEMONSTRATE
SAFETY AND EFFICACY BEFORE WE CAN MARKET THEM. IF THE RESULTS OF OUR FUTURE
PRE-CLINICAL AND CLINICAL TESTING INDICATE THAT OUR PRODUCT CANDIDATES ARE NOT
SAFE OR EFFECTIVE, OUR BUSINESS WILL SUFFER.
Each of our product candidates, including Opterone and EcoNail, must
undergo a rigorous regulatory approval process, including significant
pre-clinical and clinical testing to demonstrate that they are safe and
effective for human use, before we can market them. Conducting clinical trials
is a lengthy, expensive and uncertain process. Completion of clinical trials may
take several years or more. In addition, our clinical trials may be delayed by
many factors, including:
o slow or insufficient patient enrollment;
o failure of the FDA to approve our clinical trial protocols;
o inability to manufacture significant amounts of our product
candidates for use in a trial;
o unforeseen safety issues; and
o government or regulatory delays.
In addition, the results of pre-clinical studies and early clinical trials
may not accurately predict results that we will obtain in later testing. A
number of other companies in the pharmaceutical industry have suffered
significant setbacks in advanced clinical trials, even after they achieved
promising results in earlier trials. If we, the FDA or physicians do not believe
16
that our clinical trials demonstrate that our product candidates are safe and
effective, our business, financial condition and results of operations will be
materially adversely affected.
OUR PRODUCT CANDIDATES ARE SUBJECT TO SIGNIFICANT FDA SUPERVISION AND MAY NOT
SUCCESSFULLY COMPLETE THE EXTENSIVE REGULATORY APPROVAL PROCESS REQUIRED PRIOR
TO THE MARKETING OF ANY PHARMACEUTICAL PRODUCT.
Our activities are regulated by a number of government authorities in the
United States and other countries, including the FDA. The FDA regulates
pharmaceutical products, including their manufacture and labeling. Before
obtaining regulatory approval to market any product candidate under development,
we must demonstrate to the FDA that the product is safe and effective for use in
each proposed indication through, among other things, pre-clinical studies and
clinical trials. Data obtained from testing is subject to varying
interpretations which can delay, limit or prevent FDA approval.
On October 11, 2002, the FDA advised us that further clinical trials of our
drugs containing SEPA had been placed on clinical hold pending review of
questions surrounding a 26-week transgenic-mouse (Tg.AC) carcinogenicity study
of SEPA we performed in 1999. On April 10, 2003, the FDA lifted this clinical
hold. The clinical hold release does not impose any SEPA dosage or regimen
constraints on subsequent trials. In releasing the hold, the FDA requested
additional information on that 1999 study, which we have provided. If, following
further review, the FDA were to re-impose the clinical hold or take other
regulatory action, our business would be materially adversely affected.
To date, neither the FDA nor any of its international equivalents has
approved any of our technologies or product candidates for marketing. If the FDA
does not approve our product candidates for marketing, we will be materially
adversely affected.
We face additional risks associated with the regulatory approval process,
including:
o Changes in existing regulatory requirements could prevent or affect
our regulatory compliance. Federal and state laws, regulations and
policies may be changed with possible retroactive effect. In
addition, how these rules actually operate can depend heavily on
administrative policies and interpretations over which we have no
control. We also may lack the experience with these policies and
interpretations to assess their full impact upon our business.
o Obtaining FDA clearances is time-consuming and expensive and we
cannot guarantee that such clearances will be granted or, if
granted, will not be withdrawn.
o The FDA review process may prevent us from marketing our product
candidates or may involve delays that significantly and negatively
affect our product candidates. We also may encounter similar delays
in foreign countries.
o Regulatory clearances may place significant limitations on the uses
for which any approved products may be marketed.
o Any marketed product and its manufacturer are subject to periodic
review by the FDA.
17
o Any discovery of previously unrecognized problems with a product or
a manufacturer could result in suspension or limitation of
previously obtained or new approvals.
BECAUSE THE REGULATORY APPROVAL PROCESS IS COMPLEX, WE CANNOT ACCURATELY PREDICT
THE REGULATORY APPROVAL TIMELINE FOR OUR PRODUCT CANDIDATES.
The laws and regulations administered by the FDA are complex, and
compliance with these laws and regulations requires substantial time, effort and
expense. Because of this complexity, and because the regulatory approval path
for our product candidates has not yet been confirmed by the FDA, we cannot
guarantee that our efforts will be sufficient to ensure compliance with all
applicable laws and regulations, nor can we accurately predict the regulatory
approval timeline for our product candidates.
IF OUR PRODUCT CANDIDATES ARE NOT ACCEPTED BY PHYSICIANS AND PATIENTS, WE MAY
NEVER BE PROFITABLE.
Even if our product candidates receive regulatory approval, we may not be
able to market them effectively, they may be uneconomical to market or third
parties may market equivalent or superior products. We will need to expend
significant effort to educate physicians and patients regarding any product
candidate that receives regulatory approval. Consequently, unless our product
candidates obtain market acceptance, we may never be profitable.
IF PHYSICIANS OR PATIENTS PERCEIVE THAT TESTOSTERONE REPLACEMENT THERAPIES
CREATE HEALTH RISKS, THE VIABILITY OF OPTERONE MAY BE QUESTIONED, AND OUR
BUSINESS AND THE PRICE OF OUR STOCK MAY BE NEGATIVELY AFFECTED.
Recent studies of female hormone replacement therapy products have reported
an associated increase in health risks. As a result of these studies, some
companies that sell or develop female hormone replacement products have
experienced decreased sales of these products, and in some cases, a decline in
their stock. From time to time, publications have suggested potential health
risks associated with testosterone replacement therapy, including fluid
retention, sleep apnea, breast tenderness or enlargement, increased red blood
cells, development of clinical prostate disease, increased cardiovascular
disease risk and the suppression of sperm production. It is possible that
studies on the effect of testosterone replacement therapy could demonstrate
these or other adverse health risks. This, along with the negative publicity
surrounding hormone replacement therapy in general, could negatively impact
market acceptance of Opterone, which could adversely affect our business and the
price of our stock.
WE DEPEND ON PATENTS TO PROTECT OUR TECHNOLOGIES AND IF OUR CURRENT PATENTS ARE
INEFFECTIVE OR WE ARE UNABLE TO SECURE AND MAINTAIN ADEQUATE PATENT PROTECTION,
OUR ABILITY TO COMPETE WITH OTHER PHARMACEUTICAL COMPANIES MAY BE NEGATIVELY
AFFECTED.
