| PHARMACOPEIA DRUG DISCOVERY INC ITEM 1A RISK FACTORS As further described herein, our performance and financial results are subject to risks and uncertainties including, but not limited to, the following specific risks: RISKS RELATED TO OUR BUSINESS AND INDUSTRY Our revenue is highly concentrated in our two largest collaborators |
| The planned cessation of full-time employee funding from Schering-Plough or the termination of our collaboration with NV Organon would have a material adverse effect on our business as it is currently conducted, financial condition and results of operations if we are unable to replace the funding from these relationships |
| During the year ended year ended December 31, 2005, we earned approximately dlra16dtta4 million, or approximately 80prca of our revenue, under our research collaboration agreements with two collaborators, Schering-Plough and NV Organon |
| During the year ended December 31, 2005, we earned approximately dlra9dtta9 million, or 48prca of our revenue, of which dlra8dtta9 million was full-time employee (FTE) funding and dlra1dtta0 million was milestone payments, under our research collaboration agreements with Schering-Plough, one of our longest-standing collaborative partners |
| Our longstanding research collaborations with Schering-Plough will reach maturity in August 2006 |
| Currently, we are planning for full-time employee (FTE) funding from the Schering-Plough collaborations ceasing at that time |
| The planned cessation of FTE funding will have no impact on other areas of the collaborations, including the ongoing Phase I clinical trial in an inflammatory indication and multiple preclinical programs |
| We will continue to be entitled to payments resulting from the successful achievement by Schering-Plough, if any, of preclinical and clinical milestones as well as royalty payments from sales, if any, of products resulting from compounds already delivered by us and accepted by Schering-Plough under the collaborations |
| We are currently discussing potential partnerships with multiple companies to establish broad, multi-year alliances that, consistent with our business strategy, have the potential to provide us with a larger share of product ownership than previous collaborations |
| There is no assurance that we will be successful in establishing such alliances |
| Failure to replace the revenue from the Schering-Plough collaborations would have a material adverse effect on our results of operations |
| Revenue recognition of funding from any new alliances may be different from revenue recognition of funding from the Schering-Plough collaborations |
| Failure to replace the funding from the Schering-Plough collaborations would have a material adverse effect on our business as it is currently conducted and our financial condition |
| If adequate funds are not available, we may be required to curtail operations significantly or to obtain funds by entering into arrangements with collaborative partners or others that may require us to relinquish rights to certain of our technologies, products or potential markets that we would not otherwise relinquish |
| During the year ended December 31, 2005, we earned approximately dlra6dtta5 million, or 32prca of our revenue, of which dlra4dtta0 million was FTE funding and dlra2dtta5 million was milestones and success fees, under 18 ______________________________________________________________________ our research collaboration agreements with NV Organon, our second largest collaborator |
| The principal agreement with Organon, entered into in February 2002, has a stated research term of five years |
| Failure to replace the funding from the Organon collaborations would have a material adverse effect on our business as it is currently conducted and our financial condition |
| If adequate funds are not available, we may be required to curtail operations significantly or to obtain funds by entering into arrangements with collaborative partners or others that may require us to relinquish rights to certain of our technologies, products or potential markets that we would not otherwise relinquish |
| If we consume cash more quickly than expected, we may be unable to raise additional capital and we may be forced to curtail operations |
| On July 28, 2005, we entered into purchase agreements to sell an aggregate 2cmam470cmam000 shares of newly issued common stock (the “Shares”) to institutional investors at a price of dlra3dtta43 per share (the “Private Placement”) |
| On August 1, 2005, we sold the Shares and realized gross proceeds of approximately dlra8dtta5 million from the Private Placement |
| We received net proceeds of approximately dlra7dtta7 million from the Private Placement after deducting fees payable to the placement agent and other transaction expenses |
| We anticipate that our capital resources, including our existing cash, cash equivalents and marketable securities as of December 31, 2005 of approximately dlra30dtta4 million, will be adequate to fund our operations at their current levels at least through 2006 |
| However, changes may occur that would cause us to consume available capital resources before that time |
| Examples of relevant potential changes in our capital resources include: · the planned cessation of FTE funding from Schering-Plough collaborations in August 2006; · changes in other existing collaborative relationships, particularly with Organon, including the funding we receive in connection with those relationships; · the costs associated with our drug discovery and development activities; · acquisitions of other businesses, product candidates or technologies; · penalties we may be required to pay the purchasers in the Private Placement if we fail to comply with certain covenants and obligations related to that transaction; · the purchase of additional capital equipment; · competing technological and market developments; · the cost of filing, prosecuting, defending and enforcing patent claims and other intellectual property rights, and the outcome of related litigation; and · the progress of our milestone and royalty producing activities |
| We intend to raise additional capital |
| The capital could be raised through public or private financings involving debt or common or other classes of our equity |
| Any issuance of equity securities would dilute our current stockholders’ percentage ownership of us |
| As of December 31, 2005, there were stock options outstanding to purchase approximately 4cmam280cmam000 shares of our common stock and approximately 10cmam000 shares of unvested restricted stock issued under our various equity compensation plans |
