Back to GetFilings.com
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(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, 2002
------------------------------------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to .
----------------- ---------------
Commission file number 0-15190
--------------------------------------------------------
OSI Pharmaceuticals, Inc.
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 13-3159796
- ------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
58 S. Service Road, Suite 110, Melville, New York, 11747
- ------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
631-962-2000
- ------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
- ------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report.)
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
------- -------
APPLICABLE ONLY TO CORPORATE ISSUERS:
At July 29, 2002 the registrant had outstanding 36,319,003 shares of common
stock, par value $.01 per share.
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONTENTS
Page No.
--------
PART I - FINANCIAL INFORMATION....................................... 1
Item 1. Financial Statements
Consolidated Balance Sheets
- June 30, 2002 (unaudited) and September 30, 2001.......... 1
Consolidated Statements of Operations
- Three months ended June 30, 2002 and 2001 (unaudited)..... 2
Consolidated Statements of Operations
- Nine months ended June 30, 2002 and 2001 (unaudited)...... 3
Consolidated Statements of Cash Flows
- Nine months ended June 30, 2002 and 2001 (unaudited)...... 4
Notes to Consolidated Financial Statements (unaudited)...... 5
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations......................... 13
Item 3. Quantitative and Qualitative Disclosures about Market Risk.. 24
PART II - OTHER INFORMATION.......................................... 26
Item 1. Legal Proceedings........................................... 26
Item 2. Changes in Securities and Use of Proceeds................... 26
Item 3. Defaults Upon Senior Securities............................. 26
Item 4. Submission of Matters to a Vote of Security Holders......... 26
Item 5. Other Information........................................... 26
Item 6. Exhibits and Reports on Form 8-K............................ 26
SIGNATURES........................................................... 28
EXHIBIT INDEX........................................................ 29
i
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
June 30, September 30,
2002 2001
------------- -------------
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents ................................................... $ 192,270,413 $ 225,149,872
Investment securities ....................................................... 318,223,476 326,328,589
Restricted investment securities - short-term................................ 7,970,600 --
Receivables, including amounts due from related parties of $0.3 and $2.4
million at June 30, 2002 and September 30, 2001, respectively.............. 462,502 2,577,407
Interest receivable ......................................................... 3,379,993 3,820,027
Grants receivable ........................................................... 34,270 235,622
Prepaid expenses and other current assets ................................... 5,796,876 3,120,605
------------- -------------
Total current assets .................................................. 528,138,130 561,232,122
------------- -------------
Restricted investment securities - long-term ................................ 15,201,434 --
Property, equipment and leasehold improvements - net ........................ 44,672,177 25,347,297
Compound library assets - net ............................................... 350,158 923,668
Other assets ................................................................ 1,708,342 502,019
Debt issuance costs - net ................................................... 6,568,604 --
Intangible assets - net ..................................................... 39,370,924 3,684,081
------------- -------------
$ 636,009,769 $ 591,689,187
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses, including amounts due to related
parties of $2.2 and $0.3 million at June 30, 2002 and September 30, 2001,
respectively............................................................... $ 19,422,445 $ 18,063,378
Unearned revenue - current, including amounts received in advance
from related parties of $8.3 and $8.7 million as of June 30, 2002 and
September 30, 2001, respectively .......................................... 9,209,093 9,621,799
Loans and capital leases payable - current .................................. 354,942 111,136
------------- -------------
Total current liabilities ............................................. 28,986,480 27,796,313
------------- -------------
Other liabilities:
Unearned revenue - long-term, including amounts received in advance from
related parties of $4.2 and $10.7 million as of June 30, 2002 and
September 30, 2001, respectively .......................................... 4,385,417 11,553,571
Loans payable - long-term ................................................... 3,590 51,703
Convertible senior subordinated notes ....................................... 200,000,000 --
Deferred acquisition costs .................................................. -- 375,000
Accrued postretirement benefit cost ......................................... 2,383,254 2,080,254
------------- -------------
Total liabilities ..................................................... 235,758,741 41,856,841
------------- -------------
Stockholders' equity:
Preferred stock, $.01 par value; 5,000,000 shares authorized; no shares
issued at June 30, 2002 and September 30, 2001 ............................ -- --
Common stock, $.01 par value; 200,000,000 shares authorized; 37,254,587 and
35,901,318 shares issued at June 30, 2002 and September 30, 2001,
respectively .............................................................. 372,546 359,013
Additional paid-in capital .................................................. 707,910,683 664,095,048
Deferred compensation ....................................................... (163,223) (3,921,845)
Accumulated deficit ......................................................... (302,080,792) (105,743,621)
Accumulated other comprehensive income ...................................... 644,359 1,476,296
------------- -------------
406,683,573 556,264,891
Less: treasury stock, at cost; 939,618 shares at June 30, 2002 and
September 30, 2001 .......................................................... (6,432,545) (6,432,545)
------------- -------------
Total stockholders' equity ............................................ 400,251,028 549,832,346
------------- -------------
Commitments and contingencies
$ 636,009,769 $ 591,689,187
============= =============
See accompanying notes to unaudited consolidated financial statements.
-1-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended
June 30,
-------------------------------------
2002 2001
------------ ------------
Revenues:
Collaborative program revenues, including $0.8 and $2.5
million from related parties in 2002 and 2001 .................. $ 1,973,778 $ 3,852,288
License and related revenues, including $2.1 million
from related parties in 2002 and 2001 .......................... 2,402,083 2,427,083
Other research revenues .......................................... 134,544 59,742
------------ ------------
4,510,405 6,339,113
------------ ------------
Expenses:
Research and development ......................................... 25,804,666 12,842,562
Selling, general and administrative .............................. 8,973,252 5,085,236
Amortization of intangibles ...................................... 314,948 185,473
Production and service costs ..................................... 3,380 35,503
------------ ------------
35,096,246 18,148,774
------------ ------------
Loss from operations ................................ (30,585,841) (11,809,661)
Other income (expense):
Net investment income ............................................ 3,474,585 7,079,482
Interest expense ................................................. (2,011,490) (5,390)
Other expense - net .............................................. (317,439) (24,515)
------------ ------------
Net loss ............................................................ $(29,440,185) $ (4,760,084)
============ ============
Basic and diluted weighted average number of shares of common stock
outstanding ...................................................... 36,291,500 34,801,905
============ ============
Basic and diluted net loss per weighted average share of common stock
outstanding ...................................................... $ (0.81) $ (0.14)
============ ============
See accompanying notes to unaudited consolidated financial statements.
-2-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Nine Months Ended
June 30,
--------------------------------------
2002 2001
------------- ------------
Revenues:
Collaborative program revenues, principally from related parties . $ 9,130,884 $ 14,174,100
License and related revenues, including $6.3 and $4.2 million
from related parties in 2002 and 2001, respectively ............ 7,122,916 5,022,917
Other research revenues .......................................... 918,974 368,478
------------- ------------
17,172,774 19,565,495
------------- ------------
Expenses:
Research and development ......................................... 69,584,038 34,191,211
Acquired in-process research and development (see note 3) ........ 130,200,000 --
Selling, general and administrative .............................. 21,029,038 10,809,904
Amortization of intangibles ...................................... 930,524 556,419
Production and service costs ..................................... 74,795 239,620
------------- ------------
221,818,395 45,797,154
------------- ------------
Loss from operations ................................ (204,645,621) (26,231,659)
Other income (expense):
Net investment income ............................................ 11,513,997 19,941,432
Interest expense ................................................. (3,359,292) (17,661)
Other income (expense) - net ..................................... 153,745 (122,826)
------------- ------------
Net loss before cumulative effect of accounting change .............. (196,337,171) (6,430,714)
Cumulative effect of the change in accounting for the recognition
of upfront fees ................................................ -- (2,625,000)
------------- ------------
Net loss ............................................................ $(196,337,171) $ (9,055,714)
============= ============
Basic and diluted weighted average number of shares of common stock
outstanding ...................................................... 35,855,127 33,493,603
============= ============
Basic and diluted net loss per weighted average share of common stock
outstanding
Before cumulative effect of accounting change .................. $ (5.48) $ (0.19)
Cumulative effect of accounting change ......................... -- (0.08)
------------- ------------
After cumulative effect of accounting change ................... $ (5.48) $ (0.27)
============= ============
See accompanying notes to unaudited consolidated financial statements.
