Form 10-Q for VICAL INC
8-Aug-2005
Quarterly Report
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding our business, our financial position, the research and development of biopharmaceutical products based on our patented DNA delivery technologies, and other statements describing our goals, expectations, intentions or beliefs. Such statements reflect our current views and assumptions and are subject to risks and uncertainties, particularly those inherent in the process of developing and commercializing biopharmaceutical products based on our patented DNA delivery technologies. Actual results could differ materially from those herein. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in our Annual Report on Form 10-K for the year ended December 31, 2004, and our other filings with the Securities and Exchange Commission, and those identified in the section of Item 2 entitled "Risk Factors" beginning on page 20 of this Report. As a result, you are cautioned not to rely on these forward-looking statements. We disclaim any duty to update any forward-looking statement to reflect events or circumstances that occur after the date on which such statement is made.
Overview
We research and develop biopharmaceutical products based on our patented DNA delivery technologies for the prevention and treatment of serious or life-threatening diseases. In addition, we have gained access to enhancing technologies through licensing and collaborative agreements. We believe the following areas of research offer the greatest potential for our product development efforts:
• Vaccines for use in high-risk populations for infectious disease targets for which there are significant U.S. needs;
• Vaccines for general pediatric or adult populations for infectious disease applications; and
• Cancer vaccines or immunotherapies which complement our existing programs and core expertise;
We plan to continue leveraging our patented technologies through licensing and collaborations. We also plan to use our expertise, infrastructure, and financial strength to explore both in-licensing and acquisition opportunities.
We have established relationships through licensing our technologies to a number of commercial entities, including:
• Merck & Co., Inc., or Merck;
• Two divisions of the Sanofi-Aventis Group, or Sanofi-Aventis:
• Sanofi Pasteur, and
• Centelion SAS, or Centelion, a wholly-owned subsidiary of Aventis Pharmaceuticals S.A.;
• Merial Ltd., or Merial, a joint venture between Merck and Sanofi-Aventis;
• Corautus Genetics Inc., or Corautus;
• Aqua Health Ltd., or Aqua Health, an affiliate of Novartis Animal Health;
• Invitrogen Corporation, or Invitrogen; and
• AnGes MG, Inc., or AnGes.
We have also licensed complementary technologies from:
• The Wisconsin Alumni Research Foundation, or WARF;
• The University of Michigan;
• Inovio Biomedical Corporation, or Inovio (formerly Genetronics Biomedical Corporation);
• CytRx Corporation, or CytRx;
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• The National Institutes of Health, or NIH; and
• The U.S. Centers for Disease Control and Prevention, or CDC.
Product Development
We, together with our licensees and collaborators, are currently developing a number of DNA-based vaccines and therapeutics for the prevention or treatment of infectious diseases, cancer, and cardiovascular diseases. Our current independent development focus is on our cancer immunotherapeutics, Allovectin-7 and IL-2/Electroporation, or EP, as well as a novel plasmid DNA, or pDNA, vaccine for cytomegalovirus, or CMV. The table below summarizes our independent, collaborative and out-licensed product development programs.
