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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
==================================
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 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: 0-18700
SENTIGEN HOLDING CORP.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 13-3570672
=============================== ===============================
(State or Other Jurisdiction of (I.R.S. Employer Identification
Incorporation or Organization) Number)
580 Marshall Street
Phillipsburg, New Jersey 08865
(908) 387-1673
================================================================================
(Address, Including Zip Code, and Telephone Number, Including Area
Code, of Registrant's Principal Executive Offices)
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 Securities Exchange Act of 1934). Yes [ ] No [X]
As of November 14, 2003 the registrant had outstanding 7,454,744 shares of its
Common Stock, $.01 par value.
SENTIGEN HOLDING CORP. AND SUBSIDIARIES
INDEX
Page
----
PART I. FINANCIAL INFORMATION........................................................ 3
Item 1. Consolidated Financial Statements............................................ 3
Consolidated Balance Sheets
September 30, 2003 (Unaudited) and December 31, 2002.............. 3
Consolidated Statements of Operations (Unaudited)
For the three and nine months ended, September 30, 2003 and 2002.. 4
Consolidated Statements of Cash Flows (Unaudited)
For the nine months ended, September 30, 2003 and 2002............ 5
Notes to Consolidated Financial Statements (Unaudited)....................... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.......................................... 15
Item 3. Quantitative and Qualitative Disclosure of Market Risk....................... 25
Item 4. Controls and Procedures...................................................... 25
PART II. OTHER INFORMATION............................................................ 26
Item 1. Legal Proceedings............................................................ 26
Item 2. Changes in Securities and Use of Proceeds.................................... 26
Item 3. Default Upon Senior Securities............................................... 26
Item 4. Submission of Matters to a Vote of Security Holders.......................... 26
Item 5. Other Information............................................................ 26
Item 6. Exhibits and Reports on Form 8-K............................................. 26
SIGNATURES ............................................................................. 27
Exhibit 10.1 EMPLOYMENT AGREEMENT BETWEEN THE COMPANY AND ERIK R. LUNDH 28
Exhibit 10.2 AMENDMENT TO OPTION AGREEMENT BETWEEN THE COMPANY AND
JOSEPH K. PAGANO DATED SEPTEMBER 3, 2003 36
Exhibit 10.3 STOCK OPTION AGREEMENT BETWEEN THE COMPANY AND JOSEPH K.
PAGANO DATED APRIL 30, 1999 37
Exhibit 31.1 CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO RULE 13a-15 AND 15d-15 UNDER
THE SECURITIES AND EXCHANGE ACT OF 1934, AS AMENDED 43
Exhibit 31.2 CERTIFICATION OF THE CHIEF FINANCIAL OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO RULE 13a-15 AND 15d-15 UNDER THE
SECURITIES AND EXCHANGE ACT OF 1934, AS AMENDED 44
Exhibit 32.1 CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 45
Exhibit 32.2 CERTIFICATION OF THE CHIEF FINANCIAL OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 46
2
PART I - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
SENTIGEN HOLDING CORP. AND SUBSIDIARIES
Consolidated Balance Sheets
(Unaudited)
September 30, December 31,
2003 2002
------------- ------------
Assets
Current Assets
Cash and cash equivalents $ 10,219,268 $ 4,819,967
Investment securities, available for sale, at
fair value - 5,307,419
Accounts receivable - net of allowance for doubtful
accounts of $45,000 for 2003 and 2002 872,208 509,298
Unbilled services 5,655 15,400
Inventory 250,103 212,104
Accrued interest receivable 20,163 18,645
Prepaid expenses 92,089 175,716
------------ ------------
11,459,486 11,058,549
------------ ------------
Property, plant and equipment 3,681,346 3,535,355
Equipment under capital lease 130,945 95,945
Less: Accumulated depreciation 2,298,679 1,938,272
------------ ------------
1,513,612 1,693,028
------------ ------------
Other Assets
Security deposits 17,961 17,961
Deferred financing costs - net of accumulated
amortization of $5,217 for 2003 and $4,116
for 2002 8,443 9,544
License costs - net of accumulated amortization
of $90,712 for 2003 and $71,272 for 2002 349,913 369,353
------------ ------------
376,317 396,858
------------ ------------
Total Assets $ 13,349,415 $ 13,148,435
============ ============
Liabilities and Stockholders' Equity
Current Liabilities
Current maturities of long-term debt 226,471 235,234
Liability under capital lease - current portion 43,704 30,574
Accounts payable and accrued expenses 680,576 511,620
Customer deposits 100,279 410,507
Unearned revenue 93,750 58,850
------------ ------------
1,144,780 1,246,785
Liability under capital lease - long-term 53,878 57,486
Long-term debt - net of current maturities 804,928 973,675
------------ ------------
Total liabilities 2,003,586 2,277,946
------------ ------------
Stockholders' Equity
Preferred Stock - $.01 par value, 5,000,000 shares
authorized - none issued or outstanding - -
Common Stock - $.01 par value, 20,000,000 shares
authorized, 7,454,744 and 7,451,044 shares
issued and outstanding in 2003 and 2002,
respectively 74,547 74,511
Additional paid-in capital 13,177,845 12,237,896
Accumulated other comprehensive income - 13,817
Accumulated deficit (1,906,563) (1,455,735)
------------ ------------
Total stockholders' equity 11,345,829 10,870,489
------------ ------------
Total Liabilities and Stockholders' Equity $ 13,349,415 $ 13,148,435
============ ============
See notes to consolidated financial statements.
3
SENTIGEN HOLDING CORP. AND SUBSIDIARIES
Consolidated Statements of Operations
(Unaudited) (Unaudited)
For the Three Months Ended For the Nine Months Ended
----------------------------- --------------------------
September 30, September 30, September 30, September 30,
2003 2002 2003 2002
---- ---- ---- ----
Revenue
Molecular cell science $ 1,525,064 $ 1,108,307 $ 4,514,283 $ 3,282,801
Specialty media 692,207 673,331 2,252,252 2,121,954
----------- ----------- ----------- ------------
2,217,271 1,781,638 6,766,535 5,404,755
----------- ----------- ----------- ------------
Direct Costs
Molecular cell science 485,207 345,214 1,390,574 1,079,166
Specialty media 312,201 257,944 917,076 852,197
----------- ----------- ----------- ------------
797,408 603,158 2,307,650 1,931,363
----------- ----------- ----------- ------------
Income After Direct Costs
Molecular cell science 1,039,857 763,093 3,123,709 2,203,635
Specialty media 380,006 415,387 1,335,176 1,269,757
----------- ----------- ----------- ------------
1,419,863 1,178,480 4,458,885 3,473,392
----------- ----------- ----------- ------------
Operating Expenses
Selling, general and administrative costs 691,307 586,944 1,980,896 1,745,310
Research and development 279,590 209,914 770,273 712,054
Corporate overhead 267,033 195,470 767,550 779,784
Stock based compensation 836,798 55,328 935,475 214,658
Depreciation and amortization 134,134 181,809 380,948 401,744
----------- ----------- ----------- ------------
2,208,862 1,229,465 4,835,142 3,853,550
----------- ----------- ----------- ------------
Loss From Operations (788,999) (50,985) (376,257) (380,158)
----------- ----------- ----------- ------------
Interest income 21,184 75,285 69,267 252,537
Interest expense (16,077) (27,122) (52,932) (74,460)
----------- ----------- ----------- ------------
Interest income, net of expense 5,107 48,163 16,335 178,077
----------- ----------- ----------- ------------
Loss before Provision for Income Taxes (783,892) (2,822) (359,922) (202,081)
Provision for Income Taxes 20,170 21,894 90,906 97,288
----------- ----------- ----------- ------------
Net Loss $ (804,062) $ (24,716) $ (450,828) $ (299,369)
=========== =========== =========== ============
Net Loss per Share
Basic and Diluted $ (0.11) $ (0.00) $ (0.06) $ (0.04)
=========== =========== =========== ============
Weighted Average of Common Shares Outstanding
Basic and Diluted 7,454,744 7,451,044 7,453,394 7,375,114
=========== =========== =========== ============
See notes to consolidated financial statements.
