POLYDEX PHARMACEUTICALS LTD/BAHAMAS - 10-Q Quarterly Report

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

ý		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

		For the quarterly period ended July 31, 2003

o		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 1-8366

POLYDEX PHARMACEUTICALS LIMITED
(Exact Name of Registrant as Specified in Its Charter)

Commonwealth of the Bahamas				None
(State or Other Jurisdiction of Incorporation or Organization)				(I.R.S. Employer Identification No.)


421 Comstock Road, Toronto, Ontario, Canada				M1L 2H5
(Address of Principal Executive Offices)				(Zip Code)

Registrant’s Telephone Number, Including Area Code (416) 755-2231


Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

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

Indicate by check whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes o No ý

Indicate the number of shares outstanding of each of the issuer’s classes of common shares, as of the latest practicable date.

Common Shares, $.0167 Par Value				3,027,796 shares
(Title of Class)				(Outstanding at September 5, 2003)

POLYDEX PHARMACEUTICALS LIMITED

TABLE OF CONTENTS

		PAGE
PART I	FINANCIAL INFORMATION

Item 1	CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

	Consolidated Balance Sheets July 31, 2003 and January 31, 2003	3

	Consolidated Statements of Operations Three months ended July 31, 2003 and July 31, 2002 Six months ended July 31, 2003 and July 31, 2002	5

	Consolidated Statements of Shareholders’ Equity and Comprehensive Income Six months ended July 31, 2003 and July 31, 2002	6

	Consolidated Statements of Cash Flows Six months ended July 31, 2003 and July 31, 2002	7

	Segmented Information Three months ended July 31, 2003 and July 31, 2002 Six months ended July 31, 2003 and July 31, 2002	8

	Notes to Consolidated Financial Statements (Unaudited)	9

Item 2	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	14

Item 3	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	28

Item 4	CONTROLS AND PROCEDURES	30

PART II	OTHER INFORMATION

Item 4	SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS	31

Item 6	EXHIBITS AND REPORTS ON FORM 8-K	31

	Signatures	33

PART I
FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements (unaudited).

POLYDEX PHARMACEUTICALS LIMITED

Consolidated Balance Sheets

(Expressed in United States dollars)

	(Unaudited)
	July 31 2003		January 31 2003

Assets

Current assets:
Cash	$	654,576	$	280,748
Trade accounts receivable	765,675		1,351,515
Inventories:
Finished goods	1,956,251		1,678,250
Work in process	79,826		59,478
Raw materials	702,676		528,235

Inventories	2,738,753		2,265,963
Prepaid expenses and other current assets	78,433		80,324

	4,237,437		3,978,550

Property, plant and equipment, net	4,766,459		4,665,809
Patents, net	75,971		87,062
Due from shareholder	946,195		981,153

	$	10,026,062	$	9,712,574

	(Unaudited)
	July 31 2003			January 31 2003

Liabilities and Shareholders’ Equity

Current liabilities:
Bank indebtedness	$	255,809		$	—
Accounts payable	1,215,734			1,205,383
Accrued liabilities	528,437			423,059
Due to Sparhawk Laboratories, Inc.	101,453			101,453
Customer deposits received	110,687			137,343
Income taxes payable	49,154			33,010
Current portion of long-term debt	409,944			439,059
Current portion of capital lease obligations	125,088			110,387

	2,796,306			2,449,694

Long-term debt	123,516			186,776
Capital lease obligations	283,323			319,602
Due to shareholder	683,611			682,225
Deferred income taxes	154,018			49,750

Total liabilities	4,040,774			3,688,047

Shareholders’ equity:
Capital stock
Authorized:
100,000 Class A preferred shares, par value $0.10 per share
899,400 Class B preferred shares, par value $0.0167 per share
10,000,000 common shares, par value $0.0167 per share
Issued and outstanding:
899,400 Class B preferred shares	15,010			15,010
3,027,796 common shares (2003 - 3,027,777)	50,434			50,434
Contributed surplus	23,224,128			23,224,128
Deficit	(16,804,644		)	(16,278,269		)
Accumulated other comprehensive loss	(499,640		)	(986,776		)

	5,985,288			6,024,527

	$	10,026,062		$	9,712,574

POLYDEX PHARMACEUTICALS LIMITED

Consolidated Statements of Operations (Unaudited)

(Expressed in United States dollars)

	Three Months Ended July 31 2003			Three Months Ended July 31 2002			Six Months Ended July 31 2003			Six Months Ended July 31 2002

Sales	$	3,058,369		$	2,647,400		$	6,354,887		$	5,972,010
Cost of products sold	2,373,364			1,946,153			4,891,594			4,301,568

	685,005			701,247			1,463,293			1,670,442

Expenses:
General and administrative	538,879			411,556			963,857			787,501
Depreciation	148,701			138,431			291,058			273,631
Research and development	12,333			57,216			21,772			112,542
Interest expense	34,204			38,712			69,576			80,097
Selling and promotion	38,185			31,800			82,398			65,201
Foreign exchange (gain) loss	32,206			(377		)	224,383			28,074
Amortization	5,545			5,545			11,091			11,091

	810,053			682,883			1,664,135			1,358,137

Income (loss) from operations	(125,048		)	18,364			(200,842		)	312,305

Other income (loss):
Other income (expense)	(55,701		)	2,434			(194,695		)	4,864

Income (loss) before provision for income taxes	(180,749		)	20,798			(395,537		)	317,169

Provision for income taxes	56,056			56,638			130,838			208,007

Net income (loss) for the period	$	(236,805	)	$	(35,840	)	$	(526,375	)	$	109,162

Per share information:
Earnings (loss) per common share for the period:
Basic	$	(0.08	)	$	(0.01	)	$	(0.17	)	$	0.04
Diluted	$	(0.08	)	$	(0.01	)	$	(0.17	)	$	0.04

Weighted average number of common shares outstanding for the period	3,027,796			3,027,777			3,027,796			3,027,777

POLYDEX PHARMACEUTICALS LIMITED

Consolidated Statements of Shareholders’ Equity and Comprehensive Income (Loss) (Unaudited)

(Expressed in United States dollars)

	Six Months Ended July 31 2003			Six Months Ended July 31 2002

Preferred Shares:
Balance, beginning and end of period	$	15,010		$	15,010

Common Shares:
Balance, beginning and end of period	$	50,434		$	50,434

Contributed Surplus:
Balance, beginning and end of period	$	23,224,128		$	23,224,128

Deficit:
Balance, beginning of period	$	(16,278,269	)	$	(15,604,528	)
Net income (loss) for the period	(526,375		)	109,162

Balance, end of period	$	(16,804,644	)	$	(15,495,366	)

Accumulated Other Comprehensive Loss:
Balance, beginning of period	$	(986,776	)	$	(1,199,627	)
Currency translation adjustment for the period	487,136			34,835

Balance, end of period	$	(499,640	)	$	(1,164,792	)

Comprehensive Income (Loss) for the period:
Net income (loss) for the period	$	(526,375	)	$	109,162
Currency translation adjustment for the period	487,136			34,835

