-----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, CPwHBQJ4rcZyVYKI+NwgPZUtr7T/b0so6Hs4t/79xEYCH/jl0qKdeRl5Xx83FEnC 6I4e20qc/lZUd9zmMzlJPw== 0000950135-97-002876.txt : 19970701 0000950135-97-002876.hdr.sgml : 19970701 ACCESSION NUMBER: 0000950135-97-002876 CONFORMED SUBMISSION TYPE: 8-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19970612 ITEM INFORMATION: Acquisition or disposition of assets ITEM INFORMATION: Financial statements and exhibits FILED AS OF DATE: 19970630 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: GENZYME CORP CENTRAL INDEX KEY: 0000732485 STANDARD INDUSTRIAL CLASSIFICATION: BIOLOGICAL PRODUCTS (NO DIAGNOSTIC SUBSTANCES) [2836] IRS NUMBER: 061047163 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 8-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-14680 FILM NUMBER: 97632836 BUSINESS ADDRESS: STREET 1: ONE KENDALL SQ CITY: CAMBRIDGE STATE: MA ZIP: 02139 BUSINESS PHONE: 6172527500 MAIL ADDRESS: STREET 1: ONE KENDALL SQUARE CITY: CAMBRIDGE STATE: MA ZIP: 02139 8-K 1 GENZYME CORPORATION 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 8-K CURRENT REPORT Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 Date of Report (Date of earliest event reported): JUNE 18, 1997 GENZYME CORPORATION (Exact name of registrant as specified in its charter) MASSACHUSETTS 0-14680 06-1047163 (State or other jurisdiction (Commission File (IRS Employer of incorporation) Number) Identification No.) ONE KENDALL SQUARE, CAMBRIDGE, MASSACHUSETTS 02139 (Address of principal executive offices and zip code) Registrant's telephone number, including area code: (617) 252-7500 2 ITEM 2. ACQUISITION OR DISPOSITION OF ASSETS. On June 18, 1997, pursuant to an Agreement and Plan of Merger (the "Merger Agreement") dated as of January 31, 1997 between Genzyme Corporation ("Genzyme"), a Massachusetts corporation, and PharmaGenics, Inc. ("PharmaGenics"), a Delaware corporation, PharmaGenics merged with and into Genzyme (the "Merger"). The Merger was approved by the stockholders of Genzyme at a Special Meeting of Stockholders held on June 12, 1997 (the "Genzyme Special Meeting") and was approved by the stockholders of PharmaGenics at a Special Meeting of Stockholders held on June 12, 1997. As consideration for the Merger, the stockholders of PharmaGenics received 3,928,572 shares of Genzyme Molecular Oncology Division Common Stock, $0.01 par value ("GMO Stock") subject to reduction as described below. The GMO Stock is intended to reflect the value and track the performance of Genzyme Molecular Oncology ("GMO"), a new division established by Genzyme. GMO was formed to develop and commercialize novel therapeutics and diagnostics for cancer based on molecular tools and genomics information. GMO consists of all of PharmaGenics's business, several Genzyme programs in the area of molecular oncology and Genzyme's rights under agreements with third parties relating to gene therapies for the treatment of cancer. As compensation to the Genzyme General Division ("Genzyme General") for the assets it contributed to GMO, 6,000,000 shares of GMO Stock have been reserved for issuance for the benefit of Genzyme General or its stockholders ("GMO Designated Shares"). The Board of Directors of Genzyme may issue the GMO Designated Shares as a stock dividend to the holders of Genzyme General Division Common Stock ("GGD Stock") or it may sell such shares in a public or private sale and allocate all of the proceeds to Genzyme General. The number of shares of GMO Stock delivered by Genzyme as the merger consideration was determined through arms-length negotiations between the parties. Such number of shares is subject to reduction prior to delivery of the GMO Stock certificates to the PharmaGenics stockholders by (i) the amount that PharmaGenics's expenses in connection with the Merger exceed $1,000,000 and (ii) payments made or reasonably expected to be made by Genzyme, as of the date the GMO Stock certificates are delivered, to holders of PharmaGenics common stock who have exercised appraisal rights under Delaware law and to holders of PharmaGenics stock who have commenced or threatened (in writing) to commence any action, suit or legal, administrative or arbitration proceeding against either Genzyme or PharmaGenics challenging the Merger or seeking damages in connection with the Merger, as well as any expenses incurred by Genzyme in connection with any such action suit or proceeding, in each case divided by $7.00, the agreed upon value of the GMO Stock. There was no material relationship between PharmaGenics or its stockholders and Genzyme or any of its affiliates, directors or officers, or any associate of a Genzyme director or officer. The assets acquired in the Merger were used by PharmaGenics in the business of developing products and services for the treatment of cancer and Genzyme intends that GMO, which includes the assets of PharmaGenics, will operate in the same business. ITEM 5. OTHER EVENTS Also on June 18, 1997, Genzyme amended its articles of organization to (i) redesignate each of Genzyme's then existing classes of common stock as separate series of a single class of common stock with substantially the same features as the shares of each of Genzyme's then existing classes of common stock and (ii) authorize 110,000,000 shares of undesignated common stock that may be issued from time by the Board of Directors of Genzyme in one or more series (in addition to the GMO Stock). Finally, on June 18, 1997, Genzyme distributed to each holder of GMO Stock rights to purchase one one-hundredth of a share of Series C Junior Participating Preferred Stock for each share of GMO Stock held and amended its Rights Agreement with American Stock Transfer & Trust Company to reflect, among other things, the distribution of rights to the holders of the GMO Stock and, in the designation of the rights distributed to the holders of GGD Stock and Genzyme Tissue Repair Division Common Stock, the redesignation of the Company's existing classes of common stock. 3 ITEM 7. FINANCIAL STATEMENTS, PRO FORMA FINANCIAL INFORMATION AND EXHIBITS. (a) Financial Statements of Business Acquired: The financial statements of PharmaGenics for the most recent fiscal year, the accountant's report covering such financial statements and the interim financial statements required by this item are filed herewith as Exhibit 99.1. (b) Pro Forma Financial Information: The financial statements of GMO for the most recent fiscal year, the accountant's report covering such financial statements, the interim financial statements and the pro forma financial information required by this item are filed herewith as Exhibit 99.2. (c) Exhibits:
Exhibit No. Description - ------- ----------- 2 Agreement and Plan of Merger dated as of January 31, 1997 between Genzyme Corporation and PharmaGenics, Inc. Filed as Annex I to the Prospectus/Proxy Statement included in Genzyme's Registration Statement on Form S-4 (File No. 333- 26351), and incorporated herein by reference. Pursuant to Item 601(b)(2) of Regulation S-K, the schedules and certain exhibits to the Agreement and Plan of Merger are omitted. A list of such schedules and exhibits appears in the table of contents to the Agreement and Plan of Merger. The Registrant hereby undertakes to furnish supplementally a copy of any omitted schedule or exhibit to the Commission upon request. 23.1 Consent of Coopers and Lybrand L.L.P., independent accountants to Genzyme Corporation. Filed herewith. 23.2 Consent of Arthur Andersen LLP, independent accountants to PharmaGenics, Inc. Filed herewith. 99.1 Financial statements of PharmaGenics for the most recent fiscal year, the accountant's report covering such financial statements, and the interim financial statements of PharmaGenics. Filed herewith. 99.2 Financial statements of GMO for the most recent fiscal year, the accountant's report covering such financial statements, the interim financial statements, management's discussion and analysis of financial condition and results of operations and pro forma financial information giving effect to the merger of PharmaGenics with and into Genzyme. Filed herewith.
4 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: June 30, 1997 GENZYME CORPORATION By:/s/ David J. McLachlan --------------------------------------- David J. McLachlan Executive Vice President, Finance and Chief Financial Officer 5 EXHIBIT INDEX
EXHIBIT SEQUENTIAL NO. DESCRIPTION PAGE NO. - ------- ----------- --------- 2 Agreement and Plan of Merger dated as of January 31, 1997 between Genzyme Corporation and PharmaGenics, Inc. Filed as Annex I to the Prospectus/Proxy Statement included in Genzyme's Registration Statement on Form S-4 (File No. 333-26351), and incorporated herein by reference. Pursuant to Item 601(b)(2) of Regulation S-K, the schedules to the Agreement and Plan of Merger are omitted. A list of such schedules appears in the table of contents to the Agreement and Plan of Merger. The Registrant hereby undertakes to furnish supplementally a copy of any omitted schedule to the Commission upon request. 23.1 Consent of Coopers and Lybrand L.L.P., independent accountants to Genzyme Corporation. Filed herewith. 23.2 Consent of Arthur Andersen LLP, independent accountants to PharmaGenics, Inc. Filed herewith. 99.1 Financial statements of PharmaGenics for the most recent fiscal year, the accountant's report covering such financial statements and the interim financial statements of PharmaGenics. Filed herewith. 99.2 Financial statements of GMO for the most recent fiscal year, the accountant's report covering such financial statements, the interim financial statements, management's discussion and analysis of results of operations and financial condition and pro forma financial information giving effect to the merger of PharmaGenics with and into Genzyme. Filed herewith.
6 PHARMAGENICS, INC. INDEX TO FINANCIAL STATEMENTS Page ---- Report of Independent Accountants F-1 Balance Sheets as of December 31, 1995 and 1996 F-2 Statements of Operations for the Years Ended December 31, 1994, 1995 and 1996 F-3 Statement of Changes in Stockholders' Equity (Deficit) F-4 Statements of Cash Flows for the Years Ended December 31, 1994, 1995 and 1996 F-5 Notes to Financial Statements F-6 Balance Sheets as of March 31, 1997 (unaudited) and December 31, 1996 F-18 Statement of Operations (unaudited) for the Three Months Ended March 31, 1997 and 1996 F-19 Statements of Cash Flows (unaudited) for the Three Months Ended March 31, 1997 and 1996 F-20 Notes to Financial Statements (unaudited) F-21 EX-23.1 2 CONSENT OF COOPERS & LYBRAND, LLP 1 Exhibit 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS ---------------------------------- We consent to the incorporation by reference in the Registration Statements of Genzyme Corporation on Form S-8 (File Nos. 33-8881, 33-15616, 33-26329, 33-29918, 33-35067, 33-37236, 33-41933, 33-55656, 33-68188, 33-58359, 33-60437, 333-10003, 33-30007, 33-68208, 33-58351, 333-10005, 33-22464, 33-29440, 33-51416, 33-68186, 33-58353, 33-58355, 33-60435 and 33-21241) and on Form S-3 (File Nos. 33-61853, 333-15597 and 333-24361) of our report dated April 7, 1997 on our audit of the combined financial statements of Genzyme Molecular Oncology as of December 31, 1995 and 1996 and for the period from December 1, 1994 (Date of Inception) through December 31, 1994, for the years ended December 31, 1995 and 1996 and cumulative for the period from December 1, 1994 (Date of Inception) through December 31, 1996, which report is included in the Company's filing on Form 8-K dated June 30, 1997. /s/ Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. Boston, Massachusetts June 30, 1997 EX-23.2 3 CONSENT OF ARTHUR ANDERSEN, LLP 1 Exhibit 23.2 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS ----------------------------------------- We consent to the incorporation by reference in the Registration Statements of Genzyme Corporation on Form S-8 (File Nos. 33-8881, 33-15616, 33-26329, 33-29918, 33-35067, 33-37236, 33-41933, 33-55656, 33-68188, 33-58359, 33-60437, 333-10003, 333-30007, 33-68208, 33-58351, 333-10005, 33-22464, 33-29440, 33-51416, 33-68186, 33-58353, 33-58355, 33-60435 and 33-21241) and on Form S-3 (File Nos. 33-61853, 333-15597 and 333-24361) of our report dated March 3, 1997 relating to the financial statements of PharmaGenics, Inc. included in Genzyme Corporation's report on Form 8-K dated June 30, 1997. /s/ Arthur Andersen LLP ------------------------------ ARTHUR ANDERSEN LLP Roseland, New Jersey June 30, 1997 EX-99.1 4 FINANCIAL STATEMENTS OF PHARMAGENICS 1 EXHIBIT 99.1 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To PharmaGenics, Inc.: We have audited the accompanying balance sheets of PharmaGenics, Inc. as of December 31, 1995 and 1996, and the related statements of operations, changes in stockholders' equity (deficit) and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of PharmaGenics, Inc. as of December 31, 1995 and 1996, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. The Company has incurred significant losses from operations since its inception, has a stockholders' deficit and requires substantial additional capital to fund its operations. In addition, the Company has a significant operating lease commitment. As discussed in Notes 1 and 14, as of January 31, 1997, the Company entered into an agreement and plan of merger with Genzyme Corporation, which is subject to approval of the stockholders of each company. If the merger is not consummated, management will be required to consider other alternatives, including the liquidation of the Company's remaining assets and the payment of its liabilities and commitments. Management's plans in regard to these matters are described in Note 1. The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might result should the Company be unable to continue as a going concern. /s/ ARTHUR ANDERSEN LLP Roseland, New Jersey March 3, 1997 F-1 2 PHARMAGENICS, INC. BALANCE SHEETS
December 31, ----------------------------- ASSETS 1995 1996 ------------ ------------ Current assets: Cash and cash equivalents ........................ $ 1,639,182 $ 486,109 Accounts receivable .............................. -- 185,972 Prepaid expenses ................................. 22,970 38,183 ------------ ------------ Total current assets ............................. 1,662,152 710,264 Property and equipment, net of $1,705,980 and $2,073,642 of accumulated depreciation ...................... 996,048 782,638 Other assets ..................................... 35,425 40,425 ------------ ------------ Total assets ..................................... $ 2,693,625 $ 1,533,327 ============ ============ LIABILITIES Current liabilities: Accounts payable and accrued expenses ............ $ 942,736 $ 1,599,987 Deferred revenue ................................. 1,038,400 315,200 Current obligations under capital leases ......................................... 321,650 147,102 ------------ ------------ Total current liabilities ........................ 2,302,786 2,062,289 Long-term obligations under capital leases ........................................ 39,280 25,177 ------------ ------------ Total liabilities ................................ 2,342,066 2,087,466 ------------ ------------ Commitments and contingencies (Notes 3, 7, 8, 9 and 11) STOCKHOLDERS' EQUITY (DEFICIT) Preferred stock - $.01 par value, 10,000,000 shares authorized: Series A convertible preferred stock, 2,500,000 shares designated, 2,160,000 shares issued and outstanding at December 31, 1995 and 1996, liquidation preference $4,017,600..................................... 21,600 21,600 Series B convertible preferred stock, 2,500,000 shares designated, 2,138,399 shares issued and outstanding at December 31, 1995 and 1996, liquidation preference $16,038,000 ............ 21,384 21,384 Series C convertible preferred stock, 4,717,700 shares designated, 1,356,592 and 3,076,556 shares issued and outstanding at December 31, 1995 and 1996, respectively, liquidation preference $2,916,673 and $6,614,595 at December 31, 1995 and 1996, respectively .................................. 13,566 30,765 Common stock - $.01 par value, 15,000,000 shares authorized, 451,608 and 455,108 shares issued and outstanding at December 31, 1995 and 1996, respectively ....... 4,516 4,551 Additional paid-in capital ....................... 22,394,917 26,066,218 Accumulated deficit .............................. (21,939,837) (26,692,470) Deferred compensation ............................ (164,587) (6,187) ------------ ------------ Total stockholders' equity (deficit) ........... 351,559 (554,139) ------------ ------------ Total liabilities and stockholders' equity (deficit) ............................ $ 2,693,625 $ 1,533,327 ============ ============
The accompanying notes are an integral part of these financial statements. F-2 3 PHARMAGENICS, INC. STATEMENTS OF OPERATIONS
Year Ended December 31, ------------------------------------------- 1994 1995 1996 ----------- ----------- ----------- Revenues: Research contracts ............................... $ 1,529,595 $ 2,783,233 $ 1,137,671 License fees and royalties ....................... 250,614 766 4,553 Grants ........................................... 38,000 136,672 276,221 ----------- ----------- ----------- Total revenues ................................... 1,818,209 2,920,671 1,418,445 ----------- ----------- ----------- Costs and expenses: Research and development ......................... 5,821,540 4,608,271 4,498,839 General and administrative ....................... 1,447,501 1,388,095 1,756,164 ----------- ----------- ----------- Total costs and expenses ......................... 7,269,041 5,996,366 6,255,003 ----------- ----------- ----------- Loss from operations ............................. (5,450,832) (3,075,695) (4,836,558) Interest expense ................................. (125,801) (347,897) (36,349) Interest income .................................. 88,817 44,045 120,274 ----------- ----------- ----------- NET LOSS ......................................... $(5,487,816) $(3,379,547) $(4,752,633) =========== =========== =========== Net loss per common share ........................ $ (12.28) $ (7.49) $ (10.49) =========== =========== =========== Weighted average common shares outstanding ....... 446,933 451,406 452,970 =========== =========== ===========
The accompanying notes are an integral part of these financial statements. F-3 4 PHARMAGENICS, INC. STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
Series A Series B Series C Convertible Convertible Convertible Additional Preferred Preferred Preferred Common Paid-in Stock Stock Stock Stock Capital ------- ------- ------- ------ ------------ Balance, January 1, 1994 $21,600 $21,384 $ -- $4,338 $ 18,278,515 Issuance of warrants and shares of common stock to acquire technology rights -- -- -- 167 716,833 Issuance of shares of common stock upon exercise of stock options -- -- -- 7 510 Issuance of stock options at below fair market value -- -- -- -- 394,500 Net loss -- -- -- -- -- ------- ------- ------- ------ ------------ Balance, December 31, 1994 21,600 21,384 -- 4,512 19,390,358 Conversion of debt into Series C Convertible Preferred Stock -- -- 9,770 -- 2,090,853 Issuance of Series C Convertible Preferred Stock -- -- 3,796 -- 812,254 Issuance of warrants at below fair market value -- -- -- -- 165,000 Issuance of shares of common stock upon exercise of stock options -- -- -- 4 334 Issuance of stock options at below fair market value -- -- -- -- 33,000 Cancellation of stock options upon employment termination -- -- -- -- (96,882) Amortization of deferred compensation -- -- -- -- -- Net loss -- -- -- -- -- ------- ------- ------- ------ ------------ Balance, December 31, 1995 21,600 21,384 13,566 4,516 22,394,917 Issuance of Series C Convertible Preferred Stock -- -- 17,199 -- 3,680,723 Issuance of shares of common stock upon exercise of stock options -- -- -- 35 1,715 Cancellation of stock options upon employment termination -- -- -- -- (11,137) Amortization of deferred compensation -- -- -- -- -- Net loss -- -- -- -- -- ------- ------- ------- ------ ------------ Balance, December 31, 1996 $21,600 $21,384 $30,765 $4,551 $ 26,066,218 ======= ======= ======= ====== ============