Project Target and
Product Area Indication(s) Development Status1 Development Rights
-------------------------- ----------------------------- ------------------- --------------------
Cancer
Immunotherapeutic High-dose Allovectin-7 for
metastatic melanoma Phase 2 Vical
" IL-2/EP for solid tumors Phase 1 Vical
Tumor-associated antigen
therapeutic vaccines Unspecified cancer2 Research Sanofi Pasteur
" Unspecified cancer2 Research Merck
Infectious Disease
Infectious disease vaccine Cytomegalovirus Phase 1 Vical
Plasmodium falciparum
(malaria) Phase 1/2 Vical
" Bacillus anthracis (anthrax) Phase 1 Vical
" Ebola virus Phase 1 Vical/NIH
" West Nile virus Phase 1 Vical/NIH
" SARS coronavirus Phase 1 NIH
" HIV-therapeutic Phase 1 Vical/NIH
" HIV-preventive Phase 1 Merck
" HIV-therapeutic Phase 1 Merck
" HIV EP-therapeutic Research Vical/NIH
" Hepatitis B virus-preventive Research Merck
" Hepatitis B virus-therapeutic Research Merck
" Hepatitis C virus-preventive Research Merck
Cardiovascular
Angiogenic growth factor HGF, peripheral arterial
disease Phase 3 AnGes/Daiichi Pharma
" HGF, ischemic heart disease Phase 1 AnGes/Daiichi Pharma
" VEGF-2, coronary artery
disease Phase 2 Corautus
" FGF-1, peripheral arterial
disease Phase 2 Centelion
Veterinary
Preventive infectious
disease vaccine(s) Infectious Haematopoietic
Necrosis Virus Approved in Canada Aqua Health
" Various undisclosed2 Research-Clinical Merial
Protective cancer vaccine Melonoma in dogs Clinical Merial
1 "Research" indicates exploration and/or evaluation of a potential product candidate in a nonclinical laboratory setting. "Preclinical" indicates that a specific product candidate in a nonclinical setting has shown
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functional activity that is relevant to a targeted medical need, and is in preparation for human clinical trials. "Phase 1" clinical trials include the first use of an investigational new drug in humans and are conducted in a small group of patients or normal volunteer subjects (20-80) to evaluate the safety, determine a safe dosage range, and identify side effects, and, if possible, gain early evidence on effectiveness. "Phase 2" clinical trials are typically well controlled and conducted in a larger group of subjects (no more than several hundred) to evaluate effectiveness of an investigational drug for a defined patient population, and to determine common short-term side effects and risks associated with the drug. "Phase 3" clinical trials are conducted in an even larger group of subjects (several hundred to thousands) to evaluate the overall benefit-risk relationship of the investigational drug and to provide an adequate basis for product labeling. At times, a single trial may incorporate elements from different phases of development. An example might be a trial designed to determine both safety and initial efficacy. Such a trial may be referred to as a "Phase 1/2" clinical trial. For veterinary products, "Clinical" indicates testing in the target species.
2 Pursuant to our collaborative agreements, we are bound by confidentiality obligations to our collaborators that prevent us from publicly disclosing these targets and indications. Additionally, some project targets and indications cannot currently be disclosed because they have not yet been selected by our collaborators.
See the section entitled "Business" in our Annual Report on Form 10-K for the year ended December 31, 2004, for a detailed discussion of our independent, collaborative and out-licensed product development programs.
Recent Events
The following events have recently occurred with respect to our technologies and applications:
• In July 2005, we announced that our licensee Aqua Health Ltd. of Canada, an affiliate of the Swiss-based company Novartis Animal Health, received notification of approval from the Canadian Food Inspection Agency to sell its proprietary product, APEX-IHN, a DNA vaccine to protect farm-raised salmon against Infectious Haematopoeitic Necrosis Virus.
• In May 2005, we announced that AnGes licensed exclusive, worldwide rights to use our patented non-viral gene delivery technology in the development and commercialization of DNA-based products encoding Hepatocyte Growth Factor, or HGF, for cardiovascular applications. Under the license agreement, we received an initial upfront payment of $1.0 million, and further development may lead to milestone and royalty payments. AnGes partnered with Daiichi Pharmaceutical Co., Ltd. for worldwide development and commercialization of DNA-based HGF for peripheral arterial disease and ischemic heart disease.
• In June 2005, we presented conclusions from our Phase 2 trial with high-dose Allovectin-7 and design of our Phase 3 trial for chemo-naive patients with metastatic melanoma. The data were featured at the annual meeting of the American Society of Clinical Oncology in a poster session led by Jon M. Richards, M.D., Ph.D., Division of Hematology/Oncology at Lutheran General Hospital in Park Ridge, Illinois, a principal investigator in our Allovectin-7 trials.