-3-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended
June 30,
-----------------------------------
2002 2001
------------- -------------
Cash flows from operating activities:
Net loss ............................................................. $(196,337,171) $ (9,055,714)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities:
In-process research and development charge on acquisition
of Gilead's oncology assets .................................... 130,200,000 --
Loss (gain) on sale of investments ............................... 185,563 (304,890)
Loss on sale of equipment ........................................ 5,625 64,865
Depreciation and amortization of equipment and leasehold
improvements .................................................. 5,536,261 2,316,421
Amortization of other assets ..................................... 1,910,999 1,772,477
Accretion of deferred acquisition costs .......................... -- 14,611
Non-cash compensation charges - net .............................. 1,708,254 3,921,762
Cumulative effect of the change in accounting for the
recognition of upfront fees .................................... -- 2,625,000
Changes in assets and liabilities, net of the effects of
business acquisition:
Receivables ...................................................... 2,119,005 (1,234,089)
Interest receivable .............................................. 440,034 (3,181,079)
Grants receivable ................................................ 201,352 381,667
Prepaid expenses and other current assets ........................ (2,579,432) (1,301,423)
Other assets ..................................................... (542,678) (1,200,181)
Accounts payable and accrued expenses ............................ (393,687) (1,427,019)
Unearned revenue ................................................. (7,580,888) 19,805,683
Accrued postretirement benefit cost .............................. 303,000 225,000
------------- -------------
Net cash provided by (used in) operating activities ..................... (64,823,763) 13,423,091
------------- -------------
Cash flows from investing activities:
Payments for the acquisition of Gilead's oncology assets ............. (135,742,156) --
Proceeds from sale of equipment and leasehold improvements ........... 1,000 35,000
Purchases of investments ............................................. (306,260,051) (418,202,001)
Maturities and sales of investments .................................. 312,913,450 175,557,110
Purchases of restricted investments - net ............................ (23,172,034) --
Additions to property, equipment and leasehold improvements .......... (13,632,523) (4,590,735)
------------- -------------
Net cash used in investing activities ................................... (165,892,314) (247,200,626)
------------- -------------
Cash flows from financing activities:
Proceeds from the issuance of convertible senior subordinated notes .. 200,000,000 --
Debt issuance costs .................................................. (6,974,078) --
Net proceeds from issuance of common stock ........................... -- 474,199,232
Proceeds from exercise of stock options, stock warrants,
employee purchase plan and other ................................... 5,504,536 2,717,340
Payments on loans and capital leases payable ......................... (432,165) (102,733)
------------- -------------
Net cash provided by financing activities ............................... 198,098,293 476,813,839
------------- -------------
Net increase (decrease) in cash and cash equivalents .................... (32,617,784) 243,036,304
Effect of exchange rate changes on cash and cash equivalents ............ (261,675) (159,696)
Cash and cash equivalents at beginning of period ........................ 225,149,872 48,392,635
------------- -------------
Cash and cash equivalents at end of period .............................. $ 192,270,413 $ 291,269,243
============= =============
Non-cash activities:
Issuance of common stock in satisfaction of deferred acquisition costs $ 375,000 $ --
============= =============
Issuance of common stock in connection with acquisition of Gilead's
oncology assets .................................................... $ 40,000,000 $ --
============= =============
See accompanying notes to unaudited consolidated financial statements.
-4-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) Basis of Presentation
In the opinion of management, the accompanying unaudited consolidated financial
statements contain all adjustments (consisting of only normal recurring
accruals) necessary to present fairly the financial position of OSI
Pharmaceuticals, Inc. and its subsidiaries, collectively referred to as the
Company, as of June 30, 2002 and September 30, 2001, their results of operations
for the three and nine months ended June 30, 2002 and 2001 and their cash flows
for the nine months ended June 30, 2002 and 2001. Certain reclassifications have
been made to the prior period consolidated financial statements to conform them
to the current presentation.
It is recommended that these consolidated financial statements be read in
conjunction with the consolidated financial statements and notes thereto in the
Company's annual report on Form 10-K for the fiscal year ended September 30,
2001. Results for interim periods are not necessarily indicative of results for
the entire year.
(2) Revenue Recognition
Prior to October 1, 2000, the Company recognized all nonrefundable upfront
license fees, including upfront technology access fees, as revenue when received
and when all contractual obligations of the Company relating to such fees had
been fulfilled. Effective October 1, 2000, the Company changed its method of
accounting for upfront nonrefundable technology access and other upfront fees to
recognize such fees over the term of the related research collaboration period
in accordance with the guidance provided in the Securities and Exchange
Commission's Staff Accounting Bulletin No. 101 - "Revenue Recognition in
Financial Statements," as amended ("SAB No. 101"). The Company received a total
of $25 million in upfront fees from Genentech, Inc. and Roche in January 2001
which is being recognized evenly over the expected three-year term of the
Company's required research and development efforts under the terms of the
agreements.
For the year ended September 30, 2000, the Company recognized the full $3.5
million technology access fee received from Tanabe Seiyaku Co., Ltd. ("Tanabe")
related to a four-year term collaboration. The Company's adoption of SAB No.
101, effective October 1, 2000, resulted in a $2.6 million cumulative effect of
a change in accounting principle related to the Tanabe fee and was reported as a
charge in the quarter ended December 31, 2000. The cumulative effect was
initially recorded as unearned revenue and is being recognized as revenue over
the remaining term of the collaboration agreement.
Collaborative program revenues represent funding arrangements for research and
development in the field of biotechnology and are recognized when earned in
accordance with the terms of the contracts and the related research and
development activities undertaken. Other research revenues are recognized
pursuant to the terms of grants which provide reimbursement of certain expenses
related to the Company's other research and development activities.
Collaborative and other research revenues are accrued for expenses incurred in
advance of the reimbursement and
-5-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
deferred for cash payments received in advance of expenditures. Such deferred
revenues are recorded as revenue when earned. Included in license and related
revenues are patent license fees, maintenance fees and technology access and
other upfront fees.
During the nine months ended June 30, 2001, the impact of the change in
accounting principle increased the net loss by $2.0 million, or $0.06 per share,
comprised of the $2.6 million cumulative effect of the change as described above
($0.08 per share), net of the $0.7 million of related deferred revenue that was
recognized as revenue during the nine months ended June 30, 2001 ($0.02 per
share).
(3) Acquisition
On December 21, 2001, the Company acquired certain assets from Gilead Sciences,
Inc. ("Gilead") pursuant to the terms of an Asset Purchase Agreement dated as of
November 26, 2001. Gilead is a biopharmaceutical company that discovers,
develops, manufactures and commercializes proprietary therapeutics for
infectious diseases. The assets purchased by the Company included: (a) a
pipeline of three clinical oncology candidates, (b) certain related intellectual
property, and (c) rights to Gilead's leased facilities located in Boulder,
Colorado, as well as leasehold improvements and certain fixed assets. In
connection with the acquisition, the Company retained 117 Gilead employees
representing expertise in clinical operations, regulatory affairs, toxicology
and in vivo pharmacology. The results of operations of Gilead's oncology assets
have been included in the consolidated statement of operations commencing as of
the date of the closing. In consideration for the assets, the Company paid
approximately $135.7 million, which includes professional fees and the
assumption of certain liabilities, and issued 924,984 shares of common stock,
valued at $40 million. The value of the 924,984 common shares issued was based
on the average closing price of the Company's stock for the five days prior to
the date of closing. The Company would also be obligated to pay contingent
consideration of up to an additional $30 million in either cash or a combination
of cash and common stock, at its option, upon the achievement of certain
milestones related to the development of OSI-211 (formerly NX211), the most
advanced of Gilead's oncology product candidates acquired by the Company.
Additionally, the Company assumed certain royalty and milestone obligations to
third parties in connection with the oncology candidates, acquired as part of
the acquisition.
The acquisition was accounted for under the purchase method of accounting. The
purchase price was allocated to the acquired assets and liabilities assumed
based on the fair values as of the date of the acquisition. The Company obtained
a third-party valuation to assist management in determining the fair value of
certain assets. The excess of the purchase price paid over the fair value of the
net assets acquired representing goodwill was approximately $35.7 million.
