UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2003 |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission File Number: 000-21088
VICAL INCORPORATED
(Exact name of registrant as specified in its charter)
| Delaware (State or other jurisdiction of incorporation or organization) |
93-0948554 (I.R.S. Employer Identification No.) |
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10390 Pacific Center Court, San Diego, California (Address of principal executive offices) |
92121 (Zip code) |
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(858) 646-1100 (Registrant's telephone number, including area code) |
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(Former name, former address and former fiscal year, if changed since last report) |
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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 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 daysYes ý No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes ý No o
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
Total shares of common stock outstanding at August 5, 2003 20,091,344
VICAL INCORPORATED
FORM 10-Q
TABLE OF CONTENTS
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PAGE NO. |
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| COVER PAGE | 1 | |||
TABLE OF CONTENTS |
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PART I. FINANCIAL INFORMATION |
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ITEM 1. |
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| Financial Statements | ||||
| Balance Sheets as of June 30, 2003, and December 31, 2002 | 3 | |||
| Statements of Operations for the Three-Month and Six-Month Periods Ended June 30, 2003 and 2002 | 4 | |||
| Statements of Cash Flows for the Six-Month Periods Ended June 30, 2003 and 2002 | 5 | |||
| Notes to Financial Statements | 6 | |||
| ITEM 2. | ||||
| Management's Discussion and Analysis of Financial Condition and Results of Operations | 13 | |||
| ITEM 3. | ||||
| Quantitative and Qualitative Disclosures About Market Risk | 31 | |||
| ITEM 4. | ||||
| Controls and Procedures | 31 | |||
PART II. OTHER INFORMATION |
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ITEM 1. |
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| Legal Proceedings | 32 | |||
| ITEM 4. | ||||
| Submission of Matters to a Vote of Security Holders | 33 | |||
| ITEM 6. | ||||
| Exhibits and Reports on Form 8-K | 33 | |||
SIGNATURES |
34 |
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VICAL INCORPORATED
BALANCE SHEETS
(Unaudited)
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June 30, 2003 |
December 31, 2002 |
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|---|---|---|---|---|---|---|---|---|---|
| ASSETS | |||||||||
| Current Assets: | |||||||||
| Cash and cash equivalents | $ | 13,386,102 | $ | 32,608,954 | |||||
| Marketable securitiesavailable-for-sale | 82,418,566 | 76,606,286 | |||||||
| Marketable securityrestricted | 2,355,700 | 2,298,240 | |||||||
| Receivables and other | 5,485,606 | 5,893,491 | |||||||
| Total current assets | 103,645,974 | 117,406,971 | |||||||
| Investment | | 800,000 | |||||||
| Property and Equipment: | |||||||||
| Equipment | 16,574,747 | 10,180,279 | |||||||
| Leasehold improvements | 5,839,812 | 4,687,877 | |||||||
| 22,414,559 | 14,868,156 | ||||||||
| Lessaccumulated depreciation and amortization | (10,600,980 | ) | (9,925,642 | ) | |||||
| 11,813,579 | 4,942,514 | ||||||||
| Intangible Assets, net | 5,906,685 | 5,642,372 | |||||||
| Other Assets | 694,933 | 634,091 | |||||||
| $ | 122,061,171 | $ | 129,425,948 | ||||||
| LIABILITIES AND STOCKHOLDERS' EQUITY | |||||||||
| Current Liabilities: | |||||||||
| Accounts payable and accrued expenses | $ | 7,459,851 | $ | 7,369,546 | |||||
| Current portion of capital lease obligations | 3,122,853 | 1,267,974 | |||||||
| Current portion of notes payable | 490,477 | 633,333 | |||||||
| Current portion of deferred revenue | 2,614,909 | 1,528,409 | |||||||
| Total current liabilities | 13,688,090 | 10,799,262 | |||||||
| Long-Term Obligations: | |||||||||
| Long-term obligations under capital leases | 6,297,107 | 1,976,920 | |||||||
| Notes payable | 154,762 | 340,476 | |||||||
| Deferred revenue | 403,861 | 949,315 | |||||||
| Deferred lease credits | 1,288,669 | 1,052,726 | |||||||
| Total long-term obligations | 8,144,399 | 4,319,437 | |||||||
| Commitments and Contingencies | |||||||||
Stockholders' Equity: |
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| Preferred stock, $0.01 par value5,000,000 shares authorizednone outstanding | | | |||||||
| Common stock, $0.01 par value40,000,000 shares authorized20,091,344 shares issued and outstanding at June 30, 2003, and December 31, 2002 | 200,913 | 200,913 | |||||||
| Additional paid-in capital | 203,589,974 | 203,554,007 | |||||||
| Accumulated other comprehensive income | 719,557 | 887,068 | |||||||
| Accumulated deficit | (104,281,762 | ) | (90,334,739 | ) | |||||
| Total stockholders' equity | 100,228,682 | 114,307,249 | |||||||
| $ | 122,061,171 | $ | 129,425,948 | ||||||
See accompanying notes to financial statements.
