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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended June 30, 2004
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NO. 0-17082
QLT INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
BRITISH COLUMBIA, CANADA N/A
- ---------------------------------- ----------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
887 GREAT NORTHERN WAY, VANCOUVER, B.C., CANADA V5T 4T5
- ----------------------------------------------- ---------------------
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (604) 707-7000
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 X No___
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes X No ___
As of August 5, 2004, the registrant had 69,585,584 outstanding Common Shares
and 7,021,033 outstanding Stock Options.
QLT INC.
QUARTERLY REPORT ON FORM 10-Q
JUNE 30, 2004
TABLE OF CONTENTS
ITEM PART I - FINANCIAL INFORMATION PAGE
- ---- ----
1. FINANCIAL STATEMENTS.............................................................................. 1
Unaudited Consolidated Balance Sheets as of
June 30, 2004 and December 31, 2003............................................................. 1
Unaudited Consolidated Statements of Income for the three months and six months ended
June 30, 2004 and June 30, 2003................................................................. 2
Unaudited Consolidated Statements of Cash Flows for the three months and six months ended
June 30, 2004 and June 30, 2003................................................................. 3
Unaudited Consolidated Statement of Changes in Shareholders' Equity and Comprehensive
Income for the three months and six months ended June 30, 2004.................................. 4
Notes to the Consolidated Financial Statements.................................................. 5
2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS............................................................... 15
3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK........................................ 22
4. CONTROLS AND PROCEDURES........................................................................... 22
PART II - OTHER INFORMATION
1. LEGAL PROCEEDINGS................................................................................. 23
2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES........................................................................................ 25
3. DEFAULTS UPON SENIOR SECURITIES................................................................... 25
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............................................... 25
5. OTHER INFORMATION................................................................................. 26
6. EXHIBITS AND REPORTS ON FORM 8-K.................................................................. 26
- --------------------------------------------------------------------------------
PART I - FINANCIAL INFORMATION
- --------------------------------------------------------------------------------
ITEM 1. FINANCIAL STATEMENTS
QLT INC.
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(In thousands of United States dollars) JUNE 30, 2004 December 31, 2003
- -------------------------------------- ------------- -----------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 204,940 $ 262,408
Short-term investment securities 319,290 233,022
Accounts receivable (Note 5) 42,776 35,395
Inventories (Note 6) 23,418 26,808
Deferred income tax assets 10,871 11,801
Other (Note 7) 13,258 16,150
----------- -----------
614,553 585,584
PROPERTY AND EQUIPMENT 47,315 43,262
OTHER LONG-TERM ASSETS (Note 8) 6,430 5,876
----------- -----------
$ 668,298 $ 634,722
=========== ===========
LIABILITIES
CURRENT LIABILITIES
Accounts payable $ 6,135 $ 8,683
Income taxes payable 1,742 --
Other accrued liabilities (Note 9) 9,503 13,574
Deferred revenue 4,515 6,594
----------- -----------
21,895 28,851
LONG-TERM DEBT 172,500 172,500
----------- -----------
194,395 201,351
----------- -----------
CONTINGENCIES (Note 14)
SHAREHOLDERS' EQUITY
SHARE CAPITAL (Note 10)
Authorized
500,000,000 common shares without par value
Issued and outstanding
Common shares 409,296 395,627
June 30, 2004 - 69,582,317
December 31, 2003 - 68,892,027
ACCUMULATED OTHER COMPREHENSIVE INCOME 33,985
45,828
RETAINED EARNINGS (DEFICIT) 30,622 (8,084)
----------- -----------
473,903 433,371
----------- -----------
$ 668,298 $ 634,722
=========== ===========
See accompanying notes to the consolidated financial statements.
1
QLT INC.
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three months ended Six months ended
June 30, June 30,
(In thousands of United States dollars, except per share information) 2004 2003 2004 2003
- --------------------------------------------------------------------- -------- -------- -------- --------
REVENUES
Revenue from Visudyne(R) (Note 11) $ 43,136 $ 35,164 $ 83,655 $ 66,609
Contract research and development (Note 12) 1,263 845 2,055 2,371
-------- -------- -------- --------
44,399 36,009 85,710 68,980
-------- -------- -------- --------
COSTS AND EXPENSES
Cost of sales 7,450 6,058 14,372 11,470
Research and development 11,257 12,087 20,667 22,962
Selling, general and administrative 3,607 3,432 8,388 6,465
Depreciation 916 715 1,725 1,441
Restructuring (recovery) -- (394) -- (394)
-------- -------- -------- --------
23,230 21,898 45,152 41,944
-------- -------- -------- --------
OPERATING INCOME 21,169 14,111 40,558 27,036
INVESTMENT AND OTHER INCOME
Net foreign exchange gains 338 381 614 2,914
Interest income 2,268 2,045 4,750 3,644
Interest expense (1,548) -- (3,076) --
-------- -------- -------- --------
1,058 2,426 2,288 6,558
-------- -------- -------- --------
INCOME BEFORE INCOME TAXES 22,227 16,537 42,846 33,594
PROVISION FOR INCOME TAXES (7,543) (5,378) (14,533) (10,896)
-------- -------- -------- --------
INCOME BEFORE EXTRAORDINARY GAIN 14,684 11,159 28,313 22,698
-------- -------- -------- --------
EXTRAORDINARY GAIN (NOTE 3) -- -- 10,393 --
======== ======== ======== ========
NET INCOME $ 14,684 $ 11,159 $ 38,706 $ 22,698
======== ======== ======== ========
BASIC NET INCOME PER COMMON SHARE
Income before extraordinary gain $ 0.21 $ 0.16 $ 0.41 $ 0.33
Extraordinary gain -- -- 0.15 --
-------- -------- -------- --------
Net income $ 0.21 $ 0.16 $ 0.56 $ 0.33
-------- -------- -------- --------
DILUTED NET INCOME PER COMMON SHARE
Income before extraordinary gain $ 0.20 $ 0.16 $ 0.40 $ 0.33
Extraordinary gain -- -- 0.13 --
-------- -------- -------- --------
Net income $ 0.20 $ 0.16 $ 0.53 $ 0.33
-------- -------- -------- --------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING (IN
THOUSANDS)
Basic 69,574 68,705 69,425 68,611
Diluted 80,045 68,933 79,794 68,737
See accompanying notes to the consolidated financial statements.
Visudyne(R) is a trademark of Novartis Pharma AG
2
QLT INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three months ended Six months ended
June 30, June 30,
---------------------------- ----------------------------
(In thousands of United States dollars) 2004 2003 2004 2003
--------------------------------------- -------------- ------------- -------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 14,684 $ 11,159 $ 38,706 $ 22,698
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation 916 715 1,725 1,441
Amortization of deferred financial expenses 264 -- 503 --
Unrealized foreign exchange loss 5,863 1,401 7,951 2,099
Extraordinary gain -- -- (10,393) --
Deferred income taxes 5,835 5,378 12,825 10,896
Restructuring -- (394) -- (394)
Changes in non-cash operating assets and liabilities
Account receivable (4,211) (1,310) (8,081) 1,030
Inventories 4,210 (956) 2,564 (291)
Other assets (2,904) (266) 2,739 (4,218)
Accounts payable (2,405) (953) (3,316) (2,322)
Income taxes payable 1,708 -- 1,708 --
Accrued restructuring charge -- (286) -- (2,005)
Other accrued liabilities 5,021 3,645 (3,872) (16)
Deferred revenue (188) (4,088) (1,916) (4,598)
--------- --------- --------- ---------
28,793 14,045 41,143 24,320
--------- --------- --------- ---------
CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES
Short-term investment securities (85,537) 18,357 (94,757) (1,692)
Purchase of property and equipment (3,736) (250) (6,905) (2,212)
Other long-term assets (718) -- (718) --
Purchase of Kinetek Pharmaceuticals, Inc., net of cash
acquired -- -- (2,316) --
--------- --------- --------- ---------
(89,991) 18,107 (104,696) (3,904)
--------- --------- --------- ---------
CASH PROVIDED BY FINANCING ACTIVITIES
Long term debt (net) (34) -- (105) --
Issuance of common shares 2,076 1,635 13,772 2,640
--------- --------- --------- ---------
2,042 1,635 13,667 2,640
--------- --------- --------- ---------
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS (5,402) 11,918 (7,582) 20,667
--------- --------- --------- ---------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (64,558) 45,705 (57,468) 43,723
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 269,498 126,156 262,408 128,138
--------- --------- --------- ---------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 204,940 $ 171,861 $ 204,940 $ 171,861
========= ========= ========= =========
SUPPLEMENTARY CASH FLOW INFORMATION:
Interest paid $ 137 $ 184 $ 3,156 $ 251
Income taxes paid -- -- -- --
See accompanying notes to the consolidated financial statements.
3
QLT INC.
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(Unaudited)
Accumulated
Common Shares Other Total
------------------- Comprehensive Accumulated Comprehensive Shareholders'
Shares Amount Income Deficit Income Equity
---------- ---------- ------------- ------------ ------------- ------------
(All amounts except share and per share information are expressed in thousands of United States dollars)
Balance at December 31, 2003 68,892,027 $ 395,627 $ 45,828 $ (8,084) $ -- $ 433,371
Exercise of stock options at
prices ranging from CAD $12.10
to CAD $31.40 per share 609,161 11,602 -- -- -- 11,602
Other comprehensive income:
Cumulative translation
adjustment from application of
U.S. dollar reporting -- -- (3,816) -- (3,816) (3,816)
Unrealized loss on available
for sale securities -- -- (99) -- (99) (99)
Net income -- -- -- 24,022 24,022 24,022
----------
Comprehensive income -- -- -- -- $ 20,107 --
---------- ---------- ---------- ---------- ---------- ----------
Balance at March 31, 2004 69,501,188 $ 407,229 $ 41,913 $ 15,938 -- $ 465,079
---------- ---------- ---------- ---------- ---------- ----------
Exercise of stock options at
prices ranging from CAD $12.10
to CAD $34.75 per share 81,129 2,067 -- -- -- 2,067
Other comprehensive income:
Cumulative translation
adjustment from application of
U.S. dollar reporting -- -- (7,897) -- (7,897) (7,897)
Unrealized loss on available
for sale securities -- -- (31) -- (31) (31)
Net income -- -- -- 14,684 14,684 14,684
----------
Comprehensive income -- -- -- -- $ 6,756 --
---------- ---------- ---------- ---------- ---------- ----------
BALANCE AT JUNE 30, 2004 69,582,317 $ 409,296 $ 33,985 $ 30,622 -- $ 473,903
========== ========== ========== ========== ========== ==========
See accompanying notes to the consolidated financial statements.
