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EX-1.1 - FORM OF UNDERWRITING AGREEMENT - VERMILLION, INC.dex11.htm
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Table of Contents

As Filed with the Securities and Exchange Commission on February 2, 2011

Registration No. 333-171797

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Amendment No. 1

to

FORM S–1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

Vermillion, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   2835   33-0595156

(State or Other Jurisdiction of

Incorporation or Organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

12117 Bee Caves Road, Building Two, Suite 100

Austin, TX 78738

(512) 519-0400

(Address, Including Zip Code, and Telephone Number,

Including Area Code, of Registrant’s Principal Executive Offices)

 

 

Sandra A. Gardiner

Vice President and Chief Financial Officer

12117 Bee Caves Road, Building Two, Suite 100

Austin, TX 78738

(512) 519-0400

(Name, Address, Including Zip Code, and Telephone Number, Including Area Code, of Agent For Service)

Copies to:

 

Robert A. Claassen, Esq.

Jason R. Sanderson, Esq.

Paul, Hastings, Janofsky & Walker LLP

1117 South California Avenue

Palo Alto, CA 94304

(650) 320-1800

 

John D. Hogoboom, Esq.

Lowenstein Sandler PC

65 Livingston Avenue

Roseland, NJ 07068

(973) 597-2500

 

 

Approximate date of commencement of proposed sale to the public: As soon as possible after the effective date of this registration statement.

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨    Accelerated filer   þ
Non-accelerated filer   ¨ (do not check if a smaller reporting company)    Smaller reporting company   ¨

 

 


CALCULATION OF REGISTRATION FEE

 

 
Title of each class of
securities to be registered
  Amount
to be
registered
  Proposed
maximum
offering price
per Share
  Proposed
maximum
aggregate
offering price
  Amount of
registration fee

Common Stock, par value $0.001 per share

  4,600,000(1)   7.36(2)   $33,856,000   $3,930.68
 
 
(1) Includes 500,000 shares of Common Stock that the underwriter may purchase from the Registrant and 100,000 shares of Common Stock that the underwriter may purchase from the selling stockholder to cover over-allotments, if any.
(2) Estimated solely for the purpose of calculating the amount of the registration fee pursuant to Rule 457(c) of the Securities Act of 1933. The price per share and aggregate offering price are based upon the average of the high ($7.65) and low ($7.06) sales prices of the registrant’s common stock on January 31, 2011, as reported on the Nasdaq Global Market.

 

 

The Registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective on such date, as the Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


Table of Contents

The information in this prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and we and the selling stockholder are not soliciting offers to buy these securities in any jurisdiction where the offer or sale is not permitted.

 

SUBJECT TO COMPLETION, DATED FEBRUARY 2, 2011

PRELIMINARY PROSPECTUS

4,000,000 Shares

VERMILLION, INC.

Common Stock

 

 

We are offering 4,000,000 shares of our common stock, par value $0.001 per share.

Our common stock trades in the Nasdaq Global Market under the symbol “VRML.” On February 1, 2011, the last reported sale price of our common stock on the Nasdaq Global Market was $7.20 per share.

 

 

Investing in our common stock involves risks. See “Risk Factors” beginning on page 7.

 

     Per Share      Total  

Public Offering Price

   $                $                    

Underwriting Discount

   $                $                    

Proceeds to Us (before expenses)

   $                $                    

We have granted to the underwriter an option to purchase up to 500,000 additional shares of our common stock, and the selling stockholder named in this prospectus has granted to the underwriter an option to purchase up to 100,000 additional shares of our common stock, to cover over-allotments, if any, within 30 days of the date of this prospectus. If the over-allotment option is exercised only in part, option shares shall be taken first from the selling stockholder and second from us. We will not receive any proceeds from any sales of shares by the selling stockholder.

The underwriter expects to deliver the shares of our common stock to purchasers on or about                     , 2011, through the book-entry facilities of The Depository Trust Company.

Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

 

 

Roth Capital Partners

The date of this prospectus is                     , 2011.

 

 


Table of Contents

TABLE OF CONTENTS

 

     Page  

PROSPECTUS SUMMARY

     1   

RISK FACTORS

     7   

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

     18   

USE OF PROCEEDS

     19   

MARKET FOR COMMON STOCK

     20   

DIVIDEND POLICY

     21   

DILUTION

     22   

CAPITALIZATION

     23   

SELECTED CONSOLIDATED FINANCIAL DATA

     24   

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     27   

BUSINESS

     45   

MANAGEMENT

     62   

EXECUTIVE COMPENSATION

     68   

PRINCIPAL AND SELLING STOCKHOLDERS

     83   

UNDERWRITING

     86   

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     91   

DESCRIPTION OF CAPITAL STOCK

     96   

LEGAL MATTERS

     99   

EXPERTS

     99   

WHERE YOU CAN FIND MORE INFORMATION ABOUT US

     99   

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

     F-1   

 

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PROSPECTUS SUMMARY

This summary highlights selected information from this prospectus. The following summary information is qualified in its entirety by the information contained elsewhere in this prospectus. This summary is not complete and may not contain all of the information that you should consider prior to making an investment decision. You should read the entire prospectus carefully, including the “Risk Factors” section beginning on page 7 of this prospectus and the consolidated financial statements and notes thereto contained in this prospectus before making an investment decision. Unless the context otherwise requires, references to “Vermillion,” “we,” “us,” or “Company” refer to Vermillion, Inc. and its wholly owned subsidiaries.

Company Information

We are dedicated to the discovery, development and commercialization of novel high-value diagnostic tests that help physicians diagnose, treat and improve outcomes for patients. Our tests are intended to help guide decisions regarding patient treatment, which may include decisions to refer patients to specialists, to perform additional testing, or to assist in the selection of therapy. A distinctive feature of our approach is to combine multiple markers into a single, reportable index score that has higher diagnostic accuracy than its constituents. We concentrate our development of novel diagnostic tests in the fields of oncology, hematology, cardiology and women’s health, with the initial focus on ovarian cancer. We also intend to address clinical questions related to early disease detection, treatment response, monitoring of disease progression, prognosis and others through collaborations with leading academic and research institutions.

Our lead product, the OVA1™ ovarian tumor triage test (the “OVA1 Test”), was cleared by the United States Food and Drug Administration (the “FDA”) on September 11, 2009. The OVA1 Test addresses a clear unmet clinical need, namely the pre-surgical identification of women who are at high risk of having a malignant ovarian tumor. Numerous studies have documented the benefit of referral of these women to gynecologic oncologists for their initial surgery. Prior to the clearance of the OVA1 Test, no blood test had been cleared by the FDA for physicians to use in the presurgical management of ovarian adnexal masses. The OVA1 Test is a qualitative serum test that utilizes five well-established biomarkers and proprietary FDA-cleared software to determine the likelihood of malignancy in women with a pelvic mass for whom surgery is planned. The OVA1 Test was developed through large pre-clinical studies in collaboration with numerous academic medical centers encompassing over 2,500 clinical samples. The OVA1 Test was fully validated in a prospective multi-center clinical trial encompassing 27 sites reflective of the diverse nature of the clinical centers at which ovarian adnexal masses are evaluated. The results of the clinical trial demonstrated that the OVA1 Test, in conjunction with clinical evaluation, was able to identify 91.7% of the malignant ovarian tumors and to rule out malignancy negative predictive value (“NPV”) with 93.2% certainty. Recently, data were presented demonstrating the high sensitivity of the OVA1 Test for epithelial ovarian cancers (“EOC”); the OVA1 Test detected 95/96 EOC cases for a sensitivity of 99.0%, including 40/41 stage I and stage II EOC, for an overall sensitivity of 97.6% for early stage EOC, as compared to 65.9% for CA125 using the ACOG cutoffs. The improvement in sensitivity was even greater among premenopausal women; for the OVA1 Test, sensitivity for early stage EOC was 92.9% and for CA125, sensitivity was 35.7%. Overall, the OVA1 Test detected 76% of malignancies missed by CA125, including all advanced stage malignancies.

In addition to the OVA1 Test, we have development programs in other clinical aspects of ovarian cancer as well as in peripheral arterial disease. In the field of peripheral arterial disease, we have identified candidate biomarkers that may help to identify individuals at high risk for a decreased ankle-brachial index score, which is indicative of the likely presence of peripheral arterial disease (“PAD”). We have initiated an intended-use study to validate a multi-marker algorithm for the assessment of individuals at risk for PAD. This algorithm will be specifically directed at a primary care population in which the PAD blood test (“VASCLIR™”) is expected to be used. Subsequent to this study, we intend to discuss with the FDA the appropriate submission pathway, which

 

 

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may be pre-market approval (“PMA”), 510(k) clearance, or 510(k) de novo clearance. In the field of ovarian cancer, we have initiated pilot experiments intended to identify markers with high clinical specificity that may complement our current OVA1 Test. These experiments are investigational and we have not yet established a regulatory pathway for this potential product (OVA2).

Current and former academic and research institutions that we have or have had collaborations with include the Johns Hopkins University School of Medicine; the University of Texas M.D. Anderson Cancer Center; University College London; the University of Texas Medical Branch; the Katholieke Universiteit Leuven; Clinic of Gynecology and Clinic of Oncology, Rigshospitalet, Copenhagen University Hospital; the Ohio State University Research Foundation; Stanford University; and the University of Kentucky.

The OVA1 Test is currently being offered by Quest. Under the terms of our strategic alliance agreement with Quest, as amended (most recently on November 10, 2010), Quest is required to pay us a fixed payment of $50 per OVA1 Test performed, as well as 33% of its “gross margin” from revenue from performing the OVA1 Test, as that term is defined in the strategic alliance agreement as amended. Quest is the exclusive clinical laboratory provider of the OVA1 Test in its exclusive territory, which includes the US, Mexico, Britain and India through September 11, 2014. Quest has the right to extend the exclusivity period for an additional year beyond September 11, 2014 on the same terms and conditions.

Recent Developments

Qualifying Therapeutic Discovery Project Program

On November 2, 2010, we received notice of an award of two grants for the aggregate sum of $489,000 under the Internal Revenue Service Qualifying Therapeutic Discovery Projects Grant Program for the OVA2TM and PAD programs. The grant relates to 2010 expenditures and was awarded to therapeutic or diagnostic discovery projects that show a reasonable potential to result in new therapies or diagnostic tests that treat areas of unmet medical need or that prevent, detect or treat chronic or acute diseases and conditions.

 

 

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The Offering

 

Common stock offered

4,000,000 shares

 

Common stock to be outstanding after this offering (1)

14,416,085

 

Use of Proceeds

We expect that the net proceeds from this offering will be approximately $         (assuming a public offering price of $         per share, the average high and low sales prices of our common stock on                      2011), after deducting the estimated underwriting discount and after deducting the estimated offering expenses payable by us (or $         if the underwriter’s over-allotment option is exercised in full). We expect to use the net proceeds from this offering to fund clinical trials of our diagnostic test for PAD, to develop additional diagnostic tests, to research and pursue our expansion into international markets, to pursue opportunities to diversify our product and service lines and offerings, and for other general corporate purposes.

 

  In the event that the over-allotment option is exercised and the selling stockholder sells shares, we will not receive any of the proceeds received by the selling stockholder.

 

Risk Factors

See “Risk Factors” beginning on page 6 and other information included in this prospectus for a discussion of factors you should carefully consider before deciding to invest in our shares.

 

Nasdaq Global Market Trading Symbol

VRML

(1) The number of shares of common stock to be outstanding after this offering is based on 10,416,085 shares outstanding as of September 30, 2010 and excludes:

 

   

841,485 shares of our common stock issuable upon the exercise of options as of September 30, 2010;

 

   

231,951 shares of restricted stock granted to our directors as of September 30, 2010, 156,314 shares of which were issued to our directors during the fourth quarter of fiscal year 2010;

 

   

81,000 shares of our common stock issued to our directors as compensation during the fourth quarter of fiscal year 2010;

 

   

10,417 shares of restricted stock awards granted to our employees as of September 30, 2010, 4,165 shares of which were issued to our employees during the fourth quarter of fiscal year 2010;

 

   

415,782 shares of our common stock issuable upon the exercise of warrants as of September 30, 2010;

 

   

250,000 shares of our common stock reserved for issuance upon conversion of our senior convertible notes as of September 30, 2010;

 

   

1,102,683 shares of our common stock reserved for future issuance to employees, directors and consultants pursuant to our employee stock plans as of September 30, 2010, excluding the shares listed above; and

 

   

any options, warrants or shares of common stock issued after September 30, 2010, and any outstanding options or warrants that were exercised after September 30, 2010.

 

 

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Unless otherwise indicated, all information in this prospectus assumes:

 

   

our 1-for-10 reverse stock split effective at the close of business on March 3, 2008; and

 

   

no exercise of the underwriter’s over-allotment option to purchase up to 500,000 additional shares from us, and up to 100,000 additional shares from the selling stockholder named in this prospectus.

 

 

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Summary Consolidated Financial and Operating Data

The following table sets forth our historical consolidated financial and operating data as of and for each of the periods indicated, and should be read in conjunction with “Selected Consolidated Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus. We derived the selected consolidated financial data for the years ended December 31, 2007, 2008 and 2009 from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statements of operations data for the years ended December 31, 2005 and 2006, and the consolidated balance sheet data as of December 31, 2005, 2006 and 2007 were derived from our audited consolidated financial statements that are not included in this prospectus. The summary consolidated financial data as of September 30, 2010, and for the nine months ended September 30, 2009 and 2010 are derived from our unaudited consolidated financial statements included elsewhere in this prospectus.

Vermillion was originally incorporated in California on December 9, 1993, under the name Abiotic Systems. In March 1995, Abiotic Systems changed its corporate name to Ciphergen Biosystems, Inc., and subsequently on June 21, 2000, it reincorporated in Delaware. Under the name Ciphergen Biosystems, Inc., we had our initial public offering on September 28, 2000. On November 13, 2006, we sold the assets and liabilities of our protein research products and collaborative services business to Bio-Rad, which allowed us to focus on the development of our diagnostics tests. On August 21, 2007, Ciphergen Biosystems, Inc. changed its corporate name to Vermillion, Inc. Effective at the close of business on March 3, 2008, we effected a 1 for 10 reverse stock split of our common stock. Accordingly, all share and per share amounts were adjusted to reflect the impact of the 1 for 10 reverse stock split in this Form S-1.

On March 30, 2009, we filed a voluntary petition for relief under Chapter 11 of Title II of the United States Code (the “Bankruptcy Code”) in the United States Bankruptcy Court for the District of Delaware (the “Bankruptcy Court”). While under bankruptcy protection, we operated our business and managed our properties as debtors in possession. On January 22, 2010, pursuant to the terms of a confirmed plan, we emerged from bankruptcy.

Our historical results are not necessarily indicative of the results that may be expected for any future period. The results of operations data for the nine-month periods presented below are not necessarily indicative of the operating results for the entire year or any other future interim period. Financial information is in thousands, except per share data.

 

    Year Ended December 31,     Nine Months Ended
September 30,
 
    2005     2006     2007     2008     2009     2009     2010  
                      (Unaudited)  

Consolidated Statements of Operations Data:

             

Total revenue(1)

  $ 27,246      $ 18,215      $ 44      $ 124      $ —        $ —        $ 830   

Loss from operations(2)

    (34,509     (18,897     (19,620     (14,517     (5,363     (3,863     (10,347

Loss from continuing operations

    (36,387     (22,066     (21,282     (18,330     (22,048     (15,623     (15,020

Income from discontinued operations(3)

    954        —          —          —          —          —          —     

Net loss

  $ (35,433   $ (22,066   $ (21,282   $ (18,330   $ (22,048   $ (15,623   $ (15,020

Basic and diluted loss per share:

             

Loss from continuing operations

  $ (1.13   $ (0.61   $ (4.47   $ (2.87   $ (3.31   $ (2.45   $ (1.45

Income from discontinued operations

    0.03        —          —          —          —          —          —     
                                                       

Net loss

  $ (1.10   $ (0.61   $ (4.47   $ (2.87   $ (3.31   $ (2.45   $ (1.45
                                                       

Weighted-average shares used to compute basic and diluted loss per common share

    3,232        3,647        4,765        6,382        6,662        6,387        10,346   
                                                       

 

 

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    December 31,     Sept. 30,
2010
 
    2005     2006     2007     2008     2009    
                            (Unaudited)  

Consolidated Balance Sheets Data:

           

Cash and cash equivalents(4)

  $ 25,738      $ 17,711      $ 7,617      $ 2,464      $ 3,440      $ 25,292   

Investment in securities

    2,240        —          8,875        —          —          —     

Working capital (deficit)

    27,130        12,994        8,534        (3,727     (636     13,019   

Total assets

    52,811        23,016        24,053        3,858        4,609        26,367   

Long-term debt and capital lease obligations, including current portion

    31,512        25,511        28,667        28,878        17,765        12,000   

Total stockholders’ equity (deficit)

    6,523        (9,901     (11,462     (29,068     (27,317     4,480   

 

(1) The decrease in revenue for the year ended December 31, 2007 compared to the same period in the prior year was due to our sale of the assets and liabilities of our protein research products and collaborative services business to Bio-Rad Laboratories, Inc. We did not begin to generate revenue from diagnostic products and related licensing until the year ended December 31, 2010.
(2) The decrease in loss from operations from $14,517 for the year ended December 31, 2008 to $5,363 for the year ended December 31, 2009 was due primarily to the bankruptcy filing in March 2009 and the subsequent curtailment of operations and expenditures while under bankruptcy protection.
(3) Income from discontinued operations in 2005 related to the final disposition of an escrow account from the sale of our BioSepra business, which was sold to Pall Corporation on November 30, 2004.
(4) The increase in cash and cash equivalents from $3,440 at December 31, 2009 to $25,292 at September 30, 2010 was due to a private placement sale of 2,327,869 shares of our common stock for net proceeds of $42,800 in January 2010 as part of emerging from bankruptcy partially offset by operating and other expenses incurred during the nine months ended September 30, 2010 as well as the cash exercise of certain outstanding warrants.

 

 

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RISK FACTORS

An investment in our common stock involves a high degree of risk. You should carefully consider the following risk factors together with all of the other information contained in this prospectus, including our consolidated financial statements and the notes thereto, before deciding whether to invest in shares of our common stock. Each of these risks could harm our business, operating results, financial condition and/or growth prospects. As a result, the trading price of our common stock could decline and you might lose all or part of your investment. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our operations.

Risks Related to Our Business

We expect to incur a net loss for fiscal 2010. If we are unable to generate significant product and licensing revenue in the future, we may never achieve profitability.

We have experienced significant operating losses each year since our inception and we expect to incur a net loss for fiscal year 2010. Our losses have resulted principally from costs incurred in research and development, sales and marketing, litigation, and general and administrative costs associated with our operations, bankruptcy and test development.

Our ability to commercialize the OVA1 Test and other potential diagnostic tests is heavily dependent on our strategic alliance with Quest.

Quest has an exclusive license to offer the OVA1 Test as a clinical laboratory test in the US, Mexico, Britain and India through September 11, 2014, which may be extended for an additional year beyond September 11, 2014. In addition, Quest is expected to have a similar exclusive license with respect to our VASCLIR™ test for a three year period following clearance by the FDA, as well as with respect to one additional test developed by us, if and to the extent, Quest exercises its development option with respect to any such test on or before October 7, 2012. Consequently, our ability to generate revenue from these tests in these regions is heavily dependent on Quest and its ability to market and offer these tests in its clinical laboratories.

We expect that for the foreseeable future nearly all of our revenue will be derived from Quest and will depend on the number of the OVA1 Tests performed by Quest and the reimbursement rate for performing those tests, all of which are outside of our control.

We expect that nearly all of our revenues for the foreseeable future will be derived through our strategic partnership with Quest and will be based on the number of the OVA1 Tests performed by Quest and the reimbursement rate received by Quest for those tests. On November 10th, 2010, we entered into an Amendment No. 4 to our Strategic Alliance Agreement with Quest (the “Amendment No. 4”). Under the terms of the Amendment, we are to be paid $50 for each OVA1 Test performed by Quest (the “fixed amount”), as well as 33% of Quest’s gross margin from performing the OVA1 Tests (the “variable amount”). In addition, Amendment No. 4 provides for a monthly payment by Quest to us of the fixed amount and the variable amount based on Quest’s average reimbursement per OVA1 Test in the previous month. Under the terms of Amendment No. 4, the payments received by us are subject to recalculation and adjustment, either up or down, on an annual basis within 60 days of the end of each calendar year based on Quest’s actual reimbursement history for that calendar year. Any amounts owed by us to Quest will be deducted against payments owed to us in future periods. The number of tests performed by Quest and the amount of reimbursements received by Quest in any given period will be largely outside of our control, and if Quest were to perform fewer tests or receive less reimbursement per test than expected, it could have a material adverse effect on our revenue and results of operations.

How we will recognize revenue under the Quest Strategic Alliance Agreement remains uncertain and is likely to change, which could adversely affect our revenue in future periods.

As described in more detail above, Amendment No. 4 changed the structure and calculation of the payments to be received by us from Quest relating to the OVA1 Test. Given our limited commercialization history with the

 

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OVA1 Test, our lack of experience with the new payment terms contained in Amendment No. 4 and our inability to know or control Quest’s reimbursement rates for performing the OVA1 Test, it may be difficult for us to estimate the amount of the future variable payments and the size of any year-end adjustment. It is likely that we will be unable to recognize some or all of the revenue from the variable payments to be received from Quest until we are better able to estimate the final variable payment amounts and the magnitude and effect of the annual recalculation and adjustment mechanism. Accordingly, the amount of revenue we will be able to recognize in any quarter could vary significantly, and the method used to calculate that revenue could be subject to change. Any changes in the amount of revenue we are able to recognize or in the method used to calculate that revenue could adversely affect our revenue and results of operations in future periods.

We may need to raise additional capital for the Company in the future beyond what we raise in this offering, and if we are unable to secure adequate funds on terms acceptable to us, we may be unable to execute our business plan.

We believe that our current cash resources will be sufficient to meet our anticipated needs for the next 12 to 18 months. However, we may decide to raise additional capital beyond what we raise in this offering sooner in order to develop new or enhanced products or services, increase our efforts to discover biomarkers and develop them into diagnostic products, or acquire complementary products, businesses or technologies. We may seek to raise additional capital beyond what we raise in this offering through the issuance of equity or debt securities, or a combination thereof, in the public or private markets, or through a collaborative arrangement or sale of assets. Additional financing opportunities may not be available to us, or if available, may not be on favorable terms. The availability of financing opportunities will depend, in part, on market conditions, and the outlook for our business. Any future issuance of equity securities or securities convertible into equity could result in substantial dilution to our stockholders, and the securities issued in such a financing may have rights, preferences or privileges senior to those of our common stock. If we raise additional funds by issuing debt, we may be subject to limitations on our operations, through debt covenants or other restrictions. If we obtain additional funds through arrangements with collaborators or strategic partners, we may be required to relinquish rights to certain technologies or products that we might otherwise seek to retain. If adequate and acceptable financing is not available to us at the time that we seek to raise additional capital, our ability to execute our business plan successfully may be negatively impacted.

Substantial leverage and debt service obligations may adversely affect our consolidated cash flows.

As of September 30, 2010, we had $5,000,000 of outstanding principal of our 7.00% Convertible Senior Notes due 2011 (the “7.00% Notes”) and $7,000,000 outstanding under our secured line of credit with Quest.

Quest provided us with a $10,000,000 secured line of credit, which was forgivable based upon the achievement of certain milestones related to the development, regulatory approval and commercialization of certain diagnostic tests. As of our emergence from bankruptcy, certain milestones had been met and the principal balance of the secured line of credit was reduced to $7,000,000. We are in discussions with Quest regarding the achievement of an additional $1,000,000 forgiveness milestone related to the OVA1 Test under the terms of the Amended Strategic Alliance Agreement. The $7,000,000 secured line of credit is secured by our assets, and is senior to the outstanding $5,000,000 of the 7.00% Notes. As a result of this indebtedness, we have substantial principal and interest payment obligations. The degree to which we are leveraged could, among other things:

 

   

make it difficult for us to obtain financing for working capital, acquisitions or other purposes on favorable terms, if at all;

 

   

make us more vulnerable to industry downturns and competitive pressures; and

 

   

limit our flexibility in planning for or reacting to changes in our business.

Our ability to meet our debt service obligations will depend upon our future performance, which will be subject to financial, business and other factors affecting our operations, many of which are beyond our control. If we cannot meet our debt service obligation, it would have a material adverse effect on our consolidated financial position.

 

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We may not succeed in developing additional diagnostic products, and, even if we do succeed in developing additional diagnostic products, the diagnostic products may never achieve significant commercial market acceptance.

Our success depends on our ability to continue to develop and commercialize diagnostic products. There is considerable risk in developing diagnostic products based on our biomarker discovery efforts, as candidate biomarkers may fail to validate results in larger clinical studies or may not achieve acceptable levels of clinical accuracy. If we do succeed in developing additional diagnostic tests with acceptable performance characteristics, we may not succeed in achieving significant commercial market acceptance for those tests. Our ability to successfully commercialize diagnostic products, including the OVA1 Test, will depend on several factors, including:

 

   

our ability to convince the medical community of the safety and clinical efficacy of our products and their advantages over existing diagnostic products;

 

   

our ability to further establish business relationships with other diagnostic or laboratory companies that can assist in the commercialization of these products in the US and globally; and

 

   

the scope and extent of the agreement by Medicare and third-party payers to provide full or partial reimbursement coverage for our products, which will affect patients’ willingness to pay for our products and will likely heavily influence physicians’ decisions to recommend or use our products.

These factors present obstacles to significant commercial acceptance of our existing and potential diagnostic products, for which we will have to spend substantial time and financial resources to overcome, and there is no guarantee that we will be successful in doing so. Our inability to do so successfully would prevent us from generating revenue from future diagnostic products.

The diagnostics space is competitive and we may not be able to compete successfully, which would adversely impact our ability to generate revenue.

Our principal competition currently comes from the many clinical options available to medical personnel involved in clinical decision making. For example, rather than ordering an OVA1 Test for a woman with an adnexal mass, obstetricians, gynecologists, and gynecologic oncologists may choose a different clinical option or none at all. If we are not able to convince clinicians that the OVA1 Test provides a significant improvement over current clinical practices, our ability to commercialize the OVA1 Test would be adversely affected. In addition, competitors, such as Fujirebio Diagnostics, Inc., Becton Dickinson, ArrayIt Corporation, Correlogic Systems, Inc., and Abbott Labs have publicly disclosed that they have been or are currently working on ovarian cancer diagnostic assays. Additionally, academic institutions periodically report new findings in ovarian cancer diagnostics that may have commercial value. Our failure to compete with any competitive diagnostic assays if and when commercialized could adversely affect our business.

We have priced the OVA1 Test at a point that recognizes the value-added by its increased sensitivity for ovarian malignancy. If others develop a test that is viewed to be similar to the OVA1 Test in efficacy but is priced at a lower point, we and/or our strategic partners may have to lower the price of the OVA1 Test in order to effectively compete, which would impact our margins and potential for profitability.

The commercialization of our diagnostic tests may be affected adversely by changing FDA regulations, and any delay by or failure of the FDA to approve our diagnostic tests submitted to the FDA may adversely affect our consolidated revenues, results of operations and financial condition.

The FDA cleared the OVA1 Test on September 11, 2009. To the extent we seek FDA 510(k) clearance or FDA pre-market approval for other diagnostic tests, any delay by or failure of the FDA to clear or approve those diagnostic tests may adversely affect our consolidated revenues, results of operations and financial condition.

 

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If we or our suppliers fail to comply with FDA requirements, we may not be able to market our products and services and may be subject to stringent penalties; further improvements to our or our suppliers’ manufacturing operations may be required that could entail additional costs.

The commercialization of our products could be delayed, halted or prevented by applicable FDA regulations. If the FDA were to view any of our actions as non-compliant, it could initiate enforcement actions, such as a warning letter and possible imposition of penalties. In addition, analyte specific reagents (“ASRs”) that we may provide would be subject to a number of FDA requirements, including compliance with the FDA’s Quality System Regulations (“QSR”), which establish extensive requirements for quality assurance and control as well as manufacturing procedures. Failure to comply with these regulations could result in enforcement actions for us or our potential suppliers. Adverse FDA actions in any of these areas could significantly increase our expenses and limit our revenue and profitability. We will need to undertake steps to maintain our operations in line with the FDA’s QSR requirements. Some components of the OVA1 Test are manufactured by other companies and we are required to maintain supply agreements with these companies. If these agreements are not satisfactory to the FDA, we will have to renegotiate these agreements. Any failure to do so would have an adverse effect on our ability to commercialize the OVA1 Test. Our suppliers’ manufacturing facilities will be subject to periodic regulatory inspections by the FDA and other federal and state regulatory agencies. If and when we begin commercializing and assembling our products by ourselves, our facilities will be subject to the same inspections. We or our suppliers may not satisfy such regulatory requirements, and any such failure to do so would have an adverse effect on our commercialization efforts.

If we fail to continue to develop our technologies, we may not be able to successfully foster adoption of our products and services or develop new product offerings.

