As filed with the Securities and Exchange Commission on February 5, 2010

Registration No. 333-163997

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

 

 

 

Amendment No. 1 to

Form S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

 

 

RULES-BASED MEDICINE, INC.

(Exact name of registrant as specified in its charter)

 

 

3300 Duval Road

Austin, Texas 78759

(512) 835-8026

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

T. Craig Benson

President and Chief Executive Officer

Rules-Based Medicine, Inc.

3300 Duval Road

Austin, Texas 78759

(512) 835-8026

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

 

 

Copies to:

 

 

Approximate date of commencement of proposed sale to the public:  As soon as practicable after the effective date of this Registration Statement.

 

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933 check the following box:  o

 

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o

 

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o

 

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

(Do not check if a smaller reporting company)

 

 

 

 

The registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until this Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

 

 

SUBJECT TO COMPLETION, DATED FEBRUARY 5, 2010

 

Preliminary Prospectus

 

          Shares

 

 

Rules-Based Medicine, Inc.

 

Common Stock

 

 

We are offering           shares of our common stock. This is our initial public offering, and no public market currently exists for our common stock. We expect the initial public offering price to be between $      and $      per common share. We have applied to list our common stock on the Nasdaq Global Market under the symbol “RULE.”

 

Investing in our common stock involves a high degree of risk. Please read “Risk Factors” beginning on page 9.

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

 

Delivery of the shares of common stock is expected to be made on or about          , 2010. We have granted the underwriters an option for a period of 30 days to purchase, on the same terms and conditions set forth above, up to an additional           shares of our common stock to cover over-allotments. If the underwriters exercise the option in full, the total underwriting discounts and commissions payable by us will be $     , and the total proceeds to us, before expenses, will be $     .

 

Sole Book-Running Manager

 

Jefferies & Company

 

 

Co-Manager

Stephens Inc.

 

Prospectus dated          , 2010

 

 

Table of Contents

 

 

 

 

 

You should rely only on the information contained in this prospectus and any free writing prospectus made available by us. We have not, and the underwriters have not, authorized anyone to provide you with different information. If anyone provides you with different or inconsistent information, you should not rely on it. We are not, and the underwriters are not, making an offer to sell these securities in any jurisdiction where an offer or sale is not permitted. You should assume that the information appearing in this prospectus is accurate as of the date on the front cover of this prospectus. Our business, financial condition, results of operations, and prospects may have changed since that date.

 

Through and including          , 2010 (the 25^th day after the date of this prospectus), all dealers that effect transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 

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Prospectus Summary

	•	An extensive menu of immunoassays. We believe we have the most extensive menu of validated multiplexed biomarker immunoassays in the industry, enabling us to cast a wide net in the search for clinically relevant biomarker patterns.
	•	Greater diagnostic accuracy. We believe we can measure more biomarkers than any other immunoassay platform using a comparable sample volume, resulting in molecular diagnostic tests with high sensitivity and specificity.
	•	Precise, reproducible data. Our solution is highly standardized, combining the precision of Luminex technology and liquid handling robots. This technology was developed by Luminex Corporation, or Luminex, a developer, manufacturer and marketer of innovative biological testing technologies to clinical researchers. Together with other proprietary immunoassay processes, we are able to deliver data with a high degree of precision and reproducibility.
	•	Cost-effective results. By rapidly analyzing a large number of biomarkers in a small sample volume, we are able to efficiently and cost-effectively deliver results that would otherwise require a large sample volume, multiple test and ultimately higher costs and greater complexity using less sensitive or less precise techniques.

	•	successfully commercialize our VeriPsych test as an aid in the diagnosis of recent-onset schizophrenia;

	•	validate and commercialize additional indications for our VeriPsych test;

	•	continue to expand our molecular diagnostic offerings in the psychiatric market;
	•	advance and expand our pipeline of molecular diagnostic tests across multiple attractive indications by leveraging our pharmaceutical services business; and
	•	expand our existing pharmaceutical services business.

	•	Our VeriPsych test is the first blood-based test to aid in the diagnosis of mental illness, including schizophrenia, and may not achieve any market acceptance by the psychiatric community, patients or payors.

	•	The successful launch of our VeriPsych test depends on our ability to leverage the credibility of well-respected psychiatric centers and thought-leaders in the psychiatric community to promote adoption and expanded use of our VeriPsych test as an aid in the diagnosis and treatment of mental illness.

	•	We have limited experience in marketing, selling and providing customer support for our VeriPsych test and may be unable to successfully market, sell or support it.

	•	If payors do not reimburse us or our customers for the use of our VeriPsych test or other molecular diagnostic tests that may be developed in the future, our financial condition and results of operations will be materially adversely affected.

	•	Psynova, our 77.6%-owned subsidiary, licenses the intellectual property related to our VeriPsych test from Cambridge University, or Cambridge, and any disruption in its rights to this intellectual property could materially adversely affect our ability to commercialize, market and sell our VeriPsych test for recent-onset schizophrenia and to develop and validate our VeriPsych test for additional indications.

	•	We sub-license the intellectual property related to our VeriPsych test from Psynova and any disruption in our rights to such intellectual property could materially adversely affect our ability to commercialize, market and sell our VeriPsych test for schizophrenia and to develop and validate our VeriPsych test for additional indications.

	•	We rely on third-party license agreements for patents or applications and additional technology related to our products, and the termination of these agreements could delay or prevent us from being able to commercialize our products.

	•	Our VeriPsych test is not protected by any issued patents.

	•	If we are unable to obtain, maintain and enforce intellectual property protection covering our products, others may be able to make, use or sell our products, which could have a material adverse effect on our business.

	•	Substantially all of our pharmaceutical services are performed, and all of our molecular diagnostic tests will be performed, at a single laboratory, and if this facility is affected by man-made or natural disasters, our business could be materially adversely affected.
	•	The loss or suspension of a license, especially our CLIA license, or the imposition of a fine or penalties under, or future changes in, federal or state laws and regulations could have a material adverse effect on our diagnostics business.

	•	Finalization of the FDA draft guidance concerning in vitro diagnostic multivariate index assays, or IVDMIA, or the determination that our VeriPsych test is not a laboratory-developed test could lead to increased costs and delays in introducing our molecular diagnostic tests.

	•	We are highly dependent on Luminex for our multiplexed testing services platform, and the loss of access to such technology could materially adversely affect our revenues and results of operations.

	•	As we commercialize, market and sell our VeriPsych test, we expect that we will incur operating losses.

	•	We may require additional funding, and our future access to capital is uncertain. Insufficient funds may limit our ability to develop and commercialize new products, services and technologies.

Common stock offered by us		shares (or           shares, if the underwriters exercise their option to purchase additional shares in full).
Common stock to be outstanding after this offering		shares (or           shares, if the underwriters exercise their option to purchase additional shares in full).
Use of proceeds		We intend to use the net proceeds of approximately $      million from this offering, based on an assumed initial offering price of $           per share, which is the midpoint of the price range set forth on the cover of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us, to pay accrued dividends of approximately $      million relating to our outstanding Series A-1 preferred stock, to repay all amounts outstanding under our revolving line of credit and our subordinated debt, and for working capital and other general corporate purposes. See “Use of Proceeds.”
Risk factors		Investing in our common stock involves a high degree of risk. You should carefully read and consider the information set forth under the heading “Risk Factors” and all other information set forth in this prospectus before deciding to invest in our common stock.
Nasdaq Global Market listing		We have applied to list our common stock on the Nasdaq Global Market under the symbol “RULE.”

	•	200,000 shares of common stock issuable upon the exercise of outstanding warrants at an exercise price of $9.00 per share;

	•	673,500 shares of common stock issuable upon the exercise of outstanding options at a weighted average exercise price of $3.60 per share; and

	•	147,249 shares of common stock reserved for future issuance under our 2007 Long Term Incentive Plan.

	•	that our shares of common stock will be sold at $           per share, which is the midpoint of the price range set forth on the cover of this prospectus;
	•	no exercise by the underwriters of their option to purchase up to          additional shares from us;
	•	the filing of our amended and restated certificate of incorporation and adoption of our amended and restated bylaws upon completion of this offering;
	•	the conversion of all outstanding shares of our Series A-1 preferred stock into          shares of common stock upon the completion of this offering; and

	•	no outstanding options or warrants having been exercised since December 31, 2009.

		Year Ended December 31,
		2007				2008				2008(1)				2009				2009(1)
		(In thousands, except share and per share data)
										Pro Forma								Pro Forma
										(unaudited)								(unaudited)
Consolidated Statement of Operations Data:
Pharmaceutical services revenues		$	13,037			$	21,669			$	20,801			$	24,641			$	23,473
Operating expenses:
Cost of revenues			4,868				8,590				8,590				9,985				9,985
Research and development			1,544				3,235				4,900				4,803				5,494
Sales and marketing			2,575				4,368				4,368				5,252				5,252
General and administrative			1,676				2,520				2,932				2,867				3,033
Total operating expenses			10,663				18,713				20,790				22,907				23,764
Income (loss) from operations			2,374				2,956				11				1,734				(291	)
Gain on re-measurement of Psynova			—				—				—								950
Equity in loss of Psynova			—				—				—								—
Interest and other income (expense), net			51				138				(308	)			(296	)			(654	)
Income (loss) before income taxes			2,425				3,094				(297	)			2,388				5
Provision for income taxes			433				1,218				240				708				23
Net income (loss)		$	1,992			$	1,876			$	(537	)		$	1,680			$	(18	)
Less net loss attributable to noncontrolling interest			—				—				(472	)			(21	)			(357	)
Net income (loss) attributable to RBM		$	1,992			$	1,876			$	(65	)		$	1,701			$	339
Net income attributable to preferred stockholders			598				1,441				1,441				1,528				1,528
Net income (loss) attributable to RBM common stockholders		$	1,394			$	435			$	(1,506	)		$	173			$	(1,189	)
Net income (loss) per share:
Basic and diluted		$	0.16			$	0.05			$	(0.18	)		$	0.02			$	(0.14	)
Shares used to compute net income (loss) per share:
Basic and diluted			8,814,989				8,326,512				8,326,512				8,446,838				8,446,838

(1)		On a pro forma basis to give effect to the acquisition of Psynova as if it had been completed on January 1, 2008, as more fully described in “Unaudited Pro Forma Financial Data.”

		As of December 31, 2009
		(In thousands)
										Pro Forma
		Actual				Pro Forma				as Adjusted
Consolidated Balance Sheet Data:
Cash and cash equivalents			7,049				7,049
Working capital			12,685				12,685
Total assets			51,430				51,430
Long-term debt, less current portion			13,651				13,651
Total liabilities			26,152				26,152
Series A-1 preferred stock			26,267				—
Total RBM stockholders’ equity (deficit)			(3,282	)			22,984

(1)		Each $1.00 increase or decrease in the assumed public offering price of $           per share, which is the midpoint of the price range listed on the cover of this prospectus, would increase or decrease the net proceeds to us from this offering by approximately $      million, or approximately $      million if the underwriters exercise their option to purchase additional shares of our common stock, in each case assuming the number of shares of our common stock offered by us, as set forth on the cover of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

	•	200,000 shares of common stock issuable upon the exercise of outstanding warrants at an exercise price of $9.00 per share;

	•	673,500 shares of common stock issuable upon the exercise of outstanding options at a weighted average exercise price of $3.60 per share; and

	•	147,249 shares of common stock reserved for future issuance under our 2007 Long Term Incentive Plan.