4
SENTIGEN HOLDING CORP. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
For the Nine Months Ended
-------------------------
September 30, September 30,
2003 2002
------------- -------------
Cash Flows from Operating Activities
Net loss $ (450,828) $ (299,369)
Adjustments to reconcile loss
to net cash provided by operating activities:
Depreciation and amortization 380,948 401,744
Stock based compensation 935,475 214,658
(Increase) decrease in:
Accounts receivable, net of allowance (362,910) 223,672
Unbilled services 9,745 36,990
Inventory (37,999) (43,968)
Accrued interest receivable (1,518) (69,929)
Prepaid expenses 83,627 9,154
Increase (decrease) in:
Accounts payable and accrued expenses 168,956 (171,709)
Customer deposits (310,228) (52,581)
Unearned revenue 34,900 (185)
------------ ------------
Cash provided by operating activities 450,168 248,477
------------ ------------
Cash Flows from Investing Activities
Acquisitions of property and equipment (145,991) (545,731)
Sales of investment securities 5,293,602 -
Purchase of investment securities - (5,848)
------------ ------------
Cash provided by (used in) investing activities 5,147,611 (551,579)
------------ ------------
Cash Flows from Financing Activities
Repayments of long term debt (202,988) (140,516)
Proceeds from issuance of long term debt - 315,663
Cash received from stock options exercised 4,510 205,884
------------ ------------
Cash (used in) provided by financing activities (198,478) 381,031
------------ ------------
Increase in cash and cash equivalents 5,399,301 77,929
Cash and cash equivalents - beginning of period 4,819,967 4,889,272
------------ ------------
Cash and cash equivalents - end of period $ 10,219,268 $ 4,967,201
============ ============
Supplemental Disclosures of Cash Flow Information
Cash paid during the year for:
Interest $ 52,932 $ 74,460
============ ============
Income taxes $ 116,000 $ 159,987
============ ============
Non-cash investing activities:
Equipment acquired under capital lease $ (35,000) $ -
Non-cash financing activities:
Debt incurred under capital lease $ 35,000 $ -
See notes to consolidated financial statements.
5
SENTIGEN HOLDING CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, September 30, 2003 (Unaudited)
1. ORGANIZATION AND NATURE OF OPERATIONS
We are a holding company conducting business through two wholly-owned
operating subsidiaries, Cell & Molecular Technologies, Inc. (CMT) and
Sentigen Corp. CMT is comprised of a service organization that provides
contract research and development (R&D) services, and a products
organization that provides cell culture media, reagents and other
research products to companies engaged in the drug discovery process.
Sentigen Corp. is engaged in scientific research to develop proprietary
assays initially for the screening of G Protein-Coupled Receptors, or
GPCRs. These proprietary assays potentially have applications in drug
discovery, micro-array based detection technologies and environmentally
sound pest management solutions for agricultural and human health
vectors.
CMT operates through two divisions -- Molecular Cell Science (MCS) and
Specialty Media (SM). MCS provides contract R&D services and High
Throughput Screening applications and services to companies engaged in
the drug discovery process. SM develops, manufactures, markets and
sells specialty cell culture media, reagents and other research
products.
The operations of Sentigen Corp. are reflected as research and
development expenses in our consolidated statements of operations.
Sentigen Corp's operations, since its inception in February 2000,
consist entirely of research and development.
The expenses of Sentigen Holding Corp. are reflected as "Corporate
overhead" expenses in our consolidated statements of operations and
include the following major classes: (1) compensation and employee
benefits cost for our chairman of the board, chief financial officer,
executive vice president of commercial operations and administrative
assistant, (2) professional fees for legal and audit services, (3)
office rental, utilities and communication costs, (4) stock market
listing fees and (5) business travel expenses.
We were incorporated under the laws of the State of Delaware in May
1990 and, after having engaged in the acquisition and operation of
different business entities subsequent to our initial public offering
in August 1990, we commenced our current business operations when we
acquired CMT in May 1998. CMT was incorporated in May 1997 to acquire
all of the outstanding stock of Specialty Media, Inc. and Molecular
Cell Science, Inc., two entities operating in the biotechnology and
pharmaceutical industries since 1987 and 1991, respectively. Sentigen
Corp. was formed on February 16, 2000. We changed our name to Sentigen
Holding Corp. on June 23, 2000. On January 9, 2002, our common stock
began trading on The Nasdaq SmallCap Market under the symbol SGHL.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. PRINCIPLES OF CONSOLIDATION - The consolidated financial
statements include the accounts of Sentigen Holding Corp. and
its wholly owned subsidiaries, after elimination of all
intercompany accounts and transactions.
b. CASH AND CASH EQUIVALENTS - Cash and cash equivalents include
liquid investments with maturities of three months or less at
the time of purchase.
c. INVESTMENT SECURITIES - Investment securities consist of U.S.
Treasury Notes. All investment securities are defined as
available for sale under the provisions of Statement of
Financial Accounting Standards (SFAS) No. 115, "Accounting for
Certain Investments in Debt and Equity Securities" and, as
such, have been reported at fair value. Quoted market prices
are used to determine fair value. Investment securities
purchased before 2002 are defined as held-to-maturity under
the provisions of SFAS No. 115 and, as such, have been
reported at amortized cost.
d. INVENTORY - Inventory, consisting of cell culture media,
reagents and related packaging and raw materials for the SM
division, is stated at the lower of cost or market. We use the
FIFO (first-in, first-out) method for inventory accounting.
6
e. PROPERTY, PLANT AND EQUIPMENT - Property, plant and equipment
are stated at cost. Depreciation is provided on both
straight-line and accelerated methods over the estimated
useful lives of the assets, which range from three to forty
years. Amortization of leasehold improvements is provided on
the straight-line basis over the lesser of the estimated
useful life of the asset or the remaining lease term. Repairs
and maintenance, which do not extend the useful lives of the
related assets, are expensed as incurred.
f. LICENSE AND DEFERRED COSTS - License costs are amortized over
17 years on a straight line basis and result from our
exclusive licensing agreement with the Trustees of Columbia
University. Deferred financing costs were incurred in
connection with our various loan facilities. Deferred
financing costs are amortized on a straight-line basis over
the duration of the related loan.
g. IMPAIRMENT - We review intangible and long-lived assets for
impairment whenever events or changes in circumstances
indicate that the carrying amount of the assets may not be
fully recoverable. A review for impairment includes comparing
the carrying value of an asset to an estimate of the
undiscounted net future cash inflows over the life of the
asset. An asset is considered to be impaired when the carrying
value exceeds the calculation of the undiscounted net future
cash inflows or fair market value. An impairment loss is
defined as the amount of the excess of the carrying value over
the fair market value of the asset. We believe none of our
intangible and long-lived assets are impaired as of September
30, 2003.
h. REVENUE RECOGNITION - We record revenue from fixed-price
contracts extending over more than one accounting period on a
percentage-of-completion basis. Percentage-of-completion is
determined based on the proportion of completed costs to total
anticipated costs on each contract. If we determine that a
loss will result from the performance of a contract, the
entire amount of estimated loss is charged against income in
the period in which the determination is made. In general,
prerequisites for billings are established by contractual
provisions including predetermined payment schedules, the
achievement of contract milestones or submission of
appropriate billing detail. Unbilled services arise when
services have been rendered but clients have not been billed.
Similarly, unearned revenue represents amounts billed in
excess of revenue recognized. Revenues from product sales are
recognized upon transfer of title to the product, which
generally occurs upon shipment to the customer.
i. DIRECT COSTS - We expense direct costs as such costs are
incurred. Direct costs in the MCS division include: (1) costs
incurred for direct materials used in the services performed
under research contracts, (2) an allocation of the
compensation costs for the time incurred on such contracts by
our scientists, (3) an allocation of indirect materials costs
for general laboratory expenses incurred for the benefit of
all contracts in process, and (4) an allocation of certain
general and administrative expenses incurred by CMT. The
direct costs of the SM division represent the direct costs of
research products sold, including an allocation of the
compensation costs for production personnel, and an allocation
of certain general and administrative expenses incurred by
CMT.
j. RESEARCH AND DEVELOPMENT COSTS - We expense research and
development costs as such costs are incurred. The operations
of Sentigen Corp. are reflected as research and development
expenses in our consolidated statements of operations.
