Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORT
PURSUANT TO SECTIONS 13 OR 15 (d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
(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: 0-24249
PDI, INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 22-2919486
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
10 Mountainview Road
Upper Saddle River, NJ 07458-1937
(Address of Principal Executive Offices)
Registrant's telephone number, including area code: (201) 258-8450
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to section 12(g) of the Act:
Common Stock, $.01 par value
(Title of class)
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. |X|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 in the Act.) Yes |X| No |_|
The aggregate market value of the voting stock held by non-affiliates of
the registrant as of March 7, 2003 was approximately $89,764,902.
The number of shares outstanding of the registrant's common stock, $.01
par value, as of March 7, 2003 was 14,210,205 shares.
DOCUMENTS INCORPORATED BY REFERENCE
NONE
PDI, INC.
Form 10-K Annual Report
TABLE OF CONTENTS
Page
----
PART 1.........................................................................................................3
Item 1. Business...........................................................................................3
Item 2. Properties........................................................................................19
Item 3. Legal Proceedings.................................................................................20
Item 4. Submission of Matters to a Vote of Security Holders...............................................21
PART II.......................................................................................................22
Item 5. Market for our Common Equity and Related Stockholder Matters......................................22
Item 6. Selected Financial Data...........................................................................22
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.............24
Item 7A. Quantitative and Qualitative Disclosures about Market Risk........................................40
Item 8. Financial Statements and Supplementary Data.......................................................40
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures.............40
PART III......................................................................................................41
Item 10. Directors and Executive Officers..................................................................41
Item 11. Executive Compensation............................................................................44
Item 12. Security Ownership of Certain Beneficial Owners and Management....................................48
Item 13. Certain Relationships and Related Transactions....................................................49
Item 14. Controls and Procedures...........................................................................49
PART IV.......................................................................................................50
Item 15. Exhibits and Financial Statement Schedules........................................................50
FORWARD LOOKING STATEMENT INFORMATION
Various statements made in this Annual Report on Form 10-K are
"forward-looking statements" (within the meaning of the Private Securities
Litigation Reform Act of 1995) regarding the plans and objectives of management
for future operations. These statements involve known and unknown risks,
uncertainties and other factors that may cause our actual results, performance
or achievements to be materially different from any future results, performance
or achievements expressed or implied by these forward-looking statements. The
forward-looking statements included in this report are based on current
expectations that involve numerous risks and uncertainties. Our plans and
objectives are based, in part, on assumptions involving judgments about, among
other things, future economic, competitive and market conditions and future
business decisions, all of which are difficult or impossible to predict
accurately and many of which are beyond our control. Although we believe that
our assumptions underlying the forward-looking statements are reasonable, any of
these assumptions could prove inaccurate and, therefore, we cannot assure you
that the forward-looking statements included in this report will prove to be
accurate. In light of the significant uncertainties inherent in the
forward-looking statements included in this report, the inclusion of these
statements should not be interpreted by anyone that we can achieve our
objectives or implement our plans. Factors that could cause actual results to
differ materially from those expressed or implied by forward-looking statements
include, but are not limited to, the factors set forth under the headings
"Business," "Risk Factors," and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
2
PART 1
ITEM 1. BUSINESS
Summary of Business
We are a commercial sales and marketing company serving the
biopharmaceutical and medical devices and diagnostics (MD&D) industries.
We create and execute sales and marketing campaigns intended to improve
the profitability of pharmaceutical or MD&D products. We do this by partnering
with companies who own the intellectual property rights to these products and
recognize our ability to commercialize these products and maximize their sales
performance. We have a variety of agreement types that we enter into with our
partner companies, from fee for service arrangements to equity investments in a
product or company. In these agreements, we can leverage our experience in:
o sales,
o brand management and product marketing,
o marketing research,
o medical education,
o medical affairs, and
o managed markets and trade relations
to help meet strategic objectives and provide incremental value for product
sales.
We have assembled our commercial capabilities through acquisition and
internal expansion and they can be applied on a stand-alone or integrated basis.
This flexibility enables us to provide a wide range of marketing and promotional
options that can benefit many different products throughout the various stages
of their life cycles. Our capabilities enable us to take total sales, marketing
and distribution responsibility for pharmaceutical and MD&D brands.
It is important for us to form strong partnerships with companies within
the biopharmaceutical and MD&D industries. We focus on operational excellence
that delivers the desired product sales results. We also assign an account
executive to each partner to ensure the partnership is working to the mutual
benefit of both parties.
Reporting Segments and Operating Groups
We operate under three reporting segments: PDI Sales and Marketing
Services Group, PDI Pharmaceutical Products Group and PDI Medical Devices and
Diagnostics Group.
PDI Sales and Marketing Services Group
We are among the leaders in the pharmaceutical sales and marketing
services industry in the U.S. We have designed and implemented programs for many
of the major pharmaceutical companies serving the U.S. market. Our clients
include AstraZeneca, Novartis, GlaxoSmithKline, Aventis, Pfizer and Pharmacia.
We have strong relationships built on consistent performance and program
results.
Our clients engage us on a contractual basis to design and implement
product promotion programs for both prescription and over-the-counter products.
The programs in the PDI Sales and Marketing Services Group (SMSG) are designed
to increase product profitability and are tailored to meet the specific needs of
the product and the client. These services are predominantly provided on a fee
for service basis. Occasionally, there is an opportunity for us to earn a bonus
incentive if we meet or exceed predetermined performance targets.
Contract Sales
Product detailing involves a representative meeting face-to-face with
targeted prescribers and other healthcare
3
decision makers to provide a technical review of the product being promoted.
Contract sales teams can be deployed in one of two ways, either dedicated or
shared.
A dedicated contract sales team works exclusively on behalf of one client.
The team members do not represent products of other manufacturers and often
carry the business cards of the client. The sales team is customized to meet the
specifications of our client with respect to the representative profile,
physician targeting, product training, incentive compensation plans, integration
with clients' in-house sales forces, the call reporting platform and data
integration. Without incurring the cost of additional personnel, the client gets
a high quality, industry-standard sales team comparable to its internal sales
force.
We offer shared sales teams in order to make a face-to-face selling
resource available for those clients that want an alternative to a dedicated
team. The PDI Shared Sales teams (formerly our ProtoCall unit) are leading
providers of these detailing programs in the U.S. Each team sells multiple
brands from different pharmaceutical manufacturers. Because costs are shared
among various companies, these programs may be less expensive than programs
involving a dedicated sales force. With a shared sales team, the client still
gets targeted coverage of their physician audience within the representatives'
geographic territories.
Marketing Research
Employing leading edge, often proprietary research methodologies, we
provide qualitative and quantitative marketing research to pharmaceutical
companies with respect to healthcare providers, patients and managed care
customers in the U.S. and globally. We offer a full range of pharmaceutical
marketing research services, which include studies to identify the most
impactful business strategy, profile, positioning, message, execution,
implementation and post implementation for a product. Correctly implemented, our
marketing research model improves the knowledge clients obtain about how
physicians and other healthcare professionals will react to products.
We utilize a systematic approach to pharmaceutical marketing research.
Recognizing that every marketing need, and therefore every marketing research
solution, is unique, we have developed our marketing model to help identify the
work that needs to be done to identify critical paths to marketing goals. At
each step of the marketing model we offer proven research techniques,
proprietary methodologies and custom study designs to address specific product
needs.
Medical Education and Communications
Our medical education and communications group provides medical education
and promotional communications to the biopharmaceutical and MD&D industries.
Using an expert-driven, customized approach, we provide our clients with
integrated advocacy development, accredited continuing medical education (CME),
promotions, publication services and interactive sales initiatives to generate
incremental value for products.
We create custom-designed programs focusing on optimizing the informed use
of our clients' products. Our services are executed through a customized,
integrated plan to be leveraged across the product's entire life cycle. We can
meet a wide range of objectives, including advocacy during pre-launch,
communicating disease state awareness, supporting a product launch, helping an
under-performing brand, fending off new competition or expanding market
leadership.
PDI Pharmaceutical Products Group
Our pharmaceutical products group's (PPG) goal is to source pharmaceutical
products in the U.S. through licensing, copromotion or acquisition arrangements.
We have the personnel, skills and resources needed to identify and
evaluate potential license, acquisition and copromotion opportunities. Our
evaluation includes assessing the market potential of the product opportunity
and weighing this against competitive products, the possibility of generic
entry, the resources needed to compete and the many other variables that exist
in product marketing.
4
Licensing, copromotion and acquisition arrangements contain a greater
level of risk when compared to fee for service agreements, however, there is
potential for generating greater revenue at higher margins with longer-term
visibility on revenue. PPG's arrangements may be longer in duration and
potentially less prone to sudden termination than fee for service agreements.
Our partner companies choose to work with us because we have the capabilities to
provide a complete commercial solution.
Licensing
Licensing entails taking total commercial responsibility for a product
while another company maintains ownership of the intellectual property and the
patent on the product. The company from which we license the product would
typically retain responsibility for manufacturing the product. In a licensing
arrangement, we may make upfront payments and/or royalty payments to our partner
company.
We conduct the sales, marketing and distribution functions for the product
and we record the product sales in this reporting segment. We are also
responsible for medical affairs, certain clinical and regulatory affairs as well
as managed care and trade relations. Examples of the licensing agreements that
we have entered into are described in the Contracts section of this report.
Copromotion
Copromotion arrangements, a frequently used strategy within the
biopharmaceutical and MD&D industries, occur when two companies agree to
mutually promote the same product. Each party contributes expenses and resources
toward the sales and marketing effort, with the financial risks and rewards
shared on a predetermined basis.
Typically, our partner company will manufacture and distribute the
product, and be responsible for regulatory, medical affairs as well as managed
care and trade relations. We may exercise significant control over the sales and
marketing strategy for the product. Examples of the copromotion agreements that
we have entered into are described in the Contracts section of this report.
Acquisition
To date we have not acquired any products; however, if we were to acquire
a product we would own the product outright and would most likely have total
commercial responsibility, inclusive of manufacturing, sales, marketing,
distribution, intellectual property defense and clinical and regulatory affairs.
Medical Devices and Diagnostics
Our MD&D group provides an array of services to the MD&D industry. We have
historically provided many of these sales and marketing activities to the
pharmaceutical industry. We believe that our current infrastructure,
supplemented by our addition of several individuals with extensive MD&D
experience, can be leveraged to take advantage of opportunities in this market.