 

Investing in our common stock involves a high degree of risk. You should carefully consider the following risk factors, as well as the other information in this prospectus, before deciding whether to invest in shares of our common stock. The occurrence of any of the following risks could harm our business, financial condition, results of operations or growth prospects. In that case, the trading price of our common stock could decline and you may lose all or part of your investment.

 

Risks Related to Our Business

 

Our VeriPsych test is the first blood-based test to aid in the diagnosis of mental illness, including schizophrenia, and we cannot assure you that the product will achieve any market acceptance by the psychiatric community, patients or payors.

 

There is currently no established market for blood-based psychiatric diagnostic testing products and services. Psychiatric protocols, including those in the Diagnostic and Statistical Manual of Mental Disorders, 4^th Edition, a guide to psychiatric diagnosis published by the American Psychiatric Association, or DSM IV, have not contemplated the use of blood-based testing to aid in the diagnosis of psychiatric disorders. Psychiatrists may be hesitant to accept that the diagnosis of mental illness can be aided by a blood-based test. Further, many psychiatrists may be hesitant to employ blood-based tests in their practice to assist in the positive diagnosis of mental illness. We will need to make significant investments to educate the psychiatric community not only about the benefits of our VeriPsych test, but also about how to properly use the test, interpret its results and incorporate the results into the diagnosis of mental illness. Given that our VeriPsych test represents a potentially significant shift in the diagnosis of mental illness, the circulation of any negative reports or dissatisfaction regarding the test in the medical community could have a material adverse effect on psychiatrist and patient acceptance of our VeriPsych test as well as of our future diagnostic testing products and services.

 

Psychiatrists, patients and payors also may be highly sensitive to reimbursement rates for our VeriPsych test as well as related billing and collection matters. Potential patients may not have health insurance or may not have health insurance with benefits sufficient to pay for our VeriPsych test.

 

We have developed our VeriPsych test as an LDT, for which FDA approval is not currently required if conducted in our CLIA-certified laboratory. Despite the fact that FDA approval is not currently required, physicians may view the lack of FDA approval as a negative factor in deciding whether to use this test.

 

The successful launch of our VeriPsych test depends on our ability to leverage the credibility of major psychiatric centers and thought-leaders in the psychiatric community to promote adoption and expanded use of our VeriPsych test as an aid in the diagnosis and treatment of mental illness.

 

Because our VeriPsych test is a novel diagnostic tool, our sales and marketing plan for the product may not be successful. In January 2010, we began making our VeriPsych test available for order by psychiatrists at four major psychiatric centers in the United States as an aid in the diagnosis of recent-onset schizophrenia. We intend to use our early experience with these psychiatric centers to refine the process by which psychiatrists order and use the results of our VeriPsych test, and the manner in which the results of the tests are reported. We expect that this limited initial launch will assist in the broader launch of our VeriPsych test in the second half of 2010. We cannot assure you that psychiatrists at these centers will use and interpret our VeriPsych test correctly or be satisfied with the results that our VeriPsych test provides to aid in the diagnosis of recent-onset schizophrenia. If these psychiatrists are not satisfied with our VeriPsych test, we may not be able to successfully launch the product to the broader psychiatric community, which could materially adversely affect our business, financial condition and results of operations.

 

The successful launch of our VeriPsych test will also depend on our ability to convince mental health advocacy groups as well as thought-leaders in the psychiatric community of the benefits and uses of our VeriPsych test. We cannot assure you that we will effectively convince these advocacy groups and thought-leaders of such benefits and uses or that we will obtain their support. Further, we will not be able to control the message that these mental health advocacy groups and thought-leaders communicate about our VeriPsych test. Any dissatisfaction, or failure

to effectively communicate satisfaction, with our VeriPsych test by such advocacy groups and thought-leaders could materially adversely affect the broader launch of the product and could materially adversely affect our business, financial condition and results of operations.

 

We intend to obtain public validation of our VeriPsych test through articles in peer-reviewed journals. We cannot assure you that data about our VeriPsych test will ever be published, will be favorable, or that such peer-reviewed journal publications will be convincing to psychiatrists. Some psychiatrists may require the validation of our VeriPsych test in one or more peer-reviewed journal publications before ordering the test. If we fail to obtain such peer-reviewed journal publications, our VeriPsych test might not be broadly adopted.

 

Moreover, the American Medical Association, or AMA, generally requires several validating peer-reviewed articles before considering a new Current Procedural Terminology, or CPT, code for a new laboratory test. If we seek a CPT code for our test but fail to obtain one because of the lack of peer-reviewed articles, reimbursement for the test would be more difficult.

 

We have limited experience in marketing, selling and providing customer support for, our VeriPsych test and may be unable to successfully market, sell or support it.

 

We have limited marketing, sales and customer support experience with respect to our molecular diagnostic tests and services. As of February 5, 2010, our molecular diagnostic sales and marketing team consisted of three employees. We expect to grow this sales and marketing force to 10 employees by the second half of 2010 in connection with the broader commercial launch of our VeriPsych test. Our ability to achieve profitability in our molecular diagnostic business depends on attracting customers and educating them about the benefits of our tests. To successfully perform sales, marketing and customer support functions, we must:

 

 

We may utilize outside marketing consultants, as we have done with our pharmaceutical services business, to assist in marketing our molecular diagnostic tests. In addition, we expect to engage third parties to help us market and sell any molecular diagnostic indications targeting primary care physicians. If our sales and marketing efforts, or those of any third-party that we retain, are not successful, our diagnostic testing products and services may not gain market acceptance, which would have a material adverse effect on our business, financial condition and results of operations.

 

We intend to rely on third-party billing for our molecular diagnostic tests. We cannot guarantee that these third parties will bill accurately and timely enough or submit applications on our behalf with enough insurers to allow us to maximize profits.

 

We have engaged a third party to handle billing and collection matters relating to our molecular diagnostic tests. Billing for diagnostic tests can be extremely complicated. Depending on the billing arrangement and applicable law, we must bill various payors, such as insurance companies, Medicare, Medicaid, physicians, hospitals, employer groups, community entities or foundations, managed care programs and patients, all of which have different billing requirements. We have limited experience in billing and collecting from healthcare payors, and so we will be entirely dependent on the skills and actions of this billing agent. We cannot assure you that our third-party biller will bill and collect for our molecular diagnostic tests in a timely and accurate manner or be successful in implementing strategies to collect fees from third-party payors. Delays and other billing and collection problems may require us to take significant write-offs. Any failure by this third-party biller to bill and collect in a timely and accurate manner or to submit applications on our behalf with insurance providers or any change to a different third-party biller, which could cause delays in billing, could have a material adverse effect on our financial condition and results of operations and could expose us to potential liability.

 

We may decide in the future to conduct our own billing and collecting. We have no experience in billing and collecting for our molecular diagnostic tests. Accordingly, we would need to build an internal billing and collection

infrastructure, which could be a lengthy and expensive process. We cannot assure you that we would be able to bill and collect for our molecular diagnostic tests in a timely and accurate manner.

 

If payors do not reimburse us or our customers adequately or at all for the use of our VeriPsych test or other molecular diagnostic tests that may be developed in the future, our financial condition and results of operations will be materially adversely affected.

 

We and substantially all of our potential customers depend on third-party reimbursement for healthcare services. Reimbursement is provided by payors such as Medicare, Medicaid, private insurance plans, hospitals, employer groups, community entities or foundations and managed care programs. Payors may deny reimbursement if they determine that our molecular diagnostic tests are not clinically effective or appropriate, were not used in accordance with cost-effective treatment methods as determined by the payor, or were used for an unapproved indication. As sales of our VeriPsych test increase, payors may be increasingly likely to make any of these determinations, which could affect reimbursement rates or whether we or our customers are reimbursed at all. Our VeriPsych test is a novel molecular diagnostic test and, to our knowledge, no other blood-based test exists to aid in the diagnosis of mental illness. Therefore, payors may determine that our VeriPsych test is experimental and refuse to reimburse us or our customers for its use. Because each payor individually approves each claim for payment or reimbursement, obtaining these approvals can be a time-consuming and costly process. Claims for our VeriPsych test cannot currently be processed using the payors’ automated claims processing systems, so claims for our test will need to be submitted manually and examined individually. In addition, with each claim we will need to submit clinical support documentation for the medical necessity of certain of the assays included in the test panel. Submitting claims for our VeriPsych test manually will add to our costs and will likely result in greater payor scrutiny, initial rejections and delays in claims approval and payment. We expect that we will need to work with payors individually to establish the necessary documentation required for claims processing and payment. It may be difficult or impossible for us to achieve an automated claims processing routine. Moreover, this individualized process or any action by the government negatively affecting payment for or reimbursement of our molecular diagnostic tests can delay the market acceptance of new molecular diagnostic tests and may have a material adverse effect on our business, financial condition and results of operations.

 

In the United States, the AMA assigns specific CPT codes, which are a medical nomenclature used to report medical procedures and services under public and private health insurance plans. Once a CPT code is established, the Centers for Medicare and Medicaid Services, or CMS, establishes reimbursement payment levels and coverage rules under Medicaid and Medicare, and private payors establish rates and coverage rules independently. We cannot guarantee that our VeriPsych test will continue to be covered by existing CPT codes or will be approved for reimbursement by Medicare and Medicaid or private payors. Additionally, any or all of our diagnostic testing products developed in the future may not be approved for reimbursement.

 

If we are forced to contract with payors to be an in-network provider, we may not achieve maximum revenues from our molecular diagnostic tests, but if we remain an out-of-network provider, we may not be able to collect fully from payors and patients.

 

Unless we enter into a contract with a payor, the payor will consider us an out-of-network provider. At the outset of the commercialization of our VeriPsych test, we do not intend to enter into contracts with any payors and we may never do so. Use of an out-of-network provider typically results in greater coinsurance or co-payment requirements for the patient. In addition, a higher coinsurance or co-payment requirement could dissuade psychiatrists and their patients from using our VeriPsych test.

 

While agreeing to contract with a payor can increase the certainty of some payment, should we enter into a contract to become an in-network provider for the molecular diagnostic tests we provide, the resulting contract may contain pricing and other terms that are materially less favorable to us than the terms under which we expect to operate. As our revenues from a particular payor grow, there is heightened risk that such payor will insist that we enter into contractual arrangements with them that contain such terms. If we refuse to enter into a contract with such a payor, they may refuse to cover and reimburse for our products at all, which may lead to a decrease in case volume and a corresponding decrease in our revenues and earnings.

Healthcare reform legislation could adversely affect our financial condition and results of operations.

 

There are a number of initiatives on the federal and state levels for comprehensive reforms affecting the payment for, the availability of, and the reimbursement for healthcare services in the United States. These initiatives range from proposals to fundamentally change federal and state healthcare reimbursement programs, including providing comprehensive healthcare coverage to the public under government funded programs, to minor modifications of existing programs. Government payors, such as Medicare and Medicaid, as well as private payors, have increased their efforts to control the cost, utilization and delivery of healthcare services. Such cost containment measures and healthcare reforms could adversely affect our ability to sell our products and services and could adversely affect our revenues. The ultimate content or timing of any future healthcare reform legislation, and its impact on us, is impossible to predict. If significant reforms are made to the healthcare system in the United States, or in other jurisdictions, those reforms may have an adverse effect on our financial condition and results of operations.

