Form 10-Q for SIGA TECHNOLOGIES INC
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1-Nov-2006
Quarterly Report
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with our financial statements and notes to those statements and other financial information appearing elsewhere in this Quarterly Report. In addition to historical information, the following discussion and other parts of this Quarterly Report contain forward-looking information that involves risks and uncertainties.
Overview
Since our inception in December 1995, SIGA has pursued the research and development of novel products for the prevention and treatment of serious infectious diseases, including products for use in the defense against biological warfare agents such as Smallpox and Arenaviruses. During the third quarter of 2006 we were awarded a 3 year, $16.5 million contract from the NIH and an additional 3 year, $4.8 million SBIR Phase II continuation grant from the NIH. Both awards support the continuing development of our smallpox drug candidate, SIGA-246. Our efforts to develop SIGA-246 were also supported by previous SBIR grants from the NIH totaling $5.8 million, a $1.1 million agreement with Saint Louis University, and a $1.6 million contract with the U.S. Army. Our initiative to advance SIGA's Arenavirus programs is supported by a 3 year, $6.0 million SBIR grant from the NIH, received in September 2006 and previous SBIR grants from the NIH totaling $6.3 million.
Our anti-viral programs are designed to prevent or limit the replication of the viral pathogen. Our anti-infectives programs are aimed at the increasingly serious problem of drug resistance. These programs are designed to block the ability of bacteria to attach to human tissue, the first step in the infection process. We are also developing a technology for the mucosal delivery of our vaccines which may allow the vaccines to activate the immune system at the mucus lined surfaces of the body -- the mouth, the nose, the lungs and the gastrointestinal and urogenital tracts -- the sites of entry for most infectious agents.
SIGA does not have any commercial biomedical products, and we do not expect to have such products for one to three years, if at all. We believe that we may require additional funds to complete the development of our biomedical products. Our plans with regard to these matters include continued development of our products as well as seeking additional research support funds and financial arrangements. Although we will continue to pursue these plans, there is no assurance that we will be successful in obtaining sufficient future financing on terms acceptable to us. Management believes it has sufficient funds and projected cash flows to support SIGA's operations beyond the next twelve months.
Our biotechnology operations are based in our research facility in Corvallis, Oregon. We continue to seek to fund a major portion of our ongoing antiviral, antibiotic and vaccine programs through a combination of government grants and strategic alliances. While we have had success in obtaining strategic alliances and grants, there is no assurance that we will continue to be successful in obtaining funds from these sources. Until additional relationships are established, we expect to continue to incur significant research and development costs and costs associated with the manufacturing of product for use in clinical trials and pre-clinical testing. It is expected that general and administrative costs, including patent and regulatory costs, necessary to support clinical trials and research and development will continue to be significant in the future.
To date, we have not marketed, or generated revenues from the commercial sale of any products. Our biopharmaceutical product candidates are not expected to be commercially available for several years, if at all. Accordingly, we expect to incur operating losses for the foreseeable future. There can be no assurance that we will ever achieve profitable operations.
Critical Accounting Estimates
The methods, estimates and judgments we use in applying our accounting policies have a significant impact on the results we report in our financial statements, which we discuss under the heading "Results of Operations" following this section of our MD&A. Some of our accounting policies require us to make difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Our most critical accounting estimates include share-based compensation, the assessment of recoverability of goodwill, which could impact goodwill impairments; and the assessment of recoverability of long-lived assets, which primarily impacts operating income if
impairment exists. Below, we discuss these policies further, as well as the estimates and judgments involved. Other key accounting policies, including revenue recognition, are less subjective and involve a far lower degree of estimates and judgment.
Significant Accounting Policies
The following is a brief discussion of the more significant accounting policies and methods used by us in the preparation of our financial statements. Note 2 of the Notes to the Financial Statements includes a summary of all of the significant accounting policies.
Share-based Compensation
On January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123(R)"), which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options and employee stock purchases related to the Employee Stock Purchase Plan ("employee stock purchases") based on estimated fair values. SFAS 123(R) supersedes the Company's previous accounting under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") for periods beginning on January 1, 2006. In March 2005, the SEC issued Staff Accounting Bulletin No. 107 ("SAB 107") relating to SFAS 123(R). The Company has applied the provisions of SAB 107 in its adoption of SFAS 123(R).
