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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 March 31, 2003 .
-----------------------------------------------
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 South 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 [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
At May 12, 2003 the registrant had outstanding 36,504,579 shares of common
stock, $.01 par value.
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONTENTS
Page No.
PART I. FINANCIAL INFORMATION................................................1
Item 1. Financial Statements..............................................1
Consolidated Balance Sheets
- March 31, 2003 (unaudited) and September 30, 2002..............1
Consolidated Statements of Operations
- Three Months Ended March 31, 2003 and 2002 (unaudited).........2
Consolidated Statements of Operations
- Six Months Ended March 31, 2003 and 2002 (unaudited)...........2
Consolidated Statements of Cash Flows
- Six Months Ended March 31, 2003 and 2002 (unaudited)...........3
Notes to Consolidated Financial Statements.......................4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.......................................13
Item 3. Quantitative and Qualitative Disclosures About Market Risk.......28
Item 4. Controls and Procedures..........................................29
PART II. OTHER INFORMATION..................................................31
Item 1. Legal Proceedings...................................................31
Item 2. Changes in Securities and Use of Proceeds...........................31
Item 3. Defaults Upon Senior Securities.....................................31
Item 4. Submission of Matters to a Vote of Security Holders.................31
Item 5. Other Information...................................................31
Item 6. Exhibits and Reports on Form 8-K....................................32
SIGNATURES...................................................................32
CERTIFICATIONS...............................................................33
EXHIBIT INDEX................................................................37
i
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
MARCH 31, SEPTEMBER 30,
2003 2002
--------- -------------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents ..................................................................... $ 55,658 $ 152,578
Investment securities ......................................................................... 290,361 304,388
Restricted investment securities - short-term ................................................. 7,921 7,938
Receivables, including amounts due from related parties of $5,309 and $3,000
at March 31, 2003 and September 30, 2002, respectively .................................... 6,274 3,253
Interest receivable ........................................................................... 3,119 3,728
Prepaid expenses and other current assets ..................................................... 16,217 3,873
--------- ---------
Total current assets ................................................................. 379,550 475,758
Restricted investment securities - long-term ....................................................... 8,430 11,373
Property, equipment and leasehold improvements - net ............................................... 42,606 46,175
Debt issuance costs - net .......................................................................... 4,739 5,145
Goodwill ........................................................................................... 38,702 38,648
Other intangible assets - net ...................................................................... 45,730 458
Other assets ....................................................................................... 1,584 1,487
--------- ---------
$ 521,341 $ 579,044
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses, including amounts due to related
parties of $3,980 and $2,190 at March 31, 2003 and September 30, 2002,
respectively .............................................................................. $ 27,166 $ 22,062
Unearned revenue - current, including amounts received in advance from related
parties of $5,000 and $7,687 as of March 31, 2003 and September 30, 2002,
respectively .............................................................................. 5,462 8,613
Loans payable - current ....................................................................... 147 527
--------- ---------
Total current liabilities ............................................................ 32,775 31,202
Other liabilities:
Unearned revenue - long-term, representing amounts received in advance from related parties.... 3,750 6,250
Convertible senior subordinated notes and loans payable-long-term ............................. 160,000 160,014
Accrued postretirement benefit cost ........................................................... 2,818 2,470
--------- ---------
Total liabilities .................................................................... 199,343 199,936
--------- ---------
Stockholders' equity:
Preferred stock, $.01 par value; 5,000 shares authorized; no shares issued at
March 31, 2003 and September 30, 2002 ..................................................... -- --
Common stock, $.01 par value; 200,000 shares authorized, 37,423 and 37,335
shares issued at March 31, 2003 and September 30, 2002, respectively ...................... 374 373
Additional paid-in capital .................................................................... 709,317 708,435
Deferred compensation ......................................................................... (400) (49)
Accumulated deficit ........................................................................... (381,492) (324,223)
Accumulated other comprehensive income ........................................................ 632 1,005
--------- ---------
328,431 385,541
Less: treasury stock, at cost; 940 shares at March 31, 2003 and September 30, 2002 ................ (6,433) (6,433)
--------- ---------
Total stockholders' equity ........................................................... 321,998 379,108
--------- ---------
Commitments and contingencies
$ 521,341 $ 579,044
========= =========
See accompanying notes to consolidated financial statements.
1
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS EXCEPT PER SHARE DATA)
THREE MONTHS ENDED
MARCH 31,
-----------------------
2003 2002
-------- --------
Revenues:
Sales commissions ............................................................................... $ 887 $ --
Collaborative program revenues, including $4,177 and $2,936 from related
parties in 2003 and 2002, respectively ....................................................... 5,236 4,041
License and other revenues, including $1,250 and $2,083
from related parties in 2003 and 2002, respectively .......................................... 1,469 2,729
-------- --------
7,592 6,770
Expenses:
Research and development ........................................................................ 23,773 26,525
Selling, general and administrative ............................................................. 10,660 6,272
Amortization of intangibles ..................................................................... 690 306
-------- --------
35,123 33,103
-------- --------
Loss from operations ...................................................................... (27,531) (26,333)
Other income (expense):
Investment income - net ......................................................................... 2,233 3,465
Interest expense ................................................................................ (1,605) (1,346)
Other expense - net ............................................................................. (266) (301)
-------- --------
Net loss ........................................................................................... $(27,169) $(24,515)
======== ========
Weighted average shares of common stock outstanding ................................................ 36,448 36,147
======== ========
Basic and diluted net loss per common share ........................................................ $ (0.75) $ (0.68)
======== ========
See accompanying notes to consolidated financial statements.
2
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS EXCEPT PER SHARE DATA)
SIX MONTHS ENDED
MARCH 31,
-------------------------
2003 2002
--------- ---------
Revenues:
Sales commissions ............................................................................... $ 887 $ --
Collaborative program revenues, including $6,187 and $5,193 from related
parties in 2003 and 2002, respectively ....................................................... 8,218 7,157
License and other revenues, including $2,500 and $4,167
from related parties in 2003 and 2002, respectively .......................................... 2,959 5,505
--------- ---------
12,064 12,662
--------- ---------
Expenses:
Research and development ........................................................................ 51,996 43,779
Acquired in-process research and development (see note 4) ....................................... -- 130,200
Selling, general and administrative ............................................................. 18,160 12,128
Amortization of intangibles ..................................................................... 744 615
--------- ---------
70,900 186,722
--------- ---------
Loss from operations ...................................................................... (58,836) (174,060)
Other income (expense):
Investment income - net ......................................................................... 4,902 8,039
Interest expense ................................................................................ (3,212) (1,348)
Other income (expense) - net .................................................................... (123) 472
--------- ---------
Net loss ........................................................................................... $ (57,269) $(166,897)
========= =========
Weighted average shares of common stock outstanding ................................................ 36,431 35,637
========= =========
Basic and diluted net loss per common share ........................................................ $ (1.57) $ (4.68)
========= =========
See accompanying notes to consolidated financial statements.
3
OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
SIX MONTHS ENDED
MARCH 31,
--------------------------------
2003 2002
------------ -----------
Cash flow from operating activities:
Net loss................................................................. $ (57,269) $ (166,897)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities:
Gain on sale of diagnostic business................................ -- (1,000)
Loss (gain) on sale of investments................................. (338) 181
Loss on sale and disposal of equipment............................. 26 --
Depreciation and amortization...................................... 6,647 4,693
In-process research and development charge on acquisition of
Gilead's oncology assets....................................... -- 130,200
Non-cash compensation charges...................................... 115 2,256
Changes in assets and liabilities, net of the effects of acquisitions:
Receivables........................................................ (2,410) 827
Prepaid expenses and other current assets.......................... (12,312) (2,502)
Other assets....................................................... 29 (16)
Accounts payable and accrued expenses.............................. 5,019 (2,642)
Unearned revenue................................................... (5,652) (4,610)
Accrued postretirement benefit cost................................ 348 189
------------ -----------
Net cash used in operating activities....................................... (65,797) (39,321)
------------- ------------
Cash flows from investing activities:
Payments for acquisitions................................................ -- (135,742)
Payments for acquisition of marketing rights............................. (46,009) --
Net proceeds from sale of diagnostic business........................... -- 1,000
Purchases of investments (restricted and unrestricted)................... (223,616) (266,568)
Maturities and sales of investments (restricted and unrestricted)........ 240,229 276,721
Net additions to property, equipment and leasehold improvements.......... (1,487) (7,572)
Additions to compound library assets..................................... (135) --
Investments in privately-owned companies................................. (50) (650)
------------- ------------
Net cash used in investing activities....................................... (31,068) (132,811)
------------- ------------
Cash flows from financing activities:
Proceeds from issuance of convertible senior subordinated notes.......... -- 200,000
Debt issuance costs...................................................... -- (6,636)
Proceeds from exercise of stock options, stock warrants and
employee stock purchase plan.......................................... 416 5,173
Payments on loans-net.................................................... (398) (240)
------------- ------------
Net cash provided by financing activities................................... 18 198,297
------------ -----------
Net increase (decrease) in cash and cash equivalents........................ (96,847) 26,165
Effect of exchange rate changes on cash and cash equivalents................ (73) (245)
Cash and cash equivalents at beginning of year.............................. 152,578 225,150
------------ -----------
Cash and cash equivalents at end of period.................................. $ 55,658 $ 251,070
============ ===========
Non-cash activities:
Issuance of common stock to employees.................................... $ 91 $ 375
============ ===========
Issuance of common stock to directors.................................... $ 36 $ --
============ ===========
Issuance of common stock in connection with acquisition
of certain assets from Gilead......................................... $ -- $ 40,000
============ ===========
See accompanying notes to 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 (the "Company") as of March 31, 2003,
their results of operations for the three and six months ended March 31, 2003
and 2002 and their cash flows for the six months ended March 31, 2003 and 2002.