 

Psynova, our 77.6%-owned subsidiary, licenses the intellectual property related to our VeriPsych test from Cambridge University, and any disruption in its rights to this intellectual property could materially adversely affect our ability to commercialize, market and sell our VeriPsych test for schizophrenia and to develop and validate our VeriPsych test for additional indications.

 

Cambridge University owns all of the intellectual property related to our psychiatric products, including our VeriPsych test. Psynova, our 77.6%-owned subsidiary, has certain rights to this intellectual property from Cambridge pursuant to a framework agreement and ancillary agreements. Under the framework agreement, Cambridge must notify Psynova of intellectual property developed in the research group of Dr. Sabine Bahn, or the Bahn Laboratory, and Psynova has the right to take an option to license such intellectual property. If Psynova elects to exercise such right and exercise an option to license the intellectual property, Cambridge and Psynova will enter into negotiations for the license to such intellectual property.

 

As of February 5, 2010, Psynova has taken from Cambridge 28 options to exclusively license intellectual property from 12 patent families owned by Cambridge. Once the options are taken, Psynova has a period of 18 months to exercise the option to exclusively license the intellectual property. As of February 5, 2010, Psynova has acquired from Cambridge 15 separate exclusive licenses from exercising such options. Each of the exclusive licenses between Psynova and Cambridge terminates upon the expiration of the last of the patents exclusively licensed therein.

 

The framework agreement between Psynova and Cambridge expires in March 2010 unless Psynova and Cambridge agree to extend it. When the framework agreement between Psynova and Cambridge expires, Psynova may be unable to license any future Cambridge rights that are in addition to the already-licensed intellectual property.

 

From Psynova, we sub-license rights to Cambridge intellectual property for purposes of development and commercialization of our VeriPsych test for schizophrenia. Psynova is not our wholly-owned subsidiary and we do not hold a majority position on their board of directors and therefore do not exercise complete control over Psynova. If Psynova fails to renew the framework agreement with Cambridge, its access, and therefore our access, to any future unlicensed intellectual property from Cambridge will be eliminated. We cannot guarantee that Psynova will be vigilant in exercising its rights to obtain an option and exercise any option to license future intellectual property from Cambridge. If Psynova fails to timely exercise its rights to take or exercise an option in the future, we could lose the ability to use future intellectual property developed by Cambridge.

 

The framework agreement between Psynova and Cambridge also permits Cambridge to continue using any intellectual property licensed to Psynova for its own academic purposes and to publish information about the licensed intellectual property for academic purposes. We cannot guarantee that, in the course of any such use or publication, sensitive information about the intellectual property underlying our VeriPsych test and our other psychiatric products will not be made public. Any public disclosure of sensitive information could impair our ability to prevent competitors from developing similar or superior products. Psynova is required to notify Cambridge of certain matters relating to the commercialization of the intellectual property underlying our VeriPsych test and any failure to so notify could allow Cambridge to claim that Psynova breached its due diligence obligations under the framework agreement and to seek to terminate the agreement.

 

We sub-license the intellectual property related to our VeriPsych test from Psynova and any disruption in our rights to such intellectual property could materially adversely affect our ability to commercialize, market and sell our VeriPsych test for schizophrenia and to develop and validate our VeriPsych test for additional indications.

 

We and Psynova are parties to a co-development and commercialization agreement, under which we have exclusively licensed from Psynova certain intellectual property related to our VeriPsych test with the right to commercialize such intellectual property with respect to schizophrenia. If this co-development and commercialization agreement is terminated due to our breach, all of our rights to the licensed intellectual property would also terminate and this would have a material adverse effect on our ability to commercialize, market and sell our VeriPsych test for schizophrenia and develop and validate our VeriPsych test for additional indications. We also have a right of first refusal and last right of negotiation to commercialize any future psychiatric products developed by Psynova. However, we have not entered into any definitive commercialization agreement with respect to these products, and such an agreement may not be available on commercially reasonable terms, if at all. If we do not enter into a commercialization agreement with Psynova, a third party may be granted rights to future intellectual property, which could be used to preclude us commercializing current or future products.

 

Our ability to continue to develop molecular diagnostic testing products and services is dependent on access to patient samples provided by third parties. Our failure to continue to have access to sufficient numbers of samples may impact our ability to develop molecular diagnostic testing products and services in the future.

 

Our future growth in the development of new molecular diagnostic testing products and services, including additional indications for our VeriPsych test, will depend, in part, on our ability to have access to patient samples for specific indications. Historically, these patient samples have been acquired from third parties or have been provided by our pharmaceutical services customers and our molecular diagnostic collaborators. We may lose access to patient samples provided to us by our customers, or have that access limited, because customers decrease the number of, or contractually limit our use of, patient samples they provide, or due to changes in privacy laws governing the use and disclosure of medical information. In addition, we may be forced to actively pursue patient samples from sources other than our existing customers and collaborators for diagnostic testing indications we pursue, which could be expensive and time consuming. If we fail to secure and maintain a supply of patient samples for any of the above reasons, our development of molecular diagnostic testing products or services may be slowed or halted, which could have a material adverse effect on our business, financial condition and results of operations.

 

We are highly dependent on Luminex for our multiplexed testing services platform, and the loss of access to such technology could materially adversely affect our revenues and results of operations.

 

We rely on the Luminex xMAP technology platform in our pharmaceutical services and molecular diagnostics business. Any loss of access to the Luminex technology platform or problems with our relationship with Luminex, or internal interruptions or problems at Luminex, could interfere with our ability to provide services to our customers. These difficulties could reduce sales of our products, decrease our competitive market position, increase our costs or cause production delays, all of which could damage our reputation and negatively impact our ability to generate the cash flows necessary for our survival.

 

We may be required, or may elect in the future, to use a technology platform other than the Luminex platform for our laboratory testing services. Transitioning to a new testing platform would require us to spend considerable time and money to successfully complete the necessary validation studies, and would be distracting to management and key personnel. If we cannot efficiently transition to a new testing platform, we may suffer significant business disruptions, which could result in loss of revenue.

 

If we fail to develop additional indications for our VeriPsych test or new molecular diagnostic testing products and services, discover novel biomarker patterns, or develop new immunoassays, our future growth may be materially adversely affected.

 

We have begun clinical trials for additional psychiatric indications for our VeriPsych test. These trials may demonstrate that our VeriPsych test is not clinically useful with respect to these additional indications and we may

not be able to commercialize this product for any additional indications. We intend to invest substantially in the continued development, marketing and selling of our VeriPsych test. We cannot assure you that these investments will be successful. Any failure in the continued development, marketing and selling of our VeriPsych test could have a material adverse effect on our growth, business, financial condition, results of operations and cash flows.

 

In addition, we intend to continue to develop new molecular diagnostic testing products and services, identify novel biomarker patterns, and develop new immunoassays. We cannot assure you that we will be able to develop any additional molecular diagnostic products or services, identify any novel biomarker patterns, or develop new immunoassays in a timely manner or at all. This could have a material adverse effect on our future growth, financial condition and results of operations.

 

Our pharmaceutical services customers may reduce the amount of testing they conduct through us.

 

Currently, approximately 80% of our revenue is derived from our laboratory testing services. If global economic conditions decline, there is a change in the regulatory environment or intellectual property law, or our pharmaceutical customers consolidate, our customers may divert resources from testing, resulting in a reduced demand for our laboratory testing services. Alternatively, customers may decide to perform their own laboratory testing services in-house. The Luminex xMAP technology platform that we use as well as other single and multiplex bioassay technology platforms may be purchased for in-house use by any of our customers. A reduction in the amount of this testing that our pharmaceutical services customers conduct through us could have a material adverse effect on our business, financial condition and results of operations.

 

We operate in a highly competitive business environment.

 

The molecular diagnostics industry and testing services industry are each highly competitive. These industries continue to expand, and an increasing number of competitors and potential competitors are entering our markets. Many of these competitors and potential competitors have substantially greater financial, technological, managerial, and research and development resources than we do. In addition, we expect that our molecular diagnostic testing products and services under development, when commercialized, will compete with product offerings from competitors, potentially including large and well-established companies that have greater marketing and sales experience and capabilities than we do.

 

Technological developments by our competitors in both the molecular diagnostics and pharmaceutical services industries could reduce demand for our products and services or render our products and services obsolete. The pharmaceutical services industry is characterized by advancing technology that may enable clinical laboratories, hospitals, physicians, or other medical providers to perform laboratory testing services similar to or better than ours in a more efficient or cost-effective manner than is currently possible. The molecular diagnostics industry is similarly characterized by advancing technology that may enable potential competitors to develop and commercialize diagnostic testing products and services similar to or better than ours in a more efficient or cost-effective manner than is currently possible. If these or other advances in technology result in decreased demand for or render obsolete our laboratory testing services or molecular diagnostic products and services, or we are unable to compete successfully, our financial condition and results of operations would be materially adversely affected.

 

We may no longer be able to depend on third parties to fund research and development costs related to assay development in our pharmaceutical services business.

 

Historically, we have relied substantially on third-party sources to fund our assay-development research and development costs. Our customers and third-party collaborators have paid us to develop new biomarker immunoassays which may then be offered to our other customers or become part of our biomarker assay panels. Customers and collaborators may decide in the future not to fund these research and development costs. Further, we may elect to pursue initiatives that are not funded by customers and collaborators, which would require us to fund our research and development costs internally. This could result in a substantial increase in our research and development expense, which would have a material adverse effect on our business, financial condition and results of operations.

We currently rely on third parties to manufacture and supply certain materials for our business.

 

We rely on third parties to manufacture all of our laboratory instruments and equipment, including the Luminex technology platform, and to manufacture and to supply all of our materials, including certain reagents that we need to conduct our laboratory testing. For example, we rely on a single third-party supplier to provide a significant amount of the reagents we need to perform our laboratory testing services. In addition, we rely on a variety of suppliers for certain laboratory materials and some of the laboratory equipment with which we perform our diagnostic services.

 

If any of our third-party suppliers were to become unwilling or unable to provide these materials in required quantities or on our required timelines, we would need to identify acceptable replacement sources. We may not be able to identify and contract with acceptable replacement sources on a timely basis or on acceptable terms or at all. Further, we may become involved in disputes with our third-party manufacturers or suppliers or we may become party to disputes between these manufacturers or suppliers and other parties, which could be expensive and time consuming. Delays or difficulties experienced with any of our third-party manufacturers or suppliers would have a material adverse effect on our business, financial condition and results of operations.

 

We rely on third-party service providers for various aspects of our pharmaceutical services business, and we intend to rely on third-party service providers to deliver patient samples for our molecular diagnostics business.

 

We rely on a third party to distribute our Multiplexed Immunoassay Kits, which we sell as part of our pharmaceutical services business. We also intend to rely on third-party service providers to deliver patient samples for our VeriPsych test as well as other future diagnostic testing products and services, for our laboratory testing and for distribution of our other products.