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VICAL INCORPORATED
STATEMENTS OF OPERATIONS
(Unaudited)
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Three months ended June 30, |
Six months ended June 30, |
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2003 |
2002 |
2003 |
2002 |
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| Revenues: | ||||||||||||||
| License/royalty revenue | $ | 511,520 | $ | 2,078,859 | $ | 1,007,502 | $ | 3,112,091 | ||||||
| Contract revenue | 89,672 | 368,846 | 502,024 | 846,961 | ||||||||||
| 601,192 | 2,447,705 | 1,509,526 | 3,959,052 | |||||||||||
| Operating expenses: | ||||||||||||||
| Research and development | 6,318,061 | 6,368,518 | 12,901,451 | 12,368,150 | ||||||||||
| General and administrative | 1,750,520 | 2,051,292 | 3,290,883 | 3,771,472 | ||||||||||
| Write-down of investment | | | 482,217 | | ||||||||||
| 8,068,581 | 8,419,810 | 16,674,551 | 16,139,622 | |||||||||||
| Loss from operations | (7,467,389 | ) | (5,972,105 | ) | (15,165,025 | ) | (12,180,570 | ) | ||||||
Other income (expense): |
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| Investment income | 615,530 | 1,021,495 | 1,359,270 | 2,076,283 | ||||||||||
| Interest expense | (70,267 | ) | (68,672 | ) | (141,268 | ) | (138,644 | ) | ||||||
| Net loss | $ | (6,922,126 | ) | $ | (5,019,282 | ) | $ | (13,947,023 | ) | $ | (10,242,931 | ) | ||
| Net loss per common share (basic and dilutedNote 3) | $ | (0.34 | ) | $ | (0.25 | ) | $ | (0.69 | ) | $ | (0.51 | ) | ||
| Weighted average shares used in computing net loss per common share (Note 3) | 20,091,344 | 20,077,333 | 20,091,344 | 20,070,046 | ||||||||||
See accompanying notes to financial statements.
