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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549

FORM 10-Q

Mark One

[X]	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002

or

[   ]	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OR 1934 FOR THE TRANSITION PERIOD FROM ______________ TO ______________

Commission File Number: 333-34120

ISTA PHARMACEUTICALS, INC.
(Exact name of registrant as specified in its charter)

15279 ALTON PARKWAY #100, IRVINE, CA 92618
(Address of principal executive offices)

(949) 788-6000
(Registrant’s telephone number, including area code)

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(D) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

     The number of shares of the registrant’s common stock, $.001 par value, outstanding as of July 31, 2002 was 16,892,636.

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PART I  FINANCIAL INFORMATION

Item 1 Financial Statements

ISTA Pharmaceuticals, Inc.
Condensed Consolidated Balance Sheets
(in thousands, except share and per share data)

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ISTA Pharmaceuticals, Inc.
Condensed Consolidated Statements of Operations
(In thousands, except per share amounts)
(Unaudited)

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ISTA Pharmaceuticals, Inc.
Condensed Consolidated Statements of Cash Flows
(In thousands, unaudited)

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ISTA Pharmaceuticals, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements
June 30, 2002

1. The Company

     ISTA Pharmaceuticals, Inc. (“ISTA” or the “Company”) was incorporated in the state of California on February 13, 1992 to discover, develop and market novel therapeutics for diseases and conditions of the eye. ISTA’s initial product development efforts are focused on using highly purified formulations of the enzyme hyaluronidase to treat diseases and conditions such as vitreous hemorrhage, diabetic retinopathy and corneal opacification. The Company’s lead product candidate, Vitrase®, which has completed two Phase III clinical trials, is a proprietary drug for the treatment of vitreous hemorrhage. The Company has not commenced commercial operations and is considered to be in the development stage. The Company reincorporated in Delaware on August 4, 2000.

     The financial statements included herein have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilities and commitments in the normal course of business for the foreseeable future.

     As of June 30, 2002, we had approximately $5.3 million in cash and short-term investments. The Company incurred a net loss of $11.3 million for the six months ended June 30, 2002 and had an accumulated deficit of $110.7 million at June 30, 2002. The ability of the Company to continue as a going concern is dependent upon its ability to obtain additional capital and achieve profitable operations. These factors raise substantial doubt about the Company’s ability to continue as a going concern. The Company will continue to rely on outside sources of financing to meet its capital needs for the fourth quarter and beyond. The outcome of these matters cannot be predicted at this time. Further, there can be no assurance, assuming the Company raises additional funds, that the Company will achieve positive cash flow. If the Company is not able to secure additional funding, we will be required to scale back our research and development programs and general and administrative activities and we may not be able to continue in business. The Company has engaged an investment bank in order to try and raise additional funding. These condensed consolidated financial statements do not include any adjustments to the specific amounts and classifications of assets and liabilities that might be necessary should the Company be unable to continue as a going concern.

2. Basis of Presentation

     The unaudited financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations. In management’s opinion, the accompanying financial statements have been prepared on a basis consistent with the audited financial statements and contain adjustments, consisting of only normal, recurring accruals, necessary to present fairly the Company’s financial position and results of operations. Interim financial results are not necessarily indicative of results anticipated for the full year.

     The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

     For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2001.

3. Revenue Recognition

     We recognize revenue consistent with the provisions of the Securities and Exchange Commission’s (“SEC”) Staff Accounting Bulletin No. 101 (“SAB 101”), Revenue Recognition, which sets forth guidelines in the timing of revenue recognition based upon factors such as passage of title, installation, payments and customer acceptance. Amounts received for upfront product and technology license fees under multiple-element arrangements are deferred and recognized over the period of such services or performance if such arrangements require on-going services or performance. Amounts received for milestones are recognized upon achievement of the milestone, unless the

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amounts received are creditable against royalties or we have ongoing performance obligations. Royalty revenue will be recognized upon sale of the related products, provided the royalty amounts are fixed and determinable and collection of the related receivable is probable. Any amounts received prior to satisfying our revenue recognition criteria will be recorded as deferred revenue in the accompanying balance sheets.

     In December 2001, we began a collaboration with Otsuka Pharmaceutical Co., Ltd. under which Otsuka will be responsible for all clinical development, regulatory approvals, sales and marketing activities for Vitrase in Japan. Our principal sources of revenue from this collaboration and the commercialization of Vitrase will be the license fee received in December 2001 and amortized over the Company’s continuing involvement with Otsuka, milestone payments and product sales received from Otsuka. Under the terms of the collaboration, we are responsible for the manufacture of Vitrase and supplying all of Otsuka’s requirements for Vitrase.

4. Comprehensive Income (Loss)

     Statement of Financial Accounting Standard (“SFAS”) No. 130, Reporting Comprehensive Income, requires reporting and displaying comprehensive income (loss) and its components, which, for ISTA, includes net loss and unrealized gains and losses on investments and foreign currency translation gains and losses. Total comprehensive loss for the six month period ended June 30, 2002 and 2001 was $11,325,000 and $10,126,000, respectively. In accordance with SFAS No. 130, the accumulated balance of unrealized gains(losses) on investments and the accumulated balance of foreign currency translation adjustments are disclosed as separate components of stockholders’ equity.

