-----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, LiOQTiR2XQfUjnRFdQh7B2gc6v9cC37OyEGtH39kbxqGwK8ng6wD3GUFsE0dPcBh PBTE86CD9n+JueBkigDl5A== 0000944209-99-000250.txt : 19990308 0000944209-99-000250.hdr.sgml : 19990308 ACCESSION NUMBER: 0000944209-99-000250 CONFORMED SUBMISSION TYPE: 10KSB PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990305 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PROTEIN POLYMER TECHNOLOGIES INC CENTRAL INDEX KEY: 0000858155 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMMERCIAL PHYSICAL & BIOLOGICAL RESEARCH [8731] IRS NUMBER: 330311631 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10KSB SEC ACT: SEC FILE NUMBER: 000-19724 FILM NUMBER: 99557900 BUSINESS ADDRESS: STREET 1: 10655 SORRENTO VALLEY RD CITY: SAN DIEGO STATE: CA ZIP: 92121 BUSINESS PHONE: 6195586064 MAIL ADDRESS: STREET 1: 10655 SORRENTO VALLEY ROAD CITY: SAN DIEGO STATE: CA ZIP: 92121 10KSB 1 FORM 10-KSB ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-KSB (Mark One) [X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1998 OR [_] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________ to ______________ Commission file number 0-19724 PROTEIN POLYMER TECHNOLOGIES, INC. (Exact name of small business issuer as specified in its charter) Delaware 33-0311631 (State or Other Jurisdiction of (IRS Employer Incorporation or Organization) Identification No.) 10655 Sorrento Valley Road, San Diego, CA 92121 (Address of Principal Executive Offices) Issuer's Telephone Number: (619) 558-6064 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, Redeemable Warrants (Title of Class) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No -------- ---- Check if there is no disclosure of delinquent filers pursuant to Item 405 of Regulation S-B contained herein, and no disclosure will be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB. [__] The issuer's revenues for the most recent fiscal year were $255,824. The aggregate market value of the voting stock held by non-affiliates of the issuer on February 26, 1999 was $5,063,391. State the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: As of February 26, 1999, 10,915,493 shares of common stock were outstanding. DOCUMENTS INCORPORATED BY REFERENCE: Definitive Proxy Statement to be filed no later than April 30, 1999 pursuant to Regulation 14A with respect to the Registrant's 1999 Annual Meeting of Stockholders (incorporated by reference in Part III). Transitional Small Business Disclosure Format: Yes No X ------- ------- ================================================================================ PROTEIN POLYMER TECHNOLOGIES, INC. FORM 10-KSB FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 TABLE OF CONTENTS
Page No. -------- PART I..................................................................... 2 Item 1. Business....................................................... 2 Item 2. Properties..................................................... 15 Item 3. Legal Proceedings.............................................. 15 Item 4. Submission of Matters to a Vote of Security Holders............ 15 PART II.................................................................... 16 Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............................................ 16 Item 6. Management's Discussion and Analysis of Financial Condition and Results of Operations.......................................... 18 Item 7. Financial Statements........................................... F-1 Item 8. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure........................................... 23 PART III................................................................... 23 Items 9, 10, 11 and 12 - Incorporated by Reference Item 13. Financial Statements, Exhibits and Reports on Form 8-K......... 23 Signatures............................................................... 27
i PART I ITEM 1. BUSINESS COMPANY BACKGROUND Protein Polymer Technologies, Inc., a Delaware corporation ("PPTI" or "the Company"), is a development-stage biotechnology company incorporated on July 6, 1988 and is engaged in the research, development and production of medical products based on its proprietary protein-based biomaterials technology. Since 1992, the Company has primarily focused on developing materials technology and products to be used in the surgical repair of tissue: surgical adhesives and sealants; soft tissue augmentation products; wound healing matrices; drug delivery devices; and surgical adhesion barriers. The Company has also developed coating technology that can efficiently modify and improve the surface properties of more traditional biomedical devices. A common goal is to develop materials that beneficially interact with human cells, enabling cell growth and the regeneration of tissues with improved outcomes as compared to current products and practices. In December 1998, the Company filed its first Investigational Device Exemption ("IDE") with the U.S. Food and Drug Administration ("FDA") to obtain approval to begin human clinical testing of its urethral bulking agent for the treatment of female stress urinary incontinence. The FDA has requested additional information about the product and the Company is preparing a response to the request. The Company intends to submit an additional IDE to the FDA in 1999 to obtain approval to begin human clinical testing of its dermal bulking agent for use in cosmetic and reconstructive surgery applications. PPTI began studies to identify its most promising biomaterial formulations for use in these soft tissue augmentation products in 1996 and has devoted increasing resources to this program area through 1997 and 1998 in preparation for beginning human clinical testing. Between 1994 and 1997, the Company's efforts were focused predominantly on the development of its surgical adhesive and sealant technology. As part of this effort, the Company targeted the establishment of a strategic alliance with a market leader in the field of surgical wound closure products which lead to the execution of comprehensive license, supply and development agreements in September 1995, with Ethicon, Inc. ("Ethicon"), a subsidiary of the Johnson & Johnson Company ("J&J"). Ethicon elected to terminate these agreements in December 1997. The Company has demonstrated both the adhesive performance and the biocompatibility of its product formulations in animal models, including the resorption of the adhesive matrix in conjunction with the progression of wound healing. PPTI is committed to the commercial development of its adhesive and sealant technology and during 1998 the Company worked to determine the specific markets and products providing the most significant opportunities for its use. PPTI is seeking to establish new strategic alliances with leaders in those markets. To the extent sufficient resources are available, the Company continues to research the use of its protein polymers for other tissue repair and medical device applications, principally for use in tissue engineering matrices and drug delivery devices. Specialty use products currently being marketed by the Company include SmartPlastic(R) and ProNectin(R) F Cell Attachment Factor. ProNectin F was launched commercially in 1991. SmartPlastic is ProNectin F Activated Cultureware where ProNectin F is presented in ready to use form on the surfaces of disposable plastic labware for culturing human and animal cells. SmartPlastic was launched commercially in 1995. In 1998 the Company discontinued direct sales of its cell culture products. 2 Prior to 1992, the Company's scientists had successfully demonstrated the ability to create and produce novel protein polymer materials having important physical, biological and chemical properties. During this period, most of the Company's efforts were dedicated to supplying E. I. DuPont de Nemours & Co. ("DuPont") with materials under contract for its proprietary research and testing purposes. In 1992, the Company raised approximately $8.9 million through its initial public offering of common stock and redeemable warrants. The Company used a major portion of these proceeds to generate substantive in vitro laboratory evidence and in vivo animal test data demonstrating the biocompatibility and performance of its protein polymers and derived biomaterials, and to establish a materials science group which has developed important materials modification and fabrication technology. In July 1994, the Company raised approximately $2.1 million from the sale of its unregistered Series C Preferred Stock to private investors. In September 1995, the Company raised approximately $2.4 million from the sale of its unregistered Series D Preferred Stock to the same private investors. Also at this time these investors exchanged all of their holdings of Series C Preferred Stock and accumulated dividends into Series D Preferred Stock. In January 1997, the Company raised approximately $4.6 million from a private placement of the Company's common stock with a number of institutional and accredited investors. In April and May of 1998, the Company raised approximately $5.4 million from the sale of 54,437.5 shares of the Company's unregistered Series E Convertible Preferred Stock ("Series E Stock") priced at $100 per share with warrants to purchase an aggregate of 3,266,250 shares of common stock to a small group of institutional and accredited investors. In connection with this transaction, the Company issued 26,240 shares of Series F Convertible Preferred Stock in exchange for the same number of shares of outstanding Series D Convertible Preferred Stock. We believe that our current capital resources will be sufficient to fund our operating losses through April of 1999. In their report for the year ended December 31, 1998, our independent auditors stated that without additional financing, there is substantial doubt about our ability to continue as a going concern. We believe there are a number of alternatives available to meet our continuing capital requirements. See the Liquidity and Capital Resources section of Management's Discussion and Analysis of Financial Condition and Results of Operations for further discussion. THE COMPANY'S TECHNOLOGY PPTI is focused on developing products to improve medical and surgical outcomes, based on an extensive portfolio of proprietary biomaterials. Biomaterials are materials that are used to direct, supplement, or replace the functions of living systems. The interaction between materials and living systems is dynamic. It involves the response of the living system to the materials (e.g., biocompatibility) and the response of the materials to the living system (e.g., degradation). The requirements for performance within this demanding biological environment have been a critical factor in limiting the myriad of possible metal, polymer, and ceramic compositions to a relatively small number that to date have been proven useful in medical devices. The goal of biomaterials development historically has been to produce inert materials -- materials that elicit little or no response from the living system. However, the Company believes that such conventional biomaterials are constrained by their inability to convey appropriate messages to the cells which surround them -- the same messages that are conveyed by proteins in normal human tissues. The products targeted for development by PPTI are based on a new generation of biomaterials which have been designed to be recognized and accepted by human cells, to aid in the natural process of bodily repair (including the healing of tissue and the restoration or augmentation of its form and function), and, ultimately, to promote the regeneration of tissues. The Company 3 believes that the successful realization of these properties will substantially expand the role that artificial devices can play in the prevention and treatment of human disability and disease, and enable the culture of native tissues for successful reimplantation. Through its proprietary core technology, PPTI produces high molecular weight polymers that can be processed into a variety of material forms such as gels, sponges, films, and fibers, with their physical strength and rate of resorption tailored to each potential product application. These polymers are constructed of the same amino acids as natural proteins found in the body. The Company has demonstrated that its polymers can mimic the biological and chemical functions of natural proteins and peptides, such as the attachment of cells through specific membrane receptors and the ability to participate in enzymatic reactions, thus overcoming a critical limitation of conventional biomaterials. In addition, materials made from PPTI's polymers have demonstrated excellent biocompatibility in a variety of feasibility studies. PPTI's patented core technology enables messages that direct activities of cells to be precisely formulated and presented in a structured environment similar to what nature has demonstrated to be essential in creating, maintaining and restoring the body's functions. The Company's protein polymers are made by combining the techniques of modern biotechnology and traditional polymer science. The techniques of biotechnology are used to create synthetic genes which direct the biological synthesis of protein polymers in recombinant microorganisms. The methods of traditional polymer science are used to design novel materials for specific product applications by combining the properties of individual "building block" components in polymer form. In contrast to natural proteins, either isolated from natural sources or produced using traditional genetic engineering techniques, PPTI's technology results in the creation of new proteins with unique properties. PPTI has demonstrated its capability to create materials that: . combine properties of different proteins found in nature; . reproduce and amplify selected activities of natural proteins; . eliminate undesired properties of natural proteins; and . incorporate synthetic properties via chemical modifications. This capability is fundamental to PPTI's current primary product research and development focus -- tissue repair and regeneration. Tissues are highly organized structures made up of specific cells arranged in relation to an extracellular matrix ("ECM"), which is principally composed of proteins. The behavior of cells is determined largely by their interactions with the ECM. Thus, the ability to structure the cells' ECM environment allows the protein messages they receive -- and their activity -- to be controlled. Similar to what nature has demonstrated to be essential in creating, maintaining and restoring the body's functions, PPTI's patented core technology enables messages that direct activities of cells to be precisely formulated and presented in a structured environment. FUNDAMENTAL PROTEIN POLYMERS PPTI's primary products under development are based on protein polymers combining selected properties from two of the most extraordinary structural proteins found in nature: silk and elastin. Silk, based upon its crystalline structure, has long been known as an incredibly strong material, and has a long history of medical use in humans as a material for sutures. Elastin fibers are one of the most remarkable rubber-like materials ever studied. Found in human tissues such as lungs and arteries, elastin fibers must expand and contract over a life time, and can be extended nearly three times their resting length without damaging their flexibility. Despite the incredible individual properties of silk and elastin, neither of these natural protein materials is capable of being processed into forms other than what nature has provided without destroying their valuable materials properties. However, PPTI's proprietary technology 4 has enabled the creation of polymers that combine the repeating blocks of amino acids responsible for the strength of silk and the elasticity of elastin. By precisely varying the number and sequence of the different blocks in the assembled protein polymer, new combinations of properties suitable for various medical applications have been created. The Company has also created protein polymers based on repeating blocks of amino acids found in two other classes of structural proteins found in nature: collagen and keratin. Collagen is the principal structural component of the body, found in some shape or form in virtually every tissue, ranging from shock absorbing cartilage to light transmitting corneas. Keratin is a major component in hair, nails and skin. The development of materials based on these polymers is at an early stage of research. PRODUCT CANDIDATES AND ANTICIPATED MARKETS The Company's technology and materials have the potential to create products and product applications in a variety of medical and specialty use markets. The Company's current development efforts are principally focused on preparations to begin human clinical testing of its hydrogel bulking agents for soft tissue augmentation, subject to the availability of capital. However, PPTI is also conducting product feasibility testing for certain applications of its tissue adhesive and sealant technology. Opportunities for research and development of product candidates for other medical and specialty uses continue to be evaluated, particularly with respect to tissue engineering matrices and drug delivery devices. With the exception of the use of ProNectin F for in vitro cell culture, all of the Company's product candidates are subject to preclinical and clinical testing requirements for obtaining U.S. Food and Drug Administration's ("FDA's") marketing approval. The actual development of other product candidates, if any, will depend on a number of factors, including the availability of funds required to research, develop, test and obtain necessary regulatory approvals; the anticipated time to market; the potential revenues and margins that may be generated if a product candidate is successfully developed and commercialized; and the Company's assessment of the potential market acceptance of a product candidate. Soft Tissue Augmentation Conditions where there is a need to augment the body's soft tissues include both cosmetic and medical applications. In the former, for example, current procedures include the injection of collagen-based materials to smooth out facial wrinkles, acne scars and to modify lip contours. However, these treatments only last a matter of months, which puts them economically out of reach for a large portion of the population of people who would otherwise desire the procedure. Medical applications include the treatment of stress urinary incontinence and gastro-esophageal reflux, the reversible blockage of fallopian tubes for birth control, the augmentation of vocal chords, and the expansion of gingival tissues impacted by periodontal disease. PPTI believes there is a lack of materials with suitable properties for these applications, primarily because materials having the required durability in vivo either lack the requisite biocompatibility or the ability to be easily injected. The Company has developed protein polymers that demonstrate excellent biocompatibility, are soluble in water at room temperature, and are easily injected into body tissues, irreversibly forming soft, durable gels at body temperature. Previously, PPTI has shown gels of similar composition to have persisted at least 18 months in an animal model. PPTI's bulking agents are unique in that they are applied as an aqueous solution, easily injected through a 30-gauge needle, rapidly spreading throughout the native tissue architecture. With the increase from room to body temperature, the polymer solution irreversibly transforms 5 within minutes to a soft, pliable hydrogel. Importantly, the volume of material remains constant in the liquid to gel transition, such that the tissue expansion observed by the physician upon administration will be subsequently maintained. This is in direct contrast to the majority of competing technologies, which are suspensions or slurries of solid particles in an aqueous carrier such as saline. When injected through a fine gauge needle, with some difficulty due to their thick constitution, the carrier liquid dissipates through the tissues with time, usually within 24 hours, such that roughly half of the effective bulking volume is lost. This requires the physician to either overcompensate for the expected volume reduction upon initial administration, with increased risks to the patient, or to "top off" the bulking effect with repeated administrations of the product over time, with substantially increased costs. Other hydrogel technologies of which the Company is aware are either preformed gels, difficult to administer by injection, or polymer solutions mixed with a chemical cross-linking agent prior to injection. PPTI believes that such technologies are limited in their overall performance including durability, biocompatibility and ease of administration. In October 1997, in response to PPTI's request for a jurisdiction determination, the FDA determined that the Company's proposed bulking agent for the treatment of stress urinary incontinence would be reviewed as a device by the Center for Devices and Radiologic Health ("CDRH"). Subsequently, the Company submitted a pre-Investigational Device Exemption ("IDE") filing to the FDA describing the process used to manufacture the product and a proposed preclinical testing plan, the results of which would be used to support an IDE under which the safety and efficacy of the device would be demonstrated in human clinical trials. In December 1998, the Company filed its first IDE with the FDA to obtain approval to begin human clinical testing of its urethral bulking agent for the treatment of female stress urinary incontinence. The FDA has requested additional information about the product and the Company is preparing a response to the request. To the extent funds are available, the Company intends to submit an additional IDE to the FDA in 1999 to obtain approval to begin human clinical testing of its dermal bulking agent for use in cosmetic and reconstructive surgery applications. Surgical Adhesives and Sealants Surgeons are master craftsmen. However, instead of working with metal, wood or plastic, they work with living tissues. Like carpenters, they use saws, chisels (knives) and drills to take things apart and fit pieces together. But they only have access to string (sutures) and nails (staples, pins, screws) to hold things in place. Furthermore, a surgeon's work is complicated by the biological healing response occurring when tissues are injured. This is one of the reasons why no glue has been approved by the FDA for use inside the human body. As in everyday life, there are many surgical uses for glue where string and nails just don't work well. They may not be quick or easy enough to use; they may not be capable of staying in place; they may do more damage than desired; they and/or the tools to use them may not fit within the available work space; they may result in fluid or air leaks; or the "fit and finish" or healing response is just not satisfactory. Certain surgical adhesives and sealants that seek to avoid these limitations have been developed and marketed outside the United States by other parties. In 1998, the FDA approved two such products for certain uses in the U.S. DermaBond(TM), a cyanoacrylate adhesive, was approved for topical application to close skin incisions and lacerations. Cyanoacrylate adhesives set fast and have high strength, but are toxic to certain tissues and form brittle plastics that do not resorb. These limitations restrict their use to bonding the outer surfaces of skin together. Tisseel(TM), a fibrin sealant, was approved for use as an adjunct to hemostasis in surgery. Fibrin sealants have 6 excellent hemostatic properties, but are derived from human and/or animal blood products, set slowly, have low strength, and lose their strength rapidly. A third category of tissue adhesives combines natural proteins such as