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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2011

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 0-26483

 

 

diaDexus, Inc.

(Exact name of Registrant as Specified in its Charter)

 

 

 

Delaware   94-3236309

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

349 Oyster Point Boulevard

South San Francisco, California

  94080
(Address of principal executive offices)   (Zip Code)

(650) 246-6400

(Registrant’s telephone number, including area code)

343 Oyster Point Boulevard, South San Francisco, California 94080

(Former name, former address or former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

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. (Check one)

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   ¨ (Do not check if a smaller reporting company)    Smaller Reporting Company   x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The number of shares outstanding of the registrant’s common stock, $0.01 par value per share, was 53,067,057 as of November 4, 2011.

 

 

 


Table of Contents

Explanatory Note

On July 28, 2010, VaxGen, Inc., a Delaware corporation, closed a merger transaction (the “Reverse Merger”) with diaDexus, Inc., a privately held Delaware corporation (“Old diaDexus”), pursuant to an Agreement and Plan of Merger and Reorganization, dated as of May 28, 2010, as amended June 24, 2010 (the “Merger Agreement”), by and among VaxGen, Inc., Old diaDexus, Violet Acquisition Corporation, a wholly owned subsidiary of VaxGen Inc. (“Merger Sub I”), Violet Acquisition, LLC, a wholly owned subsidiary of VaxGen, Inc. (“Merger Sub II”), and John E. Hamer, as the representative of Old diaDexus’ stockholders. Pursuant to the Merger Agreement, Old diaDexus became a wholly owned subsidiary of VaxGen, Inc. through a merger of Merger Sub I with and into Old diaDexus, with Old diaDexus being the surviving company in the merger (“Merger I”), and, immediately following the effectiveness of Merger I, the merger of Old diaDexus with and into Merger Sub II, with Merger Sub II being the surviving entity in the merger.

The Reverse Merger has been accounted for as a reverse acquisition. As such, the financial statements of Old diaDexus are treated as the historical financial statements of the combined company, with the results of VaxGen, Inc. being included from July 28, 2010.

On November 1, 2010, VaxGen, Inc. merged Merger Sub II with and into VaxGen, Inc. with VaxGen, Inc. being the surviving entity in the merger, and VaxGen, Inc. changed its name to diaDexus, Inc. pursuant to a merger effected under Section 253 of the Delaware General Corporation Law.

All references in this Quarterly Report on Form 10-Q to the “Company,” “we,” “us” and “our” refer to diaDexus, Inc. (f/k/a VaxGen, Inc.), a Delaware corporation, and its consolidated subsidiaries for periods after the closing of the Reverse Merger, and to Old diaDexus and its consolidated subsidiaries for periods prior to the closing of the Reverse Merger unless the context requires otherwise. References to “Pre-Merger VaxGen” mean VaxGen, Inc., a Delaware corporation, prior to the closing of the Reverse Merger.

 

2


Table of Contents

Table of Contents

 

PART I – FINANCIAL INFORMATION   

Item 1.

  

Financial Statements (Unaudited)

  
  

Condensed Consolidated Balance Sheets

     4   
  

Condensed Consolidated Statements of Operations

     5   
  

Condensed Consolidated Statements of Cash Flows

     6   
  

Notes to Condensed Consolidated Financial Statements

     7   

Item 2.

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     20   

Item 3.

  

Quantitative and Qualitative Disclosures About Market Risk

     27   

Item 4

  

Controls and Procedures

     28   
PART II – OTHER INFORMATION   

Item 1.

  

Legal Proceedings

     29   

Item 1A.

  

Risk Factors

     29   

Item 2.

  

Unregistered Sales of Equity Securities and Use of Proceeds

     37   

Item 3.

  

Defaults Upon Senior Securities

     37   

Item 4.

  

[Removed and Reserved]

     37   

Item 5.

  

Other Information

     37   

Item 6.

  

Exhibits

     38   

Signatures

     40   

 

3


Table of Contents

PART I – FINANCIAL INFORMATION

 

Item  1. Financial Statements

DIADEXUS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

     September 30,
2011
    December 31,
2010
 
     (unaudited)     (Note 1)  

Assets

    

Current assets:

    

Cash and cash equivalents

   $ 10,061      $ 20,394   

Short-term marketable securities

     9,525        —     

Accounts receivable, net of allowance for doubtful accounts of $0 and rebate reserve of $36, respectively, and $0 and $0 at September 30, 2011 and December 31, 2010, respectively

     1,468        1,543   

Receivable from related party

     —          175   

Inventories

     147        105   

Restricted cash

     400        —     

Assets held for sale

     304        308   

Prepaid expenses and other current assets

     1,289        1,046   
  

 

 

   

 

 

 

Total current assets

     23,194        23,571   

Long-term investments

     250        —     

Restricted cash

     1,400        1,800   

Property and equipment, net

     909        580   

Other long-term assets

     117        128   
  

 

 

   

 

 

 

Total assets

   $ 25,870      $ 26,079   
  

 

 

   

 

 

 

Liabilities and Stockholders’ Equity

    

Current liabilities:

    

Accounts payable

   $ 1,021      $ 445   

Deferred revenues, current portion

     325        305   

Deferred rent, current portion

     21        103   

Unfavorable lease obligations

     458        363   

Accrued and other current liabilities

     2,769        1,930   
  

 

 

   

 

 

 

Total current liabilities

     4,594        3,146   

Long-term deferred rent

     212        52   

Non-current portion of unfavorable lease obligation

     3,191        3,555   

Non-current portion of deferred revenue

     607        835   

Notes payable

     4,888        —     

Other long term liabilities

     267        646   
  

 

 

   

 

 

 

Total liabilities

     13,759        8,234   
  

 

 

   

 

 

 

Commitments and contingencies (Note 13)

    

Stockholders’ equity:

    

Preferred Stock, $0.01 par value, 19,979,500 shares authorized; none issued or outstanding

     —          —     

Common stock, $0.01 par value; 100,000,000 shares authorized; 53,067,057 shares issued and outstanding at September 30, 2011 and December 31, 2010

     531        531   

Additional paid-in capital

     205,485        204,774   

Accumulated other comprehensive loss

     (4     —     

Accumulated deficit

     (193,901     (187,460
  

 

 

   

 

 

 

Total stockholders’ equity

     12,111        17,845   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 25,870      $ 26,079   
  

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

4


Table of Contents

DIADEXUS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except share data)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  
     (unaudited)     (unaudited)  

Revenues:

        

License revenue

   $ 76      $ 76      $ 229      $ 229   

Royalty revenue

     914        882        2,863        2,627   

Product sales

     3,206        2,014        8,092        5,074   

Product sales to related party

     161        181        321        521   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

     4,357        3,153        11,505        8,451   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating costs and expenses:

        

Product costs

   $ 1,439      $ 1,135      $ 3,776      $ 3,382   

Sales and marketing

     1,207        1,384        3,291        4,036   

Research and development

     1,449        1,604        4,215        3,584   

General and administrative

     2,150        1,861        7,106        3,515   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating costs and expenses

     6,245        5,984        18,388        14,517   
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (1,888     (2,831 )     (6,883     (6,066 )

Interest income, interest expense and other income (expense), net:

        

Interest income

     12        21        44        25   

Interest expense

     390        (58     390        (356

Other income (expense), net

     9        41        9        44   
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss before income tax

     (1,477     (2,827     (6,440     (6,353

Income tax benefit (provision)

     2        —          (1     (5
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

   $ (1,475   $ (2,827 )   $ (6,441   $ (6,358 )
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per share:

   $ (0.03   $ (0.07 )   $ (0.12   $ (0.23 )
  

 

 

   

 

 

   

 

 

   

 

 

 

Weighted average shares used in computing basic and diluted net loss per share

     53,067,057        43,086,474        53,067,057        27,156,266   
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

5


Table of Contents

DIADEXUS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

     Nine Months Ended
September 30,
 
     2011     2010  
     (unaudited)  

Operating activities:

    

Net loss

   $ (6,441   $ (6,358

Adjustments to reconcile net loss to net cash used in operating activities:

    

Gain on disposal of assets

     (9     —     

Depreciation and amortization

     407        665   

Stock-based compensation

     617        586   

Amortization on investments

     199        12   

Provision for doubtful account

     —          106   

Provision for rebate reserve

     36        74   

Inventory write-off

     —          249   

Noncash other interest (income) expense

     (379     (36

Noncash interest associated with notes payable

     2        108   

Unfavorable lease

     (269     (74

Changes in operating assets and liabilities

    

Accounts receivable

     39        192   

Accounts receivable from related party

     175        99   

Inventory

     (42     (134

Prepaid expenses, other current assets and other long-term assets

     (62     (78

Accounts payable

     149        438   

Accrued liabilities and other long term liabilities

     663        (220

Deferred rent

     78        (141

Deferred revenue

     (208     (202
  

 

 

   

 

 

 

Net cash used in operating activities

     (5,045     (4,714
  

 

 

   

 

 

 

Investing activities:

    

Purchases of property and equipment

     (278     (83

Proceeds from sale of assets

     13        —     

Maturities of available-for-sale investments

     16,527        2,250   

Purchases of available-for-sale investments

     (26,505     —     

Acquisitions, net of cash acquired

     —          23,385   
  

 

 

   

 

 

 

Net cash provided by (used in) investing activities

     (10,243     25,552   
  

 

 

   

 

 

 

Financing activities:

    

Principal repayment of loan

     —          (5,099

Proceeds from issuance of notes to VaxGen, Inc.

     —          4,000   

Proceeds from issuance of notes to shareholders

     —          1,500   

Net proceeds from notes payable

     4,980        —     

Debt issuance costs

     (25     —     

Expenses relating to merger

     —          (540
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     4,955        (139
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

     (10,333     20,699   

Cash and cash equivalents, beginning of period

     20,394        2,539   
  

 

 

   

 

 

 

Cash and cash equivalents, end of period

   $ 10,061      $ 23,238   
  

 

 

   

 

 

 

Supplemental disclosure:

    

Cash paid for interest

   $ —        $ 553   

Non-cash investing and financing transactions

    

Fair value of assets acquired

   $ —        $ 2,055   

Fair value of liabilities assumed

   $ —        $ 5,303   

Forgiveness of notes payable

   $ —        $ 4,000   

Issuance of warrants for common stock in connection with debt

   $ 94      $ —     

Acquisition of property and equipment in accounts payable

   $ 352      $ —     

Acquisition of property and equipment in accrued liabilities

   $ 139      $ —     

Debt issuance costs in accounts payable and accrued liabilities

   $ 111      $ —     

See accompanying notes to condensed consolidated financial statements.

 

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Table of Contents

diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements

(Unaudited)

1. Business Overview

Formation and Business of the Company

The Company (as defined below) is a life sciences company focused on the development and commercialization of patent-protected in vitro diagnostic products addressing unmet needs in cardiovascular disease. The Company is the successor to a company initially formed as a joint venture between SmithKline Beecham Corporation (now GlaxoSmithKline LLC (“GlaxoSmithKline”)) and Incyte Pharmaceuticals, Inc. Upon formation, SmithKline Beecham Corporation granted the Company an exclusive license to certain diagnostic intellectual property, including Lp-PLA2, an inflammatory marker of cardiovascular risk.

The diaDexus PLAC® Test for Lp-PLA2 provides new information, over and above traditional risk factors, to help identify individuals at increased risk of suffering a heart attack or stroke. Some of these events may be reduced with earlier detection and more aggressive risk-reducing strategies, including treatment to lower LDL-cholesterol goals with statins. The Company has commercialized two formats of the PLAC Test, an enzyme-linked-immunosorbent serologic assay (“ELISA”) product and a turbidimetric immunoassay (“TIA”) product.

On May 10, 2010, we removed our PLAC TIA Test from the market in order to address heterophilic interference observed in the PLAC TIA product. On June 30, 2010, we submitted a premarket notification to the United States Food and Drug Administration (the “FDA”) seeking clearance under Section 510(k) of the Federal Food, Drug and Cosmetic Act (the “FDCA”) to market an enhanced PLAC TIA product that addresses the heterophilic interference observed in the suspended PLAC TIA product. On January 6, 2011, the FDA informed the Company that it was cleared for marketing the enhanced version of its proprietary PLAC TIA Test. The Company has not yet reintroduced the product to the market as it is investigating manufacturing issues that appear to be affecting its performance and stability. The Company has been successful to date in referring or converting many PLAC TIA customers to those laboratories capable of using the PLAC ELISA Test.

On June 17, 2011, we submitted a premarket notification to the FDA seeking clearance under Section 510(k) of the FDCA to market a new automated Lp-PLA2 activity assay. This new assay measures the activity of the Lp-PLA2 enzyme in the blood, while the currently marketed PLAC Test utilizes an ELISA method that measures the concentration of the enzyme. The Lp-PLA2 activity assay is capable of running on automated, high throughput clinical chemistry analyzers unlike the current ELISA test. Future commercialization of an assay capable of running on automated, high throughput clinical chemistry analyzers may be important for the expansion of the PLAC Test market and our revenue growth. On October 24, 2011, we elected to withdraw this application following discussions with the FDA. We plan to develop a new submission. We have identified completed clinical trials from which blood samples of patient cohorts may be obtained and then tested to demonstrate the effectiveness of the new automated Lp-PLA2 activity assay. We are in discussions with the FDA on the appropriateness of utilizing these trials.

We have undergone a senior management transition in the past several months. Patrick Plewman resigned as our President and Chief Executive Officer and as a director of the Company effective as of July 1, 2011. David J. Foster resigned as our Executive Vice President and Chief Financial Officer effective as of July 7, 2011, Robert L. Wolfert, Ph.D. resigned as our Executive Vice President and Chief Scientific Officer effective as of October 1, 2011, and Bernard M. Alfano resigned as our Executive Vice President and Chief Commercial Officer effective as of October 1, 2011. Effective as of July 1, 2011, our Board of Directors appointed director James P. Panek to serve as our interim President and Chief Executive Officer and director Brian E. Ward, Ph.D. to serve as our interim Chief Operating Officer. Effective as of September 26, 2011, our Board of Directors appointed Brian E. Ward, Ph.D. to serve as our President and Chief Executive Officer and effective as of October 1, 2011, our Board of Directors appointed Robert Michael Richey to serve as our Chief Business Officer. We are currently conducting a search for a new Chief Financial Officer.

Reverse Merger

On July 28, 2010, VaxGen, Inc., a Delaware corporation, closed a merger transaction (the “Reverse Merger”) with diaDexus, Inc., a privately held Delaware corporation (“Old diaDexus”), pursuant to an Agreement and Plan of Merger and Reorganization, dated as of May 28, 2010, as amended June 24, 2010 (the “Merger Agreement”), by and among VaxGen, Inc., Old diaDexus, Violet Acquisition Corporation, a wholly owned subsidiary of VaxGen, Inc. (“Merger Sub I”), Violet Acquisition, LLC, a wholly owned subsidiary of VaxGen, Inc. (“Merger Sub II”), and John E. Hamer, as the representative of Old diaDexus’ stockholders. Pursuant to the Merger Agreement, Old diaDexus became a wholly owned subsidiary of VaxGen Inc. through a merger of Merger Sub I with and into Old

diaDexus, with Old diaDexus being the surviving company in the merger (“Merger I”), and, immediately following the effectiveness of Merger I, the merger of Old diaDexus with and into Merger Sub II, with Merger Sub II being the surviving entity in the merger.

 

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Table of Contents

diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

As of July 28, 2010, after giving effect to the Reverse Merger and the issuance of VaxGen, Inc. common stock to certain employees of Old diaDexus, the Company had 53,067,057 shares of common stock issued and outstanding, with the former holders of Old diaDexus Series F Preferred Stock and employees of Old diaDexus collectively owning approximately 38%, and the Pre-Merger VaxGen stockholders of Pre-Merger VaxGen (as defined below) owning approximately 62%, of the outstanding Company common stock.