5. Net Loss Per Share

     In accordance with SFAS No. 128, Earnings Per Share, and SEC Staff Accounting Bulletin (“SAB”) No. 98, basic net loss per common share is computed by dividing the net loss for the period by the weighted average number of common shares outstanding during the period. Under SFAS No. 128, diluted net income (loss) per share is computed by dividing the net income (loss) for the period by the weighted average number of common and common equivalent shares, such as stock options, outstanding during the period. Such common equivalent shares have not been included in the Company’s computation of net loss per share as their effect would be anti-dilutive.

     Under the provisions of SAB No. 98, common shares issued for nominal consideration, if any, would be included in the per share calculations as if they were outstanding for all periods presented. No common shares have been issued for nominal consideration.

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

     This report contains forward-looking statements that involve risks and uncertainties. The statements contained in this report that are not purely historical are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. These forward-looking statements concern matters that involve risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. Words such as “may,” “will,” “should,” “could,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential” or “continue” or similar words are intended to identify forward looking statements, although not all forward looking statements contain these words.

     Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of the forward-looking statements. We are under no duty to update any of the forward-looking statements after the date hereof to conform such statements to actual results or to changes in our expectations.

     Readers are urged to carefully review and consider the various disclosures made by us which attempt to advise interested parties of the factors which affect our business, including without limitation “Factors That May Affect Results of Operations and Financial Condition” set forth in this Form 10-Q, and the audited financial statements and the notes thereto and disclosures made under the captions, “Management Discussion and Analysis of Financial Condition and Results of Operations”, “Risk Factors”, “Consolidated Financial Statements” and “Notes to

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Consolidated Financial Statements”, included in the Company’s annual report on Form 10-K for the year ended December 31, 2001.

Overview

     ISTA was founded to discover, develop and market new remedies for diseases and conditions of the eye. Our product development efforts are focused on using highly purified formulations of the enzyme hyaluronidase to treat diseases and conditions such as vitreous hemorrhage, diabetic retinopathy and corneal opacification. Our lead product candidate, Vitrase, is a proprietary drug for the treatment of vitreous hemorrhage and diabetic retinopathy.

     In March 2000, we completed the acquisition of Visionex, a Singapore corporation, which had been conducting a Phase II clinical trial of Vitrase in Singapore. Visionex was a related party through common ownership by some of our stockholders. We are planning to significantly wind down the operations of Visionex in 2002 upon completion of the Phase II clinical trials of Vitrase in Singapore.

     In March 2000, we began a collaboration with Allergan, Inc., under which Allergan will be responsible for the marketing, sale and distribution of Vitrase in the United States and all international markets, except Mexico until April 2004, and Japan. We will be dependent on the success of Allergan in commercializing Vitrase in these markets. Our principal sources of revenue from this collaboration and the commercialization of Vitrase will be milestone, royalty and profit sharing payments received from Allergan. Under the terms of the collaboration, we are responsible for the manufacture of Vitrase and for supplying all of Allergan’s requirements for Vitrase. If we are successful in obtaining regulatory approval for Vitrase and Allergan achieves significant sales of the product, our aggregate manufacturing costs will increase.

     In December 2001, we began a collaboration with Otsuka Pharmaceutical Co., Ltd., under which Otsuka will be responsible for all clinical development, regulatory approval, sales and marketing activities for Vitrase in Japan. Our principal sources of revenue from this collaboration and the commercialization of Vitrase will be the license fee received in December 2001 and amortized over the Company’s continuing involvement with Otsuka, milestone payments and product sales received from Otsuka. Under the terms of the collaboration, we are responsible for the manufacture of Vitrase and supplying all of Otsuka’s requirements for Vitrase.

     In December 2001, we announced our strategic plan to transition from a development organization to a fully-integrated, specialty pharmaceutical company with a primary focus on ophthalmology by acquiring complimentary products, either already marketed or in development.

     In March 2002, we announced the preliminary results for our Phase III clinical studies of Vitrase. The data from the two Phase III studies did not show a statistically significant improvement in the primary (surrogate) endpoint. However, further analysis has shown that for the 55 IU dose of Vitrase in both studies, there was a clinically meaningful and statistically significant decrease in the density of vitreous hemorrhage and a statistically significant difference in the proportion of patients with an improvement in best-corrected visual acuity at one and two months, which extended to the three-month post-treatment visit in the study conducted outside North America. Based on these improvements in visual function and our review and discussions with the FDA regarding the data from the two studies, we plan to submit the clinical section and the chemistry, manufacturing and controls section of the New Drug Application (NDA) for Vitrase by the end of the third quarter of 2002. Furthermore, we plan to submit the final component of the Vitrase NDA, concerning manufacturing validation, in the first quarter of 2003.