Accumulated Deferred Stockholders' Deficit Compensation Equity (Deficit) ------------ ------------ ---------------- Balance, January 1, 1994 $(13,072,474) $ -- $ 5,253,363 Issuance of warrants and shares of common stock to acquire technology rights -- -- 717,000 Issuance of shares of common stock upon exercise of stock options -- -- 517 Issuance of stock options at below fair market value -- (394,500) -- Net loss (5,487,816) -- (5,487,816) ------------ --------- ----------- Balance, December 31, 1994 (18,560,290) (394,500) 483,064 Conversion of debt into Series C Convertible Preferred Stock -- -- 2,100,623 Issuance of Series C Convertible Preferred Stock -- -- 816,050 Issuance of warrants at below fair market value -- -- 165,000 Issuance of shares of common stock upon exercise of stock options -- -- 338 Issuance of stock options at below fair market value -- (33,000) -- Cancellation of stock options upon employment termination -- 96,882 -- Amortization of deferred compensation -- 166,031 166,031 Net loss (3,379,547) -- (3,379,547) ------------ --------- ----------- Balance, December 31, 1995 (21,939,837) (164,587) 351,559 Issuance of Series C Convertible Preferred Stock -- -- 3,697,922 Issuance of shares of common stock upon exercise of stock options -- -- 1,750 Cancellation of stock options upon employment termination -- 11,137 -- Amortization of deferred compensation -- 147,263 147,263 Net loss (4,752,633) -- (4,752,633) ------------ --------- ----------- Balance, December 31, 1996 $(26,692,470) $ (6,187) $ (554,139) ============ ========= ===========
The accompanying notes are an integral part of these financial statements. F-4 5 PHARMAGENICS, INC. STATEMENTS OF CASH FLOWS
Year Ended December 31, ---------------------------------------------- 1994 1995 1996 -------------- ----------- ----------- OPERATING ACTIVITIES: Net loss $ (5,487,816) $(3,379,547) $(4,752,633) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 698,757 365,305 368,762 Technology rights acquired for common stock and warrants 717,000 -- -- Amortization of deferred compensation expense -- 166,031 147,263 Expense incurred with the issuance of warrants below fair market value -- 165,000 -- Interest on loans converted into Series C Convertible Preferred Stock -- 100,623 -- Changes in operating assets and liabilities: (Increase) decrease in accounts receivable -- -- (185,972) (Increase) decrease in prepaid expenses 30,403 26,007 (15,213) (Increase) decrease in other assets 2,758 15,841 (5,000) Increase (decrease) in accounts payable and accrued expenses 57,543 543,848 657,251 Increase (decrease) in deferred revenue 701,633 336,767 (723,200) ----------- ----------- ----------- NET CASH USED IN OPERATING ACTIVITIES (3,279,722) (1,660,125) (4,508,742) ----------- ----------- ----------- INVESTING ACTIVITIES: (Increase) decrease in investments 2,041,875 -- -- Capital expenditures (129,026) (34,290) (155,352) ----------- ----------- ----------- NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 1,912,849 (34,290) (155,352) ----------- ----------- ----------- FINANCING ACTIVITIES: Payments on capital lease obligations (381,039) (235,829) (188,651) Proceeds from issuance of common stock 517 338 1,750 Proceeds from loans converted into Series C Convertible Preferred Stock -- 2,000,000 -- Proceeds from the issuance of Series C Convertible Preferred Stock -- 816,050 3,697,922 ----------- ----------- ----------- NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (380,522) 2,580,559 3,511,021 ----------- ----------- ----------- NET CHANGE IN CASH AND CASH EQUIVALENTS (1,747,395) 886,144 (1,153,073) Cash and cash equivalents at beginning of year 2,500,433 753,038 1,639,182 ----------- ----------- ----------- CASH AND CASH EQUIVALENTS AT END OF YEAR $ 753,038 $ 1,639,182 $ 486,109 =========== =========== =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest $ 125,801 $ 82,274 $ 36,349 =========== =========== =========== Property and equipment acquired under capital lease agreements $ 70,000 $ -- $ -- =========== =========== ===========
The accompanying notes are an integral part of these financial statements. F-5 6 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 1 - Summary of Significant Accounting Policies Background PharmaGenics, Inc. (the "Company"), a Delaware corporation, was incorporated on August 11, 1989. The Company is an integrated drug discovery company principally engaged in the research and development of pharmaceuticals for the treatment of cancer. The Company's research programs in cancer center upon certain key genes, called "tumor suppressor genes," that are responsible for the production of proteins that generally function to prevent the unregulated growth of cells. The Company targets tumor suppressor genes and other cancer-related genes in search of desirable therapeutics against cancer. The Company is subject to a number of risks at this stage of development, including, but not limited to, uncertainties relating to whether patents will issue and whether patents that issue will provide the Company with adequate protection from other products or competitors; dependence on key individuals for achievement of the Company's expectations which the Company believes are based on reasonable assumptions within the bounds of its knowledge of its business and operations; continued collaboration between the Company and its corporate, governmental and academic collaborators; establishment of additional collaborations with academia or corporations; uncertainty whether the Company's research and development activities will result in the development of commercially usable products and processes; competition from alternative products or processes; uncertainties related to technological improvements and advances; the impact of research and product development activities of competitors of the Company, many of whom have more substantial financial or other resources than those of the Company; the need and ability to obtain adequate additional financing necessary to fund continuing operations and product development and the terms on which such financing might be available; the ability to obtain lease financing for capital equipment; uncertainties related to clinical trials; uncertainties of obtaining required regulatory approvals; and uncertainties of future profitability. The Company expects to incur substantial additional costs before it can begin to generate revenue from product sales sufficient to fund its operations, including costs related to ongoing research and development activities, preclinical studies and regulatory compliance, and for hiring additional management, scientific, manufacturing, sales and administrative personnel. The Company sold additional shares of Series C convertible preferred stock in the first quarter of 1996 (Note 9) and, in connection with entering into an Agreement and Plan of Merger as of January 31, 1997 (the "Merger Agreement") with Genzyme Corporation ("Genzyme") (see below and Note 14), received a stand-by credit facility (the "Credit Facility") (Note 8) under which the Company made an initial draw of $1 million in February 1997. The Company expects to make additional draws under the Credit Facility and believes that the Credit Facility is sufficient to fund operations until the expected closing of the proposed merger with Genzyme in May 1997. The Company will require substantial additional funds should the proposed merger with Genzyme not be consummated. Uncertainties relating to the proposed merger with Genzyme and the Credit Facility are additional meaningful factors that could cause actual results to differ from the Company's expectations. Pursuant to the Merger Agreement and on the terms and conditions set forth therein, subject to approval by the Company's stockholders and Genzyme's stockholders and subject to certain other conditions, the Company is to be merged with and into Genzyme (the "Proposed Merger") with Genzyme being the surviving corporation. The business of the Company is to be combined with several of Genzyme's oncology programs to form a new division of Genzyme to be known as the Genzyme Molecular Oncology division (Note 14). F-6 7 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 1 - Summary of Significant Accounting Policies (continued) Pervasiveness of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash and Cash Equivalents Cash and cash equivalents include cash and highly liquid investments which when purchased have a maturity of less than three months. Property and Equipment Property and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets which range from five to seven years. Leasehold improvements and equipment under capital leases are amortized using the straight-line method over the shorter of the lease term or the useful lives of the assets. Long-Lived Assets During 1996, the Company adopted the provisions of Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets" ("SFAS 121"). SFAS 121 requires, among other things, that an entity review its long-lived assets and certain related intangibles for impairment whenever changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. As a result of its review, the Company does not believe that any impairment currently exists related to its long-lived assets. Revenue Recognition License fees and royalties are recognized as revenue when earned. Revenues under collaborative research and development agreements and grants are recognized as earned over the term of the contracts and grants. Payments received in advance under these agreements are recorded as deferred revenue until earned. Research and Development Research and development costs are charged to expense as incurred. Stock-Based Compensation The Company adopted the disclosure requirement of Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123") for the year ended December 31, 1996 (Note 9). The Company accounts for its stock options under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." F-7 8 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 1 - Summary of Significant Accounting Policies (continued) Net Loss Per Common Share Net loss per common share was computed based on the weighted average number of common shares outstanding during the year. Shares issuable upon conversion of preferred stock or exercise of options and warrants were not considered, as the effect would be antidilutive. NOTE 2 - Collaborative Research and Development Agreements Agreements with PaineWebber R&D Partners III, L.P. In May 1994, the Company entered into a series of agreements (the "R&D Agreements") with PaineWebber R&D Partners III, L.P. (the "Partnership"), pursuant to which the Partnership paid a $250,000 license fee and agreed to pay the Company up to $5,750,000 to conduct research and development on behalf of the Partnership on targets identified by the Company pursuant to a development plan originally projected to extend through March 1996, but which continued through January, 1997. In consideration of such payments, the Partnership obtained rights to the results of such research, and the Company granted the Partnership an exclusive, royalty-free license to use certain patent rights, know-how and technical information owned or licensed by the Company. Under the R&D Agreements, upon the occurrence of certain events of default (such as failure to perform its obligations, default on indebtedness, insolvency, cessation of operations and others), the Company would be obligated to make certain payments to the Partnership. In March 1995, the R&D Agreements were modified to expand the area of research under the development plan and to accelerate $750,000 of research funding under the R&D Agreements into 1995. Under the R&D Agreements, the Company also received an option (the "Purchase Option") to purchase at any time certain or all of the rights owned by the Partnership as a result of the R&D Agreements (the "Partnership Rights") at an option price ranging from $9.4 million up to $19.2 million, depending upon the date of the purchase and the rights purchased. The R&D Agreements provided that in the event the Company commenced Phase II clinical trials on an agent developed under the R&D Agreements, the Company would be obligated to exercise the purchase option. To date, the Company has not commenced any Phase II clinical trials. In consideration for the Purchase Option, the Company issued to the Partnership warrants to purchase up to 1,000,000 shares of the Company's common stock (the "Core Warrant") and up to 666,667 shares of the Company's common stock (the "Purchase Option Warrant"). The Core Warrant is exercisable for a period of five years which commenced July 1, 1996, and the Purchase Option Warrant would have been exercisable for a period of four years following termination of the Purchase Option. The estimated fair value of $580,000 attributed to these warrants upon issuance was charged to research and development expense in 1994. With the modification of the R&D Agreements in March 1995, the exercise price on the Core Warrant and the Purchase Option Warrant was fixed at $2.15 per share, subject to antidilution provisions and other adjustments. In June 1995, the Company executed and delivered a convertible note (the "Note") to the Partnership under which the Company borrowed $1,000,000 at an interest rate of prime plus two percentage points (Note 8). In lieu of repayment in cash, the Note and accrued interest were converted into 480,242 shares of Series C convertible preferred stock of the Company as of September 30, 1995, which thereby reduced by $1,000,000 research funding from the Partnership under the R&D Agreements. In January 1997, in connection with the Proposed Merger (Note 14), the Partnership exercised its option under the R&D Agreements to exchange the Partnership Rights for additional shares of the Company's preferred stock. This option became exercisable upon the signing of the Merger Agreement and as a result of such exercise, the Company issued to the Partnership in February 1997 298,420 shares of Series A convertible preferred stock, 88,864 shares of Series B convertible preferred stock and 1,641,144 shares of Series C convertible preferred stock. The liquidation preference amount of these preferred shares, $4,750,000, was charged to research and development expense in the first quarter of 1997 because the acquired technology and other rights relate to in-process research and development projects that have not yet reached technological feasibility and the technology currently has no alternative future uses. Upon the exercise of the exchange option by F-8 9 PHARMAGENICS,INC. NOTES TO FINANCIAL STATEMENTS NOTE 2 - Collaborative Research and Development Agreements (continued) the Partnership, the Purchase Option Warrant and the R&D Agreements terminated. In addition, upon the completion of the Proposed Merger, the Core Warrant will be cancelled. The Company recognized $1,650,000, $2,311,600 and $723,200 of revenues under the R&D Agreements in 1994, 1995 and 1996, respectively. In addition, as of December 31, 1995 and 1996, the Company had received $1,038,400 and $315,200, respectively, of deferred revenue under the R&D Agreements, which relate to research activities yet to be completed as of such dates. All funding pursuant to the R&D Agreements had been received as of December 31, 1995. Other Agreements The Company has entered into other collaborative research and development agreements, some of which provide for payments to the Company. The Company earned $129,595 in 1994, $471,633 in 1995 and $414,471 in 1996 under these agreements. (Note 10) NOTE 3 - Research and License Agreements Agreements with The Johns Hopkins University In March 1991, the Company entered into a Research Agreement (the "Research Agreement") with The Johns Hopkins University School of Medicine ("JHU") and Hoffmann-La Roche Inc. ("Roche"), and in February 1992, the Company entered into a License Agreement (the "License Agreement") with JHU and Roche (collectively, the "JHU Agreements"), pursuant to which the Company made unrestricted research grants to the Basic Cancer Research Foundation and JHU of approximately $818,000 to fund research conducted at JHU by Dr. Bert Vogelstein. Dr. Vogelstein has had the sole discretion to determine research activities within the specified research areas, which include cancer and virology. In return for these payments, JHU granted to the Company and Roche a worldwide, exclusive, royalty-bearing license to all technology developed within the specified research area pursuant to the JHU Agreements. In February 1995, the Research Agreement terminated, with certain provisions remaining in effect through August 1995. Certain rights granted to Roche and the Company by JHU, and certain of the obligations of Roche and the Company to JHU (such as maintaining confidentiality of information, not using JHU's name without their consent, not bringing suit against JHU as a result of any dispute which arises between Roche and the Company and to reimburse JHU for their costs in the event they are involved in such dispute), survived the termination of the Research Agreement. The License Agreement continues, subject to scheduled royalty payments, until the expiration of the patents licensed thereunder. The Company and Roche also entered into supplementary agreements (the "Roche Agreements") regarding the development and commercialization of any technology developed by Dr. Vogelstein in the research areas specified in the JHU Agreements. Pursuant to an initial agreement with Roche, Roche obtained the first option to license from JHU any diagnostic applications, the Company obtained a license from JHU to any oligonucleotide-based therapeutic applications and the Company and Roche jointly obtained a license from JHU to any therapeutic applications that are not oligonucleotide-based. Roche has agreed to pay the Company royalties at varying rates on sales of any products developed by Roche stemming from Dr. Vogelstein's research. Additionally, Roche obtained first option rights (the "First Option Rights") to act as the Company's partner for research and development programs relating to Dr. Vogelstein's technology. At Roche's option, Roche could choose to pay the Company to provide mutually agreed upon research and development services for diagnostic products. In May 1996, Roche decided not to develop certain inventions licensed from JHU and the Company exercised its option, which did not require any additional payment, to assume the rights to all of those inventions. In October 1996, Roche and the Company signed a term sheet under which the Company will be provided a sublicense to any and all diagnostic products and F-9 10 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 3 - Research and License Agreements (continued) applications to which Roche retains rights under the License Agreement, and the Company is granted the exclusive right to sublicense to third parties Roche's rights to diagnostic products and applications under the License Agreement, exclusive of those rights to certain antibody-based diagnostics that Roche has assigned to a third party. The term sheet also provides for royalties to Roche and sharing of revenues between the Company and Roche. In March 1994, in consideration of 16,666 shares of the Company's common stock and warrants to acquire 50,000 shares (of which one-third at an exercise price of $10.50 per share expired in March 1995 and the second third at an exercise price of $15.00 per share expired in March 1996 and the final third at an exercise price of $24.00 per share expire in March 1997) of common stock, Roche waived the First Option Rights so that the Company may freely seek partners for its Vogelstein-related research and development programs. The estimated fair value attributable to these shares and warrants of $137,000 was charged to research and development expense in 1994. Effective September 1995, the Company entered into a license agreement (the "SAGE Agreement") with JHU and Drs. Bert Vogelstein and Kenneth Kinzler, both of JHU, relating to the SAGE technology. In addition to substantial license fees paid and milestone payments to be made by the Company to retain an exclusive license, the agreement provides for certain additional payments to be made by the Company to JHU in the event the Company sublicenses SAGE technology to third parties or performs SAGE-related services on behalf of third parties. In January 1997, in contemplation of the Proposed Merger (Note 14), the SAGE Agreement was amended to waive any possible right JHU may have to a potential payment of $5 million resulting from the change of control which would arise from the Proposed Merger in exchange for 43,200 shares of the Company's Series B convertible preferred stock to be issued to JHU. If the Proposed Merger is not consummated, the amendment to the SAGE Agreement shall become null and void and the 43,200 shares of the Company's Series B convertible preferred stock will not be issued to JHU. The Company is currently in discussions with JHU regarding a license to other present and future discoveries of Dr. Kinzler, some of which were, or may be, created in collaboration with Dr. Vogelstein. NOTE 4 - Accounts Receivable In the fourth quarter of 1996, the Company recognized $185,972 of revenue earned under an award by the U.S. National Cancer Institute ("NCI") in the form of a Cooperative Grant. The Company has received notice from NCI that funding is authorized for the second budget year, which had begun in September of 1996, of the grant but the Company has not yet obtained funds available under the grant to settle this receivable. NOTE 5 - Property and Equipment