Sentigen Corp's operations, since its inception in February
2000, consist entirely of research and development.
k. CORPORATE OVERHEAD COSTS - We expense corporate overhead costs
as such costs are incurred. The expenses of the holding
company are reflected as corporate overhead expenses in our
consolidated statements of operations and include the
following major classes: (1) compensation and employee
benefits cost for our chairman of the board, chief financial
officer, executive vice president of commercial operations and
administrative assistant, (2) professional fees for legal and
audit services, (3) office rental, utilities and communication
costs, (4) stock market listing fees and (5) business travel
expenses.
l. RESEARCH GRANTS - CMT was engaged in research and development
activities under grant from the National Institute of Health
(NIH). The research expenses incurred under the grants were
exactly offset by the cash received under the grants. This
activity is not recorded in the consolidated statements of
operations as it was a reimbursement of amounts passed through
to sub-recipients (See Note 4).
7
m. INCOME TAXES - We account for certain income and expense items
differently for financial reporting and income tax purposes.
Deferred tax assets and liabilities are determined based on
the difference between the financial statement and income tax
basis of assets and liabilities and the tax effect of net
operating loss and tax credit carry-forwards applying the
enacted statutory tax rates in effect for the year in which
the differences are expected to reverse.
n. ADVERTISING, MARKETING AND SALES COSTS - We expense all costs
relating to advertising, marketing and sales as such costs are
incurred.
o. ESTIMATES - The preparation of financial statements in
conformity with generally accepted accounting principles
requires our management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the dates
of the financial statements and the reported amounts of
revenues and expenses during the reporting periods. Actual
results could differ from those estimates.
p. EARNINGS PER SHARE - The accompanying financial statements
include earnings per share calculated as required by SFAS No.
128 "Earnings Per Share" which replaced the calculation of
primary and fully diluted earnings per share with basic and
diluted earnings per share. Basic earnings per share is
calculated by dividing net income (loss) by the weighted
average number of shares of common stock outstanding. Diluted
earnings per share include the effects of securities
convertible into common stock, consisting of stock options, to
the extent such conversion would be dilutive. Potential common
stock was excluded from the computation of fully diluted
earnings per share for the three and nine month periods ending
September 30, 2003 and 2002 because SFAS No. 128 prohibits
adjusting the denominator of diluted earnings per share for
additional potential common shares when a net loss from
continuing operations is reported.
q. STOCK-BASED COMPENSATION - SFAS No. 123 "Accounting for
Stock-Based Compensation", encourages, but does not require
companies to record compensation cost for stock-based employee
compensation plans at fair value. We continue to account for
stock-based compensation to employees using the intrinsic
value method prescribed in Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees." APB No. 25
requires no recognition of compensation expense for the
stock-based compensation arrangements provided by us where the
exercise price is equal to the market price at the date of the
grants. Options issued to non-employees are valued at the fair
value of the consideration received or the fair value of the
equity instruments issued, whichever is more reliably
measurable. The expense for options issued to non-employees is
recorded as stock based compensation in our consolidated
statements of operations. On September 4, 2003 we extended the
life of a stock option previously granted to our Chairman of
the Board, Chief Executive Officer and President. The option
is for the purchase of 217,000 shares of common stock at
$1.625 per share and was originally granted on May 1, 1996.
The stock option is fully vested and would have expired on
April 30, 2004. The amendment extends the life of the option
to April 30, 2006. As a result of this amendment and according
to FASB Interpretation No. 44 to APB Opinion No. 25 the
company recognized stock based compensation in the amount of
$820,407 during the three months ended September 30, 2003 (See
Note 7).
r. SEGMENTS - The accompanying financial statements include
segment disclosure as required by SFAS No. 131 "Disclosures
about Segments of an Enterprise and Related Information,"
which expands and modifies disclosures but has no impact on
our consolidated financial position or results of operations
or cash flows. Our reportable operating segments are: MCS, SM
and Sentigen Corp (See Note 3).
s. NEW ACCOUNTING PRONOUNCEMENTS - In June 2001, the Financial
Accounting Standards Board (FASB) issued SFAS No. 141,
"Business Combinations." This standard eliminates the pooling
method of accounting for business combinations initiated after
June 30, 2001 and addresses the accounting for intangible
assets and goodwill acquired in a business combination. The
adoption of SFAS No. 141 did not have a material effect on our
financial position or results of operations.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and
Intangible Assets," which revises the accounting for purchased
goodwill and intangible assets. Under SFAS No. 142, goodwill
and intangible assets with indefinite lives are no longer
amortized, but are tested for impairment annually or in the
event of an impairment indicator. SFAS No. 142 was effective
January 1, 2002. The adoption of SFAS No. 142 did not have a
material effect on our financial position or results of
operations.
8
In August 2001, the FASB issued SFAS No. 143, "Accounting for
Asset Retirement Obligations." The standard requires entities
to record the fair value of a liability for an asset
retirement obligation in the period in which it is incurred.
SFAS No. 143 is effective for all fiscal years beginning after
June 15, 2002. The adoption of SFAS No. 143 did not have a
material effect on our financial position or results of
operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for
the Impairment or Disposal of Long-Lived Assets." SFAS No. 144
replaces SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." SFAS No. 144 requires that long-lived assets be measured
at the lower of carrying amount or fair value less cost to
sell, whether reported in continuing operations or
discontinued operations. Therefore, discontinued operations
will no longer be measured at net realizable value or include
amounts for operating losses that have not yet occurred. SFAS
No. 144 also broadens the reporting of discontinued operations
to include all components of an entity with operations that
can be distinguished from the rest of the entity and that will
be eliminated from the ongoing operations of their entity in a
disposal transaction. SFAS No. 144 was effective January 1,
2002. The adoption of SFAS No. 144 did not have a material
effect on our financial position or results of operations.
In April 2002, the FASB issued SFAS No. 145, "Rescission of
FASB Statements 4, 44 and 64, Amendment of FASB Statement 13,
and Technical Corrections." SFAS No. 145 is effective January
1, 2003. Among other things, SFAS No. 145 requires that gains
or losses on the extinguishment of debt will generally be
required to be reported as a component of income from
continuing operations and will no longer be classified as an
extraordinary item. The adoption of SFAS No. 145 did not have
a material effect on our financial position or results of
operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for
Costs Associated with Exit or Disposal Activities." SFAS No.
146 addresses financial accounting and reporting for costs
associated with exit or disposal activities and nullifies
Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and
Other Costs to Exit an Activity (including Certain Costs
Incurred in a Restructuring)." SFAS No. 146 requires that a
liability be recorded for such activities when the liability
is actually incurred, and unlike EITF 94-3, the existence of a
plan does not necessarily support the basis for the recording
of a liability. SFAS No. 146 is effective for all exit or
disposal activities initiated after December 31, 2002. The
Company did not undertake any exit or disposal activities for
the three and nine month periods ending September 30, 2003.
In December 2002, the FASB issued SFAS No. 148, "Accounting
for Stock-Based Compensation --Transition and Disclosure, an
amendment of SFAS No. 123." SFAS No. 148 amends SFAS No. 123
to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148
amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial
statements about the method of accounting for stock-based
employee compensation and the effect of the method used on
reported results. SFAS No. 148 was effective for the year
ended December 31, 2002.
9
The following table reconciles net loss and diluted earnings
per share (EPS), as reported, to pro-forma net loss and
diluted EPS, as if the Company had expensed the fair value of
stock options as permitted by SFAS No. 123, as amended by SFAS
No. 148, since it permits alternative methods of adoption.
For the three months
ended
September 30,
----------------------
2003 2002
---------- ---------
Net Loss:
As reported $ (804,062) $ (24,716)
Pro-forma expense as if
stock options were charged
against net loss (47,970) (45,586)
---------- ---------
Pro-forma net loss
using the fair value method $ (852,032) $ (70,302)
========== =========
Diluted EPS:
As reported $ (0.11) $ (0.00)
Pro-forma using the fair
value method $ (0.11) $ (0.01)
For the nine months
ended
September 30,
----------------------
2003 2002
---------- ---------
Net Loss:
As reported $ (450,828) $(299,369)
Pro-forma expense as if
stock options were charged
against net loss (127,682) (146,462)
---------- ---------
Pro-forma net income (loss)
using the fair value method $ (578,510) $(445,831)
========== =========
Diluted EPS:
As reported $ (0.06) $ (0.04)
Pro-forma using the fair
value method $ (0.08) $ (0.06)
In November 2002, the FASB issued FASB Interpretation (FIN)
No. 45, "Guarantor's Accounting And Disclosure Requirements
for Guarantees, Including Indirect Guarantees of Indebtedness
of Others." FIN No. 45 clarifies that a guarantor is required
to recognize, at the inception of a guarantee, a liability for
the fair value of the obligation undertaken in issuing the
guarantee. The initial recognition and initial measurement
provisions of this interpretation are applicable on a
prospective basis to guarantees issued or modified after
December 31, 2002. The interpretation also requires enhanced
and additional disclosures of guarantees in financial
statements ending after December 15, 2002. In the normal
course of business, the Company does not issue guarantees to
third-parties; accordingly, this interpretation does not
effect the disclosures included herein.