• Also in June 2005, we announced that Merck exercised three options under a 2003 amendment to an existing research collaboration and license agreement, granting Merck rights to use our patented non-viral gene delivery technology in cancer vaccine applications. As a result of the option exercise, we received a payment of $3.0 million, and further development may lead to milestone and royalty payments. In addition, we have certain co-promotion rights for therapeutic products resulting from the agreement.
• Also in June 2005, we announced that the Office of Orphan Products Development of the U.S. Food and Drug Administration, or FDA, has designated our bivalent, or two-plasmid, formulation of our vaccine against CMV as an orphan drug for the prevention of clinically significant CMV viremia, CMV disease and associated complications in at-risk hematopoietic cell transplant, or HCT, and solid organ transplant, or SOT, populations. We expect the vaccine to enter Phase 2 human trials in HCT donor-recipients in the second half of 2005.
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• Also in June 2005, we announced the receipt of approximately $12.1 million in production orders for multiple clinical lots of DNA vaccines against HIV for the Dale and Betty Bumpers Vaccine Research Center, or VRC, at the National Institute of Allergy and Infectious Diseases of the NIH, under a subcontract managed by SAIC-Frederick, Inc. Production is scheduled to begin in the second half of 2005, with shipments anticipated in 2005 and 2006 in support of planned Phase 2 studies. We have produced multiple DNA vaccines for the VRC against infectious disease targets including Ebola, severe acute respiratory syndrome, or SARS, and West Nile virus.
• Also in June 2005, we entered into a Cooperative Research and Development Agreement with the NIH for development of a therapeutic DNA vaccine against HIV using EP.
• Also in June 2005, Vical's European Patent EP1026253 directed to the use of in vivo polynucleotide delivery for a variety of applications was opposed by 8 parties.
• Also in June 2005, Vical's Japanese patent JP3683798 directed to the use of cationic lipids for in vivo polynucleotide delivery was granted.
• In July 2005, we announced the initiation of a human Phase 1 study of an investigational method of delivering DNA expressing interleukin-2, or IL-2, a potent immune system stimulant, for patients with recurrent metastatic melanoma. Intravenous delivery of IL-2 protein is approved as a treatment for metastatic melanoma and renal cell carcinoma, but frequently causes severe systemic toxicities. The novel treatment approach being studied in this trial involves direct injection into a tumor lesion of pDNA encoding IL-2 followed by electroporation, the local application of electrical pulses designed to enhance the uptake of the pDNA into tumor cells. The pDNA is designed to cause cells within the tumor to produce high levels of IL-2 protein locally and stimulate the immune system to attack the tumor without the associated systemic toxicities.
• In August 2005, Merial advised us that initial trials of a pDNA melanoma vaccine for dogs have been completed and the vaccine is expected to receive approval for conditional USDA license use by early 2006.
Research, Development and Manufacturing Programs
To date, we have not received revenues from the sale of our independently developed pharmaceutical products. We earn revenue by performing services under research and development contracts, grants, and manufacturing contracts, and from licensing access to our proprietary technologies. Since our inception, we estimate that we have received approximately $114.1 million in revenue under these types of agreements.