| These equity instruments represent approximately 29prca of our shares outstanding at December 31, 2005 |
| The significant dilution represented by our outstanding equity compensation awards may make it more difficult for us to raise additional capital |
| Additional capital may not be available on favorable terms, or at all |
| If adequate funds are not available, we may be required to curtail operations significantly or to obtain funds by entering into arrangements with collaborative partners or others that may require us to relinquish rights to certain of our technologies, products or potential markets that we would not otherwise relinquish |
| 19 ______________________________________________________________________ The development of our internal and collaborative products is at an early stage and is uncertain |
| Drug development is a highly uncertain process |
| Our approach and technology may never result in a commercial drug |
| None of our programs has resulted in products that have received regulatory approval for commercial sale |
| As of December 31, 2005, none of our internal programs had advanced into clinical trials (ie, human testing) |
| Currently our collaborators have advanced three programs (comprised of four compounds) into clinical trials |
| All of our therapeutic candidates, including these clinical candidates, face the substantial risks of failure inherent in the drug development process |
| Any potential pharmaceutical product emanating from one of our internal or collaborative programs must satisfy rigorous standards of safety and efficacy before the United States Food and Drug Administration (FDA) and foreign regulatory authorities will approve them for commercial use |
| To satisfy these standards, significant additional research, preclinical studies (ie, animal testing) and clinical trials will be required |
| Our internal and collaborative programs are in early stages relative to generating a commercial product |
| Therefore, we and our collaborators must engage in significant, time-consuming and costly research and development efforts followed by our and our collaborators’ applications for and receipt of, regulatory approvals |
| Consequently, we do not expect compounds from these development activities to result in commercially available products for many years, if at all |
| Our business is highly dependent upon the extent to which the pharmaceutical and biotechnology industries collaborate with drug discovery and development companies for one or more aspects of their drug discovery and development process |
| Our revenue depends to a large extent on research and development expenditures by the pharmaceutical and biotechnology industries |
| Our capabilities include aspects of the drug discovery and development process that pharmaceutical companies have traditionally performed internally |
| Although there is a history among pharmaceutical and biotechnology companies of outsourcing drug research and development functions, this practice may not continue |
| The willingness of these companies to expand or continue collaborations to enhance their research and development activities is based on certain factors that are beyond our control |
| While we are unaware of a specific reason that any of the following factors will have a material impact on the willingness of current or potential collaborators to expand or continue collaborations, examples of relevant factors include collaborators’ changing spending priorities among various types of research activities, the increased presence of offshore companies that conduct research and have lower FTE costs than ours, their ability to hire and retain qualified scientists, their approach regarding expenditures during recessionary periods and their policies regarding the balance of research expenditures versus cost containment |
| Also, general economic downturns in our collaborators’ industries, adverse changes in the regulatory environment, the adverse impact of product litigation on our collaborators’ businesses or any decrease in our research and development expenditures could harm our operations, as could increased popularity of management theories, which counsel against outsourcing of critical business functions |
| Continued consolidation in the pharmaceutical and biotechnology industries may further decrease the number of potential collaborators for us |
| In addition, the popularity of scientific thinking that disfavors elements of our technology platform, such as large diverse libraries, could negatively impact our business |
| Any decrease in drug discovery spending by pharmaceutical and biotechnology companies could cause our revenue to decline |
| Our ability to collaborate with large pharmaceutical and biotechnology companies will depend on many factors, including our ability to: · discover and develop high-quality drug candidates; · identify and utilize scientists and technologies that are of the highest caliber; and · achieve results in a timely fashion, with acceptable quality and at an acceptable cost |
| 20 ______________________________________________________________________ The importance of these factors varies from collaborator to collaborator, and we may be unable to meet any or all of them for some or all of our collaborators in the future |
| If our collaborators are not able to successfully develop our existing clinical candidates, our business will be harmed |
| Our collaborators, Bristol-Myers Squibb Company, Daiichi Pharmaceutical Co |
| and Schering-Plough Corporation, currently are performing clinical trials of prospective pharmaceutical products containing our proprietary compounds |
| In each case, the collaborator is responsible for the development of these potential products, the level of resources devoted to such development and the decision as to when, or whether, such development should cease |
| Numerous additional studies are necessary to support the further development of these product candidates |
| Results from preclinical studies conducted to date on these product candidates are not necessarily indicative of the results that may be obtained in clinical studies |
| Clinical results could cause our collaborators to discontinue or limit development of these product candidates |
| For example, in November 2005, Schering-Plough informed us that it discontinued the Phase I clinical trials it commenced in December 2003 for the clinical compound targeting a respiratory indication, which was developed from leads from our collaboration with Schering-Plough |
| There can be no assurance that Bristol-Myers Squibb, Daiichi or Schering-Plough will continue to develop the current clinical programs |