 

If any of our third-party service providers fail to comply with applicable laws and regulations, fail to meet expected deadlines, or otherwise do not carry out their contractual duties to us, or encounter business disruptions at their facilities, we would need to identify alternative providers and our ability to provide molecular diagnostic tests and laboratory testing services to our customers in a timely and efficient manner would be significantly impaired. We may not be able to identify and contract with acceptable replacement service providers on a timely basis or on acceptable terms or at all. Further, we may become involved in disputes involving our third-party service providers, which could be expensive and time consuming. Delays or difficulties experienced with any of our third-party service providers would have a material adverse effect on our business, financial condition, and results of operations.

 

Substantially all of our pharmaceutical services are performed, and all of our molecular diagnostic tests will be performed, at a single laboratory and, if our facility is affected by man-made or natural disasters, our business could be materially adversely affected.

 

We currently perform all of our pharmaceutical services, and we intend to conduct our VeriPsych test test as well as any future diagnostic tests, in the laboratory located in our principal offices in Austin, Texas. Despite precautions taken by us, any future natural or man-made disaster at this laboratory, such as a fire, earthquake or terrorist activity, could cause substantial delays in our operations, damage or destroy our equipment, biological samples, reagents and other inventory or cause us to incur additional expenses. In the event of an extended shutdown of this laboratory, or a serious malfunction of the automated testing processes we have in place at this laboratory, we may be unable to perform our testing services in a timely manner or at all and therefore would be unable to operate our business in a commercially competitive manner. There is no assurance that we could recover quickly from a serious natural or man-made disaster or that we would not permanently lose customers as a result of any such business interruption. In the event that a man-made or natural disaster results in the total shut down of our laboratory, we would have to establish a new facility to conduct our laboratory testing services. In order to establish such a laboratory facility, we would have to spend considerable time and money securing adequate space, constructing the facility and establishing the infrastructure necessary to support the facility. Additionally, any new laboratory opened by us in a different location would have to obtain a new certification under the CLIA and licensure by various states, which would take a significant amount of time and would result in delays in our ability to begin operations. This could have a material adverse effect on our business, financial condition, and results of

operations. Even though we carry business interruption insurance, this insurance may not compensate us fully from any loss we may incur relating to these interruptions.

 

Failure in our information systems, telephone or other systems could disrupt our operations and have a material adverse effect on our business.

 

Information systems and telephone systems are used extensively in virtually all aspects of our business, including laboratory testing, sales, billing, customer service, logistics and management of biomarker data. Our management relies on our information systems because:

 

 

Our success depends, in part, on the continued and uninterrupted performance of our information systems, telephone and other systems, including our software and operating systems, which are vulnerable to damage from a variety of sources, including telecommunications or network failures, computer viruses, natural disasters and physical or electronic break-ins. With the expected commercialization of our VeriPsych test, we are vulnerable to theft of patient information, which could result in violations of federal and state privacy laws. Sustained or repeated system failures that interrupt our ability to process test orders, deliver test results or perform tests in a timely manner or that cause us to lose patient information could have a material adverse effect on our business, financial condition, and results of operations.

 

We may not be able to maintain our current insurance policies covering our business, assets, directors and officers, product liability and professional liability claims, and we may not be able to obtain new policies in the future.

 

We currently maintain property, product liability, professional liability, business interruption, directors’ and officers’, and general liability insurance. Unanticipated additional insurance costs could have a material adverse effect on our results of operations and cash flows. We expect that our insurance costs will increase due to changes that often occur in the insurance markets from time to time. There can be no assurance that we will be able to maintain our existing insurance policies or obtain new policies in meaningful amounts or at a reasonable cost. Any failure to obtain or maintain any necessary insurance coverage could have a material adverse effect on our business, financial condition, results of operations, and cash flows.

 

Misdiagnosis of mental illness can result in harm to a mentally ill patient or in the mentally ill patient causing harm to others. If any such misdiagnosis can be linked to a failure of our VeriPsych test, we could be exposed to significant liability.

 

Inappropriate medication administered to a patient with schizophrenia, bipolar disorder or major depressive disorder may lead to severe adverse reactions and may be ineffective at limiting psychotic episodes. If a misdiagnosis of such a mentally ill patient can be linked to the failure of our VeriPsych test test, or if a psychiatrist incorrectly uses or interprets the results from our VeriPsych test test, we could potentially be held liable for the results of any severe adverse reactions that may occur. While we maintain $3.0 million of insurance per incident against such potential liability, we cannot assure you that this insurance will cover our exposure. A judgment against us in a sum significantly above the level of our insurance coverage could have a material adverse effect on our business, financial condition and results of operations. In addition, negative publicity surrounding such a trial and judgment would have a material adverse effect on our reputation and ability to continue to market and sell our VeriPsych test as well as future molecular diagnostic products.

 

If we are unable to attract and retain key personnel, our business could be materially adversely affected.

 

Our success depends on our continued ability to attract, retain and motivate highly-qualified management, business development, sales and marketing, and laboratory personnel. We may not be able to recruit and retain

qualified personnel in the future, and the failure to do so could have a significant negative impact on our future revenues and results of operations.

 

Our operations in the United Kingdom and Germany expose us to the risks of conducting business internationally.

 

Our international operations could be affected by changes in laws, trade regulations, labor and employment regulations, and procedures and actions affecting approval, production, pricing, reimbursement and marketing of products, as well as by inter-governmental disputes. Any of these changes could adversely affect our business.

 

Risks Related to Regulatory Matters

 

The loss or suspension of a license, especially our CLIA license, or the imposition of a fine or penalties under, or future changes in, federal or state laws and regulations could have a material adverse effect on our diagnostics business.

 

The clinical laboratory testing industry is subject to extensive regulation. CLIA, which is implemented and enforced by CMS extends federal oversight to virtually all clinical laboratories by requiring that they be certified by the federal government or by a federally-approved accreditation agency. Our laboratory is currently CLIA-certified. If we fail to comply with CLIA requirements, our license could be suspended or revoked, or our licensed operations could be limited. We could also become subject to significant fines and/or criminal penalties

 

Our operations are also regulated under state law. We cannot assure you that we will obtain or maintain any required state licenses. Before we can accept specimens for our molecular diagnostic testing services from New York, we will need to obtain a license. Failure to obtain required licenses could jeopardize our ability to launch and commercialize molecular diagnostic tests in New York. In some cases, compliance with such federal or state standards is verified by periodic inspections and may require participation in proficiency testing programs. We cannot assure you that our facility will pass all future inspections conducted to ensure compliance with federal or any other applicable licensing or certification laws. We may need to incur substantial expenditures on an ongoing basis to ensure that we comply with existing regulations and to bring us into compliance with newly-instituted regulations.

 

We cannot assure you that applicable statutes and regulations will not be interpreted or applied by a prosecutorial, regulatory or judicial authority in a manner that would adversely affect our business. Potential sanctions for violation of these statutes and regulations include significant fines and the suspension or loss of various licenses, certificates and authorizations, which could have a material adverse effect on our business. In addition, compliance with future legislation or regulations could impose additional requirements on us which may be costly and difficult to implement.

 

Finalization of the FDA draft guidance concerning IVDMIAs or the determination that our VeriPsych test is not a laboratory-developed test could lead to increased costs and delays in introducing our molecular diagnostic tests.

 

The FDA regulates instruments, test kits, reagents and other devices used to perform diagnostic testing by clinical laboratories. Currently, the FDA does not exercise regulatory authority over laboratory-developed tests such as our VeriPsych test. However, since 2006, the FDA has been considering extending its regulatory authority to cover one category of such tests as in vitro diagnostic test systems (i.e., as medical devices). The FDA calls this category of laboratory-developed tests “In Vitro Diagnostic Multivariate Index Assays,” or IVDMIAs. In 2006, the FDA issued a draft guidance document on how it would define and regulate IVDMIAs. The FDA has proposed that IVDMIA’s be regulated as medical devices. Our VeriPsych test fell under the proposed definition of an IVDMIA. The FDA received numerous comments in response to the original IVDMIA proposal. In 2007, the FDA issued a revised IVDMIA draft guidance. Our VeriPsych test would be regulated as a device under the 2007 version of the guidance document. The FDA received a number of comments to this version of the guidance document requesting further modification. It is not known what changes, if any, the FDA has made to the guidance document or whether the guidance document will be issued in final. The 2007 version of the draft guidance included a “grandfather clause” that would permit laboratories that had already introduced an IVDMIA to

continue to offer that IVDMIA, for a specified period, while preparing a marketing application and having it reviewed by the FDA. If a final IVDMIA guidance is released, it may not have a grandfather clause, we may not meet the terms of the grandfather clause, or we may not be able to obtain clearance or approval before the grandfather clause expires. For more information on other possible regulatory oversight of laboratory-developed tests, please see “Business—Regulatory Compliance—Food and Drug Administration.”

 

We collaborated with Psynova to develop our VeriPsych test. While the FDA’s current position is that it will exercise enforcement discretion and not regulate laboratory-developed tests, the FDA has questioned whether some tests offered by laboratories were tests developed by that laboratory. If the FDA concludes that a test is not a laboratory-developed test, the FDA may regulate that test as a device and require clearance or approval. The FDA has not issued any criteria indicating how the FDA will evaluate whether a test is a laboratory-developed test or what role, if any, collaborative developmental work might play in that evaluation. If the FDA were to conclude that our VeriPsych test is not a laboratory-developed test, we could be subject to the regulatory requirements applicable to medical device manufacturers.

 

The FDA requires the clearance or approval of new medical devices. These requirements include registering the manufacturer with the FDA, listing the device, complying with the Quality System Regulation, or QSR, establishing procedures for the submission of medical device reports upon learning of certain types of malfunctions or adverse events, and submitting these reports to the FDA as required, reporting corrections and removals to the FDA, adherence to the FDA’s labeling requirements, and other provisions. The QSR comprehensively regulates the manufacture of medical devices, including training, record-keeping, documentation, complaint handling, and management review. These requirements would be in addition to and, in some instances, different from, the requirements applicable to a laboratory under CLIA. To determine compliance with applicable law, the FDA has a program for inspecting device manufacturers. The FDA also receives information regarding compliance issues from other sources, such as competitors, physicians, and consumers.

 

Another requirement applicable to medical devices is that they be cleared or approved before being offered for sale in the U.S. The FDA may require a company to discontinue offering a medical device that is being sold if the FDA believes the offering of that device is unlawful. Obtaining the requisite clearance or approval requires the submission to the FDA of a marketing application containing a substantial amount of data. FDA regulation of laboratory-developed tests or increased regulation of the various medical devices used in laboratory-developed testing would lead to an increased regulatory burden and additional costs and delays in introducing new tests. If we cannot obtain such FDA clearance or approval in a timely manner or at all, we may have to stop marketing and selling diagnostic tests that we have already commercialized and we may not be able to commercialize tests that are under development, which would materially adversely affect our business, financial condition and results of operations.

 

The FDA regulates promotional activities. Medical devices must be promoted and advertised in accordance with the labeling cleared or approved by the FDA. The promotion of a device for uses outside the labeling is considered “off-label” promotion. The FDA reviews promotional materials distributed by device companies for compliance with applicable laws.