We believe that patent protection of our technologies, processes and
products is important to our future operations. The success of our product
candidates depends, in part, on our ability to secure and maintain adequate
patent protection.
18
Although we intend to file additional patent applications, the patent
application process is lengthy and expensive and there is no guarantee that a
patent will be issued or, if issued, that it will be of commercial benefit to
us. In addition, it is impossible to anticipate the breadth or degree of
protection that any patents we obtain may afford us. Further, products that we
develop could infringe patents held by third parties. In these cases, we may
have to obtain licenses from third parties, which may not be available on
commercially acceptable terms, if at all. We do not maintain separate insurance
to cover intellectual property infringement.
Our composition of matter patent covering SEPA expires in 2006. The
expiration of that patent will enable competitors to develop SEPA-based product
candidates covering applications for which we have not obtained composition and
use patents. As a result, our competitive position may be adversely affected.
Currently, we are not involved in any litigation, settlement negotiations
or other legal action regarding patent issues and are not aware of any patent
litigation threatened against us. We may, however, become involved in patent
litigation against third parties to enforce our patent rights, to invalidate
patents held by those third parties or to defend against claims of those third
parties. We intend to enforce our patent position and defend our intellectual
property rights vigorously. The cost to us of any patent litigation or similar
proceeding could be substantial and it may absorb significant management time.
In the event of an unfavorable resolution of any infringement litigation against
us, we may be enjoined from manufacturing or selling any products without a
license from a third party.
IF WE ARE NOT ABLE TO PROTECT THE CONFIDENTIALITY OF OUR PROPRIETARY INFORMATION
AND KNOW-HOW, THE VALUE OF OUR TECHNOLOGIES MAY BE ADVERSELY AFFECTED.
In addition to patent protection, we utilize significant unpatented
proprietary technology and rely on unpatented trade secrets and proprietary
know-how to protect certain aspects of our technologies. To the extent that we
rely on unpatented proprietary technology, we cannot guarantee that others will
not independently develop or obtain substantially equivalent or superior
technologies or otherwise gain access to our trade secrets, that any obligation
of confidentiality will be honored or that we will be able to effectively
protect our rights to our proprietary technologies.
IF WE ARE NOT ABLE TO RETAIN OUR KEY PERSONNEL AND/OR RECRUIT ADDITIONAL KEY
PERSONNEL IN THE FUTURE, THEN OUR BUSINESS MAY SUFFER.
The success of our business depends on our ability to attract, retain and
motivate qualified senior management personnel and qualified scientific
personnel. We consider Robert J. DeLuccia, our President and Chief Executive
Officer, and Thomas C. K. Chan, Ph.D., our Chief Technology Officer, to be key
employees, and we have entered into employment agreements with each of them. We
do not maintain key person life insurance on any of our employees. In our
industry, the competition for experienced personnel is intense and can be
expected to increase. Like others in our industry, from time to time we may
face, and in the past have faced, difficulties in attracting and retaining
employees with the requisite experience and qualifications. If we fail to retain
or attract this type of personnel, it could have a significant negative effect
on our ability to develop our technologies.
19
WE LACK MARKETING RESOURCES AND IF WE ARE UNABLE TO ATTRACT AND RETAIN EFFECTIVE
SALES PERSONNEL OR CONTRACT WITH THIRD PARTIES TO MARKET AND DISTRIBUTE OUR
PRODUCTS, OUR BUSINESS MAY BE NEGATIVELY AFFECTED.
We intend to market and distribute our future products either through the
development of our own sales force or through third parties. Currently, we have
no sales force or marketing infrastructure. In order to develop our own
marketing and sales capabilities, we will need to attract and retain qualified
and experienced marketing and sales personnel. Competition for qualified and
experienced marketing and sales personnel is intense, and we cannot guarantee
that we will be able to attract and retain this personnel nor can we guarantee
that any efforts undertaken by such personnel will be successful. If we do not
hire our own marketing and sales personnel, we will have to enter into
agreements with other companies to market and distribute our products. However,
we cannot guarantee that we will be able to enter into these agreements on
commercially reasonably terms, if at all. In addition, we may have to cede
control over some or all aspects of the marketing and sales of our products as a
condition to entering into these arrangements.
IF WE ARE UNABLE TO ESTABLISH, MAINTAIN AND RELY ON ANY SUCCESSFUL LICENSING OR
OTHER COLLABORATIVE ARRANGEMENTS WITH THIRD PARTIES, WE MAY NOT BE ABLE TO
DEVELOP AND MARKET OUR PRODUCT CANDIDATES SUCCESSFULLY.
We may pursue the commercialization of our product candidates and
technologies through discussions with potential licensees and joint venturers,
but we cannot assure you that we will enter into any licenses or joint ventures
or that we will receive any license fees. If we rely on licensees and joint
venture arrangements to fund costs relating to product development and clinical
trials, these licensees and joint venturers may have the legal right to
terminate funding for a product at any time for any reason without significant
penalty. We cannot control the resources and attention that a licensee or joint
venturer may devote to a product candidate, which could result in delays in
clinical testing, regulatory filings and commercialization efforts. There is no
certainty that we will be able to enter into collaborative arrangements on
economically feasible or mutually beneficial terms, or that any collaborative
arrangements will be successful.
OUR FAILURE TO IDENTIFY PHARMACEUTICALS THAT ARE COMPATIBLE WITH OUR DRUG
DELIVERY TECHNOLOGIES OR ADDITIONAL PRODUCT CANDIDATES OR TECHNOLOGIES THAT
COMPLEMENT OUR EXISTING TECHNOLOGIES WOULD IMPAIR OUR ABILITY TO GROW.
Our growth depends on our ability to identify drugs suitable for delivery
using our proprietary drug delivery technologies and our ability to identify
product candidates or technologies that complement our existing technologies.
Identifying suitable drugs or product candidates is a lengthy and complex
process. Even if identified, the drugs or product candidates may not be
available to us or we may otherwise be unable to enter into licenses or other
agreements for their use. Other companies, including those with substantially
greater financial, marketing and sales resources, may compete with us for the
licensing or acquisition of drugs and product candidates and we may not be able
to enter into licenses or other agreements on acceptable terms, or at all. If we
are unable to identify and license or acquire drugs that are compatible with our
drug delivery technologies or additional product candidates or technologies that
20
complement our existing technologies, our ability to grow our portfolio of
product candidates and our prospects would be adversely affected.