The Reverse Merger has been accounted for as a reverse acquisition of net assets. As such, the financial statements of Old diaDexus are treated as the historical financial statements of the Company, with the results of VaxGen, Inc. being included from July 28, 2010. Immediately following the closing of the Reverse Merger, Old diaDexus designees to the Company’s Board of Directors represented a majority of the Company’s directors, Old diaDexus’ senior management represented the entire senior management of the Company and the operations formerly conducted by Old diaDexus were the sole revenue producing operations as well as the only continuing development effort of the Company. For periods prior to the closing of the Reverse Merger, therefore, the information in these notes to consolidated financial statements relates to the historical business and operations of Old diaDexus. Certain portions of this Quarterly Report on Form 10-Q may contain information that relates to Pre-Merger VaxGen’s previous operations, which are no longer material to the Company’s business. Any comparison of Pre-Merger VaxGen’s revenues and operations with those of the Company may not be helpful to an understanding of the Company’s results for the quarter ended September 30, 2011 or future periods.

Subsidiary Merger and Name Change

On November 1, 2010, VaxGen, Inc. merged Merger Sub II with and into VaxGen, Inc., with VaxGen, Inc. being the surviving entity in the merger, and VaxGen, Inc. changed its name to diaDexus, Inc. pursuant to a merger effected under Section 253 of the Delaware General Corporation Law.

References in these notes to condensed consolidated financial statements to the “Company,” “we,” “us” and “our” refer to diaDexus, Inc. (f/k/a VaxGen, Inc.), a Delaware corporation, and its consolidated subsidiaries for periods after the closing of the Reverse Merger, and to Old diaDexus and its consolidated subsidiaries for periods prior to the closing of the Reverse Merger, unless the context requires otherwise. References to “Pre-Merger VaxGen” mean VaxGen, Inc., a Delaware corporation, prior to the closing of the Reverse Merger.

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The year-end condensed consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the U.S. In the opinion of management, unaudited condensed consolidated financial statements have been prepared on a consistent basis with December 31, 2010 audited financial statements and include all adjustments, consisting of normal recurring adjustments, which are necessary to fairly state the Company’s consolidated financial positions as of September 30, 2011. Operating results for the both three and nine months ended September 30, 2011 are not necessarily indicative of the results that may be expected for any other future period. Upon the closing of the Reverse Merger, diaDexus became subject to significant expenses relating to property leases and obligations as a public company. These additional expenses are reflected in our results of operations only from July 28, 2010, the closing date of the Reverse Merger.

All intercompany accounts and transactions have been eliminated in consolidation.

Liquidity and Capital Resources

We have incurred substantial losses since our inception, and we expect to continue to incur substantial net losses for at least the next few years. To date, we have funded our operations primarily through private placements of preferred stock and debt financing, as well as through revenue generated from the sale of our products. As a result of the Reverse Merger, Old diaDexus obtained $23.4 million in cash and cash equivalents that were held by Pre-Merger VaxGen, but Old diaDexus also became part of a combined entity that is subject to significant liabilities under certain real estate leases and expenses relating to obligations as a public company. These additional expenses are reflected in our results of operations only from July 28, 2010, the closing date of the Reverse Merger.

 

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Table of Contents

diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

We entered into a loan agreement in September 2011. The agreement contains certain financial and non-financial covenants. If we fail to maintain compliance with the covenants, our future liquidity will be negatively impacted. In order to meet our future liquidity needs, we may become reliant on additional equity and/or debt financing. Additional funding may not be available when needed or on terms acceptable to us. Any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. We cannot assure you that we will be able to raise any such additional funding.

2. Summary of Significant Accounting Policies

The Company’s significant accounting policies are disclosed in the Company’s annual report on Form 10-K for the year ended December 31, 2010 filed with the SEC on March 22, 2011, and have not changed significantly as of September 30, 2011.

Recent Accounting Pronouncements

In May 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update, (“ASU”) No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in GAAP and IFRSs. This ASU represents the converged guidance of the FASB and the International Accounting Standards Board (“IASB”) on fair value measurement and is intended to result in common requirements for measuring fair value and for disclosing information about fair value measurements, including a consistent meaning of the term “fair value.” The amendments are to be applied prospectively and are effective for public entities during interim and annual periods beginning after December 15, 2011. Early application by public entities is not permitted. Inasmuch as the guidance is limited to enhanced disclosures, the adoption is not expected to have a material impact on our consolidated financial statements.

In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income. This ASU increases the prominence of other comprehensive income (“OCI”) in the financial statements and provides companies two options for presenting OCI, which until now has typically been placed within the statement of equity. One option allows an OCI statement to be included with the net income statement, and together the two will make a statement of total comprehensive income. Alternately, companies may present an OCI statement separate from the net income statement; however, the two statements will have to appear consecutively within a financial report. This ASU does not affect the types of items that are reported in OCI, nor does it affect the calculation or presentation of earnings per share. For public companies, this ASU is effective for periods beginning after December 15, 2011. The Company will adopt the OCI presentation requirements required by ASU No. 2011-05 beginning with its first quarter in 2012.

3. Cash, Cash Equivalents and Investments

As part of its cash management program, the Company maintains a portfolio of marketable investment securities that expire at various dates through February 8, 2013. The securities are investment grade and generally mature within one year and include tax exempt securities and certificates of deposit. The fair value of substantially all securities is determined by quoted market prices. The Company maintains its cash in bank accounts, which at times may exceed federally insured limits. The Company has not experienced any losses on such accounts. The Company considers all highly liquid investments purchased with an original maturity of three months or less at the time of purchase to be cash equivalents.

The following is a summary of cash, cash equivalents, and available-for-sale securities at September 30, 2011 and December 31, 2010 (in thousands):

 

     September 30, 2011  
     Cost Basis     

Unrealized

Gains

    

Unrealized

Losses

   

Estimated

Fair Value

 

Cash and cash equivalents:

          

Cash

   $ 5,879       $ —         $ —        $ 5,879   

Money market funds

     3,182         —           —          3,182   

Commercial paper

     1,000         —           —          1,000   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total cash and cash equivalents

   $ 10,061       $ —         $ —        $ 10,061   
  

 

 

    

 

 

    

 

 

   

 

 

 

Available-for-sale marketable securities:

          

Commercial paper

     3,643         7         —          3,650   

Corporate notes

     4,125         —           (10     4,115   

US government agency obligations

     2,011         —           (1     2,010   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total available-for-sale marketable securities

   $ 9,779       $ 7       $ (11   $ 9,775   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

 

     December 31, 2010  
     Cost Basis     

Unrealized

Gains

    

Unrealized

Losses

    

Estimated

Fair Value

 

Cash and cash equivalents:

           

Cash

   $ 393       $ —         $ —         $ 393   

Money market funds

     20,001         —           —           20,001   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total cash and cash equivalents

   $ 20,394       $ —         $ —         $ 20,394   
  

 

 

    

 

 

    

 

 

    

 

 

 

Fair Value Measurements

In accordance with ASC 820, the Company discloses and recognizes the fair value of its financial assets and liabilities using a hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The guidance establishes three levels of the fair value hierarchy as follows:

Level 1: Observable inputs, such as 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;

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.

The following table represents the Company’s fair value hierarchy for its financial assets (cash equivalents and investments) measured at fair value on a recurring basis as of September 30, 2011 and December 31, 2010 (in thousands):

 

            Fair Value Measurements  
     Balance at
September  30,
2011
     Quoted Prices
In  Active
Markets for
Identical  Assets
Level 1
     Significant
other
Observable
Inputs
Level 2
     Significant
Unobservable
Inputs
Level 3
 

Assets:

           

Cash

   $ 5,879       $ 5,879       $ —         $ —     

Money market funds

     3,182         3,182         —           —     

Commercial paper

     4,650         —           4,650         —     

Corporate notes

     4,115         —           4,115         —     

US government agency obligations

     2,010         —           2,010         —     

Restricted cash

     1,800         —           1,800         —     
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 21,636       $ 9,061       $ 12,575       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

 

 

            Fair Value Measurements  
     Balance at
December 31,
2010
     Quoted Prices
In  Active
Markets for
Identical  Assets
Level 1
     Significant
other
Observable
Inputs
Level 2
     Significant
Unobservable
Inputs
Level 3
 

Assets:

           

Cash

   $ 393       $ 393       $ —         $ —     

Money market funds

     20,001         20,001         —           —     

Restricted cash

     1,800         —           1,800         —     
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 22,194       $ 20,394       $ 1,800       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

4. Inventory

Inventory consists of the following (in thousands):

 

     September 30,
2011
     December 31,
2010
 

Finished goods

   $ 84       $ 68   

Work-in-process

     63         37   
  

 

 

    

 

 

 
   $ 147       $ 105   
  

 

 

    

 

 

 

5. Assets Held For Sale

As part of the Reverse Merger, which was completed on July 28, 2010, the Company acquired a group of assets used by Pre-Merger VaxGen in its manufacturing process. Prior to the Reverse Merger, VaxGen, Inc. had committed to a plan to sell the equipment related to its California manufacturing facility and had determined that these assets met the criteria for, and had been classified as, “held for sale” in accordance with ASC Topic 360. The market approach was used in determining the fair market value of these assets.

Total assets held for sale as of September 30, 2011 and December 31, 2010 are as follows (in thousands):

 

            Fair Value Measurements Using  

Description

   September 30,
2011
     Quoted
Prices in
Active
Markets for
Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
     Three Months
Ended
September 30,
2011
Gains
(Losses)
 

Assets held for sale

   $ 304       $       $ —         $ 304       $ 1   
            Fair Value Measurements Using  

Description

   December 31,
2010
     Quoted
Prices in

Active
Markets for
Identical
Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
     Period from
July 28, 2010
through
December 31,
2010 Total
Gains
(Losses)
 

Assets held for sale

   $ 308       $       $ —         $ 308       $ (2

The measurement of the assets held for sale fair value incorporated significant unobservable inputs as a result of a lack of any available observable market information to determine the fair value. The calculation of the fair value of assets held for sale used a market valuation technique that relied on Level 3 inputs, including quoted prices for similar assets. During the quarter ended September 30, 2011, the Company sold equipment with a fair value of $4,500 for $5,000 and recognized a $500 gain. There was no impairment charge for both the three and nine months ended September 30, 2011. Management is in the process of making a determination regarding the final disposition of the remaining assets.

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

6. Property, Plant and Equipment

Property and equipment are recorded at cost. Expenditures for major additions and improvements are capitalized, and maintenance and repairs are charged to expense as incurred. When property and equipment are retired or otherwise disposed of, the cost and accumulated depreciation are removed from the accounts and any resulting gain or loss is included in the results of operations for the respective period. Depreciation is provided over the estimated useful lives of the related assets using the straight-line method for financial statement purposes. The Company uses other depreciation methods for tax purposes where appropriate. The estimated useful lives for significant property and equipment categories are as follows:

 

Office and Laboratory equipment

     3 years   

Computer equipment and software

     3 years   

Leasehold improvements

     Lesser of term of lease agreement or economic lives of related assets   

The following is a summary of property and equipment at cost less accumulated depreciation as of September 30, 2011 and December 31, 2010 (in thousands):

 

     September 30,
2011
    December 31,
2010
 

Laboratory equipment

   $ 4,945      $ 4,560   

Leasehold improvements

     7,995        7,686   

Computer and software

     1,867        1,843   

Furniture and fixtures

     804        804   
  

 

 

   

 

 

 

Subtotal

     15,611        14,893   

Less: Accumulated depreciation and amortization

     (14,702     (14,313
  

 

 

   

 

 

 

Property and equipment, net

   $ 909      $ 580   
  

 

 

   

 

 

 

Depreciation and amortization expense was $0.1 million and $0.4 million for the three and nine months ended September 30, 2011, respectively, and $0.2 million and $0.7 million, respectively, for the same periods in 2010.

7. Total Accrued and Other Current Liabilities

Total accrued and other current liabilities include the following as of September 30, 2011 and December 31, 2010 (in thousands):

 

     September 30,
2011
     December 31,
2010
 

Accrued payroll and related expenses

   $ 1,516       $ 1,139   

Accrued legal and patent expense

     209         59   

Accrued royalty expense

     177         153   

Accrued sales tax

     176         26   

Lab equipment

     139         —     

Collaborative research obligations

     95         42   

Deferred sublease payment

     50         122   

Accrued consulting expenses

     71         109   

Other current liabilities

     336         280   
  

 

 

    

 

 

 

Total accrued and other current liabilities

   $ 2,769       $ 1,930   
  

 

 

    

 

 

 

 

12


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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

8. Concentration of Credit Risk

Revenues from the following four distributors and large laboratory customers represented a significant portion of total revenue for both the three and nine months ended September 30, 2011 and 2010 and accounts receivable as of September 30, 2011 and December 31, 2010:

 

     Revenue     Accounts Receivable  
    

Three Months Ended

September 30,

   

Nine Months Ended

September 30,

    September 30,     December 31,  
     2011     2010     2011     2010     2011     2010  

Customer A

     45     —       28     —       46     —  

Customer B

     20     43     30     28     —       26

Customer C

     10     8     10     7     20     14

Customer D

     9     17     12     21     21     27

9. Basic and Diluted Loss per Share

Basic net loss per common share is based on the weighted average number of common shares outstanding during the period. Diluted net loss per common share is based on the weighted average number of common shares and other dilutive securities outstanding during the period, provided that including these dilutive securities does not increase the net loss per share.

The effect of the options and warrants was anti-dilutive for both the three and nine months ended September 30, 2011 and 2010. The following table shows the total outstanding securities considered anti-dilutive and therefore, excluded from the computation of diluted net loss per share (in thousands):

 

     As of September 30,  
     2011      2010  

Options to purchase common stock

     8,528         6,541   

Warrants to purchase common stock

     485         1,418   
  

 

 

    

 

 

 

Total

     9,013         7,959   
  

 

 

    

 

 

 

Comprehensive loss for the Company for the three and nine months ended September 30, 2011 was $1.4 million and $6.4 million, respectively, and $2.8 million and $6.4 million, respectively, for the same periods in 2010.

10. Common Stock

On July 15, 2011, the Company amended its certificate of incorporation to increase the number of authorized shares of its common stock, par value of $0.01 per share, to 100,000,000. The holders of common stock are entitled to receive dividends, as, when and if declared by the Company’s Board of Directors out of funds legally available for distribution, subject to the restriction on dividends contained in the Company’s loan agreement with Comerica Bank (Note 13).

11. Stock Based Compensation

Stock Option Plans

Pre-Reverse Merger

The Company’s Board of Directors adopted the 2000 Equity Incentive Plan (the “2000 Plan”) and reserved a total of 25,709,911 shares of the Company’s Common Stock for issuance thereunder, of which 2,200,000 shares were converted from the 1997 Incentive Plan (“1997 Plan”). These shares of the Company’s Common Stock were reserved for issuance to employees and consultants of the Company. The Board of Directors has the authority to determine to whom options will be granted, the number of shares, and the term and exercise price (which cannot be less than the estimated fair value at date of grant for incentive stock options or 85% of the estimated fair value for nonstatutory stock options).

In January 2010, the Company’s Board of Directors adopted the 2010 Equity Incentive Plan (the “2010 Plan”) and reserved a total of 23,163,326 shares of the Company’s Common Stock for issuance under the 2010 Plan, under which 15,435,189 of these shares were converted from the 2000 Plan. These shares of the Company’s Common Stock were reserved for issuance to employees and consultants of the Company.