In September 2001, we acquired InServe Support Solutions (InServe).
InServe is a leading nationwide supplier of supplemental field-staffing programs
for the MD&D industry. InServe employs nurses, medical technologists, and other
clinicians who train healthcare practitioners and provide hands-on clinical
education and after sales support to maximize product utilization and customer
satisfaction. InServe's clients include many of the leading MD&D companies,
including Becton Dickinson, Boston Scientific and Johnson & Johnson.
The InServe acquisition helped establish our contract sales business
within the MD&D market. We took our knowledge from years of providing sales
forces to the pharmaceutical industry and applied it to the MD&D business. As a
result, we now have contract sales as one of the services that we market to the
MD&D industry, to assist a company in improving its product sales.
A major focus of the MD&D group is product licensing and acquisition. We
believe that this market is well
5
suited for strategic alliances and partnerships with companies looking to
maximize the commercial value of their products. This strategy led us to our
first commercial MD&D partnership. In October 2002, we partnered with Xylos
Corporation (Xylos) for the exclusive U.S. commercialization rights to the Xylos
XCell(TM) Cellulose Wound Dressing (XCell) wound care products, by entering into
an agreement pursuant to which we are the exclusive commercialization partner
for the sales, marketing and distribution of the product line in the U.S.
History
We commenced operations as a contract sales organization in 1987. From
1990 to 1995 contract sales became accepted in the pharmaceutical industry as a
tactical solution for a lower cost, high quality sales team. The representatives
were principally flex-time. We were paid per call and there was very little risk
sharing.
The expansion of pharmaceutical field forces in general and the acceptance
of contract sales by the industry were two main drivers that fueled our high
growth from 1996 to 2000. Our representatives were principally full-time
employees and we provided a compensation package that was competitive with those
of the major pharmaceutical companies in order to attract higher quality
personnel and become a better provider of contract sales services.
We completed our initial public offering in May 1998. In May of 1999, we
acquired TVG, Inc. (TVG) which gave us one of the leading marketing research
groups in the U.S. and a scientifically focused medical education capability.
The addition of TVG provided us with incremental growth potential as a result of
the additional capabilities available to support our service offerings.
In August 1999, we added a shared sales capability through the acquisition
of ProtoCall, now PDI Shared Sales. This addition provided us with a lower cost
product offering and increased business opportunities with existing and new
clients. This offering also supplemented our dedicated sales force capacity.
In September 2001, we acquired InServe which provides clinical sales
support to the MD&D industry. InServe employs nurses, medical technologists, and
other clinicians who train healthcare practitioners with respect to medical
equipment. InServe informs and supports the end users of medical equipment, with
the objective of increasing satisfaction and utilization of the equipment. The
client benefits by reducing the time its sales representatives spend for
training and service, increasing the time available for sales activity.
In June 2000, we established LifeCycle Ventures (LCV) to support our
agreements that require marketing and other commercial capabilities. Our initial
strategy, in response to the market dynamics at the time, was to identify
under-promoted brands within pharmaceutical companies' product portfolios and
put a focused promotional effort behind them, increasing product performance.
This was the case in October 2000, when we entered into a sales, marketing and
distribution agreement with GlaxoSmithKline (GSK) in support of Ceftin. The
Ceftin agreement enabled LCV to add capabilities that we did not then have, such
as distribution, medical affairs, regulatory and managed care and trade
relations.
The Ceftin agreement was terminated earlier than anticipated because of
the unexpected introduction of a generic equivalent into the market in February
2002. Notwithstanding this event, the Ceftin agreement successfully facilitated
our growth from a pure service provider to a commercial partner with expanded
capabilities and service offerings for the pharmaceutical industry.
During 2001 and 2002, we continued to identify other late stage
pharmaceutical products that could benefit from focused sales and marketing
efforts. Many companies had products within their portfolios that were
underpromoted and that could benefit from focused sales and marketing efforts.
As the dynamics within the industry changed, affected by mergers and
acquisitions, a slowdown in the approval of new products, and increased generic
availability of once large brands, the willingness of pharmaceutical companies
to relinquish commercial control of products decreased.
During this period, we entered into several financially beneficial
copromotion agreements, including with Novartis Pharmaceuticals Corporation
(Novartis). In contrast, our copromotion agreement with Eli Lilly and Company
(Eli Lilly) resulted in significant operating losses. However, copromotion
agreements remain a viable business
6
arrangement with pharmaceutical companies, but we have a narrower range of
parameters that must be met in order for us to consider an opportunity
favorably.
Our business development efforts are now focused on:
o products in late stage development, prior to final Food and Drug
Administration (FDA) approval; and
o opportunities within the sales and marketing services group.
We believe that there are opportunities for us:
o to partner with companies that lack the necessary infrastructure to
commercialize their brands; and
o to take over the promotion of products that are not getting the
level of sales and marketing support needed to maximize the return
to the brand owner.
Corporate Strategy
Our strategy is to source pharmaceutical and MD&D products into our
company that we can sell, market and commercialize. We do this by entering into
agreements with companies that own the right to the product(s) and require our
expertise in generating product sales. We are compensated either through a fee
for service or by sharing in the product sales we generate.
Contracts
Given the customized nature of our business, we utilize a variety of
contract structures.
Contracts within the sales and marketing services group are almost
exclusively fee for service. These contracts, for dedicated teams, shared teams,
and marketing research and medical education, contain specific activities that
we provide in return for a fee. They may contain operational benchmarks, such as
a minimum amount of activity or delivery within a specified amount of time.
These contracts can include incentive payments should our activities generate
results that meet or exceed predetermined performance targets.
The majority of our revenue in the sales and marketing services segment is
generated by contracts for dedicated sales teams. These contracts are generally
for terms of one to three years and may be renewed or extended. The majority of
these contracts, however, are terminable by the client for any reason upon 30 to
90 days' notice. These contracts typically, but not always, provide for
termination payments by the client upon termination without cause. While such
termination may result in the imposition of penalties on the client, these
penalties may not act as an adequate deterrent to the termination of any
contract. In addition, these penalties may not offset the revenue we could have
earned under the contract or the costs we may incur as a result of its
termination. The loss or termination of a large contract or the loss of multiple
contracts could adversely affect our future revenue and profitability. Contracts
may also be terminated for cause if we fail to meet stated performance
benchmarks.
Our market research and consulting and education and communications
contracts generally are for projects lasting from three to six months. The
contracts are terminable by the client and provide for termination payments in
the event they are terminated without cause. Termination payments include
payment for all work completed to date, plus the cost of any nonrefundable
commitments made on behalf of the client. Due to the typical size of these
contracts, it is unlikely the loss or termination of any individual contract
would materially adversely affect our financial condition or results of
operations.
The contracts within the pharmaceutical products group are generally
performance based. Certain licensing and acquisition contracts may require
sales, marketing and distribution of product. Typically we provide and finance a
portion, if not all, of the commercial activities in support of a brand in
return for a percentage of product sales. An important performance parameter is
normally the level of sales or prescriptions attained by the product during the
period of our marketing or promotional responsibility, and in some cases, for
periods after our promotional activities have ended.
In the fourth quarter of 2000, we entered into a performance based
contract with GSK. Our agreement with GSK was in support of Ceftin and was an
exclusive sales, marketing and distribution contract. The agreement had a
five-year term, but was cancelable by either party without cause on 120 days'
notice. The agreement was terminated
7
by mutual consent, effective February 28, 2002, due to the unexpected entry of a
competitive generic product.
In May 2001, we entered into a copromotion agreement with Novartis where
we secured the U.S. sales, marketing and promotion rights for Lotensin(R)
(benazepril) and Lotensin HCT(R) (collectively Lotensin), that runs through
December 31, 2003. Under this agreement, we provide promotion, sales, marketing
and brand management for Lotensin, an ACE inhibitor. In exchange, we are
entitled to receive a revenue split based on certain total prescription
objectives above specified contractual baselines. Also under this agreement with
Novartis, we promote Lotrel(R), a combination of the ACE inhibitor benazepril
and the calcium channel blocker amlodipine. In May 2002, Diovan(R) (valsartan)
and Diovan HCT (collectively Diovan) were added to the agreement. Diovan, an
angiotensin II receptor blocker (ARB), is one of Novartis' most successful
products. Under the Lotrel and Diovan portion of the agreement, we are
compensated on a fee for service basis with the potential for incentive payments
based upon achieving certain prescription and promotional sales objectives. The
agreement to sell and market Lotensin, and to promote Lotrel and Diovan, runs
through December 31, 2003. Novartis has retained certain regulatory
responsibilities for Lotensin, Lotrel and Diovan as well as ownership of all
intellectual property. Additionally, Novartis will continue to manufacture and
distribute the products, set pricing and provide all managed care and trade
activities. In 2003, the Lotrel and Diovan contract will be classified
differently since the nature of the contract has changed from a pure performance
based contract where we were not assured of recouping our expenses, to a more
traditional fee for service contract where we have greater certainty of
recouping our expenses with the additional potential for incentives at year end
based on achieving certain performance criteria.
In October 2001, we entered into an agreement with Eli Lilly to copromote
Evista(R) in the U.S. Under this agreement, we were entitled to be compensated
based upon net sales achieved above a predetermined level. In the event these
predetermined net sales levels were not achieved, we would not receive any
revenue to offset expenses incurred. During 2002, it became apparent that the
net sales levels likely to be achieved would not be sufficient to recoup our
expenses. In November 2002, we agreed with Eli Lilly to terminate the Evista
copromotion agreement effective December 31, 2002.
In October 2002, we entered into an agreement with Xylos for the exclusive
U.S. commercialization rights to the XCell wound care products, by entering into
an agreement pursuant to which we are the exclusive commercialization partner
for the sales, marketing and distribution of the product line in the U.S.
On December 31, 2002, we entered into an exclusive licensing agreement
with Cellegy Pharmaceuticals, Inc. (Cellegy) for the North American rights to
its testosterone gel product. Cellegy submitted a New Drug Application (NDA) for
the hypogonadism indication in June 2002, based on positive results achieved in
a Phase III clinical trial. The U.S. Food and Drug Administration (FDA) has
accepted the application for review, and FDA approval for the commercialization
of the product is pending. The 10-month Prescription Drug User Fee Act (PDUFA)
date for the product is April 5, 2003, the first potential approval date for the
product, though there is no certainty that it will be approved at that time.