During the three months ended March 31, 2002, the Company recorded an increase
of $800,000 to the goodwill for additional payments to Gilead for
acquisition-related costs. In accordance with Financial Accounting Standards
Board SFAS No. 142, "Goodwill and Other Intangible Assets," which is applicable
to acquisitions occurring after July 1, 2001, such goodwill will not be
amortized. The value assigned to the acquired in-process research and
development ("R&D")
-6-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
was determined by identifying those acquired in-process research projects for
which: (a) technological feasibility had not been established at the acquisition
date, (b) there was no alternative future use, and (c) the fair value was
estimable based on reasonable assumptions. The acquired in-process R&D was
valued at $130.2 million and expensed at the acquisition date in the
consolidated statement of operations for the three months ended December 31,
2001. The portion of the purchase price assigned to the acquired in-process R&D
was allocated to the following three clinical oncology candidates: OSI-211
(formerly NX211), a liposomal lurtotecan ($19.9 million), OSI-7904L (formerly
GS7904L), a liposomal thymidylate ($13.4 million) and OSI-7836 (formerly
GS7836), a Gemzar(R) analog ($96.9 million).
The purchase price was allocated as follows (in thousands):
In-process R&D acquired....................................... $130,200.0
Fixed assets.................................................. 10,528.7
Goodwill...................................................... 36,527.9
Prepaid expenses and other assets............................. 663.5
----------
Total assets and in-process R&D acquired...................... 177,920.1
Less liabilities assumed...................................... (2,177.6)
----------
Cash and common stock paid.................................... $175,742.5
==========
The value of the acquired in-process R&D was determined by estimating the
projected net cash flows related to products under development, based upon the
future revenues to be earned upon commercialization of such products. In
determining the value of the in-process R&D, the assumed commercialization dates
for these products ranged from 2004 to 2008. Given the risks associated with the
development of new drugs, the revenue and expense forecasts were
probability-adjusted to reflect the risk of advancement through the approval
process. The risk adjustments applied were based on each compound's stage of
development at the time of assessment and the historical probability of
successful advancement for compounds at that stage. These modeled cash flows
were discounted back to their net present value. The projected net cash flows
from such projects were based on management's estimates of revenues and
operating profits related to such projects. The in-process R&D was valued based
on the income approach that focuses on the income-producing capability of the
assets. The underlying premise of this approach is that the value of an asset
can be measured by the present worth of the net economic benefit (cash receipts
less cash outlays) to be received over the life of the asset. Significant
assumptions and estimates used in the valuation of in-process R&D included: the
stage of development for each of the three projects; future revenues; growth
rates for each product; product sales cycles; the estimated life of a product's
underlying technology; future operating expenses; probability adjustments to
reflect the risk of developing the acquired technology into commercially viable
products; and a discount rate of 18% to reflect present value.
In connection with the acquisition, the Company adopted a Non-Qualified Stock
Option Plan for Former Employees of Gilead Sciences, Inc. The Company granted
ten-year options to purchase an aggregate of 693,582 shares of common stock of
the Company at a purchase price of $45.01
-7-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
per share, which represents the fair value of the Company's stock at the date
granted. The options vest one-third in a year from the date of grant and monthly
thereafter for twenty-four months.
The following pro forma financial information presents a summary of the
consolidated results of operations of the Company for the three and nine months
ended June 30, 2002 and 2001 assuming the acquisition had taken place as of
October 1, 2001 and 2000, respectively (in thousands, except per share
information):
Three months ended Nine months ended
June 30, June 30,
------------------------- ---------------------------
2002 2001 2002 2001
-------- -------- -------- ----------
Revenues ................................................. $ 4,510 $ 6,339 $ 17,173 $ 19,565
Net loss before non-recurring charge related to the
acquisition and cumulative effect of
accounting change .................................... (29,440) (14,326) (76,780) (34,239)
Net loss before non-recurring charge related to the
acquisition .......................................... (29,440) (14,326) (76,780) (36,864)
Basic and diluted net loss per share:
Before cumulative effect of accounting change ........ $ (0.81) $ (0.40) $ (2.14) $ (0.99)
Cumulative effect of accounting change ............... $ - $ - $ - $ (0.08)
-------- -------- -------- ----------
Before non-recurring charge related to the acquisition $ (0.81) $ (0.40) $ (2.14) $ (1.07)
======== ======== ======== ==========
The unaudited pro forma financial information has been prepared for comparative
purposes only. The pro forma information includes the historical unaudited
results of Gilead's oncology assets for the respective periods. The pro forma
financial information includes adjustments to the Company's historical results
to reflect incremental depreciation expense related to the mark-up of fixed
assets to fair value, reduced interest income generated from cash that was used
for the acquisition, additional interest expense and the issuance of 924,984
shares of common stock and excludes the nonrecurring charge of $130.2 million
related to the acquired in-process R&D. The pro forma information does not
purport to be indicative of operating results that would have been achieved had
the acquisition taken place on the dates indicated or the results that may be
obtained in the future.
(4) Note Offering
On February 1, 2002, the Company issued $200 million aggregate principal amount
of convertible senior subordinated notes ("Notes") in a private placement for
net proceeds to the Company of approximately $193.0 million. The Notes bear
interest at 4% per annum, payable semi-annually, and mature on February 1, 2009.
The Notes are convertible into shares of the Company's common stock at a
conversion price of $50 per share, subject to normal and customary adjustments
such as stock dividends or other dilutive transactions. The Company may redeem
the Notes, in whole or in part, at any time before February 1, 2005 if the
closing price of the Company's common stock has exceeded 150% of the conversion
price then in effect for a specified period of time ("Provisional Redemption").
Upon any such Provisional Redemption,
-8-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
the Company is required to pay interest that would have been due through
February 1, 2005. The Company may also redeem some or all of the Notes at any
time on or after February 1, 2005 if the closing price of the Company's common
stock has exceeded 140% of the conversion price then in effect for a specified
period of time. Upon a change in control, as defined in the indenture governing
the Notes, the holders of the Notes will have the right to require the Company
to repurchase all of the Notes, or a portion thereof, not previously called for
redemption at a purchase price equal to 100% of the principal amount of the
Notes purchased, plus accrued and unpaid interest. The Company may elect to pay
the purchase price in common stock instead of cash. The number of shares of
common stock a holder will receive will equal the repurchase price divided by
95% of the average of the closing prices of the Company's common stock for the
five-trading day period ending on the third business day prior to the repurchase
date. The related debt issuance costs of approximately $7.0 million were
deferred and are being amortized on a straight-line basis over the term of the
Notes.
With respect to the Notes, the Company pledged $22.9 million of U.S. government
securities ("Restricted Investment Securities") with maturities at various dates
through November 2004. Upon maturity, the proceeds of the Restricted Investment
Securities will be sufficient to pay the first six scheduled interest payments
on the Notes when due. The Company considers its Restricted Investment
Securities to be "held-to-maturity," as defined by SFAS No. 115, "Accounting for
Certain Investments in Debt and Equity Securities." These securities are
reported at their amortized cost, which includes the direct costs to acquire the
securities, plus the amortization of any discount or premium, and accrued
interest earned on the securities. The aggregate fair value and amortized cost
of the Restricted Investment Securities at June 30, 2002 were $23.3 million and
$23.2 million, respectively.
(5) Comprehensive Income (Loss)
Comprehensive income (loss) was as follows (in thousands):
Three months ended Nine months ended
June 30, June 30,
------------------------ -------------------------
2002 2001 2002 2001
-------- ------- --------- -------
Net loss ............................................. $(29,440) $(4,760) $(196,337) $(9,056)
Other comprehensive income (loss):
Foreign currency translation adjustments ........ 1,090 (119) 434 (294)
Unrealized holding gains (losses) arising
during period.................................. 1,405 (167) (1,465) 974
Less: Reclassification adjustment for (gains)
losses realized in net loss ................... 19 (97) 199 (305)
-------- ------- --------- -------
2,514 (383) (832) 375
-------- ------- --------- -------
Total comprehensive loss ............................. $(26,926) $(5,143) $(197,169) $(8,681)
======== ======= ========= =======
-9-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The components of accumulated other comprehensive income were as follows (in
thousands):
June 30, September 30,
2002 2001
------- -------
Cumulative foreign currency translation
adjustment ........................ $ (581) $(1,015)
Unrealized gains on available-for-sale
securities ........................ 1,225 2,491
------- -------
Accumulated other comprehensive income $ 644 $ 1,476
======= =======
(6) Net Loss per Common Share
A reconciliation between the numerators and the denominators of the basic and
diluted loss per share computation is as follows (in thousands, except per share
information):
Three months ended Nine months ended
June 30, June 30,
----------------------------- ---------------------------
2002 2001 2002 2001
---------- ---------- ---------- --------
Net loss available for common
stockholders ..................................... $ (29,440) $ (4,760) $ (196,337) $ (9,056)
========== ========== ========== ========
Weighted average common shares ........................ 36,292 34,802 35,855 33,494
Effect of dilutive stock options and convertible debt . -- -- -- --
---------- ---------- ---------- --------
Weighted average common and potential common
shares outstanding ............................... 36,292 34,802 35,855 33,494
========== ========== ========== ========
Basic loss per share .................................. $ (0.81) $ (0.14) $ (5.48) $ (0.27)
========== ========== ========== ========
Diluted loss per share ................................ $ (0.81) $ (0.14) $ (5.48) $ (0.27)
========== ========== ========== ========
For the three and nine months ended June 30, 2002, all outstanding stock options
and convertible debt were excluded in the net loss per share calculations
because their effect would have been anti-dilutive. For the three and nine
months ended June 30, 2001, all outstanding stock options were excluded in the
net loss per share calculations because their effect would have been
anti-dilutive.