Certain reclassifications have been made to the prior period 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, as amended, for the fiscal year ended
September 30, 2002. Results for interim periods are not necessarily indicative
of results for the entire year.
(2) Revenue Recognition
The Company accounts for upfront nonrefundable technology access and
other upfront 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. The Company received a total of $25.0 million
in upfront fees from Genentech, Inc. and Roche in January 2001 which was being
recognized on a straight-line basis evenly over the expected three-year term of
the Company's required research and development efforts under the terms of the
agreement. In the fourth quarter of fiscal 2002, the expected term was changed
to four years to reflect the Company's revised estimate of the term of the
continued involvement in the research and development efforts under the
Tripartite Agreement with Genentech and Roche. In accordance with Accounting
Principle Board Opinion No. 20 "Accounting Changes," the remaining deferred
revenue is being recognized prospectively over the revised term. As a result,
the Company recorded revenues of $1.3 million and $2.5 million for the three and
six months ended March 31, 2003, respectively.
Sales commissions represent the commissions earned on Novantrone(R)
(mitoxantrone for injection concentrate) sales in the United States for oncology
indications pursuant to the Co-Promotion Agreement dated March 11, 2003 with
Ares Trading S.A., an affiliate of Serono S.A. Under the agreement, the Company
has the exclusive rights to market and promote the drug for approved oncology
indications in the United States. The drug is also approved for advanced forms
of multiple sclerosis. Serono will continue to be responsible for the marketing
of the multiple sclerosis indication of Novantrone(R) and will record all U.S.
sales for all indications including oncology indications. Sales commissions from
Novantrone(R) are recognized based on estimated net oncology sales in the period
the sales occur. Sales commissions are subject to further adjustment based on
final information regarding the split between oncology and multiple sclerosis
sales of Novantrone(R), as determined by an independent third party.
5
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 related research and
development activities undertaken.
(3) Co-Promotion Agreement
On March 11, 2003, the Company entered into a Co-Promotion Agreement
with Ares Tradings, S.A., an affiliate of Serono S.A., to market and promote the
drug Novantrone(R) for approved oncology indications in the United States
through December 2017. In consideration for these exclusive rights, the Company
paid $45.0 million in cash. This payment and related professional fees are
included in other intangible assets in the accompanying consolidated balance
sheet as of March 31, 2003 and are being amortized on a straight-line basis
through expiration of the Novantrone(R) patent in April 2006. In consideration
for certain transition services required to be provided by Serono, the Company
also paid a fee of $10.0 million, which is included in prepaid expenses and
other current assets in the accompanying consolidated balance sheet as of March
31, 2003, and is being recognized over a four-month transition period from the
effective date of the agreement. Under the terms of the agreement, the Company
will also pay quarterly maintenance fees to Serono until the later of the
expiration of the last valid patent claim or the first generic date, as defined
in the agreement. Such maintenance fees will be expensed as incurred. The
Company will receive commissions on net sales of Novantrone(R) in the United
States for all oncology uses.
(4) Acquisition
On December 21, 2001, the Company acquired certain assets from Gilead
Sciences, Inc. pursuant to the terms of an Asset Purchase Agreement dated as of
November 26, 2001. 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 $135.7
million, which includes professional fees and the assumption of certain
liabilities, and issued 924,984 shares of common stock, valued at $40.0 million.
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 value assigned to the acquired in-process research and development 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 and is included in the
accompanying consolidated statement of operations for the six months ended March
31, 2002.
(5) Restricted Investments Securities
With respect to the convertible senior subordinated notes, issued in
February 2002, the Company originally pledged $22.9 million of U.S. government
securities (the "Restricted Investment Securities") with maturities at various
dates through November 2004. The aggregate
6
amortized cost of the Restricted Investment Securities at March 31, 2003 and
September 30, 2002 was $16.4 million and $19.3 million, respectively.
(6) Comprehensive Income (Loss)
Comprehensive loss for the three and six months ended March 31, 2003
and 2002 was as follows (in thousands):
Three months ended Six months ended
March 31, March 31,
------------------------- -------------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Net loss .................................... $ (27,169) $ (24,515) $ (57,269) $(166,897)
Other comprehensive income (loss):
Foreign currency translation adjustments (364) (401) 296 (655)
Unrealized holding losses arising
during period ...................... (262) (1,972) (328) (2,871)
Less: Reclassification adjustment for
(gains) losses realized in net loss 7 (88) (341) 181
--------- --------- --------- ---------
(619) (2,461) (373) (3,345)
--------- --------- --------- ---------
Total comprehensive loss .................... $ (27,788) $ (26,976) $ (57,642) $(170,242)
========= ========= ========= =========
The components of accumulated other comprehensive income were as
follows (in thousands):
March 31, September 30,
2003 2002
--------- -------------
Cumulative foreign currency translation
adjustment ...................................... $ (24) $ (320)
Unrealized gains on available-for-sale
securities ...................................... 656 1,325
------- -------
Accumulated other comprehensive income ........... $ 632 $ 1,005
======= =======
7
(7) Net Loss per Common Share
A reconciliation between the numerators and the denominators of the
basic and diluted net loss per share computation is as follows (in thousands
except per share data):
Three months ended Six months ended
March 31, March 31,
------------------------------- ----------------------------
2003 2002 2003 2002
------------ ------------ ------------ ---------
Net loss available for common
stockholders .......................... $ (27,169) $ (24,515) $ (57,269) $(166,897)
============ ============ ============ =========
Weighted average common shares ............. 36,448 36,147 36,431 35,637
Effect of common share equivalents ......... -- -- -- --
------------ ------------ ------------ ---------
Weighted average common and potential common
shares outstanding .................... 36,448 36,147 36,431 35,637
============ ============ ============ =========
Basic loss per share ....................... $ (0.75) $ (0.68) $ (1.57) $ (4.68)
============ ============ ============ =========
Diluted loss per share ..................... $ (0.75) $ (0.68) $ (1.57) $ (4.68)
============ ============ ============ =========
Basic and diluted net loss per share is computed by dividing the net
loss by the weighted average number of common shares outstanding during the
period. The diluted net loss per share presented excludes the effect of common
share equivalents (stock options and convertible debt) since such inclusion in
the computation would be anti-dilutive. Such common share equivalents (stock
options and convertible debt, assuming all shares upon conversion would be
dilutive) amounted to 4.0 million for the three and six months ended March 31,
2003. Such common share equivalents (stock options and convertible debt,
assuming all shares upon conversion would be dilutive) amounted to 5.6 million
and 3.7 million for the three and six months ended March 31, 2002, respectively.
(8) Consolidation of Facility
In the fourth quarter of fiscal 2001, the Company announced its
strategic decision to close down its Birmingham, England facility. The
operations at the Birmingham, England facility ceased on March 31, 2002 and the
Company completed closing down the facility in April 2003. In March 2003, the
Company entered into a surrender agreement whereby the landlord released the
Company of its obligations under the remaining facility leases in consideration
for a payment of approximately $662,000. This payment was made in April 2003. As
a result, the Company recorded an adjustment to reduce the restructuring reserve
by $180,000 in March 2003. The facility leases had an original expiration date
of January 2006.