Under the terms of the agreement, which is in effect for the commercial life of
the product, upon execution of the agreement we paid Cellegy a $15.0 million
initial licensing fee. As the nonrefundable payment was made prior to FDA
approval and there is no alternative future use, the $15.0 million was expensed
when incurred. The amount has been recorded in other selling, general, and
administrative expenses in the consolidated statement of operations. We will be
required to pay Cellegy an additional $10.0 million after the product has all
FDA approvals required to promote, sell and distribute the product in the U.S.
This payment will be recorded as an intangible asset and amortized over the
estimated commercial life of the product. Royalty payments to Cellegy over the
term of the commercial life of the product will range from 20% to 30% of net
sales. The agreement is in effect for the commercial life of the product. As
discussed in the Legal Proceedings section of this report, in January 2003, a
lawsuit was filed against us seeking to enjoin our performance under this
agreement.
Our contracts typically contain cross-indemnification provisions between
our client and ourselves. The client will usually indemnify us against product
liability and related claims arising from the sales of the product and we
indemnify the clients with respect to the errors and omissions of our sales
representatives and marketing personnel. To date, no client or partner has
asserted any claim for indemnification against us under any contract.
Significant Customers
Our significant customers are discussed in footnote 13 to the consolidated
financial statements included
8
elsewhere in this report.
Marketing
Our marketing efforts target the biopharmaceutical and MD&D industries.
Companies with large product portfolios have been the most likely customers for
the services and solutions we provide, but we have also partnered with smaller,
emerging companies. Our marketing efforts are designed to reach the senior
sales, marketing and business development personnel within these companies, with
the goal of informing them of our full range of services, and projecting us as
the high quality sales and marketing organization that we are. Our tactical plan
includes advertising in trade publications, direct mail, presence at industry
seminars and a direct selling effort. We have a dedicated team of business
development specialists who work across the organization to identify needs
within the biopharmaceutical and MD&D industries which we can address.
A multi-disciplinary team of senior managers reviews possible business
opportunities as identified by the business development team and determines
strategies and negotiation positions to contract for the most attractive
business opportunities.
Competition
There are relatively few barriers to entry into the businesses in which we
operate and, as the industry continues to evolve, new competitors are likely to
emerge. Many of our current and potential competitors are larger than we are and
have greater financial, personnel and other resources than we do. We compete on
the basis of such factors as reputation, service quality, management experience,
performance record, customer satisfaction, ability to respond to specific client
needs, integration skills and price. We believe we compete effectively with
respect to each of these factors. Increased competition may lead to price and
other forms of competition that may have a material adverse effect on our
business and results of operations.
For our service offerings the competition includes in-house sales and
marketing departments of biopharmaceutical and MD&D companies, emerging
companies within these segments and other contract sales organizations (CSOs).
Companies that compete with us from the perspective of having diversified
service offerings include Innovex (a subsidiary of Quintiles Transnational),
Ventiv Health and Nelson Professional Sales.
The competition for our PPG and MD&D product offerings is primarily other
pharmaceutical companies and other companies that acquire branded products and
product lines from other pharmaceutical and MD&D companies. Competing to
copromote, license and/or acquire brands brings all the risks generally
associated with identifying, assessing and contracting effectively for products
in addition to the marketing and distribution risks of the products we obtain.
Government and Industry Regulation
The healthcare sector is heavily regulated by both government and
industry. Various laws, regulations and guidelines established by government,
industry and professional bodies affect, among other matters, the approval, the
provision, licensing, labeling, marketing, promotion, price, sale and
reimbursement of healthcare services and products, including pharmaceutical and
medical diagnostic and device products. The federal government has extensive
enforcement powers over the activities of pharmaceutical manufacturers,
including authority to withdraw product approvals, commence actions to seize and
prohibit the sale of unapproved or non-complying products, to halt manufacturing
operations that are not in compliance with good manufacturing practices, and to
impose or seek injunctions, voluntary recalls, and civil monetary and criminal
penalties. These restrictions or prohibitions on sales or withdrawal of approval
of products marketed by us could materially adversely affect our business,
financial condition and results of operations.
The Food, Drug and Cosmetic Act, as supplemented by various other
statutes, regulates, among other matters, the approval, labeling, advertising,
promotion, sale and distribution of drugs, including the practice of providing
product samples to physicians. Under this statute, the FDA regulates all
promotional activities involving prescription drugs. The distribution of
pharmaceutical products is also governed by the Prescription Drug Marketing Act
(PDMA), which regulates these activities at both the federal and state level.
The PDMA imposes extensive
9
licensing, personnel record keeping, packaging, quantity, labeling, product
handling and facility storage and security requirements intended to prevent the
sale of pharmaceutical product samples or other diversions. Under the PDMA and
its implementing regulations, states are permitted to require registration of
manufacturers and distributors who provide pharmaceutical products even if such
manufacturers or distributors have no place of business within the state. States
are also permitted to adopt regulations limiting the distribution of product
samples to licensed practitioners and require extensive record keeping and
labeling of such samples for tracing purposes. The sale or distribution of
pharmaceuticals is also governed by the Federal Trade Commission Act.
Some of the services that we currently perform or that we may provide in
the future may also be affected by various guidelines established by industry
and professional organizations. For example, ethical guidelines established by
the American Medical Association (AMA) govern, among other matters, the receipt
by physicians of gifts from health-related entities. These guidelines govern
honoraria, and other items of economic value, which AMA member physicians may
receive, directly or indirectly, from pharmaceutical companies. Similar
guidelines and policies have been adopted by other professional and industry
organizations, such as Pharmaceutical Research and Manufacturers of America, an
industry trade group.
There are also numerous federal and state laws pertaining to healthcare
fraud and abuse. In particular, certain federal and state laws prohibit
manufacturers, suppliers and providers from offering or giving or receiving
kickbacks or other remuneration in connection with ordering or recommending
purchase or rental of healthcare items and services. The federal anti-kickback
statute imposes both civil and criminal penalties for, among other things,
offering or paying any remuneration to induce someone to refer patients to, or
to purchase, lease, or order (or arrange for or recommend the purchase, lease,
or order of), any item or service for which payment may be made by Medicare or
other federally-funded state healthcare programs (e.g., Medicaid). This statute
also prohibits soliciting or receiving any remuneration in exchange for engaging
in any of these activities. The prohibition applies whether the remuneration is
provided directly or indirectly, overtly or covertly, in cash or in kind.
Violations of the law can result in numerous sanctions, including criminal
fines, imprisonment, and exclusion from participation in the Medicare and
Medicaid programs.
Several states also have referral, fee splitting and other similar laws
that may restrict the payment or receipt of remuneration in connection with the
purchase or rental of medical equipment and supplies. State laws vary in scope
and have been infrequently interpreted by courts and regulatory agencies, but
may apply to all healthcare items or services, regardless of whether Medicare or
Medicaid funds are involved.
The FDA regulates the drug development process in the U.S. This impacts
products we may develop, license or acquire, including the Cellegy licensed
product. Prior to commencing human clinical trials in the U.S., a company must
file with the FDA an Investigational New Drug (IND) application containing
details for at least one study protocol and outlines of other planned studies.
The company must also provide available manufacturing data, preclinical data,
information about any use of the drug in humans for other purposes, and a
detailed plan for the proposed clinical trials, also referred to as the study
protocols. The protocols must correctly anticipate the nature of the data to be
generated and results that the FDA will require before approving the drug. If
the FDA does not comment within 30 days after an IND filing, human clinical
trials may begin.
The clinical stage is the most time-consuming and expensive part of the
drug development process. The drug undergoes a series of tests in humans,
including healthy volunteers as well as patients with the targeted disease or
condition. Human trials usually start on a small scale to assess safety and then
expand to larger trials to test efficacy. These trials are usually grouped into
the following three phases, with multiple trials generally conducted within each
phase:
o Phase 1 trials involve testing the drug on a limited number of
healthy individuals to determine the drug's basic safety data,
including tolerance, absorption, metabolism and excretion.
o Phase 2 trials involve testing a small number of volunteer patients,
who suffer from the targeted disease or condition, to determine the
drug's effectiveness and how different doses work.
10
o Phase 3 trials involve testing large numbers of patients, to verify
efficacy on a large scale, as well as long-term safety.
After all three clinical phases have been successfully completed, a
company submits to the FDA an NDA requesting that the drug be approved for
marketing. The NDA is a comprehensive filing that includes, among other things,
the results of all preclinical and clinical studies. The FDA's review can last
from a few months to several years, depending on the drug and the disease state
that is being treated. Drugs that successfully complete this review may be
marketed in the U.S. As a condition to its approval of a drug, the FDA may
require additional clinical trials following receipt of approval, in order to
monitor long-term risks and benefits, to study different dosage levels or to
evaluate different safety and efficacy parameters in target populations.
We cannot determine what effect changes in regulations or statutes or
legal interpretations, when and if established or enacted, may have on our
business in the future. Changes could require, among other things, changes to
manufacturing methods, expanded or different labeling, the recall, replacement
or discontinuance of certain products, additional record keeping or expanded
documentation of the properties of certain products and scientific
substantiation. Further, we may experience delays in the regulatory approval of
products we license or acquire. Such changes, or new legislation, or delays
could have a material adverse effect on our business, financial condition and
results of operations. Our failure, or the failure of our clients to comply
with, or any change in, the applicable regulatory requirements or professional
organization or industry guidelines or regulatory delays could, among other
things, limit or prohibit us or our clients from conducting business activities
as presently conducted or proposed to be conducted, result in adverse publicity,
increase the costs of regulatory compliance or result in monetary fines or other
penalties. Any of these occurrences could have a material adverse affect on us.
RISK FACTORS
In addition to the other information provided in our reports, you should
carefully consider the following factors in evaluating our business, operations
and financial condition. Additional risks and uncertainties not presently known
to us, that we currently deem immaterial or that are similar to those faced by
other companies in our industry or business in general, such as competitive
conditions, may also impair our business operations. If any of the following
risks occur, our business, financial condition, or results of operations could
be materially adversely affected.
For 2002 we had a net loss of $30.8 million. In addition, year-to-year, our
revenue is down 59.2%.
