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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, 2002
OR
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO _____________
COMMISSION FILE NUMBER: 000-30111
LEXICON GENETICS INCORPORATED
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 76-0474169
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
8800 TECHNOLOGY FOREST PLACE
THE WOODLANDS, TEXAS 77381 (281) 863-3000
(Address of Principal Executive (Registrant's Telephone Number,
Offices and Zip Code) Including Area Code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, par value $0.001 per share
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 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. |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934. Yes |X| No |_|
The aggregate market value of voting stock held by non-affiliates of the
registrant as of the last day of the registrant's most recently completed second
quarter was approximately $124.9 million, based on the closing price of the
common stock on the Nasdaq National Market on June 28, 2002 of $4.12 per share.
For purposes of the preceding sentence only, all directors, executive officers
and beneficial owners of ten percent or more of the registrant's common stock
are assumed to be affiliates. As of March 10, 2003, 52,370,730 shares of common
stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Certain sections of the registrant's definitive proxy statement relating
to the registrant's 2003 annual meeting of stockholders, which proxy statement
will be filed under the Securities Exchange Act of 1934 within 120 days of the
end of the registrant's fiscal year ended December 31, 2002, are incorporated by
reference into Part III of this annual report on Form 10-K.
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LEXICON GENETICS INCORPORATED
TABLE OF CONTENTS
ITEM
PART I
1. Business............................................................................................. 1
2. Properties........................................................................................... 22
3. Legal Proceedings.................................................................................... 23
4. Submissions of Matters to a Vote of Security Holders................................................. 23
PART II
5. Market for Registrant's Common Equity and Related Stockholder Matters................................ 24
6. Selected Financial Data.............................................................................. 25
7. Management's Discussion and Analysis of Financial Condition and Results of Operations................ 26
7A. Quantitative and Qualitative Disclosure About Market Risk............................................ 32
8. Financial Statements and Supplementary Data.......................................................... 32
9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure................. 32
PART III
10. Directors and Executive Officers of the Registrant................................................... 33
11. Executive Compensation............................................................................... 33
12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters....... 33
13. Certain Relationships and Related Transactions....................................................... 34
14. Controls and Procedures.............................................................................. 34
PART IV
15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K..................................... 35
Signatures..................................................................................................... 38
The Lexicon name and logo, LexVision(R) and OmniBank(R) are registered
trademarks and Genome5000(TM) and e-Biology(TM) are trademarks of Lexicon
Genetics Incorporated.
In this annual report on Form 10-K, "Lexicon Genetics," "Lexicon," "we,"
"us" and "our" refer to Lexicon Genetics Incorporated.
FACTORS AFFECTING FORWARD LOOKING STATEMENTS
This annual report on Form 10-K contains forward-looking statements. These
statements relate to future events or our future financial performance. We have
attempted to identify forward-looking statements by terminology including
"anticipate," "believe," "can," "continue," "could," "estimate," "expect,"
"intend," "may," "plan," "potential," "predict," "should" or "will" or the
negative of these terms or other comparable terminology. These statements are
only predictions and involve known and unknown risks, uncertainties and other
factors, including the risks outlined under "Item 1. Business - Risk Factors,"
that may cause our or our industry's actual results, levels of activity,
performance or achievements to be materially different from any future results,
levels of activity, performance or achievements expressed or implied by these
forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. We are not under any duty to update any
of the forward-looking statements after the date of this annual report on Form
10-K to conform these statements to actual results, unless required by law.
PART I
ITEM 1. BUSINESS
OVERVIEW
Lexicon Genetics is a biopharmaceutical company focused on the discovery
of breakthrough treatments for human disease. We are using gene knockout
technology to systematically discover in living mammals, or in vivo, the
physiological functions and pharmaceutical utility of genes. Our gene function
discoveries fuel therapeutic discovery programs in diabetes, obesity,
cardiovascular disease, immune disorders, neurological disease and cancer. We
have established drug discovery alliances and functional genomics collaborations
with leading pharmaceutical and biotechnology companies, research institutes and
academic institutions throughout the world to commercialize our technology and
turn our discoveries into drugs.
We generate our gene function discoveries using knockout mice - mice whose
DNA has been altered to disrupt, or "knock out," the function of the altered
gene. Our patented gene trapping and gene targeting technologies enable us to
rapidly generate these knockout mice by altering the DNA of genes in a special
variety of mouse cells, called embryonic stem (ES) cells, which can be cloned
and used to generate mice with the altered gene. We employ an integrated
platform of advanced medical technologies to systematically discover and
validate, in vivo, the physiological functions and pharmaceutical utility of the
genes we have knocked out and the potential targets for therapeutic
intervention, or drug targets, they encode.
We employ internal resources and drug discovery alliances to discover
potential small molecule drugs, therapeutic antibodies and therapeutic proteins
for in vivo-validated drug targets that we consider to have high pharmaceutical
value. We use our own sophisticated libraries of drug-like chemical compounds
and an industrialized medicinal chemistry platform to identify small molecule
drug candidates for our in vivo-validated drug targets. We have established
alliances with Genentech, Inc. for the discovery of therapeutic proteins and
antibody targets; with Abgenix, Inc. for the discovery and development of
therapeutic antibodies based on our drug target discoveries; and with Incyte
Genomics, Inc. for the discovery and development of therapeutic proteins. In
addition, we have established collaborations and license agreements with many
other leading pharmaceutical and biotechnology companies under which we receive
fees and, in many cases, are eligible to receive milestone and royalty payments,
in return for granting access to some of our technologies and discoveries for
use in their own drug discovery efforts.
We believe that our industrialized approach of discovering and validating
drug targets in vivo, together with our capabilities in small molecule drug
discovery and the integration of our own capabilities with those of our alliance
partners in therapeutic antibody and therapeutic protein discovery, will
significantly increase our likelihood of success in discovering breakthrough
treatments for human disease, and will reduce the risk, time and expense of
discovering and developing therapeutics for new drug targets. Together, we
believe that these factors will provide us with substantial strategic advantages
in the competition to discover and develop genomics-based pharmaceutical
products.
Lexicon Genetics was incorporated in Delaware in July 1995, and commenced
operations in September 1995. Our corporate headquarters are located at 8800
Technology Forest Place, The Woodlands, Texas 77381, and our telephone number is
(281) 863-3000.
Our annual report on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K, and amendments to those reports filed or furnished pursuant
to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are made
available free of charge on our corporate website located at
www.lexicon-genetics.com as soon as reasonably practicable after the filing of
those reports with the Securities and Exchange Commission. Information found on
our website should not be considered part of this annual report on Form 10-K.
1
KEY MILESTONES AND ACHIEVEMENTS IN 2002
We made substantial business and technical progress in 2002:
- We continued to advance additional in vivo-validated drug targets
into therapeutic discovery programs, and identified compounds
demonstrating activity in several of our more advanced programs;
- We established an alliance with Genentech for the discovery of
therapeutic proteins and antibody targets;
- We made further progress in our alliances with Abgenix for the
discovery of therapeutic antibodies and with Incyte for the
discovery of therapeutic proteins;
- We granted non-exclusive, internal research-use sublicenses under
our gene targeting patents to Genentech, Biogen, Inc. and Millennium
Pharmaceuticals, Inc.;
- We obtained an additional key patent covering our gene trapping
technology, as well as patents covering nine full-length sequences
of potential drug targets identified in our gene discovery programs;
- We brought on-line our new office, laboratory and animal facilities;
- We substantially increased our rate of productivity in our
Genome5000 program for the discovery of the in vivo functions of
5,000 genes over five years, ending the year having completed the
analysis of the functions of 750 genes; and
- We achieved more than $35 million in revenues, marking our seventh
consecutive year of revenue growth.
We believe we are poised to capitalize on these achievements in 2003 by
further accelerating the pace of our Genome5000 program, substantially expanding
our pipeline of in vivo-validated drug targets, advancing our therapeutic
discovery programs towards clinical development, and establishing additional
drug discovery alliances and functional genomics collaborations to commercialize
our technology and further develop our discoveries.
GENOMICS AND DRUG DISCOVERY
The Human Genome
The human genome is comprised of complementary strands of deoxyribonucleic
acid, or DNA, molecules organized into 23 pairs of chromosomes. Genes, which
carry the specific information, or code, necessary to construct, or express, the
proteins that regulate human physiology and disease, make up approximately two
to four percent of the genome. The remaining 96% to 98% of DNA in chromosomes
does not code for protein. Although estimates vary as to the total number of
genes within the total of approximately three billion nucleotide base pairs of
"genomic" or "chromosomal" DNA that make up the human genome, it is estimated
that the human genome contains approximately 30,000 genes.
The Human Genome Project and other publicly and privately-funded DNA
sequencing efforts invested considerable resources to sequence the genes in the
human genome, culminating in the completion of a "working draft" of sequence
from the human genome in the year 2000 and its publication in February 2001. The
sequence of a gene alone, however, does not permit reliable predictions of its
function in physiology and disease. As a result, the databases of gene sequences
generated by these efforts can be compared by analogy to a dictionary that
contains thousands of words, but only a handful of definitions.
Functional Genomics
The efforts to discover these definitions - to define the functions of the
genes in the human genome and, in doing so, discover which genes encode
pharmaceutically valuable drug targets - are commonly referred to as
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functional genomics. Researchers use a variety of methods to obtain clues about
gene function, such as gathering information about where a gene's transcript is
found and where the corresponding protein is expressed in the cell, and
conducting experiments using cell culture, biochemical studies and non-mammalian
organisms. While these methods may provide useful information about gene
function at the biochemical and cellular levels, their ability to provide
information about how genes control mammalian physiology, and thus their
usefulness for drug discovery and development, is significantly limited.
We believe that the method for defining gene function that has the
greatest relevance and highest value for drug discovery is to disrupt, or knock
out, the gene in a mouse and assess the resulting physiological, pathological
and behavioral consequences. As mammals, humans and mice have very similar
genomes and share very similar physiology - one of the reasons that mice are
among the most widely used animal model systems in the pharmaceutical industry.
As a result of these similarities, the in vivo analysis of the function of a
gene in knockout mice - mice whose DNA has been altered to disrupt, or "knock
out," the function of the altered gene - enables the predictions to be made
regarding the effects on human physiology of prospective therapeutics that
modulate the corresponding human drug target and, therefore, regarding the
pharmaceutical utility and value of the target for the discovery and development
of such therapeutics.