| In addition, our collaborators may pursue alternative technologies or drug candidates, either on their own or in collaboration with others, that compete with the clinical candidates on which they collaborate with us |
| If our collaborators do not continue their development efforts or if such efforts do not result in positive clinical results, we will not receive additional milestone and royalty payments from those efforts, and our business will be harmed |
| Our stock price may be volatile, and your investment in our stock could decline in value |
| The market price for our common stock has been highly volatile and may continue to be highly volatile in the future |
| During the year ended December 31, 2005 the closing price was dlra3dtta06 per share at its low point in November 2005 and dlra5dtta81 per share at its high point in January 2005 |
| Our quarterly operating results, changes in general conditions in the economy or the financial markets, and other developments affecting our competitors or us could cause the market price of our common stock to fluctuate substantially |
| In recent years, the stock market has experienced significant price and volume fluctuations |
| While we are unaware of a specific reason that any of the following factors will have a material impact on our stock price, the following factors, in addition to the factors described in the other risk factors contained in this report, may have a significant impact on the market price of our common stock: · publicity concerning the status of potential drug products under development by us or our collaborators or our competitors and their partners; · reduction, termination or expiration of our collaborations; · announcements by us or our competitors of significant acquisitions, strategic partnerships or joint ventures; · announcements of technological innovations or new commercial products by our competitors or us; · developments concerning proprietary rights, including patents; · litigation; · economic and other external factors or other disasters or crises; 21 ______________________________________________________________________ · actual or anticipated period-to-period fluctuations in our financial results; · changes in financial estimates prepared by securities analysts; · differences in the valuations assigned by the equity markets and, in particular, the biopharmaceutical sector of the equity markets, to biopharmaceutical companies like us that have more drug discovery than drug development capabilities; and · the general performance of the equity markets and, in particular, the biopharmaceutical sector of the equity markets |
| We had net losses in recent years, and our future profitability is uncertain |
| For the fiscal years ended December 31, 2005, 2004 and 2003, we had net losses of approximately dlra17dtta1 million, dlra17dtta4 million and dlra2dtta8 million, respectively |
| The net loss for the year ended December 31, 2005 was due to increased corporate overhead costs, severance costs and our increased focus on internal research and development |
| The net loss for the fiscal year ended December 31, 2004 included restructuring and other charges of dlra5dtta9 million |
| Our longstanding research collaboration with Schering-Plough will reach maturity in August 2006 |
| In addition, under the principal agreement with Organon, the research term expires in February 2007 |
| Failure to replace the revenue from our collaborations with Schering-Plough and Organon would have a material adverse effect on our results of operations |
| The adoption of the Financial Accounting Standards Board Statement Nodtta 123R “Share-Based Payment” will have a significant impact on our results of operations |
| This statement is effective for the first interim reporting period after December 15, 2005 |
| On a quarterly basis, our future operating results are likely to be highly volatile depending upon our receipt of milestone payments from our collaborators |
| We may not receive milestone payments on a regular basis or at all |
| Our ability to achieve profitability, if ever, will be significantly impacted by the level of investment we determine to make in our internal proprietary programs in the future as well as the results of those programs |
| Continuing net losses may limit our ability to fund our operations, and we may not generate income from operations in the future |
| Disputes may arise between our partners and us as to royalties and milestones to which we believe we are entitled |
| The compound basis for drugs developed by a partner may be a derivative or optimized version of the compound screened or optimized by us |
| While our existing collaborative agreements provide that we will receive milestone payments and royalties with respect to certain products developed from certain derivative compounds, there can be no assurance that disputes will not arise over the application of payment provisions to such products |
| There can be no assurance that current or future partners will not pursue alternative technologies, or develop alternative products either on their own or in collaboration with others, including our competitors, as a means for developing treatments based on the targets which are the subject of the collaborative arrangements with us |
| In addition, many of our agreements that provide for potential royalty payments to us also contain provisions that reduce our expected royalty if a partner is also required to pay a royalty on a product to a third party |
| 22 ______________________________________________________________________ We may not successfully enter into additional collaborations that allow us to participate in the future success of our product candidates through milestone, royalty and/or license payments, and we may never receive any milestone, royalty and/or license payments under our current or any future collaborations |
| One of our business strategies is to expand our proprietary pipeline of drug candidates and to then enter into collaborations for the development of these drug candidates that will allow us to earn milestone, royalty and/or license payments or otherwise share in commercialization |
| Our proprietary drug discovery program is in its early stage of development and is unproven |
| Although we have expended, and continue to expend, time and money on internal research and development programs, we may be unsuccessful in creating valuable proprietary drug candidates that would enable us to form additional collaborations and receive milestone, royalty and/or license payments |
| Our collaborations and internal programs may not result in the discovery of potential drug candidates that will be safe or effective |