	$	(39,239	)	$	143,997

POLYDEX PHARMACEUTICALS LIMITED

Consolidated Statements of Cash Flows (Unaudited)

(Expressed in United States dollars)

	Six Months Ended July 31 2003			Six Months Ended July 31 2002

Cash provided by (used in):

Operating activities:
Net income (loss) for the period	$	(526,375	)	$	109,162
Add (deduct) items not affecting cash:
Depreciation and amortization	302,149			284,722
Imputed interest on long-term debt	12,664			17,872
Deferred tax provision	99,153			127,730
Net change in non-cash working capital balances related to operations	308,581			(19,089		)

	196,172			520,397

Investing activities:
Additions to property, plant and equipment	(130,211		)	(136,146		)
Decrease in due from shareholder	34,958			22,313
Advance to Sparhawk Laboratories, Inc.	—			(1,575		)

	(95,253		)	(115,408		)

Financing activities:
Repayment of long-term debt	(105,039		)	(147,957		)
Repayment of capital lease obligations	(28,845		)	(48,509		)
Increase (decrease) in due to shareholder	1,386			(814		)
Increase (decrease) in bank indebtedness	255,809			(135,457		)

	123,311			(332,737		)

Effect of exchange rate changes on cash	149,597			1,998

Increase (decrease) in cash position	373,828			74,250

Cash, beginning of period	280,748			123,418

Cash, end of period	$	654,576		$	197,668

POLYDEX PHARMACEUTICALS LIMITED

Segmented Information (Unaudited)

(Expressed in United States dollars)

All operations are carried out through Dextran Products Limited (“Dextran”) in Canada and through Chemdex, Inc. (“Chemdex”) in the United States. The operations of Chemdex represent the veterinary products business and the operations are carried out through its wholly-owned subsidiary, Veterinary Laboratories, Inc. (“Vet Labs”). Vet Labs carries on its business through a Joint Venture with Sparhawk Laboratories, Inc. Each of Dextran and Chemdex operates as a strategic business unit offering different products. Each subsidiary comprises a reportable segment as follows:

Dextran -	manufactures and sells bulk quantities of Dextran and several of its derivatives to large pharmaceutical companies throughout the world.

Chemdex -	manufactures and sells veterinary pharmaceutical products and specialty chemicals in the United States. The primary customers are distributors and private labelers, who in turn sell to the end-user of these products.

	Three Months Ended July 31 2003			Three Months Ended July 31 2002		Six Months Ended July 31 2003			Six Months Ended July 31 2002

Sales:
Dextran	$	1,333,004		$	1,107,167	$	2,631,945		$	2,479,486
Less: intercompany sales elimination	91,819			128,140		174,740			299,481

	1,241,185			979,027		2,457,205			2,180,005
Chemdex	1,817,184			1,668,373		3,897,682			3,792,005

Total consolidated sales	$	3,058,369		$	2,647,400	$	6,354,887		$	5,972,010

Income (loss) before provision for income taxes:
Dextran	$	115,935		$	178,007	$	149,276		$	519,737
Chemdex	(89,437		)	146		(227,505		)	100,117

Total pre-tax income (loss) from segments	26,498			178,153		(78,229		)	619,854
Less: Unallocated corporate expenses	207,247			157,355		317,308			302,685

Total consolidated pre-tax income (loss)	$	(180,749	)	$	20,798	$	(395,537	)	$	317,169

Total Revenue by significant customer:
Customer A	$	388,930		$	413,564	$	839,387		$	709,242
Customer B	401,438			244,655		684,193			687,579
Customer C	290,715			421,044		577,954			922,333

Sales Revenue by product group:
Bulk Dextran and derivatives	$	1,241,185		$	979,027	$	2,457,205		$	2,180,005
Sterile injectible veterinary products	1,119,988			931,687		2,167,063			2,203,468
Oral and topical veterinary products	697,196			736,686		1,730,619			1,588,537

Total consolidated sales	$	3,058,369		$	2,647,400	$	6,354,887		$	5,972,010

	July 31, 2003		January 31, 2003

Assets:
Dextran	$	5,292,339	$	4,918,829
Chemdex	3,558,311		3,569,090

Total assets from segments	8,850,650		8,487,919
Corporate assets	1,175,412		1,224,655

Total consolidated assets	$	10,026,062	$	9,712,574

1. Basis of Presentation:

The information contained in the interim consolidated financial statements is condensed from that which would appear in annual consolidated financial statements. The interim consolidated financial statements included herein should be read in conjunction with the audited financial statements, and notes thereto, and other financial information contained in the 2003 Annual Report on Form 10-K for the fiscal year ended January 31, 2003 as filed by Polydex Pharmaceuticals Limited (the “Company”) with the Securities and Exchange Commission. The unaudited interim consolidated financial statements as of July 31, 2003 and July 31, 2002 include all normal recurring adjustments which management considers necessary for a fair presentation. The results of operations for the interim periods are not necessarily indicative of the results that may be expected for the entire fiscal year. The interim consolidated financial statements include the accounts and transactions of the Company and its majority owned subsidiaries in which the Company has equal to or more than a 50% ownership interest and exercises control.

2. Significant Accounting Policies:

Basis of consolidation

The consolidated financial statements include the accounts of the Company and its subsidiaries. All inter-company accounts and transactions have been eliminated on consolidation.

Use of estimates

The preparation of financial statements in conformity with United States generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates.

Inventories

Inventories of raw materials are stated at the lower of cost and net realizable value, cost being determined on a first-in, first-out basis. Work-in-process and finished goods are valued at the lower of cost and net realizable value, and include the cost of raw materials, direct labour and overhead expenses.

Property, plant and equipment and patents

Property, plant and equipment are recorded at cost. Depreciation is provided on a straight-line basis over the estimated useful lives of the assets as follows:

Buildings	15 years
Machinery and equipment	3 to 10 years

Patents are amortized on a straight-line basis over their estimated useful lives of ten years.

Useful life is the period over which the asset is expected to contribute to the Company’s cash flows. The Company reviews the recoverability of its long-lived assets when events or changes in circumstances occur that indicate that the carrying value of the asset may not be recoverable. The assessment of possible impairment is based on the Company’s ability to recover the carrying value of the asset from the expected future pre-tax cash flows of the related operations. If these cash flows are less than the carrying value of such asset, an impairment loss is recognized for the difference between estimated fair value and carrying value.

Costs related to plant refurbishments and equipment upgrades that represent improvements to existing facilities are capitalized. Costs related to repair and maintenance of buildings and equipment are expensed. The Company has no major planned maintenance activity other than the plant refurbishment at one of its subsidiaries.

Revenue recognition

Product sold in bulk quantities is tested, prior to release for shipment, to ensure that it meets customer specifications, and in many cases, customers receive samples for their own testing. Approval is obtained from the customer prior to shipping. Further purchases by a customer of a bulk product with the same specifications do not require approvals. Returns of bulk product are rare and generally are not accepted.

No testing and approval is required for finished dosage product because of its nature. Returns of finished dosage product are rare and generally are not accepted.