Genomics-Based Drug Discovery
We believe that genomics represents a significant opportunity for the
discovery and development of breakthrough treatments for human disease. Drugs on
the market today interact with a total of about 120 specific protein targets,
each of which is encoded by a gene. Of those, only 43 represented human host
proteins targeted by one or more of the 100 best-selling drugs of 2001. While
estimates of the total number of potential drug targets encoded within the human
genome vary, some experts believe that genomics research could discover as many
as 5,000 new targets for pharmaceutical development. Our own experience suggests
that the number of new targets with true pharmaceutical value is much lower,
perhaps in the range of 100 to 150 new high-quality targets. This would still be
a substantial increase from the number of targets that fuel the pharmaceutical
industry at present, but demonstrates the importance of selecting the drug
targets with the greatest pharmaceutical utility from the much larger pool of
potential targets. The fact that very little is known about the physiological
functions of most genes, however, presents a major challenge in making these
selections, and for drug discovery research generally, which has traditionally
relied primarily on established drug targets with well-characterized functions.
The magnitude of this challenge is evident in expectations regarding the
productivity of drug discovery research for genomics-based drug targets.
According to the Fruits of Genomics, a 2001 study conducted by McKinsey & Co.
and Lehman Brothers, the average cost of bringing a single drug to market,
estimated at $800 million in 2000, may increase to as much as $1.6 billion by
2005. The primary driver of the increase is the expected change, as a result of
the wealth of potential drug targets generated by the Human Genome Project and
other publicly and privately-funded DNA sequencing efforts, in the proportion of
drug targets in pharmaceutical companies' research pipelines that are
"unprecedented" - that is, drug targets for which therapeutics have not
previously been developed. The study estimates that this increase in
unprecedented drug targets will result in substantially higher rates of failure
in early preclinical biological validation and Phase 2 clinical development.
The chief cause of these failures, we believe, is the advancement of
unprecedented drug targets into expensive screening and therapeutic discovery
programs without an understanding of the in vivo biology and physiological
function of the target. Because target selection decisions drive all subsequent
drug discovery and development spending, and failures account for 75% or more of
the average cost of bringing a drug to market, the quality of target selection
decisions has a disproportionate effect on the overall cost of bringing a drug
to market.
OUR STRATEGY
We believe that the discovery and selection of drug targets that have high
pharmaceutical value - that exhibit favorable therapeutic profiles and address
large medical markets - will be the key determinant of success in genomics-based
drug discovery. The solution to this challenge, we believe, requires redefining
the way drug discovery is conducted by systematically determining the
physiological functions of large numbers of genes in mice, which, as mammals,
share significant genetic and physiological similarities with humans. We believe
that the resulting information will enable us to discover which potential
targets from the human genome exhibit favorable
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therapeutic profiles and address large medical markets. In addition, we believe
that identifying these drug targets at the very beginning of the drug discovery
process, before committing to expensive screening and therapeutic discovery
programs, will substantially increase the productivity and cost-effectiveness of
our drug discovery efforts relative to other approaches. Together, we believe
that these factors will significantly increase our likelihood of success in
discovering breakthrough treatments for human disease, and will reduce the risk,
time and expense of discovering and developing therapeutics for new drug
targets.
Our principal objective is to establish a leadership position in the
discovery of breakthrough treatments for human disease. The key elements of our
strategy include the following:
- systematically discover, in vivo, the physiological functions and
pharmaceutical utility of 5,000 genes over five years in our
Genome5000 program;
- employ internal resources and drug discovery alliances to discover
potential small molecule drugs, therapeutic antibodies and
therapeutic proteins for in vivo-validated drug targets that we
consider to have high pharmaceutical value;
- develop promising therapeutic candidates through drug development
alliances or with our own resources; and
- generate near-term revenues through collaborations and license
agreements with pharmaceutical and biotechnology companies in return
for granting access to some of our technologies and discoveries for
use in their own drug discovery efforts.
OUR TECHNOLOGY PLATFORM
We have developed, refined and integrated a technology platform that spans
the drug discovery process from gene identification to the discovery and
development of therapeutics, with a focus on the systematic discovery and
validation, in vivo, of the physiological functions and pharmaceutical utility
of genes and the drug targets they encode, and the discovery and development of
therapeutics for our in vivo-validated drug targets. Our technology platform
includes both proprietary and non-proprietary technologies in gene sequencing
and discovery, bioinformatics analysis, expression analysis, gene knockouts,
biological and physiological analysis, chemical compound libraries, assay
development, high-throughput screening and medicinal chemistry.
The core elements of our technology platform include our patented
technologies for the generation of gene knockouts, our integrated platform of
advanced medical technologies for the systematic and comprehensive biological
analysis of in vivo physiology, and our industrialized approach to medicinal
chemistry and the generation of high-quality, drug-like compound libraries.
These core elements of our technology platform are described below.
Gene Knockout Technologies
We have developed and refined gene knockout technologies and expertise to
rapidly and efficiently generate knockout mice for the in vivo analysis of the
physiological functions of thousands of genes. Our patented gene trapping and
gene targeting technologies, our experience in using these technologies and the
scale of our gene knockout operations provide us with substantial advantages
over the methods generally used to generate knockout mice, allowing us to
overcome limitations inherent in such methods that restrict the rate at which
knockout mice may be produced and, therefore, the rate at which the genes in the
mammalian genome may be analyzed.
Gene Targeting. Our gene targeting technology, which is covered by six
issued patents, enables us to generate highly-specific alterations in targeted
genes. The technology uses a vector to replace DNA of a gene in a mouse ES cell
with DNA from the targeting construct in the chromosome of the cell through a
process known as homologous recombination. When used to knock out a gene, the
DNA from the targeting construct disrupts the function of the targeted gene,
permitting the generation of knockout mice.
4
We use our gene targeting technology to knock out the function of the
targeted gene for the analysis of the gene's function. We also use this
technology in combination with one or more additional technologies such as
Cre/lox recombinase technology to generate alterations that selectively disrupt,
or conditionally regulate, the function of the targeted gene for the analysis of
the gene's function in selected tissues, at selected stages in the animal's
development or at selected times in the animal's life. In addition, we can use
this technology to replace the targeted gene with its corresponding human gene,
or ortholog, for use in our therapeutic discovery programs.
We have developed an industrialized approach to gene targeting, and
believe that our experience using this technology and the scale of our gene
targeting operations provide us with substantial advantages in efficiency and
speed relative to others using similar approaches to generate knockout mice.
Gene Trapping. Our gene trapping technology, which is covered by six
issued patents, is a high-throughput method of generating knockout mouse clones
that we invented. The technology uses genetically engineered retroviruses that
infect mouse ES cells in vitro, integrate into the chromosome of the cell and
deliver molecular traps for genes. The gene trap disrupts the function of the
gene into which it integrates, permitting the generation of knockout mice. The
gene trap also stimulates transcription of a portion of the trapped gene, using
the cell's own splicing machinery to extract this transcript from the chromosome
for automated DNA sequencing. This allows us to identify and catalogue each ES
cell clone by DNA sequence from the trapped gene, and to select ES cell clones
by DNA sequence for the generation of knockout mice.
We have used our gene trapping technology in an automated process to
create our OmniBank library of more than 200,000 frozen gene knockout ES cell
clones, each identified by DNA sequence in a relational database. Because our
gene trapping vectors are designed to trap genes in a manner largely independent
of their levels of expression, our OmniBank library includes even those genes
that are very rarely expressed. We estimate that our OmniBank library currently
contains gene knockout clones for more than half of all genes in the mammalian
genome.
We believe our OmniBank library, which is by far the largest library of
gene knockout clones in the world, provides us with unparalleled strategic
advantages in the discovery of in vivo gene function. The OmniBank library
permits us to generate knockout mice for in vivo analysis at a significantly
higher rate than is possible using other methods. We have generated many of our
in vivo-validated drug target discoveries that we consider to have high
pharmaceutical value using knockout mice generated from our OmniBank library.
Physiological Analysis Technologies
We have assembled and integrated a technology platform for in vivo
physiological analysis using a medical center approach to genes, enabling us to
systematically define the functions and pharmaceutical utility of the genes we
have knocked out and the potential targets for therapeutic intervention, or drug
targets, they encode.
Gene Function Discovery. We employ an integrated platform of advanced
medical technologies to rapidly and systematically discover and catalogue the
functions of the genes we have knocked out using our gene trapping and gene
targeting technologies. These technologies include many of the most
sophisticated diagnostic technologies that might be found in a major medical
center, from CAT-scans and magnetic resonance imaging (MRI) to complete blood
cell analysis, all adapted specifically for the analysis of mouse physiology.
This state-of-the-art technology platform enables us to assess the phenotypic
consequences, or function in a living mammal, of the knocked-out gene across a
variety of parameters relevant to human disease, including cancer,
cardiovascular disease, immune disorders, neurological disease, diabetes and
obesity. Most of the technologies we employ are non-invasive, permitting
longitudinal studies of gene function over time that are not feasible using
conventional techniques for the analysis of knockout mice. The information
resulting from this analysis is captured in relational databases for our use,
and use by our collaborators, in drug discovery.
We believe that our medical center approach and the technology platform
that makes it possible provide us with substantial advantages over other
approaches to gene function and drug target discovery. We believe that our
comprehensive, unbiased approach allows us to uncover functions within the
context of mammalian physiology that might be missed by more narrowly-focused
efforts directed on the basis of hypotheses as to the gene's likely function,
particularly when these hypotheses are based on expression analyses and other
factors that our experience
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indicates are unreliable predictors of gene function. We also believe our
approach is more likely to uncover target-related side effects that might limit
the utility of potential therapeutics addressing the drug target or prove to be
unacceptable in light of the potential therapeutic benefit. In both these cases,
we believe these advantages will contribute to better target selection and,
therefore, to the success of our drug discovery and development efforts.
Preclinical Analysis of Therapeutic Candidates. We employ the same
physiological analysis technology platform that we use in the discovery of gene
function to analyze the in vivo efficacy and safety profiles of therapeutic
candidates in mice. We believe that this approach will allow us, at an early
stage, to identify and optimize therapeutic candidates for further preclinical
and clinical development that demonstrate superior in vivo efficacy and to
distinguish compound-related effects from the target-related effects that we
defined using the same systematic, comprehensive series of tests. The result, we
believe, will substantially increase our likelihood of success in traditional
preclinical and clinical development, and will reduce the risk, time and expense
of developing our therapeutics for our in vivo-validated drug targets.