4
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Information as at and for the three and six month periods ended June 30, 2004
and June 30, 2003 is unaudited.)
QLT Inc. (the "Company" or "QLT") is a global bio-pharmaceutical company
dedicated to the discovery, development and commercialization of innovative
therapies to treat eye diseases, cancer, dermatological and urological
conditions. The Company is a pioneer in the field of photodynamic therapy
("PDT"). PDT is a minimally invasive medical procedure utilizing
photosensitizers (light-activated drugs) to treat a range of diseases
associated with rapidly growing tissue.
1. BASIS OF PRESENTATION
These unaudited consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States and pursuant to the rules and regulations of the United States
Securities and Exchange Commission for the presentation of interim
financial information. Accordingly, certain information and footnote
disclosures normally included in financial statements prepared in
accordance with United States generally accepted accounting principles have
been condensed, or omitted, pursuant to such rules and regulations. These
financial statements do not include all disclosures required for annual
financial statements and should be read in conjunction with the Company's
audited consolidated financial statements and notes thereto included as
part of the Company's 2003 Annual Report on Form 10-K. All amounts herein
are expressed in United States dollars unless otherwise noted.
In the opinion of management, all adjustments (including reclassifications
and normal recurring adjustments) necessary to present fairly the financial
position, results of operations and cash flows at June 30, 2004 and for all
periods presented, have been made. Interim results are not necessarily
indicative of results for a full year.
2. PRINCIPLES OF CONSOLIDATION
These consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany transactions have been
eliminated.
3. BUSINESS COMBINATION
On March 31, 2004, the Company acquired all the outstanding shares of
Kinetek Pharmaceuticals, Inc. ("Kinetek"), a privately held
biopharmaceutical company based in Vancouver, British Columbia, that
focused on discovery and development of new targets and therapies. The
results of operations of Kinetek are included in the consolidated statement
of operations since the acquisition date, and the related assets and
liabilities were recorded based upon their respective fair values at the
date of acquisition. The Company paid an aggregate cash purchase price of
$2.4 million, which included acquisition related expenditures of $0.1
million. The extraordinary gain resulting from this acquisition related to
the estimated fair value of net assets acquired, including the recognition
of certain tax assets, in excess of the total consideration paid by the
Company.
The total consideration paid by the Company for Kinetek, including
acquisition costs, was allocated based on management's preliminary
assessment as to the estimated fair values on the acquisition date. This
preliminary assessment is subject to change upon the final determination of
the fair value of the assets acquired and liabilities assumed.
(In thousands of United States dollars)
Purchase price $ 2,447
Current assets acquired (including cash of $0.1 million) 13,137
Property and equipment acquired 604
Current liabilities assumed (901)
---------------
Extraordinary gain 10,393
===============
On July 1, 2004, Kinetek was amalgamated with the Company and ceased to
exist as a separate legal entity.
5
4. SIGNIFICANT ACCOUNTING POLICIES
In the opinion of management, the following are the most significant
accounting policies used in preparing these financial statements.
Use of Estimates
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 and liabilities, the
disclosure of contingent assets and liabilities at the date of the
financial statements, and the reported amounts of revenue and expenses
during the reporting periods presented. Significant estimates are used for,
but not limited to, provisions for non-completion of inventory, assessment
of the net realizable value of long-lived assets, accruals for contract
manufacturing and research and development agreements, allocation of costs
to manufacturing under a standard costing system, allocation of overhead
expenses to research and development, determination of fair value of assets
and liabilities acquired in purchase business combinations, and provisions
for taxes and contingencies. Actual results may differ from estimates made
by management.
Reporting Currency and Foreign Currency Translation
The Company uses the U.S. dollar as its reporting currency while retaining
the Canadian dollar as its functional currency. The consolidated financial
statements of the Company are translated into U.S. dollars using the
current rate method. Assets and liabilities are translated at the rate of
exchange prevailing at the balance sheet date. Shareholders' equity is
translated at the applicable historical rates. Revenue and expenses are
translated at a weighted average rate of exchange for the respective
periods. Translation gains and losses are included as part of the
cumulative foreign currency translation adjustment which is reported as a
component of shareholders' equity under accumulated other comprehensive
income.
Property and Equipment
During the first quarter of 2003, the Company reviewed its intended use of
property and equipment and adopted the straight-line method for all newly
acquired property and equipment beginning in 2003. The Company retains the
declining balance method for all property and equipment acquired prior to
2003.
Property and equipment are recorded at cost and amortized as follows:
Methods Rates Methods Years
----------------- ----- ------------- -----
Buildings Declining balance 4%
Office furnishings, fixtures and other Declining balance 20% or Straight-line 5
Research and commercial manufacturing equipment
and computer operating system Declining balance 20% or Straight-line 5
Computer hardware Declining balance 30% or Straight-line 3
Revenue Recognition
Under the terms of the Company's collaborative agreement with Novartis
Ophthalmics, a division of Novartis Pharma AG ("Novartis Ophthalmics"), the
Company is responsible for manufacturing and product supply and Novartis
Ophthalmics is responsible for sales, marketing and distribution of
Visudyne. Our agreement with Novartis Ophthalmics provides that the
calculation of total revenue for the sale of Visudyne be composed of three
components: (1) an advance on the cost of inventory sold to Novartis
Ophthalmics, (2) an amount equal to 50% of the profit that Novartis
Ophthalmics derives from the sale of Visudyne to end-users, and (3) the
reimbursement of other specified costs incurred and paid for by the Company
(See Note 11 - Revenue from Visudyne). The Company recognizes revenue from
the sale of Visudyne when persuasive evidence of an arrangement exists,
delivery to Novartis Ophthalmics has occurred, the end selling price of
Visudyne is fixed or determinable, and collectibility is reasonably
assured. Under the calculation of total revenues noted above, this occurs
upon "sell through" to the end customers.
Contract research and development revenues consist of non-refundable
research and development funding under collaborative agreements with the
Company's various strategic partners. Contract research and development
funding generally compensates the Company for discovery, preclinical and
clinical expenses related to the collaborative development programs for
certain products and product candidates of the Company, and is recognized
as revenue at the time research and development activities are performed
under the terms of the collaborative agreements. Amounts received under the
collaborative agreements are non-refundable even if the research and
development efforts performed by the Company do not eventually result in a
commercial product. Contract research and development
6
revenues earned in excess of payments received are classified as contract
research and development receivables.
(See Note 5 - Accounts Receivable and Note 12 - Contract Research and
Development.)
The Company does not offer rebates or discounts and has not experienced any
material product returns; accordingly, the Company does not provide an
allowance for rebates, discounts, and returns.
Cost of Sales
Cost of sales, consisting of expenses related to the production of bulk
Visudyne sold to Novartis Ophthalmics and royalties on Visudyne sales, are
charged against earnings in the period of the related product sale by
Novartis Ophthalmics to third parties. The Company utilizes a standard
costing system, which includes a reasonable allocation of overhead
expenses, to account for inventory and cost of sales with adjustments being
made periodically to reflect current conditions. Overhead expenses comprise
direct and indirect support activities related to the manufacture of bulk
Visudyne and involve costs associated with activities such as quality
inspection, quality assurance, supply chain management, safety and
regulatory. Overhead expenses are allocated to inventory during each stage
of the manufacturing process under the standard costing system, and
eventually to cost of sales as the related products are sold by Novartis
Ophthalmics to third parties. The Company records a provision for the
non-completion of product inventory based on its history of batch
completion.
Stock-Based Compensation
As allowed by SFAS No. 123 "Accounting for Stock-based Compensation" ("SFAS
123"), the Company applies Accounting Principles Board ("APB") Opinion No.
25 and related interpretations in the accounting for employee stock option
plans. SFAS 123 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 an entity 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. The Company has adopted the disclosure only provision for
stock options granted to employees and directors, as permitted by SFAS 123.
The following pro forma financial information presents the net income and
net income per common share had the Company recognized stock-based
compensation using a fair value based accounting method:
Three months ended Six months ended
------------------------- --------------------------
(In thousands except per share information) June 30, June 30, June 30, June 30,
(Unaudited) 2004 2003 2004 2003
------------------------------------------- ---------- ---------- ---------- ----------
Net Income
As reported $ 14,684 $ 11,159 $ 38,706 $ 22,698
Less: Additional employee compensation
expense under the fair value method (2,969) (5,135) (6,239) (10,385)
---------- ---------- ---------- ----------
Pro forma $ 11,715 $ 6,024 $ 32,467 $ 12,313
---------- ---------- ---------- ----------
Basic net income per common share
As reported $ 0.21 $ 0.16 $ 0.56 $ 0.33
Pro forma $ 0.17 $ 0.09 $ 0.47 $ 0.18
---------- ---------- ---------- ----------
Diluted net income per share
As reported $ 0.20 $ 0.16 $ 0.53 $ 0.33
Pro forma $ 0.16 $ 0.09 $ 0.45 $ 0.18
---------- ---------- ---------- ----------
The pro forma amounts may not be representative of future disclosures since
the estimated fair value of stock options is amortized to expense over the
vesting period and additional options may be granted in future years.
The Black-Scholes option pricing model was developed for use in estimating
the value of traded options that have no vesting restrictions and are fully
transferable. In addition, option pricing models require the input of
highly subjective assumptions including the expected stock price
volatility. The Company uses projected data for expected volatility and
expected life of its stock options based upon historical and other economic
data trended into future years. 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 estimate, in management's opinion, the existing
valuation models do not provide a reliable measure of the fair value of the
Company's employee stock options.
7
The weighted average fair value of stock options granted in the three
months and six months periods ended June 30, 2004 were $7.94 and $9.09
whereas the fair value of stock options granted in the three and six month
periods ended June 30, 2003 were $4.95 and $4.27. The Company used the
Black-Scholes option pricing model to estimate the value of the options at
each grant date, under the following weighted average assumptions:
Three months ended Six months ended
June 30, 2004 June 30, 2004
----------------------- ---------------------
Annualized Volatility 52.6% 56.3%
Risk-free Interest Rate 3.4% 2.9%
Expected Life (Years) 2.5 2.5
Research and Development
Research and development costs consist of direct and indirect expenditures,
including a reasonable allocation of overhead expenses, associated with the
Company's various research and development programs. Overhead expenses
comprise general and administrative support provided to the research and
development programs and involve costs associated with support activities
such as facility maintenance, utilities, office services, information
technology, legal, accounting and human resources. Research and development
costs are expensed as incurred. Patent application, filing and defense
costs are expensed as incurred and included in general and administrative
expenses.
