-----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, CvEev7mX8RIR/GkB/ZnFWV+yW+gBXMLg3mZG3LRcec9pOhQNq5xJ+MYMmB1iLR10 j162QnL23kKYj4fd8wYX/Q== 0000890566-99-001176.txt : 19990817 0000890566-99-001176.hdr.sgml : 19990817 ACCESSION NUMBER: 0000890566-99-001176 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990816 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MEDICAL SCIENCE SYSTEMS INC CENTRAL INDEX KEY: 0001037649 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MEDICAL LABORATORIES [8071] IRS NUMBER: 943123681 STATE OF INCORPORATION: TX FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10QSB SEC ACT: SEC FILE NUMBER: 000-23413 FILM NUMBER: 99692255 BUSINESS ADDRESS: STREET 1: 100 NE LOOP 410 STREET 2: STE 820 CITY: SAN ANTONIO STATE: TX ZIP: 78216-4749 BUSINESS PHONE: 2103496400 MAIL ADDRESS: STREET 1: 100 NE LOOP 410 STREET 2: STE 820 CITY: SAN ANTONIO STATE: TX ZIP: 78216 10QSB 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 For the quarterly period ended: JUNE 30, 1999 Commission File Number: 333-37441 MEDICAL SCIENCE SYSTEMS, INC. (Name of Small Business Issuer in its Charter) TEXAS 94-3123681 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 100 N.E. LOOP 410, SUITE 820 SAN ANTONIO, TX 78216 (Address of principal executive offices)(Zip Code) Issuer's Telephone Number: (210) 349-6400 Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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. YES (X) NO ( ) Title of Each Class Outstanding at Aug 10, 1999 --------------------- --------------------------- Common stock, no par value 5,558,835 Transitional Small Business Disclosure Format (check one): Yes [ ] No [X] ================================================================================ MEDICAL SCIENCE SYSTEMS, INC. Form 10-QSB INDEX PART I. FINANCIAL INFORMATION Item 1. Condensed Consolidated Balance Sheets (Unaudited) at June 30,1999 and December 31, 1998....................... 1 Condensed Consolidated Statements of Operations (Unaudited) for the three and six months ended June 30, 1999 and June 30, 1998................................... 2 Condensed Consolidated Statements of Cash Flows (Unaudited) for the six months ended June 30, 1999 and June 30, 1998........................................ 3 Notes to Condensed Consolidated (Unaudited) Financial Statements..................................... 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...................... 7 PART II. OTHER INFORMATION Item 1. Legal Proceedings.......................................... 17 Item 2. Changes in Securities and Use of Proceeds.................. 17 Item 3. Default Upon Senior Securities............................. 18 Item 4. Submission of Matters to a Vote of Security Holders........ 18 Item 5. Other Information.......................................... 18 Item 6. Exhibits and Reports on Form 8-K........................... 18 i PART I FINANCIAL INFORMATION MEDICAL SCIENCE SYSTEMS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, 1999 DECEMBER 31, 1998 -------------- ----------------- ASSETS Cash and cash equivalents ............................ $ 4,912,878 $ 2,432,271 Accounts receivable, net of reserves of $38,351 at June 30, 1999 and $20,959 at December 31, 1998 .. 84,975 125,086 Prepaid Expenses ..................................... 81,353 127,426 ------------ ------------ Total current assets ................................. 5,079,206 2,684,783 Furniture and equipment, net ......................... 363,720 458,107 Other Assets ......................................... 0 530,000 ------------ ------------ TOTAL ASSETS ......................................... $ 5,442,926 $ 3,672,890 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Accounts payable ..................................... $ 143,870 $ 278,773 Notes payable ........................................ 16,837 47,813 Accrued expenses ..................................... 438,826 433,859 Deferred income ...................................... 370,609 275,321 Current portion of long-term debt .................... 0 81,432 Current portion of capitalized lease obligations ..... 94,610 104,837 ------------ ------------ Total current liabilities ............................ 1,064,752 1,222,035 Long-term debt, net .................................. 0 447,856 Capitalized lease obligations, net ................... 119,606 156,651 ------------ ------------ Total liabilities .................................... 1,184,358 1,826,542 ------------ ------------ Preferred stock, no par value 5,000,000 shares authorized 2,200,000 issued and outstanding at June 30, 1999, none at December 31, 1998 ......................... 1,234,854 0 Common stock, no par value 10,000,000 shares authorized 5,558,835 shares issued and outstanding at June 30, 1999, 5,548,470 at December 31, 1998 .............. 20,244,111 16,719,933 Retained earnings (Accumulated deficit) .............. (17,220,397) (14,873,585) ------------ ------------ Total shareholders' equity ........................... 4,258,568 1,846,348 ------------ ------------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY ........... $ 5,442,926 $ 3,672,890 ============ ============
See accompanying notes to condensed consolidated financial statements. Page 1 MEDICAL SCIENCE SYSTEMS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, 1999 JUNE 30, 1998 JUNE 30, 1999 JUNE 30,1998 ------------- ------------- ------------- ------------ (Unaudited) (Unaudited) (Unaudited) (Unaudited) Sales .................................. $ 129,335 $ 102,616 $ 222,073 $ 161,510 Cost of sales .......................... 43,206 84,005 76,117 114,092 ----------- ----------- ----------- ----------- Gross profit ........................... 86,129 18,611 145,956 47,418 Expenses: Research & Development .......................... 545,819 349,810 1,100,944 866,732 Selling, General & Administrative ....................... 693,418 2,035,447 1,402,571 3,820,965 ----------- ----------- ----------- ----------- Total expenses ......................... 1,239,237 2,385,257 2,503,515 4,687,697 ----------- ----------- ----------- ----------- Loss from operations ................... (1,153,108) (2,366,646) (2,357,559) (4,640,279) Other income (expense): Interest income ........................ 26,744 106,691 44,336 252,340 Interest expense ....................... (17,966) (23,135) (40,547) (47,425) Other income ........................... 2,642 2,436 6,957 2,436 ----------- ----------- ----------- ----------- Total other ............................ 11,420 85,992 10,746 207,351 ----------- ----------- ----------- ----------- Loss before provision for income taxes ..................... (1,141,688) (2,280,654) (2,346,813) (4,432,928) Provision for taxes .................... 0 0 0 850 ----------- ----------- ----------- ----------- NET LOSS ............................... $(1,141,688) $(2,280,654) $(2,346,813) $(4,433,778) =========== =========== =========== =========== Reconciliation of net loss to net loss applicable to common stock: Net loss ............................. $(1,141,688) $(2,280,654) $(2,346,813) $(4,433,778) Amortization of the value of the bene- ficial conversion feature of the preferred stock ..................... (1,234,854) 0 (1,234,854) 0 ----------- ----------- ----------- ----------- Net loss applicable to common stock ...................... $(2,376,542) $(2,280,654) $(3,581,667) $(4,433,778) =========== =========== =========== =========== Basic and diluted loss per share ....................... (0.43) (0.41) (0.64) (0.80) =========== =========== =========== =========== Weighted average common shares outstanding ................... 5,558,668 5,540,895 5,553,569 5,540,895 =========== =========== =========== ===========
See accompanying notes to condensed consolidated financial statements. Page 2 MEDICAL SCIENCE SYSTEMS, INC. AND SUBSIDIARIES CONDENSED STATEMENT OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 1999 JUNE 30, 1998 ------------- ------------- (unaudited) (unaudited) CASH FLOW FROM OPERATING ACTIVITIES Net loss ............................................ $(2,346,813) $(4,433,778) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization .................. 99,562 71,907 Accretion of investments ....................... 0 (157,036) (Increase) decrease in Accounts receivable ............................ 40,111 (21,358) Inventories .................................... 0 5,156 Prepaid expenses ............................... 46,073 (110,635) Increase (decrease) in Accounts payable ............................... (134,903) (269,236) Accrued expenses ............................... 4,967 415,011 Deferred income ................................ 95,288 126,893 ----------- ----------- Net cash used in operating activities ............... (2,195,715) (4,373,076) ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES Purchases of furniture and equipment ................ (5,175) (318,361) Decreases (Increases) in patents .................... 0 (144,811) Maturity of investments ............................. 0 2,052,000 Decreases (Increases) in Other Assets ............... 530,000 0 ----------- ----------- Net cash provided by investing activities ........... 524,825 1,588,828 ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES Sale of common stock ................................ 10,613 0 Sale of preferred stock ............................. 5,000,000 0 Offering costs of preferred stock issuance .......... (251,580) 0 Proceeds from capitalized lease obligations ......... 0 79,454 Principal payments of notes payable ................. (30,976) 0 Retirement of long-term debt ........................ 0 (558,538) Proceeds from long-term borrowings .................. 0 570,000 Principal payments of long-term debt ................ (529,288) (73,762) Principal payments of capitalized lease obligations . (47,272) (30,966) ----------- ----------- Net cash provided by (used in) financing activities . 4,151,497 (13,812) ----------- ----------- Net increase (decrease) in cash and equivalents ..... 2,480,607 (2,798,060) Cash and equivalents, beginning of period ........... 2,432,271 6,005,059 ----------- ----------- CASH AND EQUIVALENTS, END OF PERIOD ................. $ 4,912,878 $ 3,206,999 =========== =========== Interest paid ....................................... $ 40,547 $ 24,290 Income taxes paid ................................... $ 0 $ 1,600 NON-CASH ITEMS Stock issued to placement agent ..................... $ 500,000 $ 0 Common Stock warrants issued to placement agent ..... $ 3,080,000 $ 0
See accompanying notes to condensed consolidated financial statements. Page 3 NOTE 1 - PRESENTATION OF INTERIM INFORMATION As contemplated by the Securities and Exchange Commission under Item 310(b) of Regulation S-B, the accompanying consolidated financial statements and footnotes have been condensed and therefore do not contain all disclosures required by generally accepted accounting principles. It is recommended that these interim consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Company's Annual Report on Form 10-KSB for the year ended December 31, 1998. The interim financial data are unaudited; however, in the opinion of the management of Medical Science Systems, Inc. and subsidiaries (the "Company"), the accompanying unaudited consolidated financial statements include all adjustments, consisting only of normal recurring adjustments, necessary to make the interim financial information not misleading. All significant intercompany transactions and accounts have been eliminated in consolidation. Results for interim periods are not necessarily indicative of those to be expected for the full year. Certain classifications have been made in prior period financial statements to conform with the current period presentation. The accompanying financial statements of the Company have been prepared on the basis of accounting principles applicable to a going concern. Since its inception, the Company has incurred cumulative net losses of approximately $17.2 million, including losses of approximately $1.1 million during the second quarter of 1999 and $2.3 million for the six months ended June 30, 1999. Additionally, for the six months ended June 30, 1999, the Company experienced negative cash flows from operating activities of approximately $2.2 million. As a result of these losses, available cash resources are limited. These matters raise substantial doubt about the Company's ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of these uncertainties. The ability of the Company to continue as a going concern is dependent upon the Company achieving significant revenue increases from their existing genetic products, developing new products, successfully marketing its products to customers at profitable prices and obtaining significant levels of new capital. If the Company is not successful in these efforts, the Company would likely be unable to continue operating as a going concern. As discussed in footnote 4, the Company issued $5 million of preferred stock during the second quarter, which generated approximately $4.7 million in net proceeds. Management is in discussions with a number of potential strategic partners and, if discussions are successfully completed, believes there should be up-front funding of some of the Company's development programs. There can be no assurance that any of the partnering discussions will be completed, or if such discussions are complete, that there will be up-front funding of the Company's programs. Management anticipates the current cash resources, absent additional capital or financings, will be sufficient to conduct its operations as planned through January 2001. Page 4 Commercial success of genetic susceptibility tests will depend upon their acceptance as medically useful and cost-effective by patients, physicians, dentists, other members of the medical and dental community, and third-party payers. It is uncertain whether current genetic susceptibility tests or others that the Company may develop will gain commercial acceptance on a timely basis. Research in the field of disease predisposing genes and genetic markers is intense and highly competitive. The Company has many competitors in the United States and abroad which have considerably greater financial, technical, marketing, and other resources available. If the Company does not discover disease predisposing genes or genetic markers and develop susceptibility tests and launch such services or products before their competitors, then revenues may be reduced or eliminated. The Company's ability to successfully commercialize genetic susceptibility tests depends on obtaining adequate reimbursement for such products and related treatment from government and private health care insurers and other third-party payers. Doctors' decisions to recommend genetic susceptibility tests will be influenced by the scope and reimbursement for such tests by third-party payers. If both third-party payers and individuals are unwilling to pay for the test, then the number of tests performed will significantly decrease, therefore resulting in a reduction of revenues. The Company has entered into an agreement with Sheffield University, whereby the Company will undertake the development and commercialization of certain discoveries resulting from Sheffield University's research. The agreement is non-cancelable for discoveries on which the parties have reached a specific agreement, but may be terminated with or without cause by either party upon six-months notice with respect to new discoveries on which the parties have not yet reached agreement. If Sheffield University terminated the agreement, such termination could make the discovery and commercial introduction of new products more difficult or unlikely. NOTE 2 - DISTRIBUTOR AGREEMENTS During the second quarter of 1999 the Company signed distribution agreements with two separate distributors. The Company received payments in connection with exclusive territorial rights which is included in deferred income net of direct expenses and will be amortized over the life of the contract. NOTE 3 - EARNINGS PER SHARE Statement of Financial Accounting Standards No. 128 (SFAS 128), "Earnings per Share," outlines methods for computing and presenting earnings per share. SFAS 128 requires a calculation of basic and diluted weighted average shares outstanding for all periods presented. As the company had losses for the three and six months ended June 30, 1999 and 1998, convertible preferred stock, options and warrants have been excluded as they are antidilutive in loss periods. Page 5 NOTE 4 - EQUITY During the quarter ended June 30, 1999, the Company granted stock options to the interim CEO and Chairman of the Board of Directors for the purchases of 240,000 shares. The options entitle the holder to purchase shares of the Company's common stock at $0.50 per share and expire ten years from the date of issuance. Pursuant to a Private Placement which occurred in June 1999, the Company issued 2,200,000 shares of its Series A Preferred Stock, no par value ("Series A Stock"), for $5 million. Each share of the Series A Stock is automatically converted into five shares of the Company's common stock at a conversion price of $0.50 per share upon the approval of the private placement by the Company's shareholders. The Company anticipates receiving such approval at the Annual Meeting of Shareholders on August 20, 1999. The Company filed a Registration Statement registering the resale of the shares of the common stock underlying the Series A Stock on July 23, 1999. The Company anticipates that it will request that the SEC declare the registration statement effective following approval of the private placement by the Company's shareholders. On the closing date of the private placement, the conversion price of the Series A Stock was less than the market price of the common stock. As a result, there was a beneficial conversion of approximately $5 million. The beneficial conversion was recorded as common stock and is being accreted to preferred stock ratably from the closing date of the preferred stock to the earliest conversion date, August 20, 1999. In conjunction with this offering, the placement agent received a warrant to purchase 1,000,000 shares of common stock at a price of $0.50 per share, and 200,000 shares of preferred stock. This warrant expires on June 16, 2004. NOTE 5 - SEGMENT INFORMATION During 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." SFAS No. 131 establishes new standards for reporting information about operating segments in annual and interim financial statements, requiring that public business enterprises report financial and descriptive information about its reportable segments based on a management approach. SFAS No. 131 also establishes standards for related disclosures about products and services, geographic areas and major customers. In applying the requirements of this statement, each of the Company's geographic areas described below were determined to be an operating segment as defined by the statement, but have been aggregated as allowed by the statement for reporting purposes. As a result, the Company continues to have one reportable segment, which is the development of genetic susceptibility tests and therapeutic targets for common diseases. Page 6 The following table presents information about the Company by geographic area. FOR THE SIX MONTHS ENDED JUNE 30, 1999 1998 ----------- ----------- Total Revenues: United States .................. $ 169,427 $ 136,718 France ......................... 20,910 4,920 Other foreign .................. 31,736 19,872 ----------- ----------- Total .................... $ 222,073 $ 161,510 =========== =========== Operating Income: United States .................. $(1,791,745) $(3,944,237) France ......................... (212,180) (139,208) Other foreign .................. (353,634) (556,834) ----------- ----------- Total .................... $(2,357,559) $(4,640,279) =========== =========== Assets: United States .................. $ 5,442,925 $ 8,648,454 France ......................... 0 0 Other foreign .................. 0 0 ----------- ----------- Total .................... $ 5,442,925 $ 8,648,454 =========== =========== ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Certain statements contained in this Form 10-QSB are "forward-looking statements" within the meaning of the Section 27A of the Securities Act and Section 21E of the Exchange Act. Specifically, all statements other than statements of historical fact included in this Form 10-QSB regarding the Company's financial position, business strategy and plans and objectives of management of the Company for future operations are forward-looking statements. These forward-looking statements are based on the beliefs of the Company's management, as well as assumptions made by and information currently available to the Company's management. When used in this report, the words "anticipate," "believe," "estimate," "expect" and "intend" and words or phrases of similar import, as they relate to the Company or its subsidiaries or Company management, are intended to identify forward-looking statements. Such statements reflect the current view of the Company with respect to future events and are subject to certain risks, uncertainties and assumptions related to certain factors including, without limitation, risks inherent to developing genetic tests once genes have been discovered, the Company's limited sales and marketing experience, risk of market acceptance of the Company's products, risk of technology and products obsolescence, delays in development of products, reliance on partners, risks related to third-party reimbursement, risks regarding government regulation, competitive risks and those risks and uncertainties described in the Company's Registration Statement on Form S-3 filed July 23, 1999 (File No. 333-83631) and in other filings made by the Company with the Securities and Page 7 Exchange Commission (collectively, "cautionary statements"). Although the Company believes that its expectations are reasonable, it can give no assurance that such expectations will prove to be correct. Based upon changing conditions, should any one or more of these risks or uncertainties materialize, or should any underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated, expected, or intended. All subsequent written and oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by the applicable cautionary statements. The Company does not intend to update these forward-looking statements. The following comments should be read in conjunction with the Company's consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-QSB. GENERAL OVERVIEW Medical Science Systems, Inc., a Texas corporation ("MSSI" or the "Company") develops and commercializes genetic diagnostic tests and medical research tools. The Company's efforts are focused on genetic factors that affect the rate of progression of clinical disease through their influence on common host systems. The Company's first genetic test, PST(R), a test predictive of risk for periodontal disease, is currently marketed in the United States, Europe and Israel. Products under development include tests predictive of risk for osteoporosis, coronary artery disease, diabetic retinopathy, asthma, pulmonary fibrosis, and meningitis/sepsis. The Company believes by combining genetic risk assessment with specific therapeutic strategies, improved clinical outcomes and more cost-effective management of these common diseases are achieved. MSSI also develops and licenses its medical research tools, including BioFusion(R), to pharmaceutical companies. BioFusion, a proprietary enabling system for diagnostic and drug discovery and development, is a computer modeling system that integrates genetic and other sub-cellular behavior, system functions, and clinical symptoms to simulate complex diseases. This system allows useful information to be derived from rapidly increasing databases of gene expression being generated in companies and academic centers worldwide. The Company successfully completed a private placement in June 1999. The offering of $5 million of preferred stock raised $4.7 million in net proceeds. Such preferred stock will be automatically converted to common stock upon approval of the private placement by the shareholders of the Company. The Company anticipates receiving such approval at the Company's annual meeting of shareholders on August 20, 1999. The Company is in discussions with a number of potential strategic partners and, if such discussions are successfully completed, the Company believes this will result in the up-front funding of some of its programs. There can be no assurance that any of the partnering discussions will be completed, or if such discussions are complete, that there will be up-front funding of the Company's programs. Page 8 The Company has followed a strategy of working with strategic partners at the fundamental discovery stage. This strategy has given the Company access to discoveries while reducing up-front research expenses. Since 1994, the Company has had a strategic alliance with the Department of Molecular and Genetic Medicine at Sheffield University in the United Kingdom ("Sheffield"). Under this alliance, Sheffield has provided to the Company the fundamental discovery and genetic analysis from Sheffield's research laboratories and the Company has focused on product development, including clinical trials, and the commercialization of these discoveries. The Company has entered into multiple joint development and commercialization project agreements with Sheffield, and anticipates entering into additional collaborative arrangements with Sheffield and other parties in the future. In April 1999, the Company entered into an agreement with Dumex, a subsidiary of AlPharma, a pharmaceutical manufacturer, to market and sell PST in nine European countries (Austria, Denmark, Finland, Germany, Ireland, Norway, Sweden, Switzerland and the U.K.). Dumex is well-known in Europe as a manufacturer of oral health care products used by periodontists. In March 1999, the Company entered into an agreement with the Straumann Company, a leading supplier of dental implants, to market and sell PST in the United States and Puerto Rico. Straumann launched its PST promotional activities in April 1999. In December 1998, the Company signed an agreement with Washington Dental Service, a member of the Delta Dental Plans Association, for the purchase of 1,200 PST tests. The tests will be used in a study, sponsored by Washington Dental Service, in collaboration with the University of Washington School of Dentistry and Medical Science Systems. The study will provide scientific and financial information about PST in a reimbursement system. This study is expected to provide scientific and financial data regarding the use of PST as a treatment-planning tool to assess risk. The data from the study is anticipated to be available for analysis in the last quarter of 1999. In December 1997, the Company entered into an agreement with Medicadent, a French corporation ("Medicadent"), to market and sell PST in France. In August 1998, the Company entered into an agreement with H.A. Systems, Ltd. to market and sell PST in Israel. Medicadent commenced offering PST in France in June 1998, and H.A. Systems commenced offering PST in Israel in April 1999. No assurances can be made regarding the commercial acceptance of PST. The Company has been awarded four U.S. patents, and has sixteen U.S. patent applications pending. The U.S. Patent & Trademark Office awarded patents to the Company for its osteoporosis and periodontal disease susceptibility tests and two patent awards for its biologic modeling technology called BioFusion(R). BioFusion is used by the Company in the discovery, development and commercialization process. The Company's disease susceptibility patents seek to protect the use of its various genetic markers as an indicator of risk for the Page 9 specific disease covered, as well as protecting various therapeutic applications which these markers may have. The Company has been granted a number of corresponding foreign patents and has filed foreign counterparts of its U.S. applications. Where the Company has originally filed in another country, it has filed and plans to continue to file U.S. and other foreign counterparts. CURRENT FINANCIAL CONDITION Since its inception, the Company has incurred cumulative net losses of approximately $17.2 million including losses of approximately $1.1 million during the second quarter of 1999 and $2.3 million for the six months ended June 30, 1999. As a result of these losses, available cash resources are limited and will be depleted in January 2001 absent additional debt or equity funding or a strategic alliance which provides operating capital. The ability of the Company to continue as a going concern is dependent upon the Company achieving significant revenue increases from its existing genetic products, developing new products, successfully marketing its products to customers at profitable prices and obtaining significant levels of new capital. If the Company is not successful in these efforts, the Company would likely be unable to continue operating as a going concern. See Note 1 to the Financial Statements included herein. RESULTS OF OPERATIONS COMPARISON OF THREE MONTHS ENDED JUNE 30, 1999 TO THREE MONTHS ENDED JUNE 30, 1998 Gross revenue for the three months ended June 30, 1999 was $129,335 compared to $102,616 for the same period ended June 30, 1998, an increase of 26%. In June 1999 the Company received an up-front payment of $150,000 from Dumex-Alpharma A/S for the rights to distribute the Company's genetic susceptibility test for periodontal disease, PST(R), in ten European countries. $50,000 of this payment was recognized as revenue during the three months ended June 30, 1999 to offset direct expenses associated with the agreement, with the balance of $100,000 being reflected as a current liability under the caption, deferred income. In the three months ended June 30, 1999, the Company conducted 404 PST tests compared to 623 tests in the same period in 1998. The results for the three months ended June 30, 1998, reflect the activity of the Company's direct sales force during such period. The Company disbanded its sales force and discontinued its direct marketing efforts in late 1998, and opted to pursue collaborative partners to market the PST test in lieu of its direct sales force. Due to the absence of a direct sales force and its marketing partners only just beginning to market the PST test during the quarter ended June 30, 1999, the results for such quarter were lower than the corresponding previous year's quarter. Cost of sales was $43,206 for the three months ended June 30, 1999 compared to $84,005 for 1998. Gross profit margin was 66.6% in the three months ended June 30, 1999 compared to 18.1% for the year earlier period, reflecting lower unit laboratory costs for the Company's genetic tests. Page 10 For the three months ended June 30, 1999, the Company had R&D expenses of $545,819 as compared to $349,810 for the second quarter of 1998. The year-earlier expense was lower due to an abnormally low level of expenditures during that quarter for clinical trials. Selling, general and administrative expenses were $693,418 in the second quarter of 1999 compared to $2,035,447 in the second quarter of 1998, a decrease of 65.9%. This decrease is a result of the Company's ongoing cost-cutting initiatives and change in strategy to utilize collaborative partners for its direct sales of its genetic tests. As a result of the Company's effort to reduce costs, the Company had 18 full time employees as of June 30, 1999 compared to 48 one year earlier. Interest income in the second quarter of 1999 was $26,744 compared to $106,691 in the half quarter half of 1998. This decrease reflects lower balances of cash in the second quarter of 1999 compared to the year earlier period, as cash was utilized throughout 1998 to cover the Company's operating losses. Interest expense of $17,966 was incurred during the period ended June 30, 1999, compared to $23,135 in the same period in 1998. The reduction in interest expense was due to the reduction in the principal amount of the bank debt and lower interest rate on that debt. Net loss was $1,141,688 for the second quarter of 1999 compared to a net loss of $2,280,654 for the second quarter of 1998, a decrease of 49.9%. This decrease reflects the reduction in sales and marketing expense as the Company shifted to a collaborative partnering strategy. The Company anticipates that it will continue to experience losses unless its genetic testing revenues grow substantially from current levels and its efforts to develop revenue from licensing its biologic modeling research tools are successful. In addition, if the