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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

Commission file number 333-12570

STRESSGEN BIOTECHNOLOGIES CORPORATION
(Exact name of registrant as specified in its charter)

(250) 744-2811
(858) 202-4900
(Registrant's telephone number, including area code)

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

        As of October 18, 2002, the registrant had approximately 60,210,000 shares of Common Stock, no par value, outstanding.

Stressgen Biotechnologies Corporation and Subsidiaries

INDEX

CONSOLIDATED BALANCE SHEET

Stressgen Biotechnologies Corporation and Subsidiaries
(Canadian Dollars In Thousands)

See accompanying notes to consolidated financial statements.

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CONSOLIDATED STATEMENT OF OPERATIONS AND ACCUMULATED DEFICIT
(Unaudited)

Stressgen Biotechnologies Corporation and Subsidiaries
(Canadian Dollars In Thousands, Except Per Share Amounts)

See accompanying notes to consolidated financial statements.

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CONSOLIDATED STATEMENT OF CASH FLOWS (Unaudited)

Stressgen Biotechnologies Corporation and Subsidiaries
(Canadian Dollars In Thousands)

See accompanying notes to consolidated financial statements.

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Stressgen Biotechnologies Corporation
Notes to Consolidated Financial Statements (Unaudited)
(Canadian dollars)

1.    THE COMPANY AND ITS SIGNIFICANT ACCOUNTING POLICIES

The Company

Stressgen Biotechnologies Corporation (with its subsidiaries, "Stressgen" or the "Company") is a biopharmaceutical company focused on the development and commercialization of innovative stress protein-based immunotherapeutics. The Company is developing a broad range of products for the treatment of viral infections and related cancers. Its lead product is HspE7, which targets a broad spectrum of human papillomavirus ("HPV") related diseases. The Company has also initiated research studies to evaluate stress protein (also known as heat shock protein) fusions, made through its proprietary CoVal™ technology, for the treatment of hepatitis B and herpes simplex. It is evaluating the use of CoVal™ fusions for the treatment of hepatitis C and HIV. Further, Stressgen is an internationally recognized supplier of research products used by scientists worldwide for the study of cellular stress, apoptosis, oxidative stress and neurobiology.

Basis of presentation

The consolidated financial statements include the assets, liabilities and operating results of the Company and its wholly-owned subsidiaries.

In order to achieve financial reporting comparability to peer companies within the biotechnology and pharmaceutical industries, the Company performed a review of the classification of its operating costs during 2001. As a result of this review, certain costs have been reclassified from selling, general and administrative expenses to research and development and cost of bioreagent sales. Prior period balances have been reclassified to conform to the current periods' presentation.

Financial Statements and Estimates

The information at September 30, 2002 and for the three and nine months ended September 30, 2002 and 2001 has been prepared by the Company and has not been audited. The financial statements, in the opinion of management, include all adjustments necessary for their fair presentation in conformity with Canadian generally accepted accounting principles ("Canadian GAAP"), and conform in all material respects with accounting principles generally accepted in the United States of America ("U.S. GAAP"), except as discussed in Note 5. These financial statements should be read in conjunction with the financial statements and notes thereto in the Company's December 31, 2001 Annual Report on Form 10-K. Certain informational and footnoted disclosures normally included in financial statements prepared in accordance with Canadian and U.S. GAAP have been condensed or omitted pursuant to the applicable Canadian regulatory and U.S. Securities and Exchange Commission rules and regulations. Interim results are not necessarily indicative of results for the full year.

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosures as of the date of the financial statements. Actual results could differ from such estimates.

Foreign Currency Translation

The Company uses the Canadian dollar as its consolidated functional currency. Monetary assets and liabilities that are denominated in U.S. dollars are translated into Canadian dollars at the rate

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of exchange prevailing at the balance sheet date. Non-monetary assets and liabilities are translated at historical exchange rates. Revenue and expenses are translated at the average rate of exchange for the period of such transactions. Exchange gains and losses are included in other income (expenses).

Revenue Recognition

Revenue from product sales is recognized upon delivery to customers when persuasive evidence of an arrangement exists, the price is fixed or determinable and collection is reasonably assured. Revenue also includes amounts charged for shipping and handling costs.

Revenue from collaborative research and development ("R&D") arrangements may include multiple elements within a single contract. Separate elements of contracts are separately negotiated. Payments received under collaborative arrangements may include the following: non-refundable fees at inception of contract for technology rights which are recognized in accordance with SAB No. 101 "Revenue Recognition in Financial Statements"; funding for services performed; milestone payments for specific achievements; and payments based upon resulting sales of products.

The Company recognizes collaborative research and development revenues as services are performed consistent with the performance requirements of the contract. Revenue from non-refundable contract fees where the Company has continuing involvement though research and development collaborations or other contractual obligations, less the fair market value of any related warrants, is recognized ratably over the development period or the period for which Stressgen continues to have a performance obligation. The period of development is evaluated on a regular basis. Revenue from performance milestones is recognized upon the achievement of the milestones as specified in the agreement, provided payment is proportionate to the effort expended. Payments received in advance of performance or delivery are recorded as deferred revenue.

Clinical Trial Accruals

The Company recognizes expenses related to its ongoing clinical trials using a methodology designed to accrue estimated costs in the appropriate accounting periods. The Company recognizes clinical trial costs in three distinct phases: the start-up phase, the patient accrual phase, and the close-out phase. The total estimated trial cost is divided into these three phases based on historical contract costs. Upon start of the trial, the start-up portion of the trial contract is accrued. As patients enter the trial, the patient accrual cost is ratably recognized. Once the study is complete and analysis of the patient data has been initiated, the close-out portion of the trial is recognized.