December 31, ------------------------------------------------- 1995 1996 --------------------- --------------------- Laboratory and office $ 1,980,378 $ 2,134,630 Leasehold improvements 721,650 721,650 ----------- ----------- 2,702,028 2,856,280 Less: Accumulated depreciation (1,705,980) (2,073,642) ----------- ----------- $ 996,048 $ 782,638 =========== ===========
F-10 11 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 6 - Accounts Payable and Accrued Expenses
December 31, ----------------------- 1995 1996 ---------- ---------- Accounts payable $ 94,912 $ 152,216 Vacation and other employee benefits 84,379 95,139 Legal and professional fees 129,850 342,254 Collaborative arrangements 550,000 845,870 Other accrued expenses 83,595 164,508 ---------- ---------- $ 942,736 $1,599,987 ========== ==========
The accrual for collaborative arrangements relates primarily to JHU for 1996 and solely to JHU for 1995 (Note 3). Other accrued expenses for 1996 includes an accrual for settlement of a lawsuit (Note 14). NOTE 7 - Leases Capital Lease Obligations In April 1991, the Company entered into a master lease agreement and granted the lessor a warrant to purchase 41,580 shares of the Company's Series A convertible preferred stock at $1.85 per share for a term of ten years. In September 1993, the Company entered into a master lease agreement and granted the lessor a warrant to purchase 10,000 shares of the Company's common stock at $7.50 per share for a term of up to ten years. These warrants contain certain anti-dilution and/or registration rights. The master lease agreement entered into in September 1993 provides the Company the option, effective as of the expiration of the initial lease term, to purchase the equipment at fair market value or to renew the lease at market value for a minimum of twelve months and a maximum of thirty-six months, whereby at the end of such renewal period the Company is obligated to purchase the equipment at fair market value. The Company has not exercised either of the foregoing options and, in accordance with the terms of the lease, the lease has been renewed on a month-to-month basis at the monthly payment in effect immediately prior to the expiration of the initial lease term. The initial lease term expired in September 1996 on certain equipment and in December 1996 on the remaining equipment. The Company has classified approximately $133,000 as a current lease obligation reflecting the Company's obligation to purchase the equipment and its current intention to exercise its purchase option in 1997. Leased equipment with a cost of $820,000 as of December 31, 1995 and 1996 is included in property and equipment. Future minimum payments under capital lease obligations are as follows:
Year Ending December 31, ------------------ 1997 $ 150,160 1998 17,160 1999 10,010 -------------- 177,330 Less amount representing interest 5,051 --------------- 172,279 Less current portion 147,102 --------------- Long-term portion $ 25,177 ===============
F-11 12 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 7 - Leases (continued) Operating Lease The lease on the Company's office and research facilities expires on December 31, 1999 and contains two three-year renewal options. Monthly rent for the remainder of the original lease term is approximately $17,600 basic rent plus maintenance and other costs. Accordingly, as of December 31, 1996, the minimum basic rent commitment for the remainder of the original lease term is $633,600. Rent expense was approximately $297,768, $268,162 and $274,105 in 1994, 1995 and 1996, respectively. NOTE 8 - Loan Agreements In February 1995, the Company entered into a loan agreement (the "Loan") with certain lenders, who were existing stockholders or affiliates of existing stockholders at the time of entering into the Loan, under which the Company borrowed an aggregate of $1 million at an interest rate of prime plus two percentage points. In connection with the Loan, the Company granted the lenders warrants to purchase an aggregate of 100,000 shares of common stock at an exercise price of $0.50 per share for a term of up to ten years and recorded an expense of $165,000 in 1995 relating to the warrants. The Loan and accrued interest, totalling approximately $1,068,100 were converted into 496,792 shares of Series C convertible preferred stock of the Company as of September 30, 1995. In June 1995, the Company executed and delivered a convertible note (the "Note") to the Partnership under which the Company borrowed $1 million at an interest rate of prime plus two percentage points. In lieu of repayment in cash, the Note and accrued interest, totalling approximately $1,032,500, were converted into 480,242 shares of Series C convertible preferred stock of the Company as of September 30, 1995 (Note 9), and thereby reduced by $1 million research funding from the Partnership under the R&D Agreements (Note 2). In October 1996, in anticipation of entering into the Merger Agreement, Genzyme made available to the Company the Credit Facility under which the Company may draw monthly an amount equal to its documented operating costs, up to a specified maximum amount each month. Amounts not drawn by the Company in a designated month are available to cover documented operating costs in a later month, subject to certain limitations based on revenues. Amounts drawn by the Company under the Credit Facility are evidenced by a Subordinated Convertible Promissory Note (the "Promissory Note"). The Promissory Note bears interest from the date of each draw at a rate of 8.25% per annum and matures on February 10, 2002. The Company made an initial draw of $1 million in February 1997, after the signing of the Merger Agreement. (Note 14) NOTE 9 - Stockholders' Equity Convertible Preferred Stock During 1991, the Company issued 2,160,000 shares of Series A convertible preferred stock ("Series A Stock") and warrants to purchase 486,000 shares of common stock at $0.462 per share expiring in September 2001 for net proceeds of approximately $3,958,000. In November 1991, the Company issued 1,944,000 shares of Series B convertible preferred stock ("Series B Stock") and warrants to purchase 121,285 shares of common stock pursuant to a private placement (the "Offering"). The warrants, which were exercisable at $7.50 per share commencing 180 days after the effective date of an initial public offering of the Company's common stock, expired on November 14, 1996. The selling agent for the Offering received warrants, which also expired on November 14, 1996, to purchase 194,400 shares of common stock at $7.50 per share. Additionally, F-12 13 PHARMAGENICS,INC. NOTES TO FINANCIAL STATEMENTS NOTE 9 - Stockholders' Equity (continued) the Company issued 194,399 shares of Series B Stock and warrants, which expired on November 14, 1996, to purchase 13,500 shares of common stock at $7.50 per share to an investor group consisting of HealthCare Ventures II, L.P. ("HCV II"), the Company's principal stockholder, and limited partners of HCV II. The net proceeds from these sales of Series B Stock and warrants were approximately $14,356,000. As of September 30, 1995, the Company converted the Loan (Note 8) and the Note (Note 8) together with accrued interest into 977,034 shares of Series C convertible preferred stock ("Series C Stock"). In December 1995, the Company commenced a private placement offering of Series C Stock and held an initial closing on 379,558 shares of Series C Stock for proceeds to the Company of approximately $816,000 from this initial closing. In February 1996, the Company held a final closing on the sale of 1,719,964 additional shares of Series C Stock for proceeds to the Company of approximately $3,698,000. The offering was made directly by the Company to the holders of the Company's other preferred stock and to new investors. Total shares of Series C Stock sold in the private placement were 2,099,522 and proceeds to the Company were approximately $4,514,000. The Series A Stock, Series B Stock and Series C Stock are convertible into common shares on a one-to-one basis, subject to certain adjustments. The holders of the Series A Stock, Series B Stock and Series C Stock have certain dividend, liquidation and registration rights, as defined, and voting rights equivalent to the voting rights of common stockholders based on the number of common shares they would own pursuant to the conversion calculation. In the event of a public offering of the Company's common stock at a price per share of at least $7.50 and proceeds to the Company of at least $10 million, each share of Series A Stock, Series B Stock and Series C Stock will be automatically converted into one share of common stock, subject to adjustment for stock dividends and splits. For the effect of the Proposed Merger on the Company's preferred stock, see Note 14. Common Stock 438,442 shares of common stock currently issued are subject to repurchase and/or first refusal rights. For the effect of the Proposed Merger on the Company's common stock, see Note 14. Warrants Warrants outstanding at December 31, 1996 include the following:
Number of Underlying Stock Warrant Shares Reference --------------------------------------- ------------------ ------------------ Series A Convertible Preferred 41,580 Note 7 ================= Common 1,000,000 Note 2 Common 666,667 Note 2 Common 486,000 Note 9 Common 100,000 Note 8 Common 16,666 Note 3 Common 10,000 Note 7 ----------------- 2,279,333 =================
For the effect of the Proposed Merger on the warrants and underlying stock, see Note 14. F-13 14 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 9 - Stockholders' Equity (continued) Stock Options The Company has reserved 455,283, 483,333 and 133,333 shares of common stock under the 1991 Stock Option Plan, as amended, the 1993 Stock Option Plan, as amended, and the 1994 Independent Directors Stock Option Plan, as amended, respectively, for the granting of either incentive stock options or nonqualified stock options. In addition, the Board of Directors approved, subject to stockholder approval, an increase of 416,667 shares authorized under the 1993 Stock Option Plan. The exercise price of all incentive stock options must be at least equal to the fair market value of such shares on the date of the grant. The exercise price of the nonqualified stock options is to be determined by the Board of Directors. Options vest over various periods not exceeding four years and expire no later than ten years from grant date. Option activity for the above plans is summarized as follows:
Weighted-Average Options Exercise Price Exercise Price ----------------- -------------- --------------- Balance, January 1, 1994 247,024 Granted 601,013 $0.50 - $8.10 Exercised (694) $0.093 - $6.75 Cancelled (249,291) $0.093 - $8.10 ------------------ Balance, December 31, 1994 598,052 $0.093 - $8.10 $1.37 Granted 141,896 $0.50 - $2.15 $1.92 Exercised (400) $0.50 - $1.875 $0.84 Cancelled (137,158) $0.462 - $2.15 $1.20 ------------------ Balance, December 31, 1995 602,390 $0.093 - $8.10 $1.55 Granted 249,890 $2.15 - $2.30 $2.29 Exercised (3,500) $0.50 $0.50 Cancelled (88,501) $0.462 - $2.30 $1.98 ------------------- Balance, December 31, 1996 760,279 $0.093 - $8.10 $1.75
At December 31, 1996, options were exercisable for the purchase of 405,849 shares of common stock at a weighted-average exercise price of $1.23. Options to purchase 33,747 shares of common stock were available for future grants under the 1991 and 1993 stock option plans at December 31, 1996. Options to purchase 93,333 shares of common stock were available for future grants under the 1994 Independent Directors Stock Option Plan at December 31, 1996. In September 1994, the Compensation Committee of the Board of Directors approved the granting of new options with an exercise price of $2.15 per share under the 1991 and 1993 Stock Option Plans in exchange for the cancellation of certain older options at exercise prices ranging from $6.75 to $8.10 per share. Under this offer, the Company has exchanged options to acquire 179,277 shares, including options to acquire 48,502 shares granted to officers and directors of the Company. The Company has recorded deferred compensation of $394,500 in 1994 and $33,000 in 1995 for the deemed accounting value of certain nonqualified stock option grants made to employees in December 1994 and to certain new employees in 1995, respectively. No deferred compensation was recorded in 1996. Deferred compensation is being amortized to compensation expense ratably over the vesting period of the options. In 1995 and 1996, $166,031 and $147,263, respectively, of deferred compensation was amortized to compensation expense. F-14 15 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 9 - Stockholders' Equity (continued) The Company accounts for its stock options under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," under which no compensation expense (except for those options granted at an excercise price below the fair market value of the underlying stock on the date of grant) has been recognized. Pro forma information regarding net loss and net loss per share is required by SFAS 123 and has been determined as if the Company had accounted for its stock options under the fair value method of SFAS 123. The fair value of the stock options was estimated at the date of grant using the Black-Scholes option pricing model with the following assumptions for 1995 and 1996, respectively: risk-free interest rates ranging from 5.84% to 6.12% and 6.27% to 6.65%; dividend yield and common stock price volatility of zero; and an expected life of the option of 6 years. The weighted-average fair value of the options granted during 1995 and 1996 was $0.86 and $0.75, respectively. For purposes of pro forma disclosures, the estimated fair value of stock options is amortized to expense over the vesting period of the options. The Company's pro forma net loss and net loss per share for 1995 do not differ materially from the amounts reported. For 1996, the Company's pro forma net loss and net loss per share was $4,775,933 and $10.54, respectively. Because SFAS 123 has not been applied to stock options granted prior to January 1, 1995, the resulting pro forma compensation cost may not be representative of the possible compensation cost in future years. For the effect of the Proposed Merger on the stock options and underlying stock, see Note 14. NOTE 10 - Related Party Transactions Research and development contract revenue earned under an agreement with Genetic Therapy, Inc. ("GTI") was $100,000 in each of 1994 and 1995 and $25,000 in 1996. HCV II, a principal stockholder of the Company, was a principal stockholder of GTI prior to the acquisition of GTI by Novartis (formerly Sandoz, Inc.). See Note 2 for additional related party activity. NOTE 11 - Employment and Consulting Agreements In June 1993, the Company entered into an employment agreement with Dr. Sherman, its president and chief executive officer, for a term of three years, providing for an annual base salary of $230,000, subject to adjustment on an annual basis, and an annual bonus of at least $20,000. In June 1996, the Company and Dr. Sherman entered into a new employment agreement with an initial term of three years ending on June 30, 1999, with automatic one-year renewals thereafter, unless earlier terminated by either party upon 60 days notice prior to the end of the then current term. The new agreement provides for an annual base salary of $242,650, subject to adjustment on an annual basis, and an annual bonus of at least $20,000. The new agreement further provides that in the event that prior to March 31, 1997 the Company had a change in control or received commitments for additional financing of at least $3,000,000 in the aggregate, Dr. Sherman's annual base salary would be increased from $242,650 to $260,000, retroactive to July 1, 1996. The Company believes that the Credit Facility (Note 8) satisfied this requirement, and accordingly, effective February 1997, Dr. Sherman's annual base salary was raised to $260,000, retroactive to July 1, 1996. If Dr. Sherman's employment is terminated, other than for cause, he will be entitled to salary continuation for a period of twelve months. The Company has also entered into various other employment and consulting agreements. In connection with certain of the agreements, the Company issued restricted common stock and granted options to purchase shares of common stock (Note 9). Each executive officer (other than Dr. Sherman) is entitled to a severance payment equal to 3 months salary if his employment is terminated without cause. F-15 16 PHARMAGENICS,INC. NOTES TO FINANCIAL STATEMENTS NOTE 12 - Savings Plan The Company maintains a savings plan under Section 401(k) of the Internal Revenue Code which allows eligible employees to contribute a portion of their annual salary to the savings plan. The Company may make discretionary contributions. Through December 31, 1996, the Company has not made any contributions to this plan. NOTE 13 - Income Taxes At December 31, 1996, the Company had net operating loss ("NOL") tax carryforwards aggregating approximately $23.1 million. The NOL carryforwards expire in various years from 2005 through 2011. Pursuant to Federal income tax regulations, the annual use of the Company's NOL carryforwards may be limited if a cumulative change in ownership of more than fifty percent occurs in a three year period. The Proposed Merger (Note 14) is expected to result in a limit on the annual use of the Company's NOL carryforwards by Genzyme. The Company accounts for income taxes in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." A valuation allowance was established as realization of the tax assets is uncertain. The components of the deferred tax amounts, carryforwards and the valuation allowance are as follows:
1995 1996 ----------- ------------ Start-up costs $ 800,000 $ 535,000 Other temporary differences 900,000 695,000 NOL carryforwards 6,950,000 9,250,000 ----------- ------------ Total gross deferred tax assets 8,650,000 10,480,000 Valuation allowance (8,650,000) (10,480,000) ----------- ------------ Net deferred tax assets $ -- $ -- =========== ============