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VICAL INCORPORATED
STATEMENTS OF CASH FLOWS
(Unaudited)
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Six months ended June 30, |
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2003 |
2002 |
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| OPERATING ACTIVITIES: | |||||||||||
| Net loss | $ | (13,947,023 | ) | $ | (10,242,931 | ) | |||||
| Adjustments to reconcile net loss to net cash used in operating activities: | |||||||||||
| Depreciation and amortization | 1,774,166 | 1,307,672 | |||||||||
| Write-down of investment | 482,217 | | |||||||||
| Loss on sublease | 78,402 | | |||||||||
| Compensation expense related to grant of stock options | 35,967 | 26,629 | |||||||||
| Deferred lease credits | 235,943 | | |||||||||
| Change in operating assets and liabilities: | |||||||||||
| Receivables and other | 407,885 | 163,746 | |||||||||
| Other assets | (60,842 | ) | (327,070 | ) | |||||||
| Accounts payable and accrued expenses | 11,903 | 574,801 | |||||||||
| Deferred revenue | 541,046 | (1,093,272 | ) | ||||||||
| Net cash used in operating activities | (10,440,336 | ) | (9,590,425 | ) | |||||||
| INVESTING ACTIVITIES: | |||||||||||
| Sales of marketable securities | 67,944,976 | 33,296,399 | |||||||||
| Purchases of marketable securities | (73,664,445 | ) | (51,609,488 | ) | |||||||
| Capital expenditures | (1,377,934 | ) | (105,282 | ) | |||||||
| Licensed technology expenditures | (80,000 | ) | | ||||||||
| Patent expenditures | (473,177 | ) | (216,297 | ) | |||||||
| Net cash used in investing activities | (7,650,580 | ) | (18,634,668 | ) | |||||||
| FINANCING ACTIVITIES: | |||||||||||
| Issuance of common stock, net | | 7,200 | |||||||||
| Payments on notes payable | (328,570 | ) | (328,571 | ) | |||||||
| Principal payments under capital lease obligations | (803,366 | ) | (444,385 | ) | |||||||
| Net cash provided from (used in) financing activities | (1,131,936 | ) | (765,756 | ) | |||||||
| Net decrease in cash and cash equivalents | (19,222,852 | ) | (28,990,849 | ) | |||||||
Cash and cash equivalents at beginning of period |
32,608,954 |
43,736,068 |
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| Cash and cash equivalents at end of period | $ | 13,386,102 | $ | 14,745,219 | |||||||
| Interest paid | $ | 156,575 | $ | 140,251 | |||||||
| Supplemental Disclosure of Non-Cash Investing and Financing Activities: | |||||||||||
| Investment accounted for on the cost method, subsequently reclassified to marketable securities available-for-sale, at quoted market value | $ | 317,783 | $ | | |||||||
| Equipment acquired under capital lease financing | $ | 6,978,432 | $ | 1,092,365 | |||||||
See accompanying notes to financial statements.
5
VICAL INCORPORATED
NOTES TO FINANCIAL STATEMENTS
June 30, 2003
(Unaudited)
1. ORGANIZATION AND BASIS OF PRESENTATION
Organization
Vical Incorporated, or the Company, was incorporated in April 1987 and has devoted substantially all of its resources since that time to its research and development programs. The Company researches and develops potential biopharmaceutical products based on its patented DNA delivery technologies for the prevention and treatment of serious or life-threatening diseases.
Basis of Presentation
The information contained herein has been prepared in accordance with instructions for Form 10-Q. The information at June 30, 2003, and for the three-month and six-month periods ended June 30, 2003 and 2002, is unaudited. In the opinion of management, the information reflects all adjustments necessary to present fairly the Company's financial position and results of operations for the interim periods presented. All such adjustments are of a normal recurring nature. Interim results are not necessarily indicative of results for a full year. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. These financial statements should be read in conjunction with the Company's audited financial statements for the year ended December 31, 2002, included in its Form 10-K filed with the Securities and Exchange Commission and the Company's unaudited financial statements for the three-month period ended March 31, 2003, included in its Form 10-Q filed with the Securities and Exchange Commission.
