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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark one)
|X| Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934. For the fiscal year ended: December 31, 2000
OR
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934. For the transition period from:____________________ to
______________________
Commission File Number: 000-23267
DEPOMED, INC.
(Name of Small Business Issuer in its Charter)
California 94-3229046
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1360 O'Brien Drive, Menlo Park, California 94025
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (650) 462-5900
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
------------------- -----------------------------------------
Common Stock, no par value American Stock Exchange
Common Stock Purchase American Stock Exchange
Warrants, no par value
Securities registered pursuant to Section 12(g) of the Act:
None
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 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 |_|
Check if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-X is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The issuer's revenues for its most recent fiscal year were $1,776,218.
The aggregate market value of the voting stock held by non-affiliates of
the registrant on March 16, 2001, based upon the closing price of the Common
Stock on the American Stock Exchange for such date, was approximately
$28,200,000.
The number of outstanding shares of the registrant's Common Stock on
March 16, 2001 was 8,617,913.
Documents Incorporated by Reference
(1) Portions of the Proxy Statement to be filed with the Securities and Exchange
Commission on or prior to April 30, 2001 and to be used in connection with the
Annual Meeting of Shareholders expected to be held June 5, 2001 are incorporated
by reference in Part III of this Form 10-K.
DEPOMED, INC.
2000 FORM 10-K REPORT
TABLE OF CONTENTS
Page
----
PART I .................................................................................................. 1
Item 1. BUSINESS.................................................................................. 1
Item 2. PROPERTIES................................................................................ 9
Item 3. LEGAL PROCEEDINGS......................................................................... 9
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS....................................... 9
PART II .................................................................................................. 10
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS................................................................................... 10
Item 6. SELECTED FINANCIAL DATA................................................................... 11
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS..................................................................... 11
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK................................ 19
Item 8. FINANCIAL STATEMENTS...................................................................... 20
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE...................................................................... 20
PART III ................................................................................................. 20
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT........................................ 20
Item 11. EXECUTIVE COMPENSATION.................................................................... 20
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT............................ 20
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............................................ 20
PART IV .................................................................................................. 20
Item 14. EXHIBITS AND REPORTS ON FORM 8-K.......................................................... 20
i
The statements in this Annual Report on Form 10-K and other statements
made by DepoMed, Inc., a California corporation, from time-to-time that are not
historical are forward-looking statements which involve risks and uncertainties.
Actual results, events or performance may differ materially from those
anticipated in any forward-looking statements as a result of a variety of
factors, including those set forth under "Factors That May Affect Future
Results" and elsewhere in this Annual Report on Form 10-K. Readers are cautioned
not to place undue reliance on these forward-looking statements which speak only
as of the date hereof. The company undertakes no obligation to publicly release
the result of any revisions to these forward-looking statements that may be made
to reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
PART I
Item 1. Business
Company Overview
We are a development stage company engaged in the development of new and
proprietary oral drug delivery technologies. We have developed two types of oral
drug delivery systems, the Gastric Retention System (the "GR System") and the
Reduced Irritation System (the "RI System" and together, the "DepoMed Systems").
The GR System is designed to be retained in the stomach for an extended period
of time while it delivers the incorporated drug or drugs, and the RI System is
designed to reduce the gastrointestinal irritation that is a side effect of many
orally administered drugs. In addition, the DepoMed Systems are designed to
provide continuous, controlled delivery of an incorporated drug.
In this Annual Report on Form 10-K, the "company," "DepoMed," "we," "us,"
and "our," refer to DepoMed, Inc.
We intend to develop products utilizing the DepoMed Systems in
collaboration with pharmaceutical and biotechnology companies from which we
expect to receive license fees, research and development funding, milestone
payments and royalties. We also intend to develop, either independently or
jointly, proprietary products utilizing certain off-patent and over-the-counter
(OTC) drugs in the DepoMed Systems.
Since the company's inception in August 1995, we have devoted
substantially all our efforts to research and development conducted on our own
behalf and through collaborations with pharmaceutical partners in connection
with the DepoMed Systems. Our primary activities since inception (August 7,
1995) have been, in addition to research and development, establishing our
offices and research facilities, recruiting personnel, filing patent
applications, developing a business strategy and raising capital. We have also
been involved in revenue generating research and development projects for
clients. To date, we have received only limited revenue, all of which has been
from these collaborative research and feasibility arrangements.
In November 1999, we entered into an agreement to form a joint venture
with Elan Corporation, plc, Elan Pharma International, Ltd. and Elan
International Services, Ltd. (together "Elan") to develop products using drug
delivery technologies and expertise of both Elan and DepoMed. This joint
venture, DepoMed Development, Ltd. (DDL), a Bermuda limited liability company,
is initially owned 80.1% by DepoMed and 19.9% by Elan. DDL funds its research
through capital contributions from its partners based on the partners' ownership
percentage. DDL subcontracts research and development efforts to DepoMed, Elan
and others. DepoMed began subcontract development work for DDL in January 2000.
We have also independently developed a potential once-daily metformin
product for Type II diabetes, Metformin GR(TM), and we are currently completing
a Phase II human clinical trial with Metformin GR. Also, we have completed a
Phase I human clinical trial with a once-daily formulation of ciprofloxacin and
are designing the Phase II trial. We are currently seeking marketing partners to
commercialize these products and we are also developing certain other product
candidates expected to benefit from incorporation into the DepoMed Systems.
1
The Drug Delivery Industry
Drug delivery companies apply proprietary technologies to create new
pharmaceutical products utilizing drugs developed by others. These products are
generally novel, cost-effective dosage forms that provide any of several
benefits, including better control of drug concentration in the blood, improved
safety and efficacy, improved patient compliance and ease of use. The company
believes that drug delivery technologies can provide pharmaceutical companies
with a means of developing new and/or improved products as well as of extending
existing patent franchises.
The increasing need to deliver medication to patients efficiently and
with fewer side effects has accelerated the pace of invention of new drug
delivery systems and the development and maturation of the drug delivery
industry. Today medication can be delivered to a patient through many
different delivery systems, including transdermal, injection, implant and
oral methods. However, these delivery methods continue to have certain
limitations. Transdermal patches are often inconvenient to apply, can be
irritating to the skin and the rate of release can be difficult to control.
Injections are uncomfortable for most patients. In most cases both injections
and implants must be administered in a hospital or physician's office and,
accordingly, are frequently not suitable for home use. Oral administration
remains the preferred method of administering medication. However,
conventional oral drug administration also has limitations. Because capsules
and tablets have limited effectiveness in providing controlled drug delivery,
they frequently result in drug release that is initially too rapid, causing
incomplete absorption of the drug, irritation to the GI tract and other side
effects. In addition, they lack the ability to provide localized therapy. The
company believes that the need for frequent dosing of many drugs administered
by capsules and tablets also can impede patient compliance with the
prescribed regimen.
The DepoMed Systems
The DepoMed Systems are based on the company's proprietary oral drug
delivery technologies and are designed to include formulations of
drug-containing polymeric units that allow multi-hour delivery of an
incorporated drug. Although the company's formulations are proprietary, the
polymers utilized in the DepoMed Systems are commonly used in the food and drug
industries and are generally regarded as safe. The company has formulated these
polymers into tablets as well as cylinders and spheres that can be individually
dosed or contained in gelatin capsules for ease of administration. By using
different formulations of the polymers, the company believes that the DepoMed
Systems are able to provide continuous, controlled delivery of drugs of varying
molecular complexity and solubility.
The DepoMed Systems are designed to address certain limitations of drug
delivery and to provide for orally administered, conveniently dosed,
cost-effective drug therapy that provides continuous, controlled delivery of a
drug over a multi-hour period. The company believes that the DepoMed Systems can
provide one or more of the following advantages over conventional methods of
drug administration:
o Enhanced Safety and Efficacy through Controlled Delivery. We believe that the
DepoMed Systems may improve the ratio of therapeutic effect to toxicity by
decreasing the initial peak concentrations of a drug associated with
toxicity, while maintaining levels of the drug at therapeutic, subtoxic
concentrations for an extended period of time. Many drugs demonstrate optimal
efficacy when concentrations are maintained at therapeutic levels over an
extended period of time. When a drug is administered intermittently, the
therapeutic concentration is often exceeded for some period of time and then
the concentration drops below effective levels. Excessively high
concentrations are a major cause of side effects and subtherapeutic
concentrations are ineffective.
o Greater Patient and Caregiver Convenience. We believe that the DepoMed
Systems may offer once-daily or reduced frequency dosing for certain drugs
that are currently required to be administered several times daily. Such less
frequent dosing promotes compliance to dosing regimens. Patient noncompliance
with dosing regimens has been associated with increased costs of medical
therapies by prolonging treatment duration, increasing the likelihood of
secondary or tertiary disease manifestation and contributing to
over-utilization of medical personnel and facilities. By improving patient
compliance, providers and third-party payors may reduce unnecessary
expenditures and improve therapeutic outcomes.
2
o Expansion of Types of Drugs Capable of Oral Delivery. Some drugs, including
certain proteins and peptides, because of their large molecular size and
susceptibility to degradation in the GI tract, must currently be administered
by injection or by continuous infusion, which is typically done in a hospital
or other clinical setting. We believe that the DepoMed Systems may be able to
make the oral delivery of some of these drugs therapeutically effective.
o Proprietary Reformulation of Generic Products. We believe that the DepoMed
Systems may offer the potential to produce improved formulations of
off-patent drugs. These proprietary formulations may be differentiated from
existing generic products by virtue of reduced dosing requirements, improved
efficacy, decreased toxicity or additional indications.
The Gastric Retention System
The GR System consists of a proprietary formulation of a drug-containing
polymer matrix which can be manufactured as tablets or multiple spherical units.
If taken with a meal, these polymeric tablets or units remain in the stomach for
an extended period of time to provide continuous, controlled delivery of an
incorporated drug. The GR System's design is based in part on principles of
human gastric emptying and GI transit. Following a meal, liquids and small
particles flow continuously from the stomach into the intestine, leaving behind
the larger nondigested particles until the digestive process is complete. As a
result, drugs in liquid or dissolved form or those consisting of small particles
tend to empty rapidly from the stomach and continue into the small intestine and
on into the large intestine, often before the drug has time to act locally or to
be absorbed, if the stomach and/or upper small intestine are the sites of
absorption. The drug-containing polymeric tablets or units of the GR System are
formulated into easily swallowed shapes and are designed to swell upon
ingestion. The tablets or units attain a size after ingestion sufficient to be
retained in the stomach for multiple hours while delivering the drug content at
a controlled rate.
We have demonstrated multi-hour gastric retention in humans who have
been given the GR System with food. In addition, we are currently developing
an enhanced version of the GR System designed to be retained in the stomach
without the ingestion of food. This process is expected to allow for
treatment regimens unrelated to meal times, as well as for retention that is
more prolonged and with minimum patient-to-patient variation in retention
time. We believe that this feature will make medical treatment less
disruptive to a patient's normal schedule.
The expected advantages of the GR System over conventional oral drug
delivery systems include the following:
More Efficient GI Drug Absorption. We believe that the GR System can be
used for improved oral administration of drugs that are inadequately absorbed
when delivered as conventional tablets or capsules. Many drugs are primarily
absorbed in the stomach, duodenum or upper small intestine regions, through
which drugs administered in conventional oral dosage forms transit quickly.
In contrast, the GR System is designed to be retained in the stomach,
allowing for constant multi-hour flow of drugs to certain areas of the GI
tract. Accordingly, for such drugs, we believe that the GR System offers a
significantly enhanced opportunity for increased absorption. Unlike some
insoluble drug delivery systems, the polymer comprising the GR System
dissolves at the end of its useful life and is passed through the GI tract
and eliminated.
Gastric Delivery for Local Therapy and Absorption. We believe that the GR
System can be used to deliver drugs which can efficiently eradicate GI-dwelling
microorganisms, such as H. pylori, the bacterium which is a cause of ulcers.
We are developing metformin and ciprofloxacin products which utilize the
GR System, both of which are currently in human clinical trials. We believe that
the GR System will provide for the more efficient delivery and absorption of
these drugs by retaining them in the stomach and upper small intestine for an
extended period of time. We are currently seeking marketing partners to
commercialize these products.
3
We believe that a possible future application of the GR System is the
incorporation of a nonsystemic antacid into the GR System that would be designed
to provide both immediate and sustained local action. Although many currently
used antacid products are nonsystemic, their duration time is short.
Accordingly, individuals who need through-the-night protection from excess
stomach acid must resort to systemic antacids, such as Zantac(R) or Tagamet(R),
which have a longer onset of action.
Rational Drug Combinations. We believe that the GR System may allow for
rational combinations of drugs with different biological half-lives. Physicians
frequently prescribe multiple drugs for treatment of a single medical condition.
Single product combinations have not been considered feasible because the
different biological half-lives of these combination drugs would result in an
overdosage of one drug and/or an underdosage of the other. By appropriately
incorporating different drugs into a GR System we believe that we can provide
for the release of each incorporated drug continuously at a rate and duration
(dose) appropriately adjusted for the specific biological half-lives of the
drugs. The company believes that future rational drug combination products using
the GR System have the potential to simplify drug administration, increase
patient compliance, and reduce medical costs.
Potential for Oral Delivery of Peptides and Proteins. Based on laboratory
studies conducted by the company, the GR System is expected to protect drugs
from enzymes and acidity effects prior to their delivery in the stomach. This
feature coupled with gastric retention could allow for continuous delivery of
peptides and proteins (i.e., labile drugs) into the upper portion of the small
intestine, the most likely site of possible absorption for many such drugs. We
believe that this mechanism will allow effective oral delivery of some drugs
that currently require administration by injection. In addition, we believe that
the GR System can be formulated to provide for continuous, controlled delivery
of insoluble or particulate matter, including protein or antigen-laden vesicles,
such as liposomes, and microspheres or nanoparticles. We are collaborating with
AVI BioPharma, Inc. on a project to develop the GR System for the delivery of
large molecules.
The Reduced Irritation System
The RI System is designed to provide for significant reduction in local GI
irritation from the effects of certain drugs. Local tissue damage occurs when
solid crystals of a drug remain at any one site of the GI tract for long periods
of time. The RI System consists of a drug/polymer matrix formed into spheres or
granules. The spheres are contained in an outer gelatin capsule; the granules
are compressed into a tablet. Each of these systems is designed to rapidly
disintegrate upon ingestion to deliver its multiple small, particles. The
particles are composed of an inert matrix of polymeric material in which the
active ingredient is homogeneously dispersed in its solid state. The particles
persist for a period of time, but ultimately dissolve and the polymer is
eliminated.
The RI System is designed to reduce irritation through three distinct
mechanisms. First, the small particles of the RI System are designed to deliver
an incorporated drug in solution state, in contrast to a solid or crystalline
state which may cause local GI irritation. Second, the dispersion of the
particles within the GI tract contributes further to the dilution of the local
drug effects. Third, controlled delivery contributes to the reduction of GI
irritation by delivering the incorporated drug over a longer period of time.
We have developed an aspirin product that utilizes the RI System and is
designed to reduce the GI irritation which is common when aspirin is
administered in conventional tablet or capsule form. Although no partner has as
yet been identified to undertake the expense of advancing the product through
human clinical trials and the regulatory process, the aspirin product has
demonstrated "proof of principal" for reduced irritation. In addition to the
reduced irritation aspirin that the company has developed, the company believes
that other GI irritating compounds such as potassium chloride and the
bisphosphonates used in treatment of osteoporosis may benefit from the RI
System.
4
Product Development Initiatives
The following table summarizes DepoMed's principal product development
initiatives:
DEPOMED POTENTIAL DEVELOPMENT
SYSTEM PROGRAM PARTNER INDICATIONS STATUS
- ---------------- -------------------------- ------------------------ ------------------- -----------------------
GR Metformin GR In-house Type II diabetes Phase II clinical
trial underway
GR Ciprofloxacin GR In-house Various infections Phase I clinical trial
completed
GR Undisclosed compound In-house Cardiovascular Formulation and
antihypertensive scale-up
GR Generic compound (1) Elan Corporation, plc Confidential (2) Phase I clinical trial
underway
GR Undisclosed NEUGENE AVI BioPharma, Inc. Confidential (3) Preclinical testing
antisense compound underway
(4) Undisclosed (4) Undisclosed NYSE Undisclosed (4) Undisclosed (4)
pharmaceutical co. (4)
- ---------------
(1) Undisclosed.
(2) The potential indication may not be disclosed pursuant to the terms of the
agreement between the company and Elan Corporation, plc. See
"Collaborative Relationships."
(3) The potential indication may not be disclosed pursuant to the terms of the
agreement between the company and AVI BioPharma, Inc. See "Collaborative
Relationships."
(4) Neither the drug, the indication nor the delivery technology may be
disclosed pursuant to the terms of the agreement between the company and
the undisclosed NYSE traded pharmaceutical company.