WE DO NOT HAVE ANY MANUFACTURING FACILITIES AND DEPEND ON THIRD PARTIES TO
MANUFACTURE OUR PRODUCT CANDIDATES.
We do not have facilities capable of manufacturing any of our product
candidates in commercial quantities and we do not have plans to obtain these
facilities. Accordingly, we will depend to a significant extent on licensees or
corporate partners to manufacture our products. If any of our third-party
manufacturers fails to perform its obligations in a timely fashion or in
accordance with applicable regulations, it may delay clinical trials, the
commercialization of our product candidates or our ability to supply our product
candidates for sale. If we decide to establish a commercial manufacturing
facility, we would need to hire and retain significant additional personnel,
comply with extensive government regulations, and obtain significant amounts of
additional capital, which may not be available on acceptable terms, or at all.
WE FACE THE RISK OF PRODUCT LIABILITY CLAIMS, AND WE MAY NOT HAVE SUFFICIENT
PRODUCT LIABILITY INSURANCE TO COVER SUCH CLAIMS. IT MAY BE EXPENSIVE AND
DIFFICULT TO OBTAIN ADEQUATE INSURANCE COVERAGE.
The design, development, manufacture and sale of our product candidates
involve risk of liability claims and associated adverse publicity. We have
product liability insurance coverage with an aggregate policy limit of
approximately $10,000,000 for claims related to our product candidates that may
arise from clinical trials conducted prior to November 1, 2002. We also have
product liability insurance coverage with aggregate policy limits between
approximately $3,000,000 and $5,000,000 for claims related to our product
candidates that may arise from clinical trials conducted after September 25,
2003. In the event that our products receive regulatory approval and become
commercialized, we would need to acquire additional coverage. Product liability
insurance is expensive, may be difficult to obtain and may not be available on
acceptable terms, if at all. If we obtain coverage, we cannot guarantee that the
coverage limits of these insurance policies will be adequate. A successful claim
against us if we are uninsured, or which is in excess of our insurance coverage,
could have a material adverse effect on us and our financial condition.
WE RELY ON A THIRD-PARTY SUPPLIER FOR A NON-ACTIVE INGREDIENT IN SOME OF OUR
PRODUCT CANDIDATES AND, IN THE EVENT THE SUPPLIER IS UNABLE TO SUPPLY US WITH
ADEQUATE PRODUCT, OUR BUSINESS MAY BE NEGATIVELY AFFECTED IF WE ARE NOT ABLE TO
TIMELY OBTAIN A SUBSTITUTE INGREDIENT.
We rely on a third-party supplier, Seppic Inc., for a non-active ingredient
that is important to the formulation and production of some of our topical
product candidates. While we believe similar products are available from other
suppliers, if Seppic Inc. were unable or unwilling to supply its product in
sufficient quantities at a reasonable price, our results could suffer, as we may
encounter significant costs and delays in identifying and measuring the efficacy
of replacement third party products.
21
RISKS RELATED TO OUR INDUSTRY
-----------------------------
OUR INDUSTRY IS HIGHLY COMPETITIVE AND ALL OF OUR COMPETITORS HAVE SIGNIFICANTLY
MORE RESOURCES THAN WE HAVE.
We compete with a number of firms, many of which are large, multi-national
organizations with worldwide distribution. We believe that our major competitors
in the drug delivery sector of the health care industry include Bentley
Pharmaceuticals, Inc., Biosante Pharmaceuticals, Inc., NexMed, Inc., ALZA
Corporation and Elan Corporation, plc. Competitors with approved products in the
therapeutic areas that our lead product candidates seek to address include, with
respect to male hypogonadism:
o Solvay Pharmaceuticals, Inc., maker of Androgel(R), a topical gel
therapy;
o Auxilium Pharmaceuticals, Inc., maker of Testim(R), a topical gel
therapy;
o Watson Pharmaceuticals, Inc., maker of Androderm(R), a transdermal
patch; and
o Columbia Laboratories, Inc., maker of Striant(R), a buccal film
which is placed between the patient's cheek and gum;
and with respect to onychomycosis:
o Novartis AG, maker of Lamisil(R), an oral therapy;
o Johnson & Johnson, maker of Sporanox(R), an oral therapy; and
o Dermik Laboratories, maker of Penlac(R), a topical nail lacquer.
All of these companies have substantially greater capital resources,
research and development and technical staff, facilities and experience in
obtaining regulatory approvals, as well as in manufacturing, marketing and
distributing products, than we do. Recent trends in this industry are toward
further market consolidation of large drug companies into a smaller number of
very large entities, further concentrating financial, technical and market
strength and increasing competitive pressure in the industry. Academic
institutions, hospitals, governmental agencies and other public and private
research organizations also are conducting research and seeking patent
protection and may develop competing products or technologies of their own
through joint ventures or other arrangements. In addition, recently developed
technologies, or technologies that may be developed in the future, may or could
be the basis for competitive products which may be more effective or less costly
to use than any products that we currently are developing.
We expect any products approved for sale to compete primarily on the basis
of product efficacy, safety, patient compliance, reliability, price and patent
position. Generally, the first pharmaceutical product to reach the market in a
therapeutic or preventive area often has a significant advantage compared with
later entrants to the market. Our competitive position also will depend on our
ability to attract and retain qualified scientific and other personnel, develop
effective proprietary products, implement production and marketing plans, obtain
patent protection and secure adequate capital resources.
22
GOVERNMENT AND PRIVATE INITIATIVES TO REDUCE HEALTH CARE COSTS COULD HAVE A
MATERIAL ADVERSE EFFECT ON PHARMACEUTICAL PRICING AND ON OUR OPERATIONS.
The future revenues and profitability of, and availability of capital for,
biomedical and pharmaceutical companies may be affected by the continuing
efforts of governmental and private third-party payers to contain or reduce the
costs of health care through various means. Reimbursement by payors such as
government and managed care organizations has become an increasingly important
factor in the success of a drug, as has the listing of new products on large
formulary lists, including those of managed care organizations, pharmaceutical
benefit providers and group buying organizations. Failure of a pharmaceutical
product to be included on formulary lists, or to be reimbursed by government or
managed care organizations, could negatively impact the profitability of a drug.