Stock-based compensation plan

The Company has adopted the recommendations of the CICA Handbook section 3870, Stock-Based Compensation and Other Stock-Based Payments, effective January 1, 2002. This section establishes standards for the recognition, measurement and disclosure of stock-based compensation and other stock-based payments made in exchange for goods and services. The standard requires that all stock-based awards made to non-employees be measured and recognized using a fair value based method. The standard encourages the use of a fair value based method for all awards granted to employees, but only requires the use of a fair value based method for direct awards of stock, stock appreciation rights, and awards that call for settlement in cash or other assets. Awards that a company has the ability to settle in stock are recorded as equity, whereas awards that the entity is required to or has a practice of settling in cash are recorded as liabilities.

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The Company has two stock-based compensation plans, which are described in Note 3. New option grants are made with an exercise price equal to the fair market value of the underlying common stock. No compensation expense is recognized for options granted at fair market value under the plan when stock options are issued to directors and employees. Deferred stock compensation charges arise where stock options are granted at exercise prices less than the fair value of the underlying stock and are amortized to expense over the vesting period of the option. Any consideration paid by directors, employees and others on exercise of stock options is credited to share capital.

Accounting Pronouncements

The Company has adopted the recommendations of the CICA Handbook section 3870, Stock-Based Compensation and Other Stock-Based Payments, effective January 1, 2002. This section establishes standards for the recognition, measurement and disclosure of stock-based compensation and other stock-based payments made in exchange for good and services. The standard requires that all stock-based awards made to non-employees be measured and recognized using a fair value based method. The standard encourages the use of a fair value based method for all awards granted to employees, but only requires the use of a fair value based method for direct awards of stock, stock appreciation rights, and awards that call for settlement in cash or other assets. Awards that a company has the ability to settle in stock are recorded as equity, whereas awards that the entity is required to or has a practice of settling in cash are recorded as liabilities

2.    COLLABORATIVE AGREEMENT

In June 2002, the Company entered into a collaborative agreement for the co-development and global commercialization of the Company's innovative proprietary CoVal™ fusion product candidate, HspE7, with F. Hoffmann-La Roche and Hoffmann-La Roche Inc. (collectively, "Roche"). Under the terms of the agreement, Roche has the worldwide exclusive right to manufacture, market and sell the HspE7 product and the Company has the right to co-promote the product in the U.S. to certain physician specialties. The terms of the collaborative agreement provide for an initial equity investment, issuance of warrants (see Note 3) and upfront payment aggregating approximately $13,700,000, milestone payments and sales-based payments. For the three and nine months ended September 30, 2002, the Company recognized revenue of $4,332,000 related to this collaborative research and development arrangement.

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3.    BALANCE SHEET DETAILS

The following tables provide details of selected balance sheet items:

Stockholders' Equity

In June 2002, the Company issued 2,036,436 common shares for $7,657,000 pursuant to the collaborative agreement with Roche (see Note 2). The Company also issued two warrants to exercise between 2,036,435 and 2,356,000 additional common shares through June 28, 2007 for an aggregate of $7,657,000. The equity was issued at a per share price determined by the weighted average price of common shares of the Company in the ten business days prior to the Roche transaction. Upon the completion of certain milestones established in the agreement, the Company has the option to call the warrants. The Company recorded an equity contribution of $1,264,000 to record the fair market value of the warrants, as determined by an independent valuation expert. In the event the holder is obligated to exercise a warrant and the current per share price of common shares of the Company is less than initial per share exercise price of $3.76 (as adjusted for events described in the agreement such as stock splits), then the per share exercise price will be amended to equal the greater of $3.25 or the then-current per share market price, and the number of common shares issuable pursuant to the terms of the warrant will be equal to the initial aggregate exercise price of such warrant divided by the amended per share exercise price.

In 1998, the Company issued Class B Warrants to purchase 4,000,000 common shares for $3.30 per share on or before September 11, 2003. At the option of the holder, the Class B Warrants may be exercised through cashless exercise, which permits the warrant holder to deduct the strike price of the warrant from the market price of the common shares at the time of exercise, and to receive the difference in common shares valued at the market price at the time of exercise. For the nine months ended September 30, 2002, 25,057 warrants were exercised through a cashless exercise for shares of the Company's common stock, resulting in the issuance of 3,963 shares. No warrants were exercised in the three months ended September 30, 2002. There were 3,231,145 Class B Warrants outstanding at September 30, 2002. Stockholders' equity at September 30, 2002 includes $2,180,000 of contributed surplus.

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Employee share option plan

In 2001, the Company issued out-of-plan stock options prior to stockholder approval of the 2001 Equity Incentive Plan (the "2001 Plan"). Between the date of grant and stockholder approval, the market price of the Company's common stock increased resulting in deferred compensation of $807,000 associated with these options. The deferred compensation is being amortized to expense over the vesting period of the granted options, which have been applied to the 2001 Plan. The stockholders subsequently approved adoption of the 2001 Plan reserving an additional 3,500,000 new common shares for issuance pursuant to the grant of stock options. Once the 2001 Plan was approved, the grants ceased to be considered out-of-plan. At that time, the Company stopped granting options under its pre-existing 1996 Share Incentive Plan. At September 30, 2002, there were 4,351,828 total options issued and outstanding under the two plans, at exercise prices ranging from $1.22 to $8.00 per share with remaining weighted average contractual lives of 4 year to 9 years, and 1,369,402 options available for future grant under the 2001 Plan.

Pro forma information regarding net loss is required by the CICA Handbook section 3870, and has been determined as if the Company had accounted for its employee stock options under the fair value method of that statement for all options granted since inception. Had compensation cost for the Company's stock-based employee compensation plans been determined under the fair value method, the Company's net loss would have increased by $907,000 and $2,721,000 to $3,187,000 and $27,464,000, respectively for the three and nine months ended September 30, 2002, and net loss per share would have increased to $0.05 and $0.47, respectively.