2. ACCOUNTING FOR STOCK OPTIONS
The Company accounts for stock options issued to its employees and non-employee directors using the intrinsic value method. Under this method, no compensation expense is recorded for the fair value of options issued to employees and non-employee directors. The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards, or SFAS, No. 123, "Accounting for Stock Based Compensation," as amended by SFAS No. 148. Had compensation cost for the Company's stock option plans been determined consistent with the provisions of SFAS No. 123, the
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Company's net loss and net loss per common share would have increased to the pro forma amounts indicated below:
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Three Months Ended June 30, |
Six Months Ended June 30, |
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2003 |
2002 |
2003 |
2002 |
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| Net loss, as reported | $ | (6,922,126 | ) | $ | (5,019,282 | ) | $ | (13,947,023 | ) | $ | (10,242,931 | ) | |
| Add stock-based compensation expense included in reported net loss | 47,100 | (3,443 | ) | 35,967 | 26,629 | ||||||||
| Less stock-based compensation expense determined under fair value based method for all awards | (910,760 | ) | (1,629,409 | ) | (1,914,422 | ) | (3,161,283 | ) | |||||
| Pro forma net loss | $ | (7,785,786 | ) | $ | (6,652,134 | ) | $ | (15,825,478 | ) | $ | (13,377,585 | ) | |
| Net loss per common share (basic and diluted), as reported | $ | (0.34 | ) | $ | (0.25 | ) | $ | (0.69 | ) | $ | (0.51 | ) | |
Pro forma net loss per common share (basic and diluted) |
$ |
(0.39 |
) |
$ |
(0.33 |
) |
$ |
(0.79 |
) |
$ |
(0.67 |
) |
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The fair value of each option grant was estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions used for grants: risk free interest rates of 2.51% (2003) and 4.11% (2002); and expected volatility of 81% (2003) and 82% (2002). An expected option life of four years and a dividend rate of zero are assumed for the periods presented.
3. NET LOSS PER SHARE
Net loss per share (basic and diluted) for the three-month and six-month periods ended June 30, 2003 and 2002, has been computed using the weighted average number of common shares outstanding during the respective periods. The weighted average number of shares used to compute diluted loss per share excludes any assumed exercise of stock options, as the effect would be antidilutive. The weighted average number of shares so excluded was 2,730,360 and 2,789,757 for the three-month and six-month periods ended June 30, 2003, respectively. The weighted average number of shares so excluded was 2,919,021 and 2,801,066 for the three-month and six-month periods ended June 30, 2002, respectively. Options outstanding were 3,486,984 and 2,988,554 at average exercise prices of $11.16 and $14.51 at June 30, 2003 and 2002, respectively.
4. COMPREHENSIVE LOSS
Comprehensive loss consists of net loss and other comprehensive income. Accumulated other comprehensive income represents net unrealized gains on marketable securities. For the three-month and six-month periods ended June 30, 2002, marketable securities consisted of investments in debt instruments of financial institutions and corporations with strong credit ratings, and in U.S. government obligations. Beginning March 31, 2003, marketable securities also included the Company's investment in common stock of Corautus Genetics Inc., or Corautus. See also Note 5 below. For the three-month periods ended June 30, 2003 and 2002, other comprehensive income was $0.1 million and other comprehensive loss was $0.6 million, respectively, and total comprehensive losses were $6.8 million and $4.4 million, respectively. For the six-month periods ended June 30, 2003 and 2002, other comprehensive losses were $0.2 million and $0.1 million, respectively, and total comprehensive losses were $14.1 million and $10.3 million, respectively.
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5. INVESTMENT IN CORAUTUS GENETICS INC.
In February 2000, the Company received shares of preferred stock in Vascular Genetics Inc., or VGI, a privately held company, in exchange for a license to Vical technology. The shares were recorded as an investment on the balance sheet at an estimated fair value of $5.0 million. In September 2002, the Company wrote down the investment in VGI to $0.8 million based on objective values established as a result of a proposed merger between VGI and GenStar Therapeutics, a public company listed on the American Stock Exchange, or AMEX. The VGI shares continued to be reflected as an investment on the balance sheet at December 31, 2002.
In February 2003, the merger closed, resulting in the creation of a new entity, Corautus. Subsequent to the merger, the shares of VGI were exchanged for common stock of Corautus, which is listed on AMEX. These shares have a legend which restricts the number of Corautus shares the Company can sell over a period of time. The value of the Company's Corautus shares, as measured by the quoted price on AMEX on March 31, 2003, was $0.3 million. Based on this market information, on March 31, 2003, the Company wrote down its investment to $0.3 million and reclassified the investment as an available-for-sale security.