Income Taxes
Income taxes are reported using the asset and liability method, whereby
deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases, and operating loss and tax credit carry forwards, using
applicable enacted tax rates. An increase or decrease in these tax rates
will increase or decrease the carrying value of the deferred net tax assets
resulting in an increase or decrease to net income. A valuation allowance
is provided when it is more likely than not that a deferred tax asset may
not be realized. Investment tax credits are included as part of the
provision for (recovery of) income taxes.
Net Income Per Common Share
Basic net income per common share is computed using the weighted average
number of common shares outstanding during the period. Diluted net income
per common share is computed in accordance with the treasury stock method
or "if converted" method, as applicable, which uses the weighted average
number of common shares outstanding during the period and also includes the
dilutive effect of potentially issuable common stock from outstanding stock
options and convertible debt. In addition, the related interest and
amortization of deferred financing fees on convertible debt (net of tax)
are added back to income, since these would not be paid or incurred if the
convertible senior notes were converted into common shares.
The following table sets forth the computation of basic and diluted net
income per common share:
8
Three months ended Six months ended
(In thousands, except per share data) June 30, June 30, June 30, June 30,
(Unaudited) 2004 2003 2004 2003
------------------------------------- -------- ------- -------- --------
Numerator:
Income before extraordinary gain $14,684 $11,159 $28,313 $22,698
Extraordinary gain -- -- 10,393 --
------- ------- ------- -------
Net Income 14,684 11,159 38,706 22,698
Effect of dilutive securities:
Convertible senior notes - interest expense 1,130 -- 3,191 --
------- ------- ------- -------
Net income plus assumed conversion $15,814 $11,159 $41,897 $22,698
======= ======= ======= =======
Denominator:
Weighted-average common shares outstanding 69,574 68,705 69,425 68,611
Effect of dilutive securities:
Stock options 778 228 676 126
Convertible senior notes 9,693 -- 9,693 --
------- ------- ------- -------
Dilutive potential common shares 10,471 228 10,369 126
------- ------- ------- -------
Diluted weighted-average common shares
outstanding 80,045 68,933 79,794 68,737
======= ======= ======= =======
Basic net income per common share
Income before extraordinary gain $ 0.21 $ 0.16 $ 0.41 $ 0.33
Extraordinary gain -- -- 0.15 --
------- ------- ------- -------
Net income $ 0.21 $ 0.16 $ 0.56 $ 0.33
======= ======= ======= =======
Diluted net income per common share
Income before extraordinary gain $ 0.20 $ 0.16 $ 0.40 $ 0.33
Extraordinary gain -- -- 0.13 --
------- ------- ------- -------
Net income $ 0.20 $ 0.16 $ 0.53 $ 0.33
======= ======= ======= =======
The effect of approximately 9,692,637 shares related to the assumed
conversion of the $ 172.5 million 3% convertible senior notes has been
included in the computation of diluted earnings per share for the three and
six month periods ended June 30, 2004. Excluded from the calculation of
diluted net income per common share for the three and six month periods
ended June 30, 2004 were 3,966,023 and 4,674,039 shares, respectively, (in
both the three and six month periods ended June 30, 2003 the amounts
excluded were 6,549,510 shares) of common stock from stock options because
their effect was anti-dilutive.
Reclassification
Certain comparative figures have been reclassified to conform with the
current period's presentation.
5. ACCOUNTS RECEIVABLE
(In thousands of United States Dollars) June 30, 2004 December 31, 2003
------------------------------------------ ------------- -----------------
(Unaudited)
Visudyne(R) $ 39,151 $34,035
Contract research and development 1,181 1,032
Foreign exchange contracts 1,410 -
Trade and other 1,034 328
-------- -------
$ 42,776 $35,395
======== =======
9
Accounts receivable - Visudyne represents amounts due from Novartis
Ophthalmics and consists of the Company's 50% share of pre-tax profit on
sales of Visudyne, amounts due from the sale of bulk Visudyne to Novartis
Ophthalmics and reimbursement of specified royalty and other costs. The
Company has not, in the past, experienced bad debts. Based on this history
and because the Company's accounts receivable consists primarily of
receivables from its strategic partner, Novartis Ophthalmics, the Company
does not provide an allowance for doubtful accounts.
6. INVENTORIES
(In thousands of United States dollars) June 30, 2004 December 31, 2003
------------------------------------------ ------------- -----------------
(Unaudited)
Raw materials and supplies $ 416 $ 2,066
Work-in-process 24,287 24,660
Finished goods 68 82
Provision for non-completion of product inventory (1,353) -
-------- --------
$ 23,418 $ 26,808
======== ========
The Company records a provision for non-completion of product inventory to
provide for potential failure of inventory batches in production to pass
quality inspection. During the three months ended June 30, 2004, the
Company incurred a partial batch non-completion resulting in a charge to
the reserve for non-completion of $0.3 million. The Company has not
experienced inventory spoilage to date. Based on this history, inventory
turnover, and expected sales, the Company believes that, at this time, the
risk of inventory obsolescence is negligible. Accordingly, the Company has
not established any reserve for obsolescence.
7. OTHER CURRENT ASSETS
(In thousands of United States dollars) June 30, 2004 December 31, 2003
------------------------------------------ ------------- -----------------
(Unaudited)
Inventory in transit held by Novartis Ophthalmics $ 10,025 $ 10,122
Foreign exchange contracts - 4,447
Prepaid expenses and other 3,233 1,581
-------- --------
$ 13,258 $ 16,150
======== ========
Inventory in transit comprises finished goods that have been shipped to and
are held by Novartis Ophthalmics. Under the terms of the Company's
collaborative agreement, upon delivery of inventory to Novartis
Ophthalmics, the Company is entitled to an advance equal to the Company's
cost of inventory. The inventory in transit is also included in deferred
revenue at cost, and will be recognized as revenue in the period of the
related product sale and delivery by Novartis Ophthalmics to third parties,
where collection is reasonably assured.
Foreign exchange contracts consist of unrealized gains on foreign currency
derivative financial instruments.
8. OTHER LONG-TERM ASSETS
(In thousands of United States dollars) June 30, 2004 December 31, 2003
------------------------------------------ ------------- -----------------
(Unaudited)
Deferred financing expenses $ 4,254 $ 4,784
Deferred Atrix acquisition expenses 1,379 -
Diomed Holdings, Inc. 108 244
Other 689 848
-------- --------
$ 6,430 $ 5,876
======== ========
Deferred financing expenses represent debt issue costs related to the
convertible senior notes, net of amortization. Deferred financing expenses
are being amortized over 5 years commencing August 2003. Deferred Atrix
acquisition expenses represent the direct incremental costs incurred to
June 30, 2004 in relation to the Agreement and Plan of Merger entered into
with Atrix Laboratories, Inc. on June 14, 2004. (See Note 15 - Proposed
Merger with Atrix
10
Laboratories, Inc.). The long-term investment in Diomed Holdings, Inc.
represents the restricted Class A Convertible Preferred Stock the Company
received as consideration for the sale of the Company's Optiguide fiber
optic business to Diomed Holdings, Inc. and was converted to Diomed
Holdings, Inc. common shares during 2003. Other long-term investments
consist principally of long-term employee loans which are non-interest
bearing with terms ranging from one to five years, and which will be
forgiven if certain conditions are met.
9. OTHER ACCRUED LIABILITIES
(In thousands of United States dollars) June 30, 2004 December 31, 2003
------------------------------------------ ------------- -----------------
(Unaudited)
Royalties $ 2,756 $ 2,470
Compensation 3,543 5,325
Foreign Exchange Contracts 737 3,589
Interest 1,667 2,132
Other 800 58
--------- --------
$ 9,503 $ 13,574
========= ========
10. SHARE CAPITAL
On August 11, 2003, the Company announced a share buy-back program. Share
purchases by the Company would be made as a normal course issuer bid. The
Company may purchase for cancellation up to a maximum of 5,000,000 common
shares. All purchases would be effected in the open market through the
facilities of The Toronto Stock Exchange and the NASDAQ National Market, in
accordance with all regulatory requirements, and would be effected during
the period commencing August 13, 2003 and ending August 12, 2004. As of
June 30, 2004, the Company had not purchased any of its common shares under
this program.
Stock option activity with respect to all of the Company's stock option
plans is presented below:
Weighted
Number of Exercise Price Range Average
(In Canadian dollars) Shares Per Share Exercise Price
------------------------------------------- -------------- ----------------------- --------------
Outstanding at December 31, 2003 7,236,624 $12.10 - $108.60 $ 47.82
From January 1 to June 30, 2004:
Granted 891,450 $31.60 - $ 32.85 $ 32.72
Exercised (690,290) $12.10 - $ 34.75 $ 26.41
Cancelled (374,341) $12.10 - $108.60 $ 44.40
--------- ---------------- -------
Outstanding at June 30, 2004 7,063,443 $12.10 - $108.60 $ 48.19
========= ================ =======
Additional information relating to stock options outstanding as of June 30,
2004 is presented below:
(In Canadian dollars) Options Outstanding Options Exercisable
----------------------- ------------------------------- -------------------------------------
Weighted
Weighted Average Weighted
Average Remaining Average
Exercise Number of Exercise Contractual Number of Exercise
Price Range Shares Price Life (Years) Shares Price
-------------------- ------------- --------------- --------------- ------------------- -----------------
Under $17.50 820,495 $ 13.48 3.72 296,222 $ 13.50
$17.51 - $25.00 712,444 $ 22.36 2.87 483,048 $ 22.42
$25.01 - $37.50 1,636,481 $ 32.03 3.49 794,564 $ 31.40
$37.51 - $50.00 2,304,399 $ 41.29 1.54 2,185,715 $ 41.47
Over $50.00 1,589,624 $104.31 0.87 1,586,124 $ 104.37
------------- -------------------
7,063,443 5,345,673
============ ===================
11. REVENUE FROM VISUDYNE(R)
11
Under the terms of the Company's collaborative agreement with Novartis
Ophthalmics, the Company is responsible for manufacturing and product
supply and Novartis Ophthalmics is responsible for marketing and
distribution of Visudyne.