Company is successful in reaching agreements with strategic partners on developing additional genetic tests, milestone payments, if any, from these strategic partners to help cover the Company's research and development expense could also reduce the net loss. No assurances can be made that the Company will be able to increase its revenues, either from genetic tests or licensing revenue, or that it will be able to reach collaborative partnering agreements. COMPARISON OF SIX MONTHS ENDED JUNE 30, 1999 TO SIX MONTHS ENDED JUNE 30, 1998 Gross revenue for the six months ended June 30, 1999 was $222,073 compared to $161,510 for the same period ended June 30, 1998, an increase of 37%. In the six months ended June 30, 1999, the Company conducted 914 tests compared to 978 tests in the same period in 1998. The results for the six months ended June 30, 1998, reflect the activity of the Company's direct sales force during such period. Such activity was discontinued late in 1998. The results for the six months ended June 30, 1999, were lower than the year earlier period due to the lack of a direct sales force during such period and due to the fact that the Company's two major PST distributors were just Page 11 beginning distribution of PST during the second quarter of 1999. Cost of sales was $76,117 for the six months ended June 30, 1999 compared to $114,092 for 1998. Gross profit margin was 65.7% in the six months ended June 30, 1999 compared to 29.4% for the year earlier period, reflecting lower unit laboratory costs for the Company's genetic tests. For the six months ended June 30, 1999, the Company had R&D expenses of $1,100,944 compared to $866,732 for the first half of 1998. Selling, general and administrative expenses were $1,402,571 in the first half of 1999 compared to $3,820,965 in the first half of 1998, a decrease of 63.3%. This decrease is a result of the Company's ongoing cost-cutting initiatives and change in strategy to utilize collaborative partners for its direct sales of its genetic tests. Interest income in the first half of 1999 was $44,336 compared to $252,340 in the first half of 1998. This decrease reflects lower balances of cash in the first half of 1999 compared to the year earlier period, as cash was utilized throughout 1998 to cover the Company's operating losses. Interest expense of $40,547 was incurred during the six month period ended June 30, 1999, compared to $47,425 in the same period in 1998. The reduction in interest expense was due to the reduction in the principal amount of the bank debt and lower interest rate on that debt. Net loss was $2,346,813 for the first half of 1999 compared to a net loss of $4,433,778 for the first half of 1998, a decrease of 47.0%. This decrease reflects the reduction in sales and marketing expense as the Company shifts to a collaborative partnering strategy. LIQUIDITY AND CAPITAL RESOURCES Pursuant to a $5 million private placement in June 1999, the Company issued 2,200,000 shares of Series A Preferred Stock, no par value, which generated net proceeds of $4.7 million. Each share of the Series A Stock is automatically converted into 5 shares of the Company's common stock at a conversion price of $0.50 per share upon the approval of the private placement by the Company's shareholders. Net cash used in operating activities was $2,195,714 during the six months ended June 30, 1999 and $4,373,076 during the same period of the prior fiscal year. As of June 30, 1999, the Company had cash and cash equivalents of $4,912,878. The Company currently does not have any commitments for material capital expenditures. The Company's obligation at June 30, 1999 for capitalized lease obligations totaled $214,216, of which $119,606 is classified as long-term and $94,610 is classified as current. In June 1999 the Company repaid a bank loan which had a principal balance of $495,358. The Company had provided a $530,000 certificate-of-deposit as security for this loan, which was released upon the repayment of the loan. Page 12 The Company anticipates that its existing cash and cash equivalents, together with anticipated interest income and revenue, will be sufficient to conduct its operations as planned through January 2001. However, the Company's future capital requirements are anticipated to be substantial, and the Company does not have commitments for additional capital at this time. Such capital requirements are expected to arise from the commercial launch of additional genetic tests, continued marketing and sales efforts for PST, continued research and development efforts, the protection of the Company's intellectual property rights (including preparing and filing of patent applications), as well as operational, administrative, legal and accounting expenses. THERE CAN BE NO ASSURANCE THAT THE COMPANY WILL BE ABLE TO RAISE ANY ADDITIONAL NECESSARY CAPITAL. IF ADDITIONAL AMOUNTS CANNOT BE RAISED, THE COMPANY WOULD SUFFER MATERIAL ADVERSE CONSEQUENCES TO ITS BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS AND WOULD LIKELY BE REQUIRED TO SEEK PROTECTION UNDER THE UNITED STATES BANKRUPTCY LAWS. SEE "Current Financial Condition" on page 10 hereof and Note 1 of the Financial Statements included herein. The Company's Common Stock is currently listed on The NASDAQ SmallCap Market and the Boston Stock Exchange. If the Company fails to maintain the qualification for its Common Stock to trade on the NASDAQ SmallCap Market or the Boston Stock Exchange, its Common Stock could be subject to delisting. The NASDAQ Stock Market announced increases in the quantitative standards, which became effective in February 1998, for maintenance of any of (x) $2,000,000 of net tangible assets, (y) $35,000,000 of market capitalization or (z) $500,000 of net income for two of the last three years and a minimum bid price per share of $1.00. On February 3, 1999, we received notice from NASDAQ that we were in violation of NASDAQ's minimum bid price requirement and that if our Common Stock did not have a closing bid price of at least $1.00 for ten consecutive trading days during the 90-day period ending May 3, 1999, our Common Stock was subject to delisting on May 3, 1999. The Company believes it satisfied this requirement by having a closing bid price of at least $1.00 for the ten consecutive trading days ending March 29, 1999; however the Company has not yet received notice from NASDAQ that such requirement was satisfied. Furthermore, there can be no assurance that our stock price will maintain such $1.00 minimum bid price. If the market price for our Common Stock does fall below the $1.00 bid price, our Common Stock could be subject to delisting from The NASDAQ SmallCap Market. On April 19, 1999, the Company received notice from the NASDAQ SmallCap Market that the Company was in violation of NASDAQ's $2,000,000 minimum net tangible asset requirement. As a result of the Private Placement, management believes that the Company is in compliance with NASDAQ's minimum net tangible asset requirement; however, the Company has not yet received notice from NASDAQ that such requirement was satisfied. The Company filed a Current Report on Form 8-K dated June 25, 1999, containing the Company's pro forma balance sheet at May 31, 1999, adjusted to reflect the results of the Private Placement. Such balance sheet reflects net tangible assets in excess of $2,000,000. If the Company is unable to maintain compliance with NASDAQ's minimum net tangible asset requirement, the Company would likely be delisted from The NASDAQ SmallCap Market and may also suffer Page 13 material adverse consequences to its business, financial condition and results of operations. On April 26, 1999, the Company received a letter from NASDAQ expressing concern regarding the "going concern" opinion of Arthur Andersen LLP, the Company's independent public accountant, given in Arthur Andersen LLP's report contained in the Company's Annual Report on Form 10-KSB for the year ended December 31, 1998. While NASDAQ did not notify the Company that its Common Stock was subject to delisting due to such opinion, NASDAQ does have the discretion to so delist the Company's Common Stock for any number of reasons, including the "going concern" opinion of Arthur Andersen LLP. There can be no assurance that the Company will be able to address this issue in a manner satisfactory to NASDAQ, or that that the Company's Common Stock will not be delisted from The NASDAQ SmallCap Market. On August 3, 1999, the Company received a letter from NASDAQ questioning whether the Company had violated the shareholder approval provisions of the NASDAQ Marketplace Rules due to an alleged change-in-control resulting from the private placement of the Series A Preferred Stock completed by the Company in June 1999. As a result, NASDAQ is reviewing the Company's eligibility for continued listing on The NASDAQ SmallCap Market. The Company does not believe that a change-of-control occurred and is engaged in discussions with NASDAQ to resolve this matter. There can be no assurance that the Company will be able to address this issue in a manner satisfactory to NASDAQ, or that the Company's Common Stock will not be delisted from The NASDAQ SmallCap Market. If the Company's shares are not listed as intended, trading, if any, would be conducted in the over-the-counter market in the so-called "pink sheets" or the OTC Bulletin Board, which was established for securities that do not meet The NASDAQ SmallCap Market's listing requirements. Consequently, selling the Common Stock of the Company would be more difficult because smaller quantities of shares could be bought and sold, transactions could be delayed, and security analysts' and new media's coverage of the Company may be reduced. These factors could result in lower prices and larger spreads in the bid and ask prices for shares of Common Stock. Such NASDAQ delisting would also greatly impair the Company's ability to raise additional necessary capital through equity or debt financing. If the Common Stock of the Company is not listed on The NASDAQ SmallCap Market and/or the Boston Stock Exchange, it may become subject to Rule 15g-9 under the Exchange Act. That rule imposes additional sales practice requirements on broker-dealers that sell low-priced securities to persons other than established customers and institutional accredited investors. For transactions covered by this rule, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transaction prior to sale. Consequently, the rule may affect the ability of broker-dealers to sell the Common Stock and affect the ability of holders to sell their shares of Common Stock of the Company in the secondary market. Page 14 The SEC's regulations define a "penny stock" to be any equity security that has a market price less than $5.00 per share or with an exercise price of less than $5.00 per share, subject to certain exceptions. The penny stock restrictions will not apply to our shares if they are listed on The NASDAQ SmallCap Market or the Boston Stock Exchange and we provide certain price and volume information on a current and continuing basis, or meet required minimum net tangible assets or average revenue criteria. There can be no assurance that the shares of Common Stock of the Company will qualify for exemption from these restrictions. If such shares were subject to the penny stock rules, the market liquidity for the shares could be adversely affected. Historically, the Common Stock of the Company has experienced low trading volumes. The market price of the Common Stock also has been highly volatile and it may continue to be highly volatile as has been the case with the securities of other public biotechnology companies. Factors such as announcements by the Company or its competitors concerning technological innovations, new commercial products or procedures, proposed government regulations and developments or disputes relating to patents or proprietary rights may substantially affect the market price of the Company's securities. Changes in the market price of the common Stock may bear no relation to the Company's actual operational or financial results. YEAR 2000 COMPLIANCE The efficient operation of the Company's business is dependent on its computer software programs and operating systems (collectively, "Programs and Systems"). These Programs and Systems are used in several key areas of the Company's business, including financial reporting, as well as in various administrative functions. The Company has evaluated its Programs and Systems to identify potential year 2000 compliance problems, as well as manual processes, external interfaces with customers, and services supplied by vendors to coordinate year 2000 compliance and conversion. The year 2000 problem refers to the limitations of the programming code in certain existing software programs to recognize date sensitive information for the year 2000 and beyond. Unless modified prior to the year 2000, such systems may not properly recognize such information and could generate erroneous data or cause a system to fail to operate properly. Based on current information, the Company believes its Programs and Systems are year 2000 compliant. However, because most computer systems are, by their very nature, interdependent, it is possible that non-compliant third party computers may not interface properly with the Company's computer systems. The Company could be adversely affected by the year 2000 problem if it or unrelated parties fail to successfully address this issue. In the event the Company determines following the year 2000 date change that its Programs and Systems are not year 2000 compliant, the Company will likely experience considerable delays in compiling information required for financial reporting and performing various administrative functions. In the event of such occurrence, the Company's contingency plans call for it to switch vendors to obtain Page 15 hardware and/or software that is 2000 compliant, and until such hardware and/or software can be obtained, the company will plan to use non-computer systems for its business, including information management services and financial reporting, as well as its various administrative functions. Year 2000 Information and Readiness Disclosure Act To the maximum extent permitted by applicable law, the above information is being designated as "Year 2000 Readiness Disclosure" pursuant to the "Year 2000 Information and Readiness Disclosure Act" which was signed into law on October 19, 1998. Page 16 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS On March 2, 1999, Entelos, Inc. filed an action against the Company in United States District Court for the Northern District of California, alleging that two of Entelos' principals, Samuel Holtzman and Thomas Paterson, are co-inventors of the inventions claimed in two of the Company's software patents - U.S. Pat. Nos. 5,657,255 and 5,808,918. In the suit, Entelos was seeking a declaratory judgment that Entelos is the co-owner of all rights under the foregoing patents, an order correcting the inventorship of the patents to list Holtzman and Paterson as co-inventors, and restitution to Entelos of its share of the profits obtained from the patents. The complaint also asserted an unfair competition claim. In June 1999 the Company entered into a settlement agreement with Entelos, that, among other things, granted Entelos a non-exclusive, fully paid-up, royalty-free world-wide license to make, have made, use, import, offer to sell and sell products and practice any systems, methods or other inventions covered by the patents. Pursuant to a stipulation and order of dismissal issued by the United States District Court for the Northern District of California, all claims and counterclaims in the above-described action were dismissed with prejudice. The Company did not pay any money to Entelos as part of the agreement, and management does not believe that the settlement will have a material adverse affect on future business activities of the Company. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS Recent Sales of Unregistered Securities In June 1999, the Company completed a private placement (the "Private Placement") whereby the Company sold 2,000,000 shares of Series A Preferred Stock, no par value ("Series A Preferred"), at a per share purchase price of $2.50 for a total offering price of $5,000,000. In connection with the Private Placement, the Company issued an additional 200,000 shares of Series A Preferred to Fine Equities, Inc. (the "Placement Agent") as its fee. The Company also issued to the Placement Agent, a warrant to purchase up to 1,000,000 shares of Common Stock of the Company at a per share purchase price of $.50. Each share of Series A Preferred will automatically convert into five (5) shares of Common Stock upon shareholder ratification of the issuance of the Series A Preferred issued pursuant to the Private Placement, which ratification is required to comply with certain NASDAQ requirements. The shares of Series A Preferred (the "Shares") issued pursuant to the Private Placement were not registered under the Securities Act of 1993, as amended (the "Securities Act"), pursuant to the exemptions of such registration provided under Regulation D ("Regulation D") of the rules and regulations promulgated under the Securities Act by the Securities and Exchange Commission and Section 4(2) of the Securities Act. The Company relied on certain representations and warranties of the Private Placement investors, including, among other things, each of such investors' ability to evaluate the merits and risks of an investment in the Shares, each of such investors' status as an Page 17 "accredited investor" (as that term is defined in Rule 501(a) of Regulation D) and that the Shares were acquired solely for each of such investors' own account for investment and not with a view to distribution. Use of Proceeds from Sales of Registered Securities. On November 26, 1997, the Company completed an initial public offering of its Common Stock, no par value (the "Offering"). Aggregate proceeds from the Offering were $16,200,000, and the net proceeds were $14,904,000. All of the net proceeds of the Offering have been used by the Company for expenses and general working capital requirements. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to shareholders in the three months ended June 30, 1999. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits. 3.1 Amended and Restated Articles of Incorporation of the Company (filed herewith). 4.1 Statement Establishing Relative Rights and Preferences of Preferred Stock (filed herewith). 4.2 Warrant dated June 15, 1999, granted to Fine Equities, Inc. (filed herewith). 10.1 Consulting Services Agreement dated June 1, 1999, between the Company and Philip R. Reilly (filed herewith). 10.2 Non-Qualified Stock Option Agreement dated June 1, 1999, between the Company and Philip R. Reilly (filed herewith). 10.3 Form of Subscription Agreement (filed herewith). 10.4 Agency Agreement dated June 15, 1999, between the Company and Fine Equities, Inc. (filed herewith). 27 Financial Data Schedule (filed herewith) Page 18 (b) Reports on Form 8-K Form 8-K dated June 16, 1999 and filed June 25, 1999 reporting the private placement of Series A Preferred Stock and containing the Company's Pro Forma Balance Sheet as of May 31, 1999. EXHIBIT INDEX EXHIBIT NUMBER DESCRIPTION 3.1 Amended and Restated Articles of Incorporation of the Company (filed herewith). 4.1 Statement Establishing Relative Rights and Preferences of Preferred Stock (filed herewith). 4.2 Warrant dated June 15, 1999, granted to Fine Equities, Inc. (filed herewith). 10.1 Consulting Services Agreement dated June 1, 1999, between the Company and Philip R. Reilly (filed herewith). 10.2 Non-Qualified Stock Option Agreement dated June 1, 1999, between the Company and Philip R. Reilly (filed herewith). 10.3 Form of Subscription Agreement (filed herewith). 10.4 Agency Agreement dated June 15, 1999, between the Company and Fine Equities, Inc. (filed herewith). 27 Financial Data Schedule (filed herewith) Page 19 SIGNATURES In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. MEDICAL SCIENCE SYSTEMS, INC. Date: August 16, 1999 By: /s/ U. Spencer Allen U. Spencer Allen Chief Financial Officer, Secretary & Treasurer Duly authorized signatory and Principle Financial and Accounting Officer) Page 20 EX-3.1 2 EXHIBIT 3.1 AMENDED AND RESTATED ARTICLES OF INCORPORATION OF MEDICAL SCIENCE SYSTEMS, INC. ARTICLE ONE Medical Science Systems, Inc., a Texas corporation (the "Corporation"), pursuant to the provisions of Article 4.07 of the Texas Business Corporation Act, hereby adopts these Amended and Restated Articles of Incorporation, which accurately copy the Articles of Incorporation of the Corporation, as amended through, and in effect on the date hereof, as further amended by these Amended and Restated Articles of Incorporation as hereinafter set forth, and contain no other change in any provisions thereof. ARTICLE TWO The Articles of Incorporation, as amended, of the Corporation are amended by these Amended and Restated Articles of Incorporation as follows: The amendments made by these Amended and Restated Articles of Incorporation (the "Amendments") alter or change Articles ONE through EIGHT of the Articles of Incorporation and add Articles NINE, TEN and ELEVEN. The full text of each provision altered or added is as set forth in Article FIVE hereof. The Amendments confirm the reclassification and split effected pursuant to the Articles of Amendment dated July 29, 1996 to the Articles of Incorporation of the Company filed with the Secretary of State of Texas on August 2, 1996 (the "First Amendment"), whereby simultaneously with the effective date of the First Amendment, each issued and outstanding share of previously authorized Class A Common Voting Stock, no par value, of the Corporation, was thereby and thereupon reclassified, changed and split up into 1,083.333 validly issued, fully-paid and nonassessable shares of common shares, no par value, of the Corporation. Upon the filing of these Amended and Restated Articles of Incorporation, all issued and outstanding shares of previously authorized common shares of the Corporation shall remain outstanding without any change thereto, but such shares and all other authorized shares of common shares shall thereafter be designated as shares of common stock. ARTICLE THREE The Amendments have been effected in conformity with the provisions of the Texas Business Corporation Act, and the Amended and Restated Articles of' Incorporation were duly adopted by all of the shareholders of the Corporation pursuant to a consent dated September 27, 1996. ARTICLE FOUR On that date there were 3,254,999 common shares of the Corporation outstanding, all of which were entitled to vote on the Amendments. All 3,254,999 shares of the Corporation were voted in favor of the Amendments. ARTICLE FIVE The Articles of Incorporation of the Corporation filed with the Secretary of State of the State of Texas on August 2, 1996 are hereby superseded by the following Amended and Restated Articles of Incorporation, which accurately copy the entire text thereof as amended hereby: AMENDED AND RESTATED ARTICLES OF INCORPORATION OF MEDICAL SCIENCE SYSTEMS, INC. ARTICLE ONE The name of the Corporation is Medical Science Systems, Inc. ARTICLE TWO The period of its duration is perpetual. ARTICLE THREE The purpose or purposes for which the Corporation is organized is the transaction of all lawful business for which a corporation may be incorporated under the corporation laws of the State of Texas. ARTICLE FOUR The aggregate number of shares that the Corporation shall have the authority to issue is 15,000,000 shares, consisting of 10,000,000 shares of common stock, no par value per share (the -2- "Common Stock"), and 5,000,000 shares of preferred stock, no par value per share (the "Preferred Stock"). The descriptions of the different classes of capital stock of the Corporation and the preferences, designations, relative rights, privileges and powers, and the restrictions, limitations and qualifications thereof, of said classes of stock are as follows: Division A The shares of Preferred Stock may be divided into and issued in one or more series, the relative rights and preferences of which series may vary in any and all respects. The board of directors of the Corporation is hereby vested with the authority to establish series of Preferred Stock by fixing and determining all the preferences, limitations and relative rights of the shares of any series so established, to the extent not provided for in these Amended and Restated Articles of Incorporation or any amendment hereto, and with the authority to increase or decrease the number of shares within each such series; provided, however, that the board of directors may not decrease the number of shares within a series below the number of shares within such series that is then issued. The authority of the board of directors with respect to each such series shall include, but not be limited to, determination of the following: 1. the distinctive designation and number of shares of that series; 2. the rate of dividend (or the method of calculation thereof) payable with respect to shares of that series, the dates, terms and other conditions upon which such dividends shall be payable, and the relative rights of priority of such dividends to dividends payable on any other class or series of capital stock of the Corporation; 3. the nature of the dividend payable with respect to shares of that series as cumulative, noncumulative or partially cumulative, and if cumulative or partially cumulative, from which date or dates and under what circumstances; 4. whether shares of that series shall be subject to redemption, and, if made subject to redemption, the times, prices, rates, adjustments and other terms and conditions of such redemption (including the manner of selecting shares of that series for redemption if fewer than all shares of such series are to be redeemed); 5. the rights of the holders of shares of that series in the event of voluntary or involuntary liquidation, dissolution or winding up of the Corporation (which rights may be different if such action is voluntary than if it is involuntary), including the relative rights of priority in such event as to the rights of the holders of any other class or series of capital stock of the Corporation; 6. the terms, amounts and other conditions of any sinking or similar purchase or other fund provided for the purchase or redemption of shares of that series; -3- 7. whether shares of that series shall be convertible into or exchangeable for shares of capital stock or other securities of the Corporation or of any other corporation or entity, and, if provision be made for conversion or exchange, the times, prices, rates, adjustments and other terms and conditions of such conversion or exchange; 8. the extent, if any, to which the holders of shares of that series shall be entitled (in addition to any voting rights provided by law) to vote as a class or otherwise with respect to the election of directors or otherwise; 9. the restrictions and conditions, if any, upon the issue or reissue of any additional Preferred Stock ranking on a parity with or prior to shares of that series as to dividends or upon liquidation, dissolution or winding up; 10. any other repurchase obligations of the Corporation, subject to any limitations of applicable law; and 11. notwithstanding their failure to be included in (1) through (10) above, any other designations, preferences, limitations or relative rights of shares of that series. Any of the designations, preferences, limitations or relative rights (including the voting rights) of any series of Preferred Stock may be dependent on facts ascertainable outside these Amended and Restated Articles of Incorporation. Shares of any series of Preferred Stock shall have no voting rights except as required by law or as provided in the preferences, limitations and relative rights of such series. Division B 1. DIVIDENDS. Dividends may be paid on the Common Stock out of any assets of the Corporation available for such dividends subject to the rights of all outstanding shares of capital stock ranking senior to the Common Stock in respect of dividends. 2. DISTRIBUTION OF ASSETS. In the event of any liquidation, dissolution or winding up of the Corporation, after there shall have been paid to or set aside for the holders of capital stock ranking senior to the Common Stock in respect of rights upon liquidation, dissolution or winding up the full preferential amounts to which they are respectively entitled, the holders of the Common Stock shall be entitled to receive, pro rata, all of the remaining assets of the Corporation available for distribution to its shareholders. 3. VOTING RIGHTS. The holders of the Common Stock shall be entitled to one vote per share for all purposes upon which such holders are entitled to vote. Division C 1. NO PREEMPTIVE RIGHTS. No shareholder of the Corporation shall by reason of his holding shares of any class have any preemptive or preferential right to acquire or subscribe for any additional, unissued or treasury shares of any class of the Corporation now or hereafter to be -4- authorized, or any notes, debentures, bonds or other securities convertible into or carrying any right, option or warrant to subscribe to or acquire shares of any class now or hereafter to be authorized, whether or not the issuance of any such shares, or such notes, debentures, bonds or other securities, would adversely affect the dividends or voting or other rights of such shareholder, and the board of directors may issue or authorize the issuance of shares of any class, or any notes, debentures, bonds or other securities convertible into or carrying rights, options or warrants to subscribe to or acquire shares of any class, without offering any such shares of any class, either in whole or in part, to the existing shareholders of any class. 2. SHARE DIVIDENDS. Subject to any restrictions in favor of any series of Preferred Stock provided in the relative rights and preferences of such series, the Corporation may pay a share dividend in shares of any class or series of capital stock of the Corporation to the holders of shares of any class or series of capital stock of the Corporation. 