(7) Consolidation of Facilities
In the fourth quarter of fiscal 2001, the Company announced its strategic
decision to close down its Tarrytown, New York facility and its Birmingham,
England facility. The operations at the Birmingham, England facility ceased on
March 31, 2002; however, the Company is still in the process of closing down the
facility. The operations at the Tarrytown, New York facility ceased on June 30,
2002, and the Company closed the facility in August 2002. The estimated cost to
close down these two facilities was approximately $5.1 million and was recorded
in R&D expense ($4.5 million) and in selling, general and administrative
expenses ($613,000) in the fourth quarter of fiscal 2001. This charge consisted
of a write down of
-10-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
equipment and leaseholds ($2.5 million), severance costs ($581,000) and
non-cancelable lease exit costs ($2.0 million).
At June 30, 2002, approximately $3.7 million remains in reserve relating to the
estimated cost for the consolidation implemented in the fourth quarter. The
consolidation activity for the nine months ended June 30, 2002 was as follows
(in thousands):
Write off of
Severance Lease Equipment and
Costs Exit Costs Leaseholds Total
----- ---------- ---------- -----
Balance at September 30, 2001 ........ $ 581 $ 2,000 $ 2,500 $ 5,081
Cash paid and write offs of
equipment and leaseholds .......... (625) (215) (639) (1,479)
Foreign currency translation and other
adjustments ....................... 44 24 72 140
----- ------- ------- -------
Balance at June 30, 2002 ............. $ -- $ 1,809 $ 1,933 $ 3,742
===== ======= ======= =======
(8) Sale of Diagnostics Business
On November 30, 1999, the Company sold assets of its diagnostics business to
Bayer Corporation including the assets of the Company's wholly-owned diagnostics
subsidiary, OSDI, based in Cambridge, Massachusetts. The assets sold included
certain contracts, equipment and machinery, files and records, intangible
assets, intellectual property, inventory, prepaid expenses and other assets
primarily related to the operations of the diagnostics business. Under the terms
of the agreement, the Company received a contingent payment of $1.0 million in
December 2001, which is included in other income (expense) for the nine months
ended June 30, 2002.
(9) Stock Option Plan
The Board of Directors adopted the 2001 Incentive and Non-Qualified Stock Option
Plan, effective June 13, 2001 which was approved by the stockholders at the
annual meeting of stockholders on March 13, 2002. Under the plan, the Company
may grant incentive stock options and non-qualified stock options to purchase up
to 4,000,000 shares. Participation in the plan is limited to directors,
officers, employees and consultants of the Company or a parent or subsidiary of
the Company.
The plan also continues the automatic, formula-based grants of non-qualified
stock options to directors who are not employees of the Company. Persons elected
to the board after June 13, 2001 are entitled to an initial grant of a
non-qualified option to purchase 30,000 shares of common stock upon their
initial election with annual grants of options to purchase 7,500 shares
thereafter upon re-election to the board. Persons elected to the board prior to
June 13, 2001, will continue to be eligible for annual grants of options to
purchase shares of common stock in an
-11-
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
amount which depends upon the number of years of service as a director (20,000
shares reducing to 7,500 shares).
(10) Subsequent Event
On April 24, 2002, pursuant to the terms of the Collaborative Research Agreement
dated April 23, 1999 among the Company, Pfizer Inc. and Anaderm Research
Corporation, the Company entered into the "phase out period" of the
collaboration. In July 2002, the Company entered into an agreement with Pfizer
to accelerate such phase out period so that it will terminate no later than
April 23, 2003. During the phase out period, the Company will transfer to
Anaderm all of the research related to the collaboration. In consideration for
the work to be performed by the Company during the accelerated phase out period,
the Company is expected to receive $4.5 million in August 2002 and $3.5 million
upon the successful completion of the transition period. The Company will retain
its rights to receive royalties on the sales of products resulting from the
collaboration. The $4.5 million will be recognized as revenue ratably over the
expected term of the transition period and the $3.5 million will be recognized
upon the successful completion of the transition.
-12-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THREE AND NINE MONTHS ENDED JUNE 30, 2002 AND 2001
OVERVIEW
We are a biopharmaceutical company primarily focused on the discovery,
development and commercialization of novel products for the treatment of cancer.
We have built a pipeline of discovery programs and drug candidates addressing
unmet needs in cancer, complemented by selected opportunities arising from our
extensive drug discovery research programs that represent significant commercial
opportunities outside of cancer, particularly diabetes. We have seven candidates
in clinical trials and seven candidates in late stage pre-clinical development.
In our oncology program, we are building the infrastructure and capabilities
required for the full commercialization of products arising from our cancer
research and development efforts.
Our lead product candidate, Tarceva(TM) (erlotinib HCl, OSI-774), is a
potent, selective and orally active, small molecule inhibitor of the epidermal
growth factor receptor, or EGFR. A significant proportion of the approximately
1.2 million new U.S. solid tumor patients each year may benefit from EGFR
targeted drugs. We, therefore, believe that this new class of EGFR inhibitors
has significant market potential. Tarceva(TM) has demonstrated encouraging
indications of activity in cancer and has exhibited a well-tolerated side-effect
profile as a monotherapy in three open-label Phase II clinical trials for the
treatment of non-small cell lung, ovarian and head and neck cancers. In January
2001, we entered into concurrent agreements with Genentech, Inc. and Roche for
the global co-development and commercialization of Tarceva(TM) and have since
initiated Phase III clinical trials in lung cancer and pancreatic cancer. To
date, we have received upfront fees and equity investments totaling $95 million
under these agreements. In addition, we may receive scheduled milestone payments
of up to $92 million based on the successful filing and registration of the drug
in major markets. In the United States, we will employ an essentially equal cost
and profit sharing arrangement for the commercialization of Tarceva(TM) with
Genentech. Outside of the United States, we will receive royalties from Roche on
net sales of products.
To date, none of our proprietary or collaborative programs have resulted
in commercial products; therefore, we have not received any revenues or
royalties from the sale of products by us or by our collaborators. We have
funded our operations primarily through public and private placements of equity
securities, the private placement of convertible debt securities and payments
under collaborative research agreements with major pharmaceutical companies.
On December 21, 2001, we acquired certain oncology assets from Gilead
Sciences, Inc., which included a pipeline of three clinical oncology candidates
and certain related intellectual property, as well as Gilead's Boulder, Colorado
operations, including clinical research and drug development personnel,
infrastructure and facilities. The Gilead employees retained by us provide us
with extensive expertise in clinical development, regulatory affairs, toxicology
and in vivo pharmacology. The acquisition forms a key part of management's
strategy to build a
-13-
completely integrated and high quality drug discovery, development and
commercial organization in oncology. The acquisition has complemented and
enhanced our ability to successfully execute key components of our business
strategy, including carrying out our obligations for the development and
registration of Tarceva(TM) in our alliance with Genentech and Roche. In
consideration for these assets, we paid Gilead $130 million in cash and issued
to Gilead 924,984 shares of common stock valued at $40 million. We would also be
obligated to pay up to an additional $30 million in either cash or a combination
of cash and common stock upon the achievement of certain milestones related to
the development of OSI-211 (formerly NX211). We are also assuming certain
royalty and milestone obligations to third parties in connection with these
oncology products.