Furthermore, in some foreign markets pricing or profitability of
prescription pharmaceuticals is subject to government control and to possible
reform in the health care system. In the U.S., there have been, and we expect
there will continue to be, a number of federal and state proposals to impose
similar governmental control. While we cannot predict whether any of these
legislative or regulatory proposals will be adopted, the announcement or
adoption of these proposals could have a material adverse effect on our
prospects.
If we succeed in bringing to market one or more of our product candidates,
we cannot assure you that these product candidates will be cost effective or
that reimbursement to the consumer will be available or will be sufficient to
allow us to sell these products on a profitable basis.
RISKS RELATED TO THE SECURITIES MARKET
--------------------------------------
OUR STOCK PRICE HAS BEEN, AND LIKELY WILL CONTINUE TO BE, HIGHLY VOLATILE, AND
AS A RESULT, AN INVESTMENT IN OUR STOCK IS SUBJECT TO SUBSTANTIAL RISK.
The market price of our stock has been, and will likely continue to be,
highly volatile due to the risks and uncertainties described in this section of
this document, as well as other factors, including:
o the results of our clinical trials for our SEPA-based formulations;
o our ability to license or develop other compounds for clinical
development;
o conditions and publicity regarding the pharmaceutical industry
generally as well as the specific therapeutic areas our product
candidates seek to address;
o price and volume fluctuations in the stock market at large which do
not relate to our operating performance; and
o comments by securities analysts, or our failure to meet market
expectations.
Over the two-year period ending December 31, 2004, the closing price of our
common stock as reported on The Nasdaq National Market and The Nasdaq SmallCap
Market ranged from a high of $1.79 to a low of $0.45. In the past, companies
that have experienced stock price volatility have sometimes been the subject of
securities class action litigation. If litigation were instituted on this basis,
23
it could result in substantial costs and a diversion of management's attention
and resources. As a result of this volatility, an investment in our stock is
subject to substantial risk.
IF WE ARE UNABLE TO MAINTAIN COMPLIANCE WITH THE NASDAQ SMALLCAP MARKET LISTING
REQUIREMENTS, OUR SHARES COULD BE DELISTED, WHICH COULD NEGATIVELY AFFECT THE
LIQUIDITY OF AN INVESTMENT IN OUR COMMON STOCK.
Our listing on The Nasdaq SmallCap Market is conditioned on our compliance
with Nasdaq's continued listing requirements. The minimum standards for listing
on The Nasdaq SmallCap Market include stockholders' equity of $2.5 million or
market capitalization of $35 million and a minimum bid price of $1.00. A failure
to meet the minimum bid price requirement shall be determined to exist only if
the deficiency continues for a period of 30 consecutive business days.
On October 18, 2004, we received written notice from Nasdaq that the bid
price of our common stock had closed below $1.00 for the prior 30 consecutive
business days. In accordance with Nasdaq's rules, we have 180 calendar days, or
until April 18, 2005, to regain compliance with this requirement. In order to
regain compliance, we must demonstrate a closing bid price for our common stock
of $1.00 per share or more for a minimum of 10 consecutive business days. If we
cannot regain compliance with the $1.00 minimum bid price requirement by April
18, 2005, Nasdaq will grant us an additional 180 calendar days to regain
compliance if, at that time, we meet The Nasdaq SmallCap Market initial listing
requirements, as set forth in Marketplace Rule 4310(c), except for the $1.00
minimum bid price requirement. The initial listing requirements for the Nasdaq
SmallCap Market include stockholders' equity of $5.0 million or market
capitalization of $50 million. If we cannot regain compliance with the Nasdaq
SmallCap Market listing requirements, our common stock may be delisted from
trading on The Nasdaq SmallCap Market.
Given the volatility of our stock price and the potential dilutive effects
of any future financing activity, we cannot guarantee that we will be able to
regain compliance with Nasdaq's listing standards, including the minimum bid
price of $1.00. If our common stock were delisted from The Nasdaq SmallCap
Market, it may become eligible immediately thereafter for quotation on the
Over-The-Counter Market on the NASD Electronic Bulletin Board or in the "pink
sheets" maintained by the National Quotation Bureau, Inc., which are generally
considered to be less efficient systems than markets such as Nasdaq or other
national exchanges. Further, for companies whose securities are traded on the
Over-The-Counter Market, it is more difficult to:
o obtain accurate quotations;
o obtain coverage for significant news events because major wire
services, including the Dow Jones News Service, generally do not
publish press releases about these companies; and
o obtain needed capital.
24
WE ARE CONTRACTUALLY OBLIGATED TO ISSUE SHARES IN THE FUTURE, DILUTING YOUR
INTEREST IN US.
As of December 31, 2004, there were outstanding and exercisable warrants to
purchase approximately 2,498,316 shares of our common stock, at a weighted
average exercise price of $2.90 per share. As of December 31, 2004, there also
were outstanding and exercisable options to purchase approximately 3,180,731
shares of our common stock, at a weighted average exercise price of $4.23 per
share. Moreover, we expect to issue additional options to purchase shares of our
common stock to compensate employees, consultants and directors and may issue
additional shares to raise capital, acquire other companies or technologies, to
pay for services, or for other corporate purposes. Any such issuances will have
the effect of further diluting the interest of our existing shareholders.
ITEM 2. PROPERTIES.
We occupy 17,277 square feet of office and laboratory space under a lease
expiring August 31, 2005. This space is located on one floor of a three story
building in Lexington, Massachusetts. We believe that this facility is adequate
to meet our current requirements, and we are evaluating our future facility
requirements as we approach the expiry of our current lease. We also believe
that alternative locations with sufficient office and laboratory space are
readily available.
ITEM 3. LEGAL PROCEEDINGS.
We are not currently engaged in any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There were no matters submitted to a vote of stockholders during the three
months ended December 31, 2004, through the solicitation of proxies or
otherwise.
25
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES.
MARKET PRICE OF SECURITIES AND RELATED MATTERS
Our common stock is traded on The Nasdaq SmallCap Market under the symbol
"MCHM." Prior to November 24, 2003, our common stock was traded on The Nasdaq
National Market under the symbol "MCHM." The following chart shows the high and
low closing prices for our common stock for the periods indicated, as obtained
from Nasdaq:
Common Stock
MCHM
Year Ended High Low
December 31, 2003
First Quarter $ 0.70 $ 0.46
Second Quarter 1.38 0.45
Third Quarter 1.17 0.84
Fourth Quarter 1.18 0.75
December 31, 2004
First Quarter $ 1.79 $ 0.82
Second Quarter 1.70 1.16
Third Quarter 1.33 0.74
Fourth Quarter 0.89 0.51
These prices are between dealers and do not reflect retail markups,
markdowns or commissions and may not necessarily represent actual transactions.