For the year ended December 31, 2002, we reported a net loss of
approximately $30.8 million. This is the first time since we became a reporting
company that we had a full year net loss. The two principal contributors were
the $35.1 million operating loss for the Evista contract and the $15.0 million
initial licensing fee associated with the Cellegy agreement. In addition, our
total net revenue for 2002 was $284.0 million compared to $696.6 million in 2001
and $416.9 million in 2000. The decrease in total net revenue is primarily
attributable to the fact that we had virtually no product revenue in 2002 due to
the termination of the Ceftin agreement effective February 28, 2002. There is no
assurance that we will operate profitably in future periods.
We continue to develop the pharmaceutical products group segment of our
business, which includes copromotion, exclusive distribution arrangements, as
well as licensing and brand ownership of products. We cannot assure you that we
can successfully develop this business.
Notwithstanding the fact that we had virtually no product revenue from the
pharmaceutical products group segment of our business in 2002, we believe that a
key to our future growth is our ability to acquire copromotion and distribution
rights to pharmaceutical products and medical and diagnostic devices as well as
our ability to license or acquire these products. These types of arrangements
can significantly increase our operating expenditures. Typically, these
agreements require significant "upfront" payments, minimum purchase
requirements, minimum royalty payments, payments to third parties for
production, inventory maintenance and control, distribution services and
accounts receivable administration, as well as sales and marketing expenditures.
In addition, particularly where we license or acquire products before they are
approved for commercial use, we may be required to incur significant expense to
gain the required regulatory approvals. As a result, our working capital balance
and cash flow position could be materially and adversely affected until the
products and devices in question become commercially viable.
11
The risks that we face in developing the pharmaceutical product segment of our
business may increase in proportion with:
o the number and types of products covered by these types of
agreements;
o the applicable stage of the drug regulatory process of the products
at the time we enter into these agreements; and
o our control over the manufacturing, distribution and marketing
processes.
Recently, we acquired from Cellegy the exclusive right to market and sell
a transdermal testosterone gel for the treatment of male hypogonadism in the
U.S., Puerto Rico, Mexico and Canada. While we have entered into copromotion and
exclusive distribution arrangements in the past, the Cellegy agreement is our
first licensing arrangement. We paid $15.0 million (nonrefundable) to acquire
the license and another $10.0 million payment is due after the product has all
FDA approvals required to promote, sell and distribute the product in the U.S.
These two payments represent approximately 25% of our current working capital.
Once the drug is approved, in addition to paying Cellegy a royalty based on net
sales, all of the costs associated with manufacturing the drug, distributing it,
as well as sales and marketing expenditures are our obligation. If additional
testing is required after the drug is approved for sale in the U.S., the costs
associated with those tests are our obligation as well. Furthermore, if we want
to sell the drug in Mexico and Canada, we must fund the regulatory process in
those countries. In light of the significant costs associated with the Cellegy
license, we cannot assure you that we will recoup our investment or that we will
realize a profit from this product.
We rely on third parties to manufacture all of our products and supply raw
materials. Our dependence on these third parties may result in unforeseen delays
or other problems beyond our control, which could adversely affect our financial
condition and our reputation.
We do not manufacture any products and expect to continue to depend on
third parties to provide us with sufficient quantities of products to meet
demand. As a result, we cannot assure you that we will always have a sufficient
supply of products on hand to satisfy demand or that the products we do have
will meet our specifications. This risk is more acute in those situations where
we have no control over the manufacturers. For example, our agreement with
Cellegy obligates us to purchase all quantities of the product from PanGeo
Pharma Inc. (PanGeo), a third-party manufacturer with which we have no
contractual relationship and to which Cellegy has granted exclusive
manufacturing rights. If there are any problems with this contract manufacturer,
the supply of product could be temporarily halted until either PanGeo is able to
get their facilities back on-line or we are able to source another supplier for
the product. This manufacturing shutdown could have a material impact on the
future demand for the product and thus could have a material adverse effect on
our results of operations. Even if third-party manufacturers comply with the
terms of their supply arrangements, we cannot be certain that supply
interruptions will not occur or that our inventory will always be adequate.
Numerous factors could cause interruptions in the supply of our finished
products, including shortages in raw materials, strikes and transportation
difficulties. Any disruption in the supply of raw materials or an increase in
the cost of raw materials to our supplier could have a significant effect on its
ability to supply us with products.
In addition, manufacturers of products requiring FDA approval are required
to comply with FDA mandated standards, referred to as good manufacturing
practices, relating not only to the manufacturing process but to record-keeping
and quality control activities as well. Furthermore, they must pass a
pre-approval inspection of manufacturing facilities by the FDA and foreign
authorities before obtaining marketing approval, and are subject to periodic
inspection by the FDA and corresponding foreign regulatory authorities under
reciprocal agreements with the FDA. These inspections may result in compliance
issues that could prevent or delay marketing approval or require significant
expenditures on corrective measures.
If for any reason we are unable to obtain or retain our relationships with
third-party manufacturers on commercially acceptable terms, or if we encounter
delays or difficulties with contract manufacturers in producing or packaging our
products, the distribution, marketing and subsequent sales of these products
would be adversely affected, and we may have to seek alternative sources of
supply. We cannot assure you that we will be able to maintain our existing
manufacturing relationships or enter into new ones on commercially acceptable
terms, if at all.
12
Our license agreements may require us to make minimum payments to the licensor,
regardless of the revenue derived under the license, which could further strain
our working capital and cash flow position. In addition, these agreements may be
nonexclusive or may condition exclusivity on minimum sales levels.
Under our license agreement with Cellegy, we are required to make certain
minimum royalty payments to Cellegy once the product is approved. If the Cellegy
product fails to gain market acceptance, we will still be required to make these
minimum royalty payments. This will likely have a negative impact on our
financial condition and results of operations. In addition, the Cellegy license
agreement requires us to satisfy certain minimum net sales requirements. If we
fail to satisfy these minimum net sales requirements, under certain
circumstances Cellegy may, at its option, convert our exclusive license to a
nonexclusive license. This could mean that we would face increased competition
from third parties with respect to the marketing and sale of the product.
The regulatory approval process is expensive, time consuming and uncertain and
may prevent us from obtaining required approvals for the commercialization of
drugs and products that we license or acquire.
In those situations where we license or acquire ownership of drugs or
other medical or diagnostic equipment, the product in question may not yet be
approved for sale to the public, in which case we may have the obligation to
obtain the required regulatory approvals. The research, testing, manufacturing
and marketing of drugs and other medical and diagnostic devices is heavily
regulated in the U.S. and other countries. The regulatory clearance process
typically takes many years and is extremely expensive. Despite the time and
expense expended, regulatory clearance is never guaranteed. The FDA can delay,
limit or deny approval of a drug for many reasons, including:
o safety or efficacy;
o inconsistent or inconclusive data or test results;
o failure to demonstrate compliance with the FDA's good manufacturing
practices; or
o changes in the approval process or new regulations.
The FDA continues to regulate the sale and marketing of drugs and medical and
diagnostic devices even after they have been approved for sale to the public.
Complying with these regulations may be costly and our failure to comply could
limit our ability to continue marketing and distributing these products.
Even after drugs have been approved for sale, the FDA continues to
regulate their sale. These post-approval regulatory requirements may require
further testing and/or clinical studies, and may limit our ability to market and
distribute the product or may limit the use of the product. Under our agreement
with Cellegy, we are responsible for all post-approval regulatory compliance. If
we fail to comply with the regulatory requirements of the FDA, we may be subject
to one or more of the following administrative or judicially imposed sanctions:
o warning letters;
o civil penalties;
o criminal penalties;
o injunctions;
o product seizure or detention;
o product recalls;
o total or partial suspension of production; and
o FDA refusal to approve pending NDAs, or supplements to approved
NDAs.
13
FDA approval does not guarantee commercial success. If we fail to successfully
commercialize our products, our financial condition and results of operations
could be materially and adversely affected.
Even if a product is approved for sale to the general public, its
commercial success will depend on our marketing efforts and acceptance by the
general public. The commercial success of any drug or medical or diagnostic
device depends on a number of factors, including:
o demonstration of clinical efficacy and safety;
o cost;
o reimbursement policies of large third-party payors;
o competitive products;
o convenience and ease of administration;
o potential advantages over alternative treatment methods; and
o marketing and distribution support.
We cannot assure you that any of our products will achieve commercial
success, regardless of how effective they may be.
Failure to obtain adequate reimbursement could limit our ability to market
products.
Our ability to commercialize products, including licensed or acquired
products, will depend in part on the reimbursements, if any, obtained from
third-party payors such as government health administration authorities, private
health insurers, managed care programs and other organizations. Third-party
payors are increasingly attempting to contain healthcare costs by limiting both
coverage and the level of reimbursement for pharmaceutical products. Cost
control initiatives could decrease the price that we would receive for products
and affect our ability to commercialize any product. Third-party payors also
tend to discourage use of branded products when generic substitutes are
available. As a result, reimbursement may not be available to enable us to
maintain price levels sufficient to realize an appropriate return on our
investment in product acquisition and development. If adequate reimbursement
levels for either newly approved or branded products are not provided, our
business, financial condition and results of operations could be materially and
adversely affected.
We are the defendant in a lawsuit which seeks damages and to enjoin our
performance of the Cellegy license agreement.
On January 6, 2003, we were named as a defendant in a lawsuit filed by
Auxilium Pharmaceuticals, Inc. (Auxilium), in the Pennsylvania Court of Common
Pleas, Montgomery County. Auxilium is seeking monetary damages and injunctive
relief, including preliminary injunctive relief, based on several claims related
to our alleged breaches of a contract sales force agreement entered into with
Auxilium on November 20, 2002, and claims that we have and currently are
misappropriating trade secrets in connection with our license agreement with
Cellegy. A hearing on Auxilium's preliminary injunction motion was conducted on
February 11th through 13th, 2003, but the court did not reach a decision. Final
arguments in the hearing are scheduled for the week of March 17, 2003. We intend
to continue contesting this case vigorously. An unfavorable ruling in this
proceeding could have a material adverse impact on our business and results of
operations.
We will likely require additional funds in order to implement our evolving
business model.
We will likely require additional funds in order to:
o license or acquire additional pharmaceutical or medical device
products or technologies;
o pursue regulatory approvals;
o develop incremental marketing and sales capabilities; and
o pursue other business opportunities or meet future operating
requirements.