The fair value of each option grant is estimated as of the date of grant using the Black Scholes options pricing model. The following weighted average assumptions were used for grants in the three month period ended September 30, 2002: expected dividend yield of 0%; expected volatility of 60%; risk-free interest rate of 5.5%; and expected life of 4 years. The weighted average fair value of options granted in the three months ended September 30, 2002 amounted to $1.74. The Company has included those options outstanding on the date of adoption of CICA 3870 in the calculation of its pro forma earnings per share.

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4.    SEGMENT INFORMATION

The Company manages its operations in two reportable segments, Bioreagents and Biotechnology. Sales revenues are allocated to the specified countries based on customer locations.

The Company does not allocate interest and other income and interest expense, or capital assets between the segments.

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5.    THE EFFECT OF APPLYING ACCOUNTING PRINCIPLES GENERALLY ACCEPTED IN THE U.S.

These financial statements have been prepared in accordance with Canadian GAAP which, except as set out below, conform in all material respects to U.S. GAAP.

Effect on the consolidated financial statements:

Balance Sheet

Statement of Operations

Statement of Cash Flows

For all periods presented, there are no significant differences under Canadian and U.S. GAAP in net cash (used in) provided by operating, investing and financing activities.

Differences

As disclosed in Note 12 to the financial statements in the Company's December 31, 2001 Annual Report on Form 10-K, differences exist for the Company between Canadian and U.S. GAAP.

The following outlines the differences that affect the Company for the three and nine month periods ended September 30, 2002 and 2001.

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(a)

Under U.S. GAAP, Statement of Financial Accounting Standards ("SFAS") No. 115, Accounting for Certain Investments in Debt and Equity Securities, the Company has classified certain of its short-term securities as available-for-sale and, accordingly, has included the changes in net unrealized holding gains or losses on these securities in other comprehensive income rather than in operations.

SFAS No. 130, Reporting Comprehensive Income establishes standards for the reporting and display of comprehensive income and its components (revenue, expenses, gains and losses) in a full set of general-purpose financial statements. Comprehensive income is as follows:

(b)

The Company has elected to follow APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for its employee stock options. When the exercise price of the employee stock options is less than the fair value of the underlying stock on the date of grant, the Company records deferred stock compensation for the difference and amortizes this amount to expense over the vesting period of the options. Options or stock awards issued to non-employees are recorded at their fair value as determined in accordance with SFAS No. 123 and Emerging Issues Task Force ("EITF") 96-18, and recognized over the related service period. In March 2000, the Financial Accounting Standards Board ("FASB") issued Interpretation No. 44 (FIN No. 44), Accounting for Certain Transactions Involving Stock Compensation—an interpretation of APB 25. FIN No. 44 provides guidance on several matters including the accounting for stock compensation upon a change in the employment status of a grantee.

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6.    SUPPLEMENTAL CASH FLOW INFORMATION

The changes in operating assets and liabilities are as follows:

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

        The Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risk and uncertainties. The predictions described in these statements may not materialize if management's current expectations regarding our future performance prove incorrect. Our results could also be affected by factors including, but not limited to, our reliance on collaborative partners and other risks described below under "Factors That Could Affect Future Performance." The forward-looking statements are based on currently available information; we disclaim any obligation to update them.

        The following information should be read in conjunction with our September 30, 2002 consolidated financial statements and related notes therein, which include adjustments necessary for fair presentation in accordance with Canadian generally accepted accounting principles or Canadian GAAP. These principles differ in certain respects from accounting principles generally accepted in the United States or U.S. GAAP. The differences, as they affect our consolidated financial statements, are described in Note 5 to our September 30, 2002 consolidated financial statements. All amounts following are expressed in Canadian dollars unless otherwise indicated.

Overview

        Our activities are focused primarily on the research and development of a unique class of proteins, called stress proteins or heat shock proteins, to regulate the body's own immune response to combat infectious diseases. We believe that the use of stress proteins, genetically combined with various antigens derived from disease-causing organisms, will likely yield novel therapeutic products.

        In June 2002, we entered into a strategic collaboration with F. Hoffmann-La Roche and Hoffmann-La Roche Inc. (collectively, "Roche") for the development of HspE7, which improved the Company's net cash used in operating activities for the quarter ended September 30, 2002 by 51% from the immediately preceding quarter. Under terms of the agreement, the Company could receive up to an aggregate of $300,000,000 comprised of upfront license fees, development and commercial milestones, and equity investments. In addition, the Company will receive tiered, progressive sales-based payments at favorable varying rates upon commercialization of HspE7.

        We have incurred significant losses since our inception and expect to incur substantial losses for the foreseeable future as we invest in our research and product development programs, including manufacturing, pre-clinical studies and clinical trials, and regulatory activities. At September 30, 2002, our accumulated deficit was $129,990,000. We have been dependent principally upon equity financings to fund our business activities.

Results of Operations

        For the three and nine months ended September 30, 2002, our net loss was $2,280,000 and $24,743,000, respectively. This represents a 69% decrease from the three month period in the prior year and no change from the nine month period in the prior year. The current quarter decrease is due principally to collaborative R&D revenue, the reversal of a temporary write-down on the market value of investments and favorable foreign exchange rate fluctuations. Collaborative R&D revenue totaled $4,332,000 for the three and nine months ended September 30, 2002. Interest income for the three month period increased by $306,000 due to a $498,000 reversal of prior period write-downs on the market value of investments and for the nine month period decreased by $1,138,000 due to lower market interest rates on short term investments compared to the same period in the prior year. While a net foreign exchange rate gain was recorded during the current quarter, compared to the three and nine month periods in the prior year, foreign exchange gain decreased $218,000 and $1,556,000, respectively.