collagen or albumin with aldehyde cross-linking agents. Such products are marketed in Europe for limited life-threatening indications. The aldehyde cross- linking agents employed (i.e. glutaraldehyde, formaldehyde) in such products are known to cause adverse tissue reactions. Additional adhesive and/or sealant products employing other polymer systems and cross-linking agents are also under development. PPTI is seeking to develop surgical adhesives and sealants that combine the biocompatibility of fibrin glues (without the risks associated with use of blood-derived products) with the high strength and fast setting times of cyanoacrylates. Unique features include significant elasticity within the adhesive matrix (to move as tissues move) and the capability of tailoring the resorption rate of the adhesive matrix with the rate at which the wound heals. A non-resorbable adhesive or sealant can only be used where the damaged tissues will not heal. Otherwise, a barrier to wound healing is unavoidably created. In September 1995, the Company entered into a series of agreements with Ethicon regarding this program. Ethicon elected to terminate these agreements in December 1997. However, the Company has demonstrated both the adhesive performance and the biocompatibility of its product formulations in animal models, including the resorption of the adhesive matrix in conjunction with the progression of wound healing. During 1998, the Company worked to determine the specific markets and products providing the most significant opportunities for the use of its adhesive and sealant technology. As a result of its evaluations of the medical market needs, the properties achievable with its technology, and the capabilities of competitive technologies, PPTI has focused its product development activities on certain orthopedic applications, particularly those related to the repair of the spinal disc for the treatment of chronic low back pain. Low back pain is the most common musculoskeletal disorder in industrialized societies. PPTI is committed to the commercial development of its adhesive and sealant technology and is seeking to establish new strategic alliances with market leaders. However, there can be no assurance that such alliances can be entered into. The product candidates the Company is seeking to develop are currently in feasibility testing prior to beginning formal preclinical studies. Wound Healing/Tissue Engineering Matrices The current market for wound care products is highly segmented, involving a variety of different approaches to wound care. Products currently marketed and being developed by other parties include fabric dressings (such as gauze), synthetic materials (such as polyurethane films) and biological materials (such as growth factors and living tissue skin graft substitutes). While the type of product used varies depending on the type of wound and extent of tissue damage, the Company believes that a principal treatment goal in all instances is to stimulate wound healing while regenerating functional (as opposed to scar) tissue. The Company has developed protein polymers which it believes may be useful in the treatment of dermal wounds, particularly chronic wounds such as decubitous ulcers, where both reconstruction of the ECM and re-establishment of its function are desired. These polymers, based on key ECM protein sequence blocks, are biocompatible, fully resorbable and have been processed into gels, sponges, films and fibrous sheets. The Company believes that such materials, if successfully developed, could improve the wound-healing process by providing physical support in situ for cell migration and tissue regeneration and as delivery systems for growth factors. Additionally, such materials may serve as scaffolds for the ex vivo production of living tissue substitutes. 7 This program is in the early stages of research, which the Company has principally conducted in collaboration with third parties. Such collaborations have primarily focused on the treatment of dermal wounds. Controlled Release Drug Delivery Oral delivery of drugs is the most preferred route of administration. However, for many drugs this is not possible and alternative drug delivery routes are required. Alternative routes include transdermal, mucosal, and by implantation or injection. For implantation or injection, it is often desirable to extend the availability of the drug in order to minimize the frequency of these invasive procedures. A few materials have been commercialized which act as depots for a drug when implanted or injected, releasing the drug over periods ranging from one month to several years. Other material and drug combinations are being developed by third parties. PPTI believes that the properties of these materials for such applications can be substantially improved upon, making available the use of depot systems for a wider range of drugs and applications. PPTI's soft tissue augmentation products, its wound healing matrices, and its medical device coating technology all provide platforms for drug delivery applications, serving as controlled release drug depots. The protein polymer materials the Company has developed exhibit exceptional biocompatibility, provide for control over rates of resorption, and are fabricated using aqueous solvent systems at ambient temperatures -- attributes which can be critical in maintaining the activity of the drug, particularly protein-based drugs emerging from the biotechnology industry. This program is in the early stages of research. Cell Culture Products The market for products used to culture mammalian cells encompasses the production of pharmaceuticals and vaccines, ex vivo cell therapy, and basic and applied research on the cellular mechanisms of human and animal development and disease. The common element is the need to culture cells outside the body in an artificial, controlled environment. With the culture of many types of mammalian cells, fetal bovine serum, animal sera factors or attachment factors must be added to the culture medium or coated on the culture surface to enable cells to attach and spread, initiating cell growth. Unlike standard tissue culture treated labware, these products primarily present to cells the RGD cell attachment ligand of the serum protein fibronectin, an amino acid sequence which is an essential requirement for the growth, proper morphology and fully-differentiated function of many different cells. However, the Company believes that there are disadvantages to using such products which, depending on the application, result in variable performance, lack of storage stability, undesirable contaminants, excessive media protein, high costs and lost time. PPTI developed ProNectin F to address these limitations. This product presents multiple copies of the RGD ligand within a chemically and thermally stable protein polymer. ProNectin F is free of animal-derived contaminants and has a long shelf-life. Moreover, tests conducted by third parties and the Company confirm that, compared with standard tissue culture treated labware, labware coated with ProNectin F enhances the cell attachment process. Since March 1991, the Company has commercially marketed ProNectin F as a cell culture reagent for use by cell biologists and cell culture laboratories. In 1995, the Company launched SmartPlastic, where ProNectin F is presented on the surfaces of disposable plastic labware in ready-to-use form for culturing human and animal cells. To date, the Company has generated over $550,000 in revenues and license fees from the marketing of these products. In 1998, the Company discontinued direct sales of its cell culture products. However, PPTI maintains its network of distributors to supply the products worldwide. 8 Manufacturing, Marketing and Distribution ProNectin F PPTI currently produces ProNectin F in its laboratory facilities, and believes its current production facilities are sufficient for the anticipated demand of ProNectin F in the foreseeable future. The Company markets and distributes ProNectin F and SmartPlastic through foreign and domestic distribution arrangements. Biomedical Product Candidates Preclinical and clinical testing of potential medical device products, where the results will be submitted to the FDA, requires compliance with the FDA's Good Laboratory Practices ("GLP") and other Quality System Regulations ("QSR"). The Company has implemented, and continues to implement, polymer production and quality control procedures, and has made certain facilities renovations to operate in conformance with FDA requirements. The Company believes its current polymer production capacity is sufficient for supplying its development programs with the required quality and quantity of materials needed for feasibility and preclinical testing and initial ("pilot") clinical testing. To expand beyond initial clinical trials, the Company will require additional manufacturing capacity. The Company is considering several methods for increasing production of its biomedical and other product candidates to meet clinical and commercial requirements. For example, the Company may expand its existing facility to produce needed quantities of materials under FDA's GLP and Good Manufacturing Practice ("GMP") regulations for clinical and commercial use. Alternatively, the Company may establish external contract manufacturing arrangements for needed quantities of materials. However, there can be no assurance that such arrangements, if desired, could be entered into or maintained on acceptable terms, if at all, or that the existence or maintenance of such arrangements would not adversely affect the Company's margins or its ability to comply with applicable governmental regulations. The actual method, or combination of methods, that the Company may ultimately pursue will depend on a number of factors, including availability, cost and the Company's assessment of the ability of such production methods to meet its commercial objectives. The Company currently expects that its initial biomedical products, if any are commercialized, would be marketed and distributed by a corporate partner. While this arrangement would minimize the Company's marketing costs and facilitate wider distribution of any biomedical products it may develop, these arrangements would possibly reduce the Company's revenues and profits as compared to what would be possible if the Company directly sold such products. RESEARCH AND DEVELOPMENT Information regarding Company-sponsored research and development activities and contract research and development revenue is set forth below under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations". COLLABORATIVE AGREEMENTS Because of the highly technical focus of its business, the Company must conduct extensive research and development prior to any commercial production of its biomaterials. During this development stage, PPTI's ability to generate revenues is limited. Because of this limitation, the Company does not have sufficient resources to devote to extensive testing or marketing of its products. The Company's primary method of expanding its product development, testing and marketing capabilities is to seek to form collaborative arrangements with selected corporate partners with specific resources that the Company believes complement its business strategies and goals. 9 The medical device industry has traditionally licensed from development stage companies product candidates whose safety and efficacy has been demonstrated at least in pilot human clinical trials. PPTI currently does not have any product candidates in human clinical testing. In December 1998, the Company filed its first IDE with the FDA to obtain approval to begin human clinical testing of its urethral bulking agent for the treatment of female stress urinary incontinence. The FDA has requested additional information about the product and the Company is preparing a response to the request. Pending FDA approval and the availability of sufficient capital, PPTI intends to initiate human clinical testing of the product in 1999. The Company also intends to submit an additional IDE to the FDA in 1999 to obtain approval to begin human clinical testing of its dermal bulking agent for use in cosmetic and reconstructive surgery applications. Agreements PPTI is discussing potential collaboration agreements with prospective marketing partners for both its soft tissue augmentation products and its tissue adhesive and sealant products. There can be no assurance that the Company will continue such discussions or be able to establish such agreements at all, or do so in a timely manner and on reasonable terms, or that such agreements will lead to successful product development and commercialization. From time to time, the Company is a party to certain materials evaluation agreements regarding biomedical and specialty use applications of its products, polymers and technology, including applications in areas other than those identified as product candidates above. These agreements provide, or are intended to provide, for the evaluation of product feasibility. There can be no assurance that the Company will continue to be able to establish such agreements at all, or do so in a timely manner and on reasonable terms, or that such agreements will lead to joint product development and commercialization agreements. INTENSE COMPETITION The principal anticipated commercial uses of PPTI's biomaterials are as components of end-use products for biomedical and other specialty applications. End-use products using or incorporating the Company's biomaterials would compete with other products which rely on the use of alternative materials. For example, bulking agents for soft tissue augmentation are currently marketed based on bovine collagen and, outside the U.S., the synthetic polymer polytetrafluoroethylene. Similarly, all targeted applications of the Company's potential products will compete with other products having the same or similar applications. The areas of business in which the Company engages and proposes to engage are characterized by intense competition and rapidly evolving technology. Competition in the biomedical and surgical repair markets is particularly significant. The Company's competitors in the biomedical and surgical repair markets include major pharmaceutical, surgical product, chemical and specialized biopolymer companies, many of which have financial, technical, research and development and marketing resources significantly greater than those of the Company. Academic institutions and other public and private research organizations are also conducting research and seeking patent protection, and may commercialize products on their own or through joint ventures. Most of the Company's competitors depend on synthetic polymer technology rather than protein engineering for developing products. However, the Company believes that research into similar protein engineering technology is currently being conducted by DuPont and several university laboratories. The primary elements of competition in the biomedical and surgical repair products market are performance, cost, safety, reliability, convenience and commercial production capabilities. The Company believes that its ability to compete in this market will be enhanced by its issued patent claims, the breadth of its other pending patent applications, its early entry into its field and its experience in protein engineering. 10 PATENTS AND TRADE SECRETS PPTI is aggressively pursuing domestic and international patent protection for its technology, making claim to an extensive range of recombinantly prepared structural and functional proteins, methods for preparing synthetic repetitive DNA, methods for the production and purification of protein polymers, end-use products incorporating such materials and methods for their use. The United States Patent and Trademark Office ("USPTO") has issued fourteen patents to the Company, eight of which were issued in 1998. U.S. Patent 5,235,041 (1993) relates to the Company's method for purifying structurally ordered recombinant protein polymers. U.S. Patent 5,243,038 (1993) covers the Company's synthetic DNA compositions that encode polymers and copolymers comprising the amino acid "building blocks" of silk and elastin. U.S. Patent 5,496,712 (1996) covers the Company's family of high molecular weight collagen like polymers and the DNA sequences encoding them. U.S. Patent 5,514,581 (1996) covers DNA sequences encoding silk-like structural building blocks with an intervening sequence coding for the key cell attachment ligand from human fibronectin. One of the claimed sequences encodes ProNectin F. U.S. Patent 5,606,019 (1997) covers the protein compositions comprising copolymers of the amino acid "building blocks" of silk and elastin. These are the primary materials used in the Company's current product development efforts. U.S. Patent 5,641,648 (1997) covers methods by which synthetic genes encoding protein polymers are created. U.S. Patent 5,723,588 (1998) covers molded articles incorporating biologically active proteins. U.S. Patent 5,760,004 (1998) covers chemical modification of protein polymers to enhance their water solubility. U.S. Patent 5,770,697 (1998) broadly covers protein polymers incorporating repetitive amino acid sequences found in naturally occurring proteins. U.S. Patent 5,773,249 (1998) expands the coverage of high molecular weight collagen like polymers. U.S. Patent 5,773,577 (1998) covers protein polymers which can be cross-linked by certain enzymes that naturally occur in the body. U.S. Patent 5,808,012 (1998) expands the coverage of molded articles to those incorporating chemically active proteins. U.S. Patent 5,817,303 (1998) covers the use of protein polymers with chemical cross-linking agents as adhesives and sealants. U.S. Patent 5,830,713 (1998) expands the coverage of methods by which synthetic genes encoding protein polymers are created. Additionally, PPTI has eight U.S. patent applications pending, one of which has been allowed, covering related aspects of its core technology. Although the Company believes its existing issued patent claims may provide a competitive advantage, there can be no assurance that the scope of the Company's patent protection is or will be adequate to protect its technology or that the validity of any patent issued will be upheld in the future. Additionally, with respect to the Company's allowed and pending applications, there can be no assurance that any patents will be issued, or that, if issued, they will provide substantial protection or be of commercial benefit to the Company. The two patents issued to PPTI in 1993 will expire in 2010, as will one of the patents issued in 1996. The other patent issued in 1996 will expire in 2013, and the patents issued in 1997 will expire in 2014. The three patents issued in 1998 which expand the coverage of previously issued patents will expire in concert with the original patents. The other five patents issued in 1998 will expire in 2015. Generally, for patent applications filed in the U.S. prior to June 8, 1995, the term of the patent will be 17 years from the issue date. Subsequently filed U.S. patent applications will have a term of 20 years from the date of filing, consistent with the patent laws in international jurisdictions. Although the Company does not currently have any operations outside the U.S., it anticipates that its potential products will be marketed on a worldwide basis, with possible manufacturing operations outside the U.S. Accordingly, international patent applications corresponding to the major U.S. patents and patent applications described above have been filed. 11 Due to translation costs and patent office fees, international patents are significantly more expensive to obtain than U.S. patents. Additionally, there are differences in the requirements concerning novelty and the types of claims that can be obtained compared to U.S. patent laws, as well as the nature of the rights conferred by a patent grant. PPTI carefully considers these factors in consultation with its patent counsel, as well as the size of the potential markets represented, in determining the foreign countries in which to file patents. In almost all cases, the Company files for patents in Australia, Canada, Europe and Japan. Currently, PPTI has nine issued foreign patents, 32 pending foreign applications, and is maintaining its rights to begin prosecution of two additional applications filed through the Patent Cooperation Treaty/World Patent Office in all countries of potential economic importance. One of the issued foreign patents is in Europe and the scope of its claims broadly covers protein polymers having biological or chemical activity. Because of the uncertainty concerning patent protection and the unavailability of patent protection for certain processes and techniques, PPTI also relies upon trade secret protection and continuing technological innovation to maintain its competitive position. Although all of the Company's employees have signed confidentiality agreements, there can be no assurance that the Company's proprietary technology will not be independently developed by other parties, or that secrecy will not be breached. Additionally, the Company is aware that substantial research efforts in protein engineering technology are taking place at universities, government laboratories and other corporations and that numerous patent applications have been filed. The Company cannot predict whether it may have to obtain licenses to use any technology developed by third parties or whether such licenses can be obtained on commercially reasonable terms, if at all. In the course of its business, PPTI employs various trademarks and trade names in packaging and advertising its products. The Company has obtained federal registration of its ProNectin(R) trademark and its SmartPlastic(R) trademark for ProNectin F Activated Cultureware. The Company intends to protect and promote all of its trademarks and, where appropriate, will seek federal registration of its trademarks. REGULATORY MATTERS Regulation by governmental authorities in the United States and other countries is a significant factor affecting the success of products resulting from biotechnological research. The Company's current operations and products are, and anticipated products and operations will be, subject to substantial regulation by a variety of agencies, particularly those products and operations related to biomedical applications. Currently, the Company's activities are subject principally to regulation under the Occupational Safety and Health Act and the Food, Drug and Cosmetic Act. Extensive preclinical and clinical testing and pre-market approval from the FDA is required for new medical devices, drugs or vaccines, which is generally a costly and time-consuming process. PPTI is required to be in compliance with many of the FDA's regulations to conduct testing in support of product approvals; in particular, compliance with the FDA's Good Laboratory Practices ("GLP") regulations and portions of the FDA's Quality Systems Regulations. Where PPTI has conducted such testing, the Company may choose to file product approval submissions itself or maintain with the FDA a "Master File" containing, among other items, such test results. A Master File can then be accessed by the FDA in reviewing particular product approval submissions from companies commercializing products based on PPTI's materials. There can be no assurance that the Company or its customers will be able to obtain or maintain the necessary approvals from the FDA or that the Company will be able to maintain a Master File in accordance with FDA regulations. In either case, the Company's anticipated business could be adversely affected. To the extent PPTI manufactures medical devices, as opposed to a component material supplied to a medical device manufacturer, it will be required to conform commercial manufacturing operations to the FDA's Good Manufacturing Practices 12 ("GMP") Quality Systems Regulations. The Company would also be required to register its facility with the FDA as an establishment involved in the manufacture of medical devices. GMP regulatory requirements are rigorous, and there can be no assurance that GMP status could be obtained in a timely manner and without the expenditure of substantial resources, if at all. In October 1997, in response to PPTI's request for a jurisdiction determination, the FDA determined that the Company's proposed bulking agent for the treatment of stress urinary incontinence would be reviewed as a device by the CDRH. The FDA's decision to review and regulate PPTI's product as a medical device is important, since it supports the Company's position that products based on its polymer technology should be classified for FDA regulation according to their function in the body rather than the method used to make their component materials. In December 1998, the Company filed its first IDE with the FDA to obtain approval to begin human clinical testing of its urethral bulking agent for the treatment of female stress urinary incontinence. The FDA has requested additional information about the product and the Company is preparing a response to the request. The Company intends to submit an additional IDE to the FDA in 1999 to obtain approval to begin human clinical testing of its dermal bulking agent for use in cosmetic and reconstructive surgery applications. The Company has implemented, and continues to implement, polymer production and quality control procedures, and has made certain facilities renovations to operate in conformance with FDA requirements. The Company's research, development and production activities are, or may be, subject to various federal and state laws and regulations relating to environmental quality and the use, discharge, storage, transportation and disposal of toxic and hazardous substances. The Company's future activities may be subject to regulation under the Toxic Substances Control Act, which requires the Company to obtain pre-manufacturing approval for any new "chemical material" the Company produces for commercial use that does not fall within the FDA's regulatory jurisdiction. The Company believes it is currently in substantial compliance with all such laws and regulations. Although the Company intends to use its best efforts to comply with all environmental laws and regulations in the future, there can be no assurance that the Company will be able to fully comply with such laws, or that full compliance will not require substantial capital expenditures. PRODUCT LIABILITY AND ABSENCE OF INSURANCE PPTI's business may expose it to potential product liability risks whenever human clinical testing is performed or medical device product sales occur. The Company believes that its current preclinical testing and production activities and its sales of ProNectin F and SmartPlastic products do not pose a potential product liability risk. The Company therefore currently has no product liability insurance. The Company expects to procure such insurance at the time its product candidates progress to clinical testing and development. There can be no assurance however that PPTI will be able to obtain such insurance on acceptable terms or that such insurance will provide adequate coverage against potential liabilities. A successful product liability claim or series of claims could result in a material adverse effect on the Company. 