NOTE 14 - Events Subsequent to December 31, 1996 On January 24, 1997, the Company and LBC Captial Resources, Inc. ("LBC") executed an agreement which settled an action brought by LBC on July 19, 1996 against the Company in the Superior Court of New Jersey in Bergen County alleging breach of contract and related causes of action arising out of an agreement between the Company and LBC that obligated LBC to assist the Company in finding new sources of capital. LBC asserted in such action that the Company improperly declined to pay LBC a commission in accordance with the agreement and sought damages in excess of $150,000. The Company made a settlement payment of $62,000 to LBC in January 1997. This amount was accrued as a charge to general and administrative expense in 1996. As of January 31, 1997, the Company and Genzyme entered into the Merger Agreement pursuant to which the Company, on the terms and conditions set forth in the Merger Agreement, is to be merged with and into Genzyme with Genzyme being the surviving corporation. This Proposed Merger is intended to be a tax-free reorganization within the meaning of the Internal Revenue Code. As consideration for the Proposed Merger, the Company's stockholders are to receive approximately 4 million shares (subject to certain adjustments set forth in the Merger Agreement) of a new Genzyme security (the "GMO Stock"), representing 40% of the initial equity interest in a new division of Genzyme, to be known as the Genzyme Molecular Oncology division (the "GMO Division"), to be formed within Genzyme through the combination of the business of the Company with several of Genzyme's oncology programs. Because the Company's Certificate of Incorporation requires that, in a transaction such as the Proposed Merger, an aggregate merger preference be provided to holders F-16 17 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS NOTE 14 - Events Subsequent to December 31, 1996 (continued) of the outstanding shares of the Company's preferred stock before any amounts can be provided to holders of outstanding shares of the Company's common stock, and because such aggregate merger preference exceeds the aggregate value of the 4 million shares of GMO Stock to be received in the Proposed Merger (based on the valuation given the GMO Stock under the Merger Agreement), no shares of GMO Stock are available for allocation to holders of the outstanding shares of the Company's common stock (including stock options and warrants for common stock). The Proposed Merger currently is expected to be completed in May 1997, subject to approval by the Company's stockholders and Genzyme's stockholders and subject to certain other conditions. As required by the Merger Agreement, directors, officers and certain other stockholders of the Company have entered into stockholder agreements with Genzyme pursuant to which they have agreed to vote in favor of the Proposed Merger. The number of shares subject to such agreements is sufficient to approve the Proposed Merger. In January 1997, in contemplation of the Proposed Merger, the Company agreed to issue to JHU 43,200 shares of the Company's Series B Stock immediately prior to the consummation of the Proposed Merger in consideration of an amendment dated as of January 31, 1997 (the "SAGE Amendment") to the SAGE Agreement (Note 3). If the Proposed Merger is not consummated, the SAGE Amendment shall become null and void and the foregoing 43,200 shares of the Company's Series B Stock will not be issued to JHU. In February 1997, in connection with the Proposed Merger, the Company issued to the Partnership 298,420 shares of the Company's Series A Stock, 88,864 shares of the Company's Series B Stock and 1,641,144 shares of the Company's Series C Stock pursuant to the Partnership's exercise of its option to exchange all of its Partnership Rights for shares of the Company's preferred stock. (Note 2) In February 1997, the Company made an initial draw of $1 million under the Credit Facility (Note 8). F-17 18 PHARMAGENICS, INC. BALANCE SHEETS
ASSETS March 31, 1997 December 31, 1996 -------------- ----------------- (unaudited) Current assets: Cash and cash equivalents $ 359,982 $ 486,109 Accounts receivable 329,598 185,972 Prepaid expenses 64,349 38,183 ------------------- --------------- Total current assets 753,929 710,264 Property and equipment, net of $2,163,596 and $2,073,642 of accumulated depreciation 701,962 782,638 Other assets 40,425 40,425 ------------------- --------------- TOTAL ASSETS $ 1,496,316 $ 1,533,327 =================== =============== LIABILITIES Current liabilities: Accounts payable and accrued expenses $ 1,241,556 $ 1,599,987 Deferred revenue -- 315,200 Current obligations under capital leases 147,432 147,102 ------------------- --------------- Total current liabilities 1,388,988 2,062,289 Long-term obligations under capital leases 21,443 25,177 Note Payable 1,662,272 -- ------------------- --------------- TOTAL LIABILITIES 3,072,703 2,087,466 ------------------- --------------- Commitments and contingencies STOCKHOLDERS' EQUITY (DEFICIT) Preferred stock - $.01 par value, 10,000,000 shares authorized: Series A convertible preferred stock, 2,500,000 shares designated, 2,458,420 and 2,160,000 shares issued and outstanding at March 31, 1997 and December 31, 1996, respectively, liquidation preference $4,572,661 and $4,017,600 at March 31, 1997 and December 31, 1996, respectively 24,584 21,600 Series B convertible preferred stock, 2,500,000 shares designated, 2,227,263 and 2,138,399 shares issued and outstanding at March 31, 1997 and December 31,1996, respectively, liquidation preference $16,704,473 and $16,038,000 at March 31, 1997 and December 31, 1996, respectively 22,273 21,384 Series C convertible preferred stock, 4,717,700 shares designated, 4,717,700 and 3,076,556 shares issued and outstanding at March 31, 1997 and December 31,1996, respectively, liquidation preference $10,143,055 and $6,614,595 at March 31, 1997 and December 31,1996, respectively 47,177 30,765 Common stock - $.01 par value, 15,000,000 shares authorized, 455,108 shares issued and outstanding at March 31, 1997 and December 31, 1996, respectively 4,551 4,551 Additional paid-in capital 30,795,934 26,066,218 Accumulated deficit (32,464,719) (26,692,470) Deferred compensation (6,187) (6,187) ------------------- --------------- TOTAL STOCKHOLDERS' EQUITY (DEFICIT) (1,576,387) (554,139) ------------------- --------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) $ 1,496,316 $ 1,533,327 =================== ===============
The accompanying notes are an integral part of these financial statements. F-18 19 PHARMAGENICS, INC. STATEMENTS OF OPERATIONS (UNAUDITED)
Three months ended March 31, ---------------------------- 1997 1996 ----------- ----------- Revenues: Grants $ 23,419 $ -- Research contracts -- 498,470 Other 51,425 -- ----------- ----------- Total revenues 74,844 498,470 ----------- ----------- Costs and expenses: Research and development 1,062,649 1,090,645 In-process technology 4,434,800 -- General and administrative 340,287 330,708 ----------- ----------- Total costs and expenses 5,837,736 1,421,353 ----------- ----------- Loss from operations (5,762,892) (922,883) Interest expense (13,188) (14,488) Interest income 3,831 42,161 ----------- ----------- NET LOSS $(5,772,249) $ (895,210) =========== =========== Net loss per common share $ (12.68) $ (1.98) =========== =========== Weighted average common shares outstanding 455,108 451,608 =========== ===========
The accompanying notes are an integral part of these financial statements. F-19 20 PHARMAGENICS, INC. STATEMENTS OF CASH FLOWS (Unaudited)
Three months ended March 31, --------------------------------- 1997 1996 ------------ ------------- OPERATING ACTIVITIES: Net loss $ (5,772,249) $ (895,210) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 89,955 87,715 Technology rights acquired for shares of preferred stock 4,750,000 -- Interest accrued on Note Payable 12,272 -- Amortization of deferred compensation expense -- 2,063 Changes in operating assets and liabilities: (Increase) in accounts receivable (143,626) (106,842) (Increase) in prepaid expenses (26,166) (18,220) (Decrease) in accounts payable and accrued expenses (358,431) (13,823) (Decrease) in deferred revenue (315,200) (184,000) --------------- --------------- Net cash used in operating activities (1,763,445) (1,128,317) --------------- --------------- INVESTING ACTIVITIES: Capital expenditures (9,278) (8,816) --------------- --------------- Net cash used in investing activities (9,278) (8,816) --------------- --------------- FINANCING ACTIVITIES: Payments on capital lease obligations (3,404) (62,108) Proceeds from Note Payable 1,650,000 -- Issuance of Series C convertible preferred stock -- 3,697,922 --------------- --------------- Net cash provided by financing activities 1,646,596 3,635,814 --------------- --------------- NET INCREASE IN CASH AND CASH EQUIVALENTS (126,127) 2,498,681 Cash and cash equivalents at beginning of period 486,109 1,639,182 --------------- --------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 359,982 $ 4,137,863 =============== =============== Supplemental disclosure of cash flow information: Cash paid during the period for interest $ 916 $ 14,488 =============== ===============
The accompanying notes are an integral part of these financial statements F-20 21 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS (UNAUDITED) NOTE 1 - The Company PharmaGenics, Inc. (the "Company"), a Delaware corporation, was incorporated on August 11, 1989. The Company is an integrated drug discovery company principally engaged in the research and development of pharmaceuticals for the treatment of cancer. The Company's research programs in cancer center upon certain key genes, called "tumor suppressor genes," that are responsible for the production of proteins that generally function to prevent the unregulated growth of cells. The Company targets tumor suppressor genes and other cancer-related genes in search of desirable therapeutics against cancer. The Company is subject to a number of risks at this stage of development, including, but not limited to, uncertainties relating to whether patents will issue and whether patents that issue will provide the Company with adequate protection from other products or competitors; dependence on key individuals for achievement of the Company's expectations which the Company believes are based on reasonable assumptions within the bounds of its knowledge of its business and operations; continued collaboration between the Company and its corporate, governmental and academic collaborators; establishment of additional collaborations with academia or corporations; uncertainty whether the Company's research and development activities will result in the development of commercially usable products and processes; competition from alternative products or processes; uncertainties related to technological improvements and advances; the impact of research and product development activities of competitors of the Company, many of whom have more substantial financial or other resources than those of the Company; the need and ability to obtain adequate additional financing necessary to fund continuing operations and product development and the terms on which such financing might be available; the ability to obtain lease financing for capital equipment; uncertainties related to clinical trials; uncertainties of obtaining required regulatory approvals; uncertainties related to whether legal proceedings will be initiated against the Company, including in connection with the proposed merger of the Company with Genzyme Corporation ("Genzyme"), and the outcome of any such proceedings; and uncertainties of future profitability. The Company expects that it would, as an independent company, have to incur substantial additional costs before it could begin to generate revenue from product sales sufficient to fund its operations, including costs related to ongoing research and development activities, preclinical studies and regulatory compliance, and for hiring additional management, scientific, manufacturing, sales and administrative personnel. The Company received a stand-by credit facility (the "Credit Facility") in connection with entering into an Agreement and Plan of Merger as of January 31, 1997 (the "Merger Agreement") with Genzyme. The Company made an initial draw of $1,000,000 in February, 1997 and additional draws of $650,000 in March, 1997 and $800,000 in May, 1997, for total draws, to date, of $2,450,000 under the Credit Facility. The Company believes that amounts drawn and available under the Credit Facility are sufficient to fund operations until the expected closing of the proposed merger with Genzyme in mid-June, 1997. The proposed merger with Genzyme is subject to the approval of the Company's stockholders and Genzyme's stockholders and certain other conditions. The Company will require substantial additional funds should the proposed merger with Genzyme not be consummated. Uncertainties relating to the proposed merger with Genzyme and the Credit Facility are additional meaningful factors that could cause actual results to differ materially and adversely from the Company's expectations. NOTE 2 - Proposed Merger with Genzyme As of January 31, 1997, the Company and Genzyme entered into the Merger Agreement pursuant to which the Company, on the terms and conditions set forth in the Merger Agreement, is to be merged with and into Genzyme with Genzyme being the surviving corporation (the "Proposed Merger"). F-21 22 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS (UNAUDITED) NOTE 2 - Proposed Merger with Genzyme (continued) This Proposed Merger is intended to be a tax-free reorganization within the meaning of the Internal Revenue Code. As consideration for the Proposed Merger, the Company's stockholders are to receive approximately 4 million shares (subject to certain adjustments set forth in the Merger Agreement) of a new Genzyme security (the "GMO Stock"), representing 40% of the initial equity interest in a new division of Genzyme, to be known as the Genzyme Molecular Oncology division (the "GMO Division"), to be formed within Genzyme through the combination of the business of the Company with several of Genzyme's oncology programs. Because the Company's Certificate of Incorporation requires that, in a transaction such as the Proposed Merger, an aggregate merger preference be provided to holders of the outstanding shares of the Company's preferred stock before any amounts can be provided to holders of outstanding shares of the Company's common stock, and because such aggregate merger preference exceeds the aggregate value of the 4 million shares of GMO Stock to be received in the Proposed Merger (based on the valuation given the GMO Stock under the Merger Agreement), no shares of GMO Stock are available for allocation to holders of outstanding shares of the Company's common stock (including stock options and warrants for common stock). The Proposed Merger currently is expected to be completed in mid-June, subject to approval by the Company's stockholders and Genzyme's stockholders and subject to certain other conditions. As required by the Merger Agreement, directors, officers and certain other stockholders of the Company have entered into stockholder agreements with Genzyme pursuant to which they have agreed to vote in favor of the Proposed Merger. The number of shares subject to such agreements is sufficient for approval of the Proposed Merger by the stockholders of the Company. NOTE 3 - Basis of Preparation The information presented at March 31, 1997 and for the three month period then ended is unaudited, but includes all adjustments (consisting only of normal recurring adjustments) that the Company's management believes to be necessary for the fair presentation of results for the periods presented. These financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not contain certain of the information and footnotes required by generally accepted accounting principles for annual financial statements. These financial statements should, therefore, be read in conjunction with the Company's audited financial statements for the year ended December 31, 1996, which were included as part of the Company's Annual Report on Form 10-K. The December 31, 1996 balance sheet was derived from audited financial statements. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. NOTE 4 - Accounts Receivable In the first quarter of 1997, the Company recognized approximately $23,400 of revenue earned under an award by the U.S. National Cancer Institute ("NCI") in the form of a Cooperative Grant, bringing the receivable for revenue earned by the Company under this Cooperative Grant to nearly $209,400 at March 31, 1997. The balance of the receivable, approximately $120,200, relates to funds available under the Cooperative Grant that will be provided to a collaborator under the Cooperative Grant once such funds are received by the Company. The Company has recorded a corresponding liability to the collaborator. F-22 23 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS (UNAUDITED) NOTE 5 - Note Payable In October 1996, in anticipation of entering into the Merger Agreement, Genzyme made available to the Company the Credit Facility. Under the Credit Facility, the Company may draw monthly an amount equal to its documented operating costs, up to a maximum amount each month as set forth below: Month Maximum Draw ----- ------------ December, 1996 $250,000 January, 1997 $750,000 February, 1997 $650,000 March, 1997 $450,000 April, 1997 $550,000 May, 1997 $550,000
