-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, K/dCXMs39Lfd8y/EnUqUCvgZAsbfTFf54QCJ6uembnyq8Yfnop1A08i9GALB5KrI nLBmBSjgahbdweHZ55U3zg== 0000936392-98-001161.txt : 19980817 0000936392-98-001161.hdr.sgml : 19980817 ACCESSION NUMBER: 0000936392-98-001161 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19980630 FILED AS OF DATE: 19980814 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: COMBICHEM INC CENTRAL INDEX KEY: 0001002276 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMMERCIAL PHYSICAL & BIOLOGICAL RESEARCH [8731] IRS NUMBER: 330617379 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-23473 FILM NUMBER: 98687357 BUSINESS ADDRESS: STREET 1: 9050 CAMINO STREET 2: SUITE 200 CITY: SAN DIEGO STATE: CA ZIP: 92121 BUSINESS PHONE: 6195300484 MAIL ADDRESS: STREET 1: 9050 CAMINO SANTA FE CITY: SAN DIEGO STATE: CA ZIP: 92121 10-Q 1 FORM 10-Q 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ending June 30, 1998. [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER: 00-23473 COMBICHEM, INC. (Exact name of registrant as specified in its charter) DELAWARE 33-3061739 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 9050 Camino Santa Fe, San Diego, CA 92121 (Address of principal executive offices) (Zip Code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE IS (619) 530-0484 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. (1)[X] [ ] No; (2)[ ] Yes [X] No As of August 13, 1998 there were 13,408,391 shares of $.001 par value common stock outstanding. ================================================================================ 2 COMBICHEM, INC. INDEX
Page No. -------- PART I-FINANCIAL INFORMATION Item 1. Financial Statements Condensed Balance Sheets At June 30, 1998 (unaudited) and December 31, 1997 ................................ 2 Condensed Statements of Operations (unaudited) for the Three and Six months ended June 30, 1998 and 1997 .... 3 Condensed Statements of Cash Flows (unaudited) for the Six months ended June 30, 1998 and 1997 .............. 4 Notes To Condensed Financial Statements ........................ 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ................................. 6 PART II-OTHER INFORMATION ................................................ 17 Item 1. Legal Proceedings ......................................... 17 Item 2. Change in Securities and Use of Proceeds .................. 17 Item 3. Defaults Upon Senior Securities ........................... 17 Item 4. Submission of Matters to a Vote of Security Holders ....... 17 Item 5. Other Information ......................................... 17 Item 6. Exhibits and Reports on Form 8-K .......................... 17
3 PART I - FINANCIAL INFORMATION Item 1 Financial Statements COMBICHEM, INC. CONDENSED BALANCE SHEETS (In Thousands)
June 30 December 31 1998 1997 ------------ -------- (Unaudited) (Note) ASSETS Current Assets Cash and cash equivalents $ 20,006 $ 5,867 Short-term investments 10,998 11,055 Accounts receivable 1,262 528 Prepaid expenses and other current assets 923 767 ------------ -------- Total current assets 33,189 18,217 Property and equipment, net 7,421 5,961 Other assets 591 1,348 ------------ -------- Total assets $ 41,201 $ 25,526 ============ ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable and accrued expenses $ 666 $ 881 Accrued liabilities 1,336 1,394 Deferred revenue 2,229 1,476 Current portion of obligations under capital leases 1,856 1,569 ------------ -------- Total current liabilities 6,087 5,320 Deferred rent 116 91 Obligations under capital leases, less current portion 3,526 3,284 Redeemable convertible preferred stock, $.001 par value: -- 23,130 Authorized shares - 63,196,296 Issued and outstanding shares - 31,019,635 shares and no shares on December 31, 1997 and June 30, 1998, respectively Stockholders' equity (deficit): Preferred stock, $.001 par value Authorized shares - 5,000,000 Issued and outstanding shares - no shares issued or outstanding on December 31, 1997 or June 30, 1998 Common stock, $.001 par value: Authorized shares - 80,000,000 Issued and outstanding shares - 10,981,938 on December 31, 1997 and 13,408,391 on June 30, 1998 13 3 Additional paid-in capital 51,762 12,520 Notes receivable from employees (390) (419) Deferred compensation (1,362) (1,582) Accumulated deficit (18,551) (16,821) ------------ -------- Total shareholders' equity (deficit) 31,472 (6,299) ------------ -------- Total liabilities and shareholders' equity $ 41,201 $ 25,526 ============ ========
Note: The balance sheet at December 31, 1997 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. See accompanying notes 2 4 COMBICHEM, INC. CONDENSED STATEMENTS OF OPERATIONS (In Thousands, Except Per Share Data)
Three Months Ended Six Months Ended June 30 June 30 -------------------- -------------------- 1998 1997 1998 1997 -------------------- -------------------- (Unaudited) (Unaudited) Revenue: Project initiation fees and milestone payments $ 2,300 $ - $ 3,050 $ - Research and development funding 2,083 830 3,955 1,321 -------- ------- -------- ------- Total revenue 4,383 830 7,005 1,321 Expenses: Research and development Collaborative 2,327 1,102 4,250 1,239 Proprietary 1,400 1,065 2,715 2,302 -------- ------- -------- ------- 3,727 2,167 6,965 3,541 General and administrative 1,117 413 2,009 1,285 -------- ------- -------- ------- Total operating expenses 4,844 2,580 8,974 4,826 -------- ------- -------- ------- Loss from operations (461) (1,750) (1,969) (3,505) Interest income 290 121 525 310 Interest expense (136) (77) (257) (137) Foreign tax expense -- -- (30) -- -------- ------- -------- ------- Net loss $ (307) $(1,706) $ (1,731) $(3,332) ======== ======= ======== ======= Net loss per share $ (0.03) $ (3.28) $(0.16) $(6.57) ======== ======= ======== ======= Shares used in calculating net loss per share 11,464 520 10,799 507 ======== ======= ======== =======
See accompanying notes 3 5 COMBICHEM, INC. CONDENSED STATEMENTS OF CASH FLOW (In Thousands)
Six Months Ended June 30 ----------------------- 1998 1997 -------- -------- (Unaudited) (Unaudited) Cash flows from operating activities: Net loss $ (1,731) $ (3,332) Adjustments to reconcile net loss to net cash used in operating activities Depreciation and amortization 837 368 Deferred rent 25 Deferred revenue 753 (1,294) Amortization of deferred compensation 220 -- Change in operating assets and liabilities: Accounts receivable (734) 2 Prepaid expenses and other current assets (40) (11) Accounts payable and accrued liabilities (273) (145) -------- -------- Net cash used in operating activities (943) (4,412) Cash flows from investing activities: Purchases of short-term investments (7,677) -- Maturities of short-term investments 7,530 6,919 Purchases of property and equipment (2,205) (823) Other assets 5 5 -------- -------- Net cash (used in) provided by investing activities (2,347) 6,101 Cash flows from financing activities: Advances on capital lease obligations 1,355 618 Principal repayments on capital lease obligations (829) (552) Receipt of payment on notes from employees 29 -- Deferred public offering costs (685) -- Issue of common stock, net of repurchased shares 17,559 29 Restricted cash given as collateral for letter of credit -- 325 -------- -------- Net cash provided by financing activities 17,429 420 Net increase in cash and cash equivalents 14,139 2,109 Cash and cash equivalents at beginning of period 5,867 367 -------- -------- Cash and cash equivalents at end of period $ 20,006 $ 2,476 ======== ========
See accompanying notes 4 6 COMBICHEM INC. NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited) 1. Basis of Presentation The unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Interim results are not necessarily indicative of the results that may be expected for the year. For further information refer to the financial statements and footnotes thereto for the year then ended December 31, 1997 included in the Company's prospectus (dated May 8, 1998) for its initial public offering ("IPO"). 2. Computation of Net Loss Per Share In 1997, the Financial Accounting Standards Board issued Statement No. 128, "Earnings per Share," (SFAS 128) which requires the presentation of basic and diluted earnings per share. Basic earnings per share reflects the historical weighted average shares of common stock and excludes any dilutive effects of options, warrants, and convertible securities. Diluted earnings per share includes the dilutive effect of such securities. All earnings per share amounts for all periods conform to SFAS 128 and the requirements of Staff Accounting Bulletin No. 98. Recent interpretations by the Securities and Exchange Commission have altered the treatment of preferred stock previously included in computing certain loss per share data. The Company previously considered redeemable convertible preferred stock, which converted in conjunction with the Company's IPO, as outstanding in pre-IPO periods from the date of original issuance ("as if converted method"). To conform with the recent interpretations, the Company has revised its calculation of loss per share for all pre-IPO periods to exclude the impact of redeemable convertible preferred shares. For comparison purposes, if redeemable convertible preferred stock were included as outstanding during the three and six months ended June 30, 1997, using the as if converted method, basic loss per share would have been ($.21) and ($.40), respectively. 3. Offering of Common Stock On May 8, 1998, the Company completed its IPO of 2,250,000 shares of Common Stock at $8.00 per share. On June 5, 1998, the underwriter's excercised their over-allotment option by acquiring an additional 109,500 shares of Common Stock on June 10, 1998. The combined gross proceeds raised by the Company from the offering and over-allotment option was approximately $18.9 million. Concurrent with the IPO, 31,019,635 shares of redeemable convertible preferred stock were converted to 7,754,933 shares of common stock. 5 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations This Quarterly Report may contain predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties, including, the execution of new collaborative agreements and other factors relating to the Company's growth as well as those discussed below at "Risks and Uncertainties." While this outlook represents management's current judgment on the future direction of the business, such risks and uncertainties could cause actual results to differ materially from any future performance suggested below. The Company undertakes no obligation to release publicly the results of any revisions to these forward-looking statements to reflect events or circumstances arising after the date hereof. OVERVIEW CombiChem Inc., is a computational drug discovery company that is applying its proprietary design technology and rapid synthesis capabilities to accelerate the discovery process for new drugs. The Company believes its approach offers pharmaceutical, biotechnology and agrochemical companies the opportunity to conduct their drug discovery efforts in a more productive and cost-effective manner. Using its proprietary Discovery Engine(TM) process, the Company focuses on the generation, evolution and optimization of potential new lead candidates for its collaborative partners, who will then develop, manufacture, market and sell any resulting products. CombiChem believes that its process is widely applicable to a variety of disease targets and therapeutic indications. To date, the Company has established collaborative agreements with Teijin Limited ("Teijin"), Roche Bioscience, a division of Syntex (U.S.A.) Inc. ("Roche Bioscience"), Sumitomo Pharmaceuticals Co., Ltd. ("Sumitomo"), ImClone Systems Incorporated ("ImClone"), Athena Neurosciences, Inc., a wholly owned subsidiary of Elan Corporation, plc ("Elan/Athena"), ICOS Corporation ("ICOS") and Novartis Crop Protection AG, ("Novartis"). In addition, the Company intends to use its approach on internal programs to discover new lead candidates and then to outlicense them to third parties, while retaining a larger economic interest. The Company's revenue to date is primarily attributable to the receipt of project initiation fees, research funding and milestone payments. Project initiation fees are received from the Company's collaborators upon, or shortly following, execution of the collaborative agreement. Research funding is received by the Company in connection with the performance of research services under the collaborative agreement. Such funding typically will be received only during the life of the research program under the particular collaboration. In addition, the Company has received advance payments under certain of its collaborations and in connection with a feasibility study, which require the Company to complete certain performance obligations. Such payments have been recorded as deferred revenue and will be recognized as revenue when the Company's performance obligations have been met, as evidenced by the collaborator's written approval and acceptance. The collaborative activities under these agreements for which the Company receives revenue typically occur over a one- to three-year period, although the agreements provide for earlier termination in certain circumstances. The Company expects that a significant portion of its revenue for the foreseeable future will be comprised of such payments, although the receipt of project initiation fees will be dependent on the Company's ability to enter into additional collaborative agreements which provide for such fees and the timing of such payments will be difficult to predict. In addition, the timing of certain revenue in the future will depend upon the completion of certain milestones as provided for in the Company's collaborative agreements, which are contingent and uncertain. Milestone fees may be earned for different events or achievements from agreement to agreement, and for certain collaborations, such fees may not be earned until the collaborator has advanced products into clinical testing. In any one fiscal quarter the Company may earn multiple or no payments from its several collaborators. Operating results may therefore vary substantially from period to period and will not necessarily be indicative of results in subsequent periods. Completion of the research phase of a single project collaboration or a single project within a broad multiple project collaboration is not expected to have a material adverse effect on the Company's financial condition and results of operations. However, the termination or conclusion of any collaborative agreement could have a material adverse effect on the Company's financial condition and results of operations, and the failure of the Company to enter into additional collaborative agreements on favorable terms would have a material adverse effect on the Company's financial condition and results of operations. 