3. NO CUMULATIVE VOTING. Cumulative voting for the election of directors is expressly prohibited as to all shares of any class or series. ARTICLE FIVE The Corporation shall not commence business until it has received for the issuance of its shares consideration of at least the value of One Thousand Dollars ($ 1,000.00), consisting of money, labor done or property actually received. ARTICLE SIX The address of the Corporation's registered office is 100 N.E. Loop 410, Suite 1350, San Antonio, Texas 78216, and the name of its registered agent at such address is Medical Science Systems, Inc., c/o Dr. Kenneth S. Kornman. ARTICLE SEVEN 1. NUMBER AND TERMS OF DIRECTORS. The number of directors of the Corporation shall be fixed by, or in the manner provided in, the Amended and Restated Bylaws of the Corporation; provided that the maximum number of directors shall be nine (9). The number of directors constituting the current board of directors is three (3), and the name and address of the persons who are to serve as directors until their successors are elected and qualified are: Paul J. White 4400 MacArthur Blvd., Suite 980 Newport Beach, CA 92660 Michael G. Newman 4400 MacArthur Blvd., Suite 980 Newport Beach, CA 92660 Kenneth S. Kornman -5- 100 N.E. Loop 410, Suite 1350 San Antonio, Texas 78216 2. REMOVAL OF DIRECTORS. No director of the Corporation shall be removed from such office by vote or other action of the shareholders of the Corporation or otherwise, except by the affirmative vote of holders of at least a majority of the then outstanding Voting Stock (as defined below), voting together as a single class. The term "Voting Stock" shall mean all outstanding shares of all classes and series of capital stock of the Corporation entitled to vote generally in the election of directors of the Corporation, considered as one class; and, if the Corporation shall have shares of Voting Stock entitled to more or less than one vote for any such share, each reference in the Amended and Restated Articles of Incorporation to a proportion or percentage of Voting Stock shall be calculated by reference to the portion or percentage of votes entitled to be cast by holders of such shares generally in the election of directors of the Corporation. Prior to the first date (the "Public Status Date") on which the Corporation has outstanding a class of equity securities registered under the Securities Exchange Act of 1934, as may be amended from time to time (the "Exchange Act"), any such removal of a director of the Corporation may be with or without cause. On and after the Public Status Date, no director of the Corporation shall be removed from such office by vote or other action of the shareholders of the Corporation or otherwise, except for cause, which shall be deemed to exist only if: (i) such director has been convicted, or such director is granted immunity to testify where another has been convicted, of a felony by a court of competent jurisdiction (and such conviction is no longer subject to direct appeal); (ii) such director has been found by a court of competent jurisdiction (and such finding is no longer subject to direct appeal) or by the affirmative vote of at least a majority of the Whole Board (as defined below) at any regular or special meeting of the board of directors called for such purpose to have been grossly negligent or guilty of willful misconduct in the performance of his duties to the Corporation in a matter of substantial importance to the Corporation; (iii) such director has been adjudicated by a court of competent jurisdiction to be mentally incompetent, which mental incompetency directly affects his ability to perform as a director of tile Corporation; (iv) such director has been found by a court of competent jurisdiction (and such finding is no longer subject to direct appeal) or by the affirmative vote of at least a majority of the Whole Board at any regular or special meeting of the board of directors called for such purpose to have breached such director's duty of loyalty to the Corporation or its shareholders or to have engaged in any transaction with the Corporation from which such director derived an improper personal benefit; or (v) "cause" for removal otherwise exists under Article 2.32.A. of the Texas Business Corporation Act (the "TBCA"). No director of the Corporation so removed may be nominated, re-elected or reinstated as a director of the Corporation so long as the cause for removal continues to exist. The term "Whole Board" shall mean the total number of authorized directors of tile Corporation whether or not there exist any vacancies in previously authorized directorships. This paragraph shall be subject to the rights, if any, of holders of any class or series of stock to elect directors and remove directors elected by them. ARTICLE EIGHT No director of the Corporation shall be liable to the Corporation or its shareholders for monetary damages for an act or omission in the director's capacity as a director, except that this article does not eliminate or limit the liability of a director for: (1) a breach of a director's duty of loyalty to the Corporation or its shareholders; (2) an act or omission not in good faith that constitutes -6- a breach of duty of that director to the Corporation or an act or omission that involves intentional misconduct or a knowing violation of the law; (3) a transaction from which a director received an improper benefit, whether or not the benefit resulted from an action taken within the scope of the director's office; or (4) an act or omission for which the liability of a director is expressly provided for by an applicable statute. If the Texas Miscellaneous Corporation Laws Act or the Texas Business Corporation Act ("TBCA") is amended to authorize action further eliminating or limiting the personal liability of directors, then the liability of a director of the corporation shall be eliminated or limited to the fullest extent permitted by such statutes, as so amended. Any amendment, repeal or modification of this Article EIGHT shall be prospective only and shall not adversely affect any right or protection of a director of the Corporation existing at the time of such amendment, repeal or modification. ARTICLE NINE On and after the Public Status Date, the vote of shareholders required for approval of (1) any plan of merger, consolidation, or exchange for which the TBCA requires a shareholder vote, (2) any disposition of assets for which the TBCA requires a shareholder vote, (3) any dissolution of the corporation for which the TBCA requires a shareholder vote, and (4) any amendment of the Restated Articles of Incorporation of the Corporation for which the TBCA requires a shareholder vote, shall be (in lieu of any greater vote required by the TBCA) the affirmative vote of the holders of a majority of the outstanding Voting Stock entitled to vote thereon, unless any class or series of shares is entitled to vote as a class thereon, in which event the vote required shall be the affirmative vote of the holders of a majority of the outstanding shares within each class or series of shares entitled to vote thereon as a class and at least a majority of the outstanding Voting Stock otherwise entitled to vote thereon. ARTICLE TEN Special meetings of shareholders may be called by the Corporation's chairman of the board, the president or the board of directors. Subject to the provisions of the Corporation's Amended and Restated Bylaws governing special meetings, holders of not less than 50% of the outstanding shares of stock entitled to vote at the proposed special meeting may also call a special meeting of shareholders by furnishing the Corporation with a written request which states the purpose or purposes of the proposed meeting in the manner set forth in the Amended and Restated Bylaws. ARTICLE ELEVEN Prior to the Public Status Date, any action required or permitted to be taken at any annual or special meeting of shareholders of the Corporation may be taken without a meeting, without prior notice and without a vote, if a consent or counterpart consents in writing, setting forth the action so taken, shall be signed by the holder or holders of shares having not less than the minimum number of votes that would be necessary to take such action at a meeting at which the holders of all shares entitled to vote on the action were present and voted. Prompt notice of the taking of the corporate action without a meeting by less than unanimous written consent shall be given to those shareholders who did not consent in writing to the action. -7- EXECUTED AND EFFECTIVE this _____ day of ____________________ 1996. MEDICAL SCIENCE SYSTEMS, INC. By: __________________________________ Paul J. White President -8- EX-4.1 3 EXHIBIT 4.1 STATEMENT ESTABLISHING RELATIVE RIGHTS AND PREFERENCES OF PREFERRED STOCK MEDICAL SCIENCE SYSTEMS, INC. CERTIFICATE Providing for the Issuance of Series A Preferred Stock Pursuant to Article 2.13 of the Texas Business Corporation Act Medical Science Systems, Inc., a Texas corporation (the "Company"), certifies that pursuant to the authority contained in Article Four of its Articles of Incorporation, and in accordance with the provisions of Article 2.13 of the Texas Business Corporation Act, its Board of Directors has adopted, by unanimous written consent of directors dated April 8, 1999, as amended, the following resolutions creating and providing for the issuance of a series of shares of Preferred Stock as hereinafter described, and further providing for the voting powers, designations, preferences, and relative, participating, optional or other rights thereof, and the qualifications, limitations or restrictions thereof, in addition to those set forth in said Articles of Incorporation, all in accordance with the provisions of Article 2.13 of the Texas Business Corporation Act: RESOLVED, that pursuant to Article Four of the Articles of Incorporation, which creates and authorizes 5,000,000 shares of Preferred Stock of no par value per share ("Preferred Stock"), the Board of Directors hereby provides for the issuance of a series of 2,200,000 shares of Preferred Stock designated as Series A Preferred Stock (hereinafter referred to as the "Series A Preferred Stock"), which shares shall be convertible into shares of Common Stock, no par value (the "Common Stock"), of the Company, pursuant to the terms and conditions of this certificate. RESOLVED, that the preferences and relative, participating, optional, conversion and other rights of the shares of the Series A Preferred Stock, and the qualifications, limitations or restrictions thereof, in addition to those set forth in said Article Four, are as follows: 1. DESIGNATION. The designation of the series shall be "Series A Preferred Stock" (the "Series A Preferred Stock"). 2. NUMBER. The number of shares constituting the Series A Preferred Stock shall be 2,200,000. 3. VOTING RIGHTS. a. Except as required by law or Section 3(b) of this Certificate, the holders of shares of Series A Preferred Stock shall not have any right or power to vote on any question or in any proceeding or to be represented at or to receive notice of any meeting or consent of stockholders. On any matters on which the holders of the Series A Preferred Stock shall be entitled to vote, each share of Series A Preferred Stock shall entitle the holder thereof to one vote multiplied by the number of shares of Common Stock into which such share of Series A Preferred Stock is convertible on the record date for such vote. b. Without the vote or consent of the holders of at least a majority of the shares of Series A Preferred Stock then outstanding, the Corporation may not (i) authorize, create or issue, or increase the authorized number of shares of, any class or series of capital stock ranking prior to or on a parity with the Series A Preferred Stock either as to dividends or liquidation, (ii) authorize, create or issue any class or series of common stock of the Corporation other than the Common Stock, (iii) authorize any reclassification of the Series A Preferred Stock, (iv) authorize, create or issue any securities convertible into or exercisable for capital stock prohibited by Section 3(b)(i) or (ii), or (v) amend this Certificate. 4. LIQUIDATION. a. PREFERENCE. Subject to the rights of the holders of any other series of Preferred Stock ranking senior to or on a parity with the Series A Preferred Stock with respect to liquidation and any other class or series of capital stock of the Corporation ranking senior to or on a parity with the Series A Preferred Stock with respect to liquidation, in the event of any liquidation, dissolution or winding up of the affairs of the Corporation, whether voluntary or involuntary, the holders of record of the issued and outstanding shares of Series A Preferred Stock shall be entitled to receive, out of the assets of the Corporation available for distribution to the holders of shares of Series A Preferred Stock, prior and in preference to any distribution of any of the assets of the Corporation to the holders of Common Stock and any other series of Preferred Stock ranking junior to the Series A Preferred Stock with respect to liquidation and any other class or series of capital stock of the Corporation ranking junior to the Series A Preferred Stock with respect to liquidation, an amount in cash per share equal to $2.50, plus an amount equal to all dividends accrued and unpaid on each such share (whether or not declared) up to the date fixed for distribution. If, upon such liquidation, dissolution or winding up of the affairs of the Corporation, the assets of the Corporation distributable among the holders of Series A Preferred Stock and any other series of Preferred Stock ranking on a parity therewith in respect thereto or any class or series of capital stock of the Corporation ranking on a parity therewith in respect thereto shall be insufficient to permit the payment in full to all such holders of shares of the preferential amounts payable to them, then the entire assets of the Corporation available for distribution to such holders of shares shall be distributed ratably among such holders in proportion to the respective amounts that would be payable per share if such assets were sufficient to permit payment in full. After payment of the full amount to which they are entitled upon liquidation pursuant to this Section 4(a), the holders of shares of Series A Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. Neither a consolidation or merger of the Corporation with another corporation or other entity nor a sale, transfer, lease or exchange of all or part of the Corporation's -2- assets will be considered a liquidation, dissolution or winding up of the affairs of the Corporation for purposes of this Section 4(a). b. ADJUSTMENTS. The liquidation preference provided for herein with respect to the Series A Preferred Stock shall be equitably adjusted to reflect any stock dividend, stock distribution, stock split or reverse stock split, combination of shares, subdivision of shares or reclassification of shares with respect to the Series A Preferred Stock. 5. CONVERSION RIGHTS. The Series A Preferred Stock shall be convertible as follows: a. NO OPTIONAL CONVERSION. The holder of any shares of Series A Preferred Stock shall not have the right to convert any of such shares of Series A Preferred Stock into Common Stock, and the Series A Preferred Stock will not be convertible other than as set forth in Section 5(b) below. b. AUTOMATIC CONVERSION. Each outstanding share of Series A Preferred Stock shall automatically be converted, without any further act of the Corporation or its stockholders, at the Conversion Price (as defined below) then in effect, into fully paid and nonassessable shares of Common Stock on the first to occur of either of the following events (i) upon the Corporation obtaining such vote of its shareholders (the "Shareholder Approval") as the rules and regulations of The Nasdaq Stock Market (or successor thereto) may require to approve the issuance in a private placement of shares of Common Stock that would equal or exceed 20% of the number of shares of Common Stock outstanding on the issuance date of the Series A Preferred Stock at a price per share less than the greater of book or fair market value of the Common Stock, or (ii) the Company's Common Stock is no longer listed or quoted on any of the Nasdaq SmallCap Market, the New York Stock Exchange, or the Nasdaq National Market, and, in the case of either (i) or (ii) above, (iii) the Company's Articles of Incorporation have been amended to increase the Company's authorized number of shares of Common Stock to a number greater than the shares of Common Stock the Company has reserved for issuance, including the shares reserved for issuance upon conversion of the Series A Preferred Stock. c. NUMBER OF CONVERSION SHARES. Each share of Series A Preferred Stock shall be convertible pursuant to Section 5(b) into a number of shares of Common Stock determined by dividing (x) $2.50 by (y) the Conversion Price in effect on any Conversion Date. For the purposes of this Section 5, the term "Conversion Price" shall initially mean $.50; provided, however, in the event that the Shareholder Approval is not obtained on or before 180 days after the issuance of the Series A Preferred Stock, then, in such event, the Conversion Price shall decrease by 1.5% on such 180th day and each 90 day anniversary of the expiration date of such 180 day period, until such Shareholder Approval is obtained. -3- d. MECHANICS OF CONVERSION. Upon the occurrence of automatic conversion pursuant to Section 5(b), the outstanding shares of Series A Preferred Stock shall be converted automatically without any further action by the holders of such shares and whether or not the certificates representing such shares are surrendered to the Corporation or its transfer agent; provided that the Corporation shall not be obligated to issue to any holder certificates evidencing the shares of Common Stock issuable upon such conversion unless certificates evidencing such shares of Series A Preferred Stock are delivered either to the Corporation or any transfer agent of the Corporation. Conversion shall be deemed to have been effected on the date of the occurrence of the applicable event specified in Section 5(b) and such date is referred to herein as the "Conversion Date". Subject to the provisions of Section 5(f)(iii), as promptly as practicable thereafter (and after surrender of the certificate or certificates representing shares of Series A Preferred Stock to any transfer agent of the Corporation) the Corporation shall issue and deliver to or upon the written order of such holder a certificate or certificates for the number of full shares of Common Stock to which such holder is entitled and a check or cash with respect to any fractional interest in a share of Common Stock as provided in Section 5(e). Subject to the provisions of Section 5(f)(iii), the person in whose name the certificate or certificates for Common Stock are to be issued shall be deemed to have become a holder of record of such Common Stock on the applicable Conversion Date. e. FRACTIONAL SHARES. No fractional shares of Common Stock or scrip shall be issued upon conversion of shares of Series A Preferred Stock. If more than one share of Series A Preferred Stock shall be held by the same holder at the time of any automatic conversion, the number of full shares of Common Stock issuable upon conversion thereof shall be computed on the basis of the aggregate number of shares so surrendered or held. Instead of any fractional shares of Common Stock which would otherwise be issuable upon conversion of any shares of Series A Preferred Stock, the Corporation shall pay out of funds legally available therefor a cash adjustment in respect of such fractional interest, rounded to the nearest one hundredth (1/100th) of a share, in an amount equal to that fractional interest of the then Current Market Price (as defined in Section 5(g) below), rounded to the nearest cent ($.01). f. COMMON STOCK CONVERSION PRICE ADJUSTMENTS. The Conversion Price shall be subject to adjustment from time to time as follows: i. STOCK DIVIDENDS, SUBDIVISIONS, RECLASSIFICATIONS OR COMBINATIONS. If the Corporation shall (x) declare a dividend or make a distribution on its Common Stock in shares of its Common Stock, (y) subdivide or reclassify the outstanding shares of Common Stock into a greater number of shares of Common Stock or (z) combine or reclassify the outstanding shares of Common Stock into a smaller number of shares of Common Stock, then the Conversion Price in effect at the time of the record date for such dividend or distribution or the effective date of such subdivision, combination or reclassification shall be adjusted to equal that price determined -4- by multiplying the Conversion Price in effect by a fraction (x) the numerator of which shall be the total number of issued and outstanding shares of Common Stock immediately prior to such dividend, distribution, subdivision, combination or reclassification and (y) the denominator of which shall be the total number of issued and outstanding shares of Common Stock immediately after such dividend, distribution, subdivision, combination or reclassification. Successive adjustments in the Conversion Price shall be made whenever any event specified above shall occur. ii. ROUNDING OF CALCULATIONS; MINIMUM ADJUSTMENT. All calculations under this Section 5(f) shall be made to the nearest cent ($.01) or to the nearest one hundredth (1/100th) of a share, as the case may be. Any provision of this Section 5 to the contrary notwithstanding, no adjustment in the Conversion Price shall be made if the amount of such adjustment would be less than 1% of the then current Conversion Price until the end of one year after such adjustment would otherwise have been required; but any such amount shall be carried forward and an adjustment with respect thereto shall be made at the time of and together with any subsequent adjustment which, together with such amount and any other amount or amounts so carried forward, shall aggregate 1% of the then current Conversion Price or more, provided that if the events giving rise to such adjustments occur within three months of each other, then such adjustments shall be calculated as if these events giving rise to them had occurred simultaneously on the date of the first such event. iii. TIMING OF ISSUANCE OF ADDITIONAL COMMON STOCK UPON CERTAIN ADJUSTMENTS. In any case in which the provisions of this Section 5(f) shall require that an adjustment shall become effective immediately after a record date for an event, the Corporation may defer until the occurrence of such event (x) issuing to the holder of any share of Series A Preferred Stock converted after such record date and before the occurrence of such event the additional shares of Common Stock issuable upon such conversion by reason of the adjustment required by such event over and above the shares of Common Stock issuable upon such conversion before giving effect to such adjustment and (y) paying to such holder any amount of cash in lieu of a fractional share of Common Stock pursuant to Section 5(e); provided that the Corporation upon request shall deliver to such holder a due bill or other appropriate instrument evidencing such holder's right to receive such additional shares, and such cash, upon the occurrence of the event requiring such adjustment. g. CURRENT MARKET PRICE. The "Current Market Price" at any date shall mean, in the event the Common Stock is publicly traded, the average of the daily closing prices per share of such equity security for the 20 consecutive trading days ending on the trading day immediately before such date (as adjusted for any stock dividend, split, combination or reclassification that took effect during such 20 trading -5- day period). The closing price for each day shall be the last reported sale price or, in case no such reported sale takes place on such day, the average of the last reported closing bid prices, in either case on the principal national securities exchange on which such equity security is listed or admitted to trading, or if not listed or admitted to trading on any national securities exchange, the closing bid price for such day reported by NASDAQ, if such equity security is traded over-the-counter and quoted in the National Market System, or if such equity security is so traded, but not so quoted, the average of the closing bid prices of such equity security as reported by NASDAQ or any comparable system or, if such equity security is not listed on NASDAQ or any comparable system, the average of the closing bid prices as furnished by two members of the National Association of Securities Dealers, Inc., selected in good faith from time to time by the Board of Directors of the Corporation for that purpose. If such equity security is not traded in such manner that the quotations referred to above are available for the period required hereunder, Current Market Price per share of such equity security shall be deemed to be the fair value as determined in good faith by the Board of Directors of the Corporation, irrespective of any accounting treatment. h. STATEMENT REGARDING ADJUSTMENTS. Whenever the Conversion Price shall be adjusted as provided in Section 5(f), the Corporation shall forthwith file, at the office of any transfer agent for the Series A Preferred Stock and at the principal office of the Corporation, a statement showing in detail the method of calculation of such adjustment, the facts requiring such adjustment and the Conversion Price that shall be in effect after such adjustment, and the Corporation shall also cause a copy of such statement to be sent by mail, first class postage prepaid, to each holder of shares of Series A Preferred Stock at its address appearing on the Corporation's records. Each such statement shall be signed by the Corporation's chief financial officer. Where appropriate, such copy may be given in advance and may be included as part of a notice required to be mailed under the provisions of Section 5(i). i. NOTICE TO HOLDERS. In the event the Corporation shall propose to take any action of the type described in Section 5(f)(i) or 5(j), the Corporation shall give notice to each holder of shares of Series A Preferred Stock in the manner set forth in Section 5(h), which notice shall specify the record date, if any, with respect to any such action and the approximate date on which such action is to take place. Such notice shall also set forth such facts with respect thereto as shall be reasonably necessary to indicate the effect of such action (to the extent such effect may be known at the date of such notice) on the Conversion Price and the number, kind or class of shares or other securities or property which shall be deliverable upon conversion of shares of Series A Preferred Stock. In the case of any action which would require the fixing of a record date, such notice shall be given at least ten calendar days prior to the date so fixed, and in the case of all other action, such notice shall be given at least 15 calendar days prior to the taking of such proposed action. Failure to give such notice, or any defect therein, shall not affect the legality or validity of any such action. -6- j. MERGERS, ETC. In the event the Corporation shall be a party to any transaction (including, without limitation, a merger, consolidation, sale, lease or transfer of all or substantially all of its assets, reclassification of the Common Stock or reorganization of the Company) as a result of which shares of Common Stock shall be converted into the right to receive stock, securities or other property (including cash or any combination thereof), each share of Series A Preferred Stock shall thereafter be convertible into the kind and amount of shares of stock and other securities and property receivable (including cash) upon the consummation of such transaction by a holder of that number of shares of Common Stock, or fraction thereof, into which one share of Series A Preferred Stock would have been convertible immediately prior to such transaction, assuming the occurrence at such time of an event described in Section 5(b). k. TREASURY STOCK. For the purposes of this Section 5, the sale or other disposition of any shares of Common Stock theretofore held in the Corporation's treasury shall be deemed to be an issuance thereof. l. COSTS. The Corporation shall pay all documentary, stamp, transfer or other transactional taxes attributable to the issuance or delivery of shares of Common Stock upon conversion of any shares of Series A Preferred Stock; provided that the Corporation shall not be required to pay any taxes which may be payable in respect of any transfer involved in the issuance or delivery of any certificate for such shares in a name other than that of the holder of the shares of Series A Preferred Stock in respect of which such shares are being issued. m. DIVIDENDS UPON CONVERSION. In connection with any conversion of shares of Series A Preferred Stock, the Corporation shall pay accrued and unpaid dividends thereon in accordance with the provisions of Section 6(d). 6. DIVIDENDS. a. GENERAL. i. Subject to the rights of the holders of any other series of Preferred Stock ranking senior to or on a parity with the Series A Preferred Stock with respect to dividends and any other class or series of capital stock of the Corporation ranking senior to or on a parity with the Series A Preferred Stock with respect to dividends, other than the Common Stock, and in the event that the Series A Preferred Stock has not converted into Common Stock pursuant to Section 5(b) herein within 180 days of the original issuance of the Series A Preferred Stock, the holders of the Series A Preferred Stock shall be entitled to receive, beginning 180 days after the original issuance of the Series A Preferred Stock, when and as declared by the Board of Directors, cumulative dividends per share of Series A Preferred Stock at the rate per annum of $0.375, during the period commencing 180 days after the date of -7- original issuance of any shares of Series A Preferred Stock until converted pursuant to Section 5(b) above. ii. Dividends on the Series A Preferred Stock will accrue on each December 15, March 15, June 15, and September 15, occurring 180 days after the date of original issuance (each such date being referred to herein as an "Accrual Date" and the three-month period or portion thereof, as the case may be, ending on an Accrual Date being referred to herein as an "Accrual Period"). Dividends will accrue 180 days from the date of original issuance. Dividends will be paid (when and as declared by the Board of Directors of the Corporation) annually, in the arrears, on January 1, April 1, July 1, and October 1. Each such dividend shall be paid to the holders of record of shares of the Series A Preferred Stock as they appear on the stock register of the Corporation on the date ten calendar days preceding the payment date thereof. Dividends on account of arrears for any past dividend periods may be declared and paid at any time, without reference to any regular dividend payment date, to holders of record on such date, not exceeding 45 nor less than ten calendar days preceding the payment date thereof, as may be fixed by the Board of Directors of the Corporation. Holders of shares of Series A Preferred Stock at the close of business on a dividend payment record date will be entitled to receive the dividend payable with respect to such shares on the corresponding dividend payment date notwithstanding the conversion thereof or the Corporation's default on payment of the dividend due on such dividend payment date. However, for shares of Series A Preferred Stock surrendered for conversion during the period from the close of business on any dividend payment record date to the opening of business on the corresponding dividend payment date, the Corporation shall only be required to pay the dividend to the holder of such shares on the dividend payment record date. Except as so provided above and in Section 6(d) below, no payment or adjustment will be made on account of accrued or unpaid dividends upon conversion of shares of Series A Preferred Stock. Holders of shares of Series A Preferred Stock called for redemption on a redemption date falling between a dividend payment record date and the dividend payment date shall, in lieu of receiving such dividend on the dividend payment date, receive such dividend payment on the redemption payment date (unless such holders convert such shares in accordance with this Certificate). iii. The Corporation shall pay the dividends on the Series A Preferred Stock described in Section 6(a)(i), at the Corporation's option and in its sole discretion, out of funds legally available therefor (A) in cash, (B) in shares of Common Stock, such that the number of shares of Common Stock to be distributed as a dividend with respect to the portion of the dividend attributable to each Accrual Period shall be equal to the number obtained by dividing the dollar amount of the portion of the dividend attributable to such Accrual Period by the Current Market Price of the Common Stock on the tenth trading day immediately preceding the applicable Accrual Date, or (C) in -8- any combination of cash and shares of Common Stock that the Corporation may determine in its sole discretion, with the number of shares of Common Stock to be distributed in connection therewith to be calculated on the basis set forth in Section 6(a)(iii)(B). iv. No fractional shares of Common Stock or scrip shall be issued upon payment of any dividends in shares of Common Stock. If more than one share of Series A Preferred Stock shall be held by the same holder at the time of any dividend payment date, the number of full shares of Common Stock issuable upon payment of such dividends shall be computed on the basis of the aggregate dividend amount that the Corporation has determined to pay in Common Stock shares. Instead of any fractional shares of Common Stock which would otherwise be issuable upon payment of such dividends, the Corporation shall pay out of funds legally available therefor a cash adjustment in respect of such fractional interest, rounded to the nearest one hundredth (1/100th) of a share, in an amount equal to that fractional interest of the then Current Market Price, rounded to the nearest cent ($.01). b. ALLOCATION OF DIVIDENDS. Dividends on the Series A Preferred Stock, if paid, or if declared and set apart for payment, must be paid or declared and set apart for payment on all outstanding shares of Series A Preferred Stock contemporaneously. In the event dividends on the Series A Preferred Stock and any other series of Preferred Stock ranking on a parity therewith in respect thereto or any other class or series of capital stock of the Corporation ranking on a parity therewith in respect thereto are declared and paid in an amount less than all accumulated and current dividends on all of such shares, the total amount declared and paid shall be allocated among all of such shares so that the per share dividend to be declared and paid on each share is the same percentage of the sum of the accumulated dividends for each such share. In the event dividends are declared and paid on the Series A Preferred Stock in a combination of cash and shares of Common Stock, the percentage of the dividend paid in cash and the percentage of the dividend paid in stock must be the same for each share of Series A Preferred Stock. c. DIVIDEND PRIORITIES. The Corporation shall not declare or pay any distributions to the holders of the Common Stock or any other class or series of capital stock ranking junior to the Series A Preferred Stock in respect of dividends during any period of time in which any shares of Series A Preferred Stock are outstanding or in which any dividends payable on any shares of Series A Preferred Stock have not been declared and paid in full. In this Section 6(c), "distribution" means the transfer of cash or property without consideration, whether by way of dividend or otherwise (except a dividend solely in shares of Common Stock), or the purchase or redemption by the Corporation of shares of Common Stock or any other shares of capital stock of the Corporation ranking junior to the Series A Preferred Stock in respect of dividends for cash or property, but does not include the repurchase by the Corporation of shares from an officer, director, employee or consultant of the Corporation. -9- d. DIVIDENDS ON CONVERSION OR REDEMPTION. i. Immediately prior to the conversion of any shares of Series A Preferred Stock into Common Stock or the redemption of any shares of Series A Preferred Stock, all accrued and unpaid dividends payable pursuant to Section 6 (whether or not declared) on such shares so converted or redeemed, as the case may be, (prorated until the date of conversion or redemption, as the case may be, in respect of the Accrual Period in which such date occurs) shall be payable, at the Corporation's option and in its sole discretion, out of funds legally available therefor (A) in cash, (B) in shares of Common Stock, such that the number of shares of Common Stock to be distributed with respect to the portion of the dividend attributable to each Accrual Period shall be equal to the number obtained by dividing the dollar amount of the portion of the dividend attributable to such Accrual Period by the Current Market Price of the Common Stock on the tenth trading day immediately preceding the applicable Accrual Date, or (C) in any combination of cash and shares of Common Stock that the Corporation may determine in its sole discretion, with the number of shares of Common Stock to be distributed in connection therewith to be calculated on the basis set forth in Section 6(d)(i)(B). ii. No fractional shares of Common Stock or scrip shall be issued upon payment of any dividends in shares of Common Stock upon conversion or redemption of any shares of Series A Preferred Stock. If more than one share of Series A Preferred Stock shall be held by the same holder at the time of any automatic conversion or shall be held by the same holder at the time of any redemption, as the case may be, the number of full shares of Common Stock issuable upon payment of such dividends shall be computed on the basis of the aggregate dividend amount that the Corporation has determined to pay in Common Stock shares. Instead of any fractional shares of Common Stock which would otherwise be issuable upon payment of such dividends, the Corporation shall pay out of funds legally available therefor a cash adjustment in respect of such fractional interest, rounded to the nearest one hundredth (1/100th) of a share, in an amount equal to that fractional interest of the then Current Market Price, rounded to the nearest cent ($.01). 