Options generally vested 25% after one year, with 1/48 of the shares subject to an option vesting on each monthly anniversary of the vesting commencement date thereafter. The maximum term of an option grant could not exceed 10 years. If an employee owned stock representing more than 10% of the outstanding shares, the price of each share was required to be at least 110% of estimated fair value.

As of the closing of the Reverse Merger, the 2000 Plan and the 2010 Plan were both discontinued and all outstanding option grants under the 2000 Plan and 2010 Plan were cancelled.

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

Post-Reverse Merger

Following the closing of the Reverse Merger, the Company had the following stock option plans:

1996 Stock Option Plan

The 1996 Stock Option Plan (the “Plan”) initially had 4,750,000 shares of common stock authorized for issuance and a provision that automatically increased this number by 3.5% of the issued and outstanding common stock on the last trading day of the December immediately preceding each fiscal year through January 2007. Options granted under the Plan may be designated as qualified or nonqualified at the discretion of the Compensation Committee of the Board of Directors. Generally, shares issuable upon exercise of options vest ratably over four years, beginning one year from the date of grant; however, options can vest upon grant. All options expire no later than 10 years from the date of grant. Qualified stock options are exercisable at not less than the fair market value of the stock at the date of grant, and nonqualified stock options are exercisable at prices determined at the discretion of the Board of Directors, but not less than 85% of the fair market value of the stock at the date of grant.

Following the Reverse Merger, existing employees were granted new options under the Plan based on their pre-Reverse Merger option grant proportions and vested options under the cancelled Old diaDexus 2000 Plan and 2010 Plan. As of September 30, 2011, options for 6,797,615 shares were outstanding and 1,156,781 shares were available for grant under the Plan.

1998 Director Stock Option Plan

The 1998 Director Stock Option Plan (the “Director Plan”) for non-employee directors has 300,000 shares of common stock authorized for issuance. All grants under this plan were suspended in 2005. As of September 30, 2011, options for 170,000 shares were outstanding.

The following is a summary of the Company’s stock option activity and related information for the period ended September 30, 2011:

Valuation Assumptions

The compensation expense related to stock options recognized was determined using the Black-Scholes option valuation model. Option valuation models require the input of subjective assumptions and these assumptions can vary over time. The weighted average assumptions used were as follows:

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Dividend yield

     0.0     0.0     0.0     0.0

Risk-free interest rate

     0.64     0.97     0.75     1.30

Expected volatility

     93.93     94.00     93.50     81.45

Forfeiture rate

     11.57     12.65     11.57     12.65

Expected term (years)

     4.27        4.20        4.27        4.20   

Fair value per share at grant date

   $ 0.18      $ 0.17      $ 0.19      $ 0.13   

The expected stock price volatility assumption was determined by examining the historical volatilities for industry peers, as the Company did not have sufficient trading history for the Company’s common stock. The Company will continue to analyze the historical stock price volatility and expected term assumption as more historical data for the Company’s common stock becomes available. The risk-free interest rate assumption is based on the U.S. Treasury instruments whose term was consistent with the expected term of the Company’s stock options. The expected dividend assumption is based on the Company’s history and expectation of dividend payouts. Different estimates of volatility and expected term could materially change the value of an option and the resulting expense. The expected term of stock option represents the weighted-average period the stock options are expected to remain outstanding and is based on the options vesting terms, contractual terms and historical information to develop reasonable expectations about future exercise patterns and post-vesting employment termination behavior.

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

The following table summarizes stock compensation expense related to employee stock options and employee stock based compensation for the three and nine months ended September 30, 2011 and 2010, which was incurred as follows: (in thousands)

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Stock compensation expense:

           

Product costs

   $ 1       $ 15       $ 7       $ 16   

Research and development

     38         111         81         123   

Sales and marketing

     14         115         40         132   

General and administrative

     102         291         489         315   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total stock compensation expense

   $ 155       $ 532       $ 617       $ 586   
  

 

 

    

 

 

    

 

 

    

 

 

 

Employee Stock-Based Compensation

The table below presents information related to stock option activity under the Plan, net of options previously exercised, as follows:

 

     Number of
Options
Outstanding
    Weighted-
Average
Exercise
Price
     Weighted-
Average
Remaining
Contractual
Term
(In years)
     Aggregate
Intrinsic
Value
 

Outstanding at December 31, 2010

     6,948,517      $ 0.90         

Options granted

     3,086,347        0.28         

Options exercised

     —          —           

Options cancelled/forfeited/expired

     (1,507,249     1.92         
  

 

 

   

 

 

    

 

 

    

 

 

 

Outstanding at September 30, 2011

     8,527,615      $ 0.50         6.44       $ 15,420   
  

 

 

   

 

 

    

 

 

    

 

 

 

Exercisable at September 30, 2011

     4,428,904      $ 0.70         3.55       $ —     
  

 

 

   

 

 

    

 

 

    

 

 

 

Vested and expected to vest at September 30, 2011

     7,890,871      $ 0.51         6.18       $ 12,092   
  

 

 

   

 

 

    

 

 

    

 

 

 

The aggregate intrinsic value of stock options exercisable at September 30, 2011 was $0 and the aggregate intrinsic value of stock options outstanding was $15,000.

The following table summarizes information relating to stock options outstanding as of September 30, 2011:

 

     Options Outstanding      Options Exercisable  
Range of Exercise Price    Number
Outstanding
     Weighted
Average
Remaining
Contractual
Life
(In Years)
     Weighted
Average
Exercise
Price
     Number
Exercisable
     Weighted
Average
Exercise
Price
 

$0.25 - $0.25

     1,542,000         9.99       $ 0.25         —         $ —     

$0.26 - $0.26

     5,063,127         4.44         0.26         3,909,991         0.26   

$0.29 - $0.29

     1,257,488         9.86         0.29         218,913         0.29   

$0.33 - $0.39

     465,000         9.25         0.37         100,000         0.33   

$4.57 - $4.57

     50,000         1.80         4.57         50,000         4.57   

$7.74 - $7.74

     40,000         0.66         7.74         40,000         7.74   

$8.74 - $8.74

     20,000         2.14         8.74         20,000         8.74   

$12.27 - $12.27

     30,000         3.06         12.27         30,000         12.27   

$14.30 - $14.30

     20,000         1.35         14.30         20,000         14.30   

$15.71 - $15.71

     40,000         2.65         15.71         40,000         15.71   
  

 

 

          

 

 

    

$0.26 - $15.71

     8,527,615         6.44       $ 0.50         4,428,904       $ 0.70   
  

 

 

          

 

 

    

The estimated fair value of grants of stock options to non-employees of the Company is charged to expense in the financial statements. These options generally vest monthly over one year.

 

15


Table of Contents

diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

Stock based compensation expense recognized during both the three and nine months ended September 30, 2011 and 2010 includes compensation expense for stock based awards granted to employees based on the grant date fair value estimated in accordance with the provisions of ASC 718. As of September 30, 2011, the total remaining unrecognized cost was approximately $0.8 million to be recognized over the next 2.76 years.

Shares Reserved for Future Issuance

The Company had reserved shares of common stock for future issuance at September 30, 2011 and 2010 as follows:

 

     As of September 30,  
     2011      2010  

Options to purchase common stock

     8,527,615         6,540,527   

Warrants to purchase common stock

     484,769         1,417,984   

Shares available for option grants

     1,286,781         1,413,869   
  

 

 

    

 

 

 

Total

     10,299,165         9,372,380   
  

 

 

    

 

 

 

In October 2004, Pre-Merger VaxGen granted stock options for 30,000 shares outside the approved plans to a new director with an exercise price of $12.27 per share. These options were granted without stockholder approval, but pursuant to NASDAQ Marketplace Rules then applicable to Pre-Merger VaxGen on terms that are substantially in accordance with Pre-Merger VaxGen’s standard stock option terms. As of September 30, 2011, none of these stock options have been exercised or repurchased.

In September 2011, the Company granted stock options for 1,530,000 shares outside the approved plans to the Chief Executive Officer with an exercise price of $0.25 per share. These options were granted without stockholder approval but the terms are substantially in accordance with the Company’s standard stock option terms. As of September 30, 2011, none of these stock options have been exercised or repurchased.

12. Stock Warrants

The Company issues warrants to investors as part of its overall financing strategy. In connection with the loan and security agreement the Company entered into with Comerica Bank (Note 13) in September 2011, the Company issued a warrant to purchase 480,769 shares of the Company’s common stock, at an exercise price of $0.26 per share. The warrant expires in September 2018. The initial fair value of the warrant was calculated using the Black-Scholes option pricing model and the following assumptions: volatility of 88.03%, risk-free interest rate of 1.36%, exercise price of $0.26 and an expected life of 7 years. The fair value of the warrant was determined to be $94,000 and was recorded as equity in additional paid-in-capital and a discount to the carrying value of the loan. The discount is being amortized to interest expense using the effective interest rate method over the 48-month term of the loan.

As of September 30, 2011, there were warrants outstanding to purchase 484,769 shares of the Company’s common stock, with a weighted average exercise price of $0.42 per share and an aggregate exercise price of $0.2 million.

The following table summarizes information about all callable warrants outstanding as of September 30, 2011:

 

     Warrants Outstanding      Warrants Exercisable  
Range of Exercise Price    Number
Outstanding
     Weighted
Average
Remaining
Contractual
Life (In Years)
     Weighted
Average

Exercise
Price
     Number
Exercisable
     Weighted
Average
Exercise
Price
 

$0.26 - $0.26

     480,769         6.99       $ 0.26         480,769       $ 0.26   

$20.25 - $20.25

     4,000         0.12       $ 20.25         4,000       $ 20.25   
  

 

 

          

 

 

    
     484,769         6.93       $ 0.42         484,769       $ 0.42   
  

 

 

          

 

 

    

 

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Table of Contents

diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

13. Leases, Commitments and Contingencies

Lease Commitments

The Company leases certain office facilities under long-term, non-cancelable operating lease agreements. The operating leases expire at various dates through 2016. The Company subleases a portion of one of its leased facilities on a month-to-month arrangement, with the underlying lease expiring on January 1, 2012.

As part of the Reverse Merger completed on July 28, 2010, the Company recorded the lease obligation associated with the Pre-Merger VaxGen facility located at 349 Oyster Point Blvd., South San Francisco, California, which contained a lease payment that exceeded current market rates. Accordingly, the Company recognized a $4.1 million unfavorable lease obligation, included in the accompanying balance sheet. We amortize the unfavorable lease obligation using the effective interest rate method.

Rent expense for our office facilities was $798,000 and $2.3 million for the three and nine months ended September 30, 2011, respectively, and $754,000 and $1.5 million for the three and nine months ended September 30, 2010, respectively. The terms of the facility lease provide for rental payments on a graduated scale. The Company recognizes rent expense on a straight-line basis over the lease period. Deferred rent of $233,000 and $155,000 at September 30, 2011 and December 31, 2010, respectively, is included in the accompanying balance sheet.

Rental income from the sublease was $151,000 and $809,000 for the three and nine months ended September 30, 2011, respectively, and $357,000 and $1.1 million for the three and nine months ended September 30, 2010, respectively. This has been included as a reduction to operating expenses in the statement of operations.

Future minimum annual lease payments under non-cancelable operating leases are as follows (in thousands):

 

     Operating
Leases
 

2011(1)

     799   

2012

     2,433   

2013

     2,505   

2014

     2,581   

2015

     2,658   

Thereafter

     2,738   
  

 

 

 

Total minimum lease payments

   $ 13,714   
  

 

 

 

 

(1) For the three months ending December 31, 2011

On November 2, 2010, the Company received a letter from the landlord of the facility located at 349 Oyster Point Blvd., South San Francisco, California, which is leased by the Company pursuant to a lease agreement entered into by Pre-Merger VaxGen. The letter asserts claims in writing against the Company that, among other things, the Company failed to provide it with required notice of the Reverse Merger and requests that the Company establish an escrow to fund remaining sums due under the lease. The Company believes that these claims are without merit and will vigorously resist any request for an escrow or other special consideration not required under the terms of the lease. However, we cannot assure you that the landlord will not commence legal proceedings against us relating to this lease.

Notes Payable

In September 2011, the Company entered into a loan and security agreement with Comerica Bank to borrow up to $5,000,000, the entire amount of which was borrowed at a rate of 5.25% per annum. The loan is payable in 36 monthly installments which begin in October 2012, with interest only payments being made from October 2011 to September 2012. The Company paid an initial fee of $25,000 for access to this loan and will be required to pay an additional fee of $100,000 following repayment of the loan. The Company may prepay all, but not less than all, of the loaned amount with 30 days advance notice to Comerica Bank. If the loan is prepaid prior to September 24, 2012, the Company will be obligated to pay an additional prepayment fee equal to 1% of the principal amount prepaid. In connection with the loan, the Company issued a warrant to Comerica Bank to purchase 480,769 shares of the Company’s common stock (Note 12).

The term loan is secured by a first priority security interest on all of the Company’s assets excluding the Company’s intellectual property (except for rights to payment related to the sale, licensing or disposition of such intellectual property rights) and property not assignable without consent by a third party or with respect to which granting a security interest is contrary to law. In addition, the Company has agreed not to sell, assign, transfer, pledge or otherwise encumber its intellectual property to another entity without Comerica Bank’s approval or consent, subject to certain exceptions.

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

The loan and security agreement contains customary representations and warranties, covenants, events of defaults and termination provisions. The affirmative covenants include, among other things, that the Company timely file taxes, maintain good standing and government compliance, achieve at least 80% of specified monthly revenue projections calculated on a trailing three months basis, maintain primary depository and operating accounts with Comerica Bank, maintain liability and other insurance, and provide security interests to Comerica Bank in the collateral of any subsidiary formed or acquired by the Company in the future. The negative covenants provide, among other things, that without the prior consent of Comerica Bank, the Company may not dispose of certain assets, engage in certain business combinations or acquisitions, incur additional indebtedness or encumber any of the Company’s property (subject to certain exceptions), pay dividends on the Company’s capital stock or make prohibited investments. The loan and security agreement provides that an event of default will occur if, among other triggers, (1) the Company defaults in the payment of any amount payable under the agreement when due, (2) there occurs any circumstance or circumstances that could reasonably be expected to result in a material adverse effect on the Company’s business, operations or condition, or on the Company’s ability to perform its obligations under the agreement, (3) the Company becomes insolvent, (4) the Company undergoes a change in control or (5) the Company breaches any negative covenants or certain affirmative covenants in the agreement or, subject to a cure period, otherwise neglects to perform or observe any material item in the agreement. The repayment of the term loan may be accelerated, at the option of Comerica Bank, following the occurrence of an event of default, which would require the Company to pay to Comerica Bank an amount equal to the sum of: (i) all outstanding principal plus accrued interest, (ii) the final payment, plus (iii) an early payment fee equal to 1% of the principal amount then required to be paid if such repayment is required prior to September 24, 2012, plus (iv) all other sums, that shall have become due and payable but have not been paid, including interest at the default rate with respect to any past due amounts. As of September 30, 2011, the Company was in compliance with all the covenants.

Future minimum payments for the notes payable are as follows (in thousands):

 

2011

   $ 66   

2012

     682   

2013

     1,870   

2014

     1,781   

2015

     1,378   
  

 

 

 

Total minimum payments

     5,777   

Less: Amount representing interest

     (777
  

 

 

 

Present value of minimum payments

   $ 5,000   

Less: Unamortized discount from warrants and issuance cost

     (112
  

 

 

 

Notes payable, net

   $ 4,888   
  

 

 

 

Legal Proceedings

The Company is from time to time subject to various claims and legal actions during the ordinary course of business. The Company believes that there are currently no claims or legal actions that would reasonably be expected to have a material adverse effect on its results of operations or financial condition.