Amounts not drawn by the Company in a designated month are available to cover documented expenses in any later month (subject to the limitations described below), provided, however, that if such draws involve individual expenditures in excess of $25,000, such expenditures require Genzyme's consent. The maximum amount of monthly draws will be reduced by 60% of gross revenues received by the Company in the prior month. If the Company's gross revenues in any month beginning with November, 1996 exceed the product of 1.6667 and the maximum draw for the succeeding month, the amount of such excess will be applied first against the maximum amount which may be drawn that may be carried forward from previous months and then any remaining excess will be carried forward and reduce the maximum amount available in subsequent months. An additional draw of $250,000 may be made under the Credit Facility if the SAGE patent licensed by the Company from JHU issues while the Credit Facility is in effect, provided that such draw must be utilized by the Company to fulfill its obligations to JHU. If Genzyme terminates the Merger Agreement under certain circumstances, Genzyme will adjust the amount that may be drawn under the Credit Facility to an additional $1,500,000 over amounts previously drawn and expended, with draws to occur over a period of three months. Amounts advanced under the Credit Facility are evidenced by a Subordinated Convertible Promissory Note (the "Promissory Note"). The Promissory Note bears interest from the date of each advance at a rate of 8.25% per annum and matures on February 10, 2002. The Company made an initial draw of $1,000,000 in February 1997, after the signing of the Merger Agreement, and made additional draws of $650,000 in March, 1997 and $800,000 in May, 1997, for total draws, to date, of $2,450,000 under the Credit Facility. Interest in the amount of $12,272 has accrued on these draws as of March 31, 1997 and is recorded in Note Payable. NOTE 6 - Agreements with PaineWebber R&D Partners III, L.P.; In-Process Technology In May 1994, the Company entered into a series of agreements (the "R&D Agreements") with PaineWebber R&D Partners III, L.P. (the "Partnership"), pursuant to which the Partnership paid a $250,000 license fee and agreed, subject to certain conditions, to pay the Company up to $5,750,000 to conduct research and development on behalf of the Partnership on targets previously identified by the Company pursuant to a development plan originally projected to extend through March 31, 1996, but which continued through January, 1997. In consideration of such payments, the Partnership obtained rights to the results of such research, and the Company granted the Partnership an exclusive, royalty-free license to use certain patent rights, know-how and technical information owned or licensed by the Company. Under the R&D Agreements, the Company also received an option (the "Purchase Option") to purchase at any time certain or all of the rights owned by the Partnership as a result of the R&D Agreements (the "Partnership Rights") at an option price ranging from $9.4 million up to $19.2 million, depending upon the date of the purchase and the rights purchased. In consideration for the Purchase Option, the Company issued to the Partnership warrants to purchase up to 1,000,000 shares of the Company's common stock (the "Core Warrant") and up to 666,667 shares of the Company's common F-23 24 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS (UNAUDITED) NOTE 6 - Agreements with PaineWebber R&D Partners III, L.P.; In-Process Technology (continued) stock (the "Purchase Option Warrant"). The Core Warrant is exercisable for a period of five years which commenced July 1, 1996, and the Purchase Option Warrant would have been exercisable for a period of four years following termination of the Purchase Option. The estimated fair value of $580,000 attributed to these warrants upon issuance was charged to research and development expense in 1994. With the modification of the R&D Agreements in March 1995, the exercise price on the Core Warrant and the Purchase Option Warrant was fixed at $2.15 per share, subject to antidilution provisions and other adjustments. In June 1995, the Company executed and delivered a convertible note (the "Note") to the Partnership under which the Company borrowed $1 million at an interest rate of prime plus two percentage points. In lieu of repayment in cash, the Note and accrued interest were converted into 480,242 shares of Series C convertible preferred stock of the Company as of September 30, 1995, which thereby reduced by $1 million research funding from the Partnership under the R&D Agreements. As of December 31, 1995, all funding pursuant to the R&D Agreements had been received by the Company. In January 1997, in connection with the Proposed Merger, the Partnership exercised its option under the R&D Agreements to exchange the Parthership Rights for additional shares of the Company's preferred stock. This option became exercisable upon the signing of the Merger Agreement and as a result of such exercise, the Company issued to the Partnership in February 1997, 298,420 shares of Series A convertible preferred stock, 88,864 shares of Series B convertible preferred stock and 1,641,144 shares of Series C convertible preferred stock. The liquidation preference amount of these preferred shares, $4,750,000, was charged to research and development expense in the first quarter of 1997 because the acquired technology and other rights relate to in-process research and development projects that have not yet reached technological feasibility and the technology currently has no alternative future uses. Upon the exercise of the exchange option by the Partnership, the Purchase Option Warrant and the R&D Agreements terminated, and $315,200 of funding that had been received pursuant to the R&D Agreements and recorded as deferred revenue was offset against research and development expense (in-process technology cost) in the first quarter of 1997. In addition, upon the completion of the Proposed Merger, the Core Warrant will be cancelled. NOTE 7 - Amendment to SAGE License Agreement Effective September 1995, the Company entered into a license agreement (the "SAGE Agreement") with The Johns Hopkins University School of Medicine ("JHU") and Drs. Bert Vogelstein and Kenneth Kinzler, both of JHU, relating to the SAGE (Serial Analysis of Gene Expression) technology. In addition to substantial license fees paid and milestone payments to be made by the Company to retain an exclusive license, the agreement provides for certain additional payments to be made by the Company to JHU in the event the Company sublicenses SAGE technology to third parties or performs SAGE-related services on behalf of third parties. In January 1997, in contemplation of the Proposed Merger, the SAGE Agreement was amended to waive any possible right JHU may have to a potential payment of $5 million resulting from the change of control which would arise from the Proposed Merger in exchange for 43,200 shares of the Company's Series B convertible preferred stock to be issued to JHU. If the Proposed Merger is not consummated, the amendment to the SAGE Agreement shall become null and void and the 43,200 shares of the Company's Series B convertibvle preferred stock will not be issued to JHU. The Company is currently in discussions with JHU regarding a license to other present and future discoveries of Dr. Kinzler. NOTE 8 - New Accounting Pronouncement Statement of Financial Accounting Standards No. 128,"Earnings per Share" ("SFAS 128"), which supersedes Accountng Principles Board Opinion No. 15, "Earnings per Share" ("APB No. 15"), was issued in February, 1997. SFAS 128 requires dual presentation of basic and diluted earnings F-24 25 PHARMAGENICS, INC. NOTES TO FINANCIAL STATEMENTS (UNAUDITED) NOTE 8 - New Accounting Pronouncement (continued) per share ("EPS") for complex capital structures on the face of the income statement. Basic EPS is computed by dividing income by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution from the exercise or conversion of securities into common stock, such as stock options. SFAS 128 is required to be adopted for year-end 1997; earlier application is not permitted. The Company does not expect the basic or diluted EPS measured under SFAS 128 to be materially different than the Company's primary or fully-diluted EPS measured under APB No. 15. F-25 EX-99.2 5 FINANCIAL STATEMENTS OF GENZYME MOLECULAR ONCOLOGY 1 EXHIBIT 99.2 GENZYME MOLECULAR ONCOLOGY INDEX TO FINANCIAL STATEMENTS
PAGE(S) ------- I. COMBINED FINANCIAL STATEMENTS: Report of Independent Accountants.................................................................. F-2 Combined Statements of Operations for the Period from December 1, 1994 (Date of Inception) to December 31, 1994, for the Years Ended December 31, 1995 and 1996, Cumulative from December 1, 1994, (Date of Inception) to December 31, 1996, for the Three Months Ended March 31, 1996 and 1997 (unaudited) and Cumulative from December 1, 1994 (Date of Inception) to March 31, 1997 (unaudited) ................................................................... F-3 Combined Balance Sheets as of December 31, 1995 and 1996 and March 31, 1997 (unaudited)............ F-4 Combined Statements of Cash Flows for the Period from December 1, 1994 (Date of Inception) to December 31, 1994, for the Years Ended December 31, 1995 and 1996, Cumulative from December 1, 1994 (Date of Inception) to December 31, 1996, for the Three Months Ended March 31, 1996 and 1997 (uaudited), Cumulative from December 1, 1994 (Date of Inception) to March 31, 1997 (unaudited).................................................................... F-5 Combined Statements of Division Equity for the Period from December 1, 1994 (Date of Inception) to December 31, 1994, for the Years Ended December 31, 1995 and 1996 and for the Three Months Ended March 31, 1997 (unaudited) ................................................................. F-6 Notes to Combined Financial Statements............................................................. F-7 II. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS F-17 III. UNAUDITED PRO FORMA FINANCIAL STATEMENTS: INTRODUCTION....................................................................................... F-20 Pro Forma Combined Balance Sheets as of March 31, 1997............................................. F-21 Pro Forma Combined Statements of Operations for the Three Months Ended March 31, 1997.............. F-22 Pro Forma Combined Statements of Operations for the Year Ended December 31, 1996................... F-23 Notes to Unaudited Pro Forma Financial Statements.................................................. F-24
F-1 2 GENZYME MOLECULAR ONCOLOGY REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of GENZYME CORPORATION: We have audited the accompanying combined balance sheets of Genzyme Molecular Oncology (a development stage enterprise, as described in Note 1) as of December 31, 1995 and 1996 and the related combined statements of operations, cash flows and division equity for the period from December 1, 1994 (Date of Inception) through December 31, 1994, for the years ended December 31, 1995 and 1996 and cumulative for the period from December 1, 1994 (Date of Inception) through December 31, 1996. The combined financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these combined financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the combined financial statements referred to above present fairly, in all material respects, the combined financial position of Genzyme Molecular Oncology (a development stage enterprise) as of December 31, 1995 and 1996 and the combined results of its operations and its cash flows for the period December 1, 1994 (Date of Inception) through December 31, 1994, for the years ended December 31, 1995 and 1996 and cumulative for the period from December 1, 1994 (Date of Inception) through December 31, 1996, in conformity with generally accepted accounting principles. As more fully described in Note 1 to these financial statements, Genzyme Molecular Oncology (a development stage enterprise) is a business group of Genzyme Corporation; accordingly, the combined financial statements of Genzyme Molecular Oncology should be read in connection with the audited consolidated financial statements of Genzyme Corporation and subsidiaries, which are included in the Genzyme Corporation 1996 Annual Report on Form 10-K. /s/ Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. Boston, Massachusetts April 7, 1997 Except for Note 7 as to which the date is June 18, 1997 F-2 3 GENZYME MOLECULAR ONCOLOGY COMBINED STATEMENTS OF OPERATIONS (A DEVELOPMENT STAGE ENTERPRISE) (DOLLARS IN THOUSANDS)
FOR THE CUMULATIVE PERIOD FROM DECEMBER 1, DECEMBER 1, 1994 (DATE OF FOR THE FOR THE 1994 (DATE OF INCEPTION) YEAR YEAR INCEPTION) THROUGH ENDED ENDED THROUGH DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, 1994 1995 1996 1996 ------------- ------------ ------------ ------------- Operating Expenses: General and administrative........... $ 8 $ 87 $ 185 $ 280 Research and development............. 29 377 818 1,224 ---- ----- ------- ------- Total operating expenses............. 37 464 1,003 1,504 ---- ----- ------- ------- Net loss............................... $(37) $(464) $(1,003) $(1,504) ==== ===== ======= ======= CUMULATIVE FROM FOR THE THREE FOR THE THREE DECEMBER 1, 1994 MONTHS ENDED MONTHS ENDED (DATE OF INCEPTION) MARCH 31, 1996 MARCH 31, 1997 THROUGH MARCH 31, 1997 --------------- -------------- ---------------------- (unaudited) (unaudited) (unaudited) Operating Expenses: General and administrative........... $ 40 $ 109 $ 389 Research and development............. 189 518 1,742 ----- ----- ------- Total operating expenses............. 229 627 2,131 ----- ----- ------- Net loss............................... $(229) $(627) $(2,131) ===== ===== =======
The accompanying notes are an integral part of these combined financial statements. F-3 4 GENZYME MOLECULAR ONCOLOGY COMBINED BALANCE SHEETS (A DEVELOPMENT STAGE ENTERPRISE) (DOLLARS IN THOUSANDS)
DECEMBER 31, ---------------- MARCH 31, 1996 1995 1997 ---- ---- ------------ (unaudited) ASSETS Other assets................................................ $ -- $ -- $ 363 ------- ----- ------ Total assets.............................................. $ -- $ -- $ 363 ======= ===== ====== LIABILITIES AND DIVISION EQUITY Current liabilities: Due to Genzyme General...................................... $ -- $ -- $ 363 ------- ----- ------ Total current liabilities................................. -- -- 363 COMMITMENTS AND CONTINGENCIES (See notes 1, 3, 4 and 6) DIVISION EQUITY Parent Company investment................................. 1,504 501 2,131 Deficit accumulated during the development stage.......... (1,504) (501) (2,131) ------- ----- ------ Total division equity....................................... 0 0 0 ------- ----- ------ Total liabilities and division equity....................... $ -- $ -- $ 363 ======= ===== ======
The accompanying notes are an integral part of these combined financial statements. F-4 5 GENZYME MOLECULAR ONCOLOGY COMBINED STATEMENTS OF CASH FLOWS (A DEVELOPMENT STAGE ENTERPRISE) (DOLLARS IN THOUSANDS)
FOR THE PERIOD CUMULATIVE FROM DECEMBER 1, DECEMBER 1, 1994 1994 (DATE OF (DATE OF INCEPTION) FOR THE FOR THE INCEPTION) THROUGH YEAR ENDED YEAR ENDED THROUGH DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, 1994 1995 1996 1996 -------------- ------------ ------------ --------------- OPERATING ACTIVITIES Net loss................................... $(37) $(464) $(1,003) $(1,504) ---- ----- ------- ------- Net cash used by operating activities...... (37) (464) (1,003) (1,504) FINANCING ACTIVITIES Parent Company investment.................. 37 464 1,003 1,504 ---- ----- ------- ------- CHANGE IN CASH............................. $ 0 $ 0 $ 0 $ 0 ==== ===== ======= ======= CUMULATIVE FROM FOR THE THREE FOR THE THREE DECEMBER 1, 1994 MONTHS ENDED MONTHS ENDED (DATE OF INCEPTION) MARCH 31, MARCH 31, THROUGH MARCH 31, 1996 1997 1997 ------------- ------------- ----------------- (unaudited) (unaudited) (unaudited) OPERATING ACTIVITIES Net loss................................... $(229) $(627) $(2,131) ----- ----- ------- Net cash used by operating activities...... (229) (627) (2,131) FINANCING ACTIVITIES Parent Company investment.................. 229 627 2,131 ----- ----- ------- CHANGE IN CASH............................. $ 0 $ 0 $ 0 ===== ===== =======
The accompanying notes are an integral part of these combined financial statements. F- 5 6 GENZYME MOLECULAR ONCOLOGY COMBINED STATEMENTS OF DIVISION EQUITY (A DEVELOPMENT STAGE ENTERPRISE) (DOLLARS IN THOUSANDS)
DEFICIT ACCUMULATED PARENT DURING THE TOTAL COMPANY DEVELOPMENT DIVISION INVESTMENT STAGE EQUITY ---------- ----------- -------- BALANCE AT DECEMBER 1, 1994 (DATE OF INCEPTION)..................................... $ 0 $ 0 $ 0 Net loss.................................................. -- (37) (37) Parent Company Investment................................. 37 -- 37 ------ ------- ------- BALANCE AT DECEMBER 31, 1994.............................. 37 (37) 0 Net loss.................................................. -- (464) (464) Parent Company Investment................................. 464 -- 464 ------ ------- ------- BALANCE AT DECEMBER 31, 1995.............................. 501 (501) 0 Net loss.................................................. -- (1,003) (1,003) Parent Company Investment................................. 1,003 -- 1,003 ------ ------- ------- BALANCE AT DECEMBER 31, 1996.............................. 1,504 (1,504) 0 Net loss.................................................. -- (627) (627) Parent Company Investment................................. 627 -- 627 ------ ------- ------- BALANCE AT MARCH 31, 1997 (UNAUDITED)..................... $2,131 $(2,131) $ 0 ====== ======= =======
The accompanying notes are an integral part of these combined financial statements. F-6 7 GENZYME MOLECULAR ONCOLOGY DIVISION (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO COMBINED FINANCIAL STATEMENTS INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED NOTE 1. BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BUSINESS Genzyme Molecular Oncology ("GMO"), a division of Genzyme Corporation (the "Company" or "Genzyme"), conducts research and development programs in the areas of molecular oncology and gene therapy for the treatment of cancer. Through GMO, Genzyme seeks to create a focused, integrated oncology business that will develop and commercialize novel diagnostic and therapeutic products and services based on molecular tools and genomics information. GMO on its own, and in combination with partners, will develop, manufacture and market technologically advanced products and services for the diagnosis, treatment and prevention of cancer. GMO operations under the existing Genzyme programs being combined to form GMO commenced December 1, 1994 (the "Date of Inception"). Since that date GMO's principal activity has been to perform research and development and no revenues have been earned. BASIS OF PRESENTATION The combined financial statements of GMO include the balance sheets, results of operations, cash flows and division equity of Genzyme's molecular oncology operations, which were part of Genzyme General Division ("Genzyme General") during the periods presented. GMO's financial statements are prepared using the amounts included in Genzyme's consolidated financial statements. Corporate allocations reflected in these financial statements are determined based upon methods which management believes to be reasonable (see Note 2). The financial statements for three months ended March 31, 1997 and 1996 are unaudited but include, in management's opinion, all adjustments (consisting of only normally recurring accruals) necessary for a fair presentation of the results for the periods presented. The stockholders of Genzyme and PharmaGenics, Inc. ("PharmaGenics") are being asked to approve a merger agreement between Genzyme and PharmaGenics (the "Merger Proposal", see also Note 7 "PharmaGenics Merger"). The merger agreement provides for the merger of PharmaGenics into Genzyme ("the Merger") in exchange for shares of a new Genzyme security to be designated Genzyme Molecular Oncology Division Common Stock ("GMO Stock"). The GMO Stock is intended to reflect the value and track the performance of GMO. The stockholders of Genzyme are also being asked to approve the amendment and restatement of Genzyme's Restated Articles of Organization (the "Genzyme Charter") to (i) redesignate each of Genzyme's existing classes of common stock as a series of a single class of common stock and (ii) authorize 150,000,000 shares of undesignated common stock which may be issued from time to time by the Genzyme Board of Directors (the "Genzyme Board") in one or more additional series (the "Genzyme Charter Proposal"). If the Genzyme Charter Proposal is approved and the Merger is completed, the Genzyme Board will designate the GMO Stock as a new series of authorized common stock of Genzyme. If the Genzyme stockholders do not approve the Genzyme Charter Proposal, but approve the Merger Proposal and the Merger is completed, the Merger Proposal authorizes an amendment to the Genzyme Charter that would create the GMO Stock as a separate class of Genzyme common stock. This capital structure has not been reflected in these financial statements because its creation is contingent upon approval by Genzyme's stockholders. If the Merger is completed, Genzyme will provide to holders of GMO Stock separate financial statements, management's discussion and analysis, descriptions of business and other relevant information for GMO. Notwithstanding the attribution of assets and liabilities, including contingent liabilities, between Genzyme General, Genzyme Tissue Repair Division ("GTR") and GMO for the purposes of preparing their respective financial statements, this attribution and the change in the capital structure of Genzyme contemplated by the Genzyme Charter Proposal will not affect legal title to such assets or responsibility for such liabilities of Genzyme or any of its subsidiaries. Holders of GMO Stock will be common stockholders of F-7 8 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED Genzyme, which will continue to be responsible for all of its liabilities. Liabilities or contingencies of Genzyme General, GTR or of GMO could affect the financial condition or results of operations of the other Divisions. Accordingly, the GMO combined financial statements should be read in connection with Genzyme's consolidated financial statements. Under the terms of the Genzyme Charter, dividends to be paid to the holders of GMO Stock will be limited to the lesser of funds of Genzyme legally available for the payment of dividends and the Available GMO Dividend Amount, as defined in the Genzyme Charter. Although there is no requirement to do so, the Genzyme Board would declare and pay cash dividends on GMO Stock, if any, based primarily on earnings, financial condition, cash flow and business requirements of GMO. There is currently no intention of paying cash dividends. Except as otherwise provided in such policies, the management and accounting policies applicable to the presentation of the financial statements of GMO may be modified or rescinded at the sole discretion of the Genzyme Board without approval of the stockholders, subject only to the Genzyme Board's fiduciary duty to Genzyme's stockholders. PRINCIPLES OF COMBINATION The accompanying combined financial statements reflect the combined accounts of all of Genzyme's programs in the area of molecular oncology and Genzyme's rights under its agreements with third parties relating to gene therapies for the treatment of cancer. All material intercompany items and transactions have been eliminated in combination. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make certain estimates and assumptions. These estimates and assumptions affect the reporting of assets, liabilities, revenues, expenses and contingencies reported. Actual results could differ from these estimates. RESEARCH AND DEVELOPMENT Research and development costs are expensed as incurred. INCOME TAXES GMO uses the asset and liability method of accounting for income taxes. The provision for income taxes includes income taxes currently payable and those deferred because of temporary differences between the financial statement and the tax basis of assets and liabilities (see Note 2). NET LOSS PER SHARE Historical loss per share information is omitted from the statements of operations as the GMO Stock was not part of the capital structure of Genzyme for the periods presented. Following issuance of the GMO Stock, the method of calculating earnings per share for GMO would reflect the terms of the Restated Articles of Organization, which provide that dividends may be declared and paid out of the lesser of funds of Genzyme legally available for the payment of dividends and the Available GMO Dividend Amount, as defined. GMO would compute earnings (loss) per share by dividing the earnings attributable to GMO by the weighted average number of shares of GMO Stock and dilutive common stock equivalents outstanding during the applicable period. Earnings (loss) attributable to GMO would generally equal GMO's net income or (loss) for the relevant period determined in accordance with generally accepted accounting principles in effect at such time, adjusted by the amount of tax benefits allocated to or from GMO pursuant to the management and F-8 9 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31,1997 AND 1996 IS UNAUDITED accounting policies adopted by the Genzyme Board. The policies provide that, as of the end of any fiscal quarter of Genzyme, any projected annual tax benefit attributable to any division that cannot be utilized by such division to offset or reduce its current or deferred income tax expense may be allocated to the other divisions without any compensating payment or allocation. In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share." SFAS No. 128 establishes a different method of computing net income per share than is currently required under the provisions of the Accounting Principles Board Opinion No. 15 ("APB 15"). Under SFAS No. 128, Genzyme will be required to present both basic net income (loss) per share and diluted net income (loss) per share attributable to GGD Stock, GTR Stock and GMO Stock (the principal difference being that common stock equivalents would not be considered in the computation of basic EPS). GMO Stock was not part of the capital structure of Genzyme for any of the periods presented in the financial statements to which these notes relate, therefore, when Genzyme adopted SFAS No. 128 in its fiscal quarter ending December 31, 1997 there will be no impact on the historical per share data. ACCOUNTING FOR STOCK-BASED COMPENSATION The Genzyme stockholders are being asked to approve amendments to the existing Genzyme 1990 Equity Incentive Plan (the "Equity Plan") and the 1988 Director Stock Option Plan (the "Director Stock Option Plan") that would allow for the issuance of shares of GMO Stock under such plans, in addition to the GGD Stock and GTR Stock already included in such plans. If the amendments are approved by the Genzyme stockholders and the Merger is completed, the Plan will permit the granting of options to purchase GMO Stock to employees. No options to purchase GMO Stock have been granted under the Plan (see Note 3, Division Equity, "Stock Options"). GMO has adopted the disclosure-only alternative for accounting for stock-based employee compensation as required by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123") and GMO will disclose pro forma net income and pro forma earnings per share information in the footnotes to the combined financial statements using the fair value based method when employee stock options are granted. UNCERTAINTIES GMO is subject to risks common to companies in the biotechnology industry, including but not limited to, development by GMO or its competitors of new technological innovations, dependence on key personnel, protection of proprietary technology, health care cost containment initiatives, product liability and compliance with the government regulations, including those of the U.S. Department of Health and Human Services and the U.S. Food and Drug Administration. NOTE 2. RELATED PARTY TRANSACTIONS Genzyme allocates certain corporate general and administrative expenses, research and development expenses and income taxes in accordance with the policies described below. Effective upon completion of the Merger, the Genzyme Board will amend the policies which govern the management of Genzyme General and GTR to include the management of GMO and to add certain new policies governing interdivision transactions. The following policies, with the exception of Interdivision Asset Transfers, may be further modified or rescinded by action of the Genzyme Board, or the Genzyme Board may adopt additional policies, without approval of the stockholders of Genzyme, subject only to the Genzyme Board's fiduciary duty to the Genzyme stockholders, although the Genzyme Board has no present intention to do so. FINANCIAL MATTERS As a matter of policy, the Company manages the financial activities of Genzyme General, GTR and GMO on a centralized basis. These financial activities include the investment of surplus cash, the issuance, repayment and repurchase of short-term and long-term debt and the issuance and repurchase of common stock. During the period December 1, 1994 (Date of Inception) to March 31, 1997, the Company attributed none of its short-term and long-term debt to GMO based upon the specific purpose for which the debt was incurred and the cash flow requirements of GMO. Accordingly, none of the Company's interest expense has been allocated to GMO. The Company believes this method of allocation to be equitable and a reasonable estimate of such costs as if GMO operated on a stand-alone basis. Loans may be made from time to time between divisions. Any such loan of $1 million or less will mature within 18 months and interest will accrue at the lowest borrowing rate available to Genzyme for a loan with similar terms and duration. Amounts borrowed in excess of $1 million will require approval of the Genzyme F-9 10 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED Board, which approval shall include a determination by the Genzyme Board that the material terms of such loan, including the interest rate and maturity date, are fair and reasonable to each participating division and to holders of the common stock representing such division. To date no such borrowings have occurred. SHARED SERVICES GMO will operate as a division of Genzyme with its own personnel and financial resources, however, GMO will have access to Genzyme's extensive research and development capabilities, manufacturing facilities, and worldwide clinical development the costs of which are allocated to each division in a reasonable and consistent manner based on utilization by the division of the services to which such costs relate. Genzyme's corporate general and administrative functions are performed primarily by Genzyme General. General and administrative expenses and research and development expenses have been allocated to GMO as if GMO operated on a stand-alone basis. Management believes that such allocation is a reasonable estimate of such expenses. INCOME TAXES GMO is included in the consolidated U.S. federal income tax return filed by Genzyme. Genzyme allocates current and deferred taxes to the Divisions using the asset and liability method of accounting for income taxes and as if the Divisions were separate taxpayers. Accordingly, the realizability of deferred tax assets is assessed at the division level. The sum of the amounts calculated for individual divisions of Genzyme may not equal the consolidated amount under this approach. Pursuant to the management and accounting policies adopted by the Genzyme Board, as of the end of any fiscal quarter of Genzyme, any projected tax benefit attributable to any division that cannot be utilized by such division to offset or reduce its current or deferred income tax expense may be allocated to any other division without any compensating payment or allocation. The treatment of such allocation for purposes of earnings per share computation is discussed in Note 1, "Net Loss Per Share". ACCESS TO TECHNOLOGY AND KNOW-HOW GMO has free access to all technology and know-how of Genzyme that may prove useful in GMO's business, subject to any obligations or limitations applicable to Genzyme. The costs of developing this technology remain in the business unit responsible for its development. INTERDIVISION ASSET TRANSFERS The following policy regarding the transfer of assets between divisions may not be changed by the Genzyme Board without the approval of the holders of Genzyme Tissue Repair Common Stock ("GTR Stock") and the GMO Stock, each voting as a separate class; provided, however, that if a policy change affects GTR or GMO alone, only holders of shares representing the affected division will be entitled to a class vote on such matter. The Genzyme Board may at any time and from time to time reallocate any program, product or other asset from one division to any other division. All such reallocations will be done at fair market value, determined by the Genzyme Board, taking into account, in the case of a program under development, the commercial potential of the program, the phase of clinical development of the program, the expenses associated with realizing any income from the program, the likelihood and timing of any such realization and other matters that the Genzyme Board and its financial advisors deem relevant. The consideration for such reallocation may be paid by one division to another in cash or other consideration, in lieu of cash, with a value equal to the fair market value of the assets being reallocated or, in the case of a reallocation of assets from Genzyme General to GTR or GMO, the Genzyme Board may elect to account for such reallocation of assets F-10 11 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED as an increase in Designated Shares representing the division to which such assets are reallocated. Notwithstanding the foregoing, no Key GMO Program, as defined in the management and accounting policies, may be transferred out of GMO without a class vote of the holders of GMO Stock and no Key GTR Program, as defined in the management and accounting policies, may be transferred out of GTR without a class vote of the holders of GTR Stock. OTHER INTERDIVISION TRANSACTIONS From time to time, a division may engage in transactions with one or more other divisions or jointly with one or more other divisions and one or more third parties. Such transactions may include agreements by one division to provide products and services for use by another division and joint ventures or other collaborative arrangements involving more than one division to develop new products and services jointly and with third parties. Research and development performed by one division for the benefit of another division will be charged to the division for which work is performed on a cost basis. The division performing the research will not recognize revenue as a result of performing such research. Corporate general and administrative services will be provided by each division to any other division requesting such services on a cost basis. Other interdivisional transactions shall be on terms and conditions that would be obtainable in transactions negotiated at arm's length with unaffiliated third parties. Any interdivisional transaction to be performed on terms and conditions other than those previously set forth and that is material to one or more of the participating divisions will require the approval of the Genzyme Board, which approval shall include a determination by the Genzyme Board that the transaction is fair and reasonable to each participating division and to holders of the common stock representing each division. If a division (the "Purchasing Division") requires any product or service from which another division (the "Selling Division") derives revenues from sales to third parties (a "Commercial Product or Service"), the Purchasing Division may solicit from the Selling Division a bid to provide such Commercial Product or Service in addition to any bids solicited by the Purchasing Division from third parties. Subject to determination by the Genzyme Board that the bid of the Selling Division is fair and reasonable to each division and to their respective stockholders and that the Purchasing Division is willing to accept the Selling Division's bid, the Purchasing Division may accept any bid deemed to offer the most favorable terms and conditions for providing the Commercial Product or Service sought by the Purchasing Division. NOTE 3. DIVISION EQUITY The presentation of Division Equity reflects the amounts expended by Genzyme on programs being attributed to GMO and, accordingly, such amounts are reflected as a parent company investment. As described in Note 1, "Basis of Presentation", GMO Stock will be created as either a separate class or a separate series of Genzyme Common Stock depending upon whether both the Merger Proposal and the Genzyme Charter Proposal are approved. If the Genzyme stockholders approve the Genzyme Charter Proposal and the Merger is completed, the Genzyme Board will designate the GMO Stock as a new series of authorized common stock of Genzyme. If the Genzyme stockholders do not approve the Genzyme Charter Proposal but approve the Merger Proposal and the Merger is completed, the Merger Agreement authorizes an amendment to the Genzyme Charter that would create the GMO Stock as a new class of authorized common stock of Genzyme. In either event, 40 million shares of GMO Stock will be authorized and will have the same voting rights and privileges described below. Of the authorized shares, 4 million will be issued to effect the Merger (see Note 7, "PharmaGenics Merger"). In addition, 6 million GMO Designated Shares will be created as a result of the Merger. F-11 12 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED GMO DESIGNATED SHARES Pursuant to the Genzyme Charter, if the Charter Proposal or Merger Proposal is approved, GMO Designated Shares are authorized shares of GMO stock which are not issued or outstanding, but which the Genzyme Board may from time to time issue, sell or otherwise distribute without allocating the proceeds or other benefits of such issuance, sale or distribution to GMO. Designated shares are not eligible to receive any GMO dividends, have no liquidation rights and cannot be voted until they are sold, dividended to Genzyme General stockholders or otherwise distributed. GMO Designated Shares may be (i) issued upon the exercise or conversion of outstanding stock options, warrants or securities allocated to Genzyme General as a result of antidilution adjustments required by the terms of such instruments or approved by the Genzyme Board, (ii) distributed as a dividend to the holders of shares of Genzyme General Division Common Stock ("GGD Stock"), or (iii) sold for any valid business purpose, subject to certain restrictions, subject to the following policies regarding annual distributions determined at the sole discretion of the Genzyme Board. An Equity Line providing for the allocation of up to $25 million of cash from Genzyme General to GMO in exchange for GMO Designated Shares was approved by the Board (see "GMO Equity Line"). If, as of November 30 of each year starting November 30, 1998, the number of GMO Designated Shares on such date (not including those reserved for issuance with respect to Genzyme General Convertible Securities as a result of anti-dilution adjustments required by the terms of such instruments or approved by the Genzyme Board) exceeds ten percent (10%) of the number of shares of GMO Stock then issued and outstanding, then substantially all GMO Designated Shares will be distributed to holders of record of GGD Stock, subject to reservation of a number of such shares equal to the sum of (a) the number of GMO Designated Shares reserved for issuance upon the exercise or conversion of Genzyme General Convertible Securities and (b) the number of GMO Designated Shares reserved by the Genzyme Board as of such date for sale not later than six months after such date, the proceeds of which sale will be allocated to Genzyme General; provided, however, that if prior to November 30, 1998, Genzyme has completed an initial public offering of GMO Stock (the "GMO IPO"), Genzyme may defer the distribution of GMO Designated Shares provided in this policy until the later of November 30, 1998 or 360 days after the date the GMO IPO was completed. EXCHANGE OF GMO STOCK Genzyme, subject to certain conditions, will have the right to exchange each outstanding share of GMO Stock for cash or shares of GGD Stock at a 30% premium over fair market value, as defined. Following a disposition of all or substantially all assets of GMO, GMO Stock will be subject to mandatory exchange by Genzyme for cash or shares of GGD Stock at a 30% premium over fair market value, as defined. GGD Stock is not subject to exchange. VOTING RIGHTS Holders of GMO Stock will be entitled to 0.25 vote (equal to the ratio of $7.00 to the closing price of one share of GGD Stock as of the date of the Merger Agreement) per share through December 31, 1998. Immediately following consummation of the Merger, holders of GMO Stock will have approximately 1.2% of the voting power of Genzyme. The number of votes to which holders of GMO Stock will be entitled will be adjusted to equal the quotient obtained by dividing (i) the fair market value of one share of GMO Stock by (ii) the fair market value of one share of GGD Stock, on and as of January 1, 1999 and on and as of each January 1 every two years thereafter. If no shares of GGD Stock are outstanding on such date, or if shares of GMO Stock are entitled to vote separately as a series, each share of GMO Stock shall have one vote. Holders of shares of GGD Stock, GTR Stock and GMO Stock vote together as a single series on all matters as to which common stockholders are generally entitled to vote. Except in limited circumstances provided under Massachusetts law and in Genzyme's Restated Articles of Organization, and in the management and F-12 13 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED accounting policies adopted by the Genzyme Board, holders of common stock of each of the Divisions will have no rights to vote on matters as a separate series. If, when a stockholder vote is taken on any matter as to which a separate vote by either series is not required and the holders of either series of common stock would have more than the number of votes required to approve any such matter, the holders of