6 8 The Company has not been profitable since inception and has incurred a cumulative net loss of $18.6 million through June 30, 1998. Losses have resulted principally from costs incurred in research and development activities related to the Company's efforts to develop its technologies and from the associated administrative costs required to support these efforts. The Company's ability to achieve profitability is dependent on its ability to market its technology to pharmaceutical, biotechnology and agrochemical companies. RESULTS OF OPERATIONS Three and Six Months Ended June 30, 1998 and 1997 Revenue The Company's revenue for the three months ended June 30, 1998 was $4.4 million, up from $0.8 million for the same period in 1997. Revenue was $7.0 million for the six months ended June 30, 1998 compared to $1.3 million for the same period ended 1997. The increase in revenues, for both periods, reflects the increased number of discovery collaborations, as well as the Company's success in achieving milestones. In May 1998, the Company entered into a new collaborative agreement with Novartis for which a project initiation fee was earned. Operating Expenses Research and development expenses for the three months ended June 30, 1998 totaled $3.7 million compared to $2.2 million for the same period in 1997. Research and development expenses were $7.0 million and $3.5 million for the six months ended June 30, 1998 and 1997, respectively. Both the $1.5 million and $3.5 million increases for the three and six months ended, respectively, are primarily attributable to research and development costs incurred on behalf of its collaborators ("collaborative research and development"). Costs of services under the Company's collaborative agreements approximated the research funding earned under the agreements. For the three months ended June 30, 1998, proprietary research and development costs were $1.4 million compared to $1.1 million for the same period ended 1997. For the six months ended June 30, 1998, proprietary research and development costs were $2.7 million compared to $2.3 million for the same period ended 1997. The increase for both the three and six month periods are attributable to the Company's increased investment in its proprietary technologies. The Company expects research and development spending to increase over the next several years due to increased activities related to collaborations, internal programs and technology development. The Company's general and administrative expenses for the three months ended June 30, 1998 totaled $1.1 million compared to $0.4 million for the same period in 1997. General and administrative expenses increased $0.7 million to $2.0 million from $1.3 million for the six months ended June 30, 1998 and 1997, respectively. This increase, for both periods, reflects increased business development activities and administrative support for the Company's continued expansion. These expenses will likely continue to increase in future periods to support the projected growth of the Company. Net Loss The Company's net loss for the three months ended June 30, 1998 decreased $1.4 million to $0.3 million from $1.7 million for the same period in 1997. The net loss for the six months ended June 30, 1998 decreased $1.6 million to $1.7 million from $3.3 million for the same period in 1997. The decrease for both the three and six month periods are primarily attributable to increased revenue from project initiation fees and milestone achievements, partially offset by increased collaborative research and development expenses. Liquidity and Capital Resources From inception through June 30, 1998, the Company financed its operations through proceeds from the Company's initial public offering and private placements of equity securities, payments from corporate collaborators, and the utilization of capital equipment lease financing. In June 1998, the Company completed its 7 9 IPO of 2,359,500 shares of its Common Stock (including exercise of the underwriters' over-allotment option), generating net proceeds of approximately $16.2 million. Net cash used in operating activities for the six months ended June 30, 1998 was $0.9 million compared to net cash used of $4.4 million for the corresponding period in 1997. The decrease in net cash used in operating activities was primarily attributable to the reduction of the Company's net loss and the collection of project initiation fees. At June 30, 1998, the Company held cash and cash equivalents and short-term investments with a value of $31.0 million. The Company's working capital at June 30, 1998 was $27.1 million. The Company has maintained capital lease arrangements since 1994. Under these arrangements, the Company has funded certain capital expenditures with lease terms ranging from 36 to 48 months in duration. As of June 30, 1998, the Company had utilized $7.7 million of the available $7.9 million financing facility. The Company expects the net proceeds from the IPO completed in May 1998 and the interest income thereon, together with the existing cash and cash equivalents, short term investments, operating revenues, and lease financing arrangements, will be sufficient to finance its working capital and capital requirements for the foreseeable future. The Company's capital requirements depend on numerous factors, including the ability of the Company to enter into additional collaborative arrangements, competing technological and market developments, changes in the Company's existing collaborative relationships, the cost of filing, prosecuting, defending and enforcing patent claims and other intellectual property rights, the purchase of additional capital equipment, the progress of the Company's drug discovery programs and the progress of the commercialization of milestone-and royalty-bearing compounds by the Company's customers. The Company may be required to raise additional capital over a period of several years in order to continue to conduct its operations. Such capital may be raised through additional public or private financings, as well as collaborative arrangements, borrowings and other available sources. In addition, the Company may from time to time earn milestone fees under its collaborations. However, there can be no assurance that any such fees will be earned, and, in addition, milestone fees may be earned for different events or achievements from agreement to agreement. Furthermore, for certain collaborations, such fees may not be earned until the collaborator has advanced products into clinical testing. Such milestones may not be earned for several years, if at all. During such period, there can be no assurance that the Company's collaborative arrangements will produce revenue adequate to fund the Company's operating expenses. There can be no assurance that additional funding, if necessary; will be available on favorable terms, if at all. If adequate funds are not available, the Company may be required to curtail operations significantly or to obtain funds through entering into arrangements with collaborative partners or others that may require the Company to relinquish rights to certain of its technologies, product candidates, products or potential markets that the Company would not otherwise relinquish. The failure to receive additional funding would have a material adverse effect on the Company's business, financial condition and results of operations. Year 2000 The Company has determined that Year 2000 issues do not affect its proprietary drug discovery software. However, the Company has determined that it will need to review, modify or replace portions of its or its vendors' standard operating systems, such as payroll, cash management and other financial systems, so they will function properly with respect to dates in the year 2000 and beyond. The Company has initiated discussions with its financial institutions to ensure that those parties have appropriate plans to remediate Year 2000 issues where their systems interface with the Company's systems or otherwise impact its operations. The Company is assessing the extent to which its operations are vulnerable should those organizations fail to remediate properly their computer systems. While the Company believes its planning efforts are adequate to address its Year 2000 concerns, there can be no guarantee that the systems of other companies on which the Company's systems and operations rely will be converted on a timely basis and will not have a material effect on the Company. The cost of the Year 2000 initiatives is not expected to be material to the Company's results of operations or financial position. 8 10 RISKS AND UNCERTAINTIES Forward-Looking Statements This Quarterly Report may contain predictions, estimates and other forward-looking statements that involve risks and uncertainties. Such risks and uncertainties could cause actual results to differ materially from the results discussed in the forward-looking statements. Factors that could cause or contribute to such differences include those discussed below, as well as those discussed elsewhere in this Quarterly Report. The Company undertakes no obligation to release publicly revisions to the forward-looking statements to reflect events or circumstances arising after the date hereof. New and Uncertain Technology and Business The Company's Discovery Engine process is novel and has not yet been shown to be successful in the discovery of lead candidates that have been subsequently developed into commercialized drugs. Furthermore, the Company's drug discovery efforts are focused on some targets, the functions of which are not yet known. Development of new pharmaceutical products is highly uncertain, and no assurance can be given that the Company's drug discovery process will result in lead candidates that will be safe or efficacious or commercially successful as products. Failure to validate the Company's technology through the successful discovery of lead candidates would have a material adverse effect on the Company's business, financial condition and results of operations. The Company's strategy, which is unproven, is to use its proprietary design technology for the purpose of rapidly identifying, optimizing and obtaining proprietary rights to as many lead candidates and development candidates as possible. The Company's ability to achieve profitability in the near term depends entirely on its ability to enter into additional collaborative agreements with third parties and to maintain the agreements it currently has in place. The pricing and nature of the Company's collaborative relationships is such that there may only be a limited number of pharmaceutical, biotechnology and agrochemical companies that will be its potential customers. The Company's ability to succeed is also dependent upon the acceptance by potential customers of its Discovery Engine process as an effective tool in new drug discovery. Historically, pharmaceutical, biotechnology and agrochemical companies have conducted lead candidate identification and optimization within their own research departments, due to the highly proprietary nature of the activities being conducted, the central importance of these activities to their drug discovery and development efforts and the desire to obtain maximum patent and other proprietary protection on the results of their internal programs. In order to achieve its business objectives, the Company must convince these companies that its technology and capabilities justify the outsourcing of their programs to the Company. There can be no assurance that the Company will be able to attract any future customers on acceptable terms for its products and services or develop a sustainable, profitable business. Failure to do so will have a material adverse effect on the Company's business, financial condition and results of operations. The Company's collaborative agreements are structured in a way that provides the Company with payments for (i) initiating the collaboration, (ii) providing research for a specified period, typically over a one- to two-year period for each project undertaken under the collaboration, (iii) attaining specifically negotiated milestones, and (iv) royalties from the sale of any drug successfully developed under each collaborative agreement. Whereas a significant portion of the Company's revenue to date has been related to the research phase of each of its collaborative agreements which is for a specified period and is generally offset by corresponding research costs, the Company expects any profit to result primarily from project initiation fees, milestone payments and royalties. Following the completion of the research phase of each collaborative agreement, the Company may receive additional revenue under each respective collaborative agreement only from milestones and royalties. Failure to do so could have a material adverse effect on the Company's business, financial condition and results of operation. See "Dependence of Company's Strategy on Third Parties." Uncertainty of Future Profitability The Company's ability to achieve profitability in the near term depends entirely on its ability to enter into additional collaborative agreements with third parties and to maintain the agreements it currently has in place. The Company has not yet received any revenue from royalties for the sale of a commercial drug by a customer, and there can be no assurance when the Company will receive such revenue, if at all. An element of the Company's 9 11 commercialization strategy is the potential development and licensing to others of lead compounds or drug development candidates identified by the Company through its internal programs, at its own expense, for potential pharmaceutical development. To date, no such license has been entered into, and there can be no assurance that any such license will be entered into on acceptable terms in the future, if at all. The Company is unable to predict when, or if, it will become profitable. See "Management's Discussion And Analysis Of Financial Condition And Results of Operations." Dependence of Company's Strategy on Third Parties The Company's strategy depends upon the formation of multiple collaborative arrangements with third parties on a regular basis. To date, the Company has entered into seven such arrangements, and substantially all of its revenue has been from its collaborative arrangements. There can be no assurance that the Company will be able to continue to establish additional collaborative arrangements, that any such arrangements will be on terms favorable to the Company, or that current or any future collaborative arrangements will ultimately be successful. Failure to enter into additional collaborative agreements on favorable terms would have a material adverse effect on the Company's business, financial condition and results of operations. Whereas a significant portion of the Company's revenue to date has been related to the research phase of each of its collaborative agreements, which is for a specified period and is generally offset by corresponding research costs, the Company expects any profit to result primarily from project initiation fees, milestone payments and royalties. Following the completion of the research phase of each collaborative agreement, the Company may receive additional revenue under each respective collaborative agreement only from milestones and royalties, which may not be paid, if at all, until some time well into the future. Further, CombiChem's receipt of revenue from collaborative arrangements is affected by the timing of efforts expended by the Company and its collaborators and the timing of lead compound identification by the Company. Milestone payments may be earned for different events or achievements from agreement to agreement and, for certain collaborations, such fees may not be earned until the collaborator has advanced products into clinical testing, until some time well into the future. The Company's products and services will only result in commercialized pharmaceutical products generating milestone payments and royalties upon the successful outcome of significant preclinical and clinical development, the procurement of requisite regulatory approvals, the establishment of manufacturing, sales and marketing capabilities and the achievement of successful marketing. The Company does not currently intend to perform any of these activities. Therefore, the Company will be dependent upon the expertise and dedication of sufficient resources by third parties to develop and commercialize products based on library compounds produced and lead compounds discovered or optimized by the Company. In addition, there can be no assurance that any such development or commercialization efforts by third parties would be successful. Should a collaborative partner fail to develop or commercialize a compound or product to which it has rights from the Company, the Company may not receive any future milestone payments and will not receive any royalties associated with such compound or product. In addition, the Company's collaborative arrangements with its partners do not obligate the partners to develop or commercialize lead compounds discovered or optimized by the Company. Each collaborative partner may independently move forward with a competing lead candidate developed either by such partner internally or in collaboration with others, including the Company's competitors. The potential drugs developed by a collaborative partner may be derivatives of the lead compounds provided to the customer by the Company. While the Company's existing collaborative agreements provide that the Company retain milestone and royalty payment rights with respect to drugs developed from certain derivative compounds, there can be no assurance that disputes will not arise over the application of payment provisions to such drugs. There can be no assurance that current or future collaborative partners, if any, will not pursue alternative technologies or develop alternative products either on their own or in collaboration with others, including the Company's competitors, as a means for developing treatments for the diseases targeted by collaborative arrangements with the Company. Furthermore, there can be no assurance that conflicts will not arise between collaborative partners as to proprietary rights to particular compounds. The amount and timing of resources that current and future collaborators, if any, devote to collaborations with the Company are not within the control of the Company. There can be no assurance that such collaborators will perform their obligations as expected. Further, the Company's collaborations generally may be terminated by its collaborators upon short notice and following an uncured material breach, which terminations would result in a loss of anticipated revenue. Termination of the Company's existing or future collaborative agreements, if any, could have a material adverse effect on the Company's business, financial condition and results of operations. 