Collaborative Relationships
Elan Corporation, plc. In November 1999, we signed a legally binding
letter agreement with Elan Corporation, plc, Elan Pharma International, Ltd. and
Elan International Services, Ltd. (together "Elan") to form a joint venture to
develop a series of undisclosed proprietary products using drug delivery
technologies and expertise of both companies. This joint venture, DepoMed
Development, Ltd. (DDL), a Bermuda limited liability company, is initially owned
80.1% by DepoMed and 19.9% by Elan. DDL subcontracts research and development
efforts to DepoMed, Elan and others.
AVI BioPharma, Inc. In June 2000, we entered into a joint collaboration to
investigate the feasibility of controlled oral delivery of AVI's proprietary
NEUGENE antisense agents. The purpose of the collaboration is to study the
feasibility of oral drug formulations based on DepoMed's GR controlled release
system that will deliver an antisense agent into the upper gastrointestinal
tract. We have developed candidate dosage forms incorporating one of AVI's
antisense agents and preclinical testing is underway.
5
Competition
Other companies that have oral drug delivery technologies competitive with
the DepoMed Systems include ALZA Corporation, Elan Corporation plc, SkyePharma
plc, Biovail Corporation International and Andrx Corporation, all of which have
oral tablet products designed to release the incorporated drugs over time. Each
of these companies has a patented technology with attributes different from
those of DepoMed's, and in some cases with different sites of delivery to the GI
tract. We believe that we are the only drug delivery company that is currently
developing products for oral drug delivery systems for enhanced retention in the
stomach of an orally administered tablet.
Competition in pharmaceutical products and drug delivery systems is
intense. We expect competition to increase. Competing technologies or products
developed in the future may prove superior either generally or in particular
market segments to the DepoMed Systems or products using the DepoMed Systems.
These developments would make the DepoMed Systems or products using them
noncompetitive or obsolete.
All of our principal competitors have substantially greater financial,
marketing, personnel and research and development resources than we. In
addition, many of our potential collaborative partners have devoted, and
continue to devote, significant resources to the development of their own drug
delivery systems and technologies.
Patents and Proprietary Rights
Our success will depend in part on our ability to obtain and maintain
patent protection for our technologies and to preserve our trade secrets. Our
policy is to file patent applications in the United States and foreign
jurisdictions. We currently hold three issued United States patents and six
United States patent applications are pending. Additionally, we are currently
preparing a series of patent applications representing our expanding technology
for filing in the United States. We have also applied for patents in numerous
foreign countries. Some of those countries have granted our applications and
other applications are still pending. No assurance can be given that our patent
applications will be approved, or that any issued patents will provide
competitive advantages for the DepoMed Systems or our technologies.
With respect to already issued patents and any patents which may issue
from our applications, there can be no assurance that claims allowed will be
sufficient to protect our technologies. The United States maintains patent
applications in secrecy until a patent issues. As a result, we cannot be certain
that others have not filed patent applications for technology covered by our
pending applications or that we were the first to file patent applications for
such technology. Competitors may have filed applications for, or may have
received patents and may obtain additional patents and proprietary rights
relating to, compounds or processes that may block our patent rights or permit
the competitors to compete without infringing our patent rights. In addition,
there can be no assurance that:
o any patents issued to the company will not be challenged,
invalidated or circumvented; or
o the rights granted under the patents issued to the company will
provide proprietary protection or commercial advantage to the
company.
We also rely on trade secrets and proprietary know-how. We seek to protect
that information, in part, through entering into confidentiality agreements with
employees, consultants, collaborative partners and others before such persons or
entities have access to our proprietary trade secrets and know-how. These
confidentiality agreements may not be effective in certain cases, due to, among
other things, the lack of an adequate remedy for breach of an agreement or a
finding that an agreement is unenforceable. In addition, our trade secrets may
otherwise become known or be independently developed by competitors.
Our ability to develop our technologies and to make commercial sales of
products using our technologies also depends on not infringing others' patents.
We are not aware of any claim of patent infringement against us. However, if
claims concerning patents and proprietary technologies arise and are determined
adversely to the company, the claims could have a material adverse effect on the
company. Extensive litigation regarding patent and other intellectual property
rights is common in the pharmaceutical industry. We may need to engage in
litigation to enforce any patents issued or licensed to the company or to
determine the scope and validity of third-party proprietary rights. There can be
no assurance that our issued or licensed patents would be held valid by a court
of
6
competent jurisdiction. Whether or not the outcome of litigation is favorable to
the company, the diversion of our financial and managerial resources to such
litigation could have a material adverse effect on the company. We may also be
required to participate in interference proceedings declared by the United
States Patent and Trademark Office for the purpose of determining the priority
of inventions in connection with our patent applications or other parties'
patent applications. Adverse determinations in litigation or interference
proceedings could require us to seek licenses (which may not be available on
commercially reasonable terms, or at all) or subject us to significant
liabilities to third parties. These events could have a material adverse effect
on the company.
Manufacturing, Marketing and Sales
We do not have and do not intend to establish in the foreseeable future
internal commercial scale manufacturing, marketing or sales capabilities.
Rather, we intend to use the facilities of our collaborative partners or
those of contract manufacturers to manufacture products using the DepoMed
Systems. Our dependence on third parties for the manufacture of products
using the DepoMed Systems may adversely affect our ability to develop and
deliver such products on a timely and competitive basis. There may not be
sufficient manufacturing capacity available to us when, if ever, we are ready
to seek commercial sales of products using the DepoMed Systems. In addition,
we expect to rely on our collaborative partners or to develop distributor
arrangements to market and sell products using the DepoMed Systems. We may
not be able to enter into manufacturing, marketing or sales agreements on
reasonable commercial terms, or at all, with third parties. Failure to do so
would have a material adverse effect on the company.
Applicable current Good Manufacturing Practices (cGMP) requirements and
other rules and regulations prescribed by foreign regulatory authorities will
apply to the manufacture of products using the DepoMed Systems. We will depend
on the manufacturers of products using the DepoMed Systems to comply with cGMP
and applicable foreign standards. Any failure by a manufacturer of products
using the DepoMed Systems to maintain cGMP or comply with applicable foreign
standards could delay or prevent their commercial sale. This could have a
material adverse effect on the company.
Government Regulation
Numerous governmental authorities in the United States and other countries
regulate our research and development activities and those of our collaborative
partners. Governmental approval is required of all potential pharmaceutical
products using the DepoMed Systems and the manufacture and marketing of products
using the DepoMed Systems prior to the commercial use of those products. The
regulatory process will take several years and require substantial funds. If
products using the DepoMed Systems do not receive the required regulatory
approvals or if such approvals are delayed, the company's business would be
materially adversely affected. There can be no assurance that the requisite
regulatory approvals will be obtained without lengthy delays, if at all.
In the United States, the Food and Drug Administration (FDA) rigorously
regulates pharmaceutical products, including any drugs using the DepoMed
Systems. If a company fails to comply with applicable requirements, the FDA or
the courts may impose sanctions. These sanctions may include civil penalties,
criminal prosecution of the company or its officers and employees, injunctions,
product seizure or detention, product recalls, total or partial suspension of
production. The FDA may withdraw approved applications or refuse to approve
pending new drug applications, premarket approval applications, or supplements
to approved applications.
We often must conduct preclinical testing on laboratory animals of
new pharmaceutical products prior to commencement of clinical studies
involving human beings. These studies evaluate the potential efficacy and
safety of the product. We then submit the results of these studies to the FDA
as part of an Investigational New Drug application (IND), which must become
effective before beginning clinical testing in humans.
Typically, human clinical evaluation involves a time-consuming and costly
three-phase process:
o In Phase I, we conduct clinical trials with a small number of
subjects to determine a drug's early safety profile and its
pharmacokinetic pattern.
o In Phase II, we conduct clinical trials with groups of patients
afflicted with a specific disease in order to determine
preliminary efficacy, optimal dosages and further evidence of
safety.
7
o In Phase III, we conduct large-scale, multi-center, comparative
trials with patients afflicted with a target disease in order to
provide enough data to demonstrate the efficacy and safety
required by the FDA prior to commercialization.
The FDA closely monitors the progress of each phase of clinical testing.
The FDA may, at its discretion, re-evaluate, alter, suspend or terminate testing
based upon the data accumulated to that point and the FDA's assessment of the
risk/benefit ratio to patients.
The results of the preclinical and clinical testing are submitted to the
FDA in the form of a new drug application (NDA) for approval prior to
commercialization. In responding to an NDA, the FDA may grant marketing
approval, request additional information or deny the application. Failure to
receive approval for any products using the DepoMed Systems would have a
material adverse effect on the company.
Various FDA regulations apply to over-the-counter products that comply
with monographs issued by the FDA. These regulations include:
o cGMP requirements;
o general and specific over-the-counter labeling requirements
(including warning statements);
o advertising restrictions; and
o requirements regarding the safety and suitability of inactive
ingredients.
In addition, the FDA may inspect over-the-counter products and
manufacturing facilities. A failure to comply with applicable regulatory
requirements may lead to administrative or judicially imposed penalties. If an
over-the-counter product differs from the terms of a monograph, it will, in most
cases, require FDA approval of an NDA for the product to be marketed.
Foreign regulatory approval of a product must also be obtained prior to
marketing the product internationally. Foreign approval procedures vary from
country to country. The time required for approval may delay or prevent
marketing in certain countries. In certain instances the company or its
collaborative partners may seek approval to market and sell certain products
outside of the United States before submitting an application for United States
approval to the FDA. The clinical testing requirements and the time required to
obtain foreign regulatory approvals may differ from that required for FDA
approval. Although there is now a centralized European Union (EU) approval
mechanism in place, each EU country may nonetheless impose its own procedures
and requirements. Many of these procedures and requirements are time-consuming
and expensive. Some EU countries require price approval as part of the
regulatory process. These constraints can cause substantial delays in obtaining
required approval from both the FDA and foreign regulatory authorities after the
relevant applications are filed, and approval in any single country may not
meaningfully indicate that another country will approve the product.
Product Liability
Our business involves exposure to potential product liability risks that
are inherent in the production and manufacture of pharmaceutical products. Any
such claims could have a material adverse effect on the company. Although we
have obtained product liability insurance for clinical trials currently
underway, there can be no assurance that:
o we will be able to obtain product liability insurance for future
trials;
o we will be able to maintain product liability insurance on
acceptable terms;
o we will be able to secure increased coverage as the
commercialization of the DepoMed Systems proceeds; or
o any insurance will provide adequate protection against potential
liabilities.
8
Employees
As of December 31, 2000, we had twenty-seven full-time employees. None of
our employees is represented by a collective bargaining agreement, nor have we
experienced any work stoppage. We believe that our relations with our employees
are excellent.
The success of the company is dependent in large part upon the continued
services of John W. Fara, our President and Chief Executive Officer and other
members of the company's executive management, and on our ability to attract and
retain key management and operating personnel. We maintain key man life
insurance on the life of Dr. Fara in the amount of $1,000,000. Management,
scientific and operating personnel are in high demand and are often subject to
competing offers. The loss of the services of one or more members of management
or key employees or the inability to hire additional personnel as needed may
have a material adverse effect on the company.
Item 2. Properties
In February 2000, we entered into a five-year non-cancelable lease of
approximately 21,000 square feet of laboratory and office facilities in Menlo
Park, California. The lease includes an option to renew for one additional term
of five years. We expect that this facility will accommodate our growth for at
least two years.
Item 3. Legal Proceedings
None.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended December 31, 2000.
Executive Officers
The executive officers of the company and their ages as of December 31,
2000 are as follows:
Name Age Position
- -------------------------------------- ------- ---------------------------------------------------------
John W. Fara, Ph.D.................... 58 Chairman, President and Chief Executive Officer
Bret Berner, Ph.D..................... 48 Vice President, Product Development
John F. Hamilton...................... 56 Vice President, Finance and Chief Financial Officer
John N. Shell......................... 47 Vice President, Operations and Director
John W. Fara, Ph.D., has served as a director of the company since
November 1995 and as its President and Chief Executive Officer since December
1996. In April 2000, he became Chairman of the Board of Directors of the company
succeeding Dr. John W. Shell, the founder of the company. From February 1990 to
June 1996 Dr. Fara was President and Chief Executive Officer of Anergen, Inc., a
biotechnology company. Prior to February 1990 he was President of Prototek,
Inc., a biotechnology company. Prior to Prototek, he was Director of Biomedical
Research and then Vice President of Business Development during ten years with
ALZA. Dr. Fara received a B.S. from the University of Wisconsin and a Ph.D. from
University of California, Los Angeles.
Bret Berner, Ph.D. has served as the company's Vice President, Product
Development since December 1998. Before joining DepoMed, Dr. Berner served as
Vice President of Development at Cygnus, Inc. for four years, where he was
responsible for formulation, toxicology, project management, and new drug
delivery technology. From 1984 through 1994, Dr. Berner acted as the director of
basic pharmaceutics research at Ciba-Geigy. Prior to 1984, he also held the
position of staff scientist at The Procter & Gamble Company. Dr. Berner holds 18
patents and has authored more than 70 publications, including the editorship of
two books on controlled drug delivery. He received his B.A. in neurosciences,
cum laude, from the University of Rochester and his Ph.D. in physical chemistry
from the University of California, Los Angeles.
9
John F. Hamilton has served as the company's Vice President, Finance and
Chief Financial Officer since January 1997. Prior to joining the company, Mr.
Hamilton was Vice President and Chief Financial Officer of Glyko, Inc. and Glyko
Biomedical Ltd., a carbohydrate instrument and reagents company from May 1992 to
September 1996. Previously he was President and Chief Financial Officer of
Protos Corporation, a drug design subsidiary of Chiron Corporation, from June
1988 to May 1992 and held various positions with Chiron Corporation, including
Treasurer, from September 1987 to May 1992. Mr. Hamilton received a B.A. from
the University of Pennsylvania and a M.B.A. from the University of Chicago.
John N. Shell has served as a director of the company since its inception
in August 1995 and Director of Operations for the company until December 1996,
when he was named Vice President, Operations. From May 1994 to August 1995, Mr.
Shell served in a similar capacity at the DepoMed Division of M6. Prior to 1994,
Mr. Shell served as Materials Manager for Ebara International Corporation, a
multi-national semiconductor equipment manufacturer, and as Materials Manager
for ILC Technology, an electro-optics and electronics manufacturer. Mr. Shell
received his B.A. from the University of California, Berkeley.
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The company's common stock commenced trading on the Nasdaq SmallCap under
the symbol "DPMD" on December 1, 1997. On November 9, 1998 the company's common
stock ceased trading on the Nasdaq and began trading on the American Stock
Exchange (AMEX) under the symbol "DMI". The following table sets forth the high
and low closing prices of the company's common stock as reported by the AMEX
from January 1, 1999:
2000 1999
---------------------- ---------------------
High Low High Low
---------- -------- ---------- --------
First Quarter........ $9.63 $4.13 $12.25 $7.75
Second Quarter....... $5.13 $2.38 $14.38 $2.81
Third Quarter........ $4.63 $2.38 $3.94 $1.94
Fourth Quarter....... $5.63 $2.25 $7.38 $2.50
The company's warrants commenced trading under the symbol "DPMDW" on the
Nasdaq SmallCap on December 1, 1997. On November 9, 1998 the Warrants ceased
trading on the Nasdaq and began trading on the AMEX under the symbol "DMI/WS".
The following table sets forth the high and low closing prices of the warrants,
as reported by the AMEX from January 1, 1999:
2000 1999
---------------------- ---------------------
High Low High Low
---------- -------- ---------- --------
First Quarter........ $3.63 $1.13 $7.00 $3.25
Second Quarter....... $1.75 $0.88 $8.88 $0.75
Third Quarter........ $1.06 $0.50 $2.25 $0.63
Fourth Quarter....... $1.63 $0.50 $2.63 $0.63
As of March 16, 2001, the numbers of holders of record of the common stock
and the warrants were 33 and 8, respectively, and there were approximately 3,000
beneficial shareholders.
We have never paid a cash dividend on our common stock and we do not
anticipate paying any cash dividends for the foreseeable future. Further, our
equipment financing credit facility precludes us from declaring or paying
dividends on our common stock.
10
Recent Sales of Unregistered Securities
In January 2000, we sold 714,286 shares of our common stock to Elan
Corporation, plc at an aggregate offering price of $5,000,000. In November 2000,
we sold to accredited investors, 1,428,550 shares of common stock and redeemable
warrants to purchase 357,100 shares of common stock for an aggregate offering
price of $5,000,000. The warrants were issued with an exercise price of $5.50
and are exercisable between November 15, 2000 and November 14, 2004. These
transactions did not involve public offerings and therefore were exempt from
registration under Section 4(2) of the Securities Act of 1933. We filed a
registration statement on Form S-3 in January 2001 covering the resale of shares
sold in the November 2000 private placement and the shares issuable upon
exercise of the warrants.