The Company adopted SFAS 123(R) using the modified prospective transition method, which requires the application of the accounting standard as of January 1, 2006, the first day of the Company's fiscal year 2006. The Company's Financial Statements as of and for the three and nine months ended September 30, 2006 reflect the impact of SFAS 123(R). In accordance with the modified prospective transition method, the Company's Financial Statements for prior periods have not been restated to reflect, and do not include, the impact of SFAS 123(R). Share-based compensation related to stock options expense recognized under SFAS 123(R) for the three and nine months ended September 30, 2006 was $103,583 and $340,281, respectively. No share-based compensation expense related to employee stock options was recognized during the three and nine months ended September 30, 2005.
SFAS 123(R) requires companies to estimate the fair value of share-based payment awards on the grant-date using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Company's Statements of Operations. Prior to the adoption of SFAS 123(R), the Company accounted for share-based awards to employees and directors using the intrinsic value method in accordance with APB 25 as allowed under Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"). Under the intrinsic value method, no share-based compensation expense related to stock options had been recognized in the Company's Statements of Operations when the exercise price of the Company's stock options granted to employees and directors equaled the fair market value of the underlying stock at the grant-date.
Share-based compensation expense recognized during the current period is based on the value of the portion of share-based payment awards that is ultimately expected to vest. SFAS 123(R) requires forfeitures to be estimated at the time of grant in order to estimate the amount of share-based awards that will ultimately vest. The forfeiture rate is based on historical rates. Share-based compensation expense recognized in the Company's Statements of Operations for the nine months ended September 30, 2006 includes (i) compensation expense for share-based payment awards granted prior to, but not yet vested as of December 31, 2005, based on the grant-date fair value estimated in accordance with the pro forma provisions of SFAS 123 and (ii) compensation expense for the share-based payment awards granted subsequent to December 31, 2005, based on the grant-date fair value estimated in accordance with the provisions of SFAS 123(R). The Company utilizes the Black-Scholes options pricing model for the valuation of share-based awards. Determining the fair value of these awards at the grant date requires judgment. It is reasonably likely that forfeiture rates will change in the future and impact future compensation expense. It is also reasonably likely that the variables used in the Black Scholes option pricing model will change in the future and impact the fair value of future options at the grant date and future compensation expense.
Revenue Recognition
The Company recognizes revenue from contract research and development and research progress payments in accordance with SEC Staff Accounting Bulletin No. 104, Revenue Recognition, ("SAB 104"). In accordance with SAB 104, revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed and determinable, collectibility is reasonably assured, contractual obligations have been satisfied and title and risk of loss have been transferred to the customer. The Company recognizes revenue from non-refundable up-front payments, not tied to achieving a specific performance milestone, over the period which the Company is obligated to perform services or based on the percentage of costs incurred to date, estimated costs to complete and total expected contract revenue. Payments for development activities are recognized as revenue is earned, over the period of effort. Substantive at-risk milestone payments, which are based on achieving a specific performance milestone, are recognized as revenue when the milestone is achieved and the related payment is due, providing there is no future service obligation associated with that milestone. In situations where the Company receives payment in advance of the performance of services, such amounts are deferred and recognized as revenue as the related services are performed.
Goodwill
Goodwill is recorded when the purchase price paid for an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired.