The Company's revenue from the sales of Visudyne was determined as follows:
For the three months ended For the six months ended
June 30, June 30,
(In thousands of United States dollars) 2004 2003 2004 2003
------------------------------------------------- -------------- -------------- -------------- --------------
(Unaudited)
Visudyne(R) sales by Novartis Ophthalmics $ 109,340 $ 89,206 $210,396 $171,260
Less: Marketing and distribution costs (33,357) (26,433) (62,636) (53,524)
Less: Inventory costs (7,221) (5,931) (12,482) (10,338)
Less: Royalties (2,462) (2,051) (4,724) (3,910)
-------------- -------------- -------------- --------------
$ 66,300 $ 54,791 $130,554 $103,488
============== ============== ============== ==============
QLT share of remaining revenue on final sale by
Novartis Ophthalmics (50%) $ 33,150 $ 27,395 $ 65,277 $ 51,744
Add: Inventory costs reimbursed to QLT 5,768 4,293 10,323 8,133
Add: Royalties reimbursed to QLT 2,458 1,969 4,697 3,790
Add: Other costs reimbursed to QLT 1,760 1,507 3,358 2,942
-------------- -------------- -------------- --------------
Revenue from Visudyne(R) as reported by QLT $ 43,136 $ 35,164 $ 83,655 $ 66,609
============== ============== ============== ==============
For the three months ended June 30, 2004, approximately 48% of total Visudyne
sales by Novartis Ophthalmics were in the United States with Europe and other
markets responsible for the remaining 52%. For the same period in 2003,
approximately 51% of total Visudyne sales by Novartis Ophthalmics were in the
United States with Europe and other markets responsible for the remaining
49%.
For the six months ended June 30, 2004, approximately 46% of total Visudyne
sales by Novartis Ophthalmics were in the United States with Europe and other
markets responsible for the remaining 54%. For the same period in 2003,
approximately 51% of total Visudyne sales by Novartis Ophthalmics were in the
United States with Europe and other markets responsible for the remaining
49%.
12. CONTRACT RESEARCH AND DEVELOPMENT
The Company received non-refundable research and development funding from
Novartis Ophthalmics and Xenova Limited which was recorded as contract
research and development revenue. Details of the Company's contract
research and development revenue are as follows:
Three months ended Six months ended
June 30, June 30,
(In thousands of United States dollars) 2004 2003 2004 2003
---------------------------------------------- -------------- ---------------- --------------- ----------------
(Unaudited)
Visudyne(R) ocular programs $ 1,263 $ 318 $ 2,055 $ 771
Multiple basal cell carcinoma program - 527 - 1,054
Others - - - 546
-------------- ---------------- --------------- ----------------
Contract research & development revenue $ 1,263 $ 845 $ 2,055 $ 2,371
============== ================ =============== ================
12
13. SEGMENTED INFORMATION
Details of revenues and property and equipment by geographic segments are
as follows:
Revenues(1) Three months ended Six months ended
June 30, June 30,
(In thousands of United States dollars) 2004 2003 2004 2003
--------------------------------------------------- --------------- ------------ -------------- ------------
(Unaudited)
United States $ 24,949 $21,767 $ 46,752 $ 40,851
Europe 16,225 11,727 31,986 22,676
Canada 2,262 1,739 4,382 3,470
Other 963 776 2,590 1,983
--------------- ------------ -------------- ------------
$ 44,399 $36,009 $ 85,710 $ 68,980
=============== ============ ============== ============
Property and equipment June 30, December 31
(In thousands of United States dollars) 2004 2003
--------------------------------------------------- -------------- -------------
(Unaudited)
Canada $ 46,810 $42,687
United States 505 575
-------------- -------------
$ 47,315 $43,262
============== =============
(1) Revenues are attributable to a geographic segment based on location of
the customer for revenue from Visudyne and royalties on product sales,
and location of the head office of the funding entity in the case of
revenue from contract research and development and collaborative
arrangements.
14. CONTINGENCIES
(a) PATENT LITIGATION WITH MEEI
The First MEEI Lawsuit
In April 2000, Massachusetts Eye and Ear Infirmary ("MEEI") filed a civil suit
complaint against the Company in the United States District Court for the
District of Massachusetts (the "Court") seeking to establish exclusive rights
for MEEI as the owner of certain inventions relating to the use of verteporfin
as the photoactive agent in the treatment of certain eye diseases including AMD.
In 2002, QLT moved for summary judgment against MEEI on all counts of MEEI's
complaint. The Court granted QLT's motions, thus dismissing all of MEEI's claims
in the lawsuit. Final judgment of dismissal was entered in April 2003. In May
2003, MEEI filed a notice of appeal, and QLT filed a notice of cross-appeal with
respect to a contested discovery order entered by the district court. These
appeals are pending before the Court of Appeal for the First Circuit.
The lawsuit relates, in part, to an ongoing dispute involving U.S. Patent No.
5,798,349 (the "'349 Patent") which was issued in 1998 to the Company, MEEI and
Massachusetts General Hospital ("MGH") as co-owners. The complaint alleged
breach of contract, misappropriation of trade secrets, conversion,
misrepresentation, unjust enrichment, unfair trade practices and related claims
and asked that the Court: (i) declare MEEI the owner of certain inventions
claimed in the '349 Patent; (ii) enjoin the Company from infringement of those
claims or any action that would diminish the validity or value of such claims;
(iii) declare that the Company breached an agreement with MEEI to share
equitably in any proceeds derived as a result of collaboration leading to the
'349 Patent; (iv) impose a constructive trust upon the Company for any benefit
that the Company has or will derive as a result of the '349 Patent; and (v)
award MEEI monetary relief for misappropriation of trade secrets in an amount
equal to the greater of MEEI's damages or the Company's profits from any such
misappropriation, and double or treble damages under Massachusetts law.
QLT's counterclaim in this lawsuit requesting correction of inventorship of the
'349 patent to add an additional MGH inventor, was stayed by the Court pending
the outcome of the second MEEI lawsuit described below. QLT voluntarily
dismissed the remainder of its counterclaims in the first lawsuit without
prejudice in April 2003.
The Second MEEI Lawsuit
In May 2001, the United States Patent Office issued United States Patent No.
6,225,303 (the "'303 Patent") to MEEI. The '303 Patent is derived from the same
patent family as the '349 Patent and claims a method of treating unwanted
choroidal neovasculature in a shortened treatment time using verteporfin. The
patent application which led to the issuance of the '303 patent was filed and
prosecuted by attorneys for MEEI and, in contrast to the '349 patent, named only
MEEI researchers as inventors.
13
The same day the '303 patent was issued, MEEI commenced a second civil suit
against the Company and Novartis Ophthalmics in the same Court alleging
infringement of the '303 Patent. In the second suit MEEI seeks damages and
injunctive relief for patent infringement and unjust enrichment. The Company has
answered the complaint, denying its material allegations and raising a number of
affirmative defenses, and has asserted counterclaims against MEEI and the two
MEEI researchers who are named as inventors on the '303 patent.
The Company's counterclaim seeks to correct inventorship of the '303 patent by
adding QLT and MGH researchers as joint inventors and asks the court to declare
that QLT and MGH are co-owners of the '303 patent. The counterclaim also
requests a declaration that QLT does not infringe, induce infringement, or
contribute to infringement of the '303 patent, asserting, among other reasons,
that QLT and MGH are rightful co-owners of the patent and QLT has a license from
MGH of MGH's co-ownership rights under the patent. In addition, the counterclaim
seeks a declaratory judgment that the '303 patent is invalid and unenforceable
and an award of monetary damages for breach of material transfer agreements
governing MEEI's use of verteporfin, based upon MEEI's failure to notify QLT of
MEEI's intent to file the patent application that led to the issuance of the
'303 patent to MEEI.
In November 2001, MGH sought and was granted leave to intervene in the action to
protect its rights in the '303 patent. MGH's complaint in intervention, like
QLT's counterclaim, asks the court to correct inventorship of the '303 patent by
adding QLT and MGH researchers as joint inventors of the inventions claimed in
the patent and by declaring that MGH is a joint owner of those inventions.
In April 2003, QLT moved to dismiss MEEI's claim for unjust enrichment on the
grounds that this claim had been previously decided by a court. The Court
granted QLT's motion on May 28, 2003.
No trial has been scheduled in the second lawsuit, and none is expected until
2005 at the earliest.
The Company believes MEEI's claims in both lawsuits are without merit and
intends to vigorously defend against such actions and any appeals and pursue its
counterclaims. The outcomes of these disputes are not presently determinable or
estimable and there can be no assurance that the matters will be resolved in
favor of the Company. If the lawsuits are not resolved in the Company's favor,
the Company may be obliged to pay damages, to pay an additional royalty or
damages for access to the inventions covered by claims in issued U.S. patents,
may be subject to such equitable relief as a court may determine (which could
include an injunction) or may be subject to a remedy combining some or all of
the foregoing.
(b) SECURITIES CLASS ACTION
On March 31, 2004, the United States District Court of the Southern District of
New York issued an Opinion and Order dismissing in its entirety a securities
class action which had been commenced in 2001 against the Company, Julia Levy,
(former President and Chief Executive Officer and a current Director of the
Company) and Kenneth Galbraith (former Executive Vice President and Chief
Financial Officer and Corporate Secretary of the Company). The class action was
dismissed on the basis that the plaintiffs had failed to state a valid claim for
securities fraud. On April 14, 2004, the plaintiffs filed a motion with the same
court for reconsideration of the Opinion and Order dismissing the class action.
On June 21, 2004, the United States District Court of the Southern District of
New York issued an Order denying the plaintiffs' motion for reconsideration.
The time period within which the plaintiffs could appeal the Opinion and Order
dismissing the class action complaint expired on July 22, 2004. No appeal was
filed by that date. QLT believes that this lawsuit has now been finally
concluded.
15. PROPOSED MERGER WITH ATRIX LABORATORIES, INC.
On June 14, 2004, the Company and Atrix Laboratories, Inc. signed a definitive
merger agreement, after unanimous approval by the boards of directors of both
companies, for QLT to acquire 100% of Atrix's common stock. Atrix is an emerging
specialty pharmaceutical company focused on advanced drug delivery. In the
transaction Atrix shareholders will receive one common share of QLT and $14.61
in cash for each share of Atrix common stock. As at the date of the
announcement, the transaction offer value was approximately $855 million and the
transaction value net of Atrix's cash was approximately $751 million. After the
closing of the transaction, Atrix shareholders will own approximately 23% of the
combined entity and QLT shareholders will own approximately 77%. The transaction
is subject to customary closing conditions, as well as approval by the
shareholders of both QLT and Atrix. On July 13, 2004, the Federal Trade
Commission granted early termination of the waiting period under the
Hart-Scott-Rodino Antitrust Improvements Act with respect to the proposed
merger. The Company expects the merger to complete before the end of 2004.