Item 6. Selected Financial Data
Year Ended December 31,
----------------------------------------------------------------------------------
2000 1999 (2) 1998 1997 (1) 1996 (1)
------------- ------------ ------------ ------------ -------------
Results of Operations
Revenue ................................ $ 1,776,218 $ 115,327 $ 763,138 $ 604,876 $ 317,971
Operating expenses ..................... 9,514,415 5,605,792 4,028,441 1,813,183 784,172
Loss from operations ................... (9,702,870) (17,208,800) (2,779,723) (1,236,452) (466,201)
Equity in loss of joint venture ........ (2,187,627 (12,015,000) -- -- --
Net loss ............................... (9,702,870) (17,208,800) (2,779,723) (1,236,452) (472,773)
Loss applicable to common stock ........ (10,509,870) (17,208,800) (2,779,723) (1,236,452) (472,773)
Basic and diluted net loss per share (1.43) (2.66) (0.44) (0.28) (0.12)
Shares used in computing basic
and diluted net loss per share....... 7,329,876 6,474,538 6,318,233 4,439,534 4,101,536
Financial Condition
Cash, cash equivalents and
securities available-for-sale ....... $ 6,498,879 $ 4,466,382 $ 8,689,434 $ 4,129,545 $ 10,802
Total assets ........................... 8,732,538 22,434,865 10,278,804 4,585,344 333,127
Long-term obligations,
less current portion ................ 1,769,009 410,601 482,004 33,737 34,634
Accumulated deficit .................... (32,808,286) (22,298,416) (5,089,616) (2,309,893) (1,073,441)
Shareholders' equity ................... 4,586,165 9,218,480 9,206,013 4,133,063 (381,432)
(1) Basic and diluted net loss per share and shares used in computing basic
and diluted net loss per share in 1997 and 1996 are pro forma, adjusted to
reflect the effect of the assumed conversion of convertible preferred
stock from the original date of issuance.
(2) Expenses increased in 1999 due to our 80.1% share of the losses in our
joint venture with Elan Corporation, plc, as described in Item 7 in the
subsection entitled "Overview".
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward-Looking Information
Statements made in this "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and elsewhere in this Annual Report on Form
10-K that are not statements of historical fact are forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended (the
"Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as
amended. A number of risks and uncertainties, including those discussed under
the caption "FACTORS THAT MAY AFFECT FUTURE RESULTS" below and elsewhere in this
Annual Report on Form 10-K could affect such forward-looking statements and
could cause actual results to differ materially from the statements made. The
company expressly disclaims any obligation or undertaking to release publicly
any updates or revisions to any forward-looking statements contained herein to
reflect any changes in the company's expectations with regard thereto or any
change in events, conditions or circumstances on which any such statements are
based.
11
Overview
General
We are a development stage company engaged in the development of new and
proprietary oral drug delivery technologies. We have developed two types of oral
drug delivery systems, the Gastric Retention System (the "GR System") and the
Reduced Irritation System (the "RI System" and together, the "DepoMed Systems").
The GR System is designed to be retained in the stomach for an extended period
of time while it delivers the incorporated drug or drugs, and the RI System is
designed to reduce the gastrointestinal irritation that is a side effect of many
orally administered drugs. In addition, the DepoMed Systems are designed to
provide continuous, controlled delivery of an incorporated drug.
In this "Management's Discussion and Analysis of Financial Condition and
Results of Operations", the "company," "DepoMed," "we," "us," and "our," refer
to DepoMed, Inc.
Since the company's inception in August 1995, we have devoted
substantially all our efforts to research and development conducted on our own
behalf and through collaborations with pharmaceutical partners in connection
with the DepoMed Systems. Our primary activities since inception (August 7,
1995) have been, in addition to research and development, establishing our
offices and research facilities, recruiting personnel, filing patent
applications, developing a business strategy and raising capital. We have also
been involved in revenue generating research and development projects for
clients. To date, we have received only limited revenue, all of which has been
from these collaborative research and feasibility arrangements.
In November 1999, we entered into a joint venture with Elan Corporation,
plc, Elan Pharma International, Ltd. and Elan International Services, Ltd.
(together "Elan") to develop products using drug delivery technologies and
expertise of both companies. This joint venture, DepoMed Development, Ltd.
(DDL), a Bermuda limited liability company, is initially owned 80.1% by DepoMed
and 19.9% by Elan. DDL funds its research through capital contributions from its
partners based on the partners' ownership percentage. DDL subcontracts research
and development efforts to DepoMed, Elan and others. DepoMed began subcontract
development work for DDL in January 2000 and an undisclosed product entered
Phase I clinical trials in December 2000. The joint venture expects to select a
second compound for product development in the second quarter of 2001.
We also have in development Metformin GR(TM), a potential once-daily
metformin product for the treatment of Type II diabetes. In January 2000, we
completed a Phase I clinical trial of Metformin GR and, in July 2000, we
completed a second Phase I clinical trial of Metformin GR. Both trials showed
positive results, and in the third quarter of 2000 we initiated a Phase II
clinical trial. In June 2000, we announced the initiation of a collaboration
with AVI Biopharma, Inc. (AVI) to investigate the feasibility of controlled oral
delivery of AVI's proprietary NEUGENE antisense agents. In January 2001, we
announced the successful completion of a clinical trial with our potential
once-daily antibiotic GR formulation, Ciprofloxacin GR(TM). Our formulation was
found to have comparable bioavailability and had a significantly extended blood
plasma concentration profile compared with CIPRO(R), a currently marketed
ciprofloxacin HCl immediate release product that is taken twice per day.
Ciprofloxacin GR is scheduled to enter Phase II clinical trials later in 2001.
We are also developing certain other product candidates expected to benefit from
incorporation into the DepoMed Systems. We also have in development a GR System
formulation of an undisclosed cardiovascular drug. We will ultimately seek
marketing partners to commercialize these products.
DepoMed has generated a cumulative net loss of approximately $32,808,000
for the period from inception through December 31, 2000. $14,203,000 of this
loss is attributable to our share of the equity in the net loss of DDL.
12
We intend to continue investing in the further development of our drug
delivery technologies and the DepoMed Systems. We also intend to internally
develop and find partners to commercialize products based on generic and
over-the-counter compounds, such as a Metformin GR and Ciprofloxacin GR.
Depending upon a variety of factors, including collaborative arrangements,
available personnel and financial resources, we will conduct or fund clinical
trials on such products and will undertake the associated regulatory activities.
We will need to make additional capital investments in laboratories and related
facilities. As additional personnel are hired in 2001 and beyond, expenses can
be expected to increase from their 2000 levels.
RESULTS OF OPERATIONS
Years Ended December 31, 2000, 1999 and 1998
Revenues for the years ended December 31, 2000, 1999 and 1998 were
approximately $1,776,000, $115,000 and $763,000, respectively. In 2000, these
revenues consisted of $1,754,000 earned for development work performed for our
joint venture with Elan, DDL, and $22,000 earned from another small
collaboration. In 1999, these revenues consisted entirely of amounts earned
under the feasibility arrangement with R. W. Johnson Pharmaceutical Research
Institute (PRI). In 1998, these revenues consisted of amounts earned under the
feasibility and the research and development arrangements with PRI and
Bristol-Myers Squibb Company (BMS), respectively. We expect to continue to
perform development work for DDL at least through 2001. Revenue from our
collaborative agreement with PRI declined as a result of our having completed
the first phase of formulation development in March 1999. We have not had any
significant communication with PRI regarding their plans for the product since
the first quarter of 1999. In light of this, we no longer expect to continue
research and development work on the project even though the project has not
been canceled. Revenues from BMS ended in March 1998 as a result of our having
completed our research activities for BMS.
Research and development expense for the year ended December 31, 2000 was
approximately $7,488,000, compared to approximately $3,734,000 and $2,062,000
during the years ended December 31, 1999 and 1998, respectively. The increase
was primarily due to expenses for clinical trials with DepoMed proprietary
products, which began in the third quarter of 1999, as well as increased use of
clinical and regulatory consultants as we prepared for our first Phase II
clinical trial that began in the third quarter of 2000. The increase was also
due to the hiring of additional employees and related expenses, increased
laboratory supplies, and increased depreciation and amortization expense of
equipment and facilities improvements, as well as, increased research and
development expenses associated with our joint venture, DDL. Rent expense also
increased 82% in 2000 due to our move into a larger facility in March 2000.
General and administrative expense for the year ended December 31, 2000
was approximately $2,026,000, compared to approximately $1,872,000 and
$1,966,000 during the years ended December 31, 1999 and 1998, respectively.
Increased salaries and the additional expense incurred during 2000 as a result
of expanded investor relations activities were partially offset by decreased
legal and accounting fees that were realized as we reduced our reliance on
outside professionals for some reporting services, and the decreased costs of
obtaining directors and officers insurance.
In the fourth quarter of 1999, our joint venture with Elan, DDL, was
formed. While we own 80.1% of the outstanding common stock of DDL, Elan and
its subsidiaries have retained significant minority investor rights that are
considered "participating rights" as defined in the Emerging Issues Task
Force Consensus No. 96-16. Accordingly, we do not consolidate the financial
statements of DDL, but instead account for our investment in DDL under the
equity method of accounting. Separate financial statements for DDL are
included elsewhere in this Form 10-K.
In 2000, DDL recognized a loss of $2,731,000, which included $2,709,000
in research and development expense and $22,000 in legal expense. Our 80.1%
share of the loss was $2,188,000. In 1999, DDL, incurred a $15,000,000 charge
for acquiring in-process research and development rights related to certain
Elan drug delivery technologies. Our share of the DDL 1999 loss was
$12,015,000. DDL will continue to subcontract research and development
activities to DepoMed, Elan and others. In 2001, we expect our share of DDL's
losses will be approximately $4,000,000. Elan has made available to us a
convertible loan facility to assist us in funding our portion of the joint
venture losses. We had a zero basis in the DDL investment as of December 31,
2000 and 1999.
13
Net interest income was approximately $223,000 for the year ended December
31, 2000, compared to approximately $297,000 and $486,000 for the years ended
December 31, 1999 and 1998, respectively. The decrease from year to year was due
primarily to declining cash and investment balances. Interest expense of $30,000
accrued on the Elan convertible loan facility also contributed to the net
decrease in 2000. Net interest income also includes immaterial gains realized on
the sale of some of our marketable securities.
In January 2000, we issued 12,015 shares of Series A convertible
exchangeable preferred stock at a price of $1,000 per share to fund our 80.1%
share of the initial capitalization of DDL. The Series A preferred stock accrues
a dividend of 7% per annum, compounded semi-annually and payable in shares of
Series A preferred stock. The Series A preferred stock is convertible at anytime
after January 2002, at Elan's option, into DepoMed's common stock at a price of
$12.00 per share. For the year ended December 31, 2000, we accrued a dividend on
the Series A preferred stock of $807,000.
Liquidity and Capital Resources
Cash used in operations in the year ended December 31, 2000 was
approximately $6,652,000, compared to approximately $3,945,000 and $2,522,000
for the years ended December 31, 1999 and 1998. During the years ended
December 31, 2000 and 1999, the change in cash used in operations was due
primarily to the net loss offset by our share in the loss of the joint
venture. In 1998, the change in cash used in operations was due primarily to
the increase in net loss.
Cash used in investing activities in the year ended December 31, 2000
totaled approximately $13,435,000 and consisted of approximately $13,518,000
related to the investment in our joint venture and $900,000 related to leasehold
improvement expenditures and the purchase of lab equipment, which were partially
offset by a net decrease in marketable securities of $983,000. Cash provided by
investing activities in the year ended December 31, 1999 totaled approximately
$885,000 and consisted of a net decrease of approximately $1,023,000 of
marketable securities offset by purchases of laboratory equipment, fixtures and
office equipment. Cash used in investing activities in the year ended December
31, 1998 totaled approximately $5,478,000 and consisted of purchases of
marketable securities totaling $4,624,000 as well as laboratory equipment,
fixtures and office equipment. We expect that future capital expenditures may
include additional product development and quality control laboratory equipment
as we work towards implementation of current Good Manufacturing Practices (cGMP)
in our laboratories. We also expect to spend approximately $300,000 over the
first two quarters of 2001 for additional leasehold improvements. In March 2001,
we signed an equipment financing agreement to provide $2,000,000 in financing
for equipment and leasehold improvements purchased from August 2000 to December
2001.
Cash provided by financing activities for the year ended December 31, 2000
was $23,031,000 and consisted primarily of proceeds received in private
placements of common stock and warrants and preferred stock. In January 2000 a
private placement of 714,286 shares of common stock was completed at a price of
$7.00 per share, with net proceeds of approximately $4,915,000. Also in January
2000, we sold 12,015 shares of convertible preferred stock to Elan for $1,000
per share. The preferred stock proceeds were used for the initial capitalization
of DDL. In November 2000, a private placement of 1,428,550 shares of common
stock and 357,100 warrants was completed for net proceeds of $4,762,000 (see
Note 7 of Notes to Financial Statements). Additionally, proceeds of $1,503,000
were received from the loan facility made available to us by Elan for use in
funding our share of DDL's losses (See Note 3 of Notes to Financial Statements).
Proceeds received were offset by $165,000 in payments on equipment loans and
capital leases. Cash used in financing activities in the year ended December 31,
1999 was approximately $65,000 and consisted of payments on an equipment
financing credit facility established in 1998 and capital lease obligations
totaling approximately $175,000, offset against $106,000 in proceeds from the
equipment financing credit facility (See Note 5 of Notes to Financial
Statements). Cash provided by financing activities in the year ended December
31, 1998 was approximately $7,929,000, which primarily consisted of the proceeds
received in February 1998 from a private placement of 1,000,000 shares of common
stock at a price of $8.00 per share, with net proceeds of approximately
$7,500,000. Also in 1998, we financed $494,000 of equipment under the credit
facility.
14
As of December 31, 2000, we had approximately $6,499,000 in cash, cash
equivalents and marketable securities, working capital of $4,744,000, and we had
accumulated losses of $32,001,000. We expect to continue to incur operating
losses over the next several years. On March 29, 2001 the company signed an
equipment financing agreement that will provide financing for equipment and
leasehold improvements purchased from August 2000 through December 2001 (See
Note 10 "Subsequent Events"). We anticipate that our existing capital resources,
including the March 2001 capital equipment financing, will permit us to meet our
capital and operational requirements through at least December 31, 2001.
However, we base this expectation on our current operating plan that may change
as a result of many factors. Accordingly, we could require additional funding
sooner than anticipated. Our cash needs may also vary materially from our
current expectations because of numerous factors, including:
o results of research and development;
o relationships with collaborative partners;
o changes in the focus and direction of our research and development
programs;
o technological advances; and
o results of clinical testing, requirements of the FDA and comparable
foreign regulatory agencies.
We will need substantial funds of our own or from third parties to:
o conduct research and development programs;
o conduct preclinical and clinical testing; and
o manufacture (or have manufactured) and market (or have marketed)
potential products using the DepoMed Systems.
Our existing capital resources may not be sufficient to fund our
operations until such time as we may be able to generate sufficient revenues to
support our operations. We have limited credit facilities and no other committed
source of capital. To the extent that our capital resources are insufficient to
meet our future capital requirements, we will have to raise additional funds to
continue our development programs. We may not be able to raise such additional
capital on favorable terms, or at all. If the company raises additional capital
by selling its equity or convertible debt securities, the issuance of such
securities could result in dilution of our shareholders' equity positions. If
adequate funds are not available the company may have to:
o curtail operations significantly; or
o obtain funds through entering into collaboration agreements on
unattractive terms.
The inability to raise capital would have a material adverse effect on the
company.
Recent Accounting Standards
In December 1999, the SEC staff released Staff Accounting Bulletin No.
101 (SAB 101), which provides guidance on the recognition, presentation and
disclosure of revenue in financial statements. We adopted SAB 101, as
required, in the fourth quarter of 2000. The adoption of SAB 101 had no
impact on our financial position and results of operations.
On March 31, 2000, the Financial Accounting Standards Board issued
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation" (FIN 44), which provides guidance on several implementation issues
related to Accounting Principles Board Opinion No. 25 (APB 25). The adoption of
FIN 44 had no impact on our financial position and results of operations.
15
In July 1999, the FASB announced the delay of the effective date of
Statement of Financial Reporting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" (SAFS 133), also, in June
2000, the FASB issued Statement of Financial Reporting Standards No. 138, an
amendment to SFAS 133. SFAS 133, as amended, requires that all derivative
instruments be recorded on the balance sheet at their fair value. Change in
the fair value of derivatives is recorded each period in current earnings or
other comprehensive income, depending on whether a derivative is designed as
part of a hedge transaction, and, if so, the type of hedge transaction. We
must adopt SFAS 133, as amended, on January 1, 2001. We do not expect that
adoption of SFAS 133, as amended, will have an impact on our financial
position or results of operations.
Net Operating Losses
We have not generated any taxable income to date. At December 31, 2000,
the net operating losses available to offset future taxable income for
federal income tax purposes were approximately $16,000,000. Future
utilization of carryforwards may be limited in any fiscal year pursuant to
Internal Revenue Code regulations. The carryforwards expire at various dates
beginning in 2010 through 2020 if not utilized. As a result of the annual
limitation, anticipated and future losses or changes in ownership of the
Company, all or a portion of these carryforwards may expire before becoming
available to reduce our federal income tax liabilities.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Early Stage of Development; Limited Revenues
We are at an early stage of development. Accordingly, our business is
subject to all of the business risks associated with a new enterprise,
including:
o uncertainties regarding product development;
o dependence on collaborative partnering relationships;
o lack of revenue and uncertainty regarding future revenues;
o limited financial and personnel resources; and
o lack of established credit facilities.