Our technologies are new and complex, and are subject to change as new discoveries are made. New discoveries and advancements in the diagnostic field are essential if we are to foster the adoption of our product offerings. Development of these technologies remains a substantial risk to us due to various factors, including the scientific challenges involved, our ability to find and collaborate successfully with others working in the diagnostic field, and competing technologies, which may prove more successful than our technologies.

If we fail to maintain our rights to utilize intellectual property directed to diagnostic biomarkers, we may not be able to offer diagnostic tests using those biomarkers.

One aspect of our business plan is to develop diagnostic tests based on certain biomarkers, which we have the right to utilize through licenses with our academic collaborators, such as the Johns Hopkins University School of Medicine, Stanford University, and the University of Texas M.D. Anderson Cancer Center. In some cases, our collaborators own the entire right to the biomarkers. In other cases, we co-own the biomarkers with our collaborators. If, for some reason, we lose our license to biomarkers owned entirely by our collaborators, we may not be able to use those biomarkers in diagnostic tests. If we lose our exclusive license to biomarkers co-owned by us and our collaborators, our collaborators may license their share of the intellectual property to a third party that may compete with us in offering diagnostic tests, which would materially adversely affect our consolidated revenues, results of operations and financial condition.

We have $7,000,000 outstanding from the secured line of credit provided by Quest. If we fail to achieve the milestones for the forgiveness of the secured line of credit set forth in our amended credit agreement with Quest, we will be responsible for full repayment of the secured line of credit on or before October 7, 2012.

As of September 30, 2010, we have $7,000,000 outstanding from the secured lined of credit in connection with the Strategic Alliance. Over a two-year period, we borrowed monthly increments of $417,000, totaling $10,000,000, and have paid all interest that was due. Funds from this secured line of credit were used for certain costs and expenses directly related to the Strategic Alliance, with forgiveness of the repayment obligations based upon our achievement of milestones related to the development, regulatory approval and commercialization of certain diagnostic tests. On October 7, 2009, the Strategic Alliance Agreement was amended to extend the term

 

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of the agreement to end on the earlier of (i) October 7, 2012 and (ii) the date on which Quest makes its third development election. On September 11, 2009, we announced our milestone achievement of clearing the OVA1 Test with the FDA and, effective after the emergence from bankruptcy, reduced our principal obligations under the Amended Strategic Alliance Agreement to $7,000,000. We are in discussions with Quest regarding the achievement of an additional $1,000,000 forgiveness milestone related to the OVA1 Test under the terms of the Amended Strategic Alliance Agreement. Should we fail to achieve the remaining milestones, we would be responsible for the repayment of the outstanding principal amount and any unpaid interest on the secured line of credit on or before October 7, 2012, which could materially adversely affect our consolidated results of operations and financial condition.

If a competitor infringes on our proprietary rights, we may lose any competitive advantage we may have as a result of diversion of our time, enforcement costs and the loss of the exclusivity of our proprietary rights.

Our success depends in part on our ability to maintain and enforce our proprietary rights. We rely on a combination of patents, trademarks, copyrights and trade secrets to protect our technology and brand. We have submitted a number of patent applications covering biomarkers that may have diagnostic or therapeutic utility. Our patent applications may or may not result in additional patents being issued.

If competitors engage in activities that infringe on our proprietary rights, our focus will be diverted and we may incur significant costs in asserting our rights. We may not be successful in asserting our proprietary rights, which could result in our patents being held invalid or a court holding that the competitor is not infringing, either of which would harm our competitive position. We cannot be sure that competitors will not design around our patented technology.

We also rely upon the skills, knowledge and experience of our technical personnel. To help protect our rights, we require all employees and consultants to enter into confidentiality agreements that prohibit the disclosure of confidential information. These agreements may not provide adequate protection for our trade secrets, knowledge or other proprietary information in the event of any unauthorized use or disclosure. If any trade secret, knowledge or other technology not protected by a patent were to be disclosed to or independently developed by a competitor, it could have a material adverse effect on our business, consolidated results of operations and financial condition.

If others successfully assert their proprietary rights against us, we may be precluded from making and selling our products or we may be required to obtain licenses to use their technology.

Our success depends on avoiding infringing on the proprietary technologies of others. If a third party were to assert claims that we are violating their patents, we might incur substantial costs defending ourselves in lawsuits against charges of patent infringement or other unlawful use of another’s proprietary technology. Any such lawsuit may not be decided in our favor, and if we are found liable, it may be subject to monetary damages or injunction against using the technology. We may also be required to obtain licenses under patents owned by third parties and such licenses may not be available to us on commercially reasonable terms, if at all.

Current and future litigation against us could be costly and time consuming to defend.

We are from time to time subject to legal proceedings and claims that arise in the ordinary course of business, such as claims brought by our clients in connection with commercial disputes, employment claims made by current or former employees, and claims brought by third parties alleging infringement on their intellectual property rights. In addition, we may bring claims against third parties for infringement on our intellectual property rights. Litigation may result in substantial costs and may divert our attention and resources, which may seriously harm our business, consolidated results of operations and financial condition.

An unfavorable judgment against us in any legal proceeding or claim could require us to pay monetary damages. In addition, an unfavorable judgment in which the counterparty is awarded equitable relief, such as an

 

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injunction, could have an adverse impact on our licensing and sublicensing activities, which could harm our business, consolidated results of operations and consolidated financial condition.

On July 9, 2007, Molecular Analytical Systems (“MAS”) filed a lawsuit in the Superior Court of California for the County of Santa Clara naming Vermillion and Bio-Rad Laboratories, Inc. (“Bio-Rad”) as defendants (the “State Court lawsuit”). Under the State Court lawsuit, MAS seeks an unspecified amount of damages and alleges, among other things, that Vermillion is in breach of its license agreement with MAS relating to the Company’s Surfaced Enhanced Laser Desorption/Ionization (“SELDI”) technology as a result of Vermillion’s entry into a sublicense agreement with Bio-Rad. Vermillion filed a petition to compel arbitration, which was denied in the trial court. Vermillion then filed its general denial and affirmative defenses on April 1, 2008. The Company and Bio-Rad thereafter appealed the denial of the motion to compel arbitration, which appeal had the effect of staying the State Court lawsuit, which stay was further extended in both the state trial and appellate courts when the Company filed for bankruptcy protection on March 30, 2009, a Voluntary Petition for Relief under Chapter 11 in the Bankruptcy Court. MAS filed a proof of claim on July 15, 2009, in connection with the Company’s bankruptcy proceedings. The proof of claim mirrored the MAS lawsuit and asserted that the Company breached the Exclusive License Agreement by transferring certain technologies to Bio-Rad without obtaining MAS’s consent. MAS listed the value of its claim as in excess of $5,000,000. On December 28, 2009, the Company objected to MAS's Proof of Claim in the Bankruptcy Court. On January 7, 2010, the Bankruptcy Court confirmed the Company’s Plan of Reorganization. Per the Court’s order confirming the Plan, the Company’s bankruptcy case will be closed when, along with other requirements, a final, non-appealable judgment is entered on MAS’s claims. After the Plan of Reorganization was confirmed, MAS filed a motion with the Bankruptcy Court asking it to abstain from hearing its proof of claim and asked the Bankruptcy Court to grant relief from the automatic stay so that MAS could proceed with the State Court lawsuit in California. Over our objection, the Bankruptcy Court granted that motion on March 16, 2010. Thereafter, the California Court of Appeal set oral argument on our appeal of the trial court order denying our motion to compel arbitration for June 17, 2010. The California Court of Appeals overturned the Superior Court’s decision in an opinion dated July 9, 2010, and ordered that the dispute be arbitrated before the Judicial Arbitration and Mediation Service (“JAMS”). MAS filed its demand for arbitration on September 15, 2010. The demand did not include any additional detail regarding MAS’s claims, and submitted the same complaint for unspecified damages that MAS filed in the Superior Court in 2007. JAMS has not yet set a schedule for resolution of MAS’s claims, and management cannot predict the ultimate outcome of this matter at this time.

Our failure to meet our purchase commitments pursuant to a manufacture and supply agreement with Bio-Rad could adversely affect our consolidated results of operations and financial condition.

We are a party to a manufacture and supply agreement with Bio-Rad, dated November 13, 2006, whereby we agreed to purchase from Bio-Rad the ProteinChip Systems and ProteinChip Arrays necessary to support our diagnostics efforts. Under the terms of the agreement, we were required to purchase a specified number of ProteinChip Systems and ProteinChip Arrays in each of the three years following the date of the agreement. Pursuant to a letter from us to Bio-Rad dated May 2, 2008, we exercised our right to terminate the agreement for convenience upon 180 days’ written notice. Consequently, termination of the agreement became effective on October 29, 2008. In our bankruptcy proceeding, Bio-Rad filed a claim for approximately $1,000,000. If we are unable to resolve this claim, it would have an adverse effect on our consolidated cash flows.

Because our business is highly dependent on key executives and employees, our inability to recruit and retain these people could hinder our business plans.

We are highly dependent on our executive officers and certain key employees. Our executive officers and key employees are employed at will by us. Any inability to engage new executive officers or key employees could impact operations or delay or curtail our research, development and commercialization objectives. To continue our research and product development efforts, we need people skilled in areas such as clinical operations, regulatory affairs, clinical diagnostics, biochemistry and information services. Competition for qualified employees is intense.

 

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Our diagnostic efforts may cause us to have significant product liability exposure.

The testing, manufacturing and marketing of medical diagnostic tests entail an inherent risk of product liability claims. Potential product liability claims may exceed the amount of our insurance coverage or may be excluded from coverage under the terms of the policy. Our existing insurance will have to be increased in the future if we are successful at introducing new diagnostic products and this will increase our costs. In the event that we are held liable for a claim or for damages exceeding the limits of our insurance coverage, we may be required to make substantial payments. This may have an adverse effect on our consolidated results of operations, financial condition and cash flows, and may increase the volatility of our common stock price.

Business interruptions could limit our ability to operate our business.

Our operations, as well as those of the collaborators on which we depend, are vulnerable to damage or interruption from fire; natural disasters, including earthquakes; computer viruses; human error; power shortages; telecommunication failures; international acts of terror; and similar events. Although we have certain business continuity plans in place, we have not established a formal comprehensive disaster recovery plan, and our back-up operations and business interruption insurance may not be adequate to compensate it for losses we may suffer. A significant business interruption could result in losses or damages incurred by us and require us to cease or curtail our operations.

We have identified a material weakness in our internal control over financial reporting. If we fail to remediate any material weaknesses and maintain proper and effective internal controls, our ability to produce accurate and timely financial statements could be impaired, which could adversely affect our business, operating results, and financial condition.

A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. As disclosed within our Annual Report on Form 10-K for the period ended December 31, 2009, we have carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and former Interim Chief Accounting Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of December 31, 2009 and concluded that our disclosure controls and procedures were not effective because of a material weakness in internal control over financial reporting as of that date.

Following our filing of a voluntary petition for relief under Chapter 11 of the United States Bankruptcy Code in the Bankruptcy Court on March 30, 2009, we did not maintain sufficient staff with the necessary experience in US GAAP to timely perform our controls procedures relating to the accounting and reporting processes. Specifically, we did not have sufficient accounting and reporting expertise necessary to make estimates requiring significant judgment or to record complex transactions in a manner necessary to facilitate the timely filing of all Forms required by the Exchange Act of 1934. As a result, we were not able to timely file our Forms 10-Q and 10-K in accordance with the Exchange Act’s rules and regulations. This control deficiency, if not corrected, could result in a material misstatement of our annual or interim consolidated financial statements that would not be prevented or detected on a timely basis. Therefore, management concluded, as of December 31, 2009, that this control deficiency constituted a material weakness and has taken steps to improve controls in this area.

Despite these steps, we may determine the material weakness that existed at December 31, 2009 has not yet been remediated and that other material weaknesses exist, which, if not remediated, may render us unable to detect in a timely manner misstatements that could occur in our financial statements in amounts that may be material.

Our testing, evaluation and conclusion on the effectiveness of our internal controls in place at December 31, 2010 will not be completed until sometime in early 2011. As a result, we have not yet made any conclusions, nor have we disclosed in any of our subsequent quarterly filings, the sufficiency of the actions taken in remediating the control deficiencies that led to the material weakness at December 31, 2009.

 

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Legislative actions resulting in higher compliance costs are likely to adversely affect our future consolidated results of operations, financial position and cash flows.

Compliance with laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, and new regulations adopted by the SEC, are resulting in increased compliance costs. We, like all other public companies, are incurring expenses and diverting employees’ time in an effort to comply with Section 404 of the Sarbanes-Oxley Act of 2002. We have completed the process of documenting our systems of internal control and have evaluated our systems of internal control. Beginning with the year ended December 31, 2004, we have been required to assess continuously our compliance with Section 404 of the Sarbanes-Oxley Act of 2002. We expect to continue to devote the necessary resources, including internal and external resources, to support our assessment. In the future, if we identify one or more material weaknesses, or our independent registered public accounting firm is unable to attest that our report is fairly stated or to express an opinion on the effectiveness of our internal controls over financial reporting, this could result in a loss of investor confidence in our financial reports, have an adverse effect on our stock price and/or subject us to sanctions or investigation by regulatory authorities. Compliance with these evolving standards will result in increased general and administrative expenses and may cause a diversion of our time and attention from revenue-generating activities to compliance activities.

The insurance coverage and reimbursement status of our OVA1 Test and future new tests is uncertain and failure to obtain or maintain adequate coverage and reimbursement for our OVA1 Test and future new tests could limit our ability to commercialize these tests and decrease our ability to generate revenue.

There is significant uncertainty related to the insurance coverage and reimbursement of newly approved diagnostic tests. The commercial success of our OVA1 Test and future new tests is substantially dependent on whether third-party coverage and reimbursement is available for the ordering of our tests by the medical profession for use by their patients. Medicare, Medicaid, health maintenance organizations, and other third-party payors are increasingly attempting to contain healthcare costs by limiting both coverage and the level of reimbursement of new diagnostic tests, and, as a result, they may not cover or provide adequate payment for our tests. Our OVA1 Test, and our future new tests, if approved by the FDA, could face declining revenues if competitor tests are perceived as providing a substantially equivalent clinical effect at a lower cost to the payor. They may not view our tests as cost-effective and reimbursement may not be available to consumers or may not be sufficient to allow our tests to be marketed on a competitive basis. Likewise, legislative or regulatory efforts to control or reduce healthcare costs or reform government healthcare programs could result in lower prices or rejection of our tests. Changes in coverage and reimbursement policies or healthcare cost containment initiatives that limit or restrict reimbursement for our tests may cause our revenue to decline.

Changes in healthcare policy could increase our costs and impact sales of and reimbursement for our tests.

In March 2010, President Barack Obama signed the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Affordability Reconciliation Act (collectively, the “PPACA”), which makes changes that are expected to significantly impact the pharmaceutical and medical device industries. Beginning in 2013, each medical device manufacturer will have to pay a sales tax in an amount equal to 2.3 percent of the price for which such manufacturer sells its medical devices. The PPACA also mandates a reduction in payments for clinical laboratory services paid under the Medicare Clinical Laboratory Fee Schedule of 1.75% for the years 2011 through 2015. This adjustment is in addition to a productivity adjustment to the Clinical Laboratory Fee Schedule. In addition to the PPACA, the impact of which cannot be predicted given its recent enactment and current lack of implementing regulations or interpretive guidance, a number of states are also contemplating significant reform of their healthcare policies. We cannot predict whether future healthcare initiatives will be implemented at the federal or state level, or the effect any future legislation or regulation will have on us. The taxes imposed by the new federal legislation may result in decreased profits to us, and lower reimbursements by payers for our tests, all of which may adversely affect our business.

 

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We are subject to environmental laws and potential exposure to environmental liabilities.

We are subject to various international, federal, state and local environmental laws and regulations that govern our operations, including the handling and disposal of non-hazardous and hazardous wastes, the recycling and treatment of electrical and electronic equipment, and emissions and discharges into the environment. Failure to comply with such laws and regulations could result in costs for corrective action, penalties or the imposition of other liabilities. We are also subject to laws and regulations that impose liability and clean-up responsibility for releases of hazardous substances into the environment. Under certain of these laws and regulations, a current or previous owner or operator of property may be liable for the costs to remediate hazardous substances or petroleum products on or from its property, without regard to whether the owner or operator knew of, or caused, the contamination, as well as incur liability to third parties affected by such contamination. The presence of, or failure to remediate properly, such substances could adversely affect the value and the ability to transfer or encumber such property. Based on currently available information, although there can be no assurance, we believe that such costs and liabilities have not had and will not have a material adverse impact on our consolidated results of operations.

Risks Related to Owning our Stock

The liquidity and trading volume of our common stock may be low.

The liquidity and trading volume of our common stock has at times been low in the past and may again be low in the future. If the liquidity and trading volume were to fall, this could impact the trading price of our shares and adversely affect our ability to issue stock and for holders to obtain liquidity in their shares should they desire to sell.

Our stock price has been, and may continue to be, highly volatile, and an investment in our stock could suffer a decline in value.

The trading price of our common stock has been highly volatile and could continue to be subject to wide fluctuations in price in response to various factors, many of which are beyond our control, including:

 

   

Our emergence from bankruptcy under Chapter 11, and the risks, uncertainties and difficulties related thereto;

 

   

failure to significantly increase revenue;

 

   

actual or anticipated period-to-period fluctuations in financial results;

 

   

failure to achieve, or changes in, financial estimates by securities analysts;

 

   

announcements or introductions of new products or services or technological innovations by us or our competitors;

 

   

publicity regarding actual or potential discoveries of biomarkers by others;

 

   

comments or opinions by securities analysts or major stockholders;

 

   

conditions or trends in the pharmaceutical, biotechnology and life science industries;

 

   

announcements by us of significant acquisitions and divestitures, strategic partnerships, joint ventures or capital commitments;

 

   

developments regarding our patents or other intellectual property or that of our competitors;

 

   

litigation or threat of litigation;

 

   

additions or departures of key personnel;

 

   

limited daily trading volume; and

 

   

economic and other external factors, disasters or crises.

 

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In addition, the stock market in general and the market for diagnostic technology companies, in particular, have experienced significant price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of those companies. These broad market and industry factors may seriously harm the market price of our common stock, regardless of our operating performance. In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been instituted. A securities class action suit against us could result in substantial costs, potential liabilities and the diversion of our attention and our resources.

Anti-takeover provisions in our charter, bylaws and stockholder rights plan and under Delaware law could make a third party acquisition of the Company difficult.

Our certificate of incorporation, bylaws and stockholder rights plan contain provisions that could make it more difficult for a third party to acquire the Company, even if doing so might be deemed beneficial by our stockholders. These provisions could limit the price that investors might be willing to pay in the future for shares of our common stock. We are also subject to certain provisions of Delaware law that could delay, deter or prevent a change in control of the Company. The rights issued pursuant to our stockholder rights plan will become exercisable the tenth day after a person or group announces acquisition of 15% or more of our common stock or announces commencement of a tender or exchange offer the consummation of which would result in ownership by the person or group of 15% or more of our common stock. If the rights become exercisable, the holders of the rights (other than the person acquiring 15% or more of our common stock) will be entitled to acquire, in exchange for the rights’ exercise price, shares of our common stock or shares of any company in which the Company is merged, with a value equal to twice the rights’ exercise price.

Because we do not intend to pay dividends, our stockholders will benefit from an investment in our common stock only if it appreciates in value.

We have never declared or paid any cash dividends on our common stock. We currently intend to retain our future earnings, if any, to finance the expansion of our business and do not expect to pay any cash dividends in the foreseeable future. As a result, the success of an investment in our common stock will depend entirely upon any future appreciation. There is no guarantee that our common stock will appreciate in value or even maintain the price at which our investors purchased their shares.

We may need to sell additional shares of our common stock or other securities in the future to meet our capital requirements which could cause significant dilution.

As of September 30, 2010, we had 10,416,085 shares of our common stock outstanding and 1,102,683 shares of our common stock reserved for future issuance to employees, directors and consultants pursuant to our employee stock plans, which excludes 841,485 shares of our common stock that were subject to outstanding options. We granted 302,541 shares of restricted stock to the Directors pursuant to the Debtor’s Incentive Plan and 25,000 shares of restricted stock awards to certain employees pursuant to the 2010 Plan. These shares are subject to a vesting schedule of twenty-four months beginning June 22, 2009. In addition, as of September 30, 2010, warrants to purchase 415,782 shares of our common stock were outstanding at exercise prices ranging from $9.25 to $25.00 per share, with a weighted average exercise price of $17.59 per share. Also at September 30, 2010, there were 250,000 shares of our common stock reserved for issuance upon conversion of the 7.00% Notes.

The exercise or conversion of all or a portion of our senior notes, outstanding options and warrants, and the vesting of our restricted stock, would dilute the ownership interests of our stockholders. Furthermore, future sales of substantial amounts of our common stock in the public market, or the perception that such sales are likely to occur, could affect prevailing trading prices of our common stock and the value of the notes.

 

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We have broad discretion in how we use the net proceeds of this offering, and we may not use these proceeds effectively or in ways with which you agree.

Our management will have broad discretion as to the application of the net proceeds of this offering and could use them for purposes other than those contemplated at the time of this offering. Our stockholders may not agree with the manner in which our management chooses to allocate and spend the net proceeds. Moreover, our management may use the net proceeds for corporate purposes that may not increase the market price of our common stock.

Purchasers will experience immediate dilution in the book value per share of the common stock purchased in this offering.

The expected offering price of our common stock will be substantially higher than the net tangible book value per share of our outstanding common stock. As a result, based on our net tangible book value per share of $         as of September 30, 2010, investors purchasing shares in this offering would incur immediate dilution of $         per share of common stock purchased, based on an assumed public offering price of our common stock of $         per share, the average of the high and low sales prices of our common stock on                     , 2011. See “Dilution.”

 

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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Some statements in this prospectus are deemed forward-looking statements for purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. We claim the protection of such safe harbor, and disclaims any intent or obligation to update any forward-looking statement. You can identify these statements by forward-looking words such as “may”, “will”, “expect”, “intend”, “anticipate”, “believe”, “estimate”, “plan”, “could”, “should” and “continue” or similar words. These forward-looking statements may also use different phrases. We have based these forward-looking statements on management’s current expectations and projections about future events. Examples of forward-looking statements include the following statements:

 

   

projections of our future revenue, results of operations and financial condition;

 

   

anticipated efficacy of our products, product development activities and product innovations;

 

   

competition and consolidation in the markets in which we compete;

 

   

existing and future collaborations and partnerships;

 

   

the utility of biomarker discoveries;

 

   

our belief that biomarker discoveries may have diagnostic and/or therapeutic utility;

 

   

our plans to develop and commercialize diagnostic tests through our strategic alliance with Quest;

 

   

our ability to comply with applicable government regulations;

 

   

our ability to expand and protect our intellectual property portfolio;

 

   

anticipated future losses;

 

   

expected levels of expenditures;

 

   

expected market adoption of our diagnostic tests, including the OVA1 Test;

 

   

our ability to obtain reimbursement for our diagnostic tests, including the OVA1 Test;

 

   

forgiveness of the outstanding principal amounts of the secured line of credit by Quest;

 

   

accounting treatment of revenue from our agreement with Quest;

 

   

the period of time for which our existing financial resources, debt facilities and interest income will be sufficient to enable us to maintain current and planned operations; and

 

   

market risk of our investments.

These statements are subject to significant risks and uncertainties, including those identified in the section of this prospectus entitled “Risk Factors”, that could cause actual results to differ materially from those projected in such forward-looking statements due to various factors, including our ability to generate sales after completing development of diagnostic products; our ability to manage our operating expenses and cash resources consistently with our plans; our ability to secure adequate funds on acceptable terms to execute our business plan; our ability to develop and commercialize diagnostic products using both our internal and external research and development resources; our ability to obtain market acceptance of our OVA1 Test or future diagnostic products, including the risk that our products will not be competitive with products offered by other companies, or that users will not be entitled to receive adequate reimbursement for our products from third party payers such as private insurance companies and government insurance plans; our ability to successfully license or otherwise successfully partner with third parties to commercialize our products; our ability to obtain any regulatory approval for our future diagnostic products; and our ability to protect and promote our proprietary technologies. We believe it is important to communicate our expectations to our investors. However, there may be events in the future that we are not able to accurately predict or that we do not fully control that could cause actual results to differ materially from those expressed or implied in our forward-looking statements.

 

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USE OF PROCEEDS

We expect that the net proceeds from this offering will be approximately $         (assuming a public offering price of $         per share, the average of the high and low sales prices of our common stock on                     , 2011, after deducting the estimated underwriting discount and after deducting the estimated offering expenses payable by us (or $         if the underwriter’s over-allotment option is exercised in full). We expect to use the net proceeds from this offering to fund clinical trials for our diagnostic test for PAD, to develop additional diagnostic tests, to research and pursue our expansion into international markets, to pursue opportunities to diversify our product and service lines and offerings, and for general corporate purposes.

In the event that the over-allotment option is exercised and the selling stockholder sells shares, we will not receive any of the proceeds received by the selling stockholder.

 

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MARKET FOR COMMON STOCK

Our common stock is traded on the Nasdaq Global Market under the symbol “VRML.”

On September 25, 2008, our common stock was delisted from and suspended from trading on the Nasdaq Capital Market as a result of our noncompliance with the listing criteria under Marketplace Rule 4310(c)(3). Upon delisting from the Nasdaq Capital Market, our common stock became immediately eligible for quotation and began trading over-the-counter (“OTC”) on Pink Quote, formerly known as Pink Sheets, electronic quotation system (“Pink Quote”) on September 25, 2008, under the ticker symbol “VRML.PK”. After a market maker’s application to trade our common stock on the OTC Bulletin Board was approved by the Financial Industry Regulatory Authority, our common stock began trading on the OTC Bulletin Board under the ticker symbol “VRML.OB” on October 10, 2008.

In connection to our March 30, 2009 filing for relief under the Bankruptcy Code in the Bankruptcy Court, our common stock began trading under the ticker symbol “VRMLQ.OB” on April 6, 2009. On April 20, 2009, our common stock began trading under the ticker symbol “VRMQE.OB” as a result of our becoming a delinquent filer of our required financial reports to the Securities and Exchange Commission under the National Association of Securities Dealers, Inc. (“NASD”) Rule 6530. After a 30-day grace period on May 20, 2009, our common stock was delisted from the OTC Bulletin Board for noncompliance with NASD Rule 6530. Upon delisting from the OTC Bulletin Board, our common stock became immediately eligible for quotation and began trading on Pink Quote under the ticker symbol “VRMLQ.PK” on May 20, 2009. On January 27, 2010, our common stock began trading under the symbol “VRML.PK” in connection with our emergence from bankruptcy under Chapter 11 of the United States Bankruptcy Code on January 22, 2010.

On July 6, 2010, the Nasdaq Stock Market LLC relisted our common stock on the Nasdaq Global Market.

The following sets forth the quarterly high and low trading prices as reported by the Nasdaq Global Market, Pink Quote and OTC Bulletin Board for the periods indicated. Any prices reflecting OTC quotations are based on quotations between dealers, which do not reflect retail mark-up, markdown or commissions, and do not necessarily represent actual transactions.

 

     Vermillion, Inc.
Common Stock
 
     High      Low  

Fiscal Year 2009

     

First Quarter

   $ 0.90       $ 0.21   

Second Quarter

   $ 1.20       $ 0.02   

Third Quarter

   $ 14.00       $ 0.01   

Fourth Quarter

   $ 28.45       $ 9.56   

Fiscal Year 2010

     

First Quarter

   $ 34.00       $ 20.90   

Second Quarter

   $ 29.00       $ 10.95   

Third Quarter

   $ 13.50       $ 4.95   

Fourth Quarter

   $ 9.49       $ 4.53   

Fiscal Year 2011

     

First Quarter (through February 1, 2011)

   $ 9.25       $ 6.56   

The closing price for our common stock on                     , 2011 was $        . As of December 31, 2010, there were approximately 64 holders of record of our common stock, excluding shares held in book-entry form through The Depository Trust Company, and we estimate that the number of beneficial owners of shares of our common stock was approximately 2,834 as of such date.

 

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DIVIDEND POLICY

We have never paid or declared any dividend on our common stock and we do not anticipate paying cash dividends on our common stock in the foreseeable future. If we pay a cash dividend on our common stock, we also may be required to pay the same dividend on an as-converted basis on any outstanding preferred stock, warrants, convertible notes or other securities. Moreover, any preferred stock or other senior debt or equity securities to be issued and any future credit facilities might contain restrictions on our ability to declare and pay dividends on our common stock. We intend to retain all available funds and any future earnings to fund the development and expansion of our business.

 

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DILUTION

If you invest in our common stock, your interest will be diluted to the extent of the difference between the public offering price per share of our common stock and the as adjusted net tangible book value per share of our common stock immediately after this offering. Net tangible book value per share represents the amount of our total tangible assets less total liabilities, divided by the number of shares of common stock outstanding at September 30, 2010.