As of March 17, 2005, there were 11,908 holders of record of our common stock.
We have never paid cash dividends on our Common Stock and our Board of
Directors does not contemplate declaring any dividends in the foreseeable
future. We intend to retain any earnings to finance research, development, and
expansion of our business.
Information concerning securities authorized for issuance under equity
compensation plans appears in Part III, Item 12, "Security Ownership of Certain
Beneficial Owners and Management and Related Stockholder Matters."
26
ITEM 6. SELECTED FINANCIAL DATA.
The selected financial data set forth below should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our financial statements and related notes included elsewhere in
this Annual Report on Form 10-K. The selected statement of operations data and
the selected balance sheet data for each year presented below have been derived
from our audited financial statements. These historical data are not necessarily
indicative of results to be expected for any future period.
-------------------------------------------------------------------------------------
Years Ended December 31,
---------------- ----------------- ---------------- ---------------- ----------------
2004 2003 2002 2001 2000
STATEMENTS OF OPERATIONS DATA:
Sale of Patent $ --- $ 1,000,000 $ --- $ --- $ ---
Research Contracts --- 10,031 42,925 829,385 629,647
-------------- --------------- --------------- --------------- ---------------
Total Revenues $ --- $ 1,010,031 $ 42,925 $ 829,385 $ 629,647
Research and development
expenses 4,221,039 2,938,026 3,998,388 9,791,438 5,280,641
Net loss (8,274,521) (5,661,694) (7,514,514) (12,333,243) (9,745,357)
Basic and diluted net
loss per share $ (0.22) $ (0.19) $ (0.27) $ (0.46) $ (0.43)
Shares used to compute
basic and diluted net
loss per share 37,663,673 29,594,120 27,928,562 26,607,363 22,854,646
BALANCE SHEET DATA:
Working capital $ 5,635,331 $ 6,345,396 $ 8,704,944 $ 15,739,712 $ 15,969,137
Current assets 6,403,182 7,325,361 9,119,723 17,099,675 17,063,070
Total assets 7,109,864 8,249,648 10,132,007 18,257,543 17,981,957
Current liabilities 767,851 979,965 414,779 1,359,963 1,093,933
Total liabilities 773,360 1,013,328 462,488 1,408,838 1,131,197
Stockholders' equity $ 6,336,504 $ 7,236,320 $ 9,669,519 $ 16,848,705 $ 16,850,760
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
YOU SHOULD READ THE FOLLOWING DISCUSSION IN CONJUNCTION WITH OUR FINANCIAL
STATEMENTS AND RELATED NOTES AND OTHER FINANCIAL INFORMATION APPEARING ELSEWHERE
IN THIS ANNUAL REPORT ON FORM 10-K. IN ADDITION TO HISTORICAL INFORMATION, THE
FOLLOWING DISCUSSION AND OTHER PARTS OF THIS ANNUAL REPORT ON FORM 10-K CONTAIN
FORWARD-LOOKING INFORMATION THAT INVOLVES RISKS AND UNCERTAINTIES. OUR ACTUAL
RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED BY SUCH FORWARD-LOOKING
INFORMATION DUE TO THE FACTORS DISCUSSED UNDER "RISK FACTORS," "NOTE REGARDING
FORWARD-LOOKING STATEMENTS" AND ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K.
27
GENERAL
We are a specialty pharmaceutical company that develops and seeks to
commercialize topically delivered pharmaceutical products by employing SEPA
(Soft Enhancement of Percutaneous Absorption), our patented topical drug
delivery technology. SEPA enhances the efficiency and rate of diffusion of drugs
into and through the skin. SEPA, when properly combined with active
pharmaceutical ingredients, can provide for a variety of convenient and
easy-to-apply formulations, including creams, gels, ointments, lacquers and
solutions for the treatment of a wide range of systemic and localized
conditions. Currently, we are developing investigational new drugs for the
urology, endocrinology, dermatology and podiatry specialties: Opterone, for the
treatment of male hypogonadism, and EcoNail, for the treatment of fungal
infections of the nails. We believe that products incorporating SEPA may allow
selected drugs to be administered more effectively and with improved patient
compliance compared to alternative methods of drug administration, such as
ingestion and injection.
Since inception, we have been engaged primarily in research and
development. We have not generated any meaningful revenues from operations and
we have sustained significant operating losses. We anticipate that we will
continue to incur significant losses for the foreseeable future. We cannot
guarantee that we will be successful in commercializing our products, or that we
will ever become profitable. As of December 31, 2004, we had an accumulated
deficit of approximately $76.8 million. Our product candidates are in discovery
or developmental stages and must undergo a rigorous regulatory approval process,
which includes costly and extensive pre-clinical and clinical testing, to
demonstrate safety and efficacy before we can market any resulting product. To
date, neither the FDA nor any of its international equivalents has approved any
of our product candidates for marketing. Please see our financial statements
included elsewhere in this Annual Report on Form 10-K for a more detailed
description of our financial history.
Our results of operations can vary significantly from year to year and
quarter to quarter, and depend, among other factors, on:
o the progress of clinical trials we conduct;
o the degree of our research, marketing and administrative efforts;
o the development, when appropriate, of our own sales and marketing
capabilities;
o the signing of licenses and product development agreements;
o the timing of revenues recognized pursuant to license agreements;
and
o the achievement of milestones by licensees.
The timing of our revenues may not match the timing of our associated
product development expenses. To date, our research and development expenses
generally have exceeded our revenues in any particular period or fiscal year.
28
We expect to continue to spend significant amounts on developing and
seeking regulatory approval of Opterone and EcoNail. Ultimately, if we receive
regulatory approval for Opterone and EcoNail, we will incur significant expenses
in connection with their commercialization. In addition, we also plan to
identify and develop, either internally or through collaborative arrangements,
additional product candidates and technologies that complement our existing
technologies and that fit within our growth strategy. If we identify potential
product candidates, we will incur additional costs in connection with testing
and seeking regulatory approval of those product candidates.