14
A member of the Company's board of directors is a senior partner of the law firm
which has provided the Company with legal representation regarding the proposed
merger. During the three and six month periods ended June 30, 2004, the Company
incurred legal expenses in the amount of $0.5 million (2003 - insignificant)
payable to this law firm.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following information should be read in conjunction with the accompanying
unaudited consolidated financial statements and notes thereto, which are
prepared in accordance with generally accepted accounting principles ("GAAP") in
the United States ("U.S.") and QLT Inc.'s (the "Company" or "QLT") audited
consolidated financial statements and notes thereto included as part of the
Company's 2003 Annual Report on Form 10-K. All amounts following are expressed
in U.S. dollars unless otherwise indicated.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
The following discussion and analysis of financial conditions and results of
operations contains forward-looking statements of the Company, within the
meaning of the Private Securities Litigation Reform Act of 1995, which involve
known and unknown risks, uncertainties and other factors which may cause our
actual results to differ materially from any future results, performance or
achievements expressed or implied by such statements. Forward-looking statements
include, but are not limited to, those with respect to: anticipated levels of
sales of Visudyne(R), including patient and physician demand for Visudyne
therapy, anticipated future operating results, anticipated timing for and
receipt of further reimbursement approvals for Visudyne therapy, the anticipated
outcome of pending patent and securities litigation against QLT, the anticipated
timing and progress of clinical trials, the anticipated timing of regulatory
submissions for expanded uses for Visudyne and for QLT's other products, the
anticipated timing and receipt of regulatory approvals for expanded uses for
Visudyne and for QLT's other products, statements regarding the intentions of
QLT to expand its pipeline through strategic product or technology acquisitions,
and statements regarding our expectations that the merger with Atrix
Laboratories, Inc. will close, our expectations as to the timing of the closing,
and our estimates of cash balances following the closing. These statements are
predictions only and actual events or results may differ materially. Factors
that could cause such actual events or our actual results to differ materially
from any future results expressed or implied by such forward-looking statements
include, but are not limited to, the ability and efforts of QLT's alliance
partner, Novartis Ophthalmics, a division of Novartis Pharma AG, to
commercialize and market Visudyne, the timing and impact of new product launches
by competitors, currency fluctuations in our primary markets may impact our
financial results, the outcome of pending patent litigation against QLT, QLT's
ability to maintain and expand its intellectual property position, the timing
and success of planned or existing clinical trials for Visudyne and QLT's other
products, the outcome of QLT's applications for regulatory approvals for
expanded uses for Visudyne, the risk that the proposed merger with Atrix
Laboratories, Inc. will not be successfully completed or that the businesses
will not be successfully integrated, the risk that, if the merger does proceed,
risk factors relating to the business or products of Atrix will impact the
combined company's results, potential acquisitions or investments in products or
technologies and the successful development or acquisition of complementary or
supplementary products or product candidates, or technologies, as well as the
risk factors described below under the heading Liquidity and Capital Resources -
General, and under "Legal Proceedings", and in the sections outlined in the
Company's most recent Annual Report on Form 10-K under "Business - Risk
Factors", "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and the "Notes to Consolidated Financial Statements", and
in the section entitled "Risk Factors" contained in the preliminary joint proxy
statement/prospectus contained in the registration statement on Form S-4 filed
in connection with the proposed Atrix merger. Forward looking statements are
bases on our current expectations and QLT does not assume any obligation to
update such information to reflect later development, except as required by law.
OVERVIEW
The Company is a global bio-pharmaceutical company dedicated to the discovery,
development and commercialization of innovative therapies to treat eye diseases,
cancer, dermatological and urological conditions. The Company is a pioneer in
the field of photodynamic therapy ("PDT"). PDT is a minimally invasive medical
procedure utilizing photosensitizers (light-activated drugs) to treat a range of
diseases associated with rapidly growing tissue.
Visudyne, the Company's commercial product, is a photosensitizer for the
treatment of the wet form of age-related macular degeneration ("AMD"). Wet AMD
is the leading cause of severe vision loss in people over the age of 50 in North
America
15
and Europe. Visudyne is marketed through our alliance with Novartis Ophthalmics
and together we are currently investigating the use of Visudyne in additional
ophthalmologic indications to expand the existing label. The Company is also
pursuing the development of other clinical candidates in the treatment of benign
prostatic hyperplasia ("BPH"), a progressive condition that results from the
excessive benign growth of prostatic tissue, and androgenetic alopecia (male
pattern baldness).
In addition to the Company's own research and development programs, the Company
explores opportunities to expand its product pipeline by identifying, evaluating
and acquiring rights to potential products and technologies developed by third
parties, beyond PDT and the field of ophthalmology. The Company also intends to
continue to explore strategic collaborations or acquisitions to facilitate its
development and commercialization efforts. The nature and form of any future
in-licensing or acquisition may have a material impact on the financial
position, share capital and results of operations of the Company.
The Company operates as a single reportable segment. The Company's profitability
depends upon the commercial success of Visudyne in major markets world-wide and
the achievement of product development objectives. Key performance indicators as
viewed by the Company's management include Visudyne sales figures, the Company's
percentage profit share of Visudyne sales by Novartis Ophthalmics, net income
per common share, achievement of product development milestones, and the
obtaining of marketing approvals and reimbursement approvals in additional
jurisdictions. These performance indicators are discussed in the "Results of
Operations" section below. As of June 30, 2004, the Company had retained
earnings of $30.6 million and total shareholders' equity of $473.9 million.
Proposed Merger with Atrix Laboratories, Inc.
On June 14, 2004, the Company and Atrix Laboratories, Inc. signed a definitive
merger agreement, after unanimous approval by the boards of directors of both
companies, for QLT to acquire 100% of Atrix's common stock. Atrix is an emerging
specialty pharmaceutical company focused on advanced drug delivery. In the
transaction Atrix shareholders will receive one common share of QLT and $14.61
in cash for each share of Atrix common stock. As at the date of announcement,
the transaction offer value was approximately $855 million and the transaction
value net of Atrix's cash was approximately $751 million. After the closing of
the transaction, Atrix shareholders will own approximately 23% of the combined
entity and QLT shareholders will own approximately 77%. The transaction is
subject to customary closing conditions, as well as approval by the shareholders
of both QLT and Atrix. On July 13, 2004, the Federal Trade Commission granted
early termination of the waiting period under the Hart-Scott-Rodino Antitrust
Improvements Act with respect to the proposed merger. The Company expects the
merger to complete before the end of 2004. In connection with the proposed
merger with Atrix, the Company has filed with the U.S. Securities and Exchange
Commission ("SEC") a registration statement on Form S-4, containing a
preliminary joint proxy statement/prospectus and other relevant materials.
CRITICAL ACCOUNTING POLICIES
In preparing the Company's consolidated financial statements, management is
required to make certain estimates, judgments and assumptions that the Company
believes are reasonable based upon the information available. These estimates
and assumptions affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the periods presented. Significant estimates are used for, but
not limited to, provisions for non-completion of inventory, assessment of the
net realizable value of long-lived assets, accruals for contract manufacturing
and research and development agreements, allocation of costs to manufacturing
under a standard costing system, determination of fair value of assets and
liabilities acquired in purchase business combinations, and provisions for taxes
and contingencies. The significant accounting policies which the Company
believes are the most critical to aid in fully understanding and evaluating its
reported financial results include those which follow:
Reporting Currency and Foreign Currency Translation
The Company uses the U.S. dollar as its reporting currency while retaining the
Canadian dollar as its functional currency. The consolidated financial
statements of the Company are translated into U.S. dollars using the current
rate method. Assets and liabilities are translated at the rate of exchange
prevailing at the balance sheet date. Shareholders' equity is translated at the
applicable historical rates. Revenue and expenses are translated at a weighted
average rate of exchange for the respective periods. Translation gains and
losses are included as part of the cumulative foreign currency translation
adjustment which is reported as a component of shareholders' equity under
accumulated other comprehensive income. Fluctuations in the exchange rate
between the Canadian and U.S dollars can affect the reported value of Canadian
dollar denominated assets and liabilities on the balance sheet. The movement of
the Canadian dollar in relation to the U.S. dollar
16
between June 30, 2004 and December 31, 2003 was a 2.8% decline. The impact on
the Company's Canadian dollar denominated cash and short-term investments'
reported value was approximately $9.2 million lower.
Revenue Recognition
Under the terms of the Company's collaborative agreement with Novartis
Ophthalmics, the Company is responsible for manufacturing and product supply and
Novartis Ophthalmics is responsible for marketing and distribution of Visudyne.
Our agreement with Novartis Ophthalmics provides that the calculation of total
revenue for the sale of Visudyne be composed of three components: (1) an advance
on the cost of inventory sold to Novartis Ophthalmics, (2) an amount equal to
50% of the profit that Novartis Ophthalmics derives from the sale of Visudyne to
end-users, and (3) the reimbursement of other specified costs incurred and paid
for by the Company. The Company recognizes revenue from the sale of Visudyne
when persuasive evidence of an arrangement exists, delivery to Novartis
Ophthalmics has occurred, the end selling price of Visudyne is fixed or
determinable, and collectibility is reasonably assured. The Company is able to
determine the final pricing of Visudyne only upon sell through by Novartis
Ophthalmics to the end customers. The Company's revenue from Visudyne is
impacted by the cost of producing Visudyne, the selling price of Visudyne to end
customers, Visudyne related costs incurred by Novartis Ophthalmics, and
reimbursable costs incurred by the Company.
The Company does not offer rebates or discounts and has not experienced any
material product returns; accordingly, the Company does not provide an allowance
for rebates, discounts and returns.