| Although we have received license and milestone fees to date, we may never receive any royalty payments, or any additional license and milestone fees, under our current or any future collaborations |
| Our receipt of any future milestone, royalty or license payments depends on many factors, including whether our collaborators desire to or are able to continue to pursue a potential drug candidate and the ultimate commercial success of the drug |
| Development and commercialization of potential drug candidates depend not only on the achievement of research objectives by our collaborators and us, but also on each collaborator’s financial, competitive, marketing and strategic considerations and regulation in the United States and other countries |
| If unforeseen complications arise in the development or commercialization of the potential drug candidates by our collaborators, we may not realize milestone, royalty or license payments |
| The drug research and development industry is highly competitive and subject to technological change, and we may not have the resources necessary to compete successfully |
| Many of our competitors have access to greater financial, technical, research, marketing, sales, distribution, service and other resources than we do |
| Moreover, the pharmaceutical and biotechnology industries are characterized by continuous technological innovation |
| We anticipate that we will face increased competition in the future as new companies enter the market and our competitors make advanced technologies available |
| Technological advances or entirely different approaches that we or one or more of our competitors develop may render our products, services and expertise obsolete or uneconomical |
| Additionally, the existing approaches of our competitors or new approaches or technologies that our competitors develop may be more effective than those we develop |
| We may not be able to compete successfully with existing or future competitors |
| If we cannot manage the multiple relationships and interests involved in our collaborative arrangements and internal programs, our business, financial condition and results of operations may be materially adversely affected |
| We may need to successfully structure and manage multiple internal programs and collaborative relationships, including maintaining confidentiality of the research being performed for multiple collaborators |
| We may be unable to successfully manage conflicts between competing drug development programs of third parties to which we offer services |
| From time to time, more than one of our collaborators may want to perform research concerning the same or molecularly similar disease targets |
| Because of that, we may be required to reconcile our relationships with those collaborators, particularly if both want to establish exclusive relationships with us with respect to that target or if one collaborator has an existing arrangement with us and the other would like us to perform services regarding a target restricted by that arrangement |
| Further, if we are working with a collaborator regarding a particular target, another of our collaborators may be researching the same target in one of its internal programs of which we have no knowledge |
| As a result, potential conflicts involving us may arise due to this competition between collaborators in a particular disease field of interest |
| 23 ______________________________________________________________________ Conflicts also may arise between our collaborators as to proprietary rights to particular compounds in our libraries or as to proprietary rights to biological targets such as receptors or enzymes against which we screen compounds in our libraries |
| The occurrence of conflicts, or the perception of conflicts, could have a material adverse effect on our business, financial condition and results of operations |
| If we use hazardous materials in a manner that causes injury or violates laws, we may be liable for damages |
| Our activities involve the use of potentially harmful hazardous materials, chemicals and various radioactive compounds |
| These materials are utilized in the performance of our assay development, high-throughput screening and chemistry optimization services, and include common organic solvents, such as acetone, hexane, methylene chloride, acetonitrile, and isopropyl and methyl alcohol, as well as common acids and bases |
| The waste from utilization of these solvents and other materials is disposed of through licensed third-party contractors |
| Further, we utilize an extremely wide variety of chemicals in the performance of our assay development, screening and optimization services |
| These chemicals, such as reagents, buffers and inorganic salts, typically are employed in extremely small amounts in connection with the work performed in our laboratories |
| We cannot completely eliminate the risk of accidental contamination or injury from the use, storage, handling or disposal of these materials |
| In the event of contamination or injury, we could be held liable for damages that result |
| We maintain insurance coverage against environmental hazards arising from the storage and disposal of the materials utilized in our business |
| Although our management believes that such insurance has terms, including coverage limits, which are appropriate for our business, liabilities arising from the use, storage, handling or disposal of these materials could exceed our insurance coverage as well as our resources |
| We are subject to federal, state and local laws and regulations governing the use, storage, handling and disposal of these materials and specified waste products |
| The cost of compliance with these laws and regulations could be significant |
| To our knowledge, we have not been, and currently are not, the subject of any governmental investigation concerning the violation of these federal, state and local laws and regulations |
| There can be no assurance that we will not be the subject of future investigations by governmental authorities |
| We and our products are subject to strict government regulation, which may limit the development of products by us or our collaborators |
| Regulation by governmental entities in the United States and other countries will be a significant factor in the production and marketing of any pharmaceutical products our collaborators or we may develop |
| The nature and the extent to which government regulation may apply to our collaborators and us will vary depending on the nature of the pharmaceutical products, if any |
| Virtually all pharmaceutical products require regulatory approval prior to commercialization |