As of March 31, 2003, the remaining restructuring reserve relating to
the consolidation of the Birmingham, England facility was $771,000 relating to
non-cancelable lease exit costs. The consolidation activity for the six months
ended March 31, 2003 was as follows (in thousands):
8
Lease Exit Costs
Balance at September 30, 2002.......................... $1,630
Lease Exit Costs
Cash paid.............................................. (710)
Change in estimates.................................... (180)
Foreign currency translation adjustments............... 31
------
Balance at March 31, 2003.............................. $ 771
------
(9) Sale of Diagnostics Business
On November 30, 1999, the Company sold assets of its diagnostics
business to The Bayer Corporation including the assets of the Company's
wholly-owned diagnostics subsidiary, OSDI, Inc., 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 sale, the Company received a
contingent payment of $1.0 million in December 2001, which is included in other
income for the six months ended March 31, 2002.
(10) Accounting for Goodwill and Other Intangible Assets
Effective October 1, 2002, the Company fully adopted SFAS No. 142,
"Goodwill and Other Intangible Assets." SFAS No. 142 requires that goodwill and
intangible assets determined to have indefinite lives no longer be amortized but
instead be tested for impairment at least annually and whenever events or
circumstances occur that indicate impairment might have occurred.
As of September 30, 2002, the Company's intangible assets were $39.1
million, consisting of $36.5 million of goodwill, $2.1 million of acquired
workforce, and $458,000 for a license to compound libraries. In accordance with
SFAS No. 142, the goodwill has not been amortized as it was acquired in
connection with the acquisition of certain oncology assets from Gilead, which
occurred after July 1, 2001. Upon full adoption of SFAS No. 142, acquired
workforce no longer meets the definition of an identifiable intangible asset. As
a result, the net balance of $2.1 million as of September 30, 2002 was
reclassified to goodwill. The carrying amount of goodwill as of March 31, 2003,
inclusive of the acquired workforce, was $38.7 million, which includes a $54,000
effect from foreign currency exchange rate fluctuations during the six-month
period ended March 31, 2003.
In March 2003, the Company acquired from Ares Trading S.A., an
affiliate of Serono S.A., the exclusive rights to market and promote the drug
Novantrone(R) for the approved oncology indications in the United States. As a
result, the Company recorded an intangible asset of $46.0 million, which is
being amortized over the remaining 37-month life of the underlying patent.
As of March 31, 2003, the Company's identifiable intangible assets were
$45.7 million, consisting of $352,000 for the license for compound libraries and
$45.4 million for the rights to market and promote Novantrone(R) for approved
oncology indications in the United States. These identifiable intangible assets
are subject to amortization. The Company reassessed the
9
useful life of the license to compound libraries upon the adoption of SFAS No.
142 to make any necessary amortization period adjustments. No adjustments
resulted from this assessment. Amortization expense for these intangible assets
for the three and six months ended March 31, 2003 was $689,000 and $744,000,
respectively. Amortization expense for the three and six months ended March 31,
2002 was $52,000 and $105,000, respectively. Amortization expense is estimated
to be $7.6 million for the remainder of fiscal 2003, $15.2 million in fiscal
2004, $14.9 million in fiscal 2005, and $8.1 million in fiscal 2006.
Under the non-amortization approach, goodwill and certain other
intangibles are not amortized into results of operations but instead are
reviewed for impairment, written down, and charged to results of operations in
periods in which the recorded value of goodwill and certain other intangibles is
more than their implied fair value. The Company completed its impairment review
of goodwill during the first quarter of fiscal 2003 and determined that no
impairment charge was required upon adoption. A reconciliation of previously
reported net loss and net loss per share to the amounts adjusted for the
exclusion of acquired workforce amortization is as follows (in thousands except
per share data):
For the three months ended For the six months ended
March 31, March 31,
----------------------------- -----------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net loss .......................... $ (27,169) $ (24,515) $ (57,269) $ (166,897)
Goodwill amortization ............. -- -- -- --
Acquired workforce amortization ... -- 254 -- 512
----------- ----------- ----------- -----------
Adjusted net loss ................. $ (27,169) $ (24,261) $ (57,269) $ (166,385)
=========== =========== =========== ===========
Reported basic and diluted net loss
per share ......................... $ (0.75) $ (0.68) $ (1.57) $ (4.68)
Goodwill amortization per share ... -- -- -- --
Acquired workforce amortization per
share ............................. -- 0.01 -- 0.01
----------- ----------- ----------- -----------
Adjusted basic and diluted net loss
per share ......................... $ (0.75) $ (0.67) $ (1.57) $ (4.67)
=========== =========== =========== ===========
(11) Stock Options
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure." SFAS No. 148 provides
alternative methods of transition for a voluntary change to the fair value
method of accounting for stock-based employee compensation as originally
provided by SFAS No. 123, "Accounting for Stock-Based Compensation."
Additionally, SFAS No. 148 amends the disclosure provisions of SFAS No. 123 to
require prominent disclosure in both the annual and interim financial statements
about the method of accounting for stock-based compensation and the effect of
the method used on reported results. The Company adopted the disclosure portion
of this statement in the current fiscal quarter ended March 31, 2003. The FASB
recently indicated that they will require stock-based employee compensation to
be recorded as a charge to earnings beginning in 2004.
Stock option grants are generally set at the closing price of the
Company's common stock on the date of grant and the related number of shares
granted are fixed at that point in time.
10
Therefore under the principles of APB Opinion No. 25, the Company does not
recognize compensation expense associated with the grant of stock options. SFAS
No. 123 requires the use of option valuation models to determine the fair value
of options granted after 1995. Pro forma information regarding net loss and loss
per share shown below was determined as if the Company had accounted for its
employee stock options and shares sold under its stock purchase plan under the
fair value method of SFAS No. 123.
The fair value of the options was estimated at the date of grant using
a Black-Scholes option pricing model. For purposes of pro forma disclosures, the
estimated fair value of the options is amortized over the options' vesting
periods. The pro forma effect on net loss for the periods presented is not
representative of the pro forma effect on net income or loss in future years
because it does not take into consideration pro forma compensation expense
related to grants made prior to fiscal 1996. The Company's pro forma information
is as follows (in thousands, except per share information):
Three Months Ended Six Months Ended
March 31, March 31,
----------------------------- -----------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net loss .................................... $ (27,169) $ (24,515) $ (57,269) $ (166,897)
Compensation cost determined under fair value
method .................................... (4,608) (4,473) (9,286) (7,984)
----------- ----------- ----------- -----------
Pro forma net loss .......................... $ (31,777) $ (28,988) $ (66,555) $ (174,881)
=========== =========== =========== ===========
Basic and diluted loss per common share:
Net loss .................................. $ (0.75) $ (0.68) $ (1.57) $ (4.68)
Compensation cost ......................... $ (0.12) $ (0.12) $ (0.26) $ (0.23)
----------- ----------- ----------- -----------
Pro forma net loss ........................ $ (0.87) $ (0.80) $ (1.83) $ (4.91)
=========== =========== =========== ===========
(12) Amendment to Stock Option Plan
On December 11, 2002, the Board of Directors approved an amendment to
the 2001 Incentive and Non-Qualified Stock Option Plan (the "Stock Option
Plan"). The amendment to the Stock Option Plan only affected the automatic,
formula-based grants of non-qualified stock options to directors who are not
employees of the Company. Under the amended formula, each individual who becomes
a director on or after January 1, 2003 will receive an initial option to
purchase 50,000 shares of common stock upon his or her election to the Board.
Persons elected to the Board after June 13, 2001 but prior to January 1, 2003
were entitled to an initial grant of an option to purchase 30,000 shares of
common stock upon their initial election. All persons elected to the Board after
June 13, 2001 receive annual grants of options to purchase 7,500 shares upon
reelection to the Board. Persons elected to the Board prior to June 13, 2001
will continue to be eligible, upon reelection to the Board, for annual grants of
options to purchase shares of common stock in an amount which depends upon the
number of years of service as a director (20,000 shares reducing to 7,500
shares).
11
(13) Amendment to the Stock Purchase Plan for the Non-Employee Directors
On December 11, 2002, the Board of Directors approved an amendment to
the Company's Stock Purchase Plan for Non-Employee Directors which was adopted
as of March 25, 1996 (the "Stock Purchase Plan"). Pursuant to the amended Stock
Purchase Plan, fifty-percent of the annual retainer fee earned by each
non-employee director will be paid to the director in the form of a restricted
stock award. The restricted stock award will be made as of each annual
stockholder meeting at which directors are elected beginning with the Annual
Meeting of Stockholders which occurred on March 19, 2003. Annual restricted
stock awards will vest in monthly installments over the one-year term for which
the award is made. In the event a director's membership on the Board terminates
prior to the end of such one-year term, any unvested portion of the director's
restricted stock award will be forfeited. Shares of restricted stock awarded
annually may not be sold or transferred by the director until the first
anniversary of the date of grant of such award. Non-employee directors may elect
to receive the remaining fifty-percent of the director's annual retainer in the
form of shares of common stock under the Stock Purchase Plan as well.
(14) Proposed Acquisition of Cell Pathways, Inc.