Cost of Sales
Cost of sales, consisting of expenses related to the production of bulk Visudyne
sold to Novartis Ophthalmics, and royalties on Visudyne sales, are charged
against earnings in the period of the related product sale by Novartis
Ophthalmics to third parties. The Company utilizes a standard costing system,
which includes a reasonable allocation of overhead expenses, to account for
inventory and cost of sales, with adjustments being made periodically to reflect
current conditions. Overhead expenses comprise direct and indirect support
activities related to the manufacture of bulk Visudyne and involve costs
associated with activities such as quality inspection, quality assurance, supply
chain management, safety and regulatory. Overhead expenses are allocated to
inventory during each stage of the manufacturing process under the standard
costing system, and eventually to cost of sales as the related products are sold
by Novartis Ophthalmics to third parties. Variances from standard can occur due
to changes in actual pricing and production volumes. While the Company believes
its standards are reliable, actual production costs and volume changes may
impact inventory, cost of sales, and the absorption of production overheads. The
Company records a provision for the non-completion of product inventory based on
its history of batch completion to provide for the potential failure of
inventory batches to pass quality inspection. The provision is calculated at
each stage of the manufacturing process. The Company estimates its
non-completion rate based on past production and adjusts its provision quarterly
based on actual production volume. A single batch failure may utilize a
significant portion of the provision as one completed batch currently costs
between $0.8 million and $1.7 million, depending on the stage of production.
Stock-Based Compensation
As allowed by SFAS No. 123 "Accounting for Stock-based Compensation" ("SFAS
123"), the Company applies Accounting Principles Board ("APB") Opinion No. 25
and related interpretations in the accounting for employee stock option plans.
SFAS 123 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. Estimates of fair value are determined using the Black-Scholes model.
The use of this model requires certain assumptions regarding the volatility,
term, and risk free interest rate experienced by the holder. 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. The Company has adopted the disclosure only provision
for stock options granted to employees and directors, consistent with SFAS 123.
Had the Company adopted a fair value based method for stock-based compensation,
the impact on the Company's net income and net income per common share is as
described in Note 4 in "Notes to the Consolidated Financial Statements".
Research and Development
Research and development costs consist of direct and indirect expenditures,
including a reasonable allocation of overhead expenses, associated with the
Company's various research and development programs. Overhead expenses comprise
general and administrative support provided to the research and development
programs and involve costs associated with support activities such as facility
maintenance, utilities, office services, information technology, legal,
accounting and
17
human resources. Research and development costs are expensed as incurred. Costs
related to the acquisition of development rights for which no alternative use
exists are classified as research and development and expensed as incurred.
Patent application, filing and defense costs are expensed as incurred and
included in general and administrative expenses.
Income Taxes
Income taxes are reported using the asset and liability method, whereby deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases, and operating
loss and tax credit carry forwards using applicable enacted tax rates. An
increase or decrease in these tax rates will increase or decrease the carrying
value of future net tax assets resulting in an increase or decrease to net
income. Income tax credits are included as part of the provision for (recovery
of) income taxes. The realization of the Company's deferred tax assets is
primarily dependent on generating sufficient taxable income prior to expiration
of any loss carry forward balance. Based on the Company's current operations and
anticipated results, the Company believes it is more likely than not to realize
its deferred tax assets. A valuation allowance is provided when it is more
likely than not that a deferred tax asset may not be realized.
RESULTS OF OPERATIONS
For the three months ended June 30, 2004, the Company recorded net income of
$14.7 million, or $0.20 diluted net income per common share. These results
compare to net income of $11.2 million, or $0.16 per common share for the three
months ended June 30, 2003. The increase in net income was primarily due to
strong Visudyne sales performance.
Net income for the six months ended June 30, 2004 was $38.7 million, or $0.53
diluted net income per common share as compared to $22.7 million, or $0.33 per
common share for the six months ended June 30, 2003. The increase in net income
for the six months ended June 30, 2004 in comparison to the six months ended
June 30, 2003 was primarily due to the extraordinary gain resulting from the
Kinetek acquisition and strong Visudyne sales performance.
REVENUES
Revenue from Visudyne(R)
The Company's revenue from the sales of Visudyne was determined as follows:
For the three months ended For the six months ended
June 30, June 30,
(In thousands of United States dollars) 2004 2003 2004 2003
------------------------------------------------- -------------- -------------- -------------- ---------------
Visudyne(R) sales by Novartis Ophthalmics $109,340 $ 89,206 $210,396 $171,260
Less: Marketing and distribution costs (33,357) (26,433) (62,636) (53,524)
Less: Inventory costs (7,221) (5,931) (12,482) (10,338)
Less: Royalties (2,462) (2,051) (4,724) (3,910)
-------------- -------------- -------------- ---------------
$ 66,300 $ 54,791 $130,554 $103,488
============== ============== ============== ===============
QLT share of remaining revenue on final sale by
Novartis Ophthalmics (50%) $ 33,150 $ 27,395 $ 65,277 $ 51,744
Add: Inventory costs reimbursed to QLT 5,768 4,293 10,323 8,133
Add: Royalties reimbursed to QLT 2,458 1,969 4,697 3,790
Add: Other costs reimbursed to QLT 1,760 1,507 3,358 2,942
-------------- -------------- -------------- ---------------
Revenue from Visudyne(R) as reported by QLT $ 43,136 $ 35,164 $ 83,655 $ 66,609
============== ============== ============== ===============
For the three months ended June 30, 2004, revenue from Visudyne increased by 23%
over the three months ended June 30, 2003. This increase was primarily due to a
23% increase in Visudyne sales, which resulted from higher market penetration
(18%), favorable exchange rates (4%), and an increase in average selling prices
(1%). In addition, a higher reimbursement from Novartis Ophthalmics for other
specified costs incurred and paid for by the Company also contributed to the
increase in the Company's Revenue from Visudyne, but was offset by higher sales,
marketing and distribution costs by Novartis Ophthalmics.
18
For the six months ended June 30, 2004, revenue from Visudyne increased by 24%
over the six months ended June 30, 2003. The increase was primarily due to a 23%
increase in Visudyne sales, which resulted from higher market penetration (16%),
favorable exchange rates (6%) and initial stocking by specialty distributors
(1%).
For the three months ended June 30, 2004, approximately 48% of total Visudyne
sales by Novartis Ophthalmics were in the United States compared to
approximately 51% for the same period in 2003. Approximately 46% of total
Visudyne sales by Novartis Ophthalmics were in the United States during the six
month period ended June 30, 2004, compared to 51% for the same period in 2003.
Contract Research and Development Revenue
The Company received non-refundable research and development funding from
Novartis Ophthalmics and Xenova Limited which was recorded as contract research
and development revenue. For the three months ended June 30, 2004, contract
research and development revenue totaled $1.3 million, an increase of 49% as
compared to the same period in 2003. The increase is primarily due to a higher
proportion of activities on joint Visudyne programs being assumed by the
Company. For the six months ended June 30, 2004, contract research and
development revenue decreased 13% to $2.1 million, compared to $2.4 million for
the same period in 2003. The decrease was primarily due to the cessation of the
multiple basal cell carcinoma ("MBCC") program which was previously funded by
Novartis Ophthalmics, and the elimination of reimbursements related to the
Tariquidar program partially offset by the Company assuming a higher proportion
of activities on joint Visudyne programs.
COSTS AND EXPENSES
Cost of Sales
For the three months ended June 30, 2004, cost of sales increased 23% to $7.5
million compared to $6.1 million for the same period in 2003. Cost of sales for
the six months ended June 30, 2004 increased 25% to $14.4 million compared to
$11.5 million for the same period in 2003. The increase was due primarily to the
increase in Visudyne sales.
Research and Development Costs
Research and development ("R&D") expenditures decreased 7% to $11.3 million for
the three months ended June 30, 2004, compared to $12.1 million for the three
months ended June 30, 2003. For the six months ended June 30, 2004, R&D
expenditures decreased 10% to $20.7 million, compared to $23.0 million for the
same period in 2003. The decrease was primarily due to the halting of the Phase
III tariquidar trials and cessation of the MBCC program.
Selling, General and Administrative Expenses
Selling, general and administrative ("SG&A") expenses include overhead expenses
associated with the manufacture of bulk Visudyne. For the three months ended
June 30, 2004, SG&A expenses increased 5% to $3.6 million compared to $3.4
million for the three months ended June 30, 2003. For the six months ended June
30, 2004, SG&A expenses increased 30% to $8.4 million compared to $6.5 million
for the same period in 2003. These increases were primarily due to an
unfavorable foreign exchange impact, and increased compensation expenses.
Depreciation Expense
Depreciation expense relates to the depreciation of property and equipment. For
the three months ended June 30, 2004, depreciation expense increased 28% to $0.9
million compared to $0.7 million for the three months ended June 30, 2003. For
the six months ended June 30, 2004 depreciation expense increased 20% to $1.7
million compared to $ 1.4 million for the six months ended June 30, 2003. The
increase was primarily due to the addition of fixed assets from the acquisition
of Kinetek as well as a computer system upgrade completed in late 2003.
INVESTMENT AND OTHER INCOME
Net Foreign Exchange Gains
Net foreign exchange gains comprise gains from the impact of foreign exchange
rate fluctuations on the Company's cash and short-term investments, derivative
financial instruments, foreign currency receivables, foreign currency payables
and
19
U.S. dollar denominated long term debt. For the three months ended June 30,
2004, the Company recorded net foreign exchange gains of $0.3 million versus net
foreign exchange gains of $0.4 million in the same period of 2003. Net foreign
exchange gains for the six months ended June 30, 2004 were $0.6 million in
comparison to $2.9 million for the same period in 2003. With the issuance of
$172.5 million of U.S. dollar denominated convertible senior notes in August
2003, the Company has been targeting to hold an equivalent amount of U.S. cash
to offset the impact of fluctuations in foreign exchange rates. More stable
foreign exchange rates during the three and six months ended June 30, 2004
resulted in lower gains on foreign exchange contracts as compared to the same
periods in 2003. (See Liquidity and Capital Resources - Interest and Foreign
Exchange Rates)
Details of the Company's net foreign exchange gains (losses) are as follows:
For the three months ended For the six months ended
June 30, June 30,
(In thousands of United States dollars) 2004 2003 2004 2003
- ---------------------------------------------- ----------------- -------------------- -------------------- --------------
Cash and cash equivalents $ 3,325 $ (929) $ 5,170 $(1,565)
U.S. dollar long term debt (2,996) - (4,633) -
Foreign exchange contracts (1,965) 3,141 (1,423) 7,263
Foreign currency receivables and payables 1,974 (1,831) 1,500 (2,784)
----------------- -------------------- -------------------- --------------
Net foreign exchange gains $ 338 $ 381 $ 614 $ 2,914
================= ==================== ==================== ==============
Interest Income
For the three months ended June 30, 2004, interest income increased 11% to $2.3
million compared to $2.0 million for the same period in 2003. Interest income
for the six months ended June 30, 2004 was $4.8 million compared with $3.6
million for the same period in 2003. This increase was a result of higher cash
reserves from the convertible senior notes and internal cash generation. The
Company's treasury policy is focused on minimizing risk of loss of principal.