13 EXECUTIVE OFFICERS OF THE REGISTRANT Name Age Position with the Company - ----------------------------- --- ----------------------------------------- J. Thomas Parmeter 59 Chairman of the Board of Directors, President and Chief Executive Officer Joseph Cappello, Ph.D. 42 Vice President, Research and Development, Chief Technical Officer and Director, Polymer Research Philip J. Davis 68 Corporate Secretary Franco A. Ferrari, Ph.D. 47 Vice President, Laboratory Operations and Polymer Production and Director, Molecular Genetics John E. Flowers 42 Vice President, Planning and Operations Janis Y. Neves 47 Director of Finance, Controller, and Assistant Secretary Erwin R. Stedronsky, Ph.D. 54 Vice President, Product Formulation and Engineering and Director, Materials Science Mr. Parmeter has been the Company's President, Chief Executive Officer and Chairman of the Board of Directors since its inception in July 1988 (and, from July 1988 to July 1992, its Chief Financial Officer). From 1982 to November 1987, Mr. Parmeter was President, Chief Executive Officer and, from June 1987 to June 1988, Chairman of the Board of Syntro Corporation. Dr. Cappello has been the Company's Vice President, Research and Development since February 1997 and Director, Polymer Research and Chief Technical Officer since February 1993. From September 1988 to February 1993, he was the Company's Senior Research Director, Protein Engineering. Mr. Davis has been the Company's Secretary since January 1989. Mr. Davis has been a director of the Company since April 1995; he previously served as a director of the Company from January 1989 until October 1991. Mr. Davis has been a Senior Vice President with Donaldson, Lufkin & Jenrette since March 1995. He was Director, Institutional Sales at Merrill Lynch, Inc. (formerly Merrill Lynch Capital Markets) from February 1991 to March 1995, and was a Vice President at Merrill Lynch, Inc. from 1986 to 1995. Mr. Flowers has been the Company's Vice President, Planning and Operations, since February 1993. From September 1988 to February 1993, he was the Company's Vice President, Commercial Development. Dr. Ferrari has been the Company's Vice President, Laboratory Operations and Director, Molecular Genetics since February 1993. From September 1988 to February 1993, he was the Company's Senior Research Director, Genetic Engineering. Ms. Neves has been the Company's Director of Finance since November 1998 and Controller and Assistant Secretary since January 1990. From July 1988 until January 1990, Ms. Neves was the Company's Business Office Manager. Dr. Stedronsky has been the Company's Vice President, Product Formulation and Engineering since February 1997 and Director of Materials Science since September 1992. For 14 approximately 20 years prior to joining PPTI, Dr. Stedronsky held increasingly responsible R&D positions in Corporate Research at Monsanto Company. All executive officers of the Company were elected by the Board of Directors and serve at its discretion. No family relationships exist between any of the officers or directors of the Company. EMPLOYEES As of February 26, 1999, PPTI had 29 full-time and four part-time employees, of whom five hold employment contracts with the Company and seven hold Ph.D. degrees in the chemical or biological sciences. The Company is highly dependent on the services of its executive officers and scientists. The loss of the services of any one of these individuals would have a material adverse effect on the achievement of the Company's development objectives, its business opportunities and prospects. The recruitment and retention of additional qualified management and scientific personnel is also critical to the Company's success. There can be no assurance that the Company will be able to attract and retain required personnel on acceptable terms, due to the competition for such experienced personnel from other biotechnology, pharmaceutical, medical device and chemical companies, universities and non- profit research institutions. ITEM 2. PROPERTIES PPTI does not own any real property. The Company leases approximately 21,000 square feet in San Diego, California from Sycamore/San Diego Investors. The leased property includes the Company's administrative offices, which encompass approximately 4,000 square feet, and its laboratory facilities, which encompass approximately 17,000 square feet. The current annual rent is approximately $425,000. The lease expires in May 2005. The Company believes that its current facilities are adequate to meet its needs until the end of 1999. The Company retains an option to lease an additional 7,000 square feet of office and laboratory space in its present facility and to extend its lease for an additional five years. ITEM 3. LEGAL PROCEEDINGS None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of security holders during the fourth quarter of 1998. 15 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's Common Stock trades on The Nasdaq Stock Market under the symbol "PPTI". The trade prices set forth below represent inter-dealer prices without retail markups, markdowns or commissions. Trade Prices ---------------------- 1998 High Low --------------- ---------------------- First Quarter $1.531 $1.063 Second Quarter 2,250 0.875 Third Quarter 1.719 0.750 Fourth Quarter 1.250 0.688 1997 --------------- First Quarter $4.625 $1.813 Second Quarter 3.063 1.938 Third Quarter 3.125 1.563 Fourth Quarter 3.250 0.750 As of February 25, 1998, the Company had approximately 110 shareholders of record; it estimates it has approximately 1,500 beneficial holders. The Company has never paid cash dividends on its Common Stock. The Company currently intends to retain earnings, if any, for use in the operation and expansion of its business and therefore does not anticipate paying any cash dividends on the Common Stock in the foreseeable future. UNREGISTERED OFFERINGS In April and May of 1998, the Company raised approximately $5.4 million from the sale of 54,437.5 shares of the Company's Series E Convertible Preferred Stock ("Series E Stock") priced at $100 per share, with warrants to purchase an aggregate of 3,266,250 shares of common stock to a small group of institutional and accredited investors. Each share of Series E Stock is convertible at any time at the election of the holder into 80 shares of common stock at a conversion price of $1.25 per share, subject to certain antidilution adjustments. No underwriters were engaged by the Company in connection with such issuance and, accordingly, no underwriting discounts were paid. The offering is exempt from registration under Section 4(2) of the Securities Act of 1933, as amended (the "Securities Act"), and met the requirements of Rule 506 of Regulation D promulgated under the Securities Act. The Company has registered the shares of common stock underlying the Series E Stock and the warrants with the Securities and Exchange Commission. The Company has agreed to use its best efforts to nominate for election a person selected by the holders of the Series E Stock to its Board of Directors. Each share of Series E Stock received two common stock warrants. One warrant (first warrant) is exercisable at any time for 40 shares of common stock at an exercise price of $2.50 per share, and expires approximately 18 months after the close of the offering; the other warrant (second warrant) is exercisable at any time for 20 shares of common stock at an exercise price of $5.00 per share, and expires approximately 36 months after the close of the offering. In addition, an 18 month warrant to acquire 200,000 common shares exercisable at $2.50 per share and a 36 month warrant to acquire 100,000 common shares exercisable at $5.00 per share were issued as a finder and document review fee paid to a lead investor. An 18 month warrant to acquire 32,000 common shares exercisable at $2.50 per share, a 24 month warrant to acquire 16,000 common shares exercisable at $5.00 per share, and 5 year warrants to acquire an aggregate of 25,200 16 common shares exercisable at $2.50 per share were issued to certain persons for service as finders in relation to the private placement. In connection with the above private placement, the Company issued 26,420 shares of its Series F Convertible Preferred Stock in exchange for the same number of shares of outstanding Series D Convertible Preferred Stock. The Company's Series F Convertible Preferred Stock is equivalent to the Company's Series E Stock with regard to liquidation preferences. All other terms of the Company's Series F Convertible Preferred Stock remained the same as the Company's Series D Convertible Preferred Stock. On January 7, 1997, the Company received $4,760,000, less expenses of approximately $140,000, from a private placement of 1,904,000 shares of the Company's common stock, at $2.50 per share, with a number of accredited investors. No underwriters were engaged by the Company in connection with such issuance and, accordingly, no underwriting discounts or commissions were paid. The issuance was exempt from registration under Section 4(2) of the Securities Act of 1933, as amended (the "Securities Act"), and met the requirements of Rule 506 of Regulation D promulgated under the Securities Act. The Company agreed to register the shares with the Securities and Exchange Commission promptly after the closing. The registration was declared effective on January 24, 1997. On September 14, 1995, the Company issued 49,187 shares of its Series D Convertible Preferred Stock and warrants to purchase 500,960 shares of common stock at $1.25 per share in a private placement to certain accredited investors. Of this amount, 20,000 shares of Series D Convertible Preferred Stock and warrants to purchase 400,000 shares of common stock were issued for cash at $100.00 per share; 21,600 shares of Series D Convertible Preferred Stock were issued in exchange for all outstanding shares of the Company's Series C Convertible Preferred Stock and 2,539 shares for accrued and unpaid dividends thereon; and an additional 5,048 shares of Series D Convertible Preferred Stock and warrants to purchase 100,960 shares of common stock were issued in exchange for cancellation of a $500,000 bridge loan and accrued interest thereon. No underwriters were engaged by the Company in connection with such issuance and, accordingly, no underwriting discounts or commissions were paid. The issuance was exempt from registration under Section 4(2) of the Securities Act and met the requirements of Rule 506 of Regulation D promulgated under the Securities Act. Each share of Series D and Series F Convertible Preferred Stock earns a cumulative dividend at the annual rate of $10 per share, payable as and when declared by the Company's Board of Directors in the form of cash, common stock or any combination thereof. The Series D and F Convertible Preferred Stock is convertible into common stock after two years from the date of issuance at the holder's option. The conversion price at the time of conversion is the lesser of $3.75 or the market price. The Series D and F Convertible Preferred Stock is redeemable at the Company's option after four years from the date of issuance. Automatic conversion of all of the Series D and F Convertible Preferred Stock will occur if: (a) the Company completes a public offering of common stock at a price of $2.50 or higher; or (b) the holders of a majority thereof elect to convert. The Company has the option to demand conversion of the Series D and F Convertible Preferred Stock if the average market price of its common stock equals or exceeds $5.00 per share over a period of twenty business days. The Series D Convertible Preferred Stock has a liquidation preference of $100 per share plus accumulated dividends. At the time of purchase, the Series D Convertible Preferred stockholders received warrants to purchase, at an exercise price of $1.25 per share, twenty shares of the Company's common stock for each share of Series D Convertible Preferred Stock acquired for cash, or upon conversion of the outstanding bridge loan and accrued interest thereon, described above. Warrants to acquire a total of 500,960 shares of common stock were issued. All of these warrants were exercised during 1996, from which the Company received aggregate gross proceeds of $626,200. The Series D Convertible Preferred stockholders were granted certain registration rights relating to their shares 17 of common stock issuable upon conversion of the Series D Convertible Preferred Stock and upon the exercise of their warrants. In July 1994, the Company received $2,160,000 from a private placement of the Company's Series C Convertible Preferred Stock with certain accredited investors, consisting of 21,600 shares at $100.00 per share. No underwriters were engaged by the Company in connection with such issuance and, accordingly, no underwriter discounts or commissions were paid. The issuance was exempt from registration under Section 4(2) of the Securities Act and met the requirements under Rule 506 of Regulation D promulgated under the Securities Act. As described above, the investors exchanged 21,600 shares of Series C Convertible Preferred Stock, plus accrued and unpaid dividends thereon, for 24,139 shares of Series D Convertible Preferred Stock. There are currently no shares of Series C Convertible Preferred Stock outstanding. In connection with the issuance of the Series C Convertible Preferred Stock, warrants were also issued to acquire a total of 432,000 shares of the Company's common stock at a price of $1.25 per share. All of these warrants were exercised during 1996, from which the Company received aggregate gross proceeds of $540,000. In July 1996, holders of warrants to acquire 322,663 shares of common stock (all of whom were accredited investors) exercised such warrants at $2.50 per share, resulting in approximately $807,000 in gross proceeds to the Company. These warrants were originally issued in 1991 in connection with the issuance of the Company's Series B Convertible Preferred Stock. The issuance upon exercise of these warrants was exempt from registration under Section 4(2) of the Securities Act and met the requirements under Rule 506 of Regulation D promulgated under the Securities Act. The Company agreed to register the resale of the common stock received upon exercise of these warrants, and the applicable registration was declared effective on July 19, 1996. ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENTS Certain statements contained or incorporated by reference in this Annual Report on Form 10-KSB constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause actual results, performance or achievements of the company, or industry results, to be materially different from any future results, performance or achievements expressed or implied by forward-looking statements. Such risks and uncertainties include, among others, history of operating losses, raising adequate capital for continuing operations, early stage of product development, compliance with NASDAQ listing requirements, scientific and technical uncertainties, competitive products and approaches, reliance upon collaborative partnership agreements and funding, regulatory testing and approvals, patent protection uncertainties and manufacturing scale-up and required qualifications. While these statements represent management's current judgment and expectations for the company, such risks and uncertainties could cause actual results to differ materially from any future results suggested herein. The company undertakes no obligation to release publicly the results of any revisions to these forward-looking statements to reflect events or circumstances arising after the date hereof. GENERAL OVERVIEW Incorporated in 1988, Protein Polymer Technologies, Inc. has concentrated its research and development efforts on establishing a scientific and technical leadership position in the production of unique protein-based materials. The Company has identified biomedical market and product opportunities for further research and development that management believes will exploit the 18 unique properties of the Company's technology to competitive advantage. The Company has been unprofitable to date, and as of December 31, 1998 has an accumulated deficit of $32,987,964. The Company's product candidates for surgical repair, augmentation and regeneration of human tissues are in various stages of research and development. Its more advanced programs are in the areas of bulking agents for soft tissue augmentation, particularly for use in urethral tissue for the treatment of female stress incontinence and in dermal tissue for cosmetic and reconstructive procedures. The Company currently is devoting the majority of its resources to the development and registration of these products which are projected, pending approval by the U.S. Food and Drug Administration, to begin human clinical trials later this year, subject to the availability of sufficient capital. The Company's other advanced product technology is in the area of tissue adhesives and sealants. Currently the Company's research and development in this area is focused on the repair of spinal discs for the treatment of lower back pain. The Company's first commercial products, ProNectin F and SmartPlastic, are used by biologists and cell culture laboratories, principally to grow mammalian cells for biomedical research purposes. In 1995, the Company entered into a collaborative relationship with Ethicon regarding its surgical adhesives and sealants program. Ethicon terminated the relationship in December 1997 which materially adversely affected the Company. The Company's strategy with most of its programs is to enter into collaborative development agreements with major medical product marketing and distribution companies. Although these relationships, to the extent any are consummated, may provide significant near-term revenues through up-front licensing fees, research and development reimbursements and milestone payments, the Company expects to continue incurring operating losses for the next several years. The Company's cash balance as of December 31, 1998 was $1,380,000, which the Company believes is sufficient to fund its operations through April 1999. The Company is attempting to raise additional funds for continuing operations through private or public offerings and collaborative agreements (see "Liquidity and Capital Resources" below, and Note 1 of the Audited Financial Statements for additional information and a description of the associated risks). RESULTS OF OPERATIONS Contract research revenue for the year ended December 31, 1998 was $50,000, compared to $460,000 and $610,000 for 1997 and 1996, respectively. During 1997 and 1996 the Company received research and development reimbursements totaling $300,000 and $600,000, respectively, from Ethicon related to the Company's surgical adhesives and sealants program. In September 1995, the Company received a payment of $800,000 from Ethicon upon the signing of the various agreements related to the Company's tissue adhesives and sealants program. Other revenues for these periods were derived from materials evaluation agreements entered into with various divisions of J&J. In December 1997, Ethicon elected to terminate its collaboration with the Company; therefore, no additional revenue has been generated from these agreements. Interest income was $135,000 for the year ended December 31, 1998, as compared to $187,000 for 1997 and $87,000 for 1996. The year-to-year variability resulted from the amount and timing of the receipt of equity capital and the amounts of excess cash available for investment. Product sales for the years ended December 31, 1998 were $67,000, compared to $77,000 and $58,000 in 1997 and 1996 respectively. Product sales consist of ProNectin F related product revenues and licensing fees. Sales during 1996 reflected disappointing market interest in the line of ProNectin products; as a result the Company discontinued related promotional expenditures to conserve cash. Sales in 1997 and 1998 primarily reflect distributor stocking orders. Cost of sales was $4,000 for the year ended December 31, 1998, versus $26,000 and $47,000 for 1997 and 1996, respectively. Because the products sold through distributors are manufactured to order, the Company no longer books inventory reserves. Royalty expenses of 19 $25,000 were paid to Telios Pharmaceuticals, Inc. for each of the three years ended December 31, 1998, 1997 and 1996. Additionally, prior to 1997, royalty expenses of $10,000 per year were paid to Stanford University. Research and development expenses for the year ended December 31, 1998 were $4,138,000, compared to $3,127,000 in 1997, an increase of 32%. This increase is due primarily to expanded activities regarding the Company's soft tissue augmentation program, in particular the outside testing and regulatory consulting expenses associated with the filing of an Investigational Device Exemption with the U.S. Food and Drug Administration to begin human trials for the treatment of female stress urinary incontinence. Other related expenses include expanded manufacturing capacity and manufacturing process validation, quality assurance efforts, and outside testing services. The Company expects its research and development expenses will increase in the future, to the extent additional capital is obtained, due to the expansion of product-directed development efforts including human clinical testing, increased manufacturing requirements, and increased use of outside testing services. Selling, general and administrative expenses for the year ended December 31, 1998 were $1,727,000, as compared to $1,988,000 for 1997, a decrease of 13%. This decrease was due to reduced patent filing expenses. To the extent possible, the Company concentrated on controlling costs reflected in reduced travel, office supplies, and non-regulatory consulting costs. The Company expects its selling, general and administrative expenses will increase in the future, to the extent additional capital is obtained, consistent with supporting its research and development efforts and as business development, patent, legal and investor relations activities require. For the year ended December 31, 1998, the Company recorded a net loss applicable to common shareholders of $9,183,000, or $.88 per share, as compared to $4,887,000, or $.52 per share for 1997, and $3,356,000, or $.51 per share for 1996. The difference between 1998 and previous year end results is due primarily to a non-cash "imputed dividend" expense of $3,266,000 that resulted from the sale and issuance of the Company's Series E Convertible Preferred Stock during 1998. The 1998, 1997 and 1996 losses and per share calculations also include $278,000, $433,000 and $492,000, respectively, of undeclared and/or paid dividends from the Company's Preferred Stock. The Company expects to incur increasing operating losses for the next several years, to the extent additional capital is obtained, based upon the successful continuation of the tissue augmentation program and product registration, and the tissue adhesives program, as well as expected increases in the Company's other research and development, manufacturing and business development activities. The Company's results depend in part on its ability to establish strategic alliances and generate contract revenues, increased research, development and manufacturing efforts, preclinical and clinical product testing and commercialization expenditures, expenses incurred for regulatory compliance and patent prosecution, and other factors. The Company's results will also fluctuate from period to period due to timing differences. To date, the Company believes that inflation and changing prices have not had a material impact on its continuing operations. Based upon Company earnings history, a valuation allowance of $11,749,000 is required to reduce the Company's net deferred tax assets to the amount realizable. 