On February 10, 2003, the Company announced that it signed a merger
agreement to acquire Cell Pathways, Inc. via a stock-for-stock merger valued at
approximately $32 million based on the closing price of the Company's stock on
February 7, 2003. Cell Pathways, based in Horsham, Pennsylvania, is a
development stage biotechnology company based upon an innovative platform
approach to the discovery and development of small molecule drugs designed to
selectively induce apoptosis, or programmed cell death, in pre-cancerous and
cancerous cells. Under the terms of the merger agreement, which has been
approved by the boards of directors of both the Company and Cell Pathways, upon
the closing of the transaction the Company will exchange one share of Cell
Pathways common stock for .0567 shares of the Company's common stock and a
contingent value right to receive .04 shares of the Company's common stock in
the event a new drug application is accepted for filing with the U.S. Food and
Drug Administration within five years after consummation of the merger for
either of Cell Pathways' two clinical candidates, Aptosyn(R) (exislund) or
CP461. The closing of the transaction is subject to Cell Pathways stockholder
approval. A special meeting of the Cell Pathways stockholders for the purpose of
voting on the merger is scheduled for June 10, 2003.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THREE AND SIX MONTHS ENDED MARCH 31, 2003 AND 2002
OVERVIEW
We are a leading biotechnology company focused on the discovery,
development and commercialization of high-quality oncology products that both
extend life and improve the quality-of-life for cancer patients worldwide. We
have established a balanced pipeline of oncology drug candidates that includes
both next-generation cytotoxic chemotherapy agents and novel mechanism-based,
gene-targeted therapies focused in the areas of signal transduction and
12
apoptosis. We currently have four proprietary candidates in clinical development
and two additional candidates in clinical development with Pfizer Inc. On March
11, 2003 we added to our oncology product portfolio the right to market and
promote Novantrone(R) for approved oncology indications, as further discussed
below.
Our most advanced drug candidate, Tarceva(TM) (erlotinib HCl), is a
small molecule inhibitor of the epidermal growth factor receptor, or HER1/EGFR.
The protein product of the HER1/EGFR gene is a receptor tyrosine kinase that is
over-expressed or mutated in many major solid tumors. We believe HER1/EGFR
inhibitors represent an exciting new class of relatively safe and well tolerated
anti-cancer agents that may have utility in treating a wide range of cancer
patients. Tarceva(TM) is an oral once-a-day small molecule drug designed to
specifically block the activity of the HER1/EGFR protein. Currently, we are
developing Tarceva(TM) in an alliance with Genentech, Inc. and Roche. If the
drug receives regulatory approval, Genentech will lead the marketing effort in
the United States and Roche will market it in the rest of the world. We will
receive milestone payments from both Genentech and Roche, an equal profit share
from U.S. sales, and royalties on sales outside of the United States.
Tarceva(TM) has demonstrated encouraging indications of anti-cancer activity in
single-agent, open label Phase II trials in non-small cell lung cancer, head and
neck cancer and ovarian cancer. Tarceva(TM) is currently in Phase III clinical
trials for non-small cell lung cancer and pancreatic cancer. In January 2003, we
announced the completion of patient enrollment in the Phase III
refractory/advanced non-small cell lung and pancreatic cancer trials. The
alliance has now completed target enrollment in all four Phase III Tarceva(TM)
trials, which involves a total of approximately 3,500 patients. In April 2003,
we announced that based on data from a Phase I study in glioblastoma, a decision
to continue with a comprehensive Phase II program has been made for this
indication.
Behind Tarceva(TM) we have five additional drug candidates in earlier
stages of clinical development. Three of these (OSI-211, OSI-7904L and OSI-7836)
are next generation cytotoxic chemotherapy agents, which are being developed by
us, and the other two (CP-547,632 and CP-724,714) are gene-targeted therapies
currently being developed by Pfizer. We own commercial rights to the first three
and will receive royalty payments on the latter two if they are successfully
commercialized. Our next generation cytotoxic chemotherapy candidates are
designed to improve upon currently marketed products in the same drug class.
OSI-211 is a liposomal formulation of lurtotecan, a topoisomerase-I inhibitor,
that is being developed to compete with topotecan (Hycamtin(R)). OSI-7904L is a
liposomal formulation of a thymidylate synthase inhibitor, GW 1843, that is
being developed as a potential competitor to 5-Fluorouracil (5-FU) and
capecitabine (Xeloda(R)), and OSI-7836 is a nucleoside analog being developed to
compete with gemcitabine (Gemzar(R)). OSI-211 is in Phase II clinical trials,
and OSI-7904L and OSI-7836 are in Phase I clinical trials. Like Tarceva(TM), the
two gene-targeted therapies are receptor tyrosine kinase inhibitors. CP-547,632
is a small molecule targeting the vascular endothelial growth factor receptor,
or VEGFR, and CP-724,714 is a small molecule targeting HER2/erbB2. Both agents
are currently in Phase I clinical trials.
In order to support our clinical pipeline, we have established (through
acquisition and internal investment) a high quality oncology clinical
development and regulatory affairs capability and a pilot scale chemical
manufacturing and process chemistry group. Behind our clinical pipeline we have
an extensive, fully integrated small molecule drug discovery
13
organization designed to generate a pipeline of high quality oncology drug
candidates to move into clinical development. This research operation has been
built upon our historical strengths in high throughput screening, chemical
libraries, medicinal and combinatorial chemistry, and automated drug profiling
technology platforms. With oncology as our focus, we have made the strategic
decision to divest all non-oncology research programs by the end of fiscal 2003
and realign our internal research effort toward an oncology strategy focused on
the discovery of novel anti-cancer drugs targeting defects in signal
transduction and apoptosis that are necessary for the growth of many human
tumors. In July 2002, we agreed to accelerate the conclusion of the phase-down
period of our funded research alliance with Anaderm Research Corporation, a
wholly-owned subsidiary of Pfizer focused on the development of novel treatments
for skin and hair conditions. As of March 31, 2003, we received the full $8.0
million phase-down fee for the complete transfer to Anaderm all of our research
related to this collaboration. We will also receive royalties on the sale of
products for these treatments which may arise from compounds that we have
identified. We plan to divest our diabetes research program into a newly formed
and externally funded entity in which we will maintain a minority interest. Our
diabetes program includes a partnership with the Vanderbilt University Diabetes
Center, a funded alliance with Tanabe Seiyaku Co. Ltd., and six proprietary
gene-targeted discovery programs in the lead seeking and lead optimization
phases, primarily focused in the glucose regulation and obesity fields. We
intend to transfer to this entity our existing diabetes teams comprised of
approximately 25 employees. If we are unable to obtain external funding for this
newly formed entity, we will consider other alternatives to discontinue the
diabetes program, including out-licensing our diabetes assets and reducing our
employee headcount.
On February 10, 2003, we signed a merger agreement to acquire Cell
Pathways, Inc. via a stock-for-stock merger valued at approximately $32.0
million based on the closing price of our common stock on February 7, 2003. Cell
Pathways, based in Horsham, Pennsylvania, is a development stage biotechnology
company which uses an innovative platform approach to the discovery and
development of small molecule drugs designed to selectively induce apoptosis, or
programmed cell death, in pre-cancerous and cancerous cells. Cell Pathways has
two drug candidates in clinical development: Aptosyn(R), which is currently in
Phase III trials in combination with Taxotere(R) for the treatment of advanced
non-small cell lung cancer, and CP461, a more potent, second-generation molecule
that is currently being evaluated in dose ranging Phase I studies and a series
of exploratory Phase II studies in chronic lymphocytic leukemia, renal cell
carcinoma and prostate cancer. In addition, CP461 is being evaluated in a Phase
II study for inflammatory bowel disease where there has been encouraging initial
indications of activity in the form of symptom improvement and a remission. In
addition to the apoptosis platform, Cell Pathways has licensed North American
rights to Gelclair(TM), a device cleared for sale by the U.S. Food and Drug
Administration, or FDA, through a 510K application, effective as a mechanical
barrier for the management and relief of pain associated with oral mucositis, a
debilitating side effect often seen in cancer patients undergoing radiation
treatment and chemotherapy. In exchange for each share of Cell Pathways common
stock, the stockholders of Cell Pathways will receive .0567 shares of OSI common
stock and a contingent value right to receive .04 shares of OSI common stock in
the event a new drug application is accepted for filing with the FDA within five
years after consummation of the merger for either of Cell Pathways' two clinical
candidates, Aptosyn(R) (exislund) or CP461. The transaction is
14
subject to Cell Pathways stockholder approval. A special meeting of the Cell
Pathways stockholders for the purpose of voting on the merger is scheduled for
June 10, 2003.