| If we or our collaborators or licensees fail to obtain, or encounter delays in obtaining or maintaining, regulatory approvals, our financial results could be adversely affected |
| Similar regulatory procedures are required in countries outside the United States |
| In addition, new legislation related to health care could reduce the prices pharmaceutical and biotechnology companies can charge for drugs they sell which, in turn, could reduce the amounts that they have available for collaborative relationships with us |
| If pharmaceutical and biotechnology companies decrease the resources they devote to the research and development of new drugs, the number of collaborations we conclude could be adversely impacted and our revenue and profitability reduced |
| If prices that pharmaceutical and biotechnology companies can charge for drugs they sell decrease, the royalties, if any, we receive from the sale of products would also decrease, which would reduce our revenue and profitability |
| 24 ______________________________________________________________________ Failure to attract and retain skilled personnel could materially and adversely affect us |
| We are a small company, and our success depends in part on the continued service of key scientific and management personnel, including our president and chief executive officer Leslie J Browne, Ph |
| D, and our ability to identify, hire and retain additional personnel |
| There is intense competition for qualified personnel |
| Immigration laws may further restrict our ability to attract or hire qualified personnel |
| We may not be able to continue to attract and retain the personnel necessary for our growth and development |
| Failure to attract and retain key personnel could have a material adverse effect on our business, financial condition and results of operations |
| Further, we are highly dependent on the principal members of our scientific and management staff |
| One or more of these key employees could retire or otherwise leave our employ within the foreseeable future, and the loss of any of these people could have a material adverse effect on our business, financial condition and results of operations |
| Some of our development and marketing activities are, or will be, conducted by third parties |
| If these third parties fail to perform their functions satisfactorily, our revenue and earnings could be delayed, reduced or eliminated |
| The ultimate success of our business plan heavily depends upon the successful discovery, development and commercialization of pharmaceutical products |
| Our endeavors will result in commercialized pharmaceutical products, if at all, only after significant preclinical and clinical development, requisite regulatory approvals, establishment of manufacturing capabilities and successful marketing |
| We do not currently have the technology, facilities, personnel or experience to accomplish all of these tasks on our own, and we will likely not have all the necessary resources in the foreseeable future |
| Therefore, we continue to depend heavily upon the expertise and dedication of sufficient resources by partners to develop and commercialize products primarily based on lead compounds discovered by us |
| If a partner fails to develop or commercialize a compound or product with respect to which it has rights from us, we may not receive any future milestone payments or royalties associated with that compound or product |
| Similarly, while we are unaware of a specific reason that any of the following factors will be experienced by our strategic collaborators, because we rely heavily on them, our revenue could be adversely affected if our collaborators: · terminate their alliances or arrangements with us; · fail to select a target or product candidate we have identified for subsequent development; · fail to gain the requisite regulatory approvals for product candidates; · do not successfully commercialize products based on the compounds that we originate; · do not conduct their collaborative activities in a timely manner; · do not devote sufficient time or resources to our partnered programs or potential products; · develop, either alone or with others, products that may compete with our product candidates; · dispute our respective allocations of rights to any products or technology developed during our collaborations; or · merge with or are acquired by a third party that seeks to terminate our collaboration |
| We are subject to risks associated with the operation of an international business |
| In the year ended December 31, 2005, approximately 61prca of our revenue was derived from customers outside the United States |
| During that period, approximately 60prca of our revenue was derived from customers in Europe, and approximately 1prca was derived from customers in the Asia/Pacific region |
| We anticipate that international revenue will continue to account for a significant percentage of our overall revenue |
| While we are unaware of a specific reason that any of the following factors will have a material 25 ______________________________________________________________________ impact on our revenue, our international operations are subject to the risk factors inherent in the conduct of international business, including: · unexpected changes in regulatory requirements; · longer payment cycles; · import and export license requirements; · tariffs and other barriers; · political and economic instability; · limited intellectual property protection; · difficulties in collecting trade receivables; · difficulties in staffing and managing foreign joint venture operations; and · potentially adverse tax consequences |
| We may not be able to sustain or increase our international revenue |
| Any of the foregoing factors may have a material adverse effect on our international operations and, therefore, our business, financial condition and results of operations |
| We may not realize revenue from our business development efforts |
| Our collaborative relationships involve lengthy negotiation cycles, often requiring us to expend considerable financial and personnel resources without any assurance that revenue will be recognized |
| Factors include the strategic nature of our partnerships, the size of many such transactions, the confidential and proprietary nature of the biological targets against which we screen our chemical compound libraries, and the unique terms typically found in each of the transactions |
| As a result, we may expend substantial funds and effort to negotiate agreements for collaborative arrangements, but may ultimately be unable to complete the transaction and recognize revenue |
| In these circumstances, our business, financial condition and results of operations will be adversely affected |