14. Income Taxes

Provision for Income Tax

The Company’s effective tax rate was 0% for income tax for both the three and nine months ended September 30, 2011 and the Company expects that its effective tax rate for the full year 2011 will be 0%. Based on the weight of available evidence, including cumulative losses since inception and expected future losses, the Company has determined that it is more likely than not that the deferred tax asset amount will not be realized and therefore a valuation allowance has been provided on net deferred tax assets.

Under the provisions of Section 382 and 383 of the Internal Revenue Code, a change of control, as defined, may impose an annual limitation on the amount of the Company’s net operating loss and tax credit carryforwards, and other tax attributes, that can be used to reduce future tax liabilities. As a result of the Reverse Merger, certain of the Company’s Old diaDexus tax attributes prior to the Reverse Merger are subject to an annual limitation of $240,000 for federal and state purposes.

The Company files U.S. federal and California state tax returns. The Company is currently not subject to any income tax examinations. Due to the Company’s losses, generally all years remain open.

 

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diaDexus, Inc.

Notes to Condensed Consolidated Financial Statements—continued

(Unaudited)

 

Uncertain Tax Positions

Effective January 1, 2009, the Company adopted ASC 740-10, which requires that the Company recognize the financial statement effects of a tax position when it becomes more likely than not, based upon the technical merits, that the position will be sustained upon examination. The gross amount of unrecognized tax benefits as of September 30, 2011 was $1.7 million, all of which will not affect the effective tax rate if recognized due to valuation allowance. The Company does not expect any material changes in the next 12 months in unrecognized tax benefits.

The Company recognizes interest and/or penalties related to uncertain tax positions. To the extent accrued interest and penalties do not ultimately become payable, amounts accrued will be reduced and reflected in the period that such determination is made. $398,000 of interest and penalties accrued for ASC 740-10 as interest expense has been reversed due to the expiration of the statute of limitations on September 15, 2011. As such, the related interest expense is now $0. The interest and penalties are recognized as a reduction to interest expense and not tax expense in the current period.

15. Related Party Transaction

In September 2011, the Company entered into a consulting agreement with director James Panek to perform consulting services for the Company. Under the agreement, the Company will pay $15,000 on or about October 17, 2011 and $15,000 following completion of the Company’s move to new office space.

16. Subsequent Events

On October 1, 2011, the Company granted stock options for 1,130,000 shares outside the approved plans to our incoming Chief Business Officer with an exercise price of $0.26 per share. These options were granted without stockholder approval, but the terms are substantially in accordance with the Company’s standard stock option terms.

 

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Item  2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Special Note Regarding Forward - Looking Statements

This discussion and analysis should be read in conjunction with our unaudited consolidated financial statements and related notes thereto appearing in Part I, Item 1 of this Quarterly Report on Form 10-Q and the risk factors described in Part II, Item 1A of this Quarterly Report.

This Quarterly Report includes “forward-looking statements” that are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Certain forward-looking statements can be identified by words such as “may,” “will,” “expects,” “plans,” “anticipates,” “intends,” “believes,” “could” or “would” or the negative thereof or other comparable terminology. All statements other than statements of historical fact are “forward-looking statements” for purposes of these provisions, including any statements of the plans and objectives of management, any statements regarding future operations, any statements regarding future economic conditions or performance and any statement of assumptions underlying any of the foregoing.

Forward-looking statements are based on our current expectations and assumptions regarding our business, the economy, and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks, and changes in circumstances that are difficult to predict. Our actual results may differ materially from those contemplated by the forward –looking statements. They are neither statements of historical fact nor guarantees or assurances of future performance. We caution you therefore against relying on any of these forward-looking statements. Important factors that could cause actual results to differ materially from those in the forward-looking statements include, but are not limited to, the following:

 

   

our ability to maintain regulatory clearance for and successfully commercialize our PLAC Test;

 

   

our ability to submit a new 510(k) application for, and obtain FDA clearance of, our new automated Lp-PLA2 activity assay;

 

   

our ability to retain our CEO and other key employees, to hire and retain a chief financial officer and to attract, retain and motivate other qualified personnel;

 

   

our relationship with key customers;

 

   

our reliance on sole source third party manufacturers to manufacture and supply our main reagent and our PLAC Test;

 

   

the effects of government regulation and our ability to comply with such regulations;

 

   

our ability to demonstrate that treatment of individuals based on their Lp-PLA2 levels improves clinical outcomes in prospective clinical studies;

 

   

the rate of adoption of the PLAC Test by doctors and laboratories;

 

   

third party payors’ acceptance of and reimbursement for the PLAC Test;

 

   

downward pressure on our product pricing, particularly from our largest customers;

 

   

our limited revenue and cash resources;

 

   

the adequacy of our intellectual property rights;

 

   

our significant corporate expenses, including real estate lease liabilities and expenses associated with being a public company; and

 

   

the other risks described below in Part II, Item 1A (“Risk Factors”).

Any forward-looking statement included in this Quarterly Report speaks only as of the date hereof. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to update any such forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.

 

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Background

As described above, on July 28, 2010, we closed the Reverse Merger. As of July 28, 2010, after giving effect to the Reverse Merger and the issuance of VaxGen, Inc. common stock to certain employees of Old diaDexus, we had 53,067,057 shares of common stock issued and outstanding, with the former holders of Old diaDexus Series F Preferred Stock and the former employees of Old diaDexus collectively owning approximately 38%, and the Pre-Merger VaxGen stockholders owning approximately 62%, of the outstanding common stock of the Company.

The Reverse Merger has been accounted for as a reverse acquisition. As such, the financial statements of Old diaDexus are treated as the historical financial statements of the Company, with the results of VaxGen, Inc. being included from July 28, 2010. Immediately following the closing of the Reverse Merger, Old diaDexus designees to the Company’s Board of Directors represented a majority of the Company’s directors, Old diaDexus’ senior management represented the entire senior management of the Company and the operations formerly conducted by Old diaDexus were the sole revenue producing operations as well as the only continuing development effort of the Company. For periods prior to the closing of the Reverse Merger, therefore, our discussion below relates to the historical business and operations of Old diaDexus. Certain portions of this Quarterly Report on Form 10-Q may contain information that relates to Pre-Merger VaxGen’s previous operations, which are no longer material to our business. Any comparison of Pre-Merger VaxGen’s revenues and operations with those of the Company may not be helpful to an understanding of the Company’s results for both the three and nine months ended September 30, 2011 or future periods.

On November 1, 2010, VaxGen, Inc. merged Merger Sub II with and into VaxGen, Inc., with VaxGen, Inc. being the surviving entity in the merger, and VaxGen, Inc. changed its name to diaDexus, Inc. pursuant to a merger effected under Section 253 of the Delaware General Corporation Law.

Overview

We are a life sciences company focused on the development and commercialization of patent-protected in vitro diagnostic products addressing unmet needs in cardiovascular disease. We are the successor to a company initially formed as a joint venture between SmithKline Beecham Corporation (now GlaxoSmithKline) and Incyte Pharmaceuticals, Inc. Upon formation, SmithKline Beecham Corporation granted the company an exclusive license to certain diagnostic intellectual property, including Lp-PLA2, an inflammatory marker of cardiovascular risk.

The diaDexus PLAC Test for Lp-PLA2 provides new information, over and above traditional risk factors, to help identify individuals at increased risk of suffering a heart attack or stroke. Some of these events may be reduced with earlier detection and more aggressive risk-reducing strategies, including treatment to lower LDL-cholesterol goals with statins. We have commercialized two formats of the PLAC Test, an enzyme-linked-immunosorbent serologic assay (ELISA) product and a turbidimetric immunoassay (TIA) product.

On May 10, 2010, we removed our PLAC TIA Test from the market in order to address heterophilic interference observed in the PLAC TIA product. On June 30, 2010, we submitted a premarket notification to the FDA seeking clearance under Section 510(k) of the FDCA to market an enhanced PLAC TIA product that addresses the heterophilic interference observed in the suspended PLAC TIA product. On January 6, 2011, the FDA informed the Company that it was cleared for marketing the enhanced version of its proprietary PLAC TIA Test. The Company has not yet reintroduced the product to the market as it is investigating manufacturing issues that appear to be affecting its performance and stability. The Company has been successful to date in referring or converting many PLAC TIA customers to those laboratories capable of using the PLAC ELISA Test.

On June 17, 2011, we submitted a premarket notification to the FDA seeking clearance under Section 510(k) of the FDCA to market a new automated Lp-PLA2 activity assay. This new assay measures the activity of the Lp-PLA2 enzyme in the blood, while the currently marketed PLAC Test utilizes an ELISA method that measures the concentration of the enzyme. The Lp-PLA2 activity assay is capable of running on automated, high throughput clinical chemistry analyzers unlike the current ELISA test. Future commercialization of an assay capable of running on automated, high throughput clinical chemistry analyzers may be important for the expansion of the PLAC Test market and revenue growth. On October 24, 2011, we elected to withdraw this application following discussions with the FDA. We plan to develop a new submission. We have identified completed clinical trials from which blood samples of patient cohorts may be obtained and then tested to demonstrate the effectiveness of the new automated Lp-PLA2 activity assay. We are in discussions with the FDA on the appropriateness of utilizing these trials.

 

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We have undergone a senior management transition in the past several months. Patrick Plewman resigned as our President and Chief Executive Officer and as a director of the Company effective as of July 1, 2011, David J. Foster resigned as our Executive Vice President and Chief Financial Officer effective as of July 7, 2011, Robert L. Wolfert, Ph.D. resigned as our Executive Vice President and Chief Scientific Officer effective as of October 1, 2011, and Bernard M. Alfano resigned as our Executive Vice President and Chief Commercial Officer effective as of October 1, 2011. Effective as of July 1, 2011, our Board of Directors appointed director James P. Panek to serve as our interim President and Chief Executive Officer and director Brian E. Ward, Ph.D. to serve as our interim Chief Operating Officer. Effective as of September 26, 2011, our Board of Directors appointed Brian E. Ward, Ph.D. to serve as our President and Chief Executive Officer and, effective as of October 1, 2011, our Board of Directors appointed Robert Michael Richey to serve as our Chief Business Officer. We are currently conducting a search for a new Chief Financial Officer.

We have incurred substantial losses since our inception, and we expect to continue to incur substantial net losses for at least the next few years. To date, we have funded our operations primarily through private placements of preferred stock and debt financing, as well as through revenue generated from the sale of our products. As a result of the Reverse Merger, Old diaDexus obtained $23.4 million in cash and cash equivalents that were held by Pre-Merger VaxGen, but Old diaDexus also became part of a combined entity that is subject to significant liabilities under certain real estate leases and expenses relating to obligations as a public company. These additional expenses are reflected in our results of operations only from July 28, 2010, the closing date of the Reverse Merger.

We entered into a loan agreement in September 2011. The agreement contains certain financial and non-financial covenants. Our future liquidity requirements may increase beyond currently expected levels if we fail to maintain compliance with such covenants. In order to meet our future liquidity needs, we may become reliant on additional equity and/or debt financing. Additional funding may not be available when needed or on terms acceptable to us. Any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. We cannot assure you that we will be able to raise any such additional funding.

Critical Accounting Policies and Estimates

The preparation of our Condensed Consolidated Financial Statements and related disclosures in conformity with generally accepted accounting principles in the United States (“GAAP”) requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. These estimates, judgments and assumptions are based on historical experience and on various other factors that we believe are reasonable under the circumstances. We periodically review our estimates and make adjustments when facts and circumstances dictate. To the extent that there are material differences between these estimates and actual results, our financial condition or results of operations will be affected.

Critical accounting estimates, as defined by the Securities and Exchange Commission (“SEC”), are those that are most important to the portrayal of our financial condition and results of operations and require our management’s most difficult and subjective judgments and estimates of matters that are inherently uncertain. The accounting policies and estimates that we consider to be critical, subjective, and requiring judgment in their application are summarized in “Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2010 filed with SEC on March 22, 2011. There have been no significant changes to the accounting policies and estimates disclosed in our Form 10-K.

Results of Operations

For the Three and Nine Months Ended September 30, 2011 and 2010.

Revenues

 

     Three Months  Ended
September 30,
     %  Increase
(Decrease)
    Nine Months  Ended
September 30,
     %  Increase
(Decrease)
 
     2011      2010      2010 to 2011     2011      2010      2010 to 2011  
     (in thousands)            (in thousands)         

Revenues:

                

License revenue

   $ 76       $ 76         0   $ 229       $ 229         0

Royalty revenue

     914         882         4     2,863         2,627         9

Product sales

     3,206         2,014         59     8,092         5,074         59

Product sales to related party

     161         181         (11 )%      321         521         (38 )% 
  

 

 

    

 

 

      

 

 

    

 

 

    

Total net revenues

   $ 4,357       $ 3,153         38     11,505       $ 8,451         36
  

 

 

    

 

 

      

 

 

    

 

 

    

 

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Revenues by geography are based on the billing address of the customer. The following table sets forth revenues by geographic area (in thousands):

 

     Three months  ended
September 30,
     Nine months  ended
September 30,
 
     
     2011      2010      2011      2010  

United States

   $ 4,320       $ 3,121       $ 11,354       $ 8,291   

Europe

     32         32         114         148   

Rest of the world

     5         0         37         12   
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 4,357       $ 3,153       $ 11,505       $ 8,451   
  

 

 

    

 

 

    

 

 

    

 

 

 

Over 98% of our revenues were from the US geographic area for both the three and nine months ended September 30, 2011 and 2010.

Revenues are generated from licensing fees, royalties earned, product sales, and contract arrangements. We classify our sales to GlaxoSmithKline as sales to related party. The accounting classification of revenue between royalties and product sales relates to the alternate sales channels used by the Company, and as such, we believe that operating performance is most effectively evaluated by examining total net revenues. Total net revenues were $4.4 million and $11.5 million for the three and nine months ended September 30, 2011, respectively, compared to $3.2 million and $8.5 million for the three and nine months ended September 30, 2010, respectively.

The increase in net revenues reflects an increased demand for our PLAC ELISA product offset by the loss of some smaller customers due to the suspension of our TIA product in May 2010, and a decline in average sales price for our product. The decrease in product sales to related party is attributable to a planned reduction in purchases based on the related party’s internal projects.

Our top four distributor and large laboratory customers accounted for 84% and 80% of our net revenues for the three and nine months ended September 30, 2011, respectively, compared to 68% and 56% for both the three and nine months ended September 30, 2010. Because of this customer concentration and the timing of orders from these customers, our quarterly revenue may fluctuate materially. Our largest customers are able to exert greater influence over our product pricing, which has led to a decline in average sales price in recent quarters. Such downward pressure on our pricing has the potential to continue.

In May 2010, we removed our PLAC TIA Test from the market in order to address a heterophilic interference product performance issue. On September 30, 2010, we submitted a premarket notification to the FDA seeking clearance under Section 510(k) of the FDCA to market an enhanced PLAC TIA product. On January 6, 2011, the FDA informed us that we were cleared for marketing the enhanced PLAC TIA product. The Company has not yet reintroduced the product to the market as it is investigating manufacturing issues that appear to be affecting its performance and stability, but we have been successful to date in referring or converting many of our PLAC TIA customers to those laboratories capable of using the PLAC ELISA Test.