In November 2001, we received the return of full commercial rights to
OSI-754 (formerly CP-609,754), a farnesyl transferase inhibitor, that was
undergoing Phase I trials with Pfizer Inc. OSI-754 was jointly discovered in our
collaboration with Pfizer as part of our longstanding alliance in cancer drug
discovery and was being developed by Pfizer as a targeted therapy for use in
major solid tumor indications (i.e., colon and lung). We currently have plans to
develop OSI-754 for tumors such as bladder cancer where mutant and
over-expressed forms of the H-ras oncogene are present. If the drug is
successfully developed, we will pay Pfizer a royalty on sales.
CRITICAL ACCOUNTING POLICIES
We prepare our consolidated financial statements in accordance with
accounting principles generally accepted in the United States of America. As
such, we are required to make certain estimates, judgments and assumptions that
we believe are reasonable based upon the information available. These estimates
and assumptions affect the reported amounts of assets and liabilities at the
date of the consolidated financial statements and the reported amounts of
revenue and expenses during the periods presented. Actual results could differ
significantly from those estimates under different assumptions and conditions.
We believe that the following discussion addresses our most critical accounting
policies which are those that are most important to the portrayal of our
financial condition and results of operations and which require our most
difficult and subjective judgments, often as a result of the need to make
estimates about the effect of matters that are inherently uncertain. Note 1 to
the consolidated financial statements included in our annual report on Form 10-K
for the year ended September 30, 2001 includes a summary of the significant
accounting policies used in the preparation of the consolidated financial
statements. The following is a brief discussion of what we believe are our most
critical accounting policies:
REVENUE RECOGNITION. We recognize all nonrefundable upfront license fees,
including upfront technology access fees, as revenue over the term of the
related research collaboration period in accordance with the guidance provided
in the Securities and Exchange Commission's Staff Accounting Bulletin No. 101 -
"Revenue Recognition in Financial Statements," as amended. Our most significant
application of this policy, to date, is the $25 million in upfront fees received
from Genentech and Roche in January 2001 which is being recognized evenly over
the expected three-year term of our required research and development efforts
under the terms of
-14-
the agreement. The expected three-year term is subject to change based upon the
parties' continuous monitoring of current research data and their projections
for the remaining development period. If the expected term is changed, this
would impact the term over which the remaining deferred revenue would be
recognized. Collaborative program revenues represent funding arrangements for
research and development in the field of biotechnology and are recognized when
earned in accordance with the terms of the contracts and the related
development activities undertaken. Other research revenues are recognized
pursuant to the terms of grants which provide reimbursement of certain expenses
related to our other research and development activities. Collaborative and
other research revenues are accrued for expenses incurred in advance of the
reimbursement and deferred for cash payments received in advance of
expenditures. Such deferred revenues are recorded as revenue when earned.
ACCRUALS FOR CLINICAL RESEARCH ORGANIZATION AND CLINICAL SITE COSTS. We
make estimates of costs incurred to date but not yet invoiced in relation to
external clinical research organizations, or CROs, and clinical site costs. We
analyze the progress of clinical trials, invoices received and contracted costs
when evaluating the adequacy of the accrued liabilities. Significant judgments
and estimates must be made and used in determining the accrued balance in any
accounting period. Actual results could differ significantly from those
estimates under different assumptions.
INTANGIBLE AND LONG-LIVED ASSETS. Intangible and other long-lived assets
are reviewed for impairment whenever events or changes in circumstances indicate
that the carrying value of an asset may not be recoverable. Our judgments
regarding the existence of impairment indicators are based on historical and
projected future operating results, changes in the manner of our use of the
acquired assets or our overall business strategy, and market and economic
trends. In the future, events could cause us to conclude that impairment
indicators exist and that certain intangibles assets are impaired which may
result in an adverse impact on our financial condition and results of
operations.
RESULTS OF OPERATIONS
For the three months ended June 30, 2002, we had a net loss of $29.4
million compared to a net loss of $4.8 million for the three months ended June
30, 2001. For the nine months ended June 30, 2002, we had a net loss of $196.3
million compared to a net loss of $9.1 million for the nine months ended June
30, 2001. The increase in the net loss for the three-month period relates to an
increase in research and development expenses and selling, general and
administrative expenses. The increase in the net loss for the nine-month period
was primarily related to the in-process research and development charge of
$130.2 million in connection with the acquisition of Gilead's oncology assets,
as well as an increase in research and development expenses and selling, general
and administrative expenses. Excluding the non-recurring charge of $130.2
million related to the in-process R&D acquired, the net loss for the nine months
ended June 30, 2002 would have been $66.1 million, or $1.84 per share. Also
contributing to the increase in the net loss for the three and nine month
periods was a decrease in collaborative revenues and investment income. The
decrease in collaborative revenues reflects our intent to fund the majority of
our own research and development activities going forward and to focus our
-15-
research on the discovery and development of proprietary cancer drugs. Included
in the net loss for the nine months ended June 30, 2001 was a non-cash charge of
$2.6 million related to the cumulative effect of a change in accounting
principle for the recognition of upfront fees upon the adoption of SAB No. 101
(see note 2 to the accompanying consolidated financial statements). Excluding
the effect of this change in accounting principle, the net loss for the nine
months ended June 30, 2001 would have been $7.1 million or $0.21 per share.
During the quarter ended June 30, 2002 we identified that the incorrect
number of weighted average shares was inadvertently utilized in calculating the
basic and diluted net loss per weighted average shares of common stock for the
three months ended December 31, 2001 and the three and six months ended March
31, 2002, which resulted in an immaterial understatement in the net loss per
share for these periods. This miscalculation had no effect on the reported net
loss for these periods. The weighted average shares used in computing the basic
and diluted net loss per share for the nine months ended June 30, 2002 reflects
the correct weighted average shares for the three months ended December 31, 2001
and March 31, 2002.
REVENUES
Revenues decreased approximately $1.8 million or 29% and $2.4 million or
12% for the three and nine months ended June 30, 2002, respectively, compared to
the three and nine months ended June 30, 2001. The decrease for the three and
nine months was primarily due to a decrease in collaborative program revenue.
The decrease for the nine-month period was partially offset by an increase in
license and related revenues and other research revenues.
Collaborative program revenues decreased approximately $1.9 million or 49%
and $5.0 million or 36% for the three and nine months ended June 30, 2002,
respectively, compared to the three and nine months ended June 30, 2001. The
decrease for the three months ended June 30, 2002 was primarily due to a
decrease in revenues from our collaboration with Anaderm Research Corporation
and the conclusion of our funded collaboration with Sankyo Co., Ltd. in December
2001. The decrease in collaborative program revenues for the nine months ended
June 30, 2002 was primarily due to a decrease in revenues from the Anaderm
collaboration and our collaboration with Tanabe Seiyaku Co., Ltd. and the
conclusion of our funded collaborations with Solvay Pharmaceuticals, Inc. in
December 2000, Pfizer in April 2001, and Sankyo in December 2001. As we focus
our business away from collaborative-based funded research to independent drug
discovery and development, we expect collaborative revenues to continue to
decrease.
License and related revenues increased approximately $2.1 million or 42%
for the nine months ended June 30, 2002 compared to the nine months ended June
30, 2001. The increase for the nine months ended June 30, 2002 related to the
recognition of $6.3 million of the upfront fees received from Genentech and
Roche compared to $4.2 million recognized during the nine months ended June 30,
2001. In accordance with the provisions of SAB No. 101, the $25 million upfront
fee received from Genentech and Roche in January 2001, is being recognized
evenly over the expected three-year development phase of our contractual
agreement.
-16-
Other research revenues increased approximately $550,000 or 149% for the
nine months ended June 30, 2002 compared to the nine months ended June 30, 2001.
The increase for the nine months was primarily related to transition assistance
services provided to Gilead and certain administrative services provided to
British Biotech plc during the transitional period.
EXPENSES
Operating expenses increased approximately $16.9 million or 93% and $176.0
million or 384% for the three and nine months ended June 30, 2002, respectively,
compared to the three and nine months ended June 30, 2001. Operating expenses
primarily included: (i) research and development expenses, which included
expenses related to the development of our lead clinical candidate, Tarceva(TM),
and proprietary and collaborative-based research expenses; (ii) the $130.2
million charge related to the acquired in-process research and development (for
the nine months ended June 30, 2002); and (iii) selling, general and
administrative expenses.
