AVN....
RISK FACTORS
We are a development stage company with a history of continuing losses and a
limited amount of capital reserves, which created "going concern" uncertainties
for our fiscal year ended September 30, 1999.
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Our auditors indicated that we needed to raise additional capital to
continue as a going concern in their Independent Auditors' Report on our
financial statements for fiscal year 1999. From our inception through December
31, 1999, we have generated only limited revenues and have incurred net losses
totaling approximately $64 million.
Since the Independent Auditors' Report was issued, we have raised an
additional $6 million in equity capital to support operations for the next year.
However, our business plan for future spending on research and development
depends substantially upon receiving a favorable decision from the FDA regarding
our new drug application for docosanol 10% cream and completion of a licensing
agreement with SmithKline Beecham. If we do not obtain approval from the FDA of
our new drug application for docosanol 10% cream and we do not enter into a
license agreement with SmithKline Beecham, then we
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expect to continue to incur operating losses related to research and development
and marketing activities for the foreseeable future.
Our ability to market and sell docosanol 10% cream is uncertain because we have
not reached a final agreement with SmithKline Beecham or any other
pharmaceutical company to market and sell the product in the OTC market.
We do not have and do not expect to have in the foreseeable future the
resources to manufacture or market directly on a large commercial scale
docosanol 10% cream or any other proposed products that we may develop. We have
entered into collaborative arrangements with manufacturing and distribution
companies in our efforts to commercialize docosanol 10% cream. These
collaborative arrangements likely will cause higher costs or the sharing of
profits with third parties. A potential marketing partner may choose not to use
any of our negotiated agreements. Due to the uncertain nature of the market's
acceptance of docosanol 10% cream as a topical treatment for oral-facial herpes,
we cannot assure you that any license fees and royalties from licensing
docosanol 10% cream will attain a level of revenue sufficient to sustain our
operations.
The timing of the product launch for docosanol 10% cream could be
delayed if our discussions and negotiations with SmithKline Beecham are delayed
or extended. For example, decisions involving the licensing of a pharmaceutical
product likely will involve a substantial amount of due diligence on the part of
both us and SmithKline Beecham. In addition, our ability to negotiate terms of
the amount of advertising and promotion expense by SmithKline Beecham may be
limited. We cannot provide any assurance that, if a license agreement is
negotiated, we and SmithKline Beecham will develop effective advertising or that
consumers will select our product.
We have entered into several licensing agreements to cover the clinical
development, manufacturing and marketing of docosanol 10% cream in foreign
markets. We might not finalize any licensing or distributorship arrangements for
territories not covered by existing agreements on favorable terms, if at all. We
ultimately may establish our own manufacturing and/or marketing capabilities, at
least for specific proposed products, which likely would require substantial
additional funds and personnel.
Our amended new drug application for docosanol 10% cream may not receive FDA
approval.
We cannot assure you that the FDA will approve docosanol 10% cream as
an OTC product or that the FDA will approve our proposed OTC labeling. Failure
to receive FDA marketing approval could affect materially and adversely our
business operations and financial condition.
On October 29, 1999, the Center for Drug Evaluation and Research
informed us that the clinical data on the effectiveness of docosanol 10% cream
in treating recurrent oral-facial herpes would be sufficient for approval as an
OTC product, pending an acceptable audit of the data in one of the clinical
studies presented in our new drug application. The FDA asked that we submit
proposed product labeling for an OTC product, which we have completed. We are
currently awaiting FDA assessment of the site audit and evaluation of our
proposed product labeling.
Neither we nor our licensees may successfully sell docosanol 10% cream as an OTC
product.
If we and/or our licensees pursue commercialization of docosanol 10%
cream as an OTC product for cold sores/fever blisters, then we will face the
following risks in our efforts to market this product:
- - potential delays in achieving timely compliance with FDA regulations
for marketing an OTC product;
- - development in a timely manner of a professional marketing staff and
sales communications program to launch the product;
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- - difficulty in building product awareness of a new OTC product among
customers or retail store decision makers;
- - lack of consumer perception that docosanol 10% cream is superior to
existing and potentially new OTC products for oral herpes; and
- - lack of widespread acceptance of docosanol 10% cream in the OTC
consumer market.
Docosanol 10% cream, if ultimately marketed, will face intense competition from
a number of existing and well-established products.