7. REDEMPTION. a. GENERAL. i. On June 15, 2005, the Corporation shall redeem in whole the then outstanding shares of Series A Preferred Stock. ii. The Corporation shall redeem the Series A Preferred Stock by paying a redemption amount equal to $2.50 per share of Series A Preferred Stock (the "Redemption Price") in cash. -10- iii. In connection with any redemption of shares of Series A Preferred Stock, in addition to the Redemption Price, the Corporation shall pay accrued and unpaid dividends thereon in accordance with the provisions of Section 6(d). iv. The Redemption Price payable pursuant hereto shall be equitably adjusted to reflect any stock dividend, stock distribution, stock split or reverse stock split, combination of shares, subdivision of shares or reclassification of shares with respect to any shares of the Series A Preferred Stock. b. NOTICE. i. Notice of any proposed redemption of Series A Preferred Stock shall be given by the Corporation by mailing a copy of such notice by first class mail, postage prepaid, not less than 30 nor more than 90 calendar days prior to the date fixed for such redemption to each holder of record of the shares to be redeemed at his address appearing on the books of the Corporation. ii. Each such notice shall state, among other things, (A) the redemption payment date, (B) that dividends on the shares to be redeemed shall cease to accrue following such redemption payment date, and (C) that dividends accrued to and including the date fixed for redemption will be paid as specified in said notice. iii. Notice having been mailed as aforesaid, from and after the redemption payment date, unless the Corporation shall be in default in providing money or Common Stock for the payment of the Redemption Price (or for any accrued and unpaid dividends to and including the redemption payment date), (A) dividends on the shares of Series A Preferred Stock so called for redemption shall cease to accrue, (B) said shares shall be deemed no longer outstanding, and (C) all rights of the holders thereof as stockholders of the Corporation (except the right to receive from the Corporation any monies or Common Stock payable upon redemption without interest thereon) shall cease except for the rights applicable to any Common Stock paid pursuant to the redemption. 8. REACQUIRED SHARES. Any shares of Series A Preferred Stock redeemed, purchased, converted or otherwise acquired by the Corporation in any manner whatsoever shall not be reissued as part of such series and shall be retired promptly after the acquisition thereof. All such shares shall upon their retirement and the filing of any certificate required in connection therewith pursuant to the Texas Business Corporation Act Law become authorized but unissued shares of Preferred Stock. -11- RESOLVED, that, before the Company shall issue any shares of the Series A Preferred Stock, a certificate pursuant to Article 2.13 of the Texas Business Corporation Act shall be made, executed, acknowledged, filed and recorded in accordance with the provisions of said Article 2.13; and the proper officers of the Company shall take all other actions and file all other documents as are necessary or appropriate to effectuate the foregoing resolutions. IN WITNESS WHEREOF, MEDICAL SCIENCE SYSTEMS, INC. has caused this certificate to be duly executed this _____ day of June, 1999. MEDICAL SCIENCE SYSTEMS, INC. By ________________________________________ U. Spencer Allen, Chief Financial Officer -12- EX-4.2 4 EXHIBIT 4.2 Medical Science Systems, Inc. Warrant Dated: June 15, 1999 THIS CERTIFIES THAT Fine Equities, Inc. (herein sometimes called the "Holder") is entitled to purchase from Medical Science Systems, Inc., a Texas corporation (hereinafter called the "Company"), at the prices and during the periods as hereinafter specified, up to one million (1,000,000) shares of the Company's common stock, no par value per share ("Common Stock"). This Warrant (the "Warrant" and, together with any successor warrants, the "Warrants") is exercisable at an exercise price of $0.50 per share, subject to adjustment, at any time from the first anniversary of the date hereof until June 15, 2004. This issuance of this Warrant shall cancel and supersede that certain Warrant, dated June 15, 1999, to purchase up to 756,000 shares of the Company's Common Stock at an exercise price of $0.50 per share. This Warrant to purchase 1,000,000 shares of Common Stock, subject to adjustment in accordance with Section 8 of this Warrant (the "Warrant Shares"), was originally issued pursuant to an agency agreement among the Company and Fine Equities, Inc. as placement agent (the "Placement Agent") in connection with a private offering (the "Offering") of shares of Series of A Preferred Stock, no par value per share ("Series A Preferred Stock"), through the Placement Agent, in consideration of $100.00 received for the Warrant. Except as specifically otherwise provided herein, the Common Stock issuable upon exercise of the Warrant shall be the same class of Common Stock as the currently outstanding Common Stock of the Company and the Common Stock issuable upon conversion of the Series A Preferred Stock as described in the Confidential Private Placement Memorandum, dated June 15, 1999, and any supplements thereto, except that the holder shall have registration rights under the Securities Act of 1933, as amended (the "Act"), for the Warrant Shares as more fully described in Section 6 of this Warrant. The Company will list the Warrant Shares on the Nasdaq SmallCap Market and/or such other exchange or market as the Common Stock may then be listed or quoted prior to exercise of the Warrant. 1. The rights represented by this Warrant shall be exercised at the prices, subject to adjustment in accordance with Section 8 of this Warrant ("the "Exercise Price"), and during the periods as follows: (a) Between June 15, 2000 and June 15, 2004 inclusive, the Holder shall have the option to purchase Warrant Shares hereunder at a price of $0.50 per share. For purposes of the adjustments under Section 8 hereof, the Per Share Exercise Price shall be deemed to be $0.50, subject to further adjustment as provided in such Section 8; and (b) After June 15, 2004 the Holder shall have no right to purchase any Warrant Shares hereunder. 2. (a) The rights represented by this Warrant may be exercised at any time within the period above specified, in whole or in part, by (i) the surrender of this Warrant (with the purchase form at the end hereof properly executed) at the principal executive office of the Company (or such other office or agency of the Company as it may designate by notice in writing to the Holder at the address of the Holder appearing on the books of the Company); and (ii) payment to the Company of the exercise price then in effect for the number of Warrant Shares specified in the above-mentioned purchase form together with applicable stock transfer taxes, if any. This Warrant shall be deemed to have been exercised, in whole or in part to the extent specified, immediately prior to the close of business on the date this Warrant is surrendered and payment is made in accordance with the foregoing provisions of this Section 2, and the person or persons in whose name or names the certificates for Warrant Shares shall be issuable upon such exercise shall become the holder or holders of record of such Warrant Shares at that time and date. The certificates for the Warrant Shares so purchased shall be delivered to the Holder as soon as practicable but not later than ten (10) days after the rights represented by this Warrant shall have been so exercised. (b) At any time during the period above specified, during which this Warrant may be exercised, the Holder may, at its option, exchange this Warrant, in whole or in part (a "Warrant Exchange"), into the number of Warrant Shares determined in accordance with this Section (b), by surrendering this Warrant at the principal office of the Company, accompanied by a notice stating such Holder's intent to effect such exchange, the number of Warrant Shares into which this Warrant is to be exchanged and the date on which the Holder requests that such Warrant Exchange occur (the "Notice of Exchange"). The Warrant Exchange shall take place on the date specified in the Notice of Exchange or, if later, the date the Notice of Exchange is received by the Company (the "Exchange Date"). Certificates for the Warrant Shares issuable upon such Warrant Exchange and, if applicable, a new Warrant of like tenor evidencing the balance of the Warrant Shares remaining subject to this Warrant, shall be issued as of the Exchange Date and delivered to the Holder within seven (7) days following the Exchange Date. In connection with any Warrant Exchange, this Warrant shall represent the right to subscribe for and acquire the number of Warrant Shares (rounded to the next highest integer) equal to (x) the number of Warrant Shares specified by the Holder in its Notice of Exchange up to the maximum number of Warrant Shares subject to this Warrant (the "Total Number") less (y) the number of Warrant Shares equal to the quotient obtained by dividing (A) the product of the Total Number and the existing Exercise Price by (B) the Fair Market Value. "Fair Market Value" shall mean first, if there is a trading market as indicated in Subsection (i) below for the shares of Common Stock, such Fair Market Value of the Common Stock and if there is no such trading market in the Common Stock, then Fair Market Value shall have the meaning indicated in Subsections (ii) through (iii) below: (i) If the Common Stock is listed on a domestic or foreign securities exchange or admitted to unlisted trading privileges on such exchange or listed for trading on the Nasdaq National Market or the Nasdaq SmallCap Market, the Fair Market Value shall be the average of the last reported sale prices or the average of the means of the last reported bid and asked prices of the Common Stock on such exchange or market for the ten (10) business days ending on the last business day prior to the Exchange Date; or (ii) If the Common Stock is not so listed or admitted to unlisted trading privileges, the Fair Market Value shall be the average of the means of the last reported bid and asked prices of the Common Stock for the ten (10) business days ending on the last business day prior to the Exchange Date; or (iii) If the Common Stock is not so listed or admitted to unlisted trading privileges and bid and asked prices are not so reported, the Fair Market Value shall be an amount, not less than book value thereof as at the end of the most recent fiscal year of the Company ending prior to the Exchange Date, determined in such reasonable manner as may be prescribed by the Board of Directors of the Company. 3. This Warrant and the Warrant Shares may be transferred, sold, assigned or hypothecated so long as any such assignment shall be effected by the Holder (i) executing the form of assignment at the end hereof and (ii) surrendering this Warrant for cancellation at the office or agency of the Company referred to in Section 2 hereof, whereupon the Company shall issue, in the name or names specified by the Holder (including the Holder) a new Warrant or Warrants of like tenor and representing in the aggregate rights to purchase the same number of Warrant Shares as are purchasable hereunder. 4. The Company covenants and agrees that all shares of Common Stock which may be issued upon exercise of the Warrant, upon issuance and payment therefor in accordance with the terms of this Warrant, will be duly and validly issued, fully paid and nonassessable and no personal liability will attach to the holder thereof solely by reason of being such holder. The Company further covenants and agrees that during the periods within which this Warrant may be exercised, assuming approval of an amendment to the Company's Articles of Incorporation increasing the number of authorized shares of Common Stock to a number sufficient to allow for the issuance of all shares of Common Stock reserved for issuance, the Company will at all times have authorized and reserved a sufficient number of shares of its Common Stock to provide for the exercise of this Warrant. - 2 - 5. This Warrant shall not entitle the Holder to any voting rights or any other rights, or subject the Holder to any liabilities, as a stockholder of the Company. 6. (a) If any Majority Holder (as defined below) shall give notice to the Company at any time to the effect that such holder desires to register under the Securities Act of 1933, as amended (the "Act"), any of the Warrant Shares under such circumstances that a public distribution (within the meaning of the Act) of any such securities will be involved then the Company will promptly, at its own expense, but no later than four weeks after receipt of such notice, file a registration statement to the end that the Warrant Shares may be publicly sold under the Act as promptly as practicable thereafter and the Company will use its best efforts to cause such registration to become and remain effective (including the taking of such steps as are necessary to obtain the removal of any stop order); provided, that such Majority Holder shall furnish the Company with appropriate information in connection therewith as the Company may reasonably request in writing. A Majority Holder may request the filing of a registration statement under the Act on one occasion during the period beginning on the date hereof through June 15, 2004. The Majority Holder may request the registration of the Warrant Shares in connection with a request made pursuant to this Section 6(a) prior to acquisition of the Warrant Shares issuable upon exercise of the Warrant and even though the Majority Holder has not given notice of exercise of the Warrant. Such registration rights may be exercised by the Majority Holder prior to or subsequent to the exercise of the Warrant. In the event the registration statement is not filed within the period specified herein and in the event the registration statement is not declared effective under the Act prior to June 15, 2004, then, at the holders' request, the Company shall purchase the Warrant from the holder for a per share price equal to the difference between (i) the Fair Market Value of the Common Stock on the date of notice multiplied by the number of shares of Common Stock issuable upon exercise of the Warrant and (ii) the per share purchase price of the Warrant. All costs and expenses of the registration statement under this paragraph 6(a) shall be borne by the Company, except that the holders shall bear the fees of their own counsel and any underwriting discounts or commissions applicable to any of the securities sold by them. The Company will maintain such registration statement current under the Act for a period of at least six months (and for up to an additional three months if requested by the Holder) from the effective date thereof. The term "Majority Holder" as used in this Section 6 shall mean the holder of greater than 50% of the Warrant Shares and shall include any owner or combination of owners of such securities, which ownership shall be calculated by determining the number of Warrant Shares held by such owner or owners as well as the number of shares then issuable upon exercise of the Warrant(s). (b) At any time prior to June 15, 2006, if the Company shall determine to proceed with the actual preparation and filing of a registration statement under the Act in connection with the proposed offer and sale of any of its securities by it or any of its security holders (other than a registration statement on Form S-4, S-8 or similar limited purpose form), then the Company will give written notice of its determination to all record holders of the Warrants and Warrant Shares. Upon the written request from any record holder or holders (the "Requesting Holder(s)"), within twenty (20) days after receipt of any such notice from the Company, the Company will, except as herein provided, cause all the Warrant Shares of such Requesting Holder(s) to be included in such registration statement, all to the extent requisite to permit the sale or other disposition by the prospective seller or sellers of the Warrant Shares at the Company's expense to be so registered; provided, further, that nothing herein shall prevent the Company from, at any time, abandoning or delaying any registration. If any registration pursuant to this Section 6(b) shall be underwritten in whole or in part, the Company may require that the Warrant Shares requested for inclusion pursuant to this Section 6(b) be included in the underwriting on the same terms and conditions as the securities otherwise being sold through the underwriters. In the event that the Warrant Shares requested for inclusion pursuant to this Section 6(b) together with any other shares which have similar piggyback registration rights (such shares and the Warrant Shares being collectively referred to as the "Requested Stock") would constitute more than 15% of the total number of shares to be included in a proposed underwritten public offering, and if in the good faith judgment of the managing underwriter of such public offering the inclusion of all of the Requested Stock originally covered by a request for registration would reduce the number of shares to be offered by the Company or interfere with the successful - 3 - marketing of the shares of stock offered by the Company, the number of shares of Requested Stock otherwise to be included in the underwritten public offering may be reduced pro rata (by number of shares) among the holders thereof requesting such registration or excluded in their entirety if so required by the underwriter. All costs and expenses of the registration statement under this paragraph 6(b) shall be borne by the Company, except that the holders shall bear the fees of their own counsel and any underwriting discounts or commissions applicable to any of the securities sold by them. (c) Whenever pursuant to Section 6 a registration statement relating to any Warrant Shares is filed under the Act, amended or supplemented, the Company shall (i) supply prospectuses and such other documents as the Holder may request in order to facilitate the public sale or other disposition of the Warrant Shares, (ii) use its best efforts to register and qualify any of the Warrant Shares for sale in such states as such Holder designates, (iii) furnish indemnification in the manner provided in Section 7 hereof, (iv) notify each Holder of Warrant Shares at any time when a prospectus relating thereto is required to be delivered under the Act, of the happening of any event as a result of which the prospectus included in such registration statement, as then in effect, contains an untrue statement of a material fact or omits to state a material fact required to be stated therein or necessary to make the statements therein not misleading and, at the request of any such Holder, prepare and furnish to such Holder a reasonable number of copies of a supplement to or an amendment of such prospectus as may be necessary so that, as thereafter delivered to the purchasers of such Warrant Shares, such prospectus shall not included an untrue statement of a material fact or omit to state material fact required to be stated therein or necessary to make the statements therein not misleading and (v) do any and all other acts and things which may be necessary or desirable to enable such Holders to consummate the public sale or other disposition of the Warrant Shares. The Holder shall furnish appropriate information in connection therewith and indemnification as set forth in Section 7. (d) The Company shall not permit the inclusion of any securities other than the Warrant Shares to be included in any registration statement filed pursuant to Section 6(a) hereof without the prior written consent of the Majority Holder. (e) The Company shall furnish to each Holder participating in the offering and to each underwriter, if any, a signed counterpart, addressed to such Holder or underwriter, of (i) an opinion of counsel to the Company, dated the effective date of such registration statement (or, if such registration includes an underwritten public offering, an opinion dated the date of the closing under the underwriting agreement), and (ii) if such registration includes an underwritten public offering, a "cold comfort" letter dated the effective date of such registration statement and dated the date of the closing under the underwriting agreement signed by the independent public accountants who have issued a report on the Company's financial statements included in such registration statement, in each case covering substantially the same matters with respect to such registration statement (and the prospectus included therein) and, in the case of such accountants' letter, with respect to events subsequent to the date of such financial statements, as are reasonably and customarily covered in opinions of issuer's counsel and in accountants' letters delivered to underwriters in underwritten public offerings of securities. (f) The Company shall deliver promptly to each Holder participating in the offering requesting the correspondence and memoranda described below and to the managing underwriter copies of all correspondence between the Commission and the Company, its counsel or auditors and all memoranda relating to discussions with the Commission or its staff with respect to the registration statement and permit each Holder and underwriter to do such investigation, upon reasonable advance notice, with respect to information contained in or omitted from the registration statement as it deems reasonable necessary to comply with applicable securities laws or rules of the National Association of Securities Dealers, Inc. ("NASD"). Such investigation shall include access to non-confidential books, records and properties and opportunities to discuss the business of the Company with its officers and independent auditors, all to such reasonable extent and at such reasonable times as any such Holder shall reasonably request. 7. (a) Whenever pursuant to Section 6 a registration statement relating to the Warrant Shares is filed under the Act, amended or supplemented, the Company will indemnify and hold harmless each holder of the Warrant Shares covered by such registration statement, amendment or supplement (such holder being hereinafter called - 4 - the "Distributing Holder"), and each person, if any, who controls (within the meaning of the Act) the Distributing Holder, and each underwriter (within the meaning of the Act) of such securities and each person, if any, who controls (within the meaning of the Act) any such underwriter, against any losses, claims, damages or liabilities, joint or several, to which the Distributing Holder, any such controlling person or any such underwriter may become subject, under the Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions in respect thereof) arise out of or are based upon any untrue statement or alleged untrue statement of any material fact contained in any such registration statement or any preliminary prospectus or final prospectus constituting a part thereof or any amendment or supplement thereto, or arise out of or are based upon the omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading; and will reimburse the Distributing Holder and each such controlling person and underwriter for any legal or other expenses reasonably incurred by the Distributing Holder or such controlling person or underwriter in connection with investigating or defending any such loss, claim, damage, liability or action; provided, however, that the Company will not be liable in any such case to the extent that any such loss, claim, damage or liability arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission made in said registration statement, said preliminary prospectus, said final prospectus or said amendment or supplement in reliance upon and in conformity with written information furnished in writing by such Distributing Holder specifically for use in the preparation thereof. (b) Each Distributing Holder agrees, severally but not jointly, to indemnify and hold harmless the Company against any losses, claims, damages or liabilities to which the Company may become subject, under the Act or otherwise, insofar as such losses, claims, damages or liabilities arise out of or are based upon any untrue or alleged untrue statement of any material fact contained in said registration statement, said preliminary prospectus, said final prospectus or said amendment or supplement, or arise out of or are based upon the omission or the alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, in each case to the extent, but only to the extent that such untrue statement or alleged untrue statement or omission or alleged omission was made in said registration statement, said preliminary prospectus, said final prospectus or said amendment or supplement in reliance upon and in conformity with written information furnished in writing by such Distributing Holder specifically for use in the preparation thereof; except that the maximum amount which may be recovered from the Distributing Holder pursuant to this Section 7 or otherwise shall be limited to the amount of net proceeds received by the Distributing Holder from the sale of the Warrant Shares. (c) Promptly after receipt by an indemnified party under this Section 7 of notice of the commencement of any action, such indemnified party will, if a claim in respect thereof is to be made against any indemnifying party, give the indemnifying party notice of the commencement thereof; but the omission so to notify the indemnifying party will not relieve it from any liability which it may have to any indemnified party otherwise than under this Section 7. (d) In case any such action is brought against any indemnified party, and it notifies an indemnifying party of the commencement thereof, the indemnifying party will be entitled to participate in, and, to the extent that it may wish, jointly with any other indemnifying party similarly notified to assume the defense thereof, with counsel reasonably satisfactory to such indemnified party, and after notice from the indemnifying party to such indemnified party of its election so to assume the defense thereof, the indemnifying party will not be liable to such indemnified party under this Section 7 for any legal or other expenses subsequently incurred by such indemnified party in connection with the defense thereof other than reasonable costs of investigation. 8. The Exercise Price in effect at any time and the number and kind of securities purchasable upon the exercise of the Warrant shall be subject to adjustment from time to time upon the happening of certain events as follows: (a) In case the Company shall (i) declare a dividend or make a distribution on its outstanding shares of Common Stock in shares of Common Stock, (ii) subdivide or reclassify its outstanding shares of Common Stock into a greater number of shares or (iii) combine or reclassify its outstanding shares of Common Stock into a smaller number of shares, the Exercise Price in effect at the time of the record date for such dividend or distribution or of the effective date of such subdivision, combination or reclassification shall be adjusted so that it shall equal the - 5 - price determined by multiplying the Exercise Price by a fraction, the denominator of which shall be the number of shares of Common Stock outstanding after giving effect to such action and the numerator of which shall be the number of shares of Common Stock outstanding immediately prior to such action. Such adjustment shall be made successively whenever any event listed above shall occur. (b) No adjustment in the Exercise Price shall be required unless such adjustment would require an increase or decrease of at least five cents ($0.05) in such price; provided, however, that any adjustments which by reason of this Subsection (b) are not required to be made shall be carried forward and taken into account in any subsequent adjustment required to be made hereunder. All calculations under this Section 8 shall be made to the nearest cent or to the nearest one-hundredth of a share, as the case may be. Anything in this Section 8 to the contrary notwithstanding, the Company shall be entitled, but shall not be required, to make such changes in the Exercise Price, in addition to those required by this Section 8, as it shall determine, in its sole discretion, to be advisable in order that any dividend or distribution in shares of Common Stock, or any subdivision, reclassification or combination of Common Stock, hereafter made by the Company shall not result in any Federal Income tax liability to the holders of Common Stock or securities convertible into Common Stock. (c) Whenever the Exercise Price is adjusted, as herein provided, the Company shall promptly but no later than 10 days after any request for such an adjustment by the Holder, cause a notice setting forth the adjusted Exercise Price and adjusted number of Warrant Shares issuable upon exercise of each Warrant and, if requested, information describing the transactions giving rise to such adjustments, to be mailed to the Holders, at the address set forth herein, and shall cause a certified copy thereof to be mailed to its transfer agent, if any. The Company may retain a firm of independent certified public accountants selected by the Board of Directors (who may be the regular accountants employed by the Company) to make any computation required by this Section 8, and a certificate signed by such firm shall be conclusive evidence of the correctness of such adjustment. (d) In the event that at any time, as a result of an adjustment made pursuant to Subsection (a) above, the Holder of this Warrant thereafter shall become entitled to receive any shares of the Company, other than Common Stock, thereafter the number of such other shares so receivable upon exercise of this Warrant shall be subject to adjustment from time to time in a manner and on terms as nearly equivalent as practicable to the provisions with respect to the Common Stock contained in Subsections (a) to (c), inclusive above. (e) In case any event shall occur as to which the other provisions of this Section 8 are not strictly applicable but as to which the failure to make any adjustment would not fairly protect the purchase rights represented by this Warrant in accordance with the essential intent and principles hereof then, in each such case, the Holder(s) of Warrant(s) representing the right to purchase a majority of the Warrant Shares may appoint a firm of independent public accountants reasonably acceptable to the Company, which shall give their opinion as to the adjustment, if any, on a basis consistent with the essential intent and principles established herein, necessary to preserve the purchase rights represented by the Warrant. Upon receipt of such opinion, the Company will promptly mail a copy thereof to the Holder of this Warrant and shall make the adjustments described therein. The fees and expenses of such independent public accountants shall be borne by the Company. 