     On May 9, 2002 we acquired substantially all of the assets of AcSentient, Inc. The assets include United States marketing rights for a new formulation of timolol, timolol-LA, a beta-blocking agent for treating glaucoma. AcSentient previously acquired rights to timolol-LA from Senju Pharmaceutical Co., Ltd. (Japan). We believe that Senju will be submitting the NDA for timolol-LA early in the fourth quarter of 2002, which will include data from a recently conducted U.S.-based, multi-center Phase III clinical trial. The assets acquired from AcSentient also include United States product rights to bromfenac, a topical non-steroidal anti-inflammatory compound for the treatment of ocular inflammations, and worldwide marketing rights for Caprogel®, a novel compound for the treatment of hyphema, or bleeding into the front of the eye. AcSentient previously acquired rights to these compounds from Senju and the Eastern Virginia School of Medicine, respectively. Under the terms of the transaction, we have assumed payment and other obligations and responsibility for final development of bromfenac and Caprogel. We anticipate initiating a Phase III study of bromfenac in the United States in the first half of 2003. We believe that data from this Phase III study, combined with preclinical and clinical study data from trials

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previously conducted in Japan, will be sufficient for us to submit an NDA for bromfenac in late 2003. Furthermore, we intend to initiate a Phase III study of Caprogel in the first half of 2003. We believe that this Phase III study, in combination with a Phase III study of Caprogel previously completed in the United States, will support our preparation and submission of an NDA towards the end of 2003. We anticipate incurring additional research and development expenses in connection with the final development of bromfenac and Caprogel, and if these compounds are approved for sale in the United States, we expect to incur significant marketing and sales expenses. In addition, we will also be responsible for certain milestone payments to a third party in connection with the marketing approval in the United States for these compounds.

     We currently have no products available for sale. We have incurred losses since our inception and had an accumulated deficit through June 30, 2002 of $110.7 million. Our losses have resulted primarily from research and development activities, including clinical trials, related general and administrative expenses and a deemed dividend for preferred stockholders. We expect to continue to incur operating losses for the foreseeable future as we continue our research and development and clinical testing activities, and seek regulatory approval for our product candidates.

Results of Operations

Three Months Ended June 30, 2002 and 2001

     Revenue. Revenue of $70,000 for the three months ended June 30, 2002 reflects the amortization for the period of deferred revenue recorded in December 2001 for the license fee payment made by Otsuka in connection with the license for Vitrase in Japan.

     Research and development expenses. Research and development expenses were $4.5 million for the three months ended June 30, 2002 compared to $3.6 million for the three months ended June 30, 2001. The increase in research and development expenses was primarily attributable to the costs (including payment and other obligations) associated with the Company’s acquisition from AcSentient of certain rights to timolol-LA, Caprogel, and bromfenac in May 2002.

     General and administrative expenses. General and administrative expenses were $2.2 million for the three months ended June 30, 2002 compared to $1.7 million for the three months ended June 30, 2001. The increase in general and administrative expenses was primarily attributable to an increase in the amortization of non-cash, stock based compensation expense and higher corporate operating expenses.

     Interest income. Interest income was $43,000 for the three months ended June 30, 2002 compared to $383,000 for the three months ended June 30, 2001. The decrease in interest income was attributable to higher cash balances for the second quarter of 2001 compared to the second quarter of 2002.

Six Months Ended June 30, 2002 and 2001

     Revenue. Revenue of $140,000 for the six months ended June 30, 2002 reflects the amortization for the period of deferred revenue recorded in December 2001 for the license fee payment made by Otsuka in connection with the license for Vitrase in Japan.

     Research and development expenses. Research and development expenses were $7.4 million for the six months ended June 30, 2002 compared to $7.6 million for the six months ended June 30, 2001. The decrease in research and development expenses was primarily attributable to decreases in expenses associated with two Phase III clinical trials of Vitrase for the treatment of severe vitreous hemorrhage, offset against the costs (including payment and other obligations) associated with the Company’s acquisition from AcSentient of certain rights to timolol-LA, Caprogel, and bromfenac in May 2002.

     General and administrative expenses. General and administrative expenses were $4.2 million for the six months ended June 30, 2002 compared to $3.2 million for the six months ended June 30, 2001. The increase in general and administrative expenses was primarily attributable to an increase in the amortization of non-cash, stock based compensation expense and higher corporate operating expenses.

     Interest income. Interest income was $130,000 for the six months ended June 30, 2002 compared to $647,000 for the six months ended June 30, 2001. The decrease in interest income was attributable to higher cash balances during the first six months of 2001 compared to the first six months of 2002.

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Liquidity and Capital Resources

     As of June 30, 2002, we had approximately $5.3 million in cash and short-term investments.

     We have financed our operations since inception primarily through private sales of our preferred stock and sale of our common stock in our initial public offering. We received net proceeds of $10.0 million from the private sale of preferred stock in March 2000, $31.7 million from our initial public offering in August 2000, $4.0 million from the private sale of common stock in December 2001 and $5.0 million from a license fee payment in December 2001.

     For the six months ended June 30, 2002, we used $10.1 million of cash for operations principally as a result of the net loss of $11.3 million partially offset by non-cash compensation expense of approximately $1.3 million. We used approximately $9.1 million of cash for operations in the six months ended June 30, 2001.

     For the six months ended June 30, 2002, we used $1.1 million of cash for investing activities, primarily for the purchase of marketable investment securities. For the six months ended June 30, 2001, $7.7 million was provided by investing activities, primarily from the sale of marketable securities.

     Net cash provided by financing activities totaled $107,000 for the six months ended June 30, 2002 compared to $88,000 for the six months ended June 30, 2001. These activities primarily involved the exercise of stock options.

     As of June 30, 2002, the Company had an accumulated deficit of $110.7 million. The Company has operated at a loss since inception and expects this to continue for some time. The amount of the accumulated deficit will continue to grow if we are able to continue our clinical, research and development efforts for our product candidates. We need to raise additional funding in order to continue our clinical, research and development efforts, and if these activities are successful and we receive FDA approval to market these products, additional funding will be required to market and sell these products.