Research and development expenses increased approximately $13.0 million or
101% and $35.4 million or 104% for the three and nine months ended June 30,
2002, respectively, compared to the three and nine months ended June 30, 2001.
This increase was primarily related to the clinical development of Tarceva(TM)
under our Tripartite Agreement with Genentech and Roche and our increased
investment in proprietary cancer programs, including the oncology candidates
acquired from Gilead in December 2001. For the three and nine months ended June
30, 2002, the increase in research and development expenses associated with our
proprietary programs was slightly offset by a decrease in collaborative research
and development expenses. Our ability to shift our resources from collaborative
research efforts to proprietary efforts has been enhanced as a result of the
successful conclusion of our Solvay, Pfizer and Sankyo collaborations in
December 2000, April 2001 and December 2001, respectively. On April 24, 2002,
pursuant to the terms of the Collaborative Research Agreement between, Pfizer,
Anaderm and us, we entered into the three-year "phase out period" of the
collaboration. In July 2002, we entered into an agreement with Pfizer to
accelerate the "phase out period" of this collaboration, so that the phase out
period would not extend beyond April 23, 2003. This agreement is in accordance
with our stated intent of focusing our business activities in the area of cancer
research.
Certain non-cash, stock option based compensation charges also impacted
research and development expenses. In accordance with EITF Issue 96-18
"Accounting For Equity Instruments that Are Issued to Other Than Employees for
Acquiring, or In Conjunction with Selling, Goods or Services," the amount of
compensation expense to be recorded in future periods related to the
non-employee grants is subject to change each reporting period based upon the
then fair value of these options using a Black-Scholes option pricing model
until expiration of the grant vesting period. The remeasurement of the value of
these options at June 30, 2002 resulted in the recapture of approximately
$481,000 of previously recognized compensation expense for the three months
ended June 30, 2002, and a charge of $615,000 in compensation expense for the
nine months ended June 30, 2002, related to stock options issued to consultants
involved in research and development activities. Deferred compensation for stock
options issued
-17-
to these non-employee consultants was approximately $114,000 as of June 30,
2002, which will be recognized as compensation expense over the vesting period
of the options.
Included in research and development expenses for the nine months ended
June 30, 2002 was approximately $485,000 in compensation expense related to
stock options granted in September 2000 to our then President and Head of
Research and Development. As a result of his resignation as an employee
effective February 1, 2002, no additional compensation expense has been recorded
subsequent to February 1, 2002 and the remaining deferred compensation of
approximately $2.4 million was reversed upon his resignation.
In connection with the acquisition of certain assets from Gilead, we
recorded an in-process research and development charge of $130.2 million
representing the estimated fair value of the acquired in-process technology that
had not yet reached technological feasibility and had no alternative future use
(see note 3 to the accompanying consolidated financial statements). We obtained
a third party valuation to assist us in determining the fair value of certain
assets. The value was determined by estimating the costs to develop the
purchased in-process technology into commercially viable products, estimating
the resulting net cash flow from such projects and discounting the net cash
flows back to their present value. These cash flows were probability-adjusted to
take into account the uncertainty surrounding the successful development and
commercialization of the acquired in-process technology. The resulting net cash
flows were based on estimated revenue, cost of sales, research and development
costs, selling, general and administrative costs and the net cash flow reflects
the assumptions that would be used by market participants. In determining the
value of the in-process research and development, the assumed commercialization
dates for these products ranged from 2004 to 2008. We believe that the
assumptions used in the valuation of purchased in-process technology represent a
reasonable estimate of the future benefits attributable to the purchased
in-process technology. No assurance can be given that actual results will not
deviate from those assumptions in future periods.
Below is a brief description of the in-process research and development
projects we acquired from Gilead, the development status for each project and
the estimated value at the date of acquisition.
VALUE AT
ACQUISITION DATE
PROJECT PROJECT DESCRIPTION DEVELOPMENT STATUS (IN MILLIONS)
- -----------------------------------------------------------------------------------------------------------------------
OSI-211 (formerly NX211) a liposomal formulation of lurtotecan Phase II clinical $ 19.9
trials
OSI-7904L (formerly a liposomal formulation of a Phase I clinical 13.4
GS7904L) thymidylate synthase inhibitor trials
OSI-7836 (formerly GS7836) a nucleoside analog of Gemzar(R) Phase I clinical trials 96.9
------
$130.2
======
As of June 30, 2002, the technological feasibility of the projects had not
yet been reached. Each project needs to successfully complete a series of
clinical trials and to receive FDA or other regulatory approvals prior to
commercialization. Our current estimates of the required investments for the
full development and registration for these next generation cytotoxic drugs
-18-
can range from $80 to $120 million per drug. There can be no assurances that any
of these projects will ever reach feasibility or develop into products that can
be marketed profitably, nor can there be assurance we will be able to develop
and commercialize these products prior to the development of comparable products
by our competitors. If it is determined that it is not cost beneficial to pursue
the further development of any of these projects, we may discontinue such
further development of certain or all of these projects. Our revenue and
profitability in future periods, as well as the value of the goodwill acquired,
may become impaired if these projects are not successfully developed.
Selling, general and administrative expenses increased approximately $3.9
million or 76% and $10.2 million or 95% for the three and nine months ended June
30, 2002, respectively, compared to the three and nine months ended June 30,
2001. The increases were primarily attributable to the increased expenses for
additional management and administrative personnel and consultants to support
our clinical trial programs and research and development efforts. The increases
were also due to increases in facilities expenses, including relocation costs
related to the consolidation of facilities, and other professional fees
associated with expansion and corporate development activities. In June 2002, we
commenced operations at our new 53,000 sq. ft. research and development facility
located in the Broad Hollow BioScience Park in Farmingdale, New York and
partially transitioned out of our laboratory in Uniondale, New York.
Compensation expenses include the remeasurement of the value of stock
options at June 30, 2002 granted to non-research and development consultants in
accordance with EITF Issue 96-18, which resulted in the recapture of
approximately $67,000 previously recognized compensation expense for the three
months ended June 30, 2002 and a charge of $135,000 to compensation expense for
the nine months ended June 30, 2002. Deferred compensation for stock options
issued to these non-employee consultants was approximately $49,000 as of June
30, 2002.
Amortization of intangibles increased approximately $129,000 or 70% and
$374,000 or 67% for the three and nine months ended June 30, 2002, respectively,
compared to the three and nine months ended June 30, 2001. The increase related
to the amortization of the capitalized workforce and library license acquired
from British Biotech in September 2001.
OTHER INCOME AND EXPENSE
Net investment income decreased by approximately $3.6 million or 51% and
$8.4 million or 42% for the three and nine months ended June 30, 2002,
respectively, compared to the three and nine months ended June 30, 2001. The
decrease in net investment income was primarily due to a decrease in the average
rate of return on our investments and to less funds available for investment
during the three and nine months ended June 30, 2002 compared to the three and
nine months ended June 30, 2001. Interest expense increased approximately $2.0
million and $3.3 million for the three and nine months ended June 30, 2002,
respectively, compared to the three and nine months ended June 30, 2001. The
increase for the three and nine month periods related to the interest expense
incurred on the convertible senior subordinated notes issued in February 2002.
The convertible senior subordinated notes bear interest at 4% per annum, payable
semi-
-19-
annually, and mature on February 1, 2009. For the three months ended June 30,
2002, other expenses increased $293,000 compared to the three months ended June
30, 2001 primarily due to the amortization of debt issuance costs. For the nine
months ended June 30, 2002 we had other income of $154,000 compared to other
expenses of $123,000 for the nine months ended June 30, 2001. Included in the
nine months ended June 30, 2002 was $405,000 of non-cash expense related to the
amortization of debt issuance costs. Also included in the nine months ended June
30, 2002 was the recognition of the $1.0 million contingent payment received
from Bayer Corporation in December 2001, in connection with the sale of the
diagnostic business in November 1999 (see note 8 to the accompanying
consolidated financial statements).
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2002, working capital, representing primarily cash, cash
equivalents and short-term investments, aggregated approximately $499.2 million
compared to $533.4 million at September 30, 2001. This decrease of approximately
$34.3 million resulted primarily from the net cash paid for the acquisition of
Gilead's oncology assets and related expenses and our net operating cash burn
for the nine months ended June 30, 2002, offset by the net proceeds from the
issuance of the convertible senior subordinated notes and cash proceeds from the
exercise of stock options.