We may seek additional funding through public or private equity or debt
financing or other arrangements with collaborative partners. If we raise
additional funds by issuing equity securities, further dilution to existing
14
stockholders may result. In addition, as a condition to providing us with
additional funds, future investors may demand, and may be granted, rights
superior to those of existing stockholders. We cannot be sure, however, that
additional financing will be available from any of these sources or, if
available, will be available on acceptable or affordable terms. If adequate
additional funds are not available, we may be required to delay, reduce the
scope of, or eliminate one or more of our growth strategies.
Our contract sales business depends on expenditures by companies in the life
sciences industries.
Our service revenues depend on promotional, marketing and sales
expenditures by companies in the life sciences industries, including the
pharmaceutical, MD&D and biotechnology industries. Promotional, marketing and
sales expenditures by pharmaceutical manufacturers have in the past been, and
could in the future be, negatively impacted by, among other things, governmental
reform or private market initiatives intended to reduce the cost of
pharmaceutical products or by governmental, medical association or
pharmaceutical industry initiatives designed to regulate the manner in which
pharmaceutical manufacturers promote their products. Furthermore, the trend in
the life sciences industries toward consolidation may result in a reduction in
overall sales and marketing expenditures and, potentially, the use of contract
sales and marketing services providers.
Changes in outsourcing trends in the pharmaceutical and biotechnology industries
could adversely affect our operating results and growth rate.
Our business and growth depend in large part on demand from the
pharmaceutical and life sciences industries for outsourced marketing and sales
services. The practice of many companies in these industries has been to hire
outside organizations like us to conduct large sales and marketing projects.
This practice had grown substantially until very recently, and we benefited from
this trend. However, companies may elect to perform these services internally
for a variety of reasons, including the rate of new product development and FDA
approval of those products, number of sales representatives employed internally
in relation to demand for or the need to promote new and existing products, and
competition from other suppliers. Recently there has been a reduced level of
outsourcing activity. We believe this reduction is attributable to the factors
discussed above as well as recent consolidation in the pharmaceutical and life
sciences industries. If these industries reduce their tendency to outsource
those projects or these trends continue, our operations, financial condition and
growth rate could be materially adversely affected.
Product liability claims could harm our business.
We could face substantial product liability claims in the event users of
any of the pharmaceutical and medical device products we market now or in the
future are alleged to cause negative reactions or adverse side effects or in the
event any of these products causes injury, is alleged to be unsuitable for its
intended purpose or is alleged to be otherwise defective. For example, we have
been named in numerous lawsuits as a result of our detailing of Baycol(R) on
behalf of Bayer Pharmaceutical. Product liability claims, regardless of their
merits, could be costly and divert management's attention, or adversely affect
our reputation and the demand for our products. Although we currently have
product liability insurance in the aggregate amount of $10.0 million, we cannot
assure you that our insurance will be sufficient to cover fully all potential
claims. Also, adequate insurance coverage might not be available in the future
at acceptable costs, if at all.
We may be unable to secure or enforce adequate intellectual property rights to
protect the products or technologies we acquire, license or develop.
Our ability to successfully commercialize new branded products or
technologies depends on our ability to secure and enforce intellectual property
rights, generally patents, and we may be unable to do so. To obtain patent
protection, we must be able to successfully persuade the U.S. Patent and
Trademark Office and its foreign counterparts to issue patents on a timely basis
and possibly in the face of third-party challenges. Even if we are granted a
patent, our rights may later be challenged or circumvented by third parties.
Likewise, a third-party may challenge our trademarks or, alternatively, use a
confusingly similar trademark. The issuance of a patent is not conclusive as to
its validity or enforceability and the patent life is limited. In addition, from
time to time, we might receive notices from third parties regarding patent
claims against us. These type claims, with or without merit, could be
time-consuming to defend, result in costly litigation, divert management's
attention and resources, and cause us to incur significant expenses. As a result
of litigation over intellectual property rights, we may be required to stop
15
selling a product, obtain a license from the owner to sell the product in
question or use the relevant intellectual property, which we may not be able to
obtain on favorable terms, if at all, or modify a product to avoid using the
relevant intellectual property. In the event of a successful claim of
infringement against us, our business, financial condition and results of
operations could be materially and adversely affected.
If we do not meet performance goals set in our incentive-based and revenue
sharing arrangements, our profits could suffer.
We have recently seen an increase in demand from clients for
incentive-based and revenue sharing arrangements. Under incentive-based
arrangements, we are typically paid a fixed fee and, in addition, have an
opportunity to increase our earnings based on the market performance of the
products being detailed in relation to targeted sales volumes, sales force
performance metrics or a combination thereof. Under revenue sharing
arrangements, our compensation is based on the market performance of the
products being detailed, usually expressed as a percentage of product sales.
These types of arrangements transfer some market risk from our clients to us. In
addition, these arrangements can result in variability in revenue and earnings
due to seasonality of product usage, changes in market share, new product
introductions, overall promotional efforts and other market related factors. As
an example, in October 2001, we entered into an agreement with Eli Lilly to
copromote Evista in the U.S. under which we were to receive payments once
product net sales exceeded a pre-determined baseline. Our net sales of Evista
were insufficient for us to achieve our revenue and profit goals and as a result
we incurred an operating loss for 2002 of $35.1 million on this contract, $28.9
million from operating activities and $6.2 million in unused sales force
capacity. This contract was terminated effective December 31, 2002.
Most of our service revenue is derived from a limited number of clients, the
loss of any one of which could adversely affect our business.
Our revenue and profitability depend to a great extent on our
relationships with a limited number of large pharmaceutical companies. In 2002,
we had two major clients that accounted for approximately 32.3% and 31.8%,
respectively, or a total of 64.1%, of our service revenue. We are likely to
continue to experience a high degree of client concentration, particularly if
there is further consolidation within the pharmaceutical industry. The loss or a
significant reduction of business from any of our major clients could have a
material adverse effect on our business and results of operations. As an
example, on February 4, 2002, we announced the termination of our fee for
service contract arrangement with Bayer Pharmaceuticals. As a result of this
contract being terminated four and a one-half months early, our 2002 revenues
were reduced by approximately $20.0 million.
Our service contracts are generally short-term agreements and are cancelable at
any time, which may result in lost revenue and additional costs and expenses.
Our service contracts are generally for a term of one year and many may be
terminated by the client at any time for any reason. For example, as discussed
above, as a result of the early termination of our fee for service contract
arrangement with Bayer Pharmaceuticals, our 2002 revenues were reduced by
approximately $20.0 million. The termination of a contract by one of our major
clients not only results in lost revenue, but may cause us to incur additional
costs and expenses. All of our sales representatives are employees rather than
independent contractors. Accordingly, when a contract is terminated, unless we
can immediately transfer the related sales force to a new program, we either
must continue to compensate those employees, without realizing any related
revenue, or terminate their employment. If we terminate their employment, we may
incur significant expenses relating to their termination.
We and two of our officers are defendants in a class action shareholder lawsuit
which could divert our time and attention from more productive activities.
Beginning on January 24, 2002, several purported class action complaints
were filed in the U.S. District Court for the District of New Jersey, against us
and certain of our officers on behalf of persons who purchased our common stock
during the period between May 22, 2001 and August 12, 2002. We believe that
meritorious defenses exist to the allegations asserted in these lawsuits and we
intend to vigorously defend these actions. Although we currently maintain
director and officer liability insurance coverage, there is no assurance that we
will continue to maintain such coverage or that any such coverage will be
adequate to offset potential damages.
16
Our failure, or that of our clients, to comply with applicable healthcare
regulations could limit, prohibit or otherwise adversely impact our business
activities.
Various laws, regulations and guidelines established by government,
industry and professional bodies affect, among other matters, the providing,
licensing, labeling, marketing, promotion, sale and distribution of healthcare
services and products, including pharmaceutical and MD&D products. In
particular, the healthcare industry is governed by various federal and state
laws pertaining to healthcare fraud and abuse, including prohibitions on the
payment or acceptance of kickbacks or other remuneration in return for the
purchase or lease of products that are paid for by Medicare or Medicaid.
Sanctions for violating these laws include civil and criminal fines and
penalties and possible exclusion from Medicare, Medicaid and other federal or
state healthcare programs. Although we believe our current business arrangements
do not violate these federal and state fraud and abuse laws, we cannot be
certain that our business practices will not be challenged under these laws in
the future or that a challenge would not have a material adverse effect on our
business, financial condition and results of operations. Our failure, or the
failure of our clients, to comply with these laws, regulations and guidelines,
or any change in these laws, regulations and guidelines may, among other things,
limit or prohibit our business activities or those of our clients, subject us or
our clients to adverse publicity, increase the cost of regulatory compliance and
insurance coverage or subject us or our clients to monetary fines or other
penalties.
Our industry is highly competitive and our failure to address competitive
developments promptly will limit our ability to retain and increase our market
share.
Our primary competitors for sales services include in-house sales and
marketing departments of pharmaceutical companies, other CSOs and drug
wholesalers. We also compete for the licensing and acquisition of pharmaceutical
and MD&D products with other larger pharmaceutical and MD&D companies. There are
relatively few barriers to entry in the businesses in which we compete and, as
the industry continues to evolve, new competitors are likely to emerge. Many of
our current and potential competitors are larger than we are and have
substantially greater capital, personnel and other resources than we have.
Increased competition may lead to price and other forms of competition that
could have a material adverse effect on our market share, our ability to source
new business opportunities and our results of operations.
Consolidation of the wholesale distribution network for pharmaceutical products
could adversely impact the terms and conditions of our product sales.
The distribution network for pharmaceutical products has recently
experienced significant consolidation among wholesalers and chain stores. As a
result, a few large wholesale distributors control a significant share of the
market and we have less ability to negotiate price, return policies and other
terms and related provisions of the sale. As our distribution of products
expands, some of these wholesalers and distributors may account for a
significant portion of our product sales. Our inability to negotiate favorable
terms and conditions for product sales to those wholesalers could have a
material adverse effect on our financial condition and results of operations.
If we are unable to attract key employees and consultants, we may be unable to
develop our emerging business model.
Successful execution of our business strategy depends, in large part, on
our ability to attract and retain qualified management and marketing personnel
with the skills and qualifications necessary to fully execute our programs and
strategy. Competition for personnel among companies in the pharmaceutical
industry is intense and we cannot assure you that we will be able to continue to
attract or retain the personnel necessary to support the growth of our business.