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        In order to achieve financial reporting comparability to peer companies within the biotechnology and pharmaceutical industries, the Company performed a review of the classification of its operating costs during 2001. As a result of this review, certain costs were reclassified from selling, general and administrative expenses to research and development and cost of bioreagent sales. Prior period balances have been reclassified to conform to the current periods' presentation.

Collaborative R&D revenue

        Collaborative R&D revenue was $4,332,000 for the three and nine months ended September 30, 2002. Collaborative R&D revenue includes $4,054,000 of reimbursement for R&D activities and $278,000 for SAB No. 101 recognition of up-front fees and was recorded for the first time during the current three month period.

Bioreagent sales

        Bioreagent sales for the three and nine months ended September 30, 2002 increased by 19% and 10% to $1,494,000 and $4,390,000, compared to $1,256,000 and $3,985,000 during the same periods in the prior year. The higher values for the three and nine months ended September 30, 2002, were principally attributed to higher average selling prices and increased demand. We anticipate that bioreagent sales will grow by approximately 10% during 2002.

Research and development

        Research and development, or R&D, spending for the three months ended September 30, 2002 decreased by 8% to $7,447,000 compared to the same period in the prior year. This spending pattern reflects the maturation of our clinical program and shifting of certain product development efforts on HspE7 to Roche during the current three and nine month periods, in contrast to increasing the clinical and development efforts during the three and nine month periods in the prior year. R&D spending for the nine months ended September 30, 2002 increased 4% to $26,508,000 compared to the corresponding period in the prior year.

Selling, general and administrative expenses

        Selling, general and administrative, or SG&A, expenses represented approximately 19% of total operating expenses during the three and nine months ended September 30, 2002, compared with 15% and 17% over the same periods in the prior year. SG&A spending increased by approximately 25% and 22% to $1,904,000 and $6,570,000 for the three and nine months ended September 30, 2002 compared to the same periods in the prior year, due principally to increased business development activities, costs associated with our expanded North American operations and the addition of key executive personnel.

Cost of bioreagent sales

        The aggregate cost of bioreagent sales as a percentage of bioreagent sales was approximately 28%, resulting in gross margins of 72%, for both the three and nine months ended September 30, 2002 compared with gross margins of 60% and 71% during the same periods in 2001. In the prior year, a provision for obsolete/overstock inventory was recorded affecting the three and nine month period gross margins. The increase in the current year gross margin reflects the net impact of inventory provisions.

Interest and other income, net

        Interest and other income, net increased by 6% to $1,679,000 for the three months ended September 30, 2002 compared to the same period in the prior year. For the nine months ended September 30, 2002, interest and other income, net decreased by $2,694,000 principally due to a

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$1,138,000 reduction in interest income caused by fluctuating market rates from the same period in the prior year and changes in foreign exchange gain of $1,556,000 due to less favorable currency exchange rates on U.S. investments.

Basic and diluted loss per share

        The basic and diluted loss per share was $0.04 and $0.42 for the three and nine months ended September 30, 2002, compared to $0.14 and $0.49 during the same periods in the prior year. The difference reflects impact of changes in net losses diluted by increases in the weighted average number of common shares outstanding.

Differences between Canadian and U.S. generally accepted accounting principles

        Our consolidated financial statements include adjustments necessary for their fair presentation in accordance with Canadian GAAP. Certain adjustments would be required if these statements were to be prepared in all material respects in accordance with U.S. GAAP.

        To conform to U.S. GAAP, our net loss would increase by $1,388,000 and $198,000 for the three and nine months ended September 30, 2002, respectively. The principal differences under U.S. GAAP as opposed to Canadian GAAP for the current quarter were the reversal of a write-up of $498,000 on U.S. investments, coupled with an $890,000 reversal of unrealized foreign exchange gain on available-for-sale securities.

        Basic net loss per common share under U.S. GAAP would have been $0.06 and $0.43 in the three and nine months ended September 30, 2002, compared to $0.17 and $0.52 during the same periods in the prior year. Our current assets and stockholders' equity under U.S. GAAP would have been the same as the $55,667,000 and $44,951,000 reported under Canadian GAAP at September 30, 2002. Our current assets and stockholders' equity under U.S. GAAP would have been the same under Canadian GAAP at December 31, 2001.

Liquidity and Capital Resources

        At September 30, 2002, we had cash, cash equivalents and short-term investments of $49,577,000, a decrease of $13,105,000 from December 31, 2001. During the three and nine months ended September 30, 2002, we used cash and cash equivalents primarily to finance development activities associated with our lead product candidate, HspE7. At September 30, 2002, approximately 48% of cash, cash equivalents and short-term investments were held in U.S. dollars. The collaborative development funding from Roche reduced our current quarter net cash used in operating activities by 51% compared to the prior quarter. We anticipate that fourth quarter net cash used in operating activities will approximate the current quarter results. The variability of anticipated burn is dependent upon several factors, including the timing of clinical development of recurrent respiratory papillomatosis, or RRP, and pre-clinical activities supporting a future IND for our hepatitis B fusion product candidate. Considering the Roche funding and currently anticipated spending, at September 30, 2002, we had cash, cash equivalents and short-term investments on hand to support operations in excess of two years.

        Under terms of the collaboration agreement, the Company could receive up to an aggregate of $300,000,000 comprised of upfront license fees, development and commercial milestones, and equity investments. The agreement was structured to enable the Company to realize 20% of the value of the milestones by the end of 2004. The remainder of the milestones, which are payable depending on factors such as development events and indications launched, could be realized approximately one-half in the remaining development period before launch, and 30% within five years after launch.