As we expand our research and development efforts, we anticipate that we
will continue to incur substantial operating losses for at least the next
several years. Therefore, we expect our cumulative losses to increase. To date,
we have had no revenues from product sales and only minimal revenues from our
collaborative research and development arrangements and feasibility studies. Our
success will depend on commercial sales of products that generate significant
revenues for us. We cannot predict whether we will be able to achieve commercial
sales of any revenue-generating products.
No Assurance of Successful Product Development
Our research and development programs are at an early stage. In order for
us to incorporate a pharmaceutical product into a DepoMed System, we would need
to complete substantial additional research and development on a drug provided
by a collaborative partner. Even if we are successful, the collaborative
partner's drug incorporated in the DepoMed System:
o may not be offered for commercial sale; or
o may prove to have undesirable or unintended side effects that
prevent or limit its commercial use.
Before we or others make commercial sales of products using the DepoMed
Systems, we or our collaborative partners would need to:
o conduct clinical tests showing that these products are safe and
effective; and
o obtain regulatory approval.
16
This process involves substantial financial investment. Successful
commercial sales of any of these products require:
o market acceptance;
o cost-effective commercial scale production; and
o reimbursement under private or governmental health plans.
We will have to curtail, redirect or eliminate our product development
programs if we or our collaborative partners find that:
o the DepoMed Systems prove to have unintended or undesirable side
effects; or
o products which appear promising in preclinical studies do not
demonstrate efficacy in larger scale clinical trials.
These events could have a material adverse effect on the company.
Dependence on Elan and Other Additional Collaborative Partners
We have generated all of our revenues through collaborative arrangements
with pharmaceutical and biotechnology companies. Currently, most of our revenues
are derived from our joint venture with Elan. If our joint venture with Elan is
terminated or fails to produce desired results, our revenues and results of
operations will suffer.
Our strategy to continue the research, development, clinical testing,
manufacturing and commercial sale of products using the DepoMed Systems
requires that we enter into additional collaborative arrangements. The
company may not be able to enter into future collaborative arrangements on
acceptable terms, which would have a material adverse effect on the company.
The success of the Elan joint venture and other collaborative arrangements
requires that the company's collaborative partners:
o perform their obligations as expected; and
o devote sufficient resources to the development, clinical testing and
marketing of products developed under collaborations.
It is possible that our collaborative partners may not:
o continue to fund their particular projects;
o perform their agreed-to obligations; or
o choose to develop and make commercial sales of products using
the DepoMed Systems.
For example, in the first quarter of 1999, we completed the first phase
of research and development under a March 1998 feasibility agreement with
PRI. We have not had any significant communication with PRI regarding their
plans for the product since the first quarter of 1999. In light of this, we
no longer expect to continue research and development work on the project
even though the project has not been canceled by PRI. There can be no
assurance that a collaborative partner's product development decisions will
favor the DepoMed Systems or that their timelines will be aligned with our
own business strategies.
Any of the following events could have a material adverse effect on the
company:
o any parallel development by a collaborative partner of competitive
technologies or products;
o arrangements with collaborative partners that limit or preclude the
company from developing products or technologies;
o premature termination of an agreement; or
o failure by a collaborative partner to devote sufficient resources to
the development, and commercial sales of products using the DepoMed
Systems.
17
Collaborative agreements are generally complex and may contain provisions
which give rise to disputes regarding the relative rights and obligations of the
parties. Any such dispute could delay collaborative research, development or
commercialization of potential products, or could lead to lengthy, expensive
litigation or arbitration.
Fluctuations in Operating Results
The following factors will affect our quarterly operating results and may
result in a material adverse effect on the company:
o variations in revenues obtained from collaborative agreements,
including milestone payments, royalties, license fees and other
contract revenues;
o success or failure of the company in entering into further
collaborative relationships;
o decisions by collaborative partners to proceed or not to proceed
with subsequent phases of the relationship or program;
o the timing of any future product introductions by us or our
collaborative partners;
o market acceptance of the DepoMed Systems;
o regulatory actions;
o adoption of new technologies;
o the introduction of new products by our competitors;
o manufacturing costs and capabilities;
o changes in government funding; and
o third-party reimbursement policies.
Reliance on a Continuous Power Supply to Conduct Business, and Disruption of
Operations and Increase of Expense from California's Current Energy Crisis
California is in the midst of an energy crisis that could disrupt our
operations and increase our expenses. In the event of an acute power shortage,
which occurs when power reserves for the State of California fall below 1.5%,
California has on occasion implemented, and may in the future continue to
implement, rolling blackouts throughout California. We currently do not have
backup generators or alternate sources of power in the event of a blackout, and
our current insurance does not provide coverage for any damages we or our
customers may suffer as a result of any interruption in our power supply. If
blackouts interrupt our power supply, we would be temporarily unable to continue
operations at our facilities, which could substantially harm our business and
results of operations.
Furthermore, the regulatory changes affecting the energy industry
instituted in 1996 by the California government has caused power prices to
increase. Under the revised regulatory scheme, utilities were encouraged to sell
their plants, which traditionally had produced most of California's power, to
independent energy companies that were expected to compete aggressively on
price. Instead, due in part to a shortage of supply, wholesale prices have
increased dramatically over the past year. If wholesale prices continue to
increase, our operating expenses will likely increase.
Business Interruptions that Could Harm Our Business
Our operations are vulnerable to damage or interruption from computer
viruses, human error, natural disasters, telecommunications failures,
intentional acts of vandalism and similar events. In particular, our corporate
headquarters are located in the San Francisco Bay area, which is known for
seismic activity. We have not established a formal disaster recovery plan, and
our back-up operations and our business interruption insurance may not be
adequate to compensate us for losses that occur. A significant business
interruption would result in losses or damages incurred by us and would harm our
business.
18
Relationships of Advisors with other Entities
Two groups (the Policy Advisory Board and Development Advisory Board)
advise the company on business and scientific issues and future opportunities.
Certain members of our Policy Advisory Board and Development Advisory Board work
full-time for academic or research institutions. Others act as consultants to
other companies. In addition, except for work performed specifically for and at
the direction of the company, any inventions or processes discovered by such
persons will be their own intellectual property or that of their institutions or
other companies. Further, invention assignment agreements signed by such persons
in connection with their relationships with the company may be subject to the
rights of their primary employers or other third parties with whom they have
consulting relationships. If we desire access to inventions which are not our
property, we will have to obtain licenses to such inventions from these
institutions or companies. We may not be able to obtain these licenses on
commercially reasonable terms, if at all.
Healthcare Reform; Uncertain Availability of Healthcare Reimbursement
The healthcare industry is changing rapidly as the public, government,
medical professionals, third-party payors and the pharmaceutical industry
examine ways to contain or reduce the cost of health care. Changes in the
healthcare industry could impact our business, particularly to the extent that
the company develops the DepoMed Systems for use in prescription drug
applications.
Certain foreign governments regulate pricing or profitability of
prescription pharmaceuticals sold in their countries. There have been a number
of federal and state proposals to implement similar government control in the
United States, particularly with respect to Medicare payments. We expect that
these proposals will continue to be advanced. In addition, downward pressure on
pharmaceutical pricing in the United States has increased due to an enhanced
emphasis on managed care. We expect this pressure to continue to increase. We
cannot predict whether any such legislative or regulatory proposals will be
adopted or the effect such proposals or managed care efforts may have on its
business. However, the announcement of such proposals or efforts could have a
material adverse effect on the company's ability to raise capital. Further, the
adoption of such proposals or efforts would have a material adverse effect on
the company and any prospective collaborative partners.
Sales of products using the DepoMed Systems in domestic and foreign
markets will depend in part on the availability of reimbursement from
third-party payors, such as government health administration authorities and
private health insurers. Third-party payors are increasingly challenging the
price and cost-effectiveness of prescription pharmaceutical products.
Significant uncertainty exists as to the reimbursement status of newly approved
healthcare products. Accordingly, products using the DepoMed Systems may not be
eligible for third-party reimbursement at price levels sufficient for us or our
collaborative partners to realize appropriate returns on our investments in the
DepoMed Systems.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Sensitivity
Our operating results have not been sensitive to changes in the general
level of U.S. interest rates, particularly because most of our cash equivalents
are invested in short-term debt instruments. If market interest rates were to
change immediately and uniformly by 10% from levels at December 31, 2000, the
fair value of our cash equivalents would not change by a significant amount.
Foreign Currency Fluctuations
We have not had any significant transactions in foreign currencies, nor
did we have any significant balances that were due or payable in foreign
currencies at December 31, 2000. Therefore, a hypothetical 10% change in foreign
currency rates would not have a significant impact on our financial position and
results of operations. We do not hedge any of our foreign currency exposure.
19
Item 8. Financial Statements and Supplementary Data
The financial statements and supplementary data required by Item 8 are set
forth below on pages F-1 through F-28.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
The information required by this Item with respect to executive officers
is set forth in Part I of this report and the information with respect to
directors is incorporated by reference to the information set forth under the
caption "Election of Directors" in the company's Proxy Statement for the 2001
Annual Meeting of Shareholders.
The section entitled "Compliance Under Section 16(a) of the Securities
Exchange Act of 1934" appearing in the Proxy Statement for the 2001 Annual
Meeting of Shareholders sets forth the information concerning compliance by
officers, directors and 10% shareholders of the company with Section 16 of the
Exchange Act of 1934 and is incorporated herein by reference.
Item 11. Executive Compensation
The information required by this Item is incorporated herein by reference
to the information set forth under the caption "Executive Compensation" in the
Proxy Statement for the 2001 Annual Meeting of Shareholders.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required by this Item is incorporated herein by reference
to the information set forth under the caption "Security Ownership of Certain
Beneficial Owners and Management" in the Proxy Statement for the 2001 Annual
Meeting of Shareholders.
Item 13. Certain Relationships and Related Transactions
The information required by this Item is incorporated herein by reference
to the information set forth under the caption "Certain Relationships and
Related Transactions" in the Proxy Statement for the 2001 Annual Meeting of
Shareholders.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a)1. Financial Statements
Included in Part II of this report.
(a)2. Financial Statement Schedules
All schedules have been omitted because the required information is not
present or because the information required is included in the financial
statements, including the notes thereto.
20
(a)3. Exhibits:
*3.1 Third Amended and Restated Articles of Incorporation
*3.2 Form of Amended and Restated Articles of Incorporation
*3.3 Bylaws
*3.4 Certificate of Amendment to the Third Amended and Restated Articles of Incorporation
*4.1 Specimen Common Stock Certificate
*4.2 Specimen Warrant Certificate (filed as Exhibit A to the Form of Warrant Agreement)
*4.3 Form of Representative's Warrant Agreement including form of Representative's Warrant
*4.4 Form of Warrant Agreement
**10.1 1995 Stock Option Plan, as amended
*10.9 Agreement re: Settlement of Lawsuit, Conveyance of Assets and Assumption of Liabilities dated August 28,
1995 by and among DepoMed Systems, Inc., Dr. John W. Shell and M6 Pharmaceuticals, Inc.
*10.10 Form of Indemnification Agreement between the company and its directors and executive officers
*10.12 Form of Agreement between the company and Burrill & Company
*****10.15 Securities Purchase Agreement dated January 21, 2000 between the company and Elan International
Services, Ltd.
*****10.16 Company Registration Rights Agreement dated January 21, 2000 between the company and Elan
International Services, Ltd.
*****10.17 Newco Registration Rights Agreement dated January 21, 2000 among the company, Newco and Elan
International Services, Ltd.
*****10.18 Funding Agreement dated January 21, 2000 among the company, Elan Corporation, plc, Elan Pharma
International, Ltd. and Elan International Services, Ltd.
*****10.19 Subscription, Joint Development Operating Agreement dated January 21, 2000 among the company,
Newco, Elan Corporation, plc, Elan Pharma International, Ltd. and Elan International Services, Ltd.
*****10.20 Convertible Promissory Note dated January 21, 2000 issued by the company to Elan International
Services, Ltd.
*****10.21 Company License Agreement dated January 21, 2000 among the company, Newco and Elan Corporation,
plc.
*****10.22 Elan License Agreement dated January 21, 2000 among the company, Newco, Elan Corporation, plc and
Elan Pharma International, Ltd.
*****10.23 Certificate of Determination of Rights and Preferences of Series A Preferred Stock filed with the State of
California on January 14, 2000
23.1 Consent of Ernst & Young LLP, Independent Auditors
24.1 Power of Attorney (see page 22)
- ----------
* Incorporated by reference to the company's registration statement on Form
SB-2 (File No. 333-25445)
** Incorporated by reference to Exhibit 10.1 of the company's registration
statement on Form S-8 (File No. 333-54982)
*** Incorporated by reference to Exhibit 10.1 of the company's quarterly
report on Form 10-QSB filed on May 17, 1998
**** Incorporated by reference to Exhibit 10.2 of the company's quarterly
report on Form 10-QSB filed on May 17, 1998
***** Incorporated by reference to the company's Form 8-K filed on February 18,
2000
+ Confidential treatment granted.
(b) Reports on Form 8-K:
None.
21
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the issuer, a corporation organized and existing under the
laws of the State of California, has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized, in the City of Menlo Park,
State of California, on the 2nd day of April, 2001.
DEPOMED, INC.
By /s/ John W. Fara, Ph.D.
--------------------------------------------------
John W. Fara, Ph.D.
Chairman, President and Chief Executive Officer
POWERS OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, each person whose signature appears
below constitutes and appoints John W. Fara and John F. Hamilton his true and
lawful attorneys-in-fact and agents, each acting alone, with full power of
substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities, to sign any or all amendments to the Annual Report on
Form 10-K, and to file the same, with all exhibits thereto, and all documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, full power and authority to do and perform
each and every act and thing requisite and necessary to be done in and about the
premises, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents, each acting alone, or his substitute or substitutes, may lawfully do or
cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Annual Report on Form 10-K has been signed by the following persons in the
capacities and on the dates indicated.
Signature
/s/ John W. Fara, Ph.D.
- -------------------------------------- Chairman, President and April 2, 2001
John W. Fara, Ph.D. Chief Executive Officer
(Principal Executive Officer)
/s/ John F. Hamilton
- -------------------------------------- Vice President, April 2, 2001
John F. Hamilton Finance and Chief
Financial Officer
(Principal Financial Officer)
/s/ John N. Shell
- -------------------------------------- Vice President, April 2, 2001
John N. Shell Operations and Director
/s/ John W. Shell, Ph.D.
- -------------------------------------- Director April 2, 2001
John W. Shell, Ph.D.
/s/ G. Steven Burrill
- -------------------------------------- Director April 2, 2001
G. Steven Burrill
/s/ W. Leigh Thompson, M.D., Ph.D.
- -------------------------------------- Director April 2, 2001
W. Leigh Thompson, M.D., Ph.D.
22
DEPOMED, INC.
(A Development Stage Company)
INDEX TO FINANCIAL STATEMENTS
DEPOMED, INC. FINANCIAL STATEMENTS
Report of Ernst & Young LLP, Independent Auditors............................F-2
Balance Sheets...............................................................F-3
Statements of Operations.....................................................F-4
Statement of Shareholders' Equity............................................F-5
Statements of Cash Flows.....................................................F-8
Notes to Financial Statements................................................F-9
DEPOMED DEVELOPMENT, LTD. FINANCIAL STATEMENTS
Report of Ernst & Young LLP, Independent Auditors...........................F-23
Balance Sheet...............................................................F-24
Statement of Operations.....................................................F-24
Statement of Shareholders' Deficit..........................................F-25
Statement of Cash Flows.....................................................F-25
Notes to Financial Statements...............................................F-26
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors and Shareholders
DepoMed, Inc.
We have audited the accompanying balance sheets of DepoMed, Inc. (a development
stage company) as of December 31, 2000 and 1999, and the related statements of
operations, shareholders' equity, and cash flows for each of the three years in
the period ended December 31, 2000 and for the period from inception (August 7,
1995) to December 31, 2000. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of DepoMed, Inc. (a development
stage company) at December 31, 2000 and 1999, and the results of its operations
and its cash flows for each of the three years in the period ended December 31,
2000 and for the period from inception (August 7, 1995) to December 31, 2000, in
conformity with accounting principles generally accepted in the United States.
/s/ ERNST & YOUNG LLP
Palo Alto, California
February 23, 2001, except for Note 10,
as to which the date is March 29, 2001
F-2
DEPOMED, INC.