Medicinal Chemistry Technology
We acquired state-of-the-art medicinal chemistry capabilities through our
July 2001 acquisition of Coelacanth Corporation, which forms the foundation of
our Lexicon Pharmaceuticals division focused on the discovery and development of
small molecule drugs for our in vivo-validated drug targets. We use
solution-phase chemistry to generate diverse libraries of optically pure
compounds that are targeted against the same categories of drug targets we
address in our Genome 5000 drug target discovery program. We design these
libraries by analyzing the chemical structures of drugs that have been proven
safe and effective against human disease and synthesizing that knowledge in the
design of scaffolds and chemical building blocks for the generation of large
numbers of new drug-like compounds. These building blocks, which we refer to as
"pharmacophoric modules," can rapidly be reassembled to generate optimization
libraries when we identify a hit, or compound demonstrating activity, against
one of our in vivo-validated targets, enabling us to rapidly optimize those hits
and accelerate our medicinal chemistry efforts.
RESEARCH AND DEVELOPMENT PROGRAMS
Genome5000 Drug Target Discovery Program
We are using our industrialized approach to gene targeting and our
OmniBank library of more than 200,000 gene knockout ES cell clones, together
with our integrated platform of advanced physiological analysis technologies, to
systematically discover in living mammals, or in vivo, the functions and
pharmaceutical utility of a total of 5,000 genes over five years in our
Genome5000 program. The Genome5000 program includes the 1,250 drug targets that
we have committed to include in our LexVision database of in vivo-validated drug
targets, as well as the additional drug targets that we are pursuing in internal
programs and drug discovery alliances. We believe that our in vivo validation of
the drug targets discovered in our Genome5000 program provides us and our
collaborators with substantial advantages over competing validation approaches
in the discovery and development of genomics-based pharmaceutical products.
Our Genome5000 efforts are focused on the discovery of the functions in
mammalian physiology of proteins encoded by pharmaceutically important gene
families, such as G-protein coupled (GPCRs) and other receptors, kinases, ion
channels, other key enzymes and secreted proteins. We use bioinformatics
analysis and other resources to prioritize genes for analysis in this program
from a variety of sources, including our own proprietary gene sequence
databases, which encompass hundreds of full-length human gene sequences and more
than 50,000 partial human gene sequences that we discovered using our gene
trapping technology, our OmniBank database and library, Incyte's LifeSeq(R) Gold
Database and the public human genome project.
We have identified in vivo-validated drug targets in each of our internal
disease biology programs, which include programs for the identification of drug
targets with pharmaceutical utility in the discovery of therapeutics for the
treatment of diabetes, obesity, cardiovascular disease, immune disorders,
neurological disease and cancer. We are moving many of these targets forward
into therapeutic discovery and development programs, both on our own and with
collaborators.
6
Therapeutic Discovery Programs
We employ internal resources and drug discovery alliances to discover
potential small molecule drugs, therapeutic antibodies and therapeutic proteins
for in vivo-validated drug targets that we consider to have high pharmaceutical
value. We use our own sophisticated libraries of drug-like chemical compounds
and an industrialized medicinal chemistry platform to identify small molecule
drug candidates for our in vivo-validated drug targets. We have established
alliances with Genentech for the discovery of therapeutic proteins and antibody
targets; with Abgenix for the discovery and development of therapeutic
antibodies based on our drug target discoveries; and with Incyte for the
discovery and development of therapeutic proteins.
Our criteria for advancing in vivo-validated drug targets into therapeutic
discovery and development programs include the following:
- Favorable Therapeutic Profile. The drug target must demonstrate a
favorable therapeutic profile in vivo. Specifically, our in vivo
analysis must suggest that the effect of inhibiting or otherwise
modulating the activity of the drug target in humans would have a
therapeutic effect in treating disease, with an acceptable
target-related side effect profile.
- Novel Function. The function of the drug target must be novel - that
is, we are interested in drug targets whose function was not
generally known to others before we discovered it.
- Large Medical Market. The potential market for therapeutics
addressing the drug target must be substantial. We are interested in
drug targets that are key switches that control human physiology,
addressing large markets such as heart disease, diabetes, depression
and cancer.
Our small molecule drug discovery programs involve the following stages:
- assay development and high throughput screening (HTS) to identify
"hits," or compounds demonstrating activity, against the in
vivo-validated targets;
- medicinal chemistry efforts to optimize the potency and selectivity
of the hits, to identify lead compounds for further development;
- lead optimization and preliminary preclinical analysis;
- formal preclinical studies of optimized leads; and
- clinical development.
Our most advanced projects to date have reached the lead optimization and
preliminary preclinical analysis stage.
As of March 10, 2003, we had advanced more than 15 in vivo-validated drug
targets into therapeutic discovery programs.
Research and Development Expenses
In 2002, 2001 and 2000, respectively, we incurred expenses of $74.9
million, $53.4 million and $31.6 million in company-sponsored research and
development activities, including $5.2 million, $5.5 million and $10.9 million,
respectively, of stock-based compensation expense.
7
COLLABORATIONS AND ALLIANCES
Our collaboration and alliance strategy involves:
- drug discovery alliances to discover and develop therapeutics based
on our drug target discoveries, particularly when the alliance
enables us to obtain access to technology and expertise that is
complementary to our own; and
- functional genomics collaborations with pharmaceutical and
biotechnology companies, research institutions and academic
institutions to generate near-term revenues for granting access to
some of our technologies and discoveries for use in their own drug
discovery efforts, as well as the potential, in many cases, for
milestone payments and royalties on products they develop using our
technology.
In implementing this strategy, we have entered into the drug discovery
alliances and functional genomics collaborations with leading pharmaceutical and
biotechnology companies, research institutions and academic institutions
throughout the world, as described below.
Drug Discovery Alliances
We have entered into the following alliances for the discovery and
development of therapeutics based on our in vivo drug target discovery efforts:
Genentech, Inc. We established a drug discovery alliance with Genentech in
December 2002 to discover novel therapeutic proteins and antibody targets. Under
the alliance agreement, we will use our functional genomics technologies to
discover the functions of secreted proteins and potential antibody targets
identified through Genentech's internal drug discovery research. Genentech will
have exclusive rights in the discoveries resulting from the collaboration for
the research, development and commercialization of therapeutic proteins and
antibodies. We will retain certain other rights in those discoveries, including
rights for the development of small molecule drugs. We received an up-front
payment and will receive performance payments for our work in the collaboration
as it is completed. We will also receive milestone payments and royalties on
sales of therapeutic proteins and antibodies for which Genentech obtains
exclusive rights. The agreement has an expected collaboration term of three
years.
Abgenix, Inc. We established a drug discovery alliance with Abgenix in
July 2000 to discover novel therapeutic antibodies using our functional genomics
technologies and Abgenix's technology for generating fully human monoclonal
antibodies. We and Abgenix expanded and extended the alliance in January 2002,
with the intent of accelerating the selection of in vivo-validated antigens for
antibody discovery and the development and commercialization of therapeutic
antibodies based on those targets. Under the alliance agreement, we and Abgenix
will each have the right to obtain exclusive commercialization rights, including
sublicensing rights, for an equal number of qualifying therapeutic antibodies,
and will each receive milestone payments and royalties on sales of therapeutic
antibodies from the alliance that are commercialized by the other party or a
third party sublicensee. Each party will bear its own expenses under the
alliance. The expanded alliance also provides us with access to Abgenix's
XenoMouse(R) technology for use in some of our own drug discovery programs. The
agreement, as extended, has a term of four years, subject to the right of the
parties to extend the term for up to three additional one-year periods.
Incyte Genomics, Inc. We established a drug discovery alliance with Incyte
in June 2001 to discover novel therapeutic proteins using our functional
genomics technologies in the discovery of the functions of secreted proteins
from Incyte's LifeSeq(R) Gold database. Under the alliance agreement, we and
Incyte will each have the right to obtain exclusive commercialization rights,
including sublicensing rights, for an equal number of qualifying therapeutic
proteins, and will each receive milestone payments and royalties on sales of
therapeutic proteins from the alliance that are commercialized by the other
party or a third party sublicensee. The agreement has a term of five years,
although either party may terminate the agreement after three years.
8
LexVision Collaborations
We have entered into the following collaborations for access to our
LexVision database of in vivo-validated drug targets:
Bristol-Myers Squibb Company. We established a LexVision collaboration
with Bristol-Myers Squibb in September 2000, under which Bristol-Myers Squibb
has non-exclusive access to our LexVision database and OmniBank library for the
discovery of small molecule drugs. We receive access fees under this agreement,
and are entitled to receive milestone payments and royalties on products
Bristol-Myers Squibb develops using our technology. The agreement has a term of
five years, although either party may terminate the agreement after three years.
Incyte Genomics, Inc. We established a LexVision collaboration with Incyte
in June 2001, under which Incyte has non-exclusive access to our LexVision
database and OmniBank library for the discovery of small molecule drugs. We
receive access fees under this agreement, and are entitled to receive milestone
payments and royalties on products Incyte develops using our technology. The
agreement has a term of five years, although either party may terminate the
agreement after three years.
Functional Genomics Collaborations
We have established functional genomics collaboration agreements with a
number of leading pharmaceutical and biotechnology companies for the generation
and, in some cases, analysis of knockout mice for genes requested by the
collaborator. Under these agreements, we grant non-exclusive licenses to the
collaborator for use in its internal drug discovery programs of the knockout
mice and, if applicable, analysis data that we generate under the agreement.
Some of these agreements also provide for non-exclusive access to our OmniBank
database. We typically receive annual subscription fees and fees for knockout
mice with annual minimum commitments and, under some of these agreements, may
receive royalties on products that our collaborators discover or develop using
our technology.