 

The FDA can take enforcement action against a device company that has promoted its device for violation of the FDA’s requirements, including the requirement to obtain approval or clearance or marketing the device for off-label uses. The FDA can also take enforcement action for violations of other regulatory provisions. These enforcement actions can include a warning letter, civil penalties, seizure of the product, detention, an injunction, or criminal prosecution. If the FDA determines that we are a medical device manufacturer and that we have not complied with the regulatory requirements we may be subject to significant liability, including civil and administrative remedies as well as criminal sanctions. In addition, management’s attention could be diverted and our reputation could be damaged.

 

Compliance with the HIPAA security regulations and privacy regulations may increase our costs.

 

We are subject to regulation under the federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, and rules promulgated by the U.S. Department of Health and Human Services thereunder. The HIPAA privacy and security regulations establish comprehensive federal standards with respect to the uses and disclosures

of protected health information by health plans, healthcare providers and healthcare clearinghouses, in addition to setting standards to protect the confidentiality, integrity and availability of protected health information. The privacy and security regulations provide for significant fines and other penalties for wrongful use or disclosure of protected health information, including potential civil and criminal fines and penalties. Although the HIPAA statute and regulations do not expressly provide for a private right of damages, we could incur damages under state laws to private parties for the wrongful use or disclosure of confidential health information or other private personal information. Our failure to maintain compliance or changes in state or federal laws regarding privacy could result in civil or criminal penalties and could have a material adverse effect on our business.

 

The HIPAA transaction standards are complex and subject to differences in interpretation by payors. For instance, some payors may interpret the standards to require us to provide certain types of information, including demographic information not usually provided to us by physicians. As a result of inconsistent application of HIPAA transaction standards by payors or our inability to obtain certain billing information that may not be provided to us by physicians, we could face increased costs and complexity, a temporary delay in collecting our accounts receivable and ongoing reductions in reimbursements and net revenues. In addition, requirements for additional standard transactions, such as claims attachments or use of a national provider identifier, could prove technically difficult, time-consuming or expensive to implement, all of which could have a material adverse effect on our business, financial condition and results of operations. For more information about HIPAA, please see “Business—Regulatory Compliance—Health Insurance Portability and Accountability Act.”

 

If we fail to comply with the Anti-Kickback Statute, the Stark Law, the False Claims Act, and other similar federal and state laws governing healthcare fraud and abuse under government payment programs, we could face substantial penalties and possible exclusion from governmental payors which may result in a material adverse effect on our business.

 

The federal healthcare program Anti-Kickback Statute prohibits, among other things, knowingly and willfully offering, paying, soliciting or receiving remuneration to induce or in return for purchasing, leasing, ordering or arranging for the purchase, lease or order of any healthcare item or service reimbursable under Medicare, Medicaid or other federally financed healthcare programs. Federal false claims laws prohibit any person from knowingly presenting or causing to be presented a false claim for payment to the federal government, or knowingly making or causing to be made a false statement to get a false claim paid. Under another federal statute, known as the Stark Law or “self-referral” prohibition, physicians who have an investment or compensation relationship with an entity may not refer Medicare patients for designated health services, which include clinical laboratory services, regardless of the intent of the parties, unless an exception applies. There also are numerous other federal healthcare laws that may be applicable to federally financed healthcare programs, and private payors as well, and laws enacted at the state level that affect the provision of healthcare services, such as laboratory services.

 

The federal government has made a policy decision to significantly increase the financial resources allocated to enforcing the general fraud and abuse laws including, but not limited to, the federal Anti-Kickback Statute, the Stark Law and the federal False Claims Act. In addition, private insurers and various state enforcement agencies have increased their level of scrutiny of healthcare claims in an effort to identify and prosecute fraudulent and abusive practices in the healthcare area. We are subject to these increased enforcement activities and may be subject to specific subpoenas and requests for information.

 

Because of the breadth of these laws, the narrowness of applicable safe harbors and exceptions, and the recent increase in enforcement resources and increased scrutiny, it is possible that some of our business activities could be subject to challenge under one or more of such laws. Such a challenge, regardless of the outcome, could have a material adverse effect on our business, business relationships, reputation, financial condition and results of operations. If our operations are found to be in violation of any of the laws described above or any of the many other federal and state laws that apply to us, we may be subject to penalties, including civil and criminal penalties, damages, fines, the curtailment or restructuring of our operations, exclusion from participation in federal healthcare programs such as Medicare and Medicaid, or loss of CLIA licensure. Any penalties, damages, fines, curtailment or restructuring of our operations or exclusion from participation in federal healthcare programs or loss of licensure could harm our ability to operate our business and our financial results. Any action against us for

violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business.

 

Our business involves biomedical waste and we and our third-party manufacturers must comply with environmental laws and regulations, which can be expensive and restrict how we do business.

 

We and our manufacturers are subject to federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of biomedical waste. We cannot eliminate the risk of accidental contamination or injury from these materials. In the event of an accident, state or federal authorities may curtail our use of these materials and/or interrupt our business operations. We also cannot assure you that our existing insurance policy would be sufficient to cover any claims. Any substantial unexpected costs we may incur could have a material adverse effect on our business, financial condition and results of operations.

 

Failure to comply with environmental, health and safety laws and regulations, including the federal Occupational Safety and Health Administration Act and the Needlestick Safety and Prevention Act, may result in fines and penalties and loss of licensure, which could have a material adverse effect on our business.

 

Our laboratory is subject to applicable federal and state laws and regulations relating to biohazard disposal of all laboratory specimens, and we utilize outside vendors for disposal of such specimens. In addition, the federal Occupational Safety and Health Administration has established extensive requirements relating to workplace safety for healthcare employers, including clinical laboratories, whose workers may be exposed to blood-borne pathogens such as HIV and the hepatitis B virus. In addition, the Needlestick Safety and Prevention Act requires, among other things, that we include in our safety programs the evaluation and use of engineering controls such as safety needles if found to be effective at reducing the risk of needlestick injuries in the workplace. Failure to comply with federal, state and local laws and regulations could subject us to denial of the right to conduct business, fines, criminal penalties and/or other enforcement actions which would have a material adverse effect on our business. In addition, compliance with future legislation could impose additional requirements on us, which may be costly.

 

Risks Related to Intellectual Property

 

Our VeriPsych test is not protected by any issued patents.

 

You should not rely on our patent rights to provide any competitive advantage for us. Our VeriPsych test and other molecular diagnostic tests under development are not currently protected by issued patents. We have filed patent applications relating to aspects of our technology but these applications provide us with no protection currently and may not be sufficient to preclude competitors from entering the market with identical technology even if our patent applications result in issued patents. We cannot guarantee that our patent applications will ever result in issued patents. If patents do not issue, we will not be able to preclude direct competitors from the market. We cannot assure you that our intellectual property rights are sufficient to prevent competitors from developing, commercializing and marketing molecular diagnostic testing services similar to our VeriPsych test and our other molecular diagnostic testing products currently under development, which could have a material adverse effect on our ability to compete in the molecular diagnostic testing market.

 

We rely on third-party license agreements for patents or applications and additional technology related to our products, and the termination of these agreements could delay or prevent us from being able to commercialize our products.

 

We depend on a number of licenses related to our products and services. We have a license with Psynova, which is important to the development of our VeriPsych test. The license from Psynova includes the sublicensing of intellectual property rights from Cambridge University. Psynova licenses these rights from Cambridge pursuant to a framework agreement and follow-on exclusive license agreements. Under the framework agreement, Cambridge must notify Psynova of intellectual property developed in the research group of Dr. Sabine Bahn, or the Bahn Laboratory, and Psynova has the right to take an option to license such intellectual property. If Psynova elects to exercise such right and exercises an option to license the intellectual property, Cambridge and Psynova will enter into negotiations for the license to such intellectual property.

 

As of February 5, 2010, Psynova has taken 28 options to exclusively license intellectual property from 12 patent families. Once the options are taken, Psynova has a period of 18 months to exercise the option to exclusively license the intellectual property. As of February 5, 2010, Psynova has acquired from Cambridge 15 separate exclusive licenses from exercising such options. Each of the exclusive licenses between Psynova and Cambridge terminates upon the expiration of the last of the patents exclusively licensed therein.

 

The framework agreement between Psynova and Cambridge expires in March 2010 unless Psynova and Cambridge agree to extend it. When the framework agreement between Psynova and Cambridge expires, Psynova may be unable to license any future Cambridge rights that are in addition to the already-licensed intellectual property.

 

We depend on a license from Luminex with respect to commercializing our diagnostic products and services. Although this license is irrevocable, we could potentially lose access to the licensed intellectual property if we fail to meet our material obligations. Our business might also suffer if Luminex fails to abide by the terms of the license, fails to prevent infringement by third parties or if the licensed patents or other rights are found to be invalid or to infringe the rights of third parties.

 

We may also need to license other technology or patents to commercialize future products, but such licenses may not be available to us on commercially reasonable terms, or at all.

 

If we are unable to obtain, maintain and enforce intellectual property protection covering our products, others may be able to make, use, or sell our products, which could have a material adverse effect on our business.

 

Our success is dependent in part on obtaining, maintaining and enforcing intellectual property rights, including patents. If we are unable to obtain, maintain and enforce intellectual property legal protection covering our products, others may be able to make, use or sell products that are substantially identical to ours, which would adversely affect our ability to compete in the market.

 

We seek to obtain patents and other intellectual property rights to restrict the ability of others to market products and services that compete with us. We have pending patent applications related to the use of biomarkers in molecular diagnostic testing for certain mental illnesses. These are patent applications either filed by RBM or licensed to RBM. Currently, our patent portfolio is comprised, on a worldwide basis, of 42 pending patent applications which we own directly or for which we are the licensee. There are no issued patents that cover our VeriPsych test, nor any that preclude a third party from making an identical test, or practicing an identical method.

 

Patents may not issue from any pending or future patent applications owned by or licensed to us, and moreover, issued patents owned or licensed to us now or in the future may be found by a court to be invalid or otherwise unenforceable. Patent applications may not issue or future issued patents may be found invalid because of changes in the law. The Bilski case pending before the U.S. Supreme Court may cause the RBM patents to be invalid or applications to not issue. Also, even if any patents that are ultimately issued to us or to our licensors are determined by a court to be valid and enforceable, they may not be sufficiently broad to prevent others from marketing products similar to ours or designing around these patents, despite our patent rights and those of our licensors. Additionally, we may not be able to file patent applications related to some of our diagnostic products and services because such inventions are not sufficiently patentable.

 

Furthermore, we cannot be certain that we were the first to make the invention claimed in our U.S. issued patent or pending patent applications, or that we were the first to file for protection of the inventions claimed in our foreign pending patent applications. We may become subject to interference proceedings conducted in the patent and trademark offices of various countries to determine our entitlement to our patent and patent application, and these proceedings may conclude that other patents or patent applications have priority over our patents or patent applications. It is also possible that a competitor may successfully challenge our patent or patent applications through various proceedings and those challenges may result in the elimination or narrowing of our patent or patent applications, and therefore reduce our patent protection. Accordingly, rights under our issued patent, patent applications or patents we may seek in the future may not provide us with commercially meaningful protection for our products or afford us a commercial advantage against our competitors or their competitive products or processes.