In January 2003, the FASB issued FIN No. 46, "Consolidation of
Variable Interest Entities, an interpretation of ARB 51." FIN
No. 46 defines when a business enterprise must consolidate a
variable interest entity. This interpretation applies
immediately to variable interest entities created after
January 31, 2003. It applies in the first fiscal year or
interim period beginning after June 15, 2003, to entities in
which an enterprise holds a variable interest that it acquired
before February 1, 2003. The Company does not have variable
interest entities as of September 30, 2003.
10
In April 2003 the FASB issued SFAS No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging
Activities." SFAS No. 149 amends SFAS No. 133 for certain
decisions made by the Board as part of the Derivatives
Implementation Group (DIG) process and is effective for
contracts entered into or modified after June 30, 2003 and for
hedging relationships designated after June 30, 2003. In
addition, SFAS No. 149 should be applied prospectively. The
provisions of SFAS No. 149 that relate to SFAS No. 133
Implementation Issues that have been effective for fiscal
quarters that began prior to June 15, 2003, should continue to
be applied in accordance with their respective effective
dates. The Company is not involved in any hedging activities.
3. SEGMENT INFORMATION
We operate through our two wholly-owned subsidiaries, CMT and Sentigen
Corp. CMT is evaluated on the performance of its two divisions, MCS and
SM. Sentigen Corp. is engaged in research and development. We consider
MCS, SM and Sentigen Corp. as our three separate and distinct
reportable operating segments. The accounting policies of the segments
are the same as those described in the summary of significant
accounting policies. Our reportable segments are strategic business
units that offer different products and services. They are managed
separately because each business requires different technologies and
marketing strategies. We account for sales and transfers between
segments, if any, as if the transactions were to third parties, that is
at current market prices. All inter-company transactions have been
eliminated in the presentation of segment information.
For the Three Months Ended
------------------------------
September 30, September 30,
2003 2002
------------- -------------
Revenues
MCS $ 1,553,281 $1,135,274
SM 92,207 673,331
Sentigen - -
----------- ----------
Revenues for reportable segments 2,245,488 1,808,605
Elimination of intersegment revenues (28,217) (26,967)
----------- ----------
Total Reported $ 2,217,271 $1,781,638
----------- ----------
Income (Loss) from Operations
MCS $ 434,000 $ 164,602
SM 167,417 249,680
Sentigen (301,476) (266,475)
----------- ----------
Income from operations for reportable segments 299,941 147,807
Corporate loss unallocated to reportable segmen ts (1,088,940) (198,792)
----------- ----------
Total Reported $ (788,999) $ (50,985)
----------- ----------
Depreciation and Amortization
MCS $ 89,758 $ 126,596
SM 26,346 31,326
Sentigen 16,530 20,565
----------- ----------
Depreciation and amortization for
reportable segments 132,634 178,487
Corporate depreciation and amortization
unallocated to segments 1,500 3,322
----------- ----------
Total Reported $ 134,134 $ 181,809
----------- ----------
11
For the Nine Months Ended
-------------------------------
September 30, September 30,
2003 2002
----------- --------------
Revenues
MCS $ 4,584,840 $3,368,330
SM 2,252,252 2,121,954
Sentigen - -
----------- ----------
Revenues for reportable segments 6,837,092 5,490,284
Elimination of intersegment revenues (70,557) (85,529)
----------- ----------
Total Reported $ 6,766,535 $5,404,755
----------- ----------
Income (Loss) from Operations
MCS $ 1,354,690 $ 545,161
SM 756,236 807,019
Sentigen (891,047) (943,172)
----------- ----------
Income from operations for reportable segments 1,219,879 409,008
Corporate loss unallocated to reportable segments (1,596,136) (789,166)
----------- ----------
Total Reported $ (376,257) $ (380,158)
----------- ----------
Depreciation and Amortization
MCS $ 253,092 $ 261,428
SM 70,538 69,240
Sentigen 49,139 61,694
----------- ----------
Depreciation and amortization for
reportable segments 372,769 392,362
Corporate depreciation and amortization
unallocated to segments 8,179 9,382
----------- ----------
Total Reported $ 380,948 $ 401,744
----------- ----------
September 30, December 31,
2003 2002
------------- ------------
Segment Assets
MCS $ 1,591,074 $ 1,480,390
SM 928,139 793,646
Sentigen 483,058 581,303
----------- -----------
Total assets for reportable segments 3,002,271 2,855,339
Corporate assets unallocated to segments 10,347,144 10,293,096
----------- -----------
Total Reported $13,349,415 $13,148,435
----------- -----------
12
4. RESEARCH GRANTS
The SM division, in collaboration with Harvard University, is the
recipient of an NIH Federal Phase II Grant in the amount of $757,532.
The research performed under this grant originally covered the period
from July 1998 through August 2001, but was extended through March
2002.
For the nine months ended September 30, 2002 research expenses incurred
were exactly offset by the cash received under the grants. This
activity is not recorded in the consolidated statements of operations
as it is a reimbursement of amounts passed through to sub-recipients.
The amounts received and expended are as follows:
For the Nine Months
ended
September 30,
---------------------
2003 2002
--------- --------
SM NIH funding received $ - $ 17,337
NIH research expenses incurred by sub-recipients - (17,337)
------- --------
Net effect on our
Statements of Operations for the
three months then ended $ - $ -
======= ========
During the three and nine month periods ending September 30, 2003 and
during the three month period ended September 30, 2002 there was no
activity under NIH funded grants.
5. EARNINGS PER SHARE
Basic earnings (loss) per share is calculated by dividing net income
(loss) by the weighted average number of common shares outstanding for
the respective periods. Diluted earnings per share includes the effects
of securities that are convertible into common stock, consisting of
stock options, to the extent such conversion would be dilutive.
Potential common stock was excluded from the computation of diluted
earnings per share for the three and nine month periods ending
September 30, 2003 and 2002 because SFAS No. 128 "Earnings per Share,"
prohibits adjusting the denominator of diluted earnings per share for
additional potential common shares when a net loss from continuing
operations is reported.
6. INVENTORY
Inventory as of September 30, 2003 and December 31, 2002 is entirely
comprised of the physical inventory of the SM Division. Components of
physical inventory as of September 30, 2003 and December 31, 2002 are
as follows:
September 30, December 31,
2003 2002
------------- ------------
Finished goods $ 142,091 $ 123,464
Packaging materials 33,980 30,093
Raw materials 74,032 58,547
----------- ----------
Total inventory $ 250,103 $ 212,104
=========== ==========
13
7. AMENDMENT OF OPTION AGREEMENT
On September 4, 2003 we amended an option agreement with our Chairman
of the Board, Chief Executive Officer and President. The option is for
the purchase of 217,000 shares of our common stock at $1.625 per share
and was originally granted on May 1, 1996. The stock option is fully
vested and would have expired on April 30, 2004. The amendment extends
the life of the option to April 30, 2006. All other terms of the stock
option agreement remain unchanged. As a result of this amendment and
according to FASB Interpretation No. 44 to APB Opinion No. 25 the
company recognized stock based compensation in the amount of $820,407
during the three months ended September 30, 2003.
8. EMPLOYMENT AND OPTION AGREEMENT WITH ERIK R. LUNDH
On September 2, 2003 we entered into an employment agreement with Mr.
Lundh to serve as our Executive Vice President of Commercial
Operations. The agreement is for an initial term of one year and
automatically renews thereafter unless notice is given by one of the
parties. The employment agreement provides for annual base compensation
of $200,000. Mr. Lundh is also entitled to participate in a bonus plan,
which will be based on certain operational and financial milestones.