We believe that our existing cash and cash equivalents will be sufficient
to meet our operating expenses and capital expenditure requirements into July
2005. We are currently in the process of trying to secure additional capital. As
our funds on hand at December 31, 2004 are not sufficient to fund our operations
through fiscal 2005, the audit report of Deloitte & Touche LLP, our independent
registered public accounting firm, on our 2004 financial statements includes an
explanatory paragraph regarding our ability to continue as a going concern. The
inclusion of this explanatory paragraph may materially and adversely affect our
ability to raise new capital. We cannot assure you that sufficient funds will be
available to us, if they are available at all, to enable us to continue to
operate. As well, we will need to obtain stockholder approval for any issuance
of additional equity securities at a price less than the greater of book or
market value that would comprise more than 20 percent of the Company's total
shares of common stock outstanding at such time. The Company cannot assure you
that it will be successful in obtaining any required stockholder approval.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist of:
o salaries and expenses for our research and development personnel;
o payments to consultants, investigators, contract research
organizations and manufacturers in connection with our pre-clinical
and clinical trials;
o costs associated with conducting our clinical trials;
o costs of developing and obtaining regulatory approvals; and
o allocable costs, including occupancy and depreciation.
Because a significant portion of our research and development expenses
(including employee payroll and related benefits, laboratory supplies, travel,
dues and subscriptions, temporary help costs, consulting costs and allocable
costs such as occupancy and depreciation) benefit multiple projects or our drug
delivery technologies in general, we do not track these expenses by project. For
the fiscal year ended December 31, 2004, we spent $4,221,039 on research and
development, including $388,360, $1,109,345, and $469,515 in costs associated
with clinical trials for Topiglan, Opterone and EcoNail, respectively, and
$2,253,819 in costs not specifically tracked to a project. For the fiscal year
ended December 31, 2003, we spent $2,938,026 on research and development,
including $1,584,000 in costs associated with our clinical trials for Topiglan
and $1,354,026 in costs not specifically tracked to a project. EcoNail was not
29
in clinical trials during the first nine months of 2003. For the fiscal year
ended December 31, 2002, we spent approximately $3,998,388 on research and
development, including $98,000 in costs associated with our clinical trials for
Topiglan and $3,900,388 in costs not specifically tracked to a project.
Following a complete review of the results of a Phase 2 pharmacodynamic study of
Topiglan in which Topiglan did not meet its primary clinical endpoints, we have
no plans for further clinical studies of Topiglan at this time. Accordingly, as
of June 30, 2004, we recorded a reduction of $124,853 to the carrying value of
certain patent assets related to Topiglan. However, assuming we are able to
raise sufficient capital, we expect to continue to spend significant amounts on
clinical trials for Opterone and EcoNail.
Each of our research and development programs is subject to risks and
uncertainties, including the requirement to seek regulatory approval, that are
outside of our control. Moreover, the product candidates identified in these
research and development programs, which currently are in developmental stages,
must overcome significant technological, manufacturing and marketing challenges
before they can be successfully commercialized. As a result of these risks and
uncertainties, we are unable to predict with any certainty the period in which
material net cash inflows from these projects could be expected to commence or
the completion date of these programs. In addition, these risks and
uncertainties also prevent us from estimating with any certainty the specific
timing and future costs of our clinical development programs, although
historical trends at similarly situated companies indicate that research and
development expenses tend to increase in later stages of clinical development.
Our failure to obtain requisite governmental approvals timely or at all will
delay or preclude us from licensing or marketing our products or limit the
commercial use of our products, which could adversely affect our business,
financial condition and results of operations.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. Marketing, general and
administrative expenses consist primarily of salaries and other related costs
for personnel, marketing and promotion, professional fees and facilities costs.
Assuming we are able to raise sufficient capital, we anticipate that marketing,
general and administrative expenses will increase over the next several years as
we begin, when appropriate, to develop our own sales and marketing capabilities
to market our product candidates following their regulatory approval.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of
operations are based on our financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States of
America. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses. Note 1 to our financial statements included elsewhere in
this Annual Report on Form 10-K includes a summary of the significant accounting
policies and methods we use in the preparation of our financial statements. The
following is a brief discussion of the more significant accounting policies and
methods that affect the judgments and estimates used in the preparation of our
financial statements.
RESEARCH AND DEVELOPMENT. Generally, we recognize research and development
funding as revenue at the time the research and development activities are
performed under the terms of the related agreements, when the counterparty is
30
obligated to pay, and when no future performance obligation exists. We make
estimates of the status of performance with respect to research and development
contracts. In the past, we have found such estimates to be sufficiently accurate
for revenue recognition purposes. We bill research and development revenue on a
cost reimbursement basis, which includes direct costs we incur in connection
with research activities and an allocation of certain other costs we incur.
PATENT ASSETS. We defer costs and expenses incurred in connection with
pending patent applications. We amortize costs related to successful patent
applications over the estimated useful lives of the patents using the
straight-line method. We charge accumulated patent costs and deferred patent
application costs related to patents that are considered to have limited future
value to operations. Estimates we use to determine the future value of deferred
patent costs include analysis of potential market size, time and cost to
complete clinical trials, anticipated interest in our products and potential
value for licensing or partnering opportunities. We recognize revenues derived
or expected to be derived from the sale, assignment, transfer, or licensing of
patents or other intellectual property over various periods based upon the terms
of the relevant agreement.
DEFERRED TAXES. As part of the process of preparing our financial
statements we are required to estimate our income taxes in each of the
jurisdictions in which we operate. This process involves estimating our actual
current tax exposure together with assessing temporary differences resulting
from differing treatments of items for tax and accounting purposes. These
differences result in deferred tax assets and liabilities. In addition, as of
December 31, 2004, we had federal tax net operating loss carryforwards of
$64,832,000, which expire through 2024. We also have research and development
credit carryforwards of $2,546,000. We have recorded a valuation allowance to
fully offset against these otherwise recognizable net deferred tax assets due to
the uncertainty surrounding the timing of the realization of the tax benefit. In
the event that we determine in the future that we will be able to realize all or
a portion of the net deferred tax benefit, an adjustment to deferred tax
valuation allowance would increase net income in the period in which such a
determination is made. The Tax Reform Act of 1986 contains provisions that may
limit the utilization of net operating loss carryforwards and credits available
to be used in any given year in the event of significant changes in ownership
interest, as defined.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2004 COMPARED TO THE YEAR ENDED DECEMBER 31, 2003
We had no revenues for the year ended December 31, 2004. Revenues for the
year ended December 31, 2003 were $1,010,031, nearly all of which was
attributable to the proceeds from the sale of a patent (U.S. Patent No.