Shipping and handling costs

Shipping and handling costs incurred by the Company for shipment of products to customers are classified as cost of goods sold.

Research and development

Research and development costs are expensed as incurred and are stated net of investment tax credits earned.

Foreign currency translation

The functional currency of the Company’s Canadian operations has been determined to be the Canadian dollar. All asset and liability accounts of these companies have been translated into United States dollars using the current exchange rates at the consolidated balance sheet dates. Revenue and expense items are translated using the average exchange rates for the year. The resulting gains and losses have been reported separately as other comprehensive loss within shareholders’ equity.

Stock options

The Company has elected to follow Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” [“APB 25”] and related interpretations in accounting for its employee stock options rather than the alternative fair value accounting provided for under Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” [“SFAS 123”]. Under APB 25, because the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized.

Earnings (loss) per common share

Basic earnings (loss) per common share are computed using the weighted average number of shares outstanding of 3,027,796 at July 31, 2003 (2002 - 3,027,777). Diluted earnings (loss) per common share are computed using the weighted average number of shares outstanding adjusted for the incremental shares, using the treasury stock method, attributed to outstanding options to purchase common stock. Incremental shares of nil and nil at July 31, 2003 and July 31, 2002, respectively, were used in the calculation of diluted earnings per common share. Options to purchase 431,550 and 419,550 common shares at July 31, 2003 and July 31, 2002, respectively, were not included in the computation of diluted earnings per common share because their effect was anti-dilutive.

3. The Vet Labs – Sparhawk Joint Venture

In 1992, Vet Labs and Sparhawk Laboratories, Inc. (“Sparhawk”) entered into the Vet Labs – Sparhawk Joint Venture (the “Joint Venture”) for the manufacture and sale of veterinary pharmaceutical products. Vet Labs and Sparhawk each own 50% of the Joint Venture. The Joint Venture is governed by the Agreement for the Operation of Veterinary Laboratories, Inc.’s Lenexa Facility and Sparhawk Lab of K.C. as a Joint Venture, dated December 1, 1992, by and among Sparhawk, Chemdex and Vet Labs (the “Joint Venture Agreement”).

Pursuant to the Joint Venture Agreement, the Joint Venture Policy Committee (the “Policy Committee”) is responsible for the overall management of the Joint Venture, including the direction and control of the persons designated with the daily management responsibilities of the Joint Venture, and the general supervision of the management and conduct of the affairs of the Joint Venture. The Policy Committee consists of five members, three of which are selected by Vet Labs and two of which are selected by Sparhawk. Decisions of the Policy Committee require a simple majority vote.

Because the Company controls the operating, financing and investing decisions of the Joint Venture through Vet Labs’ control of the Policy Committee, it consolidates the Joint Venture’s assets, liabilities, revenue and expenses in the Company’s financial statements.

The Company has funded the Joint Venture’s cumulative losses since 1992 and, accordingly, has recorded 100% of these losses in the consolidated financial statements. At a future point in time, if the cumulative deficit of the Joint Venture is eliminated, a minority interest will be recorded.

The Joint Venture Agreement contained a stated termination date of December 1, 2002. In anticipation of the Joint Venture’s termination, on November 4, 2002, Sparhawk filed a petition in the District Court of Johnson County, Kansas (the “Court”), against Vet Labs, Chemdex and the Company seeking, among other things, judicial supervision during the winding up of the Joint Venture. Pursuant to the Standstill Agreement dated December 12, 2002 (the Standstill Agreement”), all parties agreed (i) to continue to operate the Joint Venture in the fashion it operated before December 1, 2002, and (ii) that all rights and obligations of each party set forth in the Joint Venture Agreement would continue during the term of the Standstill Agreement.

On December 16, 2002, each of the parties to the Joint Venture Agreement agreed to the appointment by the Court of a Receiver, whose duties include (i) the supervision of the wind-up of the Joint Venture, including the submission to the Court of a proposed plan for the disposal or distribution of the property of the Joint Venture and the allocation of the Joint Venture’s assets and liabilities among the parties, and (ii) the oversight of the operations of the Joint Venture during the winding-up period in order to keep and preserve the assets thereof. Legal and receiver costs of $198,690 at July 31, 2003 are included in other income (expense) on the consolidated statements of operations.

The Standstill Agreement was verbally extended by the parties and their counsel and will survive until the completion of the Receiver’s role as the court-appointed facilitator of judicial supervision of the winding up of the Joint Venture. The Joint Venture has continued to operate on this basis through the date of this quarterly report.

Sparhawk had an option to purchase 40% of the assets held by Vet Labs. The purchase price would be equal to 40% of the fair market value of the land, building and equipment owned by Vet Labs plus $1,000,000. The land and building have been appraised at a valuation of $2,450,000 as of November 15, 2002. The equipment has been appraised at a valuation of $230,900 as of January 22, 2003. Sparhawk notified the Company of its intention to exercise this Option in October 2002, but has not yet delivered the purchase price. The existence and alleged exercise of the Option is one of the litigation matters subject to the Standstill Agreement. The Company cannot at this time estimate the likelihood of Sparhawk consummating the exercise of the Option and delivering the purchase price.

peroid ended July 31, 2003. Rights to several of the products currently produced by the Joint Venture, including iron dextran, are owned by the Company and are expected to be returned to the Company, although ownership of certain of these product rights may be disputed by Sparhawk. Sales of these products amounted to to approximately $5,112,000 in fiscal 2003 and $2,148,000 for the six month period ended July 31, 2003. The Company plans to continue production of the products to which Vet Labs owns the rights after the winding up of the Joint Venture. However, no assurance can be given that sales of these products by the Company after the dissolution of the Joint Venture will be consistent with those achieved by the Joint Venture.

Assets purchased by the Joint Venture and rights to products developed by the Joint Venture are expected to be distributed to the members of the Joint Venture as part of the winding-up process. Assets and liabilities owned by the Joint Venture are currently included in the Company’s financial statements with a book value of $2,218,820 and $1,255,250, respectively. Depending upon the allocation of the Joint Venture assets upon dissolution, the Company may not receive ownership of the rights to products developed by the Joint Venture. Sales of these products amounted to approximately $2,034,000 in fiscal 2003 and $1,287,000 during the six month period ended July 31, 2003.

It is possible that a negotiated settlement with Sparhawk will be reached that would prevent the allocation of Joint Venture assets by the Court. Such a settlement would likely result in one of the parties purchasing the other party’s interest in the Joint Venture at an agreed upon price. Because the Joint Venture operations are currently fully consolidated in the Company’s financial statements, the Company’s results of operations would not be significantly impacted if the Company were to purchase Sparhawk’s interest in the Joint Venture, other than with respect to the cost of the consideration given to Sparhawk in the transaction.

If such a settlement resulted in Vet Labs selling its interest in the Joint Venture to Sparhawk, the Company’s financial statements would show a significant decline in revenues and possibly a small decline in income before income taxes, which would be at least partially offset by the consideration received by Vet Labs in exchange for the sale of its Joint Venture interest. The sale proceeds would be allocated to the Joint Venture assets and liabilities and any excess would be recorded as a gain. At July 31, 2003, the carrying value of the Joint Venture assets and liabilities is $2,218,820 and $1,255,250, respectively. During the year ended January 31, 2003, sales of the Joint Venture operations totaled $8,209,947 and net income before income taxes was $31,520. During the six month period ended July 31, 2003, sales of the Joint Venture amounted to $3,897,682, and net income before taxes totaled $20,382.