If successfully launched by us or a marketing partner, then docosanol
10% cream will compete with several prescription products for oral-facial herpes
currently on the market in the U.S., as well as other products or potential
products that are or may be under development or undergoing the FDA regulatory
approval process. Most of our competitors, including Glaxo-Wellcome Inc., have
greater financial resources, research and development facilities and
manufacturing and marketing experience than we do. Docosanol 10% cream may not
achieve commercial success in this intense competitive environment, which would
severely impact our revenues.
Foreign sales of docosanol 10% cream and other potential products are subject to
various foreign trade risks.
We are exposed to various foreign trade risks relating to the continued
development of docosanol 10% cream by foreign licensees. We also may arrange for
contracts in the future for the manufacture, marketing and distribution of
docosanol 10% cream overseas by foreign licensees, which will be substantially
out of our control. Specific risks that could impact significantly our ability
to deliver products abroad include:
- - changes in the regulatory and competitive environments in foreign
countries;
- - changes in a specific country's or region's political or economic
conditions;
- - difficulty in finding foreign partners with sufficient capital to
effectively launch the product;
- - shipping delays;
- - difficulties in managing operations across disparate geographic areas;
- - fluctuations in foreign currency exchange rates;
- - difficulties associated with enforcing agreements through foreign legal
systems; and
- - trade protection measures such as customs duties and export quotas.
Our failure to comply with government regulations regarding the development,
production, testing, manufacturing and marketing of docosanol 10% cream and our
other products may affect adversely our operations.
Governmental authorities in the U.S., including the FDA, and other
countries regulate significantly the development, production, testing,
manufacturing and marketing of pharmaceutical products. The clinical testing and
regulatory approval process can take a number of years and require the
expenditure of substantial resources. Although we have completed the development
of docosanol 10% cream and are waiting for the FDA's approval, we may not obtain
regulatory approval for it or any of our other proposed products.
Failure to obtain, or delays in obtaining, these approvals will affect
adversely our business operations, including our ability to commence marketing
of any proposed products. We expect to use a significant portion of our
financial resources for research and development and the clinical trials
necessary to obtain these approvals for our proposed products. We will continue
to incur costs of development without any assurance that we will ever obtain
regulatory approvals. In addition, we cannot predict the extent to which adverse
governmental regulation might arise from future U.S. or foreign
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legislative or administrative action. Moreover, we cannot predict with accuracy
the effect of unspecified, but possible, future changes in the regulatory
approval process and in the domestic health care system for which we develop our
products. Future changes could affect adversely the time frame required for
regulatory review, our financial resources, and the sale prices of our proposed
products, if approved for sale.
Unsuccessful research and development programs for proposed new products could
affect negatively our business.
We face substantial risks of failing to complete the development of our
early-stage research and development programs in allergy and asthma and other
areas. The effectiveness of our preclinical allergy and asthma research
performed in vitro or in animal models may not be relevant to the development
of, or indicate the efficacy of, a proposed product for human use. Unsuccessful
clinical trial results for our proposed products could affect materially and
adversely our business operations and financial condition. The development
process for medical products is lengthy and capital intensive. Our drug
development programs are exposed to all of the risks inherent in product
development based on innovative technologies, including unanticipated
development problems and the possible lack of funding that could result in the
abandonment or substantial change in the development of a specific product.
Difficulties in acquiring in-licensed technologies that we believe are necessary
to fill our product development pipeline may negatively affect our stock price
and restrict our growth.
We will face intense competition for these in-licensed products and
technologies. In addition, we might not locate suitable products and
technologies to fit our strengths or obtain them on acceptable terms, or have
the financial resources to develop products from the in-licensed technology. Our
inability to add these technologies and products to our product development
pipeline will hinder our growth and may affect negatively our business.
Our business strategy is to in-license products and/or technologies at
various stages in the drug development pipeline. To achieve this objective, we
must have the financial resources to acquire and/or in-license new products and
technologies and develop and market the products, once approved. For example, we
signed a letter of intent with IriSys Research and Development, LLC in February
1999 to license world-wide rights to a product intended for use in a condition
associated with neurodegenerative diseases and pain. However, due to limited
financial resources in fiscal year 1999, we deferred negotiations of a final
agreement with IriSys to in-license the product. We can provide no assurance
that we will in-license this or any other product or technology.
Our failure to retain key management and scientific personnel could affect
negatively our business.