On December 21, 2001, we acquired certain assets from Gilead pursuant to
the terms of an Asset Purchase Agreement dated as of November 26, 2001. The
assets purchased include: (a) a pipeline of three clinical oncology candidates,
(b) related intellectual property, and (c) rights to Gilead's leased facilities
located in Boulder, Colorado, as well as leasehold improvements and certain
fixed assets. In connection with the acquisition, we retained 117 Gilead
employees. The results of operations of the acquired Gilead oncology assets have
been included in the consolidated statement of operations since the date of
closing. In consideration for the assets, we paid $135.7 million in cash, which
includes professional fees and the assumption of certain liabilities, and issued
924,984 shares of common stock, valued at $40 million. The value of the 924,984
shares of common stock issued was based on the average closing price of our
stock for the five days prior to the date of closing. We would also be obligated
to pay contingent consideration of up to an additional $30 million in either
cash or a combination of cash and common stock, at our option, upon the
achievement of certain milestones related to the development of OSI-211
(formerly NX211). Additionally, we are assuming certain royalty and milestone
obligations to third parties in connection with the oncology candidates acquired
as part of the acquisition.
On February 1, 2002, we issued $200 million aggregate principal amount of
convertible senior subordinated notes in a private placement for proceeds to us
of approximately $193.0 million. The notes bear interest at 4% per annum,
payable semi-annually, and mature on February 1, 2009. We pledged $22.9 million
of U.S. government securities which will be sufficient upon receipt of scheduled
principal and interest payments to provide for the payment in full of the first
six scheduled interest payments on the notes when due. The notes are convertible
into shares of our common stock at a conversion price of $50 per share, subject
to adjustment in certain circumstances. We may redeem the notes, in whole or in
part, at any time before
-20-
February 1, 2005 if the closing price of our common stock has exceeded 150% of
the conversion price then in effect for a specified period of time. Upon any
such early redemption, we are required to pay interest that would have been due
through February 1, 2005. We may also redeem some or all of the notes at any
time on or after February 1, 2005 if the closing price of our common stock has
exceeded 140% of the conversion price then in effect for a specified period of
time. Upon a change in control, as defined in the indenture governing the notes,
the holders of the notes will have the right to require us to repurchase all of
the notes, or a portion thereof, not previously called for redemption at a
purchase price equal to 100% of the principal amount of the notes purchased,
plus accrued and unpaid interest. We may elect to pay the purchase price in
common stock instead of cash. Accordingly, due to this election such an event
would not affect our liquidity position. The number of shares of common stock a
holder will receive will equal the repurchase price divided by 95% of the
average of the closing prices of our common stock for the five-trading day
period ending on the third business day prior to the repurchase date. We intend
to use the proceeds from this issuance for the development of our product
pipeline, licensing and acquisition opportunities that add oncology products and
late stage drug candidates and general corporate purposes. If all or any portion
of the notes have not been converted into common stock prior to their maturity
date (February 1, 2009), we will be required to pay, in cash, the outstanding
principal amount of the notes plus any accrued but unpaid interest. This could
have a significant impact on our liquidity depending on our cash position at the
time of maturity. If we do not have sufficient cash to repay the debt, we may
need to borrow additional funds or sell additional equity in order to meet our
debt obligations.
We expect to incur additional losses over the next several years as we
continue our investment in Tarceva(TM) and other product candidates in our
pipeline. Additionally, as we continue to shift our focus toward internal drug
development, we expect collaborative revenues to continue to decrease. To
achieve profitability, we, alone or with others, must successfully develop and
commercialize our technologies and products, conduct pre-clinical studies and
clinical trials, secure required regulatory approvals and obtain adequate
assistance to successfully manufacture, introduce and market such technologies
and products. The ability and time required to reach profitability is uncertain.
We believe that amounts received from the private placement of convertible
senior subordinated notes, existing cash resources, and projected funding from
collaborative research and development programs provide a strong financial base
from which to fund our operations and capital requirements for at least the next
several years.
We expect our cash burn to increase over the next couple of years as we
invest in the clinical development of Tarceva(TM) as well as other product
candidates in our pipeline. The major expenses associated with the broad-based
Phase III development program for Tarceva(TM) are expected to occur in 2002 and
2003. We anticipate our operating cash burn will approximate $115 to $130
million for the current fiscal year as we continue to fulfill our obligations on
the Tarceva(TM) development program and continue our ongoing research and
development operations. Although we believe that we have sufficient cash for
operations for the next few years, if Tarceva(TM) is delayed or rejected by
the Food and Drug Administration, such an event could have an adverse impact on
our liquidity position, assuming our current cash burn.
-21-
Commitments and Contingencies
Our major outstanding contractual obligations relate to our senior
subordinated convertible debt and our facility leases. The following table
summarizes our significant contractual obligations at June 30, 2002 and the
effect such obligations are expected to have on our liquidity and cash flow in
future periods (in thousands):
2007 &
2002 2003 2004 2005 2006 Thereafter Total
- -------------------------------------------------------------------------------------------------------------------------------
Contractual Obligations:
Senior convertible debt (a) $4,000.0 $8,000.0 $8,000.0 $8,000.0 $8,000.0 $220,000.0 $256,000.0
- -------------------------------------------------------------------------------------------------------------------------------
Operating leases 1,488.2 6,556.3 6,560.1 6,609.0 5,454.8 59,054.4 85,722.8
- -------------------------------------------------------------------------------------------------------------------------------
Construction commitments 1,596.0 -- -- -- -- -- 1,596.0
- -------------------------------------------------------------------------------------------------------------------------------
Loans & capital leases payable (b) 93.3 287.2 -- -- -- -- 380.5
- -------------------------------------------------------------------------------------------------------------------------------
Additional purchase payment to
Gilead (c) 162.1 -- -- -- -- -- 162.1
- -------------------------------------------------------------------------------------------------------------------------------
Total contractual obligations $7,339.6 $14,843.5 $14,560.1 $14,609.0 $13,454.8 $279,054.4 $343,861.4
- -------------------------------------------------------------------------------------------------------------------------------
(a) Includes interest payments at a rate of 4% per annum.
(b) Includes interest payments
(c) Represents estimated payments to Gilead for reimbursement of
severances paid to former Gilead employees not retained by OSI.
Other significant commitments and contingencies include the following:
* A commitment to share equally with Genentech and Roche certain global
development costs of Tarceva(TM).
* In connection with the acquisition of certain of Gilead's oncology assets
in December 2001, we are obligated to pay up to an additional $30 million
in either cash or a combination of cash and common stock upon the
achievement of certain milestones related to the development of OSI-211,
the most advanced of Gilead's oncology product candidates acquired by us.
* Under agreements with external clinical research organizations, or CROs,
we incur expenses relating to the progress of clinical trials. These
disbursements can be based upon the achievement of certain milestones,
patient enrollment, services rendered or as expenses are incurred by the
CROs.
* In connection with our strategic decision to close down our Tarrytown, New
York facility and our Birmingham, England facility, we expect to pay
approximately $1.8 million in non-cancelable lease exit costs (see note 7
to the accompanying consolidated financial statements)
* We have a retirement plan which provides postretirement medical and life
insurance benefits to eligible employees, board members and qualified
dependents. Eligibility is determined based on age and years of service.
We have accrued postretirement benefit
-22-
costs of approximately $2.4 million at June 30, 2002.
* Under certain collaboration agreements with pharmaceutical companies
and educational institutions, we are required to pay royalties and/or
milestones upon the successful development and commercialization of
products.
* Under certain license agreements we are required to pay license fees
for the use of technologies and products in our research and development
activities.
RECENT ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board issued SFAS No.
141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 141 requires that the purchase method of accounting be used
for all future business combinations. It specifies the criteria which intangible
assets acquired in a business combination must meet in order to be recognized
and reported apart from goodwill. SFAS No. 142 requires that goodwill and
intangible assets with indefinite useful lives no longer be amortized, but
instead tested for impairment at least annually in accordance with the
provisions of SFAS No. 142. SFAS No. 142 also requires that intangible assets
with estimable useful lives be amortized over their respective estimated useful
lives, and reviewed for impairment in accordance with SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." SFAS No. 141 and No. 142 are effective for fiscal years beginning on or
after December 15, 2001; however, both of these statements were effective for
acquisitions and other intangibles acquired on or after July 1, 2001. We adopted
the applicable provisions of these statements for the accounting of the Gilead
and the British Biotech acquisitions, which occurred after July 1, 2001.