We have entered into functional genomics collaboration agreements with the
following companies:
COMPANY DATE OF AGREEMENT END OF ACCESS PERIOD
------- ----------------- --------------------
Amgen, Inc. July 2001 July 2003
Abgenix, Inc. January 2001 January 2004
Tularik Inc. October 2000 October 2003
Wyeth March 2000 March 2003
Boehringer Ingelheim Pharmaceuticals, Inc. February 2000 February 2004
Pharmacia Corp. January 2000 January 2003
Johnson & Johnson Pharmaceutical
Research and Development L.L.C. December 1999 December 2003
N.V. Organon December 1999 December 2002
Millennium Pharmaceuticals, Inc. July 1999 June 2002
Each of these agreements has a specified access period during which the
collaborator may request new projects, although we continue to conduct work and
the agreement remains in effect until the projects requested during the access
period are completed.
We have also entered into functional genomics collaboration agreements
with a number of additional companies and academic institutions throughout the
world under which we receive research fees for the generation of knockout mice
and, with participating institutions, certain rights to license inventions or
royalties on products discovered using such mice.
e-Biology Global Collaboration Program
We believe that our OmniBank database and library represent a unique
resource for catalyzing collaborations with researchers at pharmaceutical
companies, biotechnology companies and academic institutions
9
for the discovery of gene function. We provide access to our OmniBank database
through the Internet to subscribing researchers at leading companies and
academic institutions throughout the world. Our bioinformatics software allows
subscribers to mine our OmniBank database for genes of interest, and we permit
subscribers to acquire OmniBank knockout mice or ES cells on a non-exclusive
basis for the determination of gene function under our e-Biology collaboration
program. In this program, we receive fees for OmniBank knockout mice and, with
participating institutions, rights to license inventions or to receive royalties
on pharmaceutical products discovered using our mice. In cases where we do not
obtain such rights, our e-Biology collaborations leverage the value of OmniBank
since we retain rights to use the same OmniBank knockout mice in our own gene
function research and with commercial collaborators. We have more than 100
agreements under our e-Biology collaboration program with researchers at leading
institutions throughout the world.
TECHNOLOGY LICENSES AND COMPOUND SALES
In addition to collaborations, we have used technology licenses and
compound library sales to generate revenues for the support of our own research
and development efforts.
Technology Licenses. We have granted non-exclusive, internal research-use
sublicenses under certain of our gene targeting patent rights to a total of 12
leading pharmaceutical and biotechnology companies. Many of these agreements
have terms of one to three years, in some cases with provisions for subsequent
renewals. Others extend for as long as the life of the patents. We typically
receive up-front license fees and, in some cases, receive additional license
fees or milestone payments on products that the sublicensee discovers or
develops using our technology.
Compound Library Sales. Our Lexicon Pharmaceuticals subsidiary has entered
into agreements with a total of 29 leading pharmaceutical and biotechnology
companies for non-exclusive access to selected compound libraries. Most of these
agreements were completed by Coelacanth prior to our July 2001 acquisition of
the company. The remainder were completed in 2001 as we wound down Coelacanth's
compound sales efforts in support of our strategic decision to use our compound
libraries principally in our own drug discovery efforts. These agreements
typically provide for our sale of compounds from the selected library for use by
the customer in its own internal drug discovery efforts. Under some of these
agreements, we have agreed to provide additional quantities of selected
compounds or optimization services in exchange for further payments. Subject to
limited exceptions, we do not intend to continue to make our compound libraries
available for purchase in the future.
PATENTS AND PROPRIETARY RIGHTS
We will be able to protect our proprietary rights from unauthorized use by
third parties only to the extent that those rights are covered by valid and
enforceable patents or are effectively maintained as trade secrets. Accordingly,
patents and other proprietary rights are an essential element of our business.
We seek patent protection for the genes, proteins and drug targets that we
discover. Specifically, we seek patent protection for:
- the sequences of genes that we believe to be novel, including
full-length genes and the partial gene sequences contained in our
human gene trap and OmniBank databases, the proteins they encode and
their predicted utility as a drug target or therapeutic protein;
- the utility of genes and the drug targets or therapeutic proteins
they encode based on our discoveries of their biological functions
using knockout mice;
- drug discovery assays for our in vivo-validated targets;
- chemical compounds and their use in treating human diseases and
conditions; and
- various enabling technologies in the fields of mutagenesis, ES cell
manipulation and transgenic or knockout mice.
We own or have exclusive rights to six issued U.S. patents that cover our
gene trapping technology, nine issued U.S. patents that cover full-length
sequences of potential drug targets identified in our gene discovery
10
programs, and five issued U.S. patents that cover specific knockout mice and
discoveries of the functions of genes made using knockout mice. We have licenses
under 47 additional U.S. patents, and corresponding foreign patents and patent
applications, in the fields of gene targeting, gene trapping and genetic
manipulation of mouse ES cells. These include patents to which we hold exclusive
rights in certain fields, including a total of six U.S. patents covering the use
of positive-negative selection and isogenic DNA gene targeting technology, as
well as patents covering the use of Cre/lox technology. We have filed or have
exclusive rights to more than 500 pending patent applications in the United
States Patent and Trademark Office, the European Patent Office, the national
patent offices of other foreign countries or under the Patent Cooperation
Treaty, covering our gene trapping technology, the DNA sequences of genes, the
utility of drug targets, drug discovery assays, and other products and
processes. Collectively, these patent applications cover, among other things,
approximately 200 full-length human gene sequences, more than 50,000 partial
human gene sequences, and more than 45,000 knockout mouse clones and
corresponding mouse gene sequence tags. Patents typically have a term of no
longer than 20 years from the date of filing.
All of our employees, consultants and advisors are required to execute a
confidentiality agreement upon the commencement of employment or consultation.
In general, the agreement provides that all inventions conceived by the employee
or consultant, and all confidential information developed or made known to the
individual during the term of the agreement, shall be our exclusive property and
shall be kept confidential, with disclosure to third parties allowed only in
specified circumstances. We cannot assure you, however, that these agreements
will provide useful protection of our proprietary information in the event of
unauthorized use or disclosure of such information.
COMPETITION
The biotechnology and pharmaceutical industries are highly competitive and
characterized by rapid technological change. We face significant competition in
each of the aspects of our business from for-profit companies such as Human
Genome Sciences, Inc., Millennium Pharmaceuticals, Inc. and Exelixis, Inc.,
among others, many of which have substantially greater financial, scientific and
human resources than we do. In addition, the Human Genome Project and a large
number of universities and other not-for-profit institutions, many of which are
funded by the U.S. and foreign governments, are also conducting research to
discover genes and their functions.
While we are not aware of any other commercial entity that is developing
large-scale gene trap mutagenesis in ES cells, we face significant competition
from entities using traditional knockout mouse technology and other
technologies. Several companies, including Deltagen, Inc. and DNX (a subsidiary
of Xenogen Corporation), and a large number of academic institutions create
knockout mice for third parties using these more traditional methods, and a
number of companies create knockout mice for use in their own research.
Many of our competitors in drug discovery and development have
substantially greater research and product development capabilities and
financial, scientific, marketing and human resources than we have. As a result,
our competitors may succeed in developing products earlier than we do, obtaining
approvals from the FDA or other regulatory agencies for those products more
rapidly than we do, or developing products that are more effective than those we
propose to develop. Similarly, our collaborators face similar competition from
other competitors who may succeed in developing products more quickly, or
developing products that are more effective, than those developed by our
collaborators. We expect that competition in this field will intensify.
GOVERNMENT REGULATION
Regulation of Pharmaceutical Products
The development, production and marketing of any pharmaceutical products
developed by us or our collaborators will be subject to extensive regulation by
United States and foreign governmental authorities. In the United States, new
drugs are subject to regulation under the Federal Food, Drug and Cosmetic Act
and biological products are subject to regulation both under certain provisions
of that Act and under the Public Health Services Act. The FDA regulates, among
other things, the development, testing, manufacture, safety, efficacy, record
keeping, labeling, storage, approval, advertising, promotion, sale and
distribution of drugs and biologics. The process of obtaining FDA approval has
historically been costly and time-consuming.
11
The standard process required by the FDA before a pharmaceutical product
may be marketed in the United States includes:
- preclinical tests;
- submission to the FDA of an Investigational New Drug application, or
IND, which must become effective before human clinical trials may
commence;
- adequate and well-controlled human clinical trials to establish the
safety and efficacy of the drug or biologic in our intended
application;
- for drugs, submission of a New Drug Application, or NDA, and, for
biologics, submission of a Biologic License Application, or BLA,
with the FDA; and
- FDA approval of the NDA or BLA prior to any commercial sale or
shipment of the product.
In addition to obtaining FDA approval for each product, each drug or
biologic manufacturing establishment must be inspected and approved by the FDA.
All manufacturing establishments are subject to inspections by the FDA and by
other federal, state and local agencies and must comply with current Good
Manufacturing Practices requirements.
Preclinical studies can take several years to complete, and there is no
guarantee that an IND based on those studies will become effective to even
permit clinical testing to begin. Once clinical trials are initiated, they
generally take four to seven years, but may take longer, to complete. After
completion of clinical trials of a new drug or biologic product, FDA marketing
approval of the NDA or BLA must be obtained. This process requires substantial
time and effort and there is no assurance that the FDA will accept the NDA or
BLA for filing and, even if filed, that approval will be granted. In the past,
the FDA's approval of the NDA or BLA has taken, on average, one to three years;
if questions arise, approval can take longer.
In addition to regulatory approvals that must be obtained in the United
States, a drug product is also subject to regulatory approval in other countries
in which it is marketed, although the requirements governing the conduct of
clinical trials, product licensing, pricing, and reimbursement vary widely from
country to country. No action can be taken to market any drug product in a
country until an appropriate application has been approved by the regulatory
authorities in that country. FDA approval does not assure approval by other
regulatory authorities. The current approval process varies from country to
country, and the time spent in gaining approval varies from that required for
FDA approval. In some countries, the sale price of a drug product must also be
approved. The pricing review period often begins after market approval is
granted. Even if a foreign regulatory authority approves a drug product, it may
not approve satisfactory prices for the product.
Other Regulations
In addition to the foregoing, our business is and will be subject to
regulation under various state and federal environmental laws, including the
Occupational Safety and Health Act, the Resource Conservation and Recovery Act
and the Toxic Substances Control Act. These and other laws govern our use,
handling and disposal of various biological, chemical and radioactive substances
used in and wastes generated by our operations. We believe that we are in
material compliance with applicable environmental laws and that our continued
compliance with these laws will not have a material adverse effect on our
business. We cannot predict, however, whether new regulatory restrictions on the
production, handling and marketing of biotechnology products will be imposed by
state or federal regulators and agencies or whether existing laws and
regulations will not adversely affect us in the future.