The Company does not expect that a sale of Vet Labs’ Joint Venture interest would have an adverse effect on the operations of Dextran Products, because sales by Dextran Products to Chemdex and the Joint Venture are not significant.

4. Comparative Interim Consolidated Financial Statements

The comparative interim consolidated financial statements have been reclassified from statements previously presented to conform to the presentation of the 2004 interim consolidated financial statements.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The fiscal year of Polydex Pharmaceuticals Limited (the “Company”) ends on January 31 of each year. Therefore fiscal year 2004 refers to the Company’s fiscal year ended January 31, 2004. The following discussion should be read in conjunction with the July 31, 2003 consolidated financial statements and notes thereto included elsewhere in this report. Operating results for the second quarter ended July 31, 2003 are not necessarily indicative of the results that may be expected for the fiscal year ended January 31, 2004. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s annual report on Form 10-K for the fiscal year ended January 31, 2003. All amounts are in United States dollars unless otherwise denoted.

Results of Operations

The operations of the Company are carried on through Dextran Products Limited (“Dextran Products”) in Canada and through Chemdex, Inc. (“Chemdex”) in the United States. The operations of Chemdex are carried on through its wholly-owned subsidiary, Veterinary Laboratories, Inc. (“Vet Labs”). Each of Dextran Products and Chemdex operates as a strategic business unit. Dextran Products manufactures and sells bulk quantities of Dextran and several of its derivatives to large pharmaceutical companies throughout the world. Chemdex manufactures and sells veterinary pharmaceutical products and specialty chemicals in the United States. The primary customers are distributors and private labelers, who in turn sell to the end-user of these products.

Net loss for the second quarter ended July 31, 2003 was $236,805, or $0.08 per share, as compared to a net loss $35,840, or $0.01 per share, for the quarter ended July 31, 2002. This decline in results is primarily due to losses at Chemdex and increased corporate administrative costs, including insurance. The majority of the losses at Chemdex are due to legal and receiver fees relating to the Vet Labs – Sparhawk Joint Venture (as described below in “The Vet Labs – Sparhawk Joint Venture”). In addition, the Company experienced a foreign exchange loss at Dextran Products. This foreign exchange loss at Dextran Products is due to an increase in the value of the Canadian dollar relative to the value of the U.S. dollar. Dextran Products has a significant net asset exposure to the U.S. dollar because the majority of its accounts receivable balance is in U.S. dollars, while the majority of its expenses are in Canadian dollars.

During the second quarter ended July 31, 2003, the Company had a loss from operations of $180,749, as compared to income from operations of $20,798 for the second quarter of fiscal 2003. This decline in results from operations is primarily due to increased corporate administrative costs and a decline in margins at both operating subsidiaries as compared to the same quarter last year, and the foreign exchange loss at Dextran Products.

Sales volume for the second quarter of fiscal 2004 increased from $2,647,400 to $3,058,369, representing an increase of $410,969 or 16%, as compared to the second quarter of fiscal 2003. Sales at Dextran Products to third parties increased by $262,158 or 26% as compared to the same quarter in fiscal 2003. This increase in sales at Dextran Products is primarily due to increased product demand. Sales at Chemdex during the second quarter of fiscal 2004 increased by $148,811 or 9% as compared to the same quarter in fiscal 2003. This increase at Chemdex is primarily due to the introduction of a new contract fill product and a new injectable product.

The summer months are typically slower sales months for Chemdex as large animals are put outdoors to pasture and therefore have less need for vitamins and other supplements. As expected, Chemdex’ second quarter sales were less than first quarter sales in fiscal 2004, however, management is forecasting higher sales levels for the third quarter of fiscal 2004. Management is expecting Dextran Products’ sales levels in the third quarter to be consistent with sales levels achieved in the second quarter of fiscal 2004.

Overall, the Company’s gross margin decreased from 26% in the second quarter of fiscal 2003 to 22% in the second quarter of fiscal 2004. Dextran Products’ gross margin decreased from 38% in the second quarter of fiscal 2003 to 32% during the second quarter of fiscal 2004. Chemdex’ gross margin decreased from 17% in the second quarter of fiscal 2003 to 14% in the second quarter of fiscal 2004.

The margin decrease at Dextran Products is primarily a result of a large increase in the value of the Canadian dollar in relation to the U.S. dollar. The majority of the sales at Dextran Products are denominated in U.S. dollars, but all costs are incurred in Canadian dollars. Management expects sales and margins to continue at similar levels at Dextran Products for the foreseeable future.

The margin decrease at Chemdex is a result of a product mix variance, as Chemdex experienced decreased sales in its highest margin product, and increased sales in its lower margin product lines, as compared to the second quarter of fiscal 2003.

General and administrative expenses in the second quarter of fiscal 2004 were $538,879, representing an increase of $127,323, or 31%, from the second quarter of fiscal 2003. This increase is due primarily to increased insurance and other corporate administrative costs and the hiring of a new general manager at Chemdex in the fourth quarter of fiscal 2003 to oversee the joint venture operations and its management on behalf of the Company. Selling and promotional expenses in the second quarter of fiscal 2004 were generally consistent with the same period in fiscal 2003.

Interest expense in the second quarter of fiscal 2004 was $34,204, representing a decrease of $4,508, or 12%, as compared to the second quarter in fiscal 2003, due to the repayment of long-term debt and capital lease obligations. Depreciation and amortization in the second quarter of fiscal 2004 was $154,246, representing an increase of $10,270, or 7%, from the second quarter of fiscal 2003 primarily due to the installation of new equipment at Dextran Products.

Other expenses in the second quarter of fiscal 2004 consist of $57,686 of legal and receiver fees relating to the winding up of the Vet Labs - Sparhawk Joint Venture. The Company did not incur similar expenses during the same period in fiscal 2003.

Due to continued direct funding of research and development expenses by third party public and/or private sector groups, the Company’s research and development costs in the second quarter of fiscal 2004 decreased by $44,883, or 78%, to $12,333 as compared to the second quarter of fiscal 2003. Funding from existing third-party sources for existing research and development projects is expected to continue at historic levels for the foreseeable future. The Company’s research and development expenditures are expected to increase over the remainder of the year due to additional development activities the Company expects to perform and fund outside of its partnership relationships.

Research and development with respect to the Company’s cellulose sulphate product as a contraceptive gel with antiviral capabilities is being conducted with the assistance and financial support of the Contraceptive Research and Development Program, Consortium for Industrial Collaboration in Contraceptive Research and Global Microbicide Program (collectively, “CONRAD”). CONRAD provides direct financial assistance in support of, and/or actually conducts specific research studies involving the cellulose sulphate product in conjunction with, various public health-oriented entities. In exchange for this research assistance, the Company makes its intellectual property, namely patent rights and know-how, available for use in the preparation, clinical evaluation and development of the product. The Company has no commitments to repay the funding or to purchase the results of the research.