The Company evaluates goodwill for impairment annually, in the fourth quarter of each year. In addition, the Company would test goodwill for recoverability between annual evaluations whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. Examples of such events could include a significant adverse change in legal matters, liquidity or in the business climate, an adverse action or assessment by a regulator or government organization, loss of key personnel, or new circumstances that would cause an expectation that it is more likely than not that we would sell or otherwise dispose of a reporting unit. Goodwill impairment is determined using a two-step approach in accordance with Statement of Financial Accounting Standards No. 142 "Goodwill and Other Intangible Assets" ("SFAS 142"). The impairment review process compares the fair value of the reporting unit in which goodwill resides to its carrying value. In 2005, the Company operated as one business and one reporting unit. Therefore, the goodwill impairment analysis was performed on the basis of the Company as a whole using the market capitalization of the Company as an estimate of its fair value. In the past, our market capitalization has been significantly in excess of the Company's carrying value. It is reasonably likely that the future market capitalization of SIGA may exceed or fall short of our current market capitalization, in which case a different amount for potential impairment would result. The use of the discounted expected future cash flows to evaluate the fair value of the Company as a whole is reasonably likely to produce different results than the Company's market capitalization.
Intangible Assets
Acquisition-related intangibles include acquired technology, customer contracts, grants and covenants not to compete, and are amortized on a straight line basis over periods ranging from 1-4 years.
In accordance with Statement of Financial Accounting Standards No. 144 "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS 144"), the Company performs a review of its identified intangible assets to determine if facts and circumstances exist which indicate that the useful life is shorter than originally estimated or that the carrying amount of assets may not be recoverable. If such facts and circumstances do exist, the Company assesses the recoverability of identified intangible assets by comparing the projected undiscounted net cash flows associated with the related asset or group of assets over their remaining lives against their respective carrying amounts. Impairment, if any, is based on the excess of the carrying amount over the fair value of those assets. Our estimates of projected cash flows are dependent on many factors, including general economic trends, technological developments and projected future contracts and government grants. It is reasonably likely that that future cash flows associated with our intangible assets may exceed or fall short of our current projections, in which case a different amount for impairment would result. If our actual cash flows exceed our estimates of future cash flows, any impairment charge would be greater than needed. If our actual cash flows are less than our estimated cash flows, we may need to recognize additional impairment charges in future periods, which would be limited to the carrying amount of the intangible assets.
Recent accounting pronouncements
In July 2006, the Financial Accounting Standards Board ("FASB") issued Interpretation No. 48, "Accounting for Uncertainty in Income Taxes--an interpretation of FASB Statement No. 109" ("FIN 48"), which clarifies the accounting for uncertainty in tax positions. This Interpretation requires an entity to recognize the impact of a tax position in its financial statements if that position is more likely than not to be sustained on audit based on the technical merits of the position. The provisions of FIN 48 are effective as of the beginning of fiscal year 2007, with the cumulative effect of
the change in accounting principle recorded as an adjustment to opening retained earnings. Early application of FIN 48 is encouraged. The Company is evaluating the timing of its adoption of FIN 48 and the potential effects of implementing this Interpretation on its financial condition and results of operations.
Results of Operations
Three months ended September 30, 2006 and 2005
Revenues from grants and research and development contracts for the three months ended September 30, 2006 and 2005 were $2.0 million and $2.9 million, respectively. For the three months ended September 30, 2006 we recognized $907,000 from NIH SBIR grants supporting two of our lead programs. Revenues from NIH SBIR grants supporting these programs during the same period in 2005 were $2.7 million. $1.1 million of the revenues recognized from these grants and contracts during the three months ended September 30, 2005, related to expenditures that SIGA incurred during the quarter ended June 30, 2005, prior to approval of the second year of these grants. The decline of $1.8 million was partially offset by an increase of $834,000 in revenues recognized in connection with a $3.2 million, one year contract with USAMRMC. The agreement, for the rapid identification and treatment of anti-viral diseases, was entered into on September 22, 2005 and is funded through the USAF (the "USAF Agreement"). The decline was also offset by $119,000 recorded in connection with a $500,000, one year, Phase I SBIR grant from the NIH to support the development of our Bacterial Commensal Vector technology for the delivery of smallpox vaccine, ending on February 28, 2007. On August 30, 2006, we received a three year, $6.0 million award from the NIH to support the development of our antiviral drugs for Lassa fever virus. On August 1, 2006, we received a three year, $4.8 million SBIR Phase II continuation grant from the NIH to support the development of our smallpox drug candidate, SIGA-246. On September 26, 2006, we entered into a three year, $16.5 million contract with the National Institute of Allergy and Infectious Diseases of the NIH, to further advance the development of our smallpox drug candidate. Revenues from these new grants and contracts will be recognized as services are performed.