     At the time of this filing, we believe that our cash on hand will be sufficient to fund our operations and capital expenditure needs for approximately the next month. We have engaged an investment bank in order to try and raise additional funding. There can be no assurance that we will be able to raise additional funds on terms favorable to us or to our stockholders, or at all. Our failure to raise sufficient funds will require us to eliminate some or all of our product development efforts and significantly limit our ability to operate as a going concern. If additional funds are raised by issuing equity securities, the percentage ownership of our stockholders will be reduced, stockholders may experience substantial dilution or such equity securities may provide for rights, preferences or privileges senior to those of the holders of our common stock.

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Factors that May Effect Results of Operations and Financial Condition.

We have a history of net losses and negative cash flow, and we may never achieve or maintain profitability.

     We have only a limited operating history upon which you can evaluate our business. We have incurred losses every year since we began operations. As of June 30, 2002, our accumulated deficit was $110.7 million, including a net loss of $22.5 million for the year ended December 31, 2001 and a net loss of approximately $11.3 million for the six months ended June 30, 2002. We have not generated any revenue from product sales to date, and we may never generate revenues from product sales in the future. Even if we do achieve significant revenues from product sales, we expect to incur operating losses for the foreseeable future and, due to expenses associated with our acquisition of product rights from AcSentient and the currently anticipated increase in research and development expenses in 2002 over the levels previously planned, we now anticipate that our cash in hand will be sufficient to fund our operations and capital expenditure needs for approximately the next month from the time of filing. We may never achieve profitable operations.

If we cannot raise additional capital on acceptable terms, we will need to significantly curtail our operations and we may not be able to continue as a going concern.

     At the time of this filing, we believe that our cash on hand will be sufficient to fund our operations and capital expenditure needs for approximately the next month. We have engaged an investment bank in order to raise additional funding. There can be no assurance that we will be able to raise additional funds on terms favorable to us or to our stockholders, or at all. Our failure to raise sufficient funds will require us to eliminate some or all of our product development efforts and significantly limit our ability to operate as a going concern.

Due to the preliminary results of our Phase III clinical trials for Vitrase, we may terminate the development of Vitrase for severe vitreous hemorrhage.

     In March 2002, we announced the preliminary efficacy and safety results for our two Phase III clinical studies of Vitrase. The data from these two studies did not show a statistically significant improvement in the primary (surrogate) endpoint. However, further analysis has shown that for the 55 IU dose of Vitrase, in both studies, there was a clinically meaningful and statistically significant decrease in the density of vitreous hemorrhage and a statistically significant difference in the proportion of patients with an improvement in best-corrected visual acuity at one and two months, which extended to the three-month post-treatment visit in the study conducted outside of North America. Based on these improvements in visual function and our review and discussions with the FDA regarding the data from the two studies, we plan to submit the clinical section and the chemistry, manufacturing and controls section of the NDA for Vitrase by the end of the third quarter of 2002. Furthermore, we plan to submit the final component of the Vitrase NDA, concerning manufacturing validation, in the first quarter of 2003. The FDA’s review of the NDA for Vitrase may result in a requirement that we conduct additional Phase III clinical studies to support regulatory approval. Additional Phase III clinical studies will require us to raise additional capital, which we may not be able to raise on favorable terms, or at all. Even if we raise additional funds and conduct additional clinical trials, we cannot assure you that the results will support the filing or regulatory approval of an NDA, and we may decide to terminate our efforts to develop Vitrase if the results of any additional clinical studies do not justify the costs involved. If we terminate development of Vitrase, we will be dependent on the development of our other product candidates and our ability to successfully acquire other products and technologies.

If we are not able to complete clinical trials for bromfenac or Caprogel successfully or our clinical trials are delayed, we may not be able to market these products.

     In connection with our acquisition of substantially all of the assets of AcSentient, we acquired United States product rights to bromfenac and worldwide marketing rights for Caprogel. Phase I, Phase II and Phase III clinical trials of bromfenac have already been completed in Japan. We anticipate initiating a single Phase III study of bromfenac in the United States in the first half of 2003, and when that is successfully completed, submitting an NDA in late 2003. Phase II and Phase III clinical trials of Caprogel have been completed and we intend to initiate one additional Phase III study of Caprogel in the first half of 2003. When that Phase III study is completed, we believe that we will have the necessary support to prepare and submit an NDA for Caprogel towards the end of 2003. However, the FDA may require us to conduct additional clinical trials with respect to bromfenac or Caprogel

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prior to filing NDAs for those products. We may not be able to raise additional capital in order to conduct necessary clinical trials and there is a possibility that the results of any clinical trials conducted by us for bromfenac or Caprogel may not support regulatory approval.

We may be delisted on the Nasdaq National Market.

On June 28, 2002, we received a notice from the Nasdaq National Market that our common stock had failed to maintain the required minimum closing bid price of $1.00 set forth in Marketplace Rule 4450(a)(5) for a period of 30 consecutive trading days. As a result, Nasdaq provided us 90 calendar days, or until September 26, 2002, to regain compliance with this requirement or face delisting from trading on Nasdaq. On August 1, 2002, we were also informed by Nasdaq that we do not currently qualify under the new minimum $10,000,000 stockholders’ equity standard and we have until November 1, 2002 to achieve compliance with this requirement.