In July 2003, Corautus entered into a strategic alliance with Boston Scientific Corp., or BSC, to develop and commercialize a gene therapy to treat cardiovascular disease. BSC paid $9 million to Corautus in exchange for 10 percent of Corautus' equity on a fully diluted basis, paid a $1 million license fee, and committed to purchasing up to $15 million of convertible debt from Corautus based on achievement of certain milestones. BSC also holds a sublicense from Vical, under the Company's license from the University of Michigan, for catheter-based intravascular gene delivery technology that may be applicable under the Corautus strategic alliance.
6. LEASED FACILITY; LEASE LINE
The Company currently holds three leases at three sites for manufacturing facility, research laboratories and offices, which terminate in 2004. In March 2003, the Company relocated most of its employees to a new facility. In March 2003, the Company subleased to a third party all of the vacated research space, and in May 2003, the Company subleased a portion of the vacated office space. The Company adjusted its accrual for estimated loss on the leases after each sublease transaction.
The Company has a lease line with its primary lender to provide up to $10.8 million of financing through November 30, 2003. This lease line includes approximately $8.0 million of credit for tenant improvements and equipment for the new facility. At June 30, 2003, the Company had used $7.3 million of this lease line.
7. CONTINGENCIES
On July 29, 2003, the Wisconsin Alumni Research Foundation, or WARF, filed a complaint against us in the United States District Court for the Western District of Wisconsin, seeking a declaratory judgment regarding the meaning of certain payment provisions in our agreement with WARF, as well as fees related to our sublicense of certain inventions jointly owned by us and WARF. We intend to vigorously defend the suit and we may assert counterclaims seeking to recover excess royalties we previously paid under the agreement. Based on the information presently available to us, we do not believe WARF's claims are material to our business.
Our core DNA delivery technology was covered by a patent issued in Europe in 1998, which was subsequently opposed by seven companies under European patent procedures. This patent was revoked on formal grounds in October 2001 under an initial ruling by the Opposition Division of the European Patent Office, or EPO. The Opposition Division ruled that, as a result of amendments to the claims made during the process of obtaining the European patent and during the opposition process, the
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claims did not comply with European patent laws. In April 2002, we filed an appeal, which is still pending, seeking to overturn this initial ruling. We intend to vigorously defend our patent position in the European opposition proceedings. If we are not successful in the appeal and opposition proceedings, we may lose part or all of our proprietary protection on our product candidates in Europe. However, we may also use additional issued patents and patent applications that are pending in Europe to protect our core DNA delivery technology.
Our core DNA delivery technology is also covered by patent applications filed in Canada. A Canadian patent was issued and then withdrawn from issuance and returned to the examiner for further consideration after protests against the issuance of the patent were filed on behalf of an undisclosed party or parties on August 10 and December 5, 2001. We have responded to the protests and are awaiting further action by the Canadian Patent Office.
Our core DNA delivery technology is also covered by patent applications filed in Japan. On January 2, 2002, Japanese Patent 3250802 was published, and simultaneously opened for third party opposition. We received an Office Action from the Japanese Patent Office, or JPO, notifying us that the patent had been revoked by the examining panel at the JPO. Both formal and substantive grounds for the revocation were given. A rebuttal response to the revocation was filed with the JPO in a timely manner. The response is currently under consideration in the JPO. In addition to the Opposition proceedings, we received notice that Trial for Invalidation, or TFI, requests against Japanese Patent JP3250802 were filed in the JPO by two companies. We are currently reviewing the TFI requests. We intend to file responses to the TFI requests on or before the deadlines for each response.
We have licensed from the University of Michigan rights to various U.S. and international patents related to injection of DNA-based therapeutics into tumors that, for example, provide additional protection for Allovectin-7® and Leuvectin®. Included in this license is European Patent Number 0591385, which was granted, and simultaneously opened for opposition, on March 20, 2002. We have received notice from the EPO that one company filed an opposition on December 19, 2002, alleging both formal and substantive grounds for revocation, and that the opposition was declared admissible on February 13, 2003. We are currently preparing a rebuttal response to the opposition.