Selling, general and administrative expenses ("SG&A") were $802,000 and $415,000 for the three months ended September 30, 2006, and 2005, respectively. The increase of $387,000 or 93% is primarily due to legal and accounting expenses of $258,000 incurred during the three months ended September 30, 2006 in connection with our merger agreement with PHTN which was terminated in October 2006, and a credit of $200,000 in legal expenses recorded during the same period in 2005. The increase in legal and accounting fees were partially offset by a decline of $100,000 in payroll expenses from the quarter ended September 30, 2005.
Research and development expenses ("R&D") increased $391,000 or 22% from $1.8 million for the three months ended September 30, 2005 to $2.2 million for the three months ended September 30, 2006. The increase is primarily due to $345,000 incurred during the three months ended September 30, 2006 under our agreement with the USAF and an increase of $200,000 in payroll expenses related to the expansion of the Company's research and development work force. In addition, on April 1, 2006, we completed the renovation of a new laboratory space in Corvallis, Oregon. Depreciation expense and lab supplies expenditures for the three months ended September 30, 2006, increased by $220,000 and $105,000, respectively, from the same period in 2005. These increases were partially offset by a decline of $80,000 in amortization expense and a decline of $375,000 in expenditures related to two of our lead programs.
During the three months ended September 30, 2006, and 2005 we invested $442,000 and $600,000, respectively, in the development of our lead drug candidate, SIGA-246, an orally administered anti-viral drug that targets the smallpox virus. For the three months ended September 30, 2006, we invested $176,000 in our internal development resources and $266,000 on external manufacturing and clinical testing activities. For the three months ended September 30, 2005, we invested $168,000 in our internal development resources and $464,000 in pre-clinical testing of SIGA-246. From inception of the SIGA-246 development program to-date, we have invested $5.9 million related to this initiative, of which $1.4 million and $4.5 million were spent on internal development resources, and clinical and pre-clinical work, respectively. These resources reflect SIGA's research and development expenses directly related to the program. They exclude additional expenditures such as the cost to acquire the program, patent costs, allocation of indirect expenses, and the value of other services received from the NIH and the Department of Defense ("DoD").
$326,000 and $349,000 of our R&D expenses during the three months ended September 30, 2006 and 2005, respectively, were used to support the development of ST-294, a drug candidate which has demonstrated significant antiviral activity in cell culture assays against arenavirus pathogens. For the three months ended September 30, 2006,
we invested $110,000 in internal development resources and $216,000 in pre-clinical testing. For the three months ended September 30, 2005, we spent $189,000 on internal human resources and $160,000 on pre-clinical testing of ST-294. From inception of the ST-294 development program to-date, we have spent a total of $2.8 million related to this program, of which $1.5 million and $1.3 million were expended on internal human resources and pre-clinical work, respectively. These resources reflect SIGA's research and development expenses directly related to the program. They exclude additional expenditures such as the cost to acquire the program, patent costs, allocation of indirect expenses, and the value of other services received from the NIH and the DoD.
R&D expenses related to our USAF Agreement were $172,000 and $360,000 for internal human resources and external R&D services, respectively, during the three months ended September 30, 2006. During the same period in 2005, we spent $26,000 and $16,000 on internal human resources and external R&D services, respectively. Costs related to our work on the USAF Agreement, during the term of the agreement to-date were $1.7 million, of which we spent $717,000 and $903,000 on internal human resources and external R&D services, respectively. These resources reflect SIGA's research and development expenses directly related to this agreement. They exclude additional expenditures such as patent costs and allocation of indirect expenses.
Patent preparation expenses for the three months ended September 30, 2006 and 2005 were $36,000 and $8,000, respectively.
A gain of $351,000 was recorded during the three months ended September 30, 2006, reflecting the decline in fair market value of common stock rights and common stock warrants sold in November 2005, from June 30, 2006 to September 30, 2006. The warrants and rights to purchase common stock of SIGA were recorded at fair market value and classified as liabilities at the time of the transaction.