| Our operations may be interrupted by the occurrence of a natural disaster or other catastrophic event at our primary facilities |
| We depend on our laboratories and equipment for the continued operation of our business |
| Our research and development operations and administrative functions are primarily conducted at our facilities in the Princeton, New Jersey area |
| Although we have contingency plans in effect for natural disasters or other catastrophic events, catastrophic events could still disrupt our operations |
| Even though we carry business interruption insurance policies, we may suffer losses as a result of business interruptions that exceed the coverage available under our insurance policies |
| Any natural disaster or catastrophic event in our facilities or the areas in which they are located could have a significant negative impact on our operations |
| Because we do not intend to pay dividends, you will benefit from an investment in our common stock only if it appreciates in value |
| We have never declared or paid any cash dividend on common stock |
| We currently intend to retain our future earnings, if any, to finance the expansion of our business and do not expect to pay any cash dividends in the foreseeable future |
| As a result, the success of your investment in our common stock will depend entirely upon any future appreciation in its value |
| There is no guarantee that our common stock will appreciate in value or even maintain its price |
| 26 ______________________________________________________________________ Anti-takeover provisions under Section 203 of the Delaware General Corporation Law, provisions in our amended and restated certificate of incorporation and amended and restated bylaws, and our adoption of a stockholder rights plan may render more difficult the accomplishment of mergers or the assumption of control by a principal stockholder, making more difficult the removal of management |
| Section 203 of the Delaware General Corporation Law may delay or deter attempts to secure control of our company without the consent of our management |
| In general, Section 203 prohibits a publicly-held Delaware corporation from engaging in a business combination with an interested stockholder for a period of three years following the date the person becomes an interested stockholder, unless certain conditions are met |
| Our amended and restated certificate of incorporation and amended and restated bylaws contain several provisions that could delay or make more difficult the acquisition of our company through a hostile tender offer, open market purchases, proxy contest, merger or other takeover attempt that a stockholder might consider in his or her best interest, including those attempts that might result in a premium over the market price of our common stock |
| Such provisions include the issuance of preferred stock without approval of the holders of our common stock, the classification of our board of directors, the election and removal of directors, restrictions on the ability of stockholders to take action without a meeting, restrictions on stockholders’ ability to call a special meeting and advance notice procedures regarding any proposal of stockholder business to be discussed at a stockholders meeting |
| We have adopted a stockholder rights plan, which is triggered upon commencement or announcement of a hostile tender offer or when any one person or group acquires 15prca or more of our common stock |
| The rights plan, once triggered, enables stockholders to purchase our common stock at reduced prices |
| These provisions of our governing documents, stockholder rights plan and Delaware law could have the effect of delaying, deferring or preventing a change of control, including without limitation a proxy contest, making more difficult the acquisition of a substantial block of our common stock |
| The provisions could also limit the price that investors might be willing to pay in the future for shares of our common stock |
| Further, the existence of these anti-takeover measures may cause potential bidders to look elsewhere, rather than initiating acquisition discussions with us |
| If we engage in an acquisition or business combination, we will incur a variety of risks that could adversely affect our business operations or our stockholders |
| From time to time we have considered, and we will continue to consider in the future, if and when any appropriate opportunities become available, strategic business initiatives intended to further the development of our business |
| These initiatives may include acquiring products, businesses or technologies or entering into a business combination with another company |
| If we do pursue such a strategy, we could, among other things: · issue equity securities that would dilute our current stockholders’ percentage ownership; · incur substantial debt that may place strains on our operations; · spend substantial operational, financial and management resources in integrating new businesses, technologies and products; · assume substantial actual or contingent liabilities; or · merge with, or otherwise enter into a business combination with, another company in which our stockholders would receive cash or shares of the other company or a combination of both on terms that our stockholders may not deem desirable |
| 27 ______________________________________________________________________ We are not in a position to predict what, if any, collaborations, alliances or other transactions may result or how, when or if these activities would have a material effect on us or the development of our business |
| RISKS RELATED TO ESTABLISHING OUR COMPANY AS INDEPENDENT FROM ACCELRYS We have agreed to certain restrictions to preserve the tax treatment of the distribution, which will reduce our strategic and operating flexibility |
| Accelrys obtained an opinion from Dechert LLP, its counsel, to the effect that the April 30, 2004 dividend distribution of shares of our common stock qualifies as a transaction that is generally tax-free under Sections 355 and/or 368(a)(1)(D) of the Internal Revenue Code of 1986, as amended (the “Code”) |
| Current tax law generally creates a presumption that the distribution would be taxable to Accelrys but not to its stockholders if we engage in, or enter into an agreement to engage in, a transaction that would result in a 50 percent or greater change by vote or by value in our stock ownership during the four-year period beginning on the date that begins two years before the distribution date, unless it is established that the transaction is not pursuant to a plan or series of transactions related to the distribution |