In the ordinary course of business, we may become a party to lawsuits involving various matters. We are unaware of any such lawsuits presently pending against us, except as noted above.
8. RELATED-PARTY TRANSACTIONS
R. Gordon Douglas, M.D., Chairman of the Board of Directors of the Company, is also the Director of Strategic Planning at the National Institutes of Health, Dale and Betty Bumpers Vaccine Research Center, or VRC. For the period from November 2000 to March 2003, VRC had contracted with Vical for approximately $1.8 million for the production of Human Immunodeficiency Virus, or HIV, clinical trial supplies. In April 2003, the Company and the VRC entered into a no-cost extension of the contract to June 2006. Cumulatively through June 30, 2003, the Company had recognized $1.8 million of revenue under this agreement, including $0.0 million and $0.2 million for the six-month periods ended June 30, 2003 and 2002, respectively.
Additionally, for varying periods which commenced in February 2001 and ended in February 2003, VRC contracted with Vical for approximately $0.9 million for providing regulatory support services. Cumulatively through June 30, 2003, the Company had recognized $0.7 million of revenue under this agreement, including $0.1 million and $0.2 million for the six-month periods ended June 30, 2003 and 2002, respectively.
In July 2002, the Company entered into an agreement with VRC to provide certain regulatory and manufacturing services to VRC related to the research and development of DNA vaccines against the Ebola virus. This agreement was modified in 2003 to include DNA vaccines against West Nile Virus.
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Cumulatively through June 30, 2003, the Company had recognized $1.1 million of revenues under this agreement, including approximately $0.1 million and $0.0 million for the six-month periods ended June 30, 2003 and 2002, respectively.
In May 2003, the Company announced a contract to manufacture bulk DNA vaccines for the VRC. In support of this contract, the VRC has agreed to finance the purchase of a 500-liter fermenter and related purification equipment in the Company's new manufacturing facility. Under this agreement, the Company is guaranteed minimum annual production orders beginning in 2004, subject to annual extension of the agreement. No revenue is expected to be recognized under this agreement in 2003.
Through June 30, 2003, Dr. Douglas was on the Board of Directors of the International AIDS Vaccine Initiative, or IAVI, a not-for-profit entity. Vijay B. Samant, President and CEO of the Company, serves on the Project Management Subcommittee of IAVI. In 2002, the Company signed an agreement with IAVI to provide clinical trial supplies. As of June 30, 2003, IAVI had issued purchase orders under this agreement totaling approximately $1.1 million. Revenue recognized under this agreement for the three-month and six-month periods ended June 30, 2003, was $0.0 and $0.2 million, respectively. For the three-month and six-month periods ended June 30, 2002, revenue recognized under this agreement was $0.2 million.
The above related-party transactions were approved by a majority or more of the disinterested members of the Company's Board of Directors.
9. STOCK INCENTIVE PLAN
The Company has a stock incentive plan, under which 5,200,000 shares of common stock, subject to adjustment as provided in the plan, and including a 500,000 share increase that was approved by the stockholders at the Company's 2003 Annual Meeting of Stockholders, are reserved for issuance to employees, non-employee directors and consultants of the Company.
10. SUBSEQUENT EVENTS
In July 2003, we were awarded a three-year, $5.7 million Phase II Small Business Innovation Research, or SBIR, grant from the U.S. National Institute of Allergy and Infectious Diseases, or NIAID, of the National Institutes of Health, or NIH. The grant will partially fund the development of our DNA vaccine against anthrax. Our continued development of the anthrax program is dependent on the continued availability of government funding.