On March 11, 2003, we entered into an agreement to market and promote
the drug Novantrone(R) for approved oncology indications in the United States
from Serono S.A. pursuant to the terms of a Co-Promotion Agreement between the
Company and Ares Tradings, S.A., an affiliate of Serono. In consideration for
exclusive marketing and promotion rights we paid $45.0 million in cash. In
consideration for certain transition services required to be provided by Serono
during a four month transition period starting on the effective date of the
agreement, we also paid a fee of $10.0 million. Under the terms of the
agreement, we will also pay quarterly maintenance fees to Serono until the later
of the expiration of the last valid patent claim or the first generic date. We
will receive commissions on net sales of Novantrone(R) in the United States for
the oncology indications. Novantrone(R) is approved by the FDA for the treatment
of acute nonlymphocytic leukemia, which includes myelogenous, promyelocytic,
monocytic and erythroid acute leukemias, and the relief of pain associated with
advanced hormone-refractory prostate cancer. The drug is also approved for
certain advanced forms of multiple sclerosis. Serono will continue to be
responsible for the marketing of the multiple sclerosis indication for
Novantrone(R) and will record all U.S. sales in all indications.
To support Novantrone(R), we intend to build commercial operations
which will include a sales force and an associated marketing and sales
management infrastructure. These exclusive rights to a high quality marketed
oncology product allows us to seed a commercial organization and begin to build
a revenue base. We believe the tangible and intangible benefits of this
transaction are significant in that they include opening up the possibility for
future in-licensing and co-promotion deals for other marketed products, the
ability to directly market in the U.S. our future pipeline products as well as
the further validation of our Company as a quality development and
commercialization partner for oncology development candidates. In addition, it
may allow us to further explore our co-promotion rights for Tarceva(TM) in the
United States with our partner, Genentech.
CRITICAL ACCOUNTING POLICIES
We prepare our consolidated financial statements in accordance with
accounting principles generally accepted in the United States. 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 as of 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, as amended, for the year
ended September 30, 2002 includes a summary of the significant accounting
policies used in the preparation of the consolidated financial statements.
15
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, or SAB No. 101. Our most
significant application of this policy, to date, is the $25.0 million in upfront
fees received from Genentech and Roche in January 2001 which was originally
being recognized evenly over the expected three-year term of our required
research and development efforts under the terms of the agreement. The expected
term is subject to change based upon the parties' continuous monitoring of
current research data and their projections for the remaining development
period. A change in this expected term impacts the period over which the
remaining deferred revenue would be recognized. In the fourth quarter of fiscal
2002, the expected term was changed to four years to reflect the revised
estimated timing of our research and development commitment for Tarceva(TM)
under the alliance. The revision was a result of the review of the current
research data available, current developments in the HER1/EGFR targeted therapy
market and the involved parties' revised projections for the clinical
development plan. As a result of this revision, we recorded revenues of $1.3
million and $2.5 million for the three and six months ended March 31, 2003,
respectively, compared to $2.1 million and $4.2 million had the upfront fees
continued to be recognized over a three-year period. 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. Sales
commissions represent the commissions earned on Novantrone(R) sales for oncology
uses pursuant to the Co-Promotion Agreement with Ares Trading S.A., an affiliate
of Serono S.A. Under the terms of the agreement, we have the exclusive rights to
market and promote the drug for approved oncology indications in the
United States. The drug is also approved for advanced forms of multiple
sclerosis. Serono will continue to be responsible for the marketing of the
multiple sclerosis indication of Novantrone(R) and will record all U.S. sales
for all indications, including oncology indications. Sales commissions from
Novantrone(R) are recognized based on estimated net oncology sales in the period
the sales occur. Sales commissions are subject to further adjustment based on
final information regarding the split between oncology and multiple sclerosis
sales of Novantrone(R), as determined by an independent third party.
Accruals for Clinical Research Organizations 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, including levels of patient
enrollment, 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.
16
Accounting for Goodwill and Other Intangible Assets
Effective October 1, 2002, we fully adopted SFAS No. 142, "Goodwill and
Other Intangible Assets." SFAS No. 142 requires that goodwill and certain other
intangibles are not amortized into results of operations but instead are
reviewed for impairment at least annually and written down, and charged to
results of operations in periods in which the recorded value of goodwill and
certain other intangibles is more than their implied fair value. We completed
our impairment review of goodwill during the first quarter of fiscal 2003 and
determined that no impairment charge was required upon adoption.
Our identifiable intangible assets are subject to amortization. We
reassessed the useful life of our intangible asset (license for compound
libraries) upon adoption of SFAS No. 142 to make any necessary amortization
period adjustments. No adjustments resulted from this assessment. In March 2003,
we acquired from Serono the exclusive rights to market and promote the drug
Novantrone(R) for the approved oncology indications in the United States. As a
result, we recorded an identifiable intangible asset with an estimated useful
life through the expiration of the Novantrone(R) patent in April 2006.
Accounting for the Impairment of Long-Lived Assets
On October 1, 2002, we adopted the provisions of SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144
requires, among other things, that long-lived assets to be measured at the lower
of carrying amount or fair value, less cost to sell, whether reported in
continuing operations or in discontinued operations. Intangibles with
determinable lives 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 with determinable lives and other long-lived assets are impaired
which may result in an adverse impact on our financial condition and results of
operations. The adoption of SFAS No. 144 did not have an impact on our
consolidated financial statements as of and for the six-month period ended March
31, 2003.
REVENUES
Total revenues for the three and six months ended March 31, 2003 were
$7.6 million and $12.1 million, respectively, compared to revenues of $6.8
million and $12.7 million for the three and six months ended March 31, 2002,
respectively. We began recording Novantrone(R) sales commission revenues on
March 11, 2003, subsequent to the execution of the Co-Promotion Agreement with
Ares Trading S.A., an affiliate of Serono. Total estimated sales commissions for
the period March 11, 2003 to March 31, 2003 were $887,000. Sales commissions are
subject to further adjustment based on final information on the split between
oncology and multiple sclerosis sales of Novantrone(R), as determined by an
independent third party. We estimate that our total fiscal 2004 sales
commissions on Novantrone(R) oncology sales will be between $20 million and $30
million.
17
Total collaborative program revenues increased $1.2 million or 30% and
$1.1 million or 15% for the three and six months ended March 31, 2003,
respectively, compared to the three and six months ended March 31, 2002. These
increases were primarily due to the phase-down of our collaboration with
Anaderm. In July 2002, we entered into an agreement with Pfizer to accelerate
the phase-down period of the collaboration with Anaderm so that it would
terminate no later than April 23, 2003. In consideration for the work to be
performed by us during the accelerated phase-down period, we received $4.5
million in September 2002 and $3.5 million in March 2003 upon the successful
completion of the transition period. The $4.5 million was recognized as revenue
ratably over the term of the transition period and the $3.5 million was
recognized during the three months ended March 31, 2003 upon the successful
completion of the transition. As a result of our strategic decision to divest
all non-oncology research programs, as well as the completion of the Anaderm
collaboration in the second quarter of fiscal 2003, we expect collaborative
revenues to decrease.
License and other revenues decreased $1.3 million or 46% and $2.5
million or 46% for the three and six months ended March 31, 2003, respectively,
compared to the three and six months ended March 31, 2002. These decreases were
primarily due to the decrease in the amount of revenue recognized relating to
the $25.0 million upfront fees received from Genentech and Roche (see note 2 to
the accompanying unaudited consolidated financial statements). In accordance
with the provisions of SAB No. 101, we were recognizing the $25.0 million
received from Genentech and Roche evenly over the expected three-year
development phase of our agreement. In the fourth quarter of fiscal 2002, we
changed the expected term of the agreement to four years to reflect the revised
estimated timing of our research and development commitment for Tarceva(TM)
under the alliance. The revision was a result of the review of the current
research data available, current developments in the HER1/EGFR targeted therapy
market and the involved parties' revised projections for the clinical
development plan. In accordance with Accounting Principles Board Opinion No. 20,
"Accounting Changes," the remaining deferred revenue will be recognized
prospectively over the revised term. As a result, we recorded revenues of $1.3
million and $2.5 million during the three and six months ended March 31, 2003,
respectively, compared to revenues of $2.1 million and $4.2 million in the
comparable periods of fiscal 2002. The decreases were also due to a decrease in
revenues of approximately $280,000 and $700,000 for the three and six month
period, respectively, related to certain administrative services provided to
British Biotech plc and Gilead Sciences, Inc. during the transition periods
following the respective acquisitions of certain assets.