        During the three and nine months ended September 30, 2002, capital expenditures decreased by 18% and 75% to $151,000 and $319,000 compared with $184,000 and $1,249,000 for the same periods

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in 2001, during which we were completing a significant laboratory expansion in our Victoria, B.C. location.

        The Company's cash requirements may vary materially from anticipated amounts because of its collaborative development and marketing arrangements, the results and scope of clinical trials and other research and development activities, the time required to obtain regulatory approvals and the cost of filing, prosecuting, defending and enforcing patent claims and other intellectual property rights. As a result of these factors, it is difficult to predict accurately the times additional cash will be needed and the amounts of future cash required.

        The Company is likely to pursue the issuance of additional equity securities, and strategic transactions, to meet its cash requirements. The issuance of additional equity securities, if any, could result in substantial dilution to the Company's stockholders. There can be no assurance that additional funding will be available on terms acceptable to the Company, if at all. If the additional funding is not obtained, the Company will seek alternative sources of debt and/or equity financing and, to the extent necessary, will consider deferring, canceling or reducing planned initiatives or overhead expenditures.

        The Company has never paid a cash dividend on its common stock and does not contemplate the payment of cash dividends on its common stock in the foreseeable future.

Critical Accounting Policies

        Our significant accounting policies are disclosed in Note 1 to our consolidated financial statements. Certain of our policies require the application of management judgment in making estimates and assumptions that affect the amounts reported in the consolidated financial statements and disclosures made in the accompanying notes. Those estimates and assumptions are based on historical experience and various other factors deemed applicable and reasonable under the circumstances. The use of judgment in determining such estimates and assumptions is by nature, subject to a degree of uncertainty. Accordingly, actual results could differ from the estimates made. Our significant accounting policies include:

Revenue Recognition

        We recognize revenue from product sales upon delivery to customers when persuasive evidence of an arrangement exists, the price is fixed or determinable and collection is reasonably assured.

        We recognize collaborative research and development revenues as services are performed consistent with the performance requirements of the contract. Revenue from non-refundable contract fees where we have continuing involvement though research and development collaborations or other contractual obligations, less the fair market value of any related warrants, is recognized ratably over the development period or the period for which we continue to have a performance obligation. The period of development is evaluated on a regular basis. Revenue from performance milestones is recognized upon the achievement of the milestones as specified in the respective agreement, provided payment is proportionate to the effort expended. Payments received in advance of performance or delivery are recorded as deferred revenue.

Clinical Trial Accruals

        The Company recognizes expenses related to its ongoing clinical trials using a methodology designed to accrue estimated costs in the appropriate accounting periods. The Company recognizes clinical trial costs in three distinct phases: the start-up phase, the patient accrual phase, and the close-out phase. The total estimated trial cost is divided into these three phases based on historical contract costs. Upon start of the trial, the start-up portion of the trial contract is accrued. As patients

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enter the trial, the patient accrual cost is ratably recognized. Once the study is completed and analysis of the patient data has been initiated, the close-out portion of the trial is recognized.

Accounting Pronouncements

        The Company has adopted the recommendations of the CICA Handbook section 3870, Stock-Based Compensation and Other Stock-Based Payments, effective January 1, 2002. This section establishes standards for the recognition, measurement and disclosure of stock-based compensation and other stock-based payments made in exchange for good and services. The standard requires that all stock-based awards made to non-employees be measured and recognized using a fair value based method. The standard encourages the use of a fair value based method for all awards granted to employees, but only requires the use of a fair value based method for direct awards of stock, stock appreciation rights, and awards that call for settlement in cash or other assets. Awards that a company has the ability to settle in stock are recorded as equity, whereas awards that the entity is required to or has a practice of settling in cash are recorded as liabilities.

FACTORS THAT COULD AFFECT FUTURE PERFORMANCE

        In addition to the other information in this report, the following factors (as well as other factors not listed) have the potential to materially affect the Company's future operations.

We Are At an Early Stage of Development

        Our biotechnology business is still at an early stage of development. We must invest in significant additional research and development and clinical trials prior to commercializing any of our technology. We have not completed the development of any therapeutic products and, therefore, have not begun to market or generate revenues from the commercialization of any therapeutic products. We have undertaken only limited human clinical trials for some of our product candidates and we cannot assure you that the results obtained from laboratory or research studies will be replicated in human studies or that such human studies will not identify undesirable side effects. We cannot assure you that any of our products will meet applicable health regulatory standards, obtain required regulatory approvals or clearances, be produced in commercial quantities at reasonable costs, be successfully marketed or be profitable enough that we will recoup the investment made in such product candidates. None of our therapeutic product candidates are expected to be commercially available for several years. There is no precedent for the successful commercialization of products based on our fusion technologies. It is possible that we will not successfully develop any therapeutic products.

We Have a History of Operating Losses and We May Never Become Profitable

        To date, we have not recorded any revenues from the sale of therapeutic products. Since inception through September 30, 2002, we have accumulated net losses of approximately $129,990,000; we expect to incur continued losses for at least the next several years as we continue research and development and clinical trials. To become profitable, we, either alone or with one or more partners, must develop, manufacture and successfully market product candidates.

Our Success Depends On Collaborative Partners, Licensees and Other Third Parties Over Whom We Have Limited Control

        Our business depends on our entering into arrangements with corporate and academic collaborators, licensors, licensees and others for the research, development, clinical testing, manufacturing, marketing and commercialization of our products. For example, we have a strategic collaboration with Roche for the development and commercialization of HspE7, and several research collaborations. We outsource many of our business functions such as clinical trials and manufacturing.

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We may not be able to establish and maintain collaborations that are important to our business on favorable terms, if at all, and such collaborations may not be successful.