9. This Agreement shall be governed by and in accordance with the laws of the State of New York, without giving effect to the principles of conflicts of law thereof. IN WITNESS WHEREOF, Medical Science Systems, Inc. has caused this Warrant to be signed by its duly authorized officers under its corporate seal, and this Warrant to be dated June 15, 1999. MEDICAL SCIENCE SYSTEMS, INC. By:______________________________ (Corporate Seal) - 6 - Attest: ______________________________ ____________, Secretary - 7 - PURCHASE FORM (To be signed only upon exercise of the Warrant) The undersigned, the holder of the foregoing Warrant, hereby irrevocably elects to exercise the purchase rights represented by such Warrant for, and to purchase thereunder, shares of Common Stock, no par value per share, of Medical Science Systems, Inc. and herewith makes payment of $___ therefor. Dated: __________ INSTRUCTIONS FOR REGISTRATION OF STOCK Name: _____________________________________________ (Please type or print in block letters) Address: _____________________________________________ Signature: ____________________________________________ - 8 - WARRANT EXCHANGE The undersigned, pursuant to the provisions of the foregoing Warrant, hereby elects to exchange its Warrant for ________shares of Common Stock, no par value per share, of Medical Science Systems, Inc., pursuant to the Warrant Exchange provisions of the Warrant. Dated: ____________ Print Name: __________________________ Address: __________________________ Signature: __________________________ - 9 - TRANSFER FORM (To be signed only upon transfer of the Warrant) For value received, the undersigned hereby sells, assigns and transfers unto _____________ the right to purchase shares of Common Stock, no par value per share, of Medical Science Systems, Inc. represented by the foregoing Warrant to the extent of ______ shares , and appoints __________ attorney to transfer such rights on the books of Medical Science Systems, Inc., with full power of substitution in the premises. Dated: ___________ FINE EQUITIES, INC. By: _________________________________ _________________________________ Address In the presence of: - 10 - EX-10.1 5 EXHIBIT 10.1 CONSULTING SERVICES AGREEMENT between MEDICAL SCIENCE SYSTEMS, INC. and PHILIP R. REILLY THIS CONSULTING SERVICES AGREEMENT (this "AGREEMENT") is made and entered into as of the 1 day of June, 1999 (the "EFFECTIVE DATE") by and between Medical Science Systems, Inc., a Texas corporation (the "COMPANY"), and Philip R. Reilly, an individual residing in Concord, Massachusetts ("CONSULTANT"). IN CONSIDERATION of the mutual agreements herein contained and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, it is agreed as follows: 1. ENGAGEMENT. The Company hereby engages Consultant to serve as a consultant to the Company, and Consultant hereby accepts such engagement, upon and subject to the terms and conditions set forth herein. Consultant currently is employed as the Executive Director of the Shriver Center for Mental Retardation, Inc, and, in addition, provides consulting services to several companies as set forth in Schedule 2. 2. AFFILIATIONS. From and following the Effective Date of this Agreement, Consultant shall not act as a consultant for any person or entity other than the Company without first obtaining the written consent of the Company's Board of Directors. Notwithstanding the foregoing, consultant may (a) be employed as the Executive Director of the Shriver Center, (b) terminate his employment with the Shriver Center and seek employment elsewhere, and (c) be engaged as a consultant by any company or organization, provided that such consulting activity does not directly conflict with his duties and responsibilities as a consultant to Medical Science Systems, Inc. Consultant warrants to the Company that Consultant currently has no other consulting affiliations than those set forth in Schedule 2. 3. DUTIES. Consultant agrees to provide the services set forth on EXHIBIT A which is attached hereto and incorporated herein for all purposes. Consultant will devote approximately 10 to 15 hours per week, determined by averaging over the course of each year, to provide the services set forth in EXHIBIT A. The parties understand and acknowledge that potential conflicts or duality of interest, or the appearance of such conflict or duality of interest, may arise during Consultant's performance of those duties and services as a result of Consultant's other affiliations. Both parties recognize the importance of avoiding both actual conflicts and the appearance of conflicts of interest. The parties will therefore mutually develop procedures for identifying and evaluating actual, potential and apparent conflicts of duality of interests. In discharging his duties and responsibilities hereunder, Consultant will advise the Company when and if an actual or potential conflict arises. The parties will then mutually work at attempting to resolve the conflict. 4. COMPENSATION. Compensation for Consultant's services shall be in accordance with EXHIBIT B which is attached hereto and incorporated herein for all purposes. 5. INDEPENDENT CONTRACTOR. The parties understand and acknowledge that Consultant is an independent contractor and is not an employee of the Company for the purposes of this Agreement, the Social Security Act, the income withholding provisions of the Internal Revenue Code of 1986, as amended, or other federal or state laws relating to compensation, insurance, unemployment, or workman's compensation. Consultant acknowledges and agrees that it shall be his obligation to report as self-employment income all compensation received or accrued as a result of this Agreement. Consultant acknowledges that he will not be entitled to any insurance, pension, profit sharing, retirement or other employee benefits which the Company may provide to its employees during the term of this Agreement. This Agreement shall not be construed as creating a partnership, joint venture, agency or employment relationship, or as granting a franchise under either federal or state law. 6. INVENTIONS. Consultant warrants and represents to the Company that Consultant has no affiliation with any other persons or entities which require, to any degree or under any conditions, that Consultant assign his rights to any discoveries, inventions or developments to such persons or entities. In the performance of his duties and responsibilities hereunder, Consultant may conceive, make or develop products, processes or other intellectual property. It is the intent of the parties that intellectual property conceived, made or developed by Consultant during the performance of his duties and responsibilities hereunder or that is conceived, made or developed using the Company's funds, facilities, materials or information, shall be owned by the Company. Consultant will ensure that his obligations under affiliations with any other persons or entities, including, without limitation, those persons or entities listed in SCHEDULE 2, do not extend to intellectual property rightfully owned by the Company. Consultant will assist the Company in obtaining legal protection for such intellectual property as part of his duties and responsibilities hereunder, and will execute such documents as are reasonably necessary to secure such protection and confirm ownership in the Company. 7. CONFIDENTIAL INFORMATION. Consultant agrees to maintain in confidence all information and materials provided by, or obtained from or through, the Company including, without limitation, (a) all information regarding trade secrets, inventions, ideas, processes, formulas, data, other works of authorship, know-how, improvements, discoveries, developments, designs and techniques, (b) all information regarding plans for research, development, new products, marketing and selling, business plans, budgets and unpublished financial statements, licenses, prices and costs, suppliers and customers, computer software and documentation and (c) all other information relating to the business of the Company, including, without limitation, information regarding the skills and compensation of employees of the Company (collectively, the "CONFIDENTIAL INFORMATION"). Consultant shall not publish, use or disclose Confidential Information learned, developed or acquired as a result of services offered under this Agreement without the Company's prior written consent. Confidential Information shall not include (i) information which was rightfully in Consultant's possession without an obligation of confidentiality prior to disclosure by or through the Company, (ii) information which lawfully becomes part of the public knowledge, literature or generally available to the public through no act of Consultant, or (iii) information obtained from any third party, provided that any such third party did not obtain such information from the Company or obtain such information in confidence. Consultant shall protect the Confidential Information and shall take all reasonable steps to prevent the unauthorized disclosure, dissemination, or publication of the Confidential Information. All data, records, analyses, reports and material prepared or compiled by Consultant or furnished to Consultant, in connection with this Agreement during the term hereof shall be the sole and exclusive property of the Company, and all of such data, records, analyses, reports and materials, and all copies thereof, shall be delivered to the Company at its request or on the termination of this Agreement. The parties acknowledge that the terms of Consultant's other affiliations also contain or require certain obligations of confidentiality. In discharging his duties relative to Confidential Information, Consultant shall advise the Company when and if an actual or potential conflict with such other obligations arise. The parties will then mutually work at attempting to resolve the conflict. If such conflict cannot be resolved, Consultant is expressly excused from performing any services hereunder that would result in a breach or potential breach of his confidentiality obligations owed to another entity. 8. TERM AND TERMINATION. (a) TERM. Subject to the rights of termination set forth in this SECTION 8, this Agreement shall remain in full force and effect from June 11, 1999 until June 11, 2002, unless sooner terminated by Consultant's death or continuing inability to discharge the duties hereunder for three (3) consecutive months. (b) VOLUNTARY TERMINATION. During the term of this Agreement, either party may terminate this Agreement without cause, by giving 120 days written notice of termination to the other party. (c) TERMINATION WITH CAUSE. In the event of breach of this Agreement by either party, the non-breaching party may, at its option, cancel this Agreement for such breach by giving written notice of cancellation to the breaching party, which cancellation shall be effective thirty (30) days following the delivery of such notice or such later time as may be specified in such notice, unless the breaching party shall have cured such breach prior to the expiration of the notice. (d) LIMITED SURVIVAL UPON TERMINATION. SECTIONS 6 and 7 shall survive termination of this Agreement and shall remain in full force and effect. 9. MISCELLANEOUS. (a) NOTICES. All notices, requests, demands, and other communications hereunder shall be in writing and, unless otherwise provided herein, shall be deemed to have been duly given upon hand delivery or upon deposit in the United States Mail, postage prepaid, certified or registered mail, return receipt requested, as follows: If to the Company: Medical Science Systems, Inc. 100 N.E. Loop 410, Suite 820 San Antonio, Texas 78216 Attention: U. Spencer Allen If to Consultant: Dr. Philip R. Reilly 145 Monument St. Concord, Massachusetts 01742 or at such other address as shall have been furnished to the other party in writing in accordance herewith, except that such notice of such change shall be effective only upon receipt. (b) AMENDMENTS AND WAIVER. This Agreement may be amended or modified by, and only by, a written instrument executed by all the parties hereto. The terms of this Agreement may be waived by, and only by, a written instrument executed by the party against whom such waiver is sought to be enforced. (c) SECTION AND OTHER HEADINGS. The section and other headings contained in this Agreement are for convenience of reference only and shall not in any way affect the meaning or interpretation of this Agreement. (d) COUNTERPARTS. This Agreement may be executed in any number of counterparts, each of which shall be deemed an original and all of which shall constitute one and the same instrument. (e) ASSIGNMENTS AND PARTIES IN INTEREST. This Agreement shall inure to the benefit of and be binding upon the parties hereto and their respective successors and assigns. This Agreement calls for Consultant's personal services and may not be assigned by Consultant without the prior written consent of the Company. (f) NO IMPLIED RIGHTS OR REMEDIES. Except as otherwise expressly provided herein, nothing herein expressed or implied is intended or shall be construed to confer upon or to give any person, firm, or corporation, other than the parties hereto and their respective successors and assigns, any rights or remedies under or by reason of this Agreement. (g) AGREEMENT OF FURTHER COOPERATION. Each of the parties agrees to execute and deliver such further documents and to cooperate in such manner as may be necessary to implement and give effect to the agreements contained herein. (h) ENTIRE AGREEMENT. This Agreement, together with all exhibits and schedules hereto, embodies the entire agreement and understanding between the parties hereto relating to the subject matter hereof and supersedes any prior agreements and understandings relating to the subject matter hereof. (i) SEVERABILITY. If any part or provision of this Agreement is or shall be deemed violative of any applicable laws, rules or regulations, such legal invalidity shall not void this Agreement or affect the remaining terms and provisions of this Agreement, and this Agreement shall be construed and interpreted to comport with all such laws, rules or regulations to the maximum extent possible. (j) APPLICABLE LAW. This Agreement has been accepted and made performable in Bexar County, Texas. This Agreement and the rights and obligations of the parties hereto shall be construed under and governed by the laws of the State of Texas, without giving effect to principles of conflict of laws. The exclusive venue for resolution of any dispute between the parties related to the subject matter of this Agreement shall be in Bexar County, Texas. EXECUTED as of the day and year first above written. COMPANY: MEDICAL SCIENCE SYSTEMS, INC. By: U. Spencer Allen, Chief Financial Officer CONSULTANT: Philip R. Reilly EXHIBIT A DUTIES AND SERVICES Consultant shall perform the following services for the Company. In performing these services, Consultant shall at all times exercise his independent judgment, discretion and control to accomplish the stated objective. 1. STRATEGIC PLANS. Consultant shall, consistent with the terms of this Agreement, advise and assist the senior management of the Company in formulating plans for the strategic direction of the Company. 2. PRESENTATIONS; INTRODUCTIONS. Consultant shall, consistent with the terms of this Agreement, make introductions and presentations for and on behalf of the Company, including, without limitation, introductions and presentations to financial investors and/or potential financial investors. Any such presentation shall include an appropriate disclosure of Consultant's financial relationship with the Company. 3. POSITIONS. Consultant shall, upon request by the Company and subject to the approval of the shareholders of the Company, serve as Chairman of the Board of Directors and a Director of the Company. 4. ADDITIONAL SERVICES. In addition to the other services specified in this SECTION 1, Consultant shall, consistent with the terms of this Agreement, perform such other services to the Company as necessary to build shareholder value in the Company. EXHIBIT B COMPENSATION 1. The Company shall pay to Consultant for Consultant's services a fee equal to One Hundred Twenty Thousand and No/100 Dollars ($120,000.00) for the period from June 11, 1999 to June 10, 2000 and One Hundred Thousand and No/100 Dollars ($100,000.00) per year for the period from June 11, 2000 to June 10, 2002, which fees shall be paid in monthly installments commencing on July10, 1999 and continuing on the 10th day of each month thereafter through and including June 10, 2002. The amount of the monthly installment shall be (a) $10,000.00 for each monthly installment payable from July 10, 1999 through and including June 10, 2000 and (b) $8,333.33 for each monthly installment payable from July 10, 2000 through and including June 10, 2002. In addition to the fees set forth herein above, the Company shall reimburse Consultant for all expenses reasonably incurred by Consultant in connection with the performance of Consultant's responsibilities set forth herein in accordance with the prevailing practice and policy of the Company. 2. In addition to the fees provided for in Paragraph 1 above, on the date hereof, the Company shall pay Consultant the sum of $5,000.00. 3. The Company shall grant to Consultant the option to purchase up to 240,000 shares of Common Stock, no par value, of the Company at an exercise price equal to $.50 per share pursuant to the terms and provisions of that one certain Non-Qualified Stock Option Agreement of even date herewith between the Company and Consultant. SCHEDULE 2 AFFILIATIONS OF CONSULTANT EX-10.2 6 EXHIBIT 10.2 NON-QUALIFIED STOCK OPTION AGREEMENT THIS NON-QUALIFIED STOCK OPTION AGREEMENT (this "AGREEMENT"), dated as of June 1, 1999, is entered into between Medical Science Systems, Inc., a Texas corporation (the "COMPANY") and Philip Reilly ("OPTIONEE"). RECITALS A. The Company desires to have Optionee become Chairman of the Board of Directors of the Company, encourage the stock ownership of Optionee and increase Optionee's proprietary interest in the Company. B. The Company desires to grant to Optionee the option to purchase up to 240,000 shares of the Common Stock (as defined below) of the Company. AGREEMENTS In consideration of the foregoing and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto hereby agree as follows: 1. GRANT OF OPTION. Subject to the terms and conditions set forth in this Agreement, the Company hereby grants to Optionee the option to purchase, during the period commencing on the date of this Agreement and ending June 1, 2009, at an exercise price equal to $.50 per share (the "OPTION PRICE"), up to, but not exceeding the aggregate of 240,000 shares of Common Stock, no par value (the "COMMON STOCK"), of the Company (such option being hereinafter referred to as the "OPTION"). 2. NON-QUALIFIED STATUS. The Option is intended to be a non-qualified stock option which does not satisfy the requirements of Section 422A of the Internal Revenue Code of 1986, as amended (the "CODE"). The Option is granted outside of and therefore shall not be subject to the terms and provisions of the Company's 1996 Equity Incentive Plan, as amended. 3. VESTING OF OPTION. The Option evidenced hereby may be exercised from time to time as to the following numbers of shares, on a cumulative basis (as to options to purchase shares not previously exercised), on each of the following dates if Optionee serves on the Board of Directors of the Company on such date: (a) 8,000 shares on July 1, 1999; (b) 8,000 shares on August 1, 1999; (c) 8,000 shares on September 1, 1999; (d) 8,000 shares on October 1, 1999; (e) 8,000 shares on November 1, 1999; (f) 8,000 shares on December 1, 1999; (g) 8,000 shares on January 1, 2000; (h) 8,000 shares on February 1, 2000; (i) 8,000 shares on March 1, 2000; (j) 8,000 shares on April 1, 2000; (k) 8,000 shares on May 1, 2000; (l) 8,000 shares on June 1, 2000; (m) 8,000 shares on July 1, 2000; (n) 8,000 shares on August 1, 2000; (o) 8,000 shares on September 1, 2000; (p) 8,000 shares on October 1, 2000; (q) 8,000 shares on November 1, 2000; (r) 8,000 shares on December 1, 2000; (s) 8,000 shares on January 1, 2001; (t) 8,000 shares on February 1, 2001; (u) 8,000 shares on March 1, 2001; (v) 8,000 shares on April 1, 2001; (w) 8,000 shares on May 1, 2001; (x) 8,000 shares on June 1, 2001; (y) 8,000 shares on July 1, 2001; (z) 8,000 shares on August 1, 2001; (aa) 8,000 shares on September 1, 2001; (bb) 8,000 shares on October 1, 2001; (cc) 8,000 shares on November 1, 2001; and (dd) 8,000 shares on December 1, 2001. 4. ACCELERATION OF VESTING. Notwithstanding the foregoing, in the event Optionee is (i) not nominated by the Board of Directors or committee thereof for election to the Board of Directors at a meeting of the shareholders of the Company called for that purpose and, as a result thereof, is not elected and shall no longer serve on the Board of Directors of the Company, or (ii) removed from the Board of Directors without cause, then the Option shall become exercisable in full. 5. EXERCISE OF OPTION. The Option shall be deemed exercised when Optionee (a) shall indicate the decision to do so in writing delivered to the Company and (b) shall at the same time tender to the Company payment in full of the Option Price for the shares for which the Option is exercised. The Option may be exercised for any lesser number of shares than the full amount for which it could be exercised. Such a partial exercise of the Option shall not affect the right to exercise the Option from time to time in accordance with the provisions contained herein for the remaining shares subject to the Option. Upon compliance with the foregoing, the Company shall cause certificates for the shares so purchased to be delivered to Optionee, his legal representative or such other person who is entitled to exercise the Option (in accordance with the provisions of paragraph 6) at its principal business office. In no event may the Option be exercised after June 1, 2009. 6. NON-TRANSFERABILITY OF OPTIONS. The Option granted to Optionee shall not be transferable by Optionee except by will or under 2 the laws of descent and distribution, and shall be exercisable, during his lifetime, only by him. Any assignment or transfer of the Option except by will or under the laws of descent and distribution, whether voluntarily or involuntarily, by operation of law or otherwise, shall not vest in the assignee or transferee any interest or rights whatsoever, but immediately upon such assignment or transfer the Option shall terminate and become of no further effect. 7. EARLY FORFEITURE OF OPTION. The Option shall terminate on the date 30 days after the date Optionee ceases to be a member of the Board of Directors of the Company (and shall not be exercisable thereafter), unless Optionee shall (a) die while a member of the Board of Directors of the Company, (b) be permanently or totally disabled within the meaning of Section 22(e)(3) of the Code while a member of the Board of Directors of the Company, (c) resign or retire as Chairman of the Board of Directors with the written consent of the Company, or (d) cease to be a member of the Board of Directors of the Company as a result of the circumstances set forth in Section 4 hereof. In the event either (a), (b), (c) or (d) shall occur, Optionee, or his legatees under his will or his personal representatives, as the case may be, may exercise the previously unexercised portion of the Option for a period of 365 days after such death, disability, resignation or retirement, to the extent Optionee could have exercised it immediately prior to such death, disability, resignation or retirement, as the case may be. 8. In the event the Option granted under this Agreement shall be exercised by the legal representative of the deceased Optionee, or by a person who acquired the Option granted hereunder by bequest or inheritance or by reason of the death of the deceased Optionee, written notice of such exercise shall be accompanied by certified copy of letters testamentary or equivalent proof of the right of such legal representative or other person to exercise such option. 9. ADJUSTMENT OF SHARES. Notwithstanding any other provision contained herein, in the event of any change in the outstanding Common Stock by reason of a stock dividend, stock split, reorganization, recapitalization, merger, split-up or other change in capital structure, an adjustment may be made by the Company, in its sole and absolute discretion, to prevent dilution or enlargement of Optionee's rights hereunder, and the determination of the Company as to these matters shall be conclusive. 10. ISSUANCE OF STOCK CERTIFICATES; LEGENDS AND PAYMENT OF EXPENSES. Upon any exercise of Option which may be granted hereunder and the payment of the exercise price, a certificate or certificates representing the shares as to which the Option has been exercised shall be issued by the Company in the name of Optionee and shall be delivered to or upon the order of Optionee. 11. The Company may, in its discretion, endorse an appropriate legend upon the certificate or certificates representing any shares issued or transferred pursuant to the exercise of any Option granted hereunder and may issue "stop transfer" instructions to its transfer agent in respect of such shares to (a) prevent a violation of, or to perfect an exemption from, the registration requirements of the Securities Act of 1933, as amended (the "SECURITIES ACT") or (b) implement the provisions of any agreement between the Company and Optionee with respect to such shares. 3 12. The Company shall pay all issue or transfer taxes with respect to the issuance or transfer of shares, as well as all fees and expenses necessarily incurred by the Company in connection with such issuance or transfer, except fees and expenses which may be necessitated by the filing or amending of a Registration Statement under the Securities Act, which fees and expenses shall be borne by Optionee unless such Registration Statement has been filed by the Company for its own corporate purposes (and the Company so states) in which event the recipient of the shares shall bear only such fees and expenses as are attributable solely to the inclusion of such shares in the Registration Statement. All the shares issued as provided herein shall be fully paid and nonassessable to the extent permitted by law. 13. NO RIGHTS AS SHAREHOLDER. Optionee shall not have rights as a shareholder with respect to shares covered by the Option until the date of issuance of a stock certificate for such shares; and, except as otherwise provided in paragraph 8 hereof, no adjustment for dividends or otherwise shall be made if the record date therefor is prior to the date of issuance of such certificate. 14. REQUIREMENTS OF LAW. The Company shall not be required to sell or issue any shares under the Option if the issuance of such shares shall constitute or result in a violation by Optionee or the Company of any provision of any law, statute or regulation of any governmental authority. Specifically, in connection with any applicable statute or regulation relating to the registration of securities, upon exercise of the Option, the Company shall not be required to issue such shares unless the Company has received evidence satisfactory to it to the effect that Optionee will not transfer such shares except in accordance with applicable law, including the receipt of an opinion of counsel satisfactory to the Company to the effect that any proposed transfer complies with applicable law. The Company may, but shall in no event be obligated to, register any shares covered hereby pursuant to applicable securities laws of any country or political subdivision thereof. In the event the shares issuable on exercise of the Option are not so registered, the Company may imprint on the certificate evidencing such shares any legend counsel for the Company considers necessary or advisable to comply with applicable law. The Company shall not be obligated to take any other affirmative action in order to cause the exercise of the Option or the issuance of shares pursuant to the Option to comply with any law or regulation of any governmental authority. 15. NOTICES. Every notice or other communication relating to this Agreement shall be in writing, and shall be mailed or delivered to the party for whom it is intended at such address as may from time to time be designated by such party in a notice mailed or delivered to the other party as provided herein, provided that, unless and until some other address be so designated, all notices or communications by Optionee to the Company shall be mailed or delivered to the Company at: Medical Science Systems, Inc. 100 N.E. Loop 410, Suite 820 San Antonio, Texas 78216 4 and all notices or communications by the Company to Optionee be given to Optionee personally or may be mailed to him at: Dr. Philip Reilly 145 Monument St. Concord, Massachusetts 01742 EXECUTED to be effective as of the date first written above. COMPANY: MEDICAL SCIENCE SYSTEMS, INC. By: ____________________________________________ U. Spencer Allen, Chief Financial Officer OPTIONEE: PHILIP REILLY 5 EX-10.3 7 EXHIBIT 10.3 MEDICAL SCIENCE SYSTEMS, INC. SUBSCRIPTION AGREEMENT made as of this ____ day of ________, 1999 between Medical Science Systems, Inc., a Texas corporation with its principal offices at 100 N.E. Loop 410, Suite 820, San Antonio, Texas 78216 (the "Company") and the undersigned (the "Subscriber"). WHEREAS, the Company desires to issue, in a private placement (the "Offering"), a minimum of $2,500,000 (the "Minimum Offering") and a maximum of $5,000,000 (the "Maximum Offering") in aggregate purchase price of Series A Preferred Stock, no par value (the "Shares"), with each Share being convertible into five (5) shares of the Company's common stock, no par value (the "Common Stock"), on the terms and conditions hereinafter set forth and the Subscriber desires to acquire that number of Shares set forth on the signature page hereof. NOW, THEREFORE, for and in consideration of the premises and the mutual covenants hereinafter set forth, the parties hereto do hereby agree as follows: I. SUBSCRIPTION FOR SHARES AND REPRESENTATIONS BY AND COVENANTS OF SUBSCRIBER 1.1 Subject to the terms and conditions hereinafter set forth, the Subscriber hereby subscribes for and agrees to purchase from the Company such number of Shares as is set forth upon the signature page hereof at a price of $2.50 per Share. The Company agrees to sell such Shares to the Subscriber for said purchase price. The purchase price is payable by certified or bank check made payable to United States Trust Company of New York, Special Account Re: Medical Science Systems, Inc., or by wire transfer of funds, contemporaneously with the execution and delivery of this Subscription Agreement. The certificates for the Shares will be delivered by the Company within ten (10) days following each Closing of this offering as set forth in Article III hereof. The Subscriber understands however, that this purchase of Shares is contingent upon the Company making sales of at least $2,500,000 in aggregate purchase price of the Shares prior to the Termination Date as defined in Article III hereof. 