20 LIQUIDITY AND CAPITAL RESOURCES As of December 31, 1998, the Company had cash, cash equivalents and short- term investments totaling $1,380,000, as compared to $1,300,000 at December 31, 1997. As of December 31, 1998, the Company had working capital of $600,000, compared to $697,000 at December 31, 1997. In April and May of 1998, the Company realized approximately $5,400,000 net of expenses from the private placement of the Company's Series E Convertible Preferred Stock. The Company had long-term capital lease obligations of $106,000 as of December 31, 1998, compared to an obligation of $190,000 as of December 31, 1997. For the year ended December 31, 1998, the Company's cash expenditures for capital equipment and leasehold improvements totaled $197,000, compared with $296,000 for the same period last year. The Company anticipates that these expenditures will be less in 1999 as laboratory renovations and additional equipment required to meet current GLP regulations and production requirements have been mostly completed. However, the Company anticipates a significant increase in manufacturing-related equipment and leasehold improvement expenditures in 2000 due to an increase in need for products for clinical testing, and anticipated need for additional product manufacturing for preclinical animal studies. The Company may enter into additional capital equipment lease arrangements in the future if available at appropriate rates and terms. The Company believes its existing available cash, cash equivalents and short-term investments would be sufficient to meet its anticipated capital requirements through April 1999. Substantial additional capital resources will be required to fund continuing expenditures related to the Company's research, development, manufacturing and business development activities. The Company believes there may be a number of alternatives available to meet the continuing capital requirements of its operations, such as collaborative agreements and public or private financings. During 1999, the Company expects that the possible exercise of existing warrants could result in additional funds for continuing operations. Further, the Company is currently in preliminary discussions with a number of potential collaborative partners and, based on the results of various materials evaluations, revenues in the form of license fees, milestone payments or research and development reimbursements could be generated. There can be no assurance that any of these fundings will be consummated in the necessary timeframes needed for continuing operations or on terms favorable to the Company. If adequate funds are not available, the Company will be required to significantly curtail its operating plans and may have to sell or license out significant portions of the Company's technology or potential products. YEAR 2000 COMPLIANCE The Company has developed a plan to modify its information technology in recognition of the year 2000 issue. The "Year 2000" issue concerns potential exposure related to the interruption of business practice and financial misinformation resulting from the application of computer programs which have been written using two digits, rather than four, to define the applicable year of business transactions. The Company has undertaken initiatives to ensure that its computer systems are Year 2000 compliant. To date, the Company has not incurred any material costs in connection with its Year 2000 plan. Based on its assessments to date, the Company does not expect to incur any further significant costs, or anticipate any significant problems or uncertainties associated with becoming Year 2000 compliant. 21 The following is a breakdown by phase of the progress the Company has made to date on its Year 2000 plan: Phase Timeframe % Complete -------------------------------------- --------- ----------- Initial identification and assessment Q-4 1998 95% Remediation Q-4 1998 95% Testing Q-2 1999 70% Contingency planning Q-2 1999 50% The Company is reliant on its vendors and suppliers and may be reliant on strategic partners to provide Year 2000 compliant systems prior to December 31, 1999. The Company is in the process of surveying all of its major vendors and suppliers to determine whether their systems are Year 2000 compliant. At this time, the impact on the Company of significant vendors and suppliers not being in full compliance cannot be reasonably estimated. However, the Company believes that any of its vendors and suppliers can be replaced with minimal cost impact. The Company is developing a plan to mitigate the impact of vendors and suppliers who are not in compliance with issues related to the Year 2000. 22 ITEM 7. FINANCIAL STATEMENTS Filed herewith are the following Audited Financial Statements for Protein Polymer Technologies, Inc. (a Development Stage Company):
Description Page ----------------------------------------------------------------------------- ---- Report of Ernst & Young LLP, Independent Auditors........................... F-2 Balance Sheets at December 31, 1998 and 1997................................ F-3 Statements of Operations for the years ended December 31, 1998, 1997 and 1996 and the period July 6, 1988 (inception) to December 31, 1998.... F-4 Statements of Stockholders Equity for the period July 6, 1988 (inception) to December 31, 1998..................................................... F-5 Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996 and the period July 6, 1988 (inception) to December 31, 1998.... F-7 Notes to Financial Statements............................................... F-9
F-1 REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders Protein Polymer Technologies, Inc. We have audited the accompanying balance sheets of Protein Polymer Technologies, Inc. (a Development Stage Company) as of December 31, 1998 and 1997, and the related statements of operations, stockholders' equity and cash flows for each of the three years in the period ended December 31, 1998 and for the period July 6, 1988 (inception) to December 31, 1998. 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 Protein Polymer Technologies, Inc. (a Development Stage Company) at December 31, 1998 and 1997, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1998 and for the period July 6, 1988 (inception) to December 31, 1998 in conformity with generally accepted accounting principles. As discussed in Note 1 to the financial statements, Protein Polymer Technologies, Inc. (a Development Stage Company) has reported accumulated losses during the development stage aggregating $(32,987,964) and without additional financing, lacks sufficient working capital to fund operations beyond April 1999, which raises substantial doubt about its ability to continue as a going concern. Management's plans as to these matters are described in Note 1. The 1998 financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty. ERNST & YOUNG LLP San Diego, California February 5, 1999 F-2 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) BALANCE SHEETS
DECEMBER 31, 1998 1997 -------------------------------- ASSETS Current assets: Cash and cash equivalents $ 1,383,148 $ 325,021 Short-term investments - 974,817 Other current assets 66,459 88,868 ------------ ------------ Total current assets 1,449,607 1,388,706 Deposits 36,177 36,617 Notes receivable from officers 141,000 153,000 Equipment and leasehold improvements, net 598,447 769,564 ------------ ------------ $ 2,225,231 $ 2,347,887 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 515,413 $ 423,594 Accrued employee benefits 167,849 151,831 Other accrued expenses 21,574 41,151 Deferred revenue - - Current portion capital lease obligations 84,518 75,110 Deferred rent 60,668 - ------------ ------------ Total current liabilities 850,022 691,686 Long-term portion capital lease obligations 105,548 190,068 Stockholders' equity: Convertible Preferred Stock, $.01 par value, 153,917 shares authorized, 79,202 and 28,214 shares issued and outstanding at December 31, 1998 and 1997, respectively - liquidation preference of $7,920,200 7,600,226 2,667,403 Common stock, $.01 par value, 25,000,000 shares authorized, 10,827,240 and 10,420,722 shares issued and outstanding at December 31, 1998 and 1997, respectively 108,274 104,208 Additional paid-in capital 26,549,125 22,778,033 Deficit accumulated during development stage (32,987,964) (24,083,511) ------------ ------------ Total stockholders' equity 1,269,661 1,466,133 ------------ ------------ $ 2,225,231 $ 2,347,887 ============ ============
See accompanying notes. F-3 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) STATEMENTS OF OPERATIONS
FOR THE PERIOD JULY 6, 1988 (INCEPTION) TO YEARS ENDED DECEMBER 31, DECEMBER 31, 1998 1997 1996 1998 ------------------------------------------------------------------------- Revenues: Contract revenue $ 50,000 $ 459,510 $ 610,000 $ 4,354,965 Interest income, net 134,978 186,531 87,317 1,080,929 Product and other income 70,846 76,917 58,434 630,014 ----------- ----------- ----------- ------------ Total revenues 255,824 722,958 755,751 6,065,908 Expenses: Cost of sales 4,158 26,141 47,364 279,679 Research and development 4,137,986 3,127,257 2,021,413 21,385,254 Selling, general and administrative 1,726,883 1,988,493 1,516,406 13,156,302 Royalties 25,000 35,000 35,000 290,171 ----------- ----------- ----------- ------------ Total expenses 5,894,027 5,176,891 3,620,183 35,111,406 ----------- ----------- ----------- ------------ Net loss (5,638,203) (4,453,933) (2,864,432) (29,045,498) Undeclared and/or paid dividends on preferred stock 3,544,323 432,682 491,867 4,962,015 ----------- ----------- ----------- ------------ Net loss applicable to common shareholders $(9,182,526) $(4,886,615) $(3,356,299) $(34,007,513) =========== =========== =========== ============ Net loss per common share - basic and diluted $ (.88) $ (.52) $ (.51) =========== =========== =========== Shares used in computing net loss per common share - basic and diluted 10,484,277 9,487,165 6,638,814 =========== =========== ===========
See accompanying notes. F-4 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) STATEMENTS OF STOCKHOLDERS' EQUITY FOR THE PERIOD JULY 6, 1988 (INCEPTION) TO DECEMBER 31, 1998
COMMON STOCK PREFERRED STOCK -------------------------------------------------- Shares AMOUNT SHARES AMOUNT -------------------------------------------------- Issuance of common stock at $.01 per share for cash 400,000 $ 4,000 - $ - Issuance of common stock at $.62 per share for cash and receivables 1,116,245 11,162 - - Receivables from sale of common stock - - - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1988 1,516,245 15,162 - - Repayment of receivables from sale of common stock - - - - Issuance of common stock at $.62 per share 359,136 3,594 - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1989 1,875,381 18,756 - - Exercise of common stock options at $.01 per share for cash 60,000 600 - - Issuance of common stock at $.68 per share for cash and compensation 5,000 50 - - Common stock repurchased at $.01 per share for cash (25,000) (250) - - Common stock issued at $.68 per share for cash and compensation 25,000 250 - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1990 1,940,381 19,406 - - Exercise of common stock options at $.68 per share for cash 5,000 50 - - Exercise of warrants for common stock 483,755 4,837 - - Conversion of notes payable to common stock 339,230 3,391 - - Conversion of notes payable to preferred stock - - 278,326 2,783 Issuance of preferred stock at $2.00 per share for cash, net of - - - issuance costs - - 400,000 400,000 Issuance of warrants for cash - - - - Issuance of warrants in connection with convertible notes payable - - - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1991 2,768,366 27,684 678,326 6,783 Initial public offering at $6.50 per unit, net of issuance costs 1,667,500 16,676 - - Conversion of Series B preferred stock into common stock in connection with initial public offering 678,326 6,783 (678,326) (6,783) Conversion of Series A preferred stock into common stock at 1.13342 per share 713,733 7,137 - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1992 5,827,925 58,280 - - Exercise of common stock options at $.68 per share 3,000 30 - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1993 5,830,925 58,310 - - Issuance of preferred stock at $100 per share for cash, net of issuance costs - - 21,600 2,073,925 Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1994 5,830,925 58,310 21,600 2,073,925 Issuance of preferred stock at $100 per share for cash and cancellation of bridge loan, net of issuance costs - - 25,000 2,432,150 Series C dividends paid in Series D preferred stock - - 2,539 253,875 Interest paid in Series D preferred stock - - 48 4,795 Exercise of common stock options at $.53 per share 2,000 20 - - Net loss - - - - ------------- -------- ------ --------- Balance at December 31, 1995 5,832,925 58,330 49,187 4,764,745
DEFICIT ACCUMULATED DURING RECEIVABLES FROM ADDITIONAL DEVELOPMENT TOTAL STOCKHOLDERS' PAID-IN CAPITAL STAGE STOCK EQUITY -------------------------------------------------------- Issuance of common stock at $.01 per share for cash $ - $ - $ - $ 4,000 Issuance of common stock at $.62 per share for cash and receivables 681,838 - - 693,000 Receivables from sale of common stock - - (86,000) (86,000) Net loss - (322,702) - (322,702) ----------- ----------- --------- ----------- Balance at December 31, 1988 681,838 (322,702) (86,000) 288,298 Repayment of receivables from sale of common stock - - 86,000 86,000 Issuance of common stock at $.62 per share 219,358 - - 222,952 Net loss - (925,080) - (925,080) ----------- ----------- --------- ----------- Balance at December 31, 1989 901,196 (1,247,782) - (327,830) Exercise of common stock options at $.01 per share for cash - - - 600 Issuance of common stock at $.68 per share for cash and compensation 3,350 - - 3,400 Common stock repurchased at $.01 per share for cash - - - (250) Common stock issued at $.68 per share for cash and compensation 16,750 - - 17,000 Net loss - (1,501,171) - (1,501,171) ----------- ----------- --------- ----------- Balance at December 31, 1990 921,296 (2,748,953) - (1,808,251) Exercise of common stock options at $.68 per share for cash 3,350 - - 3,400 Exercise of warrants for common stock 295,493 - - 300,330 Conversion of notes payable to common stock 508,414 - - 511,805 Conversion of notes payable to preferred stock 553,869 - - 556,652 Issuance of preferred stock at $2.00 per share for cash, net of issuance costs 703,475 - - 707,475 Issuance of warrants for cash 3,000 - - 3,000 Issuance of warrants in connection with convertible notes payable 28,000 - - 28,000 Net loss - (1,143,119) - (1,143,119) ----------- ----------- --------- ----------- Balance at December 31, 1991 3,016,897 (3,892,072) - (840,708) Initial public offering at $6.50 per unit, net of issuance costs 8,911,024 - - 8,927,700 Conversion of Series B preferred stock into common stock in connection with initial public offering - - - - Conversion of Series A preferred stock into common stock at 1.13342 per share 1,717,065 - - 1,724,202 Net loss - (3,481,659) - (3,481,659) ----------- ----------- --------- ----------- Balance at December 31, 1992 13,644,986 (7,373,731) - 6,329,535 Exercise of common stock options at $.68 per share 2,010 - - 2,040 Net loss - (3,245,436) - (3,245,436) ----------- ----------- --------- ----------- Balance at December 31, 1993 13,646,996 (10,619,167) - 3,086,139 Issuance of preferred stock at $100 per share for cash, net of issuance costs - - - 2,073,925 Net loss - (3,245,359) - (3,245,359) ----------- ----------- --------- ----------- Balance at December 31, 1994 13,646,996 (13,864,526) - 1,914,705 Issuance of preferred stock at $100 per share for cash and cancellation of bridge loan, net of issuance costs - - - 2,432,150 Series C dividends paid in Series D preferred stock - (253,875) - - Interest paid in Series D preferred stock - - - 4,795 Exercise of common stock options at $.53 per share 1,040 - - 1,060 Net loss - (2,224,404) - (2,224,404) ----------- ----------- --------- ----------- Balance at December 31, 1995 13,648,036 16,342,805) - 2,128,306
See accompanying notes. F-5
PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) STATEMENTS OF STOCKHOLDERS' EQUITY FOR THE PERIOD JULY 6, 1988 (INCEPTION) TO DECEMBER 31, 1998 COMMON STOCK PREFERRED STOCK -------------------------------------------------- SHARES AMOUNT SHARES AMOUNT -------------------------------------------------- Exercise of common stock warrants at $1.25 per share 932,960 $ 9,330 - $ - Exercise of common stock warrants at $2.50 per share, net of issuance costs 322,663 3,226 - - Exercise of common stock warrants at $1.00 per share 25,000 250 - - Exercise of common stock options 136,000 1,360 - - Stock repurchases (16,320) (163) - - Net loss - - - - ---------- -------- ------- ----------- Balance at December 31, 1996 7,233,228 72,333 49,187 4,764,745 Issuance of common stock at $2.50 per share, net of issuance costs 1,904,000 19,040 - - Exercise of common stock options 28,000 280 - - Issuance of common stock under stock purchase plan 15,036 151 - - Conversion of Series D preferred stock into common stock 1,032,537 10,325 (20,973) (2,097,342) Series D dividends paid in common stock 207,921 2,079 - - Net loss - - - - ---------- -------- ------- ----------- Balance at December 31, 1997 10,420,722 $104,208 28,214 $ 2,667,403 Issuance of common stock under stock purchase plan 36,715 368 - - Exercise of common stock options 12,000 120 - - Issuance of common stock at $1.60 per share, net of issuance costs 23,439 234 - - Issuance of Series E preferred stock, net of issuance costs - - 54,438 5,277,813 Grant of stock to finder 64,000 640 - - Conversion of Series D and E preferred stock into common stock 270,364 2,704 (3,450) (344,990) Net Loss - - - - ---------- -------- ------- ----------- Balance at December 31, 1998 10,827,240 $108,274 79,202 $ 7,600,226 ========== ======== ======= ===========
DEFICIT ACCUMULATED DURING RECEIVABLES FROM ADDITIONAL DEVELOPMENT TOTAL STOCKHOLDERS' PAID-IN CAPITAL STAGE STOCK EQUITY ------------------------------------------------------- Exercise of common stock warrants at $1.25 per share $ 1,156,870 $ - $ - $ 1,166,200 Exercise of common stock warrants at $2.50 per share, net of issuance costs 779,413 - - 782,639 Exercise of common stock warrants at $1.00 per share 24,750 - - 25,000 Exercise of common stock options 91,650 - - 93,010 Stock repurchases (81,437) - - (81,600) Net loss - (2,864,432) - (2,864,432) ----------- ------------ --------- ----------- Balance at December 31, 1996 15,619,282 (19,207,237) - 1,249,123 Issuance of common stock at $2.50 per share, net of issuance costs 4,601,322 - - 4,620,362 Exercise of common stock options 20,200 - - 20,480 Issuance of common stock under stock purchase plan 29,950 - - 30,101 Conversion of Series D preferred stock into common stock 2,087,017 - - - Series D dividends paid in common stock 420,262 (422,341) - - Net loss - (4,453,933) - (4,453,933) ----------- ------------ --------- ----------- Balance at December 31, 1997 $22,778,033 $(24,083,511) $ - $ 1,466,133 Issuance of common stock under stock purchase plan 38,010 - - 38,378 Exercise of common stock options 7,920 - - 8,040 Issuance of common stock at $1.60 per share, net of issuance costs 37,266 - - 37,500 Issuance of Series E preferred stock, net of issuance costs 3,266,250 (3,266,250) - 5,277,813 Grant of stock to finder 79,360 - - 80,000 Conversion of Series D and E preferred stock into common stock 342,286 - - - Net Loss - (5,638,203) - (5,638,203) ----------- ------------ --------- ----------- Balance at December 31, 1998 $26,549,125 $(32,987,964) $ - $ 1,269,661 =========== ============ ========= ===========
See accompanying notes. F-6 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) STATEMENTS OF CASH FLOWS