Revenues by source for each of the three and six months ended June 30, 2005 and 2004, were as follows (in millions):
Three Months Ended Six Months Ended
June 30, June 30,
---------------------- ----------------------
2005 2004 2005 2004
--------- --------- --------- ---------
Source
NIH contracts $ - $ 3.8 $ 1.3 $ 3.8
CMV grants 0.1 - 1.2 0.3
Other contracts and grants 0.4 - 0.4 -
-- ------ -- ------ -- ------ -- ------
Total contract and grant revenues 0.5 3.8 2.9 4.1
-- ------ -- ------ -- ------ -- ------
Sanofi-Aventis licenses - 1.2 - 1.2
Merck license 3.0 - 3.0 -
AnGes license 1.0 - 1.0 -
Other royalties and licenses 0.3 0.7 0.6 1.4
-- ------ -- ------ -- ------ -- ------
Total royalty and license revenues 4.3 1.9 4.6 2.6
-- ------ -- ------ -- ------ -- ------
Total revenues $ 4.8 $ 5.7 $ 7.5 $ 6.7
-- ------ -- ------ -- ------ -- ------
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Research, development, manufacturing and production costs by major program, as well as other expenses for research and development and manufacturing, were as follows (in millions):
Three Months Ended Six Months Ended
June 30, June 30,
----------------------- ---------------------
2005 2004 2005 2004
--------- --------- --------- -------
Program
Allovectin-7 $ 1.2 $ 1.0 $ 2.3 $ 3.1
CMV 2.3 2.5 4.5 4.7
Anthrax 0.4 0.5 0.9 2.0
IL-2/EP 0.6 0.8 1.4 1.0
Other research, development, manufacturing
and production 3.6 3.9 7.4 6.0
-- ------ -- ------ -- ------ -- ----
Total research, development, manufacturing
and production $ 8.1 $ 8.7 $ 16.5 $ 16.8
-- ------ -- ------ -- ------ -- ----
Since our inception, we estimate that we have spent approximately $230 million on research, development, manufacturing and production. Our current independent development focus is on novel DNA vaccines for CMV as well as our cancer immunotherapeutics Allovectin-7 and IL-2/EP. From inception, we have spent approximately $59 million on our Allovectin-7program. In 2004, we completed a Phase 2 trial evaluating high-dose, 2 mg, Allovectin-7 as a standalone product. We have successfully completed a Special Protocol Assessment, or SPA, with the FDA for a Phase 3 trial of high-dose Allovectin-7 that would be needed to support submission of a Biologics License Application, or BLA. This and potential future trials would add to the time and cost of development of Allovectin-7.
Additionally, we are in the early stages of clinical development of vaccine candidates for CMV and our IL-2/EP program for solid tumors and these programs will require significant additional costs to advance through development to commercialization. From inception, we have spent approximately $22 million on our CMV program, and approximately $4 million on our IL-2 EP program. We are in the early stages of clinical development of an anthrax vaccine candidate; however, due to the lack of additional government funding, we do not intend to pursue further development of our anthrax vaccine candidate at this time except for the ongoing development supported by a Small Business Innovation Research, or SBIR, grant.
We have several other product candidates in the research stage. It can take many years from the initial decision to screen product candidates, perform preclinical and safety studies, and perform clinical trials leading up to possible approval of a product by the FDA or comparable foreign agencies. The outcome of the research is unknown until each stage of the testing is completed, up through and including the registration clinical trials. Accordingly, we are unable to predict which potential product candidates we may proceed with, the time and cost to complete development, and ultimately whether we will have a product approved by the FDA or comparable foreign agencies.
As a result, we expect to incur substantial operating losses for at least the next several years, due primarily to the expansion of our research and development programs, the cost of preclinical studies and clinical trials, spending for outside services, costs related to maintaining our intellectual property portfolio, costs due to increased contract manufacturing activities, increased costs of our facilities, and possible advancement toward commercialization activities.
Critical Accounting Policies
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts of assets,
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liabilities, revenues and expenses, and disclosures of contingent assets and liabilities. Actual results could differ from those estimates. Specifically, management must make estimates in the following areas:
Intangible assets. We capitalize the license fees we pay to acquire access to proprietary technologies if the technologies are expected to have alternative future use in multiple research and development projects. The cost of licensed technology rights is amortized using the straight-line method over the estimated average useful life of the technology, which is generally ten years. We also capitalize certain costs related to patent applications which have alternative future use in multiple research and development projects. Accumulated costs are amortized using the straight-line method over the estimated economic life of the patent, which is generally 20 years and usually commences at the time the patent application is filed. We review long-lived assets for impairment at least annually, quarterly for intangible assets, and whenever events or changes in circumstances indicate that the total amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to the future net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. If assets are to be disposed of, they are reported at the lower of the carrying amount or fair value, less costs to sell. Loss of legal ownership or rights to patents or licensed technologies, or significant changes in our strategic business objectives and utilization of the assets, among other things, could give rise to asset impairment.