If our common stock were to be delisted from the Nasdaq National Market, trading in our common stock would decrease substantially, or cease altogether, the market price of the common stock may decline further, potentially to zero, and our stockholders may lose some or all of their investment. Furthermore, delisting of our common stock from the Nasdaq National Market would inhibit, if not preclude, our ability to raise additional working capital on acceptable terms, if at all.

If regulatory approval for the new formulation of timolol is unsuccessful or delayed, we may not be able to market the product.

     In connection with our acquisition of substantially all of the assets of AcSentient, we also acquired the United States marketing rights for timolol-LA. We depend on Senju for obtaining regulatory approval for timolol-LA. We believe that Senju will be submitting the NDA for timolol-LA early in the fourth quarter of 2002, which will include data from a recently conducted U.S.-based, multi-center Phase III clinical trial and previous pre-clinical trials and other clinical trials. However, the FDA may require Senju to conduct additional clinical trials prior to filing an NDA. The amount of time and resources Senju dedicates to obtaining regulatory approval of timolol-LA is not within our control.

If we do not receive and maintain regulatory approvals for our products, we will not be able to manufacture or market our products.

     None of our product candidates has received regulatory approval from the FDA. Approval from the FDA is necessary to manufacture and market pharmaceutical products in the United States. Other countries have similar requirements.

     The process that pharmaceuticals must undergo to receive necessary approval is extensive, time-consuming and costly, and there is no guarantee that regulatory authorities will approve any of our product candidates. FDA approval can be delayed, limited or not granted for many reasons, including:

	•		a product candidate may not be safe or effective
	•		FDA officials may not find that the data from preclinical testing and clinical trials justifies approval
	•		the FDA might not approve our manufacturing processes or facilities or the processes or facilities of our contract manufacturers or raw material suppliers
	•		the FDA may change its approval policies or adopt new regulations
	•		the FDA may approve a product candidate for indications that are narrow, which may limit our sales and marketing activities

     The process of obtaining approvals in foreign countries is subject to delay and failure for the same reasons.

If we are not able to complete our clinical trials successfully, we may not be able to obtain regulatory approvals to market our products.

     Many of our research and development programs are at an early stage and clinical testing is a long, expensive and uncertain process. Even if initial results of preclinical studies or clinical trial results are positive, we may obtain different results in later stages of drug development, including failure to show desired safety and efficacy. For example, our preliminary efficacy and safety results for our two Phase III clinical trials of Vitrase for the treatment of severe vitreous hemorrhage did not show a statistically significant improvement in the primary (surrogate) endpoint. We cannot assure you that any additional clinical trials we may decide to conduct of Vitrase for the treatment of severe vitreous hemorrhage will support the filing or regulatory approval of a NDA.

     The clinical trials of any of our product candidates could be unsuccessful, which would prevent us from obtaining regulatory approval and commercializing the product. Our failure to develop safe and effective products would substantially impair our ability to generate revenues and materially harm our business and financial condition.

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We may be unable to execute our strategic plan to transition to a fully-integrated, specialty pharmaceutical company.

     Our strategy to acquire or in-license currently marketed ophthalmic products will be dependent upon a number of factors including identifying such acquisition opportunities, successfully negotiating favorable terms with third parties for the acquisition of such products and our ability to raise additional capital to enable the acquisition of such products. Furthermore, we have not established sales, marketing or distribution capabilities to support the marketing of any products and we do not have experience in the manufacturing of any products in commercial quantities.

     We may not be able to identify any product acquisition opportunities or be successful in negotiating favorable terms for such product acquisitions, or at all. Should we be successful in acquiring any products, we will need to establish our own sales, marketing, distribution and manufacturing capabilities, each of which will require substantial financial and management resources. Our failure to establish an effective sales, marketing, distribution and manufacturing capabilities on a timely basis would adversely affect our ability to commercialize any acquired products.

We depend on our new Chief Executive Officer, Vicente Anido, Jr., Ph.D., to execute our strategic plan to transition to a fully-integrated, specialty pharmaceutical company.

     Our success largely depends on the skills, experience and efforts of our new Chief Executive Officer, Vicente Anido, Jr., Ph.D. Dr. Anido may terminate his employment at any time. In addition, we do not maintain “key person” life insurance policies covering Dr. Anido. The loss of Dr. Anido would jeopardize our ability to execute our strategic plan.

If we have problems with our contract manufacturer, our product development and commercialization efforts could be delayed or stopped.

     We have entered into a master services agreement with a new contract manufacturer, SP Pharmaceuticals, for the manufacture of commercial quantities of Vitrase. To date, we needed Vitrase only for clinical trials. Before any new contract manufacturer can produce commercial quantities of Vitrase, if applied, we must demonstrate to the FDA’s satisfaction that the new source of Vitrase is substantially equivalent to the supply of the drug used in our clinical trials. Such demonstration may include the requirement to conduct additional clinical trials. In addition, the manufacturing facilities of all of our contract manufacturers must comply with current Good Manufacturing Practice regulations, which the FDA strictly enforces. Furthermore, the facilities of the contract manufacturer must undergo and pass pre-approval inspection by the FDA before any of our products can be approved for manufacture. We cannot assure you that SP Pharmaceuticals will be able to develop processes necessary to produce substantially equivalent product or that regulatory authorities will this new manufacturer. Failure to develop necessary production processes or receive regulatory approval could delay or stop our efforts to develop and commercialize Vitrase.