        There are a number of risks associated with our dependence on collaborative agreements with third parties. Our product development and commercialization efforts could be adversely affected if any collaborative partner terminates its agreement with us, causes delays, fails to timely develop or manufacture in adequate quantities a substance we need in order to conduct clinical trials, fails to adequately perform clinical trials, determines not to develop, manufacture or commercialize an end product to which it has or we have rights, or otherwise fails to meet its contractual obligations. In addition, we cannot assure you that our collaborative partners will not pursue other technologies or develop alternative products that could compete with our future products.

        We currently hold licenses from third parties for certain technologies and plan to acquire additional licenses to technologies developed by other companies and academic institutions. Pursuant to the terms of these license agreements, we could be obligated to diligently bring potential products to market, make milestone payments that, in some instances, could be substantial, and incur the costs of filing and prosecuting patent applications. We cannot assure you that these licenses will not terminate or that they will be renewed. In addition, we cannot assure you that these licenses will remain in good standing. In the event of a breach of the terms of any license, the licensor may attempt to terminate the license.

We May Encounter Difficulties in Developing Manufacturing Capabilities and Facilities or Entering into Contracts for Manufacturing with Third Parties

        Our manufacturing experience in bioreagents is not directly applicable to the manufacture of therapeutic products. We have not yet introduced any therapeutic products and have no manufacturing experience for immunotherapies. Before we can be profitable, we need a cost-effective manufacturing process that produces commercial quantities of our products in compliance with regulatory requirements. We do not have facilities for the production of the products we are developing. In order to have our products manufactured in commercial quantities, we will depend on the manufacturing capabilities of collaborators. Currently, we anticipate that Roche will manufacture our HspE7 product. If we cannot contract for large-scale manufacturing capabilities on acceptable terms, or if we encounter delays or difficulties in manufacturing, we may not be able to conduct clinical trials as planned.

        If we chose to develop our own commercial manufacturing facilities, we would need substantial additional funds beyond what we have currently available. We would also need to hire additional management and technical personnel with experience conducting manufacturing in accordance with applicable regulations of the U.S. Food and Drug Administration and Health Canada's Health Products and Food Branch Inspectorate. Efforts to develop facilities for commercial production might not be successful.

        Production of our products could require raw materials which are scarce or which can be obtained from a limited number of sources. If our manufacturers were unable to obtain adequate supplies of such raw materials, the development, regulatory approval and marketing of our products could be delayed.

We Must Obtain Additional Financing To Execute Our Business Plan

        Our revenues from the production and sale of bioreagents, and the projected revenues and expense reimbursements from our HspE7 collaboration are not adequate to support all of the therapeutic product development programs in our business plan. We will require substantial additional funds to pursue further research and development, obtain regulatory approvals, carry out clinical trials, market our products and file, prosecute, defend and enforce our intellectual property rights. We will seek additional funds through public or private equity or debt financing, strategic transactions and/or

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from other sources. We could enter into collaborative arrangements for the development of particular products which would lead to our relinquishing some or all of our rights to the related technology or products.

        Although we expect to seek additional funding when there are market opportunities, future funding may not be available on favorable terms or at all. If additional funding were not obtained, the Company, to the extent necessary, would reduce, defer or cancel development programs, planned initiatives or overhead expenditures. The failure to fund the Company's capital requirements would have a material adverse effect on its business, financial condition and results of operations.

We Could Need to Conduct More Clinical Trials or Take More Time to Complete Clinical Trials Than We Originally Plan

        Clinical trials vary in design by factors including their dosage, end points, length, controls, and numbers and types of patients enrolled. We may need to conduct a series of trials before we can demonstrate that our products are safe and effective. In addition, we may be required to determine whether our products delay or prevent disease recurrence. These clinical trials are likely to take longer to complete than clinical trials involving other types of therapeutics. The schedule on which clinical trials will start and end can vary dramatically from forecasted schedules due to factors including conflicts with the schedules of participating clinicians and clinical institutions, delayed patient accrual and changes affecting supplies for clinical trials.

        We have limited experience in conducting clinical trials. We rely on corporate collaborators, academic institutions and clinical research organizations to conduct, supervise, monitor and design some or all aspects of clinical trials involving our products. In addition, certain clinical trials for our products will be conducted by government-sponsored agencies and consequently will depend on governmental participation and funding. We will have less control over the timing and other aspects of these clinical trials than if we conducted them entirely on our own. Delays in or failure to commence or complete any planned clinical trials could delay the ultimate timelines for product release. In addition, such delays could reduce investors' confidence in our ability to develop products, likely causing our stock price to decrease.

We May Not Be Able to Obtain the Regulatory Approvals or Clearances That Are Necessary to Commercialize Our Products

        The United States, Canada and other countries impose significant statutory and regulatory obligations upon the manufacture and sale of human therapeutic products. In order for our products to obtain marketing approval and clearance for each indication, our preclinical and clinical data and manufacturing facilities will need to meet complex criteria establishing the safety and efficacy of the ultimate products.

        Our product candidates, some of which are currently in the early stages of development, will require significant additional development and pre-clinical and clinical testing prior to their commercialization. These steps and the process of obtaining required approvals and clearances can be costly and time-consuming. If our potential products are not successfully developed, do not prove to be safe and effective in clinical trials or do not receive applicable regulatory approvals and clearances, or if there are delays in the process:

•

the successful commercialization of our products could be adversely affected;



•

our competitive advantages could be diminished; and



•

any revenues or collaborative milestones from our products could be reduced or delayed.