We have a number of foreign pending patent applications; however, even if we are issued patents in these foreign jurisdictions, the laws of some foreign jurisdictions do not protect intellectual property rights to the same extent as laws in the United States, and many companies have encountered significant difficulties in protecting and defending such rights in foreign jurisdictions. If we encounter such difficulties or we are otherwise precluded from effectively protecting our intellectual property rights in foreign jurisdictions, our business prospects could be substantially materially adversely affected.

 

We may initiate litigation to enforce our patent rights, which may prompt our adversaries in such litigation to challenge the validity, scope or enforceability of our patent. Patent litigation is complex and often difficult and expensive, and would consume the time of our management and other significant resources. In addition, the outcome of patent litigation is uncertain. If a court decides that our patent or patents that may be issued to us in the future are not valid, not enforceable or of a limited scope, we may not have the right to stop others from using the subject matter covered by those patents.

 

If we cannot patent the intellectual property necessary for our VeriPsych test or if the intellectual property rights to our other diagnostic testing product candidates is owned by a third party, we may be forced to license a right to use such intellectual property from this third party. We cannot assure you that we will ever be able to reach agreement on such an in-license or that any agreement we reach will be on commercially acceptable terms. If we cannot license the right to use important third-party intellectual property, we may not be able to continue marketing our VeriPsych test or to continue developing our other diagnostic testing product candidates or continue conducting our lab testing services. Any disruption in our ability to continue these activities would have a material adverse effect on our business, financial condition and results of operations.

 

If we are unable to protect the confidentiality of our proprietary information and know-how, our competitors may use our technology to develop competing products.

 

We also rely on trade secrets to protect our products, technology and services, particularly where we do not believe patent protection is appropriate or obtainable. However, trade secrets can be difficult to protect. While we use commercially reasonable efforts to protect our trade secrets, our licensors, employees, consultants, contractors, outside scientific collaborators and other advisors may unintentionally or willfully disclose such trade secret information to third-parties and competitors. We attempt to protect our proprietary technology in large part by entering into confidentiality and non-disclosure agreements with our employees, consultants and other contractors. We cannot assure you, however, that these agreements will not be breached, that we will have adequate remedies for any breach or that competitors will not know of, or independently discover our trade secrets. We cannot assure you that others will not independently develop substantially equivalent proprietary information or be issued patents that may prevent the sale of our products, technologies, services or know-how or require licensing and the payment of significant fees or royalties by us in order to produce our products, technologies or services. Moreover, we cannot assure you that our technology does not infringe upon any valid claims of patents that other parties own. Enforcing a claim that a third-party illegally obtained and is using our trade secrets is expensive and time consuming, and the outcome is unpredictable. In addition, courts outside the United States are sometimes less willing to protect trade secrets.

 

Our products could infringe patent rights of others, which may require costly litigation and, if we are not successful, could cause us to pay substantial damages or limit our ability to commercialize our products.

 

Our commercial success depends on our ability to operate without infringing the patents and other proprietary rights of third parties. There may be other patents or applications that relate to our products and technology of which we are not aware. We may unintentionally infringe upon valid patent rights of third parties. For instance, one of the biomarkers used in a MAP might be found to infringe upon the patents or proprietary rights of a third party. Although we are currently not involved in any litigation involving patents, a third-party patent holder could assert a claim of patent infringement against us in the future. Alternatively, we may initiate litigation against the third-party patent holder to request that a court declare that we are not infringing the third party’s patent and/or that the third party’s patent is invalid or unenforceable. If a claim of infringement is asserted against us and is successful, and therefore we are found to infringe, we could be required to pay damages for infringement, including treble damages if it is determined that we knew or became aware of such a patent and we failed to exercise due care in determining whether or not we infringed the patent. If, in the future, we supply infringing

products to third-parties or license third parties to manufacture, use or market infringing products, we may be obligated to indemnify these third parties for damages they may be required to pay to the patent holder and for any losses they may sustain. We can also be prevented from selling or commercializing any of our products that use the infringing technology in the future, unless we obtain a license from such third-party. A license may not be available from such third-party on commercially reasonable terms, or at all. Any modification to include a non-infringing technology may not be possible or, if possible, may be difficult or time-consuming to develop, and require revalidation, which could delay our ability to commercialize our products.

 

Any infringement action asserted against us, even if we are ultimately successful in defending against such action, would likely harm our competitive position, be expensive and require the time and attention of our key management and technical personnel.

 

We may be subject to damages resulting from claims that we, or our employees, have wrongfully used or disclosed alleged trade secrets of their former employers.

 

Many of our employees or consultants were previously employed at universities or other academic institutions, or other diagnostic or biotechnology companies, including our current and potential competitors. Although we are not aware of any claims currently pending against us, we may be subject to claims that we or these employees or consultants have inadvertently or otherwise used or disclosed trade secrets or other proprietary information of their former employers. Litigation may be necessary to defend against these claims. Even if we are successful in defending against these claims, litigation could result in substantial costs and be a distraction to management. If we fail in defending such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel or both.

 

Claims may arise under our various contracts with pharmaceutical companies where we develop and use certain techniques and processes for biomarker detection, challenging our use of the same or similar techniques and processes in other contexts.

 

We perform laboratory services pursuant to various contracts with pharmaceutical companies where we develop and use certain techniques and processes for biomarker detection. Claims against us could arise under these contracts that dispute our use of the same or similar techniques and processes in other contexts. Under such circumstances, we may be forced to defend claims in court and we cannot assure you that we will be successful or that we will not lose the ability to use these techniques or processes. Regardless of the outcome, litigation against us or by us could disrupt or cause delays in our development and commercialization efforts, divert our management’s attention from our business and consume significant financial resources.

 

Risks Related to Our Finances and Capital Requirements

 

As we commercialize, market and sell our VeriPsych test, we expect that we will incur operating losses.

 

We made our VeriPsych test as an aid in the diagnosis of recent-onset schizophrenia available for order in four major psychiatric centers in January 2010 and plan a broader launch in the second half of 2010. We expect the expenses associated with commercially launching our first diagnostic test panel will cause us to incur operating losses for at least the next two years. We cannot assure you that we will return to profitability in the future.

 

Our quarterly operating results may fluctuate significantly.

 

We expect our operating results to be subject to quarterly fluctuations. Our operating results will be affected by numerous factors, including:

 

 

 

 

 

 

If our quarterly operating results fall below the expectations of investors or securities analysts, the price of our common stock could decline substantially. Furthermore, any quarterly fluctuations in our operating results may, in turn, cause the price of our stock to fluctuate substantially. We believe that quarterly comparisons of our financial results are not necessarily meaningful and should not be relied upon as an indication of our future performance.

 

We may require additional funding, and our future access to capital is uncertain. Insufficient funds may limit our ability to develop and commercialize new products, services and technologies.

 

Our business can change unpredictably due to a variety of factors, including competition, regulation, legal proceedings or other events, which could impact our funding needs or our cash flow from operations or increase our required capital expenditures. In addition, our estimates of the funds necessary to develop and commercialize our VeriPsych test or other diagnostic testing products or services may be inaccurate or we may acquire products or other assets in the future, in each case which could require additional funds. Furthermore, we may seek additional capital due to favorable market conditions or strategic considerations even if we believe we have sufficient funds for our current or future operating plans. We may seek the additional capital through public or private equity offerings, debt financings, and collaborative and licensing arrangements. To the extent that we raise additional capital through the sale of equity or convertible debt securities, your ownership interest may be diluted and the terms may include liquidation or other preferences or rights that adversely affect your rights as a stockholder. Debt financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions such as incurring additional debt, making capital expenditures, or declaring dividends. If we raise additional funds through collaboration and licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies or products, or grant licenses on terms that are not favorable to us.

 

Adequate funds, whether through the financial markets or from other sources, may not be available when we need them or on terms acceptable to us. For example, the United States has recently experienced an economic recession, the long-term impact of which cannot be predicted. Furthermore, as a result of the recent volatility in domestic and international capital markets, the cost and availability of credit has been and may continue to be adversely affected as compared to its normal function. Concern about the stability of the markets generally and the strength of counterparties specifically has led many lenders and institutional investors to reduce, and in some cases, cease to provide funding to borrowers. Insufficient funds could cause us to delay, scale back or choose not to develop and commercialize new products and technologies, including diagnostic testing products and services.

Substantially all of our assets have been pledged to secure our revolving line of credit.

 

As of February 5, 2010, there was $3.5 million outstanding under our revolving line of credit. This indebtedness is secured by substantially all of our assets. In the event of a default under our senior indebtedness, the lender could foreclose against the assets securing such obligations. Under the revolving line of credit agreement, we will be deemed in default of the agreement if we default on our subordinated debt agreement or if there is a foreclosure on the pledge of the equity ownership interest of RBM Holdings, LLC and RBM Management Group, LLC. Under our subordinated debt agreement, we may be deemed in default of the agreement if we default on our revolving line of credit agreement. The subordinated lender has agreed not to assert, collect, or enforce all, or any part of, the amounts due from us under the subordinated loan agreement without the prior written consent of the revolving line of credit lender. In the event of a foreclosure on all or substantially all of our assets, we may not be able to continue to operate as a going concern.

 

A substantial portion of our assets are long-lived assets subject to periodic impairment tests and potential write-downs.

 

A substantial portion of our assets are long-lived assets such as intellectual property and goodwill. We are required to periodically assess these assets for impairment by assessing whether current facts or circumstances indicate that their carrying values are recoverable. We assess goodwill for impairment using the two-step process. We estimate the fair value of our intangible assets by determining the undiscounted cash flows from such assets. To the extent the fair value of our intangible assets exceeds their carrying value, we are required to recognize a non-cash impairment charge in our results from operations. If the recent recession returns or the economy deteriorates, we may be required to incur impairments to our intangible assets or goodwill in the future, which could have a material adverse effect on our financial condition and results of operations.

 

We will incur increased costs as a result of operating as a public company, and our management will be required to devote additional time to new compliance standards.

 

We will incur increased costs as a result of operating as a public company, and our management will be required to devote additional time to newly applicable compliance standards. As a public company, we will be subject to a variety of new rules and regulations, including those requiring periodic and current reporting, establishment and maintenance of effective disclosure and financial controls and changes in corporate governance practices. These rules and regulations will increase our legal and financial compliance costs and will render some activities more time-consuming and costly.

 

The securities laws applicable to public companies will require, among other things, that we perform system and process evaluation and testing to allow management and our independent registered public accounting firm to report on the effectiveness of our internal control over financial reporting, beginning with our Annual Report on Form 10-K for the fiscal year ending December 31, 2011. This testing may reveal deficiencies in our internal controls. We recently have been upgrading our finance and accounting systems, procedures and controls and will continue to implement additional finance and accounting systems, procedures and controls as we expand our business and organization and to satisfy new reporting requirements. We expect to incur significant expense and devote substantial management effort towards ramping up our financial reporting and compliance capabilities to ensure compliance with such securities laws. If after this offering we or our independent registered public accounting firm identifies deficiencies in our internal controls over financial reporting, the market price of our stock could decline and we could be subject to sanctions or investigations by Nasdaq, the Securities and Exchange Commission, or SEC, or other regulatory authorities, which would require additional financial and management resources.