Our strategic partners may not perform their duties under our agreements, in which case our ability to commercialize Vitrase may be significantly impaired.

     We have entered into collaborations with both Allergan, Inc. and Otsuka Pharmaceutical Co., Ltd. for Vitrase. If we obtain regulatory approval for Vitrase in the United States and Europe, we will be dependent on Allergan for the commercialization of Vitrase in the United States and Europe. We will depend on Otsuka for obtaining regulatory approval of Vitrase in Japan, and if such approval is obtained, we will be dependent upon Otsuka for the commercialization of Vitrase in Japan. The amount and timing of resources Allergan and Otsuka dedicate to our collaborations is not within our control. Accordingly, any breach or termination of our agreements by Allergan or Otsuka could delay or stop the commercialization of Vitrase. For various reasons, including our preliminary results of our two Phase III clinical trials of Vitrase for the treatment of severe vitreous hemorrhage, our strategic partners may change their strategic focus, terminate our agreements, pursue alternative technologies or develop competing products. Unfavorable developments in our relationship with our strategic partners could have a significant adverse effect on us and our stock price.

If we have problems with Biozyme, our product development and commercialization efforts could be delayed or stopped.

     We have a supply agreement with Biozyme Laboratories Limited pursuant to which Biozyme supplies our contract manufacturer with all of our ovine hyaluronidase requirements for use in our clinical trials. Biozyme is currently our only source for highly purified hyaluronidase, which is extracted from sheep in New Zealand.

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Difficulties in our relationship with Biozyme could limit our ability to provide sufficient quantities of our products for clinical trials and commercial sales.

The outbreak of foot-and-mouth disease in Europe and elsewhere may significantly interrupt the supply of the active pharmaceutical ingredient for our products.

     The active pharmaceutical ingredient in our product candidates is hyaluronidase, which is extracted from sheep in New Zealand. Biozyme, the company that processes hyaluronidase for us, is located in Wales and ships hyaluronidase to our manufacturer, SP Pharmaceuticals, in Albuquerque, New Mexico, approximately twice per month for formulation and filling of dose specific vials. The export of each shipment of hyaluronidase from the United Kingdom (UK) requires that the Ministry of Agriculture, Fisheries and Food (MAFF) issue an export permit. The MAFF has never denied the issuance of an export permit for any shipment of hyaluronidase to ISTA. To permit the importation of hyaluronidase in to the United States, we are required to secure an annual import permit from the United States Department of Agriculture (USDA). The USDA has never denied the issuance of an annual import permit to ISTA.

     In February 2001, an outbreak of foot-and-mouth disease in the UK led to governmental actions around the world to prevent the highly contagious disease from spreading to animals in other countries. Such actions have included temporarily prohibiting the importation and exportation of cattle, sheep and other animals subject to the disease, and products derived from these animals, to and from the UK and to and from other countries. As a result, the MAFF temporarily placed exportation of processed hyaluronidase and other biological materials on hold because of the foot-and-mouth disease outbreak. Before it will issue export permits for these materials, including hyaluronidase, MAFF is requiring that the USDA make a written request that permits be issued. The USDA issued a permit request for our hyaluronidase. The MAFF then issued the export permit and the shipment of hyaluronidase was delivered to ISTA. Subsequent shipments of hyaluronidase have been delivered without delay consistent with the procedure in place prior to the outbreak of foot-and-mouth disease. If future events lead to lengthy delays in the shipment of our active pharmaceutical ingredient to our manufacturer, our on-going clinical studies and our business and financial condition may be materially impaired.

We may be required to bring litigation to enforce our intellectual property rights, which may result in substantial expense.

     We rely on patents to protect our intellectual property rights. The strength of this protection, however, is uncertain. In particular, it is not certain that:

	•		our patents and pending patent applications use technology that we invented first
	•		we were the first to file patent applications for these inventions
	•		others will not independently develop similar or alternative technologies or duplicate our technologies
	•		any of our pending patent applications will result in issued patents
	•		any patents issued to us will provide a basis for commercially viable products, will provide us with any competitive advantages or will not face third party challenges or be the subject of further proceedings limiting their scope

     We may become involved in interference proceedings in the U.S. Patent and Trademark Office to determine the priority of our inventions. We could also become involved in opposition proceedings in foreign countries challenging the validity of our patents. In addition, costly litigation could be necessary to protect our patent position. Patent law relating to the scope of claims in the technology fields in which we operate is still evolving and, consequently, patent positions in our industry are generally uncertain. We may not prevail in any lawsuit or, if we do prevail, we may not receive commercially valuable remedies. Failure to protect our patent rights could harm us.

     We also rely on trade secrets, unpatented proprietary know-how and continuing technological innovation that we seek to protect with confidentiality agreements with employees, consultants and others with whom we discuss our business. These individuals may breach our confidentiality agreements and our remedies may not be adequate to enforce these agreements. Disputes may arise concerning the ownership of intellectual property or the applicability

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or enforceability of these agreements, and we may not resolve these disputes in our favor. Furthermore, our competitors may independently develop trade secrets and proprietary technology similar to ours. We may not be able to maintain the confidentiality of information relating to such products.