(A Development Stage Company)
BALANCE SHEETS
December 31,
------------------------------
ASSETS 2000 1999
--------------- -------------
Current assets:
Cash and cash equivalents .................................. $ 3,878,354 $ 934,317
Marketable securities ...................................... 2,620,525 3,532,065
Accounts receivable ........................................ 21,775
Receivable from joint venture .............................. 432,313
Receivable for capital stock ............................... -- 17,015,000
Prepaid and other current assets ........................... 168,666 169,385
------------ ------------
Total current assets ............................... 7,121,633 21,650,767
Property and equipment, net ...................................... 1,317,149 779,631
Other assets ..................................................... 293,756 4,467
------------ ------------
$ 8,732,538 $ 22,434,865
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable ........................................... $ 797,795 $ 219,675
Accrued compensation ....................................... 245,471 275,047
Other accrued liabilities .................................. 367,227 131,889
Payable to joint venture ................................... 684,328 12,015,000
Capital lease obligation, current portion .................. 39,434 41,131
Long-term debt, current portion ............................ 139,181 123,042
Other current liabilities .................................. 103,928 --
------------ ------------
Total current liabilities .......................... 2,377,364 12,805,784
Capital lease obligation, non-current portion .................... 18,200 53,952
Long-term debt, non-current portion .............................. 217,467 356,649
Promissory note from related party, non-current portion .......... 1,533,342 --
Commitments
Shareholders' equity:
Preferred stock, no par value; 5,000,000 shares authorized;
Series A convertible exchangeable preferred stock; 25,000
shares designated, 12,015 and no shares issued and
outstanding
at December 31, 2000 and 1999, respectively ............. 12,822,000 --
Common stock, no par value, 25,000,000 shares
authorized; 8,617,913 and 6,475,077 shares issued and
outstanding at December 31, 2000 and 1999, respectively . 24,600,567 14,797,072
Capital stock issuable ..................................... -- 17,015,000
Deferred compensation ...................................... (24,744) (282,184)
Deficit accumulated during the development stage ........... (32,808,286) (22,298,416)
Accumulated other comprehensive loss ....................... (3,372) (12,992)
------------ ------------
Total shareholders' equity ......................... 4,586,165 9,218,480
------------ ------------
$ 8,732,538 $ 22,434,865
============ ============
See accompanying notes.
F-3
DEPOMED, INC.
(A Development Stage Company)
STATEMENTS OF OPERATIONS
Period From
Year Ended December 31, Inception
(August 7,
---------------------------------------------------- 1995) to
2000 1999 1998 December 31, 2000
----------------- ---------------- --------------- ------------------
Revenue:
Collaborative agreements ................... $ 21,775 $ 115,327 $ 763,138 $ 1,823,087
Contract revenue from joint venture ........ 1,754,443 -- --
1,754,443
------------ ------------ ------------ ------------
Total revenue................................... 1,776,218 115,327 763,138 3,577,530
Operating expenses:
Research and development ................... 7,488,227 3,734,196 2,061,983 14,666,842
General and administrative ................. 2,026,188 1,871,596 1,966,458 7,373,134
Purchase of in-process
research and development ................ -- -- -- 298,154
------------ ------------ ------------ ------------
Total operating expenses ....................... 9,514,415 5,605,792 4,028,441 22,338,130
------------ ------------ ------------ ------------
Loss from operations ........................... (7,738,197) (5,490,465) (3,265,303) (18,760,600)
Other income (expenses):
Equity in loss of joint venture ............ (2,187,627) (12,015,000) -- (14,202,627)
Interest income, net ....................... 222,954 296,665 485,580 961,941
------------ ------------ ------------ ------------
Total other income (expenses) .................. (1,964,673) (11,718,335) 485,580 (13,240,686)
------------ ------------ ------------ ------------
Net loss ....................................... (9,702,870) (17,208,800) (2,779,723) (32,001,286)
------------ ------------ ------------ ------------
Accretion of dividend on preferred stock ....... (807,000) -- -- (807,000)
------------ ------------ ------------ ------------
Net loss applicable to common stock shareholders $(10,509,870) $(17,208,800) $ (2,779,723) $(32,808,286)
============ ============ ============ ============
Basic and diluted net loss per common share .... $ (1.43) $ (2.66) $ (0.44)
============ ============ ============
Shares used in computing basic
and diluted net loss per common share ...... 7,329,876 6,474,538 6,318,233
============ ============ ============
See accompanying notes.
F-4
DEPOMED, INC.
(A Development Stage Company)
STATEMENT OF SHAREHOLDERS' EQUITY (NET CAPITAL DEFICIENCY)
Period from inception (August 7, 1995) to December 31, 2000
Convertible
Preferred Stock Common Stock
---------------------------- --------------------------------- Capital Stock
Shares Amount Shares Amount Issuable
------------ ------------- -------------- ----------------- ----------------
Balances at inception
(August 7, 1995) ............. -- $ -- -- $ -- $ --
Issuance of common stock
to founders on August 7,
1995 in exchange for
shares held by them in
M6 Pharmaceuticals, Inc ...... -- -- 2,066,666 -- --
Issuance of common stock
for cash to investors
at approximately
$0.0009 per
share on
November 15, 1995 ............ -- -- 1,196,491 1,000 --
Issuance of Series A
convertible
preferred stock
for cash to investors
at approximately
$0.31 per share on
November 15, 1995
net of issuance
costs of $67,241. ............ 2,447,368 682,759 -- -- --
Comprehensive loss and net loss .. -- -- -- -- --
------------ ------------- -------------- ----------------- ----------------
Balances at
December 31, 1995 ............ 2,447,368 682,759 3,263,157 1,000 --
Issuance of common stock
for cash at various
dates at $0.09 per share
to employees and
the Company's counsel
pursuant to stock option
agreements ................... -- -- 91,666 8,250 --
Deferred stock-based comp-
ensation related to grants
of certain stock options .... -- -- -- 275,000 --
Comprehensive loss and net loss .. -- -- -- -- --
------------ ------------- -------------- ----------------- ----------------
Balances at
December 31, 1996 ............ 2,447,368 682,759 3,354,823 284,250 --
Issuance of Series B
convertible preferred
stock to investors for
cash at $1.00
per share .................... 278,500 278,500 -- -- --
Conversion of
preferred stock to
common stock on November 5, 1997
at a ratio of one share of
common for three shares
of preferred ................. (2,725,868) (961,259) 908,615 961,259 --
Issuance of common stock
and warrants for $6.10
per unit on November 5,
1997 in connection
with the initial public
offering, net of issuance
costs of $1,963,889 .......... -- -- 1,200,000 5,356,111 --
Deficit Total
Accumulated Accumulated Shareholders'
Deferred During Other Equity (Net
Stock-Based Development Comprehensive Capital
Compensation Stage Income (Loss) Deficiency)
----------------- ------------------ ----------------- ----------------
Balances at inception
(August 7, 1995) ............. $ -- $ -- $ -- $ --
Issuance of common stock
to founders on August 7,
1995 in exchange for
shares held by them in
M6 Pharmaceuticals, Inc ...... -- -- -- --
Issuance of common stock
for cash to investors
at approximately
$0.0009 per
share on
November 15, 1995 ............ -- -- -- 1,000
Issuance of Series A
convertible
preferred stock
for cash to investors
at approximately
$0.31 per share on
November 15, 1995
net of issuance
costs of $67,241. ............ -- -- -- 682,759
Comprehensive loss and net loss .. -- (600,668) -- (600,668)
----------------- ------------------ ----------------- ----------------
Balances at
December 31, 1995 ............ -- (600,668) -- 83,091
Issuance of common stock
for cash at various
dates at $0.09 per share
to employees and
the Company's counsel
pursuant to stock option
agreements ................... -- -- -- 8,250
Deferred stock-based comp-
ensation related to grants
of certain stock options .... (275,000) -- -- --
Comprehensive loss and net loss .. -- (472,773) -- (472,773)
----------------- ------------------ ----------------- ----------------
Balances at
December 31, 1996 ............ (275,000) (1,073,441) -- (381,432)
Issuance of Series B
convertible preferred
stock to investors for
cash at $1.00
per share .................... -- -- -- 278,500
Conversion of
preferred stock to
common stock on November 5, 1997
at a ratio of one share of
common for three shares
of preferred ................. -- -- -- --
Issuance of common stock
and warrants for $6.10
per unit on November 5,
1997 in connection
with the initial public
offering, net of issuance
costs of $1,963,889 .......... -- -- -- 5,356,111
See accompanying notes.
F-5
DEPOMED, INC.
(A Development Stage Company)
STATEMENT OF SHAREHOLDERS' EQUITY (NET CAPITAL DEFICIENCY)
Period from inception (August 7, 1995) to December 31, 2000 (continued)
Convertible
Preferred Stock Common Stock
--------------------------- ------------------------------- Capital Stock
Shares Amount Shares Amount Issuable
------------ ------------- -------------- --------------- -------------
Deferred stock-based comp-
ensation related to grants
of certain stock options ..... -- -- -- 242,050 --
Amortization of deferred stock-
based compensation ........... -- -- -- -- --
Comprehensive loss and net loss .. -- -- -- -- --
------------ ------------- -------------- --------------- -------------
Balances at
December 31, 1997 ............ -- -- 5,463,438 6,843,670 --
Issuance of common stock
to investors for $8.00 per
share on February 23, 1998,
net of issuance costs
of $507,846 .................. -- -- 1,000,000 7,492,154 --
Deferred stock-based comp-
ensation related to grants
of certain stock options ..... -- -- -- 430,200 --
Amortization of deferred stock-
based compensation ........... -- -- -- -- --
Issuance of common stock
options to a consultant for
services with an exercise
price of $11.25 per share
on June 18, 1998 ............. -- -- -- 26,050 --
Comprehensive loss:
Net loss ..................... -- -- -- -- --
Unrealized gains on
available-for-sale securities -- -- -- -- --
Comprehensive loss ...............
------------ ------------- -------------- --------------- -------------
Balances at
December 31, 1998 ............ -- -- 6,463,438 14,792,074 --
Issuance of common
shares for cash on
February 16, 1999 for
$3.00 per share to a
consultant pursuant to a
stock option agreement ....... -- -- 1,666 4,998 --
Net exercise of common stock
warrants at $7.63 per share
in January and April 1999 -- -- 9,973 -- --
Common stock issuable to
Elan Corporation for $7.00
per share with proceeds of
$5,000,000 ................... -- -- -- -- 5,000,000
Series A preferred stock issuable
to Elan Corporation for
$1,000 per share with
proceeds of $12,015,000 ...... -- -- -- -- 12,015,000
Amortization of deferred stock-
based compensation ........... -- -- -- -- --
Comprehensive loss:
Net loss ..................... -- -- -- -- --
Unrealized losses on
available-for-sale securities -- -- -- -- --
Comprehensive loss ...............
------------ ------------- -------------- --------------- -------------
Balances at
December 31, 1999 ............ -- $ -- 6,475,077 $ 14,797,072 $ 17,015,000
Deficit Total
Accumulated Accumulated Shareholders'
Deferred During Other Equity (Net
Stock-Based Development Comprehensive Capital
Compensation Stage Income (Loss) Deficiency)
------------------- ------------------ ----------------- ------------------
Deferred stock-based comp-
ensation related to grants
of certain stock options ..... (242,050) -- -- --
Amortization of deferred stock-
based compensation ........... 116,336 -- -- 116,336
Comprehensive loss and net loss .. -- (1,236,452) -- (1,236,452)
------------------- ------------------ ----------------- ------------------
Balances at
December 31, 1997 ............ (400,714) (2,309,893) -- 4,133,063
Issuance of common stock
to investors for $8.00 per
share on February 23, 1998,
net of issuance costs
of $507,846 .................. -- -- -- 7,492,154
Deferred stock-based comp-
ensation related to grants
of certain stock options ..... (430,200) -- -- --
Amortization of deferred stock-
based compensation ........... 320,582 -- -- 320,582
Issuance of common stock
options to a consultant for
services with an exercise
price of $11.25 per share
on June 18, 1998 ............. -- -- -- 26,050
Comprehensive loss:
Net loss ..................... -- (2,779,723) -- (2,779,723)
Unrealized gains on
available-for-sale securities -- -- 13,887 13,887
------------------
Comprehensive loss ............... (2,765,836)
------------------- ------------------ ----------------- ------------------
Balances at
December 31, 1998 ............ (510,332) (5,089,616) 13,887 9,206,013
Issuance of common
shares for cash on
February 16, 1999 for
$3.00 per share to a
consultant pursuant to a
stock option agreement ....... -- -- -- 4,998
Net exercise of common stock
warrants at $7.63 per share
in January and April 1999 -- -- --
Common stock issuable to
Elan Corporation for $7.00
per share with proceeds of
$5,000,000 ................... -- -- -- 5,000,000
Series A preferred stock issuable
to Elan Corporation for
$1,000 per share with
proceeds of $12,015,000 ...... -- -- -- 12,015,000
Amortization of deferred stock-
based compensation ........... 228,148 -- -- 228,148
Comprehensive loss:
Net loss ..................... -- (17,208,800) -- (17,208,800)
Unrealized losses on
available-for-sale securities -- -- (26,879) (26,879)
------------------
Comprehensive loss ............... (17,235,679)
------------------ ------------------ ------------------ ------------------
Balances at
December 31, 1999 ............ $ (282,184) $ (22,298,416) $ (12,992) $ 9,218,480
See accompanying notes.
F-6
DEPOMED, INC.
(A Development Stage Company)
STATEMENT OF SHAREHOLDERS' EQUITY (NET CAPITAL DEFICIENCY)
Period from inception (August 7, 1995) to December 31, 2000 (continued)
Convertible
Preferred Stock Common Stock
------------------------------- ------------------------------- Capital Stock
Shares Amount Shares Amount Issuable
-------------- --------------- -------------- --------------- ---------------
Common stock issued on
January 21, 2000 to Elan
Corp. for $7.00 per share, net
of issuance costs of $84,817 ........ -- -- 714,286 4,915,183 (5,000,000)
Series A preferred stock issued
on January 21, 2000 to Elan
Corp. for $1,000 per share .......... 12,015 12,015,000 -- -- (12,015,000)
Issuance of common stock options
to a consultant for services
with an exercise price of $4.75
per share on Feb 4, 2000 ............ -- -- -- 9,600 --
Issuance of common stock options
to a consultant for services
with an exercise price of $3.75
per share on June 7, 2000 ........... -- -- -- 5,044 --
Issuance of common stock options
to a consultant for services
with an exercise price of $3.31
per share on Sept. 14, 2000 ......... -- -- -- 4,500 --
Issuance of common stock options
to a consultant for services
with an exercise price of $3.25
per share on Sept. 20, 2000 ......... -- -- -- 46,000 --
Common stock and warrants
issued to investors for $100,000
per unit on Nov. 15, 2000, net
of issuance costs of $237,668 ....... -- -- 1,428,550 4,762,332 --
Issuance of common stock options
to consultants for services
with an exercise price of $4.44
per share on Dec. 8, 2000 ........... -- -- -- 52,548 --
Revaluation of common stock
option issued to a consultant
on Dec. 9, 1999 ..................... -- -- -- 8,288 --
Accretion of dividend on
preferred stock ..................... -- 807,000 -- -- --
Amortization of deferred stock
based compensation -- -- -- -- --
Comprehensive loss:
Net loss ............................ -- -- -- -- --
Unrealized gains on
available-for-sale securities..... -- -- -- -- --
Comprehensive loss ......................
-------------- --------------- -------------- --------------- ---------------
Balances at
December 31, 2000 ................... $ 12,015 $ 12,822,000 $ 8,617,913 $ 24,600,567 $ --
============== =============== ============== =============== ===============
Deficit Total
Accumulated Accumulated Shareholders'
Deferred During Other Equity (Net
Stock-Based Development Comprehensive Capital
Compensation Stage Income (Loss) Deficiency)
----------------- ------------------ ----------------- ------------------
Common stock issued on
January 21, 2000 to Elan
Corp. for $7.00 per share, net
of issuance costs of $84,817 ........ -- -- -- (84,817)
Series A preferred stock issued
on January 21, 2000 to Elan
Corp. for $1,000 per share .......... -- -- -- --
Issuance of common stock options
to a consultant for services
with an exercise price of $4.75
per share on Feb 4, 2000 ............ -- -- -- 9,600
Issuance of common stock options
to a consultant for services
with an exercise price of $3.75
per share on June 7, 2000 ........... -- -- -- 5,044
Issuance of common stock options
to a consultant for services
with an exercise price of $3.31
per share on Sept. 14, 2000 ......... -- -- -- 4,500
Issuance of common stock options
to a consultant for services
with an exercise price of $3.25
per share on Sept. 20, 2000 ......... -- -- -- 46,000
Common stock and warrants
issued to investors for $100,000
per unit on Nov. 15, 2000, net
of issuance costs of $237,668 ....... -- -- -- 4,762,332
Issuance of common stock options
to consultants for services
with an exercise price of $4.44
per share on Dec. 8, 2000 ........... -- -- -- 52,548
Revaluation of common stock
option issued to a consultant
on Dec. 9, 1999 ..................... -- -- -- 8,288
Accretion of dividend on
preferred stock ..................... -- (807,000) -- --
Amortization of deferred stock
based compensation 257,440 -- -- 257,440
Comprehensive loss:
Net loss ............................ -- (9,702,870) -- (9,702,870)
Unrealized gains on
available-for-sale securities..... -- -- 9,620 9,620
------------------
Comprehensive loss ...................... (9,693,250)
----------------- ------------------ ----------------- ------------------
Balances at
December 31, 2000 ................... $ (24,744) $ (32,808,286) $ (3,372) $ 4,586,165
================= ================== ================= ==================
See accompanying notes.