Investors participating in this offering will incur immediate, substantial dilution. Our net tangible book value was $        , or $         per share of common stock at September 30, 2010. After giving effect to the sale by us of the shares of common stock offered hereby at an assumed public offering price of $         per share (the average of the high and low sales prices of our common stock on                      2011), and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us, our pro forma as adjusted net tangible book value at September 30, 2010, would have been $        , or $         per share of common stock. This represents an immediate increase in net tangible book value of $         per share of common stock to our existing stockholders and an immediate dilution of $         per share to the new investors purchasing shares in this offering. The following table illustrates this per share dilution:

 

Assumed public offering price per share

   $            

Net tangible book value per share at September 30, 2010

   $     

Increase in net tangible book value per share attributable to this offering

   $    
        

Pro forma as adjusted net tangible book value per share after the offering

   $    
        

Dilution per share to new investors

   $     
        

To the extent outstanding options and warrants are exercised, new investors will experience further dilution. Additionally, if the underwriter’s over-allotment option is exercised in full, our as adjusted net tangible book value at September 30, 2010 would have been $        , or $         per share of common stock, and the dilution to new investors purchasing shares in this offering would have been $         per share.

 

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CAPITALIZATION

The following table sets forth our capitalization as of September 30, 2010:

 

   

on an actual basis; and

 

   

on an as adjusted basis to reflect the estimated net proceeds from the sale by us of 4,000,000 shares of common stock, at an estimated public offering price of $             per share (the average of the high and low sales prices of our common stock on                     , 2011).

You should read the following table in conjunction with our consolidated financial statements and related notes, “Selected Consolidated Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” all included elsewhere in this prospectus.

 

     September 30, 2010  
     Actual     As Adjusted  
     (In thousands)  

Long-term obligations:

    

Long-term debt owed to related party

   $ 7,000      $ 7,000   

Stockholders’ equity:

    

Common stock: $0.001 par value; 150,000,000 shares authorized; 10,416,085 shares issued and outstanding, actual; and 14,416,085 shares outstanding, as adjusted

     10     

Additional paid-in capital

     299,124     

Accumulated other comprehensive loss

     (159     (159

Accumulated deficit

     (294,495     (294,495

Total stockholders’ equity

     4,480     

Total capitalization

   $ 11,480      $     
                

The table above does not include:

 

   

1,630,095 shares of common stock issuable upon exercise of options and warrants, conversion of convertible notes or vesting of restricted stock units expected to remain outstanding after the completion of this offering;

 

   

1,102,683 additional shares of common stock reserved for future grants under our equity incentive plans currently in effect;

 

   

156,314 shares of restricted stock issued to our directors during the fourth quarter of fiscal year 2010;

 

   

81,000 shares of our common stock issued to our directors as compensation during the fourth quarter of fiscal year 2010;

 

   

4,165 shares of restricted stock issued to our employees during the fourth quarter of fiscal year 2010; and

 

   

500,000 additional shares of common stock subject to the underwriter’s over-allotment option.

 

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SELECTED CONSOLIDATED FINANCIAL DATA

You should read the following selected consolidated financial data in conjunction with our consolidated financial statements and the notes thereto, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus. The consolidated statement of operations data for the years ended December 31, 2007, 2008 and 2009, and the consolidated balance sheet data as of December 31, 2008 and 2009, were derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statements of operations data for the years ended December 31, 2005 and 2006, and the consolidated balance sheet data as of December 31, 2005, 2006 and 2007, were derived from our audited consolidated financial statements that are not included in from this prospectus. The consolidated statements of operations data for the nine months ended September 30, 2009 and 2010, and the consolidated balance sheet data as of September 30, 2010, were derived from our unaudited interim consolidated financial statements that are included elsewhere in this prospectus. On March 30, 2009, we filed a voluntary petition in the Bankruptcy Court for relief under Chapter 11 of the Bankruptcy Code. We operated our business and managed our properties as debtors in possession while under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court. On January 22, 2010, we emerged from bankruptcy protection.

Our historical results are not necessarily indicative of the results that may be expected for any future period. The results of operations data for the nine-month periods presented below are not necessarily indicative of the operating results for the entire year or any other future interim period. Financial information is in thousands, except per share data.

 

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    Year Ended December 31,     Nine Months Ended
September 30,
 
    2005     2006     2007     2008     2009     2009     2010  
                      (Unaudited)  

Consolidated Statements of Operations Data:

             

Revenue:

             

Product

  $ 18,350      $ 11,292      $ —        $ 10      $ —        $ —        $ 159   

License

    —          —          —          —          —          —          671   

Service

    8,896        6,923        44        114        —          —          —     
                                                       

Total revenue(1)

    27,246        18,215        44        124        —          —          830   
                                                       

Cost of revenue:

             

Product

    9,372        5,818        —          4        —          —          25   

Service

    4,321        3,520        28        20        —          —          —     

Total cost of revenue(2)

    13,693        9,338        28        24        —          —          25   
                                                       

Gross profit

    13,553        8,877        16        100        —          —          805   
                                                       

Operating expenses:

             

Research and development

    13,196        11,474        8,321        5,289        2,346        1,515        2,797   

Sales and marketing

    18,009        12,568        2,067        2,019        455        420        1,751   

General and administrative

    14,404        10,661        10,858        7,309        2,562        1,928        6,604   

Goodwill impairment(3)

    2,453        —          —          —          —          —          —     
                                                       

Total operating expenses

    48,062        34,703        21,246        14,617        5,363        3,863        11,152   
                                                       

Gain on sale of instrument business(4)

    —          6,929        1,610        —          —          —          —     
                                                       

Loss from operations(5)

    (34,509     (18,897     (19,620     (14,517     (5,363     (3,863     (10,347

Loss on extinguishment of debt(6)

    —          (1,481     —          —          —          —          —     

Interest income

    839        843        734        399        28        21        25   

Interest expense

    (1,993     (2,254     (2,302     (2,035     (1,691     (1,375     (375

(Loss) gain on investments in auction rate securities(7)

    —          —          —          (2,176     —          —          58   

Change in fair value and exercise of warrants, net(8)

    —          —          —          —          (12,106     (9,473     4,427   

Debt conversion costs

    —          —          —          —          (819     —          (141

Reorganization items—related party incentive plan(9)

    —          —          —          —          —          —          (6,932

Reorganization items(10)

    —          —          —          —          (2,066     (935     (1,641

Other income (expense), net

    (717     (125     69        (41     (20     13        (94
                                                       

Loss from continuing operations before income taxes

    (36,380     (21,914     (21,119     (18,370     (22,037     (15,612     (15,020

Income tax benefit (expense) from continuing operations

    (7     (152     (163     40        (11     (11     —     
                                                       

Loss from continuing operations

    (36,387     (22,066     (21,282     (18,330     (22,048     (15,623     (15,020

Discontinued operations:

             

Gain from sale of operations, net of tax(11)

    954        —          —          —          —          —          —     
                                                       

Income from discontinued operations

    954        —          —          —          —          —          —     
                                                       

Net loss

  $ (35,433   $ (22,066   $ (21,282   $ (18,330   $ (22,048   $ (15,623   $ (15,020
                                                       

Basic and diluted income (loss) per share:

             

Loss from continuing operations

  $ (1.13   $ (0.61   $ (4.47   $ (2.87   $ (3.31   $ (2.45   $ (1.45

Income from discontinued operations

    0.03        —          —          —          —          —          —     
                                                       

Net loss per common share

  $ (1.10   $ (0.61   $ (4.47   $ (2.87   $ (3.31   $ (2.45   $ (1.45
                                                       

Shares used to compute basic and diluted loss per common share

    3,232        3,647        4,765        6,382        6,662        6,387        10,346   
                                                       

 

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     December 31,     Sept. 30,
2010
 
     2005      2006     2007     2008     2009    
                        (Debtor-in-Possession)     (Unaudited)  

Consolidated Balance Sheets Data:

             

Cash and cash equivalents(12)

   $ 25,738       $ 17,711      $ 7,617      $ 2,464      $ 3,440      $ 25,292   

Investment in securities

     2,240         —          8,875        —          —          —     

Working capital (deficit)

     27,130         12,994        8,534        (3,727     (636     13,019   

Total assets

     52,811         23,016        24,053        3,858        4,609        26,367   

Long-term debt and capital lease obligations, including current portion

     31,512         25,511        28,667        28,878        17,765        12,000   

Total stockholders’ equity (deficit)

     6,523         (9,901     (11,462     (29,068     (27,317     4,480   

 

(1) The decrease in revenue for the year ended December 31, 2007 compared to the same period in the prior year was due to our sale of the assets and liabilities of our protein research products and collaborative services business to Bio-Rad Laboratories, Inc. We did not begin to generate revenue from diagnostic products and related licensing until the year ended December 31, 2010.
(2) The decrease in cost of revenue for the year ended December 31, 2007 compared to the same period in the prior year was due to our sale of the assets and liabilities of our protein research products and collaborative services business to Bio-Rad Laboratories, Inc. in November 2006 in order to concentrate our resources on developing clinical protein biomarker diagnostic products and services. The decrease in cost of revenue was consistent with the decrease in revenue for the same period.
(3) The goodwill impairment of $2,453 for the year ended December 31, 2005 was recognized for Ciphergen Biosystems KK due to lower than expected operating results and cash flows throughout 2005 and based on revised forecasted results. The fair value of Ciphergen Biosystems KK was estimated using expected discounted cash flows.
(4) The gain on sale of instrument business for the year ended December 31, 2006 and 2007 was due to our sale of the assets and liabilities of our protein research products and collaborative services business to Bio-Rad Laboratories, Inc. in November 2006.
(5) The decrease in loss from operations from $14,517 for the year ended December 31, 2008 to $5,363 for the year ended December 31, 2009 was due primarily to our bankruptcy filing in March 2009 and the subsequent curtailment of operations and expenditures while under bankruptcy protection.
(6) The loss on extinguishment of debt of $1,481 for the year ended December 31, 2006 represents the expensing of $868 of unamortized debt discount and $613 of unamortized prepaid offering costs related to the exchange of $27,500 of our 4% convertible senior notes due September 1, 2008 for $16,500 of 7% convertible notes and $11,000 in cash.
(7) Loss on investment in auction rate securities was due to an other-than-temporary charge on investments available-for-sale of $2,176 for the year ended December 31, 2008.
(8) Effective January 1, 2009, the adoption of the new accounting guidance resulted in the reclassification of certain outstanding warrants from stockholders’ deficit to liability, which further required remeasurement at the end of each reporting period. This resulted in the change in fair value and exercise of warrants for the year ended December 31, 2009 and for the nine months ended September 30, 2009 and 2010.
(9) Reorganization items for the related party incentive plan for the nine months ended September 30, 2010 amounted to $6,932. We paid $5,000 in cash and accrued $1,932 for the value of the vested portions of restricted stock under the Debtor’s Incentive Plan prior to our emergence from bankruptcy.
(10) Reorganization items include professional advisory fees and other costs directly associated with our bankruptcy proceeding.
(11) Income from discontinued operations in 2005 related to the final disposition of an escrow account from the sale of our BioSepra business, which was sold to Pall Corporation on November 30, 2004.
(12) The increase in cash and cash equivalents from $3,440 at December 31, 2009 to $25,292 at September 30, 2010 was due to a private placement sale of 2,327,869 shares of our common stock for net proceeds of $42,800 in January 2010 as part of emerging from bankruptcy partially offset by operating and other expenses incurred during the nine months ended September 30, 2010 as well as the cash exercise of certain outstanding warrants.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

You should read the following discussion in conjunction with our consolidated financial statements and the notes thereto included elsewhere in this prospectus. The following discussion includes certain forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those referred to in the forward-looking statements as a result of various factors, including those discussed in the section entitled “Risk Factors” and elsewhere in this prospectus.

Overview

Vermillion was originally incorporated in California on December 9, 1993, under the name Abiotic Systems. In March 1995, Abiotic Systems changed its corporate name to Ciphergen Biosystems, Inc., and subsequently on June 21, 2000, it reincorporated in Delaware. Under the name Ciphergen Biosystems, Inc., we had our initial public offering on September 28, 2000. On November 13, 2006, we sold the assets and liabilities of our protein research products and collaborative services business to Bio-Rad, which allowed us to focus on the development of our diagnostics tests. On August 21, 2007, Ciphergen Biosystems, Inc. changed its corporate name to Vermillion, Inc. Effective at the close of business on March 3, 2008, we effected a 1 for 10 reverse stock split of our common stock. Accordingly, all share and per share amounts were adjusted to reflect the impact of the 1 for 10 reverse stock split in this Form S-1.

We are dedicated to the discovery, development and commercialization of novel high-value diagnostic tests that help physicians diagnose, treat and improve outcomes for patients. Our tests are intended to help guide decisions regarding patient treatment, which may include decisions to refer patients to specialists, to perform additional testing, or to assist in the selection of therapy. A distinctive feature of our approach is to combine multiple markers into a single, reportable index score that has higher diagnostic accuracy than its constituents. We concentrate our development of novel diagnostic tests in the fields of oncology, hematology, cardiology and women’s health, with the initial focus on ovarian cancer. We also intend to address clinical questions related to early disease detection, treatment response, monitoring of disease progression, prognosis and others through collaborations with leading academic and research institutions.

Management (“we”, “us” or “our”) concentrates its development of novel diagnostic tests in the fields of oncology, hematology, cardiology and women’s health, with the initial focus on ovarian cancer. We also intend to address clinical questions related to early disease detection, treatment response, monitoring of disease progression, prognosis and others through collaborations with leading academic and research institutions such as our strategic alliance agreement with Quest.

On March 30, 2009, we filed for relief under Chapter 11 of the Bankruptcy Code. We emerged from bankruptcy protection on January 22, 2010, pursuant to the terms of a January 5, 2010 order entered by the Bankruptcy Court approving our Second Amended Plan of Reorganization under Chapter 11.

Our lead product, the OVA1 Test, was cleared by the FDA on September 11, 2009. The OVA1 Test addresses a clear unmet clinical need, namely the pre-surgical identification of women who are at high risk of having a malignant ovarian tumor. Numerous studies have documented the benefit of referral of these women to gynecologic oncologists for their initial surgery. Prior to the clearance of the OVA1 Test, no blood test had been cleared by the FDA for physicians to use in the pre-surgical management of ovarian adnexal masses. The OVA1 Test is a qualitative serum test that utilizes five well-established biomarkers and proprietary FDA-cleared software to determine the likelihood of malignancy in women with a pelvic mass for whom surgery is planned. The OVA1 Test was developed through large pre-clinical studies in collaboration with numerous academic medical centers encompassing over 2,500 clinical samples. The OVA1 Test was fully validated in a prospective multi-center clinical trial encompassing 27 sites reflective of the diverse nature of the clinical centers at which ovarian adnexal masses are evaluated. The results of the clinical trial demonstrated that the OVA1 Test, in

 

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conjunction with clinical evaluation, was able to identify 91.7% of the malignant ovarian tumors and to rule out malignancy NPV with 93.2% certainty. Recently, data were presented demonstrating the high sensitivity of the OVA1 Test for epithelial ovarian cancers (“EOC”); the OVA1 Test detected 95/96 EOC cases for a sensitivity of 99.0%, including 40/41 stage I and stage II EOC, for an overall sensitivity of 97.6% for early stage EOC, as compared to 65.9% for CA125 using the ACOG cutoffs. The improvement in sensitivity was even greater among premenopausal women; for the OVA1 Test, sensitivity for early stage EOC was 92.9% and for CA125, sensitivity was 35.7%. Overall, the OVA1 Test detected 76% of malignancies missed by CA125, including all advanced stage malignancies.

In addition to the OVA1 Test, we have development programs in other clinical aspects of ovarian cancer as well as in peripheral arterial disease. In the field of peripheral arterial disease, we have identified candidate biomarkers that may help to identify individuals at high risk for a decreased ankle-brachial index score, which is indicative of the likely presence of PAD. We have initiated an intended-use study to validate a multi-marker algorithm for the assessment of individuals at risk for PAD.

Current and former academic and research institutions that we have or have had collaborations with include the Johns Hopkins University School of Medicine; the University of Texas M.D. Anderson Cancer Center; University College London; the University of Texas Medical Branch; the Katholieke Universiteit Leuven; Clinic of Gynecology and Clinic of Oncology, Rigshospitalet, Copenhagen University Hospital; the Ohio State University Research Foundation; Stanford University; and the University of Kentucky.

The OVA1 Test is currently being offered by Quest. Under the terms of our strategic alliance agreement with Quest, as amended, Quest is required to pay us a fixed payment of $50 per OVA1 Test performed, as well as 33% of its “gross margin” from revenue from performing the OVA1 Test, as that term is defined in the strategic alliance agreement as amended. Quest is the exclusive clinical laboratory provider of the OVA1 Test in its exclusive territory, which includes the US, Mexico, Britain and India through September 11, 2014. Quest has the right to extend the exclusivity period for an additional year beyond September 11, 2014 on the same terms and conditions.

Reorganization Basis of Presentation

Our consolidated financial statements at December 31, 2008 and 2009 and for the three years ended December 31, 2009 have been prepared in accordance with ASC 852, “Reorganization” (ASC 852) and on a going-concern basis, which contemplates continuity of operations, realization of assets and liquidation of liabilities in the ordinary course of business. On March 30, 2009, we filed for relief in the Bankruptcy Court under Chapter 11 of the Bankruptcy Code. While in bankruptcy, we operated our business and managed our properties as debtor in possession while under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court. On January 22, 2010, we emerged from bankruptcy protection.

Recent Developments

The OVA1 Test was launched on March 9, 2010 by Quest under the terms of the Strategic Alliance Agreement at a list price of $650.00 for each OVA1 Test. On March 11, 2010, the Medicare contractor Highmark Medicare Services announced that it would cover the OVA1 Test in its reimbursement program. On May 10, 2010, Quest notified us that Highmark Medicare Services is adjudicating to Quest the OVA1 Test claims in the amount of $516.25 for each OVA1 Test. We recognized product revenue for 1,592 tests from product launch through September 30, 2010. The remaining 1,628 performed tests have been recorded as deferred revenue on the consolidated balance sheet. It will not be easy for us to estimate revenues from Quest during the early period of the OVA1 Test’s commercial availability. As we enhance our ability to estimate reimbursements, we will be in a position to recognize revenues in better alignment with the actual performance of the test.

 

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On June 9, 2010, we announced that the European Patent Office had issued a Decision to Grant patent number 1,493,741 entitled “Use of biomarkers for detecting ovarian cancer.” On June 29, 2010, we announced that the United States Patent and Trademark Office had issued a notice of allowance of a patent entitled “Biomarkers for Alzheimer’s disease.” The issuance of these patents provides important validation of our biomarker patent strategy and the increasing breadth of our patent portfolio is an important corporate asset. Additionally, the issuance of the European patent will help support our commercialization efforts in Europe.

On July 23, 2010, we announced the relocation of our corporate headquarters from Fremont, California to Austin, Texas. We will continue to operate research and development, regulatory and quality operations in California. All other functions will be conducted at the Austin office.

On September 20, 2010, we announced that the OVA1 Test was CE marked, a requirement for marketing the test in the European Union. The OVA1 Test has satisfied all certification requirements to complete its declaration of conformity.

On October 25, 2010, we announced that Fred Ueland, M.D., Associate Professor of Gynecologic Oncology at the University of Kentucky’s Markey Cancer Center, and principal investigator of the multi-center OVA1 clinical trial, presented data demonstrating the high sensitivity of the OVA1 Test at the 13th Annual International Gynecologic Cancer Society Meeting being held in Prague, October 23-26, 2010.

Dr. Ueland’s presentation demonstrated that the OVA1 Test had sensitivity for ovarian cancer of 92.5%, as compared to 68.9% for CA125 using cutoffs established in the American College of Obstetricians and Gynecologists (the “ACOG”) criteria for adnexal mass evaluation and 77.0% for CA125 using cutoffs in the modified ACOG criteria. Additionally, the OVA1 Test detected 23/24 stage I EOC and 17/17 stage II EOC, for an overall sensitivity of 97.6% for early stage EOC, as compared to 65.9% for CA125 using the ACOG cutoffs. The improvement in sensitivity was even greater among premenopausal women; for the OVA1 Test, sensitivity for early stage EOC was 92.9% and for CA125, sensitivity was 35.7%. Overall, the OVA1 Test detected 76% of malignancies missed by CA125, including all advanced stage malignancies.

On November 2, 2010, we received notice of an award of two grants for the aggregate sum of $489,000 under the Internal Revenue Service Qualifying Therapeutic Discovery Projects Grant Program for our OVA2 and PAD programs. The grant relates to 2010 expenditures and was awarded to therapeutic or diagnostic discovery projects that show a reasonable potential to result in new therapies or diagnostic tests that address areas of unmet medical need or that prevent, detect or treat chronic or acute diseases and conditions.

On November 10, 2010, we entered into Amendment No. 4 (the “Amendment”) to the Strategic Alliance Agreement with Quest. Pursuant to the Amendment, Quest will have the exclusive right to commercialize the OVA1 Test for up to three additional years from the period as specified in the Strategic Alliance Agreement. The Amendment also establishes royalties, fees, and other payments related to the performance of the OVA1 Test. Quest will pay us a fixed payment of $50 per OVA1 Test performed, as well as 33% of its “gross margin,” as the term is defined in the Amendment.

On January 5, 2011, we announced preliminary financial results that an estimated 6,155 OVA1 Tests had been performed from the launch on March 9, 2010 through December 31, 2010. In addition, we announced our cash and cash equivalents totaled approximately $22,800,000 at December 31, 2010.

On January 11, 2011, we announced that the United States Patent and Trademark Office (“USPTO”) has issued patent number 7,867,719 entitled “Beta-2 microglobulin as a biomarker for peripheral artery disease” to us. The patent claims are directed to Beta-2 microglobulin and biomarker combinations that include Beta-2 microglobulin for the diagnosis and management of peripheral artery disease and to the measurement of the biomarkers by a variety of methods, including mass spectrometry and immunoassay. The studies underlying the patent were conducted with John P. Cooke, M.D., Ph.D., a Professor and Associate Director of the Stanford

 

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Cardiovascular Institute at Stanford University School of Medicine. Dr. Cooke is a founder and past President of the Society for Vascular Medicine, and an author of over 350 scientific articles in vascular medicine and biology.

Results of Operations

Nine Months Ended September 30, 2010 Compared to Nine Months Ended September 30, 2009

The following table sets forth selected summary financial and operating data of Vermillion for the nine months ended September 30, 2010 and 2009:

 

       Nine Months Ended September 30,       Increase (Decrease)  

(dollars in thousands)

       2010             2009             Amount         %  

Revenue:

        

Product revenue

   $ 159      $ —        $ 159        —     

License revenue

     671        —          671        —     
                                

Total revenue

     830        —          830        —     
                                

Cost of revenue:

        

Product

     25        —          25        —     
                                

Total cost of revenue

     25        —          25        —     
                                

Gross profit

     805        —          805        —     
                                

Operating expenses:

        

Research and development

     2,797        1,515        1,282        85   

Sales and marketing

     1,751        420        1,331        317   

General and administrative

     6,604        1,928        4,676        243   
                                

Total operating expenses

     11,152        3,863        7,289        189   
                                

Loss from operations

     (10,347     (3,863     (6,484     168   

Interest income

     25        21        4        19   

Interest expense

     (375     (1,375     1,000        (73

Change in fair value and gain from exercise of warrants, net

     4,427        (9,473     13,900        (147

Reorganization items

     (1,641     (935     (706     76   

Reorganization items—related party incentive plan

     (6,932     —          (6,932     —     

Debt conversion costs

     (141     —          (141     —     

Other income (expense), net

     (36     13        (49     (377
                                

Loss before income taxes

     (15,020     (15,612     592        (4

Income tax benefit (expense)

     —          (11     11        (100
                                

Net loss

   $ (15,020   $ (15,623   $ 603        (4
                                

Product Revenue. Product revenue was $159,000 for the nine months ended September 30, 2010 compared to none for the same period in 2009. We recognized 1,592 OVA1 Tests as product revenue for the nine months ended September 30, 2010 compared to none for the same period in 2009. As we enhance our ability to estimate reimbursements, we will be in a position to recognize revenues in better alignment with the actual performance of the test.

License Revenue. License revenue was $671,000 for the nine months ended September 30, 2010 compared to none for the same period in 2009. Under the terms of our secured line of credit with Quest, $3,000,000 principal was forgiven upon the achievement of FDA approval for the OVA1 Test. This amount is recognized as license revenue straight-lined over the 2.5-year period of sales exclusivity Quest received beginning on the OVA1 Test commercialization date of March 9, 2010.

 

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Cost of Product Revenue. Product cost of sales was $25,000 for the nine months ended September 30, 2010 compared to none for the same period in 2009.

Research and Development Expenses. Research and development expenses increased by $1,282,000, or 85%, for the nine months ended September 30, 2010 compared to the same period in 2009. This increase included a $698,000 increase in stock-based compensation, a $298,000 increase in personnel-related expenses due to the increase in headcount after our emergence from bankruptcy and a $130,000 increase in collaboration costs partially offset by a $155,000 decrease in depreciation expense. Stock-based compensation expense increased to $788,000 for the nine months ended September 30, 2010 compared to $90,000 for the same period in 2009.

Sales and Marketing Expenses. Sales and marketing expenses increased by $1,331,000, or 317%, for the nine months ended September 30, 2010 compared to the same period in 2009. The increase was primarily due to a $781,000 increase in personnel and personnel-related expenses, reflecting the addition of fifteen sales and marketing employees in the nine months ended September 30, 2010, and a $410,000 increase in trade show, advertising and marketing expenses related to the commercialization launch of our OVA1 Test.

General and Administrative Expenses. General and administrative expenses increased by $4,676,000, or 243%, for the nine months ended September 30, 2010 compared to the same period in 2009. The increase was primarily due to a $1,028,000 increase in audit and tax related services, a $1,570,000 increase in legal expenses, a $349,000 increase in consulting and other outside service expenses, and a $322,000 increase in personnel-related expenses. Personnel, consulting, legal, audit and tax related expenses increased due to significant efforts to bring current all periodic reports required by the Exchange Act. Stock-based compensation expense was $338,000 and $240,000 for the nine months ended September 30, 2010 and 2009, respectively. Under the terms of the Debtor’s Incentive Plan, we also incurred $2,209,000 as related party incentive expenses during the nine months ended September 30, 2010 for the value of the vested portions of restricted stock issued.

Interest Income and Expense. Interest income increased by $4,000, or 19%, for the nine months ended September 30, 2010, compared to the same period in 2009. Interest expense decreased by $1,000,000, or 73%, for the nine months ended September 30, 2010, compared to the same period in 2009. Interest expense in both periods consisted largely of interest related to our convertible senior notes and related party long-term debt; however, total debt outstanding at September 30, 2010 was $12,000,000 compared to $29,000,000 at September 30, 2009.

Change in Fair Value and Gain from Exercise of Warrants, Net. The change in fair value and gain from exercise of warrants of $4,427,000 for the nine months ended September 30, 2010 was primarily due to the change in our stock price at March 31, 2010 to September 30, 2010. Effective January 1, 2009, the adoption of the new accounting guidance resulted in the reclassification of certain outstanding common stock warrants from stockholders’ deficit to liability, which further required re-measurement at the end of each reporting period.

Reorganization Items and Related Party Inventive Plan. Reorganization items for the nine months ended September 30, 2010 totaled $1,641,000 compared to $935,000 for the same period in 2009. Reorganization items include professional advisory fees and other costs directly associated with our activities while under bankruptcy protection. Reorganization items—related party incentive plan for the nine months ended September 30, 2010 amounted to $6,932,000. We paid $5,000,000 in cash and accrued $1,932,000 for the value of the vested portions of restricted stock under the Debtor’s Incentive Plan prior to our emergence from bankruptcy.

Debt Conversion Costs. Debt conversion costs for the nine months ended September 30, 2010 totaled $141,000 compared to none for the same period in 2009.

Other Income (Expense), Net. Net other expense was $36,000 for the nine months ended September 30, 2010 compared to $13,000 of income for the same period in 2009. Other expense for the nine months ended September 30, 2010 was partially offset by a $58,000 realized gain on sale of investment.

 

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Income Tax Expense. There was no income tax benefit or expense for the nine months ended September 30, 2010 compared to income tax expense of $11,000 for the same period in 2009. Income tax expense was due to foreign income taxes.