Product Costs

 

     Three Months Ended
September 30,
     %  Increase
(Decrease)
    Nine Months Ended
September 30,
     %  Increase
(Decrease)
 
     2011      2010      2010 to 2011     2011      2010      2010 to 2011  
     (in thousands)            (in thousands)         

Product costs

     1,439         1,135         27     3,776         3,382         12

Product costs include our expenditures for cost of goods, manufacturing support, product supplies, quality control, personnel expenses and overhead allocations. Product costs increased $304,000, or 27% to $1.4 million for the three months ended September 30, 2011 compared to $1.1 million for the three months ended September 30, 2010. This increase primarily reflects an increase in product-related materials and supplies costs of approximately $245,000, severance costs of $42,000 and an increase in personnel costs of approximately $13,000.

Product costs increased $394,000, or 12%, to $3.8 million for the nine months ended September 30, 2011 compared to $3.4 million for the nine months ended September 30, 2010. The increase primarily reflects an increase in product-related materials and supplies costs of approximately $571,000, an increase in personnel costs of approximately $176,000 due to higher headcount to support increased production activities, and severance costs of $42,000. This increase was partially offset by an inventory write-off and other expenses related to the suspension of the PLAC TIA product of approximately $350,000 incurred for the nine months ended September 30, 2010.

Sales and Marketing Expenses

 

     Three Months Ended
September 30,
     %  Increase
(Decrease)
    Nine Months Ended
September 30,
     %  Increase
(Decrease)
 
     2011      2010      2010 to 2011     2011      2010      2010 to 2011  
     (in thousands)            (in thousands)         

Sales and marketing expenses

     1,207         1,384         (13 )%      3,291         4,036         (18 )% 

 

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Sales and marketing expenses include our expenditures on customer support, medical and other consultant fees, marketing programs and materials, and personnel expenses. Sales and marketing expenses decreased $177,000, or 13%, to $1.2 million for the three months ended September 30, 2011 compared to $1.4 million for the three months ended September 30, 2010. The decrease primarily reflects reductions in personnel expenses of approximately $287,000 due to lower headcount, in marketing program expenses of approximately $45,000, in office costs of approximately $23,000 and in travel expenses of approximately $14,000, primarily as a result of the suspension of our PLAC TIA product in May 2010. This decrease was partially offset by severance costs of approximately $192,000 incurred in connection with the departure of our former Chief Commercial Officer.

Sales and marketing expenses decreased $745,000, or 18%, to $3.3 million for the nine months ended September 30, 2011 compared to $4.0 million for the nine months ended September 30, 2010. The decrease primarily reflects reductions in personnel expenses of approximately $425,000 due to lower headcount, in marketing program and materials costs of approximately $247,000, in office costs of approximately $148,000 and in travel expenses of approximately $117,000, primarily as a result of the suspension of our PLAC TIA product in May 2010. This decrease was partially offset by severance costs of approximately $192,000 incurred in connection with the departure of our former Chief Commercial Officer.

We expect to identify and hire additional personnel to staff our sales and marketing department as we develop and commercialize new products to maintain and expand our position in the market for diagnostics in cardiovascular disease.

Research and Development Expenses

 

     Three Months  Ended
September 30,
     %  Increase
(Decrease)
    Nine Months  Ended
September 30,
     %  Increase
(Decrease)
 
     2011      2010      2010 to 2011     2011      2010      2010 to 2011  
     (in thousands)            (in thousands)         

Research and development expenses

     1,449         1,604         (10 )%      4,215         3,584         18

Research and development expenses include costs related to product development, regulatory support of our technology and other technical support costs, including salaries and consultant fees. Research and development expenses decreased $155,000, or 10%, to $1.5 million for the three months ended September 30, 2011 compared to $1.6 million for the three months ended September 30, 2010. This decrease primarily reflects a reduction in expenses related to development of enhanced PLAC TIA of approximately $377,000, and a decrease in personnel costs of approximately $47,000. The decrease was partially offset by severance costs of approximately $185,000 in connection with the departure of our former Chief Scientific Officer and the termination of an expense reimbursement in 2010 from a third party of approximately $84,000.

Research and development expenses increased $631,000, or 18%, to $4.2 million for the nine months ended September 30, 2011 compared to $3.6 million for the nine months ended September 30, 2010. This increase primarily reflects increase in personnel costs of approximately $505,000 due to expansion of development support for PLAC products and Activity assay, the termination of an expense reimbursement in 2010 from a third party of approximately $504,000 and severance costs of approximately $185,000 incurred in connection with the departure of our former Chief Scientific Officer. This increase was partially offset by decrease in costs related to development of enhanced PLAC TIA product of approximately $320,000 and a decrease of office costs of approximately $245,000.

We expect to identify and hire additional personnel to staff our planned development activities, and we expect research and development expenses to increase as we seek to maintain and expand our position in the market for diagnostics in cardiovascular disease.

General and Administrative Expenses

 

     Three Months  Ended
September 30,
     %  Increase
(Decrease)
    Nine Months Ended
June 30,
     %  Increase
(Decrease)
 
     2011      2010      2010 to 2011     2011      2010      2010 to 2011  
     (in thousands)            (in thousands)         

General and administrative expenses

     2,150         1,861         16     7,106         3,515         102

 

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General and administrative expenses include personnel costs for finance, administration, information systems and professional fees as well as facilities expenses. General and administrative expenses increased $289,000, or 16%, to $2.2 million for the three months ended September 30, 2011 compared to $1.9 million for the three months ended September 30, 2010. The increase primarily reflects loss of sublease income of approximately $206,000, an increase in additional facility costs, including a building lease entered into by Pre-Merger VaxGen, of approximately $177,000, and an increase in accounting, legal, insurance and other professional service costs related to the Company’s statutory filings requirements and public company obligations of approximately $113,000. This increase was partially offset by a decrease in personnel costs of approximately $217,000, primarily due to retention bonuses paid out in August 2010 after the Reverse Merger.

General and administrative expenses increased $3.6 million, or 102%, to $7.1 million for the nine months ended September 30, 2011 compared to $3.5 million for the nine months ended September 30, 2010. The increase primarily reflects an increase in additional facility costs, including a building lease entered into by Pre-Merger VaxGen, of approximately $1.5 million, an increase in accounting, legal, insurance and other professional service costs related to the Company’s statutory filings requirements and public company obligations of approximately of approximately $962,000, severance costs of $861,000, predominately those costs associated with the resignation of the Company’s former Chief Executive Officer, loss of sublease income of approximately $262,000 and an increase in travel expenses of approximately $47,000.

Given our post-Reverse Merger public reporting obligations and higher costs relating to a building lease entered into by Pre-Merger VaxGen, we expect general and administrative expenses to be significantly higher in 2011 relative to 2010.

Interest Income, Interest Expense and Other Income (Expense), net

 

     Three Months  Ended
September 30,
    %  Increase
(Decrease)
    Nine Months  Ended
September 30,
    %  Increase
(Decrease)
 
     2011      2010     2010 to 2011     2011      2010     2010 to 2011  
     (in thousands)           (in thousands)        

Interest income, interest expense and other income (expense), net

              

Interest income

   $ 12       $ 21        (43 )%    $ 44       $ 25        76

Interest expense

     390         (58 )     (772 )%      390        (356 )     (210 )% 

Other income (expense), net

     9         41       (78 )%      9         44       (80 )% 
  

 

 

    

 

 

     

 

 

    

 

 

   

Total interest and other income (expense), net

   $ 411       $ 4        10,175   $ 443       $ (287     (254 )% 
  

 

 

    

 

 

     

 

 

    

 

 

   

Interest income is derived from cash balances and short term investments. Interest expense is based on outstanding debt obligations. Total net interest and other income increased to $411,000 for the three months ended September 30, 2011, representing a change of $407,000 compared to a total net interest and other expense of $4,000 for the three months ended September 30, 2010. The increase in net interest and other income was due to the reversal of $398,000 in tax-related accrued interest and penalties due to the expiration of the statue of limitations during the quarter.

Total net interest and other income increased to $443,000 for the nine months ended September 30, 2011, representing a change of $730,000 compared to a total net interest and other expense of $287,000 for the nine months ended September 30, 2010. The increase in total net interest and other income was primarily due to the reversal of $398,000 of tax-related accrued interest and penalties due to the expiration of the statute of limitations during the period, a decrease in interest expense for an outstanding debt facility repaid in May 2010 and a decrease of warrant liability valuation in other income (expense) amounting to approximately $356,000.

Income Taxes

 

     Three Months Ended
September 30,
     %  Increase
(Decrease)
     Nine Months Ended
June 30,
    %  Increase
(Decrease)
 
     2011      2010      2010 to 2011      2011     2010     2010 to 2011  
     (in thousands)             (in thousands)        

Income tax benefit (provision)

     2        —           *         (1     (5     (80 )% 

 

* Result not meaningful

 

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We generated net loss for both the three and nine months ended September 30, 2011 and had no federal income tax provision. Our effective tax rate was 0% for income tax for the nine months ended September 30, 2011 and we expect that our effective tax rate for the full year 2011 will be 0%. The $2,000 income tax benefit represents a state tax refund received during 2011.

In addition, we have substantial net operating loss carry forwards available to offset future taxable income for federal and state income tax purposes. At September 30, 2011, we had unrecognized tax benefits totaling $1.7 million. Our ability to utilize our net operating losses may be limited due to changes in our ownership as defined by Section 382 of the Code.

Under the provisions of Sections 382 and 383 of the Internal Revenue Code, a change of control, as defined, may impose an annual limitation on the amount of the Company’s net operating loss and tax credit carryforwards, and other tax attributes that can be used to reduce future tax liabilities. As a result of the Reverse Merger, certain of the Company’s Old diaDexus tax attributes prior to the Reverse Merger are subject to an annual limitation of $240,000 for federal and state purposes.

Liquidity and Capital Resources

Since our inception, we have incurred losses, and we have relied primarily on private placements of preferred stock and debt financing, as well as on revenue generated from the sale of product, to fund our operations.

As of September 30, 2011 we had cash, cash equivalents, short-term and long-term investments of $19.8 million, compared to $20.4 million at December 31, 2010. The decrease primarily reflects cash used in operations, partially offset by the addition following the closing of a term loan from a bank for the nine months ended September 30, 2011.

Net cash used in operating activities in the nine months ended September 30, 2011 was $5.0 million compared to $4.7 million in the nine months ended September 30, 2010.

Net cash used in investing activities in the nine months ended September 30, 2011 was $10.2 million, primarily due to purchases of available-for-sale investments of $26.5 million and $0.3 million in purchase of property and equipment. This was partially offset by investment maturities of $16.5 million. Net cash provided by investing activities of $25.6 million in the nine months ended September 30, 2010 was primarily due to the Reverse Merger and the acquisition of cash and cash equivalents held by Pre-Merger VaxGen.

Net cash provided by financing activities in the nine months ended September 30, 2011 was $5.0 million due to closing of a term loan in the amount of $5.0 million. Net cash used in financing activities for the nine months ended September 30, 2010 was $139,000 and primarily reflects principal repayment to a banking syndicate for a term loan that was repaid in May 2010, which was partially offset by a note issuance from Pre-Merger VaxGen and Old diaDexus shareholders of $5.5 million in the aggregate.

As of September 30, 2011, we had an accumulated deficit of $193.9 million, working capital of $18.6 million and shareholders’ equity of $12.1 million. Based on our current operating plan, we believe that our existing cash, cash equivalents, and investment securities will be sufficient to cover our cash needs for operating activities and commitments into 2013.

We have incurred substantial losses since our inception, and we expect to continue to incur substantial net losses for at least the next few years. To date, we have funded our operations primarily through private placements of preferred stock and debt financing, as well as through revenue generated from the sale of our products. As a result of the Reverse Merger, Old diaDexus obtained $23.4 million in cash and cash equivalents that were held by Pre-Merger VaxGen, but Old diaDexus also became part of a combined entity that is subject to significant liabilities under certain real estate leases and expenses relating to obligations as a public company. These additional expenses are reflected in our results of operations only from July 28, 2010, the closing date of the Reverse Merger.

In September 2011, the Company entered into a loan and security agreement with Comerica Bank to borrow up to $5,000,000, the entire amount of which was borrowed at a rate of 5.25% per annum. The loan is payable in 36 monthly installments which begin in October 2012, with interest-only payments being made from October 2011 to September 2012. A final payment of $100,000 is due and payable to Comerica Bank on the earliest to occur of (i) the maturity date of September 23, 2015, (ii) the acceleration of the loan or (iii) the prepayment of the loan. The agreement contains certain financial and non-financial covenants. If we fail to maintain compliance with the covenants, our future liquidity will be negatively impacted. In order to meet our future liquidity needs, we may become reliant on additional equity and/or debt financing. Additional funding may not be available when needed or on terms acceptable to us. Any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. We cannot assure you that we will be able to raise any such additional funding.

 

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Commitments and Contingencies

Our contractual obligations and future minimum lease payments that are non-cancelable at September 30, 2011 are disclosed in the following table.

 

     Payment due by period (in thousands)  
     Total      2011     2012      2013      2014      2015      2016+  

Debt obligations

   $ 5,777       $ 66     $ 682      $ 1,870      $ 1,781      $ 1,378      $ —     

Operating lease obligations

     13,714         799  (1)      2,433         2,505         2,581         2,658         2,738   
  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total contractual commitments

   $ 19,491       $ 865     $ 3,115       $ 4,375       $ 4,362       $ 4,036       $ 2,738   
  

 

 

    

 

 

   

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) For the three months ending December 31, 2011.

As part of the Reverse Merger completed on July 28, 2010, we recorded a lease obligation associated with the Pre-Merger VaxGen facility which contained a lease payment that exceeded current market rates. Accordingly, the Company recognized a $4.1 million unfavorable lease obligation.

On November 2, 2010 we received a letter from the landlord of the facility located at 349 Oyster Point Blvd., South San Francisco, California, which we lease pursuant to a lease agreement entered into by Pre-Merger VaxGen. The letter asserts claims in writing against the Company that, among other things, the Company failed to provide it with required notice of the Reverse Merger and requests that the Company establish an escrow to fund remaining sums due under the lease. The Company believes that these claims are without merit and will vigorously resist any request for an escrow or other special consideration not required under the terms of the lease. However, we cannot assure you that the landlord will not commence legal proceedings against us relating to this lease.

Off-Balance Sheet Arrangements

As of September 30, 2011, we did not have any off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.

Recent Accounting Pronouncements

In May 2011, the FASB issued ASU No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in GAAP and IFRSs. This ASU represents the converged guidance of the FASB and the IASB on fair value measurement and is intended to result in common requirements for measuring fair value and for disclosing information about fair value measurements, including a consistent meaning of the term “fair value.” The amendments are to be applied prospectively and are effective for public entities during interim and annual periods beginning after December 15, 2011. Early application by public entities is not permitted. Inasmuch as the guidance is limited to enhanced disclosures, the adoption is not expected to have a material impact on our consolidated financial statements.

In June 2011, the FASB issued ASU No. 2011-05, “Comprehensive Income (Topic 220): Presentation of Comprehensive Income.” This ASU increases the prominence of other comprehensive income (“OCI”) in the financial statements and provides companies two options for presenting OCI, which until now has typically been placed within the statement of equity. One option allows an OCI statement to be included with the net income statement, and together the two will make a statement of total comprehensive income. Alternately, companies may present an OCI statement separate from the net income statement; however, the two statements will have to appear consecutively within a financial report. This ASU does not affect the types of items that are reported in OCI, nor does it affect the calculation or presentation of earnings per share. For public companies, this ASU is effective for periods beginning after December 15, 2011. The Company will adopt the OCI presentation requirements required by ASU No. 2011-05 beginning with its first quarter in 2012.

 

Item  3. Quantitative and Qualitative Disclosure About Market Risk

In the normal course of business, our financial position is routinely subject to a variety of risks, including market risk associated with interest rate movement. We regularly assess these risks and have established policies and business practices intended to protect against these and other exposures. As a result, we do not anticipate material potential losses in these areas.