Our success depends on the performance of a small core staff of key
management and scientific employees. Given our early stage of development, we
depend substantially on our ability to hire, train, retain and motivate high
quality personnel, especially our scientists and management team. If we were to
lose one or more of our key scientists, then we would lose the history and
knowledge that they have which could substantially delay one or more of our
development programs until adequate replacement personnel could be hired and
trained.
Our future success also depends on our continuing ability to identify,
hire, train and retain highly qualified, technical, sales, marketing and
customer service personnel. The employment and employee retention agreements
with several of our key employees are limited in scope and provide no real
assurance that any of these people will continue their employment with our
company. We do not have "key person" life insurance policies. The industry in
which we compete has a high level of employee mobility and aggressive recruiting
of skilled personnel, which creates intense competition for qualified personnel,
particularly in product research, development, sales and marketing.
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Our patents may be challenged and our pending patents may be denied, which would
seriously jeopardize our ability to compete in the intended markets for our
proposed products.
We rely substantially on the protection of our intellectual property,
with 19 worldwide docosanol patents and 24 additional docosanol-related patent
applications pending. We also have ten patents issued or pending on other
products and technologies. Because of the competitive nature of the
bio-pharmaceutical industry, we cannot assure you that:
- - the claims in the pending patent applications will be allowed or that
we will even be issued patents;
- - present and future competitors will not develop similar or superior
technologies independently, duplicate our technologies or design around
the patented aspects of our technologies;
- - our proposed technologies will not infringe other patents or rights
owned by others, including licenses which may not be available to us;
- - any issued patents will provide us with significant competitive
advantages; or
- - challenges will not be instituted against the validity or
enforceability of any patent that we own or, if instituted, that these
challenges will not be successful.
Our inability to obtain or maintain patent protections for our products in
foreign markets may affect negatively our financial condition.
The process for the approval of patent applications in foreign
countries may differ significantly from the process in the U.S., which may delay
our plans to market and sell docosanol 10% cream in the international market
place. Approval in one country does not necessarily indicate that approval can
be obtained in other countries. The patent authorities in each country
administer that country's laws and regulations relating to patents independently
of the laws and regulations of any other country and we must seek and obtain the
patents separately. Our inability to obtain or maintain patent protections for
docosanol 10% cream in foreign markets would hamper severely our ability to
generate international sales from our first proposed product.
If we do not protect our technical innovations, then our business may be
negatively affected.
We rely substantially on confidentiality agreements to protect our
innovations. We cannot assure you that secrecy obligations will be honored, or
that others will not develop independently similar or superior technology. In
addition, if our consultants, key employees or other third parties apply
technological information independently developed by them or by others to our
projects, then disputes may arise as to the proprietary rights to this
information in which we may not receive a favorable resolution.
Developing new pharmaceutical products for human use involves product liability
risks, for which we currently have limited insurance coverage.
The testing, marketing and sale of pharmaceutical products involve the
risk of product liability claims by consumers and other third parties. We have
maintained product liability insurance coverage for our clinical trials in the
amount of $2 million per incident and in the aggregate. However, product
liability claims can be high in the pharmaceutical industry and our insurance
may not cover sufficiently all possible liabilities. If a suit against our
business or proposed products is successful, then the lack or insufficiency of
insurance coverage could affect materially and adversely our business and
financial condition. Furthermore, various distributors of pharmaceutical
products require minimum product liability insurance coverage before their
purchase or acceptance of products for distribution. Failure to satisfy these
insurance requirements could impede our ability to achieve broad distribution of
our proposed products.
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Our Class A common stock was delisted from the Nasdaq National Market System and
now trades on the OTC Bulletin Board.
Because our Class A common stock currently trades on the OTC Bulletin
Board, shareholders are exposed to various risks, including:
- - the liquidity of our Class A common stock is significantly lower as an
OTC Bulletin Board traded security;
- - the OTC Bulletin Board does not provide the same level of service or
information to our shareholders; and
- - various brokers may be restricted in making recommendations to their
clients about our Class A common stock.
We can provide no assurance as to how quickly we can regain compliance
with the Nasdaq listing requirements, if ever.
We may issue additional shares of our Class A common stock that may dilute the
value of our common stock to current shareholders and may affect adversely the
market price of our common stock.
If we raise additional capital by issuing equity securities at a price
or a value per share less than the then current price per share of Class A
common stock, then the value of the shares of Class A common stock then
outstanding will be diluted or reduced. For example, we potentially may issue
and register up to 8,137,388 shares of our Class A common stock under a
two-year, $13 million equity line agreement with Promethean Investment Group,
L.L.C. that could result in dilution in your ownership position in the company.