Year Ended December 31, 2009 Compared to Year Ended December 31, 2008

The following table sets forth selected summary financial and operating data of Vermillion for the years ended December 31, 2009 and 2008:

 

       Year Ended December 31,       Increase (Decrease)  
         2009             2008             Amount         %  

Revenue:

        

Product

   $ —        $ 10      $ (10     (100

Service

     —          114        (114     (100
                    

Total revenue

     —          124        (124     (100
                    

Cost of revenue:

        

Product

     —          4        (4     (100

Service

     —          20        (20     (100
                    

Total cost of revenue

     —          24        (24     (100
                    

Gross profit

     —          100        (100     (100
                    

Operating expenses:

        

Research and development

     2,346        5,289        (2,943     (56

Sales and marketing

     455        2,019        (1,564     (77

General and administrative

     2,562        7,309        (4,747     (65
                    

Total operating expenses

     5,363        14,617        (9,254     (63
                    

Loss from operations

     (5,363     (14,517     (9,154     63   
                    

Interest income

     28        399        (371     (93

Interest expense

     (1,691     (2,035     344        (17

Loss on investment in auction rate securities

     —          (2,176     2,176        (100

Change in fair value and exercise of warrants, net

     (12,106     —          (12,106     —     

Debt conversion costs

     (819     —          (819     —     

Reorganization items

     (2,066     —          (2,066     —     

Other income (expense), net

     (20     (41     21        (51
                    

Loss before income taxes

     (22,037     (18,370     (3,667     20   

Income tax benefit (expense)

     (11     40        (51     (128
                    

Net loss

   $ (22,048     (18,330   $ (3,718     20   
                    

Product Revenue. There was no product revenue for the year ended December 31, 2009. Product revenue of $10,000 was generated from the sales of thrombotic thrombocytopenic purpura (“TTP”) test component material to The Ohio State University Research Foundation (“OSU”) for the year ended December 31, 2008.

Service Revenue. There was no service revenue for the year ended December 31, 2009. Service revenue for the year ended December 31, 2008, consisted of $66,000 received from a consortium supported by the European Union for advanced molecular diagnostics research performed, and $48,000 from support services provided to a customer in accordance with a consortium agreement, which expired on March 31, 2008.

Cost of Product Revenue. There was no cost of product revenue for the year ended December 31, 2009. Cost of product revenue related to sales of TTP test component material to OSU was $4,000 for the year ended December 31, 2008.

 

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Cost of Service Revenue. There was no cost of service revenue for the year ended December 31, 2009. Cost of service revenue for the year ended December 31, 2008 were costs associated with support services provided to a customer in accordance with a consortium agreement, which expired on March 31, 2008.

Research and Development Expenses. Research and development expenses decreased by $2,943,000, or 56%, to $2,346,000 for the year ended December 31, 2009, from $5,289,000 for the same period in 2008. This decrease was primarily due to the reduction in employee headcount to one at December 31, 2009, from four at December 31, 2008, and, correspondingly, salaries, payroll taxes, employee benefits and stock-based compensation decreased by $685,000, and travel expenses decreased by $64,000. Additionally, collaboration costs decreased by $621,000 due to the completion of the whole blood specimen collection for the OVA1 Test 510(k) pre-market notification application by our clinical research organization; other professional services decreased by $260,000; materials and supplies used in the development of new products decreased by $230,000 due to the completion of the OVA1 Test clinical trials; depreciation and loss on disposal of assets decreased by $592,000; and occupancy costs decreased by $448,000 primarily due to the reduction of rent expense related to our move into a smaller principal facility on July 1, 2008. Stock-based compensation expense included in research and development expenses was $219,000 and $120,000 for the years ended December 31, 2009 and 2008, respectively.

Sales and Marketing Expenses. Sales and marketing expenses decreased by $1,564,000, or 77%, to $455,000 for the year ended December 31, 2009, from $2,019,000 for the same period in 2008. This decrease was primarily due to lower occupancy costs as a result of the reduction of rent expense related to our move into a smaller principal facility on July 1, 2008, by $418,000; payroll and related expenses by $697,000; outside services by $138,000; and travel expenses by $160,000. Stock-based compensation expense included in sales and marketing expenses was $24,000 and $93,000 for the years ended December 31, 2009 and 2008, respectively.

General and Administrative Expenses. General and administrative expenses decreased by $4,747,000, or 65%, to $2,562,000 for the year ended December 31, 2009, from $7,309,000 for the same period in 2008. The decrease was primarily due to $408,000 in payroll and related expenses; $1,212,000 in legal services, $917,000 in other professional services; $793,000 in accounting and auditing fees; $114,000 in travel expenses; $922,000 in contingency relating to a contract dispute; $243,000 in depreciation and related expenses, and $218,000 in occupancy costs. The decrease was offset by an accrual of $696,000 for related party severances, and an increase in other operating expenses of $117,000. Stock-based compensation expense included in general and administrative expenses was $328,000 and $423,000 for the years ended December 31, 2009 and 2008, respectively.

Interest Income and Expense. Interest income was $28,000 for the year ended December 31, 2009, compared to $399,000 for the same period in 2008. Interest income decreased primarily due to lower interest yields and the reduction of investments available-for-sale and money market funds. Interest expense was $1,691,000 for the year ended December 31, 2009, compared to $2,035,000 for the same period in 2008. Interest expense in both periods consisted largely of interest related to our convertible senior notes and borrowings from Quest. Interest expense included the amortization of the beneficial conversion feature associated with the 4.50% convertible senior notes and underwriter fees associated with the 7.00% convertible senior notes, which amounted to $150,000 and $211,000 for the years ended December 31, 2009 and 2008, respectively.

Loss on investment in auction rate securities. There were no losses related to investments available-for-sale for the year ended December 31, 2009. Loss on investment in auction rate securities was due to an other-than-temporary charge on investments available-for-sale of $2,176,000 for the year ended December 31, 2008.

Change in Fair Value and Gain from Exercise of Warrants, Net. The change in fair value of warrants was $20,062,000 for the year ended December 31, 2009 as a result of warrant revaluations. Warrant exercise gain was $7,956,000 for the year ended December 31, 2009. Effective January 1, 2009, the adoption of the new accounting guidance resulted in the reclassification of certain outstanding warrants from stockholders’ deficit to liability, which further required remeasurement at the end of each reporting period.

 

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Debt Conversion Costs. Debt conversion costs were $819,000 for the year ended December 31, 2009. During the year ended December 31, 2009, we entered into exchange agreements with the 4.5% and 7.0% Note holders that included a more favorable conversion rate compared to the original conversion rates under the terms of the 4.5% and 7.0% Notes.

Reorganization items. Reorganization items were $2,066,000 for the year ended December 31, 2009. Reorganization items are expenses directly attributed to our Chapter 11 reorganization process such as advisory and professional service fees of $1,770,000 and expenses relating to the debtor-in-possession financing of $203,000. See Note 2 to our consolidated financial statements for a summary of these costs.

Other Income (Expense), Net. Net other expense was $20,000 for the year ended December 31, 2009, compared to $41,000 for the same period in 2008.

Income Tax Benefit (Expense). Income tax expenses were $11,000 for the year ended December 31, 2009. Income taxes were a benefit of $40,000 for the year ended December 31, 2008. The income tax benefit was due to foreign income tax refunds.

Year Ended December 31, 2008 Compared to Year Ended December 31, 2007

The following table sets forth selected summary financial and operating data of Vermillion for the years ended December 31, 2008 and 2007:

 

       Year Ended December 31,       Increase (Decrease)  
         2008             2007             Amount         %  

Revenue:

        

Product

   $ 10      $ —        $ 10        —     

Service

     114        44        70        159   
                    

Total revenue

     124        44        80        182   
                    

Cost of revenue:

        

Product

     4        —          4        —     

Service

     20        28        (8     (29
                    

Total cost of revenue

     24        28        (4     (14
                    

Gross profit

     100        16        84        525   
                    

Operating expenses:

        

Research and development

     5,289        8,321        (3,032     (36

Sales and marketing

     2,019        2,067        (48     (2

General and administrative

     7,309        10,858        (3,549     (33
                    

Total operating expenses

     14,617        21,246        (6,629     (31
                    

Gain on sale of instrument business

     —          1,610        (1,610     (100
                    

Loss from operations

     (14,517     (19,620     (5,103     (26
                    

Interest income

     399        734        (335     (46

Interest expense

     (2,035     (2,302     (267     (12

Loss on investments in auction rate securities

     (2,176     —          2,176        —     

Other income (expense), net

     (41     69        (110     (159
                    

Loss before income taxes

     (18,370     (21,119     (2,749     (13

Income tax benefit (expense)

     40        (163     (203     (125
                    

Net loss

   $ (18,330   $ (21,282   $ (2,952     (14
                    

 

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Product Revenue. Product revenue of $10,000 was generated from the sales of TTP test component material to OSU for the year ended December 31, 2008. There was no product revenue for the year ended December 31, 2007.

Service Revenue. Service revenue increased to $114,000 for the year ended December 31, 2008, from $44,000 for the same period in 2007. Service revenue for the year ended December 31, 2008, consisted of $66,000 received from a consortium supported by the European Union for advanced molecular diagnostics research performed, and $48,000 from support services provided to a customer in accordance with a consortium agreement, which expired on March 31, 2008. Service revenue of $44,000 for the year ended December 31, 2007, was from support services provided to a customer in accordance with a consortium agreement, which expired on March 31, 2008.

Cost of Product Revenue. Cost of product revenue related to sales of TTP test component material to OSU was $4,000 for the year ended December 31, 2008. There was no cost of product revenue for the year ended December 31, 2007.

Cost of Service Revenue. Cost of service revenue decreased to $20,000 for the year ended December 31, 2008, from $28,000 for the same period in 2007. Cost of service revenue were costs associated with support services provided to a customer in accordance with a consortium agreement, which expired on March 31, 2008.

Research and Development Expenses. Research and development expenses decreased by $3,032,000, or 36%, to $5,289,000 for the year ended December 31, 2008, from $8,321,000 for the same period in 2007. This decrease was primarily due to the reduction in employee headcount to 4 at December 31, 2008, from 14 at December 31, 2007, and, correspondingly, salaries, payroll taxes, employee benefits and stock-based compensation decreased by $937,000, and travel expenses decreased by $99,000. Additionally, collaboration costs decreased by $1,258,000 due to the completion of our collaboration obligations to University College London and UCL Biomedica Plc, and the completion of the whole blood specimen collection for the OVA1 Test 510(k) pre-market notification application by our clinical research organization; materials and supplies used in the development of new products decreased by $512,0000 due to the completion of the OVA1 Test clinical trials; and occupancy costs decreased by $480,000 primarily due to the reduction of rent expense related to our move into a smaller principal facility on July 1, 2008. These decreases were offset by an increase in loss in disposal of assets of $318,000, which reflects the disposal of research equipment resulting from our move into a smaller principal facility. Stock-based compensation expense included in research and development expenses was $120,000 and $167,000 for the year ended December 31, 2008 and 2007, respectively.

Sales and Marketing Expenses. Sales and marketing expenses decreased by $48,000, or 2%, to $2,019,000 for the year ended December 31, 2008, from $2,067,000 for the same period in 2007. This decrease was primarily due to lower occupancy costs as a result of the reduction of rent expense related to our move into a smaller principal facility on July 1, 2008, by $84,000; materials by $42,000; and equipment costs by $33,000. These decreases were offset by an increase in salaries, payroll taxes, employee benefits and stock-based compensation of $117,000 due to the higher number of senior level positions during the year ended December 31, 2008, compared to the year ended December 31, 2007, which were counteracted by the reduction in employee headcount to 3 at December 31, 2008, from 5 at December 31, 2007. As a result stock-based compensation expense included in sales and marketing expenses was $93,000 and $88,000 for the years ended December 31, 2008 and 2007, respectively.

General and Administrative Expenses. General and administrative expenses decreased by $3,549,000, or 33%, to $7,309,000 for the year ended December 31, 2008, from $10,858,000 for the same period in 2007. The decrease was primarily due to the reduction in employee headcount to 6 at December 31, 2008, from 11 at December 31, 2007, and, correspondingly, salaries, payroll taxes, employee benefits and stock-based compensation decreased by $1,704,000; travel expenses decreased by $162,000; and other operating expenses by $109,000. The year ended December 31, 2007, included $600,000 for the settlement of the Health Discovery

 

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Corporation lawsuit. Additionally, legal fees decreased by $742,000, which reflects the legal work related to the filing of new patent applications and the maintenance of existing patents, Health Discovery Corporation lawsuit and reexamination certificate confirming United States Patent No. 6,734,022 during the year ended December 31, 2007; accounting and audit fees decreased by $190,000, which reflects the reduction of accounting and audit work corresponding to the reduced operations of us, offset by work performed during the year ended December 31, 2008, on the post effective amendments on Form S-1 and Form S-3 related to the registration of the August 29, 2007, private placement offering of our common stock and warrants; other professional services decreased by $490,000 due to costs incurred in connection with our name change made during the year ended December 31, 2007, and the reduction of costs to support the finance area; equipment costs increased by $690,000 primarily due to a contingency relating to a contract dispute; and occupancy costs decreased by $245,000 primarily due to the reduction of rent expense related to our move into a smaller principal facility on July 1, 2008. Stock-based compensation expense included in general and administrative expenses was $423,000 and $623,000 for the years ended December 31, 2008 and 2007, respectively.

Gain on Sale of Instrument Business. Gain on sale of the Instrument Business of $1,610,000 for the year ended December 31, 2007, resulted from the receipt of $2,000,000 from Bio-Rad related to the United States Patent and Trademark Office issuance of the reexamination certificate of the United States Patent No. 6,734,022 on October 23, 2007, offset by a $390,000 post-closing adjustment related to the Instrument Business Sale.

Interest Income and Expense. Interest income was $399,000 for the year ended December 31, 2008, compared to $734,000 for the same period in 2007. Interest income decreased primarily due to lower interest yields and the reduction of investments available-for-sale and money market funds. Interest expense was $2,035,000 for the year ended December 31, 2008, compared to $2,302,000 for the same period in 2007. Interest expense in both periods consisted largely of interest related to our convertible senior notes and borrowings from Quest. Interest expense included the amortization of the beneficial conversion feature associated with the 4.50% convertible senior notes and underwriter fees associated with the 7.00% convertible senior notes, which amounted to $211,000 and $239,000 for the years ended December 31, 2008 and 2007, respectively.

Loss on investment in auction rate securities. Loss on investment in auction rate securities was due to an other-than-temporary charge on investments available-for-sale of $2,176,000 for the year ended December 31, 2008. There were no losses related to investments available-for-sale for the year ended December 31, 2007.

Other Income (Expense), Net. Net other expense was $41,000 for the year ended December 31, 2008, compared to net other income of $69,000 for the same period in 2007.

Income Tax Benefit (Expense). Income taxes were a benefit of $40,000 for the year ended December 31, 2008, compared to an expense of $163,000 for the same period in 2007. The income tax benefit was due to adjustments and foreign taxes.

Liquidity and Capital Resources

From our inception through September 30, 2010, we have financed our operations principally with $230,300,000 from the sales of products and services to customers and $229,560,000 of net proceeds from debt and equity financings. This includes net proceeds of $92,400,000 from our initial public offering on September 28, 2000; net proceeds of $26,900,000 from our Series E Preferred Stock financing in March 2000; net proceeds of $15,000,000 from the sale of 6,225,000 shares of our common stock and a warrant for 2,200,000 shares of our common stock to Quest Diagnostics on July 22, 2005; and net proceeds of $18,200,000 in connection with our sale of assets and liabilities of the Instrument Business and 3,086,420 shares of common stock to Bio-Rad on November 13, 2006. In connection with the strategic alliance agreement dated July 22, 2005, with Quest Diagnostics, we have drawn $10,000,000 from this secured line of credit as of September 30, 2010, solely to fund certain development activities related to our strategic alliance. Drawings under this secured line of credit bear interest at the prime rate plus 0.5%, payable monthly. We also received net proceeds of $27,000,000

 

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from the sale of our BioSepra® business on November 24, 2004, and an additional $1,000,000 held in an interest-bearing escrow account for one year after the sale and $21,000 of related interest on December 1, 2005. We received $20,600,000 in gross proceeds from the private placement of 24,513,092 shares of our common stock and warrants to purchase 20,531,470 shares of our common stock on August 29, 2007. On January 7, 2010, in connection with the Plan of Reorganization, we also completed a private placement sale of 2,327,869 shares of our common stock for net proceeds of $42,800,000. We believe that our current cash resources will be sufficient to meet our anticipated needs for the next 12 to 18 months.

Cash and cash equivalents as of September 30, 2010 and December 31, 2009, were $25,292,000 and $3,440,000, respectively. On September 30, 2010, working capital was $13,019,000, and on December 31, 2009, working capital deficit was $636,000. The increase in working capital for the nine months ended September 30, 2010, was principally due to net proceeds of $42,782,000 in connection with our January 2010 private placement, partially offset by cash used in operating activities of $18,504,000. Cash, cash equivalents and short-term investments at December 31, 2009 were $3,440,000 compared to $2,464,000 at December 31, 2008. Working deficit at December 31, 2009 was $636,000 compared to $3,727,000 at December 31, 2008. The decrease in working capital deficit was principally due to net proceeds of $3,651,000 for issuance of common stock from the exercise of common stock warrants. Long-term debt and capital lease balances at December 31, 2009 totaled $17,765,000 compared to $28,878,000 at December 31, 2008, largely due to issuance of common stock upon conversion of principal and interest on senior convertible notes totaling $13,051,000.

Net cash used in operating activities was $18,504,000 for the nine months ended September 30, 2010, resulting primarily from operating losses incurred as adjusted for a change in fair value of warrants and warrant exercises of $4,427,000 and non-cash license revenues of $671,000, partially offset by $141,000 debt issuance costs, $103,000 depreciation and amortization, $1,177,000 stock-based compensation expense and $4,141,000 accrued incentive plan with related parties. Net cash used in operating activities also decreased by $3,944,000 of cash from changes in operating assets and liabilities mainly driven by the $3,859,000 reorganization items. Net cash used in operating activities was $3,114,000 in 2009 compared to $15,440,000 in 2008. Less cash was used in operating activities in 2009 as compared to 2008 due primarily to the Bankruptcy filing in March 2009 and subsequent curtailment of operations. Net cash used in operating activities was $15,440,000 in 2008 compared to $20,268,000 in 2007. Less cash was used in operating activities in 2008 as compared to 2007 due primarily to a larger operating loss in 2007 compared to 2008 and the adjustment for the gain on sale of instrument business of $1,610,000. Cash used in operating activities was mainly to fund payroll and operating expenses.

Net cash used in investing activities was $300,000 for the nine months ended September 30, 2010, primarily due to the proceeds from sale of investments of $465,000 partially offset by the purchase of property and equipment for $170,000. Net cash provided by investing activities was $42,000 in 2009 compared to $10,323,000 in 2008. Net cash provided by investing activities in 2008 primarily resulted from proceeds from sales of investments of $14,458,000 partially offset by purchases of investments of $4,100,000. Net cash provided by investing activities was $10,323,000 in 2008 compared to net cash used in investing activities of $11,684,000 in 2007. Net cash used in investing activities in 2007 included purchases of investments of $19,175,000 partially offset by proceeds from sales of investments of $6,300,000 and proceeds from sale of instrument business of $2,000,000.

Net cash provided by financing activities was $40,050,000 for the nine months ended September 30, 2010, which resulted primarily from net proceeds of $42,782,000 in connection with our January 2010 private placement, offset by $2,195,000 in repayments of the 4.50% Notes and $400,000 of the debtor-in-possession financing with Quest. Net cash provided by financing activities was $4,051,000 in 2009 compared to $3,000 in 2008. Net cash provided by financing activities in 2009 primarily resulted from net proceeds from stock warrant exercises of $3,651,000 and proceeds from debtor-in-possession loan financing of $400,000. Net cash provided by financing activities was $3,000 in 2008 compared to $21,910,000 in 2007. Net cash provided by financing activities in 2007 included proceeds from a private offering of common stock and common stock warrants, net of

 

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issuance costs and registration fees, of $18,927,000 and proceeds from a loan from Quest of $2,917,000. At December 31, 2009, we had an accumulated deficit of $279,475,000.

Our consolidated financial statements were prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. We have incurred significant net losses and negative cash flows from operations since inception. At September 30, 2010, we had an accumulated deficit of $294,495,000. To become profitable in the near future, we may need to complete development of additional key diagnostic tests, obtain FDA approval and successfully commercialize those products in addition to the OVA1 Test. Our ability to continue to meet our obligations and to achieve our business objectives is dependent upon, among other things, raising additional capital or generating sufficient revenue in excess of costs. We may seek to raise additional funding from various possible sources, including the public equity market, private financings, sales of assets, collaborative arrangements and debt. If we raise additional capital through the issuance of equity securities or securities convertible into equity, stockholders will experience dilution, and such securities may have rights, preferences or privileges senior to those of the holders of our common stock or convertible senior notes. If we raise additional funds by issuing debt, we may be subject to limitations on our operations, through debt covenants or other restrictions. If we obtain additional funds through arrangements with collaborators or strategic partners, we may be required to relinquish our rights to certain technologies or products that we might otherwise seek to retain.

There can be no assurance that we will be able to obtain such financing, or obtain it on acceptable terms. If we are unable to obtain financing on acceptable terms, we may be unable to execute our business plan, we could be required to reduce the scope of or eliminate our sales and marketing and research and development activities or not be able to pay our convertible senior notes.

The following summarizes our contractual obligations at September 30, 2010, and the effect such obligations are expected to have on our liquidity and cash flow in future periods (in thousands).

 

            Three Months
Ending
December 31,
                      
     Total      2010      2011      2012      Thereafter  

Loan from Quest Diagnostics Inc.(1)

   $ 7,000       $ —         $ —         $ 7,000       $ —     

Interest payable on loan from Quest Diagnostics Inc.(2)

     531         66         263         202         —     

Convertible senior notes

     5,000         —           5,000         —           —     

Interest payable on convertible senior notes(2)

     183         50         133         —           —     

Noncancelable collaboration obligations(3)

     1,126         113         450         450         113   

Noncancelable operating lease obligations

     230         33         129         67         1   

Purchase obligations

     —           —           —           —           —     
                                            

Total contractual obligations

   $ 14,070       $ 262       $ 5,975       $ 7,719       $ 114   
                                            

 

(1) Principal amounts, not including interest.
(2) Based on outstanding principal balance and interest rate as of September 30, 2010.
(3) The following are non-cancelable collaboration obligations: Research collaboration agreement with the Johns Hopkins University School of Medicine; Rigshospitalet, Copenhagen University Hospital; The Ohio State University Research Foundation; and Stanford University.

Off Balance Sheet Arrangements

As of September 30, 2010, we had no off-balance sheet arrangements that are reasonably likely to have a current or future material effect on our consolidated financial condition, results of operations, liquidity, capital expenditures or capital resources.

 

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Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe that it is important to have an understanding of certain policies, along with the related estimates that we are required to make in recording our financial transactions, in order to have a complete picture of our financial condition. In addition, in arriving at these estimates, we are required to make complex and subjective judgments, many of which include a high degree of uncertainty. The following is a discussion of these critical accounting policies and significant estimates related to these policies.

Fair Value of Investments

We classify all of our marketable securities as available-for-sale. We carry these investments at fair value, based upon the levels of inputs described below. The amortized cost of securities in this category is adjusted for amortization of premiums and accretions of discounts to maturity. Such amortization is included in interest income. Realized gains and losses are recorded in our statement of operations.

We review the impairment of our investments on a quarterly basis in order to determine the classification of the impairment as “temporary” or “other-than-temporary”. Beginning January 1, 2009, if the fair value of a debt security is less than its amortized cost, we assess whether the impairment is other-than-temporary. An impairment is considered other-than-temporary if: (i) we have the intent to sell the security; (ii) it is more likely than not that we will be required to sell the security before recovery of the entire amortized cost basis; or (iii) we do not expect to recover the entire amortized cost basis of the security. If an impairment is considered other than temporary based on condition (i) or (ii) described above, the entire difference between the amortized cost and the fair value of the debt security is recognized in earnings. If an impairment is considered other than temporary based on condition (iii) described above, the amount representing credit losses (defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis of the debt security) will be recognized in earnings and the amount relating to all other factors will be recognized in other comprehensive loss. Prior to January 1, 2009, declines in the fair value of debt securities deemed to be other-than-temporary were reflected in earnings as realized losses. Once an other-than-temporary impairment is recorded, a new cost basis in the investment is established.

We adopted ASC 820, “Fair Value and Measurements,” in the first quarter of 2008. ASC 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1—Quoted prices in active markets for identical assets or liabilities.

Level 2—Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Our short-term investments primarily utilize broker quotes in a non-active market for valuation of these securities.

Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

 

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ASC 820 requires us to maximize the use of observable inputs and minimize the use of unobservable inputs. If a financial instrument uses inputs that fall in different levels of the hierarchy, the instrument will be categorized based upon the lowest level of input that is significant to the fair value calculation. Our financial assets measured at fair value on a recurring basis include securities available for sale. Securities available for sale include money market funds and auction rate securities in private placements of credit linked notes.

Fair Value of Warrants

Prior to January 1, 2009, common stock warrants were recorded in stockholders equity in accordance with ASC 815, “Derivatives and Hedging” and ASC 825, “Financial instruments.” However in June 2008, the Financial Accounting Standards Board (“FASB”) issued new guidance now codified in ASC 815 that clarifies the determination of whether an instrument (or an embedded feature) is indexed to an entity’s own stock, which would qualify for classification as a liability. The new guidance was effective for financial statements issued for fiscal years beginning after December 15, 2008. The adoption of the new guidance on January 1, 2009, resulted in the reclassification of certain of our outstanding warrants from stockholders’ deficit to liability and a cumulative effect of change in accounting principle on our accumulated deficit. In addition, the stock warrants are required to be fair valued at each reporting period, with the changes in fair value recognized in our consolidated statement of operations. We fair value the warrants using a Black Scholes valuation model. Since the outstanding common stock warrants are fair valued at the end of each reporting period, any change in the underlying assumptions to the Black Scholes valuation model, including the volatility and price of our common stock, may have a significant impact on our consolidated financial statements. We recorded a change in fair value of warrants and warrant exercise gain of $12,106,000 for the year ended December 31, 2009. We recorded a change in fair value of warrants and warrant exercise gain of $4,427,000 for the nine months ended September 30, 2010.

Research and Development Costs

Research and development costs are expensed as incurred. Research and development costs consist primarily of payroll and related costs, materials and supplies used in the development of new products, and fees paid to third parties that conduct certain research and development activities on our behalf. Software development costs incurred in the research and development of new products are expensed as incurred until technological feasibility is established.

Stock-Based Compensation

We account for stock options and stock purchase rights related to our 2000 Stock Plan (the “2000 Plan”) and 2000 Employee Stock Purchase Plan (the “2000 ESPP”) under the provisions of ASC 718 which requires the recognition of the fair value of stock-based compensation. The fair value of stock options and ESPP shares was estimated using a Black-Scholes option valuation model. This model requires the input of subjective assumptions in implementing ASC 718 including expected stock price volatility, expected life and estimated forfeitures of each award. The fair value of equity-based awards is amortized over the vesting period of the award, and we have elected to use the straight-line method of amortization. Due to the limited amount of historical data available to us, particularly with respect to stock-price volatility, employee exercise patterns and forfeitures, actual results could differ from our assumptions.

We account for equity instruments issued to non-employees in accordance with the provisions of ASC 718 and ASC 505, “Equity.” As a result, the non-cash charge to operations for non-employee options with vesting or other performance criteria is affected each reporting period by changes in the estimated fair value of our common stock. The two factors which most affect these changes are the price of the common stock underlying stock options for which stock-based compensation is recorded and the volatility of the stock price. If our estimates of the fair value of these equity instruments change, it would have the effect of changing compensation expenses.

 

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Contingencies

We account for contingencies in accordance with ASC 450 Contingencies (“ASC 450”). ASC 450 requires that an estimated loss from a loss contingency shall be accrued when information available prior to issuance of the financial statements indicates that it is probable that an asset has been impaired or a liability has been incurred at the date of the financial statements and when the amount of the loss can be reasonably estimated. Accounting for contingencies such as legal and contract dispute matters requires us to use our judgment. We believe that our accruals for these matters are adequate. Nevertheless, the actual loss from a loss contingency might differ from our estimates.

Income Taxes

Our income tax policy records the estimated future tax effects of temporary differences between the tax basis of assets and liabilities and amounts reported in the accompanying balance sheets, as well as operating loss and tax credit carry forwards. We have recorded a full valuation allowance to reduce our deferred tax assets, as based on available objective evidence; it is more likely than not that the deferred tax assets will not be realized. In the event that we were to determine that we would be able to realize our deferred tax assets in the future, an adjustment to the deferred tax assets would increase net income in the period such determination was made.

Product Revenue

We derive our revenues from product sales of the OVA1 Test. Our product revenues for tests performed are recognized when the following revenue recognition criteria are met: (1) persuasive evidence that an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured. Prior to meeting all of these revenue recognition criteria for tests performed during the period, we recognize deferred revenue on the consolidated balance sheet.

License Revenue

Under the terms of the secured line of credit with Quest, portions of the borrowed principal amounts may be forgiven upon our achievement of certain milestones relating to the development, regulatory approval and commercialization of certain diagnostic tests (see Note 4). We account for forgiveness of principal debt balances as license revenues over the term of the exclusive sales period that Quest receives upon commercialization of an approved diagnostic test. We recognize license revenue straight-line over the 2.5-year period of Quest’s sales exclusivity beginning on the OVA1 Test commercialization date of March 9, 2010.

Recent Accounting Pronouncements

In June 2009, Accounting Standards Codification (“ASC”) ASC 105 Generally Accepted Accounting Principles (“ASC 105”) was issued. ASC 105 became the single official source of authoritative, nongovernmental generally accepted accounting principles (“GAAP”) in the United States. The historical GAAP hierarchy was eliminated and the ASC became the only level of authoritative GAAP, other than guidance issued by the Securities and Exchange Commission. Our accounting policies were not affected by the conversion to ASC. However, references to specific accounting standards in the footnotes to our consolidated financial statements have been changed to refer to the appropriate section of ASC.