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The statements incorporated by reference or contained in this report discuss our future expectations, contain projections of our results of operations or financial condition, and include other "forward-looking" information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Our actual results may differ materially from those expressed in forward-looking statements made or incorporated by reference in this report. Forward-looking statements that express our beliefs, plans, objectives or assumptions, or that describe future events or performance, may involve estimates, assumptions, risks and uncertainties. Therefore, our actual results and performance may differ materially from those expressed in the forward-looking statements. Forward-looking statements often, although not always, include words or phrases such as the following, or the negative of such words, or other comparable terminology:
You should not unduly rely on forward-looking statements contained or incorporated by reference in this report. Actual results or outcomes may differ significantly and materially from those predicted in our forward-looking statements due to the risks and uncertainties inherent in our business, including risks and uncertainties related to:
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You should read and interpret any forward-looking statements together with the following documents:
Any forward-looking statement speaks only as of the date on which that statement is made. We disclaim any duty to update any forward-looking statement to reflect events or circumstances that occur after the date on which such statement is made.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
We were incorporated in Delaware in 1987. We research and develop biopharmaceutical products based on our patented DNA delivery technologies for the prevention and treatment of serious or life-threatening diseases. In addition, we have gained access to enhancing technologies through licensing and collaborative agreements. We believe the following areas of research offer the greatest potential for our product development efforts:
For opportunities outside these areas, we plan to continue leveraging our patented technology through licensing and collaborations. In addition, we plan to use our expertise, infrastructure, and financial strength to explore in-licensing or acquisition opportunities.
Recent Events
Cytomegalovirus
In February 2003, we announced our first independent development program focused on infectious diseases, a DNA-based immunotherapeutic vaccine against cytomegalovirus, or CMV. Currently, there is no approved vaccine or even a late-stage vaccine development program for CMV. We began preclinical safety studies in animals on schedule and our goal is to begin Phase I clinical testing of the vaccine in human subjects by year-end 2003 for an initial indication for patients at high risk of serious complications from CMV infectionpatients undergoing hematopoietic cell transplants, including bone marrow transplants, or solid organ transplantationat three of the nation's leading transplant centers.
The Institute of Medicine, or IOM, of the National Academy of Sciences has estimated the cost of treating the consequences of CMV infection in the United States at more than $4 billion per year and placed a CMV vaccine in its first priority category on the basis of cost-effectiveness. Our initial focus on the transplantation indication should allow proof of concept that could then lead to the opportunity to develop a CMV vaccine for other high-risk groups such as immunocompromised individuals and women of reproductive age.
Our CMV immunotherapeutic vaccine program is based on:
The initial clinical development plan includes vaccination of both donors and recipients in bone marrow transplants.
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Anthrax
In March 2003, we announced our second independent infectious disease DNA vaccine development program, an anthrax DNA vaccine. Results with multiple formulations of the vaccine in mouse and rabbit immunogenicity and challenge models were presented at the American Society for Microbiology meeting, "Future Directions for Biodefense Research: Development of Countermeasures," in March 2003, and have been encouraging. We have now completed preclinical safety studies in rabbits, in which the rabbits achieved similar levels of immune response to those achieved in our initial rabbit study. We remain on track to begin a safety and immunogenicity study in human subjects in the second half of 2003.
We believe that we can develop a safe and effective DNA vaccine for anthrax that will validate the potential advantages of our proprietary vaccine technologies while addressing a pressing public need, because:
We believe that the U.S. Food and Drug Administration, or FDA, would review this vaccine based on its "Animal Rule," which allows demonstration of effectiveness in two animal species in addition to safety in humans, and that development costs using this regulatory pathway should be moderate compared with conventional clinical trials.
In July 2003, we were awarded a three-year, $5.7 million Phase II Small Business Innovation Research, or SBIR, grant from the U.S. National Institute of Allergy and Infectious Diseases, or NIAID, of the National Institutes of Health, or NIH. The grant will partially fund the development of our DNA vaccine against anthrax. Our continued development of the anthrax program is dependent on the continued availability of government funding.
Allovectin-7®
Allovectin-7® is a DNA/lipid complex containing the DNA sequences encoding HLA-B7 and b2 microglobulin, which together form a Major Histocompatibility Complex, or MHC, Class I antigen. This type of antigen can trigger a potent immune response against foreign tissues, such as that seen in organ transplant rejections. Allovectin-7® is injected directly into tumors, and is designed to make malignant cells more visible to the immune system. The treatment may trigger an immune response against tumor cells, both locally and systemically, by enabling the immune system to recognize other features of tumor cells.