Our products could infringe the intellectual property rights of others, which may cause us to engage in costly litigation and, if we are not successful, could cause us to pay substantial damages and prohibit us from selling our products.

     Third parties may assert patent, trademark or copyright infringement or other intellectual property claims against us based on their patents or other intellectual property. We may be required to pay substantial damages, including but not limited to treble damages, for past infringement if it is ultimately determined that our products infringe a third party’s intellectual property rights. Even if infringement claims against us are without merit, defending a lawsuit takes significant time, may be expensive and may divert management’s attention from other business concerns. Further, we may be unable to sell our products before we obtain a license from the owner of the relevant technology or other intellectual property rights. If such a license is available at all, it may require us to pay substantial royalties.

     We have ceased negotiations with a third party for our acquisition of rights to patent applications owned by such party related to our Keraform product in development. As a result, we may be required to license these patent rights in order to commercialize our Keraform product as currently planned. Such a license may not be available to us on favorable terms, if at all. If such license is not available and we commercialize our Keraform product in its current configuration, there is a possibility that we could be sued for patent infringement should any patents containing claims related to our Keraform product issue from these patent applications.

If we do not receive third-party reimbursement, our products may not be accepted in the market.

     Our ability to earn sufficient returns on our products will depend in part on the extent to which reimbursement for our products and related treatments will be available from government health administration authorities, private health coverage insurers, managed care organizations and other organizations.

     Third-party payers are increasingly attempting to limit both the coverage and the level of reimbursement of new drug products to contain costs. Consequently, significant uncertainty exists as to the reimbursement status of newly approved healthcare products. If we succeed in bringing one or more of our product candidates to market, third-party payers may not establish adequate levels of reimbursement for our products, which could limit their market acceptance.

We face intense competition and rapid technological change that could result in products that are superior to the products we are developing.

     We have numerous competitors in the United States and abroad, including, among others, major pharmaceutical and specialized biotechnology firms, universities and other research institutions that may be developing competing products. Such competitors may include Alcon Laboratories, Inc., Bausch & Lomb, Incorporated, CIBA Vision (a unit of Novartis AG), Merck & Co, Allergan and Eli Lilly and Company. These competitors may develop technologies and products that are more effective or less costly than our current or future product candidates or that could render our technologies and product candidates obsolete or noncompetitive. Many of these competitors have substantially more resources and product development, manufacturing and marketing experience and capabilities than we do. In addition, many of our competitors have significantly greater experience than we do in undertaking preclinical testing and clinical trials of pharmaceutical product candidates and obtaining FDA and other regulatory approvals of products and therapies for use in healthcare.

We are exposed to product liability claims, and insurance against these claims may not be available to us at a reasonable rate.

     The coverage limits of our insurance policies may be inadequate to protect us from any liabilities we might incur in connection with clinical trials or the sale of our products. Product liability insurance is expensive and in the future may not be available on acceptable terms, or at all. A successful claim or claims brought against us in excess of our insurance coverage could materially harm our business and financial condition.

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We deal with hazardous materials and generate hazardous wastes and must comply with environmental laws and regulations, which can be expensive and restrict how we do business. We could also be liable for damages or penalties if we are involved in a hazardous material or waste spill or other accident.

     Our research and development work and manufacturing processes involve the use of hazardous materials and waste, including chemical, radioactive and biological materials. Our operations also produce hazardous wastes. We are subject to federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of these materials and waste. In the event of a hazardous material or waste spill or other accident, we could also be liable for damages or penalties. In addition, we may be liable or potentially liable for injury or contamination that results from our, or a third party’s, use of these materials, and our liability could exceed our total assets.

Our stock price is subject to significant volatility.

     Our stock price has been and may continue to be subject to significant volatility. The following factors, in addition to other risk factors described in this section, may cause the market price of our common stock to fall:

	•		competitors announcing technological innovations or new commercial products
	•		developments concerning proprietary rights, including patents
	•		competitors publicity regarding actual or potential products underdevelopment
	•		regulatory developments in the United States and foreign countries
	•		period-to-period fluctuations in our financial results
	•		litigation
	•		economic and other external factors, including disasters and other crises

     We participate in a highly dynamic industry, which often results in significant volatility in the market price of our common stock irrespective of company performance. Fluctuations in the price of our common stock may be exacerbated by conditions in the healthcare and technology industry segments or conditions in the financial markets generally.

Item 3 Quantitative and Qualitative Disclosures about Market Risk

     The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. Some of the securities that we invest in may have market risk. This means that a change in prevailing interest rates may cause the principal amount of the investment to fluctuate. For example, if we hold a security that was issued with a fixed interest rate at the then-prevailing rate and the prevailing interest rate later rises, the principal amount of our investment will probably decline. To minimize this risk in the future, we intend to maintain our portfolio of cash equivalents and short-term investments in a variety of securities, including commercial paper, money market funds, government and non-government debt securities. The average duration of all of our investments in 2001 and for the first six months of 2002 was less than one year. Due to the short-term nature of these investments, we believe we have no material exposure to interest rate risk arising from our investments. A hypothetical 100 basis point adverse move in interest

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rates along the entire interest rate yield curve would not materially affect the fair market value of our interest sensitive financial investments. Declines in interest rates over time will, however, reduce our investment income, while increases in interest rates over time will increase our interest expense.