In April 2009, FASB issued ASC 825 Financial Instruments (“ASC 825”) and ASC 270 Interim Reporting or (“ASC 270”). ASC 825 and ASC 270 requires us to disclose on a quarterly basis, providing quantitative and qualitative information about fair value estimates for all financial instruments not measured in the Consolidated Balance Sheets at fair value. ASC 825 and ASC 270 are effective for interim periods ending after June 15, 2009. We have adopted the provisions of ASC 825 and ASC 270 effective the first quarter of fiscal 2009. The adoption of this guidance did not have a material impact on our consolidated financial statements.

 

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In April 2009, FASB issued ASC 320 Investments—Debt and Equity Securities (“ASC 320”). ASC 320 modifies the other-than-temporary impairment guidance for debt securities through increased consistency in the timing of impairment recognition and enhanced disclosures related to the credit and noncredit components of impaired debt securities that are not expected to be sold. In addition, increased disclosures are required for both debt and equity securities regarding expected cash flows, credit losses, and an aging of securities with unrealized losses. ASC 320 is effective for interim and annual reporting periods that end after June 15, 2009, and early adoption is permitted. We have adopted the provisions of ASC 320 on January 1, 2009. We have considered the guidance provided by ASC 320 in our determination of impairment, and have determined that the impact was not material.

In October 2009, the FASB issued Accounting Standards Update 2009-13, Revenue Recognition (Topic 605): “Multiple Deliverable Revenue Arrangements—A Consensus of the FASB Emerging Issues Task Force”. This update provides application guidance on whether multiple deliverables exist, how the deliverables should be separated and how the consideration should be allocated to one or more units of accounting. This update establishes a selling price hierarchy for determining the selling price of a deliverable. The selling price used for each deliverable will be based on vendor-specific objective evidence, if available, third-party evidence if vendor-specific objective evidence is not available, or estimated selling price if neither vendor-specific or third-party evidence is available. We will be required to apply this guidance prospectively for revenue arrangements entered into or materially modified after January 1, 2011; however, earlier application is permitted. We have not determined the impact that this update may have on our consolidated financial statements.

In January 2010, the FASB issued updated guidance related to fair value measurements and disclosures, which requires a reporting entity to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and to describe the reasons for the transfers. The adoption of the updated guidance did not have a material impact on our consolidated results of operations or financial condition.

Interest Rate Sensitivity

As of September 30, 2010, our cash and cash equivalents were held primarily in money market accounts. We believe that, in the near term, we will maintain our available funds in money market accounts.

The primary objective of our investment activities is to preserve principal, maintain proper liquidity to meet operating needs and maximize yields. Our investment policy, which has been approved by our Board of Directors, specifies credit quality standards for our investments and limits the amount of credit exposure to any single issue, issuer or type of investment.

Our exposure to market risk for changes in interest rates relates primarily to the increase or decrease in the amount of interest income we can earn on our available funds for investment. Except for our secured line of credit with Quest Diagnostics, we have no long-term debt subject to floating rate interest. If interest rates were to increase by 1%, our annual interest expense would increase by $70,000. We do not plan to use derivative financial instruments in our investment portfolio.

Foreign Currency Exchange Risk

We have a foreign subsidiary, Ciphergen Biosystems KK, of which the functional currency is the Japanese yen. Accordingly, the accounts of this operation are translated from the Japanese yen to the United States dollar using the current exchange rate in effect at the balance sheet date for the balance sheet accounts, and using the average exchange rate during the period for revenue and expense accounts. The effects of translation are recorded to accumulated other comprehensive loss of stockholders’ deficit.

The accounts of all other foreign operations are remeasured to the United States dollar, which is the functional currency. Accordingly, all monetary assets and liabilities of these foreign operations are translated into

 

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United States dollars at current period-end exchange rates, and non-monetary assets and related elements of expense are translated using historical rates of exchange. Income and expense elements are translated to United States dollars using average exchange rates in effect during the period. Gains and losses from the foreign currency transactions of these subsidiaries are recorded to interest and other expense, net in the consolidated statement of operations. The net tangible assets of our non-United States operations, excluding intercompany debt, were $43,000 at September 30, 2010.

We did not enter into any forward contracts during the nine months ended September 30, 2010. Although we will continue to monitor our exposure to currency fluctuations, we cannot provide assurance that exchange rate fluctuations will not harm our business in the future.

Controls and Procedures

Evaluation of disclosure controls and procedures

Our senior management is responsible for establishing and maintaining a system of disclosure controls and procedures (as defined in Rule 13a-15e and 15d-15e under the Exchange Act) designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer’s management, including its principal executive officer or officers and principal financial officer or officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Management, including our Chief Executive Officer and Chief Financial Officer, performed an evaluation of our disclosure controls and procedures as defined under the Exchange Act as of December 31, 2009. Based on this evaluation and the identification of material weakness in our internal control over financial reporting as described below, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were not effective as of December 31, 2009.

Material Weakness in Internal Control over Financial Reporting

A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis.

Specifically, in connection with our March 30, 2009 filing for bankruptcy protection, we reduced our headcount to three employees, only one of which was a non-managerial accounting employee. Specifically, we did not have sufficient accounting and reporting expertise necessary to make estimates requiring significant judgment or to record complex transactions in a manner necessary to facilitate the timely filing of all Forms required by the Exchange Act of 1934. As a result, we did not file on a timely basis our Forms 10-Q which became due during the bankruptcy period and the Forms 10-K for the years ended December 31, 2008 and 2009 in accordance with the Securities Exchange Act of 1934. This control deficiency, if not corrected, could result in a material misstatement of our annual or interim consolidated financial statements that would not be prevented or detected on a timely basis. Therefore, management concluded, as of December 31, 2009, that this control deficiency constituted a material weakness.

Management’s Plan for Remediation

During the year ending December 31, 2010, we have been involved in efforts to restore and maintain an effective internal control environment. In February 2010, as part of this process, we hired an Interim Vice President, Finance & Chief Accounting Officer and engaged independent contractors, some of whom were former employees of the Company, to perform an extensive review of fiscal 2008 and 2009 transactions and prepare financial statements for the years then ended in accordance with generally accepted accounting

 

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principles. In May 2010, we filed our past-due Forms 10-Qs and 10-Ks to become compliant with the Securities and Exchange Act of 1934. We have hired a Vice President and Chief Financial Officer, a Corporate Controller and two full-time accounting staff. In addition, we are restoring, updating and re-implementing our internal control processes and procedures to reflect our existing operations. Specifically, we have:

 

  (1) re-established our entity level controls;

 

  (2) re-instituted procedures to address segregation of duties;

 

  (3) incorporated the level of management oversight and review of the financial statements and corresponding SEC filings that was originally contemplated in our internal control system; and

 

  (4) hired management that we believe has the necessary expertise to make estimates requiring significant judgment, to record complex transactions and to facilitate the timely filing of SEC documents.

Our testing, evaluation and conclusion on the effectiveness of our internal controls in place at December 31, 2010 will not be completed until sometime in early 2011. As a result, we have not yet made any conclusions, nor have we disclosed in any of our subsequent quarterly filings, the sufficiency of the actions taken in remediating the control deficiencies that led to the material weakness at December 31, 2009.

Inherent limitations on the controls of financial reporting

Internal control over financial reporting has inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements will not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk.

 

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BUSINESS

Company Overview

We are dedicated to the discovery, development and commercialization of novel high-value diagnostic tests that help physicians diagnose, treat and improve outcomes for patients. Our tests are intended to help guide decisions regarding patient treatment, which may include decisions to refer patients to specialists, to perform additional testing, or to assist in the selection of therapy. A distinctive feature of our approach is to combine multiple markers into a single, reportable index score that has higher diagnostic accuracy than its constituents. We concentrate our development of novel diagnostic tests in the fields of oncology, hematology, cardiology and women’s health, with the initial focus on ovarian cancer. We also intend to address clinical questions related to early disease detection, treatment response, monitoring of disease progression, prognosis and others through collaborations with leading academic and research institutions.

Our lead product, the OVA1 Test, was cleared by the FDA on September 11, 2009. The OVA1 Test addresses a clear unmet clinical need, namely the pre-surgical identification of women who are at high risk of having a malignant ovarian tumor. Numerous studies have documented the benefit of referral of these women to gynecologic oncologists for their initial surgery. Prior to the clearance of the OVA1 Test, no blood test had been cleared by the FDA for physicians to use in the pre-surgical management of ovarian adnexal masses. The OVA1 Test is a qualitative serum test that utilizes five well-established biomarkers and proprietary FDA-cleared software to determine the likelihood of malignancy in women with a pelvic mass for whom surgery is planned. The OVA1 Test was developed through large pre-clinical studies in collaboration with numerous academic medical centers encompassing over 2,500 clinical samples. The OVA1 Test was fully validated in a prospective multi-center clinical trial encompassing 27 sites reflective of the diverse nature of the clinical centers at which ovarian adnexal masses are evaluated. The results of the clinical trial demonstrated that the OVA1 Test, in conjunction with clinical evaluation, was able to identify 91.7% of the malignant ovarian tumors and to rule out malignancy NPV with 93.2% certainty. Recently, data were presented demonstrating the high sensitivity of the OVA1 Test for epithelial ovarian cancers (“EOC”); the OVA1 Test detected 95/96 EOC cases for a sensitivity of 99.0%, including 40/41 stage I and stage II EOC, for an overall sensitivity of 97.6% for early stage EOC, as compared to 65.9% for CA125 using the ACOG cutoffs. The improvement in sensitivity was even greater among premenopausal women; for the OVA1 Test, sensitivity for early stage EOC was 92.9% and for CA125, sensitivity was 35.7%. Overall, the OVA1 Test detected 76% of malignancies missed by CA125, including all advanced stage malignancies.

In addition to the OVA1 Test, we have development programs in other clinical aspects of ovarian cancer as well as in peripheral arterial disease. In the field of peripheral arterial disease, we have identified candidate biomarkers that may help to identify individuals at high risk for a decreased ankle-brachial index score, which is indicative of the likely presence of PAD. We have initiated an intended-use study to validate a multi-marker algorithm for the assessment of individuals at risk for PAD. This algorithm will be specifically directed at a primary care population in which the VASCLIR test is expected to be used. Subsequent to this study, Vermillion intends to discuss with the FDA the appropriate submission pathway, which may be PMA, 510(k) clearance, or 510(k) de novo clearance. We have also initiated pilot experiments intended to identify markers with high clinical specificity that may complement our current OVA1 Test. These experiments are investigational and we have not yet established a regulatory pathway for this potential product (OVA2).

Current and former academic and research institutions that we have or have had collaborations with include the Johns Hopkins University School of Medicine; the University of Texas M.D. Anderson Cancer Center; University College London; the University of Texas Medical Branch; the Katholieke Universiteit Leuven; Clinic of Gynecology and Clinic of Oncology, Rigshospitalet, Copenhagen University Hospital; the Ohio State University Research Foundation; Stanford University; and the University of Kentucky.

On July 22, 2005, we entered into the Strategic Alliance Agreement with Quest. The Strategic Alliance Agreement was set to expire on the earlier of (i) the three-year anniversary of the agreement, which was July 22, 2008, and (ii) the date on which Quest commercializes three diagnostic tests. On July 21, 2008, the Strategic

 

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Alliance Agreement was amended to extend the term of the agreement to end on the earlier of (i) September 1, 2008 and (ii) the date on which Quest commercializes three diagnostic tests. On October 24, 2008, the Strategic Alliance Agreement was amended to extend the term of the agreement to end on the earlier of (i) September 1, 2009 and (ii) the date on which Quest makes its third development election. Subsequently on October 7, 2009, the Strategic Alliance Agreement was amended to extend the term of the agreement to end on the earlier of (i) October 7, 2012 and (ii) the date on which Quest makes its third development election. To date, Quest has selected only two diagnostic tests, which are VASCLIR and the OVA1 Test, to commercialize. We achieved the milestone provision in the secured line of credit agreement with Quest for FDA clearance of the first diagnostic test kit when the OVA1 Test was approved by the FDA in September 2009. On November 10, 2010, the Strategic Alliance Agreement was further amended to give Quest the exclusive right to commercialize the OVA1 Test for up to three additional years from the period as specified in the Strategic Alliance Agreement and to establish royalties, fees, and other payments related to the performance of the OVA1 Test. While we were under Chapter 11 bankruptcy protection, we had not paid accrued interest on the secured line of credit and were therefore in default. In January 2010, we emerged from bankruptcy and cured the default upon payment of accrued interest, and as a result of the cure, the principal on the secured line of credit was reduced by $3,000,000 to $7,000,000. No additional amounts have been forgiven through December 2010. We are in discussions with Quest regarding the achievement of an additional $1,000,000 forgiveness milestone related to the OVA1 Test under the terms of the Strategic Alliance Agreement.

We were originally incorporated in California on December 9, 1993, under the name Abiotic Systems. In March 1995, we changed our corporate name to Ciphergen Biosystems, Inc. and in May 2000, we reincorporated in Delaware. We had our initial public offering in September 2000. On November 13, 2006, we sold assets and liabilities of our protein research tools and collaborative services business, referred to herein as the Instrument Business, to Bio-Rad Laboratories, Inc., referred to herein as Bio-Rad, in order to concentrate our resources on developing clinical protein biomarker diagnostic products and services. On August 21, 2007, we changed our corporate name to Vermillion, Inc.

On March 30, 2009, we filed for relief under Chapter 11 of the Bankruptcy Code. We emerged from bankruptcy protection on January 22, 2010 pursuant to the terms of a January 5, 2010 order entered by the bankruptcy court approving our Second Amended Plan of Reorganization.

The OVA1 Test was launched on March 9, 2010 by Quest under the terms of the Strategic Alliance Agreement at a list price of $650.00 for each OVA1 Test. On March 11, 2010, the Medicare contractor Highmark Medicare Services announced that it would cover the OVA1 Test in its reimbursement program. On May 10, 2010, Quest notified us that Highmark Medicare Services is adjudicating to Quest the OVA1 Test claims in the amount of $516.25 for each OVA1 Test. On September 20, 2010, we announced that the OVA1 Test was CE marked, a requirement for marketing the test in the European Union. The OVA1 Test has satisfied all certification requirements to complete its declaration of conformity.

The Diagnostics Market

The economics of healthcare demand improved allocation of resources. Improved allocation of resources can be derived through disease prevention, early detection of disease leading to early intervention, and diagnostic tools that can triage patients to more appropriate therapy and intervention. According to the May 2009 In Vitro Diagnostics Market Analysis 2009-2024 report, the worldwide market for in vitro diagnostics (“IVDs”) in 2008 was approximately $40.0 billion. Visiongain predicts that the market will generate nearly $60.0 billion in 2014.

We have chosen to concentrate primarily in the areas of oncology, hematology, cardiology and women’s health. Demographic trends suggest that, as the population ages, the burden from these diseases will increase and the demand for quality diagnostic, prognostic and predictive tests will increase. In addition, these areas generally lack quality diagnostic tests and, therefore, we believe patient outcomes can be significantly improved by the development of novel diagnostic tests.

 

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Our focus on translational proteomics enables us to address the market for novel diagnostic tests that simultaneously measure multiple protein biomarkers. A protein biomarker is a protein or protein variant that is present at greater or lesser concentrations in a disease state versus a normal condition. Conventional protein tests measure a single protein biomarker whereas most diseases are complex. We believe that efforts to diagnose cancer and other complex diseases have failed in large part because the disease is heterogeneous at the causative level (i.e., most diseases can be traced to multiple potential etiologies) and at the human response level (i.e., each individual afflicted with a given disease can respond to that ailment in a specific manner).

Consequently, measuring a single protein biomarker when multiple protein biomarkers may be altered in a complex disease is unlikely to provide meaningful information about the disease state. We believe that our approach of monitoring and combining multiple protein biomarkers using a variety of analytical techniques will allow us to create diagnostic tests with sufficient sensitivity and specificity about the disease state to aid the physician considering treatment options for patients with complex diseases.

Ovarian Cancer

Background. Commonly known as the “silent killer”, ovarian cancer leads to approximately 15,000 deaths each year in the United States. Approximately 20,000 new ovarian cancer cases are diagnosed each year, with the majority of the patients in the late stages of the disease in which the cancer has spread beyond the ovary. Unfortunately, ovarian cancer patients in the late stages of the disease have a poor prognosis, which leads to the high mortality rates. According to the American Cancer Society, when ovarian cancer is diagnosed at its earliest stages, the patient has a 5-year survival rate of 93%. Ovarian cancer patients have up to a 90% cure rate following surgery and/or chemotherapy if detected in stage 1. However, only 19% of ovarian cancer patients are diagnosed before the tumor has spread outside the ovary. For ovarian cancer patients diagnosed in the late-stages of the disease, the 5-year survival rate falls to 18%.

While the diagnosis of ovarian cancer in its earliest stages greatly increases the likelihood of survival from the disease, another factor that predicts survival from ovarian cancer is the specialized training of the surgeon who operates on the ovarian cancer patient. Numerous studies have demonstrated that treatment of malignant ovarian tumors by specialists such as gynecologic oncologists or at specialist medical centers improves outcomes for women with these tumors. Published guidelines from the Society of Gynecologic Oncologists (the “SGO”) and the ACOG recommend referral of women with malignant ovarian tumors to specialists. Unfortunately, today, only about one third of women with these types of tumors are operated on by specialists, in part because of inadequate tests and procedures that can identify such malignancies with high sensitivity. Accordingly, an unmet clinical need is a diagnostic test that can provide adequate predictive value to stratify patients with a pelvic mass into those with a high risk of invasive ovarian cancer versus those with a low risk of ovarian cancer, which is essential for improving overall survival in patients with ovarian cancer.

Although ovarian adnexal tumors are relatively common, malignant tumors are less so. Screening studies have indicated that the prevalence of ovarian adnexal tumors in postmenopausal women can be as high as 5 percent. Ovarian adnexal tumors are thought to be even more common in premenopausal women, but there are more non-persistent, physiologic ovarian tumors in this demographic. Using census estimates of 110 million women over the age of 18 and a 5% prevalence rate, this implies that over five million women are experiencing ovarian adnexal tumors at any given time. Although many of these do not present to the physician or are not concerning enough to warrant surgery, those that do require evaluation of the likelihood of malignancy and could potentially benefit from the use of the OVA1 Test.

The ACOG and the SGO have issued guidelines to help physicians evaluate ovarian adnexal tumors for malignancy. These guidelines take into account menopausal status, CA125 levels, and physical and imaging findings. However, these guidelines have notable shortcomings because of their reliance on tools with certain weaknesses. Most notably, the CA125 blood test, which is cleared by the FDA only for monitoring for recurrence of ovarian cancer, is absent in up to 50% of early stage ovarian cancer cases. Moreover, CA125 can be elevated

 

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in diseases other than ovarian cancer, including benign ovarian tumors and endometriosis. These shortcomings limit the CA125 blood test’s utility in distinguishing benign from malignant ovarian tumors or for use in detection of early stage ovarian cancer. Transvaginal ultrasound is another diagnostic modality used with patients with ovarian tumors. Attempts at defining specific morphological criteria that can aid in a benign versus malignant diagnosis have led to the morphology index and the risk of malignancy index, with reports of 40-70% predictive value. However, ultrasound interpretation can be variable and dependent on the experience of the operator. Accordingly, the ACOG and SGO guidelines perform only modestly in identifying early stage ovarian cancer and malignancy in pre-menopausal women. Efforts to improve detection of cancer by lowering the cutoff for CA125 (the “Modified ACOG/SGO Guidelines”) provide only a modest benefit, since CA125 is absent in certain types of epithelial ovarian cancer and is poorly detected in early stage ovarian cancer.

Clinical Development. To address this clear unmet clinical need, we initiated an ovarian cancer biomarker discovery program. In August 2004, we, along with collaborators at JHU, UCL and M.D. Anderson, reported in a Cancer Research paper the discovery of three biomarkers that, when combined with CA125, provided higher diagnostic accuracy for early stage ovarian cancer than other biomarkers, including CA125 alone. The three biomarkers that we reported in the August 2004 Cancer Research paper formed the basis of an expanded panel of biomarkers that together have demonstrated risk stratification value in a series of studies involving over 2,500 clinical samples from more than five clinical sites. Data presented at the June 2006 Annual Meeting of the American Society of Clinical Oncology demonstrated the portability of this biomarker panel among different clinical groups, indicating its potential validity across various testing populations. Data presented at the March 2007 Annual Meeting of the SGO described results from a cohort study. We were able to demonstrate in 525 consecutively sampled women, a significant increase in the positive predictive value using its biomarker panel over the baseline level. This translates into the potential to enrich the concentration of ovarian cancer cases referred to the gynecologic oncologist by more than twofold.

OVA1™ Ovarian Tumor Triage Test. In January, 2007, we commenced our multi-center prospective clinical trial to demonstrate the clinical performance and utility of our OVA1 Test, which was developed based on the studies described above. The clinical study population came from institutions with primary care physicians, gynecologists (“non-GO”), and/or gynecologic oncologists (“GO”). The clinical study subject enrollment centers were representative of institutions where ovarian tumor subjects potentially undergo a gynecologic examination. The specimens were collected at 27 demographically mixed sites that included large and small medical centers (universities/community hospitals), clinics that specialize in women’s health, small gynecology/obstetrics groups, gynecology/oncology practices, and HMO groups. The performance of the OVA1 Test was determined based on 516 evaluable subjects who underwent surgery to remove a documented ovarian tumor and for whom a pathology result was available. Physicians were asked, based on the information they had, which included physical, radiologic, and laboratory results, whether they believed the patient had cancer (“Clinical Assessment”). Physicians were not provided with the OVA1 Test score in making this determination. After surgery, the specimen was examined by a surgical pathologist per routine clinical practice. The ability of physicians to predict malignancy without the OVA1 Test was compared to the ability of physicians with the OVA1 Test (“Dual Assessment”) to predict malignancy. With Dual Assessment, which included the OVA1 Test, 80.0% of cancers missed by clinician impression alone were detected. Dual Assessment, which included the OVA1 Test, had greater sensitivity and negative predictive value than Clinical Assessment alone and the metrics of clinical performance were 91.7% and 93.2%, respectively. We obtained FDA clearance of the OVA1 Test on September 11, 2009. The OVA1 Test is the first and only FDA-cleared test to be used in the pre-surgical evaluation of ovarian adnexal tumors.

Results from the clinical trial were presented at the 2010 Annual Meeting of the SGO. One presentation demonstrated that the ACOG/SGO guidelines detected only 77% of ovarian malignancies and that the Modified ACOG/SGO Guidelines improved detection to only 80%. Moreover, detection of early stage ovarian cancer was only 47%. A second presentation demonstrated that the OVA1 Test, in conjunction with clinical impression, improved detection of malignancy to 92% from 72% using clinical impression alone among patients evaluated by non-gynecologic oncologists. Among these patients, detection of stage I ovarian cancer was 79%.

 

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Additional results from the clinical trial were presented at the 2010 International Gynecologic Cancer Society (IGCS) meeting. This presentation reported that the OVA1 Test had sensitivity for ovarian cancer of 92.5%, as compared to 68.9% for CA125 using cutoffs established in the ACOG criteria for adnexal mass evaluation and 77.0% for CA125 using cutoffs in the modified ACOG criteria. Additionally, data were presented demonstrating the high sensitivity of the OVA1 Test for EOC; the OVA1 Test detected 95/96 EOC cases for a sensitivity of 99.0%, including 40/41 stage I and stage II EOC, for an overall sensitivity of 97.6% for early stage EOC, as compared to 65.9% for CA125 using the ACOG cutoffs. The improvement in sensitivity was even greater among premenopausal women; for the OVA1 Test, sensitivity for early stage EOC was 92.9% and for CA125, sensitivity was 35.7%. Overall, the OVA1 Test detected 76% of malignancies missed by CA125, including all advanced stage malignancies.

Health economic analysis indicates that anticipated benefits of the OVA1 Test include 1) more appropriate referrals of women with high risk of malignancy to a gynecologic oncologist and fewer referrals of women at low risk of malignancy; 2) fewer second surgeries as a result of an initial surgery by a generalist on a woman with a malignant tumor; 3) reduced need for a backup surgeon (i.e. specialist) during a surgery by a generalist; 4) more appropriate and efficient administration of intraperitoneal chemotherapy; 5) longer survival, associated with better quality of life. Studies directed at demonstrating these benefits are currently being planned.

Other ovarian cancer indications. We have a research and license agreement with JHU to evaluate markers that provide improved specificity in the detection of ovarian cancer. Candidate markers are currently being assessed in small, pilot sample sets. Markers demonstrating high specificity will then be assessed in larger, clinical samples sets. It is anticipated that pilot results of these studies will be reported in early 2011 at a major cancer meeting. Additionally, we have a research and license agreement with Rigshospitalet (Copenhagen). Data have been generated that show that a certain combination of markers can separate ovarian cancer patients into those with good prognosis from those with poor prognosis. These results have been submitted for publication and a patent application has been filed.

Peripheral Arterial Disease

Peripheral arterial disease (“PAD”) represents atherosclerosis of the lower extremities and is generally reflective of systemic atherosclerotic disease and is therefore a risk factor for adverse cardiac events such as myocardial infarction and stroke. This disease affects between 8-12 million Americans, and the number of people diagnosed with PAD is expected to increase concurrently with the rising number of people diagnosed with diabetes. The American Heart Association and the American College of Cardiology have identified three demographics at risk for PAD: smokers 50 years of age or older; diabetics 50 years of age or older; and the elderly 70 years of age or older. Collectively, this represents tens of millions of Americans.

PAD is most commonly diagnosed using the ankle-brachial index (“ABI”), which is performed using a handheld Doppler. Blood pressures are measured in the arm and at the ankles and the ratio (ankle/arm) is calculated. Non-affected individuals should have a ratio of 0.9 or greater, while individuals with a ratio of less than 0.9 are defined as having PAD. Although the ABI has good sensitivity and specificity for PAD, its implementation into routine clinical practice has been hampered by poor physician adoption, generally because of the need to utilize special equipment by a specially trained technician and the need to have the patient lie supine prior to the administration of this test. Additionally, studies have shown that the ABI is often performed incorrectly. Therefore, a blood test that can be more routinely implemented would be beneficial in identifying people at increased risk for PAD.

In collaboration with Dr. John Cooke at Stanford, we have performed both an initial discovery study and a first validation study that has resulted in the identification blood markers that could assist in the diagnosis of PAD. These findings form the basis of a novel blood diagnostic test for PAD.

 

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The results of these studies, including the publication of two blood markers for PAD, were published in the August 2007 on-line issue of the peer-reviewed journal Circulation, which is published by the American Heart Association (the “AHA”). Independent validation of these initial findings was subsequently published in the peer-reviewed journal Vascular Medicine in 2008. This study, which encompassed 540 individuals, confirmed the elevation of the two biomarkers in subjects with PAD. Moreover, the study showed that a panel of markers improved the identification of subjects with PAD and was complementary to available data, including the AHA risk score. In this study, subjects with a moderate AHA risk score but elevated PAD biomarker score had almost an 8 times increased likelihood of having PAD than if they had a normal PAD biomarker score.

We have initiated an intended-use study to validate a multi-marker algorithm for the assessment of individuals at risk for PAD. This algorithm will be specifically directed at a primary care population in which the VASCLIR test is expected to be used. We have engaged the Colorado Prevention Center (CPC) to perform this trial with us. CPC is a renowned Academic Research Organization that has a focus in cardiovascular clinical trials and is led by Dr. William Hiatt, who is currently the Novartis Foundation endowed professor for cardiovascular research in the Department of Medicine, University of Colorado Denver School of Medicine with appointments in cardiology and geriatrics and a clinical focus in vascular medicine. Subsequent to this study, we intend to discuss with the FDA the appropriate submission pathway, which may be PMA, 510(k) clearance, or 510(k) de novo clearance. Quest has accepted the PAD test as a development program under the terms of the Amended Strategic Alliance Agreement.

Commercialization

We expect to commercialize and sell diagnostic tests (which may consist of reagents and/or proprietary software) in one or both of two phases. One phase, referred to as the laboratory developed test (“LDT”) phase, will involve the sale of certain reagents (which may be in the form of proprietary software) to certain customers coupled with the grant to such customer of a sublicense to utilize the reagent in a laboratory-developed test using the methodology covered by the relevant license(s) obtained from our collaborators. An LDT would comprise multiple reagents (such as assay test kits, software, or other reagents), some of which would be supplied by Vermillion, and would be utilized by clinical laboratories to develop and perform “home brew” laboratory tests in laboratories federally regulated under the Clinical Laboratory Improvement Amendments of 1988 (“CLIA”). In the other phase, referred to as the IVD phase, we plan to sell FDA-cleared devices (which may comprise multiple reagents such as assay test kits, software, or other reagents).