EMPLOYEES AND CONSULTANTS
We believe that our success will be based on, among other things,
achieving and retaining scientific and technological superiority and identifying
and retaining capable management. We have assembled a highly qualified team of
scientists as well as executives with extensive experience in the biotechnology
industry.
12
As of March 3, 2003, we employed 579 persons, of whom 123 hold M.D., Ph.D.
or D.V.M. degrees and another 123 hold other advanced degrees. We believe that
our relationship with our employees is good.
SCIENTIFIC ADVISORY PANEL MEMBERS
We have consulting relationships with a number of scientific advisors. At
our request, these advisors review the feasibility of product development
programs under consideration, provide advice concerning advances in areas
related to our technology and aid in recruiting personnel. Most of these
advisors receive cash and stock-based compensation for their services, and in
some cases receive access to our OmniBank database and mice from our OmniBank
library. Most of these advisors are employed by academic institutions or other
entities and may have commitments to or advisory agreements with other entities
that may limit their availability to us. Our advisors are required to disclose
and assign to us any ideas, discoveries and inventions they develop in the
course of providing consulting services to us. We also use consultants for
various administrative needs. None of our consultants or advisors is otherwise
affiliated with us.
Our scientific advisors and consultants include the following persons:
NAME AFFILIATION TITLE
- ---- ----------- -----
DISEASE BIOLOGY ADVISORS
Abul K. Abbas, M.D. University of California, San Professor and Chair, Department of Pathology
Francisco
John D. Brunzell, M.D. University of Washington Professor of Medicine, Division of
Metabolism, Endocrinology & Nutrition
Roger D. Cone, Ph.D. Vollum Institute for Advanced Senior Scientist
Biomedical Research
Neal G. Copeland, Ph.D. National Cancer Institute Director, Mouse Cancer Genetics Program
Kenneth H. Gabbay, M.D. Baylor College of Medicine Professor of Pediatrics and Molecular &
Cell Biology, Head, Section of Molecular
Diabetes and Metabolism, Department of
Pediatrics
John M. Harlan, M.D. University of Washington Professor and Head, Division of Hematology
Medicine
Nancy A. Jenkins, Ph.D. National Cancer Institute Senior Investigator, Mouse Cancer Genetics
Program
Jeffrey L. Noebels, M.D., Ph.D. Baylor College of Medicine Professor of Neurology, Neuroscience and
Molecular Genetics
Howard A. Rockman, M.D. Duke University Medical Center Associate Professor of Medicine
Oliver Smithies, Ph.D. University of North Carolina Excellence Professor, Department of
Pathology and Laboratory Medicine
Laurence H. Tecott, M.D., Ph.D. University of California, San Associate Professor, Department of
Francisco Psychiatry
MEDICINAL CHEMISTRY ADVISORS
Ronald T. Borchardt, Ph.D. University of Kansas Professor and Chairman, Department of
Pharmaceutical Chemistry
Alan R. Katritsky, Ph.D. University of Florida Professor of Chemistry
David W. C. MacMillan, Ph.D. California Institute of Technology Associate Professor of Chemistry
Nikola Pavletich, Ph.D. Memorial Sloan-Kettering Cancer Head, Structural Biology of Oncogenes and
Center Tumor Suppressors Laboratory, Howard Hughes
Medical Institute Investigator
Chairman, Medical Advisory Board
Alan S. Nies, M.D. Former Senior Vice President, Clinical
Sciences, Merck & Co., Inc.
13
RISK FACTORS
Our business is subject to risks and uncertainties, including those
described below:
RISKS RELATED TO OUR BUSINESS
We have a history of net losses, and we expect to continue to incur net losses
and may not achieve or maintain profitability
We have incurred net losses since our inception, including net losses of
$59.7 million for the year ended December 31, 2002. As of December 31, 2002, we
had an accumulated deficit of $149.7 million. We are unsure when we will become
profitable, if ever. The size of our net losses will depend, in part, on the
rate of growth, if any, in our revenues and on the level of our expenses.
We derive substantially all of our revenues from subscriptions to our
LexVision and OmniBank databases, drug discovery alliances, functional genomics
collaborations for the development and, in some cases, analysis of the
physiological effects of genes altered in knockout mice, technology licenses and
compound library sales, and will continue to do so for the foreseeable future.
Our future revenues from database subscriptions, collaborations and alliances
are uncertain because our existing agreements have fixed terms or relate to
specific projects of limited duration. Our future revenues from technology
licenses are uncertain because they depend, in large part, on securing new
agreements. Subject to limited exceptions, we do not intend to continue to make
our compound libraries available for purchase in the future. Our ability to
secure future revenue-generating agreements will depend upon our ability to
address the needs of our potential future subscribers, collaborators and
licensees, and to negotiate agreements that we believe are in our long-term best
interests. We may determine that our interests are better served by retaining
rights to our discoveries and advancing our therapeutic programs to a later
stage, which could limit our near-term revenues.
A large portion of our expenses are fixed, including expenses related to
facilities, equipment and personnel. In addition, we expect to spend significant
amounts to fund research and development and to enhance our core technologies.
As a result, we expect that our operating expenses will continue to increase
significantly in the near term and, consequently, we will need to generate
significant additional revenues to achieve profitability. Even if we do achieve
profitability, we may not be able to sustain or increase profitability on a
quarterly or annual basis.
Our quarterly operating results have been and likely will continue to fluctuate,
and we believe that quarter-to-quarter comparisons of our operating results are
not a good indication of our future performance
Our operating results and, in particular, our ability to generate
additional revenues are dependent on many factors, including:
- our ability to establish new database subscriptions, research
collaborations and technology licenses, and the timing of such
arrangements;
- the expiration or other termination of database subscriptions and
research collaborations with our collaborators, which may not be
renewed or replaced;
- the success rate of our discovery efforts leading to opportunities
for new research collaborations and licenses, as well as milestone
payments and royalties;
- the timing and willingness of our collaborators to commercialize
pharmaceutical products that would result in milestone payments and
royalties; and
- general and industry-specific economic conditions, which may affect
our and our collaborators' research and development expenditures.
Because of these and other factors, including the risks and uncertainties
described in this section, our quarterly operating results have fluctuated in
the past and are likely to do so in the future. Due to the likelihood of
14
fluctuations in our revenues and expenses, we believe that quarter-to-quarter
comparisons of our operating results are not a good indication of our future
performance. Our operating results in some quarters may not meet the
expectations of stock market analysts and investors, which could result in a
decline in our stock price.
We will need additional capital in the future and, if it is not available, we
will have to curtail or cease operations
Our future capital requirements will be substantial and will depend on
many factors, including our ability to obtain database subscription, alliance,
collaboration and technology license agreements, the amount and timing of
payments under such agreements, the level and timing of our research and
development expenditures, market acceptance of our products, the resources we
devote to developing and supporting our products and other factors. Our capital
requirements will increase substantially to the extent we advance potential
therapeutics into preclinical and clinical development. Our capital requirements
will also be affected by any expenditures we make in connection with license
agreements and acquisitions of and investments in complementary technologies and
businesses.
We anticipate that our existing capital resources and revenues we expect
to derive from subscriptions to our databases, drug discovery alliances,
functional genomics collaborations and technology licenses will enable us to
maintain our currently planned operations at least through the next 12 months.
However, we may generate less revenues than we expect, and changes may occur
that would consume available capital resources more rapidly than we expect. If
our capital resources are insufficient to meet future capital requirements, we
will have to raise additional funds to continue the development of our
technologies and complete the commercialization of products, if any, resulting
from our technologies. We may be unable to raise sufficient additional capital;
if so, we will have to curtail or cease operations.
We are an early-stage company with an unproven business strategy
Our business strategy of using our technology platform and, specifically,
the discovery of the functions of genes using knockout mice to select promising
drug targets and of developing and commercializing our discoveries through
collaborations and alliances is unproven. Our success will depend upon our
ability to enter into additional collaboration and alliance agreements on
favorable terms, determine which genes have potential value as drug targets,
discover potential therapeutics for drug targets we consider to have
pharmaceutical value, successfully develop such potential therapeutics and
select an appropriate commercialization strategy for each potential therapeutic
we choose to pursue.
Biotechnology and pharmaceutical companies have successfully developed and
commercialized only a limited number of genomics-derived pharmaceutical products
to date. We have not proven our ability to identify genomics-derived
therapeutics or drug targets with commercial potential, or to develop or
commercialize therapeutics or drug targets that we do identify. It is difficult
to successfully select those drug targets with the most potential for commercial
development and to identify potential therapeutics, and we do not know that any
pharmaceutical products based on our drug target discoveries can be successfully
commercialized. In addition, we may experience unforeseen technical
complications in the processes we use to generate gene knockout mice, conduct in
vivo analyses, generate compound libraries, develop screening assays for drug
targets or conduct screening of compounds against those drug targets. These
complications could materially delay or limit the use of those resources,
substantially increase the anticipated cost of generating them or prevent us
from implementing our processes at appropriate quality and throughput levels.
We face substantial competition in the discovery of the DNA sequences of genes
and their functions and in our drug discovery and product development efforts
There are a finite number of genes in the human genome, and we believe
that the majority of such genes have been identified by us or others conducting
genomic research and that virtually all will be identified within the next few
years. We face significant competition in our efforts to discover and patent the
sequence and other information derived from such genes from entities using
alternative, and in some cases higher volume and larger scale, approaches for
the same purpose.
15
We also face competition from other companies in our efforts to discover
the functions of genes. Many of these competitors have substantially greater
financial, scientific and human resources than we do. A large number of
universities and other not-for-profit institutions, many of which are funded by
the U.S. and foreign governments, are also conducting research to discover the
functions of genes. Competitors could discover and establish patents in genes or
gene products that we identify as promising drug targets.
Our ability to use our patent rights to prevent competition in the
creation and use of knockout mice outside of the United States is limited.
Furthermore, other methods for conducting functional genomics research may
ultimately prove superior, in some or all respects, to the use of knockout mice.
In addition, technologies more advanced than or superior to our gene targeting
and gene trapping technologies may be developed, thereby rendering those
technologies obsolete.
We face significant competition from other companies, as well as from
universities and other not-for-profit institutions, in our drug discovery and
product development efforts. Many of these competitors have substantially
greater financial, scientific and human resources than we do. These competitors
may develop products earlier than we do, obtain regulatory approvals faster than
we can and develop products that are more effective than ours.