Interest Expense
Interest expense of $1.5 million for the three months ended June 30, 2004 and
$3.1 million for the six months ended June 30, 2004 comprised the interest
payment and accrual on the 3% convertible senior notes issued on August 15, 2003
and amortization of deferred financing expenses related to this placement.
Extraordinary Gain
On March 31, 2004, the Company acquired all the outstanding shares of Kinetek
Pharmaceuticals, Inc. ("Kinetek"), a privately held biopharmaceutical company
based in Vancouver, British Columbia, which focused on discovery and development
of new therapies. The extraordinary gain of $10.4 million resulting from this
acquisition related to the estimated fair value of net assets acquired,
including the recognition of certain tax assets, in excess of the total
consideration paid by the Company. (See Note 3).
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed operations, product development and capital
expenditures primarily through the Company's proceeds from the commercialization
of Visudyne, public and private sales of equity securities, licensing and
collaborative funding arrangements with strategic partners, and interest income.
For the three months ended June 30, 2004, the Company generated $28.8 million of
cash from operations, $2.1 million from stock option exercises, and used $3.7
million in purchases of property and equipment and $0.7 million for deferred
acquisition costs relating to Atrix Laboratories, Inc. This compared with $14.0
million generated from operations, $1.6 million from stock option exercises, and
$0.3 million used in purchases of property and equipment in the same period in
2003. Cash flow from operations for the three months ended June 30, 2004
increased from the same period in 2003 as a result of increased net income ($3.5
million), a decrease in inventory level during the period as compared to an
increase in inventory in the same period in 2003 ($5.2 million), an increase in
income taxes payable ($1.7 million), a decrease in deferred revenue offset by
increased inventory shipments to Novartis Ophthalmics as compared to the same
period in 2003 ($3.9 million). These increases were offset by an increase in
accounts receivable as a result of Visudyne sales growth ($2.9 million), an
increase in other assets ($2.6 million) due to higher levels of inventory held
by Novartis Ophthalmics, and a lower level of accounts payable ($1.5 million) as
compared to 2003. In aggregate, cash, cash equivalents and short-term investment
securities increased by $15.1 million during the three months ended June 30,
2004.
20
For the six months ended June 30, 2004, the Company generated $41.1 million of
cash from operations, $13.8 million from stock option exercises, and used $6.9
million in purchases of property and equipment, $0.7 million for deferred
acquisition costs relating to Atrix Laboratories, Inc. and $2.3 million for the
purchase of Kinetek Pharmaceuticals, Inc. This compared with $24.3 million
generated from operations, $2.6 million from stock option exercises, and $2.2
million used in purchases of property and equipment in the same period in 2003.
Cash flow from operations for the six months ended June 30, 2004 increased from
the same period in 2003 as a result of increased net income ($16.0 million), the
utilization of previously benefited tax losses ($1.9 million), a decrease in
inventory level during the period as compared to an increase in inventory in the
same period in 2003 ($2.3 million), a reduction in other assets ($7.0 million)
due to realized gains from foreign exchange contracts, restructuring related
payment of severance and benefits in the prior year ($2.0 million), a decrease
in deferred revenue offset by increased inventory shipments to Novartis
Ophthalmics as compared to the same period in 2003, and an increase in income
taxes payable ($1.7 million). These increases were offset by the recognition of
tax losses for future utilization ($10.4 million extraordinary gain), an
increase in accounts receivable as a result of Visudyne sales growth ($9.1
million), a lower level of accounts payable ($1.0 million), a lower level of
accrued liabilities ($3.9 million) as compared to 2003 due to payout of interest
on the convertible senior notes, and foreign exchange contracts. In aggregate,
cash, cash equivalents and short-term investment securities increased by $28.8
million during the six months ended June 30, 2004.
Interest and Foreign Exchange Rates
The Company is exposed to market risk related to changes in interest and foreign
currency exchange rates, each of which could adversely affect the value of the
Company's current assets and liabilities. At June 30, 2004, the Company had an
investment portfolio consisting of fixed interest rate securities with an
average remaining maturity of approximately 32 days. If market interest rates
were to increase immediately and uniformly by 10% of levels at June 30, 2004,
the fair value of the portfolio would decline by an immaterial amount.
At June 30, 2004, the Company had $524.2 million in cash and short-term
investments (approximately $176.5 million of which was denominated in U.S.
dollars) and $172.5 million of U.S. dollar denominated debt. If the U.S. dollar
were to decrease in value by 10% against the Canadian dollar, the decline in
fair value of the Company's U.S. dollar denominated cash and short-term
investments will be mostly offset by the decline in the fair value of the
Company's $172.5 million U.S. dollar denominated long-term debt, resulting in an
immaterial amount of unrealized foreign currency translation loss.
The Company enters into foreign exchange contracts to manage exposures to
currency rate fluctuations related to its expected future net income and cash
flows. The net unrealized loss in respect of such foreign currency contracts,
for the three and six months ended June 30, 2004, were approximately $0.4
million and $0.7 million (2003 - gains of $2.3 million and $5.4 million
respectively) and were included in the Company's results of operations.
The Company purchases goods and services primarily in Canadian and U.S. dollars
and earns a significant portion of its revenues in U.S. dollars. Foreign
exchange risk is also managed by satisfying U.S. dollar denominated expenditures
with U.S. dollar cash flows or assets.
Contractual Obligations
The Company's material contractual obligations as of June 30, 2004 comprised the
Company's long term debt, Visudyne supply agreements with contract
manufacturers, clinical and development agreements, and operating lease
commitments for office space and office equipment. Details of these contractual
obligations are described in the Company's 2003 Annual Report on Form 10-K under
the section "Liquidity and Capital Resources - Contractual Obligations".
General
On June 14, 2004, the Company and Atrix Laboratories Inc. signed a definitive
merger agreement, after unanimous approval by the boards of directors of both
companies, for QLT to acquire 100% of Atrix's common stock. Under the terms of
the agreement, each share of Atrix common stock will be exchanged for one QLT
common share and $14.61 in cash. The estimated cash component of this
transaction is approximately $334 million. The transaction is subject to
customary closing conditions, as well as approval by the shareholders of both
QLT and Atrix. The Company believes that its available cash resources and
working capital are sufficient to fund this acquisition. The Company expects
that it will have cash balances of approximately $300 million dollars following
the acquisition and believes that these remaining cash resources, plus working
capital and its cash generating capabilities, should be sufficient to satisfy
the funding of product development programs, and other operating and capital
requirements for the reasonably foreseeable future.
21
The Company's working capital and capital requirements will depend upon numerous
factors, including: the ability of the Company to successfully execute its
integration strategies or achieve planned synergies following the proposed
merger with Atrix; the progress of the Company's preclinical and clinical
testing; fluctuating or increasing manufacturing requirements and R&D programs;
the timing and cost of obtaining regulatory approvals; the levels of resources
that the Company devotes to the development of manufacturing, marketing and
support capabilities; technological advances; new product launches by
competitors; the status of competition; the cost of filing, prosecuting and
enforcing the Company's patent claims and other intellectual property rights;
the ability of the Company to establish collaborative arrangements with other
organizations; and the outcome of legal proceedings.
The Company may require additional capital in the future to fund clinical and
product development costs for certain product applications or other technology
opportunities, and strategic acquisitions of products, product candidates,
technologies or other businesses. Accordingly, the Company may seek funding from
a combination of sources, including product licensing, joint development and new
collaborative arrangements, additional equity and debt financing or from other
sources. No assurance can be given that additional funding will be available or,
if available, on terms acceptable to the Company. If adequate capital is not
available, the Company's business can be materially and adversely affected.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See 'Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources'.
ITEM 4. CONTROLS AND PROCEDURES
The Company maintains a set of disclosure controls and procedures designed to
ensure that information required to be disclosed in filings made pursuant to the
Securities Exchange Act of 1934 is recorded, processed, summarized and reported
within the time periods specified in the Securities and Exchange Commission's
rules and forms. The Company's principal executive and financial officers have
evaluated the Company's disclosure controls and procedures as of the end of the
period covered by this report.
No change was made to our internal controls over financial reporting in
connection with this evaluation that has materially affected, or is reasonably
likely to materially affect, such internal controls over financial reporting.
22
- --------------------------------------------------------------------------------
PART II - OTHER INFORMATION
- --------------------------------------------------------------------------------
ITEM 1. LEGAL PROCEEDINGS
Certain of the Company's legal proceedings are discussed below and in Note 13 to
the unaudited consolidated financial statements, "Contingencies". While the
Company believes these proceedings are without merit and intends to vigorously
defend against these claims, it is impossible to predict accurately or determine
the eventual outcome of these proceedings.
(a) PATENT LITIGATION WITH MEEI
The First MEEI Lawsuit
In April 2000, Massachusetts Eye and Ear Infirmary ("MEEI") filed a civil suit
complaint against the Company in the United States District Court for the
District of Massachusetts (the "Court") seeking to establish exclusive rights
for MEEI as the owner of certain inventions relating to the use of verteporfin
as the photoactive agent in the treatment of certain eye diseases including AMD.
In 2002 QLT moved for summary judgment against MEEI on all counts of MEEI's
complaint. The Court granted QLT's motions, thus dismissing all of MEEI's claims
in the lawsuit. Final judgment of dismissal was entered in April 2003. In May
2003, MEEI filed a notice of appeal, and QLT filed a notice of cross-appeal with
respect to a contested discovery order entered by the district court. These
appeals are pending before the Court of Appeal for the First Circuit.
The lawsuit relates, in part, to an ongoing dispute involving U.S. Patent No.
5,798,349 (the "'349 Patent") which was issued in 1998 to the Company, MEEI and
Massachusetts General Hospital ("MGH") as co-owners. The complaint alleged
breach of contract, misappropriation of trade secrets, conversion,
misrepresentation, unjust enrichment, unfair trade practices and related claims
and asked that the Court: (i) declare MEEI the owner of certain inventions
claimed in the '349 Patent; (ii) enjoin the Company from infringement of those
claims or any action that would diminish the validity or value of such claims;
(iii) declare that the Company breached an agreement with MEEI to share
equitably in any proceeds derived as a result of collaboration leading to the
'349 Patent; (iv) impose a constructive trust upon the Company for any benefit
that the Company has or will derive as a result of the '349 Patent; and (v)
award MEEI monetary relief for misappropriation of trade secrets in an amount
equal to the greater of MEEI's damages or the Company's profits from any such
misappropriation, and double or treble damages under Massachusetts law.