Quest is a significant stockholder of us. On July 22, 2005, Vermillion and Quest entered into a Strategic Alliance Agreement to develop and commercialize up to three diagnostic tests from our product pipeline (the “Strategic Alliance”). The Strategic Alliance Agreement was set to expire on the earlier of (i) the three-year anniversary of the agreement, which was July 22, 2008, and (ii) the date on which Quest commercializes three diagnostic tests. On July 21, 2008, Vermillion and Quest amended the Strategic Alliance Agreement to extend the term of the agreement to end on the earlier of (i) September 1, 2008 and (ii) the date on which Quest commercializes the three diagnostic tests. On October 24, 2008, Vermillion and Quest amended the Strategic Alliance Agreement to extend the term of the agreement to end on the earlier of (i) September 1, 2009 and (ii) the date on which Quest makes its third development election. On October 7, 2009, Vermillion and Quest amended the Strategic Alliance Agreement to extend the term of the agreement to end on the earlier of (i) October 7, 2012 and (ii) the date on which Quest makes its third development election. On October 7, 2009, Vermillion and Quest amended the strategic alliance agreement to extend the term of the agreement to end on the earlier of (i) October 7, 2012 and (ii) the date on which Quest commercializes the three diagnostic tests. To date, Quest has selected only two diagnostic tests, which are VASCLIR and the OVA1 Test, to commercialize. On November 10, 2010, Vermillion and Quest further amended the Strategic Alliance Agreement (the Strategic Alliance Agreement and the July 21, 2008, October 24, 2008, October 7, 2009 and November 10, 2010 amendments are collectively referred to as the “Amended Strategic Alliance Agreement”) to give Quest the exclusive right to commercialize the OVA1 Test for a certain period of time and to establish royalties, fees, and other payments related to the performance of the OVA1 Test. Pursuant to the Amended Strategic Alliance Agreement, Quest will

 

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have the non-exclusive right to commercialize each of the tests other than the OVA1 Test on a worldwide basis, with exclusive commercialization rights in each exclusive territory, as this term is defined in the Amended Strategic Alliance Agreement, beginning on the date each test is first commercialized and ending on the third anniversary of the date that such test is cleared or approved by the FDA. As part of the Strategic Alliance, there is a royalty arrangement under which Quest will pay royalties to us based on fees earned by Quest for applicable diagnostic services, and we will pay royalties to Quest based on our revenue from applicable diagnostic products.

Customers

In the United States, the IVD market can be segmented into three major groups: clinical reference laboratories, the largest of which are Quest and Laboratory Corporation of America; hospital laboratories; and physician offices. Initially, substantially all of our revenue in the United States will be generated through clinical reference laboratories, and Quest will be the major customer. We will attempt to penetrate hospital laboratories and physician offices, when appropriate. Outside the United States, laboratories may become customers, either directly with us or via distribution relationships established between us and authorized distributors.

Research and Development

Our research and development efforts center on the discovery and validation of biomarkers and combinations of biomarkers that can be developed into diagnostic assays. We do this predominantly through collaborations we have established with academic institutions such as JHU, Rigshospitalet, and Stanford as well as through contract research organizations (“CRO’s”) such as PrecisionMed and the Colorado Prevention Center.

Scientific Background

Genes are the hereditary coding system of living organisms. Genes encode proteins that are responsible for cellular functions. The study of genes and their functions has led to the discovery of new targets for drug development. Industry sources estimate that, within the human genome, there are approximately 30,000 genes. Although the primary structure of a protein is determined by a gene, the active structure of a protein is frequently altered by interactions with additional genes or proteins. These subsequent modifications result in hundreds of thousands of different proteins. In addition, proteins may interact with one another to form complex structures that are ultimately responsible for cellular functions.

Genomics allows researchers to establish the relationship between gene activity and disease. However, many diseases are manifested not at the genetic level, but at the protein level. The complete structure of modified proteins cannot be determined by reference to the encoding gene alone. Thus, while genomics provides some information about diseases, it does not provide a full understanding of disease processes. We are focused on converting recent advances in proteomics into clinically useful diagnostic tests.

Relationship Between Proteins and Diseases

The entire genetic content of any organism, known as its genome, is encoded in strands of deoxyribonucleic acid (“DNA”). Cells perform their normal biological functions through the genetic instructions encoded in their DNA, which results in the production of proteins. The process of producing proteins from DNA is known as gene expression or protein expression. Differences in living organisms result from variability in their genomes, which can affect the types of genes expressed and the levels of gene expression. Each cell of an organism expresses only approximately 10% to 20% of the genome. The type of cell determines which genes are expressed and the amount of a particular protein produced. For example, liver cells produce different proteins from those produced by cells found in the heart, lungs, skin, etc. Proteins play a crucial role in virtually all biological processes, including transportation and storage of energy, immune protection, generation and transmission of nerve impulses and control of growth. Diseases may be caused by a mutation of a gene that alters a protein directly or indirectly, or alters the level of protein expression. These alterations interrupt the normal balance of proteins and

 

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create disease symptoms. A protein biomarker is a protein or protein variant that is present in a greater or lesser amount in a disease state versus a normal condition. By studying changes in protein biomarkers, researchers may identify diseases prior to the appearance of physical symptoms. Historically, researchers discovered protein biomarkers as a byproduct of basic biological disease research, which resulted in the validation by researchers of approximately 200 protein biomarkers that are being used in commercially available clinical diagnostic products.

Limitations of Existing Diagnostic Approaches

The IVD industry manufactures and distributes products that are used to detect thousands of individual components present in human derived specimens. However, the vast majority of these assays are used specifically to identify single protein biomarkers. The development of new diagnostic products has been limited by the complexity of disease states, which may be caused or characterized by several or many proteins or post-translationally modified protein variants. Diagnostic assays that are limited to the detection of a single protein often have limitations in clinical specificity (true negatives) and sensitivity (true positives) due to the complex nature of many diseases and the inherent biological diversity among populations of people. Diagnostic products that are limited to the detection of a single protein may lack the ability to detect more complex diseases, and thus produce results that are unacceptable for practical use. The heterogeneity of disease and of the human response to disease often underlies the shortcoming of single biomarkers to diagnose and predict many diseases accurately.

Our Solution

Our studies, particularly in ovarian cancer, have given us a better understanding of both the disease pathophysiology and the host response. By using multiple biomarkers, we are able to better characterize the disease and host response heterogeneity. In addition, by examining specific biomarkers with greater resolution, for example, post-translational modifications, we believe we can improve the specificity of our diagnostic biomarkers because these modifications reflect both the pathophysiology and host response. This is accomplished using novel protein analysis tools coupled with multivariate statistical analysis software to identify combinations of specific biomarkers leading to commercialization of disease-specific assays.

We are applying translational proteomics research, development tools, and methods to analyze biological information in an attempt to discover associations between proteins, protein variants, protein-protein interaction and diseases. We intend to develop new diagnostic tests based on known and newly identified protein markers to help physicians predict an individual’s predisposition for a disease in order to better characterize, monitor progression of and select appropriate therapies for such disease. Our goal is to develop novel diagnostic tests that address unmet medical needs, particularly in stratifying patients according to the risk of developing a disease, having a disease or failing a specific therapy for a disease.

The following table is a summary of certain diagnostic issues and our solution:

 

Issue                                                     

  

Solution

Heterogeneity of disease    Emphasis on multi-biomarker panels
Poorly validated biomarkers   

Expertise in study design incorporating internal and external validation

Large multi-site studies

 

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Addressing the Heterogeneity of Disease

Our strategy is to create a diagnostics paradigm that is based on risk stratification, multiple-biomarker testing and information integration. This strategy is based on the belief that any specific disease is heterogeneous and, therefore, relying on a single disease biomarker to provide a simple “yes-no” answer is likely to fail. We believe that efforts to diagnose cancer and other complex diseases have failed in large part because the disease is heterogeneous at the causative level, meaning that most diseases can be traced to multiple potential etiologies, and at the human response level, meaning that each individual afflicted with a given disease can respond to that ailment in a specific manner. Consequently, diagnosis, disease monitoring and treatment decisions can be challenging. This heterogeneity of disease and difference in human response to disease and/or treatment underlies the shortcomings of single biomarkers to predict and identify many diseases. A better understanding of heterogeneity of disease and human response is necessary for improved diagnosis and treatment of many diseases.

Validation of Biomarkers Through Proper Study Design

Analysis of peer-reviewed publications reveals almost daily reports of novel biomarkers or biomarker combinations associated with specific diseases. Few of these are used clinically. As with drug discovery, preliminary research results fail to canvass sufficient variation in study populations or laboratory practices and, therefore, the vast majority of candidate biomarkers fail to be substantiated in subsequent studies. Recognizing that validation is the point at which most biomarkers fail, our strategy is to reduce the attrition rate between discovery and clinical implementation by building validation into the discovery process. Biomarkers fail to validate for a number of reasons, which can be broadly classified into pre-analytical and analytical factors. Pre-analytical factors include study design that does not mimic actual clinical practice, inclusion of the wrong types of control individuals and demographic bias (usually seen in studies in which samples are collected from a single institution). Analytical factors include poor control over laboratory protocols, inadequate randomization of study samples and instrumentation biases (for example, higher signal early in the experimental run compared to later in the experimental run). Finally, the manner in which the data are analyzed can have a profound impact on the reliability of the statistical conclusions.

When designing clinical studies, we begin with the clinical question, since this drives the downstream clinical utility of the biomarkers. With the starting point of building validation into the discovery process, we design our studies to include the appropriate cases and control groups. We further incorporate an initial validation component even within the discovery component. We place an emphasis on multi-institutional studies, inclusion of clinically relevant controls, using qualified and trained operators to run assays and collect data. For example, in an August 2004 cancer research paper, which describes the first three biomarkers in the ovarian cancer panel, there were more than 600 specimen samples taken from five hospitals that were analyzed. In the development of its OVA1 Test, we analyzed more than 2,500 samples from five additional medical centers prior to initiating our prospective ovarian clinical study for submission to the FDA. Additionally to date, we have examined over 600 samples in our PAD program. In analyzing the complex proteomics data, we take a skeptical view of statistical methodologies, choosing to use a variety of approaches and looking for concordance between approaches, taking the view that biomarkers deemed significant by multiple statistical algorithms are more likely to reflect biological conditions than mathematical artifacts.

Through biomarker discovery efforts conducted predominantly from 2000 through 2007, we have amassed a portfolio of candidate biomarkers identified in retrospective sample sets. Our research and development efforts are now mostly focused on validating these biomarkers in prospective studies. During the period from 2007 through 2008, we conducted a multi-center prospective clinical trial to determine the clinical performance of our OVA1 Test, which was submitted to the FDA on June 19, 2008, and cleared by the FDA on September 11, 2009. We have additional markers for ovarian cancer that we plan to evaluate and validate. Additionally, we have several biomarkers for PAD that we are beginning to assess prospectively in an intended-use study. Results from this study are expected in the second half of 2011.

 

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We are also evaluating in-licensing opportunities for biomarkers in relevant disease areas. This approach requires less infrastructure and internal resources than establishing and maintaining an internal platform-driven biomarker discovery program. Additionally, it allows us to be platform-agnostic and potential biomarkers for in-licensing could be proteins, genes, or other types of analytes.

Our research and development expenses were $5,289,000, $2,346,000 and $2,797,000 for the years ended December 31, 2008, 2009 and the nine months ended September 30, 2010, respectively.

Commercial Operations

Upon clearance of the OVA1 Test, we initiated efforts directed at building a commercial infrastructure, including hiring of sales and marketing expertise and contracting with reimbursement specialists. To date, we have a total of thirteen direct sales representatives. These sales representatives work closely with colleagues at Quest to identify opportunities for communicating the benefits of the OVA1 Test to general gynecologists and gynecologic oncologists alike. Additionally, we have hired a Corporate Director of Reimbursement to develop and implement strategies towards effective reimbursement. Our success will also depend on our ability to penetrate markets outside of the United States. Towards that end, on September 20, 2010, we announced that the OVA1 Test was CE marked, a requirement for marketing the test in the European Union. The OVA1 Test has satisfied all certification requirements to complete its declaration of conformity.

Reimbursement

In the United States, revenue for diagnostic tests comes from several sources, including third-party payers such as insurance companies and government healthcare programs, such as Medicare and Medicaid. On March 12, 2010, we announced that Highmark Medicare Services, the Medicare contractor that has jurisdiction over claims submitted by Quest for the OVA1 Test, will cover the OVA1 Test. On May 10, 2010, Quest notified us that Highmark Medicare Services is adjudicating to Quest the OVA1 claims in the amount of $516.25 for each OVA1 Test. This local coverage determination (“LCD”) from Highmark Medicare Services essentially provides national coverage for patients enrolled in Medicare as well as Medicare Advantage health plans. The Company and Quest Diagnostics have worked together to obtain coverage and reimbursement from private payers across the country. As of January 1, 2011, 12 independent BlueCross BlueShield plans, representing more than 22 million lives, provide coverage for the OVA1 Test. In total, including Medicare and other private payers, approximately 68 million patients have access and coverage for the OVA1 Test. The Company and Quest are pursuing coverage from additional payers.

Competition

The diagnostics industry in which we operate is competitive and evolving. There is intense competition among healthcare, biotechnology and diagnostics companies attempting to discover candidates for potential new diagnostic products. These companies may:

 

   

develop new diagnostic products in advance of us or our collaborators;

 

   

develop diagnostic products that are more effective or cost-effective than those developed by us or our collaborators;

 

   

obtain regulatory clearance or approval of their diagnostic products more rapidly than us or our collaborators; or

 

   

obtain patent protection or other intellectual property rights that would limit the ability to develop and commercialize, or a customers’ ability to use our or our collaborators’ diagnostic products.

We compete with companies in the United States and abroad that are engaged in the development and commercialization of novel biomarkers that may form the basis of novel diagnostic tests. These companies may develop products that are competitive with and/or perform the same or similar to the products offered by us or

 

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our collaborators, such as biomarker specific reagents or diagnostic test kits. Also, clinical laboratories may offer testing services that are competitive with the products sold by us or our collaborators. For example, a clinical laboratory can either use reagents purchased from manufacturers other than us or use its own internally developed reagents to make diagnostic tests. If clinical laboratories make tests in this manner for a particular disease, they could offer testing services for that disease as an alternative to products sold by us used to test for the same disease. The testing services offered by clinical laboratories may be easier to develop and market than test kits developed by us or our collaborators because the testing services are not subject to the same clinical validation requirements that are applicable to FDA-cleared or approved diagnostic test kits.

Properties

Our principal facility is located in Austin, Texas. The following chart indicates the facilities that we lease, the location and size of each facility and its designated use.

 

Location

   Approximate
Square Feet
  

Primary Functions

   Lease Expiration Date
Austin, Texas    4,218 sq. ft.    Marketing, sales and administrative offices    2012
Mountain View, California    2,442 sq. ft.    Research and development, clinical and regulatory offices    2012

Intellectual Property

Our intellectual property includes a portfolio of owned, co-owned or licensed patents and patent applications. As of September 30, 2010, our patent portfolio included 53 issued United States patents, 95 pending United States patent applications, and numerous pending patent applications and issued patents outside the United States. These patents and patent applications are directed to several areas of technology important to our business, including SELDI technology, diagnostic applications, protein biochips, instrumentation, software and biomarkers. The issued patents covering the SELDI and mass spectrometry technologies expire at various times from 2012 to 2025. Pursuant to the Instrument Business Sale, we entered into a cross license agreement with Bio-Rad pursuant to which we retained the right to commercially exploit those proprietary rights, including SELDI technology, in the clinical diagnostics market. The clinical diagnostics market includes laboratories engaged in the research and development and/or manufacture of diagnostic tests using biomarkers, commercial clinical laboratories, hospitals and medical clinics that perform diagnostic tests. We have been granted exclusive rights to commercialize the proprietary rights in the clinical diagnostics market during a five-year exclusivity period that ends on November 13, 2011. After the end of the five-year period, Bio-Rad will share exclusive rights with us. Bio-Rad and we each have the right to engage in negotiations with the other party for a license to any improvements in the proprietary rights created by the other party.

We own, licenses or hold options to license the patents related to biomarkers developed using SELDI technology. As of September 30, 2010, we were maintaining 31 diagnostic patent application families. These include applications in the areas of cancer, cardiovascular disease, infectious disease, neurodegenerative disease and women’s health. On March 31, 2009, we were issued patent number 7,510,842, “Biomarker for ovarian and endometrial cancer: hepcidin”. On October 20, 2009, we were issued patent number 7,605,003, “Use of biomarkers for detecting ovarian cancer”. On June 29, 2010, we announced that the USPTO has issued a notice of allowance of a patent entitled “Biomarkers for Alzheimer’s disease” to us. On January 11, 2011, we announced that the United States Patent and Trademark Office (USPTO) has issued patent number 7,867,719 entitled “Beta-2 microglobulin as a biomarker for peripheral artery disease” to us. The patent claims are directed to Beta-2 microglobulin and biomarker combinations that include Beta-2 microglobulin for the diagnosis and management of peripheral artery disease and to the measurement of the biomarkers by a variety of methods, including mass spectrometry and immunoassay.

 

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Outstanding material patents for the OVA1 Test are described in the table below:

 

Territory                    

  

General Subject Matter

  

Expiration Date

United States

   Use of biomarkers for detecting ovarian cancer    8/7/2025

Under the terms of a research collaboration agreement with the Johns Hopkins University School of Medicine (“JHU”), we were required to pay JHU $600,000, $618,000 and $637,000 for the years ending December 31, 2008, 2009 and 2010, respectively. In June 2010, the research collaboration agreement was amended by extending the term and reducing the payments to $300,000 for 2010, $400,000 for 2011, $400,000 for 2012 and $100,000 for 2013. In conjunction with the amendment, JHU forgave the previously outstanding amounts we owed of $623,000, which we recognize as a reduction to research and development expenses straight line over the term of the amended agreement. Collaboration costs under the JHU collaboration were $68,000 and $275,000 for the three and nine months ended September 30, 2010, respectively, and $154,000 and $462,000 for the three and nine months ended September 30, 2009, respectively. Collaboration costs under the JHU collaboration are included in research and development expenses. In addition, under the terms of the amended research collaboration agreement, we are required to pay the greater of 4% royalties on net sales of diagnostic tests using the assigned patents or annual minimum royalties of $50,000. Other institutions and companies from which Vermillion holds options to license intellectual property related to biomarkers or is a co-inventor on applications include UCL, M.D. Anderson, UK, OSU, McGill University (Canada), Eastern Virginia Medical School, Aaron Diamond AIDS Research Center, UTMB, Goteborg University (Sweden), University of Kuopio (Finland), The Katholieke Universiteit Leuven (Belgium) and Rigshospitalet.

In connection with the Instrument Business Sale, Vermillion sublicensed to Bio-Rad certain rights to the core SELDI technology for use outside of the clinical diagnostics field. Vermillion retained exclusive rights to the license rights for use in the field of clinical diagnostics for a five-year period, after which the license will be co-exclusive in this field. The rights to the SELDI technology are derived through royalty-bearing sublicenses from Molecular Analytical Systems, Inc. (“MAS”). MAS holds an exclusive license to patents directed to the SELDI technology from the owner, Baylor College of Medicine. MAS granted certain rights under these patents to its wholly owned subsidiaries, IllumeSys Pacific, Inc. and Ciphergen Technologies, Inc. in 1997. We obtained further rights under the patents in 2003 through sublicenses and assignments executed as part of the settlement of a lawsuit between Vermillion, MAS, LumiCyte and T. William Hutchens. Together, the sublicenses and assignments provide all rights to develop, make and have made, use, sell, import, market and otherwise exploit products and services covered by the patents throughout the world in all fields and applications, both commercial and non-commercial. The sublicenses carry the obligation to pay MAS a royalty equal to 2% of revenues recognized between February 21, 2003, and the earlier of (i) February 21, 2013, or (ii) the date on which the cumulative payments to MAS have reached $10,000,000 (collectively, the “Sublicenses”). Under Vermillion’s sublicense with Bio-Rad, Bio-Rad agreed to pay the royalties directly to MAS under the license rights.

On July 10, 2007, Vermillion entered into a license and settlement agreement with Health Discovery Corporation (“HDC”) pursuant to which Vermillion licensed more than 25 patents covering HDC’s support vector machine technology for use with SELDI technology. Under the terms of the HDC Agreement, Vermillion receives a worldwide, royalty-free, non-exclusive license for life sciences and diagnostic applications of the technology and has access to any future patents resulting from the underlying intellectual property in conjunction with use of SELDI systems. Pursuant to the HDC Agreement, we paid $200,000 to HDC upon entry into the agreement on July 13, 2007, $100,000 three months following the date of the agreement on October 9, 2007, and $150,000 twelve months following the date of the agreement on July 9, 2008. The remaining $150,000 payable under the HDC Agreement, which was due twenty-four months following the date of the agreement and payable as of December 31, 2008, was subsequently paid on January 22, 2010. The HDC Agreement settled all disputes between HDC and us.

 

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Manufacturing

We are the manufacturer of the OVA1 Test. Components of the OVA1 Test include reagents for each of the component assays as well as the OvaCalc™ software. Because we do not directly manufacture the component assays, we are required to maintain supply agreements with manufacturers of each of the assays. As part of our Quality Systems, reagent lots for these assays are tested to ensure they meet specifications required for inclusion in the OVA1 Test. Only reagent lots determined by us as having met these specifications are permitted for use in the OVA1 Test.

Environmental Matters

Medical Waste

We have been subject to licensing and regulation under federal, state and local laws relating to the handling and disposal of medical specimens and hazardous waste as well as to the safety and health of laboratory employees. We formerly operated laboratories located in each of our former facilities in Fremont, California, the last lease for which expired on August 31, 2010. Our laboratories were operated in material compliance with applicable federal and state laws and regulations relating to disposal of all laboratory specimens. We utilized outside vendors for disposal of specimens. We cannot eliminate the risk of accidental contamination or discharge and any resultant injury from these materials. Federal, state and local laws and regulations govern the use, manufacture, storage, handling and disposal of these materials. We could be subject to damages in the event of an improper or unauthorized release of, or exposure of individuals to, hazardous materials. In addition, claimants may sue us for injury or contamination that results from our use, or the use by third parties, of these materials, and our liability may exceed our total assets. Compliance with environmental laws and regulations is expensive, and current or future environmental regulations may impair our research, development or production efforts.

Occupational Safety

In addition to its comprehensive regulation of safety in the workplace, the Federal Occupational Safety and Health Administration has established extensive requirements relating to workplace safety for healthcare employers whose workers may be exposed to blood-borne pathogens such as HIV and the hepatitis virus. These regulations, among other things, require work practice controls, protective clothing and equipment, training, medical follow-up, vaccinations and other measures designed to minimize exposure to chemicals and transmission of the blood-borne and airborne pathogens. Although we believe that we are currently in compliance in all material respects with such federal, state and local laws, failure to comply could subject us to denial of the right to conduct business, fines, criminal penalties and other enforcement actions.

Specimen Transportation

Regulations of the Department of Transportation, the International Air Transportation Agency, the Public Health Service and the Postal Service apply to the surface and air transportation of clinical laboratory specimens.

Legal Proceedings

On July 9, 2007, Molecular Analytical Systems (“MAS”) filed a lawsuit in the Superior Court of California for the County of Santa Clara naming Vermillion and Bio-Rad Laboratories, Inc. (“Bio-Rad”) as defendants (the “State Court lawsuit”). Under the State Court lawsuit, MAS seeks an unspecified amount of damages and alleges, among other things, that we are in breach of our license agreement with MAS relating to our Surfaced Enhanced Laser Desorption/Ionization (“SELDI”) technology as a result of our entry into a sublicense agreement with Bio-Rad. We filed a petition to compel arbitration, which was denied in the trial court. We then filed our general denial and affirmative defenses on April 1, 2008. The Company and Bio-Rad thereafter appealed the denial of the motion to compel arbitration, which appeal had the effect of staying the State Court lawsuit, which stay was further extended in both the state trial and appellate courts when we filed on March 30, 2009, a Voluntary

 

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Petition for Relief under Chapter 11 in the Bankruptcy Court. MAS filed a proof of claim on July 15, 2009, in connection with our Chapter 11 bankruptcy proceeding. The proof of claim mirrored the MAS lawsuit and asserted that we breached the Exclusive License Agreement by transferring certain technologies to Bio-Rad without obtaining MAS’s consent. MAS listed the value of its claim as in excess of $5,000,000. On December 28, 2009, we objected to MAS’s Proof of Claim in the Bankruptcy Court. On January 7, 2010, the Bankruptcy Court confirmed our Plan of Reorganization. Per the Court’s order confirming the Plan, our bankruptcy case will be closed when, along with other requirements, a final, non-appealable judgment is entered on MAS’s claims. After the Plan of Reorganization was confirmed, MAS filed a motion with the Bankruptcy Court asking it to abstain from hearing its proof of claim and asked the Bankruptcy Court to grant relief from the automatic stay so that MAS could proceed with the State Court lawsuit in California. Over our objection, the Bankruptcy Court granted that motion on March 15, 2010. Thereafter, the California Court of Appeal set oral argument on our appeal of the trial court order denying our motion to compel arbitration for June 17, 2010. The California Court of Appeals overturned the Superior Court’s decision in an opinion dated July 9, 2010, and ordered that the dispute be arbitrated before the Judicial Arbitration and Mediation Service (“JAMS”). MAS filed its demand for arbitration on September 15, 2010. The demand did not include any additional detail regarding MAS’s claims, and submitted the same complaint for unspecified damages that MAS filed in the Superior Court in 2007. JAMS has not yet set a schedule for resolution of MAS’s claims, and management cannot predict the ultimate outcome of this matter at this time.

In addition, from time to time, we are involved in legal proceedings and regulatory proceedings arising out of our operations. We established reserves for specific liabilities in connection with legal actions that it deems to be probable and estimable. Other than as disclosed above, we are not currently a party to any proceeding, the adverse outcome of which would have a material adverse effect on our financial position or results of operations.

Government Regulation

General

Our activities related to diagnostic products are, or have the potential to be, subject to regulatory oversight by the FDA under provisions of the Federal Food, Drug and Cosmetic Act and regulations thereunder, including regulations governing the development, marketing, labeling, promotion, manufacturing and export of our products. Failure to comply with applicable requirements can lead to sanctions, including withdrawal of products from the market, recalls, refusal to authorize government contracts, product seizures, civil money penalties, injunctions and criminal prosecution.

The Food, Drug and Cosmetic Act requires that medical devices introduced to the United States market, unless exempted by regulation, be the subject of either a pre-market notification clearance, known as a 510(k) clearance or 510(k) de novo clearance, or a PMA. Some of our potential future clinical products may require a 510(k) or 510(k) de novo clearance, while others may require a PMA. With respect to devices reviewed through the 510(k) process, we may not market a device until an order is issued by the FDA finding our product to be substantially equivalent to a legally marketed device known as a predicate device. A 510(k) submission may involve the presentation of a substantial volume of data, including clinical data. The FDA may agree that the product is substantially equivalent to a predicate device and allow the product to be marketed in the United States. On the other hand, the FDA may determine that the device is not substantially equivalent and require a PMA, or require further information, such as additional test data, including data from clinical studies, before it is able to make a determination regarding substantial equivalence. By requesting additional information, the FDA can delay market introduction of our products.

If the FDA indicates that a PMA is required for any of our potential future clinical products, the application will require extensive clinical studies, manufacturing information and likely review by a panel of experts outside the FDA. Clinical studies to support either a 510(k) submission or a PMA application would need to be conducted in accordance with FDA requirements. Failure to comply with FDA requirements could result in the FDA’s refusal to accept the data or the imposition of regulatory sanctions.

 

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Even in the case of devices like analyte specific reagents (“ASRs”), which may be exempt from 510(k) clearance or PMA approval requirements, the FDA may impose restrictions on marketing. Our potential future ASR products may be sold only to clinical laboratories certified under the CLIA to perform high complexity testing. In addition to requiring approval or clearance for new products, the FDA may require approval or clearance prior to marketing products that are modifications of existing products or the intended uses of these products. We cannot assure that any necessary 510(k) clearance or PMA approval will be granted on a timely basis, or at all. Delays in receipt of or failure to receive any necessary 510(k) clearance or PMA approval, or the imposition of stringent restrictions on the labeling and sales of our products, could have a material adverse effect on us.

Our suppliers’ manufacturing facilities are, and, if and when we begins commercializing and manufacturing our products ourselves, our manufacturing facilities will be, subject to periodic and unannounced inspections by the FDA and state agencies for compliance with Quality System Regulations (“QSRs”). Additionally, the FDA will generally conduct a pre-approval inspection for PMA devices. Although we believe that we and our suppliers will be able to operate in compliance with the FDA’s QSRs for ASRs, we cannot assure that we or our suppliers will be in or be able to maintain compliance in the future. We have never been subject to an FDA inspection and cannot assure that we will pass an inspection, if and when it occurs. If the FDA believes that we or our suppliers are not in compliance with applicable laws or regulations, the FDA can issue a Form 483 List of Observations, warning letter, detain or seize our products, issue a recall notice, enjoin future violations and assess civil and criminal penalties against us. In addition, approvals or clearances could be withdrawn under certain circumstances.