Deferred tax assets. Deferred tax assets are recorded net of a 100% valuation allowance. This valuation allowance reduces the gross deferred tax assets to the amount that we believe is more likely than not realizable. We considered projections of future taxable income, past operating results and tax planning strategies in making this determination.
Clinical trial expenses. We account for our clinical trial costs by estimating the total cost to treat a patient in each clinical trial and accruing this total cost for the patient over the estimated treatment period, which corresponds with the period over which the services are performed, beginning when the patient enrolls in the clinical trial. This estimated cost includes payments to the trial site and other external expenses related to the conduct of the trial. Cost per patient varies based on the type of clinical trial, the site of the clinical trial, the method of administration of the treatment, and the number of treatments for each patient. Treatment periods vary depending on the clinical trial. We make revisions to the clinical trial cost estimates as clinical trials progress. Clinical trial expense was $0.3 million and $0.2 million for the three months ended June 30, 2005 and 2004, respectively. Clinical trial expense was $0.5 million and $0.3 million for the six months ended June 30, 2005 and 2004, respectively. No material revisions to our previous clinical trial cost estimates were made in the periods presented.
Accruals for potential disallowed costs on contracts. We have contracts with agencies of the U.S. government under which we bill for direct and indirect costs incurred. These billed costs are subject to audit by government agencies, such as the NIH. We have established accruals of approximately $0.4 million at June 30, 2005, to provide for potential disallowed costs. In the event that the final costs allowed are different from what we have estimated, we adjust our estimated accrual, which could also affect our results of operations and cash flow. No material adjustments were made to our previously estimated accruals in the periods presented.
Revenue Recognition
We earn revenue by performing services under research and development contracts, grants, and manufacturing contracts, and from licensing our proprietary technologies. Revenue is recognized when all of the following criteria are met:
persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the price is fixed or determined, and collection is reasonably assured.
We enter into fixed-price manufacturing contracts under which the primary deliverables are investigational vaccines to be used primarily for preclinical and clinical research. Under these contracts, revenue and related expenses are recognized when the product is shipped, provided all of the other revenue recognition criteria referred to above are met. Advance payments received in excess of amounts earned are classified as deferred revenue.
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Revenue under research and development contracts, grants, and manufacturing contracts, except for fixed-price contracts, is recognized as the research and development or manufacturing expenses for services performed are incurred, provided that all of the revenue recognition criteria noted above have been met.
Other revenues include amounts received from licensing our proprietary technologies, which occurs under a variety of circumstances including licenses, options and royalties. Any initial license or option payment received under a research and development services agreement is recognized as revenue over the term of the research and development period. Upfront license payments are recognized as revenue upon contract signing if the fee is nonrefundable and noncreditable, and if there are no performance obligations remaining. Payments for options to license our technologies are recognized as revenue over the option period. Royalty revenue is recognized when earned and when collectibility is reasonably assured.
Revenue from milestones are recognized as agreed-upon events representing the achievement of substantive steps in the development process are achieved, or the agreed-upon passage of time occurs, and where the amount of the milestone payment approximates the value of achieving the milestone, and collection of payment is reasonably assured.
Results of Operations
Three Months Ended June 30, 2005, Compared with Three Months Ended June 30, 2004
Total Revenues. Total revenues decreased $0.9 million, or 16%, to $4.8 million for the three months ended June 30, 2005, from $5.7 million for the three months ended June 30, 2004. Revenues from our contracts and grants were $0.5 million for the three months ended June 30, 2005, compared to $3.8 million for the three months ended June 30, 2004. Contract and grant revenue for the three months ended June 30, 2005, included revenues of $0.5 million related to various NIH . . . |