     We have operated primarily in the United States and have had no sales to date. Accordingly, we have not had any significant exposure to foreign currency rate fluctuations. Visionex’s functional currency is the Singapore dollar and a portion of Visionex’s business is conducted in currencies other than the Singapore dollar. However, Visionex’s operations have historically been insignificant and we have no current plans to substantially increase Visionex’s activity. As a result, currency fluctuations between the Singapore dollar and the currencies in which Visionex does business will cause foreign currency translation gains and losses. We do not expect our foreign currency translation gains or losses to be material. We do not currently engage in foreign exchange hedging transactions to manage our foreign currency exposure.

PART II  OTHER INFORMATION

Item 1 Legal Proceedings

     None

Item 2 Change in Securities and Use of Proceeds

Initial Public Offering

     On August 25, 2000 the Company completed an initial public offering of 3,000,000 shares of common stock at an initial public offering price of $10.50 per share with gross proceeds of $31,500,000. Net proceeds, after a 7% underwriters’ discount, were $29,295,000. Additional expenses relating to the initial public offering, other than the underwriters’ discount, amounted to $1,918,000. The managing underwriters for the offering were CIBC World Markets, Prudential Vector Healthcare and Thomas Weisel Partners LLC. The shares of common stock sold in the offering were registered under the Act in a Registration Statement on Form S-1, as amended (File No. 333-34120). The Securities and Exchange Commission initially declared the Registration Statement effective on August 9, 2000. We subsequently filed two post-effective amendments to the Registration Statement, the last of which was declared effective on August 21, 2000.

     In September 2000, the underwriters exercised their over-allotment option for an additional 450,000 shares of common stock at the initial public offering price of $10.50, less a 7% discount, resulting in net proceeds of $4,394,000.

     The net proceeds from our initial public offering are primarily being used to fund our clinical trials and preclinical research, with a particular focus on Vitrase for the treatment of severe vitreous hemorrhage, and for general corporate purposes, including working capital. We may use a portion of the net proceeds to acquire or invest in technologies, products or businesses complementary to our business. None of the net offering proceeds of ISTA have been or will be paid directly or indirectly to any director, officer, general partner of ISTA or their associates, persons owning more than 10% or more of any class of ISTA’s equity securities, or an affiliate of ISTA.

Otsuka Collaboration

     In December 2001, we completed the private placement of 845,665 shares of common stock at a price of $4.73 per share as part of our collaboration with Otsuka for the rights for Vitrase in Japan.

     The sale and issuance of these securities were deemed to be exempt from registration under the Securities Act of 1933, as amended in reliance upon Section 4(2) of the Securities Act of 1933, as amended. The recipient of securities represented their intention to acquire the securities for investment only and not with a view to or for sale in connection with any distribution thereof and appropriate legends were affixed to the securities issued in such transactions. All recipients had adequate access, through their relationship with ISTA, to information about us.

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AcSentient, Inc. Asset Purchase

     In May 2002, we acquired substantially all of the assets of AcSentient, Inc. for $290,000 in cash and the issuance of 100,000 shares of common stock. We also agreed to issue an additional 200,000 shares of common stock over time and upon the achievement of certain milestones.

     The issuance of these securities was deemed to be exempt from registration under the Securities Act of 1933, as amended in reliance upon Section 4(2) of the Securities Act of 1933, as amended. The recipient of securities represented their intention to acquire the securities for investment only and not with a view to or for sale in connection with any distribution thereof and appropriate legends were affixed to the securities issued in such transactions. All recipients had adequate access, through their relationship with ISTA, to information about us.

Item 3 Defaults upon Senior Securities

     None

Item 4 Submission of Matters to a Vote of Security Holders

     Set forth below is information concerning each matter submitted to a vote at the Annual Meeting of Stockholders on May 29, 2002.

     Proposal No. 1: The stockholders elected one Class II director to serve for a term of three years expiring upon the 2005 Annual Meeting of Stockholders or until his successor has been duly elected and qualified.

     Proposal No. 2: The stockholders ratified the appointment of Ernst & Young LLP as the Company’s independent auditors for the fiscal year ended December 31, 2002 (with 11,320,581 affirmative votes, 59,688 votes against, 3,150 votes abstaining, and no broker non — votes).

Item 5 Other Information

     None

Item 6 Exhibits and Reports on Form 8-K

	(a)		Exhibits   See Exhibit Index
	(b)		Reports on Form 8-K

			1.		May 6, 2002 a Form 8-K was filed with regard to the Company’s entering into an Asset Purchase and Sale Agreement with AcSentient, Inc.
			2.		June 11, 2002 a Form 8-K was filed with regard to the Company’s engagement of an investment bank and intention, subject to market conditions, to raise approximately $30 million through an offering of shares of its common stock to accredited investors.
			3.		June 26, 2002 a Form 8-K/A was filed with regard to the filing of a Form 8-K on May 6, 2002 for the Asset Purchase and Sale Agreement with AcSentient, Inc.

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Signatures

     Pursuant to the requirements of the Securities Exchange Act of 1934, ISTA Pharmaceuticals, Inc. has duly caused this 10-Q report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Irvine, County of Orange, State of California, on this 14th day of August 2002.

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INDEX TO EXHIBITS

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