| Temporary US Treasury regulations currently in effect generally provide that whether an acquisition transaction and a distribution are part of a plan is determined based on all of the facts and circumstances, including but not limited to those specific factors listed in the regulations |
| In addition, the regulations provide several “safe harbors” for acquisition transactions that are not considered to be part of a plan |
| We and Accelrys have entered into a tax sharing agreement under which we have made certain covenants to each other in connection with the distribution that we may not take certain actions without first obtaining an unqualified opinion of counsel or an Internal Revenue Service ruling that such actions will not cause the distribution to become taxable |
| Pursuant to these covenants, generally (1) we will, for two years after the distribution date, continue the active conduct of the drug discovery business; (2) we will not repurchase our stock except in certain circumstances permitted by the Internal Revenue Service; (3) we will not take any actions inconsistent with the representations made in connection with the issuance by Dechert LLP of its opinion with respect to the distribution; and (4) we will not take or fail to take any other action that would result in any tax being imposed on the distribution |
| Accelrys may seek an injunction to enforce these covenants |
| These restrictions could substantially limit our strategic and operational flexibility, including our ability to finance our operations by issuing equity securities, to make acquisitions using equity securities, to repurchase our equity securities, to raise money by selling assets, or to enter into business combination transactions |
| We have agreed to indemnify Accelrys for taxes and related losses resulting from any actions we take that cause the distribution to fail to qualify as a tax-free transaction |
| We have agreed to indemnify Accelrys for any taxes and related losses (including any applicable interest and penalties, all related accounting, legal and other professional fees, all related court costs and all costs, expenses and damages associated with related stockholder litigation or controversies and any amount paid in respect of the liability of stockholders) resulting from a breach of any of the covenants described above |
| Furthermore, we will be responsible for taxes that may be imposed upon Accelrys pursuant to section 355(e) of the Code in connection with a transaction that results in a change in control of us, even though we will have obtained an Internal Revenue Service ruling or an unqualified opinion of counsel prior to the transaction |
| The amount of any indemnification payments could be substantial |
| The amount of Accelrys taxes for which we are agreeing to indemnify Accelrys will be based on the excess of the aggregate fair market value of our stock as of the April 30, 2004 distribution date over the Accelrys tax basis in our stock |
| 28 ______________________________________________________________________ We may be required to indemnify Accelrys, or may not be able to collect on indemnification rights from Accelrys |
| Under the terms of the master separation and distribution agreement and the tax sharing and indemnification agreement that we entered into with Accelrys, we and Accelrys agreed to indemnify one another from and after the distribution with respect to the indebtedness, liabilities and obligations retained by our respective companies |
| These indemnification obligations could be significant |
| Our ability to satisfy any such indemnification obligations will depend upon the future financial strength of our company |
| We cannot determine whether we will have to indemnify Accelrys for any substantial obligations |
| We also cannot assure you that, if Accelrys becomes obligated to indemnify us for any substantial obligations, Accelrys will have the ability to satisfy those obligations |
| Any payment by Accelrys or us pursuant to these indemnification provisions could have a material adverse effect on the payor’s business |
| Any failure by Accelrys or us to satisfy its indemnification obligations could have a material adverse effect on the other company’s business |
| CERTAIN RISKS RELATED TO INTELLECTUAL PROPERTY Positions taken by the US Patent and Trademark Office or non-US patent and trademark officials may preclude us from obtaining sufficient or timely protection for our intellectual property |
| The patent positions of pharmaceutical and biotechnology companies are uncertain and involve complex legal and factual questions |
| The coverage claimed in a patent application can be significantly reduced before the patent is issued |
| There is a significant risk that the scope of a patent may not be sufficient to prevent third parties from marketing other products or technologies with the same functionality of our products and technologies |
| Consequently, some or all of our patent applications may not issue into patents, and any issued patents may provide ineffective remedies or be challenged or circumvented |
| Third parties may have filed patent applications of which we may or may not have knowledge, and which may adversely affect our business |
| Patent applications in the United States are maintained in secrecy for 18 months from filing or until a patent issues |
| Under certain circumstances, patent applications are never published but remain in secrecy until issuance |
| As a result, others may have filed patent applications for products or technology covered by one or more pending patent applications upon which we are relying |
| If applications covering similar technologies were to be filed before our applications, our patent applications may not be granted |
| There may be third-party patents, patent applications and other intellectual property or information relevant to our chemical compositions and other technologies that are not known to us, that block us or compete with our chemical compositions or other technologies, or limit the scope of patent protection available to us |
| Moreover, from time to time, patents may issue which block or compete with our chemical compositions or other technologies, or limit the scope of patent protection available to us |
| Litigation may be necessary to enforce patents issued to us or to determine the scope and validity of the intellectual property rights of third parties |
| We may not be able to protect adequately the trade secrets and confidential information that we disclose to our employees |
| We rely upon trade secrets, technical know-how and continuing technological innovation to develop and maintain our competitive position |