At the present time four Safety Studies are underway and further studies are in the planning stages:

• A Phase I Expanded Safety Study is underway in collaboration with the World Health Organization in Uganda, Nigeria and India. This study will involve 180 women in two treatment groups and two cohorts. The final report on this study is expected during the fourth quarter of fiscal 2004;

• A Safety Study in HIV-Infected women is being carried out in collaboration with the HIV Prevention Trials Network of the National Institute of Allergy and Infectious Diseases at four sites in the United States. The study will involve 96 women and 48 male partners. Although recruitment has taken longer than expected, the study is expected to be completed during the fourth quarter of fiscal 2004;

• An Expanded Safety Study at three sites in the United States involves 60 healthy women and is expected to be completed by the fourth quarter of fiscal 2004; and

• A Safety Study in Cameroon is being carried out in collaboration with Family Health International. The final report is expected by the third quarter of fiscal 2004.

Research and development relating to the Company’s cystic fibrosis product, Usherdex (now identified by BCY as DCF 987), is being conducted and funded directly by BCY Lifesciences Inc.

(“BCY”) pursuant to a license agreement. BCY has identified DCF 987 as its lead drug candidate, completed Phase I human clinical trials and commenced Phase II human clinical trials. This Phase II trial is designed to study the utility of DCF 987 when treating cystic fibrosis and is being conducted at six centers in Canada. The Company will receive royalty payments from BCY based upon sales and other revenues upon approval of any developed product pursuant to its license agreement with BCY.

Liquidity and Capital Resources

In the second quarter of fiscal 2004, the Company had cash flow from operations of $267,209, compared to $90,463 in the second quarter of fiscal 2003. This increase of $176,746, or 195%, is primarily attributable to collections of trade accounts receivable during the quarter.

At July 31, 2003, the Company had trade accounts receivable of $765,675 compared to $1,351,515 at January 31, 2003 and $1,232,922 at April 30, 2003. The decrease in trade accounts receivable during the second quarter of fiscal 2004 was primarily due to increased collections at Chemdex during the quarter and reduced sales towards the end of the quarter.

At July 31, 2003, the Company had inventory valued at $2,738,753, compared to $2,265,963 at January 31, 2003 and $2,490,471 at April 30, 2003. The increase in inventory is in anticipation of third quarter sales.

The Company had accounts payable of $1,215,734 at July 31, 2003 as compared to $1,322,369 at April 30, 2003 and $1,205,383 at January 31, 2003.

The Company had customer deposits received of $110,687 at July 31, 2003 as compared to $5,539 at April 30, 2003 and $137,343 at January 31, 2003. The change in the customer deposits received balance is due to timing of collections from customers.

The Company experienced no significant changes in financing or investing activities and made no significant capital expenditures during the second quarter of 2004.

The Company experienced a currency translation adjustment gain of $43,763 during the second quarter of fiscal 2004 as compared to a loss of $40,814 during the second quarter of fiscal 2003. Dextran Products’ functional currency is the Canadian dollar. This currency translation adjustment is entirely attributable to the translation of Dextran Products financial statements to U.S. dollars.

Dextran Products has a CDN$750,000 (US$533,000) line of credit, of which $255,809 was utilized at July 31, 2003. Management anticipates using the credit line for the purposes of funding a portion of the costs associated with the refurbishment of the Toronto facility. The Vet Labs – Sparhawk Joint Venture has a $175,000 line of credit to fund operations, none of which was utilized at July 31, 2003. There have been no new capital lease obligations during the second quarter of fiscal 2004. All long-term debt is due in the next two years, while capital lease obligations are due over the next four years.

Management expects the primary source of its future capital needs to be a combination of Company earnings and borrowings. The Company, at present, does not have any material commitments for capital expenditures, although management intends to continue the plant refurbishment at Dextran Products.

The Company believes that based upon current levels of revenues and spending, and taking into account the Joint Venture litigation, its existing working capital resources will be sufficient to support continuing operations for at least the next twelve months.

No changes in accounting principles or their application have been implemented in the reporting period that would have a material effect on reported income. Changes in the relative values of the Canadian dollar and the U.S. dollar occur from time to time and may, in certain instances, materially affect the Company’s results of operations.

The Company does not believe that the impact of inflation and changing prices has had a material affect on its operations or financial results at any time in the last three years.

The Vet Labs – Sparhawk Joint Venture

Pursuant to the Joint Venture Agreement, the Joint Venture Policy Committee (the “Policy Committee”) is responsible for the management of the Joint Venture, including the direction and control of the persons designated with the daily management responsibilities of the Joint Venture, and the general supervision of the management and conduct of the affairs of the Joint Venture. The Policy Committee consists of five members, three of which are selected by Vet Labs and two of which are selected by Sparhawk. Decisions of the Policy Committee require a simple majority vote.

before December 1, 2002, and (ii) that all rights and obligations of each party set forth in the Joint Venture Agreement would continue during the term of the Standstill Agreement.

On December 16, 2002, each of the parties to the Joint Venture Agreement agreed to the appointment by the Court of a Receiver, whose duties include (i) the supervision of the wind-up of the Joint Venture, including the submission to the Court of a proposed plan for the disposal or distribution of the property of the Joint Venture and the allocation of the Joint Venture’s assets and liabilities among the parties, and (ii) the oversight of the operations of the Joint Venture during the winding-up period in order to keep and preserve the assets thereof. The Company has incurred legal and receiver costs of $198,690 for the six-month period ended July 31, 2003.

Subject to the exercise of the Option, upon winding up of the Joint Venture, all assets used in the Joint Venture operations that were owned by the respective members of the Joint Venture prior to the formation of the Joint Venture are expected to be returned to the respective owner. There are no assets of Sparhawk included in the consolidated financial statements of the Company. Sparhawk does own rights to certain generic products currently produced by the Joint Venture, all of which belong to the liquids product line, which will be returned to Sparhawk upon wind-up. During the six months ended July 31, 2003, sales of these products amounted to approximately $463,000. Rights to several of the products currently produced by the Joint Venture, including iron dextran, are owned by the Company and are expected to be returned to the Company, although ownership of certain of these product rights may be disputed by Sparhawk. During the six months ended July 31, 2003, sales of these products amounted to approximately $2,148,000. The Company plans to continue production of the products to which Vet Labs owns the rights after the winding up of the Joint Venture. However, no assurance can be given that sales of these products by the Company after the dissolution of the Joint Venture will be consistent with those achieved by the Joint Venture.

statements with a book value of $2,218,820 and $1,255,250, respectively. Depending upon the allocation of the Joint Venture assets upon dissolution, the Company may not receive ownership of the rights to products developed by the Joint Venture. During the six months ended July 31, 2003, sales of these products amount to approximately $1,287,000.