10 12 The Company's strategy also involves conducting its own internally funded discovery programs by choosing biological targets of current scientific interest and working in collaboration with screening companies. There can be no assurance that the Company will continue to have access to such targets, novel or otherwise, on an ongoing basis. Furthermore, despite the Company's installation of independent teams to conduct each collaborative project, there can be no assurance that conflicts will not arise among collaborators as to the rights to overlapping lead candidate compounds developed independently as a result of being identified through the use of the Company's technologies. Failure to manage multiple existing and future collaborator relationships successfully, maintain confidentiality among such relationships or prevent the occurrence of such conflicts could lead to disputes that result in, among other things, a significant strain on management resources, legal claims involving significant time and expense and loss of reputation, a loss of capital or a loss of current or future collaborators, any of which could have a material adverse effect on the Company's business, financial condition and results of operations. Significant Fluctuations in Quarterly Results To date, substantially all revenue received by the Company has been from the receipt of project initiation fees, research funding and milestone fees paid pursuant to collaborative agreements. The Company expects that a significant portion of its revenue for the foreseeable future will be comprised of such payments. The timing of certain revenue in the future will depend upon the completion of certain milestones as provided for in the Company's collaborative agreements. In any one fiscal quarter, the Company may receive multiple or no payments from its several collaborators. Operating results may therefore vary substantially from quarter to quarter and will not necessarily be indicative of results in subsequent periods. There can be no assurance that such quarterly fluctuations in revenue or financial results will not have a material impact on the Company's stock price. Company's Success Dependent on Intellectual Property Rights The Company's success will depend in large part on its own, its licensees' and its licensors' ability to obtain and defend patents for each party's respective technologies and the compounds and other products, if any, resulting from the application of such technologies, maintain trade secrets and operate without infringing upon the proprietary rights of others, both in the United States and in foreign countries. The patent positions of pharmaceutical and biotechnology companies, including the Company, are uncertain and involve complex legal and factual questions for which important legal principles are largely unresolved. The Company has pending United States and foreign patent applications relating to various aspects of its technology, certain systems, materials and methods used in screening compounds and the libraries or compounds contained therein. These patent applications are either owned or co-owned by the Company or rights under them are licensed to the Company. To date, one foreign patent and one United States patent owned by the Company have been issued and notices of allowance for two United States patent applications owned by the Company have been received. To the extent that any foreign patent application filed in the European Patent Office or the Japanese Patent Office issues as a patent, a challenge to the validity of such patent may be presented in an opposition proceeding. There can be no assurance that patents will issue as a result of any such pending applications or that, if issued, such patents will be sufficiently broad to afford protection against competitors with similar technologies. The Company is aware of five United States patents issued to third parties that claim proprietary rights; two of these patents are entitled "System and method for automatically generating chemical compounds with desired properties", the third is entitled "System, method, and computer program for at least partially automatically generating chemical compounds having desired properties" and the fourth and fifth are entitled "Method of generating a plurality of chemical companies in a spatially arranged array." Although the Company believes that its current activities do not infringe these patents or the patents of other third parties, the Company continually assesses its position with respect to such patents and there can be no assurance that the Company's belief would be affirmed in any litigation over patents or that the Company's future technological developments would be outside the scope of these patents or the patents of other third parties. Further, there can be no assurance that any third party will not seek to assert such patent rights against the Company, which would result in significant legal costs and require substantial management resources, and there can be no assurance that the Company would be able to obtain a license from any third party, if required, on commercially reasonable terms, if at all. From time to time the Company receives correspondence from third parties to license patents owned or controlled by third parties and has recently received such correspondence. The Company's inability to obtain or maintain patent protection or necessary licenses could have a material adverse effect on the business, financial condition and results of operations of the Company. The inability of the Company either to demonstrate non-infringement of these and other current and future patents, whether issued in the United States or overseas, or to 11 13 obtain the appropriate licenses, would have a material adverse effect on the Company's business, financial condition and operations. Moreover, there can be no assurance that the Company or its customers will be able to obtain patent protection for lead compounds or pharmaceutical products based upon the Company's or such customers' technologies. There can be no assurance that any patents issued to the Company or its collaborative partners, or for which the Company has license rights, will not be challenged, invalidated or circumvented, or that the rights granted thereunder will provide competitive advantages to the Company. To the extent that the Company or its consultants or collaborators use intellectual property owned by others in their work for the Company, disputes may also arise as to the rights in related or resulting know-how and inventions. Litigation may be necessary to enforce the Company's patent and license rights or to determine the scope and validity of others' proprietary rights. Any such litigation whether or not the outcome thereof is favorable to the Company, could result in substantial cost to and diversion of effort by the Company. Further, United States patents do not provide any remedies for infringement that occurred before the patent is issued. The commercial success of the Company will also depend upon successfully avoiding the infringement of current and future patents issued to competitors and upon maintaining the technology licenses upon which certain of the Company's current products are, or any future products under development might be, based. If competitors of the Company prepare and file patent applications in the United States that claim inventions also claimed by the Company or its collaborators, the Company or its collaborators may have to participate in interference proceedings declared by the United States Patent and Trademark Office ("PTO") to determine the priority of invention, which could result in substantial cost to the Company, even if the outcome is favorable to the Company. An adverse outcome could subject the Company to significant liabilities to third parties and require the Company to license disputed rights from third parties or cease using the technology. A United States patent application is maintained under conditions of confidentiality while the application is pending in the PTO, so that the Company cannot determine the inventions being claimed in pending patent applications filed by its competitors in the PTO. A number of pharmaceutical and biotechnology and agrochemical companies and research and academic institutions have developed technologies, filed patent applications or received patents on various technologies that may be related to the Company's business. Some of these technologies, applications or patents may conflict with the Company's technologies or patent applications. Such conflict could limit the scope of the patents, if any, that the Company may be able to obtain, or result in the denial of the Company's patent applications. In addition, there can be no assurance that the Company would be able to obtain licenses to patents held by third parties that may cover the Company's activities at a reasonable cost, if at all, or that the Company would be able to develop or obtain any alternative technologies. The Company currently has certain licenses from third parties and in the future may require additional licenses from other parties in order to refine its Discovery Engine further and to allow its collaborators to develop, manufacture and market commercially viable products effectively. There can be no assurance that (i) such licenses will be obtainable on commercially reasonable terms, if at all, (ii) any patents underlying such licenses will be valid and enforceable or (iii) the proprietary nature of any patented technology underlying such licenses will remain proprietary. The Company relies substantially on certain technologies that are not patentable or proprietary and are therefore available to the Company's competitors. The Company also relies on certain proprietary trade secrets and know-how that are not patentable. Although the Company has taken steps to protect its unpatented trade secrets and know-how, in part through the use of confidentiality agreements with its employees, consultants and certain of its contractors, there can be no assurance that (i) these agreements will not be breached, (ii) the Company would have adequate remedies for any breach or (iii) the Company's trade secrets will not otherwise become known or be independently developed or discovered by competitors. Failure by the Company to protect all or part of its patents, trade secrets and know-how could have a material adverse effect on the Company's business, financial condition and results of operations. Competitive Nature of Company's Industry and Risks of Obsolescence of Technology Many organizations are actively attempting to identify, optimize and generate lead compounds for potential pharmaceutical development. The Company competes with the research departments of pharmaceutical companies, biotechnology companies, agrochemical companies, combinatorial chemistry companies and research and academic institutions as well as other computationally based drug discovery companies. Many of these competitors have greater financial and human resources and more experience in research and development than the Company. Historically, large pharmaceutical companies have maintained close control over their research activities, including the synthesis, screening and optimization of chemical compounds. Many of these companies, which represent one of the largest potential markets for CombiChem's products and services, are internally developing combinatorial and computational approaches and other methodologies to improve productivity, including major investments in robotics 12 14 technology to permit the automated parallel synthesis of compounds. In addition, these companies may already have large collections of compounds previously synthesized or ordered from chemical supply catalogs or other sources against which they may screen new targets. Other sources of compounds include compounds extracted from natural products, such as plants and microorganisms, and compounds created using rational drug design. Academic institutions, governmental agencies and other research organizations are also conducting research in areas in which the Company is working, either on their own or through collaborative efforts. The Company anticipates that it will face increased competition in the future as new companies enter the market and advanced technologies become available. The Company's processes may be rendered obsolete or uneconomical by technological advances or entirely different approaches developed by one or more of the Company's competitors. The existing approaches of the Company's competitors or new approaches or technology developed by the Company's competitors may be more effective than those developed by the Company. Success of Company Dependent on Scale-Up and Management of Growth The Company's success will depend on the expansion of its operations to service additional collaborative arrangements and the management of these expanded operations. To be cost-effective in its delivery of services and products, the Company must enhance productivity through further automation of its processes and improvements to its technology generally. In addition, the Company must successfully structure and manage multiple additional collaborative relationships, including maintaining the confidentiality of the research being provided to multiple customers. There can be no assurance that the Company will be successful in adding technical personnel as needed to meet the staffing requirements of any additional collaborative relationship. In addition, there can be no assurance that the Company will be successful in its engineering efforts to automate its processes further or in its initiatives to improve its technology. Failure to achieve any of these goals could have a material adverse effect on the Company's business, financial condition or results of operations. Dependence of Company on Key Employees The Company is highly dependent on the principal members of its scientific and management staff. The loss of one or more key members of the Company's scientific or management staff could have a material adverse effect on the Company's business, financial condition and results of operations. The Company's future success will also depend in part on the continued service of its key design engineering, scientific, software and management