We rely heavily on collaborators to develop and commercialize pharmaceutical
products based on genes that we identify as promising candidates for development
as drug targets
Since we do not currently possess the resources necessary to develop,
obtain approvals for or commercialize potential pharmaceutical products based on
genes contained in our databases or genes that we identify as promising
candidates for development as drug targets or therapeutic proteins, we must
enter into collaborative arrangements to develop and commercialize these
products. We will have limited or no control over the resources that any
collaborator may devote to this effort. Any of our present or future
collaborators may not perform their obligations as expected. These collaborators
may breach or terminate their agreements with us or otherwise fail to conduct
product discovery, development or commercialization activities successfully or
in a timely manner. Further, our collaborators may elect not to develop
pharmaceutical products arising out of our collaborative arrangements or may not
devote sufficient resources to the development, approval, manufacture, marketing
or sale of these products. If any of these events occurs, we may not be able to
develop or commercialize potential pharmaceutical products.
Some of our agreements provide us with rights to participate in the
commercial development of pharmaceutical products derived from our
collaborations or access to our databases, technology or intellectual property.
We may not be able to obtain such rights in future collaborations or agreements.
Our ability to obtain such rights depends in part on the validity of our
intellectual property, the advantages and novelty of our technologies and
databases and our negotiating position relative to each potential collaborator
or customer. Previous attempts by others in the industry to obtain these rights
with respect to the development of knockout mice and related technologies have
generated considerable controversy, especially in the academic community.
Any cancellation by or conflicts with our collaborators could harm our business
Our alliance and collaboration agreements may not be renewed and may be
terminated in the event either party fails to fulfill its obligations under
these agreements. Any failure to renew or cancellation by a collaborator could
mean a significant loss of revenues and volatility in our earnings.
In addition, we may pursue opportunities in fields that could conflict
with those of our collaborators. Moreover, disagreements could arise with our
collaborators over rights to our intellectual property or our rights to share in
any of the future revenues of compounds or therapeutic approaches developed by
our collaborators. These kinds of disagreements could result in costly and
time-consuming litigation. Any conflict with our collaborators could reduce our
ability to obtain future collaboration agreements and could have a negative
impact on our relationship with existing collaborators, adversely affecting our
business and revenues. Some of our collaborators are also potential competitors
or may become competitors in the future. Our collaborators could develop
competing products, preclude us from entering into collaborations with their
competitors or terminate their agreements with us prematurely. Any of these
developments could harm our product development efforts.
16
We have no experience in developing and commercializing pharmaceutical products
on our own
Our ability to develop and commercialize pharmaceutical products on our
own will depend on our ability to internally develop preclinical, clinical,
regulatory and sales and marketing capabilities, or enter into arrangements with
third parties to provide those functions. We may not be successful in developing
these capabilities or entering into agreements with third parties on favorable
terms, or at all. Further, our reliance upon third parties for these
capabilities could reduce our control over such activities and could make us
dependent upon these parties. Our inability to develop or contract for these
capabilities would significantly impair our ability to develop and commercialize
pharmaceutical products.
We lack the capability to manufacture compounds for preclinical studies and
clinical trials and will rely on third parties to manufacture our potential
products
We currently do not have the manufacturing capabilities or experience
necessary to produce materials for preclinical studies or clinical trials and
intend to rely on collaborators and third-party contractors to produce such
materials. We will rely on selected manufacturers to deliver materials on a
timely basis and to comply with applicable regulatory requirements, including
the FDA's current Good Manufacturing Practices, or GMP. These manufacturers may
not be able to produce material on a timely basis or manufacture material at the
quality level or in the quantity required to meet our development timelines and
applicable regulatory requirements. If we are unable to contract for production
of sufficient quantity and quality of materials on acceptable terms, our product
development efforts may be delayed.
We may engage in future acquisitions, which may be expensive and time consuming
and from which we may not realize anticipated benefits
We may acquire additional businesses, technologies and products, if we
determine that these businesses, technologies and products complement our
existing technology or otherwise serve our strategic goals. We currently have no
commitments or agreements with respect to any acquisitions. If we do undertake
any transactions of this sort, the process of integrating an acquired business,
technology or product may result in operating difficulties and expenditures and
may absorb significant management attention that would otherwise be available
for ongoing development of our business. Moreover, we may never realize the
anticipated benefits of any acquisition. Future acquisitions could result in
potentially dilutive issuances of our equity securities, the incurrence of debt
and contingent liabilities and amortization expenses related to intangible
assets, which could adversely affect our results of operations and financial
condition.
If we lose our key personnel or are unable to attract and retain additional
personnel, we may be unable to pursue collaborations or develop our own products
We are highly dependent on Arthur T. Sands, M.D., Ph.D., our president and
chief executive officer, as well as other principal members of our management
and scientific staff. The loss of any of these personnel would have a material
adverse effect on our business, financial condition or results of operations and
could inhibit our product development and commercialization efforts. Although we
have entered into employment agreements with some of our key personnel,
including Dr. Sands, these employment agreements are for a limited period of
time and not all key personnel have employment agreements.
Recruiting and retaining qualified scientific personnel to perform future
research and development work will be critical to our success. Competition for
experienced scientists is high. Failure to recruit and retain scientific
personnel on acceptable terms could prevent us from achieving our business
objectives.
We may encounter difficulties in managing our growth, which could increase our
losses
We have experienced a period of rapid growth that has placed and, if this
growth continues, will continue to place a strain on our human and capital
resources. If we are unable to manage our growth effectively, our losses could
increase. The number of our employees increased from 93 at December 31, 1998 to
122 at December 31, 1999, 287 at December 31, 2000, 484 at December 31, 2001,
572 at December 31, 2002 and 579 at March 3, 2003. Our ability to manage our
operations and growth effectively requires us to continue to expend funds to
improve our
17
operational, financial and management controls, reporting systems and
procedures. If we are unable to successfully implement improvements to our
management information and control systems in an efficient or timely manner, or
if we encounter deficiencies in existing systems and controls, our management
may not have adequate information to manage our day-to-day operations.
Because all of our functional genomics operations are located at a single
facility, the occurrence of a disaster could significantly disrupt our business
Our OmniBank mouse clone library and its back-up are stored in liquid
nitrogen freezers located at our facility in The Woodlands, Texas, and our
knockout mouse research operations are carried out entirely at the same
facility. While we have developed redundant and emergency backup systems to
protect these resources and the facilities in which they are stored, they may be
insufficient in the event of a severe fire, flood, hurricane, tornado or similar
disaster. If such a disaster significantly damages or destroys the facility in
which these resources are maintained, our business could be disrupted until we
could regenerate the affected resources and, as a result, our stock price could
decline. Our business interruption insurance may not be sufficient to compensate
us in the event of a major interruption due to such a disaster.
RISKS RELATED TO OUR INDUSTRY
Our ability to patent our discoveries is uncertain because patent laws and their
interpretation are highly uncertain and subject to change
The patent positions of biotechnology firms generally are highly uncertain
and involve complex legal and factual questions that will determine who has the
right to develop a particular product. No clear policy has emerged regarding the
breadth of claims covered in biotechnology patents. The biotechnology patent
situation outside the United States is even more uncertain and is currently
undergoing review and revision in many countries. Changes in, or different
interpretations of, patent laws in the United States and other countries might
allow others to use our discoveries or to develop and commercialize our products
without any compensation to us. We anticipate that these uncertainties will
continue for a significant period of time.
Our patent applications may not result in enforceable patent rights
Our disclosures in our patent applications may not be sufficient to meet
the statutory requirements for patentability. Our ability to obtain patent
protection based on genes or gene sequences will depend, in part, upon
identification of a function for the gene or gene sequences sufficient to meet
the statutory requirement that an invention have utility and that a patent
application describe the invention with sufficient specificity. While the U.S.
Patent and Trademark Office has issued guidelines for the examination of patent
applications claiming gene sequences, their therapeutic uses and novel proteins
encoded by such genes, the impact of these guidelines is uncertain and may delay
or negatively affect our patent position. Furthermore, biologic data in addition
to that obtained by our current technologies may be required for issuance of
patents on human therapeutics. If required, obtaining such biologic data could
delay, add substantial costs to, or affect our ability to obtain patent
protection. There can be no assurance that the disclosures in our current or
future patent applications, including those we may file with our collaborators,
will be sufficient to meet these requirements. Even if patents are issued, there
may be current or future uncertainty as to the scope of the coverage or
protection provided by any such patents.
Other companies or institutions have filed and will file patent
applications that attempt to patent genes or gene sequences that may be similar
to our patent applications. The U.S. Patent and Trademark Office could decide
competing patent claims in an interference proceeding. Any such proceeding would
be costly, and we may not prevail. In addition, patent applications filed by
third parties may have priority over patent applications we file. In this event,
the prevailing party may require us or our collaborators to stop pursuing a
potential product or to negotiate a license arrangement to pursue the potential
product. We may not be able to obtain a license from the prevailing party on
acceptable terms, or at all. In addition, the Human Genome Project, as well as
many companies and institutions, have identified genes and deposited partial
gene sequences in public databases and are continuing to do so. These public
disclosures might limit the scope of our claims or make unpatentable subsequent
patent applications on full-length genes.
18
Some court decisions indicate that disclosure of a partial sequence may
not be sufficient to support the patentability of a full-length sequence. These
decisions have been confirmed by recent pronouncements of the U.S. Patent and
Trademark Office. We believe that these court decisions and the uncertain
position of the U.S. Patent and Trademark Office present a significant risk that
the U.S. Patent and Trademark Office will not issue patents based on patent
disclosures limited to partial gene sequences, like those represented in our
human gene trap database. In addition, we are uncertain about the scope of the
coverage, enforceability and commercial protection provided by any patents
issued primarily on the basis of gene sequence information.
If other companies and institutions obtain patents claiming the functional uses
of genes and gene products based upon gene sequence information and predictions
of gene function, we may be unable to obtain patents for our discoveries of
biological functions in knockout mice
We intend to pursue patent protection covering the functions and
pharmaceutical utility that we discover for both new and known genes and
proteins. While an actual description of the biological function of a gene or
protein should enhance a patent position, we cannot assure you that such
information will increase the probability of issuance of any patents. Further,
many other entities are currently filing patents on genes which are identical or
similar to our filings. Many such applications seek to protect partial human
gene sequences, full-length gene sequences and the deduced protein products
encoded by the sequences while others use biological or other laboratory data.