FOR THE PERIOD JULY 6, 1988 (INCEPTION) TO YEARS ENDED DECEMBER 31, DECEMBER 31, 1998 1997 1996 1998 ------------------------------------------------------------------------ OPERATING ACTIVITIES Net loss $(5,638,203) $(4,453,933) $(2,864,432) $(29,045,498) Adjustments to reconcile net loss to net cash used for operating activities: Stock issued for compensation 80,000 - - 100,100 Stock issued for interest - - - 4,795 Depreciation and amortization 368,577 184,300 117,203 1,628,296 Write-off of purchased technology - - - 503,500 Changes in assets and liabilities: Deposits 440 (14,360) - (36,177) Notes receivable from officers 12,000 (153,000) - (141,000) Other current assets 22,409 (11,613) 25,556 (66,459) Accounts payable 91,819 172,273 93,350 515,413 Accrued employee benefits 16,018 34,219 16,328 167,849 Other accrued expenses (19,577) (12,374) 1,927 21,574 Deferred revenue - (75,000) 75,000 - Deferred rent 60,668 - - 60,668 ----------- ----------- ----------- ------------ Net cash used for operating activities (5,005,849) (4,329,488) (2,535,068) (26,286,939) INVESTING ACTIVITIES Purchase of technology - - - (570,000) Purchase of equipment and improvements (197,460) (295,778) (183,722) (1,784,714) Purchases of short-term investments - (4,226,729) (1,943,042) (16,161,667) Sales of short-term investments 974,817 4,244,954 2,490,000 16,161,667 ----------- ----------- ----------- ------------ Net cash provided by (used for) investing activities 777,357 (277,553) 363,236 (2,354,714) FINANCING ACTIVITIES Net proceeds from issuance of warrants and sale of common stock 83,918 4,670,943 1,985,249 16,597,912 Net proceeds from issuance of preferred stock 5,277,813 - - 12,215,565 Net proceeds from convertible notes and detachable warrants - - - 1,068,457 Payments on capital lease obligations (75,112) (23,594) - (98,706) Payment on note payable - - - (92,750) Proceeds from note payable - - - 334,323 Deferred offering costs - 17,356 (17,356) - ----------- ----------- ----------- ------------ Net cash provided by financing activities 5,286,619 4,664,705 1,967,893 30,024,801 Net increase (decrease) in cash and cash equivalents 1,058,127 57,664 (203,939) 1,383,148 Cash and cash equivalents at beginning of the period 325,021 267,357 471,296 - ----------- ----------- ----------- ------------ Cash and cash equivalents at end of the period $ 1,383,148 $ 325,021 $ 267,357 $ 1,383,148 =========== =========== =========== ============
F-7 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) STATEMENTS OF CASH FLOWS
JULY 6, 1988 (INCEPTION) TO YEARS ENDED DECEMBER 31, DECEMBER 31, 1998 1997 1996 1998 --------------------------------------------------------------------------- SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Equipment purchased by capital leases $ - $ 288,722 $ - $ 288,772 Interest paid 26,692 7,763 - 97,928 Imputed dividend on Series E Stock 3,266,250 - - 3,266,250 Conversion of Series D preferred stock to common stock 44,990 2,097,342 - 2,142,332 Conversion of Series E preferred stock to common stock 300,000 - - 300,000 Series D stock issued for Series C Stock - - 2,073,925 2,073,925 Series C dividends paid with Series D stock - - 253,875 253,875 Series D dividends paid with common stock $ - $ 422,341 $ - $ 422,341 =========== ========== ========== ==========
See accompanying notes. F-8 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS December 31, 1998 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION AND BUSINESS ACTIVITIES Protein Polymer Technologies, Inc. (the "Company") was established to design, produce and market genetically engineered protein polymers for a variety of biomedical and specialty materials applications. The Company was incorporated in Delaware on July 6, 1988. For the period from its inception to date, the Company has been a development stage enterprise, and accordingly, the Company's operations have been directed primarily toward developing business strategies, raising capital, research and development activities, exploring marketing channels and recruiting personnel. LIQUIDITY As of December 31, 1998, the Company had cash, cash equivalents and short-term investments totaling $1,380,000 as compared to $1,300,000 at December 31, 1997. As of December 31, 1998, the Company had working capital of $600,000, compared to $697,000 at December 31, 1997. In April and May of 1998, the Company raised approximately $5,400,000, net of expenses, from the private placement of the Company's Series E Convertible Preferred Stock. The Company believes its available cash, cash equivalents and short-term investments would be sufficient to meet its anticipated capital requirements through April 1999, which raises substantial doubt about its ability to continue as a going concern. Substantial additional capital resources will be required to fund continuing operations related to the Company's research, development, manufacturing and business development activities. The Company believes there may be a number of alternatives available to meet the continuing capital requirements of its operations, such as collaborative agreements and public or private financings. During 1999, the Company expects that the possible exercise of existing warrants could result in additional funds for continuing operations. Further, the Company is currently in preliminary discussions with a number of potential collaborative partners and, based on the results of various materials evaluations, revenues in the form of license fees, milestone payments or research and development reimbursements could be generated. There can be no assurance that any of these fundings will be consummated in the necessary time frames needed for continuing operations or on terms favorable to the Company. If adequate funds are not available, the Company will be required to significantly curtail its operating plans and may have to sell or license out significant portions of the Company's technology or potential products. F-9 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS Short-term investments consist primarily of commercial paper, notes and short- term U.S. Government securities with original maturities beyond three months and are stated at estimated fair value. Similar items with original maturities of three months or less are considered cash equivalents. The Company has established guidelines relative to diversification and maturities that maintain safety and liquidity. The Company has not experienced any losses on its short- term investments. EQUIPMENT AND LEASEHOLD IMPROVEMENTS Equipment and leasehold improvements are stated at cost, less accumulated depreciation and amortization. Equipment is depreciated over the estimated useful life of the asset, typically one to seven years, using the straight-line method. Leasehold improvements are amortized over the shorter of the lease term or life of the asset. Equipment and leasehold improvements consist of the following: DECEMBER 31, 1998 1997 ----------------------------- Laboratory equipment $ 1,600,723 $ 1,459,476 Office equipment 175,128 171,490 Leasehold improvements 297,635 245,060 ----------------------------- 2,073,486 1,876,026 Less accumulated depreciation and amortization (1,475,039) (1,106,4632) ----------------------------- $ 598,447 $ 769,564 ============================= RESEARCH AND DEVELOPMENT REVENUES AND EXPENSES Research and development contract revenues are recorded as earned based on the performance requirements of the contracts. If the research and development activities are not successful, the Company is not obligated to refund payments previously received. Milestone and license payments are recorded as revenue when received as they have not been refundable and the Company has no future performance obligations. Payments received in advance of amounts earned are recorded as deferred revenue. Research and development costs are expensed as incurred. PRODUCT REVENUE RECOGNITION Sales are recognized upon shipment of products to customers. F-10 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) ACCOUNTING STANDARD ON IMPAIRMENT OF LONG-LIVED ASSETS In accordance with Statement of Financial Accounting Standards ("SFAS") No. 121, Accounting for Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of, the Company regularly evaluates its long-lived assets for indicators of possible impairment. To date, no such indicators have been identified. STOCK OPTIONS As permitted by SFAS No. 123, Accounting for Stock-Based Compensation, the Company has elected to follow Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, ("APB 25") and related Interpretations in accounting for its employee stock options. Under APB 25, if the exercise price of the Company's employee stock options equals or exceeds the deemed fair value of the underlying stock on the date of grant, no compensation expense is recognized. Options issued to non-employees are recorded at their fair value and recognized over the related service period. The effects of using the fair value accounting method, as described in SFAS Statement No. 123 are described below in Note 2. NET LOSS PER COMMON SHARE The Company reports its earnings per share in accordance with SFAS No. 128, Earnings per Share, which requires the presentation of both basic and diluted earnings per share on the statements of operations. Basic earnings per share is calculated based upon weighted-average number of outstanding common shares for the period. Diluted earnings per share is calculated based upon weighted-average number of outstanding common shares, plus the effect of dilutive stock options. The net loss per common share for the years ended December 31, 1998, 1997 and 1996 is based on the weighted average number of shares of common stock outstanding during the periods. Potentially dilutive securities include options, warrants and convertible preferred stock; however, such securities have not been included in the calculation of the net loss per common share as their effect is antidilutive. Since this is the case, there is no difference between the basic and dilutive net loss per common share for any of the periods presented and none of the prior periods were required to be restated. For purposes of this calculation, net loss in 1998, 1997 and 1996 has been adjusted for accumulated and/or paid dividends on the Preferred Stock. F-11 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) NEW ACCOUNTING STANDARDS SFAS No. 130, Reporting Comprehensive Income, was issued in June 1997. This standard requires that the Company disclose, either in the income statement or in a separate financial statement, net income as currently reported and other components of comprehensive income. Comprehensive income is defined as the change in shareholders' equity during a period resulting from transactions and other events and circumstances from non-owner sources. The Company adopted this standard during 1998. For the years ended December 31, 1998, 1997 and 1996 the Company did not have any components of comprehensive income as defined in SFAS No. 130. SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information, was issued in June 1997. This standard defines segments of an enterprise as the components of the company whose operations are reviewed regularly by the chief operating decision-maker in deciding how to allocate resources and in assessing performance. It requires disclosures about products and services, geographic areas and major customers. The Company adopted this standard during 1998. Implementation of this standard did not affect the Company's financial position or results of operations. USE 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, the disclosure of contingent assets and liabilities at the date of the financial statements and the amount of revenue and expense reported during the period. Actual results could differ from those estimates. The financial statements contained herein do not include any reserves or adjustments that may result from the Company's going concern risk. 2. STOCKHOLDERS' EQUITY CONVERTIBLE PREFERRED STOCK In April and May of 1998, the Company raised approximately $5.4 million from the sale of 54,437.5 shares of the Company's Series E Convertible Preferred Stock ("Series E Stock") priced at $100 per share, with warrants to purchase an aggregate of 3,266,250 shares of common stock to a small group of institutional and accredited investors. In connection with this transaction, the Company recorded a non-cash "imputed dividend" expense of $3,266,250 in order to account for the difference between the fair market value of the stock and the beneficial conversion feature. F-12 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 2. STOCKHOLDERS' EQUITY (CONTINUED) Each share of Series E Stock is convertible at any time at the election of the holder into 80 shares of common stock at a conversion price of $1.25 per share, subject to certain antidilution adjustments. No underwriters were engaged by the Company in connection with such issuance and, accordingly, no underwriting discounts were paid. The offering is exempt from registration under Section 4(2) of the Securities Act of 1933, as amended (the "Securities Act"), and met the requirements of Rule 506 of Regulation D promulgated under the Securities Act. The Company registered the shares of common stock underlying the Series E Stock and the warrants with the Securities and Exchange. This registration became effective on October 3, 1998. As of December 31, 1998, 3,000 shares of Series E Stock had been converted into 240,000 shares of the Company's common stock. Each share of Series E Stock received two common stock warrants. One warrant is exercisable at any time for 40 shares of common stock at an exercise price of $2.50 per share, and expires approximately 18 months after the close of the offering; the other warrant is exercisable at any time for 20 shares of common stock at an exercise price of $5.00 per share, and expires approximately 36 months after the close of the offering. In addition, an 18 month warrant to acquire 200,000 common shares exercisable at $2.50 per share and a 36 month warrant to acquire 100,000 common shares exercisable at $5.00 per share has been issued as a finder and document review fee paid to a lead investor. An 18 month warrant to acquire 32,000 common shares exercisable at $2.50 per share, a 24 month warrant to acquire 16,000 common shares exercisable at $5.00 per share, and 5 year warrants to acquire an aggregate of 25,200 common shares exercisable at $2.50 per share were issued to certain persons for service as finders in relation to the private placement. In connection with the above private placement, the Company issued 26,420 shares of its Series F Convertible Preferred Stock ("Series F Stock") in exchange for the same number of shares of outstanding Series D Convertible Preferred Stock ("Series D Stock"). Each share of Series D and F Stock earns a cumulative dividend at the annual rate of $10 per share, payable if and when declared by the Company's Board of Directors, in the form of cash, common stock or any combination thereof. The Series D and F Stock is convertible into common stock after two years from the date of issuance at the holder's option. The conversion price at the time of conversion is the lesser of $3.75 or the market price. The Series D and F Stock is redeemable at the Company's option after four years from the date of issuance. Automatic conversion of all of the Series D and F Stock will occur if: (a) the Company completes a public offering of common stock at a price of $2.50 or higher; or (b) the holders of a majority thereof elect to convert. The Company has the option to demand conversion of the Series D and F Stock if the average market price of its common F-13 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 2. STOCKHOLDERS' EQUITY (CONTINUED) stock equals or exceeds $5.00 per share over a period of twenty business days. The Series D Stock has a liquidation preference of $100 per share plus accumulated dividends. The Series E Stock is convertible, at the option of the holder, into shares of the Company's common stock, subject to anti-dilution adjustments, and has a preference in liquidation of $100 per share, but only after any preference is paid or declared set apart for the Series D Stock. The Company's Series F Stock is equivalent to the Company's Series E Stock with regard to liquidation preferences. All other terms of the Series F Stock remain the same as the Company's Series D Stock. Holders of the Series E Stock are entitled to receive dividends when and if declared by the Board of Directors; however, no such dividends will be declared or paid on the Series E Stock until the preferential cumulative dividends on the Series D and F Stock have been fully paid or declared and set apart. Automatic conversion of all Series E Stock will occur if: (a) the Company completes a public offering of common stock at a price of $7.50 or higher; or (b) the holders of more than 75% of outstanding Series E Stock elect to convert. Series D, E and F Convertible Preferred Stock has been designated as non-voting stock. STOCK OPTION PLANS In September 1996 the Company established the Protein Polymer Technologies, Inc., Employee Stock Purchase Plan ("Plan"). The Plan commenced January 2, 1997, and allows for offering periods of up to two years with quarterly purchase dates occurring the last business day of each quarter. The purchase price per share is generally calculated at 85% of the lower of the fair market value on an eligible employee's entry date or the quarterly purchase date. The maximum number of shares available for issuance under the Plan is 500,000; an eligible employee may purchase up to 5,000 shares per quarter. The Plan Administrator consists of a committee of at least two non-employee directors of the Company. The Board may modify the Plan at any time. During 1998, a total of 36,715 shares were purchased under the Plan at prices ranging from $0.79 to $1.06. The value of shares issued under the Plan as calculated in accordance with Statement 123 is not significant and is not included in the following pro forma information. In June 1996, the Company adopted the 1996 Non-Employee Directors Stock Option Plan ("1996 Plan"), which provides for the granting of nonqualified options to purchase up to 250,000 shares of common stock to directors of the Company. Such grants of options to purchase 5,000 shares of common stock are awarded automatically on the first business day of June during each calendar year to every Participating Director then in office, subject to certain adjustments. No Participating Director is eligible to receive more than one grant per F-14 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 2. STOCKHOLDERS' EQUITY (CONTINUED) year. The purchase price of each option is set at the fair market value of the common stock on the date of grant. Each option has a duration of ten years, and is exercisable six months after the grant date. The Board (or a designated committee of the Board) administers the 1996 Plan. At December 31, 1998, 110,000 options to purchase have been granted under the 1996 Plan. The Company adopted the 1992 Stock Option Plan which provides for the issuance of incentive and non-statutory stock options for the purchase of up to 1,500,000 shares of common stock to its key employees and certain other individuals. The options will expire ten years from their respective dates of grant. Options become exercisable ratably over periods of up to five years from the dates of grant. At December 31, 1998, options to purchase 401,600 shares of common stock were exercisable, and 566,400 shares were available for future grant. The Company adopted the 1989 Stock Option Plan which provides for the issuance of incentive and non-statutory stock options for the purchase of up to 500,000 shares of common stock to key employees and certain other individuals. As the options have a ten year life and were to expire in March 1999, the Board of Directors approved an action to cancel existing valid options granted prior to 1991 in return for a reissuance of fully vested ten year options at the closing price on the date of approval, November 23, 1998. Options become exercisable ratably over periods of up to five years from the date of grant. At December 31, 1998, options for 368,500 shares were exercisable, and 125,000 shares were available for future grant. Since inception, the Company has granted non-qualified options outside the option plans to employees, directors and consultants of the Company. At December 31, 1998, options for 213,500 shares were exercisable. F-15 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 2. STOCKHOLDERS' EQUITY (CONTINUED) The following table summarizes the Company's stock option activity:
Years ended December 31, ----------------------------------------------------------------------------- 1998 1997 1996 -------------------------- ------------------------ ------------------------ Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Options Price Options Price Options Price --------- ---------- ----------- ---------- ----------- --------- Outstanding - beginning of year 1,540,600 $1.52 1,393,600 $1.38 1,064,600 $0.90 Granted 568,000 $0.99 190,000 $2.34 465,000 $2.27 Exercised (12,000) ($0.67) (28,000) ($0.73) (136,000) ($0.68) Forfeited/Expired (331,600) ($0.83) (15,000) ($0.60) - - Outstanding - end of year 1,765,000 $1.51 1,540,600 $1.52 1,393,600 $1.38 ========= ====== ========= ===== ========= ===== Exercisable - end of year 1,093,600 $1.36 916,600 $1.56 732,100 $1.08 ========= ====== ========= ===== ========= =====
The exercise prices for options outstanding as of December 31, 1998 range from $0.53 to $3.75. The weighted average remaining contractual life of these options is approximately 7.32 years. STATEMENT 123 PRO FORMA INFORMATION Pro forma information regarding net loss is required by SFAS No. 123, and has been determined as if the Company had accounted for its employee stock options under the fair value method prescribed by SFAS No. 123, using the Black-Scholes option pricing model. The fair value was estimated using the following weighted- average assumptions: a risk free interest rate of 6.00% for 1998, 6.43% for 1997 and 6.22% for 1996; a volatility factor of the expected market price of the Company's common stock of .89% for 1998, 102% for 1997 and 110% for 1996; expected option lives of 10 years for 1998, 5 years for 1997, 8 years for 1996; and no dividend yields for all years. The Black-Scholes option valuation model was originally developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in F-16 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 2. STOCKHOLDERS' EQUITY (CONTINUED) management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the expected life of the options. The Company's pro forma information is as follows: 1998 1997 1996 ------------- ------------ ------------ Net loss as reported $(9,182,526) $(4,886,615) $(3,356,299) Net loss per share as reported (0.88) (0.52) (0.51) Net loss pro forma (9,877,344) (5,188,511) (3,492,030) Net loss per share pro forma (.94) (0.55) (0.53) Weighted average fair value per share of options granted during the year $ 0.87 $ 1.77 $ 2.06 The pro forma effect on net loss for 1998, 1997 and 1996 is not representative of the pro forma effect on net loss in future years because it does not take into consideration pro forma compensation expense from option grants made prior to 1995. COMMON STOCK WARRANTS As a result of the Company's initial public offering, unit holders were granted redeemable warrants ("Public Warrants") for 1,667,500 shares of common stock, which are exercisable at $8.00 per share, and are redeemable at the option of the Company at a redemption price of $.10 at any time after January 21, 1993, based on the price of the common stock and other requirements. In November 1996, the Company extended the expiration date of the Public Warrants to January 21, 1998. In December 1997, the Company extended the expiration date of the Public Warrants to March 27, 1998. In March 1998, the Company extended the expiration date of the Public Warrants to March 31, 1999. 3. STOCKHOLDER PROTECTION AGREEMENT In 1997, the Board of Directors of the Company adopted a Stockholder Protection Agreement ("Rights Plan") that distributes Rights to stockholders of record as of September 10, 1997. The Rights Plan contains provisions to protect stockholders in the event of an unsolicited attempt to acquire the Company. The Rights trade together with the common stock, and generally become exercisable ten business days after a person or group acquires or announces the intention to acquire 15% or more of the outstanding shares of Company common stock, with certain permitted exceptions. The Rights then generally allow the holder to acquire additional shares of Company capital stock at a discounted price. The F-17 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 3. STOCKHOLDER PROTECTION AGREEMENT (CONTINUED) issuance of the Rights is not a taxable event, does not affect the Company's reported earnings per share, and does not change the manner in which the Company's common stock is traded. 4. COMMITMENTS The Company leases its office and research facilities totaling 21,000 square feet under an operating lease, which expires in May 2005. The facilities lease is subject to an annual escalation provision based upon the Consumer Price Index. The lease provides for deferred rent payments; however, for financial purposes rent expense is recorded on a straight-line basis over the term of the lease. Accordingly, deferred rent in the accompanying balance sheet represents the difference between rent expense accrued and amounts paid under the lease agreement. Annual future minimum operating and capital lease payments are as follows:
Obligations Operating Under Year ending December 31, Leases Capital Leases ------------------------ ------------ -------------- 1999 $ 439,225 $101,803 2000 451,841 87,228 2001 460,933 25,651 2002 461,782 - 2003 473,200 - Thereafter 651,460 - ---------- -------- Total minimum operating and capital lease payments $2,938,441 214,682 ========== Less amount representing interest (24,616) -------- Present value of remaining minimum capital lease payments 190,066 Less amount due in one year (84,518) Long-term portion of obligations under -------- capital leases $105,548 ========
Cost and accumulated depreciation of equipment held under capital leases as of December 31, 1998 was $279,497 and $89,776, respectively. The carrying amount of the Company's obligations under its capital lease agreements approximate their fair value and the implicit interest rate approximates the Company's borrowing rate. F-18 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 4. COMMITMENTS (CONTINUED) Rent expense was approximately $442,633, $412,000, $306,000 and $3,220,633 for the years ended December 31, 1998, 1997 and 1996 and for the period July 6, 1988 (inception) through December 31, 1998, respectively. 5. RESEARCH AND DEVELOPMENT CONTRACTS AND ROYALTIES Under an agreement completed in October 1991 with Telios Pharmaceuticals, Inc., ("Telios"), now a wholly-owned subsidiary of Integra Life Sciences Corp., Telios granted the Company a worldwide, exclusive sublicense to use Telios patent rights to develop and sell protein polymers containing the RGD amino acid sequence in two or more polymer segments for the purpose of in vitro cell culture. In exchange for this sublicense, the Company has agreed to pay Telios royalties on net revenues derived by the Company from its sales of RGD containing polymers at a rate equal to 5% of net revenues, until such net revenues reach $500,000, and 3.5% of net revenues in excess of $500,000. There is a required minimum royalty payment by the Company of $25,000 per year. 6. INCOME TAXES At December 31, 1998, the Company had net operating loss carryforwards of approximately $26,685,000 for federal income tax purposes, which may be applied against future income, if any, and will begin expiring in 2004 unless previously utilized. In addition, the Company had California net operating loss carryforwards of approximately $9,729,000. The California tax loss carryforwards continue to expire ($776,000 expired in 1998). The difference between the tax loss carryforwards for federal and California purposes is attributable to the capitalization of research and development expenses for California tax purposes, the required 50% limitation in the utilization of California loss carryforwards, and the expiration of certain California tax loss carryforwards. The Company also has federal and California research and development tax credit carryforwards of approximately $861,000 and $401,000, respectively, which will begin expiring in 2004 unless previously utilized. As a result of an ownership change that occurred in January 1992, approximately $2,700,000 of the Company's federal net operating loss carryforwards will be subject to an annual limitation regarding utilization against taxable income in future periods. However, the Company believes that such limitations will not have a material impact upon the utilization of the carryforwards. F-19 PROTEIN POLYMER TECHNOLOGIES, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO FINANCIAL STATEMENTS (CONTINUED) 6. INCOME TAXES (CONTINUED) Significant components of the Company's deferred tax assets as of December 31, 1998 are shown below. A valuation allowance of $11,749,000 has been recognized to offset the deferred tax assets as realization of such assets is uncertain. 1998 1997 ----------- ----------- Deferred tax assets: Net operating loss carryforwards $ 9,899,000 $ 7,922,000 Research and development credits 1,122,000 827,000 Other, net 728,000 530,000 ----------- ----------- Total deferred tax assets 11,749,000 9,279,000 Valuation allowance for deferred tax assets (11,749,000) (9,279,000) ----------- ----------- Net deferred tax assets $ - $ - =========== =========== 7. EMPLOYEE BENEFITS PLAN On January 1, 1993, the Company established a 401(k) Savings Plan for substantially all employees who meet certain service and age requirements. Participants may elect to defer up to 20% of their compensation per year, subject to legislated annual limits. Each year the Company may provide a discretionary matching contribution. As of December 31, 1998, the Company had not made a contribution to the Savings Plan. F-20 ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III Items 9, 10, 11 and 12 are incorporated by reference from the Company's definitive Proxy Statement to be filed by the Company with the Commission no later than April 30, 1999. ITEM 13. EXHIBITS, FINANCIAL STATEMENTS AND REPORTS ON FORM 8-K (a)(1) and (2) Financial Statements and Schedules The Financial Statements are incorporated herein as a part of Item 7. (a)(3) Exhibits The following documents are included or incorporated by reference: Exhibit Number Description ------ ----------- 3.1 (6) Certificate of Incorporation of the Company, as amended. 3.1.1 Certificate of Designation of Series E Convertible Preferred Stock. 3.1.2 Certificate of Designation of Series F Convertible Preferred Stock. 3.2 (6) Bylaws of the Company, as amended. 4.1 (4) Warrant Agreement, dated January 21, 1992, between the Company and Continental Stock Transfer and Trust Company. 4.2 (1) Revised Form of Redeemable Warrant. 10.1 (2) Lease, with exhibits, dated October 16, 1991, between the Company and Sycamore/San Diego Investors, together with an amendment thereto dated April 21, 1992. 10.2 (3) Amendment to lease, between the Company and Sycamore/San Diego Investors, dated June 22, 1992. 10.3 (1) Sublicense Agreement for RGD-Containing Engineered Protein Polymers, with exhibit attached, dated October 1, 1991, between the Company and Telios Pharmaceuticals, Inc. 10.4 (1) 1989 Stock Option Plan, together with forms of Incentive Stock Option Agreement and Nonstatutory Option Agreement. 23 10.5 (4) 1992 Stock Option Plan of the Company, together with forms of Incentive Stock Option Agreement and Nonstatutory Option Agreement. 10.6 (1) Form of Employee's Proprietary Information and Inventions Agreement. 10.7 (1) Form of Consulting Agreement. 10.8 (1) Form of Indemnification Agreement. 10.9 (4) License Agreement, dated as of April 15, 1992, between the Board of Trustees of the Leland Stanford Junior University and the Company. 10.10 (5) Replacement ProNectin F License Agreement between Cellco, Inc. and the Company, dated February 15, 1995. 10.11 (6) License and Development Agreement between the Company and Ethicon, Inc., dated September 14, 1995. 10.12 (6) Supply Agreement between the Company and Ethicon, Inc., dated September 14, 1995. 10.13 (6) Escrow Agreement between Protein Polymer Technologies, Inc. and Ethicon, Inc., dated September 14, 1995. 10.14 (6) Amended and Restated Registration Rights Agreement dated September 14, 1995, among the Company and the holders of its Series D Preferred Stock. 10.15 (6) Securities Purchase Agreement related to the sale of the Company's Series D Preferred Stock. 10.16 (6) Form of Warrant to Purchase Common Stock issued in connection with the Series D Preferred Stock. 10.17 (7) Letter Agreement dated as of October 4, 1996 between the Company and MBF I, LLC ("MBF") relating to the provision of consulting and advisory services. 10.18 (7) Form of Warrant with respect to a warrant for 50,000 shares issued to MBF, and to be used with respect to additional warrants which may be issued to MBF. 10.19 (7) Registration Rights Agreement dated as of October 4, 1996 between the Company and MBF. 10.20 (7) Letter Agreement dated December 9, 1996 between the Company and Ethicon, Inc. with respect to an extension of the License and Development Agreement between them dated September 14, 1995. 10.21 (7) Securities Purchase Agreement dated as of January 6, 1997 among the Company and the investors named therein relating to the sale and purchase of 1,904,000 shares of the Company's common stock. 24 10.22 (8) Lease, with exhibits, dated March 1, 1996 between the Company and Sycamore/San Diego Investors. 10.23 (8) Second Amendment to Lease between the Company and Sycamore/San Diego Investors, dated March 1, 1996. 10.24 (8) 1996 Non-Employee Directors' Stock Option Plan. 10.25 (8) Employment Agreement, dated as of November 1, 1996, between the Company and J. Thomas Parmeter. 10.26 (8) Employment Agreement, dated as of November 1, 1996, between the Company and John E. Flowers. 10.27 (8) Employment Agreement, dated as of November 1, 1996, between the Company and Joseph Cappello. 10.28 (8) Employment Agreement, dated as of November 1, 1996, between the Company and Franco A. Ferrari. 10.29 (8) Employment Agreement, dated as of November 1, 1996, between the Company and Erwin R. Stedronsky. 10.30 (9) Stockholder Protection Agreement, dated August 22, 1997, between the Company and Continental Stock Transfer & Trust Company as rights agent. 10.31 (10) Employee Stock Purchase Plan, together with Form of Stock Purchase Agreement. 10.32 (11) Lease, with rider and exhibits, dated April 13, 1998, between the Company and Sycamore/San Diego Investors 10.33 (12) First Amendment to Stockholder Protection Agreement dated April 24, 1998, between the Company and Continental Stock Transfer & Trust Company as rights agent. 10.34 Securities Purchase Agreement related to the sale of the Company's Series E Convertible Preferred Stock dated as of April 13, 1998 among the Company and Investors named therein related to the purchase of 54,437.50 shares of Series E Preferred Stock. 10.35 Form of First Warrants to purchase Common Stock related to the sale of the Company's Series E Preferred Stock. 10.36 Form of Second Warrants to purchase Common Stock related to the sale of the Company's Series E Preferred Stock. 10.37 Letter of Agreement dated April 13, 1998 between the Company and Johnson & Johnson Development Corporation for the exchange of up to 27,317 shares of Series D Preferred Stock for a like number of shares of Series F Preferred Stock. 23.1 Consent of Ernst & Young LLP, Independent Auditors. 27 Financial Data Schedule. 25 (1) Incorporated by reference to the Company's Registration Statement on Form S-1 (No. 33-43875) filed with the Commission on November 12, 1991, as amended by Amendments Nos. 1, 2, 3 and 4 thereto filed on November 25, 1991, December 23, 1991, January 17, 1992 and January 21, 1992, respectively. (2) Incorporated by reference to Registrant's Report on Form 10-Q for the quarter ended March 31, 1992, as filed with the Commission on May 14, 1992. (3) Incorporated by reference to Registrant's Report on Form 10-Q for the quarter ended September 30, 1992, as filed with the Commission on November 13, 1992. (4) Incorporated by reference to Registrant's Report on Form 10-K for the fiscal year ended December 31, 1992, as filed with the Commission on March 31, 1993. (5) Incorporated by reference to Registrant's Report on Form 10-KSB for the fiscal year ended December 31, 1994, as filed with the Commission on March 30, 1995. (6) Incorporated by reference to Registrant's Report on Form 10-Q for the quarter ended September 30, 1995, as filed with the Commission on October 24, 1995. (7) Incorporated by reference to Registrant's current Report on Form 8-K, as filed with the Commission on January 7, 1997. (8) Incorporated by reference to Registrant's Report on Form 10-KSB for the fiscal year ended December 31, 1996, as filed with the Commission on March 27, 1997. (9) Incorporated by reference to Registrant's Current Report on Form 8-K, as filed with the Commission on August 27, 1997. (10) Incorporated by reference to Registrant's Report on Form 10-KSB for the fiscal year ended December 31, 1997, as filed with the Commission on April 9, 1998. (11) Incorporated by reference to Registrant's Report on Form 10-Q for the quarter ended March 31, 1998, as filed with the Commission on May 14, 1998. (12) Incorporated by reference to Registrant's Report on Form 10-Q for the quarter ended June 30, 1998, as filed with the Commission on August 13, 1998. (b) Reports on Form 8-K. On October 13, 1998, Protein Polymer Technologies, Inc. filed a Current Report on Form8-K with the Commission. In Item 5 of the Report, the Company reported that it had been notified by the National Association of Securities Dealers ("NASD") that its public warrants (PPTIW), issued in conjunction with PPTI's 1992 public offering, no longer met Nasdaq's listing requirements due to a lack of market makers, and as a consequence, would no longer be listed on The Nasdaq Stock Market(R). 26 SIGNATURE In accordance with Section 13 or 15(d) of the Exchange Act, the registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. PROTEIN POLYMER TECHNOLOGIES, INC. February 26, 1999 By /s/ J. THOMAS PARMETER -------------------------------------- J. Thomas Parmeter Chairman of the Board, Chief Executive Officer, President In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Signature Capacity Date - --------- -------- ---- /s/ J. THOMAS PARMETER Chairman of the Board, Chief February 26, 1999 - ------------------------- Executive Officer, President J. Thomas Parmeter /s/ JANIS Y. NEVES Director of Finance, Controller, February 26, 1999 - ------------------------- and Assistant Secretary Janis Y. Neves /s/ PATRICIA J. CORNELL Director February 26, 1999 - ------------------------- Patricia J. Cornell /s/ EDWARD E. DAVID Director February 26, 1999 - ------------------------- Edward E. David /s/ PHILIP J. DAVIS Director February 26, 1999 - ------------------------- Philip J. Davis /s/ PATRICK A. GERSCHEL Director February 26, 1999 - ------------------------- Patrick A. Gerschel /s/ EDWARD J. HARTNETT Director February 26, 1999 - ------------------------- Edward J. Hartnett /s/ J. PAUL JONES Director February 26, 1999 - ------------------------- J. Paul Jones /s/ BRENT R. NICKLAS Director February 26, 1999 - ------------------------- Brent R. Nicklas /s/ GEORGE R. WALKER Director February 26, 1999 - ------------------------- George R. Walker 27 EX-3.1.1 2 CERT. OF DESIGNATION OF SERIES E CONVERTIBLE EXHIBIT 3.1.1 CERTIFICATE OF DESIGNATION -------------------------- OF -- SERIES E PREFERRED STOCK ------------------------ OF -- PROTEIN POLYMER TECHNOLOGIES, INC. ---------------------------------- (Pursuant to Section 151) The undersigned, J. Thomas Parmeter and Philip J. Davis, the President and Secretary, respectively, of PROTEIN POLYMER TECHNOLOGIES, INC., a ---------------------------------- corporation organized and existing under and by virtue of the General Corporation Law of the State of Delaware (the "Corporation"), do hereby certify, ----------- in the name of and on behalf of the Corporation, and as its corporate act, that in accordance with the Corporation's Bylaws, at a meeting of the Board of Directors of the Corporation held on March 27, 1998, the Board adopted the following preamble and resolution: Whereas the Certificate of Incorporation of the Corporation provides ------- for a class of shares of stock designated "Preferred Stock," issuable from time to time in one or more series, and vests in the Board of Directors of the Corporation the authority to fix the designations and the powers, preferences and rights, and the qualifications, limitations or restrictions thereof, and to fix the number of shares constituting any such series: NOW, THEREFORE, BE IT RESOLVED that there shall be a series of Preferred Stock of the -------- Corporation to be designated as follows and that the powers, preferences and relative, participating, optional or other rights of the shares of such series of Preferred Stock and the qualifications, limitations and restrictions thereof shall be as follows: Section 1. Designation. There is hereby provided a series of ----------- Preferred Stock designated the Series E Convertible Preferred Stock (the "Series ------ E Preferred Stock"). - ----------------- Section 2. Number. The number of shares constituting the Series E ------ Preferred Stock is fixed at fifty-five thousand (55,000) shares. Section 3. Definitions. For purposes of this Certificate of ----------- Designation the following definitions shall apply: "Board" shall mean the Board of Directors of the Company. ----- -1- "Commitment Date" shall mean the date immediately prior to the date of --------------- original issuance of the Series E Preferred Stock. "Company" shall mean this corporation. ------- "Common Stock" shall mean the Common Stock, par value $0.01, of ------------ the Company. "Common Stock Value" shall mean, as of any given date, (i) if the ------------------ Common Stock is traded on a national securities exchange, or is designated as a National Market System security on NASDAQ, the average of the closing prices thereof as reported on such exchange or NASDAQ-NMS, as the case may be, during the 20 consecutive trading days preceding the trading day immediately prior to such date, or, if no sale occurred on any such trading day, then the mean between the closing bid and asked prices on such exchange or NASDAQ-NMS on such trading day, (ii) if the Common Stock is actively traded over-the-counter (other than NASDAQ-NMS), the arithmetic average (for 20 consecutive trading days) of the mean between the low bid and high asked prices as of the close of business during the 20 consecutive trading days preceding the trading day immediately prior to such date, as reported by the National Association of Securities Dealers Automated Quotation system or other source, (iii) if the Common Stock is not traded on an exchange, NASDAQ-NMS, or actively traded over-the-counter, the fair market value thereof, shall be determined in good faith mutually by the Board, and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock, provided that if they are unable to reach agreement on any valuation matter, such valuation shall be submitted to and determined by a nationally recognized independent investment banking firm selected by the Board, the holders of a Majority of the Series F Preferred Stock and the holders of a 75% of the Preferred Stock (or, if such selection cannot be made, by a nationally recognized independent investment banking firm selected by the American Arbitration Association in accordance with its commercial arbitration rules). "Junior Stock" shall mean the Common Stock of the Company, ------------ whether presently outstanding or hereafter issued. "Majority of the Series F Preferred Stock" shall mean more than ---------------------------------------- 50% of the outstanding Series F Preferred Stock. "75% of the Series E Preferred Stock" shall mean at least 75% of ----------------------------------- the outstanding Series E Preferred Stock. "Series D Preferred Stock" shall mean the Company's Series D 10% ------------------------ Cumulative Convertible Preferred Stock. "Series F Preferred Stock" shall mean the Company's Series F 10% ------------------------ Cumulative Convertible Preferred Stock. "Subsidiary" shall mean any corporation a majority of the Voting Stock ---------- of which is, at the time as of which any determination is being made, owned by the Company either directly or through one or more Subsidiaries. -2- "Voting Stock" shall mean any shares having general voting power in ------------ electing the Board of Directors (irrespective of whether or not at the time stock of any other class or classes has or might have voting power by reason or the happening of any contingency). The Common Stock is Voting Stock and the Series D Preferred Stock, Series E Preferred Stock and Series F Preferred Stock is not Voting Stock. Section 4. Dividends. The holders of the then outstanding Series E --------- Preferred Stock shall be entitled to receive dividends (other than a dividend paid solely in Common Stock), when and as declared by the Board, out of any funds legally available therefor, provided, however, that no such dividends -------- ------- shall be declared or paid on the Series E Preferred Stock until the preferential cumulative dividends on the Series D Preferred Stock and the Series F Preferred Stock shall have been first fully paid or declared and set apart. If the Board shall elect to declare such dividends, such dividends shall be declared in equal amounts per share on all shares of Series D Preferred Stock, Series E Preferred Stock, Series F Preferred Stock and Common Stock, but with each share of Series D Preferred Stock, Series E Preferred Stock and Series F Preferred Stock being entitled to dividends based upon the number of shares of Common Stock into which such share of Series D Preferred Stock, Series E Preferred Stock or Series F Preferred Stock could be converted at the record date for the determination of shareholders entitled to receive such dividend or, if no such record date is established, on the date such dividend is declared. Section 5. Liquidation Rights of Series E Preferred Stock. ---------------------------------------------- (a) Preference. Subject to the conversion rights set forth in Section ---------- 9 hereof, in the event of any liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, the holders of the Series E Preferred Stock and Series F Preferred Stock then outstanding shall be entitled to be paid out of the assets of the Company available for distribution to its shareholders, whether such assets are capital, surplus or earnings, before any payment or declaration and setting apart for payment of any amount shall be made in respect of the Junior Stock, but only after any preference is paid or set apart for the Series D Preferred Stock, an amount equal to one hundred dollars ($100.00) per share of Series E Preferred Stock and an amount equal to one hundred dollars ($100.00) per share of Series F Preferred Stock, then after such preference is paid with respect to the Series E Preferred Stock and Series F Preferred Stock, in the case of the Series E Preferred Stock an amount equal to any declared and unpaid dividends thereon, and in the case of the Series F Preferred Stock an amount equal to any accrued and unpaid dividends whether or not declared, and no more. If upon any liquidation, dissolution, or winding up of the Company, whether voluntary or involuntary, after the distribution of any preference on the Series D Preferred Stock is paid or set apart, the assets to be distributed to the holders of the Series E Preferred Stock and Series F Preferred Stock shall be insufficient to permit the payment to such shareholders of the full preferential amounts aforesaid, then all of the remaining assets of the Company to be distributed shall be distributed among the holders of the Series E Preferred Stock and Series F Preferred Stock ratably in accordance with their respective liquidation preferences. (b) Remaining Assets. After the payment or distribution to the ---------------- holders of the Series D Preferred Stock, the Series E Preferred Stock and the Series F Preferred Stock of the full preferential amounts aforesaid, the holders of the Junior Stock -3- then outstanding shall be