F-7
DEPOMED, INC.
(A Development Stage Company)
STATEMENTS OF CASH FLOWS
Year Ended December 31,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
Operating Activities
Net loss .................................................................. $ (9,702,870) $(17,208,800) $ (2,779,723)
Adjustments to reconcile net loss to net cash used in operating activities:
Equity in loss of joint venture ....................................... 2,187,627 12,015,000 --
Depreciation and amortization ......................................... 304,323 415,343 196,967
Accrued interest expense on shareholder notes ......................... 30,043 -- --
Amortization of deferred compensation ................................. 257,440 228,148 320,582
Value of stock options issued for services ............................ 125,980 -- 26,050
Purchase of in-process research and development ....................... -- -- --
Changes in assets and liabilities:
Accounts receivable ............................................... (21,775) 306,148 (161,261)
Receivable from joint venture ..................................... (432,313) -- --
Other current assets .............................................. 719 17,639 (86,345)
Other assets ...................................................... (289,289) 83,465 (77,675)
Accounts payable and other accrued liabilities .................... 813,458 94,137 (21,829)
Accrued compensation .............................................. (29,576) 104,052 135,448
Other current liabilities ......................................... 103,928 -- (74,086)
------------ ------------ ------------
Net cash used in operating activities ..................... (6,652,305) (3,944,868) (2,521,872)
------------ ------------ ------------
Investing Activities
Investment in unconsolidated joint venture ................................ (13,518,299) -- --
Expenditures for property and equipment ................................... (899,326) (138,232) (853,600)
Purchases of marketable securities ........................................ (3,810,600) (2,264,082) (4,624,175)
Maturities of marketable securities ....................................... 4,793,567 3,287,380 --
------------ ------------ ------------
Net cash (used in) provided by investing activities ....... (13,434,658) 885,066 (5,477,775)
------------ ------------ ------------
Financing Activities
Payments on capital lease obligations ..................................... (41,771) (55,153) (57,469)
Proceeds from equipment loan .............................................. -- 105,734 494,133
Payments of equipment loan ................................................ (123,043) (120,176) --
Proceeds from issuance of notes ........................................... 1,503,299 -- --
Payments of notes ......................................................... -- -- --
Payment of shareholder loans .............................................. -- -- --
Proceeds on issuance of common stock ...................................... 9,677,515 4,998 7,492,154
Proceeds on issuance of preferred stock ................................... 12,015,000 -- --
------------ ------------ ------------
Net cash provided by (used in) financing activities ....... 23,031,000 (64,597) 7,928,818
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents ...................... 2,944,037 (3,124,399) (70,829)
Cash and cash equivalents at beginning of period .......................... 934,317 4,058,716 4,129,545
------------ ------------ ------------
Cash and cash equivalents at end of period ................................ $ 3,878,354 $ 934,317 $ 4,058,716
============ ============ ============
Supplemental Schedule of Noncash Financing and Investing Activities
Accretion of dividend on preferred stock .................................. $ 807,000 $ -- $ --
============ ============ ============
Payable to joint venture .................................................. $ 684,328 $ 12,015,000 $ --
============ ============ ============
Acquisition of property and equipment under capital leases ................ $ 4,322 $ -- $ 144,313
============ ============ ============
Assumption of net liabilities of M6 Pharmaceuticals at
inception (August 7, 1995) ............................................ $ -- $ -- $ --
============ ============ ============
Supplemental Disclosure of Cash Flow Information
Cash paid during the period for interest .................................. $ 93,566 $ 75,616 $ 21,437
============ ============ ============
Period From
Inception
(August 7, 1995)
to
December 31, 2000
------------
Operating Activities
Net loss .................................................................. $(32,001,286)
Adjustments to reconcile net loss to net cash used in operating activities:
Equity in loss of joint venture ....................................... 14,202,627
Depreciation and amortization ......................................... 1,018,649
Accrued interest expense on shareholder notes ......................... 43,661
Amortization of deferred compensation ................................. 922,506
Value of stock options issued for services ............................ 152,030
Purchase of in-process research and development ....................... 298,154
Changes in assets and liabilities:
Accounts receivable ............................................... (21,775)
Receivable from joint venture ..................................... (432,313)
Other current assets .............................................. (168,666)
Other assets ...................................................... (293,914)
Accounts payable and other accrued liabilities .................... 1,165,022
Accrued compensation .............................................. 177,995
Other current liabilities ......................................... 103,928
------------
Net cash used in operating activities ..................... (14,833,382)
------------
Investing Activities
Investment in unconsolidated joint venture ................................ (13,518,299)
Expenditures for property and equipment ................................... (2,029,167)
Purchases of marketable securities ........................................ (10,778,439)
Maturities of marketable securities ....................................... 8,160,529
------------
Net cash (used in) provided by investing activities ....... (18,165,376)
------------
Financing Activities
Payments on capital lease obligations ..................................... (254,884)
Proceeds from equipment loan .............................................. 599,867
Payments of equipment loan ................................................ (243,219)
Proceeds from issuance of notes ........................................... 2,553,299
Payments of notes ......................................................... (1,000,000)
Payment of shareholder loans .............................................. (294,238)
Proceeds on issuance of common stock ...................................... 23,501,287
Proceeds on issuance of preferred stock ................................... 12,015,000
------------
Net cash provided by (used in) financing activities ....... 36,877,112
------------
Net increase (decrease) in cash and cash equivalents ...................... 3,878,354
Cash and cash equivalents at beginning of period .......................... --
------------
Cash and cash equivalents at end of period ................................ $ 3,878,354
============
Supplemental Schedule of Noncash Financing and Investing Activities
Accretion of dividend on preferred stock .................................. $ 807,000
============
Payable to joint venture .................................................. $ 12,699,328
============
Acquisition of property and equipment under capital leases ................ $ 312,518
============
Assumption of net liabilities of M6 Pharmaceuticals at
inception (August 7, 1995) ............................................ $ 298,154
============
Supplemental Disclosure of Cash Flow Information
Cash paid during the period for interest .................................. $ 312,430
============
See accompanying notes
F-8
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS
1. Organization and Basis of Presentation
Organization
DepoMed, Inc. (the "Company" or "DepoMed"), a development stage company,
was incorporated in the State of California on August 7, 1995. The Company is
engaged in the research and development of oral drug delivery systems. The
Company's primary activities since incorporation have been establishing its
offices and research facilities, recruiting personnel, conducting research and
development, performing business and strategic planning and raising capital.
As of December 31, 2000 the Company had approximately $6,499,000 in cash,
cash equivalents and marketable securities, working capital of $4,744,000 and
accumulated losses of $32,001,000. In the course of its development activities,
the Company expects such losses to continue over the next several years.
Management plans to continue to finance the operations with a combination of
equity and debt financing and revenue from corporate alliances and technology
licenses, including revenue from its joint venture. If adequate funds are not
available, the Company may be required to delay, reduce the scope of, or
eliminate one or more of its development programs. On March 29, 2001 the Company
signed an equipment financing agreement that will provide financing for
equipment and leasehold improvements purchased from August 2000 through December
2001 (See Note 10 "Subsequent Events"). The Company expects its existing capital
resources, including the March 2001 capital equipment financing, will permit it
to meet its capital and operational requirements at least through December 31,
2001.
2. Summary of Significant Accounting Policies
Cash, Cash Equivalents and Marketable Securities
The Company considers all highly liquid investments with an original
maturity (at date of purchase) of three months or less to be cash equivalents.
Cash and cash equivalents consist of cash on deposit with banks, money market
instruments and commercial paper. The Company places its cash, cash equivalents
and marketable securities with high quality, U.S. financial institutions and, to
date, has not experienced losses on any of its balances. The Company records
cash and cash equivalents at amortized cost, which approximates the fair value.
The remaining contractual period until maturity of marketable securities range
from 1-24 months. All marketable securities are classified as
available-for-sale. These securities are carried at market value with unrealized
gains and losses included in accumulated other comprehensive income (loss) in
shareholders' equity.
Securities classified as available-for-sale as of December 31, 2000 and
1999 are summarized below. Estimated fair value is based on quoted market prices
for these investments.
Gross
Amortized Unrealized Estimated
December 31, 2000: Cost Losses Fair Value
---------- ---------- ----------
U.S. corporate securities:
Total included in cash and cash equivalents $3,123,357 $ -- $3,123,357
Total included in marketable securities ... 2,623,897 (3,372) 2,620,525
---------- ---------- ----------
Total available-for-sale ....................... $5,747,254 $ (3,372) $5,743,882
========== ========== ==========
December 31, 1999:
U.S. corporate securities:
Total included in cash and cash equivalents $ 498,264 $ -- $ 498,264
Total included in marketable securities ... 3,545,057 (12,992) 3,532,065
---------- ---------- ----------
Total available-for-sale ....................... $4,043,321 $ (12,992) $4,030,329
========== ========== ==========
F-9
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
2. Summary of Significant Accounting Policies (continued)
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation
and amortization (See Note 4). Depreciation is provided using the straight-line
method over the estimated useful lives of the respective assets, generally three
to five years. Leasehold improvements are amortized over the lesser of the lease
term or the estimated useful lives of the related assets, generally five years.
Use of Estimates
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.
Stock-Based Compensation
As permitted under Statement of Financial Accounting Standards No. 123
(SFAS 123), Accounting for Stock-Based Compensation, the Company has elected to
follow Accounting Principles Board Opinion No. 25, Accounting for Stock Issued
to Employees (APB 25) in accounting for stock-based awards to its employees.
Accordingly, the Company accounts for grants of stock options and common stock
purchase rights to its employees according to the intrinsic value method and,
thus, recognizes no stock-based compensation expense for options granted with
exercise prices equal to or greater than fair value of the Company's common
stock on the date of grant. The Company records deferred stock-based
compensation when the deemed fair value of the Company's common stock for
financial accounting purposes exceeds the exercise price of the stock options or
purchase rights on the date of grant. Any such deferred stock-based compensation
is amortized over the vesting period of the individual options. Pro forma net
loss information using the fair value method accounting for grants of stock
options to employees is included in Note 7.
Options granted to non-employees are accounted for at fair value using the
Black-Scholes option valuation model in accordance with FAS123 and Emerging
Issues Task Force Consensus No. 96-18 (EITF 96-18), and may be subject to
periodic re-valuation over their vesting terms. The resulting stock-based
compensation expense is recorded over the service period in which the
non-employee provides services to the Company.
Net Loss Per Common Share
Net loss per share is computed using the weighted-average number of
shares of common stock outstanding. Common stock equivalent shares from
outstanding stock options and warrants are not included as their effect is
antidilutive. Stock options to purchase 1,803,711 shares of common stock at a
weighted-average purchase price of $4.16 and warrants to purchase 1,879,935
shares of common stock at a weighted-average purchase price of $7.10 were
outstanding as of December 31, 2000. Amounts outstanding on a promissory
note, including accrued interest, totaled $1,533,342 and were convertible
into 153,334 common shares at a price of $10.00 per share. Also outstanding
at December 31, 2000 were 12,015 preferred shares and dividends accreted on
preferred stock payable as 807 preferred shares, were convertible into
1,068,500 common shares at a price of $12.00 per share. These shares were not
included in the computation of diluted earnings per share as they would have
had an antidilutive effect on net loss per share.
F-10
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
2. Summary of Significant Accounting Policies (continued)
Revenue Recognition
Revenue related to collaborative research agreements with corporate
partners and the Company's joint venture is recognized as the expenses are
incurred for each contract. The Company is required to perform research
activities as specified in each respective agreement on a best efforts basis,
and the Company is reimbursed based on the costs associated with supplies and
the hours worked by employees on each specific contract. Nonrefundable milestone
payments are recognized pursuant to collaborative agreements upon the
achievement of specified milestones where no further obligation to perform
exists under that provision of the arrangement.
Comprehensive Income
Comprehensive income (loss) is comprised of net loss and other
comprehensive income (loss). Other comprehensive income (loss) includes certain
changes in equity of the Company that are excluded from net loss. Specifically,
SFAS 130 requires unrealized holding gains and losses on the Company's
available-for-sale securities, which were reported separately in shareholders'
equity, to be included in accumulated other comprehensive loss. Comprehensive
loss for the years ended December 31, 2000, 1999 and 1998 has been reflected in
the Statement of Shareholders' Equity.
Long-Lived Assets
In accordance with Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets to be Disposed Of" (FAS
121), the Company identifies and records impairment losses, as circumstances
dictate, on long-lived assets used in operations when events and circumstances
indicate that the assets might be impaired and the discounted cash flows
estimated to be generated by those assets are less than the carrying amounts of
those assets. No such impairments have been identified with respect to the
Company's long-lived assets, which consist primarily of property and equipment.
Income Taxes
Income taxes are computed in accordance with Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes" (FAS 109) which
requires the use of the liability method in accounting for income taxes. Under
FAS 109, deferred tax assets and liabilities are measured based on differences
between the financial reporting and tax basis of assets and liabilities using
enacted rates and laws that are expected to be in effect when the differences
are expected to reverse.
Fair Value of Financial Instruments
The estimated fair value of long-term debt and notes payable is estimated
based on current interest rates available to the Company for debt instruments
with similar terms, degrees of risk and remaining maturities. The carrying
values of these obligations approximate their respective fair values.
Segment Information
The Company follows Statement of Financial Standards No. 131, "Disclosures
about Segments of an Enterprise and Related Information" (FAS 131). FAS 131
establishes standards for reporting financial information about operating
segments in financial statements, as well as additional disclosures about
products and services, geographic areas, and major customers. The Company
operates in one operating segment and has operations solely in the United
States.
F-11
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
2. Summary of Significant Accounting Policies (continued)
Recent Accounting Standards
In December 1999, the SEC staff released Staff Accounting Bulletin No. 101
(SAB 101), which provides guidance on the recognition, presentation and
disclosure of revenue in financial statements. The Company adopted SAB 101, as
required, in the fourth quarter of 2000. The adoption of SAB 101 had no impact
on the Company's financial position and results of operations.
On March 31, 2000, the Financial Accounting Standards Board issued
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation" (FIN 44), which provides guidance on several implementation issues
related to Accounting Principles Board Opinion No. 25 (APB 25). The adoption of
FIN 44 had no impact on the Company's financial position and results of
operations.
In July 1999, the FASB announced the delay of the effective date of
Statement of Financial Reporting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (SAFS 133), also, in June 2000, the FASB
issued Statement of Financial Reporting Standards No. 138, an amendment to SFAS
133. SFAS 133, as amended, requires that all derivative instruments be recorded
on the balance sheet at their fair value. Change in the fair value of
derivatives is recorded each period in current earnings or other comprehensive
income, depending on whether a derivative is designed as part of a hedge
transaction, and, if so, the type of hedge transaction. The Company must adopt
SFAS 133, as amended, on January 1, 2001. Management does not expect that
adoption of SFAS 133, as amended, will have an impact on the Company's financial
position or results of operations.
3. Research Arrangements
Bristol-Myers Squibb Company
In July 1996, the Company and Bristol-Myers Squibb Company (BMS) entered
into a joint research agreement to develop a product incorporating a BMS
proprietary compound into the DepoMed Gastric Retention System (GR System).
Pursuant to the agreement, the Company achieved all the specified milestones and
recorded approximately $198,000 in product development revenues in 1996, the
entire fee specified in the agreement.
Also in 1996 and continuing through 1998, the Company performed contract
research services for BMS under an arrangement whereby BMS reimbursed specific
research costs relating to the same product referred to above. Revenue
recognized in accordance with this arrangement amounted to $80,280 in 1998.
There were no revenues recorded under the arrangement in 1999.
Pursuant to the agreement, BMS had an option to obtain an exclusive,
worldwide license to products incorporating the BMS compound utilizing the GR
System. In April 1999, the Company was notified by BMS that BMS would not
exercise its license and development option to use the Company's GR System for
the undisclosed pharmaceutical product.
F-12
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
3. Research Arrangements (continued)
R. W. Johnson Pharmaceutical Research Institute
In March 1998, the Company entered into a research agreement with the R.
W. Johnson Pharmaceutical Research Institute (PRI), a Johnson & Johnson unit, to
study the feasibility of an orally administered, controlled release
pharmaceutical product using the Company's GR System. The Company was paid for
actual costs, as incurred, at the fees stipulated in the agreement. The
agreement may be terminated by PRI at any time upon 30 days written notice to
the Company.
In the first quarter of 1999, the Company successfully completed the first
phase of formulation development under the PRI feasibility agreement. PRI has
requested no further development work from the Company and the Company does not
expect to receive any additional revenue from this agreement. The Company
recognized revenues of $115,327 and $682,858 during 1999 and 1998, respectively,
in accordance with the agreement. There was no amount receivable at December 31,
2000 under this feasibility agreement.