Our business will suffer if we fail to attract and retain experienced sales
representatives.
The success and growth of our business depends on our ability to attract
and retain qualified and experienced pharmaceutical sales representatives. There
is intense competition for experienced pharmaceutical sales representatives from
CSOs and pharmaceutical companies. On occasion our clients have hired the sales
representatives that we trained to detail their products. We cannot be certain
that we can continue to attract and
17
retain qualified personnel. If we cannot attract and retain qualified sales
personnel, we will not be able to expand our business and our ability to perform
under our existing contracts will be impaired.
Our business will suffer if we lose certain key management personnel.
The success of our business also depends on our ability to attract and
retain qualified senior management, and financial and administrative personnel
who are in high demand and who often have multiple employment options.
Currently, we depend on a number of our senior executives, including Charles T.
Saldarini, our chief executive officer, Steven K. Budd, our president and chief
operating officer, and Bernard C. Boyle, our chief financial officer. The loss
of the services of any one or more of these executives could have a material
adverse effect on our business, financial condition and results of operations.
Except for a $5 million key-man life insurance policy on the life of Mr.
Saldarini and a $3 million policy on the life of Mr. Budd, we do not maintain
and do not contemplate obtaining insurance policies on any of our employees.
Our controlling stockholder continues to have effective control of us, which
could delay or prevent a change in corporate control that may otherwise be
beneficial to our stockholders.
John P. Dugan, our chairman, beneficially owns approximately 35% of our
outstanding common stock. As a result, Mr. Dugan will be able to exercise
substantial control over the election of all of our directors, and to determine
the outcome of most corporate actions requiring stockholder approval, including
a merger with or into another company, the sale of all or substantially all of
our assets and amendments to our certificate of incorporation.
We have anti-takeover defenses that could delay or prevent an acquisition and
could adversely affect the price of our common stock.
Our certificate of incorporation and bylaws include provisions, such as
three classes of directors, which are intended to enhance the likelihood of
continuity and stability in the composition of our board of directors. These
provisions may make if more difficult to remove our directors and management and
may adversely affect the price of our common stock. In addition, our certificate
of incorporation authorizes the issuance of "blank check" preferred stock. This
provision could have the effect of delaying, deterring or preventing a future
takeover or a change in control, unless the takeover or change in control is
approved by our board of directors, even though the transaction might offer our
stockholders an opportunity to sell their shares at a price above the current
market price.
Our quarterly revenues and operating results may vary, which may cause the price
of our common stock to fluctuate.
Our quarterly operating results may vary as a result of a number of
factors, including:
o the commencement, delay, cancellation or completion of programs;
o regulatory developments;
o uncertainty related to compensation based on achieving performance
benchmarks;
o the mix of services provided;
o the mix of programs -- i.e., contract sales, copromotion, exclusive
marketing, licenses;
o the timing and amount of expenses for implementing new programs and
services and acquiring license rights for products;
o the accuracy of estimates of resources required for ongoing
programs;
o the timing and integration of acquisitions;
o changes in regulations related to pharmaceutical companies; and
o general economic conditions.
In addition, in the case of revenue related to service contracts, we
recognize revenue as services are performed, while program costs, other than
training costs, are expensed as incurred. As a result, during the first two to
three months of a new contract, we may incur substantial expenses associated
with implementing that new program without recognizing any revenue under that
contract. This could have an adverse impact on our operating results and the
price of our common stock for the quarters in which these expenses are incurred.
For these and other reasons, we believe that quarterly comparisons of our
financial results are not necessarily meaningful and should not be
18
relied upon as an indication of future performance. Fluctuations in quarterly
results could adversely affect the market price of our common stock in a manner
unrelated to our long-term operating performance.
Our stock price is volatile and could be further affected by events not within
our control. In 2002 our stock traded at a low of $2.85 and a high of $23.44.
The market for our common stock is volatile. The trading price of our
common stock has been and will continue to be subject to:
o volatility in the trading markets generally;
o significant fluctuations in our quarterly operating results;
o announcements regarding our business or the business of our
competitors;
o industry development;
o regulatory developments;
o changes in product mix;
o changes in revenue and revenue growth rates for us and for our
industry as a whole; and
o statements or changes in opinions, ratings or earnings estimates
made by brokerage firms or industry analysts relating to the markets
in which we operate or expect to operate.
Employees
As of December 31, 2002, we had 3,482 employees. Included in that amount
are 301 part-time field representatives employed by InServe, the number of which
vary from time to time based on project demand. We are not party to a collective
bargaining agreement with a labor union and our relations with our employees are
good.
Available Information
Our website address is www.pdi-inc.com. We are not including the
information contained on our website as part or, or incorporating it by
reference into, this annual report on Form 10-K. We make available free of
charge through our website our annual report on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K, and all amendments to those reports as
soon as reasonably practicable after such material is electronically filed with
or furnished to the Securities and Exchange Commission.
ITEM 2. PROPERTIES
Facilities
Our corporate headquarters are located in Upper Saddle River, New Jersey,
in a 48,600 square foot facility. The lease for all but approximately 10,000
square feet of this space expires in the fourth quarter of 2004 with an option
to extend for an additional five years. The lease on the remaining space expires
in the second quarter of 2004.
TVG operates out of a 48,000 square foot facility in Fort Washington,
Pennsylvania, under a lease that expires in the second quarter of 2005.
PPG operates out of a 14,000 square foot facility in Lawrenceville, New
Jersey, under a lease that expires in July 2003.
InServe operates out of a 9,100 square foot facility in Novato,
California, under a lease which expires in the second quarter of 2005.
We maintain a call center which supports our sales and marketing services
group in approximately 7,300 square feet of space in Bridgewater, New Jersey,
under a lease that expires in June 2006.
19
We believe that our current facilities are adequate for our current and
foreseeable operations and that suitable additional space will be available if
needed.
ITEM 3. LEGAL PROCEEDINGS
Securities Litigation
In January and February 2002, we, our chief executive officer, and our
chief financial officer were served with three complaints that were filed in the
United States District Court for the District of New Jersey alleging violations
of the Securities Exchange Act of 1934 (the "1934 Act"). These complaints were
brought as purported shareholder class actions under Sections 10(b) and 20(a) of
the 1934 Act and Rule 10b-5 established thereunder. On May 23, 2002, the Court
consolidated all three lawsuits into a single action entitled In re PDI
Securities Litigation, Master File No. 02-CV-0211, and appointed lead plaintiffs
("Lead Plaintiffs") and Lead Plaintiffs' counsel. On or about December 13, 2002,
Lead Plaintiffs filed a second consolidated and amended complaint ("Second
Consolidated and Amended Complaint"), which superseded their earlier complaints.
The complaint names us, our chief executive officer, and our chief
financial officer as defendants; purports to state claims against us on behalf
of all persons who purchased our common stock between May 22, 2001 and August
12, 2002; and seeks money damages in unspecified amounts and litigation expenses
including attorneys' and experts' fees. The essence of the allegations in the
Second Consolidated and Amended Complaint is that we intentionally or recklessly
made false or misleading public statements and omissions concerning our
financial condition and prospects with respect to our marketing of Ceftin in
connection with the October 2000 distribution agreement with GlaxoSmithKline,
our marketing of Lotensin in connection with the May 2001 distribution agreement
with Novartis Pharmaceuticals Corp., as well as our marketing of Evista in
connection with the October 2001 distribution agreement with Eli Lilly & Co.
In February 2003, we filed a motion to dismiss the Second Consolidated and
Amended Complaint under the Private Securities Litigation Reform Act of 1995 and
Rules 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure. We believe that
the allegations in this purported securities class action are without merit and
intend to defend the action vigorously.
Bayer-Baycol Litigation
We have been named as a defendant in numerous lawsuits, including two
class action matters, alleging claims arising from the use of the prescription
compound Baycol that was manufactured by Bayer Pharmaceuticals (Bayer) and
co-marketed by us on Bayer's behalf under a contract sales force agreement. We
may be named in additional similar lawsuits. In August 2001, Bayer announced
that it was voluntarily withdrawing Baycol from the U.S. market. To date, we
have defended these actions vigorously and have asserted a contractual right of
indemnification against Bayer for all costs and expenses we incur relating to
these proceedings. In February 2003, we entered into a joint defense and
indemnification agreement with Bayer, pursuant to which Bayer has agreed to
assume substantially all of our defense costs in pending and prospective
proceedings, subject to certain limited exceptions. Further, Bayer has agreed to
reimburse us for all reasonable costs and expenses incurred to date in defending
these proceedings.
Auxilium Pharmaceuticals Litigation
On January 6, 2003, we were named as a defendant in a lawsuit filed by
Auxilium Pharmaceuticals, Inc. (Auxilium), in the Pennsylvania Court of Common
Pleas, Montgomery County. Auxilium is seeking monetary damages and injunctive
relief, including preliminary injunctive relief, based on several claims related
to our alleged breaches of a contract sales force agreement entered into by the
parties on November 20, 2002, and claims that we have and currently are
misappropriating its trade secrets in connection with our exclusive license
agreement with Cellegy.
A hearing on Auxilium's preliminary injunction motion was conducted on
February 11 through 13, 2003, but the court did not reach a decision. Final
arguments in the hearing are scheduled for the week of March 17, 2003. We intend
to continue contesting this case vigorously, and believe the likelihood of any
order enjoining us from
20
marketing and selling under our Cellegy license for any significant time is
unlikely, as is the likelihood of any material damage award.
PDI v. C.E. Unterberg, Towbin Partners
On February 28, 2003, we commenced an action against C.E. Unterberg,
Towbin ("Unterberg") in the Supreme Court of the State of New York in New York
County. The complaint alleges claims for defamation arising from an analyst
report issued on February 12, 2003. Unterberg has not yet answered the
complaint, or taken any responsive action.
We are currently a party to other legal proceedings incidental to our
business. While management currently believes that the ultimate outcome of these
proceedings, individually and in the aggregate, will not have a material adverse
effect on our consolidated financial statements, litigation is subject to
inherent uncertainties. Were an unfavorable ruling to occur, there exists the
possibility of a material adverse impact on the results of operations for the
period in which the ruling occurs.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
21
PART II
ITEM 5. MARKET FOR OUR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the Nasdaq National Market under the symbol
"PDII". The following table sets forth, for each of the periods indicated, the
range of high and low closing sales prices for the common stock as reported by
the Nasdaq National Market.