EXPENSES
Operating expenses of $35.1 million increased $2.0 million or 6% for
the three months ended March 31, 2003 compared to the three months ended March
31, 2002. Operating expenses of $70.9 million decreased $115.8 million or 62%
for the six months ended March 31, 2003 compared to the six months ended March
31, 2002. Excluding the in-process R&D charge of $130.2 million recorded in the
six months ended March 31, 2002, operating expenses increased $14.4 million or
25% for the six months ended March 31, 2003 compared to the six months ended
March 31, 2002. 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; (ii) the $130.2 million charge
18
related to the in-process R&D related to the oncology assets acquired from
Gilead in December 2001; (iii) selling, general and administrative expenses; and
(iv) amortization of intangibles.
The largest component of our total expenses is our ongoing investments
in research and development and particularly the clinical development of our
product pipeline. We currently have six drug candidates in clinical development
including our most advanced candidate, Tarceva(TM), which is currently in phase
III trials for non-small cell lung cancer and pancreatic cancer and for which
Phase II trials for glioblastoma will shortly begin. The other five drug
candidates are in earlier stages of clinical development. Three of these
(OSI-211, OSI-7904L and OSI-7836) are next generation cytotoxic chemotherapy
agents which are being developed by us. The other two (CP-547,632 and CP-724,
714) are gene-targeted therapies currently being developed by Pfizer which
require no further research and development investment by us. We consider the
active management and development of our clinical pipeline to be crucial to the
long-term success of the company. Due to the inherent risks associated with the
drug discovery development, regulatory and approval process, we manage our
overall research, development and in-licensing efforts in a manner designed to
generate a constant flow of clinical candidates into development to offset both
the advancement of products to the market and the anticipated attrition rate of
drug candidates that fail in clinical trials or are terminated for business
reasons. The table below summarizes the typical duration of each phase of
clinical development and the typical cumulative probabilities of success for
approval of drug candidates entering clinical development. The numbers are based
upon industry survey data for small molecule drugs:
Estimated Cumulative
Development Phase Estimated Completion Time Probability of Success
Phase I 1-2 Years 20%
Phase II 1-2 Years 30%
Phase III 2-3 Years 65%
Registration 6-15 months 85%
The actual probability of success for each drug candidate and clinical
program will be impacted by a variety of factors, including the quality of the
molecule, the validity of the target and disease indication, early clinical
data, investment in the program, competition and commercial viability. Because
we manage our pipeline in a dynamic manner, it is difficult to give accurate
guidance on the anticipated proportion of our research and development
investments assigned to any one program prior to the phase III stage of
development, as well as the future cash inflows from these programs. However, in
FY2003 we anticipate investing a total of approximately $35 million in
pre-clinical research and approximately $75 million in clinical development. We
consider this level of investment suitable to sustain one to two phase III
programs and two to four earlier clinical stage programs at any time and we
manage our overall research and development investments toward this level of
activity.
Research and development expenses decreased $2.8 million or 10% for the
three months ended March 31, 2003 compared to the three months ended March 31,
2002. Research and development expenses increased $8.2 million or 19% for the
six months ended March 31, 2003 compared to the six months ended March 31, 2002.
The decrease for the three months was primarily related to (i) the acceleration
of the phase-down period of the Anaderm collaboration which was completed during
the three months ended March 31, 2003, (ii) a decreased investment
19
in our proprietary diabetes program, and (iii) decreased investments in certain
proprietary oncology candidates acquired from Gilead. The decrease for the three
months ended March 31, 2003 was offset by increased costs associated with the
clinical development of Tarceva(TM) under our Tripartite Agreement with
Genentech and Roche and increased investments in other proprietary cancer
programs. The increase for the six months ended March 31, 2003 was also due to
an increase in costs associated with the clinical development of Tarceva(TM) and
certain proprietary cancer programs. Included in research and development
expenses for the six months ended March 31, 2003 is a severance charge of
$694,000. This charge related to a reduction in our headcount in October 2002 as
we refocused our business on oncology and away from services that we had
historically provided to our former collaborative partners.
Our most advanced development program is for Tarceva(TM). In January
2001, we entered into the alliance with Genentech and Roche for the global
development and commercialization of Tarceva(TM). The significant perceived
market potential for Tarceva(TM) has resulted in the alliance partnership
committing to an unusually large and comprehensive global development plan for
the candidate. The global development plan comprises four major phase III
clinical trials in lung and pancreatic cancer and a large number of earlier
stage trials in a variety of disease settings, including glioblastoma. In
addition numerous collaborative and investigator sponsored studies are ongoing
in a number of other disease settings including bronchioalveolar carcinoma and
gynecological malignancies. The alliance partners have committed to invest a
combined $300 million in the global development plan to be shared equally by the
three parties. Additional research and development investments can be made by
the parties outside of the global development plan with the consent of the other
parties. We estimate that we will invest an additional $10-$15 million in
Tarceva(TM) research and development outside of the global development plan
prior to the drug's targeted launch in the second half of 2004. As of March 31,
2003, we have invested in excess of $60 million, representing our share of the
costs incurred to date in the tripartite global development plan and additional
investments outside the plan. Our share of the research and development expenses
for Tarceva(TM) incurred for the three and six months ending March 31, 2003 were
$9.0 million and $20.6 million, respectively. We anticipate investing a majority
of the remaining $50-55 million we have provisionally budgeted for this program
over the next two years. Should Tarceva(TM) be successfully registered and
launched we would anticipate a lower level but continued research and
development investment in the product to support its commercial growth.
In connection with the acquisition of certain assets from Gilead in
December 2001, we recorded an in-process R&D charge of $130.2 million during the
three months ended December 31, 2001, 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 4 to the accompanying
consolidated financial statements). 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, R&D costs, selling, general and administrative costs, and the net cash
flow reflects the assumptions that would be used by market participants. We
believe that the assumptions used in
20
the valuation of purchased in-process technology represented a reasonable
estimate of the future benefits attributable to the purchased in-process
technology at the time of the acquisition. No assurance can be given that actual
results will not deviate from those assumptions in future periods. The acquired
in-process R&D was allocated to the following three oncology candidates:
OSI-211, OSI-7904L and OSI-7836.
For each project, we need to successfully complete a series of clinical
trials and to receive FDA or other regulatory approvals prior to
commercialization. There can be no assurances that any of these candidates 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 candidates, we may discontinue such further
development of certain or all of these candidates.
Selling, general and administrative expenses increased $4.4 million or
70% and $6.0 million or 50% for the three and six months ended March 31, 2003,
respectively, compared to the three and six months ended March 31, 2002. The
increases were due to (i) increased commercialization and marketing costs
relating to Tarceva(TM) which are shared with Genentech in accordance with the
terms of our collaboration with Genentech, (ii) additional management and
administrative personnel to support our clinical trial programs, research and
development efforts, and (iii) expenses related to transition support services
provided by Serono relating to Novantrone(R) sales in oncology indications. The
increase for the six months ended March 31, 2003 was slightly offset by a
decrease in relocation expenses relating to the consolidation of our Birmingham,
England facility with our Oxford, England facility. Included in selling, general
and administrative expenses for the six months ended March 31, 2003 is a
severance charge of $249,000 relating to a reduction in our headcount in October
2002. In connection with the exclusive rights to market and promote
Novantrone(R) for approved oncology indications in the United States, we
secured a short-term transitional arrangement with a contract sales
organization comprising a core of sales representatives as we build our
commercial operations. We expect selling, general and administrative costs to
increase as we build commercial operations which will include a sales force and
an associated marketing and sales management infrastructure. The initial sales
and marketing infrastructure will be comprised of approximately 60 sales and
marketing personnel, of which approximately 25-30 will be detail sales
representatives in the field. The balance of personnel will be management and
support positions.
Amortization of intangibles increased $384,000 or 125% and $128,000 or
21% for the three and six months ended March 31, 2003, respectively, compared to
the three and six months ended March 31, 2002. The increase related to $630,000
in amortization expense for the exclusive rights to market and promote the drug
Novantrone(R) for approved oncology indications in the United States. Offsetting
this increase was a $242,000 and $488,000 decrease in amortization expense for
the three months and six months ended March 31, 2002, respectively, attributable
to the full adoption of SFAS No. 142 on October 1, 2002, whereby we ceased
amortizing the assembled workforce acquired from British Biotech and
reclassified the balance of $2.1 million to goodwill.
21
OTHER INCOME AND EXPENSE
Net investment income decreased $1.2 million or 36% and $3.1 million or
39% for the three and six months ended March 31, 2003, respectively, compared to
the three and six months ended March 31, 2002. The decrease was primarily
attributable to a decrease in the average rate of return on our investments and
to less funds available for investment during the respective periods. Interest
expense increased $259,000 or 19% and $1.9 million or 138% for the three and six
months ended March 31, 2003, respectively, compared to the three and six months
ended March 31, 2002. The increase was primarily due to the interest expense
incurred on the convertible senior subordinated notes issued in February 2002, a
portion of which were retired in August and September 2002. The convertible
senior subordinated notes bear interest at 4% per annum, are payable
semi-annually, and mature on February 1, 2009. For the three months ended March
31, 2003 and 2002, other expense-net was $266,000 and $301,000, respectively.