As of September 30, 2011, we had cash, cash equivalents, short-term and long-term investments of $19.8 million, consisting of cash, cash equivalents and highly liquid short-term and long-term investments. The value of our short-term and long-term investments will likely decline by an immaterial amount if market interest rates increase and, therefore, we believe our exposure to interest rate changes is immaterial. Declines of interest rates over time will however, reduce our interest income from short-term and long-term investments.

 

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Item  4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

We have performed an evaluation under the supervision and with the participation of our management, including our principal executive and financial officer, of the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based on that evaluation, our management, including our principal executive and financial officer, concluded that our disclosure controls and procedures were effective as of September 30, 2011 to provide reasonable assurance that information required to be disclosed by us in the reports filed or submitted by us under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to management, including our principal executive and financial officer, as appropriate to allow timely decisions regarding required disclosures.

Changes in Internal Controls

On July 28, 2010, we closed the Reverse Merger, which has been accounted for as a reverse acquisition. The financial statements and information relating to Old diaDexus, a privately held company, now constitute the financial statements and information of the “Company.” Because diaDexus was a privately held company prior to the Reverse Merger, it was not required to design or maintain its controls in accordance with Exchange Act Rule 13a-15 prior to the Reverse Merger. The operations of Pre-Merger VaxGen, a publicly held company, were insignificant both before and after the Reverse Merger compared to those of the post-combination consolidated entity. As such, significant time and resources from our management and other personnel have been required and will continue to be required for the design and implementation of public company internal control over financial reporting for the post-combination consolidated Company. Except for the continuing design and implementation of new processes and procedures following the Reverse Merger, there was no change in our internal control over financial reporting that occurred during the quarter ended September 30, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Inherent Limitations on Effectiveness of Controls

Internal control over financial reporting may not prevent or detect all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Also, projections of any evaluation of effectiveness of internal control to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Accordingly, our disclosure controls and procedures are designed to provide reasonable, not absolute, assurance that the objectives of our disclosure control system are met.

 

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PART II — OTHER INFORMATION

 

Item  1. Legal Proceedings

On November 2, 2010 we received a letter from the landlord of the facility located at 349 Oyster Point Blvd., South San Francisco, California, which we lease pursuant to a lease agreement entered into by Pre-Merger VaxGen. The letter asserts claims in writing against the Company that, among other things, the Company failed to provide it with required notice of the Reverse Merger and requested that the Company establish an escrow to fund remaining sums due under the lease. The Company believes that these claims are without merit and will vigorously resist any request for an escrow or other special consideration not required under the terms of the lease. However, we cannot assure you that the landlord will not commence legal proceedings against us relating to this lease.

The Company is from time to time subject to various claims and legal actions during the ordinary course of business. The Company believes that there are currently no claims or legal actions that would reasonably be expected to have a material adverse effect on its results of operations or financial condition.

 

Item  1A. Risk Factors

Investing in our common stock involves a very high degree of risk. You should carefully consider the risks described below and all of the other information in our filings under the Exchange Act before making any investment decisions regarding our common stock. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties that we do not know or that we currently deem immaterial may also negatively affect our business, financial condition, operating results, and prospects. In that case, the market price of our common stock could decline, and you could lose all or part of your investment.

Risks Relating to Our Business Operations

Our enhanced PLAC TIA Test was approved in January, and its reintroduction may continue to be delayed and take more resources than we expect.

On May 10, 2010, we began notifying our customers that we had temporarily suspended the commercialization of the PLAC TIA product, and asked customers to discontinue use of this product, due to heterophilic interference observed in a small number of samples tested. On June 30, 2010 we submitted a premarket notification to the FDA seeking clearance under Section 510(k) of the FDCA to market an enhanced PLAC TIA product that addressed the heterophilic interference observed in the suspended PLAC TIA product. On January 6, 2011, the FDA informed us that we were cleared for marketing the enhanced PLAC TIA product. We have not yet reintroduced the product to the market as it is investigating manufacturing issues which appear to be affecting its performance and stability. We have been successful to date in referring or converting many PLAC TIA customers to those laboratories capable of using the PLAC ELISA Test. However, our failure to introduce an automated Lp-PLA2 test capable of running on a broad range of clinical chemistry analyzers, on a timely basis (or at all) could have an adverse effect on our financial condition and our ability to maintain or expand our business.

We have withdrawn our 510(k) application for FDA clearance of a new automated Lp-PLA2 activity assay and we may be unable to submit a subsequent 510(k) application or to obtain clearance with respect to such application.

On June 17, 2011, we submitted a premarket notification to the FDA seeking clearance under Section 510(k) of the FDCA to market a new automated Lp-PLA2 activity assay. This new assay measures the activity of the Lp-PLA2 enzyme in the blood, while the currently marketed PLAC Test utilizes an ELISA method which measures the concentration of the enzyme. The Lp-PLA2 activity assay is capable of running on automated, high throughput clinical chemistry analyzers unlike the current ELISA test. Future commercialization of an assay capable of running on automated, high throughput clinical chemistry analyzers may be important for the expansion of the PLAC Test market and revenue growth. On October 24, 2011, we elected to withdraw this application following discussions with the FDA. We plan to develop a new submission. We have identified completed clinical trials from which blood samples of patient cohorts may be obtained and then tested to demonstrate the effectiveness of the new automated Lp-PLA2 activity assay. We are in discussions with the FDA on the appropriateness of utilizing these trials.

There can be no guarantee that appropriate clinical trials will be identified, or that serum samples can be obtained from such trials to support retesting of the Lp-PLA2 activity assay. There can be no guarantee that the FDA will clear the subsequent 510(k) submission on a timely basis, or at all. Failure to receive clearance for the Lp-PLA2 activity assay product on a timely basis (or at all) may result in a loss of potential customers and would have an adverse effect on our financial condition and our ability to maintain or expand our business.

 

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Our future success depends on our ability to retain our Chief Executive Officer and other key employees and to attract, retain and motivate qualified personnel, including a new chief financial officer.

We depend on the efforts and abilities of our Chief Executive Officer, along with other senior management, our research and development staff and a number of other key management, sales, support, technical and administrative services personnel. Competition for experienced, high-quality personnel exists, and we cannot assure you that we can continue to recruit and retain such personnel.

Over the past several months, we have undergone significant changes in senior management, including at the chief executive officer level, and we are currently conducting a search for a new chief financial officer. This transition to a new management team may be disruptive to our operations and create uncertainty about our ability to implement our business strategy and/or raise additional capital, and our business may be materially adversely affected. Our failure to hire, train and retain qualified personnel, including a new chief financial officer, would impair our ability to develop new products and manage our business effectively.

We are an early stage company and have engaged in only limited sales and marketing activities for our first products, the PLAC ELISA and TIA Tests, which aid in assessing risk for both heart attack and ischemic stroke associated with atherosclerosis.

Our products may never gain significant acceptance in the marketplace and therefore never generate substantial revenue or profits for the Company. As is the case with all novel biomarkers, we must establish a market for our PLAC Test and build that market through physician education and awareness programs. Publication in peer review journals of results from outcome studies using our products will be an important consideration in the adoption by physicians and in the coverage by insurers of our products. Our ability to commercialize successfully the PLAC Test and other diagnostic products will depend on factors, including:

 

   

whether healthcare providers believe our PLAC Test and any other diagnostic tests that we successfully develop provide sufficient incremental clinical utility;

 

   

whether we are able to demonstrate that treatment of individuals based on their Lp-PLA2 levels improves clinical outcomes in prospective clinical studies; and

 

   

whether health insurers, government health programs and other third-party payors will cover and pay for our diagnostic tests and the amounts they will reimburse.

These factors may present obstacles to commercial acceptance of our products, and we may need to devote substantial time and money to surmount these obstacles, and the result might not be successful.

Our business is characterized by a high degree of customer concentration. Our four largest distributor and large laboratory customers accounted for 87% of our accounts receivable and 80% of our revenue as of and for the nine months ended September 30, 2011, respectively. The loss of one or more of these customers or a decline in revenue from one or more of these customers could have a material adverse effect on our business, financial condition, and results of operations.

Sales to a limited number of distributor and large laboratory customers account for a significant portion of our revenue and accounts receivable. Our dependence on and the identity of our key customers may vary from period to period as a result of competition among our customers, developments related to our products, and changes in individual customers’ purchases of our products. The concentration of revenue from our top four customers was 80% and 56% for the nine months ended September 30, 2011 and 2010, respectively. We may experience greater or lesser customer concentration in the future, depending on future commercial agreements and whether and when we are able to commercialize the PLAC TIA product. However, it is likely that our revenue and profitability will continue to be dependent on a very limited number of large laboratory companies and distributors, and we may experience an even higher degree of customer concentration in the future. The loss of, material reduction in sales volume to, or significant adverse change in our relationship with any of our key customers could have a material adverse effect on our revenue in any given period and may result in significant annual and quarterly revenue variations. Moreover, our largest customers are able to exert greater influence over our product pricing, which has led to a decline in average sales price in recent quarters. Such downward pressure on our pricing has the potential to continue. In addition, we may be unable to collect related accounts receivables when due, which could have a material adverse effect on our business. The concentration of accounts receivable from our top four customers was 87% and 60% as of September 30, 2011 and 2010, respectively.

 

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We rely on sole source third parties to manufacture and supply certain raw materials, our main reagent and our PLAC Tests. If these manufacturers are unable to supply these raw materials, reagents and products in a timely manner, or at all, we may be unable to meet customer demand, which would have a material adverse effect on our business.

We currently depend on sole source, third party manufacturers, Denka Seiken, BioCheck, Inc., and Diazyme Laboratories, to manufacture and supply certain raw materials, our main reagent, and the different formats of our PLAC Test. We cannot assure you that these manufacturers will be able to provide these raw materials, reagents and products in quantities that are sufficient to meet demand or at all, in a timely manner, which could result in decreased revenues and loss of market share. There may be delays in the manufacturing process over which we have no control, including shortages of raw materials, labor disputes, backlog and failure to meet FDA standards. We are aware that certain of our sole source manufacturers rely on sole source suppliers with respect to materials used in our products. We rely on our third-party manufacturers to maintain their manufacturing facilities in compliance with FDA and other federal, state and/or local regulations including health, safety and environmental standards. If they fail to maintain compliance with FDA or other critical regulations, they could be ordered to curtail operations, which would have a material adverse impact on our business. Increases in the prices we pay our manufacturers, or lapses in quality, such as failure to meet our specifications or Quality System Regulation (“QSR”) and other regulatory requirements, could materially adversely affect our business. Any manufacturing defect or error discovered after our products have been produced and distributed could result in significant consequences, including costly recall procedures and damage to our reputation. Our ability to replace an existing manufacturer may be difficult, because the number of potential manufacturers is limited. If we do undertake to negotiate terms of supply with another manufacturer or other manufacturers, our relationships with our existing manufacturers could be harmed. Any interruption in the supply of raw materials, reagents or product, or the inability to obtain these raw materials, reagents or product from alternate sources in a timely manner, could impair our ability to supply the PLAC Test and to meet the demands of our customers, which would have a material adverse effect on our business.

We are subject to extensive regulation by the FDA and other regulatory agencies and failure to comply with such regulation could have a material adverse effect on our business, financial condition, and results of operations.

Our business and our medical device products, including our PLAC Tests, are subject to extensive regulation by the FDA and other federal, state, and foreign regulatory agencies. These laws and regulations govern many aspects of our products and operations, and the products and operations of our suppliers and distributors, including premarket clearance and approval, design, development and manufacturing, labeling, packaging, safety and adverse event reporting, recalls, storage, advertising, promotion, sales and record keeping. Failure to comply with these laws and regulations could result in, among other things, warning letters, civil penalties, delays in clearance or approval of our products, recalls, and other operating restrictions, all of which could cause us to incur significant expenses.

Before we can market or sell a new product or a significant modification to an existing product in the United States, we must obtain either clearance under Section 510(k) of the FDCA, or approval of a pre-market approval application, or PMA, from the FDA, unless an exemption applies. In the 510(k) clearance process, the applicant must demonstrate to the FDA’s satisfaction that a proposed device is “substantially equivalent” to a device legally on the market, known as a “predicate” device, with respect to intended use, technology and safety and effectiveness, in order to obtain clearance from the FDA to market the proposed device. Clinical data is sometimes required to support substantial equivalence. The PMA pathway requires an applicant to demonstrate the safety and effectiveness of the device based, in part, on extensive data, including, but not limited to, technical, preclinical, clinical trial, manufacturing, and labeling data. The FDA can delay, limit, or deny clearance or approval of a device for many reasons, including:

 

   

we may not be able to demonstrate to the FDA’s satisfaction that our products are safe and effective for their intended users;

 

   

the data from our pre-clinical studies and clinical trials may be insufficient to support clearance or approval, where required;

 

   

the manufacturing process or facilities we use may not meet applicable requirements; and

 

   

changes in FDA clearance or approval policies or the adoption of new regulations may require additional data.

Further, any modification we make to a 510(k)-cleared device that could significantly affect its safety or effectiveness, or that would constitute a major change in its intended use, design, or manufacture, would require us to seek a new 510(k) clearance or, possibly, approval of a PMA. The FDA requires every manufacturer to make this determination in the first instance, but the FDA may review any manufacturer’s decision. The FDA may not agree with our decisions regarding whether new clearances or approvals are necessary. If the FDA disagrees with our determination and requires us to submit new 510(k) notifications or PMAs for modifications to our previously cleared products for which we have concluded that new clearances or approvals are unnecessary, we may be required to cease marketing or to recall the modified product until we obtain clearance or approval, and we may be subject to significant regulatory fines or penalties.

Even when a product reaches the market, the subsequent discovery of previously unknown problems, such as material deficiencies or defects in design, labeling, or manufacture, or a potential unacceptable risk to health, with a product may result in restrictions on the product, including recall or withdrawal of the product from the market, and/or a requirement to submit a new 510(k) submission or PMA for the product in order to support continued marketing.

 

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We are also subject to routine inspection by the FDA and certain state agencies for compliance with QSR, which establishes the good manufacturing practices for medical devices, and Medical Device Reporting regulations, which require us to report to the FDA any incident in which one of our products may have caused or contributed to a death or serious injury or malfunctioned in a way that could cause death or serious injury. Although we believe that we have adequate processes in place to ensure compliance with these requirements, the FDA or other regulatory bodies could force us to stop manufacturing, selling or exporting our products if it concludes that we are out of compliance with applicable regulations or if it concludes that our products pose an unacceptable risk to health or are otherwise deficient in design, labeling or manufacture. Further, the ability of our suppliers to supply critical components or materials and of our distributors to sell our products could be adversely affected if their operations are determined to be out of compliance. The FDA and other regulatory bodies could also require us to recall products if we fail to comply with applicable regulations, which could force us to stop manufacturing such products. Such actions by the FDA and other regulatory bodies would adversely affect our revenues and results of operations.