personnel and on its ability to identify, hire and retain any additional personnel. There is intense competition for such qualified personnel in the areas of the Company's activities, and there can be no assurance that the Company will be able to continue to attract and retain such personnel necessary for the development of the Company's business. Failure to attract and retain key personnel could have a material adverse effect on the Company's business, financial condition and results of operations. Government Regulation 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 that may be developed by a customer or collaborator of the Company or, in the event the Company decides to develop a drug beyond the preclinical phase, by the Company. The nature and the extent to which such regulation may apply to the Company's customers will vary depending on the nature of any such pharmaceutical products. Virtually all pharmaceutical products developed by the Company's customers will require regulatory approval by governmental agencies prior to commercialization. In particular, human pharmaceutical therapeutic products are subject to rigorous preclinical and clinical testing and other approval procedures established by the United States Food and Drug Administration (the "FDA") and by foreign regulatory authorities. Various federal and, in some cases, state statutes and regulations also govern or influence, among other things, the testing, manufacture, safety, efficacy, labeling, storage, record keeping, approval, advertising and promotion of such products. Non-compliance with applicable requirements can result in fines, warning letters, recall or seizure of products, clinical study holds or delays, total or partial suspension of production, refusal of the government to grant approvals, and civil and criminal penalties. The process of obtaining these approvals and the subsequent compliance with appropriate federal and foreign statutes and regulations are time-consuming and require the expenditure of substantial resources. Generally, in order to gain FDA approval, a company first must conduct preclinical studies in the laboratory and in animal models to gain preliminary information on a compound's efficacy and to identify any safety problems. Preclinical studies must be conducted by 13 15 laboratories that comply with FDA regulations regarding Good Laboratory Practices. The results of these studies are submitted as a part of an Investigational New Drug application (an "IND") that the FDA must review before human clinical trials of an investigational drug can begin. In order to commercialize any products, the Company or its customer will be required to sponsor and file an IND and will be responsible for initiating and overseeing the clinical studies to demonstrate the safety and efficacy that are necessary to obtain FDA and foreign regulatory authority approval of any such products. Clinical trials are normally done in three phases and generally take two to five years but may take longer to complete. After completion of clinical trials of a new product, FDA and foreign regulatory authority marketing approval must be obtained. If the product is classified as a new drug, the Company or its customer will be required to file a New Drug Application (an "NDA") and receive approval before commercial marketing of the drug. The testing and approval processes require substantial time and effort, and there can be no assurance that any approval will be granted on a timely basis, if at all. NDAs submitted to the FDA can take, on average, two to five years to obtain approval. If questions arise during the FDA review process, approval can take more than five years. Even if FDA regulatory clearances are obtained, a marketed product is still subject to continual review, and later discovery of previously unknown problems or failure to comply with the applicable regulatory requirements may result in restrictions on the marketing of a product or withdrawal of the product from the market, as well as possible civil or criminal sanctions. Domestic manufacturing facilities of the Company or its customers are subject to biannual inspections by the FDA and must comply with the FDA's current Good Manufacturing Practices regulations. To comply with such regulations, a manufacturer must spend funds, time and effort in the areas of production and quality control to ensure full technical compliance. The FDA stringently applies regulatory standards for manufacturing. For marketing outside the United States, the Company or its customer will also be subject to foreign regulatory requirements governing human clinical trials and marketing approval for pharmaceutical products. The requirements governing the conduct of clinical trials, product licensing, pricing and reimbursement vary widely from country to country. Future Capital Needs; Uncertainty of Additional Funding The Company expects the net proceeds from the IPO completed in May 1998 and the interest income thereon, together with the existing cash and cash equivalents, short term investments, operating revenues, and lease financing arrangements, will be sufficient to finance its working capital and capital requirements for the foreseeable future. The Company may be required to raise additional capital over a period of several years in order to continue to conduct its operations. Such capital may be raised through additional public or private financings, as well as collaborative arrangements, borrowings and other available sources. There can be no assurance that the Company's collaborative arrangements will produce revenue adequate to fund the Company's operating expenses. The Company's capital requirements depend on numerous factors, including the ability of the Company to enter into additional collaborative arrangements, competing technological and market developments, changes in the Company's existing collaborative relationships, the cost of filing, prosecuting, defending and enforcing patent claims and other intellectual property rights, the purchase of additional capital equipment, the progress of the Company's drug discovery programs and the progress of the commercialization of milestone- and royalty-bearing compounds by the Company's customers. The Company does not currently plan independently to develop, manufacture or market any drugs it discovers. To the extent that additional capital is needed, it may be raised through the sale of equity or convertible debt securities, and the issuance of such securities could result in dilution to the Company's existing stockholders. There can be no assurance that additional funding, if necessary; will be available on favorable terms, if at all. If adequate funds are not available, the Company may be required to curtail operations significantly or to obtain funds through entering into arrangements with collaborative partners or others that may require the Company to relinquish rights to certain of its technologies, product candidates, products or potential markets that the Company would not otherwise relinquish. The failure to receive additional funding would have a material adverse effect on the Company's business, financial condition and results of operations. See "Management's Discussion And Analysis Of Financial Condition And Results of Operations." Uncertainty of Pharmaceutical Pricing and Health Care Reform The Company expects that a substantial portion of its revenue in the foreseeable future will be derived from products and services provided to the pharmaceutical, biotechnology and agrochemical industries. Accordingly, the Company's success in the foreseeable future is directly dependent upon the success of the companies within those 14 16 industries and their continued demand for the Company's products and services. The level of revenue and profitability of pharmaceutical companies may be affected by the continuing efforts of governmental and third-party payors to contain or reduce the costs of health care through various means and the initiatives of third-party payors with respect to the availability of reimbursement. For example, in certain foreign markets, pricing or profitability of prescription pharmaceuticals is subject to governmental control. In the United States, there have been, and the Company expects that there will continue to be, a number of federal and state proposals to implement similar governmental control. It is uncertain what legislative proposals may be adopted or what actions federal, state or private payors for health care goods and services may take in response to any health care reform proposals or legislation. To the extent that such proposals or reforms have a material adverse effect on the business, financial condition and profitability of pharmaceutical and biotechnology companies that are actual or prospective collaborators for certain of the Company's products and services, the Company's business, financial condition and results of operations may be adversely affected. Company's Use of Hazardous Materials The research and development processes of the Company involve the controlled use of hazardous materials. The Company is subject to federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of such materials and certain waste products. Although the Company believes that its activities currently comply with the standards prescribed by such laws and regulations, the risk of accidental contamination or injury from these materials cannot be completely eliminated. In the event of such an accident, the Company could be held liable for any damages that result, and any such liability could exceed the resources of the Company. In addition, there can be no assurance that the Company will not be required to incur significant costs to comply with environmental laws and regulations in the future. The occurrence of any such event could have a material adverse effect on the Company's business, financial condition and results of operations. Control By Management and Existing Shareholders The Company's executive officers, directors and affiliated entities together beneficially own approximately 30.8% of the outstanding shares of Common Stock. As a result, these stockholders will be able to exercise control over matters requiring stockholder approval, including the election of directors and mergers, consolidations and sales of all or substantially all of the assets of the Company. This may prevent or discourage tender offers for Common Stock unless the terms are approved by such stockholders. Possible Volatility of Stock Price The market prices for securities of life sciences companies have been highly volatile, and the market has experienced significant price and volume fluctuations that are unrelated to the operating performance of particular companies. Announcements of technological innovations or new commercial products by the Company or its competitors, developments concerning proprietary rights, including patents and litigation matters, publicity regarding actual or potential results with respect to products or compounds under development by the Company or its strategic partners, regulatory developments in both the United States and foreign countries, public concern as to the efficacy of new technologies, general market conditions, as well as quarterly fluctuations in the Company's revenue and financial results among other factors, may have a significant impact on the market price of the Common Stock. In particular, the realization of any of the risks described in these "Risk and Uncertainties" could have a dramatic and adverse impact on such market price. Anti-Takeover Effect of Certain Charts and Bylaw Provisions and Delaware Law The Company's Amended and Restated Certificate of Incorporation (the "Certificate of Incorporation") authorizes the Board of Directors to issue, without stockholder approval, 5,000,000 shares of Preferred Stock with voting, conversion and other rights and preferences that could adversely affect the voting power or other rights of the holders of Common Stock. Although the Company has no current plans to issue any shares of Preferred Stock, the issuance of Preferred Stock or of rights to purchase Preferred Stock could be used to discourage an unsolicited acquisition proposal. In addition, the possible issuance of Preferred Stock could discourage a proxy contest, make more difficult the acquisition of a substantial block of the Company's Common Stock or limit the price that investors 15 17 might be willing to pay in the future for shares of the Company's Common Stock. The Company's Certificate of Incorporation provides for staggered terms for the members of the Board of Directors. A staggered Board of Directors and certain provisions of the Company's by-laws and of Delaware law applicable to the Company could delay or make more difficult a merger, tender offer or proxy contest involving the Company. Further, the Company's stock option plans generally provide for the acceleration of vesting of options granted under such plans in the event of certain transactions which result in a change of control of the Company. In addition, the Company is subject to Section 203 of the General Corporate Law of Delaware which, subject to certain exceptions, restricts certain transactions and business combinations between a corporation and a stockholder owning 15% or more of the corporation's outstanding voting stock (an "interested stockholder") for a period of three years from the date the stockholder becomes an interested stockholder. These provisions may have the effect of delaying or preventing a change of control of the Company without action by the stockholders and, therefore, could adversely affect the price of the Company's Common Stock. 16 18 PART II - OTHER INFORMATION Item 1. None. Item 2. Change in Securities and Use of Proceeds A Registration Statement on Form S-1 (File No. 333-37981) registering 2,587,500 shares of the Company's Common Stock filed in connection with the Company's Initial Public Offering (the "IPO") for an aggregate offering of $20.7 million was declared effective by the Securities and Exchange Commission on May 7, 1998. The sale of 2,250,000 shares was closed on May 13, 1998. Exercise of a portion of the over-allotment option was initiated on June 5, 1998 and was closed on June 10, 1998. The managing underwriters of the IPO were BancAmerica Robertson Stephens, Donaldson, Lufkin & Jenrette, and Salomon Smith Barney. The Company sold a total of 2,359,500 shares registered in the IPO at an offering price to the public of $8 per share and an aggregate price of approximately $18.9 million. In connection with the IPO, the Company incurred total expenses of approximately $2.7 million, including underwriting commissions of approximately $1.3 million and other costs of approximately $1.4 million. The amount of net offering proceeds from the IPO and over-allotment option was approximately $16.2 million. As of June 30, 1998, the Company had used approximately $0.3 million of the net offering proceeds to fund its operations. In May 1998, the Company issued 62,500 shares of Common Stock in connection with a previously executed collaborative agreement. The shares of Common Stock were issued in reliance on Section 4(2) of the Securities Act of 1933, as amended. Item 3. None Item 4. None Item 5. None Item 6. Exhibits and Reports on Form 8-K.
a. Exhibits 3.1 Amended and Restated Certificate of Incorporation of the Company, previously filed as Exhibit 3.2 on Form S-1, File No. 333-37981, and incorporated herein by reference. 3.2 Restated Bylaws of the Company, previously filed as Exhibit 3.4 on Form S-1, File No. 333-37981, and incorporated herein by reference. 4.1 Form of Certificate for Common Stock, previously filed as Exhibit 4.1 on Form S-1, File No. 333-37981, and incorporated herein by reference 10.1* Collaborative Research and License Agreement by and between the Company and Novartis Crop Protection AG dated as of May 26, 1998 10.2 Amendment No. 1 to the Promissory Note dated September 5, 1995 between the Company and Peter Myers dated June 15, 1998. 27.1 Financial Data Schedules b. None.