that series will control the outcome of the vote on that matter. STOCK OPTIONS If the proposed amendments to the Equity Plan are approved and the Merger is completed, 1,500,000 shares of GMO Stock will be authorized for issuance under the Equity Plan. Subsequent to the completion of the PharmaGenics Merger (see Note 7), options under the Equity Plan to purchase GMO Stock will be granted to employees of GMO, to employees of other divisions of Genzyme who will devote a substantial portion of their efforts to GMO and to officers of Genzyme. These options will: (i) have an exercise price equal to the fair market value of GMO Stock on the date of grant, (ii) become exercisable 20% on the Effective Date and 20% on each of the next four anniversaries thereof and (iii) have a term of ten years. If the proposed amendments to the Director Stock Option Plan are approved and the Merger is completed, 70,000 shares of GMO Stock will be authorized for issuance under the Director Stock Option Plan. These options, which may be granted to all directors of Genzyme who are not employees of Genzyme, will: (i) have an exercise price of equal to the fair market value of GMO Stock on the date of grant, (ii) be exercisable in full on the date of the grant and (iii) have a term of ten years. EMPLOYEE STOCK PURCHASE PLAN The Genzyme stockholders are being asked to approve an amendments to the existing Genzyme 1990 Employee Stock Purchase Plan that would allow for the issuance of shares of GMO Stock under such plan, in addition to the GGD Stock and GTR Stock already included in such plan. If the amendment is approved, employees will be permitted to purchase GMO shares at 85% the lower of its fair market value on the first day of an offering period or the applicable exercise date. Under this plan 500,000 shares of GMO Stock are authorized, none are issued. PREFERRED STOCK Shares of Preferred Stock may be issued from time to time in one or more series. The Genzyme Board may determine, in whole or in part, the preferences, voting powers, qualifications and special or relative rights and privileges of any such series before the issuance of any shares of that series. The Genzyme Board shall determine the number of shares constituting each series of Preferred Stock and each series shall have a distinguishing designation. GMO EQUITY LINE To assist GMO in financing its operations prior to the consummation of the private placement (see Note 7) or GMO IPO, the Genzyme Board approved the allocation of up to $25 million in cash from Genzyme General to GMO, subject to reduction by the proceeds of outside financing received by GMO. Amounts drawn under the Equity Line prior to the GMO IPO automatically convert into GMO Designated Shares upon the closing of the GMO IPO at a price that will be between $7.00 and the price to the public in the GMO IPO, with the exact price to be dependent upon the date of each advance and the assumed appreciation or depreciation in the value of the GMO Stock as of such date, assuming straight line appreciation or depreciation over the period from the closing date of the Merger to the closing date of the GMO IPO. Advances made after the GMO IPO will convert upon the date of each advance into such number of GMO Designated Shares determined by dividing the amount of such advance by the Fair Market Value of GMO Stock on such date. The Equity Line will terminate on the third anniversary of the Closing Date. If the F-13 14 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED GMO IPO has not been completed as of such date, all amounts drawn under the Equity Line as of such date will be repaid in cash or, at the option of the Genzyme Board, may be exchanged for the number of GMO Designated Shares determined by dividing the aggregate of such amounts by the Fair Market Value of GMO Stock on such date. The amount available under the Equity Line will be reduced by the proceeds of any public or private sale by Genzyme of shares of GMO Stock or securities convertible into shares of GMO Stock or otherwise allocable to the Molecular Oncology Division, other than sales pursuant to Genzyme's employee benefit and stock option plans. NOTE 4. LICENSE AND DEVELOPMENT AGREEMENTS The following rights under Genzyme's agreements with third parties relating to gene therapies for the treatment of cancer are considered research and development programs of GMO. IMPERIAL CANCER RESEARCH TECHNOLOGY LIMITED Genzyme entered into a broad based collaboration with the Imperial Cancer Research Technology Limited ("ICRT"), a wholly-owned subsidiary of the Imperial Cancer Research Fund ("ICRF"), in January 1996 for the purpose of developing cancer gene therapies. Genzyme has committed to provide at total of (pound sterling) 100,000 to ICRF over a two year period under this agreement. Under the agreement, Genzyme also funds a technology manager at the ICRT to identify ICRF gene therapy projects with commercial potential. Genzyme will select specific research projects proposed by ICRF and will receive commercial development rights for these projects in exchange for financial consideration, including research funding and royalties. In conjunction with this Agreement, Genzyme also provides the ICRF with viral and non-viral gene therapy vectors for research use. NATIONAL CANCER INSTITUTE In September 1996, Genzyme entered into a three year Collaborative Research and Development Agreement ("CRADA") with the National Cancer Institute ("NCI") to develop treatments for metastatic melanoma. The CRADA covers the use of adenoviral vectors that incorporate the genes for the proprietary melanoma tumor antigen genes, MART-1 and gp100. Under the agreement, Genzyme provides clinical grade adenoviral vectors and research and development funding to support clinical trials at NCI in exchange for an option to an exclusive license to technology developed under the CRADA. Genzyme has committed to provide a total of $300,000 to NCI over a three year period under the CRADA. Funding provided by Genzyme to NCI under these collaborations was allocated to GMO, and was $25,000 during the year ended December 31, 1996 and $50,000 for the three months ended March 31, 1997. NOTE 5. INCOME TAXES There was no provision for income taxes due to GMO's operating losses. The components of net deferred tax assets were as follows:
DECEMBER 31, ----------------------- 1994 1995 1996 ---- ----- ------- DEFERRED TAX ASSETS: Net operating loss carryforwards............................ $ 37 $ 501 $ 1,504 Valuation Allowance......................................... (37) (501) (1,504) ---- ----- ------- Net deferred tax assets..................................... $ 0 $ 0 $ 0 ==== ===== =======
At the time GMO recognizes these tax assets for generally accepted accounting principles purposes, the resulting deferred tax benefits will be reflected in the tax provision for GMO, however, the benefit of these F-14 15 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED deferred tax assets has been previously allocated to Genzyme General and will be reflected as a reduction of net income to determine net income attributable to GMO Stock. NOTE 6. BENEFIT PLANS Genzyme has a domestic employee savings plan under Section 401(k) of the Internal Revenue Code covering substantially all of its domestic employees. The plan allows employees to make contributions up to a specified percentage of their compensation, a portion of which are matched by Genzyme. Genzyme's contributions are allocated to GMO as a component of general and administrative expenses. NOTE 7. PHARMAGENICS MERGER On June 18, 1997, Genzyme amended its articles of organization to (i) redesignate each of Genzyme's then existing classes of common stock as a separate series of a single class of common stock with substantially the same features as the shares of each of Genzyme's then existing classes of common stock and (ii) authorize 150,000,000 shares of undesignated common stock that may be issued from time to time by the Board of Directors of Genzyme ("the Genzyme Board") in one or more series. On June 18, 1997, pursuant to an Agreement and Plan of Merger (the "Merger Agreement") between Genzyme and PharmaGenics, PharmaGenics merged with and into Genzyme ("the Merger"). The Merger was approved by the stockholders of Genzyme at a Special Meeting of Stockholders held on June 12, 1997 and was approved by the stockholders of PharmaGenics at a Special Meeting of Stockholders held June 12, 1997. Upon completion of the Merger, 40,000,000 shares of common stock were designated as GMO Stock, par value $0.01, leaving 110,000,000 shares available for future designation by the Genzyme Board. As consideration for the Merger, the stockholders of PharmaGenics received 3,928,572 shares of GMO Stock representing the initial equity interest in GMO. Such number of shares of GMO Stock is subject to reduction prior to delivery of the GMO Stock certificates to such stockholders by (i) the amount that PharmaGenics's expenses in connection with the Merger exceed $1,000,000 and (ii) payments made or reasonably expected to be made by Genzyme, as of the date the GMO Stock certificates are delivered, to holders of PharmaGenics common stock who have exercised appraisal rights under Delaware law and to holders of PharmaGenics stock who have commenced or threatened (in writing) to commence any action, suit or legal, administrative or arbitration proceeding against either Genzyme or PharmaGenics challenging the Merger or seeking damages in connection with the Merger, as well as any expenses incurred by Genzyme in connection with any such action suit or proceeding, in each case divided by $7.00, the agreed upon value of the GMO Stock. As compensation to Genzyme General for the assets it contributed to GMO, 6,000,000 shares of GMO Stock have been reserved for issuance for the benefit of Genzyme General or its stockholders ("GMO Designated Shares"). The Genzyme Board may issue the GMO Designated Shares as a stock dividend to the holders of Genzyme General Division Common Stock ("GGD Stock") or it may sell such shares in a public or private sale and allocate all of the proceeds to Genzyme General. (See Note 3, Division Equity, "GMO Designated Shares"). ACCOUNTING The GMO Stock issued, excluding the effects, if any, of downward adjustments, will be valued at approximately $28.0 million, based on an independent valuation, and the transaction will be accounted for as a purchase. It is anticipated that the purchase price of $27.5 million (net of a downward adjustment of $0.5 million which represents the estimated fees payable by PharmaGenics to PaineWebber in connection with the Merger), plus estimated acquisition costs of $2.9 million and assumed liabilities of $3.1 million will be allocated as $1.5 million to the acquired tangible and intangible assets of PharmaGenics based on their respective fair values, $20 million to acquired completed technology rights (to be amortized over 5 years), $7 million to incomplete technology rights acquired, and $4.9 million to Goodwill (to be amortized over 5 years). The nonrecurring charge for in-process technology in the amount of $7 million will be charged to operations in the second quarter of 1997, in the period in which the Merger was consummated. BEST EFFORTS PRIVATE PLACEMENT As a condition to the consummation of the Merger, waivable at Genzyme's discretion, PaineWebber must deliver to Genzyme a commitment letter stating that it will use its best efforts to raise no less than $20 F-15 16 GENZYME MOLECULAR ONCOLOGY DIVISION A DEVELOPMENT STAGE ENTERPRISE NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED) INFORMATION AS OF MARCH 31, 1997 AND FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1997 AND 1996 IS UNAUDITED million for GMO in a private placement of GMO Stock or securities convertible into GMO Stock or otherwise allocable to GMO to be commenced within 45 days of the effective time of the Merger on terms mutually agreeable to Genzyme and PaineWebber. COMDISCO WARRANT In connection with the Merger, a warrant to purchase certain shares of PharmaGenics Series A Stock has been converted to a warrant to purchase approximately 9,563 shares of GMO Stock (the "Comdisco Warrant") at $8.04 per share expiring in April 2001. CREDIT FACILITY Prior to the Merger, Genzyme made a credit facility (the "Credit Facility") available to PharmaGenics to fund PharmaGenics documented operating costs. Monthly draws against the Credit Facility could be made monthly, up to a maximum amount during December 1996, January 1997, February 1997, March 1997, April 1997 and May 1997 of $250,000, $750,000, $650,000, $450,000, $550,000 and $550,000, respectively. Amounts not drawn by PharmaGenics in a designated month were available to cover documented expenses in any later month (subject to limitations described below). The maximum amount of monthly draws were subject to downward adjustment based on the amount of the gross revenues received by PharmaGenics in the prior month. An additional draw of $250,000 could be made under the Credit Facility if the SAGE patent licensed by PharmaGenics to Johns Hopkins University ("JHU") issued while the Credit Facility was in effect, provided, however, that such draw would be used by PharmaGenics to fulfill its obligation to JHU. In February, March, and May 1997, PharmaGenics borrowed $1,000,000, $650,000 and $800,000 respectively, under the Credit Facility having provided Genzyme with a projected cash disbursements list of operating costs for the months of February, March, April, and May. Amounts advanced under the Credit Facility are evidenced by a Subordinated Convertible Promissory Note which bears interest from the date of each advance at the rate of 8 1/4% per annum and matures on February 10, 2002 (the "Maturity Date"). The Maturity Date could have been accelerated upon the closing of one or more financing transactions resulting in aggregate gross proceeds to PharmaGenics of $10 million, however, as of June 16, 1997, no such transaction had occured. Upon consummation of the Merger, the Note became a liability allocated to GMO, and the outstanding principal amount will be treated as an intracompany loan by Genzyme General to GMO, due on the Maturity Date and convertible at any time prior thereto, at the Genzyme Board's option, into GMO Designated Shares. F-16 17 GENZYME MOLECULAR ONCOLOGY MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW The purpose of GMO, a division of Genzyme, is to develop and commercialize novel therapeutics and diagnostics for cancer based on molecular tools and genomics information. GMO seeks to establish collaborations and licensing arrangements where appropriate in order to generate research funding, access complementary technologies, and expand and accelerate development of its product and service portfolio. GMO operates as a division of Genzyme with its own personnel and financial resources and has access to Genzyme's extensive research and development capabilities, manufacturing facilities, worldwide clinical development and regulatory affairs staff and marketing structure on the bases and subject to the conditions set forth in the management and accounting policies governing the operations of and relationships among Genzyme's Divisions. Operations under the existing Genzyme programs that are being combined to form GMO commenced December 1, 1994 (date of inception). This discussion contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements represent the expectations of GMO's management as of the filing date of this Form 8-K. GMO's actual results could differ materially from those anticipated by the forward-looking statements due to the risks and uncertainties described under the caption "Factors Affecting Future Operating Results". Stockholders and potential investors should consider carefully these risks and uncertainties in evaluating GMO's financial condition and results of operations. RESULTS OF OPERATIONS Since the date of inception, research and development functions with respect to development programs which have been attributed to GMO have been provided solely by Genzyme General. In accordance with Genzyme's management and accounting policies, expenses for research and development performed by Genzyme General for GMO are charged to GMO on a cost basis. Genzyme's corporate and general and administrative expenses or other indirect costs are allocated to GMO in a reasonable and consistent manner based on utilization by GMO of the services to which such costs relate. Management believes that such allocation is a reasonable estimate of such expenses. THREE MONTHS ENDED MARCH 31, 1997 AS COMPARED TO THREE MONTHS ENDED MARCH 31, 1996 No revenues have been earned by GMO since the date of inception. Research and development expenses for the three months ended March 31, 1997 increased 375% to $518,000 from $109,000 in the three months ended March 31, 1996, due primarily to increased cancer research efforts with respect to GMO's drug discovery programs, GMO's internal gene therapy programs and activities related to GMO's collaboration with the Imperial Cancer Research Technology Limited to develop cancer gene therapies and GMO's Collaborative Research and Development Agreement ("CRADA") with the National Cancer Institute ("NCI") to develop treatments for metastatic melanoma. General and administrative expenses increased $69,000 to $ 89,000 or 173% primarily due to increased administrative support corresponding to growth in GMO's programs. 