High Low
------- ------
2002
First quarter.......................................... 22.410 13.300
Second quarter......................................... 20.000 14.130
Third quarter.......................................... 14.900 4.070
Fourth quarter ........................................ 10.790 3.040
2001
First quarter.......................................... 106.375 50.688
Second quarter......................................... 96.530 57.500
Third quarter.......................................... 88.050 22.780
Fourth quarter ........................................ 33.330 16.580
We believe that, as of February 28, 2003, we had approximately 6,800
beneficial stockholders.
Dividend policy
We have not paid any dividends and do not intend to pay any dividends in
the foreseeable future. Future earnings, if any, will be used to finance the
future growth of our business. Future dividends, if any, will be determined by
our board of directors.
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data set forth below as of and for the
years ended December 31, 2002, 2001, 2000, 1999 and 1998 are derived from our
audited consolidated financial statements and the accompanying notes. Our
consolidated financial statements for each of the periods prior to 2000
presented reflect our acquisition of TVG in May 1999, which was accounted for as
a pooling of interests, on a pro forma basis as if TVG had been owned by the
Company the entire period. Consolidated balance sheets at December 31, 2002 and
2001 and consolidated statements of operations, stockholders' equity and cash
flows for the three years ended December 31, 2002, 2001 and 2000 and the
accompanying notes are included elsewhere in this Annual Report on Form 10-K and
have been audited by PricewaterhouseCoopers LLP, independent accountants. Our
audited consolidated balance sheet at December 31, 1998 is not included in this
report but has been audited by PricewaterhouseCoopers LLP in reliance on the
audit report issued to TVG by Grant Thornton LLP for 1998. The selected
financial data set forth below should be read together with, and are qualified
by reference to, "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and our audited Financial Statements and related
notes appearing elsewhere in this report.
22
Statement of operations data:
Years Ended December 31,
--------------------------------------------------------------
2002 2001 2000 1999 1998
--------- -------- -------- -------- --------
(In thousands, except per share data)
Revenue
Service, net .................................................... $ 277,575 $281,269 $315,867 $174,902 $119,421
Product, net .................................................... 6,438 415,314 101,008 -- --
--------- -------- -------- -------- --------
Total revenue, net ............................................ 284,013 696,583 416,875 174,902 119,421
--------- -------- -------- -------- --------
Cost of goods and services
Program expenses ................................................ 254,140 232,171 235,355 130,121 87,840
Cost of goods sold .............................................. -- 328,629 68,997 -- --
--------- -------- -------- -------- --------
Total cost of goods and services .............................. 254,140 560,800 304,352 130,121 87,840
--------- -------- -------- -------- --------
Gross profit ....................................................... 29,873 135,783 112,523 44,781 31,581
Operating expenses
Compensation expense ............................................ 32,670 39,263 32,820 19,611 15,779
Other selling, general and administrative expenses .............. 44,163 83,815 38,827 9,448 6,546
Restructuring and other related expenses ........................ 3,215 -- -- -- --
Acquisition and related expenses ................................ -- -- -- 1,246 --
--------- -------- -------- -------- --------
Total operating expenses ....................................... 80,048 123,078 71,647 30,305 22,325
--------- -------- -------- -------- --------
Operating (loss) income ............................................ (50,175) 12,705 40,876 14,476 9,256
Other income, net .................................................. 1,967 2,275 4,864 3,471 2,273
--------- -------- -------- -------- --------
(Loss) income before (benefit) provision for income taxes .......... (48,208) 14,980 45,740 17,947 11,529
(Benefit) provision for income taxes ............................... (17,447) 8,626 18,712 7,539 1,691
--------- -------- -------- -------- --------
Net (loss) income .................................................. $(30,761) $ 6,354 $ 27,028 $ 10,408 $ 9,838
========= ======== ======== ======== ========
Basic net (loss) income per share(1) ............................... $ (2.19) $ 0.46 $ 2.00 $ 0.87 $ 0.92
========= ======== ======== ======== ========
Diluted net (loss) income per share(1) ............................. $ (2.19) $ 0.45 $ 1.96 $ 0.86 $ 0.91
========= ======== ======== ======== ========
Basic weighted average number of shares outstanding(1) ............. 14,033 13,886 13,503 11,958 10,684
========= ======== ======== ======== ========
Diluted weighted average number of shares outstanding(1) ........... 14,033 14,113 13,773 12,167 10,814
========= ======== ======== ======== ========
Years Ended December 31,
------------------------------------------------------
1999 1998
-------- --------
(In thousands, except per share data)
Pro forma data (unaudited)
Income before provision for income taxes .................................. $ 17,947 $ 11,529
Pro forma provision for income taxes (2) .................................. 7,677 4,611
-------- --------
Pro forma net income (2) .................................................. $ 10,270 $ 6,918
======== ========
Pro forma basic net income per share (2) .................................. $ 0.86 $ 0.65
======== ========
Pro forma diluted net income per share (2) ................................ $ 0.84 $ 0.64
======== ========
Basic weighted average number of shares outstanding (1) ................... 11,958 10,684
======== ========
Pro forma diluted weighted average number of shares outstanding (1) ....... 12,167 10,814
======== ========
Balance sheet data:
As of December 31,
------------------------------------------------------
2002 2001 2000 1999 1998
--------- -------- -------- -------- --------
(in thousands)
Cash and cash equivalents ................................................. $ 66,827 $160,043 $109,000 $ 57,787 $ 56,989
Working capital ........................................................... 81,854 113,685 120,720 53,144 47,048
Total assets .............................................................. 190,939 302,671 270,225 102,960 77,390
Total long-term debt ...................................................... -- -- -- -- --
Stockholders' equity ...................................................... 123,211 150,935 138,110 60,820 50,365
- ----------
(1) See footnote 10 to our audited consolidated financial statements included
elsewhere in this report for a description of the computation of basic and
diluted weighted average number of shares outstanding.
(2) Prior to our initial public offering (IPO), we were an S corporation and
had not been subject to Federal or New Jersey corporate income taxes,
other than a New Jersey state corporate income tax of approximately 2%. In
addition, TVG, a 1999 acquisition accounted for as a pooling of interest,
was also taxed as an S corporation from January 1997 to May 1999. Pro
forma provision for income taxes, pro forma net income and basic and
diluted net income per share for 1999 and 1998 reflect a provision for
income taxes as if we and TVG had been taxed at the statutory tax rates in
effect for C corporations for all periods.
23
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Cautionary Statement Identifying Important Factors That Could Cause Our Actual
Results to Differ From Those Projected in Forward Looking Statements.
Pursuant to the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, readers of this report are advised that this
document contains both statements of historical facts and forward looking
statements. Forward looking statements are subject to risks and uncertainties,
which could cause our actual results to differ materially from those indicated
by the forward looking statements. Examples of forward looking statements
include, but are not limited to (i) projections of revenues, income or loss,
earnings per share, capital expenditures, dividends, capital structure and other
financial items, (ii) statements regarding our plans and objectives including
product enhancements, or estimates or predictions of actions by customers,
suppliers, competitors or regulatory authorities, (iii) statements of future
economic performance, and (iv) statements of assumptions underlying other
statements.
This report also identifies important factors that could cause our actual
results to differ materially from those indicated by the forward looking
statements. These risks and uncertainties include the factors discussed under
the heading "Risk Factors" beginning at page 11 of this report.
The following Management's Discussion and Analysis of Financial Condition
and Results of Operations should be read in conjunction with our consolidated
financial statements and the notes thereto appearing elsewhere in this report.
Overview
We are a commercial sales and marketing company serving the
biopharmaceutical and medical devices and diagnostics (MD&D) industries. We
create and execute sales and marketing campaigns intended to improve the
profitability of pharmaceutical or MD&D products. We do this by partnering with
companies who own the intellectual property rights to these products and
recognize our ability to commercialize these products and maximize their sales
performance. We have a variety of agreement types that we enter into with our
partner companies, from fee for service arrangements to equity investments in a
product or company.
Description of Reporting Segments and Nature of Contracts
Our business is organized into three reporting segments:
* PDI sales and marketing services group (SMSG), comprised of:
o dedicated contract sales services (CSO);
o shared contract sales services (CSO);
o marketing research and consulting services (MR&C); and
o medical education and communication services (EdComm).
* PDI pharmaceutical products group (PPG), comprised of:
o copromotion;
o licensing; and
o acquisitions
* PDI medical devices and diagnostics group (MD&D), comprised of:
o contract sales services (CSO);
o InServe;
o copromotion;
o licensing; and
o acquisitions
24
An analysis of these reporting segments and their results of operations is
contained in Note 24 to the consolidated financial statements found elsewhere in
this report and in the consolidated results of operations discussion below.
PDI Sales and Marketing Services Group
Given the customized nature of our business, we utilize a variety of
contract structures. Historically, most of our product detailing contracts have
been fee for service, i.e., the client pays a fee for a specified package of
services. These contracts typically include operational benchmarks, such as a
minimum number of sales representatives or a minimum number of calls. Also, our
contracts might have a lower base fee offset by built-in incentives we can earn
based on our performance. In these situations, we have the opportunity to earn
additional fees, as incentives, based on attaining performance benchmarks.
Our product detailing contracts generally are for terms of one to three
years and may be renewed or extended. However, the majority of these contracts
are terminable by the client for any reason on 30 to 90 days' notice. These
contracts typically, but not always, provide for termination payments in the
event they are terminated by the client without cause. While the cancellation of
a contract by a client without cause may result in the imposition of penalties
on the client, these penalties may not act as an adequate deterrent to the
termination of any contract. In addition, we cannot assure you that these
penalties will offset the revenue we could have earned under the contract or the
costs we may incur as a result of its termination. The loss or termination of a
large contract or the loss of multiple contracts could adversely affect our
future revenue and profitability. As an example, in February 2002, Bayer
notified us that they were exercising their right to terminate their contract
with us without cause. Contracts may also be terminated for cause if we fail to
meet stated performance benchmarks, though this has never happened.