Included in the three months ended March 31, 2003 was the amortization of debt
issuance costs of $203,000. Included in the three months ended March 31, 2002
was amortization of debt issuance costs of $157,000. For the six months ended
March 31, 2003 other expense-net was $123,000 compared to other income-net of
$471,000 for the six months ended March 31, 2002. Included in the six months
ended March 31, 2003 was amortization of debt issuance costs of $406,000 offset
by realized gains from the sale of investments of $338,000. Included in the six
months ended March 31, 2002 was the $1.0 million contingent payment received
from The Bayer Corporation in December 2001, in connection with the sale of the
diagnostic business in November 1999, offset by realized losses from the sale of
investments of $181,000 and amortization of debt issuance costs of $157,000.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2003, working capital, representing primarily cash, cash
equivalents, and restricted and unrestricted short-term investments, aggregated
$346.8 million compared to $444.6 million at September 30, 2002. This decrease
of $97.8 million resulted from the payment for the exclusive rights to market
and promote Novantrone(R) and related fees totaling $46.0 million, as well as
net operating cash burn for the period.
On February 1, 2002, we issued $200.0 million aggregate principal
amount of convertible senior subordinated notes in a private placement for net
proceeds to us of approximately $193.0 million. The notes bear interest at 4%
per annum, are payable semi-annually, and mature on February 1, 2009. We pledged
$22.9 million of U.S. government securities which will be sufficient to provide
for the payment in full of the first six scheduled interest payments on the
notes when due. In August and September 2002, we retired a total of $40.0
million in principal amount of the notes for an aggregate purchase price of
$26.2 million, including accrued interest. Should conditions warrant, we may
from time-to-time continue to enter the market to repurchase additional notes.
We expect to incur continued losses over the next several years as we
continue our investment in Tarceva(TM) and other product candidates in our
pipeline and build our commercial operations. The major expenses associated with
the broad-based Phase III development program for Tarceva(TM) are expected to
occur in fiscal 2003. We estimate that following the completion
22
and assimilation of both the Novantrone(R) rights acquisition and the Cell
Pathways merger, assuming shareholder approval of the merger, our fiscal 2004
cash burn will be less than $100 million, excluding any sales revenues from
Tarceva(TM). We currently estimate that our fiscal 2003 year ending cash
position will be in excess of $250 million, assuming all acquisition and
consolidation related costs occur in fiscal 2003. We have established a goal of
achieving profitability and positive cash flow within 18 to 24 months of a
successful market launch of Tarceva(TM). Although we believe that we have
sufficient cash for operations for the next few years, if the market launch of
Tarceva(TM) is delayed or if Tarceva(TM) does not receive FDA approval or if the
approval process is delayed or takes longer than expected, such events could
have a negative impact on our liquidity position, assuming our current cash
burn. In addition, as we pursue our goal of securing strategic in-licensing and
acquisition opportunities that would bring additional products and clinical
development candidates to our cancer pipeline, this will require the use of our
available cash and/or equity securities.
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 our existing cash resources provide a strong
financial base from which to fund our operations and capital requirements for at
least the next several years.
COMMITMENTS AND CONTINGENCIES
Our major outstanding contractual obligations relate to our convertible
senior subordinated notes and our facility leases. The following table
summarizes our significant contractual obligations at March 31, 2003 and the
effect such obligations are expected to have on our liquidity and cash flow in
future periods (in thousands):
2008 &
2003 2004 2005 2006 2007 THEREAFTER TOTAL
------- ------- ------- ------- ------- ---------- --------
CONTRACTUAL OBLIGATIONS:
Senior convertible debt(a). $ 3,200 $ 6,400 $ 6,400 $ 6,400 $ 6,400 $169,600 $198,400
Operating leases........... 3,985 6,709 6,777 5,535 4,270 56,152 83,428
Loans payable(b)........... 152 - - - - - 152
------- ------- ------- ------- ------- -------- --------
Total contractual
obligations........... $ 7,337 $13,109 $13,177 $11,935 $10,670 $225,752 $281,980
======= ======= ======= ======= ======= ======== ========
- --------------
(a) Includes interest payments at a rate of 4% per annum
(b) Includes interest payments
Other significant commitments and contingencies include the following:
- We are committed to share equally with Genentech and Roche a
combined $300 million in certain global development costs for
Tarceva(TM). We are also committed to share certain
commercialization cost relating to Tarceva(TM) with Genentech.
23
- In connection with the acquisition of certain of Gilead's
oncology assets in December 2001, we are obligated to pay up
to an additional $30.0 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.
- In connection with our agreement with Ares Trading, N.A., an
affiliate of Serono, to market and promote Novantrone(R) in
approved oncology indications, we are required to pay
quarterly maintenance fees to Serono until the later of the
expiration of the last valid patent claim or the first generic
date, as defined in the agreement, or unless the agreement is
earlier terminated.
- Under agreements with external clinical research
organizations, or CROs, over the next 12 to 18 months we will
continue to incur expenses relating to the progress of
Tarceva(TM) 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.
- 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 costs of approximately $2.8 million at
March 31, 2003.
- 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.
- We entered into a letter of credit with a commercial bank.
This is an irrevocable letter of credit related to one of our
facilities and expires annually with a final expiration date
of September 27, 2007. The amount under this letter of credit
is $2.1 million of which the full amount was available on
March 31, 2003.
- In May 2003, we entered into a contract with a third-party
contract sales organization for the outsourcing of sales
representatives and other sales force infrastructure. The
commitment is approximately $3.3 million over a one-year
period.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities", effective for exit or disposal
activities that are initiated after December 31, 2002. Under SFAS No. 146, a
liability for a cost associated with an exit or
24
disposal activity must only be recognized when the liability is incurred. Under
the previous guidance of EITF 94-3, "Liability Recognition for Certain 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. We have not entered into any
significant exit or disposal activities since the effectiveness of this
statement. As such, SFAS No. 146 has not had an impact on our consolidated
financial statements.
In December 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure". SFAS No. 148 provides alternative
methods of transition for a voluntary change to the fair value method of
accounting for stock-based employee compensation as originally provided by SFAS
No. 123 "Accounting for Stock-Based Compensation". Additionally, SFAS No. 148
amends the disclosure requirements of SFAS No. 123 to require prominent
disclosure in both the annual and interim financial statements about the method
of accounting for stock-based compensation and the effect of the method used on
reported results. The transitional requirements of SFAS No. 148 are effective
for all financial statements for fiscal years ending after December 15, 2002. We
adopted the disclosure portion of this statement for the current fiscal quarter
ended March 31, 2003. The application of the disclosure portion of this standard
will have no impact on our consolidated financial position or results of
operations. The Financial Accounting Standards Board recently indicated that
they will require stock-based employee compensation to be recorded as a charge
to earnings beginning in 2004. We will continue to monitor their progress on the
issuance of this standard.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." FIN 45 requires a guarantor to include
disclosure of certain obligations, and if applicable, at the inception of the
guarantee, recognize a liability for the fair value of other certain obligations
undertaken in issuing a guarantee. The recognition requirement is effective for
guarantees issued or modified after December 31, 2002 and did not have a
material impact on our consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation
of Variable Interest Entities." FIN 46 clarifies the application of Accounting
Research Bulletin No. 51 to require consolidation of an entity if it is
controlled through interests other than voting interests. FIN 46 applies
immediately to any variable interest entities created after January 31, 2003 and
to variable interest entities in which an interest is obtained after that date.
The guidelines of this interpretation will become applicable for us in the
fourth quarter of fiscal year 2003 for variable interest entities created before
February 1, 2003. The interpretation requires variable interest entities to be
consolidated if the equity investment at risk is not sufficient to permit an
entity to finance its activities without support from other parties or the
equity investors lack certain specified characteristics. The adoption of FIN 46
for variable interest created after January 31, 2003 did not have a material
impact on our consolidated financial condition, results of operations or cash
flows. We are continuing to review the provisions of FIN 46 to determine its
impact, if any, on future reporting periods with respect to interests in
variable interest entities created prior to February 1, 2003, and do not
currently anticipate any material accounting or disclosure requirements under
the provisions of the interpretation.
25
In April 2003, the FASB issued Statement of Financial Accounting
Standards No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities". SFAS No. 149 amends and clarifies accounting for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities under Statement of Financial Accounting
Standard No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003 and for hedging relationships designated after June 30,
2003 and is not expected to have an impact on the Company upon adoption.