6,459,124), which related to antifungal topical compositions but which did not
use our SEPA platform technology. Accordingly, we believe the sale of the patent
will not materially adversely affect our future operations, cash flows and
financial position. For the year ending December 31, 2005, we do not expect to
have any revenues.
Research and development costs increased by $1,283,013 from $2,938,026 in
2003 to $4,221,039 in 2004, a 44 % increase. The increase in research and
development costs for 2004 is primarily attributable to an increase in employee
compensation of $177,034 associated with the addition of four new research and
development employees in late 2003 as well as an increase in clinical trials and
related costs of $1,034,555. Of total research and development expenses,
31
$361,141 in 2004 and $494,909 in 2003 were paid to independent third party
contractors. For the year ending December 31, 2005, assuming we are able to
raise sufficient capital, we expect that research and development costs will
approximate the same levels as 2004 as we continue clinical trials for both
Opterone and EcoNail.
Marketing, general and administrative expenses for 2004 aggregated
$4,158,452, an increase of $360,360 or 9%, from 2003's total of $3,798,092. The
increase in marketing, general and administrative expenses for 2004 is primarily
attributable to an increase of $239,942 (which increase was calculated by
excluding $55,000 in consulting fees paid to Robert J. DeLuccia in his role as
interim Chief Executive Officer during the six months ended June 30, 2003) in
consulting fees relating to investor relations and business development, and an
increase in accounting related fees of $129,700. The increase is further
attributable to the reduction to the carrying value of certain patent assets
related to Topiglan of $124,853. Finally, the aggregate size of the increase in
marketing, general and administrative expenses for 2004 was partially offset by
savings in recruitment costs as well as a reduction in the premium for Directors
and Officers Insurance. For the year ending December 31, 2005, assuming we are
able to raise sufficient capital, we expect that marketing, general and
administrative costs will approximate the same levels as 2004.
Total other income increased by $34,578 or 49%, from $70,393 in 2003 to
$104,971 in 2004. The increase is attributable primarily to higher cash balances
available for investment purposes.
For the year ended December 31, 2004, our net loss was $8,274,521 as
compared to a loss of $5,661,694 for the previous year, a 46% increase, which
was due to the factors mentioned above.
YEAR ENDED DECEMBER 31, 2003 COMPARED TO THE YEAR ENDED DECEMBER 31, 2002
For the years ended December 31, 2003 and 2002, we recognized revenues of
$1,010,031 and $42,925, respectively. The increase in revenues in 2003 is the
result of our receipt of a payment of $1,000,000 in connection with the sale of
a patent (U.S. Patent No. 6,459,124) covering antifungal nail lacquers
containing a pentadecalactone drug-absorption excipient as described above.
Research and development costs decreased by $1,060,362 from $3,998,388 in
2002 to $2,938,026 in 2003, a 27% decrease. The decrease in research and
development costs for 2003 is primarily attributable to a reduction in staff and
the number of clinical trials we conducted following the FDA's imposition of a
clinical hold on trials of our drugs containing SEPA in October 2002. On April
10, 2003, the FDA lifted this clinical hold and we resumed clinical trials. Of
total research and development expenses, $494,909 in 2003 and $185,457 in 2002
were paid to independent third party contractors.
Marketing, general and administrative expenses for 2003 aggregated
$3,798,092, an increase of $95,499 or 3%, from 2002's total of $3,702,593.
Marketing, general and administrative expenses in 2003 reflect a $160,000
increase in our Directors and Officers liability insurance premium, which
32
increase was offset in part by savings attributable to a reduction in
administrative staff in November 2002.
Total other income decreased by $123,149 or 64%, from $193,542 in 2002 to
$70,393 in 2003. The decrease is attributable primarily to lower interest income
as a result of lower interest rates and a decrease in our average invested
balance.
For the year ended December 31, 2003, our net loss was $5,661,694 as
compared to a loss of $7,514,514 for the previous year, a 25% decrease, which
was due to the factors mentioned above.
LIQUIDITY AND CAPITAL RESOURCES
Our funds on hand at December 31, 2004 are not sufficient to fund our
operations through fiscal 2005 and, accordingly, the audit report of Deloitte &
Touche LLP, our independent registered public accounting firm, on our 2004
financial statements includes an explanatory paragraph concerning our ability to
continue as a going concern. The inclusion of this explanatory paragraph may
materially and adversely affect our ability to raise new capital. We are
currently in the process of trying to secure additional capital. We cannot
assure you that sufficient funds will be available to us, if they are available
at all, to enable us to continue to operate. As well, we will need to obtain
stockholder approval for any issuance of additional equity securities that would
comprise more than 20 percent of the Company's total shares of common stock
outstanding at such time. The Company cannot assure you that it will be
successful in obtaining any required stockholder approval.
Since inception, our primary source of funding for our operations has been
the private and public sale of our securities, and, to a lesser extent, the
licensing of our proprietary technology and products, research collaborations,
feasibility studies, government grants and the limited sales of products and
test materials. During 2002, there were no exercises of stock options and
warrants and no sales of common stock. During 2003, we received net proceeds of
$99,575 from the exercise of stock options and warrants, and net proceeds of
$2,971,605 as a result of the sale of our common stock in a private placement.
During 2004, we received net proceeds of $443,817 from the exercise of warrants,
and proceeds of $6,681,275 (net of issuance costs) as a result of the sale of
our common stock in a private placement financing transaction.
At December 31, 2004, working capital was approximately $5.6 million,
compared to $6.3 million at December 31, 2003. The decrease in our working
capital reflects the receipt of private placement proceeds and net proceeds from
the exercise of warrants, reduced by the use of funds in operations. On March 9,
2004, we sold 5,402,000 shares of our common stock for $7,292,700 in gross
proceeds ($6,681,275 net of issuance costs) in a private placement to
institutional investors. The investors also received warrants to purchase an
aggregate of 1,080,400 shares of common stock at a purchase price of $2.09 per
share expiring five years from the closing date. Until such time as we obtain
agreements with third-party licensees or partners to provide funding for our
anticipated business activities, or otherwise generate revenue from the
commercialization of our products, we will use our working capital to fund our
operating activities.
33
Pursuant to a plan approved by our Board of Directors in 1998, we are
authorized to repurchase 1,000,000 shares of our common stock to be held as
treasury shares for future use. During the fiscal year ended December 31, 2004,
we did not repurchase any shares of common stock. At December 31, 2004, 62,260
repurchased shares remain available for future use and 679,587 shares remain
available for repurchase under the plan.