The bonus under the plan shall not be less $8,219 in 2003 and shall not
be less than $25,000 in 2004. Pursuant to the employment agreement, we
granted Mr. Lundh an option to purchase 50,000 shares of our common
stock at $4.75 per share. This option expires on September 2, 2013 and
vests in five equal annual installments commencing on September 2,
2004. Pursuant to this agreement we leased an apartment in New York,
New York for Mr. Lundh for a term of one year, beginning October 1,
2003. The monthly rent for the apartment is $2,450.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. The statements contained herein which
are not historical facts are forward-looking statements that involve known and
unknown risks and uncertainties that could significantly affect our actual
results, performance or achievements in the future and, accordingly, such actual
results, performance or achievements may materially differ from those expressed
or implied in any forward-looking statements made by or on our behalf. These
risks and uncertainties include, but are not limited to, risks associated with
our future growth and operating results; our ability to successfully integrate
newly acquired business operations and personnel into our operations; changes in
customer preferences; our ability to hire and retain key personnel; compliance
with federal or state environmental laws and other laws and changes in such laws
and the administration of such laws; risks associated with government grants and
funding of our customers' projects; dependence on certain significant customers;
protection of trademarks and other proprietary rights, technological change;
competitive factors; unfavorable general economic conditions. Actual results may
vary significantly from such forward-looking statements. The words "believe,"
"expect," "anticipate," "intend" and "plan" and similar expressions identify
forward-looking statements. Readers are cautioned not to place undue reliance on
these forward-looking statements which speak only as of the date the statement
was made.
OVERVIEW
We are a holding company conducting business through two wholly owned
operating subsidiaries, CMT and Sentigen Corp. CMT is comprised of a service
organization that provides contract research and development services, and a
products organization that provides cell culture media, reagents and other
research products to companies engaged in the drug discovery process. Sentigen
Corp. is engaged in scientific research to develop proprietary assays initially
for the screening of G Protein-Coupled Receptors, or GPCRs. These proprietary
assays potentially have applications in drug discovery, micro-array based
detection technologies and environmentally sound pest management solutions for
agricultural and human health vectors.
CMT operates through two divisions -- Molecular Cell Science, or MCS
and Specialty Media, or SM. MCS provides contract research and development
services and High Throughput Screening applications and services to companies
engaged in the drug discovery process. SM develops, manufactures, markets and
sells specialty cell culture media, reagents and other research products.
SIGNIFICANT ACCOUNTING POLICIES
Cell & Molecular Technologies, Inc.
We evaluate the performance of CMT through its two divisions (both are
treated as separate business segments). Revenue, income after direct costs and
net income are used to measure and evaluate the financial results of CMT.
Revenue Recognition. The MCS division's services are performed on a
fee-for-service, fixed contract basis that provides for payments after specific
research milestones are achieved. Revenues from the MCS division are recognized
using the percentage-of-completion method for fixed price contracts extending
over more than one accounting period. Work-in-process, representing time and
costs incurred on projects in process in excess of amounts billed to customers,
are recorded as "Unbilled services" in our consolidated balance sheets. Unearned
revenue represents amounts billed in excess of costs incurred and are recorded
as liabilities in our consolidated balance sheets. Revenues from the product
sales of the SM division are recognized upon transfer of title to the product,
which generally occurs upon shipment to the customer.
Direct Costs. The major classes of direct costs for the MCS division
include: (1) costs incurred for direct materials used in the services performed
under research contracts, (2) an allocation of the compensation costs for the
time incurred on such contracts by our scientists, (3) an allocation of indirect
materials costs for general laboratory expenses incurred for the benefit of all
contracts in process, and (4) an allocation of certain general and
administrative expenses incurred by CMT. The direct costs of the SM division
represent the direct costs of research
15
products sold, including an allocation of the compensation costs for production
personnel, and an allocation of certain general and administrative expenses
incurred by CMT. The inventory of the SM division is determined using the FIFO
(first-in, first-out) method of accounting.
Selling, General and Administrative Expenses. The major classes of
selling, general and administrative expenses incurred by CMT include: (1) the
compensation and employee benefit costs of CMT's management, sales, and
administrative staff, (2) the compensation and employee benefit costs for the
time of scientific and production personnel spent on selling, general and
administrative activities, (3) facilities rental, utilities, communication costs
and related operating expenses, (4) marketing, sales and advertising costs, (5)
business travel expenses, (6) commercial and product liability insurance costs,
(7) repairs and maintenance costs on facilities and laboratory equipment and (8)
professional fees for legal and audit services.
Sentigen Corp.
The operations of Sentigen Corp. are reflected as research and
development expenses in our consolidated statements of operations. Sentigen
Corp's operations, since its inception in February 2000, consist entirely of
research and development. We expense research and development costs as such
costs are incurred.
On August 19, 2002, Sentigen Corp. was awarded a Federal Phase I Grant
in the amount of $100,003 from the National Institute of Health. The term of the
grant was from September 1, 2002 through February 28, 2003. The grant provides
for the direct costs of a specific project within Sentigen Corp.'s overall
research program (budgeted in the grant for $75,000) as well as an allocation
for the facilities and administrative costs of Sentigen Corp. related to the
project (budgeted in the grant at $25,003). As of December 31, 2002, Sentigen
Corp. completed the research project covered under the grant and all funds have
been received from the National Institute of Health.
Sentigen Holding Corp.
The expenses of Sentigen Holding Corp. are reflected as "Corporate
overhead" expenses in our consolidated statements of operations and include the
following major classes: (1) compensation and employee benefits cost for our
chairman of the board, chief financial officer, executive vice president of
commercial operations and administrative assistant, (2) professional fees for
legal and audit services, (3) office rental, utilities and communication costs,
(4) stock market listing fees and (5) business travel expenses.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. We base these estimates and assumptions upon
historical experience and existing, known circumstances. Actual results could
differ from those estimates. Specifically, management must make estimates in the
following areas:
Allowance for doubtful accounts. We provide a reserve against our
receivables for estimated losses that may result from our customers' inability
to pay. We determine the amount of the reserve by analyzing known uncollectible
accounts, aged receivables, historical losses and our customers'
credit-worthiness. Amounts later determined and specifically identified to be
uncollectible are charged or written off against this reserve. To minimize the
likelihood of uncollectible accounts, customers' credit-worthiness is reviewed
periodically based on our experience with the account and external credit
reporting services (if necessary) and adjusted accordingly. Should a customer's
account become past due, we generally place a hold on the account and
discontinue further shipments or services to that customer, minimizing further
risk of loss. Additionally, our policy is to fully reserve for all accounts with
aged balances greater than one year. Reserves are fully provided for all
expected or probable losses of this nature.
16
Inventory adjustments. Inventories are stated at the lower of cost or
market. We review the components of our inventory on a regular basis for excess,
obsolete and impaired inventory based on estimated future usage and sales. Our
stock levels generally do not exceed one quarter's expectation of usage or
sales. Inventories were stated at $250,103 and no reserve for impairment or
obsolescence was necessary as of September 30, 2003.
Impairment of intangibles. Our intangible assets consist primarily of
license costs of $349,913 as of September 30, 2003, and are the result of our
exclusive licensing agreement with the Trustees of Columbia University. The
value of the license reflects the closing share price of our common stock on
April 10, 2000 (the closing date of our agreement with the Trustees of Columbia
University) less accumulated amortization. The value of the license is subject
to an amortization period of 17 years. We review the value of the license for
impairment whenever events or changes in circumstances indicate that the
carrying amount of the asset may not be fully recoverable. A review for
impairment includes comparing the carrying value of the license to an estimate
of the undiscounted net future cash inflows over the life of the license. The
license is considered to be impaired when the carrying value exceeds the
calculation of the undiscounted net future cash inflows or fair market value. An
impairment loss in the amount of the excess would be recognized in our
consolidated statements of operations if the carrying value exceeded the fair
market value of the license. We believe no such loss is necessary as of
September 30, 2003.
Revenue recognition. Revenues from the MCS division are recognized
using the percentage-of-completion method for fixed price contracts.
Percentage-of-completion is determined based on the proportion of completed
costs to total anticipated costs on each contract. We use estimates of remaining
costs to complete each contract to determine the revenue and profitability on
each contract. We reevaluate these estimates periodically and such reevaluations
may, in the future, lead to changes in the rate of profitability on each
contract. There were no contracts where the expected costs exceeded the contract
price. All contract receivables are due within one year.