Many national, regional, and local laws and regulations, including the recently-enacted healthcare reform legislation, have not been fully implemented by the regulatory authorities or adjudicated by the courts, and their provisions are open to a variety of interpretations. In the ordinary course of business, we must frequently make judgments with respect to compliance with applicable laws and regulations. If regulators subsequently disagree with the manner in which we have sought to comply with these regulations, we could be subjected to various sanctions, including substantial civil and criminal penalties, as well as product recall, seizure or injunction with respect to the sale of our products. Such sanctions could severely impair our reputation within the industry and any limitation on our ability to manufacture and market our products could have a material adverse effect on our business. In addition, in January 2011, the FDA announced twenty-five action items it intends to take in reforming the 510(k) premarket review program, The FDA issued its recommendations and proposed action items in response to concerns from both within and outside of FDA about the 510(k) program. Although the FDA has not detailed the specific modifications or clarifications that the Agency intends to make to its guidances, policies, and regulations pertaining to the review and regulation of devices such as ours which seek and receive marketing clearance through the 510(k) process, the FDA’s announced action items signal that additional regulatory requirements are likely. In particular, the FDA intends to issue a variety of draft guidances and regulations over the coming months which would, among other things, clarify when changes to a cleared medical device warrant a new 510(k) and which modifications would be eligible for a Special 510(k), establish a Unique Device Identification System, and clarify FDA’s use and application of several key terms in the 510(k) review process. These reforms, when implemented, could impose additional regulatory requirements upon us which could delay our ability to obtain new clearances, increase the cost of compliance, or restrict our ability to maintain our current 510(k) clearances.

We are reliant on the commercial success of our PLAC Test products.

We are largely dependent on our main product line, the PLAC Test. We expect that the PLAC Test products will account for a substantial portion of our revenue for the foreseeable future. We do not know if our PLAC Test products will be successful over the long-term and it is possible that the demand for the product may decline over time. Any decline in demand or failure of the diaDexus PLAC Test products to penetrate current or new markets significantly could have a material adverse effect on our business, financial condition, and results of operations.

If third-party payors do not reimburse our customers for the use of our clinical diagnostic products or if they reduce reimbursement levels, our ability to sell our products will be harmed.

We sell our products primarily through distributors and to large laboratory customers, substantially all of which receive reimbursement for the health care services they provide to their patients from third-party payors, such as Medicare, Medicaid and other government programs, private insurance plans and managed care programs. Third-party payors are increasingly attempting to contain health care costs by limiting both coverage and the level of reimbursement for medical products and services. Increasingly, Medicare, Medicaid and other third-party payors are challenging the prices charged for medical services, including clinical diagnostic tests. Most of these third-party payors may deny coverage and reimbursement if they determine that a medical product was not used in accordance with cost-effective treatment methods, as determined by the third-party payor, or was used for an unapproved indication.

If our customers are not reimbursed for our products, they may reduce or discontinue purchases of our products, which would cause our revenues to decline. Lower-than-expected, or decreases in, reimbursement amounts for tests performed using our products may decrease amounts physicians and other practitioners are able to charge patients, which in turn may adversely affect the willingness of physicians and other practitioners to purchase our products at prices we target, or at all. If we are unable to sell our products at target prices, our gross margins will suffer and our business could be materially adversely affected.

Healthcare reform and restrictions on coverage and reimbursement may adversely affect our profitability.

In the United States, healthcare providers that purchase our products and other diagnostic products generally rely on third-party payors to reimburse all or part of the cost of the procedure. We face efforts by non-governmental third-party payors, including health plans, to reduce utilization of diagnostic testing services and reimbursement for diagnostic services. For instance, third-party payors often use the payment amounts under the Medicare fee schedules as a reference in negotiating their payment amounts. As a result, a reduction in Medicare reimbursement rates could result in a reduction in the reimbursements we receive from such third-party payors. Changes in test coverage policies of and reimbursement from other third-party payors may also occur independently from changes in Medicare. Third-party payors may refuse to cover and reimburse for procedures and devices deemed to be experimental and investigational. Such reimbursement and coverage changes in the past have resulted in reduced prices, added costs and reduced accession volume and have added more complex and new regulatory and administrative requirements. We cannot assure that third-party payors will cover and reimburse any of our products or that the level of reimbursement will be sufficient to realize a profit.

 

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In the United States, the American Medical Association assigns specific Current Procedural Terminology, or CPT, codes, which are necessary for reimbursement of diagnostic tests. Once the CPT code is established, the Centers for Medicare & Medicaid Services establish payment levels and coverage rules under Medicare, and private payors and state Medicaid programs establish rates and coverage rules independently. Although the tests performed by our assays are described by existing CPT codes, we cannot guarantee that our future assays will be covered by such CPT codes and will, therefore, be approved for reimbursement by Medicare and Medicaid as well as most third-party payors.

In March 2010, U.S. President Obama signed the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act (collectively, the “PPACA”), which makes a number of substantial changes in the way health care is financed by both governmental and private insurers. Among other things, the PPACA 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. In addition, a productivity adjustment is made to the fee schedule payment amount. In addition, the PPACA establishes an Independent Payment Advisory Board (“IPAB”) to reduce the per capita rate of growth in Medicare spending. The IPAB has broad discretion to propose policies, which may have a negative impact on payment rates for services, including clinical laboratory services, beginning in 2016, and for hospital services beginning in 2020.

Although some of these provisions may negatively impact payment rates for clinical laboratory services, the PPACA also extends coverage to approximately 32 million previously uninsured people, which may result in an increase in the demand for our tests and services. A number of state governors have strenuously opposed the mandatory purchase of insurance, known as the individual mandate, and initiated lawsuits challenging the constitutionality of certain provisions of the PPACA. Many of these challenges are still pending final adjudication in several jurisdictions, including the United States Supreme Court. Congress has also proposed a number of legislative initiatives, including possible repeal of the PPACA. At this time, it remains unclear whether there will be any changes made to the PPACA, whether to certain provisions or its entirety.

In addition, other legislative changes have been proposed and adopted since the PPACA was enacted. Most recently, on August 2, 2011, the President signed into law the Budget Control Act of 2011, which, among other things, creates the Joint Select Committee on Deficit Reduction to recommend proposals in spending reductions to Congress. In the event that the Joint Select Committee is unable to achieve a targeted deficit reduction of at least $1.2 trillion for the years 2013 through 2021, or Congress does not act on the committee’s recommendation, without amendment, by December 23, 2011, an automatic reduction is triggered. These automatic cuts would be made to several government programs and, with respect to Medicare, would include aggregate reductions to Medicare payments to providers of up to 2% per fiscal year, starting in 2013. The full impact on our business of the PPACA and the new law is uncertain. Levels of reimbursement may decrease in the future, and future legislation, regulation or reimbursement policies of third-party payors may adversely affect the demand for and price levels of our products.

We are subject to healthcare laws, regulation and enforcement; our failure to comply with those laws could have a material adverse effect on our results of operations and financial conditions.

We are also subject to healthcare fraud and abuse regulation and enforcement by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include:

 

   

the federal Health Insurance Portability and Accountability Act of 1996 (“HIPAA”), as amended by the Health Information Technology for Economic and Clinical Health Act, which governs the conduct of certain electronic healthcare transactions and protects the security and privacy of protected health information;

 

   

the federal healthcare programs’ Anti-Kickback Statute, which prohibits, among other things, persons from knowingly and willfully soliciting, receiving, offering or paying remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual for, or the purchase, order or recommendation of, any good or service for which payment may be made under federal healthcare programs such as the Medicare and Medicaid programs;

 

   

federal false claims laws which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payors that are false or fraudulent;

 

   

federal criminal laws that prohibit executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; and

 

   

state law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers.

If our operations are found to be in violation of any of the laws described above or any other governmental regulations that apply to us, we may be subject to penalties, including civil and criminal penalties, damages, fines, the curtailment or restructuring of our operations, the exclusion from participation in federal and state healthcare programs and imprisonment, any of which could adversely affect our ability to operate our business and our financial results.

Our term loan contains restrictions that limit our flexibility in operating our business, and the lender may accelerate repayment of amounts outstanding under certain circumstances.

In September 2011, we entered into a loan and security agreement with Comerica Bank. This loan contains various covenants that limit our ability to engage in specified types of transactions. These covenants limit our ability to, among other things:

 

   

Sell, transfer, lease or dispose of our assets;

 

   

Create, incur or assume additional indebtedness;

 

   

Encumber or permit liens on certain of our assets;

 

   

Pay dividends on, repurchase or make distributions with respect to our common stock;

 

   

Make specified investments;

 

   

Consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; and

 

   

Enter into certain transactions with our affiliates.

If we breach of any of these covenants, are unable to make a required payment of principal or interest, or experience a material adverse change to our business, it could result in a default under the loan. Additionally, we are required to achieve revenues equal to at least 80% of monthly projections approved by our Board of Directors and provided to Comerica Bank, and our failure to do so could result in a default under the loan. Upon the occurrence of an event of default under the loan, Comerica Bank could elect to declare all amounts outstanding to be immediately due and payable. If we were unable to repay those amounts, Comerica Bank could proceed against the collateral granted to them to secure such indebtedness. We have pledged substantially all of our assets, other than our intellectual property, as collateral under the loan.

We will need to raise additional capital to support our operations and to continue as a going concern.

We will require additional funds to commercialize our products and develop new products. Our ability to fund our net losses and to conduct the required development activities related to any new product candidates will be significantly limited if we are unable to obtain the necessary capital. We will seek to raise funds through equity or debt offerings, bank facilities, or other sources of capital. Additional funding may not be available when needed or on terms acceptable to us. Any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. We cannot assure you that we will be able to raise any such additional funding. Failure to obtain adequate financing would likely adversely affect our ability to operate as a going concern.

We are an early stage company with a history of losses, we expect to incur losses for at least the next few years, and we may never achieve profitability.

We have incurred substantial net losses since our inception. Our accumulated deficit was approximately $193.9 million at September 30, 2011. For the nine months ended September 30, 2011 and 2010, we incurred a net loss of $6.4 million for both periods. We expect to continue to incur substantial net losses for at least the next few years. If we are unable to execute our commercialization strategy to achieve profitability, or if the time required to achieve profitability is longer than we anticipate, we may not be able to continue our business.

 

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If the combination of patents, trade secrets, trademarks, and contractual provisions that we rely on to protect our intellectual property proves inadequate, our ability to successfully commercialize our products will be harmed and we may never be able to operate our business profitably.

Our success depends, in large part, on our ability to protect proprietary discoveries, technology, and diagnostic tests that we develop under the patent and other intellectual property laws of the United States and other countries, so that we can seek to prevent others from unlawfully using our inventions and proprietary information.

Additionally, we have filed or have license rights to a number of patent applications that are in an early stage of prosecution, and we cannot make any assurances that any of the pending patent applications will result in patents being issued. In addition, due to technological changes that may affect our proposed products or judicial interpretation of the scope of our patents, our proposed products might not, now or in the future, be adequately covered by our patents.

Moreover, the U.S. Leahy-Smith America Invents Act, enacted in September 2011, brings significant changes to the U.S. patent system, which include a change to a “first to file” system from a “first to invent” system and changes to the procedures for challenging issued patents and disputing patent applications during the examination process, among other things. The effects of these changes on our patent portfolio and business have yet to be determined, as the U.S. Patent and Trademark Office must still implement regulations relating to these changes and U.S. courts have yet to address the new provisions, but in any event, these changes could increase the costs and uncertainties surrounding the prosecution of our patent applications and the enforcement or defense of our patent rights.

We have liabilities for real estate leases in excess of what is necessary for our current business. We will incur these additional expenses until we are able to sublease a portion of our larger leased facility.

We have a significant real estate lease for a facility of approximately 65,000 square feet with current monthly minimum required expenses of approximately $220,000. The term of the lease continues until December 31, 2016. Our lease of a smaller facility continues until January 1, 2012, with current monthly minimum required expenses of approximately $85,000. We receive some reimbursement under a sublease of a portion of this property, which offsets a portion of our total monthly expenses under the lease. The related sublease agreement expired in May 2011 and the subtenant is currently on a month-to-month arrangement. Until such time that we are able to sublease a portion of our larger leased facility, we will incur liabilities for real estate leases significantly in excess of what is necessary for our current business. We may never be able to sublease a portion of the larger facility. Also, the landlord of the larger leased facility has previously filed lawsuits to enforce actions that the landlord believes are protective of its leasehold interests. The landlord of the larger leased facility has asserted claims in writing against us that, among other things, we failed to provide it with required notice of the Reverse Merger, and has requested that we establish an escrow to fund remaining sums due under the lease. We believe that these claims are without merit and will vigorously resist any request for an escrow or other special consideration not required under the terms of the lease. However, we cannot assure you that the landlord will not commence legal proceedings against us relating to this lease.

We license key intellectual property from GlaxoSmithKline and ICOS, and our contractual relationships have certain limitations.

We have an exclusive license from GlaxoSmithKline and a co-exclusive license from ICOS Corporation (“ICOS”) to practice and commercialize technology covered by several issued and pending United States patents and their foreign counterparts. The majority of patents that relate to products currently sold by us will begin to expire in mid-2014.

Several of our collaboration agreements with GlaxoSmithKline and ICOS provide licenses to use intellectual property that is important to our business, and we may enter into additional agreements in the future with GlaxoSmithKline or with other third parties that change licenses of valuable technology. Current licenses impose, and future licenses may impose, various commercialization, milestone and other obligations on us, including the obligation to terminate our use of patented subject matter under certain circumstances. If a licensor becomes entitled to, and exercises, termination rights under a license, we could lose valuable rights and our ability to develop our current and future products. Our business may suffer if any current or future licenses terminate, if the licensors fail to abide by the terms of the license or fail to prevent infringement by third parties, if the licensed patents or other rights are found to be invalid or if we are unable to enter into necessary licenses on acceptable terms.

Our stock price is likely to be volatile.

Currently, our common stock is quoted on the OTC Bulletin Board. Stocks traded “over the counter” typically are subject to greater volatility than stocks traded on stock exchanges, such as the NASDAQ Stock Market, due to the fact that OTC trading volumes are generally significantly lower than those on stock exchanges. This lower volume may allow a relatively few number of stock trades to greatly affect the stock price, particularly where the trading price of the stock price is relatively low. The trading price of our common stock has been and is likely to continue to be extremely volatile. Some of the many factors that may cause the market price of our common stock to fluctuate include, in no particular order:

 

   

Actions taken by regulatory authorities with respect to our products;

 

   

The progress and results of our product development efforts;

 

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The outcome of legal actions to which we may become a party;

 

   

Our ability to commercialize the products, if any, that we are able to develop;

 

   

Changes in our capital structure, such as future issuances of securities or the incurrence of additional debt; and

 

   

Restatements of our financial results and/or material weaknesses in our internal controls.

The stock markets, and the markets for medical diagnostics and biotechnology stocks in particular, have experienced volatility that has often been unrelated to the operating performance of particular companies. These broad market fluctuations may adversely affect the trading price of our common stock. Investors may not be able to sell when they desire due to insufficient buyer demand and may realize less than, or lose all of, their investment.

Our business, in particular the growth of our business, is dependent on our ability to successfully develop and commercialize novel diagnostic products and services based on biomarkers. If we fail to develop and commercialize diagnostic products, we may be unable to execute our business plan.

Our long-term ability to generate product-related revenue will depend in part on our ability to develop additional formats or versions of the PLAC Test and other new diagnostic products. If internal efforts do not generate sufficient product candidates, we will need to identify third parties that wish to collaborate with us to develop new products and applications. Our ability to pursue successfully third-party relationships will depend in part on our ability to negotiate acceptable license and related agreements. Even if we are successful in establishing collaborative arrangements, they may never result in the successful development or commercialization of any product candidate or the generation of any sales or royalty revenues. In addition, rapid technological developments and innovations characterize the markets for our products and services. Our success will depend in large part on our ability to correctly identify emerging trends, enhance capabilities, and develop and manufacture new products quickly, in a cost-effective manner, and at competitive prices. The development of new and enhanced products is a complex and costly process. We may need to make substantial capital expenditures and incur significant research and development costs to develop and introduce such new products and enhancements. Our choices for developing products may prove incorrect if customers do not adopt the products we develop or if the products ultimately prove to be medically or commercially unviable. The discovery of performance problems may adversely affect development schedules. If we fail to timely develop and introduce competitive new products or additional formats of our existing products, our business, may be materially adversely affected.