Upon full adoption, we will evaluate our existing intangible assets that
were acquired in prior purchase business combinations and make any necessary
reclassifications in order to conform with the new criteria in SFAS No. 141 for
recognition apart from goodwill. We will be required to reassess the useful
lives and residual values of all intangible assets acquired and make any
necessary amortization period adjustments. In addition, we will be required to
test goodwill and, to the extent an intangible asset is identified as having an
indefinite useful life, the intangible asset for impairment in accordance with
SFAS No. 142. Any impairment loss will be measured as of the date of adoption
and recognized as the cumulative effect of a change in accounting principle. As
a result of the acquisition of certain assets from Gilead on December 21, 2001,
we have $36.5 million in goodwill as of June 30, 2002 which, in accordance with
SFAS No. 142, will not be amortized. As of September 30, 2001, we had goodwill
which was fully amortized and unamortized identifiable intangible assets in the
amount of $3.7 million. We are currently assessing the impact of the full
adoption of these accounting standards.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" which supercedes SFAS No. 121. SFAS
No. 144 requires, among other things, that long-lived assets be measured at the
lower of carrying amount or fair value, less cost to sell, whether reported in
continuing operations or in discontinued operations.
-23-
SFAS No. 144 is effective for fiscal years beginning after December 15, 2001 and
interim periods within those fiscal years. We do not believe that upon adoption
of SFAS No. 144 there will be a significant impact on our financial statements
in the foreseeable future.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities", effective for fiscal years beginning after
December 15, 2002. Under SAFS No. 146, a liability for a cost associated with an
exit or disposal activity must only be recognized when the liability is
incurred. Under the previous guidance of EITF 94-3, "Liability Recognition for
Certian Employee Termination Benefits and Other Costs to Exit an Activity
including Certain Costs Incurred in a Restructuring", we recognized a liability
for an exit or disposal activity cost at the date of our commitment. If we were
to commit to further exit or disposal activities subsequent to the effective
date, we would be subject to the new rules regarding expense recognition.
FORWARD LOOKING STATEMENTS
A number of the matters and subject areas discussed in this Item 2
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," and elsewhere in this report are not historical or current facts
and deal with potential future circumstances and developments. The discussion of
these matters and subject areas is qualified by the inherent risks and
uncertainties surrounding future expectations generally, and these discussions
may differ materially from our actual future experience involving any one or
more of these matters and subject areas. These forward looking statements are
also subject generally to the other risks and uncertainties that are described
in our annual report on Form 10-K for the fiscal year ended September 30, 2001.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our cash flow and earnings are subject to fluctuations due to changes
in interest rates in our investment portfolio of debt securities, to the fair
value of equity instruments held and, to an immaterial extent, to foreign
currency exchange rates. We maintain an investment portfolio of various issuers,
types and maturities. These securities are generally classified as
available-for-sale and, consequently, are recorded on the balance sheet at fair
value with unrealized gains or losses reported as a component of accumulated
other comprehensive income (loss) included in stockholders' equity. With respect
to the convertible senior subordinated notes, we pledged $22.9 million of U.S.
government securities (restricted investment securities) with maturities at
various dates through November 2004. Upon maturity, the proceeds of the
restricted investment securities will be sufficient to pay the first six
scheduled interest payments on the convertible senior subordinated notes when
due (see note 4 to the accompanying consolidated financial statements). We
consider our restricted investment securities to be "held-to-maturity," as
defined by SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." These securities are reported at their amortized cost, which
includes the direct costs to acquire the securities, plus the amortization of
any discount or premium, and accrued interest earned on the securities. Our
limited investments in certain biotechnology companies are carried on the equity
method or cost method of accounting using the guidance of applicable accounting
literature. Other-than-temporary losses are recorded against earnings in the
same period the loss was deemed to have occurred. It is uncertain whether
other-than-temporary losses will be material to our results of operations in the
future. Other than foreign currency exchange rates, we do not currently hedge
these exposures. We at times minimize risk by hedging the foreign currency
exchange rates exposure through forward contracts as more fully described in
note 11(d) to the consolidated financial statements contained in our annual
report on Form 10-K for the fiscal year ended September 30, 2001. We did not
have any forward foreign exchange contracts as of June 30, 2002.
-24-
At June 30, 2002, we maintained a portion of our cash and cash equivalents
in financial instruments with original maturities of three months or less. We
also maintained an investment portfolio containing financial instruments of
which approximately 20% have original maturities of less than 12 months. These
financial instruments, principally comprised of government and government agency
obligations and corporate obligations, are subject to interest rate risk and
will decline in value if interest rates increase. A hypothetical ten percent
change in interest rates during the three and nine months ended June 30, 2002
would have resulted in approximately a $347,000 and $1,151,000 change in our net
loss, respectively. We have not used or held derivative financial instruments in
our investment portfolio.
Our long-term debt totaled approximately $200 million at June 30, 2002 and
was comprised principally of the convertible senior subordinated notes. The
convertible senior subordinated notes bear interest at a fixed rate of 4%, and
therefore an immediate ten percent change in interest rates would not have a
material effect on our financial condition or results of operations.
Underlying market risk exists related to an increase in our stock price or
an increase in interest rates which may make the conversion of the convertible
senior subordinated notes to common stock beneficial to the convertible senior
subordinated notes holders. Conversion of the convertible senior subordinated
notes would have a dilutive effect on any future earnings and book value per
common share.
-25-
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Collaborative Research Agreement
Pursuant to the terms of the Collaborative Research Agreement dated
April 23, 1999 among us, Pfizer Inc. and Anaderm Research Corporation, we began
a three-year "phase out period" in April 2002. In July 2002, we entered into an
agreement with Pfizer to accelerate such phase out period so that it will
terminate no later than April 23, 2003. During the phase out period, we will
transfer to Anaderm all of the research related to the collaboration. In
consideration for the work to be performed by us during the accelerated phase
out period, we are expected to receive $4.5 million in August 2002 and $3.5
million upon the successful completion of the transition period. We will retain
rights to receive royalties on the sales of products resulting from the
collaboration.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
3.1 Certificate of Incorporation, as amended, filed by OSI
Pharmaceuticals, Inc. as an exhibit to the Form 10-K for
the fiscal year ended September 30, 2001 (file no.
000-15190), and incorporated herein by reference.
3.2 Amended and Restated Bylaws, filed by OSI
Pharmaceuticals, Inc. as an exhibit to the Form 10-K for
the fiscal year ended September 30, 2001 (file no.
000-15190), and incorporated herein by reference.
-26-
99.1* Certification of Chief Executive Officer pursuant to 18
U.S.C.Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
99.2* Certification of Chief Financial Officer pursuant to 18
U.S.C.Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
------------------------------
* Filed herewith.
(b) REPORTS ON FORM 8-K
The Company did not file any current reports on Form 8-K
during the quarter ended June 30, 2002.
-27-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
OSI PHARMACEUTICALS, INC.
-----------------------------------
(Registrant)
Date: August 9, 2002 /s/ Colin Goddard, Ph.D.
-----------------------------------
Colin Goddard, Ph.D.
Chairman of the Board and
Chief Executive Officer
Date: August 9, 2002 /s/ Robert L. Van Nostrand
-----------------------------------
Robert L. Van Nostrand
Vice President and Chief Financial Officer
(Principal Financial Officer)
EXHIBIT INDEX
Exhibit
- -------
3.1 Certificate of Incorporation, as amended, filed by OSI
Pharmaceuticals, Inc. as an exhibit to the Form 10-K for the fiscal
year ended September 30, 2001 (file no. 000-15190), and incorporated
herein by reference.
3.2 Amended and Restated Bylaws, filed by OSI Pharmaceuticals, Inc. as
an exhibit to the Form 10-K for the fiscal year ended September 30,
2001 (file no. 000-15190), and incorporated herein by reference.
99.1* Certification of Chief Executive Officer pursuant to 18
U.S.C.Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
99.2* Certification of Chief Financial Officer pursuant to 18
U.S.C.Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
- ------------------------
* Filed herewith.