entitled to receive ratably all remaining assets of the Company to be distributed. Section 6. Merger, Consolidation. --------------------- (a) At any time, in the event of: (1) any consolidation or merger of the Company with or into any other corporation or other entity or person (other than a merger of a wholly owned subsidiary into the Company), or (2) a sale or other disposition of all or substantially all of the assets of the Company, then: (A) After the full payments, if any, required to be made to the holders of the Series D Preferred Stock shall have been made, holders of the Series E Preferred Stock and Series F Preferred Stock shall receive, for each share of such stock in cash or in securities (including, without limitation, debt securities) received from the acquiring corporation, or a combination thereof, at the closing of any such transaction, an amount equal to $100.00 (appropriately adjusted for subdivisions or combinations of the Series E Preferred Stock or Series F Preferred Stock), then after such preference is paid with respect to the Series E Preferred Stock and Series F Preferred Stock, an amount equal to all declared and unpaid dividends on each share of Series E Preferred Stock and an amount equal to all accrued and unpaid dividends on each share of Series F Preferred Stock (whether or not earned or declared, to and including the date full payment shall be tendered to such holders with respect to such transaction), and no more; provided, however, in ----------------- the event of any such transaction, if the amounts available to be distributed to the holders of the Series E Preferred Stock and Series F Preferred Stock shall be insufficient to permit the payment to such shareholders of the full amounts provided for in this Section 6(a)(2)(A), then the amounts to be so distributed shall be distributed ratably in accordance with their respective preferences; and (B) after the payment or distribution to the holders of the Series D Preferred Stock, the holders of the Series E Preferred Stock and to the holders of the Series F Preferred Stock of the full preferential amounts stated in Section 6(a)(2)(A) hereof, the remaining proceeds of such transaction shall be distributed ratably to the holders of Junior Stock then outstanding. (b) Any securities or other property to be delivered to the holders of the Series E Preferred Stock, Series F Preferred Stock or Common Stock pursuant to Section 6(a) hereof shall be valued as follows: (1) Securities not subject to investment letter or other similar restrictions on free marketability: (A) If traded on a securities exchange, the value shall be deemed to be the average of the closing prices of the securities on such exchange over the 30-day period ending three (3) days prior to the closing; -4- (B) If actively traded over-the-counter, the value shall be deemed to be the average of the closing bid prices over the 30-day period ending three (3) days prior to the closing; and (C) If there is no active public market, the value shall be the fair market value thereof, as mutually determined by the Company and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (2) The method of valuation of securities subject to investment letter or other restrictions on free marketability shall be to make appropriate discount from the market value determined as above in paragraph (1)(A), (B) or (C) to reflect the approximate fair market value thereof, as mutually determined by the Company and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (3) All other securities or other property shall be valued at the fair market value thereof, as mutually determined by the Company and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (4) If the holders of a Majority of the Series F Preferred Stock, 75% of the Series E Preferred Stock and the Company are unable to reach agreement on any valuation matter, such valuation shall be submitted to and determined by a nationally recognized independent investment banking firm selected by the Board, 75% of the Series E Preferred Stock and the holders of a Majority of the Series F Preferred Stock (or, if such selection cannot be made, by a nationally recognized independent investment banking firm selected by the American Arbitration Association in accordance with its rules). (c) In the event the requirements of Section 6(a) hereof are not complied with, the Company shall forthwith either: (1) Cause such closing to be postponed until such time as the requirements of this Section 6 have been complied with; or (2) Cancel such transaction, in which event the rights, preferences and privileges of the holders of the Series E Preferred Stock and Series F Preferred Stock shall revert to and be the same as such rights, preferences and privileges existing immediately prior to the date of the first notice referred to in Section 6(d) hereof. (d) The Company shall give each holder of record of Series E Preferred Stock and Series F Preferred Stock written notice of such impending transaction not later than thirty (30) days prior to the shareholders' meeting called to approve such transaction, or thirty (30) days prior to the closing of such transaction, whichever is earlier, and shall also notify such holders in writing of the final approval of such transaction. The first of such notices shall describe the material terms and conditions of the impending transaction and the provisions of this Section 6, and the Company shall thereafter give such holders prompt notice of any material changes. The transaction shall in no event take place sooner than thirty (30) days after the Company has given the first notice provided for herein or sooner than ten (10) days after the Company has given notice of any material changes provided for herein; provided, -------- -5- however, that such periods may be shortened upon the written consent of the - ------- holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (e) The provisions of this Section 6 are in addition to the protective provisions of Section 10 hereof. Section 7. Redemption. ---------- (a) Restriction on Redemption and Purchase. Except as expressly -------------------------------------- provided in this Section 7, the Company shall not have the right to purchase, call, redeem or otherwise acquire for value any or all of the Series E Preferred Stock. (b) Optional Redemption. Subject to the conversion rights set forth ------------------- in Section 9 hereof, the Company may, at any time, at its option, redeem all, but not less than all, of the Series E Preferred Stock at the Optional Redemption Price hereinafter specified; provided, however, that the Company -------- ------- shall not redeem Series E Preferred Stock or give notice of any redemption unless the Company has sufficient and lawful funds to redeem the outstanding Series E Preferred Stock to then be called for redemption. The date on which the Series E Preferred Stock is to be redeemed pursuant to this Section 7(b) is herein called the "Redemption Date." --------------- (c) Redemption Price. The Optional Redemption Price of the Series E ---------------- Preferred Stock (the "Optional Redemption Price") shall be an amount per share ------------------------- equal to $400.00 (appropriately adjusted for subdivision or combinations of the Series E Preferred Stock). The Redemption Price shall be paid in cash. (d) Redemption Notice. The Company shall, not less than thirty (30) ----------------- days nor more than sixty (60) days prior to the Redemption Date, give written notice ("Redemption Notice"), to each holder of record of Series E Preferred ----------------- Stock to be redeemed. The Redemption Notice shall state: (1) That all of the shares of Series E Preferred Stock are being redeemed; (2) The number of shares of Series E Preferred Stock held by the holder which the Company intends to redeem; (3) The Redemption Date and Redemption Price; (4) That the holder's right to convert the Series E Preferred Stock will terminate on the Redemption Date; and (5) The time, place and manner in which the holder is to surrender to the Company the certificate or certificates representing the shares of Series E Preferred Stock to be redeemed. (e) Payment of Redemption Price and Surrender of Stock. On the -------------------------------------------------- Redemption Date, the Redemption Price of the Series E Preferred Stock scheduled to be redeemed or called for redemption shall be payable to the holders of the Series E Preferred Stock. On or before the Redemption Date, each holder of Series E Preferred -6- Stock to be redeemed, unless the holder has exercised his right to convert the shares as provided in Section 9 hereof, shall surrender the certificate or certificates representing such shares to the Company, in the manner and at the place designated in the Redemption Notice, and thereupon the Redemption Price for such shares shall be payable to the order of the person whose name appears on such certificate or certificates as the owner thereof, and each surrendered certificate shall be canceled and retired. (f) Termination of Rights. If the Redemption Notice is duly given, --------------------- and if at least ten (10) days prior to the Redemption Date the Redemption Price is either paid or made available for payment through the arrangement specified in subsection (g) below, then notwithstanding that the certificates evidencing any of the shares of Series E Preferred Stock so called or scheduled for redemption have not been surrendered, all rights with respect to such shares shall forthwith after the Redemption Date cease and terminate, except only (i) the right of the holders to receive the Redemption Price without interest upon surrender of their certificates therefor or (ii) the right to receive Common Stock upon exercise of the conversion rights provided in Section 9 hereof on or before the Redemption Date. (g) Deposit of Funds. At least ten (10) days prior to the Redemption ---------------- Date, the Company shall deposit with any bank or trust company in San Diego, California, having a capital and surplus of at least $100,000,000 as a trust fund, cash in an amount equal to the aggregate Redemption Price of all shares of the Series E Preferred Stock scheduled to be redeemed or called for redemption and not yet redeemed, with irrevocable instructions and authority to the bank or trust company to pay, on or after the Redemption Date or prior thereto, the Redemption Price to the respective holders upon the surrender of their share certificates. The deposit shall constitute full payment of the shares to their holders, and from and after the date of such deposit (even if prior to the Redemption Date), the shares shall be deemed to be redeemed and no longer outstanding, and the holders thereof shall cease to be shareholders with respect to such shares and shall have no rights with respect thereto, except the right to receive from the bank or trust company payment of the Redemption Price of the shares, without interest, upon surrender of their certificates therefor and, on or before the Redemption Date, the right to convert such shares and receive accrued and unpaid dividends as provided in Section 9 hereof. Any monies or securities so deposited and unclaimed at the end of one year from the Redemption Date shall be released or repaid to the Company, after which the holders of shares called for redemption shall be entitled to receive payment of the Redemption Price only from the Company. Section 8. Voting Rights. Except as may otherwise be required by law ------------- or as set forth in Section 10 hereof, the Series E Preferred Stock shall have no voting rights. Section 9. Conversion. The holders of Series E Preferred Stock shall ---------- have the following conversion rights (subject to the termination of such rights, if not exercised, on the Redemption Date as set forth in Section 7(d)(4) hereof): (a) Right to Convert. Each share of Series E Preferred Stock shall be ---------------- convertible, at any time at the option of the holder thereof, into fully paid and nonassessable shares of Common Stock. (b) Conversion Price. The Series E Preferred Stock shall be ---------------- convertible into the number of shares of Common Stock which results from dividing the -7- Conversion Price (as hereinafter defined) in effect at the time of conversion into $100.00 (appropriately adjusted for subdivisions or combinations of the Series E Preferred Stock) for each share of Series E Preferred Stock being converted. The Conversion Price shall, subject to adjustment from time to time as provided below, be $1.25 (appropriately adjusted for subdivisions and combinations of shares of Common Stock and dividends on Common Stock payable in shares of Common Stock) (the "Conversion Price"). ---------------- (c) Mechanics of Conversion. Each holder of Series E Preferred Stock ----------------------- who desires to convert the same into shares of Common Stock shall surrender the certificate or certificates therefor, duly endorsed, at the office of the Company or of any transfer agent for the Series E Preferred Stock or Common Stock, and shall give written notice to the Company at such office that such holder elects to convert the same and shall state therein the number of shares of Series E Preferred Stock being converted. Thereupon the Company shall promptly issue and deliver to such holder a certificate or certificates for the number of shares of Common Stock to which such holder is entitled. Such conversion shall be deemed to have been made immediately prior to the close of business on the date of such surrender (the "Surrender Date") of the certificate -------------- representing the shares of Series E Preferred Stock to be converted, and the person entitled to receive the shares of Common Stock issuable upon such conversion shall be treated for all purposes as the record holder of such shares of Common Stock on the Surrender Date. (d) Adjustment of Conversion Price. ------------------------------ (i) Certain Definitions. As used in this Section 9, the ------------------- following terms have the following respective meanings: (A) Options: Rights, options or warrants to subscribe for, purchase ------- or otherwise acquire either Common Stock or Convertible Securities; (B) Convertible Securities: Any evidences of indebtedness, shares of ---------------------- stock (other than Series D Preferred Stock, Series E Preferred Stock, Series F Preferred Stock or Common Stock) or other securities directly or indirectly convertible into or exchangeable for Common Stock; (C) Issue; Issued: With respect to any security (including Options), ------------- the grant, issue, sale or assumption thereof, as the case may be; and (D) Additional Shares of Common Stock: --------------------------------- (1) Series E Conversion. For purposes of adjusting the Conversion ------------------- Price, Additional Shares of Common Stock are all shares (including reissued shares) of Common Stock Issued (or, pursuant to paragraph (d)(ii) of this Section 9, deemed to be Issued) by the Company after the effective date of this Certificate, without consideration or for a consideration (determined pursuant to paragraph (d)(iv) of this Section 9) per share less than the Conversion Price in effect on the date of and immediately prior to such Issue, whether or not subsequently reacquired or retired by the Company, other than: -8- (aa) shares of Common Stock issued upon the conversion of Series D Preferred Stock, Series E Preferred Stock or Series F Preferred Stock; (bb) up to 1,000,000 shares of Common Stock to be issued to officers, employees, consultants, promotional representatives or directors; whether pursuant to stock options, employee stock purchase agreements or direct purchase arrangements (in addition to those set forth in subparagraph (cc) below); (cc) up to 4,743,558 shares of Common Stock to be issued pursuant to warrants and options and stock option plans which are outstanding or reserved for issuance on the effective date of this Certificate of Designations, including without limitation under the Company's 1989 Stock Option Plan, 1992 Stock Option Plan, 1996 Non-Employee Directors' Stock Option Plan, Employee Stock Purchase Plan, options granted outside the above referenced plans and the Company's publicly traded redeemable warrants; and (dd) shares of Common Stock issued as payment of accrued cumulative dividends on the Series D Preferred Stock or Series F Preferred Stock. (2) Adjustment. In the event of any increase or decrease after the ---------- effective date of this Certificate in the Conversion Price resulting from a Common Stock split, Common Stock dividend or Common Stock subdivision or combination, as-described in paragraph (d)(ii)(B) or (d)(v) of this Section 9, the remaining number of shares permitted to be issued without being considered Additional Shares of Common Stock pursuant to clauses (bb) and (cc) of paragraph (d)(i)(D)(1) above shall be increased or decreased appropriately to reflect such Common Stock split, Common Stock dividend or Common Stock subdivision or combination. In addition, in the event that the Company shall repurchase any shares of Common Stock originally issued to an officer, director, promotional representative or employee of, or consultant to, the Company, the reissuance of such shares by the Company to another officer, director, promotional representative or employee of, or consultant to, the Company, at a price at least equal to the price at which they were repurchased, shall not be deemed to be the Issue of Additional Shares of Common Stock and shall not reduce the number of shares which may be issued pursuant to clause (bb) or (cc) of paragraph (d)(i)(D)(1) hereof. (ii) Issue of Securities Deemed Issue of Additional Shares ----------------------------------------------------- of Common Stock. - --------------- (A) Options and Convertible Securities. In case the Company shall ---------------------------------- Issue any Options or Convertible Securities, or shall fix a record date for the determination of holders of any class of securities entitled to receive any such Options or Convertible Securities, then the maximum number of shares (as set forth in the instrument relating thereto without regard to the provisions contained therein for a subsequent adjustment of such number) of Common Stock issuable upon the exercise of such Options, or, in the case of Convertible Securities and Options therefor, the conversion or exchange of such Convertible Securities, shall be deemed to be Additional Shares of Common Stock Issued as of the time of such Issue or, in the case such a record -9- date shall have been fixed, as of the close of business on such record date; provided, however, that Additional Shares of Common Stock shall not be deemed to - -------- ------- have been Issued for purposes of adjusting the Conversion Price unless the consideration per share (determined pursuant to paragraph (d)(iv) of this Section 9) of such Additional Shares of Common Stock would be less than the Conversion Price in effect on the date of and immediately prior to such Issue, or such record date, as the case may be. In any such case in which Additional Shares of Common Stock are deemed to be Issued: (1) no further adjustment of the Conversion Price shall be made upon the subsequent Issue of Convertible securities or shares of Common Stock upon the exercise of such Options or the conversion or exchange of such Convertible Securities; (2) if such Options or Convertible Securities by their terms provide, with the passage of time or otherwise, for any increase or decrease in the number of shares of Common Stock Issuable, upon the exercise, conversion or exchange thereof (by change of rate or otherwise), the Conversion Price computed upon the original Issue thereof (or upon the occurrence of a record date with respect thereto), and any subsequent adjustments thereon, shall, upon any such increase or decrease becoming effective, be recomputed to reflect such increase or decrease insofar as it affects such Options, or the rights of conversion or exchange under such Convertible Securities, which are outstanding at such time; (3) upon the expiration of any such Options or any rights of conversion or exchange under such Convertible Securities which shall not have been exercised, the Conversion Price computed upon the original Issue thereof (or upon the occurrence of a record date with respect thereto), and any subsequent adjustments thereon, shall, upon such expiration, be recomputed as if: (aa) in the case of Convertible Securities or Options for Common Stock, the only Additional Shares of Common Stock Issued were the shares of Common Stock, if any, actually Issued upon the exercise of such Options or the conversion or exchange of such Convertible Securities and the consideration received therefor was the consideration actually received by the Company upon such exercise, or for the Issue of all such Convertible Securities which were actually converted or exchanged, plus the additional consideration, if any, actually received by the Company upon such conversion or exchange, and (bb) in the case of Options for Convertible Securities, only the Convertible Securities, if any, actually Issued upon the exercise thereof were Issued at the time of the Issue of such Options, and the consideration received therefor was the consideration actually received by the Company (determined pursuant to paragraph (d)(iv) of this Section 9) upon the Issue of the Convertible Securities with respect to which such Options were actually exercised; (4) no readjustment pursuant to clause (2) or (3) above shall have the effect of increasing the Conversion Price by an amount in excess of the amount of the adjustment thereof originally made in respect of the Issue of such Options or Convertible Securities; and -10- (5) in the case of any Options which expire by their terms not more than 30 days after the date of Issue thereof, no adjustment of the Conversion Price shall be made until the expiration or exercise of all such Options, whereupon such adjustment shall be made in the manner provided in clause (3) above. (B) Stock Splits; Stock Dividends. In case the Company at any time or ----------------------------- from time to time after the effective date of this Certificate shall declare or pay any dividend on the Common Stock payable in Common Stock, or effect a subdivision of the outstanding shares of Common Stock into a greater number of shares of Common Stock, Additional Shares of Common Stock shall not be deemed to have been Issued as a result thereof; provided, however, that if the Company -------- ------- shall at any time or from time to time after the effective date hereof effect a subdivision of the outstanding Common Stock (and not effect a corresponding subdivision of the Series E Preferred Stock) the Conversion Price then in effect immediately before that subdivision shall be proportionately decreased; and provided, further, that if the Company at any time or from time to time -------- ------- after the effective date hereof shall make or issue, or fix a record date for the determination of holders of Common Stock entitled to receive, a dividend or other distribution payable in shares of Common Stock, then and in each such event the Conversion Price then in effect shall be decreased as of the time of such issuance or, in the event such a record date shall have been fixed, as of the close of business on such record date, by multiplying the Conversion Price for the Series E Preferred Stock then in effect by a fraction: (1) the numerator of which shall be the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date, and (2) the denominator of which shall be the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date plus the number of shares of Common Stock issuable in payment of such dividend or distribution. (iii) Adjustment of Conversion Price. In case the company shall ------------------------------ Company shall Issue Additional Shares of Common Stock (including Additional Shares of Common Stock