QLT's counterclaim in this lawsuit requesting correction of inventorship of the
'349 patent to add an additional MGH inventor, was stayed by the Court pending
the outcome of the second MEEI lawsuit described below. QLT voluntarily
dismissed the remainder of its counterclaims in the first lawsuit without
prejudice in April 2003.
The Second MEEI Lawsuit
In May 2001, the United States Patent Office issued United States Patent No.
6,225,303 (the "'303 Patent") to MEEI. The '303 Patent is derived from the same
patent family as the '349 Patent and claims a method of treating unwanted
choroidal neovasculature in a shortened treatment time using verteporfin. The
patent application which led to the issuance of the '303 patent was filed and
prosecuted by attorneys for MEEI and, in contrast to the '349 patent, named only
MEEI researchers as inventors.
The same day the '303 patent was issued, MEEI commenced a second civil suit
against the Company and Novartis Ophthalmics in the same Court alleging
infringement of the '303 Patent. In the second suit MEEI seeks damages and
injunctive relief for patent infringement and unjust enrichment. The Company has
answered the complaint, denying its material allegations and raising a number of
affirmative defenses, and has asserted counterclaims against MEEI and the two
MEEI researchers who are named as inventors on the '303 patent.
The Company's counterclaim seeks to correct inventorship of the '303 patent by
adding QLT and MGH researchers as joint inventors and asks the court to declare
that QLT and MGH are co-owners of the '303 patent. The counterclaim also
requests a declaration that QLT does not infringe, induce infringement, or
contribute to infringement of the '303 patent, asserting, among other reasons,
that QLT and MGH are rightful co-owners of the patent and QLT has a license from
MGH of MGH's co-ownership rights under the patent. In addition, the counterclaim
seeks a declaratory judgment that the '303
23
patent is invalid and unenforceable and an award of monetary damages for breach
of material transfer agreements governing MEEI's use of verteporfin, based upon
MEEI's failure to notify QLT of MEEI's intent to file the patent application
that led to the issuance of the '303 patent to MEEI.
In November 2001, MGH sought and was granted leave to intervene in the action to
protect its rights in the '303 patent. MGH's complaint in intervention, like
QLT's counterclaim, asks the court to correct inventorship of the '303 patent by
adding QLT and MGH researchers as joint inventors of the inventions claimed in
the patent and by declaring that MGH is a joint owner of those inventions.
In April 2003, QLT moved to dismiss MEEI's claim for unjust enrichment on the
grounds that this claim had been previously decided by a court. The Court
granted QLT's motion on May 28, 2003.
No trial has been scheduled in the second lawsuit, and none is expected until
2005 at the earliest.
The Company believes MEEI's claims in both lawsuits are without merit and
intends to vigorously defend against such actions and any appeals and pursue its
counterclaims. The outcomes of these disputes are not presently determinable or
estimable and there can be no assurance that the matters will be resolved in
favor of the Company. If the lawsuits are not resolved in the Company's favor,
the Company may be obliged to pay damages, to pay an additional royalty or
damages for access to the inventions covered by claims in issued U.S. patents,
may be subject to such equitable relief as a court may determine (which could
include an injunction) or may be subject to a remedy combining some or all of
the foregoing.
(b) SECURITIES CLASS ACTION
On March 31, 2004, the United States District Court of the Southern District of
New York issued an Opinion and Order dismissing in its entirety a securities
class action which had been commenced in 2001 against the Company, Julia Levy,
(former President and Chief Executive Officer and a current Director of the
Company) and Kenneth Galbraith (former Executive Vice President and Chief
Financial Officer and Corporate Secretary of the Company). The class action was
dismissed on the basis that the plaintiffs had failed to state a valid claim for
securities fraud. On April 14, 2004, the plaintiffs filed a motion with the same
court for reconsideration of the Opinion and Order dismissing the class action.
On June 21, 2004, the United States District Court of the Southern District of
New York issued an Order denying the plaintiffs' motion for reconsideration.
The time period within which the plaintiffs could appeal the Opinion and Order
dismissing the class action complaint expired on July 22, 2004. No appeal was
filed by that date. QLT believes that this lawsuit has now been finally
concluded.
24
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES
The following table sets forth information regarding the Company's
purchases of its Common Stock on a monthly basis during the second
quarter of 2004:
Issuer Purchases of Equity Securities
--------------------------------------------------------------------------------------------------------------
Total Number of
Shares Purchased
as Part of Maximum Number of
Total Number Publicly Shares that May Yet
of Shares Average Price Announced Plans Be Purchased Under
Period Purchased Paid per Share or Programs the Plans or Programs
------------------------------ --------------- ------------------- ------------------ -----------------------
April 1, 2004 through - - - 5,000,000
April 30, 2004
May 1, 2004 through
May 31, 2004 - - - 5,000,000
June 1, 2004 through
June 30, 2004 - - - 5,000,000
--------------- ------------------- ------------------ -----------------------
Total - - - 5,000,000
--------------- ------------------- ------------------ -----------------------
On August 11, 2003 the Company announced a share buy-back program.
Share purchases by the Company would be made as a normal course issuer
bid. The Company may purchase for cancellation up to a maximum of
5,000,000 common shares. All purchases would be effected in the open
market through the facilities of The Toronto Stock Exchange and the
NASDAQ National Market, in accordance with all regulatory
requirements, and would be effected during the period commencing
August 13, 2003 and ending August 12, 2004. As of June 30, 2004, the
Company had not purchased any of its common shares under this program.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The annual meeting of shareholders of the Company (the "Meeting") was
held on May 26, 2004. All nominees to the Board of Directors identified
and described in the Company's proxy circular and proxy statement dated
April 28, 2004 were elected at the Meeting. The resolutions voted on at
the Meeting, and the outcome, was as follows:
(i) to appoint Deloitte & Touche LLP as independent auditors for the
Company for the ensuing year and to authorize the Directors to fix the
remuneration to be paid to the auditors.
The proxies received by the Company for the Meeting and votes cast at
the Meeting, were voted as follows on the foregoing resolution, and the
resolution was declared passed:
Shares For Shares Against Shares Withheld Abstentions
---------- -------------- --------------- -----------
42,991,441 8,545 25,872 375
(ii) to fix the number of Directors for the ensuing year at eight.
The proxies received by the Company for the Meeting and votes cast at
the Meeting were voted as follows on
25
the foregoing resolution, and the resolution was declared passed:
Shares For Shares Against Shares Withheld Abstentions
---------- -------------- --------------- -----------
43,064,301 32,048 8,451 455
(iii) to elect Directors for the ensuing year.
The proxies received by the Company for the Meeting and votes cast at
the Meeting were voted as follows on the resolution electing the eight
directors, and each of the directors was declared elected:
Directors Shares For Shares Withheld Abstentions
--------- ---------- --------------- -----------
E. Duff Scott 43,073,522 41,775 375
Paul J. Hastings 43,074,347 40,950 375
Julia G. Levy 43,073,527 41,770 375
C. Boyd Clarke 42,952,074 163,223 375
Peter A. Crossgrove 43,069,396 45,901 375
Ronald D. Henriksen 43,072,126 43,171 375
Alan C. Mendelson 43,071,694 43,603 375
Jack L. Wood 43,075,422 39,875 375
There were no broker non-votes with respect to any of the resolutions
voted upon at the meeting.
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit
Number Description
------- ------------
31.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002: Paul J. Hastings, President and Chief Executive
Officer;
31.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002: Michael J. Doty, Senior Vice President and Chief
Financial Officer;
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002: Paul J. Hastings, President and Chief Executive
Officer;
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002: Michael J. Doty, Senior Vice President and Chief
Financial Officer;
(b) Reports on Form 8-K
(i) On April 1, 2004, the Company reported, under "Item 5 - Other
Events", that effective April 1, 2004, the Centers for Medicare
and Medicaid Services would implement its decision to provide
coverage for ocular photodynamic therapy with Visudyne(R) to
patients with AMD who have occult and minimally classic lesions
that are four disc areas or less in size and show evidence of
recent disease progression.
(ii) On April 2, 2004, the Company reported, under "Item 5 - Other
Events", that the United States District Court for the Southern
District of New York had entered an order in favor of the
Company
26
dismissing with prejudice the consolidated securities class
action complaint which was commenced in 2001 against the
Company, Dr. Julia Levy and Kenneth Galbraith.
(iii) On April 22, 2004, the Company reported, under "Item 5 - Other
Events", that its alliance partner, Novartis, had announced
global Visudyne sales of approximately US$101.1 million for the
quarter ended March 31, 2004.
(iv) On April 23, 2004, the Company reported under "Item 5 - Other
Events", that reimbursement in Japan for Visudyne in the
treatment of the "wet" form of AMD with all types of subfoveal
choroidal neovascularization was approved by the Japanese
Ministry of Health, Labour and Welfare.
(v) On April 27, 2004, pursuant to Securities and Exchange
Commission Release No. 33-8216 dated March 27, 2003, and
pursuant to Item 12, "Disclosure of Results of Operations
and Financial Conditions", the Company furnished its
financial results for the quarter ended March 31, 2004.
(vi) On June 2, 2004, the Company reported under "Item 5 - Other
Events", that it had entered into a Cooperative Research and
Development Agreement with the National Eye Institute to study
the effects of preservative-free triamcinolone acetonide as an
adjunct to Visudyne therapy in patients with wet AMD.
(vii) On June 14, 2004, the Company reported under "Item 5 - Other
Events" that it had entered into an Agreement and Plan of
Merger (the "Merger Agreement"), with Atrix Laboratories,
Inc. to acquire 100% of Atrix Laboratories, Inc. common stock.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
QLT INC.
------------------------------------------
(Registrant)
Date: August 6, 2004 By: /s/ Paul J. Hastings
-------------------------------------
Paul J. Hastings
President and Chief Executive Officer
(Principal Executive Officer)
Date: August 6, 2004 By: /s/ Michael J. Doty
-------------------------------------
Michael J. Doty
Senior Vice-President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
27
EXHIBIT INDEX
Exhibit
Number Description
- ------ ------------
31.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002: Paul J. Hastings, President and Chief Executive Officer;
31.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002: Michael J. Doty, Senior Vice President and Chief Financial
Officer;
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002: Paul J. Hastings, President and Chief Executive Officer;
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002: Michael J. Doty, Senior Vice President and Chief Financial
Officer;
28