Any customers using our products for clinical use in the United States may be regulated under CLIA, which is intended to ensure the quality and reliability of clinical laboratories in the United States by mandating specific standards in the areas of personnel qualifications, administration, participation in proficiency testing, patient test management, quality control, quality assurance and inspections. The regulations promulgated under CLIA establish three levels of diagnostic tests—namely, waived, moderately complex and highly complex—and the standards applicable to a clinical laboratory depend on the level of the tests it performs. Medical device laws and regulations are also in effect in many of the countries in which we may do business outside the United States. These range from comprehensive device approval requirements for some or all of our potential future medical device products, to requests for product data or certifications. The number and scope of these requirements are increasing. In addition, products which have not yet been cleared or approved for domestic commercial distribution may be subject to the FDA Export Reform and Enhancement Act of 1996 (“FDERA”).

United States Food and Drug Administration Regulation of Cleared Tests

Once granted, a 510(k) clearance or PMA approval may place substantial restrictions on how our device is marketed or to whom it may be sold. All devices cleared by the FDA are subject to continuing regulation by the FDA and certain state agencies. We are required to set forth and adhere to a Quality Policy and other regulations. Additionally, we may be subject to inspection by federal and state regulatory agencies. Non-compliance with these standards can result in, among other things, fines, injunctions, civil penalties, recalls, total or partial suspension of production. Labeling and promotional activities are subject to scrutiny by the FDA, which prohibits the marketing of medical devices for unapproved uses.

As a medical device manufacturer, we are also required to register and list our products with the FDA. In addition, we are required to comply with the FDA’s QSRs, which require that our devices be manufactured and records be maintained in a prescribed manner with respect to manufacturing, testing and control activities. Further, we are required to comply with FDA requirements for labeling and promotion. For example, the FDA prohibits cleared or approved devices from being promoted for uncleared or unapproved uses. In addition, the medical device reporting regulation requires that we provide information to the FDA whenever evidence reasonably suggests that one of our devices may have caused or contributed to a death or serious injury, or where a malfunction has occurred that would be likely to cause or contribute to a death or serious injury if the malfunction were to recur.

 

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Foreign Government Regulation of our Products

We intend to obtain regulatory approval in other countries to market our tests. Each country maintains its own regulatory review process, tariff regulations, duties and tax requirements, product standards, and labeling requirements. We have retained the services of the Emergo Group and TUV SUD America Inc. to assist in our efforts to satisfy the regulatory requirements necessary for commercialization in Europe.

Employees

As of March 31, 2009, in connection with the our voluntary petition for relief (the “Bankruptcy Filing”) under Chapter 11 of the Bankruptcy Code with the Bankruptcy Court and in an effort to conserve cash, we reduced our staff to three full-time employees, including two employees in research and development and one employee in general and administrative. As of December 31, 2009, we had two full-time employees, including one employee in research and development and one employee in general and administrative. Additionally, we had engaged as independent contractors several former employees and executive management members.

Subsequently on September 11, 2009, we received clearance of our OVA1 Test 510(k) Pre-Market Application Notification from the FDA. On November 24, 2009, we filed our Plan of Reorganization and Disclosure Statement with the Bankruptcy Court, which was amended on December 3, 2009. The Second Amended Plan of Reorganization was approved by our unsecured creditors, and ultimately by the Bankruptcy Court on January 7, 2010. We emerged from bankruptcy protection on January 22, 2010. As part of the Second Amended Plan of Reorganization, we completed a private placement sale of 2,327,869 shares of our common stock for gross proceeds of $43,050,000 to a group of investors. In connection with these events, we increased our staff to 25 full-time employees worldwide as of September 30, 2010, including 15 in sales and marketing, three in research and development and seven in general and administrative departments. We also had an additional two individuals engaged as independent contractors. None of our employees are covered by a collective bargaining agreement. We believe that our relations with our employees are good. Our success will depend in large part on our ability to attract and retain skilled and experienced employees.

Code of Ethics for Executive Officers

We have adopted a Code of Ethics for Executive Officers. We publicize the Code of Ethics for Executive Officers by posting the policy on our website, www.vermillion.com. We will disclose on our website any waivers of, or amendments to, our Code of Ethics.

Information About Us

We file annual reports, quarterly reports, special reports, proxy and information statements, and other information with the Securities and Exchange Commission (the “SEC”). You may read and copy any material we file with the SEC at the SEC’s Public Reference Room located at the following address:

100 F Street, NE

Washington, DC 20549

You may obtain information on the operation of the SEC’s Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet website, www.sec.gov, that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

 

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In addition, we make available free of charge under the Investors Relation section of our website, www.vermillion.com, the Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we have electronically filed such material with or furnished it to the SEC. The information contained on our website is not incorporated by reference in this prospectus and should not be considered a part of this prospectus. You may also obtain these documents free of charge by submitting a written request for a paper copy to the following address:

Investor Relations

12117 Bee Caves Road, Building Two, Suite 100

Austin, TX 78738

 

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MANAGEMENT

Directors and Executive Officers

Our Board of Directors currently consists of six members. Our President and Chief Executive Officer, Vice President and Chief Financial Officer and Senior Vice President and Chief Science Officer, are employed pursuant to employment agreements.

The following table sets forth the names and positions of our current directors and executive officers and their ages:

 

Name

   Age   

Position

Gail S. Page

   55    Director, President and Chief Executive Officer

Sandra A. Gardiner

   45    Vice President and Chief Financial Officer

Eric T. Fung, M.D., Ph.D.  

   41    Senior Vice President and Chief Science Officer

William Creech

   58    Vice President of Sales and Marketing

Ashish Kohli

   42    Vice President of Corporate Strategy

James S. Burns

   64    Director

John F. Hamilton

   66    Director

Peter S. Roddy

   51    Director

Carl Severinghaus

   58    Director

William C. Wallen, Ph.D.  

   67    Director

Set forth below is a brief description of the business experience of our directors and executive officers.

Gail S. Page has been our director since December 2005. Ms. Page joined us in January 2004 as President of our Diagnostics Division and an Executive Vice President, and was promoted to President and Chief Operating Officer of Vermillion in August 2005. Subsequently, Ms. Page became our President and Chief Executive Officer in December 2005 and served in this capacity until her resignation on March 27, 2009 due to our bankruptcy proceeding. In connection with our emergence from bankruptcy, Ms. Page was reappointed as our Chief Executive Officer on February 1, 2010. From October 2000 to January 2003, Ms. Page was Executive Vice President and Chief Operating Officer of Luminex Corporation. From 1988 to 2000, Ms. Page held various senior level management positions with Laboratory Corporation of America (“LabCorp”). In 1993, Ms. Page was named Senior Vice President, Office of Science and Technology at LabCorp, responsible for the management of scientific affairs in addition to the diagnostics business segment. Additionally, from 1995 to 1997, Ms. Page headed the Cytology and Pathology Services business unit for LabCorp. From 1988 to 2000, Ms. Page was a member of the Scientific Advisory Board at LabCorp and chaired the committee from 1993 to 1997. Prior to her years at LabCorp and its predecessor, Roche Biomedical, Ms. Page worked in various functions in the academic field and the diagnostics industry. Ms. Page received her A.S. in Medical Technology in combination with a Cardiopulmonary Technology Diploma from the University of Florida. Ms. Page also completed an executive management course at the Kellogg School of Management at Northwestern University. The Board of Directors has determined that based upon Ms. Page’s intimate knowledge of our business and extensive experience in the management and development of biotechnology companies, she has the qualifications and skills to serve as a member of our Board of Directors. In addition, Ms. Page’s role as our Chief Executive Officer gives her strong knowledge of our strategy, markets, competitors and operations. She also brings significant experience in the sales, marketing and commercialization of diagnostic products.

Sandra A. Gardiner has been Vice President and Chief Financial Officer since May 2010. Prior to joining us, Ms. Gardiner served as Chief Financial Officer of Bend Research Inc., a company that specializes in the definition, advancement, development and commercialization of pharmaceutical and health science technologies, since March 2009. In April 2009, she was elected to Bend Research Inc.’s board of directors. From 2004 through 2008, Ms. Gardiner served as Chief Financial Officer and Corporate Secretary of Lipid Sciences, Inc.,

 

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responsible for all decision-making authority for all financial and administrations functions for this development- stage biotechnology company, which is engaged in research and development of products and processes to treat cardiovascular disease and viral infections. She also held positions at Cardima, Inc. and Comac and began her biotechnology career in 1988 with Advanced Cardiovascular Systems, formerly a division of Guidant, holding several positions in the Internal Audit, Accounting and Finance departments. Ms. Gardiner received her Bachelor of Science in Managerial Economics from the University of California at Davis.

Eric T. Fung, M.D., Ph.D. joined us in May 2000 as a lead scientist in the newly formed Biomarker Discovery Centers. He was promoted to Vice President of Medical and Clinical Affairs and Chief Scientific Officer in June 2006. Dr. Fung resigned from us on March 19, 2009 and worked as a consultant to us from September 2009 to January 2010. Dr. Fung was reappointed as the our Senior Vice President and Chief Science Officer in February 2010. Prior to joining us, Dr. Fung was a Howard Hughes sponsored researcher at Stanford University. Dr. Fung has anatomic pathology training from Stanford Medical School and obtained his M.D. and Ph.D. degrees from the Johns Hopkins University School of Medicine. He graduated with a B.S. with honors from the California Institute of Technology. Dr. Fung has held an Adjunct Assistant Professor position in the Department of Pathology at the Johns Hopkins University School of Medicine.

William Creech joined us in March 2010 as Vice President of Sales and Marketing. Prior to joining us, Mr. Creech served as Principal of WBC Consulting, where he provided strategic and tactical consulting services to clients in the medical devices industry, and as Vice President of Sales and Marketing at Capitol Vial, Inc. and Vice President of Corporate Accounts at Apogent. Mr. Creech has also held various sales and sales management positions at Chiron, Ciba Corning/Chiron Diagnostics, and Abbott Diagnostics. Mr. Creech is a veteran of the United States Army and graduated with a B.S. from Florida Southern College.

Ashish Kohli joined us in September 2010 as Vice President of Corporate Strategy and is responsible for investor relations, international expansion and business development. Prior to joining us, Mr. Kohli served as a Buy-Side Equity Analyst at Columbia Wanger Asset Management from July 2005 to June 2010. From 2000 through 2005, he worked at William Blair & Company, the first three years as a Sell-Side Equity Associate, and the last two years as a Sell-Side Equity Analyst. Previously, he held an Emerging Markets Debt Analyst position at Brinson Partners, Inc. Mr. Kohli received his Master of Business Administration from Texas Tech University and his Bachelor of Science in Computer Engineering and Bachelor of Science in Biochemistry from McMaster University in Hamilton, Ontario.

James S. Burns has been our director since June 2005. Mr. Burns is currently President, Chief Executive Officer and director of AssureRx, Health, Inc., a personalized medicine company which specializes in pharmacogenetics for neuropsychiatric disorders. Prior to joining AssureRx, Health, Inc., Mr. Burns was the President and Chief Executive Officer of EntreMed, Inc. from June 2004 to December 2008, and a director from September 2004 to December 2008. Mr. Burns was a co-founder and, from 2001 to 2003, served as President and as Executive Vice President of MedPointe, Inc., a specialty pharmaceutical company that develops, markets and sells branded prescription pharmaceuticals. From 2000 to 2001, Mr. Burns served as a founder and Managing Director of MedPointe Capital Partners, a private equity firm that led a leveraged buyout to form MedPointe Pharmaceuticals. Previously, Mr. Burns was a founder, Chairman, President and Chief Executive Officer of Osiris Therapeutics, Inc., a biotech company developing therapeutic stem cell products for the regeneration of damaged or diseased tissue. Mr. Burns has also been Vice Chairman of HealthCare Investment Corporation and a founding General Partner of Healthcare Ventures L.P., a venture capital partnership specializing in forming companies building around new pharmaceutical and biotechnology products; Group President at Becton Dickinson and Company, a multidivisional biomedical products company; and Vice President and Partner at Booz & Company, Inc., a multinational consulting firm. Mr. Burns is a director of Symmetry Medical Inc. (NYSE: SMA), a supplier of products and services to orthopedic and other medical device companies, and a director of the International BioResources Group and the American Type Culture Collection (ATCC). Mr. Burns received his B.S. and M.S. in Biological Sciences from the University of Illinois, and M.B.A. from DePaul University. Our Board of Directors has determined that based upon Mr. Burns’ extensive experience in

 

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the diagnostics industry, current and prior directing and management experience and education, he has the qualifications and skills to serve as a member of our Board of Directors.

John F. Hamilton has been our director since April 2008. From 1997 until his retirement in 2007, Mr. Hamilton served as Vice President and Chief Financial Officer of Depomed, Inc. Mr. Hamilton began his career in international banking with The Philadelphia National Bank and Crocker National Bank, and went on to hold senior financial positions at several biopharmaceutical companies including Glyko, Inc., which is now BioMarin Pharmaceuticals, and Chiron Corporation. Mr. Hamilton sits on the regional Board of Directors of the Association of Bioscience Financial Officers, and is past-president of the Treasurers Club of San Francisco. Mr. Hamilton received his M.B.A. from the University of Chicago and B.A. in International Relations from the University of Pennsylvania. Our Board of Directors has determined that based upon Mr. Hamilton’s extensive experience in finance and capital markets gained through his education and his senior financial positions at various biopharmaceutical companies, he has the qualifications and skills to serve as a member of our Board of Directors. Mr. Hamilton also brings to the Board significant strategic and financial expertise and leadership experience.

Peter S. Roddy was appointed to our Board of Directors and Audit Committee on February 18, 2010. Mr. Roddy has served as Vice President and Chief Financial Officer of Pain Therapeutics, Inc. since July 2004, and as its Chief Financial Officer since November 2002. From 1990 to 2002, Mr. Roddy held a variety of senior management positions at COR Therapeutics, Inc. (now part of Takeda Pharmaceutical Company Limited), a biopharmaceutical company, including Senior Vice President, Finance and Chief Financial Officer between 2000 and 2002. Prior to 1990, Mr. Roddy held a variety of positions at Price Waterhouse & Company, Hewlett Packard Company and MCM Laboratories, Inc. Mr. Roddy received his B.S. in Business Administration from the University of California, Berkeley. Our Board of Directors has determined that based upon Mr. Roddy’s extensive experience in the life science industry, including relevant experience as an executive officer and chief financial officer, as well as experience at a major accounting firm, he has the qualifications and skills to serve as a member of the Company’s Board of Directors and Chairman of the Audit Committee.

Carl Severinghaus was appointed to our Board of Directors on March 3, 2010 and serves as our Compensation Committee Chairman. In addition, he is a member of our Audit Committee and Nominating and Governance Committee. Mr. Severinghaus has held the position of President of Tecan Americas since 2009. He is responsible for the sales and operations for the Americas Sales Regions, including U.S., Canada, and South America. From 2007 to 2008, he was Senior Vice President of International Sales, responsible for the worldwide sales and operations of the direct and OEM sales channels. Since 2007, he has served as a member to the Executive Committee of Tecan, an internal Board responsible for implementing the Board of Directors’ worldwide strategies and goals. He was President and General Manager of Tecan from 1999 to 2006, and Vice President of Sales and National Sales Manager from 1991 to 1998. Prior to joining Tecan, he held National Sales Manager position at American Monitor Corporation from 1980 to 1991. Mr. Severinghaus received his Bachelor of Fine Arts degree in Communications and Public Speaking from Drake University in 1974. He is a member of the Analytical & Life Science Systems Association, the Association for Laboratory Science, and the American Association for Clinical Chemistry. The Board of Directors of the Company has determined that based upon Mr. Severinghaus’ demonstrated executive level management and commercial operations skills, both domestically and internationally, he has the qualifications and skills to serve as a member of the Company’s Board of Directors and a key member of the Board’s Audit, Compensation, and Nominating and Governance Committees.

William C. Wallen, Ph.D. has been our director since February 2010 and serves as Chairman of the Company’s Nominating and Governance Committee. Additionally, he is a member of our Audit Committee and Compensation Committee, and served on our Scientific Advisory Board from April 2006 until February 2010 when he joined the Board of Directors. Dr. Wallen served as the Senior Vice President and Chief Scientific Officer of IDEXX Laboratories, Inc. (“IDEXX”) beginning September 2003, and retired from IDEXX on March 3, 2010. Commencing in December 2008, Dr. Wallen took on the position of leading its infectious disease

 

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product manufacturing operations. Dr. Wallen led IDEXX’s pharmaceutical products business from September 2003 until IDEXX sold certain product lines and restructured that business in 2008. Prior to joining IDEXX, Dr. Wallen held various positions with Bayer Corporation, most recently as Senior Vice President, Research and Development, and Head, Office of Technology for the Diagnostics Division of Bayer Healthcare. From 2001 to 2003, Dr. Wallen served as Senior Vice President and Head of Research, Nucleic Acid Diagnostics Segment; from 1999 to 2001, as Senior Vice President of Research and Development Laboratory Testing Segment; and from 1993 to 1999, as Vice President of Research and Development, Immunodiagnostic and Clinical Chemistry Business Units. Before joining Bayer Corporation, from 1990 to 1993, Dr. Wallen was Vice President, Research and Development at Becton Dickinson Advanced Diagnostics. Dr. Wallen is a member of the American Association of Clinical Chemistry, the American Society for Microbiology, American Association for Cancer Research, The Leukemia society of America, and the New York Academy of Science. Dr. Wallen has authored or co-authored 55 scientific papers and articles covering topics in immunology, virology, oncology and detection methodologies. Dr. Wallen received his B.S. in Zoology and M.S. in Microbiology from Michigan State University, and Ph.D. in Molecular Biology from University of Arizona College of Medicine. The Board of Directors has determined that based upon Dr. Wallen’s extensive experience in research and development and corporate governance matters in the diagnostics industry, he has the qualifications and skills to serve as a member of our Board of Directors. Dr. Wallen also brings to the Board a background in managing public companies, which gives him the qualification and skills to serve as a key member of the Board’s Audit, Compensation, and Nominating and Governance Committees.

Board of Directors

Classes

The Board of Directors has six members and is divided into three classes serving staggered terms.

 

   

The Class I director serving until the annual meeting in 2013 is William C. Wallen, Ph.D.

 

   

The Class II directors serving until the annual meeting in 2011 are James S. Burns, Peter S. Roddy and Carl Severinghaus.

 

   

The Class III directors serving until the annual meeting in 2012 are John F. Hamilton and Gail S. Page.

Committees

The Board has the following three committees:

 

   

audit;

 

   

executive compensation; and

 

   

corporate governance and nominating.

The Board of Directors has adopted a written charter for each of these committees which are available in the Corporate Governance section on our website, www.vermillion.com, and directly at the following respective locations: Audit Committee: http://media.corporate-ir.net/media_files/irol/12/121814/corpgov/Audit_Charter.pdf; Compensation Committee: http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9NTExNTR8Q2hpbGRJRD0tMXxUeXBlPTM=&t=1; and Nominating and Governance Committee: http://media.corporate-ir.net/media_files/irol/12/121814/corpgov/Nominating%20_Gov_Charter.pdf.

Audit Committee. The Audit Committee is chaired by Peter S. Roddy and also includes William C. Wallen, Ph.D. and Carl Severinghaus, each of whom is an “independent director” as that term is defined under Rule 10A-3(b)(1) of the Exchange Act and in accordance with the current Nasdaq Stock Market’s director independence and listing standards. The Board of Directors has determined that Mr. Roddy qualifies as an “audit committee financial expert” as defined under Item 401(h) of Regulation S-K. The Committee is responsible for

 

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assuring the integrity of our financial controls, audit and reporting functions. It reviews with our management and our independent registered public accounting firm the effectiveness of our financial controls, accounting and reporting practices and procedures. In addition, the Audit Committee reviews the qualifications of our independent registered public accounting firm, makes recommendations to the Board of Directors regarding the selection of our independent registered public accounting firm, and reviews the scope, fees and results of activities related to audit and non-audit services. The Audit Committee met six times and acted by written consent twice in 2010.

Compensation Committee. The Compensation Committee is chaired by Carl Severinghaus and also includes William C. Wallen, Ph.D., each of whom is an “independent director” as defined under Rule 10A-3(b)(1) of the Exchange Act and in accordance with the current Nasdaq Stock Market’s director independence and listing standards. Its principal responsibility is to administer our stock plans and to set the salaries and incentive compensation, including stock option grants, for our President and Chief Executive Officer and senior executive officers. The Compensation Committee met five times and acted by written consent twice in 2010.

Nominating and Governance Committee. The Nominating and Governance Committee is chaired by William C. Wallen, Ph.D. and also includes Carl Severinghaus, each of whom is an “independent director” as defined under Rule 10A-3(b)(1) of the Exchange Act and in accordance with the current Nasdaq Stock Market’s director independence and listing standards. The responsibilities of the Nominating and Governance Committee include developing a Board of Directors capable of advising our management in fields related to our current or future business directions, and regularly reviewing issues and developments relating to corporate governance issues and formulating and recommending corporate governance standards to the Board of Directors. The Nominating and Governance Committee met once and acted by written consent once in 2010.

The Nominating and Governance Committee approves all nominees for membership on the Board of Directors, including the slate of director nominees to be proposed by the Board of Directors to our stockholders for election or any director nominees to be elected or appointed by the Board of Directors to fill interim director vacancies on the Board of Directors.

In addition, the Nominating and Governance Committee appoints directors to committees of the Board of Directors and suggests rotation for chairpersons of committees of the Board of Directors as it deems desirable from time to time; and it evaluates and recommends to the Board of Directors the termination of membership of individual directors in accordance with the Board of Directors’ corporate governance principles, for cause or other appropriate reasons (including, without limitation, as a result of changes in directors’ employment or employment status). We have in the past used, and the Nominating and Governance Committee intends in the future to use, an executive recruiting firm to assist in the identification and evaluation of qualified candidates to join the Board of Directors; for these services, the executive recruiting firm is paid a fee. Director nominees are expected to have considerable management experience that would be relevant to our current and expected future business directions, a track record of accomplishment and a commitment to ethical business practices.

The Nominating and Governance Committee assists the Board of Directors in identifying qualified persons to serve as our directors. The Nominating and Governance Committee evaluates all proposed director nominees, evaluates incumbent directors before recommending re-nomination, and recommends all approved candidates to the Board of Directors for appointment or nomination to our stockholders. The Nominating and Governance Committee selects as candidates to the Board of Directors for appointment or nomination individuals of high personal and professional integrity and ability who can contribute to the Board of Directors’ effectiveness in serving the interests of our stockholders.

Board Meetings

During the fiscal year ended December 31, 2010, the Board held ten meetings and took action by unanimous written consent on four occasions. Each director attended greater than 75% of the aggregate of all meetings of the Board of Directors.

 

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Stockholders Communications

Our stockholders may communicate directly with the Board of Directors in writing, addressed to:

Board of Directors

c/o Corporate Secretary

Vermillion, Inc.

12117 Bee Caves Road, Building Two, Suite 100

Austin, TX 78738

The Corporate Secretary will review each stockholder communication. The Corporate Secretary will forward to the entire Board (or to members of a Board committee, if the communication relates to a subject matter clearly within that committee’s area of responsibility) each communication that (a) relates to our business or governance, (b) is not offensive and is legible in form and reasonably understandable in content, and (c) does not merely relate to a personal grievance against us, a director, a member of the management, or other employees of us, or to further a personal interest not shared by the other stockholders generally.

The Nominating and Governance Committee has not established a procedure for considering nominees for director nominated by our stockholders. The Board of Directors believes that our independent committee can identify appropriate candidates to our Board of Directors. Stockholders may nominate candidates for director in accordance with the advance notice and other procedures contained in our Bylaws.

We encourage each of our directors to attend each annual meeting of our stockholders whenever attendance does not unreasonably conflict with the director’s other business and personal commitments. Six directors attended the annual meeting of stockholders in 2010.

Compensation Committee Interlocks and Insider Participation

None of the members of our Compensation Committee was an officer or employee of us, was formerly an officer of us or had any relationship with us, except that we have entered into indemnification agreements with each of our directors, which require us to indemnify our directors to the fullest extent permitted by law in the State of Delaware.

None of our executive officers serves as a member of the Board of Directors or Compensation Committee of any entity that has one or more of its executive officers serving as a member of our Board of Directors or Compensation Committee.

Section 16(a) Beneficial Ownership Reporting Compliance

Section 16(a) of the Securities Exchange Act of 1934, as amended, requires our executive officers and directors, and persons who own more than ten percent (10%) of a registered class of our equity securities, to file reports of ownership and changes in ownership with the SEC and with any national securities exchange on which such securities are traded or quoted. Executive officers, directors and such stockholders are required by SEC regulations to furnish to us copies of all Section 16(a) forms they file. As a practical matter, we assist our directors and officers by completing and filing Section 16 reports on their behalf. Based solely on a review of the copies of such reports furnished to us, and the written representations of our directors and executive officers, we believe that our directors and executive officers, and persons who own more than ten percent (10%) of a registered class of our equity securities, complied with all applicable filing requirements for the year ended December 31, 2010.

 

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EXECUTIVE COMPENSATION

This section describes the compensation program for our named executive officers, referred to herein as NEOs. In particular, this section focuses on our 2010 compensation program and related decisions. The Compensation Committee annually reviews our executive compensation program to ensure that it appropriately rewards performance that is tied to sound decision-making and creating stockholder value, and is designed to achieve our goals of promoting financial and operational success by attracting, motivating and facilitating the retention of key employees with outstanding talent and ability.

Executive Officers During 2010

The following executive officers named in the management table above did not serve in such capacities during the entirety of 2010: Ms. Page, who resigned from her position as President and Chief Executive Officer on March 27, 2009, was elected to and assumed the position of Executive Chair of the Board of Directors on March 30, 2009, and was reappointed as our President and Chief Executive Officer on February 1, 2010; Ms. Gardiner, who was appointed as our Vice President and Chief Financial Officer on April 19, 2010; Eric T. Fung, M.D., Ph.D., who resigned from us as Vice President and Chief Science Officer on March 19, 2009, worked as a consultant for us from September 2009 to January 2010, and was appointed Senior Vice President and Chief Science Officer on February 1, 2010; Mr. Creech, who joined us in March 2010 as Vice President of Sales and Marketing; and Mr. Kohli, who joined us in September 2010 as Vice President of Corporate Strategy. John H. Tran was appointed as our Interim Vice President of Finance and Chief Accounting Officer on February 1, 2010 until his resignation on August 31, 2010.

Set forth below is a brief description of Mr. Tran’s business experience.

John H. Tran, age 35, joined us on February 1, 2010, and served as Interim Vice President of Finance and Chief Accounting Officer until his resignation on August 31, 2010. Prior to joining us, Mr. Tran served as Vice President, Finance and Chief Accounting Officer at Anesiva, Inc., a late-stage biopharmaceutical company in the development and commercialization of novel pharmaceutical products for pain management, from May 2008 to January 2010. From September 2004 to April 2008, Mr. Tran served in various roles in finance and was the Director of Finance at Kyphon Inc., a medical device company. Mr. Tran became part of Medtronic, Inc. through its 2007 acquisition of Kyphon Inc. From January 2000 to September 2004, Mr. Tran served as an Audit Senior in the audit and assurance practice with PricewaterhouseCoopers LLP. Mr. Tran received his B.A. in Biology and Business Economics with Accounting Emphasis from the University of California at Santa Barbara. Mr. Tran is also a certified public accountant in the State of California.

Compensation Philosophy and Objectives

The goal of our compensation program for our named executive officers is the same as for the overall Company, which is to foster compensation policies and practices that attract, engage and motivate high caliber talent by offering a competitive pay and benefits program. We are committed to a total compensation philosophy and structure that provides flexibility in responding to market factors; rewards and recognizes superior performance; attracts highly skilled, experienced and capable employees; and is fair and fiscally responsible.

The Compensation Committee has designed and implemented compensation programs for our named executive officers to reward them for their leadership excellence, for sustaining our financial and operating performance, to align their interests with those of our stockholders and to encourage them to remain with us for long and productive careers.

 

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Performance to be Rewarded

The Compensation Committee has designed and implemented compensation programs for named executives to reward them for sustaining our financial and operating performance and leadership excellence, to align their interests with those of our shareowners and to encourage them to remain with us for long and productive careers. Most of our compensation elements simultaneously fulfill one or more performance, alignment and/or retention objectives.

Base salary and annual bonus are designed to reward annual achievements and be commensurate with the executive’s scope of responsibilities, demonstrated leadership abilities, and management experience and effectiveness. Our other elements of compensation focus on motivating and challenging the executive to achieve superior, longer-term, sustained results.

Compensation Components

The compensation of each NEO consists primarily of the following four major components: base salary; annual bonus; equity incentive awards; and employee benefits programs, including severance and change in control benefits, and perquisites and other benefits.