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        Governmental and regulatory authorities may approve a product candidate for fewer indications or narrower circumstances than we request or may condition approval on the performance of post-marketing studies for a product candidate. Even if we receive regulatory approval and clearance, our product candidates may later exhibit adverse side effects that limit or prevent their widespread use or that force us to withdraw those product candidates from the market. In addition, any marketed product and its manufacturer will continue to be subject to strict regulation after approval. Any unforeseen problems with an approved product or any violation of regulations could result in restrictions on the product, including its withdrawal from the market.

        If we fail to comply with applicable regulatory requirements at any stage during the regulatory process, we or our contract manufacturers may be subject to sanctions, including fines, product recalls or seizures, injunctions, refusal of regulatory agencies to review pending market approval applications or supplements to approval applications, total or partial suspension of production, civil penalties, withdrawals of previously approved marketing applications and criminal prosecution.

        The manufacturers of our products will be required to comply with applicable good manufacturing practices regulations, which include requirements relating to quality control and quality assurance as well as the corresponding maintenance records and documentation. If the manufacturers cannot comply with regulatory requirements including applicable good manufacturing practice requirements, we may not be allowed to develop or market product candidates.

The Profitability of Our Products Will Depend On Our Ability to Protect Our Proprietary Rights and Operate Without Infringing The Proprietary Rights of Others

        The profitability of our products will depend in part on our ability to obtain and maintain patents and licenses, and preserve trade secrets. We must also operate without infringing the proprietary rights of third parties and without third parties circumventing our rights. We have received U.S. and European patents and have filed and are actively pursuing applications for additional United States and other patents. The patent positions of pharmaceutical and biotechnology enterprises, including ours, are uncertain and involve complex legal and factual questions for which important legal principles are largely unresolved. For example, no consistent policy has emerged regarding the breadth of biotechnology patent claims that are granted by the United States Patent and Trademark Office or enforced by the United States federal courts. In addition, the scope of the originally claimed subject matter in a patent application can be significantly reduced before a patent is issued. The biotechnology patent situation outside the United States is even more uncertain, is currently undergoing review and revision in many countries, and may not protect our intellectual property rights to the same extent as the laws of the United States. Because patent applications are maintained in secrecy in some cases, we cannot be certain that we or our licensors are the first creators of inventions described in our pending patent applications or patents or the first to file patent applications for such inventions.

        Other companies may independently develop similar products and design around any patented products we develop. We cannot assure you that any of our patent applications will result in the issuance of patents, that we will develop additional patentable products, that the patents we have been issued will provide us with any competitive advantages, that the patents of others will not impede our ability to do business or that third parties will not be able to circumvent our patents. On October 22, 2002 Antigenics Inc. announced that it had filed an opposition in the European Patent Office to a European patent and requests for re-examination in the United States Patent Office of two United States patents we have licensed. Until we receive final results from the opposition and re-examination processes, we will not be able to assure you of the likelihood of success of our planned vigorous defense of these patents.

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        A number of pharmaceutical and biotechnology companies and research and academic institutions have developed technologies, filed patent applications or received patents on technologies that may relate to our business. If these technologies, applications or patents conflict with ours, the scope of our current or future patents could be limited or our patent applications could be denied. Our business may be adversely affected if competitors independently develop competing technologies, especially if we do not obtain, or only obtain narrow, patent protection. If patents that cover our activities are issued to other companies, we may not be able to obtain licenses at a reasonable cost, or at all, or develop alternative technology. If we are blocked from using our current technologies we may not be able to introduce, manufacture or sell our planned products.

        Patent litigation is becoming widespread in the biotechnology industry. Such litigation may affect our efforts to form collaborations, to conduct research or development, to conduct clinical testing or to manufacture or market any products under development. We cannot assure you that our patents, if issued, would be held valid or enforceable by a court or that competitor's technology or product would be found to infringe our patents. Our business could be materially affected by an adverse outcome to such litigation. Similarly, we might have to participate in interference proceedings declared by the United States Patent and Trademark Office or equivalent international authorities to determine priority of invention. We could incur substantial costs and devote significant management resources to defend our patent position or seek a declaration that the patents of others are invalid.

        Much of our know-how and technology may not be patentable, though it may constitute trade secrets. We cannot assure you that we will be able to meaningfully protect our trade secrets. We cannot assure you that any of the existing confidentiality agreements with our employees, consultants, advisors or collaborators will provide meaningful protection for our trade secrets, know-how or other proprietary information in the event of any unauthorized use or disclosure. Collaborators, advisors or consultants may dispute the ownership of proprietary rights to our technology, for example by asserting that they developed it independently.

Our Products May Not Gain Market Acceptance

        Our products may not gain market acceptance among physicians, patients, healthcare payors and the medical community. The degree of market acceptance of any product that we may develop will depend on a number of factors, including establishment and demonstration of clinical efficacy and safety, cost effectiveness of the products, their potential advantage over alternative products and marketing and distribution support for the products.

        Our sales experience is limited to the sale of our bioreagents. To directly market and distribute any pharmaceutical products we may develop, we or our collaborators, will need a substantial marketing and sales force with appropriate technical expertise and supporting distribution capabilities. We may not be able to establish sales, marketing and distribution capabilities of our own or enter into arrangements with third parties on terms that are acceptable to us. If marketing and sales through partnering arrangements is not successful and we do not successfully develop internal marketing and sales expertise, our ability to generate revenue from product sales will be limited.

Our Operations Involve Risks Which Could Subject Us to Damages Resulting from Accidental Contamination or Injury

        We conduct human clinical trials, including trials in children, which may have unforeseen long-term health implications. We have only limited amounts of product liability insurance for our clinical trials. We may not correctly anticipate or be able to maintain on acceptable terms the level of insurance coverage that would adequately cover potential liabilities from proposed clinical trials. This type of insurance is expensive, difficult to obtain and may not be available in the future. If we cannot obtain sufficient insurance coverage or other protection against potential product liability claims, we may not

21

be able to commercialize potential products. If any liabilities from a claim exceed the limit of our insurance coverage, we may not have the resources to pay them.