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Low-Dose Allovectin-7®. In May 1998 we began two concurrent registration trials: a Phase III clinical trial and a Phase II clinical trial, with low-dose, 10 micrograms per injection, Allovectin-7® for patients with late-stage metastatic melanoma. Following analysis of unadjudicated data from the Phase II registration trial, as previously reported, we decided not to pursue marketing approval based solely on these data. Adjudication refers to the process by which efficacy results reported by trial investigators are independently reviewed to determine whether they meet protocol-specific endpoints. We announced in September 2002 that an initial review of investigator-determined efficacy by an external consultant indicated that our Phase III registration trial would not meet statistical significance of objective response rate, time to disease progression, or survival.
One strategy to increase the response rate to Allovectin-7® is to increase the dose of Allovectin-7®. We implemented this strategy in our high-dose Allovectin-7® trial, described below.
High-Dose Allovectin-7®. In February 2001, we initiated a Phase II clinical trial evaluating a higher dose of 2,000 micrograms, or 2 mg., a 200-fold increase compared with the two prior registration trials. The trial also allows for the injection of a total dose of 2 mg. into as many as five tumor lesions. The higher dose, with or without multiple tumor injections, may provide a relevant increase in objective response rate, duration of response, and/or survival.
We presented unaudited data from interim analyses performed in early March 2003 with respect to the first 91 of 127 patients ultimately enrolled in the high-dose Allovectin-7® portion of the trial at the May 2003 American Society of Clinical Oncology, or ASCO, meeting, including objective response rate, duration of response, safety, and preliminary survival, as follows:
At the time of the presentation, only one of the twelve responders had experienced progressive disease; therefore, the estimated median duration of response of 3.5 months was expected to increase as the data matured.
Subsequent to the ASCO meeting, trial enrollment was completed, reflecting strong interest by patients and physicians. Based on unaudited data on the same 91 patients collected in early July 2003, estimated median duration of response increased to at least 6.4 months, with 7 of the 12 responders still progression-free. All twelve of the responders were still alive.
Data from this and our low-dose Phase II trial suggest that Allovectin-7® may offer a well-tolerated alternative for patients with stage III or IV melanoma, who have few other options. We intend to review the data with the FDA and evaluate the development and commercialization opportunities for Allovectin-7®, either independently or through partnerships.
Manufacturing Contracts with Vaccine Research Center
We continue to manufacture Ebola DNA vaccines for the VRC in our existing manufacturing facility under a contract awarded in July 2002. In July 2003, we announced an order for clinical-grade
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supplies of an investigational DNA vaccine against the West Nile Virus, for development planned by the VRC. In May 2003, we announced a separate contract to manufacture bulk DNA vaccines for the Vaccine Research Center, or VRC, part of the NIAID of the NIH. In support of this contract, the VRC has agreed to finance the purchase of a 500-liter fermenter and related purification equipment in our new manufacturing facility. Under this agreement, we are guaranteed minimum annual production orders beginning in 2004, subject to annual extension of the agreement. These contracts are issued and managed on behalf of the VRC by SAIC Frederick, Inc. under the umbrella of a federally funded prime contract with NIH.
Other Recent Events
In the last several months, we announced the issuance of five European patents and one U.S. patent related to our core DNA delivery technology, enhancements of that technology, or applications of that technology.
European Patent EP0737750, entitled "Expression of Exogenous Polynucleotide Sequences in a Vertebrate," is part of a family of patents based on our discovery that tissues can take up polynucleotides, such as DNA or RNA, without the use of viral delivery vehicles, and subsequently express the proteins encoded by the polynucleotides. The new patent claims medicinal compositions which contain cationic lipids and polynucleotides and which elicit an immune response against the proteins encoded by the polynucleotides. The new patent covers a range of applications of our core DNA deli