Capital expenditures and additional patent development costs for the year
ended December 31, 2003 were approximately $3,454 and $94,396, respectively.
Capital expenditures were $73,526 and patent development costs were $36,591 for
the year ended December 31, 2004. We anticipate additional capital and patent
expenditures will be approximately $100,000 for the fiscal year ending December
31, 2005.
On July 10, 2003, the Board of Directors approved retention payments for
certain key employees, including certain executive officers, in order to enhance
retention of those employees. We made payments of approximately $84,000 on
January 8, 2004 and we made payments of approximately $153,000 on July 2, 2004.
As of December 31, 2004, we had $6,074,274 in cash, cash equivalents and
short-term investments. We believe that our existing cash and cash equivalents
will be sufficient to meet our operating expenses and capital expenditure
requirements into July 2005. Our cash requirements may vary materially from
those now planned because of changes in the focus and direction of our research
and development programs, competitive and technical advances, patent
developments or other developments. We will require additional financing to
continue operations after we exhaust our current capital resources and to
continue our long-term plans for clinical trials and new product development. We
expect to continue financing our operations through sales of our securities,
strategic alliances or other financing vehicles, if any, that might become
available to us on terms that we deem acceptable.
We do not enter into financial instrument transactions for trading or
speculative purposes. We do not intend to establish any special purpose entity
and do not have any material off balance sheet financing transactions. We do not
believe that inflation will have any significant effect on the results of our
operations.
The following table summarizes our contractual obligations at December 31,
2004:
Due In
----------------------------------------------------------------------
Total 1 Year or 5 Years or
Obligations: Amount Less 1-3 Years 3-5 Years More
------------ ----------- ----------- ----------- ------------
Lease commitment (through August 2005) $ 313,600 $ 313,600 $ -- $ -- $ --
Employment agreements (per year)....... 1,085,200 1,085,200 -- -- --
------------ ----------- ------------ ----------- ------------
Total contractual cash obligations... $ 1,398,800 $ 1,398,800 $ -- $ -- $ --
============ =========== =========== =========== ============
We excluded from the above contractual obligation summary clinical trial
contracts that may approximate $1,200,000 in 2005. These contracts range in
duration from six (6) weeks to five (5) months and we may terminate the
contracts at our discretion.
34
On October 18, 2004, we received written notice from Nasdaq stating that
for the previous 30 consecutive business days the bid price of our common stock
had closed below the minimum $1.00 per share requirement for continued inclusion
in The Nasdaq SmallCap Market under Marketplace Rule 4310(c)(4). In accordance
with Marketplace Rule 4310(c)(8), we were provided 180 calendar days, or until
April 18, 2005, to regain compliance. In order to regain compliance, we must
demonstrate a closing bid price for our common stock of $1.00 per share or more
for a minimum of 10 consecutive business days.
If we cannot demonstrate compliance with the $1.00 minimum bid price
requirement by April 18, 2005, the Nasdaq Staff will grant us an additional 180
calendar days to regain compliance if, at that time, we meet The Nasdaq SmallCap
Market initial listing requirements as set forth in Marketplace Rule 4310(c),
except for the $1.00 minimum bid price requirement. If we do not qualify for the
second 180 calendar day compliance period, or, if we do so qualify but have not
regained compliance with the $1.00 minimum bid price requirement during the
second 180 day compliance period, our securities would be delisted from the
Nasdaq SmallCap Market. We would have the right to appeal the delisting to the
Nasdaq Listing Qualifications Panel. A delisting of our common stock from The
Nasdaq SmallCap Market could reduce the liquidity of an investment in our common
stock and affect our ability to raise additional funds in the future.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 123R, Share-Based Payment ("SFAS
No. 123R"). This Statement is a revision of SFAS No. 123, Accounting for
Stock-Based Compensation, and supersedes Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees, and its related implementation
guidance. SFAS No. 123R focuses primarily on accounting for transactions in
which an entity obtains employee services in share-based payment transactions.
The Statement requires entities to recognize stock compensation expense for
awards of equity instruments to employees based on the grant-date fair value of
those awards (with limited exceptions). SFAS No. 123R is effective for the first
interim or annual reporting period that begins after June 15, 2005. MacroChem
Corporation expects to adopt SFAS No. 123R using the Statement's modified
prospective application method. The Company does not yet have an estimate of the
effect on its statements of operations of adopting SFAS No. 123.
35
SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
First Second Third Fourth
-------------------------------------------------------------------------
2004 Quarters
Revenues $ --- $ --- $ --- $ ---
Net Loss $ (2,218,528) $ (2,453,570) $ (1,911,484) $ (1,690,939)
Net Loss per share $ (0.06) $ (0.06) $ (0.05) $ (0.05)
(basic and diluted)
2003 Quarters
Revenues $ --- $ 1,010,031 $ --- $ ---
Net Loss $ (1,169,378) $ (547,250) $ (1,609,448) $ (2,335,619)
Net Loss per share $ (0.04) $ (0.02) $ (0.05) $ (0.08)
(basic and diluted)
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
As of December 31, 2004, we were exposed to market risks, which relate
primarily to changes in U.S. interest rates. Our cash equivalents and short-term
investments are subject to interest rate risk and will decline in value if
interest rates increase. Due to the short duration of these financial
instruments, generally one year or less, changes in interest rates would not
have a material effect on our financial position. A hypothetical 10% change in
interest rates would not have a material effect on our Statement of Operations
or Cash Flows for the twelve months ending December 31, 2005, based on December
31, 2004 balances.
THE FOREGOING STATEMENTS IN THIS REPORT INCLUDE FORWARD-LOOKING STATEMENTS
THAT INVOLVE RISKS AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS MAY DIFFER
SIGNIFICANTLY FROM THE RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS.
FACTORS THAT MIGHT CAUSE SUCH A DIFFERENCE INCLUDE THOSE DISCUSSED OR REFERRED
TO IN ITEM 1, BUSINESS - "RISK FACTORS".
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The information required under this Item 8 is set forth on pages 36 through
53 of this report.
36
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of MacroChem Corporation:
We have audited the accompanying balance sheets of MacroChem Corporation (the
"Company") as of December 31, 2004 and 2003, and the related statements of
operations, stockholders' equity, and cash flows for each of the three years in
the period ended December 31, 2004. 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 the auditing standards of the Public
Company Accounting Standards Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. An audit includes consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, 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, such financial statements p