1.2 The Subscriber recognizes that the purchase of Shares involves a high degree of risk in that (i) the Company will need additional capital but has no assurance of additional necessary capital; (ii) conversion of the Shares into Common Stock is not assured and is subject to approval by the Company's common shareholders; (iii) an investment in the Company is highly speculative and only investors who can afford the loss of their entire investment should consider investing in the Company and the Shares; (iv) an investor may not be able to liquidate his investment; (v) transferability of the securities comprising the Shares is extremely limited; and (vi) an investor could sustain the loss of his entire investment, as well as other risk factors, as more fully set forth herein and in the Private Placement Memorandum dated April 14, 1999 and any supplements thereto (the "Offering Memorandum"). 1.3 The Subscriber represents that he is an "accredited investor" as such term is defined in Rule 501 of Regulation D promulgated under the Securities Act of 1933, as amended (the "Act"), as indicated by his responses to the Investor Questionnaire, and that he is able to bear the economic risk of an investment in the Shares. 1.4 The Subscriber acknowledges that he has prior investment experience, including investment in non-listed and non-registered securities, or he has employed the services of an investment advisor, attorney or accountant to read all of the documents furnished or made available by the Company both to him and to all other prospective investors in the Shares and to evaluate the merits and risks of such an investment on his behalf, and that he recognizes the highly speculative nature of this investment. 1.5 The Subscriber acknowledges receipt and careful review of the Offering Memorandum and the attachments thereto (the "Offering Documents") and hereby represents that he has been furnished by the Company during the course of this transaction with all information regarding the Company which he had requested or desired to know; that all documents which could be reasonably provided have been made available for his inspection and review; that he has been afforded the opportunity to ask questions of and receive answers from duly authorized officers or other representatives of the Company concerning the terms and conditions of the Offering, and any additional information which he had requested. 1.6 The Subscriber acknowledges that this offering of Shares may involve tax consequences, and that the contents of the Offering Documents do not contain tax advice or information. The Subscriber acknowledges that he must retain his own professional advisors to evaluate the tax and other consequences of an investment in the Shares. 1.7 The Subscriber acknowledges that this offering of Shares has not been reviewed by the United States Securities and Exchange Commission ("SEC") because of the Company's representations that this is intended to be a nonpublic offering pursuant to Sections 4(2) or 3(b) of the Act. The Subscriber represents that the Shares are being purchased for his own account, for investment and not for distribution or resale to others. The Subscriber agrees that he will not sell or otherwise transfer such securities unless they are registered under the Act or unless an exemption from such registration is available. 1.8 The Subscriber understands that the Shares have not been registered under the Act by reason of a claimed exemption under the provisions of the Act which depends, in part, upon his investment intention. In this connection, the Subscriber understands that it is the position of the SEC that the statutory basis for such exemption would not be present 2 if his representation merely meant that his present intention was to hold such securities for a short period, such as the capital gains period of tax statutes, for a deferred sale, for a market rise, assuming a market develops, or for any other fixed period. The Subscriber realizes that, in the view of the SEC, a purchase now with an intent to resell would represent a purchase with an intent inconsistent with his representation to the Company, and the SEC might regard such a sale or disposition as a deferred sale to which such exemptions are not available. 1.9 The Subscriber understands that there is no public market for the securities comprising the Shares. The Subscriber understands that even if a public market exists for the Common Stock issuable upon conversion of the Shares, Rule 144 (the "Rule") promulgated under the Act requires, among other conditions, a one year holding period prior to the resale (in limited amounts) of securities acquired in a non-public offering without having to satisfy the registration requirements under the Act. The Subscriber understands that the Company makes no representation or warranty regarding its fulfillment in the future of any reporting requirements under the Securities Exchange Act of 1934, as amended, or its dissemination to the public of any current financial or other information concerning the Company, as is required by Rule 144 as one of the conditions of its availability. The Subscriber understands and hereby acknowledges that the Company is under no obligation to register the securities comprising the Shares under the Act, with the exception of certain registration rights set forth in Article IV herein. The Subscriber consents that the Company may, if it desires, permit the transfer of the securities comprising the Shares or issuable upon conversion thereof out of his name only when his request for transfer is accompanied by an opinion of counsel reasonably satisfactory to the Company that neither the sale nor the proposed transfer results in a violation of the Act or any applicable state "blue sky" laws (collectively "Securities Laws"). The Subscriber agrees to hold the Company and its directors, officers and controlling persons and their respective heirs, representatives, successors and assigns harmless and to indemnify them against all liabilities, costs and expenses incurred by them as a result of any misrepresentation made by him contained herein or in the Investor Questionnaire or any sale or distribution by the undersigned Subscriber in violation of any Securities Laws. 1.10 The Subscriber consents to the placement of one or more legends on any certificate or other document evidencing his Shares and the Common Stock issuable upon conversion of such Shares stating that they have not been registered under the Act and setting forth or referring to the restrictions on transferability and sale thereof. 1.11 The Subscriber understands that the Company will review this Subscription Agreement and the Investor Questionnaire and is hereby given authority by the undersigned to call his bank or place of employment or otherwise review the financial standing of 3 the Subscriber; and it is further agreed that the Company reserves the unrestricted right to reject or limit any subscription and to close the offer at any time. 1.12 The Subscriber hereby represents that the address of Subscriber furnished by him at the end of this Subscription Agreement is the undersigned's principal residence if he is an individual or its principal business address if it is a corporation or other entity. 1.13 The Subscriber acknowledges that if he is a Registered Representative of a National Association of Securities Dealers, Inc. ("NASD") member firm, he must give such firm the notice required by the NASD Conduct Rules, or any applicable successor rules of the NASD receipt of which must be acknowledged by such firm on the signature page hereof. 1.14 The Subscriber hereby represents that, except as set forth in the Offering Documents, no representations or warranties have been made to the Subscriber by the Company or any agent, employee or affiliate of the Company and in entering into this transaction, the Subscriber is not relying on any information, other than that contained in the Offering Documents and the results of independent investigation by the Subscriber. 1.15. The Subscriber agrees that he will purchase securities in the Offering only if his intent at such time is to make such purchase for investment purposes and not with a view toward resale. 1.16 If the undersigned Subscriber is a partnership, corporation, trust or other entity, such partnership, corporation, trust or other entity further represents and warrants that: (i) it was not formed for the purpose of investing in the Company; (ii) it is authorized and otherwise duly qualified to purchase and hold the Shares; and (iii) that this Subscription Agreement has been duly and validly authorized, executed and delivered constitutes the legal, binding and enforceable obligation of the undersigned. II. REPRESENTATIONS BY THE COMPANY The Company represents and warrants to the Subscriber that prior to the consummation of this Offering and at the date of the closing of this offering (which date, the "Closing Date"): (a) The Company is a corporation duly organized, existing and in good standing under the laws of the State of Texas and has the corporate power to conduct the business which it conducts and proposes to conduct. 4 (b) The execution, delivery and performance of this Subscription Agreement by the Company will have been duly approved by the Board of Directors of the Company and all other actions required to authorize and effect the offer and sale of the Shares and the securities contained therein will have been duly taken and approved, except for the approval by the Company's stockholders of (i) the conversion of the Shares, and (ii) an amendment to the Company's Articles of Incorporation increasing the number of authorized shares of Common Stock to a number sufficient to allow the issuance of all shares of Common Stock reserved for issuance, including the Common Stock to be issued upon conversion of the Shares, and the filing and effectiveness of such amendment. The Company will use all reasonable efforts to promptly obtain the foregoing approvals. (c) The Shares have been duly and validly authorized and when issued and paid for in accordance with the terms hereof, will be valid and binding obligations of the Company enforceable in accordance with their respective terms. (d) Assuming approval by the Company's Stockholders of the conversion of the Shares and assuming approval by the stockholders of an amendment to the Company's Articles of Incorporation increasing the number of authorized shares of Common Stock to a number sufficient to allow the issuance of all shares of Common Stock reserved for issuance, including, the Common Stock to be issued upon conversion of the Shares, and upon the effectiveness of such amendment, when issued and delivered, the shares of Common Stock issuable upon conversion of the Shares will be validly issued and outstanding, fully paid and nonassessable. The Company will use all reasonable efforts to promptly obtain the foregoing approvals. (e) The Company has obtained, or is in the process of obtaining, all licenses, permits and other governmental authorizations necessary to the conduct of its business; such licenses, permits and other governmental authorizations obtained are in full force and effect; and the Company is in all material respects complying therewith. (f) Other than as described in the Offering Documents, the Company knows of no pending or threatened legal or governmental proceedings to which the Company is a party which could materially adversely affect the business, property, financial condition or operations of the Company. (g) The Company is not in violation of or default under, nor will the execution and delivery of this Subscription Agreement, the issuance of the Shares, and the incurrence of the obligations herein and therein set forth and the consummation of the transactions 5 herein or therein contemplated, result in a violation of, or constitute a default under, the articles of incorporation or by-laws, in the performance or observance of any material obligations, agreement, covenant or condition contained in any bond, debenture, note or other evidence of indebtedness or in any material contract, indenture, mortgage, loan agreement, lease, joint venture or other agreement or instrument to which the Company is a party or by which it or any of its properties may be bound or in violation of any material order, rule, regulation, writ, injunction, or decree of any government, governmental instrumentality or court, domestic or foreign, other than violations, breaches or defaults as may result from the issuance of shares of Common Stock prior to the Company's Articles of Incorporation being amended to increase the authorized number of shares of Common Stock to a number sufficient to allow the issuance of all of the Company's Common Stock currently reserved for issuance, including the Common Stock to be issued upon conversion of the Shares. (h) The financial information contained in the Offering Documents is accurate in all material respects. The Company's Form 10-KSB for the year ended December 31, 1998 contains the Company's (i) Balance Sheets at December 31, 1998 (the "Balance Sheet Date"), (ii) Statements of Operations for each of the last two years ending December 31, 1997 and December 31, 1998, and (iii) Statements of Cash Flows for each of the last two years ending December 31, 1997 and December 31, 1998 (such financial statements attached to the Offering Documents hereinafter referred to collectively as the "Financial Statements"). The Financial Statements have been prepared in conformity with generally accepted accounting principles consistently applied and show all material liabilities, absolute or contingent, of the Company required to be recorded thereon and present fairly the financial position and results of operations of the Company as of the dates and for the periods indicated. III. TERMS OF SUBSCRIPTION 3.1 The subscription period will begin as of April 14, 1999 and will terminate (if the Closing Date has not earlier occurred) at 11:59 PM Eastern time on July 14, 1999, unless extended by the Placement Agent for up to an additional thirty (30) days (the "Termination Date"). The Shares will be offered on a "best efforts" minimum-maximum basis as more particularly set forth in the Offering Memorandum. The minimum subscription per subscriber shall be at least $50,000 in aggregate purchase price of Shares, provided, however, that a lesser amount may be accepted at the discretion of the Placement Agent and the Company. 3.2 Placement of the Shares will be made by Fine Equities, Inc. (the "Placement Agent"), which will receive (i) a placement fee in the amount of 10% of the purchase price of the Shares placed; (ii) warrants to purchase such number of shares of Common Stock of the Company equal to 10% of the number of Shares sold in the Offering for assisting the 6 Company in the placement and (iii) reimbursement for expenses and other compensation as summarized in the Offering Memorandum. 3.3 Pending the sale of the Shares, all funds paid hereunder shall be deposited by the Company in escrow with United States Trust Company of New York. If the Company shall not have obtained subscriptions (including this subscription) for purchases of Shares for an aggregate purchase price of $2,500,000 on or before the Termination Date, then this subscription shall be void and all funds paid hereunder by the Subscriber, without interest, shall be promptly returned to the Subscriber, subject to paragraph 3.5 hereof. If at least $2,500,000 in aggregate purchase price of the Shares is sold at or prior to the Termination Date, then all subscription proceeds shall be paid over to the Company within ten days thereafter (the "Initial Closing") and subsequent closings (together with the Initial Closing, each a "Closing") may take place thereafter until the sale of the Maximum Offering (the date of such final closing, the "Final Closing Date"). In such event, placements of additional Shares may continue until the Termination Date, with subsequent releases of funds to be at the mutual consent of the Company and the Placement Agent. 3.4 The Subscriber hereby authorizes and directs the Company to deliver the securities to be issued to such Subscriber pursuant to this Subscription Agreement to the residential or business address indicated in the Confidential Purchaser Questionnaire. 3.5 The Subscriber hereby authorizes and directs the Company to return any funds for unaccepted subscriptions to the same account from which the funds were drawn, including any customer account maintained with the Placement Agent. 3.6 The Subscriber acknowledges that at such time, if ever, as any of the Shares or underlying shares of Common Stock (collectively, the "Securities") are registered, sales of such Securities will be subject to state securities laws, including those of states which may require any securities sold therein to be sold through a registered broker-dealer or in reliance upon an exemption from registration. 3.7 If the Subscriber is not a United States person, such Subscriber hereby represents that it has satisfied itself as to the full observance of the laws of its jurisdiction in connection with any invitation to subscribe for the Shares or any use of this Agreement, including (i) the legal requirements within its jurisdiction for the purchase of the Securities, (ii) any foreign exchange restrictions applicable to such purchase, (iii) any governmental or other consents that may need to be obtained, and (iv) the income tax and other tax consequences, if any, that may be relevant to the purchase, holding, redemption, sale or transfer of the Securities. Such 7 Subscriber's subscription and payment for, and his or her continued beneficial ownership of the Securities, will not violate any applicable securities or other laws of the Subscriber's jurisdiction. IV. REGISTRATION RIGHTS 4.1 REQUIRED REGISTRATION. The Company hereby agrees with the holders of the Shares or their transferees (collectively, the "Holders") to prepare and file with the SEC thirty (30) days after the Final Closing Date of the Offering a registration statement under the Act covering the resale of the shares of Common Stock issuable upon conversion of the Shares (the "Registrable Securities") and to use all reasonable efforts to cause such registration statement to become effective as soon as practicable hereafter. The obligation of the Company under this Section 4.1 shall be limited to one registration statement. The Company shall pay the expenses described in Section 4.3 for the registration statement filed pursuant to this Section 4.1, except for underwriting discounts and commissions and legal fees of the Holders, which shall be borne by the Holders. 4.2 REGISTRATION PROCEDURES. If and whenever the Company is required by the provisions of Section 4.1 to effect the registration of Registrable Securities under the Act, the Company will: (a) prepare and file with the SEC a registration statement with respect to such securities, and use all reasonable efforts to cause such registration statement to become and remain effective until the earlier of (i) twelve months from the date of effectiveness thereof or (ii) the date when all such securities are sold pursuant to such registration statement; (b) prepare and file with the SEC such amendments to such registration statement and supplements to the prospectus contained therein as may be necessary to keep such registration statement effective until the earlier of (i) twelve months from the date of effectiveness thereof or (ii) the date when all such securities are sold pursuant to such registration statement; (c) furnish to the security holders participating in such registration and to the underwriters of the securities being registered such reasonable number of copies of the registration statement, preliminary prospectus, final prospectus and such other documents as such underwriters may reasonably request in order to facilitate the public offering of such securities; 8 (d) use all reasonable efforts to register or qualify the securities covered by such registration statement under such state securities or blue sky laws of such jurisdictions as such participating holders may reasonably request in writing within twenty (20) days following the original filing of such registration statement, except that the Company shall not for any purpose be required to execute a general consent to service of process or to qualify to do business as a foreign corporation in any jurisdiction wherein it is not so qualified; (e) notify the security holders participating in such registration, promptly after it shall receive notice thereof, of the time when such registration statement has become effective or a supplement to any prospectus forming a part of such registration statement has been filed; (f) notify such holders promptly of any request by the SEC for the amending or supplementing of such registration statement or prospectus or for additional information; (g) prepare and file with the SEC, promptly upon the request of any such holders, any amendments or supplements to such registration statement or prospectus which, in the opinion of counsel for such holders (and concurred in by counsel for the Company), is required under the Act or the rules and regulations thereunder in connection with the distribution of Common Stock by such holder; (h) prepare and promptly file with the SEC and promptly notify such holders of the filing of such amendment or supplement to such registration statement or prospectus as may be necessary to correct any statements or omissions if, at the time when a prospectus relating to such securities is required to be delivered under the Act, any event shall have occurred as the result of which any such prospectus or any other prospectus as then in effect would include an untrue statement of a material fact or omit to state any material fact necessary to make the statements therein, in the light of the circumstances in which they were made, not misleading; and (i) advise such holders, promptly after it shall receive notice or obtain knowledge thereof, of the issuance of any stop order by the SEC suspending the effectiveness of such registration statement or the initiation or threatening of any proceeding for that purpose and promptly use all reasonable efforts to prevent the issuance of any stop order or to obtain its withdrawal if such stop order should be issued. 9 4.3 EXPENSES. (a) With respect to the registration required pursuant to Section 4.1 hereof, all fees, costs and expenses of and incidental to such registration, inclusion and public offering (as specified in paragraph (b) below) in connection therewith shall be borne by the Company, provided, however, that any securityholders participating in such registration shall bear their pro rata share of the underwriting discount and commissions and transfer taxes. (b) The fees, costs and expenses of registration to be borne by the Company as provided in paragraph (a) above shall include, without limitation, all registration, filing, and NASD fees, printing expenses, fees and disbursements of counsel and accountants for the Company, and all legal fees and disbursements and other expenses of complying with state securities or blue sky laws of any jurisdictions in which the securities to be offered are to be registered and qualified (except as provided in 4.4(a) above). Fees and disbursements of counsel and accountants for the selling securityholders and any other expenses incurred by the selling securityholders not expressly included above shall be borne by the selling securityholders. 4.4 INDEMNIFICATION. (a) The Company will indemnify and hold harmless each holder of Registrable Securities which are included in a registration statement pursuant to the provisions of Section 4.1 hereof, its directors and officers, and any underwriter (as defined in the Act) for such holder and each person, if any, who controls such holder or such underwriter within the meaning of the Act, from and against, and will reimburse such holder and each such underwriter and controlling person with respect to, any and all loss, damage, liability, cost and expense to which such holder or any such underwriter or controlling person may become subject under the Act or otherwise, insofar as such losses, damages, liabilities, costs or expenses are caused by any untrue statement or alleged untrue statement of any material fact contained in such registration statement, any prospectus contained therein or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances in which they were made, not misleading; provided, however, that the Company will not be liable in any such case to the extent that any such loss, damage, liability, cost or expenses arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission so made in conformity with information furnished by such holder, such underwriter or such controlling person in writing specifically for use in the preparation thereof. (b) Each holder of Registrable Securities included in a registration pursuant to the provisions of Section 4.1 hereof will indemnify and hold harmless the 10 Company, its directors and officers, any controlling person and any underwriter from and against, and will reimburse the Company, its directors and officers, any controlling person and any underwriter with respect to, any and all loss, damage, liability, cost or expense to which the Company or any controlling person and/or any underwriter may become subject under the Act or otherwise, insofar as such losses, damages, liabilities, costs or expenses are caused by any untrue statement or alleged untrue statement of any material fact contained in such registration statement, any prospectus contained therein or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances in which they were made, not misleading, in each case to the extent, but only to the extent, that such untrue statement or alleged untrue statement or omission or alleged omission was so made in reliance upon and in strict conformity with written information furnished by or on behalf of such holder specifically for use in the preparation thereof. (c) Promptly after receipt by an indemnified party pursuant to the provisions of paragraph (a) or (b) of this Section 4.4 of notice of the commencement of any action involving the subject matter of the foregoing indemnity provisions such indemnified party will, if a claim thereof is to be made against the indemnifying party pursuant to the provisions of said paragraph (a) or (b), promptly notify the indemnifying party of the commencement thereof; but the omission to so notify the indemnifying party will not relieve it from any liability which it may have to any indemnified party otherwise than hereunder. In case such action is brought against any indemnified party and it notifies the indemnifying party of the commencement thereof, the indemnifying party shall have the right to participate in, and, to the extent that it may wish, jointly with any other indemnifying party similarly notified, to assume the defense thereof, with counsel satisfactory to such indemnified party, provided, however, if the defendants in any action include both the indemnified party and the indemnifying party and the indemnified party shall have reasonably concluded that there may be legal defenses available to it and/or other indemnified parties which are different from or in addition to those available to the indemnified party, or if there is a conflict of interest which would prevent counsel for the indemnifying party from also representing the indemnified party, the indemnified party or parties have the right to select separate counsel to participate in the defense of such action on behalf of such indemnified party or parties. After notice from the indemnifying party to such indemnified party of its election so to assume the defense thereof, the indemnifying party will not be liable to such indemnified party pursuant to the provisions of said paragraph (a) or (b) for any legal or other expense subsequently incurred by such indemnified party in connection with the defense thereof other than reasonable costs of investigation, unless (i) the indemnified party shall have employed counsel in accordance with the provisions of the preceding sentence, (ii) the indemnifying party shall not have employed counsel satisfactory to the indemnified party to represent the indemnified party within a reasonable time after the notice of the commencement of the action or (iii) the indemnifying party 11 has authorized the employment of counsel for the indemnified party at the expense of the indemnifying party. V. MISCELLANEOUS 5.1 Any notice or other communication given hereunder shall be deemed sufficient if in writing and sent by registered or certified mail, return receipt requested, addressed to the Company, at its registered office, 100 N.E. Loop 410, Suite 820, San Antonio, Texas 78216, Attention: U. Spencer Allen and to the Subscriber at his address indicated on the signature page of this Subscription Agreement. Notices shall be deemed to have been given on the date of mailing, except notices of change of address, which shall be deemed to have been given when received. 5.2 Unless at least 50% of the holders of Securities have given their approval, which approval shall be binding on all holders of Securities, this Subscription Agreement shall not be changed, modified or amended and may not be discharged except by performance in accordance with its terms. 5.3 This Subscription Agreement shall be binding upon and inure to the benefit of the parties hereto and to their respective heirs, legal representatives, successors and assigns. This Subscription Agreement sets forth the entire agreement and understanding between the parties as to the subject matter hereof and merges and supersedes all prior discussions, agreements and understandings of any and every nature among them. 5.4 Notwithstanding the place where this Subscription Agreement may be executed by any of the parties hereto, the parties expressly agree that all the terms and provisions hereof shall be construed in accordance with and governed by the laws of the State of New York. The parties hereby agree that any dispute which may arise between them arising out of or in connection with this Subscription Agreement shall be adjudicated before a court located in New York City and they hereby submit to the exclusive jurisdiction of the courts of the State of New York located in New York, New York and of the federal courts in the Southern District of New York with respect to any action or legal proceeding commenced by any party, and irrevocably waive any objection they now or hereafter may have respecting the venue of any such action or proceeding brought in such a court or respecting the fact that such court is an inconvenient forum, relating to or arising out of this Subscription Agreement or any acts or omissions relating to the sale of the securities hereunder, and consent to the service of process in any such action or legal proceeding by means of registered or certified mail, return receipt requested, in care of the address set forth below or such other address as the undersigned shall furnish in writing to the other. 12 5.5 This Subscription Agreement may be executed in counterparts. Upon the execution and delivery of this Subscription Agreement by the Subscriber, this Subscription Agreement shall become a binding obligation of the Subscriber with respect to the purchase of Shares as herein provided; subject, however, to the right hereby reserved to the Company to enter into the same agreements with other subscribers and to add and/or to delete other persons as subscribers. 5.6 The holding of any provision of this Subscription Agreement to be invalid or unenforceable by a court of competent jurisdiction shall not affect any other provision of this Subscription Agreement, which shall remain in full force and effect. 5.7 It is agreed that a waiver by either party of a breach of any provision of this Subscription Agreement shall not operate, or be construed, as a waiver of any subsequent breach by that same party. 5.8 The parties agree to execute and deliver all such further documents, agreements and instruments and take such other and further action as may be necessary or appropriate to carry out the purposes and intent of this Subscription Agreement. 5.9 The Company agrees not to disclose the names, addresses or any other information about the Subscribers, except as required by law, provided, that the Company may provide information relating to the Subscriber as required in any registration statement under the Act with respect to the Registrable Securities. 