* Certain confidential portions of this Exhibit were omitted by means of redacting a portion of the text (the "Mark"). This Exhibit has been filed separately with the Secretary of the Commission without the Mark pursuant to the Company's Application Requesting Confidential Treatment under Rule 406 under the Securities Act. 17 19 COMBICHEM, INC. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. CombiChem, Inc. Date: August 13, 1998 By: /s/ KARIN EASTHAM --------------- ------------------- Karin Eastham Vice President, Finance and Administration and Chief Financial Officer (Duly Authorized Officer and Principal Financial and Accounting Officer) 18 EX-10.1 2 EXHIBIT 10.1 1 EXHIBIT 10.1 EXECUTION COPY COLLABORATIVE RESEARCH AND LICENSE AGREEMENT BETWEEN COMBICHEM, INC. AND NOVARTIS CROP PROTECTION AG MAY 26th, 1998 2 COLLABORATIVE RESEARCH AND LICENSE AGREEMENT (Novartis Crop Protection) THIS COLLABORATIVE RESEARCH AND LICENSE AGREEMENT (the "Agreement") is entered into and made effective as of May 26th, 1998 (the "Effective Date"), by and between COMBICHEM, INC., a California corporation having its principal offices at 9050 Camino Santa Fe, San Diego, California 92121 ("CombiChem") and NOVARTIS CROP PROTECTION AG, a corporation organized under the laws of the Country of Switzerland having its principal offices located in Basel, at CH-4002 Basel, Switzerland ("Novartis"). WHEREAS, CombiChem has developed and owns certain intellectual property rights, including chemical library design software, multi-parallel synthesis and purification methods, chemical libraries suitable for screening assays (collectively, "CombiChem Technology"); WHEREAS, as of the Effective Date, Novartis and its Affiliates have developed and own certain intellectual property rights, including certain assays, methods and know how regarding the Initial Hits, among other things (collectively "Novartis Technology"); WHEREAS, Novartis desires to utilize CombiChem Technology in its search for compounds for the crop protection and animal health markets under Novartis know-how; WHEREAS, the parties wish to collaborate in a Research Program to optimize the biological activity of Collaboration Hit(s) ("Collaboration"); NOW, THEREFORE, the Parties agree as follows: 1. DEFINITIONS 1.1 "Abandoned Compound" shall have the meaning given in Section 4.1. 1.2 "Abandoned Hits" shall have the meaning given in Section 4.1. 1.3 "Active Compound(s)" means a compound (or compounds) which (a)(i) is selected by Novartis under the Research Program from Collaboration Compounds subject to Section 4.2, or (ii) is a Derivatized Compound which is so selected by Novartis; and *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -2- 3 (b) shows In Vivo Activity. 1.4 "Affiliate" of a Party means any corporation or other business entity controlled by, controlling or under common control with, such Party. For this purpose "control" shall mean direct or indirect beneficial ownership of more than fifty percent (50%) of the voting securities or income interest in such corporation or other business, or if not meeting the preceding requirements, any company owned or controlled by or owning or controlling such Party at the maximum control or ownership right permitted in the country where such company exists. 1.5 "Collaboration" has the meaning set forth in the preamble. 1.6 "Collaboration Compound(s)" means a compound (or compounds) which (a) is synthesized following the Effective Date for screening in an assay/assays related to a Collaboration Hit(s) under the Research Program, or (b) is a pre-existing or hereafter acquired CombiChem Compound which CombiChem desires to designate as a Collaboration Compound. 1.7 "Collaboration Library" means a library synthesized under the direction of the RMC which (a) contains Collaboration Compounds and (b) is designed to provide information regarding activity in an assay/assays related to a Collaboration Hit(s). 1.8 "Collaboration Hit(s)" means the Initial Hit(s) or a Substitute Hit(s) according to the decision of the RMC. 1.9 "CombiChem Compound" means a chemical compound that is proprietary to CombiChem, or whose use or manufacture is proprietary to CombiChem. 1.10 "CombiChem Technology" has the meaning set forth in the preamble. 1.11 "Combination Product(s)" means any product containing a Development Compound as one of the active ingredients (in combination with one or more other compounds as active ingredients) and which is granted regulatory approval by the governing regulatory authority of the applicable country for marketing and sale. 1.12 "Confidential Information" includes, but is not limited to, (a) all information and materials received by either Party from the other Party pursuant to this Agreement which is confidential under Article 11; *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -3- 4 (b) all information and materials by either Party arising out of the Collaboration during the Research Period; and (c) the financial terms of this Agreement. 1.13 "Development Compound(s)" means a compound (or compounds) which (a) (i) is an Active Compound or (ii) is a Derivatized Compound; and (b) is *** of the Novartis Crop Protection Stage Plan or its equivalent for Novartis' animal health program. 1.14 "Derivatized Compound" shall mean a compound (or compounds) which has resulted from subsequent chemical synthesis by Novartis to generate an Active Compound or Development Compound in support of the Research Program. 1.15 "Due Diligence" means the use of by a Party or its Affiliates' resources in a manner which is consistent with the exercise of reasonable and prudent scientific and business judgment as applied to other programs of Novartis or CombiChem, as the case may be, targeting products aimed at markets of similar sizes and of similar scientific and commercial potential. With respect to any Development Compound, "Due Diligence" shall also require Novartis or its Affiliates to use commercially reasonable efforts to conduct all necessary studies and to file an application for product registration for such Development Compound within *** from the date upon which Novartis has designated such Development Compound from any Active Compound or its Derivatives. 1.16 "Exclusivity Period" means the Research Period plus *** . 1.17 "Field" shall mean the area of crop protection and animal health. 1.18 "First Commercial Sale" of a Product shall mean the first sale for use of such Product in a country after required marketing and pricing approval has been granted by the governing health regulatory or environmental safety authorities of such country. Sale to an Affiliate shall not constitute a First Commercial Sale unless the Affiliate is the end user of the Product. 1.19 "FTE" shall mean a full-time equivalent employee of CombiChem. For purposes of this Agreement, the FTEs shall include synthetic and analytical chemists, compound control scientists and computational scientists. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -4- 5 1.20 "Hit(s)" shall mean a single compound or a group of compounds which are structurally related and/or share the same biochemical mode of action that show(s) biological activity in at least *** high throughput screening. 1.21 "Inactive Compound(s)" means a Collaboration Compound(s) which (a) does not have the In Vivo Activity required for an Active Compound, or (b) is defined in Section 4.2(b). 1.22 "Novartis Compound" means a chemical compound that is proprietary to Novartis or whose use or manufacture is proprietary to Novartis or its Affiliates. 1.23 "Novartis Technology" shall have the meaning set forth in the preamble of this Agreement. 1.24 "In Vivo Activity" shall mean the observation of relevant biological activity in at least *** high throughput screening. 1.25 "Initial Hit(s)" shall have the meaning set forth in Section 3.1 hereof. 1.26 "Net Sales" means the gross sales invoiced by Novartis or its Affiliates for Products to Third Parties less actual deductions or returns (including withdrawals and recalls), rebates (including price reductions and chargebacks), cash, trade or volume (quantity) discounts, discounts granted at the time of invoicing, the cost of transport, insurance, delivery, sales taxes and use, tariff, excise or other taxes (other than income taxes) directly linked to and included in the gross sales amount as computed on a product-by-product basis for the countries concerned, whereby the amount of such sales in foreign currencies is converted into Swiss Francs. 1.27 "Patent" means (a) valid and enforceable Letters Patent within the Territory including any extension (including Supplemental Protection Certificates), registration, confirmation, reissue, continuation, divisionals, continuation-in-part, reexamination or renewal thereof, or (b) pending applications for any of the foregoing, whether filed or issued before or after the Effective Date of this Agreement. 1.28 "Party" means CombiChem or Novartis, as the case may be, including their permitted successors and assigns. 1.29 "Product(s)" means any product containing a Development Compound with such compound as the active ingredient and which is granted regulatory approval by the governing regulatory authority of the applicable country for marketing and sale. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -5- 6 1.30 "Project Team" shall have the meaning set forth in Section 2.1(c). 1.31 "Research Management Committee" or "RMC" has the meaning set forth in Article 6 below. 1.32 "Research Period" means the initial term of the Collaboration commencing on September 1, 1998 and ending on August 31, 2000, unless earlier terminated, which can be extended in accordance with Section 7.1 below. 1.33 "Research Plan" means the research plan to be agreed in writing between the Parties, which describes the research activities to be performed for each Collaboration Hit and as attached hereto as Appendix B. 1.34 "Research Program" means the research to be conducted for the Collaboration including, without limitation, the activities described in the Research Plan and set forth in Sections 2.1 and 2.2 of this Agreement. 1.35 "Returned Compound" shall have the meaning set forth in Section 9.2. 1.36 "Royalty Term" means, in the case of any Product or Combination Product, on a country-by-country basis, the period of time commencing on the First Commercial Sale and ending upon either of (a) *** from the date of First Commercial Sale in any country without patent protection; or (b) the later of *** from the date of First Commercial Sale or the expiration of the last to expire Patent containing one or more composition of matter, and/or method of use claims filed during the Exclusivity Period covering the Development Compound(s) in the Field. 1.37 "Territory" means the entire world. 1.38 "Third Party" means an entity other than CombiChem or Novartis, and their respective Affiliates. 2. RESEARCH COLLABORATION 2.1 CombiChem Responsibilities. CombiChem shall with Due Diligence provide the following resources to Novartis and conduct the following activities under the Research Program and as more fully described in the Research Plan: *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -6- 7 (a) Between the Effective Date of this Agreement and the start of the Research Period, CombiChem shall review Hits proposed by Novartis and help select Initial Hits for the Research Program. (b) During the Research Period, CombiChem shall (i) review data and information regarding the Collaboration Hits provided by Novartis; (ii) based on such data and information and using the CombiChem Technology, design Collaboration Libraries; and (iii) supply lead chemistries and synthesize Collaboration Compounds as provided in Section 5.4 below. (c) During the Research Period, CombiChem shall keep Novartis informed of its activities performed in connection with the Collaboration, including, without limitation, providing Novartis with data and information (and, upon Novartis's request, reasonable quantities of samples pursuant to Section 5.4) regarding the status of all Collaboration Compounds prior to the meetings of the Research Management Committee. (d) Subject to Section 2.3, Article 3 and Section 8.2, and at all times during the Research Period, CombiChem shall dedicate, in separate laboratory facilities as to its chemistry efforts, one project team ("Project Team"), to conduct all of CombiChem's activities in connection with the Collaboration at a per annum rate of U.S. *** per FTE to be paid by Novartis. The initial Project Team shall consist of a minimum of *** CombiChem FTEs, unless the RMC determines otherwise. 2.2 Novartis Responsibilities. Novartis shall with Due Diligence provide the following resources to CombiChem and conduct the following activities under the Research Program as more fully described in the Research Plan: (a) Novartis shall provide CombiChem with funding for the Collaboration as set forth in Article 8, provide structural and biological data on Hit(s) and screening results for Collaboration Compounds to CombiChem with respect to the Collaboration necessary for CombiChem to perform its duties under this Agreement, and will assume scientific, financial and administrative responsibility for screening and biological support activities, compound development and regulatory filings in the Field under the terms set forth below. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -7- 8 (b) During the Research Period, Novartis shall provide CombiChem as quickly as possible, usually within *** days, test results for Collaboration Compounds from the assays related to the respective Collaboration Hit(s). (c) During the Exclusivity Period, Novartis shall screen all Collaboration Compounds for In Vivo Activity in the Field, shall quarterly report these screening results to CombiChem and shall further evaluate Active Compounds and endeavor to determine Development Compounds in the Field. (d) At any time during the Collaboration, Novartis may apply chemistry effort to any Collaboration Compound, including synthesis. (e) Following the *** of the Novartis Crop Protection Stage Plan through First Commercial Sale, Novartis shall provide CombiChem with an annual report summarizing Novartis's activities in developing Development Compounds. (f) During the Research Period and in connection with CombiChem providing the services in Section 2.1(c) above, Novartis shall send one (1) research chemist to conduct Novartis' activities at CombiChem's facilities under the Research Program. Novartis shall have sole responsibility for the expenses associated with its visiting chemist, including, without limitation, salary, travel, living and other associated expenses. CombiChem shall not charge any infrastructure costs for such chemist. 