 

Risks Relating to Securities Markets and Investment in Our Stock

 

There may not be a viable public market for our common stock.

 

Prior to this offering, there has been no public market for our common stock. There can be no assurance that a regular trading market will develop and continue after this offering or that the market price of our common stock will not decline below the initial public offering price. The initial public offering price will be determined through

negotiations between us and the underwriters and may not be indicative of the market price of our common stock following this offering. Among the factors considered in such negotiations are the history and prospects for the industry in which we compete, market valuations of other companies that we and the representative of the underwriters believe to be comparable to us, prospects for our future earnings, the present state of our development and other factors deemed relevant. See “Underwriting” for additional information.

 

As a new investor, you will experience immediate and substantial dilution in the net tangible book value of your shares.

 

The initial public offering price of our common stock is considerably more than the net tangible book value per share of our outstanding common stock. Investors purchasing shares of common stock in this offering will pay a price that substantially exceeds the value of our tangible assets after subtracting liabilities. As a result, investors will:

 

 

To the extent outstanding stock options or warrants are exercised, there will be further dilution to new investors.

 

We expect that the price of our common stock will fluctuate substantially.

 

The market price of our common stock is likely to be highly volatile and may fluctuate substantially due to many factors, including:

 

 

The realization of these or any of the risks described in these “Risk Factors” could have a dramatic and material adverse impact on the market price of our common stock.

 

We may become involved in securities class action litigation that could divert management’s attention and could have a material adverse effect on our business.

 

The stock markets have from time to time experienced significant price and volume fluctuations that have affected the market prices for the common stock of healthcare companies. These broad market fluctuations may cause the market price of our common stock to decline. In the past, securities class action litigation has often been brought against a company following a decline in the market price of its securities. We may become involved in this type of litigation in the future. Litigation often is expensive and diverts management’s attention and resources, which could have a material adverse impact on our business, financial condition and results of operations.

Our management team may invest or spend the proceeds of this offering in ways with which you may not agree or in ways which may not yield a return.

 

Our management will have considerable discretion in the application of a significant portion of the net proceeds, and you will not have the opportunity, as part of your investment decision, to assess whether such proceeds are being used appropriately. A significant portion of the net proceeds may be used for working capital and other general corporate purposes that do not increase our operating results or market value. Until the net proceeds are used, they may be placed in investments that do not produce significant income or that may lose value.

 

Future sales of our common stock may depress our stock price.

 

Sales of a substantial number of shares of our common stock in the public market could occur at any time. These sales, or the perception in the market that we or the holders of a large number of shares intend to sell shares, could reduce the market price of our common stock. After this offering, we will have           outstanding shares of common stock based on the number of shares outstanding as of December 31, 2009, after giving effect to the conversion of all of the shares of our preferred stock outstanding as of December 31, 2009 into shares of common stock in connection with this offering. Of the remaining shares,          shares are currently restricted as a result of securities laws or lock-up agreements but will be available for resale in the public market. For more information about when these restricted shares will be available for resale in the public market as well as certain registration rights that will exist following this offering, please see “Shares Eligible for Future Sale.”

 

Our executive officers and directors and their affiliates will collectively own     % of our outstanding common stock following this offering and will therefore be able to exercise control over stockholder voting matters in a manner that may not be in the best interests of all of our stockholders.

 

Immediately following this offering, our executive officers and directors and their affiliates will collectively own     % of our outstanding common stock. As a result, our executive officers and directors and their affiliates will be able to exercise control over stockholder voting matters. They may exercise this control in a manner that may not be in the best interests of all of our stockholders. In addition, RBM Holdings, LLC and RBM Management Group, LLC will together control approximately     % of our outstanding common stock. Mark Chandler, the chairman of our board of directors, and Craig Benson, our president and chief executive officer and a member of our board of directors, collectively own 100% of the membership interests of RBM Holdings, LLC. RBM Holdings, LLC owns 100% of the voting interest in RBM Management Group, LLC. Matthew Zell, a member of our board of directors, is a Managing Director of Equity Group Investments, L.L.C., which will own approximately     % of our outstanding common stock following this offering. As a result, Messrs. Chandler and Benson and Mr. Zell will be able to significantly influence all matters requiring approval of our stockholders, including the election of directors and approval of significant corporate transactions. The concentration of ownership may delay, prevent or deter a change in control of our company even when such a change may be in the best interests of some stockholders, could deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of our company or our assets and might affect the prevailing market price of our common stock.

 

Anti-takeover provisions under our charter documents and Delaware law could delay or prevent a change in control which could limit the market price of our common stock and may prevent or frustrate attempts by our stockholders to replace or remove our current management and the current Board.

 

Our amended and restated certificate of incorporation and amended and restated bylaws, which are to become effective at the closing of this offering, contain provisions that could delay or prevent a change in control of our company or changes in our board of directors that our stockholders might consider favorable. For more information about these anti-takeover provisions as well as anti-takeover provisions under the Delaware General Corporation Law, please see “Description of Capital Stock—Anti-Takeover Effects of Provisions of our Amended and Restated Certificate of Incorporation, our Amended and Restated Bylaws and Delaware Law.” These and other provisions in our corporate documents and Delaware law might discourage, delay or prevent a change in control or changes in our board of directors. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors and cause us to take other corporate actions. Furthermore, the

existence of these provisions, together with Delaware law, might hinder or delay an attempted takeover other than through negotiations with our board of directors.

 

In addition, our development and supply agreement with Luminex, as amended, may be terminated by Luminex in the event we are acquired by or merge with Illumina, Inc., Beckman Coulter, Inc., Affymetrix, Inc., Cepheid, Ciphergen Biosystems, Inc., Nanogen, Inc. or Becton, Dickinson and Company. Because our business is substantially dependent upon this agreement with Luminex, this provision may hinder or delay an attempted takeover by these entities or their affiliates.

 

This prospectus contains forward-looking statements. These forward-looking statements are contained in the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business” included elsewhere in this prospectus. These statements relate to future events or our future financial performance and involve known and unknown risks, uncertainties and other factors that could cause our actual results, levels of activity, performance or achievement to differ materially from those expressed or implied by these forward-looking statements. These risks and uncertainties include, among others:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Forward-looking statements include all statements that are not historical facts. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “could,” “would,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “project,” “predict,” “potential,” “target,” “goal,” “intend” or “seek” or the negative of those terms, and similar expressions and comparable terminology intended to identify forward-looking statements. You should read statements that contain these words carefully because they reflect our current views with respect to future events and are based on assumptions and subject to known and unknown risks, uncertainties and other factors. Should one or more of the known risks, uncertainties or other factors described above or elsewhere occur, or should unknown risks, uncertainties or other factors occur, or should underlying assumptions prove incorrect, our actual results and plans could materially differ from those expressed in any forward-looking statements. Given these uncertainties, you should not place undue reliance on these forward-looking statements. We discuss many of these risks in this prospectus in greater detail under the heading entitled “Risk Factors.” These forward-looking statements represent our estimates and assumptions only as of the date of this prospectus and, except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise after the date of this prospectus.

 

You should read this prospectus and the documents that we reference in this prospectus and have filed as exhibits to the registration statement of which this prospectus is a part completely and with the understanding that our actual future results may be materially different from what we expect. All forward-looking statements, expressed or implied, contained in this prospectus are expressly qualified in their entirety by this cautionary statement.

 

We estimate that we will receive net proceeds of approximately $      million from the sale of the shares of common stock offered by us in this offering, or approximately $      million if the underwriters exercise their option to purchase additional shares in full, in each case based on an assumed initial public offering price of $      per share, which is the midpoint of the price range set forth on the cover of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

We currently expect to use our net proceeds from this offering as follows:

 

 

 

 

 

 

On August 10, 2009, we entered into a revolving line of credit with BBVA Compass Bank, or Compass, for up to $9.0 million. The balance drawn under the revolving line of credit was $3.5 million at December 31, 2009. No additional amounts were drawn on the revolving line of credit as of February 5, 2010. The monthly interest is calculated at the lesser of the (i) Compass prime rate plus 0.375%; and (ii) maximum rate which is the greater of the highest rate allowed per law and the highest rate allowed under the Texas Finance Code; except the interest rate can never be less than 4% per annum. The line of credit also bears a 0.25% quarterly fee for any unused portion of the line of credit. Interest is due and payable monthly beginning one month after the loan date. Monthly principal payments are not required; however, any unpaid principal balance is due and payable on the maturity date. The revolving line of credit matures on August 10, 2011.

 

On September 17, 2009, we entered into a Loan and Security Agreement for subordinated debt with Heartland Community Bank for $5.0 million. We used proceeds from this loan to acquire an additional 21,718,276 shares of Preferred A Ordinary Shares in Psynova pursuant to a Share Purchase and Sale Agreement by and among Porton Capital Inc, Porton Capital Technology Funds and us. The subordinated debt bears interest at a fixed rate of 8.00% per annum and matures on September 17, 2011. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Capital Resources” for a more detailed description.

 

On December 31, 2009, we amended our Loan and Security Agreement with Heartland to increase the subordinated debt to $10.0 million to fund the launch of our VeriPsych test and to support general working capital needs. The additional $5.0 million of subordinated debt bears interest at a fixed rate of 8.00% per annum and matures on September 17, 2011. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources – Capital Resources” for a more detailed description.

 

In connection with our prepayment of the subordinated debt with the proceeds from this offering, we will recognize a one-time non-cash expense relating to the write-off of deferred financing costs, which was approximately $1.2 million as of December 31, 2009, in the period in which the debt is repaid.

 

Pending the use of proceeds described above, we plan to invest the net proceeds from this offering in short-term and intermediate-term, interest-bearing obligations, investment-grade instruments, certificates of deposit or direct or guaranteed obligations of the U.S. government.

 

We currently intend to retain all future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future. Any future determination related to dividend policy will be made at the discretion of our board of directors and will depend upon our results of operations, financial condition, capital requirements, contractual restrictions and such other factors as our board of directors deems relevant.

 

The following table sets forth our capitalization as of December 31, 2009:

 

 

 

 

The table above does not include as of December 31, 2009:

 

 

 

 

Prior to the commencement of this offering, we intend to amend our certificate of incorporation to amend the conversion provisions of our Series A-1 preferred stock. The amended conversion provisions will provide that upon the completion of this offering, the number of shares of our common stock issuable upon conversion of each share of our Series A-1 preferred stock varies according to a formula that depends on the initial public offering price. As

a result, the total number of shares of our common stock that will be outstanding following this offering depends on the initial public offering price. The conversion ratio will vary based on a set of five predetermined ranges. The following table shows how the number of shares varies over a range of predetermined initial public offering prices:

 

 

For more information on the conversion provisions of our Series A-1 preferred stock, see “Description of Capital Stock.”

 

If you invest in our common stock in this offering, your interest will be diluted to the extent the initial public offering price per share of our common stock exceeds the historical net tangible book value per share of our common stock. As of December 31, 2009, our historical net tangible book value was $(1.6) million, or $(0.10) per share of common stock, based on 8,446,838 shares of our common stock outstanding and the assumed conversion of all outstanding shares of our preferred stock into 7,485,231 shares of common stock. Our historical net tangible book value represents the amount of our total tangible assets reduced by the amount of our total liabilities and noncontrolling interest.