Our MR&C and EdComm contracts generally are for projects lasting from
three to six months. The contracts are terminable by the client and provide for
termination payments in the event they are terminated without cause. Termination
payments include payment for all work completed to date, plus the cost of any
nonrefundable commitments made on behalf of the client. Due to the typical size
of the projects, it is unlikely the loss or termination of any individual MR&C
or EdComm contract would have a material adverse impact on our results of
operations, cash flows and liquidity.
PDI Pharmaceutical Products Group
Our contracts within the PPG segment in general are more heavily
performance based and have a higher risk potential and correspondingly an
opportunity for higher profitability. We use a variety of structures for such
contracts. These contracts typically involve significant startup expenses and a
greater risk of operating losses. These contracts normally require significant
participation from our PPG and MR&C and EdComm professionals whose skills
include marketing, brand management, trade relations and marketing research.
Beginning in the fourth quarter of 2000, we entered into a number of
significant performance based contracts. Our agreement with GlaxoSmithKline
(GSK), which we entered into in October 2000 regarding Ceftin(R), was a
marketing and distribution contract under which we had the exclusive right to
market and distribute designated Ceftin products in the U.S. The agreement had a
five-year term but was cancelable by either party without cause on 120 days'
notice. The agreement was terminated by mutual consent, effective February 28,
2002. Contracts such as the Ceftin agreement, which require us to purchase and
distribute product, have a greater number of risk factors than a traditional fee
for service contract. Any future agreement that involves in-licensing or product
acquisition would have similar risk factors.
In May 2001, we entered into a copromotion agreement with Novartis
Pharmaceuticals Corporation (Novartis) for the U.S. sales, marketing and
promotion rights for Lotensin(R) and Lotensin HCT(R), which agreement runs
through December 31, 2003. On May 20, 2002, we expanded this agreement with the
addition of Diovan(R) and Diovan HCT(R). Under this agreement, we provide
promotion, selling, marketing, and brand management for Lotensin. In exchange,
we are entitled to receive a revenue split based on certain total prescription
(TRx) objectives above specified contractual baselines. Also under this
agreement with Novartis, we copromote Lotrel(R) and Diovan in the U.S. for which
we are entitled to be compensated on a fixed fee basis with potential incentive
payments based upon achieving certain TRx objectives. Novartis has retained
regulatory responsibilities for Lotensin, Lotrel and
25
Diovan and ownership of all intellectual property. Additionally, Novartis will
continue to manufacture and distribute the products. In the event our estimates
of the demand for Lotensin are not accurate or more sales and marketing
resources than anticipated are required, the Novartis transaction could have a
material adverse impact on our results of operations, cash flows and liquidity.
Although there is a small operating loss on this contract excluding corporate
expense allocations for the year ending December 31, 2002, our efforts on this
contract did result in operating income for the quarters ended September 30,
2002 and December 31, 2002 because the sales of Lotensin exceeded the specified
baselines and the revenues earned exceeded the operating costs. We currently
estimate that future revenues will continue to exceed costs associated with this
agreement. However, there is no assurance that actual revenues will exceed
costs, in which event the activities covered by this agreement could yield an
operating loss and a contract loss reserve could be required. In 2003, the
Lotrel and Diovan contract within the Novartis agreement will be classified in
the SMSG segment since the nature of the contract has changed from a pure
performance based contract where we were not assured of recouping our expenses,
to a more traditional fee for service contract where we have greater certainty
of recouping our expenses with the additional potential for incentives at year
end based on achieving certain performance criteria.
In October 2001, we entered into an agreement with Eli Lilly and Company
(Eli Lilly) to copromote Evista(R) in the U.S. Evista is approved in the U.S.
for the prevention and treatment of osteoporosis in postmenopausal women. Under
the terms of the agreement, we provided sales representatives to copromote
Evista to physicians in the U.S. Our sales representatives augmented the Eli
Lilly sales force promoting Evista. Under this agreement, we were entitled to be
compensated based on net factory sales achieved above a predetermined level. The
agreement did not provide for the reimbursement of expenses we incurred.
The Eli Lilly arrangement was a performance based contract. We were
required to commit a certain level of spending for promotional and selling
activities, including but not limited to sales representatives. The sales force
assigned to Evista was at times used to promote other products in addition to
Evista, including products covered by other PDI copromotion arrangements, which
partially offset the costs of the sales force. Our compensation for Evista was
determined based upon a percentage of net factory sales of Evista above
contractual baselines. To the extent that these baselines were not exceeded, we
received no revenue.
Based upon management's assessment of the future performance potential of
the Evista brand, on November 11, 2002, we and Eli Lilly mutually agreed to
terminate the contract as of December 31, 2002. We accrued a contract loss of
$7.8 million as of September 30, 2002 representing the anticipated future loss
expected to be incurred by us to fulfill our contractual obligations under the
Evista contract. There was no remaining accrual as of December 31, 2002 as we
had no further obligations due to the termination of the contract. We recorded
$4.1 million in Evista program revenue for 2002 and the Evista program's
operating loss, excluding corporate expense allocations on this contract for the
year ended December 31, 2002, was $35.1 million, comprised of $28.9 million of
direct Evista program operating losses and $6.2 million of unused Evista program
sales force capacity.
On December 31, 2002, we entered into an exclusive licensing agreement
with Cellegy Pharmaceuticals, Inc. (Cellegy) for the North American rights to
its testosterone gel product. Cellegy submitted a New Drug Application (NDA) for
the hypogonadism indication in June 2002, based on positive results achieved in
a Phase III clinical trial. The U.S. Food and Drug Administration (FDA) has
accepted the application for review, and FDA approval for the commercialization
of the product is pending. The 10-month Prescription Drug User Fee Act (PDUFA)
date for the product is April 5, 2003, the first potential approval date for the
product, though there is no certainty that it will be approved at that time.
Under the terms of the agreement, which is in effect for the commercial life of
the product, upon execution of the agreement we paid Cellegy a $15.0 million
initial licensing fee. As the nonrefundable payment was made prior to FDA
approval and there is no alternative future use, the $15.0 million was expensed
when incurred. The amount has been recorded in other selling, general, and
administrative expenses in the consolidated statement of operations. We will be
required to pay Cellegy an additional $10.0 million after the product has all
FDA approvals required to promote, sell and distribute the product in the U.S.
This payment will be recorded as an intangible asset and amortized over the
estimated commercial life of the product. Royalty payments to Cellegy over the
term of the commercial life of the product will range from 20% to 30% of net
sales. The agreement is in effect for the commercial life of the product. As
discussed in the Legal Proceedings section of this report, in January 2003, a
lawsuit was filed against us seeking to enjoin our performance under this
agreement.
26
PDI Medical Devices and Diagnostics Group
On September 10, 2001, we acquired InServe Support Solutions (InServe) in
a transaction treated as an asset acquisition for tax purposes. The acquisition
was accounted for as a purchase in accordance with the provisions of Statement
of Financial Accounting Standards (SFAS) 141 and SFAS 142. The net assets of
InServe on the date of acquisition were approximately $1.3 million. At closing,
we paid the former shareholders of InServe $8.5 million, net of cash acquired.
Additionally, we deposited $3.0 million in escrow related to additional amounts
payable during 2002 if certain defined benchmarks were achieved. In April 2002,
$1.2 million of the escrow was paid to InServe shareholders (the Seller) and
$265,265 was returned to us due to nonachievement of a performance benchmark. In
September 2002, substantially all of the remaining $1.5 million in escrow was
paid to the Seller. In connection with these transactions, we recorded $7.8
million in goodwill, which is included in other long-term assets, and the
remaining purchase price was allocated to identifiable tangible and intangible
assets and liabilities acquired.
InServe is a leading nationwide supplier of supplemental field-staffing
programs for the MD&D industry. InServe employs nurses, medical technologists
and other clinicians who visit hospital and non-hospital accounts and provide
hands-on clinical education and after-sales support to maximize product
utilization and customer satisfaction. InServe's clients include many of the
leading MD&D companies, including Becton Dickinson, Boston Scientific and
Johnson & Johnson.
In addition to helping establish our first presence in the MD&D market,
the InServe acquisition facilitated our entry into, and helped us establish, a
contract sales business within the MD&D market. These service contracts have
similar provisions to our sales and marketing services contracts.
A major focus of the MD&D group is product licensing and acquisition. We
believe that this segment of the MD&D market is well suited for strategic
alliances and partnerships with companies looking to maximize the commercial
value of their products. This product licensing and acquisition focus led us to
our first commercial partnership in the MD&D market. In October 2002, we entered
into an agreement with Xylos Corporation (Xylos) for the exclusive U.S.
commercialization rights to Xylos' XCell(TM) Cellulose Wound Dressing (XCell)
wound care products, by entering into an agreement whereby we are the exclusive
commercialization partner for the sales, marketing and distribution of the
product line in the U.S. The minimum annual purchase requirement for the
calendar year 2003 is $750,000. The minimum annual purchase requirement for each
subsequent calendar year is based on the aggregate dollar volume of sales of
products during the 12-month period ending with September of the prior year, but
in no case can be less than $750,000.
Critical Accounting Policies
We prepare our financial statements in accordance with generally accepted
accounting principles (GAAP). The preparation of financial statements in
conformity with GAAP requires the use of estimates and assumptions that affect
the reported amounts of assets and liabilities, including disclosure of
contingent assets and liabilities, at the date of the financial statements and
the reported amounts of revenue and expenses during the reporting period. Our
critical accounting policies are those that are most important to our financial
condition and results and that require the most significant judgments on the
part of our management in their application. We believe that the following
represent our critical accounting policies. For a summary of all of our
significant accounting policies, including the critical accounting policies
discussed below, see footnote 1 to the consolidated financial statements. Our
management and our independent accountants have discussed our critical
accounting policies with the audit committee of the board of directors. Because
of the uncertainty of factors surrounding the estimates or judgments in the
preparation of the consolidated financial statements, particularly as it relates
to a number of the judgmental items discussed in this section, actual results
may vary from these estimates.
Revenues and costs of revenue
The paragraphs that follow describe the guidelines that we adhere to in
accordance with GAAP when recognizing revenue and cost of goods and services in
our financial statements. GAAP requires that service revenue and product revenue
and their respective direct costs be shown separately on the income statement.
However, our
27
reporting segments' revenue and direct costs may consist of both product and
service; the segment financial results are discussed later in the Consolidated
Results of Operations section beginning on page 30 and in Note 24 to the
consolidated financial statements located elsewhere in this report.
Historically, we have derived a sig