Any inability to protect our proprietary technologies and product candidates adequately could harm our competitive position.

We will be able to protect our proprietary rights from unauthorized use by third parties only to the extent that our proprietary technologies are covered by valid and enforceable patents or are effectively maintained as trade secrets. We plan to continue to apply for patents covering our technologies and products as we deem appropriate. We cannot make assurances that our pending patent applications will issue as patents and, if they do, whether the scope of such claims will be sufficiently broad to prevent third parties from utilizing our technologies, commercializing our discoveries or developing competing products. Any patents we currently hold, or obtain in the future, may not be sufficiently broad to prevent others from utilizing our technologies, commercializing our discoveries, or developing competing technologies and products. Furthermore, third parties may independently develop similar or alternative technologies or design around our patented technologies. Third parties may challenge or invalidate our patents, or our patents may fail to provide us with any competitive advantage.

We have rights to patents and patent applications owned by GlaxoSmithKline, Human Genome Sciences, Inc. (“Human Genome Sciences”) and ICOS that provide important protection on the composition of matter and utility of our products and product candidates. We do not, however, directly control the prosecution and maintenance of all of these patents. GlaxoSmithKline, Human Genome Sciences, and ICOS may not fulfill their obligations as licensors and may allow these patents to go abandoned or may not pursue meaningful claims for our products. Also, while the United States Patent and Trademark Office has issued diagnostic patents covering utility or methods, we do not know whether or how courts will enforce these patents. If a court finds these types of inventions to be unpatentable or interprets them narrowly, the benefits of our patent strategy may not materialize. If any or all of these events occur, they could diminish the value of our intellectual property.

The requirements of being a public company have required and will continue to require significant resources, increase our costs and occupy our management, and we may be unable to comply with these requirements in a timely or cost-effective manner.

On July 28, 2010, we closed the Reverse Merger. The Reverse Merger was determined to constitute a reverse acquisition and Old diaDexus, a privately held company, was determined to be the acquirer for accounting purposes. Although Pre-Merger VaxGen was an operating company, its operations were insignificant compared to those of the post-merger entity. Because the financial statements and information relating to Old diaDexus now constitute our financial statements and information, we are in a position similar to a newly public company.

 

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As a company with public reporting responsibilities, we have incurred and will continue to incur significant legal, accounting, and other expenses that Old diaDexus did not incur as a private company. Complying with rules, regulations and requirements applicable to public companies will require substantial effort and will increase our costs and expenses. Among other things, we are required to:

 

   

institute a more formalized function of internal control over financial reporting;

 

   

prepare and file and distribute periodic and current reports under the Exchange Act for a larger operating business and comply with other Exchange Act requirements applicable to public companies;

 

   

formalize old and establish new internal policies, such as those relating to insider trading and disclosure controls and procedures;

 

   

involve and retain to a greater degree outside counsel and accountants in the above activities; and

 

   

establish and maintain an investor relations function, including the provision of certain information on our website.

Compliance with these rules and regulations will increase our legal and financial compliance costs and will make some activities more time-consuming and costly. For example, we expect these new rules and regulations to make it more difficult and more expensive for us to obtain director and officer liability insurance and we may be required to incur substantial costs to maintain the same or similar coverage.

The securities laws require, among other things, that we implement and maintain effective internal control for financial reporting and disclosure. In particular, we must perform system and process evaluation and testing of our internal control over financial reporting to allow management to report on the effectiveness of our internal control over financial reporting. Our testing may reveal deficiencies in our internal control over financial reporting that are deemed to be material weaknesses. We expect to incur significant expense and devote substantial management effort toward ensuring compliance with these requirements. Moreover, if we are not able to comply with these requirements in a timely manner, or if we identify deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, the market price of our common stock could decline and we could be subject to sanctions or investigations by the SEC or other regulatory authorities, which would entail expenditure of additional financial and management resources.

Natural disasters, including earthquakes, may damage our facilities.

Our corporate and manufacturing facilities are located in California. Our facilities in California are in close proximity to known earthquake fault zones. As a result, our corporate, research and manufacturing facilities are susceptible to damage from earthquakes and other natural disasters, such as fires, floods and similar events. Although we maintain general business insurance against fires and some general business interruptions, there can be no assurance that the scope or amount of coverage will be adequate in any particular case. Insurance specifically for earthquake risks is not available on commercially reasonable terms.

We are not currently listed on a national exchange and there can be no assurance we will ever be listed.

As a result of our failure to make timely filings of financial statements, we were delisted from The NASDAQ Stock Market in 2004. Currently, our common stock is quoted on the OTC Bulletin Board under the symbol DDXS.OB. We have not yet applied for our common stock to be listed on a national exchange, and we do not currently meet all of the requirements for listing or relisting on the NASDAQ Stock Market. We do not know when, if ever, our common stock will be listed on a national stock exchange. In addition, we cannot be certain that The NASDAQ Stock Market will approve our stock for relisting or that any other exchange will approve our stock for listing. In order to be eligible for relisting or listing, we must meet the initial listing criteria for The NASDAQ Stock Market or another national exchange, including a minimum per share price.

Our charter documents and Delaware law may discourage an acquisition of the Company.

Provisions of our certificate of incorporation, bylaws, and Delaware law could make it more difficult for a third-party to acquire us, even if doing so would be beneficial to our stockholders. We may issue shares of preferred stock in the future without stockholder approval and upon such terms as our Board of Directors may determine. Our issuance of this preferred stock could have the effect of making it more difficult for a third-party to acquire, or of discouraging a third-party from acquiring, a majority of our outstanding stock. Our bylaws also provide that special stockholders meetings may be called only by our Board of Directors, Chairperson of the Board of Directors, or by our Chief Executive Officer or President, with the result that any third-party takeover not supported by the Board of Directors could be subject to significant delays and difficulties.

 

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Failure in our information technology and storage systems could significantly disrupt the operation of our business.

Our ability to execute our business plan depends, in part, on the continued and uninterrupted performance of our information technology systems, or IT systems. IT systems are vulnerable to damage from a variety of sources, including telecommunications or network failures, malicious human acts and natural disasters. Moreover, despite network security and back-up measures, some of our servers are potentially vulnerable to physical or electronic break-ins, computer viruses and similar disruptive problems. Despite the precautionary measures we have taken to prevent unanticipated problems that could affect our IT systems, sustained or repeated system failures that interrupt our ability to generate and maintain data could adversely affect our ability to operate our business.

 

Item  2. Unregistered Sales of Equity Securities and Use of Proceeds.

On September 23, 2011, the Company issued a warrant to Comerica Bank exercisable for 480,769 shares of the Company’s common stock at an exercise price of $0.26 per share. The warrant is exercisable until September 23, 2018. The warrant was issued as partial consideration for Comerica Bank providing the Company with a loan of $5.0 million, as described in more detail under the heading “Notes Payable” in Note 13–“Leases, Commitments and Contingencies” of the Notes to Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q. The warrant was issued in reliance on the exemption from registration provided by Section 4(2) of the Securities Act of 1933, as amended, for transactions not involving a public offering.

 

Item  3. Defaults Upon Senior Securities.

None

 

Item  4. [Removed and Reserved.]

None

 

Item  5. Other Information.

None

 

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Item  6. Exhibits

 

Exhibit
No.

  

Description

  2.1*    Agreement and Plan of Merger and Reorganization, dated May 28, 2010, by and among VaxGen, Inc., Violet Acquisition Corporation, Violet Acquisition LLC, diaDexus, Inc. and John E. Hamer, as the agent of diaDexus, Inc.’s stockholders (incorporated by reference to Exhibit 2.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on June 1, 2010)
  2.2    Amendment No. 1 to Agreement and Plan of Merger and Reorganization, dated June 24, 2010, by and among VaxGen, Inc., Violet Acquisition Corporation, Violet Acquisition LLC, diaDexus, Inc., and John E. Hamer as the agent of diaDexus, Inc.’s stockholders (incorporated by reference to Exhibit 2.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on June 28, 2010)
  3.1    Restated Certificate of Incorporation of the registrant (incorporated by reference to Exhibit 3.1 to the registrant’s Quarterly Report on Form 10-Q (file no. 0-26483) for the fiscal quarter ended September 30, 2010, filed on November 15, 2010)
  3.2    Certificate of Change of Registered Agent and Registered Office (incorporated by reference to Exhibit 3.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on January 25, 2011)
  3.3    Amendment to Restated Certificate of Incorporation (incorporated by reference to Exhibit 3.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on July 18, 2011)
  3.4    Amended and Restated Bylaws of the registrant (incorporated by reference to Exhibit 3.2 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on November 5, 2010)
  4.1    Warrant to purchase shares of Common Stock, issued to Comerica Bank on September 23, 2011
10.1    Executive Employment Agreement, effective as of July 1, 2011, by and between diaDexus, Inc. and Brian E. Ward (incorporated by reference to Exhibit 10.3 to the registrant’s Quarterly Report on Form 10-Q (file no. 0-26483) for the fiscal quarter ended June 30, 2011, filed on August 15, 2011)
10.2    Offer Letter, dated September 20, 2011, by and between diaDexus, Inc. and Brian E. Ward
10.3    Stock Option Agreement, dated September 26, 2011, by and between diaDexus, Inc. and Brian E. Ward
10.4    Change in Control and Severance Agreement, dated September 26, 2011 by and between diaDexus, Inc. and Brian E. Ward
10.5    Offer Letter, dated September 20, 2011, by and between diaDexus, Inc. and R. Michael Richey
10.6    Stock Option Agreement, dated October 1, 2011, by and between diaDexus, Inc. and R. Michael Richey
10.7    Change in Control and Severance Agreement, dated September 20, 2011, by and between diaDexus, Inc. and R. Michael Richey

 

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  10.8   Executive Employment Agreement, effective as of July 1, 2011, by and between diaDexus, Inc. and James P. Panek (incorporated by reference to Exhibit 10.2 to the registrant’s Quarterly Report on Form 10-Q (file no. 0-26483) for the fiscal quarter ended June 30, 2011, filed on August 15, 2011)
  10.9   Consulting Agreement, dated September 22, 2011, by and between diaDexus, Inc. and James P. Panek
  10.10**   Transition and Separation Agreement, dated September 14, 2011, by and between diaDexus, Inc. and Robert L. Wolfert
  10.11   Separation Agreement, dated September 30, 2011, by and between diaDexus, Inc. and Bernard M. Alfano
  10.12**   Loan and Security Agreement, dated September 23, 2011, by and between diaDexus, Inc. and Comerica Bank
  31.1   Certification of principal executive and financial officer pursuant to Exchange Act Rule 13a-14(a)
  32.1   Certification of principal executive and financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS***   XBRL Instance Document
101.SCH***   XBRL Taxonomy Extension Schema Document
101.CAL***   XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB***   XBRL Taxonomy Extension Label Linkbase Document
101.PRE***   XBRL Taxonomy Extension Presentation Linkbase Document

 

* Certain schedules referenced in the Agreement and Plan of Merger and Reorganization have been omitted in accordance with Item 601(b)(2) of Regulation S-K. A copy of any omitted schedule will be furnished supplementally to the Securities and Exchange Commission upon request.
** Certain portions have been omitted pursuant to a confidential treatment request. Omitted information has been filed separately with the SEC.
*** Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.

 

    diaDexus, Inc.
Date: November 9, 2011     By:  

/s/    Brian E. Ward

      Brian E. Ward
      President & Chief Executive Officer
      (Principal Executive and Financial Officer)

 

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EXHIBIT INDEX

 

Exhibit
No.

  

Description

  2.1*    Agreement and Plan of Merger and Reorganization, dated May 28, 2010, by and among VaxGen, Inc., Violet Acquisition Corporation, Violet Acquisition LLC, diaDexus, Inc. and John E. Hamer, as the agent of diaDexus, Inc.’s stockholders (incorporated by reference to Exhibit 2.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on June 1, 2010)
  2.2    Amendment No. 1 to Agreement and Plan of Merger and Reorganization, dated June 24, 2010, by and among VaxGen, Inc., Violet Acquisition Corporation, Violet Acquisition LLC, diaDexus, Inc., and John E. Hamer as the agent of diaDexus, Inc.’s stockholders (incorporated by reference to Exhibit 2.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on June 28, 2010)
  3.1    Restated Certificate of Incorporation of the registrant (incorporated by reference to Exhibit 3.1 to the registrant’s Quarterly Report on Form 10-Q (file no. 0-26483) for the fiscal quarter ended September 30, 2010, filed on November 15, 2010)
  3.2    Certificate of Change of Registered Agent and Registered Office (incorporated by reference to Exhibit 3.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on January 25, 2011)
  3.3    Amendment to Restated Certificate of Incorporation (incorporated by reference to Exhibit 3.1 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on July 18, 2011)
  3.4    Amended and Restated Bylaws of the registrant (incorporated by reference to Exhibit 3.2 to the registrant’s Current Report on Form 8-K (file no. 0-26483), filed on November 5, 2010)
  4.1    Warrant to purchase shares of Common Stock, issued to Comerica Bank on September 23, 2011
10.1    Executive Employment Agreement, effective as of July 1, 2011, by and between diaDexus, Inc. and Brian E. Ward (incorporated by reference to Exhibit 10.3 to the registrant’s Quarterly Report on Form 10-Q (file no. 0-26483) for the fiscal quarter ended June 30, 2011, filed on August 15, 2011)
10.2    Offer Letter, dated September 20, 2011, by and between diaDexus, Inc. and Brian E. Ward
10.3    Stock Option Agreement, dated September 26, 2011, by and between diaDexus, Inc. and Brian E. Ward
10.4    Change in Control and Severance Agreement, dated September 26, 2011 by and between diaDexus, Inc. and Brian E. Ward
10.5    Offer Letter, dated September 20, 2011, by and between diaDexus, Inc. and R. Michael Richey
10.6    Stock Option Agreement, dated October 1, 2011, by and between diaDexus, Inc. and R. Michael Richey
10.7    Change in Control and Severance Agreement, dated September 20, 2011, by and between diaDexus, Inc. and R. Michael Richey

 

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Table of Contents
  10.8   Executive Employment Agreement, effective as of July 1, 2011, by and between diaDexus, Inc. and James P. Panek (incorporated by reference to Exhibit 10.2 to the registrant’s Quarterly Report on Form 10-Q (file no. 0-26483) for the fiscal quarter ended June 30, 2011, filed on August 15, 2011)
  10.9   Consulting Agreement, dated September 22, 2011, by and between diaDexus, Inc. and James P. Panek
  10.10**   Transition and Separation Agreement, dated September 14, 2011, by and between diaDexus, Inc. and Robert L. Wolfert
  10.11   Separation Agreement, dated September 30, 2011, by and between diaDexus, Inc. and Bernard M. Alfano
  10.12**   Loan and Security Agreement, dated September 23, 2011, by and between diaDexus, Inc. and Comerica Bank
  31.1   Certification of principal executive and financial officer pursuant to Exchange Act Rule 13a-14(a)
  32.1   Certification of principal executive and financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS***   XBRL Instance Document
101.SCH***   XBRL Taxonomy Extension Schema Document
101.CAL***   XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB***   XBRL Taxonomy Extension Label Linkbase Document
101.PRE***   XBRL Taxonomy Extension Presentation Linkbase Document

 

* Certain schedules referenced in the Agreement and Plan of Merger and Reorganization have been omitted in accordance with Item 601(b)(2) of Regulation S-K. A copy of any omitted schedule will be furnished supplementally to the Securities and Exchange Commission upon request.
** Certain portions have been omitted pursuant to a confidential treatment request. Omitted information has been filed separately with the SEC.
*** Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

 

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