Some of these applications attempt to assign biologic function to the DNA
sequences based on computer predictions or patterns of gene expression. There is
the significant possibility that patents claiming the functional uses of genes
and gene products will be issued to our competitors based on such information.
We may be involved in patent litigation and other disputes regarding
intellectual property rights, and can give no assurances that we will prevail in
any such litigation or other dispute
Our potential products and those of our collaborators may give rise to
claims that they infringe the patents of others. This risk will increase as the
biotechnology industry expands and as other companies obtain more patents
covering the sequences, functions and uses of genes and the drug targets they
encode. In addition, many companies have well-established patent portfolios
directed to common techniques, methods and means of developing, producing and
manufacturing pharmaceutical products. Other companies or institutions could
bring legal actions against us or our collaborators for damages or to stop us or
our collaborators from manufacturing and marketing the affected products. If any
of these actions are successful, in addition to our potential liability for
damages, these entities may require us or our collaborators to obtain a license
in order to continue to manufacture or market the affected products or may force
us to terminate manufacturing or marketing efforts.
We may need to pursue litigation against others to enforce our patents and
intellectual property rights. Patent litigation is expensive and requires
substantial amounts of management attention. In addition, the eventual outcome
of any such litigation is uncertain.
We believe that there will continue to be significant litigation in our
industry regarding patent and other intellectual property rights. We have and
many of our competitors have and are continuing to expend significant amounts of
time, money and management resources on intellectual property litigation. If we
become involved in future intellectual property litigation, it could consume a
substantial portion of our resources and could negatively affect our results of
operations.
Patent litigation involves substantial risks. Each time we sue for patent
infringement we face the risk that the patent will be held invalid or
unenforceable. Such a determination is binding on us for all future litigation
involving that patent. Furthermore, in light of recent U.S. Supreme Court
precedent, our ability to enforce our patents against state agencies, including
state sponsored universities and research labs, is limited by the Eleventh
Amendment to the U.S. Constitution. Finally, opposition by academicians and the
government may hamper our ability to enforce our patent against academic or
government research laboratories. Enforcement of our patents may cause our
reputation in the academic community to be injured.
19
Issued patents may not fully protect our discoveries, and our competitors may be
able to commercialize products similar to those covered by our issued patents
Issued patents may not provide commercially meaningful protection against
competitors. Other companies or institutions may challenge our or our
collaborators' patents or independently develop similar products that could
result in an interference proceeding in the Patent and Trademark Office or a
legal action. In the event any single researcher or institution infringes upon
our or our collaborators' patent rights, enforcing these rights may be difficult
and time consuming. Others may be able to design around these patents or develop
unique products providing effects similar to our products. We may be required to
choose between pursuing litigation against infringers and being unable to
recover damages or otherwise enforce our patent rights.
In addition, others may discover uses for genes or proteins other than
those uses covered in our patents, and these other uses may be separately
patentable. Even if we have a patent claim on a particular gene, the holder of a
patent covering the use of that gene could exclude us from selling a product
that is based on the same use of that gene. In addition, with respect to certain
of our patentable inventions, we have decided not to pursue patent protection
outside the United States, both because we do not believe it is cost-effective
and because of confidentiality concerns. Accordingly, our international
competitors could develop, and receive foreign patent protection for gene
sequences and functions for which we are seeking U.S. patent protection.
Our rights to the use of technologies licensed by third parties are not within
our control
We rely, in part, on licenses to use certain technologies that are
material to our business. We do not own the patents that underlie these
licenses. Our rights to use these technologies and practice the inventions
claimed in the licensed patents are subject to our licensors abiding by the
terms of those licenses and not terminating them. In many cases, we do not
control the prosecution or filing of the patents to which we hold licenses and
rely upon our licensors to prevent infringement of those patents. The scope of
our rights under our licenses may be subject to dispute by our licensors or
third parties.
We may be unable to protect our trade secrets
While we have entered into confidentiality agreements with employees and
collaborators, we may not be able to prevent the disclosure of our trade
secrets. In addition, other companies or institutions may independently develop
substantially equivalent information and techniques.
We and our collaborators are subject to extensive and uncertain government
regulatory requirements, which could increase our operating costs or adversely
affect our ability to obtain government approval of products based on genes that
we identify in a timely manner or at all
Drugs and diagnostic products are subject to an extensive and uncertain
regulatory approval process by the FDA and comparable agencies in other
countries. The regulation of new products is extensive, and the required process
of laboratory testing and human studies is lengthy and expensive. The burden of
these regulations will fall on us to the extent we develop proprietary products
on our own. If the products are the result of a collaboration effort, these
burdens may fall on our collaborating partner or may be shared with us. We may
not be able to obtain FDA approvals for those products in a timely manner, or at
all. We may encounter significant delays or excessive costs in our efforts to
secure necessary approvals or licenses. Even if we obtain FDA regulatory
approvals, the FDA extensively regulates manufacturing, labeling, distributing,
marketing, promotion and advertising after product approval. Moreover, several
of our product development areas may involve relatively new technology and have
not been the subject of extensive product testing in humans. The regulatory
requirements governing these products and related clinical procedures remain
uncertain and the products themselves may be subject to substantial review by
foreign governmental regulatory authorities that could prevent or delay approval
in those countries. Regulatory requirements ultimately imposed on our products
could limit our ability to test, manufacture and, ultimately, commercialize our
products.
Since we develop animals containing changes in their genetic make-up, we
may become subject to a variety of laws, guidelines, regulations and treaties
specifically directed at genetically modified organisms, or GMOs. The area of
environmental releases of GMOs is rapidly evolving and is currently subject to
intense regulatory scrutiny,
20
particularly internationally. If we become subject to these laws we could incur
substantial compliance costs. For example, the Biosafety Protocol, or the BSP, a
recently adopted treaty, is expected to cover certain shipments from the United
States to countries abroad that have signed the BSP. The BSP is also expected to
cover the importation of living modified organisms, a category that could
include our animals. If our animals are not contained as described in the BSP,
our animals could be subject to the potentially extensive import requirements of
countries that are signatories to the BSP.
The uncertainty of pharmaceutical pricing and reimbursement may decrease the
commercial potential of our products and affect our ability to raise capital
Our ability and the ability of our collaborators to successfully
commercialize pharmaceutical products may depend in part on the extent to which
reimbursement for the cost of such products and related treatment will be
available from government health administration authorities, private health
coverage insurers and other organizations. The pricing, availability of
distribution channels and reimbursement status of newly approved pharmaceutical
products is highly uncertain. As a result, adequate third-party coverage may not
be available for us to maintain price levels sufficient for realization of an
appropriate return on our investment in product discovery and development.
In certain foreign markets, pricing or profitability of healthcare
products is subject to government control. In the U.S., there have been, and we
expect that there will continue to be, a number of federal and state proposals
to implement similar governmental control. In addition, an increasing emphasis
on managed care in the U.S. has and will continue to increase the pressure on
pharmaceutical pricing. While we cannot predict the adoption of any such
legislative or regulatory proposals or the effect such proposals or managed care
efforts may have on our business, the announcement of such proposals or efforts
could harm our ability to raise capital, and the adoption of such proposals or
efforts could harm our results of operations. Further, to the extent that such
proposals or efforts harm other pharmaceutical companies that are our
prospective collaborators, this may reduce our ability to establish corporate
collaborations. In addition, third-party payers are increasingly challenging the
prices charged for medical products and services. We do not know whether
consumers, third-party payers and others will consider any products that we or
our collaborators develop to be cost effective or that reimbursement to the
consumer will be available or will be sufficient to allow us or our
collaborators to sell such products on a competitive basis.
Security risks in electronic commerce or unfavorable Internet regulation may
deter future use of our products and services
We provide access to our databases and the opportunity to acquire our
knockout mice on the Internet. A fundamental requirement to conduct
Internet-based electronic commerce is the secure transmission of confidential
information over public networks. Advances in computer capabilities, new
discoveries in the field of cryptography or other developments may result in a
compromise or breach of the algorithms we use to protect proprietary information
in our OmniBank database. Anyone who is able to circumvent our security measures
could misappropriate our proprietary information, confidential customer
information or cause interruptions in our operations. We may be required to
incur significant costs to protect against security breaches or to alleviate
problems caused by breaches. Further, a well-publicized compromise of security
could deter people from using the Internet to conduct transactions that involve
transmitting confidential information.
Because of the growth in electronic commerce, Congress has held hearings
on whether to regulate providers of services and transactions in the electronic
commerce market, and federal or state authorities could enact laws, rules or
regulations affecting our business or operations. If enacted and applied to our
business, these laws, rules or regulations could render our business or
operations more costly, burdensome, less efficient or impracticable.
We use hazardous chemicals and radioactive and biological materials in our
business; any disputes relating to improper handling, storage or disposal of
these materials could be time consuming and costly
Our research and development processes involve the use of hazardous
materials, including chemicals and radioactive and biological materials. Our
operations also produce hazardous waste products. We cannot eliminate the risk
of accidental contamination or discharge or any resultant injury from these
materials. Federal, state and local laws and regulations govern the use,
manufacture, storage, handling and disposal of these materials. We could be
21
subject to civil damages in the event of an improper or unauthorized release of,
or exposure of individuals to, these hazardous materials. In addition, claimants
may sue us for injury or contamination that results from our use or the use by
third parties of these materials, and our liability may exceed our total assets.
Compliance with environmental laws and regulations may be expensive, and current
or future environmental regulations may impair our research, development or
production efforts.
We may be sued for product liability
We or our collaborators may be held liable if any product we or our
collaborators develop, or any product which is made with the use or
incorporation of any of our technologies, causes injury or is found otherwise
unsuitable during product testing, manufacturing, marketing or sale. Although we
currently have and intend to maintain product liability insurance, this
insurance may become prohibitively expensive, or may not fully cover our
potential liabilities. Inability to obtain sufficient insurance coverage at an
acceptable cost or otherwise to protect against potential product liability
claims could prevent or inhibit the commercialization of products developed by
us or our collaborators. If we are sued for any injury caused by our or our
collaborators' products, our liability could exceed our total assets.