13 IN WITNESS WHEREOF, the parties have executed this Subscription Agreement as of the day and year first written above. ______________________________ ___________________________________ Signature of Subscriber Signature of Co-Subscriber ______________________________ ___________________________________ Name of Subscriber Name of Co-Subscriber [please print] ______________________________ ___________________________________ Address of Subscriber Address of Co-Subscriber ______________________________ ___________________________________ Social Security or Taxpayer Social Security or Taxpayer Identification Number of Subscriber Identification Number of Co-Subscriber ______________________________ Subscriber's Account Number at Fine Equities, Inc. ______________________________ Number of Shares Subscribed For 14 *IF SUBSCRIBER IS A REGISTERED REPRESENTATIVE WITH AN NASD MEMBER FIRM, HAVE THE FOLLOWING ACKNOWLEDGEMENT SIGNED BY THE APPROPRIATE PARTY: The undersigned NASD member firm acknowledges receipt of the notice required by Rule 3050 of the NASD Subscription Accepted: Conduct Rules. MEDICAL SCIENCE SYSTEMS, INC. ______________________________ Name of NASD Member Firm By: ____________________________________ By _____________________________ Date: __________________________________ Authorized Officer 15 EX-10.4 8 EXHIBIT 10.4 MEDICAL SCIENCE SYSTEMS, INC. AGENCY AGREEMENT Fine Equities, Inc. 600 Third Avenue New York, New York 10016 June 15, 1999 Gentlemen: Medical Science Systems, Inc., a Texas corporation (the "Company"), proposes to offer for sale to purchasers qualifying as "accredited investors" under Rule 501(a) of Regulation D of the Securities Act of 1933, as amended (the "Securities Act"), in a private placement, up to $5,000,000 in aggregate purchase price of the Company's Series A Preferred Stock, no par value ("Shares"). A minimum of $2,500,000 in aggregate purchase price of Shares ("Minimum Offering") and a maximum of $5,000,000 in aggregate purchase price of Shares ("Maximum Offering") will be sold in the offering at a price of $2.50 per Share. The Shares will be offered on a "best efforts" basis. The Shares are being offered pursuant to the Private Placement Memorandum dated April 14, 1999 (the "Offering Memorandum") and related documents in accordance with Section 4(2) of the Securities Act and Regulation D promulgated thereunder. Fine Equities, Inc. is sometimes referred to herein as the "Placement Agent." The Offering Memorandum (including the exhibits thereto), as it may be amended from time to time, and the form of proposed subscription agreement between the Company and each subscriber (the "Subscription Agreement") and the exhibits, if any, which are part of the Offering Memorandum and Subscription Agreement are collectively referred to herein as the "Offering Documents." The Company will prepare and deliver to the Placement Agent a reasonable number of copies of the Offering Documents in form and substance satisfactory to counsel to the Placement Agent. Each prospective investor subscribing to purchase Shares (each, a "Subscriber") will be required to deliver, among other things, a Subscription Agreement and a confidential investor questionnaire ("Questionnaire") in the form to be provided to offerees. Capitalized terms used herein, unless otherwise defined or unless the context otherwise indicates, shall have the same meanings provided in the Offering Documents. 1. APPOINTMENT OF PLACEMENT AGENT. (a) You are hereby appointed exclusive Placement Agent of the Company (subject to your right to have Selected Dealers, as defined in Section 1(c) hereof, participate in the Offering) for the duration of the Offering (the "Offering Period") herein specified for the purposes of assisting the Company in finding qualified Subscribers pursuant to the offering (the "Offering") described in the Offering Documents. The "Offering Period" shall commence on the day the Offering Documents are first made available to you by the Company for delivery in connection with the offering for sale of the Shares and shall continue until the earlier to occur of (i) the sale of all of the Maximum Offering or (ii) July 14, 1999 (unless extended for a period of 30 days under circumstances specified in the Offering Memorandum). If the Minimum Offering is not sold prior to the end of the Offering Period, the Offering will be terminated and all funds received from Subscribers will be returned, without interest and without any deduction. The day that the Offering Period terminates is hereinafter referred to as the "Termination Date." (b) Subject to the performance by the Company of all of its obligations to be performed under this Agreement and to the completeness and accuracy of all representations and warranties of the Company contained in this Agreement, Fine Equities, Inc. hereby accepts such agency and agrees to use its best efforts to assist the Company in finding qualified Subscribers pursuant to the Offering described in the Offering Documents. It is understood that the Placement Agent has no commitment to sell the Shares. Your agency hereunder is not terminable by the Company except upon termination of the Offering Period. (c) You may engage other persons, selected by you in your discretion, that are members of the National Association of Securities Dealers, Inc., ("NASD") and that have executed a Selected Dealers Agreement substantially in the form attached hereto as Schedule A, to assist you in the Offering (each such person being hereinafter referred to as a "Selected Dealer") and you may allow such persons such part of the compensation and payment of expenses payable to you hereunder as you shall determine. Each Selected Dealer shall be required to agree in writing to comply with the provisions of, and to make the representations, warranties and covenants contained in, this Section 1. (d) Subscriptions for Shares shall be evidenced by the execution by subscribers of a Subscription Agreement. No Subscription Agreement shall be effective unless and until it is accepted by the Company. Until the Closing (as defined herein), all subscription funds received shall be held as described in the Subscription Agreement. The Placement Agent shall not have any obligation to independently verify the accuracy or completeness of any information contained in any Subscription Agreement or the authenticity, sufficiency, or validity of any check delivered by any prospective investor in payment for Shares. 2. REPRESENTATIONS AND WARRANTIES OF THE COMPANY. The Company represents and warrants to the Placement Agent and each Selected Dealer, if any, as follows: (a) SECURITIES LAW COMPLIANCE. The Offering Documents conform in all respects with the requirements of Section 4(2) of the Securities Act and Regulation D promulgated thereunder and with the requirements of all other published rules and regulations of 2 the Securities and Exchange Commission (the "Commission") currently in effect relating to "private offerings" to "accredited investors" of the type contemplated by the Company. The Offering Documents will not contain an untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in light of the circumstances in which they were made, not misleading. If at any time prior to the completion of the Offering or other termination of this Agreement any event shall occur as a result of which it might become necessary to amend or supplement the Offering Documents so that they do not include any untrue statement of any material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances then existing, not misleading, the Company will promptly notify you and will supply you with amendments or supplements correcting such statement or omission. The Company will also provide the Placement Agent for delivery to all offerees and purchasers and their representatives, if any, any information, documents and instruments which the Placement Agent deems necessary to comply with applicable state and federal law. (b) ORGANIZATION. Each of the Company and the Subsidiaries (as hereinafter defined) is a corporation duly organized, validly existing and in good standing under the laws of its state or country of organization and has all requisite corporate power and authority to own and lease its properties, to carry on its business as currently conducted and as proposed to be conducted, to execute and deliver this Agreement and to carry out the transactions contemplated by this Agreement, as appropriate and is duly licensed or qualified to do business as a foreign corporation in each jurisdiction in which the conduct of its business or ownership or leasing of its properties requires it to be so qualified. (c) CAPITALIZATION. The authorized, issued and outstanding capital stock of the Company prior to the consummation of the transactions contemplated hereby is as set forth in the Offering Documents. All issued and outstanding shares of the Company are validly issued, fully paid and nonassessable and have not been issued in violation of the preemptive rights of any stockholder of the Company. All prior sales of securities of the Company were either registered under the Act and applicable state securities laws or exempt from such registration, and no security holder has any rescission rights with respect thereto. (d) WARRANTS, PREEMPTIVE RIGHTS, ETC. Except for the warrants to purchase shares of the Company's common stock, no par value ("Common Stock") to be issued to you or your designees in consideration for your acting as Placement Agent hereunder (the "Agent's Warrants"), and except as set forth in or contemplated by the Offering Documents, there are not, nor will there be immediately after the Closing (as hereinafter defined), any outstanding warrants, options, agreements, convertible securities, preemptive rights to subscribe for or other commitments pursuant to which the Company is, or may become, obligated to issue any shares of its capital stock or other securities of the Company and this Offering will not cause any anti-dilution adjustments to such securities or commitments except as reflected in the Offering Documents. (e) SUBSIDIARIES AND INVESTMENTS. The Company has no subsidiaries other than Medical Science Systems France E.U., a French corporation, and Medical Science Systems Laboratory Services, Inc., a Delaware corporation (the "Delaware Subsidiary") 3 (collectively, the "Subsidiaries"). The Company does not own, directly or indirectly, any capital stock or other equity ownership or proprietary interests in any other corporation, association, trust, partnership, joint venture or other entity. The Company owns all of the capital stock of the Subsidiaries, and there are no warranties, options, agreements, convertible securities, preemptive rights to subscribe for or other commitments pursuant to which any of the Subsidiaries may become obligated to issue any shares of its capital stock or any other securities to any person other than the Company. (f) FINANCIAL STATEMENTS. The financial information contained in the Offering Documents is accurate in all material respects. The Company's Form 10-KSB for the year ended December 31, 1998 contains the Company's (i) Balance Sheets at December 31, 1998 (the "Balance Sheet Date"), (ii) Statements of Operations for each of the last two years ending December 31, 1997 and December 31, 1998, and (iii) Statements of Cash Flows for each of the last two years ending December 31, 1997 and December 31, 1998 (such financial statements attached to the Offering Documents hereinafter referred to collectively as the "Financial Statements"). The Financial Statements have been prepared in conformity with generally accepted accounting principles consistently applied and show all material liabilities, absolute or contingent, of the Company required to be recorded thereon and present fairly the financial position and results of operations of the Company as of the dates and for the periods indicated. (g) ABSENCE OF CHANGES. Other than as set forth in the Offering Documents, since the Balance Sheet Date, neither the Company nor any Subsidiary has incurred any liabilities or obligations, direct or contingent, not in the ordinary course of business, or entered into any transaction not in the ordinary course of business, which is material to the business of the Company and the Subsidiaries, taken as a whole, and there has not been any change in the capital stock of, or any incurrence of long-term debt by, the Company or any Subsidiary, or any issuance of options, warrants or other rights to purchase the capital stock of the Company or any Subsidiary, or any adverse change or any development involving, so far as the Company can now reasonably foresee, a prospective adverse change in the condition (financial or otherwise), net worth, results of operations, business, key personnel or properties which would be material to the business or financial condition of the Company or any Subsidiary, and neither the Company nor any Subsidiary has become a party to, and neither the business nor the property of the Company or any Subsidiary has become the subject of, any material litigation whether or not in the ordinary course of business. (h) TITLE. Each of the Company and the Subsidiaries has good and valid title to all properties and assets, owned by it, free and clear of all liens, charges, encumbrances or restrictions, except such as are not materially significant or important in relation to the Company's and the Subsidiaries' business, taken as a whole; all of the material leases and subleases under which each of the Company and the Subsidiaries is the lessor or sublessor of properties or assets or under which each of the Company and the Subsidiaries holds properties or assets as lessee or sublessee are in full force and effect, and neither the Company nor any Subsidiary is in default in any material respect with respect to any of the terms or provisions of any of such leases or subleases, and no material claim has been asserted by anyone adverse to rights of the Company or any Subsidiary as lessor, sublessor, lessee or sublessee under any of the leases or subleases mentioned above, or affecting or questioning the right of the Company or any 4 Subsidiaries to continued possession of the leased or subleased premises or assets under any such lease or sublease. The Company owns or leases all such properties as are necessary to its operations as now conducted and to be conducted, as presently planned. (i) PROPRIETARY RIGHTS. Each of the Company and the Subsidiaries owns or possesses adequate and enforceable rights to use all patents, patent applications, trademarks, service marks, copyrights, trade secrets, processes, formulations, technology or know-how used or proposed to be used in the conduct of its business as described in or contemplated by the Offering Documents (the "Proprietary Rights"). Other than as set forth in the Offering Documents, neither the Company nor any Subsidiary has received any notice of any claims, nor does it have any knowledge of any threatened claims, and knows of no facts which would form the basis of any claim, asserted by any person to the effect that the sale or use of any product or process now used or offered by the Company or any Subsidiary or proposed to be used or offered by the Company or any Subsidiary infringes on any patents or infringes upon the use of any such Proprietary Rights of another person and, to the best of the Company's knowledge, no others have infringed the Company's or any Subsidiary's Proprietary Rights. (j) LITIGATION. Other than as set forth in the Offering Documents, there is no material action, suit, investigation, customer complaint, claim or proceeding at law or in equity by or before any arbitrator, governmental instrumentality or other agency now pending or, to the knowledge of the Company, threatened against the Company or any Subsidiary the adverse outcome of which would materially adversely affect the Company's or any Subsidiary's business or prospects. Neither the Company nor any Subsidiary is subject to any judgment, order, writ, injunction or decree of any Federal, state, municipal or other governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign which would materially adversely affect the Company's or any Subsidiary's business or prospects. (k) NON-DEFAULTS; NON-CONTRAVENTION. Neither the Company nor any Subsidiary is in violation of or default under, nor will the execution and delivery of this Agreement or any of the Offering Documents, the Escrow Agreement or the Agent's Warrants or consummation of the transactions contemplated herein or therein result in a violation of or constitute a default in the performance or observance of any obligation (i) under its Articles of Incorporation, or its By-laws, or any indenture, mortgage, contract, material purchase order or other agreement or instrument to which the Company or any Subsidiary is a party or by which it or its property is bound or affected (all of which are listed on Schedule 2(k) to this Agreement) or (ii) with respect to any material order, writ, injunction or decree of any court of any Federal, state, municipal or other governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign, and there exists no condition, event or act which constitutes, nor which after notice, the lapse of time or both, could constitute a default under any of the foregoing, which in either case would have a material adverse effect on the business, financial condition or prospects of the Company or any Subsidiary, other than violations, breaches or defaults as may result from the issuance of shares of Common Stock prior to the Company's Articles of Incorporation being amended to increase the authorized number of shares of Common Stock to a number sufficient to allow the issuance of all of the Company's Common Stock currently reserved for issuance, including the Common Stock to be issued upon conversion of the shares. 5 (l) TAXES. Each of the Company and the Subsidiaries has filed all Federal, state, local and foreign tax returns which are required to be filed by it and all such returns are true and correct in all material respects. Each of the Company and the Subsidiaries has paid all taxes pursuant to such returns or pursuant to any assessments received by it or which it is obligated to withhold from amounts owing to any employee, creditor or third party. Each of the Company and the Subsidiaries has properly accrued all taxes required to be accrued. The tax returns of the Company and each Subsidiary have never been audited by any state, local or Federal authorities. Neither the Company nor any Subsidiary has waived any statute of limitations with respect to taxes or agreed to any extension of time with respect to any tax assessment or deficiency. (m) COMPLIANCE WITH LAWS; LICENSES, ETC. Other than as set forth in the Offering Documents, neither the Company nor any Subsidiary has received notice of any violation of or noncompliance with any Federal, state, local or foreign, laws, ordinances, regulations and orders applicable to its business which has not been cured, the violation of, or noncompliance with which, would have a materially adverse effect on the business or operations of the Company or any Subsidiary. Each of the Company and the Subsidiaries has all licenses and permits and other governmental certificates, authorizations and permits and approvals (collectively, "Licenses") required by every Federal, state and local government or regulatory body for the operation of its business as currently conducted and the use of its properties, except where the failure to be licensed would not have a material adverse effect on the business of the Company or any Subsidiary. The Licenses are in full force and effect and no violations are or have been recorded in respect of any License and no proceeding is pending or threatened to revoke or limit any thereof. (n) AUTHORIZATION OF AGREEMENT, ETC. This Agreement has been duly and validly authorized, executed and delivered by the Company and the execution, delivery and performance by the Company of this Agreement, the Subscription Agreement, and the Escrow Agreement have been duly authorized by all requisite corporate action by the Company and when delivered, constitute or will constitute the legal, valid and binding obligations of the Company, enforceable in accordance with their respective terms. (o) AUTHORIZATION OF SHARES, ETC. The issuance, sale and delivery of the Shares and the Agent's Warrants have been duly authorized by all requisite corporate action of the Company. When so issued, sold and delivered, the Shares and the Agent's Warrants will be duly executed, issued and delivered and will constitute valid and legal obligations of the Company enforceable in accordance with their respective terms and, in each case, will not be subject to preemptive or any other similar rights of the stockholders of the Company or others. (p) AUTHORIZATION OF RESERVED SHARES. Assuming approval by the Company's stockholders of the conversion of the Shares and assuming approval by the stockholders of an amendment to the Company's Articles of Incorporation increasing the number of authorized shares of Common Stock to a number sufficient to allow the issuance of all shares of Common Stock reserved for issuance, including, the Common Stock to be issued upon conversion of the Shares, and upon the effectiveness of such amendment, when issued and 6 delivered, the shares of Common Stock issuable upon conversion of the Shares will be validly issued and outstanding, fully paid and nonassessable. The Company will use all reasonable efforts to promptly obtain the foregoing approvals. When issued, sold, paid for and delivered, the shares of Common Stock issuable upon conversion of the Shares and exercise of the Agent's Warrants (the "Reserved Shares") will be validly issued and outstanding, fully paid and nonassessable, and not subject to preemptive or any other similar rights of the stockholders of the Company or others. (q) EXEMPTION FROM REGISTRATION. Assuming (i) the accuracy of the information provided by the respective subscribers in the Subscription Agreement and (ii) that the Placement Agent has complied in all material respects with the provisions of Regulation D promulgated under the Securities Act, the offer and sale of the Shares pursuant to the terms of this Agreement are exempt from the registration requirements of the Securities Act and the rules and regulations promulgated thereunder (the "Regulations"). The Company is not disqualified from the exemption under Regulation D by virtue of the disqualifications contained in Rule 505(b)(2)(iii) or Rule 507 promulgated thereunder. (r) REGISTRATION RIGHTS. Other than as set forth in the Offering Documents, except with respect to holders of the Shares and the Agent's Warrants, no person has any right to cause the Company to effect the registration under the Securities Act of any securities of the Company. (s) BROKERS. Neither the Company nor any of its officers, directors, employees or stockholders has employed any broker or finder in connection with the transactions contemplated by this Agreement other than the Placement Agent. (t) TITLE TO SHARES. Assuming approval by the Company's stockholders of the conversion of the Shares and assuming approval by the stockholders of an amendment to the Company's Articles of Incorporation increasing the number of authorized shares of Common Stock to a number sufficient to allow the issuance of all shares of Common Stock reserved for issuance, including, the Common Stock to be issued upon conversion of the Shares, and upon the effectiveness of such amendment, when issued and delivered, the shares of Common Stock issuable upon conversion of the Shares will be validly issued and outstanding, fully paid and nonassessable. The Company will use all reasonable efforts to promptly obtain the foregoing approvals. When certificates representing the securities comprising the Shares and the Reserved Shares shall have been duly delivered to the purchasers and payment shall have been made therefor, the several purchasers shall have good and valid title to the Shares and the Reserved Shares free and clear of all liens, encumbrances and claims whatsoever (with the exception of claims arising or through the acts of the purchasers and except as arising from applicable federal and state securities laws), and the Company shall have paid all taxes, if any, in respect of the original issuance thereof. (u) RIGHT OF FIRST REFUSAL. No person, firm or other business entity is a party to any agreement, contract or understanding, written or oral entitling such party to a right of first refusal with respect to the Company. 7 (v) SECURITIES EXCHANGE ACT COMPLIANCE. The Company has filed with the Securities and Exchange Commission ("SEC") on a timely basis all filings required of a company whose securities have been registered under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). All information contained in such filings is true, accurate and complete in all material respects. The Company covenants to maintain the registration of its Common Stock under the Exchange Act and to make all filings thereunder on a timely basis. For the purpose of this paragraph, filings pursuant to Rule 12b-25 of the Exchange Act shall be deemed timely. (w) NON-AFFILIATED DIRECTORS. The Company's Board of Directors has not less than two directors who are independent from, and unaffiliated with, management of the Company. 3. CLOSING; PLACEMENT AND FEES. (a) CLOSING. Provided the Minimum Offering shall have been subscribed for and funds representing the sale thereof shall have cleared, a closing (the "Initial Closing") shall take place at the offices of the Placement Agent, 600 Third Avenue, New York, New York 10016 within ten (10) days following the Termination Date which date (the "Closing Date") may be accelerated or adjourned by agreement between the Company and the Placement Agent). At the Initial Closing, payment for the Shares issued and sold by the Company shall be made against delivery of certificates representing the Shares. In addition, subsequent Closings (if applicable) may be scheduled at the discretion of the Company and Placement Agent, each of which shall be deemed a "Closing" hereunder. (b) CONDITIONS TO PLACEMENT AGENT'S OBLIGATIONS. The obligations of the Placement Agent hereunder will be subject to the accuracy of the representations and warranties of the Company herein contained as of the date hereof and as of each Closing Date, to the performance by the Company of its obligations hereunder and to the following additional conditions: (i) DUE QUALIFICATION OR EXEMPTION. (A) The offering contemplated by this Agreement will become qualified or be exempt from qualification under the securities laws of the several states pursuant to paragraph 4(e) below not later than the Closing Date, and (B) at the Closing Date no stop order suspending the sale of the Shares shall have been issued, and no proceeding for that purpose shall have been initiated or threatened; (ii) NO MATERIAL MISSTATEMENTS. Neither the Blue Sky qualification materials nor the Offering Memorandum, or any supplement thereto, will contain an untrue statement of a fact which is material, or omits to state a fact, which is material and is required to be stated therein, or is necessary to make the statements therein, in light of the circumstances under which they were made, not misleading; (iii) COMPLIANCE WITH AGREEMENTS. The Company will have complied with all agreements and satisfied all conditions on its part to be performed or satisfied hereunder at or prior to each Closing; 8 (iv) CORPORATE ACTION. The Company will have taken all necessary corporate action, including, without limitation, obtaining the approval of the Company's board of directors, for the execution and delivery of this Agreement, the performance by the Company of its obligations hereunder and the offering contemplated hereby; (v) OPINION OF COUNSEL. The Placement Agent shall receive the opinion of Fulbright & Jaworski, dated the Closing(s), substantially to the effect that: (A) each of the Company and the Delaware Subsidiary has been duly organized and is validly existing and in good standing under the laws of the State of Texas and Delaware, respectively, and has the requisite corporate power and authority to own or hold its properties and conduct its business as now conducted; (B) all of the issued and outstanding shares of capital stock of the Delaware Subsidiary have been duly authorized and validly issued and are fully paid and nonassessable, and all of the issued and outstanding shares of the capital stock of the Delaware Subsidiary are owned by the Company free and clear of any security interest, mortgage, pledge, lien, encumbrance, claim or equity; (C) each of this Agreement, the Escrow Agreement (as hereinafter defined), the Subscription Agreement and the Agent's Warrants has been duly authorized, executed and delivered by the Company, and constitutes the valid and binding obligation of the Company, enforceable against it in accordance with its terms, subject to any applicable bankruptcy, insolvency or other laws affecting the rights of creditors generally and to general equitable principles; (D) Except for the Shares and Agent's Warrants to be issued as contemplated by this Agreement and any options issued pursuant to, or capital stock issuable upon conversion of any option issued pursuant to, the Company's employee stock option plan or the Company's employee stock purchase plan, to such counsel's knowledge, there are no outstanding warrants, options, agreements, convertible securities, preemptive rights or other commitments pursuant to which the Company is, or may become, obligated to issue any shares of its capital stock or other securities of the Company other than as set forth in the Offering Documents. The Shares have been duly authorized, validly issued and when issued in accordance with the terms of the Offering Memorandum and this Agreement, will be fully paid and nonassessable. Assuming approval by the Company's stockholders of the conversion of the Shares and assuming the Company's Articles of Incorporation are amended to increase the number of authorized shares, the issuance of the Reserved Shares has been duly authorized, and, upon issuance in accordance with the terms of the Articles of Incorporation, the Reserved Shares will be fully paid and nonassessable and not subject to preemptive or any other similar rights; (E) assuming (i) the accuracy of the information provided by the Subscribers in the Subscription Agreement and (ii) that the Placement Agent has complied in all material respects with the requirements of section 4(2) of the Securities Act (and 9 the provisions of Regulation D promulgated thereunder), the offer and sale of the Shares is exempt from the registration requirements of Section 5 of the Securities Act; (F) THE EXECUTION, DELIVERY AND PERFORMANCE BY THE COMPANY OF THIS AGREEMENT AND THE OFFERING DOCUMENTS AND THE CONSUMMATION BY THE COMPANY OF THE TRANSACTIONS CONTEMPLATED THEREBY DO NOT VIOLATE ANY PROVISION OF ANY APPLICABLE FEDERAL, STATE OR, TO OUR KNOWLEDGE, LOCAL LAW, RULE OR REGULATION (PROVIDED, THAT, WE EXPRESS NO OPINION WITH RESPECT TO REGISTRATION UNDER APPLICABLE STATE SECURITIES OR BLUE SKY LAWS OR EXEMPTIONS THEREFROM OF OFFERS AND SALES OF THE SHARES (INCLUDING THE AGENT'S WARRANTS AND RESERVED SHARES)) OR ANY PROVISION OF THE COMPANY'S ARTICLES OF INCORPORATION, AS AMENDED, OR BYLAWS, AND DO NOT CONFLICT WITH OR CONSTITUTE, WITH OR WITHOUT THE PASSAGE OF TIME OR THE GIVING OF NOTICE, A DEFAULT UNDER THE PROVISIONS OF ANY JUDGMENT, WRIT, DECREE OR ORDER KNOWN TO US OR OF ANY MATERIAL AGREEMENT OR INSTRUMENT WHICH WAS FILED AS AN EXHIBIT TO OR INCORPORATED BY REFERENCE TO THE COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1998, TO WHICH THE COMPANY IS A PARTY OR BY WHICH IT IS BOUND (ALL OF WHICH ARE LISTED ON SCHEDULE 2(K) TO THIS AGREEMENT); AND (G) To our knowledge, there are no claims, actions, suits, investigations or proceedings before or by any arbitrator, court, governmental authority or instrumentality pending or currently threatened against or affecting the Company or involving the properties of the Company which might materially and adversely affect the business, properties or financial condition of the Company or which might materially adversely affect the transactions or other acts contemplated by this Agreement or the validity or enforceability of this Agreement, except as set forth in or contemplated by the Offering Documents. (vi) OPINION OF FRENCH COUNSEL. The Placement Agent shall receive the opinion of French counsel, dated the Closing(s), substantially to the effect that: (A) Medical Science Systems France E.U. (the "French Subsidiary") has