Other expenses, net, were $48,000 for the three months ended September 30, 2006 primarily reflecting interest expense related to the three $1.0 million notes payable to PHTN. During the same period in 2005 we recorded net other income of $2,000.
Our product programs are in the early stage of development. At this stage of development, we cannot make reasonable estimates of the potential cost for most of our programs to be completed or the time it will take to complete the project. Our lead product, SIGA-246, is an orally administered anti-viral drug that targets the smallpox virus. In December 2005 the FDA accepted our IND application for SIGA-246 and granted it Fast-Track status. Fast Track programs of the FDA are designed to facilitate the development and expedite the review of new drugs that are intended to treat serious or life-threatening conditions and that demonstrate the potential to address unmet medical needs.
We expect that costs to complete our SIGA-246 program will approximate $15 million to $20 million, and that the project could be completed in 12 months to 36 months. There is a high risk of non-completion of any program, including SIGA-246, because of the lead time to program completion and uncertainty of the costs. Net cash inflows from any products developed from our programs are at least one to three years away. However, we could receive additional grants, contracts or technology licenses in the short-term. The potential cash and timing is not known and we cannot be certain if they will ever occur.
The risk of failure to complete any program is high, as each, other than our smallpox program that entered phase I clinical trials in 2006, is in the relatively early stage of development. Products for the biological warfare defense market, such as the SIGA-246 smallpox anti-viral, could generate revenues in one to three years. We believe the products directed toward this market are on schedule. We expect the future research and development cost of our biological warfare defense programs to increase as the potential products enter animal studies and safety testing, including human safety trials. Funds for future development will be partially paid for by NIH SBIR grants, the contract we have with the U.S. Army, additional government funding and from future financing. If we are unable to obtain additional federal grants and contracts or funding in the required amounts, the development timeline for these products will slow or possibly be suspended. Delay or suspension of any of our programs could have an adverse impact on our ability to raise funds in the future, enter into collaborations with corporate partners or obtain additional federal funding from contracts or grants.
Nine months ended September 30, 2006 and 2005
Revenues from grants and research and development contracts for the nine months ended September 30, 2006 and 2005 were $4.9 million and $6.2 million, respectively. Revenues recorded for the nine months ended September 30,
2006 declined $1.3 million or 22% from the same period in the prior year. For the nine months ended September 30, 2006 we recorded $2.2 million from NIH SBIR grants and an agreement with Saint Louis University, supporting two of our lead programs. Revenues from NIH SBIR grants supporting these programs during the same period in 2005 were $5.6 million. The decline of $3.4 million was partially offset by $2.1 million of revenues recognized in connection with our $3.2 million, one year contract with USAMRMC. The agreement, for the rapid identification and treatment of anti-viral diseases, was entered into on September 22, 2005 and is funded through the USAF. The decline was also offset by $278,000 recorded in connection with a $500,000, one year, Phase I SBIR grant from the NIH to support the development of our Bacterial Commensal Vector technology for the delivery of smallpox vaccine, ending on February 28, 2007. On August 30, 2006, we received a three year, $6.0 million award from the NIH to support the development of our antiviral drugs for Lassa fever virus. On August 1, 2006, we received a three year, $4.8 million SBIR Phase II continuation grant from the NIH to support the development of our smallpox drug candidate, SIGA-246. On September 26, 2006, we entered into a three year, $16.5 million contract with the National Institute of Allergy and Infectious Diseases of the NIH, to further advance the development of our smallpox drug candidate. Revenues from these new grants and contracts will be recognized as services are performed.
Selling, general and administrative expenses ("SG&A") for the nine months ended September 30, 2006 and 2005 were $3.2 million and $2.1 million, respectively. The increase of $1.1 million or 56% is mainly attributed to professional fees and non-cash consulting charge recorded for the nine months ended September 30, 2006, and a credit of $200,000 in legal expenses recorded during the same period in 2005. During the nine months ended September 30, 2006 we recorded legal, accounting and consulting expenses of $752,000, $164,000 and $82,000, respectively, for due diligence services, fairness opinion and legal . . . |