Related Party Transactions

In August 1997, the Company loaned Thomas C. Usher, its Vice-Chairman, Director of Research and Development, and a member of its Board of Directors, $691,500 at an interest rate equal to the prime rate of Toronto Dominion Bank plus 1.50% (the “Loan”). The Loan was used to partially fund a $1,000,000 payment to the State of Florida in order to allow Thomas C. Usher to regain possession of 430,000 Common Shares of the Company then held by the State as collateral security relating to the liquidation of insurance companies formerly owned by Thomas C. Usher. Repayment of the Loan is accomplished by monthly payments and through offsets by the Company against royalty payments due Thomas C. Usher pursuant to intellectual property license agreements and bonus payments, if any, granted Thomas C. Usher as an employee of the Company. The amount outstanding under the Loan as of July 31, 2003 was $498,209, as compared to $517,190 at January 31, 2003, including accrued interest. The Company has taken a cumulative provision of $228,468 against accrued interest on this loan as of July 31, 2003 (January 31, 2003 - $212,491).

In August 1999, Thomas C. Usher personally assumed all of the assets and liabilities of Novadex Corp., including the balance of receivables (the “Receivables”) due to the Company from Novadex Corp. The Receivables have no specific repayment terms. The total outstanding amount of the Receivables as of July 31, 2003 was $426,454, representing no change from January 31, 2003. Thomas C. Usher also owes $250,000 to a subsidiary of the Company, Novadex International

Limited, as of July 31, 2003. The outstanding amount of this loan has not changed from January 31, 2003.

The Company also has an outstanding loan payable to Ruth Usher, a member of the Board of Directors. The amount due from the Company pursuant to this loan increased to $683,611 at July 31, 2003 from $682,225 at January 31, 2003 due to interest charges less monthly payments by the Company.

Risk Factors

In addition to the risks and uncertainties discussed in the Joint Venture section above, the risks, uncertainties and other factors described below could materially and adversely affect the Company’s business, financial condition, operating results and prospects.

The Company’s product development efforts may be reduced or discontinued due to difficulties or delays in clinical trials.

To achieve sustained profitability, the Company must, alone or with corporate partners and collaborators, successfully research, develop and commercialize identified technologies or product candidates. Current developmental product candidates are in various stages of clinical and pre-clinical development and will require significant further funding, research, development, preclinical and/or clinical testing, regulatory approval and commercialization testing, and are subject to the risks of failure inherent in the development of products based on innovative or novel technologies. These products are also rigorously regulated by the U.S. federal government, particularly the FDA, and by comparable agencies in state and local jurisdictions and in foreign countries. Specifically, each of the following results is possible with respect to any one of the Company’s developmental product candidates:

• that the Company will not be able to maintain its current research and development schedules;

• that the Company will not be able to enter into human clinical trials because of scientific, governmental or financial reasons, or that it will encounter problems in clinical trials that will cause a delay or suspension of the development of the product candidate;

• that the developmental product will be found to be ineffective or unsafe;

• that government regulations will delay or prevent the product’s marketing for a considerable period of time and impose costly procedures upon the Company’s activities;

• that the FDA or other regulatory agencies will not approve the product or the process by which the product is manufactured, or will not do so on a timely basis; and/or

• that the FDA’s policies may change and additional government regulations and policies may

be instituted, which could prevent or delay regulatory approval of the product.

If any of the risks set forth above occurs, the Company may not be able to successfully develop its identified developmental product candidates.

The Company’s developmental product commercialization efforts may not be successful.

It is possible that, for reasons including, but not limited to those set forth below, the Company may be unable to commercialize or receive royalties from the sale of any given developmental product, even if it is shown to be effective, if:

• the product is uneconomical or if the market for the product does not develop or diminishes;

• the Company is not able to enter into arrangements or collaborations to commercialize and/or market the product;

• the product is not eligible for third-party reimbursement from government or private insurers;

• others hold proprietary rights that preclude the Company from commercializing the product;

• others have brought to market similar or superior products;

• others have superior resources to market similar products or technologies;

• government regulation imposes limitations on the indicated uses of the product, or later discovery of previously unknown problems with the product results in added restrictions on the product or results in the product being withdrawn from the market; and/or

• the product has undesirable or unintended side effects that prevent or limit its commercial use.

The Company depends on partnerships with third parties for the development and commercialization of its products.

The Company’s strategy for development and commercialization of its products is to rely on licensing agreements with third party partners. As a result, the ability of the Company to commercialize future products is dependent upon the success of third parties in performing clinical trials, obtaining regulatory approvals, manufacturing and successfully marketing its products. There can be no assurance that such third party collaborations will be successful. If any of the Company’s current research and development partnerships are discontinued, it may not be able to find others to develop and commercialize its current product candidates.

The Company does not currently have agreements with third parties to market many of its developmental products.

The commercialization of any of the Company’s developmental products that receive FDA approval will depend upon the Company’s ability to enter into agreements with companies that have sales and marketing capabilities. The Company currently intends to sell its products in the United States and internationally in collaboration with one or more marketing partners. The Company may not be able to enter into any such collaboration to market its developmental products in a timely manner or on commercially reasonable terms, if at all.

The Company may be unable to commercialize its products if it is unable to protect its proprietary rights, and may be liable for significant costs and damages if it faces a claim of intellectual property infringement by a third party.

The Company’s success depends in part on its ability to obtain and maintain patents, protect trade secrets and operate without infringing upon the proprietary rights of others. In the absence of patent and trade secret protection, competitors may adversely affect the Company’s business by independently developing and marketing substantially equivalent or superior products, possibly at lower prices. The Company could also incur substantial costs in litigation and suffer diversion of attention of technical and management personnel if it is required to defend intellectual property infringement suits brought by third parties, with or without merit, or if required to initiate litigation against others to protect or assert intellectual property rights. Moreover, any such litigation may not be resolved in favor of the Company.

The Company has received various patents covering the uses of its product candidates. However, the patent position of companies in the pharmaceutical industry generally involves complex legal and factual questions, and recently has been the subject of much litigation. Any patents the Company has obtained, or may obtain in the future, may be challenged, invalidated or circumvented. To date, no consistent policy has been developed by the United States Patent and Trademark Office regarding the breadth of claims allowed in biotechnology patents.

In addition, because patent applications in the United States are maintained in secrecy until patents issue, and because publication of discoveries in scientific or patent literature often lags behind actual discoveries, the Company cannot be certain that it and its licensors are the first creators of inventions covered by any licensed patent applications or patents or that the Company or such licensors are the first to file. The United States Patent and Trademark Office may commence interference proceedings involving patents or patent applications, in which the question of first inventorship is contested. Accordingly, the patents owned by or licensed to the Company may not be valid or may not afford the Company protection against competitors with similar intellectual property.

It is also possible that the Company’s patents may infringe on patents or other rights owned by others, licenses to which may not be available to the Company. The Company may have to alter its products or processes, pay licensing fees or cease certain activities altogether because of patent rights of third parties.

In addition to the products for which the Company has patents or have filed patent applications, the

Company relies upon unpatented proprietary technology and may not be able to meaningfully protect its rights with regard to that unpatented proprietary technology.

Critical Accounting Policies

The critical accounting policies of the Company include the use of estimates and allowances and their impact on accounts receivable, the useful lives of assets and the realizability of deferred tax assets.