Elan Corporation, plc
On November 30, 1999, the Company signed a legally binding letter
agreement (the "Agreement") with Elan Corporation, plc, Elan Pharma
International, Ltd. and Elan International Services, Ltd. (together "Elan")
to form a joint venture to develop products using drug delivery technologies
and expertise of both companies. Since the agreement was a legally binding
agreement as of the date of the execution of such agreement, the Company
recorded the transaction in the fourth quarter of 1999. On January 21, 2000,
the final closing agreements were signed, cash payments were received and
stock was issued to complete the transaction. This joint venture, DepoMed
Development, Ltd. (DDL), a Bermuda limited liability company, is initially
owned 80.1% by the Company and 19.9% by Elan. DDL subcontracts research and
development efforts to the Company, Elan and others. Under the terms of the
Agreement, DDL paid $15,000,000 to Elan for a license providing DDL
non-exclusive rights to use certain Elan in-process drug delivery
technologies. The Elan technology rights acquired relate to very early stage
technology that, in the opinion of management, have not reached technological
feasibility and have no future alternative uses. The Company also licensed
certain drug delivery technologies to DDL on a non-exclusive basis.
The Agreement also provided for the following transactions:
o Elan purchased 717,286 shares of the Company's common stock at $7.00 per
share. The shares purchased are unregistered and have registration rights. The
proceeds may be used by the Company without restriction.
o Elan purchased 12,015 shares of DepoMed Series A convertible
exchangeable preferred stock (the "Series A Preferred Stock") at $1,000 per
share. The Series A Preferred Stock accrues a dividend of 7% per annum,
compounded semi-annually and payable in shares of the Series A Preferred Stock.
The Series A Preferred Stock is convertible at anytime after two years, at
Elan's option, into the Company's common stock at a price of $12.00 per share.
Additionally, Elan has the right to exchange 12,015 shares of Series A Preferred
Stock for a 30.1% interest in DDL, increasing Elan's ownership in DDL to 50%.
This exchange option is exercisable after two years from original issue date and
within six years of such date. The exchange right will terminate if the Series A
Preferred Stock is converted into the DepoMed's common stock unless this
conversion occurs as a result of a liquidation or upon the occurrence of certain
transactions involving a change of control of the Company. DepoMed used the
proceeds of the Series A Preferred Stock sale to purchase 6,000 shares of DDL
common stock and 3,612 shares of DDL preferred stock, both classes of stock
purchased at $1,250 per share, to fund the Company's share of DDL's initial
capitalization.
F-13
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
3. Research Arrangements (continued)
Elan Corporation, plc (continued)
o Elan purchased 2,388 shares of DDL preferred stock for $1,250 per share,
a 19.9% interest in DDL.
o DepoMed will fund 80.1% of the joint venture research and development
costs. If Elan elects to exercise its exchange option on the Series A Preferred
Stock, it will also repay DepoMed 30.1% of joint venture funding paid by
DepoMed. Upon repayment by Elan, both DepoMed and Elan will have shared evenly
in funding the joint venture.
o Elan made a loan facility available to DepoMed for up to $8,010,000. The
purpose of this loan is to support DepoMed's share of the joint venture's
research and development costs pursuant to a convertible promissory note issued
by the Company to Elan. The note has a six-year term and will bear interest at
9% per annum, compounded semi-annually, on any amounts borrowed under the
facility. The note and accrued interest will be convertible at Elan's option.
Elan may convert all or any portion of the outstanding principal amount and
accrued and unpaid interest into DepoMed's common stock at a conversion price of
$10.00 per share.
While DepoMed owns 80.1% of the outstanding common stock of DDL, Elan and
its subsidiaries have retained significant minority investor rights that are
considered "participating rights" as defined in the Emerging Issues Task Force
Consensus No. 96-16. Accordingly, DepoMed will not consolidate the financial
statements of DDL, but will instead account for its investment in DDL under the
equity method of accounting. Separate financial statements for DDL are included
elsewhere in this Form 10-K.
For the year ended December 31, 2000, DDL recognized a net loss of
$2,731,120. For the year ended December 31, 1999, DDL recognized a net loss of
$15,000,000, reflecting the charge to in-process research and development for
the non-exclusive acquisition of rights to certain Elan early stage drug
delivery technologies. The Company recorded 80.1% of the loss as equity in loss
of the joint venture for the years ended December 31, 2000 and 1999. The Company
had a zero basis in its DDL investment at December 31, 2000.
4. Property and Equipment
At December 31, 2000, property and equipment consists of the following:
Furniture and office equipment ............... $ 389,562
Laboratory equipment ......................... 1,181,696
Leasehold improvements ....................... 508,701
-----------
2,079,959
Less accumulated depreciation and amortization (762,810)
-----------
$ 1,317,149
===========
Property and equipment includes assets under capitalized leases of
$148,966 and $186,240 at December 31, 2000 and 1999, respectively. Accumulated
amortization related to assets under capital leases is included in accumulated
depreciation and amortization and totals $85,181 and $74,246 at December 31,
2000 and 1999 respectively.
F-14
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
5. Commitments and Contingencies
Convertible Promissory Note
On November 30, 1999, the Company signed a binding letter agreement to
issue a convertible promissory note to Elan Corporation, plc, for $8,010,000 to
fund research and development of a joint venture, DDL. As of December 31, 2000
there was $1,533,000 outstanding related to the note, including accrued interest
of $30,000. (See Note 3, Research Arrangements, Elan Corporation, plc)
Long-term Debt
The Company entered into a $600,000 equipment financing credit facility
(Credit Facility) with a third party in 1998. The Credit Facility allowed the
Company to incur loans up to $600,000 through July 1999. At December 1998, the
Company had utilized approximately $494,000 of the Credit Facility, at an annual
percentage rate of 12.2%. Equal payments of principal and interest of
approximately $12,000 are due monthly through November 2002 with a balloon
payment of approximately $49,000 due December 2002. In June 1999, the Company
financed additional equipment of approximately $106,000 under the agreement, at
an annual percentage rate of 13.5%. Equal payments of approximately $2,500 are
due monthly through May 2003 with a balloon payment of approximately $10,500 due
June 2003. The financed equipment serves as collateral for the loan.
Leases
The Company leases its facilities under a non-cancelable operating lease
that expires in March 2005, with an option to extend the lease term for an
additional five years.
Future minimum payments under the operating leases, capital leases and
long-term debt at December 31, 2000, together with the present value of those
minimum payments, are as follows:
Operating Capital Long-term
Leases Leases Debt
-------------- --------------- ---------------
Year ending December 31,
2001 ................................... $ 606,927 $ 44,945 $ 175,815
2002 ................................... 642,739 15,360 213,214
2003 ................................... 681,303 4,545 23,747
2004 ................................... 722,181 -- --
2005 ................................... 152,250 -- --
-------------- -------------- --------------
$2,805,400 64,850 412,776
==============
Less amount representing interest ............ (7,216) (56,128)
--------------- ---------------
Present value of future lease payments ....... 57,634 356,648
Less current portion ......................... (39,434) (139,181)
--------------- ---------------
Non-current portion .......................... $ 18,200 $ 217,467
=============== ===============
Rent expense for the years ended December 31, 2000, 1999, 1998 and for the
period from inception to December 31, 2000 was approximately $554,000, $350,000,
282,000 and $1,288,000, respectively.
F-15
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
5. Commitments and Contingencies (continued)
Financial Consulting Agreement
In 1998, the Company entered into a three-year agreement with a financial
advisor. As consideration for services to be rendered under this arrangement,
the Company granted the financial advisor options to purchase 40,000 shares of
common stock at an exercise price of $4.0625 per share and 20,000 shares of
common stock at an exercise price $9.625 per share. The options were fully
vested as of the date of grant. The fair value of these options is $430,200, as
determined using the Black-Scholes Estimation Pricing Model. The value of these
options will be amortized ratably over the three-year term of the consulting
agreement.
6. Related Party Transactions
Consulting Agreement
In September 1997, the Company entered into a one-year consulting
agreement with Burrill & Co. to provide advisory services. The principal of
Burrill & Co. is a director of the Company. The agreement required that the
Company pay a monthly retainer of $10,000 as well as additional fees related to
Burrill & Co.'s involvement in partnering arrangements. In September 1998, the
Company amended the agreement with Burrill & Co., whereby the Company is
required to pay a monthly retainer of $5,000 per month and other fees related to
partnering arrangements. Through December 31, 2000 and 1999, the Company paid a
total of $55,000 and $62,699, respectively, in connection with this agreement.
The Company may terminate the arrangement at any time with sixty days notice.
Consulting Agreement
In May 2000, the Company entered into an eight month consulting
agreement with John W. Shell, Ph.D. to provide services related to business
development, new product opportunities and intellectual property. Dr. Shell
is the founder of the Company and retired as Chairman and Chief Scientific
Officer of the Company in April 2000. Dr. Shell is also currently serving as
a director of the Company. In 2000, the Company paid a total of $44,204 in
fees associated with the agreement.
7. Shareholders' Equity
Initial Public Offering
The Company completed its initial public offering of common stock and
common stock purchase warrants on November 5, 1997. The offering consisted of
1,200,000 units (Units), each unit consisting of one share of common stock, no
par value, and a warrant to purchase one share of common stock at an exercise
price of $7.625 per share. The warrants may be exercised at any time beginning
November 5, 1998 until November 4, 2002. The Company offered these units to the
public at a price of $6.10 per unit. Upon the completion of the initial public
offering, all of the previously issued convertible preferred shares outstanding
as of the closing date were automatically converted into 908,615 shares of
common stock. The shares and warrants comprising the units were detached and
began trading separately on December 1, 1997. In connection with the initial
public offering, the Company issued warrants to purchase 117,917 Units
(Representative's Warrants). The Representative's Warrants are exercisable at a
price of $7.625 per Unit for a period of four years commencing one year after
the date of the initial public offering. The warrants issuable upon exercise of
the Representative's Warrants are exercisable at $7.625 per warrant for a period
of four years, commencing one year from the date of the initial public offering.
F-16
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
7. Shareholders' Equity (continued)
Initial Public Offering (continued)
In connection with a bridge financing, which was funded and repaid in
November 1997, the Company issued to the bridge financing investors warrants to
purchase 81,254 shares exercisable at $6.00 per share and 2,084 shares
exercisable at $7.625 per share. The bridge warrants may be exercised at any
time beginning April 7, 1998 until April 7, 2002. The value of the warrants was
deemed to be immaterial, therefore, the Company did not record any value for
these warrants.
As of December 31, 2000, 1,879,935 shares of common stock were reserved
for issuance of outstanding warrants.
Private Placements
On February 6, 1998, the Company completed a private placement of
1,000,000 shares of common stock for $8.00 per share, with net proceeds of
approximately $7,500,000.
On January 21, 2000, the Company issued 714,286 shares of common stock and
12,015 shares of Series A convertible exchangeable preferred stock to Elan
Corporation for consideration of $5,000,000 and $12,015,000, respectively. These
transactions were completed in conjunction with the formation of a joint venture
between Elan Corporation, plc and the Company. (See Note 3. Research
Arrangements, Elan Corporation, plc )
On November 15, 2000, the Company completed a private placement of a
combination of common stock and warrants, with net proceeds of approximately
$4,762,000. The private placement consisted of 50 units, each unit consisting of
28,571 shares of common stock, no par value, and 7,142 warrants to purchase
7,142 shares of common stock at an exercise price of $5.50 per share. The
warrants may be exercised at any time beginning November 15, 2000 until November
14, 2004. The Company offered these units to private investors at a price of
$100,000 per unit. Additionally, the Company issued 42,856 of the redeemable
warrants as a commission to a broker.
1995 Stock Option Plan
The Company's 1995 Stock Option Plan (the Plan) was adopted by the Board
of Directors and approved by the shareholders in September 1995, and has
subsequently been amended. In June 2000, at the Company's Annual Meeting of
Shareholders, the shareholders approved an increase to the Plan of 600,000
shares. As of December 31, 2000, a total of 2,400,000 shares of common stock
have been reserved for issuance under the Plan. The Plan provides for the
granting to employees of the Company, including officers and employee directors,
of incentive stock options, and for the granting of nonstatutory stock options
to employees and consultants of the Company.
Generally, the exercise price of all incentive stock options and
non-qualified stock options granted under the Plan must be at least 100% and
85%, respectively, of the fair value of the common stock of the Company on the
grant date. The term of an incentive stock option may not exceed 10 years from
the date of grant. An option shall be exercisable on or after each vesting date
in accordance with the terms set forth in the option agreement. The right to
exercise an option generally vests at the rate of at least 25% by the end of the
first year and then ratably in monthly installments over the remaining vesting
period of the option.
F-17
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
7. Shareholders' Equity (continued)
1995 Stock Option Plan (continued)
A summary of the Company's stock option activity and related information
for the period from inception (August 7, 1995) to December 31, 2000 follows:
Outstanding Options
--------------------------
Shares Weighted-
Available Number Average
For Grant of Shares Exercise Price
---------- ---------- --------------
Shares authorized .............. 250,000 -- --
Options granted ................ (120,000) 120,000 $ 0.09
---------- ---------- ------
Balance at December 31, 1995 ........... 130,000 120,000 $ 0.09
Options granted at fair value .. (3,334) 3,334 $ 0.09
Options granted below fair value (83,333) 83,333 $ 0.90
Options exercised .............. -- (91,666) $ 0.09
---------- ---------- ------
Balance at December 31, 1996 ........... 43,333 115,001 $ 0.68
Shares authorized .............. 750,000 -- --
Options granted at fair value .. (369,166) 369,166 $ 4.12
Options granted below fair value (153,333) 153,333 $ 3.00
Options exercised .............. -- -- --
---------- ---------- ------
Balance at December 31, 1997 ........... 270,834 637,500 $ 3.23
Shares authorized .............. 200,000 * -- --
Options granted at fair value .. (296,498) 296,498 $ 8.10
Options granted below fair value (60,000) 60,000 $ 5.92
Options forfeited .............. 7,500 (7,500) $ 3.75
---------- ---------- ------
Balance at December 31, 1998 ........... 121,836 986,498 $ 4.85
Shares authorized ...................... 600,000 -- --
Options granted at fair value .. (363,551) 363,551 $ 2.93
Options exercised .............. -- (1,666) $ 3.00
Options forfeited .............. 21,000 (21,000) $ 7.29
---------- ---------- ------
Balance at December 31, 1999 ........... 379,285 1,327,383 $ 4.29
Shares authorized ...................... 600,000 -- --
Options granted at fair value .. (485,328) 485,328 $ 3.90
Options forfeited .............. 4,000 (4,000) $ 5.47
Options expired ................ 5,000 (5,000) $11.25
---------- ---------- ------
Balance at December 31, 2000 ........... 502,957 1,803,711 $ 4.16
========== ========== ======
* On December 9, 1998 the Board of Directors approved an increase of
200,000 shares to the plan which was approved by the stockholders at the
Annual Meeting of Shareholders on June 2, 1999.
F-18
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
7. Shareholders' Equity (continued)
1995 Stock Option Plan (continued)
Exercisable options at December 31, 2000, totaled 985,771. Exercise prices for
options outstanding as of December 31, 2000 ranged from $0.09 to $10.25. The
following table summarizes information about options outstanding at December 31,
2000:
Outstanding Options Exercisable Options
------------------------------------------------ --------------------------
Weighted- Remaining Weighted-
Average Contractual Average
Exercise Number Exercise Life Number Exercise
Prices of Options Price (in years) of Options Price
---------------- ------------ -------------- ------------------- ----------- --------------
$0.09-0.90 114,999 $0.68 4.53 114,999 $0.67
$2.88-3.75 1,209,622 $3.39 1.85 559,457 $3.34
$4.06-6.10 181,590 $5.04 2.29 135,006 $4.99
$7.63-7.75 230,500 $7.64 2.09 125,270 $7.64
$9.50-10.25 67,000 $9.68 2.76 51,039 $9.67
------------ -----------
1,803,711 985,771
============ ===========
Stock-Based Compensation
During 1996, the Company adopted Financial Accounting Standards Board
Statement No. 123 (SFAS 123). In accordance with SFAS 123, the Company applies
APB 25 in accounting for option grants to employees under the Plan and,
accordingly, does not recognize compensation expense for options granted to
employees at fair value, but does recognize compensation expense for options
granted at prices below fair value. The valuation related to stock options
granted to non-employees in 1996 was immaterial and, therefore, no value was
recorded in the financial statements in 1996. The Company used the minimum value
method to determine the fair value of stock options at the grant date issued in
1996, and in 1997, up to the date of the initial public offering. Options
granted subsequent to the Company's initial public offering were valued using
the Black-Scholes Option Valuation Model. The weighted-average assumptions used
for 2000, 1999 and 1998 were as follows:
Year Ended December 31,
------------------------------------
2000 1999 1998
----------- ---------- --------
Risk free interest rate ................. 6.10 % 4.81 % 4.75 %
Expected dividend yield ................. 0 0 0
Expected option life in years ........... 4 4 4
Expected stock price volatility ......... .82 .80 .80
The weighted-average estimated fair value of employee stock options was
$2.47, $1.83 and $4.92 for stock options granted in 2000, 1999 and 1998,
respectively.