2.3 Conduct of Research Program. The Parties hereby agree that the Research Programs shall be carried out in accordance with the Research Plan, as amended from time to time. The Research Management Committee shall review the Research Plan on an ongoing basis and may make changes to the Research Plan so long as such changes are mutually agreed to by CombiChem and Novartis. 2.4 Third Party Licenses. Each Party shall be solely responsible for any Third Party license and license fees required to perform its obligations under this Agreement. 3. HITS 3.1 Initial Hits. Initial Hits shall consist of *** for each of the herbicide, fungicide and insecticide field (for a total of *** Initial Hits). *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -8- 9 4. EXCLUSIVITY 4.1 Collaboration Hit Exclusivity. Prior to designating a Collaboration Hit(s) for an active Research Program under Article 3, and thereafter so long as Novartis or its Affiliates are proceeding with Due Diligence for that Hit(s), CombiChem shall not knowingly work on or knowingly provide information regarding a Collaboration Hit(s) with or to any Third Parties, except (a) as provided for in Section 12.2 with regard to any Public Statements, and (b) with respect to any Third Parties who are collaborators or proposed collaborators of CombiChem, CombiChem shall have the right, consistent with its corporate policy (but without identifying any Collaboration Hit(s)), to notify any such Third Party of its decision and/or inability to work on such Hit(s) with that Third Party. In the event that Novartis or its Affiliates have not transferred or assigned control of its program for that Hit(s) to a Third Party under due diligence obligations no less stringent than those set forth herein and have failed to exercise Due Diligence with respect to, or notifies CombiChem in writing that it has abandoned work on, any Collaboration Hit(s) (an "Abandoned Hit") and any Collaboration Compound associated with such Abandoned Hit (together with all Derivatives of such Collaboration Compound, an "Abandoned Compound"), then such Abandoned Hit and/or Abandoned Compound shall be available to CombiChem (excluding any Novartis Compounds and Novartis Technology) and to Novartis for any purpose thereafter. 4.2 Active Compounds. (a) Following the designation of any Collaboration Compound as an Active Compound, such Active Compound shall be exclusively available to Novartis for research and development in the Field, and CombiChem shall not knowingly work on or knowingly provide information regarding such Active Compound to any Third Party, except to reject and take any steps necessary to protect Novartis's exclusivity hereunder. (b) Following the expiration of the Exclusivity Period, Active Compounds upon which a Patent has not been filed within ninety (90) days following the Exclusivity Period shall be deemed to be "Inactive Compounds" for all purposes hereunder; provided, that any Active Compound which is the subject of claim(s) under at least one pending Patent in the Territory shall continue to be treated as Active Compounds until a Patent is issued with respect to one or more of such claims; or until all of such Patent claims have been denied, at which time the compounds which are the subject of those claims shall be Inactive Compounds hereunder. 4.3 Inactive and Returned Compounds. Any Inactive Compounds, Abandoned Compounds and Returned Compounds shall be available to CombiChem (except for any pre-existing Novartis Compound) and Novartis for any purpose following the designation of a Collaboration Compound as an Inactive Compound or Returned Compound. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -9- 10 4.4 Duration of Exclusivity for Collaboration Hits. Notwithstanding any other provision of this Agreement, it is understood and agreed that once a Research Program has been initiated, CombiChem's obligations under Section 4.1 shall continue until Novartis has (a) released CombiChem from the effect of this Section 4.4 by written notice from Novartis, or (b) failed to exercise Due Diligence with respect to Active Compounds resulting from the optimization of Collaboration Hit(s). 5. COLLABORATION COMPOUNDS 5.1 Pre-Existing Compounds. Neither Party shall have any rights to any pre-existing compound of the other Party unless and until such compound is designated as a Collaboration Compound by such Party. Additionally, CombiChem may decline (after informing Novartis) to synthesize a particular compound or library of compounds by reason of existing patents or contractual obligations. 5.2 Intellectual Property Rights; License to Novartis. Subject to Section 9.2, and except as set forth in this Section 5.2, Novartis shall own and have exclusive rights in all Patents and intellectual property (whether or not patentable) relating to Active Compounds and the subject matter contained therein and resulting from the Research Program during the Exclusivity Period and thereafter. Notwithstanding the foregoing, Novartis acknowledges and agrees that CombiChem reserves the right to assign or grant exclusive rights to any compound to a Third Party who completes an act of invention with regard to such compound to the extent CombiChem is obligated to do so under CombiChem's existing contractual obligations and further provided that CombiChem has timely (but in any event within thirty (30) days after notification from Novartis that such compound shows In Vivo Activity) notified Novartis in writing of such assignment or grant and its designation as an unavailable compound. Novartis shall be responsible for filing, maintaining and prosecuting all Patents relating to Active Compounds at its sole expense. CombiChem shall assign to Novartis or its designee all intellectual property rights it may have in the Active Compounds and the subject matter claimed therein which are necessary for the development and commercialization by Novartis or its designee. CombiChem shall use reasonable efforts to supply Novartis with the information necessary for the filing, prosecution, defense and enforcement of Patents. If Novartis fails to so file, maintain or prosecute such Patent, CombiChem shall have the right to request Novartis to do so. If Novartis elects not to file, maintain, or prosecute such Patent, on a country-by-country basis, CombiChem shall have the right to take over such filing, maintenance or prosecution of Patent for which it has previously assigned rights to Novartis, at its sole expense. Novartis shall have the right to control any actions taken to enforce Patents which it has elected to file, maintain and prosecute including such patents owned by CombiChem (that is, patents that CombiChem has taken over from Novartis on a country-by-country basis) under this clause 5.2. Litigation *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -10- 11 costs for such patents shall be borne by Novartis. CombiChem shall use reasonable efforts to support such actions as necessary. Novartis shall reimburse CombiChem's out-of-pocket expenses for its support in such litigation. After final judgement of such proceedings, Novartis shall have the right to first recover its out-of-pocket costs. Any additional awards shall be with Novartis for Patents owned by Novartis and with CombiChem for Patents owned by CombiChem. In cases where Novartis prosecutes Patents and such Patents lapse without first being offered to CombiChem according to this clause, or where Novartis prosecutes Patents assigned to CombiChem lapse due to Novartis' fault, Novartis shall only be liable for the maximum sum of past patent costs billed to CombiChem. In such case, Novartis' royalty obligations under clause 8.4 shall continue until the maximum expiration date of the Patent in question. 5.3 Structural Information. Neither Party shall disclose the structure of any Active Compound to any Third Party without the other Party's written permission, unless required to do so by law, in which case such Party shall promptly notify the other Party of such required disclosure. If a subpoena or other legal process concerning the same is served upon either Party, the other Party shall cooperate with the Party served in any effort to contest the validity of such subpoena or other legal process. 5.4 Supply of Collaboration Compounds. Aliquots of *** of any Collaboration Compound that has been synthesized will be prepared and given to Novartis together with the structural formula. CombiChem shall maintain aliquots of any Collaboration Compound that has been synthesized by CombiChem. CombiChem shall also provide Novartis with additional requirements of samples of up to *** at CombiChem's expense, It will be Novartis' responsibility to synthesize quantities greater than *** . Under such circumstances, CombiChem will provide Novartis with synthesis procedures for such compounds. In the event that frequency of additional requirements up to *** becomes burdensome to the Research Program, the RMC shall meet and confer as to the appropriate research allocation by Novartis and CombiChem. 6. RESEARCH MANAGEMENT COMMITTEE The design, review and conduct of the Research Program will be coordinated by the Research Management Committee, which will meet regularly on a mutually-agreeable schedule. Each Party shall bear its own expenses related to such meetings. The Research Management Committee may establish and amend or revise the Research Plan as reasonable and necessary to reflect the scientific progress and work performed under the Research Program, such amendments to be mutually agreed to in writing by Novartis and CombiChem. The Research Management Committee will consist of an equal number of members from Novartis *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -11- 12 and CombiChem and will include appropriate representatives from Novartis and CombiChem as mutually agreed. The co-chairs of the Research Management Committee will initially be the Vice President, Chemistry of CombiChem and the Head of Discovery Technologies and Natural Products of Novartis and subsequently may change as each Party determines for its co-chair. Decisions of the Research Management Committee shall be by consensus. If a decision is not reached by the RMC with respect to management of the Research Program, the dispute will be referred to the co-chairs of the RMC. If the co-chairs of the RMC are unable to resolve the dispute, the dispute will be referred to the Chief Executive Officer of CombiChem and the Head of R&D Crop Protection of Novartis for resolution. If those officers are unable to resolve the dispute, after good faith discussions, the dispute shall be resolved as determined per Section 15.2. 7. RESEARCH PERIOD; TERMINATION OF RESEARCH PROGRAM 7.1 Research Period: Option to Extend the Research Period. The initial term of the Collaboration shall be the Research Period, subject to extension upon mutual agreement. To extend the Research Period, Novartis must notify CombiChem no later than ninety (90) days prior to the then-current expiration date and the Parties shall negotiate in good faith the terms and conditions of any such extension. 7.2 Termination of Research Program Upon Breach. The Research Program and/or this Agreement may be terminated by a Party for the material breach by the other Party as provided by Section 10.2. 8. CONSIDERATION 8.1 Project Initiation Fee. As of the Effective Date, Novartis agrees to pay CombiChem a non-refundable, noncontingent project initiation fee of U.S. *** in cash to initiate the Research Program for the Initial Targets, which shall be payable within thirty (30) calendar days following the Effective Date. 8.2 Program Funding. (a) Research Support for Project Team. At all times during the Research Period, Novartis shall make payments to CombiChem for direct research support for its Project Team, which shall consist of a minimum of *** FTEs of CombiChem, unless the RMC determines otherwise. The total amount payable per FTE shall be U.S. *** per CombiChem FTE per annum. All payments for research support shall be paid by Novartis to CombiChem, quarterly in advance, and adjusted as necessary in subsequent quarters, of such amounts as are equal to the product of (i) the number of CombiChem FTEs (a minimum of *** FTEs at all *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -12- 13 times unless the RMC determines otherwise) allocated to the Research Program by the RMC for the calendar quarter to which each such payment applies, multiplied by (ii) U.S. *** (i.e., the quarterly amount per Combichem FTE on the basis of U.S. *** per annum). (b) Expansion of Project Team. Novartis may request that CombiChem expand its Project Team during the Research Period in order to accelerate work on Collaboration Targets. In such event, the RMC shall promptly confer as to the appropriate number of FTEs to be added to the Project Team, at a cost to Novartis of U.S. *** per CombiChem FTE. 8.3 Milestone Payments. Within thirty (30) days of the occurrence of a development milestone triggered by the activities of Novartis or its Affiliates as shown on Appendix A, Novartis shall pay CombiChem the related milestone payment in U.S. dollars as set forth on Appendix A. Such payments shall apply to any milestone reached by a Development Compound resulting from this Collaboration. 8.4 Royalties. Subject to Sections 8.5, 8.6 and 8.7 hereof and during the Royalty Term: (a) Novartis will pay CombiChem a running royalty of (i) *** of Net Sales of Products containing Collaboration Compounds as its sole active ingredient sold in any country of the world by Novartis or its Affiliates and (ii) *** on any Net Sales of Products containing Derivatized Compounds as its sole active ingredient sold in any country of the world by Novartis or its Affiliates. (b) Royalties shall be paid to CombiChem in U.S. Dollars. Each royalty payment by Novartis shall be accompanied by a report stating total Net Sales (stated on a per Development Compound basis) in Swiss Francs. (c) For each Combination Product(s), CombiChem and Novartis shall agree in writing on the payment to CombiChem of a running royalty on Net Sales of each such Combination Product based upon a formula which (i) provides for a proportionate fraction of a *** royalty for each Combination Product containing Collaboration Compound(s) as an active ingredient in combination with other compounds as active ingredient(s) which do not result from the Research Program, and (ii) provides for a proportionate fraction of a *** royalty for each Combination Product containing Derivatized Compound(s) as an active ingredient in combination with other compounds as active ingredient(s) which do not result from the Research Program. Such formulas shall take into account the relative commercial value and functional contribution of the respective Collaboration Compounds and/or Derivatized Compounds vis a vis other compounds which are active ingredients in each such Combination Product. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -13- 14 8.5 Manner and Place of Payment. The Royalty payments and reports described in Section 8.4 hereof shall be calculated in Swiss Francs and reported to CombiChem twice each year. The royalty payments shall be converted in U.S. Dollars on the last day for the respective period of reporting based on the applicable exchange rate of the stock exchange in Zurich, Switzerland. All royalty payments due under this Agreement shall be made by wire transfer to the bank account to be designated by CombiChem within sixty (60) days following the end of each such biannual calendar period. 8.6 Records and Audit. During the term of this Agreement and for a period of three (3) years thereafter, Novartis shall keep complete and accurate records pertaining to the sale or other disposition of Products and Combination Products in sufficient detail to permit CombiChem to confirm the accuracy of all payments due hereunder. CombiChem shall have the right to cause an independent certified public accounting firm reasonably acceptable to Novartis to audit such records to confirm Net Sales of Products and Combination Products for the preceding year. Any information obtained during such audit shall be treated as Confidential Information. Such audits may be exercised after reasonable notice during normal business hours of Novartis no more than once each year. CombiChem shall bear the full cost of such audit unless such audit discloses a deficiency of more than *** from the amount of the Net Sales reported by Novartis for such audited period. In such case, Novartis shall bear the reasonable cost of such audit. 8.7 Taxes. All income and other taxes levied on account of the royalties and other payments accruing to CombiChem under this Agreement shall be paid by CombiChem, including taxes levied thereon as income to CombiChem. If provision is made in law or regulation for withholding, such tax shall be deducted from the royalty or other payment made by Novartis to the proper taxing authority and a receipt of payment of the tax secured and promptly delivered to CombiChem. Each Party agrees to assist the other Party reasonably in claiming exemption from such deductions or withholdings under any double taxation or similar agreement or treaty from time to time in force. 9. LICENSE GRANTS; OUTLICENSE 9.1 CombiChem License Grant to Novartis. Subject to the terms and conditions of this Agreement, CombiChem hereby grants to Novartis an exclusive, royalty-free, worldwide license, with the right to sublicense to use such CombiChem Technology as is necessary to make, have made, use, have used, sell, have sold, import and export Collaboration Compounds or Products in the Territory. Such license shall remain exclusive (including as to CombiChem) in relation to the Active Compound, Development Compound and/or Product so *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -14- 15 long as Novartis or its licensee continues to develop and commercialize such Active Compound, Development Compound and/or Product against a Collaboration Target with Due Diligence. 9.2 Novartis License Grant to CombiChem. Subject to Article 4 and following the failure of Novartis or its licensee to develop and commercialize with Due Diligence an Active Compound, a Development Compound or Product, as the case may be (collectively "Returned Compounds"), Novartis shall grant to CombiChem a non-exclusive, royalty-free license, with the right to sublicense, under those Novartis Patents and know-how which are resulting from the Research Program and related exclusively to the Returned Compound, to make, have made, use, have used, sell, have sold, import and export such Returned Compound in the Territory. 9.3 Novartis Outlicense. Novartis shall have the right to transfer, assign or outlicense to a Third Party the Products or Patents covering the Products, subject to CombiChem's right to receive all royalties and milestones as provided in Sections 8.4 and 8.5. All Payments shall be made to CombiChem by wire transfer to such bank account designated by CombiChem within five (5) business days after receipt by Novartis or its Affiliates of such Payments from the Third Party. As an express condition of any such transfer, assignment or outlicense, any such Third Party shall be required to agree in writing (a) to be bound by due diligence, royalty reporting and recordkeeping and inspection provisions no less stringent than those contained in this Agreement and (b) to allow CombiChem to institute or join legal actions against any Third Party who fails to satisfy any obligations provided pursuant to this Section 9.3. Novartis shall remain responsible to CombiChem for all milestone and royalty payments due CombiChem pursuant to this Agreement and actually received by Novartis from a Third Party. In addition, CombiChem shall have the right to receive all audit reports relating to sales of Products of a Third Party, and to cause Novartis or a Third Party to have an independent certified public accounting firm (reasonably acceptable to Novartis) audit such Third Party's records on the same terms as those specified in Section 8.6. 9.4 Rights to Inactive Compounds. Except for any Novartis Compounds (which remain proprietary to Novartis), each of Novartis and, subject to Novartis's Patent rights, CombiChem shall have rights to make, have made, use, have used, sell, have sold, import and export Inactive Compounds or products containing Inactive Compounds. Specifically, each party shall be free to screen Inactive Compounds against any target other than the Collaboration Target. In the event that either Novartis or CombiChem shall develop, market and/or sell, or enter into a binding agreement with a Third Party to develop, market and/or sell, any product containing the Inactive Compound as an active ingredient, then the other Party hereto shall not be entitled to any payments, milestones, royalties, fees or compensation of any kind. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -15- 16 10. TERM AND TERMINATION OF THE AGREEMENT 10.1 Term. The term of this Agreement shall commence upon the Effective Date of this Agreement, and unless earlier terminated as provided in this Agreement, shall expire on August 31, 2000. 10.2 Termination by Novartis or CombiChem. If either Party materially breaches this Agreement and fails to remedy that breach within ninety (90) days of receiving written notice thereof from the other Party, or enters into any arrangement of composition with its creditors or goes into liquidation, insolvency, bankruptcy, receivership or reorganization proceedings, whether voluntarily or compulsorily which is not dismissed within ninety (90) days, then the other Party may at any time, by notice in writing or by telefax, terminate this Agreement. Within ninety (90) days following termination for any Research Program and/or research related to any Collaboration Hit(s) under this Agreement, the RMC shall prepare a detailed, final written report to each Party, and CombiChem shall provide any remaining supply of compounds in synthesis to date to Novartis, for each Collaboration Hit(s) or Research Program being terminated. 10.3 After Termination. Any termination of this Agreement or the Research Program shall be without prejudice to the accrued rights of either party prior to the termination. In case of termination of this Agreement or the Research Program pursuant to Section 10.2 above, all milestone and royalty payments, license rights and confidentiality obligations set forth in Sections 8.3 and 8.4 and Articles 9, 11 and 12 shall survive any such termination. 10.4 Effect of Termination on Licensees. In the event of any termination of this Agreement pursuant to this Article 10 where such termination shall not have been caused by the action or inaction on the part of any respective licensee of Novartis or CombiChem, or by any breach by such licensee of its obligations under its license from Novartis or CombiChem, as appropriate, such termination of this Agreement shall be without prejudice to the rights of each non-breaching licensee and such licensee shall be deemed to be a direct licensee hereunder. 11. CONFIDENTIAL INFORMATION 11.1 Nondisclosure. During the term of this Agreement and for a period of five (5) years after termination thereof, each Party will maintain all Confidential Information in trust and confidence and will not disclose any Confidential Information to any third party or use any Confidential Information for any purpose except (i) as expressly authorized by this Agreement, (ii) as required by law or court order, after as much advance notice as is practical to the other Party, (iii) to its consultants, subcontractors or agents who need to know to accomplish the purposes of this Agreement and who are bound by equivalent written confidentiality obligations. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -16- 17 Each Party may use the other Party's Confidential Information only to the extent required to accomplish the purposes of this Agreement. Each Party will use at least the same standard of care as it uses to protect proprietary or confidential information of its own to ensure that its Affiliates, employees, agents, consultants and other representatives do not disclose or make any unauthorized use of the Confidential Information. Each Party will promptly notify the other upon discovery of any unauthorized use or disclosure of the Confidential Information. 11.2 Exceptions. Confidential Information shall not include any information which the receiving Party can prove by competent evidence: (a) is now, or hereafter becomes, through no act or failure to act on the part of the receiving Party, generally known or available; (b) is known by the receiving Party at the time of receiving such information, as evidenced by its records; (c) is hereafter disclosed to the receiving Party by a Third Party, as a matter of right and without restriction on disclosure; (d) is independently developed by the receiving Party without the aid, application or use of Confidential Information; or (e) is the subject of a written permission to disclose provided by the disclosing Party. 12. PUBLICATIONS AND PUBLIC STATEMENTS 12.1 Publications. Without affecting obligations under Article 11 above, neither Party shall publish any information with respect to Collaboration Compounds during the Exclusivity Period without the prior written permission of the other Party. Such permission shall be approved or disapproved within thirty (30) days of written request for permission unless the other Party requests additional time (not to exceed ninety (90) days) for the purpose of protecting its intellectual property position. Such permission shall not be unreasonably withheld. The Party proposing to publish such information shall give the other Party ninety (90) days prior written notice and an opportunity to review such manuscript in order to determine the patentability of the information contained therein. 12.2 Public Statements, Press Releases. Neither Party shall use the name of the other Party in any public statement, prospectus, annual report or other public communication (collectively "Public Statements") without the prior written approval of the other Party, which may not be unreasonably withheld or delayed; provided, however, that both Parties shall endeavor in good faith to give the other Party a minimum of twenty (20) business days to review such Public Statements; provided, further, that, upon approval of any such Public Statement, both Parties may disclose to Third Parties the information contained in such Public Statement without the further approval of the other. Neither Party shall use the name of the other Party in any press release without the prior written approval of the other Party, which may not be unreasonably withheld or delayed. With respect to any draft press release provided by CombiChem to Novartis twenty (20) business days prior to the appropriate and authoritative *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -17- 18 management meeting of Novartis, Novartis shall endeavor in good faith to review such press release within five (5) business days following such management meeting. Notwithstanding the foregoing, if a Party does not approve any Public Statement or press release, the other Party may still use the name of the non-consenting Party in any Public Statement or press release without the prior written approval of such non-consenting Party, if the Party issuing such Public Statement or press release is advised by counsel that such disclosure is required to comply with applicable securities laws. 13. INDEMNIFICATION 13.1 EACH PARTY HEREBY AGREES TO SAVE, DEFEND AND HOLD THE OTHER PARTY AND ITS OFFICERS, DIRECTORS, EMPLOYEES, CONSULTANTS AND AGENTS HARMLESS FROM AND AGAINST ANY AND ALL SUITS, CLAIMS, ACTIONS, DEMANDS, LIABILITIES, EXPENSES AND LOSSES, INCLUDING REASONABLE LEGAL EXPENSES AND ATTORNEYS' FEES ("LOSSES") RESULTING DIRECTLY OR INDIRECTLY FROM THE INDEMNIFYING PARTY'S ACTS OR OMISSIONS IN CONNECTION WITH THE MANUFACTURE, DEVELOPMENT, USE, HANDLING, STORAGE, SALE OR OTHER DISPOSITION OF CHEMICAL AGENTS, COLLABORATION COMPOUNDS, ACTIVE COMPOUNDS, DEVELOPMENT COMPOUNDS OR PRODUCTS BY SUCH PARTY, ITS AFFILIATES OR LICENSEES except to the extent such Losses result from the negligence, breach of this Agreement or willful misconduct of the Party claiming a right of indemnification under this Article 13. 