been duly organized and is validly existing and in good standing under the laws of France and has the requisite corporate power and authority to own or hold its properties and conduct its business as now conducted; and (B) all of the issued and outstanding shares of capital stock of the French Subsidiary have been duly authorized and validly issued and are fully paid and nonassessable and all of the issued and outstanding shares of the capital stock of the French Subsidiary are owned by the Company free and clear of any security interest, mortgage, pledge, lien, encumbrance, claim or equity. (vii) OPINION OF PATENT COUNSEL. The Placement Agent shall receive the opinion of Foley, Hoag and Eliot, the patent counsel to the Company, dated the Closing(s), in form satisfactory to the Placement Agent. (viii) The Placement Agent shall receive a certificate of the Company, signed by the President and Secretary thereof, that the representations and warranties 10 contained in Section 2 hereof are true and accurate in all material respects at such Closing with the same effect as though expressly made at such Closing. (ix) The Placement Agent shall receive a copy of a duly executed escrow agreement in the form previously delivered to you (the "Escrow Agreement) with United States Trust Company of New York. (x) The Placement Agent shall receive the agreements described in Section 4(j) which agreements shall be in full force and effect. (xi) Within two days after each Closing, the Placement Agent shall receive copies of all letters from the Company to the investors transmitting the Shares and shall receive a letter from the Company confirming transmittal of the securities to the investors. (c) BLUE SKY. A summary blue sky survey shall be prepared by counsel to the Placement Agent stating the extent to which and the conditions upon which offers and sales of the Shares may be made in certain jurisdictions. It is understood that such survey may be based on or rely upon (i) the representations of each Subscriber set forth in the Subscription Agreement delivered by such Subscriber, (ii) the representations, warranties and agreements of the Company set forth in Section 2 of this Agreement, (iii) the representations and warranties of the Placement Agent, and (iv) the representations of the Company set forth in the certificate to be delivered at each Closing pursuant to paragraph (vi) of Section 3(b). (d) PLACEMENT FEE AND EXPENSES. Simultaneously with payment for and delivery of the Shares at each Closing as provided in paragraph 3(a) above, the Company shall at such Closing pay to the Placement Agent (i) a commission equal to ten percent (10%) of the aggregate purchase price of the Shares sold and (ii) any expenses incurred by the Placement Agent that are described in Section 4(b), except as set forth below. At each Closing, the Company shall also pay all reasonable fees and expenses of Baker & McKenzie, counsel to the Placement Agent, and all expenses (not to exceed ten thousand dollars ($10,000)) in connection with the qualification of the Shares under the securities or Blue Sky laws of the states which the Placement Agent shall designate. The Company will, at each Closing, issue to you or your designees (which may include any Selected Dealer or any officer of the Placement Agent or a Selected Dealer) the Agent's Warrants in the form annexed hereto as Exhibit 1 to purchase such number of shares of Common Stock equal to 10% of the number of shares of Common Stock underlying the Shares sold in the Offering. The Agent's Warrants will be exercisable for a period of four years from the first anniversary of the Initial Closing of the Offering. (e) BRING DOWN OPINIONS AND CERTIFICATES. If there is more than one Closing, then at each such Closing there shall be delivered to the Placement Agent updated opinions and certificates as described in (v), (vi) and (vii) of Section 3(b) above, respectively. (f) NO ADVERSE CHANGES. There shall not have occurred, at any time prior to the Closing or if applicable, any additional Closing, (i) any domestic or international event, act or occurrence which has materially disrupted, or in the Placement Agent's opinion will in the immediate future materially disrupt, the securities markets; (ii) a general suspension of, or a 11 general limitation on prices for, trading in securities on the New York Stock Exchange or the American Stock Exchange or in the over-the-counter market; (iii) any outbreak of major hostilities or other national or international calamity; (iv) any banking moratorium declared by a state or federal authority; (v) any moratorium declared in foreign exchange trading by major international banks or other persons; (vi) any material interruption in the mail service or other means of communication within the United States; (vii) any material adverse change in the business, properties, assets, results of operations, or financial condition of the Company; or (viii) any change in the market for securities in general or in political, financial, or economic conditions which, in the Placement Agent's reasonable judgment, makes it inadvisable to proceed with the offering, sale, and delivery of the Shares. (g) CAPITALIZATION. As of the Closing Date, the Company shall not have more the 7,127,440 shares of Common Stock outstanding, including any and all securities with equivalent rights to the Common Stock, shares of Common Stock or any other securities with equivalent rights, issuable upon exercise of options, warrants and other contract rights, securities convertible directly or indirectly into shares of Common Stock or such other security having equivalent rights; provided, however, that the shares of Common Stock issuable upon exercise of the Agent's Warrants shall be excluded from this provision. 4. COVENANTS OF THE COMPANY. (a) USE OF PROCEEDS. The net proceeds of the Offering will be used by the Company substantially as set forth in the Offering Memorandum. The Company shall not use any of the proceeds from the Offering to repay any indebtedness of the Company, including but not limited to indebtedness to any current executive officers, directors or principal stockholders of the Company. (b) EXPENSES OF OFFERING. The Company shall be responsible for, and shall bear all expenses directly incurred in connection with, the proposed Offering including, but not limited to, (i) reasonable legal fees (including those of counsel to the Placement Agent and the Company); (ii) printing, duplication and other costs of preparing the Offering Documents and all amendments, supplements and exhibits thereto in such quantities as the Placement Agent reasonably deems necessary; (iii)costs of preparing and delivering the Agency Agreement and the blue sky memorandum, Share and Reserved Share certificates, and all other placement agent and selling documents, including, but not limited to, all postage, mailing, express charges and other expenses as directed by the Placement Agent; and (iv) expenses in connection with blue sky registrations, including, but not limited to, filing fees, legal expenses, registrar and transfer agent fees, accounting fees, issue and transfer taxes, expenses of the Placement Agent's counsel and the fees and disbursements of counsel in connection with blue sky matters; provided however that such legal fees for blue sky matters are not to exceed $10,000 (the "Company Expenses"). If the Private Placement is not completed for any reason, except if such prevention is based upon a breach by the Company of any covenant, representation or warranty contained herein, the Company shall not be liable for the Placement Agent expenses. If the Private Placement is not completed because the Company prevents it or because of a breach by 12 the Company of any such covenants, representations or warranties, the Company shall remain liable for such expenses and the Placement Agent shall receive the Agent's Warrants. (c) AUTHORIZATION AND RESERVATION OF COMMON STOCK. The Company shall reserve and keep available that maximum number of its authorized but unissued shares of Common Stock which are issuable upon conversion of the Shares and exercise of the Agent's Warrants. The Company has taken all necessary actions to cause (other than obtaining stockholder approval of the conversion of the Shares), and will use its reasonable best efforts to cause, the issuance, sale and delivery by the Company of the shares of Common Stock issuable upon conversion of the Shares and exercise of the Agent's Warrants to be duly authorized by all requisite corporate action of the Company. The Reserved Shares have been duly reserved for issuance upon conversion of all or any of the Shares and exercise of the Agent's Warrants. The foregoing is subject to approval by the Company's stockholders of an amendment to the Company's Articles of Incorporation increasing the number of authorized Shares of Common Stock to a number sufficient to allow the issuance of such Shares of Common Stock reserved for issuance, including, the Common Stock to be issued upon conversion of the Shares, and the filing and effectiveness of such amendment. (d) REQUIRED REGISTRATION. The Company agrees to prepare and file with the SEC thirty (30) days after the Closing Date of the Offering a registration statement under the Securities Act covering the resale of the shares of Common Stock issuable upon conversion of the Shares, subject to the approval by the Company's shareholders. Such registration statement filed with the SEC pursuant to this section shall become and remain effective until the earlier of (i) 2 years from the date of effectiveness thereof or (ii) the date when all such securities are sold which have been registered pursuant to such registration statement. (e) NOTIFICATION. The Company shall notify the Placement Agent immediately, and in writing, (A) when any event shall have occurred during the period commencing on the date hereof and ending on the later of the last Closing or the Termination Date as a result of which the Offering Documents would include any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading, and (B) of the receipt of any notification with respect to the modification, rescission, withdrawal or suspension of the qualification or registration of the Shares, or of any exemption from such registration or qualification, in any jurisdiction. The Company will use its reasonable best efforts to prevent the issuance of any such modification, rescission, withdrawal or suspension and, if any such modification, rescission, withdrawal or suspension is issued and you so request, to obtain the lifting thereof as promptly as possible. (f) BLUE SKY. The Company will use its reasonable best efforts to qualify or register the Shares for offering and sale under, or establish an exemption from such qualification or registration under, the securities or "blue sky" laws of such jurisdictions as you may reasonably request; provided however, that the Company will not be obligated to qualify as a dealer in securities in any jurisdiction in which it is not so qualified. The Company will not consummate any sale of Shares in any jurisdiction in which it is not so qualified or in any manner in which such sale may not be lawfully made. 13 (g) FORM D FILING. The Company shall file five copies of a Notice of Sales of Securities on Form D with the Securities and Exchange Commission (the "Commission") no later than 15 days after the first sale of the Shares. The Company shall file promptly such amendments to such Notices on Form D as shall become necessary and shall also comply with any filing requirement imposed by the laws of any state or jurisdiction in which offers and sales are made. The Company shall furnish the Placement Agent with copies of all such filings. (h) PRESS RELEASES, ETC. The Company shall not, during the period commencing on the date hereof and ending on the later of the last Closing or the Termination Date, issue any press release or other communication, or hold any press conference with respect to the Company, its financial condition, results of operations, business, properties, assets, or liabilities, or the Offering, without the prior notice to and review by the Placement Agent. (i) FORM 10-QSB The Company will provide to the Placement Agent, promptly upon the filing thereof with the Commission (and in any event no later than 5 days of such filing), a copy of its Quarterly Report in Form 10-QSB for the three month period ended March 31, 1999 and copies of all other reports filed under the Securities and Exchange Act of 1934, as amended, and rules promulgated thereunder, prior to each Closing. (j) RESTRICTIONS ON ISSUANCE OF SECURITIES. Prior to the Closing Date, the Company will not, without the prior written consent of the Placement Agent, issue additional shares of Common Stock or grant any warrants, options or other securities of the Company. (k) TRANSFER OF SHARES OF COMMON STOCK BY CERTAIN INDIVIDUALS. The Company covenants that Paul J. White, Kenneth S. Korman and Michael G. Newman will each individually agree that he will not directly or indirectly offer, sell, transfer, pledge, assign, hypothecate or otherwise encumber ninety percent (90%) of his shares of Common Stock or other securities convertible for the Common Stock regardless of whether owned by him individually or collectively, or otherwise dispose of any interest therein under Rule 144 of the Securities Act or otherwise, from February 24, 1999 until twelve (12) months following the Closing Date of the Offering. However, the above-mentioned individuals may transfer their shares of Common Stock by gift or in a private transaction, if the done or transferee agrees in writing to be bound to the same provisions stated herein. 14 5. INDEMNIFICATION. (a) The Company agrees to indemnify and hold harmless the Placement Agent and each Selected Dealer, if any, and their respective shareholders, directors, officers, agents and controlling persons (an "Indemnified Party") against any and all loss, liability, claim, damage and expense whatsoever (and all actions in respect thereof), and to reimburse the Placement Agent for reasonable legal fees and related expenses as incurred (including, but not limited to the costs of giving testimony or furnishing documents in response to a subpoena or otherwise, and the costs of investigating, preparing or defending any such action or claim whether or not in connection with litigation in which the Placement Agent is a party), arising out of any untrue statement or alleged untrue statement of a material fact contained in the Offering Documents or the omission or alleged omission therefrom of a material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading; PROVIDED, HOWEVER, that the Company will not be liable in any such case, and the Placement Agent agrees to indemnify the Company, to the extent, but only to the extent, that any such loss, liability, claim, damage or expense arises out of or is based upon an untrue or alleged statement or omission made in reliance upon and conformity with written information furnished to the Company by or on behalf of the Placement Agent specifically for use in the preparation of the Offering Documents, which information consists solely of the manner of distribution of the Shares as set forth in the Offering Memorandum under "Plan of Distribution." (b) The Company agrees to indemnify and hold harmless an Indemnified Party to the same extent as the foregoing indemnity, against any and all loss, liability, claim, damage and expense whatsoever directly arising out of the exercise by any person of any right under the Securities Act or the Exchange Act or the securities or Blue Sky laws of any state on account of violations of the representations, warranties or agreements set forth in Section 2 hereof. (c) Promptly after receipt by a person entitled to indemnification pursuant to the foregoing subsection (a) or (b) (an "indemnified party") under this Section of notice of the commencement of any action, the indemnified party will, if a claim in respect thereof is to be made against the Company under this Section, notify in writing the Company of the commencement thereof; but the omission so to notify the Company will not relieve it from any liability which it may have to the indemnified party otherwise than under this Section. In case any such action is brought against an indemnified party, and it notifies the Company of the commencement thereof, the Company will be entitled to participate in, and, to the extent that it may wish, jointly with any other indemnifying party similarly notified, to assume the defense thereof, subject to the provisions herein stated, with counsel reasonably satisfactory to the indemnified party, and after notice from the Company to the indemnified party of its election so to assume the defense thereof, the Company will not be liable to the indemnified party under this Section for any legal or other expenses subsequently incurred by the indemnified party in connection with the defense thereof other than reasonable costs of investigation. The indemnified party shall have the right to employ separate counsel in any such action and to participate in the defense thereof, but the fees and expenses of such counsel shall not be at the expense of the Company if the Company has assumed the defense of the action with counsel reasonably satisfactory to the indemnified party; provided that the fees and expenses of such counsel shall be 15 at the expense of the Company if (i) the employment of such counsel has been specifically authorized in writing by the Company or (ii) the named parties to any such action (including any impleaded parties) include both the indemnified party or parties and the Company and, in the judgment of the indemnified party, it is advisable for the indemnified party or parties to be represented by separate counsel (in which case the Company shall not have the right to assume the defense of such action on behalf of the indemnified party or parties), it being understood, however, that the Company shall not, in connection with any one such action or separate but substantially similar or related actions in the same jurisdiction arising out of the same general allegations or circumstances, be liable for the reasonable fees and expenses of more than one separate firm of attorneys for the indemnified party or parties. No settlement of any action against an indemnified party shall be made without the consent of the indemnified party, which shall not be unreasonably withheld in light of all factors of importance to the indemnified party. 16 6. CONTRIBUTION. To provide for just and equitable contribution, if (i) an indemnified party makes a claim for indemnification pursuant to Section (5) but it is found in a final judicial determination, not subject to further appeal, that such indemnification may not be enforced in such case, even though this Agreement expressly provides for indemnification in such case, or (ii) any indemnified or indemnifying party seeks contribution under the Securities Act, the Exchange Act, or otherwise, then the Company (including for this purpose any contribution made by or on behalf of any officer, director, employee or agent for the Company, or any controlling person of the Company), on the one hand, and the Placement Agent and any Selected Dealers (including for this purpose any contribution by or on behalf of an indemnified party), on the other hand, shall contribute to the losses, liabilities, claims, damages, and expenses whatsoever to which any of them may be subject, in such proportions as are appropriate to reflect the relative benefits received by the Company, on the one hand, and the Placement Agent and the Selected Dealers, on the other hand; provided, however, that if applicable law does not permit such allocation, then other relevant equitable considerations such as the relative fault of the Company and the Placement Agent and the Selected Dealers in connection with the facts which resulted in such losses, liabilities, claims, damages, and expenses shall also be considered. In no case shall the Placement Agent or a Selected Dealer be responsible for a portion of the contribution obligation in excess of the compensation received by it pursuant to Section 3 hereof or the Selected Dealer Agreement, as the case may be. No person guilty of a fraudulent misrepresentation shall be entitled to contribution from any person who is not guilty of such fraudulent misrepresentation. For purposes of this Section 6, each person, if any, who controls the Placement Agent or a Selected Dealer within the meaning of Section 15 of the Securities Act or Section 20(a) of the Exchange Act and each officer, director, stockholder, employee and agent of the Placement Agent or a Selected Dealer, shall have the same rights to contribution as the Placement Agent or the Selected Dealer, and each person, if any who controls the Company within the meaning of Section 15 of the Securities Act or Section 20(a) of the Exchange Act and each officer, director, employee and agent of the Company, shall have the same rights to contribution as the Company, subject in each case to the provisions of this Section 6. Anything in this Section 6 to the contrary notwithstanding, no party shall be liable for contribution with respect to the settlement of any claim or action effected without its written consent. This Section 6 is intended to supersede any right to contribution under the Securities Act, the Exchange Act, or otherwise. 7. Miscellaneous. (a) SURVIVAL. Any termination of the Offering without consummation thereof shall be without obligation on the part of any party except that the indemnification provided in Section 5 hereof and the contribution provided in Section 6 hereof shall survive any termination and shall survive the Closing Date for a period of two years and except as otherwise specifically set forth herein. (b) REPRESENTATIONS, WARRANTIES AND COVENANTS TO SURVIVE DELIVERY. The respective representations, warranties, indemnities, agreements, covenants and other statements of the Company as of the date hereof shall survive execution of this Agreement and delivery of the Shares and the termination of this Agreement for a period of two years. 17 (c) NO OTHER BENEFICIARIES. This Agreement is intended for the sole and exclusive benefit of the parties hereto and their respective successors and controlling persons, and no other person, firm or corporation shall have any third-party beneficiary or other rights hereunder. (d) GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the law of the State of New York without regard to conflict of law provisions. (e) COUNTERPARTS. This Agreement may be signed in counterparts with the same effect as if both parties had signed one and the same instrument. (f) NOTICES. Any communications specifically required hereunder to be in writing, if sent to the Placement Agent, will be mailed, delivered and confirmed to it at Fine Equities, Inc., 600 Third Avenue, New York, New York 10016, Att: N. Scott Fine, with a copy to Baker & McKenzie, 805 Third Avenue, New York, New York 10022, Att: Michael S. Novins, Esq. and if sent to the Company, will be mailed, delivered or telegraphed and confirmed to it at Medical Science Systems, Inc., 100 N.E. Loop 410, Suite 820, San Antonio, Texas 78216, Att: Spence Allen, with a copy to Fulbright & Jaworski, 300 Convent, Suite 2200, San Antonio, Texas 78205, Att: Daryl Lansdale. (g) ENTIRE AGREEMENT. This Agreement constitutes the entire agreement of the parties with respect to the matters herein referred and supersedes all prior agreements and understandings, written and oral, between the parties with respect to the subject matter hereof, including, but not limited to, the letter of intent between the parties hereto dated February 24, 1999. Neither this Agreement nor any term hereof may be changed, waived or terminated orally, but only by an instrument in writing signed by the party against which enforcement of the change, waiver or termination is sought. If you find the foregoing is in accordance with our understanding, kindly sign and return to us a counterpart hereof, whereupon this instrument along with all counterparts will become a binding agreement between us. Very truly yours, MEDICAL SCIENCE SYSTEMS, INC. By: _______________________________ Title: Agreed: FINE EQUITIES, INC. 18 By: ________________________ Authorized Officer 19 SCHEDULE A MEDICAL SCIENCE SYSTEMS, INC. PRIVATE PLACEMENT SELLING AGREEMENT New York, New York April 12, 199 Fine Equities 600 Third Avenue New York, New York 10016 Dear Sirs: 1. Medical Science Systems, Inc. (the "Company") is offering for sale on a "best efforts" basis, up to $5,000,000 in aggregate selling price of shares of Series A Preferred Stock, no par value per share ("Shares"). The Shares and the terms under which they are to be offered for sale by the Company are more particularly described in the Confidential Private Placement Memorandum dated April 14, 1999 (the "Offering Memorandum") and the form of subscription agreement between the Company and each subscriber (the "Subscription Agreement"), the exhibits to the Offering Memorandum and the Subscription Agreement, and any other documents delivered to subscribers (herein, collectively the "Offering Documents"). Fine Equities, Inc. (the "Placement Agent") has agreed to act as exclusive placement agent to the Company for the purpose of assisting the Company in finding subscribers who satisfy the requirements set forth in the Offering Documents and more particularly in the Subscription Agreement (herein, "Qualified Subscribers") pursuant to the offering ("Private Placement") described in the Offering Documents. 2. The Shares are to be offered to a limited number of subscribers by the Company at the price per Share set forth in the Offering Documents (the "Subscription Price"), in accordance with the terms of offering thereof set forth in the Offering Documents. 3. We are extending the right, subject to the terms and conditions hereof, to assist the Company in finding Qualified Subscribers to purchase a portion of the Shares, to certain dealers who are actually engaged in the investment banking or securities business and who are members in good standing of the National Association of Securities Dealers, Inc. (the "NASD") (such dealers who shall agree to assist in locating Qualified Subscribers for Shares hereunder being herein called "Selected Dealers"), at the Subscription Price, for which they will receive a commission of ____% of the Subscription Price for Shares purchased by Qualified Subscribers presented to the Company by them. The Selected Dealers have agreed to comply with the provisions of all applicable Rules of Fair Practice of the NASD. We may be included among the Selected Dealers. 1 4. We shall have full authority to take such action as we may deem advisable in respect of all matters pertaining to the Private Placement of the Shares. 5. If you desire to present to the Company any Qualified Subscribers for Shares, your application should reach us promptly by telephone or telegraph at 600 Third Avenue, New York, New York 10016, Attention: N. Scott Fine, telephone number (212) 687-0888. We reserve the right to reject subscriptions in whole or in part, to make allotments and to close the subscription books at any time without notice. The Shares allotted to the Qualified Subscribers presented by you will be confirmed, subject to the terms and conditions of this Agreement. 6. The privilege of assisting the Company in finding Qualified Subscribers for the Shares is extended to you only so long as the Company may lawfully sell the Shares to residents in the state in which any such Qualified Subscribers reside pursuant to the terms of the Offering Documents. 7. Any Shares offered under the terms of this Agreement and the Offering Documents may only be offered and sold subject to the securities or blue sky laws of the various states or other jurisdictions. You agree to advise us from time to time, upon request, of the number of sets of Offering Documents delivered to qualified subscribers by you hereunder at the time of such request. No expenses shall be charged to Selected Dealers. Neither you nor any other person is or has been authorized to give any information or to make any representation in connection with the offer or sale of the Shares other than as contained in the Offering Documents. 8. On becoming a Selected Dealer, and in assisting the Company in finding Qualified Subscribers for the Shares, you agree to comply with all the applicable requirements of the Securities Act of 1933, as amended (the "1933 Act") specifically with respect to the requirements of Regulation D thereunder. You confirm that you are familiar with Rules 501 and 502 under the 1933 Act relating to the limitations on the manner in which a private placement may be conducted pursuant to Regulation D under the 1933 Act. 9. Upon request, you will be informed as to the states and other jurisdictions in which we have been advised that the Shares have been qualified or are exempt from registration requirements for offer and sale under the respective securities or blue sky laws of such states and other jurisdictions, but we do not assume any obligation or responsibility as to the right of any Selected Dealer to offer the Shares in any state or other jurisdiction or as to the eligibility of the Shares for sale therein. We will, if requested, file a Further State Notice in respect of the Shares pursuant to Article 23-A of the General Business Law of the State of New York. 2 10. No Selected Dealer is authorized to act as our agent or an agent of the Company or otherwise to act on our behalf in assisting the Company in finding Qualified Subscribers or otherwise or to furnish any information or make any representation except as contained in the Offering Documents. 11. Nothing will constitute the Selected Dealers an association or other separate entity or partners with us, or with each other, but you will be responsible for your share of any liability or expense based on any claim to the contrary. We shall not be under any liability for or in respect of value, validity or form of the Shares or the delivery of the Shares, or the performance by anyone of any agreement on its part, or the qualification of the Shares for offer or sale under the laws of any jurisdiction, or for or in respect of any other matter relating to this Agreement, except for lack of good faith and for obligations expressly assumed by us in this Agreement and no obligation on our part shall be implied herefrom. The foregoing provisions shall not be deemed a waiver of any liability imposed under the federal securities laws. 12. Payment for the Shares subscribed for hereunder is to be made by Qualified Subscribers at the Subscription Price during the term of the Private Placement set forth in the Offering Documents at the office of Fine Equities, 600 Third Avenue, New York, New York 10016, by a certified or official bank check, payable to the order of [Escrow Agent name and account]. 13. Notice to us should be addressed to Fine Equities, 600 Third Avenue, New York, New York 10016, Attention: N. Scott Fine. Notices to you shall be deemed to have been duly given if mailed to you at the address to which this letter is addressed. 14. If you desire to assist the Company in finding Qualified Subscribers pursuant to the terms set forth above, please confirm your application by signing and returning to us your confirmation on the duplicate copy of this letter enclosed herewith, even though you may have previously advised us thereof by telephone or telegraph. Our signature hereon may be by facsimile. Very truly yours, FINE EQUITIES, INC. By: ________________________________ Authorized Officer 3 Fine Equities, Inc. 600 Third Avenue New York, New York 10016 We hereby present to Medical Science Systems, Inc. (the "Company") Qualified Subscribers for $______ of Shares in accordance with the terms and conditions stated in the foregoing letter. We hereby acknowledge receipt of the Offering Documents referred to in the first paragraph thereof relating to said Shares. We confirm that we are a dealer actually engaged in the investment banking or securities business and that we are a member in good standing of the National Association of Securities Dealers, Inc. (the "NASD"). We hereby agree to comply with all of the applicable provisions of the Rules of Fair Practice of the NASD. Firm:_________________________________ By: __________________________________ Authorized Officer Dated:________________________ EX-27 9
5 3-MOS DEC-31-1999 JUN-30-1999 4,912,878 0 123,326 38,351 0 5,079,206 797,782 434,062 5,442,926 1,064,752 0 0 1,234,854 20,244,111 0 5,442,926 129,335 129,335 43,206 1,239,237 0 0 17,966 (1,141,688) 0 0 0 0 0 (1,141,688) (.43) (.43)
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