 

Pro forma net tangible book value per share gives effect to the conversion of all of our preferred stock into      shares of our common stock, which will occur upon completion of this offering.

 

After giving further effect to the sale by us of      shares of common stock in this offering at an assumed initial public offering price of $      per share, after taking into account the automatic conversion of our preferred stock upon completion of this offering, and after deducting underwriting discounts and commissions and estimated offering expenses payable by us, our pro forma as adjusted net tangible book value as of December 31, 2009 would have been approximately $      million, or approximately $      per share. This amount represents an immediate increase in pro forma net tangible book value of $      per share to our existing shareholders and an immediate dilution in pro forma net tangible book value of approximately $      per share to new investors purchasing shares of common stock in this offering. We determine dilution by subtracting the pro forma as adjusted net tangible book value per share after this offering from the amount of cash that a new investor paid for a share of common stock. The following table illustrates this dilution on a per share basis:

 

 

 

 

 

Each $1.00 increase or decrease in the assumed initial public offering price of $           per share, which is the midpoint of the price range set forth on the cover of this prospectus, would increase or decrease our pro forma as adjusted net tangible book value by approximately $      , our pro forma as adjusted net tangible book value per share by approximately $           per share and the dilution to investors in this offering by approximately $           per share, assuming the number of shares offered by us, as set forth on the cover of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

The following table summarizes, as of December 31, 2009, on a pro forma as adjusted basis, the differences between the number of shares of common stock purchased from us, the total effective cash consideration paid to us and the average price per share paid by our existing stockholders and by our new investors purchasing stock in this offering at an assumed initial public offering price of $           per share, which is the midpoint of the price range set forth on the cover of this prospectus, before deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us. The following table is illustrative only and the total

consideration paid and the average price per share are subject to adjustment based on the actual initial public offering price and other terms of this offering determined at pricing.

 

 

Each $1.00 increase or decrease in the assumed initial public offering price of $           per share, which is the midpoint of the price range set forth on the cover of this prospectus, would increase or decrease total gross consideration paid by new investors, total gross consideration paid by all stockholders and the average price per share paid by all stockholders by $      million, $      million and $           per share, respectively, assuming the number of shares offered by us, as set forth on the cover of this prospectus, exclusive of the additional shares subject to the underwriters’ option to purchase, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

The discussions and tables above assume no exercise of the outstanding options or warrants with exercise prices that are below the assumed initial public offering price. To the extent any of these options or warrants are exercised, there will be further dilution to investors in the offering.

 

If the underwriters exercise their option to purchase additional shares in full, the following will occur:

 

 

The following unaudited pro forma consolidated statements of operations give effect to the acquisition of our controlling interest in Psynova as if it had been completed on January 1, 2008. The statement of operations of Psynova for the year ended December 31, 2008 includes its results of operations for the period from January 1, 2008 to December 31, 2008, which were derived from Psynova’s interim financial statements as adjusted to reflect the conversion to accounting principles generally accepted in the United States, or US GAAP, using the spot rate at December 31, 2008. Our consolidated financial statements for the year ended December 31, 2009 includes the results of operations of Psynova from September 18, 2009, the date on which we acquired our controlling interest, to December 31, 2009. The statement of operations of Psynova for the year ended December 31, 2009 includes its results of operations for the period from January 1, 2009 to September 17, 2009, which were derived from Psynova’s interim financial statements as adjusted to reflect the conversion to US GAAP.

 

The unaudited pro forma consolidated financial data has been prepared by our management based upon the financial statements of Psynova included elsewhere within this prospectus and reflect certain estimates and assumptions described in the accompanying notes to the unaudited pro forma consolidated statements of operations. The unaudited pro forma consolidated statements of operations should be read in conjunction with our audited consolidated financial statements and the audited financial statements of Psynova which are included elsewhere in this prospectus.

 

The unaudited pro forma consolidated statements of operations are not necessarily indicative of operating results which would have been achieved had the acquisition of a controlling interest in Psynova actually been completed on January 1, 2008 and should not be construed as representative of future operating results.

Rules-Based Medicine, Inc.

 

Unaudited Pro Forma Consolidated Statements of Operations

for the Year Ended December 31, 2008

 

 

Rules-Based Medicine, Inc.

 

Unaudited Pro Forma Consolidated Statements of Operations

for the Year Ended December 31, 2009

 

Rules-Based Medicine, Inc.

 

Notes to the Unaudited Pro Forma Consolidated Statements of Operations

 

 

 

 

 

 

 

 

The following table provides our selected consolidated historical financial data for the periods indicated. The selected consolidated historical financial data as of and for the year ended December 31, 2005 has been derived from our audited consolidated financial statements for the year ended June 30, 2005 and December 31, 2006 by applying appropriate cutoff procedures. The selected consolidated historical financial data as of and for each of the years ended December 31, 2006, 2007, 2008 and 2009 have been derived from our audited consolidated financial statements, which are included elsewhere in this prospectus. Upon our acquisition of a controlling interest in Psynova on September 18, 2009, we consolidated Psynova’s financial position and results of operations with our own as of and for the periods subsequent to the date of such acquisition. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” You should read this information together with our consolidated financial statements and related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus.

 

 

 

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this prospectus. In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this prospectus, particularly in “Risk Factors.”

 

Overview

 

We are a life sciences company focused on the development and commercialization of molecular diagnostic tests based on novel biomarker patterns, initially for the psychiatric market. We believe these novel biomarker patterns can provide quantitative, objective information to aid in the diagnosis and treatment of diseases or disorders where current objective tests either do not exist or are not sufficiently accurate. We develop molecular diagnostic tests using our proprietary multi-analyte profiling, or MAP, technology. We intend to commercialize our initial molecular diagnostic immunoassays as Laboratory Developed Tests, or LDTs, using our high complexity Clinical Laboratory Improvement Amendments of 1988, or CLIA, certified laboratory. We believe we have assembled the largest collection of validated multiplexed biomarker immunoassays in the life sciences industry, allowing us to cast a wide net in the search for clinically relevant biomarker patterns.

 

We provide testing products and services to the pharmaceutical, biotechnology and medical research industries. We believe our proprietary MAP technology creates efficiencies in the drug discovery and development process by providing researchers with more information on the effect of a particular drug on specific biomarkers. Our testing services are based on our menu of validated biomarker immunoassays, which we developed for our multinational pharmaceutical and biotechnology company customers.

 

Our proprietary MAP technology was initially developed at Luminex Corporation, or Luminex, beginning in 1998 by our founding management team. To facilitate our acquisition of this technology, Rules-Based Medicine, Inc. was incorporated in Delaware on August 1, 2002, and we acquired the MAP technology and associated assets from Luminex in September 2002. In connection with the acquisition, we issued to Luminex 990,000 shares of our Series A preferred stock and 901,000 shares of our common stock. In October 2007, we paid $12.5 million to Luminex to redeem all of its shares of our Series A preferred stock, including accrued dividends, all of its shares of our common stock and to license certain diagnostic fields.

 

In November 2006, we acquired Multiplex Biosciences, Inc., a provider of contract multiplex immunoassay development and manufacturing services to augment our assay development and kit manufacturing capabilities. In October 2007, we acquired the capital stock of Experimentelle und Diagnostische Immunologie GmbH, or EDI, a developer of human organotypic cell culture test systems including our TruCulture product.

 

In May 2008, we entered into an agreement with Psynova to co-develop and commercialize a blood-based test for the diagnosis of recent-onset schizophrenia, which is described in more detail below. Psynova was founded in 2005 as a spin-off from the Cambridge University, or Cambridge, for the commercial development and exploitation of novel biomarkers for psychiatric illnesses. Psynova licenses certain intellectual property from Cambridge. We have sublicensed from Psynova certain intellectual property, including submitted patent applications and know-how, relating to the development and commercialization of the first use of our VeriPsych test to aid in the diagnosis of recent-onset schizophrenia. The Bahn Laboratory at Cambridge has developed additional intellectual property, including submitted patent applications and know-how, that we believe will be important for products such as the differential diagnosis of recent-onset schizophrenia, bipolar disorder, and major depressive disorder. Psynova has the option to take exclusive licenses to all intellectual property developed in the Bahn Laboratory at Cambridge. We have the right of first refusal and right of last negotiation to take licenses from Psynova to commercialize this intellectual property.

 

In connection with our agreement with Psynova, we loaned Psynova $1.4 million in cash on various dates in 2008 and provided a credit towards our MAP testing services of $1.0 million. Psynova used the credit for services in full

during 2008. Interest on the outstanding amount of the loan drawn by Psynova accrued at 8% per year on a monthly basis and was added to principal. We granted Psynova the right to require us to purchase an additional 19,562,716 Preferred A Ordinary Shares if certain performance milestones were reached on or before December 31, 2008. In November 2008, Psynova achieved these milestones with respect to the schizophrenia blood-based test and the amounts under the loan, including all accrued interest, plus the credit for services, converted into 15,558,003 Preferred A Ordinary Shares of Psynova. During this time, Psynova exercised its right to require us to purchase an additional 19,562,716 Preferred A Ordinary Shares for $1.3 million in cash and $1.2 million in credit toward future services, giving us a 47.9% equity interest in Psynova. This investment was accounted for using the equity method for a minority interest. In September 2009, we purchased an additional 21,718,276 Preferred A Ordinary Shares in Psynova pursuant to a Share Purchase and Sale Agreement by and between Porton Capital Inc., Porton Capital Technology Funds, both third-party investors in Psynova, and us for $5.5 million, bringing our total investment in Psynova to $9.8 million, or 77.6%, net of our equity interest in the losses of Psynova. As a result of this further acquisition in September 2009, we have consolidated Psynova’s financial position and results of operations with our own as of and for the year ended December 31, 2009.

 

Factors Affecting Comparability

 

Historically, almost all of our revenue and substantially all of our expenses have resulted from our pharmaceutical services business. Over the last two years, we have committed substantial resources to applying our technology to the development of proprietary diagnostic tests, which represents a new field for us. We launched our first diagnostic product, our VeriPsych test, to help distinguish recent-onset schizophrenia patients from healthy individuals and those with other mental disorders at four major psychiatric centers in January 2010, and we plan a broader launch of the test in the second half of 2010. Based on preliminary clinical data, we believe that our VeriPsych test can also assist psychiatrists in differentiating among patients with schizophrenia, patients with bipolar disorder and patients with major depressive disorder, which we intend to market in 2011.

 

There are inherent risks in entering into a new business. We expect that our expansion into the molecular diagnostic business will have the following impact on our financial results:

 

 

 

 

 

In the years ended December 31, 2007, 2008 and 2009, our revenues were $13.0 million, $21.7 million and $24.6 million, respectively, and our income from operations was $2.4 million, $2.9 million and $1.7 million, respectively. Our net income attributable to our common stockholders during these periods was $1.4 million, $0.4 million and $0.2 million, respectively. We will devote a significant amount of our efforts and cash resources towards our expansion into the molecular diagnostic business including researching and pursuing potential new opportunities. Although we have generated operating income in previous years, we expect to incur operating losses for at least the next two years as we expand into the molecular diagnostic business and make significant expenditures in research and development, sales and marketing and general and administrative activities.

 

Key Components of Our Results of Operations