Base Salaries. Overall average base salaries are targeted at the 50th percentile of the companies with which we compete for labor talent. The Compensation Committee normally adjusts the base salaries for the NEOs in the first half of each calendar year. In 2009, due to the bankruptcy proceeding and the drastic cost-cutting measures that the bankruptcy proceeding entailed, NEOs were terminated and retained as consultants to the extent absolutely critical. In connection with our emergence from bankruptcy, Ms. Page was reappointed as our Chief Executive Officer on February 1, 2010 and Dr. Fung was reappointed as our Senior Vice President, Chief Science Officer on February 1, 2010. Our remaining NEOs were hired in March 2010 and thereafter. The Compensation Committee will review and adjust, if appropriate, the base salaries for the NEOs appointed in 2010 during the first half of 2011.

Annual Bonuses. Consistent with our objectives to tie a significant portion of the NEOs’ total compensation to our performance, the Compensation Committee normally approves specific corporate goals for incentive bonuses and in 2010 resolved to re-establish annual performance goals in connection with the first Board meeting of each year (after suspending the program in 2009 due to the Company’s financial difficulties). For the fiscal year 2010, the Compensation Committee resolved to establish semi-annual goals in lieu of annual goals. The bonus plan that the Compensation Committee re-instituted for 2010 and future years is generally structured as follows, with changes made from year to year to reflect changing business needs and competitive circumstances:

 

   

At the beginning of each fiscal year, the Compensation Committee establishes performance measures and goals, which typically include milestones and targets. The Compensation Committee typically assigns a weight value based upon the overall goals in order to ensure a balanced approach to the various factors applied to determining bonus amounts. For the first half of 2010, these goals, milestones and targets were as follows:

 

   

Launching the OVA1 Test before the end of March 2010;

 

   

Obtaining Medicare coverage for the OVA1 Test;

 

   

Achieving compliance with the requirements of the Exchange Act of 1934 by the end of May 2010;

 

   

Obtaining re-listing of our common stock on The NASDAQ Global Market exchange; and

 

   

Maintaining cash utilization within pre-determined metrics during the first half of fiscal 2010.

 

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Also at the beginning of each fiscal year, the Compensation Committee establishes payout targets for each NEO. The Compensation Committee generally establishes the individual payout targets for each NEO based on the executive’s position, level of responsibility and a review of the compensation information of other companies. For 2010, the payout targets for each NEO were as follows:

 

Gail S. Page

   50% of annual base salary

Sandra A. Gardiner

   40% of annual base salary

Eric T. Fung, M.D., Ph.D.

   50% of annual base salary

William Creech

   30% of annual base salary

Ashish Kohli

   30% of annual base salary

The targets for each NEO reflected the Compensation Committee’s determination that each individual NEO’s bonus would be determined through an evaluation of overall corporate performance with a particular focus on the successful launch of the OVA1 Test in conjunction with the financial and operational requirements necessary to rebuild the business and gain compliance with all regulatory authorities following the receipt of confirmation of our Plan of Reorganization in January 2010.

After the close of each fiscal year, or other such timeframe as determined by the Compensation Committee, the Compensation Committee assesses the performance of each NEO against the pre-established metrics for us. Our incentive bonuses are measured against corporate goals which generally include our targets, product development and management team building. Each NEO receives a bonus based on his or her individual payout target and our performance relative to the specific performance goal.

In its evaluation of performance for the first six months of 2010, the Compensation Committee considered launch of the OVA1 Test on March 9, 2010, the adjudication to Quest by the Medicare contractor Highmark Medicare Services in the amount of $516.25 for each OVA1 Test, the achievement of SEC compliance on May 20, 2010, and the relisting of our common stock on the Nasdaq Global Market on July 6, 2010. As a result of this evaluation, the Compensation Committee determined that the targets for the first six months of 2010 had substantially been met, resulting in the following payouts to each NEO employed by us during such period, and pro-rated for their respective duration of employment:

 

Gail S. Page

   $ 78,125   

Sandra A. Gardiner

   $ 16,000   

Eric T. Fung, M.D., Ph.D.

   $ 57,292   

William Creech

   $ 21,875   

Equity Incentive Compensation. The equity component of our executive compensation program is designed to fulfill our performance alignment and retention objectives. We previously maintained the Vermillion, Inc. 2000 Stock Plan (the “2000 Stock Plan”), which expired in 2010. We will make future equity awards under the Vermillion, Inc. 2010 Stock Incentive Plan (the “2010 Plan”), which was approved by the Board of Directors on February 8, 2010. The 2010 Plan will be administered by the Compensation Committee of the Board. Our employees, directors, and consultants are eligible to receive awards under the 2010 Plan. The 2010 Plan permits the granting of a variety of awards, including stock options, share appreciation rights, restricted shares, restricted share units, unrestricted shares, deferred share units, performance and cash-settled awards, and dividend equivalent rights. The 2010 Plan provides for issuance of up to 1,322,983 shares of common stock, subject to adjustment as provided in the 2010 Plan.

In general, the NEOs receive incentive stock option grants at the time of hire; annually thereafter, they receive non-qualified stock options, as recommended by the Compensation Committee. Stock option grants are based on individual performance and contributions toward the achievement of our business objectives, as well as overall Company performance. The number of underlying shares that may be purchased pursuant to the stock

 

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options granted to each NEO varies based on the executive’s position and responsibilities. In addition, amounts are determined by comparing the level of equity-based compensation that is awarded to executives of competing companies.

In 2010, NEO Gail S. Page, pursuant to the Debtor’s Incentive Plan (as discussed further below) received restricted stock awards. In 2010, NEO Eric T. Fung, M.D., Ph.D., pursuant to the 2010 Plan and as determined by the Board of Directors in its discretion, received restricted stock awards related to our emergence from bankruptcy. In addition, each NEO received stock option grants pursuant to their initial date of hire. The number of shares subject to these stock option grants was determined by the Compensation Committee solely in its discretion based on ranges that take into consideration an executive’s job responsibilities and competitive market data. The grants of stock-based awards to NEOs during the year ended December 31, 2010 was as follows:

 

Name

   Restricted Stock  Awards:
Number of Shares of
Stock or Units
     All Other Option  Awards:
Number of Securities
Underlying Options
 

Gail S. Page

     181,525         —     

Sandra A. Gardiner

     —           40,000   

Eric T. Fung, M.D., Ph.D.

     20,169         75,000   

William Creech

     —           10,000   

Ashish Kohli

     —           30,000   

Although not included in 2010 awards due to the exigencies associated with the our reorganization and emergence from bankruptcy, the 2010 Plan generally authorizes us to make awards reserving the following recourse against a participant who does not comply with certain employment-related covenants, either during employment or for certain periods after ceasing to be employed: we may terminate any outstanding, unexercised, unexpired, unpaid, or deferred awards; rescind any exercise, payment or delivery pursuant to the award; or recapture any shares (whether restricted or unrestricted) or proceeds from the participant’s sale of shares issued pursuant to the award. These remedies are also generally available to us for awards that would have had a lower grant level, vesting, or payment if a participant’s fraud or misconduct had not caused or partially caused the need for a material financial restatement by us or any affiliate. In addition, all awards or proceeds from the sale of awards made or earned pursuant to the 2010 Plan will be subject to the right of us to full recovery (with reasonable interest thereon) in the event that the Board determines reasonably and in good faith that any participant’s fraud or misconduct has caused or partially caused the need for a material restatement of our financial statements for any fiscal year to which the award relates.

Employee Benefits Programs. Our employee benefits program primarily consists of two components: (1) severance and change in control arrangements and (2) perquisites and other benefits.

Severance and Change in Control Arrangements. The Compensation Committee believes that executive officers have a greater risk of job loss or modification as a result of a change in control transaction than other employees. Accordingly, our employment agreement with the Chief Executive Officer includes change of control provisions, and we have also entered into change in control agreements with our other executive officers under which they will receive certain payments and benefits upon qualifying terminations that follow a change in control. The principal purpose of the change in control agreements is to provide executive officers with appropriate incentives to remain with us before, during and after any change in control transaction by providing the executive officers with security in the event their employment is terminated or materially changed following a change in control. By providing this type of security, the change in control agreements help ensure that the executive officers support any potential change in control transaction that may be in the best interests of our stockholders, even while the transaction may create uncertainty in the executive officer’s personal employment situation. The Compensation Committee believes that the payment of salary and benefits for one year for the chief executive officer, nine months for other NEOs and six months for other executive officers is reasonable and appropriate to achieve the desired objectives of the agreements.

 

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Perquisites and Other Benefits. Our NEOs participate in our standard employee benefits programs including medical, dental, life, short-term and long-term disability insurance, and flexible spending accounts.

Method for Determining Compensation Amounts

In deciding on the type and amount of compensation for each executive, the Compensation Committee seeks to align the interests of the NEOs with those of our stockholders. In making compensation decisions, the Compensation Committee reviews the performance of the company and carefully evaluates an executive’s performance during the year against established goals, leadership qualities, operational performance, business responsibilities, career with the company, current compensation arrangements and long-term potential to enhance shareowner value. The types and relative importance of specific financial and other business objectives vary among the company’s NEOs depending on their positions and the particular operations or functions for which they are responsible. The Compensation Committee does not adhere to rigid formulas when determining the amount and mix of compensation elements. Compensation elements for each executive are reviewed in a manner that optimizes the executive’s contribution to the Company, and reflects an evaluation of the compensation paid by our competitors.

The Compensation Committee reviews both current pay and the opportunity for future compensation to achieve an appropriate mix between equity incentive awards and cash payments in order to meet our objectives. However, prior stock compensation gains are not considered in setting future compensation levels. The mix of compensation elements is designed to reward recent results and motivate long-term performance through a combination of cash and equity incentive awards.

The Compensation Committee has primary responsibility for assisting the Board of Directors in developing and evaluating potential candidates for executive positions, including the Chief Executive Officer, or CEO. As part of this responsibility, the Committee oversees the design, development and implementation of the compensation program for the CEO and the other named executives. The Compensation Committee evaluates the performance of the CEO and determines CEO compensation in light of the goals and objectives of the compensation program. The CEO (with the assistance of the Human Resources Consultant) and the Compensation Committee assess the performance of the other named executives and determine their compensation, based on initial recommendations from the CEO. Other than the general Human Resources Consultant, neither we nor the Compensation Committee has any contractual arrangement with any compensation consultant who has a role in determining or recommending the amount or form of senior executive or director compensation.

The Compensation Committee annually reviews and approves stock option grants for the CEO and other NEOs. Grants are based on individual contribution and performance in achieving our business objectives, as well as our overall performance. Individual grants also take into account the positions and particular operations or functions for which the NEO is responsible. Stock option grants for NEOs adhere to the same procedural policies as stock option grants for all employees of the Company, as established by the Board of Directors. The exercise price is the current price of our common stock on the day the grant is approved by the Board of Directors. Stock option grants vest over a four-year period and the options expire 10 years from the date the Board of Directors grants the options. The CEO and other NEOs receive stock option grants at time of hire, and annually thereafter, as recommended by the Compensation Committee to the Board of Directors. Amounts are determined by comparing the level of equity-based compensation is awarded to executives of competing companies, along with consideration for attracting, retaining and motivating the executive officers. We do not maintain specific stock ownership guidelines, and do not currently have a policy for recovering awards or payments if we are required to restate corporate financials.

 

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Compensation Policies and Practices regarding Risk Management

In fulfilling its role in assisting the Board in its risk oversight responsibilities, the Compensation Committee believes that our compensation policies and practices do not motivate imprudent risk taking. Specifically, the Compensation Committee reviewed the following features of our compensation programs that guard against excessive risk-taking:

 

   

our annual incentive compensation is based on balanced performance metrics that promote disciplined progress towards longer-term Company goals;

 

   

we do not offer significant short-term incentives that might drive high-risk investments at the expense of long-term Company value; and

 

   

our compensation awards are capped at reasonable and sustainable levels, as determined by a review of the our economic position and prospects, as well as the compensation offered by comparable companies.

Tax and Accounting Considerations

Section 162(m) of the Internal Revenue Code (the “Code”) disallows a tax deduction to publicly-held companies for certain compensation in excess of $1,000,000 paid to the Company’s chief executive officer and three other officers (other than the chief financial officer) whose compensation is required to be reported to the Company’s stockholders pursuant to the Exchange Act. Certain performance-based compensation approved by our stockholders, including option grants under the 2000 Stock Plan, generally is not subject to the deduction limit. It is the Compensation Committee’s policy to maximize the effectiveness of our executive compensation in this regard.

We have granted stock options as incentive stock options in accordance with Section 422 of the Code subject to the volume limitations contained in the Code. Generally, the exercise of an incentive stock option does not trigger any recognition of income or gain to the holder. If the stock is held until at least one year after the date of exercise (or two years from the date the option is granted, whichever is later), all of the gain on the sale of the stock, when recognized for income tax purposes, will be capital gain, rather than ordinary income, to the recipient. Consequently, we do not receive a tax deduction. For stock options that do not qualify as incentive stock options, we are entitled to a tax deduction in the year in which the stock options are exercised equal to the spread between the exercise price and the fair market value of the stock for which the stock option was exercised. The holders of the non-qualified stock options are generally taxed on this same amount in the year of exercise.

Named Executive Officer Compensation

President and Chief Executive Officer. On December 31, 2005, we entered into an employment agreement with Ms. Page as our President and Chief Executive Officer. Under the terms of her original employment agreement, Ms. Page had an initial base salary of $350,000, as adjusted by the Board of Directors from time to time; was eligible for a bonus of up to 50% of her base salary that is based on the achievement of reasonable performance-related goals as determined by the Board of Directors; had an initial option grant to purchase 40,000 shares of our common stock at $9.00 per share; and had an annual car allowance of $10,000. On November 18, 2008, Ms. Page’s employment agreement was amended and restated to reflect an annual base salary of $364,000 and to comply with (or be exempted from) the applicable requirements of Section 409A of the Code. Ms. Page’s employment with us was for an unspecified duration and constituted “at-will” employment. At the option of either Ms. Page or us, with or without notice, the employment relationship may be terminated at any time, with or without cause (as defined in the employment agreement) or for any or no cause. If we terminate Ms. Page’s employment for reasons other than for cause, or if Ms. Page terminates her employment for good reason (as defined in the employment agreement), Ms. Page, upon executing a release of claims in favor of us will be entitled to receive (i) continued payment of base salary for a period of 12 months, (ii) immediate vesting of

 

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24-months of any options previously granted by us in addition to a 24-month period after termination to exercise any or all of her vested options to purchase our common stock; and (iii) continued health and dental benefits paid by us until the earlier of 12 months after termination or the time that Ms. Page obtains employment with reasonably comparable or better health and dental benefits. Additionally, if Ms. Page’s employment is terminated by us for reasons other than for cause or by her for good reason with the 12-month period following a change in control (as defined in the employment agreement), Ms. Page will receive (i) continued payment of base salary for a period of 12 months, (ii) immediate 100% vesting of any then unvested options previously granted by us in addition to a period after termination at the discretion of us to exercise any or all of her vested options to purchase our common stock; and (iii) continued health and dental benefits paid by us until the earlier of 12 months after termination or the time that Ms. Page obtains employment with reasonably comparable or better health and dental benefits. Ms. Page’s employment agreement also contains a “nonsolicitation” clause, which provides that, in the event that Ms. Page’s employment is terminated, she is prohibited from directly or indirectly soliciting or encouraging any employee or contractor of us or our affiliates to terminate employment with or cease providing services to us or our affiliates; and prohibited from soliciting or interfering with any person engaged by us as a collaborator, partner, licensor, licensee, vendor, supplier, customer or client to our detriment. As a result of the bankruptcy, severance amounts became due to Ms. Page, who was asked to resign from the Company on March 27, 2009. After she was asked to resign, Ms. Page worked as a consultant for us from March 2009 to January 2010. Pursuant to the terms of the consulting agreement between us and Ms. Page, she was paid $230 per hour for her services as a consultant.

Except as described above, Ms. Page was not otherwise compensated for the year 2009. In recognition of her services during the bankruptcy, the Bankruptcy Court approved a Debtor’s Incentive Plan on April 14, 2010, as revised. Under the Debtor’s Incentive Plan, we were directed to distribute an aggregate of $5,000,000 in cash and 302,541 shares of restricted stock in Debtor’s Incentive Plan Payments to Ms. Page, Mr. Burns and Mr. Hamilton. The total Debtor’s Incentive Plan cash payments and restricted stock awards were ordered by the Bankruptcy Court to be allocated 60% to Ms. Page, and such distribution was approved by our Special Director Compensation Committee. Such Debtor’s Incentive Plan compensation is not attributable to Ms. Page as compensation for the year of 2009 because we did not receive approval to make the awards (and did not in fact make any cash or restricted stock awards) until April 2010. The restricted stock awards do, however, provide for retroactive vesting credit for 1/24th of the total award on each monthly anniversary of the vesting commencement date (June 22, 2009).

In connection with our emergence from bankruptcy, Ms. Page was reappointed as our Chief Executive Officer on February 1, 2010. On September 28, 2010, Ms. Page’s employment agreement was further amended and restated to increase her annual base salary from $364,000 to $385,000.

Other Named Executive Officers. Employment of the NEOs other than Ms. Page was for an unspecified duration and constituted “at-will” employment, allowed the NEO by notifying the Company or the Company with or without notice to terminate the NEO’s employment with the Company at any time and for any reason whatsoever. Accordingly, upon a termination, the NEOs other than Ms. Page would receive their accrued salary, earned bonus, unreimbursed expenses and other entitlements to the date of termination, unless the Compensation Committee determined to provide additional severance payments. In addition to their initial base salaries and initial option grant to purchase shares of our common stock, the NEOs were eligible for a bonus as a percentage of their base salary based on the achievement of reasonable performance-related goals as determined by the Board of Directors.

Senior Vice President and Chief Science Officer. On August 26, 2008, we entered into an employee severance agreement with Dr. Fung. The severance agreement provides certain severance benefits to the employee in the event that we terminate the employee’s employment without cause or the employee resigns from his employment for good reason. The severance benefits provided for in the agreements with Dr. Fung include (i) continued payment of the employee’s base salary, as then in effect, payable over a period of nine months following the date of termination, (ii) immediate, accelerated vesting of 24 months of any options previously

 

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granted by us to the employee and (iii) continuation of health and dental benefits through COBRA premiums paid by us directly to the COBRA administrator for a period of nine months following the date of termination. Each severance agreement also provides that, in the event the employee’s employment is terminated by us for reasons other than cause or by the employee for good reason within the 12-month period following a change in control, then, in addition to the severance benefits described above, any then-unvested shares under our stock option plans then held by the employee will fully vest immediately upon the date of such termination. Payment of the severance benefits under these agreements will be conditioned on the employee’s continued compliance with the provisions of each employee’s proprietary information and inventions agreement and will be delayed as required by Section 409A of the Code.

No severance amounts became due to Dr. Fung, who, as a result of the bankruptcy, resigned from the Company on March 19, 2009. After his resignation, Dr. Fung worked as a consultant for us from September 2009 to January 2010. Based on the consulting agreement between Dr. Fung and us, he was paid $137.50 per hour for his services as a consultant.

In connection with our emergence from bankruptcy, Dr. Fung was reappointed as our Senior Vice President, Chief Science Officer on February 1, 2010. On September 28, 2010, we entered into an employment agreement with Dr. Fung. Pursuant to the terms of the employment agreement, we will pay Dr. Fung an annual salary of at least $275,000. He will be eligible for a bonus of up to 50% of his base salary for achievement of reasonable performance-related goals to be defined by our Chief Executive Officer or the Board of Directors. In the event Dr. Fung is terminated without cause or for good reason (as defined in the employment agreement), he is entitled to receive (i) continued payment of base salary for a period of 9 months, (ii) immediate vesting of 24-months of any options previously granted by us in addition to a 24-month period after termination to exercise any or all of his vested options to purchase our common stock; and (iii) continued health and dental benefits paid by us until the earlier of 9 months after termination or the time that Dr. Fung obtains employment with reasonably comparable or better health and dental benefits. Additionally, if Dr. Fung’s employment is terminated without cause or for good reason with the 12-month period following a change in control (as defined in the employment agreement), then, in addition to the three severance obligations due to Dr. Fung as described above, 50% of any then-unvested options previously granted us to Dr. Fung will vest upon the date of such termination, and the period of time for their exercise will be at our discretion.

In addition, in recognition of Dr. Fung’s efforts and contributions to the success of the OVA1 Test, amongst other contributions to us, in March 2010 we awarded to Dr. Fung an option to purchase up to 75,000 shares of our common stock at a predetermined exercise price under the 2010 Plan.

On April 19, 2010, we entered into an employment agreement with Ms. Gardiner as our Vice President and Chief Financial Officer. Pursuant to the terms of the employment agreement, we will pay Ms. Gardiner an annual salary of at least $240,000. She will be eligible for a bonus of up to 40% of her base salary for achievement of reasonable performance-related goals to be defined by our Chief Executive Officer or the Board of Directors. In the event Ms. Gardiner is terminated without cause or for good reason (as defined in the employment agreement), she is entitled to receive (i) continued payment of base salary for a period of 6 months, (ii) immediate vesting of 24-months of any options previously granted by us in addition to a 24-month period after termination to exercise any or all of her vested options to purchase our common stock; and (iii) continued health and dental benefits paid by the Company until the earlier of 6 month after termination or the time that Ms. Gardiner obtains employment with reasonably comparable or better health and dental benefits. Additionally, if Ms. Gardiner’s employment is terminated without cause or for good reason with the 12-month period following a change in control (as defined in the employment agreement), then, in addition to the three severance obligations due to Ms. Gardiner as described above, 50% of any then-unvested options previously granted by us to Ms. Gardiner will vest upon the date of such termination, and the period of time for their exercise will be at our discretion.

 

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Compensation for the Named Executives in 2010, 2009 and 2008

The compensation earned by the NEOs for the years ended December 31, 2010, 2009 and 2008 was as follows:

 

Name and Principal Position

  Year   Salary     Bonus     Stock
Award
    Option
Awards(11)
    Non-Equity
Incentive
Plan(12)
    Change in
Pension

Value and
Nonqualified
Deferred
Compensation
Earnings
    All Other
Compensation
    Total  

Gail S. Page

  2010   $ 346,699      $ —        $ 765,130 (1)    $ 195,697      $ 78,125      $ —        $ 3,024,231 (2)    $ 4,409,882   

Director, President and

  2009     87,323        —          —          211,247        —          —          611,520 (3)      910,090   

Chief Executive Officer

  2008     364,550        —          —          207,109        —          —          29,278 (4)      600,937   

(Principal Executive Officer)

                 

Sandra A. Gardiner

  2010     150,334        —          —          68,502        16,000        —          —          234,836   

Vice President and Chief Financial Officer

  2009     —          —          —          —          —          —          —          —     
  2008     —          —          —          —          —          —          —          —     

Eric T. Fung, M.D., Ph.D.

  2010     252,417        —          88,463 (5)      836,030        57,292        —          11,000 (6)      1,245,202   

Senior Vice President and Chief Science Officer

  2009     49,767        —          —          190,194        —          —          79,082 (7)      319,043   
  2008     220,550        —          —          91,165        —          —          1,203 (8)      312,918   

William Creech

  2010     146,798        —          —          32,194        21,875        —          6,000 (9)      206,867   

Vice President of Sales and Marketing

  2009     —          —          —          —          —          —          —          —     

Ashish Kohli

  2010     61,042        —          —          5,879        —          —          41,865 (10)      108,786   

Vice President of Corporate Strategy

  2009     —          —          —          —          —          —          —          —     
  2008     —          —          —          —          —          —          —          —     

John Tran

  2010     98,886        —          —          —          —          —          —          98,886   

Interim Vice President of Finance and Chief Accounting Officer

  2009     —          —          —          —          —          —          —          —     
  2008     —          —          —          —          —          —          —          —     
                 

 

(1) Amount represents restricted stock awards issued to Ms. Page pursuant to the Debtor’s Incentive Plan.
(2) Amount represents Ms. Page’s Debtor Incentive Plan cash distribution of $3,000,000, consulting income of $23,660 and Cobra payment of $571.
(3) Amount represents Ms. Page’s accrued severance of $365,753, consulting income of $189,859, health expense reimbursement program of $562, COBRA payment of $2,252, car allowance of $5,557, and PTO payout of $47,540. Due to the bankruptcy proceeding, Ms. Page was not paid for her service as Executive Chair of the Board of Directors during 2009.
(4) Amount represents Ms. Page’s health expense reimbursement program of $538 and car allowance of $28,740.
(5) Amount represents Dr. Fung’s restricted stock awards pursuant to our emergence from bankruptcy.
(6) Amount represents Dr. Fung’s consulting income of $11,000.
(7) Amount represents Dr. Fung’s consulting income of $45,038 and PTO payout of $34,044.
(8) Amount represents amounts paid through our health expense reimbursement program.
(9) Amount represents Mr. Creech’s car allowance of $6,000.
(10) Amount represents Mr. Kohli’s consulting income of $41,865.
(11) For awards of option, the aggregate grant date fair value is computed in accordance with FASB ASC Topic 718 (column (f)). See Note 1 of our consolidated financial statements on page F-6 of this Registration Statement for a discussion of all assumptions made by us in determining the grant date fair value of our equity awards.
(12) Amount represents annual performance bonus.

 

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Grants of Plan-Based Awards

The grants of stock-based awards to NEOs during the year ended December 31, 2010 was as follows:

 

        Estimated Future Payouts
Under Non-Equity
Incentive Plan Awards
    All Other
Stock
Awards:
Number of
Shares of
Stock or
Units (#)
    All Other
Option
Awards:
Number of
Securities
Underlying
Options (#)
    Exercise or
Base Price
of Option
Awards
($/Sh)(1)
    Grant Date
Fair Value
of Stock and
Option
Awards ($)(2)
 

Name

  Grant
Date(1)
  Threshold
($)
    Target
($)
    Maximum
($)
         

Gail S. Page

  4/22/2010     19,250        192,500        192,500        181,525 (3)      —        $ —        $ 3,975,398   

Sandra A. Gardiner

  5/24/2010     9,600        96,000        96,000        —          40,000        19.95        549,200   

Eric T. Fung, M.D., Ph.D.

  3/19/2010     13,750        137,500        137,500        —          75,000        28.65        1,491,750   
  8/24/2010     —          —          —          20,169 (4)      —          —          117,585   

William Creech

  3/19/2010     5,250        52,500        52,500        —          10,000        28.65        198,900   

Ashish Kohli

  9/30/2010     7,200        72,000        72,000        —          30,000        5.52        165,600   

 

(1) The exercise price was determined based on the closing price of our common stock on the grant date.
(2) For awards of option, the aggregate grant date fair value is computed in accordance with FASB ASC Topic 718. See Note 1 of the notes to our consolidated financial statements on page F-6 of this Registration Statement for a discussion of all assumptions made by us in determining the grant date fair value of our equity awards.
(3) Amount represents restricted stock awards issued to Ms. Page pursuant to the Debtor’s Incentive Plan.
(4) Amount represents Dr. Fung’s restricted stock awards pursuant to our emergence from bankruptcy.

 

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The outstanding equity awards held by the NEOs as of December 31, 2010, were as follows:

 

    Option Awards     Stock Awards  

Name

  Number of
Securities
Underlying
Unexercised
Options –
Exercisable
    Number of
Securities
Underlying
Unexercised
Options –
Unexercisable
    Equity
Incentive
Plan
Awards:
Number of
Securities
Underlying
Unearned
Options
    Option
Exercise
Price
    Option
Expiration
Date(1)
    Number of
Shares or
Units of
Stock that
have not
Vested
    Market
Value of
Shares or
Units of
Stock that
have not
Vested(2)
    Equity
Incentive
Plan
Awards:
Number of
Unearned
Shares,
Units or
Other
Rights
that
have not
Vested
    Equity
Incentive
Plan
Awards:
Market or
Payout
Value of
Unearned
Shares,
Units or
Other
Rights
that
have not
Vested
 

Gail S. Page

    —          —          —        $ —            45,381     $ 341,265 (3)     —          —     
    75,520        49,480        —          2.30        7/17/2018        —          —          —          —     
    32,999        3,000        —          14.70        4/25/2017        —          —          —          —     
    25,000        —          —          12.00        6/6/2016        —          —          —          —     
    39,999        —          —          9.00        12/19/2015        —          —          —          —     
    12,500        —          —          21.90        8/4/2015        —          —          —          —     
    9,999        —          —          29.60        2/8/2015        —          —          —          —     
    24,998        —          —          92.70        1/7/2014        —          —          —          —     

Eric T. Fung, M.D., Ph.D.

    —          —          —          —          —          5,043     $ 37,923 (4)     —          —     
    23,438       51,562        —          28.65        3/18/2020        —          —          —          —     
    24,166        15,834        —          2.30        7/17/2018        —          —          —          —     
    21,999        2,000        —          14.70        4/25/2017        —          —          —          —     
    7,500        —          —          12.00        6/6/2016        —          —          —          —     
    999        —          —          9.00        12/19/2015        —          —          —          —     
    2,000        —          —          21.90        8/4/2015        —          —          —          —     
    2,999        —          —          18.00        4/5/2015        —          —          —          —     
    999        —          —          37.00        9/15/2014        —          —          —          —     
    2,499        —          —          74.70        6/3/2014        —          —          —          —     
    1,999        —          —          86.40        4/1/2014        —          —          —          —     
    1,000        —