Public perception of ethical and social issues may limit or discourage the use
of our technologies, which could reduce our revenues
Our success will depend in part upon our ability to develop products
discovered through our knockout mouse technologies. Governmental authorities
could, for ethical, social or other purposes, limit the use of genetic processes
or prohibit the practice of our knockout mouse technologies. Claims that
genetically engineered products are unsafe for consumption or pose a danger to
the environment may influence public perceptions. The subject of genetically
modified organisms, like knockout mice, has received negative publicity and
aroused public debate in some countries. Ethical and other concerns about our
technologies, particularly the use of genes from nature for commercial purposes
and the products resulting from this use, could adversely affect the market
acceptance of our technologies.
ITEM 2. PROPERTIES
We currently lease approximately 300,000 square feet of space for our
corporate offices and laboratories in buildings located in The Woodlands, Texas,
a suburb of Houston, Texas, and approximately 118,000 square feet of space for
offices and laboratories near Princeton, New Jersey.
Our facilities in The Woodlands, Texas include two state-of-the art animal
facilities totaling approximately 100,000 square feet. These facilities,
completed in 1999 and 2002, respectively, were custom designed for the
generation and analysis of knockout mice and are accredited by AAALAC
International (Association for Assessment and Accreditation of Laboratory Animal
Care). These facilities enable us to maintain in-house control over our entire
in vivo validation process, from the generation of ES cell clones through the
completion of in vivo analysis, in a specific pathogen free (SPF) environment.
We believe these facilities, which are among the largest and most sophisticated
of their kind in the world, provide us with significant strategic and
operational advantages relative to our competitors.
In October 2000, we entered into a synthetic lease agreement under which
the lessor purchased our existing laboratory and office buildings and animal
facility in The Woodlands, Texas and agreed to fund the construction of an
additional laboratory and office building and a second animal facility. The
synthetic lease agreement was subsequently expanded to include funding for the
construction of a central plant facility. Including the purchase price for our
existing facilities, the synthetic lease, as amended, provides for funding of up
to $55.0 million in property and improvements. The term of the agreement is six
years, which includes the construction period and a lease period. Lease payments
for the new facilities began upon completion of construction, which occurred at
the end of the first quarter of 2002. Lease payments are subject to fluctuation
based on LIBOR rates. Based on a year-end LIBOR rate of 1.4%, our total lease
payments for our existing facilities and the new facilities would be
approximately $0.9 million per year. At the end of the lease term, the lease may
be extended for one-year terms, up to seven additional terms, or we may purchase
the properties for a price equal to the $55.0 million funded under the synthetic
lease for property and improvements plus the amount of any accrued but unpaid
lease payments. If we elect not to renew the lease or purchase the properties,
we may arrange for the sale of the properties to a third party or surrender the
properties to the lessor. If we
22
elect to arrange for the sale of the properties or surrender the properties to
the lessor, we have guaranteed approximately 86% of the total original cost as
the residual fair value of the properties.
In May 2002, our subsidiary Lexicon Pharmaceuticals (New Jersey), Inc.
entered into a ten-year lease for a 76,000 square-foot facility in Hopewell, New
Jersey. The lease provides for an escalating yearly rent payment of $1.3 million
in the first year, $1.7 million in years two and three, $1.8 million in years
four to six, $2.0 million in years seven to nine and $2.1 million in year ten.
The lease also provides our subsidiary with the option in the second year of the
lease to borrow $2.0 million in tenant improvement funds from the landlord, at
which time rental payments due under the lease will increase as the tenant
improvement allowance is amortized over a ten-year period. We are the guarantor
of the obligations of our subsidiary under the lease. We also lease space in
East Windsor, New Jersey under an agreement that expires in January 2004. Our
aggregate rent expense under the New Jersey leases is approximately $2.5 million
per year.
We believe that our facilities are well-maintained, in good operating
condition and acceptable for our current operations.
ITEM 3. LEGAL PROCEEDINGS
We are not presently a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of the year ended
December 31, 2002.
23
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock has been quoted on The Nasdaq National Market under the
symbol "LEXG" since April 7, 2000. Prior to that time, there was no public
market for our common stock. The following table sets forth, for the periods
indicated, the range of the high and low closing prices per share for our common
stock as reported on The Nasdaq National Market.
HIGH LOW
--------- --------
2001
First Quarter................................................................... $ 15.00 $ 6.56
Second Quarter.................................................................. $ 12.50 $ 5.69
Third Quarter................................................................... $ 12.75 $ 5.87
Fourth Quarter.................................................................. $ 11.90 $ 7.25
2002
First Quarter................................................................... $ 12.04 $ 7.98
Second Quarter.................................................................. $ 9.00 $ 4.12
Third Quarter................................................................... $ 6.18 $ 3.51
Fourth Quarter.................................................................. $ 5.25 $ 3.35
As of March 10, 2003, there were approximately 253 holders of record of
our common stock.
We have never paid cash dividends on our common stock. We anticipate that
we will retain all of our future earnings, if any, for use in the expansion and
operation of our business and do not anticipate paying cash dividends in the
foreseeable future.
24
ITEM 6. SELECTED FINANCIAL DATA
The statement of operations data for the year ended December 31, 2002 and
the balance sheet data as of December 31, 2002 have been derived from our
audited financial statements included elsewhere in this annual report on Form
10-K that have been audited by Ernst & Young LLP, independent auditors. The
statements of operations data for each of the years ended December 31, 2001 and
2000, and the balance sheet data as of December 31, 2001, have been derived from
our audited financial statements included elsewhere in this annual report on
Form 10-K that have been audited by Arthur Andersen LLP, independent public
accountants who have ceased operations. The statements of operations data for
the years ended December 31, 1999 and 1998, and the balance sheet data as of
December 31, 2000, 1999 and 1998 have been derived from our audited financial
statements not included in this annual report on Form 10-K. Our historical
results are not necessarily indicative of results to be expected for any future
period. The data presented below have been derived from financial statements
that have been prepared in accordance with accounting principles generally
accepted in the United States and should be read with our financial statements,
including the notes, and with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included elsewhere in this annual report on
Form 10-K.
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------
2002 2001 2000 1999 1998
--------- --------- --------- -------- --------
STATEMENTS OF OPERATIONS DATA: (IN THOUSANDS, EXCEPT PER SHARE DATA)
Revenues .................................................. $ 35,200 $ 30,577 $ 14,459 $ 4,738 $ 2,242
Operating expenses:
Research and development, including stock-based
compensation of $5,155 in 2002, $5,539 in 2001
and $10,883 in 2000 .................................. 74,859 53,355 31,647 14,646 8,410
General and administrative, including stock-based
compensation of $5,113 in 2002, $5,231 in 2001
and $9,958 in 2000 ................................... 23,234 20,861 18,289 2,913 2,024
--------- --------- --------- -------- --------
Total operating expenses .................................. 98,093 74,216 49,936 17,559 10,434
--------- --------- --------- -------- --------
Loss from operations ...................................... (62,893) (43,639) (35,477) (12,821) (8,192)
Interest and other income, net ............................ 3,223 8,467 9,483 346 711
--------- --------- --------- -------- --------
Net loss .................................................. (59,670) (35,172) (25,994) (12,475) (7,481)
Accretion on redeemable convertible preferred stock ....... -- -- (134) (536) (357)
--------- --------- --------- -------- --------
Net loss attributable to common stockholders .............. $ (59,670) $ (35,172) $ (26,128) $(13,011) $ (7,838)
========= ========= ========= ======== ========
Net loss per common share, basic and diluted .............. $ (1.14) $ (0.70) $ (0.63) $ (0.53) $ (0.32)
========= ========= ========= ======== ========
Shares used in computing net loss per common share,
basic and diluted ...................................... 52,263 50,213 41,618 24,530 24,445
AS OF DECEMBER 31,
-------------------------------------------------------------------
2002 2001 2000 1999 1998
--------- --------- --------- -------- --------
BALANCE SHEET DATA: (IN THOUSANDS)
Cash, cash equivalents and investments, including
restricted cash and investments of $57,710 in 2002
$43,338 in 2001 and $13,879 in 2000 ..................... $ 123,096 $ 166,840 $ 202,680 $ 9,156 $ 19,422
Working capital ........................................... 111,833 147,663 194,801 2,021 18,102
Total assets .............................................. 201,772 239,990 220,693 22,295 28,516
Long-term debt, net of current portion .................... 4,000 -- 1,834 3,577 5,024
Redeemable convertible preferred stock .................... -- -- -- 30,050 29,515
Accumulated deficit ....................................... (149,745) (90,075) (54,903) (28,909) (16,434)
Stockholders' equity (deficit) ............................ 169,902 218,372 207,628 (21,937) (9,035)
25
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis should be read with "Selected
Financial Data" and our financial statements and notes included elsewhere in
this annual report on Form 10-K.
OVERVIEW
We are a biopharmaceutical company focused on the discovery of
breakthrough treatments for human disease. We are using gene knockout technology
to systematically discover the physiological functions of genes in living
mammals, or in vivo. We generate our gene function discoveries using knockout
mice - mice whose DNA has been altered to disrupt, or "knock out," the function
of the altered gene. Our patented gene trapping and gene targeting technologies
enable us to rapidly generate these knockout mice by altering the DNA of genes
in a special variety of mouse cells, called embryonic stem (ES) cells, which can
be cloned and used to generate mice with the altered gene. We employ an
integrated platform of advanced medical technologies to systematically discover
and validate which genes, when knocked out, result in a favorable medical
profile with pharmaceutical utility. We then pursue those genes and the proteins
they encode as potential targets for therapeutic intervention in our drug
discovery programs.
We employ internal resources and drug discovery alliances to discover
potential small molecule drugs, therapeutic antibodies and therapeutic proteins
for in vivo-validated drug targets that we consider to have high pharmaceutical
value. We use our own sophisticated libraries of drug-like chemical compounds
and an industrialized medicinal chemistry platform to identify small molecule
drug candidates for our in vivo-validated drug targets. We have established
alliances with Genentech, Inc. for the discovery of therapeutic proteins and
antibody targets; with Abgenix, Inc. for the discovery and development of
therapeutic antibodies based on our drug target discoveries; and with Incyte
Genomics, Inc. for the discovery and development of therapeutic proteins. In
addition, we have established collaborations and license agreements with many
other leading pharmaceutic