Stock-based compensation. SFAS No. 123 "Accounting for Stock-Based
Compensation", encourages, but does not require companies to record compensation
cost for stock-based employee compensation plans at fair value. We continue to
account for stock-based compensation to employees using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees". APB No. 25 requires no recognition of compensation
expense for the stock-based compensation arrangements provided by us where the
exercise price is equal to the market price at the date of the grants. Options
issued to non-employees are valued at the fair value of the consideration
received or the fair value of the equity instruments issued, whichever is more
reliably measurable. The expense for options issued to non-employees is recorded
as stock based compensation in our consolidated statements of operations. The
fair value of each option grant is estimated using the Black-Scholes option
pricing model. We also adopted the provisions of SFAS No. 148, "Accounting for
Stock-Based Compensation --Transition and Disclosure, an amendment of SFAS No.
123."
17
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 2003 TO THREE MONTHS ENDED
SEPTEMBER 30, 2002
Revenues. Revenues for the three months ended September 30, 2003 were
$2,217,271 compared to revenue of $1,781,638 for the three months ended
September 30, 2002. This increase of $435,633, or 24%, was the result of an
increase of $416,757, or 38%, in contract revenue from CMT's MCS division and an
increase of $18,876, or 3%, in revenue from CMT's SM division. Our revenues were
entirely attributable to the operations of CMT and its two divisions, MCS and
SM.
An analysis of our revenues from the MCS division is as follows:
For the Three Months Ended
September 30,
-------------------------- Percent
2003 2002 Change
---- ---- ------
HTS contract $ 600,000 $ 501,000 20%
All other contracts 925,064 607,307 52%
------------ -------------
Total $ 1,525,064 $ 1,108,307 38%
============ =============
The contract revenue for high-throughput screening, or HTS, services is
derived from a retainer contract. The contract provides for payments of $200,000
per month, regardless of the volume of services performed during the month. The
term of the contract is for one year and ends on December 31, 2003. The 20%
increase in the revenues we received under the contract resulted from the
increase in HTS services required by the customer to support its HTS programs
during the three months ended September 30, 2003 compared to the three months
ended September 30, 2002. We expect to enter into negotiations for a new 2004
HTS contract, although we cannot assure you that we will be successful in this
regard. The 52% growth from other contracts was driven by mouse genetics
services and protein expression services.
Revenues from the SM division grew 3% for the three months ended
September 30, 2003 as compared to the three months ended September 30, 2002. The
increase was generally the result of the price increases implemented on January
1, 2003.
Income after Direct Costs and Gross Margin. Income after direct costs
for the three months ended September 30, 2003 was $1,419,863 compared to income
after direct costs of $1,178,480 for the three months ended September 30, 2002.
Gross margin for the three months ended September 30, 2003 was 64% compared to
66% for the three months ended September 30, 2002. The decline was due to higher
direct costs in the SM division.
Operating Expenses. Operating expenses for the three months ended
September 30, 2003 were $2,208,862 compared to $1,229,465 for the three months
ended September 30, 2002. This increase of $979,397, or 80%, was primarily
attributable to the following:
- An increase in stock based compensation of $781,470. The increase in
stock based compensation results from the September 4, 2003 amendment
to a stock option agreement with our Chairman of the Board, Chief
Executive Officer and President. The stock option is for the purchase
of 217,000 shares of our common stock at $1.625 per share and was
originally granted on May 1, 1996. The stock option is fully vested
and would have expired on April 30, 2004. The amendment extends the
life of the option to April 30, 2006. All other terms of the stock
option agreement remain unchanged. As a result of this amendment and
according to FASB Interpretation No. 44 to APB Opinion No. 25 the
company recognized stock based compensation in the amount of $820,407
during the three months ended September 30, 2003.
- An increase of $104,363 in the selling, general and administrative
expenses of CMT, the increase was attributable to higher commercial
insurance expenses and higher marketing and sales expenses
- An increase of $69,676 in the research and development costs of
Sentigen Corp., and
- An increase of $71,563 in corporate overhead due to increased
compensation expense from our new executive vice president of
commercial operations as well as higher professional fees and travel
expenses.
- These increases were partially offset by a decrease of $47,675 in
depreciation and amortization.
18
Income/Loss from Operations. Loss from operations for the three
months ended September 30, 2003 was $788,999 compared to a loss from operations
of $50,985 for the three months ended September 30, 2002. The components of this
increase are as follows:
For the Three Months Ended
September 30,
-------------------------- Percent
2003 2002 Change
---- ---- ------
CMT $ 601,417 $ 414,282 45%
Sentigen Corp. (301,476) (266,475) (13%)
Corporate (1,088,940) (198,792) (448%)
------------ -------------
Total $ (788,999) $ (50,985) (1,448%)
============ =============
The increase in the income from operations of CMT was driven by its 24%
increase in revenues. The loss from operations attributable to Sentigen Corp.
increased due to higher research and development costs and higher professional
fees. The loss from corporate activities increased during the quarter ended
September 30, 2003 when compared to the same period in 2002 due to the salary
costs incurred from the addition of our executive vice president of commercial
operations, higher travel expenses, higher professional fees and the additional
stock based compensation of $820,407 recognized for the extension of the life of
a stock option previously granted to our Chairman of the Board, Chief Executive
Officer and President.
Interest income. Interest income, net of interest expenses declined by
$43,056 due to the decline in yields on U.S. Treasury and money market
securities in which we invest our available cash.
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 2003 TO NINE MONTHS ENDED
SEPTEMBER 30, 2002
Revenues. Revenues for the nine months ended September 30, 2003 were
$6,766,535 compared to revenue of $5,404,755 for the nine months ended September
30, 2002. This increase of $1,361,780, or 25%, was the result of an increase of
$1,231,482, or 38%, in contract revenue from CMT's MCS division and an increase
of $130,298 or 6%, in revenue from CMT's SM division. Our revenues were entirely
attributable to the operations of CMT and its two divisions, MCS and SM.
An analysis of our revenues from the MCS division is as follows:
For the Nine Months Ended
September 30,
-------------------------- Percent
2003 2002 Change
---- ---- ------
HTS contract $ 1,800,000 $ 1,503,000 20%
All other contracts 2,714,283 1,779,801 53%
------------ -------------
Total $ 4,514,283 $ 3,282,801 38%
============ =============
The contract revenue for high-throughput screening, or HTS, services is
derived from a retainer contract. The contract provides for payments of $200,000
per month, regardless of the volume of services performed during the month. The
term of the contract is for one year and ends on December 31, 2003. The 20%
increase in the revenues we received under the contract resulted from the
increase in HTS services required by the customer to support its HTS programs
during the nine months ended September 30, 2003 compared to the nine months
ended September 30, 2002. We expect to enter into negotiations for a new 2004
HTS contract, although we cannot assure you that we will be successful in this
regard. The 53% growth from other contracts was driven by: (1) mouse genetics
services, (2) protein expression services and (3) services for the pre-clinical
analysis of compound efficacy on diminishing or eliminating pathogen infection
using the "taqman" assay.
19
Revenues from the SM division grew 6% for the nine months ended
September 30, 2003 as compared to the nine months ended September 30, 2002. This
growth was driven by three factors:
- an increase in sales of the SM division's line of Murine Embryonic
stem cells and feeder cells as well as media associated with this
product line;
- increase in sales of the SM division's proprietary formulations sold
under private label; and
- price increases implemented as of January 1, 2003.
Income after Direct Costs and Gross Margin. Income after direct costs
for the nine months ended September 30, 2003 was $4,458,885 compared to income
after direct costs of $3,473,392 for the nine months ended September 30, 2002.
Gross margin for the nine months ended September 30, 2003 was 66% compared to
64% for the nine months ended September 30, 2002. This increase was driven by
reduced direct materials costs for the MCS division.
Operating Expenses. Operating expenses for the nine months ended
September 30, 2003 were $4,835,142 compared to $3,853,550 for the nine months
ended September 30, 2002. This increase of $981,592 or 25% was primarily the
result of the following:
- An increase in stock based compensation costs of $720,817. The
increase in stock based compensation results from the September 4,
2003 amendment to a stock option agreement with our Chairman of the
Board, Chief Executive Officer and President. The stock option is for
the purchase of 217,000 shares of our common stock at $1.625 per share
and was originally granted on May 1, 1996. The stock option is fully
vested and would have expired on April 30, 2004. The amendment extends
the life of the option to April 30, 2006. All other terms of the stock
option agreement remain unchanged. As a result of this amendment and
according to FASB Interpretation No. 44 to APB Opinion No. 25 the
company recognized stock based compensation in the amount of $820,407
during the three months ended September 30, 2003.