Management is required to make estimates and assumptions, in preparing the consolidated financial statements, that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the periods. The actual results could differ from these estimates. Significant estimates made by management include the calculation of reserves for uncollectible accounts, inventory allowances, useful lives of long-lived assets and the realizability of deferred tax assets.

Revenue Recognition

All revenue is from sales of bulk and finished dosage manufactured products and is recognized when title and risk of ownership of products pass to the customer. Title and risk of ownership pass to the customer pursuant to the applicable sales contract, either upon shipment of product or upon receipt by the customer. Since returns are rare and generally not accepted, management has not made provision for returns. In addition, product sold in bulk quantities is tested, prior to release for shipment, to ensure that it meets customer specifications, and in many cases, customers receive samples for their own testing. Approval is obtained from the customer prior to shipping. A significant change in these estimates could have a material impact on the results of operations.

Allowance for Doubtful Accounts

Accounts receivable is stated net of allowances for doubtful accounts. Allowances for doubtful accounts are determined by each reporting unit on a specific item basis. Management reviews the credit worthiness of individual customers and past payment history to determine the allowance for doubtful accounts. Since the majority of sales at Dextran Products are export, Dextran Products maintains credit insurance through a crown corporation for the majority of its customers receivables.

Long-Lived Assets

Long-lived assets are stated at cost, less accumulated depreciation or amortization computed using the straight-line method based on their estimated useful lives ranging from three to fifteen years. Useful life is the period over which the asset is expected to contribute to the Company’s cash flows. A significant change in these estimates could have a material impact on the results of operations. The Company reviews the recoverability of its long-lived assets, including buildings, equipment and other intangible assets, when events or changes in circumstances occur that indicate that the carrying

value of the asset may not be recoverable. The assessment of possible impairment is based on the Company’s ability to recover the carrying value of the asset from the expected future pre-tax cash flows (undiscounted and without interest charges) of the related operations. If these cash flows are less than the carrying value of such asset, an impairment loss is recognized for the difference between estimated fair value and carrying value. The measurement of impairment requires management to make estimates of these cash flows related to long-lived assets as well as other fair value determinations.

Deferred Tax Assets

The Company has recorded a valuation allowance on deferred tax assets primarily related to operating loss carryforwards of the U.S. operations based on the uncertainty involved with the Joint Venture.

Recent Accounting Pronouncements

In May 2003, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity”. SFAS No. 150 establishes standards for the measurement and classification of certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003. Effective June 1, 2003, the Company accounts for financial instruments in accordance with SFAS No. 150. The adoption of this standard had no impact on the consolidated financial statements.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS 149 is intended to result in more consistent reporting of contracts as either freestanding derivative instruments subject to Statement 133 in their entirety, or as hybrid instruments with debt host contracts and embedded derivative features. The Statement is effective for contracts entered into or modified after June 30, 2003, and hedging relationships designated after June 30, 2003. Effective July 1, 2003, the Company accounts for any derivative instruments and hedging activities in accordance with SFAS 149. The adoption of this amendment had no impact on the consolidated financial statements.

In January 2003, the FASB issued FASB Interpretation (“FIN”) No. 46, “Consolidation of Variable Interest Entities an interpretation of ARB No. 51” (the “Interpretation”). The Interpretation introduces a new consolidation model - - the variable interests model - which determines control (and consolidation) based on potential variability in gains and losses of the entity being evaluated for consolidation. The Interpretation requires disclosure of certain information in financial statements initially issued after January 31, 2003, if it is reasonably possible that an enterprise will consolidate or disclose information about a variable interest entity when Interpretation 46 becomes effective. The Company will account for any variable interest entities in accordance with FIN 46. The adoption of this Interpretation had no impact on the Company’s consolidated financial statements.

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 requires any gain or loss on extinguishments of debt to be classified as income or loss from continuing operations, rather than as an extraordinary item. Effective February 1, 2003, the Company will account for any extinguishments of debt in accordance with SFAS 145. The adoption of this standard had no impact on the Company’s consolidated statements of operations.

In July 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. SFAS No. 146 also establishes that the liability should be measured initially at fair value. SFAS No. 146 is effective for exit or disposal activities initiated after December 31, 2002. Effective January 1, 2003, the Company will account for any exit costs or disposal activities in accordance with SFAS No. 146. The adoption of SFAS No. 146 had no impact on the Company’s consolidated statements of operations.

In November 2002, the FASB issued FIN No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.” FIN No. 45 clarifies and expands on existing disclosure requirements for a guarantor regarding its obligations under certain guarantees it has issued. FIN No. 45 also requires that the guarantor must recognize a liability for the fair value of its obligations under certain guarantees. The disclosure requirements are effective for fiscal years ending after December 15, 2002. The initial recognition and measurement provisions apply on a prospective basis to guarantees issued after December 31, 2002. The Company has adopted the disclosure requirements of FIN No. 45 effective January 31, 2003, and has adopted the recognition and measurement provisions for guarantees issued after December 31, 2002. The adoption of FIN 45 had no impact on the Company’s consolidated statements of operations.

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure.” SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition to SFAS No. 123’s fair value method of accounting for stock-based employee compensation. SFAS No. 148 also amends the disclosure provisions of SFAS No. 123 and Accounting Principles Board Opinion (“APB”) No. 28, “Interim Financial Reporting,” to require disclosure in the summary of significant accounting policies of the effects of an entity’s accounting policy with respect to stock-based employee compensation on reported net income and earnings per share in annual and interim financial statements. SFAS No. 148 is effective for fiscal years ending after December 15, 2002. The Company has elected to continue to use the intrinsic value based method under the provisions of APB No. 25, “Accounting for Stock Issued to Employees,” and has adopted the required disclosures of SFAS No. 148 effective January 31, 2003.

In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” effective for fiscal years beginning after December 15, 2001. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets and

supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of,” and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, “Reporting the Results of Operations for a disposal of a segment of a business.” The Company adopted SFAS No. 144 as of February 1, 2002. The adoption of SFAS No. 144 had no impact on the Company’s consolidated statements of operations.

In June 2001, the FASB issued SFAS No. 143, “Accounting for Asset Retirement Obligations”. SFAS 143 applies to all entities and requires legal obligations arising from the retirement of tangible long-lived assets associated to their acquisition, construction, or development and (or) normal operation, except for certain lease obligations, to be initially measured at their fair value. SFAS No. 143 is effective for financial statements issued for fiscal years beginning after June 15, 2002. Effective February 1, 2003, the Company will account for any asset retirement obligations in accordance with SFAS 143. The adoption of SFAS No. 143 had no impact on the Company’s consolidated financial statements.

Forward-Looking Statements

This Form 10-Q, including the Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which represent the Company’s expectations or beliefs concerning future events, including, but not limited to statements regarding management’s expectations of regulatory approval and the commencement of sales. In addition, statements containing expressions such as “believes”, “anticipates”, “plans” or “expects” used in this Form 10-Q, the Company’s Annual Report, and the Company’s periodic reports on Forms 10-K and 10-Q previously filed with the Securities and Exchange Commission are intended to identify forward-looking statements. The Company cautions that various risks and uncertainties and other factors could cause actual results to differ materially from those expressed in or implied by the forward-looking statements. These factors include, without limitation, changing market conditions, the progress of clinical trials, and the results obtained, the establishment of new corporate alliances, the impact of competitive products and pricing, the timely development, FDA approval and market acceptance of the Company’s products, and the other risks discussed above, none of which can be assured.