Depending on the price per share of our Class A common stock during the next two
years, we may need to register additional shares for resale to access the full
amount of financing available.
In addition, there will be a dilutive effect on the shares of our Class
A common stock from the conversion or exercise of other outstanding securities.
As of February 9, 2000, the following securities exercisable or convertible into
shares of Class A common stock were outstanding:
- - stock options to purchase an aggregate of 7,387,553 shares of Class A
common stock (at exercise prices ranging from $0.30 to $6.44 per share)
and 28,000 shares of Class B common stock (at an exercise price of
$0.50 per share);
- - Class G stock purchase warrants exercisable into 3,635,783 shares of
Class A common stock (at an exercise price of $1.375 per share);
- - Class H stock purchase warrants exercisable into 100,000 shares of
Class A common stock (at an exercise price of $2.40 per share);
- - The remaining portion of the Class I stock purchase warrant exercisable
into 368,000 shares of Class A common stock (at an exercise price of
$0.78125 per share);
- - Class J stock purchase warrants exercisable into 50,000 shares of Class
A common stock (at exercise price of $0.9144 per share);
- - Class K stock purchase warrant exercisable into 375,000 shares of Class
A common stock (at an exercise price of $1.125 per share);
- - Class L stock purchase warrant exercisable into 55,000 shares of Class
A common stock at an exercise price of $1.1875 per share;
- - Class M stock purchase warrants exercisable into 467,288 shares of
Class A common stock at an exercise price of $1.284 per share;
- - Class N stock purchase warrants exercisable into 263,014 shares of
Class A common stock at an exercise price of $2.44 per share; and
- - 440,000 shares of Class B common stock (each convertible into one share
of Class A common stock).
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Sales in the public market of shares of Class A common stock that underlie stock
options and warrants may affect adversely the prevailing market prices for
shares of Class A common stock. Negative price movements in the shares of Class
A common stock likely would have adverse effects on our ability to obtain
additional equity capital on favorable terms, if at all.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's market risk exposures are related to its cash and cash
equivalents. We invest our excess cash in highly liquid short-term investments
with maturities of less than one-year, which we do not believe is a significant
market risk.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
David H. Katz Litigation - On April 30, 1998, Dr. David H. Katz filed a
complaint in the San Diego Superior Court, making numerous claims related to the
termination of his employment as our president. Mrs. Lee Katz, Dr. Katz' wife,
later joined in the lawsuit and raised claims related to her stock options. On
October 30, 1998, we filed a cross-complaint against Dr. Katz and Mrs. Katz for
Dr. Katz' breach of his fiduciary duties as a director and officer of our
company, and the assignment by Dr. Katz and Mrs. Katz to our company of any
interest that they may possess in a pending patent application pertaining to our
proprietary IgE down regulation technology. The following claims are still
pending before the court:
- - Dr. Katz' request for the court to decide the voting rights for his
shares of our Class B common stock;
- - Dr. Katz' claim that his termination as our president was not "for
cause";
- - Dr. Katz' request for an accounting for allegedly deferred income and
money allegedly advanced to our company; and
- - Our claim for specific performance of Dr. and Mrs. Katz' employment
contractual obligations to assign any interest in the pending IgE
technology patent application to us.
The jury in this litigation recently found in our favor on our claim
that Dr. Katz breached his fiduciary duty to us, and awarded us damages in the
amount of $9.0 million. The jury also returned a verdict against us on Dr. Katz'
defamation claim and awarded Dr. Katz' damages in the amount of $6.7 million.
The other original claims were either voluntarily dismissed by Dr. Katz, decided
in our favor by the court, or settled. However, the court has not set a date for
further proceedings to decide the remaining claims, and no judgment will be
entered in the overall case until trial is concluded on these claims. At that
point, we anticipate that both sides of the litigation will file post-trial
motions. We have not recorded any asset or liability associated with this case,
as the ultimate outcome is still unknown.
Other Litigation - On January 29, 1999, two former employees filed a
lawsuit in San Diego Superior Court, making several claims related to our
termination of their employment and seeking monetary damages. On November 12,
1999 we reached a settlement before a settlement judge, which included a
commitment to issue an aggregate of 160,000 shares of Class A common stock to
these former employees. On January 28, 2000, we executed a written settlement
agreement and mutual general release with the former employees to settle all
outstanding disputes between the parties; the lawsuit was dismissed on January
28, 2000.
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