13.2 Infringement (a) Subject to Section 13.2(c) below, Novartis shall hold CombiChem and its officers, directors, employees, consultants, and agents harmless from and against any and all losses resulting from the infringement of any Third Party's Patent issued as of the Effective Date due to the performance by Novartis or its Affiliates of any activity contemplated hereunder, including, but not necessarily limited to, Novartis's responsibilities under Section 2.2 above, developing Products, and selling Products. (b) Subject to Section 13.2(c) below, CombiChem shall hold Novartis and its officers, directors, employees, consultants, and agents harmless from and against any and all losses resulting from the infringement of any Third Party's Patent issued as of the Effective Date due to the performance by CombiChem of any activity contemplated hereunder, including, but not necessarily limited to, CombiChem's responsibilities under Section 2.1 above. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -18- 19 (c) The indemnity provided in Sections 13.2(a) and 13.2(b) above shall not apply where the loss is due to the breach by the indemnified Party of a warranty made in Article 19. 13.3 Procedures. If either Party (the "Indemnified Party") seeks indemnification under this Article 13, it shall inform the other Party (the "Indemnifying Party") of a claim as soon as reasonably practicable after it receives notice of the claim, shall permit the Indemnifying Party to assume direction and control of the defense of the claim (including the right to settle any claim brought against the Indemnified Party upon prior written consent, which shall not be unreasonably withheld), and shall give reasonable cooperation (at the expense of the Indemnifying Party) in the defense of such claim. 14. ASSIGNABILITY This Agreement may not be assigned by either Party without the prior written consent of the other Party, not to be unreasonably withheld; provided, however, that either Party may assign this Agreement, in whole or in part, to an Affiliate or to a successor of a Party in connection with the merger, consolidation or sale of all or substantially all of such Party's assets or that portion of its business pertaining to the subject matter of this Agreement (and upon doing so will promptly notify the other Party in writing). 15. DISPUTE RESOLUTION PROCEDURES 15.1 Senior Executives Discussions. If a decision on a matter regarding the management of the Research Program as provided herein is not reached by the RMC, the dispute will be resolved as set forth in Article 6 above. If a dispute arises between CombiChem and Novartis with respect to matters other than the management of the Research Program, either during or after the Research Period, such dispute will be referred to the appropriate senior management in the area of the dispute. If such senior management are unable to resolve such dispute, such dispute will be referred to the Head of R&D Crop Protection of Novartis and the Chief Executive Officer of CombiChem. If such officers are unable to reach an agreement within thirty (30) days following the initiation of discussions between them, such dispute shall be settled by arbitration as described in Section 15.2 below. 15.2 Binding Arbitration. If the parties have not been able to resolve the dispute as provided in Section 15.1 above, the dispute shall be finally settled by binding arbitration. Any arbitration hereunder shall be conducted under the rules of the American Arbitration Association. If arbitration is demanded by Novartis, such arbitration shall take place in the City of Wilmington, Delaware, and if demanded by CombiChem, it shall take place in the City of New York, New York. The arbitration shall be conducted before three arbitrators chosen *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -19- 20 according to the following procedure: each of the parties shall appoint one arbitrator and the two so nominated shall choose the third. If the arbitrators chosen by the parties cannot agree on the choice of the third arbitrator within a period of thirty (30) days after their appointment, then the third arbitrator shall be appointed by the Court of Arbitration of the American Arbitration Association. The arbitrators shall have the authority to grant specific performance, and to allocate between the parties the costs of arbitration in such equitable manner as they determine. The arbitral award (i) shall be final and binding upon the parties; and (ii) may be entered for enforcement of decision in any court of competent jurisdiction. 15.3 Injunctive Relief. Nothing contained in this Article 15 or any other provisions of this Agreement shall be construed to limit or preclude a Party from bringing any action in any court of competent jurisdiction for injunctive or other provisional relief to compel the other Party to comply with its obligations hereunder before or during the pendency of arbitration proceedings. 16. NOTICES Any notice required or permitted to be given hereunder shall be deemed sufficient if sent by facsimile letter or overnight courier, or delivered by hand to Novartis or CombiChem at the respective addresses and facsimile numbers as set forth below or at such other address and facsimile number as either Party hereto may designate. If sent by facsimile letter, notice shall be deemed given only when an original has been received by either Party. If a confirmed transmission report does not exist, then the notice will be deemed given when the notice is actually received by the person to whom it is sent. If delivered by overnight courier, notice shall be deemed given when it has been signed for. If delivered by hand, notice shall be deemed given when received. if to CombiChem, to: CombiChem, Inc. 9050 Camino Santa Fe San Diego, California 92121 Attention: President Fax number: (619) 530-9998 with a copy to: Brobeck, Phleger & Harrison LLP 550 South Hope Street, 21st Floor Los Angeles, California 90071 Attention: Laurie A. Allen, Esq. Fax number: (213) 239-1324 *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -20- 21 if to Novartis to: Novartis Crop Protection AG CH-4002, Basel Switzerland Attention: Head of Research and Development Fax number: 011-41-61-6978457 with a copy to: Legal Department Crop Protection Novartis Crop Protection AG CH-4002, Basel Switzerland Attention: Head of Legal Department Fax number: 011-41-61-6972665 17. SURVIVAL The provisions of Sections 2.4, 5.1, 5.2, 5.3, 10.3, 10.4 and Articles 4, 8, 9, 11, 12, 13, 15, and this Article 17 shall survive termination of this Agreement in addition to those provisions which by their terms survive. 18. ADDITIONAL TERMS 18.1 Entire Agreement. This Agreement constitutes the entire understanding between the Parties with respect to the subject matter hereto and supersedes and replaces all previous negotiations, understandings, representations, writings and contract provisions and rights relating hereof. 18.2 Amendment; No Waiver. No provision of this Agreement may be amended, revoked or waived except by a writing signed and delivered by an authorized officer of each Party. Any waiver on the part of either Party of any breach or any right or interest hereunder shall not imply the waiver of any subsequent breach or waiver of any other right or interest. 18.3 Validity. The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement, each of which shall remain in full force and effect. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -21- 22 18.4 Headings. The descriptive headings are inserted for convenience of reference only and are not intended to be part of or to affect the meaning of or interpretation of this Agreement. 18.5 Counterparts. This Agreement may be executed in one or more counterparts, each of which shall be deemed an original, and all of which together shall be deemed to be one and the same instrument. 18.6 Governing Law. This Agreement shall be governed by and construed and enforced in accordance with the laws of the State of New York, without regard to conflicts of laws principles. 18.7 Further Assurances. At any time and from time to time after the Effective Date, the Parties shall each do, execute, acknowledge and deliver, and cause to be done, executed, acknowledged or delivered, all such further acts, transfers, conveyances, or assignments as may be reasonably required to carry out the transactions contemplated by this Agreement 19. REPRESENTATIONS AND WARRANTIES 19.1 Authorization. All action on the part of each of CombiChem, Novartis and their respective officers, and directors necessary for the authorization, execution and delivery of this Agreement and the performance of all obligations of CombiChem and Novartis, respectively, hereunder has been taken. 19.2 Rights to Intellectual Property. Each Party warrants that it has the power to grant all of the rights granted and make such required assignments, and to assume all of the obligations required, under this Agreement. Under no circumstances does CombiChem warrant to Novartis that its rights in any Active Compound, Development Compound or Products are exclusive to the extent such Active Compound, Development Compound or Products may be covered under the patent claims of Third Parties wherein such claims are not the direct result of a collaboration between the Third Party and CombiChem. *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -22- 23 IN WITNESS WHEREOF, the parties have executed this Agreement to be effective as of the Effective Date. COMBICHEM, INC. NOVARTIS CROP PROTECTION AG By: [SIG] By: [SIG] [SIG] ------------------------- ----------------------------------- Head R&D Its: President & CEO Its: Crop Protection Legal Counsel ------------------------- ----------------------------------- 24 Appendix A Milestones and Payments(1) (in U.S. Dollars)
MILESTONES: MILESTONE PAYMENT(2) - ---------- ------------------- *** *** *** *** *** *** *** *** *** *** *** *** ---- Total ***
- ----------------- (1) Paid in U.S. Dollars (2) *** (3) *** (4) *** ROYALTIES: Collaboration Compounds *** Derivatized Compounds *** *** Portions of this page have been omitted pursuant to a request for Confidential Treatment and filed separately with the Commission. -24- EX-10.2 3 EXHIBIT 10.2 1 EXHIBIT 10.2 AMENDMENT NO. 1 TO PROMISSORY NOTE This Amendment No. 1 ("Amendment") to the Promissory Note dated September 5, 1995 in the principal amount of $150,000 made by Peter Myers in favor of CombiChem, Inc., as amended (the "Note") is made as of this 15th day of June 1998. Capitalized terms used herein which are not defined herein shall have the definition ascribed to them in the Note. RECITALS WHEREAS, the Note is due and payable upon the expiration of the 180-day period following the date on which Payee completes a successful initial public offering of shares of its common stock; WHEREAS, Payee completed a successful initial public offering of shares of its common stock on May 13, 1998 and the Note is therefore due on November 9, 1998; and WHEREAS, Payee has decided to extend the due date of the balance due under the Note, and all accrued interest thereto, until April 31, 2000. In consideration of the foregoing and the promises and covenants contained herein and other good and valuable consideration the receipt of which is hereby acknowledged, the parties hereto agree as follows: 1. AMENDMENT TO THE NOTE. a. The third paragraph of the Note shall be amended in its entirety to read as follows: "The outstanding principal balance of this Promissory Note and all unpaid interest accrued hereunder shall be due and payable no later than the "Maturity Date." The Maturity Date shall be the earlier to occur of: (a) April 31, 2000; (b) the expiration of the 30-day period following the date the Maker ceases for any reason to remain in the employment on a regular and full-time basis by CombiChem, Inc., a Delaware corporation ("Corporation"); (c) the date on which Corporation completes the consummation of any corporate transaction in which (i) more than fifty percent (50%) of the outstanding shares of the common stock of Holder are acquired by a single purchaser or by a group of purchasers acting in concert; (ii) all or substantially all of the assets of Holder are acquired by a single purchaser or a group of purchasers acting in concert; (d) that date on which Corporation merges with or into another organization; or (e) the expiration of the 10-day period following the date on which Maker sells, transfers, or suffers or permits the sale or transfer of Maker's real property located at 3 Los Altos Road, Orinda, California (the "Real Property"). Maker hereby covenants that Maker shall provide Holder with written notice of any sale or transfer of the Real Property at least ten (10) days prior to the date Maker transfers title to the Real Property. Upon payment in full of all principal and accrued interest payable hereunder, this Promissory Note shall be surrendered to Maker for cancellation." -1- 2 2. EFFECT OF AMENDMENT. Except as amended and as set forth above, the Note shall continue in full force and effect, as previously amended. 3. COUNTERPARTS. This Amendment may be executed in any number of counterparts, each which will be deemed an original, and all of which together shall constitute one instrument. 4. SEVERABILITY. If one or more provisions of this Amendment are held to be unenforceable under applicable law, such provision shall be excluded from this Amendment and the balance of the Amendment shall be interpreted as if such provision were so excluded and shall be enforceable in accordance with its terms. 5. ENTIRE AGREEMENT. This Amendment, together with the Note, as amended, constitutes the full and entire understanding and agreement between the parties with regard to the subjects hereof and thereof. 6. GOVERNING LAW. This Amendment shall be governed by and construed under the laws of the State of California as applied to agreements among California residents entered into and to be performed entirely within California. [REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK] -2- 3 This Amendment is hereby executed as of the date first above written. COMBICHEM, INC., a California corporation By: /s/ KARIN EASTHAM -------------------------------------- Karin Eastham, Chief Financial Officer /s/ PETER MYERS -------------------------------------- Peter Myers [SIGNATURE PAGE TO AMENDMENT NO. 1 TO PROMISSORY NOTE] EX-27.1 4 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONDENSED FINANCIAL STATEMENTS AS OF AND FOR THE SIX MONTHS ENDED JUNE 30, 1998 (UNAUDITED) AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FORM 10-Q FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998. 6-MOS DEC-31-1997 JAN-01-1998 JUN-30-1998 31,004 0 1,262 0 0 33,189 9,438 2,017 41,201 6,087 0 0 0 13 31,459 41,201 0 7,005 0 8,974 0 0 (257) (1,731) 0 (1,731) 0 0 0 (1,731) (0.16) (0.16)
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