The forward-looking statements contained in this quarterly report speak only as to the date of this report. Except as otherwise required by federal securities laws, we undertake no obligation to publicly update or revise any forward-looking statements or the risk factors described in this quarterly report, whether as a result of new information, future events, changed circumstances or any other reason after the date of this report.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments

(consisting of normally recurring accruals) considered necessary for a fair presentation have been included.

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

Exchange Rate Sensitivity

The Company’s operations consist of manufacturing activities in the United States and Canada. The Company’s products are sold in North America, Europe and the Pacific Rim.

While the majority of the sales of Dextran Products, the Company’s Canadian operation, are denominated in United States dollars, the majority of its expenses are incurred in Canadian dollars. The majority of the assets and liabilities of Dextran Products are denominated in Canadian dollars prior to the currency translation adjustment necessary for preparation of the financial statements of the Company contained in this report. Therefore, Dextran Products has a net asset exposure to the United States dollar. When the Canadian dollar rises in value relative to the United States dollar, the carrying value of the assets and liabilities of Dextran Products as stated in United States dollars increases. A rise in the Canadian dollar relative to the United States dollar also results in a decrease in gross margins and net income of Dextran Products. Dextran Products also experiences a foreign exchange loss when the Canadian dollar rises in relation to the United States dollar due to this net asset exposure. Similarly, a decline in the Canadian dollar relative to the United States dollar results in a foreign exchange gain and increased gross margins and net income at Dextran Products.

Management monitors currency fluctuations to ensure that an acceptable margin level at Dextran Products is maintained. Management has the ability, to some extent, to adjust sales prices to maintain an acceptable margin level.

The following table presents information about the Company’s financial instruments other than accounts receivable that are sensitive to changes in foreign currency exchange rates. All financial instruments are held for other than trading purposes. The table presents principal cash flows and related weighted average interest rates by expected maturity dates.

	Expected Maturity Date
	1/31/04		1/31/05		1/30/06		1/31/07		1/31/08	Thereafter	Total		Fair Value
	(US$ Equivalent)
Liabilities:
Long-term debt:
Fixed rate ($CDN)	116,402		124,116		106,540		106,359		—	—	453,417		453,417
Average interest rate	8.45	%	8.49	%	9.00	%	9.00	%	—	—	8.73	%

Interest Rate Sensitivity

The Company has no significant interest earning assets and the majority of its debt is at fixed rates. The variable rate debt represents the shareholder loan payable, which is approximately offset with the shareholder loan receivable. Both of these financial instruments carry the same interest rate. As such, the Company has no significant risk exposure to changes in interest rates.

The following table presents information about the Company’s financial instruments that are sensitive to changes in interest rates. All financial instruments are held for other than trading purposes. The table presents principal cash flows and related weighted average interest rates by expected maturity dates.

	Expected Maturity Date
	1/31/04		1/31/05		1/30/06		1/31/07		1/31/08		Thereafter		Total		Fair Value
	(US$ Equivalent)
Assets:
Notes receivable:
Variable rate ($US)	48,878		56,832		60,242		63,856		67,668		219,695		517,191		517,191
Average interest rate	6.00	%	6.00	%	6.00	%	6.00	%	6.00	%	6.0	%	6.00	%

Liabilities:
Long-term debt:
Fixed rate ($US)	280,365		—		—		—		—		—		280,365		280,365
Average interest rate	8.11	%	—		—		—		—		—		8.11	%
Fixed rate ($CDN)	116,402		124,116		106,540		106,359		—		—		453,417		453,417
Average interest rate	8.45	%	8.49	%	9.00	%	9.00	%	—		—		8.73	%
Variable rate ($US)	(432	)	1,042		1,104		1,170		1,241		678,083		682,208		682,208
Average interest rate	6.00	%	6.00	%	6.00	%	6.00	%	6.00	%	6.00	%	6.00	%

Item 4. Controls and Procedures.

(a) Evaluation of Controls and Procedures

Within 90 days prior to the date of filing of this report, the Company carried out an evaluation, under the supervision and with the participation of its management, including the Chief Executive Officer and the Chief Financial Officer, of the design and operation of its disclosure controls and procedures. Based on this evaluation, its Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective for gathering, analyzing and disclosing the information the Company is required to disclose in the reports it files under the Securities Exchange Act of 1934, within the time periods specified in the SEC’s rules and forms.

(b) Changes in Controls and Procedures

There have been no significant changes in the Company’s internal controls or in other factors that could significantly affect internal controls subsequent to the date of the Company’s most recent evaluation.

PART II

OTHER INFORMATION

Item 4. Submission of Matters to a Vote of Security Holders.

(a) The 2003 Annual General Meeting of the Members was held on July 16, 2003.

(b) Not applicable.

(c) At the Annual Meeting, Mr. George G. Usher and Mr. Thomas C. Usher were elected as directors of the Company to hold office for a three-year term expiring at the Annual General Meeting of the Members held in 2006 or until successors are duly elected and qualified. The tabulation of votes in person or by proxy at the Annual Meeting with respect to Mr. George G. Usher’s and Mr. Thomas C. Usher’s election are as follows:

	Class	Votes For		Votes Withheld	Abstentions and Non-Votes
George G. Usher	Common Shares	2,009,653		129,549	1,018,124
	Class B Preferred Shares	1,798,800	(1)	—	—

Thomas C. Usher	Common Shares	2,009,593		129,609	1,018,124
	Class B Preferred Shares	1,798,800	(1)	—	—

(1) Class B Preferred Shares are entitled to two (2) votes per share.

Item 6. Exhibits and Reports on Form 8-K.

(a) Exhibits

3.1 Memorandum of Association of Polydex Pharmaceuticals Limited, as amended to date (filed as Exhibit 3.1 to the Registrant’s Annual Report on Form 10-K filed April 30, 1997, and incorporated herein by reference)

3.2 Articles of Association of Polydex Pharmaceuticals Limited, as amended to date (filed as Exhibit 3.2 to the Registrant’s Quarterly Report on Form 10-Q filed September 13, 1999, and incorporated herein by reference)

31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

32.1 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

32.2 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

(b) Reports on Form 8-K

There were no reports on Form 8-K filed during the fiscal quarter ended July 31, 2003.

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.

Date: September 11, 2003

	POLYDEX PHARMACEUTICALS LIMITED
	(Registrant)

	By	/s/ George G. Usher
		George G. Usher, Chairman, President and Chief Executive Officer (Principal Executive Officer)


	By	/s/ Sharon L. Wardlaw
		Sharon L. Wardlaw, Treasurer, Secretary and Chief Financial and Accounting Officer (Principal Financial Officer)

Exhibit Index

31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

32.1 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

32.2 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