The option valuation models used in 2000, 1999 and 1998, were developed
for using in estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. In addition, option valuation models
require the input of highly subjective assumptions including the expected stock
price volatility. Because the Company's employee stock options have
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its employee
stock options.
F-19
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
7. Shareholders' Equity (continued)
Stock-Based Compensation (continued)
For pro forma purposes, the estimated fair value of the options is
amortized to expense over the option's vesting period. If the Company had
elected to recognize compensation expense based on the fair value of the options
granted on the date of grant as prescribed by SFAS 123, net loss and net loss
per share would have increased as reflected in the pro forma amounts shown in
the table below:
Year Ended December 31,
--------------------------------------------------------------
2000 1999 1998
-------------- -------------- --------------
Net loss--as reported ......... $ (10,509,870) $ (17,208,800) $ (2,779,723)
Net loss--pro forma ........... $ (11,358,212) $ (17,827,568) $ (3,067,834)
Net loss per share--as reported $ (1.43) $ (2.66) $ (0.44)
Net loss per share--pro forma . $ (1.55) $ (2.75) $ (0.49)
Deferred Stock-Based Compensation
For options granted through the initial public offering date, November 5,
1997, the Company recognized an aggregate of $517,000 as deferred stock-based
compensation for the excess of the deemed fair value for financial reporting
purposes of the common stock issuable on exercise of such options over the
exercise price. The deferred stock-based compensation expense is being
recognized over the vesting period of the options.
Total deferred stock-based compensation recorded during 1998 amounted to
$430,000. There was no deferred compensation recorded in 1999 or 2000.
Compensation expense relating to the amortization of deferred stock-based
compensation recorded in the 2000, 1999 and 1998 statements of operations was
$257,000, $228,000 and $321,000, respectively. Further, the Company recognized
expense of $126,000 in 2000 and $26,000 in 1998 relating to the value of stock
options granted to consultants in exchange for services.
8. Income Taxes
As of December 31, 2000, the Company had federal and state net
operating loss carryforwards of approximately $16,000,000 each. The Company
also had federal and California research and development tax credit
carryforwards of approximately $500,000 each. The net operating loss and
credit carryforwards will expire at various dates beginning in 2010 through
2020 if not utilized.
Utilization of the Company's net operating loss and credit carryforwards
may be subject to a substantial annual limitation due to the ownership change
limitations provided by the Internal Revenue Code of 1986 and similar state
provisions. The annual limitation may result in the expiration of net operating
losses and credits before utilization.
F-20
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
8. Income Taxes (continued)
Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets for financial reporting
purposes and the amount used for income tax purposes. Significant components
of the Company's deferred tax assets are as follows:
Year Ended December 31,
-----------------------------------------
2000 1999 1998
----------- ----------- -----------
Net operating loss carryforwards .......... $ 6,500,000 $ 3,700,000 $ 1,500,000
Research credit carryforwards ............. 800,000 400,000 100,000
In-process research and development........ 4,500,000 4,800,000 --
----------- ----------- -----------
Total deferred tax assets ................. 11,800,000 8,900,000 1,600,000
Valuation allowance for deferred tax assets (11,800,000) (8,900,000) (1,600,000)
----------- ----------- -----------
Total $ -- $ -- $ --
=========== =========== ===========
Realization of deferred tax assets is dependent upon future earnings,
if any, the timing and amount of which are uncertain. Accordingly, the
valuation allowance increased by $7,300,000 and $800,000 during the years
ended December 31, 1999 and 1998, respectively.
9. Summarized Quarterly Data (Unaudited)
The following tables set forth certain statements of operations data for
each of the eight quarters beginning with the quarter ended March 31, 1999
through the quarter ended December 31, 2000. This quarterly information is
unaudited, but has been prepared on the same basis as the annual financial
statements and, in the opinion of management, reflects all adjustments,
consisting only of normal recurring adjustments necessary for a fair
representation of the information for the periods presented. Operating results
for any quarter are not necessarily indicative of results for any future period.
2000 Quarter Ended
--------------------------------------------------------
December 31 September 30 June 30 March 31
----------- ----------- ----------- -----------
Total revenue ..................... $ 432,312 $ 381,926 $ 585,562 $ 376,418
Loss from operations .............. (2,828,821) (1,885,903) (1,624,537) (1,398,936)
Net loss .......................... (3,497,332) (2,378,872) (2,179,212) (1,647,454)
Net loss applicable to common stock (3,716,332) (2,595,872) (2,389,212) (1,808,454)
Basic & diluted net loss per share (0.47) (0.36) (0.33) (0.26)
1999 Quarter Ended
-----------------------------------------------------------
December 31 September 30 June 30 March 31
----------- ------------ ---------- ----------
Total revenue ..................... $ -- $ -- $ -- $115,327
Loss from operations .............. (1,619,681) (1,525,058) (1,243,670) (1,102,056)
Net loss .......................... (13,579,059) (1,458,696) (1,163,308) (1,007,737)
Net loss applicable to common stock (13,579,059) (1,458,696) (1,163,308) (1,007,737)
Basic & diluted net loss per share (2.10) (0.23) (0.18) (0.16)
F-21
DEPOMED, INC.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
10. Subsequent Events (UNAUDITED)
Research Arrangement
On January 2, 2001, the Company signed an interim letter agreement with
an undisclosed New York Stock Exchange listed pharmaceutical company to begin
feasibility studies with an undisclosed drug. Under the interim letter
agreement, all research and development work with the partner's drug will be
funded by the partner.
Long-term Debt
On March 29, 2000, the Company entered into an equipment financing
credit facility. The credit facility will allow the Company to finance up to
$2,000,000 of equipment and leasehold improvements purchased from August 2000
to December 31, 2001. The interest rate will be 750 basis points above the
current thirty-six (36) month US Treasury Note rate. The Company will issue
40,000 warrants to the lender to purchase 40,000 shares of the Company's
common stock at a price of $3.98 per share. The warrants will be exercisable
from March 29, 2001 to March 28, 2006. Loans under the facility will be
collateralized initially by a blanket lien on all of the Company's assets
until the Company sells $10,000,000 of the Company's common stock. After the
effective date of the sale of common stock, the blanket lien will be released
and the financed equipment will serve as collateral for the loans.
F-22
AUDITORS' REPORT
To the Shareholders of
DepoMed Development, Ltd.
We have audited the accompanying balance sheet of DepoMed Development,
Ltd. (a development stage company) as of December 31, 2000 and the related
statements of operations, shareholders' deficit and cash flows for the period
from formation (November 30, 1999) to December 31, 2000. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
an audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of DepoMed Development, Ltd. (a
development stage company) at December 31, 2000 and the results of its
operations and its cash flows for the period from formation (November 30, 1999)
to December 31, 2000 in conformity with accounting principles generally accepted
in the United States.
Ernst & Young
Chartered
Accountants
February 23, 2001
Hamilton, Bermuda
F-23
DEPOMED DEVELOPMENT, LTD.
(A Development Stage Company)
(Incorporated in Bermuda)
BALANCE SHEET
(expressed in United States dollars)
December 31,
2000
------------
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities:
Due to shareholders (Note 3) ............................ $ 432,313
Due to companies related through common ownership........ $ 422,030
------------
Total current liabilities .......................... 854,343
Shareholders' deficit:
Preferred stock, $1.00 par value; 6,000 non-voting shares
authorized; 6,000 issued and outstanding ............ 6,000
Common stock, $1.00 par value, 6,000 voting shares
authorized; 6,000 issued and outstanding ............ 6,000
Contributed surplus ..................................... 16,864,777
Accumulated deficit ..................................... (17,731,120)
------------
Total shareholders' deficit ........................ (854,343)
------------
$ --
============
STATEMENT OF OPERATIONS
(expressed in United States dollars)
Period From
Formation to
December 31,
2000
------------
Expenses
In-process research and development (Note 4) ............. $ 15,000,000
Research and development (Note 3) ........................ 2,709,017
General and administrative ............................... 22,103
------------
Total operating expenses ................................... 17,731,120
------------
Net loss ................................................... $(17,731,120)
============
See accompanying notes.
F-24
DEPOMED DEVELOPMENT, LTD.
(A Development Stage Company)
(Incorporated in Bermuda)
STATEMENT OF SHAREHOLDERS' DEFICIT
Period from formation to December 31, 2000
(expressed in United States dollars)
Preferred Stock Common Stock Total Total
--------------------------- --------------------------- Contributed Accumulated Shareholders'
Shares Amount Shares Amount Surplus Deficit Deficit
------------ ------------ ------------ ------------ ------------ ------------ ------------
Issuance of common shares .. -- $ -- 6,000 $ 6,000 $ 7,494,000 $ -- $ 7,500,000
Issuance of preferred shares 6,000 6,000 -- -- 7,494,000 -- 7,500,000
Contributed surplus ........ -- -- -- -- 1,876,777 -- 1,876,777
Comprehensive and net loss . -- -- -- -- -- (17,731,120) (17,731,120)
------------ ------------ ------------ ------------ ------------ ------------ ------------
Balances at
December 31, 2000 ...... 6,000 $ 6,000 6,000 $ 6,000 $ 16,864,777 $(17,731,120) $ (854,343)
============ ============ ============ ============ ============ ============ ============
STATEMENT OF CASH FLOWS
(expressed in United States dollars)
Period From
Formation to
December 31,
2000
------------
Operating activities
Net loss ................................................................. $(17,731,120)
Adjustment to reconcile net loss to net cash used in operating activities:
Due to shareholders .................................................... 432,313
Due to companies related through common ownership....................... 422,030
------------
Net cash used in operating activities ............................ (16,876,777)
------------
Financing activities
Proceeds from issuance of common shares ................................ 6,000
Proceeds from issuance of preferred shares ............................. 6,000
Increase in contributed capital ........................................ 16,864,777
------------
Net cash provided by financing activities ........................ 16,876,777
------------
Change in cash, and cash at beginning and end of period .................. $ --
============
See accompanying notes.
F-25
DEPOMED DEVELOPMENT, LTD.
(A Development Stage Company)
NOTES TO THE FINANCIAL STATEMENTS
December 31, 2000
1. Organization and Basis of Presentation
DepoMed Development, Ltd. (the Company) was incorporated on January 7,
2000 in Bermuda. The Company is owned jointly by Elan International Services,
Ltd. (EIS), a wholly-owned subsidiary of Elan Corporation plc, (Elan), and
DepoMed, Inc. (DMI), holding 19.9% (non-voting shares) and 80.1% of the shares,
respectively. The primary objective of the Company is to carry on the business
of the development, testing, registration, manufacturing, commercialization, and
licensing of "Products" (as defined in the Subscription, Joint Development and
Operating Agreement (JDOA) dated January 21, 2000 between DepoMed Development,
Ltd. (DDL), EIS, DMI and others). The focus of the collaborative venture is to
develop "Products" using the intellectual property of Elan, and DMI and the DDL
technology pursuant to the JDOA.
The Company's financial statements are presented based on the assumption
that it was formed pursuant to the execution of a legally binding letter
agreement between DMI and EIS and certain Elan affiliates on November 30, 1999.
Based on the legally binding agreement, DMI and EIS both recorded their
respective shares of operating results for the period from November 30, 1999 to
December 31, 1999 in their own separate financial statements for the year ended
December 31, 1999.
The Company's ability to continue as a going concern is entirely dependent
upon the funds it receives from its shareholders in connection with the
shareholders' respective obligations to fund the Company's operations.
2. Significant Accounting Policies
The Company follows accounting principles generally accepted in the United
States. Significant accounting policies are as follows:
Research and Development Costs
Research costs are charged as an expense of the period in which they are
incurred. Development costs are deferred to future periods if certain criteria
relating to future benefits are satisfied and if the costs do not exceed the
expected future benefits.
Use of Estimates
The preparation of financial statements in accordance with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amount of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amount of revenues and expenses
during the reporting period. Actual results could differ significantly from
those estimates.
Comprehensive Income
Comprehensive income (loss) approximates net loss for the period ended
December 31, 2000.
F-26
DEPOMED DEVELOPMENT, LTD.
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS (Continued)
3. Related Party Transactions
At the end of the period, the amount due to shareholders and companies
related through common ownership represents costs for research and
development that are subcontracted to DMI and Elan. Research and development
expense of $17,709,017 represents costs under such agreements. These
transactions are in the normal course of operations and are measured at the
exchange amount, which is the amount of consideration established and agreed
to by the related parties. Further, the amount due to shareholders is
unsecured, and interest free with no set terms of repayment.
4. In-Process Research and Development
During the period from formation to December 31, 2000, the Company paid a
license fee to Elan Corporation plc in the amount of $15,000,000 to acquire
rights to certain Elan intellectual property. The license acquired related to
early stage technology that, in the opinion of management, had not reached
technological feasibility. In addition, management concluded that such
technology had no alternative future uses. Therefore, the license fee was deemed
to be in-process research and development and charged to research and
development expense for the period.
5. Shareholders' Equity
Preferred Shares
In January 2000, the Company issued 6,000 non-voting convertible
preference shares (Preferred Shares) for $1,250 per share with a par value of
$1.00 each. 3,612 Preferred Shares were issued to DMI and 2,388 Preferred Shares
were issued to EIS for net proceeds of $7,500,000. At any time after January 21,
2002, the holders of the Preferred Shares have the right to convert all, or a
portion, of such Preferred Shares into common shares on a one-to-one basis. Upon
liquidation of the Company, the holders of the Preferred Shares will be entitled
to be paid out of the assets of the Company available for distribution to
shareholders before any distribution or payment is made to the holders of any
other classes of stock.
Common Shares
In January 2000, the Company issued 6,000 voting common shares to DMI for
$1,250 per share with a par value of $1.00 each. The Company received net
proceeds of $7,500,000 related to this issuance.
Contributed Surplus
Contributed surplus of $16,864,777 at December 31, 2000 represents the
share premium of $14,988,000 on amounts initially contributed by shareholders,
as well as additional amounts received from shareholders which represents
capital contributions to fund the Company's operating costs.
6. Taxes
Under current Bermuda law the Company is not required to pay any taxes in
Bermuda on either income or capital gains. The Company has received an
undertaking from the Minister of Finance in Bermuda that in the event of such
taxes being imposed, the Company will be exempted from taxation until the year
2016.
F-27
INDEX TO EXHIBITS
*3.1 Third Amended and Restated Articles of Incorporation
*3.2 Form of Amended and Restated Articles of Incorporation
*3.3 Bylaws
*3.4 Certificate of Amendment to the Third Amended and
Restated Articles of Incorporation
*4.1 Specimen Common Stock Certificate
*4.2 Specimen Warrant Certificate (filed as Exhibit A to the
Form of Warrant Agreement)
*4.3 Form of Representative's Warrant Agreement including form
of Representative's Warrant
*4.4 Form of Warrant Agreement
**10.1 1995 Stock Option Plan, as amended
*10.9 Agreement re: Settlement of Lawsuit, Conveyance of Assets
and Assumption of Liabilities, dated August 28, 1995 by
and among DepoMed Systems, Inc., Dr. John W. Shell and M6
Pharmaceuticals, Inc.
*10.10 Form of Indemnification Agreement between the Company and
its directors and executive officers
*10.12 Form of Agreement between the Company and Burrill &
Company
*****10.15 Securities Purchase Agreement dated January 21, 2000
between the company and Elan International Services, Ltd.
*****10.16 Company Registration Rights Agreement dated January 21,
2000 between the company and Elan International Services,
Ltd.
*****10.17 Newco Registration Rights Agreement dated January 21,
2000 among the company, Newco and Elan International
Services, Ltd.
*****10.18 Funding Agreement dated January 21, 2000 among the
company, Elan Corporation, plc, Elan Pharma
International, Ltd. and Elan International Services, Ltd.
*****10.19 Subscription, Joint Development Operating Agreement dated
January 21, 2000 among the company, Newco, Elan
Corporation, plc, Elan Pharma International, Ltd. and
Elan International Services, Ltd.
*****10.20 Convertible Promissory Note dated January 21, 2000 issued
by the company to Elan International Services, Ltd.
*****10.21 Company License Agreement dated January 21, 2000 among
the company, Newco and Elan Corporation, plc.
*****10.22 Elan License Agreement dated January 21, 2000 among the
company, Newco, Elan Corporation, plc and Elan Pharma
International, Ltd.
*****10.23 Certificate of Determination of Rights and Preferences of
Series A Preferred Stock filed with the State of
California on January 14, 2000
23.1 Consent of Ernst & Young LLP, Independent Auditors
24.1 Power of Attorney (see page 22)
_____________
* Incorporated by reference to the company's registration statement on
Form SB-2 (File No. 333-25445)
** Incorporated by reference to Exhibit 10.1 of the company's registration
statement on Form S-8 (File No. 333-54982)
*** Incorporated by reference to Exhibit 10.1 of the company's quarterly
report on Form 10-QSB filed on May 17, 1998
**** Incorporated by reference to Exhibit 10.2 of the company's quarterly
report on Form 10-QSB filed on May 17, 1998
***** Incorporated by reference to the company's Form 8-K filed on February
18, 2000
+ Confidential treatment granted.