- The selling, general and administrative expenses of CMT increased
$235,586 due to higher commercial insurance expenses and higher
marketing and sales expenses;
- Research and development expenses increased $58,219 due to higher
professional fees and expenses at Sentigen Corp.
- These increases were partially offset by a decrease of $12,234 in
corporate overhead and a decrease of $20,796 in depreciation and
amortization expenses.
Income/Loss from Operations. Loss from operations for the nine months
ended September 30, 2003 was $376,257 compared to a loss from operations of
$380,158 for the nine months ended September 30, 2002. The components of this
change are as follows:
For the Nine Months Ended
September 30,
-------------------------- Percent
2003 2002 Change
---- ---- ------
CMT $ 2,110,926 $ 1,352,180 56%
Sentigen Corp. (891,047) (943,172) 6%
Corporate (1,596,136) (789,166) (102%)
------------ -------------
Total $ (376,257) $ (380,158) 1%
============ =============
The increased income from operations of CMT was driven by its 25%
increase in revenues. The revenue increase was augmented by higher gross margins
due to reduced materials costs. The loss from operations attributable to
Sentigen Corp. decreased due to lower stock based compensation costs applicable
to scientific consultants. The loss from corporate activities increased by 102%
due to the additional stock based compensation of $820,407 recognized for the
extension of the life of a stock option previously granted to our Chairman of
the Board, Chief Executive Officer and President.
20
Interest income. Interest income, net of interest expenses declined by
$161,742 due to the decline in yields on U.S. Treasury and money market
securities, in which we invest our available cash.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2003 we had $10,219,268 in cash and working capital of
$10,314,706. During the nine months ended September 30, 2003 we financed our
operations and capital expenditures through working capital.
On January 22, 2003 we sold our $5,250,000 face value, 2.125% U.S.
Treasury Note maturing on October 31, 2004. The proceeds from the sale were
reinvested in 90-day U.S. Treasury Bills. Capital gains recognized from the
transaction were minimal. This sale accounts for the majority of the $5,399,301
increase in cash and cash equivalents reported in our consolidated statement of
cash flows.
We believe our financial resources will be sufficient to fund our
operations and capital requirements for at least the next 12 months. However, we
may, in the future, need to obtain additional debt or equity financing to meet
our liquidity needs. It is possible that any such financing may be dilutive to
our stockholders and the terms of any debt financings likely could contain
restrictive covenants limiting our ability to do certain things, including
paying dividends. Our ability to obtain financing depends upon the status of our
future business prospects, as well as conditions prevailing in the capital
markets.
Cell & Molecular Technologies, Inc.
In July 2003, CMT leased equipment for use in the performance of
certain contracts in the MCS division. The lease qualified for treatment as a
capital lease for accounting purposes. At the inception of the lease, we
recorded the equipment on our balance sheet and an offsetting capital lease
liability of $35,000. We used a fixed interest rate of 5.00% to approximate the
borrowing rate for the lease. The equipment will be depreciated on a
straight-line basis through the term of the lease which expires in June 2006.
Through September 30, 2003, we made rental payments of $3,186. Of those
payments, we applied $2,760 to the capital lease liability and $426 to interest
expense. As of September 30, 2003 the total remaining lease obligation amounted
to $32,240.
In October 2002, CMT leased equipment for use in the performance of
certain contracts in the MCS division. The lease qualified for treatment as a
capital lease for accounting purposes. At the inception of the lease, we
recorded the equipment on our balance sheet and an offsetting capital lease
liability of $95,945. We used a fixed interest rate of 7.40% to approximate the
borrowing rate for the lease. The equipment will be depreciated on a
straight-line basis through the term of the lease which expires in September
2005. Through September 30, 2003, we made rental payments of $36,067. Of those
payments, we applied $30,603 to the capital lease liability and $5,464 to
interest expense. As of September 30, 2003 the total remaining lease obligation
amounted to $65,342.
During the first quarter of 2001 we leased approximately 3,000 square
feet of laboratory space to accommodate CMT's High Throughput Screening
applications and assay development services group. In connection with this new
facility, CMT borrowed $404,337 under a $720,000 loan commitment to finance
capital equipment expenditures. In March 2002, CMT borrowed the remaining
$315,663 available under this loan commitment to finance capital expenditures
made in connection with our new facility in Phillipsburg, New Jersey. We are
required to repay this loan over a seven year period that commenced in June
2002. The terms of the loan require CMT to maintain annual cash flow equal to
1.25 to 1.00 times the total annual debt service of CMT and a ratio of debt to
net worth of 3.00 to 1.00. CMT complied with these terms as of and during the
nine months ended September 30, 2003. Sentigen Holding Corp. guarantees this
obligation of CMT. The unpaid principal balance on this loan at September 30,
2003 was $607,840. On April 15, 2003, CMT renegotiated the interest rate on this
loan from a fixed rate of 7.40% to a fixed rate of 5.250%. The amortization
period of the loan remained unchanged.
Sentigen Corp.
In June 2001, Sentigen Corp. borrowed an additional $60,000 under its
existing $500,000 loan facility. This facility has a term of five years, may be
used to finance capital expenditures. Sentigen Holding Corp.
21
guarantees this obligation of Sentigen Corp. The loan also requires that
Sentigen Holding Corp. keep unencumbered liquid assets equaling two-times the
combined outstanding loan balances for Sentigen and CMT. We complied with these
terms as of September 30, 2003. As of September 30, 2003, Sentigen Corp. had
borrowed a total of $300,000 under this facility, and the unpaid principal
balance on this loan was $109,292. On February 5, 2003 we renegotiated the
interest rate on this borrowing from the fixed rate of 8.75% to a variable
interest rate. The variable interest rate is the prime rate plus 1.00% with a
minimum interest rate of 5.50%.
Sentigen Corp. was formed in February of 2000 and is focusing on
research and development activities. Our licensing agreement with The Trustees
of the Columbia University in New York required us to contribute a minimum of
$1,000,000 into Sentigen Corp. within one year of the date of the agreement (by
April 2001) or we must have been involved in active negotiations to raise
$1,000,000 in additional funding. We satisfied this provision through the
consummation of our private placement in November 2000 in which we sold 863,834
shares of our common stock at $6.00 per share for aggregate gross proceeds of
$5,183,004.
Another provision of the agreement calls for a minimum of $50,000 per
six month period or $100,000 per annual period to be spent on bona fide research
and development of the patents and licenses subject to the agreement from the
second through the fourth years of the agreement (April 2002 through April 2004)
or we must be involved in active negotiation to raise $1,000,000 in additional
funding. We have satisfied this provision through April 2002 and 2003 (the
second and third fiscal years of the license agreement). We believe that we have
sufficient capital resources to meet the financial requirements of this
provision for the agreement years 2004 and beyond.
There is no assurance that the technology involved in the research and
development activities related to the licensing agreement with The Trustees of
Columbia University will prove to be productive. In the event we decide to
terminate such activities, there will be associated costs to us, such as payment
to employees and expenses related to the closing of our facility at 3960
Broadway, New York, New York. No provisions have been made for such possible
further expense.