| Competitors through their independent discovery (or improper means, such as unauthorized disclosure or industrial espionage) may come to know our proprietary information |
| We generally require employees and consultants to execute confidentiality and assignment-of-inventions agreements |
| These agreements typically provide that all materials and confidential information 29 ______________________________________________________________________ developed by or made known to the employee or consultant during his, her or its relationship with us are to be kept confidential, and that all inventions arising out of the employee’s relationship with us are our exclusive property |
| Our employees and consultants may breach these agreements, and in some instances we may not have an adequate remedy |
| Additionally, in some instances, we may have failed to require that employees and consultants execute confidentiality and assignment-of-inventions agreements |
| Foreign laws may not afford us sufficient protections for our intellectual property, and we may not seek patent protection outside the United States |
| We believe that our success depends, in part, upon our ability to obtain international protection for our intellectual property |
| However, the laws of some foreign countries may not be as comprehensive as those of the United States and may not be sufficient to protect our proprietary rights abroad |
| In addition, we may decide not to pursue patent protection outside the United States because of cost and confidentiality concerns |
| Accordingly, our international competitors could obtain foreign patent protection for, and market overseas, products and technologies for which we are seeking US patent protection and they may be able to use these products and technologies to compete against us |
| We may not be able to adequately defend our intellectual property from third party infringement, and third party challenges to our intellectual property may adversely affect our rights and be costly and time consuming |
| Some of our competitors have, or are affiliated with companies having, substantially greater resources than we have, and those competitors may be able to sustain the costs of complex patent litigation to a greater degree and for longer periods of time than us |
| Uncertainties resulting from the initiation and continuation of any patent or related litigation could have a material adverse effect on our ability to compete in the marketplace pending resolution of the disputed matters |
| If our competitors prepare and file patent applications in the United States that claim technology also claimed by us, we may have to participate in interference proceedings declared by the US Patent and Trademark Office to determine the priority of invention, which could result in substantial costs to us, even if the outcome is favorable to us |
| Similarly, opposition proceedings may occur overseas, which may result in the loss or narrowing of the scope of claims or legal rights |
| Such proceedings will at least result in delay in the issuance of enforceable claims |
| An adverse outcome could subject us to significant liabilities to third parties and require us to license disputed rights from third parties or cease using the technology |
| A patent issued to us may not be sufficiently broad to protect adequately our rights in intellectual property to which the patent relates |
| Even if patents are issued to us, these patents may not sufficiently protect our interest in our chemical compositions or other technologies because the scope of protection provided by any patents issued to or licensed by us are subject to the uncertainties inherent in patent law |
| Third parties may be able to design around these patents or develop unique products providing effects similar to our products |
| In addition, others may discover uses for our chemical compositions or technologies other than those uses covered in our patents, and these other uses may be separately patentable |
| A number of pharmaceutical and biotechnology companies, and research and academic institutions, have developed technologies, filed patent applications or received patents on various technologies that may be related to our business |
| Some of these technologies, patent applications or patents may conflict with our technologies, patent applications or patents |
| These conflicts could also limit the scope of patents, if any, that we may be able to obtain, or result in the denial of our patent applications |
| We are not currently aware of any such patent applications or patents that could have a material adverse effect on our business |
| 30 ______________________________________________________________________ We may be subject to claims of infringement by third parties |
| Third parties may claim infringement by us of their intellectual property rights |
| In addition, to the extent our employees are involved in research areas similar to those areas in which they were involved at their former employers, we may be subject to claims that one of our employees, or we, have inadvertently or otherwise used or disclosed the alleged trade secrets or other proprietary information of a former employer |
| From time to time, we have received letters claiming or suggesting that our products or activities may infringe third party patents or other intellectual property rights |
| Our products may infringe patent or other intellectual property rights of third parties |
| A number of patents may have been issued or may be issued in the future that could cover certain aspects of our technology and that could prevent us from using technology that we use or expect to use |
| We may be required to seek licenses for, or otherwise acquire rights to, technology as a result of claims of infringement |
| We may not possess proper ownership or access rights to the intellectual property we use |
| Third parties or other companies may bring infringement suits against us |
| Any claims, with or without merit, could be time consuming to defend, result in costly litigation, divert management’s attention and resources or require us to enter into royalty or licensing agreements |
| Royalty or licensing agreements, if required, may not be available on terms acceptable to us, if at all |
| In the event of a successful claim of product infringement against us, our failure or inability to license or design around the infringed technology could have a material adverse effect on our business, financial condition and results of operations |
| We are not currently involved in actions of this type that are material to our business |