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 that are not historical or current
facts 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 materially differ 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, as amended, for the fiscal year ended
September 30, 2002.
26
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 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. 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. 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 12(d) to the consolidated financial statements contained in
our annual report on Form 10-K, as amended, for the fiscal year ended September
30, 2002. We did not have any forward foreign exchange contracts as of or during
the three and six months ended March 31, 2003.
At March 31, 2003, 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 5% 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
10% change in interest rates during the three and six months ended March 31,
2003 would have resulted in a $223,000 and $490,000 change in our net loss,
respectively. We have not used or held derivative financial instruments in our
investment portfolio.
Our long-term debt totaled $160.0 million at March 31, 2003 and was
comprised of the convertible senior subordinated notes. The convertible senior
subordinated notes bear interest at a fixed rate of 4%. 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.
27
ITEM 4. CONTROLS AND PROCEDURES
CEO and CFO Certifications. Appearing immediately following the
Signatures section of this Quarterly Report there are two certifications, or the
Section 302 Certifications, one by each of our Chief Executive Officer, or CEO,
and Chief Financial Officer, or CFO. This section of the Quarterly Report which
you are currently reading contains information concerning the evaluation of our
disclosure controls and procedures and internal controls that is referred to in
the Section 302 Certifications and this information should be read in
conjunction with the Section 302 Certifications for a more complete
understanding of the topics presented.
Evaluation of our Disclosure Controls and Procedures. The Securities
and Exchange Commission requires that within 90 days prior to the filing of this
Quarterly Report on Form 10-Q, the CEO and the CFO evaluate the effectiveness of
the design and operation of our disclosure controls and procedures (as defined
in Rule 13(a)-14(c) and Rule 15(d)-19(c) under the Securities Exchange Act of
1934), and report on the effectiveness of the design and operation of our
disclosure controls and procedures. Within 90 days prior to the filing of this
Quarterly Report on Form 10-Q, under the supervision and with the participation
of our management, including our CEO and CFO, we evaluated the effectiveness of
the design and operation of our disclosure controls and procedures.
Limitations on the Effectiveness of Controls. Our management, including
the CEO and CFO, does not expect that our disclosure controls and procedures or
our internal controls will prevent all error and all fraud. A control system, no
matter how well conceived and operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system are met. Further,
the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within the company have been detected. These inherent
limitations include the realities that judgments in decision-making can be
faulty, and that breakdowns can occur because of simple error or mistake.
Additionally, controls can be circumvented by the individual acts of some
persons, by collusion of two or more people, or by management override of the
control. The design of any system of controls also is based in part upon certain
assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential
future conditions; over time, control may become inadequate because of changes
in conditions, or the degree of compliance with the policies or procedures may
deteriorate. Because of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected. While
we believe that our disclosure controls and procedures have been effective, in
light of the foregoing we intend to continue to examine and refine our
disclosure controls and procedures and to monitor ongoing developments in this
area.
CEO/CFO Conclusions about the Effectiveness of the Disclosure Controls
and Procedures. Based upon their evaluation of the disclosure controls and
procedures, our CEO and CFO have concluded that, subject to the limitations
noted above, our disclosure controls and procedures are effective to provide
reasonable assurance that material information relating to the Company and its
consolidated subsidiaries is made known to management, including the CEO
28
and CFO, on a timely basis and particularly during the period in which this
Quarterly Report on Form 10-Q was being prepared.
Changes in Internal Controls. There were no significant changes to our
internal controls or in other factors that could significantly affect our
internal controls, subsequent to the date of our last evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
29
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
Our annual meeting of stockholders was held on March 19, 2003. The
following ten directors were elected:
Votes For Votes Withheld
---------- --------------
1. Robert A. Ingram 30,603,341 123,564
2. Colin Goddard, Ph.D. 30,419,628 307,277
3. Edwin A. Gee, Ph.D. 29,595,650 1,131,255
4. G. Morgan Browne 30,154,140 572,765
5. John H. French II 30,151,639 575,266
6. Daryl K. Granner, M.D. 29,299,145 1,427,760
7. Walter M. Lovenberg, Ph.D. 29,300,031 1,426,874
8. Viren Mehta 29,676,066 1,050,839
9. Sir Mark Richmond 30,153,361 573,544
10. John P. White 29,292,234 1,434,671
In addition, the appointment of KPMG LLP as auditors for fiscal year
ending September 30, 2003 was ratified (29,720,851 shares voted in favor,
978,866 shares voted against, 27,188 shares abstained and there were no broker
non-votes).
ITEM 5. OTHER INFORMATION
Not applicable.
30
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
2.1* Agreement and Plan of Merger among OSI Pharmaceuticals, Inc.,
CP Merger Corporation and Cell Pathways, Inc., dated as of
February 7, 2003, filed as an exhibit to OSI's current report
on Form 8-K filed on February 11, 2003 and incorporated herein
by reference.
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.
10.1** Co-Promotion Agreement, dated as of March 11, 2003, by and
between OSI Pharmaceuticals, Inc., and Ares Trading S.A.,
filed as an exhibit to OSI's current report on Form 8-K/A
filed on March 17, 2003, as amended by Form 8-K/A on May 6,
2003, 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.
* The schedules to the Agreement and Plan of Merger have been
omitted pursuant to Item 601(b)(2) of Regulation S-K
promulgated by the Securities and Exchange Commission. The
omitted schedules from this filing will be provided upon
request.
** Portions of this exhibit have been redacted pursuant to a
confidential treatment request filed with the Secretary of the
Securities and Exchange Commission on March 17, 2003 pursuant
to Rule 24b-2 under the Securities Exchange Act 1934, as
amended, and declared effective on May 6, 2003.
*** Filed herewith.
(B) REPORTS ON FORM 8-K
31
We filed a current report on February 11, 2003 with the Securities and
Exchange Commission via EDGAR, with respect to the merger agreement under which
we agreed to acquire Cell Pathways, Inc. by way of a stock-for-stock merger. The
earliest event covered by this report occurred on February 7, 2003.
We filed a current report on March 12, 2003 and amended it on March 17,
2003 with the Securities and Exchange Commission via EDGAR, with respect to an
agreement with an affiliate of Serono S.A., Ares Trading S.A., under which we
obtained the exclusive right to market and promote the drug, Novantrone(R), for
all approved oncology indications in the United States. This current report on
Form 8-K was amended on March 17, 2003 and was further amended on May 6, 2003.
The earliest event covered by this report occurred on March 12, 2003.
32
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: May 14, 2003 /s/ Colin Goddard, Ph.D.
-------------------------------------------
Colin Goddard, Ph.D.
Chief Executive Officer
Date: May 14, 2003 /s/ Robert L. Van Nostrand
-------------------------------------------
Robert L. Van Nostrand
Vice President and Chief Financial Officer
(Principal Financial Officer)
33
CERTIFICATION
I, Colin Goddard, certify that:
1. I have reviewed this quarterly report on Form 10-Q of OSI
Pharmaceuticals, Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in
this quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
34
Date: May 14, 2003
/s/ COLIN GODDARD, PH.D.
--------------------------
Colin Goddard, Ph.D.
Chief Executive Officer
35
CERTIFICATION
I, Robert L. Van Nostrand, certify that:
1. I have reviewed this quarterly report on Form 10-Q of OSI
Pharmaceuticals, Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in
this quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
36
Date: May 14, 2003
/s/ ROBERT L. VAN NOSTRAND
--------------------------
Robert L. Van Nostrand
Vice President and Chief Financial Officer
37
INDEX TO EXHIBITS
Exhibit
2.1* Agreement and Plan of Merger among OSI Pharmaceuticals, Inc.,
CP Merger Corporation and Cell Pathways, Inc., dated as of
February 7, 2003, filed as an exhibit to OSI's current report
on Form 8-K filed on February 11, 2003 and incorporated herein
by reference.
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.
10.1** Co-Promotion Agreement, dated as of March 11, 2003, by and
between OSI Pharmaceuticals, Inc., and Ares Trading S.A.,
filed as an exhibit to OSI's current report on Form 8-K/A
filed on March 17, 2003, as amended by Form 8-K/A on May 6,
2003, 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.
____________________
* The schedules to the Agreement and Plan of Merger have been
omitted pursuant to Item 601(b)(2) of Regulation S-K
promulgated by the Securities and Exchange Commission. The
omitted schedules from this filing will be provided upon
request.
** Portions of this exhibit have been redacted pursuant to a
confidential treatment request filed with the Secretary of the
Securities and Exchange Commission on March 17, 2003 pursuant
to Rule 24b-2 under the Securities Exchange Act 1934, as
amended, and declared effective on May 6, 2003.
*** Filed herewith.
38