INFLATION
Inflation has historically not had a material effect on our operations.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued
SFAS No. 141, "Business Combinations." This standard eliminates the pooling
method of accounting for business combinations initiated after June 30, 2001 and
addresses the accounting for intangible assets and goodwill acquired in a
business combination. The adoption of SFAS No. 141 did not have a material
effect on our financial position or results of operations.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Intangible
Assets," which revises the accounting for purchased goodwill and intangible
assets. Under SFAS No. 142, goodwill and intangible assets with indefinite lives
are no longer amortized, but are tested for impairment annually or in the event
of an impairment indicator. SFAS No. 142 was effective January 1, 2002. The
adoption of SFAS No. 142 did not have a material effect on our financial
position or results of operations.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." The standard requires entities to record the fair value
of a liability for an asset retirement obligation in the period in which it is
incurred. SFAS No. 143 is effective for all fiscal years beginning after June
15, 2002. The adoption of SFAS No. 143 did not have a material effect on our
financial position or results of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." SFAS No. 144 replaces SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of." SFAS No. 144 requires that long-lived assets be
measured at the lower of carrying amount or fair value less cost to sell,
whether reported in continuing operations or discontinued operations. Therefore,
discontinued operations will no longer be measured at net realizable value or
include
22
amounts for operating losses that have not yet occurred. SFAS No. 144 also
broadens the reporting of discontinued operations to include all components of
an entity with operations that can be distinguished from the rest of the entity
and that will be eliminated from the ongoing operations of their entity in a
disposal transaction. SFAS No. 144 was effective January 1, 2002. The adoption
of SFAS No. 144 did not have a material effect on our financial position or
results of operations.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements 4, 44 and 64, Amendment of FASB Statement 13, and Technical
Corrections." SFAS No. 145 is effective January 1, 2003. Among other things,
SFAS No. 145 requires that gains or losses on the extinguishment of debt will
generally be required to be reported as a component of income from continuing
operations and will no longer be classified as an extraordinary item. The
adoption of SFAS No. 145 did not have a material effect on our financial
position or results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 addresses financial
accounting and reporting for costs associated with exit or disposal activities
and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)." SFAS No. 146
requires that a liability be recorded for such activities when the liability is
actually incurred, and unlike EITF 94-3, the existence of a plan does not
necessarily support the basis for the recording of a liability. SFAS No. 146 is
effective for all exit or disposal activities initiated after December 31, 2002.
The Company did not undertake any exit or disposal activities for the three and
nine month periods ending September 30, 2003.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation --Transition and Disclosure, an amendment of SFAS No.
123." SFAS No. 148 amends SFAS No. 123 to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. SFAS No. 148 was effective for the year ended December 31, 2002.
The following table reconciles net loss and diluted earnings per share
(EPS), as reported, to pro-forma net loss and diluted EPS, as if the Company had
expensed the fair value of stock options as permitted by SFAS No. 123, as
amended by SFAS No. 148, since it permits alternative methods of adoption.
For the three months
ended
September 30,
-------------
2003 2002
---- -----
Net Income (Loss):
As reported $ (804,062) $ (24,716)
Pro-forma expense as if stock
options were charged against
net loss (47,970) (45,586)
------------- -----------
Pro-forma net income (loss)
using the fair value method $ (852,032) $ (70,302)
============= ===========
Diluted EPS:
As reported $ (0.11) $ (0.00)
Pro-forma using the fair
value method $ (0.11) $ (0.01)
23
For the nine months
ended
September 30,
-------------
2003 2002
---- ----
Net Income (Loss):
As reported $ (450,828) $ (299,369)
Pro-forma expense as if stock
options were charged against
net loss (127,682) (146,462)
------------- -----------
Pro-forma net income (loss)
using the fair value method $ (578,510) $ (445,831)
============= ===========
Diluted EPS:
As reported $ (0.06) $ (0.04)
Pro-forma using the fair
value method $ (0.08) $ (0.06)
In November 2002, the FASB issued FASB Interpretation (FIN) No. 45,
"Guarantor's Accounting And Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." FIN No. 45 clarifies that a
guarantor is required to recognize, at the inception of a guarantee, a liability
for the fair value of the obligation undertaken in issuing the guarantee. The
initial recognition and initial measurement provisions of this interpretation
are applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The interpretation also requires enhanced and additional
disclosures of guarantees in financial statements ending after December 15,
2002. In the normal course of business, the Company does not issue guarantees to
third-parties; accordingly, this interpretation does not effect the disclosures
included herein.
In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable
Interest Entities, an interpretation of ARB 51." FIN No. 46 defines when a
business enterprise must consolidate a variable interest entity. This
interpretation applies immediately to variable interest entities created after
January 31, 2003. It applies in the first fiscal year or interim period
beginning after June 15, 2003, to entities in which an enterprise holds a
variable interest that it acquired before February 1, 2003. The Company does not
have variable interest entities as of September 30, 2003.
In April 2003 the FASB issued SFAS No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities." SFAS No. 149 amends SFAS No.
133 for certain decisions made by the Board as part of the Derivatives
Implementation Group (DIG) process and is effective for contracts entered into
or modified after June 30, 2003 and for hedging relationships designated after
June 30, 2003. In addition, SFAS No. 149 should be applied prospectively. The
provisions of SFAS No. 149 that relate to SFAS No. 133 Implementation Issues
that have been effective for fiscal quarters that began prior to June 15, 2003,
should continue to be applied in accordance with their respective effective
dates. The Company is not involved in any hedging activities.
24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK
We are exposed to market risk for the effect of interest rate changes
on our U.S. Treasury securities, money market securities and variable rate bank
debt. We are not currently exposed to any foreign currency risks. Other
information relating to quantitative and qualitative disclosure about market
risk is set forth in "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources."
INTEREST RATE RISK
Our exposure to market risk for changes in interest rates relates
primarily to our cash, investment securities and our long-term debt. We
generally invest our excess cash in U.S. Treasury securities of short- to
intermediate-term and money market mutual funds. Fixed rate securities may have
their fair market value adversely affected due to a rise in interest rates, and
we may suffer losses in principal if forced to sell securities that have
declined in market value due to changes in interest rates prior to maturity.
At September 30, 2003, we have total debt of $1,128,981. This debt
consists of two capital leases, three bank notes used for equipment financing
and a mortgage on our executive office at 580 Marshall Street, Phillipsburg, New
Jersey 08865. Our payment commitments under these debt instruments are comprised
of interest and principal payments. We may incur additional interest expense
over the repayment period with increases in the prime rate of interest.
On February 5, 2003, CMT renegotiated the interest rate on its
equipment loan maturing August 2004 from a fixed rate of 8.75% to a variable
interest rate. The variable interest rate is the prime rate of interest plus
1.00% with a minimum interest rate of 5.50%.
On February 5, 2003, Sentigen Corp. renegotiated the interest rate on
its equipment loan maturing May 2005 from a fixed rate of 8.75% to a variable
interest rate. The variable interest rate is the prime rate of interest plus
1.00% with a minimum interest rate of 5.50%.
The interest rate on CMT's mortgage obligation maturing in August 2017
is a variable interest rate which resets every 3 years. The interest rate reset
in February 2003 from an interest rate of 9.50% to a rate of 5.00%.
On April 15, 2003, CMT renegotiated the interest rate on its equipment
loan, maturing May 2009 from a fixed rate of 7.40% to a fixed rate of 5.25%. The
amortization period of the loan remained unchanged.
ITEM 4. CONTROLS AND PROCEDURES
We carried out an evaluation, under the supervision and with the
participation of management, including our Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures as of the end of the period covered by this
report pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the
Chief Executive Officer and Chief Financial Officer concluded that our
disclosure controls and procedures were effective in timely alerting them to
material information relating to our company (including its consolidated
subsidiaries) required to be included in our periodic SEC filings. There have
not been any changes in our internal control over financial reporting during the
fiscal quarter to which this report relates that have materially affected, or
are reasonably likely to materially affect, our internal control over financial
reporting.
25
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not Applicable.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
RECENT ISSUANCES OF UNREGISTERED SECURITIES
Not applicable.
USE OF PROCEEDS
Not applicable.
ITEM 3. DEFAULT UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 EMPLOYMENT AGREEMENT BETWEEN THE COMPANY AND ERIK R. LUNDH
10.2 AMENDMENT TO STOCK OPTION AGREEMENT BETWEEN THE COMPANY AND
JOSEPH K. PAGANO DATED SEPTEMBER 4, 2003
10.3 STOCK OPTION AGREEMENT BETWEEN THE COMPANY AND JOSEPH K.
PAGANO DATED APRIL 30, 1999
31.1 CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO RULE 13a-14 AND 15d-14 UNDER THE
SECURITIES AND EXCHANGE ACT OF 1934, AS AMENDED
31.2 CERTIFICATION OF THE CHIEF FINANCIAL OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO RULE 13a-14 AND 15d-14 UNDER THE
SECURITIES AND EXCHANGE ACT OF 1934, AS AMENDED
32.1 CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER OF SENTIGEN
HOLDING CORP.PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
32.2 CERTIFICATION OF THE CHIEF FINANCIAL OFFICER OF SENTIGEN
HOLDING CORP. PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
(b) Reports on Form 8-K
None
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SENTIGEN HOLDING CORP.
Dated: November 14, 2003
By: /s/ Fredrick B. Rolff
---------------------------------
Fredrick B. Rolff,
Chief Financial Officer
(Principal Financial Officer
and Principal Accounting Officer)
27