1996 AS COMPARED TO 1995 Research and development expenses for the year ended December 31, 1996 increased $441,000 to $818,000 or 117% in comparison to the corresponding period in 1995 due primarily to increased cancer research activities with respect to GMO's drug discovery and internal gene therapy programs, GMO's collaboration with the Imperial Cancer Research Technology Limited, which commenced in January 1996, and GMO's CRADA with the NCI. General and administrative expenses increased 113% to $98,000 in 1996 from $185,000 in 1995 due primarily to the additional administrative services required to support the growth in GMO's research and development programs. YEAR ENDED DECEMBER 31, 1995 AS COMPARED TO THE PERIOD DECEMBER 1, 1994 (DATE OF INCEPTION) TO DECEMBER 31, 1994 Research and development expenses and general and administrative expenses were $377,000 and $87,000, respectively, for the year ended December 31, 1995 as compared to $29,000 and $8,000, respectively, for the period from the date of inception to December 31, 1994. The increases are due primarily to a full year of operations in 1995 as compared to only one month of operations in 1994. F-17 18 LIQUIDITY AND FINANCIAL RESOURCES GMO has historically financed its operations and capital requirements through funding from Genzyme and has not maintained cash or investment balances. Since the date of inception, GMO's principal activity has been to engage in research and development as a development stage enterprise and as such has generated no revenues. GMO has incurred cumulative net losses of $2,131,000 in the period from the date of inception to March 31, 1997. GMO is expected to experience significant operating losses at least through fiscal 2001 as its research and development and clinical trial programs expand. There can be no assurance that GMO will ever achieve a profitable level of operations or that profitability, if achieved, can be sustained on an ongoing basis. In addition, Genzyme's management and accounting policies provide that to the extent GMO is unable to utilize its operating losses or other projected tax benefits to reduce its current or deferred income tax expense, such losses or benefits may be reallocated to another division on a quarterly basis. Accordingly, although the actual payment of taxes is a corporate liability of Genzyme as a whole, separate financial statements will be prepared for each division and any losses that cannot be utilized by GMO will not be carried forward to reduce the taxes allocable to GMO's earnings in the future. This could result in GMO being charged a greater portion of the total corporate tax liability and reporting lower earnings available to GMO stockholders in the future than would have been the case if GMO had retained its losses or other benefits in the form of a net operating loss carryforward. To assist GMO in financing its operations prior to the consummation of the private placement or GMO IPO, the Genzyme Board approved the allocation of up to $25 million in cash from Genzyme General to GMO, subject to dollar-for-dollar reduction as described below by the proceeds of outside financing received by GMO. Amounts drawn under the Equity Line prior to the GMO IPO automatically convert into GMO Designated Shares upon the closing of the GMO IPO at a price that will be between $7.00 and the price to the public in the GMO IPO, with the exact price to be dependent upon the date of each advance and the assumed appreciation or depreciation in the value of the GMO Stock as of such date, assuming straight line appreciation or depreciation on a daily basis over the period from the closing date of the Merger to the closing date of the GMO IPO. Advances made after the GMO IPO will convert upon the date of each advance into such number of GMO Designated Shares determined by dividing the amount of such advance by the Fair Market Value of GMO Stock on such date. The Equity Line will terminate on the third anniversary of the Closing Date. If the GMO IPO has not been completed as of such date, all amounts drawn under the Equity Line as of such date will be repaid in cash or, at the option of the Genzyme Board, may be exchanged for the number of GMO Designated Shares determined by dividing the aggregate of such amounts by the Fair Market Value of GMO Stock on such date. The amount available under the Equity Line will be reduced dollar for dollar by the proceeds of any public or private sale by Genzyme of shares of GMO Stock or securities convertible into shares of GMO Stock or otherwise allocable to the Molecular Oncology Division, other than sales pursuant to Genzyme's employee benefit and stock option plans. Genzyme anticipates that revenues generated from the sale of SAGE services, a high-speed, differential gene identification technology which was acquired in connection with the acquisition of PharmaGenics, SAGE license fees and cash available from Genzyme General pursuant to the Equity Line will be sufficient to fund GMO's operations through April 1998. Significant additional funds will be required to complete the clinical testing and commercialization of GMO's products and services. In this regard, Genzyme has filed a registration statement relating to the GMO IPO with the Securities and Exchange Commission and subject to market conditions, expects to commence the offering as soon as practicable after effectiveness of the registration statement. There can be no assurance, however, that the GMO IPO or any private sale of GMO securities in lieu of the GMO IPO will be completed on favorable terms to GMO or to the existing holders of GMO Stock, if at all. In addition, GMO's cash requirements may vary materially from those now planned as a result of including progress of GMO's research and development programs, achievement of milestones under strategic alliance arrangements, the ability of GMO to establish and maintain additional strategic alliances and licensing arrangements, the progress of development efforts of GMO's strategic partners, competing technological and marketing developments, the costs involved in enforcing patent claims and other intellectual property rights and the cost and timing of regulatory approvals. Insufficient funds may require GMO to delay, scale back or eliminate certain of its programs or to license to third parties to commercialize technologies or products that GMO would otherwise undertake itself. Such actions may adversely affect the value of the GMO Stock. FACTORS AFFECTING FUTURE OPERATING RESULTS GMO's future success will be largely dependent upon its ability to develop, manufacture and market its products under development, in addition to continuing to provide SAGE services which will be acquired upon consummation of the Merger. The majority of the products and services to be included in GMO are in the early stage of development. GMO is subject to risks common to companies in the biotechnology industry, including but not limited to, development by GMO or its competitors of new technological innovations, dependence on key F-18 19 personnel, protection of proprietary technology, health care cost containment initiatives, product liability and compliance with the government regulations of the U.S. Department of Health and Human Services and the U.S. Food and Drug Administration. SUBSEQUENT EVENT On June 18, 1997, pursuant to the Merger Agreement, PharmaGenics merged with and into Genzyme. The Merger was approved by the stockholders of Genzyme at a Special Meeting of Stockholders held on June 12, 1997 and was appoved by the stockholders of PharmaGenics at a Special Meeting of Stockholders held June 12, 1997. (See Note 7 "PharmaGenics Merger" to the historical GMO financial statements.) F-19 20 GENZYME MOLECULAR ONCOLOGY UNAUDITED PRO FORMA FINANCIAL STATEMENTS INTRODUCTION: These unaudited pro forma financial statements and the related notes are presented to give effect to the acquisition of PharmaGenics by Genzyme through the Merger of PharmaGenics with and into Genzyme using shares of GMO Stock (as described in Note 1). Pro forma statements of operations have been presented for GMO assuming that the Merger occurred as of January 1, 1996, using the purchase accounting method. A pro forma balance sheet has been presented for GMO assuming that the Merger occurred as of March 31, 1997. Pro forma financial statements for Genzyme have not been included because the Merger is not considered to have a significant impact on the financial conditions or results of operations of Genzyme. Pro forma financial statements for Genzyme General and GTR have not been included because with respect to Genzyme General, the creation of GMO is not considered to have a material effect and the Merger will have no effect on the financial condition or results of operations of Genzyme General and with respect to GTR, both the creation of GMO and the Merger have no impact on the financial condition and results of operations of GTR. F-20 21 GENZYME MOLECULAR ONCOLOGY UNAUDITED PRO FORMA CONDENSED COMBINED BALANCE SHEETS AS OF MARCH 31, 1997 (DOLLARS IN THOUSANDS)
Historical Pro Forma Genzyme Historical Pro Foot- Genzyme Molecular PharmaGenics, Forma note Molecular Oncology Inc. Adjs. Ref. Oncology --------- ----------- -------- ------ -------- ASSETS Current assets: Cash and cash equivalents . . . . . . . . . . $ - $ 360 $ - $ 360 Accounts receivable . . . . . . . . . . . . . - 330 - 330 Prepaid expenses and other current assets . . - 64 - 64 --------- ------------ -------- -------- Total current assets . . . . . . . . . . . . - 754 - 754 Property, plant & equipment, net . . . . . . - 702 - 702 Intangibles, net . . . . . . . . . . . . . . - - 20,000 [A] 20,000 Goodwill . . . . . . . . . . . . . . . . . . - - 4,903 [A] 7,600 [A] 12,503 Other assets . . . . . . . . . . . . . . . . 363 [B] 40 (363) [A] 40 --------- ------------ -------- -------- Total assets . . . . . . . . . . . . . . . $ 363 $ 1,496 $ 32,140 $ 33,999 ========= ============ ======== ======== LIABILITIES AND DIVISION/STOCKHOLDERS' EQUITY Current liabilities: Accounts payable and accrued expenses . . . . $ - $ 1,242 $ 2,464 [B] $ 3,706 Due to Genzyme General . . . . . . . . . . . 363 [B] - - 363 Current portion of capital lease obligations - 147 - 147 --------- ------------ -------- -------- Total current liabilities . . . . . . . . . . 363 1,389 2,464 4,216 Long-term capital lease obligations . . . . . - 21 - 21 Note payable to Genzyme General . . . . . . . - 1,662 - 1,662 Deferred tax liability . . . . . . . . . . . - - 7,600 [A] 7,600 --------- ------------ -------- -------- - 1,683 7,600 9,283 Division equity . . . . . . . . . . . . . . . - - 27,500 [A] (7,000) [A] 2,131 [D] (2,131) [D] 20,500 PharmaGenics, Inc. convertible preferred stock - 94 (94) [C] - PharmaGenics, Inc. common stock . . . . . . . - 5 (5) [C] - Parent Company investment . . . . . . . . . . 2,131 - (2,131) [D] - Additional paid-in capital . . . . . . . . . - 30,796 (30,796) [C] - Accumulated deficit . . . . . . . . . . . . . (2,131) (32,465) 2,131 [D] 32,465 [C] Deferred Compensation . . . . . . . . . . . . - (6) 6 [C] - --------- ------------ -------- -------- Total division/stockholders' equity . . . . . - (1,576) 22,076 20,500 --------- ------------ -------- -------- Total liabilities and division/stockholders' equity. . . . . . . . . . . . . . . . . . . $ 363 $ 1,496 $ 32,140 $ 33,999 ========= ============ ======== ========
See notes to unaudited pro forma financial statements. F-21 22 GENZYME MOLECULAR ONCOLOGY UNAUDITED PRO FORMA COMBINED STATEMENTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 1997 (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Historical Pro Forma Genzyme Historical Pro Foot- Genzyme Molecular PharmaGenics, Forma note Molecular Oncology Inc. Adjs. Ref. Oncology -------- -------------- ----- ---- ---------- Revenue: Research and development revenue ............ $ - $ 75 $ - - $ 75 Operating costs and expenses General and administrative expenses .......... 109 340 - 449 Research and development expenses ........... 518 1,063 - 1,581 Charge for in-process technology ............ - 4,435 - 4,435 Amortization of intangibles ................. - - 1,625 [E] 1,625 ------- ------- ------- ------- Total operating expenses .................. 627 5,838 1,625 8,090 ------- ------- ------- ------- Operating loss ................................ (627) (5,763) (1,625) (8,015) Other income (expenses): Interest income ............................. - 4 - 4 Interest expense ............................ - (13) - (13) ------- ------- ------- -------- Net loss ...................................... $ (627) $(5,772) $(1,625) $ (8,024) ======= ======= ======= ========= Per PharmaGenics common share: Net loss .................................... $(12.68) ======= Weighted average shares outstanding ........... 455 (455) [F] ======= ======= Per Pro Forma Molecular Oncology Division common share: Pro forma net loss .......................... $ (2.04) ======== Pro forma average shares outstanding ........ 3,929 [G] 3,929 ======= ========
See notes to unaudited pro forma financial statements. F-22 23 GENZYME MOLECULAR ONCOLOGY UNAUDITED PRO FORMA COMBINED STATEMENTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1996 (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Historical Pro Forma Genzyme Historical Pro Foot- Genzyme Molecular PharmaGenics, Forma note Molecular Oncology Inc. Adjs. Ref. Oncology -------- ------------- ----- ---- -------- Revenue: Research and development revenue ............ $ - $ 1,418 $ - - $ 1,418 Operating costs and expenses General and administrative expenses .......... 185 1,756 - 1,941 Research and development expenses ........... 818 4,499 - 5,317 Amortization of intangibles ................. - - 6,501 [E] 6,501 ------- ------- ------- ------- Total operating expenses .................. 1,003 6,255 6,501 13,759 ------- ------- ------- ------- Operating loss ................................ (1,003) (4,837) (6,501) (12,341) Other income (expenses): Interest income ............................. - 120 - 120 Interest expense ............................ - (36) - (36) ------- ------- ------- -------- Net loss ...................................... $(1,003) $(4,753) $(6,501) $(12,257) ======= ======= ======= ======== Per PharmaGenics common share: Net loss .................................... $(10.49) ======= Weighted average shares outstanding ........... 453 (453) [F] ======= ======= Per Pro Forma Molecular Oncology Division common share: Pro forma net loss .......................... $ (3.12) ======== Pro forma average shares outstanding ........ 3,929 [G] 3,929 ======= ========
See notes to unaudited pro forma financial statements. F-23 24 GENZYME MOLECULAR ONCOLOGY NOTES TO UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS (1) COMMENCEMENT OF GMO OPERATIONS AND CREATION OF GMO STOCK GMO operations under the existing Genzyme General programs being combined to form GMO commenced December 1, 1994 (the "Date of Inception"). Since that date GMO's principal activity has been to perform research and development and no revenues have been earned. On June 18, 1997, Genzyme amended its articles of organization to (i) redesignate each of Genzyme's then existing classes of common stock as a separate series of a single class of common stock with substantially the same features as the shares of each of Genzyme's then existing classes of common stock and (ii) authorize 150,000,000 shares of undesignated common stock that may be issued from time to time by the Genzyme Board in one or more series. On June 18, 1997, pursuant to an Agreement and Plan of Merger (the "Merger Agreement") between Genzyme and PharmaGenics, PharmaGenics merged with and into Genzyme. The Merger was approved by the stockholders of Genzyme at a Special Meeting of Stockholders held on June 12, 1997 and was approved by the stockholders of PharmaGenics at a Special Meeting of Stockholders held June 12, 1997. Upon completion of the Merger, 40,000,000 shares of Genzyme's undesignated common stock were designated as GMO Stock, leaving 110,000,000 shares available for future designation by the Genzyme Board. (2) MERGER CONSIDERATION As consideration for the Merger, the stockholders of PharmaGenics received 3,928,572 shares of GMO Stock. Such number of shares is subject to reduction prior to delivery of the GMO Stock certificates to such stockholders by (i) the amount that PharmaGenics's expenses in connection with the Merger exceed $1,000,000 and (ii) payments made or reasonably expected to be made by Genzyme, as of the date the GMO Stock certificates are delivered, to holders of PharmaGenics common stock who have exercised appraisal rights under Delaware law and to holders of PharmaGenics stock who have commenced or threatened (in writing) to commence any action, suit or legal, administrative or arbitration proceeding against either Genzyme or PharmaGenics challenging the Merger or seeking damages in connection with the Merger, as well as any expenses incurred by Genzyme in connection with any such action suit or proceeding, in each case divided by $7.00, the agreed upon value of the GMO Stock. As compensation to the Genzyme General for the assets it contributed to GMO, 6,000,000 shares of GMO Stock have been reserved for issuance for the benefit of Genzyme General or its stockholders ("GMO Designated Shares"). The Genzyme Board may issue the GMO Designated Shares as a stock dividend to the holders of Genzyme General Devision Common Stock ("GGD Stock") or it may sell such shares in a public or private sale and allocate all of the proceeds to Genzyme General. The pro forma GMO balance sheet as of March 31, 1997 gives effect to the Merger as of March 31, 1997, using the purchase accounting method and assumes that the GMO Stock issued will be valued at approximately $28 million which was determined through a combination of an independent valuation of the business of PharmaGenics, an internal review of the future market potential for the PharmaGenics programs and a similar review of the programs allocated from Genzyme General to GMO. The allocation of the purchase price is discussed in Note 3A. F-24 25 GENZYME MOLECULAR ONCOLOGY NOTES TO UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS (3) PRO FORMA ADJUSTMENTS RELATED TO THE ACQUISITION (A) Purchase Price Allocation The aggregate purchase price of $27.5 million (net of a downward adjustment of $0.5 million which represents the estimated fees payable by PharmaGenics to PaineWebber in connection with the Merger), plus estimated acquisition costs of $2.8 million and assumed liabilities of $3.1 million will be allocated to the acquired tangible and intangible assets based on their estimated respective fair values (amounts in thousands): Cash ............................................. $ 360 Accounts receivable-U.S. National Cancer Institute 330 Prepaid expenses ................................. 64 Property, plant & equipment ...................... 702 Other assets ..................................... 40 Completed technology rights ...................... 20,000 Goodwill (to be amortized over 5 years) .......... 12,503 Deferred tax liability ........................... (7,600) Charge for incomplete technology ................. 7,000 --------- $ 33,399 =========
The portion of the purchase price to be allocated to technology rights will be allocated as $20 million to completed technology rights and $7 million to in-process technology rights. The charge for in-process technology of $7 million represents the value assigned to PharmaGenics's programs which are still in the development stage and for which there is no alternative use. The value assigned to these programs has been determined by selecting the maximum anticipated value of these programs, as provided by an independent valuation of the PharmaGenics business, based on comparable technologies. The pro forma adjustments to the pro forma statements of operations for the three months ended March 31, 1997 and for the year ended December 31, 1996 do not give effect to the charge for in-process technology in the amount of $7 million which will be charged to operations in June 1997, the period in which the Merger was consummated. The deferred tax liability of $7.6 million results from the temporary difference between the book and tax basis of the Completed Technology computed at a 38% incremental tax rate. (B) The historical GMO other assets balance as of March 31, 1997, consists of approximately $0.4 million of acquisition costs which were paid by Genzyme General on behalf of GMO. The pro forma adjustment in the amount of $2.5 million to accrued expenses reflects the accrual of additional estimated acquisition costs which have not been reflected in the historical balances as of March 31, 1997. (C) To eliminate PharmaGenics's historical stockholders' deficit amounts totaling $(1.6) million.
(in thousands) ------------- Convertible preferred stock $ 94 Common stock 5 Additional paid-in capital 30,796 Accumulated deficit (32,465) Deferred compensation (6) -------- PharmaGenics's historical stockholders' deficit: $ (1,576) ========
(D) Reclassify GMO's historical Parent Company Investment of $2.1 million and accumulated deficit of $2.1 million to Division equity. F-25 26 GENZYME MOLECULAR ONCOLOGY NOTES TO UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS (E) To record the amortization of acquired intangible assets and goodwill (amounts in thousands):
Full Three Assigned Year Months Value Amortization Amortization ------- ------------ ------------ Completed Technology (5 year life) $20,000 $4,000 $1,000 Goodwill (5 year life) 12,503 2,501 625 ------ ------ Pro forma adjustment for amortization of intangibles . $6,501 $1,625 ====== ======
(F) To eliminate PharmaGenics's weighted average shares outstanding. (G) The pro forma statements of operations for the three months ended March 31, 1997 and the year ended December 31, 1996 reflect the number of shares issued to effect the acquisition. The number of shares of GMO Stock that the stockholders of PharmaGenics received as merger consideration is subject to reduction prior to delivery of the GMO Stock Certificates to such stockholders by (i) the amount that PharmaGenics's expenses in connection with the Merger exceed $1,000,000 and (ii) payments made or reasonably expected to be made by Genzyme, as of the date the GMO Stock Certificates are delivered, to holders of PharmaGenics common stock who have commenced or threatened (in writing) to commence any action, suit or legal, administrative or arbitration proceeding against either Genzyme or PharmaGenics challenging the Merger or seeking damages in connection with any such action, suit or proceeding, in each case divided by $7.00, the agreed upon value of the GMO Stock. F-26 -----END PRIVACY-ENHANCED MESSAGE-----