        Our research and development processes involve the controlled use of hazardous and radioactive materials. We are subject to federal, provincial and local laws and regulations governing the use, manufacture, storage, handling and disposal of such materials and certain waste products. The risk of accidental contamination or injury from handling and disposing of such materials cannot be completely eliminated. In the event of or an accident involving hazardous or radioactive materials, we could be held liable for any damages that result. We are not insured with respect to this liability. Such liability could exceed our resources. In the future we may be required to incur significant costs to comply with environmental laws and regulations.

Competitors May Develop and Market Drugs That Are Less Expensive, More Effective or Safer, Making Our Products Obsolete or Uncompetitive

        Technological competition from pharmaceutical companies and biotechnology companies is intense and is expected to increase. Many of our competitors and potential competitors have substantially greater product development capabilities and financial, scientific, marketing and human resources than ours. Other companies have developed technologies that could be the basis for competitive products. Some of these products have an entirely different approach or means of accomplishing the desired therapeutic effect than products being developed by us and may be more effective and less costly than the products developed by us. Competitors may succeed in developing products earlier than us, obtaining approvals and clearances for such products more rapidly than us, or developing products that are more effective than ours. In addition, other forms of medical treatment may be competitive with our products. Our technology or products may become obsolete or uncompetitive.

Our Success Depends On Our Ability To Attract and Retain Qualified Personnel

        We depend on a core management and scientific team. The loss of any of these individuals may prevent us from achieving our business objective of commercializing our product candidates. Our future success will also depend in large part on our continued ability to attract and retain other highly qualified scientific, technical and management personnel, as well as personnel with expertise in clinical testing and government regulation. We face competition for personnel from other companies, universities, public and private research institutions, government entities and other organizations. If we are unsuccessful in our recruitment and retention efforts, our business operations will suffer.

We Will Depend Upon the Availability of Reimbursement From Third-Party Payors Who Are Increasingly Challenging the Price and Examining the Cost Effectiveness of Medical Products and Services

        Sales of our products will depend in part upon the availability of reimbursement from third-party payors, including government health administration authorities, managed care providers, private health insurers and other organizations. These third-party payors increasingly attempt to contain costs by challenging the price of products and services and limiting the coverage and level of reimbursement for pharmaceutical products. Third-party reimbursement for our products may be inadequate to enable us to maintain prices that provide a return on our product development investment. Governments continue to propose and pass legislation designed to reduce healthcare costs. This legislation could further limit reimbursement. If government and third-party payors do not adequately reimburse patients for purchasing our products, there may not be a market for the products.

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Our Share Price Has Been and Is Likely to Continue to Be Highly Volatile

        As is typical for biotechnology companies without a Food and Drug Administration approved product on the market, our share price has been highly volatile in the past and is likely to continue to be volatile. The volatility of our stock may be heightened because it is traded primarily on the Toronto Stock Exchange, which limits its attractiveness to investors outside of Canada. Factors such as the announcement of technological innovations, the release of publications, the announcement of clinical trials results by us or our competitors, the development of new commercial products, the granting of patents or exclusive licenses, changes in regulations, the release of financial results, public concerns over risks relating to biotechnology, future issuances of shares by us or sales of shares by our shareholders and many other factors could materially affect the price of our shares.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

        The Company's exposure to market risk is principally confined to its cash and short-term investments. The Company maintains a non-trading investment portfolio of investment grade, liquid debt securities that limits the amount of credit exposure to any one issue, issuer or type of instrument. The securities in the Company's portfolio, of which approximately 48% are currently invested in the U.S., are not leveraged, are classified as available-for-sale and are therefore subject to foreign exchange and interest rate risk. The Company currently does not hedge foreign exchange or interest rate exposure. A hypothetical 1% change in foreign currency exchange and interest rates during the three months ended September 30, 2002 would have resulted in a change in net loss of approximately $130,000 and $122,000, respectively. The Company has not used derivative financial instruments in its investment portfolio. There have been no significant changes in the types or maturities of investments held from December 31, 2001.

CONTROLS AND PROCEDURES

        (a)  Based on their evaluation conducted within 90 days of filing this report on Form 10-Q, our chief financial officer and chief executive officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c) promulgated under the Securities Exchange Act of 1934, as amended) are effective and designed to alert them to material information relating to Stressgen and its consolidated subsidiaries.

        (b)  There were no significant changes in the Company's internal controls or in other factors that could significantly affect those controls subsequent to the date of our most recent evaluation.

PART II—OTHER INFORMATION

Exhibits

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SIGNATURES AND CERTIFICATIONS

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

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I, Donald D. Tartre, certify that:

1.

I have reviewed this quarterly report on Form 10-Q of Stressgen Biotechnologies Corporation (the "registrant");



2.

Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;



3.

Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;



4.

The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a.

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;



b.

evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and



c.

presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5.

The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

a.

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and



b.

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

6.

The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: October 25, 2002

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I, Daniel L. Korpolinski, certify that:

1.

I have reviewed this quarterly report on Form 10-Q of Stressgen Biotechnologies Corporation (the "registrant");



2.

Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;



3.

Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;



4.

The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a.

designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;



b.

evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and



c.

presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5.

The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

a.

all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and



b.

any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

6.

The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: October 25, 2002

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QuickLinks

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FACTORS THAT COULD AFFECT FUTURE PERFORMANCE

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
CONTROLS AND PROCEDURES
PART II—OTHER INFORMATION
SIGNATURES AND CERTIFICATIONS