deemed to be Issued pursuant to paragraph (d)(ii) of this Section 9) then for purposes of adjusting the Conversion Price and in each such case, the Conversion Price in effect on the date of and immediately prior to such Issue shall be reduced, concurrently with such Issue, to a price (calculated to the nearest cent) determined by multiplying such Conversion Price by a fraction (x) the numerator of which shall be the number of shares of Common Stock outstanding immediately prior to such Issue (including the number of shares of Common Stock issuable prior to such adjustment upon conversion of all outstanding shares of Series D Preferred Stock, Series E Preferred Stock and Series F Preferred Stock) plus the number of shares of Common Stock which the aggregate consideration received by the-Company for the total number of such Additional Shares of Common Stock so Issued would purchase at such Conversion Price, and -11- (y) the denominator of which shall be the number of shares of Common Stock outstanding immediately prior to such Issue (including the number of shares of Common Stock issuable prior to such adjustment upon conversion of all outstanding shares of Series D Preferred Stock, Series E Preferred Stock and Series F Preferred Stock) plus the number of such Additional Shares of Common stock so Issued, provided, however, that the Conversion Price shall not be so reduced at such - -------- ------- time if the amount of any such reduction would be an amount less than $0.05, but any such amount shall be carried forward and reduction with respect thereto made at the time of and together with any other subsequent reduction which, together with such amount and any other amount or amounts so carried forward, shall aggregate $0.05 or more. For the purposes of this paragraph (d)(iii), immediately after any Additional Shares of Common Stock are deemed Issued pursuant to paragraph (d)(ii) of this Section 5, such Additional Shares of Common Stock shall be deemed to be outstanding (subject to adjustment as provided in such paragraph (d)(ii)) as shares of Common Stock. (iv) Computation of Consideration. For the purposes of this paragraph ---------------------------- (d), the consideration received by the Company for the Issue of any Additional Shares of Common Stock shall be computed as follows: (A) Nature of Consideration. Such consideration shall, ----------------------- (1) insofar as it consists of cash, be computed at the gross amount of cash received by the Company, excluding amounts paid or payable for accrued interest or accrued dividends, without deducting expenses paid or incurred by the Company in good faith and commissions and compensation paid and concessions and discounts allowed in good faith to underwriters, dealers or others performing similar services in connection with such Issue, other than expenses in excess of 15% of such gross amount of cash; (2) insofar as it consists of property other than cash, be computed at the fair market value thereof at the time of such Issue, without deducting expenses, commissions, compensation, concessions or discounts, as determined and paid in good faith by the Board of Directors; provided, however, that no value -------- ------- shall be attributed to any services performed by any employee, officer or director of the Company; and (3) in case Additional Shares of Common Stock are Issued together with other stock or securities or other assets of the Company for consideration which covers both, be the proportion of such consideration received with respect to the Additional Shares of Common Stock, computed as provided in clauses (1) and (2) above, as determined in good faith by the Board of Directors. (B) Options and Convertible Securities. The ---------------------------------- consideration per share received by the Company for Additional Shares of Common Stock deemed to have been Issued pursuant to subdivision (A) of paragraph (d)(ii) of this Section 9, relating to Options and Convertible Securities, shall be determined by dividing -12- (x) the total amount, if any, received or receivable by the Company as consideration for the Issue of such Options or Convertible Securities, plus the aggregate amount of additional consideration payable to the Company upon the exercise of such Options or the conversion or exchange of such Convertible Securities or, in the case of Options for Convertible Securities, the exercise of such Options for Convertible Securities and the conversion or exchange of such Convertible Securities, by (y) the number of shares of Common Stock issuable upon the exercise of such Options or the conversion or exchange of such Convertible Securities. (v) Adjustments for Combinations. etc. In case at any time after the --------------------------------- effective date of this Certificate the outstanding shares of Common Stock shall be combined or consolidated, by reclassification or otherwise, into a lesser number of shares of Common Stock, the Conversion Price in effect immediately prior to such combination or consolidation shall, concurrently with the effectiveness of such combination or consolidation, be proportionately increased. (e) Certificate of Adjustment. In each case of an adjustment or ------------------------- readjustment of the Conversion Price or the number of shares of Common Stock or other securities issuable upon conversion of the Series E Preferred Stock, the Company shall cause its chief financial officer to compute such adjustment or readjustment in accordance with the provisions hereof and prepare a certificate showing such adjustment or readjustment, and shall mail such certificate, by first class mail, postage prepaid, to each registered holder of the Series E Preferred Stock at the holder's address as shown in the Company's books. The certificate shall set forth such adjustment or readjustment, showing in reasonable detail the facts upon which such adjustment or readjustment is based. (f) Notices of Record Date. In the event of (i) any taking by the ---------------------- Company of a record of the holders of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend or other distribution, or (ii) any capital reorganization of the Company, any reclassification or recapitalization of the capital stock of the Company, any merger or consolidation of the Company with or into any other corporation (other than a merger of a wholly owned subsidiary into the Company), or any transfer of all or substantially all of the assets of the Company to any other person or any voluntary or involuntary dissolution, liquidation or winding up of the Company, the Company shall mail to each holder of Series E Preferred Stock at least thirty (30) days prior to the record date specified therein, a notice specifying (1) the date on which any such record is to be taken for the purpose of such dividend or distribution and a description of such dividend or distribution, (2) the date on which any such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up is expected to become effective, and (3) the date, if any, that is to be fixed, as to when the holders of record of Common Stock (or other securities) shall be entitled to exchange their shares of Common Stock (or other securities) for securities or other property deliverable upon such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up. -13- (g) Automatic Conversion. -------------------- (1) Each share of Series E Preferred Stock shall automatically be converted into shares of Common Stock based on the then effective Conversion Price (A) immediately upon the closing after the Commitment Date of an underwritten public offering pursuant to an effective registration statement under the Securities Act of 1933, as amended, covering the offering and sale of Common Stock for the account of the Company in which the public offering price equals or exceeds $7.50 per share of Common Stock (appropriately adjusted for subdivisions and combinations of shares of Common Stock and dividends on Common Stock payable in shares of Common Stock), the minimum offering is for at least $15 million and the obligation of the underwriters with respect to which is that if any of the securities being offered are purchased, all such securities must be purchased, or (B) upon the receipt by the Company of a written notice from the holders that the number of shares of the Series E Preferred Stock representing more than 75% of the outstanding Series E Preferred Stock electing unconditionally to convert such shares of Series E Preferred Stock. (2) Upon the occurrence of any of the events specified in paragraph (1) above the outstanding shares of Series E Preferred Stock shall be converted automatically without any further action by the holders of such shares and whether or not the certificates representing such shares are surrendered to the Company or its transfer agent; provided, however, that the Company (i) shall -------- ------- notify all the holders of Series E Preferred Stock that were not a party to the written notice specified in paragraph (1) above that their shares will be automatically converted, and (ii) shall not be obligated to issue certificates evidencing the shares of Common Stock issuable upon such conversion unless the certificates evidencing such shares of Series E Preferred Stock are either delivered to the Company or its transfer agent as provided below, or the holder notifies the Company or its transfer agent that such certificates have been lost, stolen or destroyed and executes an agreement satisfactory to the Company to indemnify the Company from any loss incurred by it in connection with such certificates. Upon the occurrence of such automatic conversion of the Series E Preferred Stock, the holders of Series E Preferred Stock shall surrender the certificates representing such shares at the office of the Company or any transfer agent for the Series E Preferred Stock or Common Stock. Thereupon, there shall be issued and delivered to such holder promptly at such office and in its name as shown on such surrendered certificate or certificates, a certificate or certificates for the number of shares of Common Stock into which the shares of Series E Preferred Stock surrendered were convertible on the date on which such automatic conversion occurred. (h) Fractional Shares. No fractional shares of Common Stock shall be ----------------- issued upon conversion of Series E Preferred Stock. In lieu of any fractional share to which the holder would otherwise be entitled, the Company shall pay cash equal to the product of such fraction multiplied by the Common Stock Value on the date of conversion. (i) Reservation of Stock Issuable Upon Conversion. The Company shall --------------------------------------------- at all times reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the conversion of the shares of the Series E Preferred Stock, such number of its shares of Common Stock as shall from time to time be sufficient to effect the conversion of all outstanding shares of the Series E Preferred Stock; and if at any time the number of authorized but unissued shares of -14- Common Stock shall not be sufficient to effect the conversion of all then outstanding shares of the Series E Preferred Stock, the Company will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purpose. (j) Notices. Any notice required or permitted by this Section 9 or ------- any other provision of this Certificate of Designation to be given to a holder of Series E Preferred Stock or to the Company shall be in writing and be deemed given upon the earlier of actual receipt or three (3) days after the same has been deposited in the United States mail, by certified or registered mail, return receipt requested, postage prepaid, and addressed (i) to each holder of record at the address of such holder appearing on the books of the Company, or (ii) to the Company at 10655 Sorrento Valley Road, San Diego, California 92121, or (iii) to the Company or any holder, at any other address specified in a written notice given to the other for the giving of notice. (k) Payment of Taxes. The Company will pay all taxes (other than ---------------- taxes based upon income) and other governmental charges that may be imposed with respect to the issue or delivery of shares of Common Stock upon conversion of shares of Series E Preferred Stock, including without limitation any tax or other charge imposed in connection with any transfer involved in the issue and delivery of shares of Common Stock in a name other than that in which the shares of Series E Preferred Stock so converted were registered. (l) No Dilution or Impairment. The Company shall not amend its ------------------------- Certificate of Incorporation or participate in any reorganization, transfer of assets, consolidation, merger, dissolution, issue or sale of securities or any other voluntary action, for the purpose of avoiding or seeking to avoid the observance or performance of any of the terms to be observed or performed hereunder by the Company, but will at all times in good faith assist in carrying out all such action as may be reasonably necessary or appropriate in order to protect the conversion rights of the holders of the Series E Preferred Stock against dilution or other impairment. (m) Validity of Conversion Shares. The Corporation agrees that it ----------------------------- will from time to time take all such actions as may be necessary to assure that all shares of Common Stock which may be issued upon conversion of any share of Series E Preferred Stock will, upon issuance, be legally and validly issued, fully paid and nonassessable and free from all liens and charges with respect to the issue thereof (other than liens imposed by the holders of such shares); and, without limiting the generality of the foregoing, the Corporation agrees that it will from time to time take all such action as may be necessary to assure that the par value per share, if any, of the Common Stock is at all times equal to or less than that which would be required to maintain the status of the Common Stock as fully paid without additional payment from the holders of the Series E Preferred Stock. Section 10. Restrictions and Limitations. So long as any shares of ---------------------------- Series E Preferred Stock remain outstanding, the Company shall not, and shall not permit any Subsidiary to, without the vote or written consent by the holders of at least 75% of the Series E Preferred Stock: (a) Increase or decrease the aggregate number of authorized shares of Series E Preferred Stock; -15- (b) Increase or decrease the par value of the Series E Preferred Stock; (c) Alter or change the powers, preferences or special rights of the Series E Preferred Stock so as to affect them adversely; or (d) authorize, create or issue any new class or series of capital stock or any other securities convertible into equity securities of the Company (other than Common Stock) having a preference over, or being on a parity with, the Series E Preferred Stock with respect to voting, dividends, redemption, liquidation or dissolution of the Company other than the Series D Preferred Stock and the Series F Preferred Stock outstanding on the date hereof. Section 11. No Reissuance of Series E Preferred Stock. No share or ----------------------------------------- shares of Series E Preferred Stock acquired by the Company by reason of redemption, purchase, conversion or otherwise shall be reissued, and all such shares shall be canceled, retired and shall thereafter revert to authorized but unissued blank check preferred of the Company. -16- IN WITNESS WHEREOF, Protein Polymer Technologies, Inc. has caused this Certificate to be signed and attested by its duly authorized officers this ____ day of _________, 1998. PROTEIN POLYMER TECHNOLOGIES, INC. By: _____________________________ J. Thomas Parmeter, President Attest: By: __________________________ Philip J. Davis, Secretary -17- EX-3.1.2 3 CERT. OF DESIGNATION OF SERIES F CONVERTIBLE EXHIBIT 3.1.2 CERTIFICATE OF DESIGNATION -------------------------- OF -- SERIES F PREFERRED STOCK ------------------------ OF -- PROTEIN POLYMER TECHNOLOGIES, INC. ---------------------------------- (Pursuant to Section 151) The undersigned, J. Thomas Parmeter and Philip J. Davis, the President and Secretary, respectively, of PROTEIN POLYMER TECHNOLOGIES, INC., a ---------------------------------- corporation organized and existing under and by virtue of the General Corporation Law of the State of Delaware (the "Corporation"), do hereby certify, ----------- in the name of and on behalf of the Corporation, and as its corporate act, that in accordance with the Corporation's Bylaws, at a meeting of the Board of Directors of the Corporation held on March 27, 1998, the Board adopted the following preamble and resolution: Whereas the Certificate of Incorporation of the Corporation ------- provides for a class of shares of stock designated "Preferred Stock," issuable from time to time in one or more series, and vests in the Board of Directors of the Corporation the authority to fix the designations and the powers, preferences and rights, and the qualifications, limitations or restrictions thereof, and to fix the number of shares constituting any such series: NOW, THEREFORE, BE IT RESOLVED that there shall be a series of Preferred Stock of the -------- Corporation to be designated as follows and that the powers, preferences and relative, participating, optional or other rights of the shares of such series of Preferred Stock and the qualifications, limitations and restrictions thereof shall be as follows: Section 1. Designation. There is hereby provided a series of ----------- Preferred Stock designated the Series F 10% Cumulative Convertible Preferred Stock (the "Series F Preferred Stock"). ------------------------ Section 2. Number. The number of shares constituting the Series F ------ Preferred Stock is fixed at twenty seven thousand three hundred seventeen (27,317) shares. Section 3. Definitions. For purposes of this Certificate of ----------- Designation the following definitions shall apply: "Board" shall mean the Board of Directors of the Company. ----- "Commitment Date" shall mean September 13, 1995. --------------- "Company" shall mean this corporation. ------- "Common Stock" shall mean the Common Stock, par value $0.01, of ------------ the Company. "Common Stock Value" shall mean, as of any given date, (i) if the ------------------ Common Stock is traded on a national securities exchange, or is designated as a National Market System security on NASDAQ, the closing price thereof as reported on such exchange or NASDAQ-NMS, as the case may be, (ii) if the Common Stock is actively traded over-the-counter (other than NASDAQ-NMS), the average of the low bid and high asked prices therefor, as reported by the National Association of Securities Dealers Automated Quotation system or other source, (iii) if the Common Stock is not traded on an exchange, NASDAQ-NMS, or actively traded over- the-counter, the fair market value thereof, as determined in good faith by the Board. "Junior Stock" shall mean the Common Stock of the Company, ------------ whether presently outstanding or hereafter issued. "Majority of the Series F Preferred Stock" shall mean more than ---------------------------------------- 50% of the outstanding Series F Preferred Stock. "75% of the Series E Preferred Stock" shall mean at least 75% of ----------------------------------- the outstanding Series E Preferred Stock. "Series D Preferred Stock" shall mean the Company's Series D 10% ------------------------ Cumulative Convertible Preferred Stock. "Series E Preferred Stock" shall mean the Company's Series E ------------------------ Convertible Preferred Stock. "Subsidiary" shall mean any corporation a majority of the Voting Stock ---------- of which is, at the time as of which any determination is being made, owned by the Company either directly or through one or more Subsidiaries. "Voting Stock" shall mean any shares having general voting power in ------------ electing the Board of Directors (irrespective of whether or not at the time stock of any other class or classes has or might have voting power by reason or the happening of any contingency). The Common Stock is Voting Stock and the Series D Preferred Stock, Series E Preferred Stock and Series F Preferred Stock is not Voting Stock. Section 4. Dividends. --------- (a) Right to Dividends. The holders of the then outstanding Series F ------------------ Preferred Stock shall be entitled to receive, when and as declared by the Board, and out of any funds legally available therefor, cumulative dividends at the annual rate of $10.00 per share (appropriately adjusted for subdivisions or combinations of the Series F Preferred Stock), in addition such dividends shall include all accrued and unpaid -2- dividends on each share of Series D Preferred Stock which is exchanged for a share of Series F Preferred Stock. These dividends shall be payable, when and as declared by the Board, in equal quarterly installments on March 1, June 1, September 1 and December 1 (or, if such day is not a Business Day, on the Business Day next thereafter) of each year commencing on June 8, 1998. "Business -------- Day" shall mean any day excluding Saturday, Sunday and any day which shall be in - --- the State of California a legal holiday or a day on which banking institutions are authorized by law to close. The Company at its option may make any dividend payment on the Series F Preferred Stock in shares of Common Stock or cash, or both, with each share of Common Stock being valued for this purpose at the Common Stock Value on the date such dividend is declared or, if the Common Stock is not issued within ten (10) days after the date of declaration, on the date such Common Stock is issued. Dividends on the Series F Preferred Stock shall accumulate and accrue on each such share from the date of its original issue and shall accrue from day to day thereafter, whether or not earned or declared. Such dividends shall be cumulative so that if such dividends in respect of any previous or current quarterly dividend period, at the rate specified above, shall not have been paid or declared and a sum sufficient for the payment thereof set apart, the deficiency shall first be fully paid before any dividend or other distribution shall be paid or declared and set apart for the Common Stock. Any accumulation of dividends on the Series F Preferred Stock shall not bear interest. (b) Priority. Unless full dividends on the Series F Preferred Stock -------- for all past dividend periods and the then current dividend period shall have been paid or declared and a sum sufficient for the payment thereof set apart, (1) no dividend whatsoever (other than a dividend payable solely in Common Stock or a dividend on the Series D Preferred Stock) shall be paid or declared, and no distribution shall be made, on any Junior Stock, and (2) no shares of Junior Stock shall be purchased, redeemed or acquired by the Company and no monies shall be paid into or set aside or made available for a sinking fund for the purchase, redemption or acquisition thereof; provided, however, that this -------- ------- restriction shall not apply to the repurchase of shares of Common Stock from directors or employees of or consultants or advisers to the Company or any Subsidiary pursuant to agreements under which the Company has the option to repurchase such shares upon the occurrence of certain events, including without limitation the termination of employment by or service to the Company or any Subsidiary. (c) Additional Dividends. After cumulative dividends on the Series F -------------------- Preferred Stock for all past dividend periods and the then current dividend period shall have been declared and paid or set apart, if the Board shall elect to declare additional dividends, such additional dividends shall be declared in equal amounts per share on all shares of Series D Preferred Stock, Series E Preferred Stock, Series F Preferred Stock and Common Stock, but with each share of Series D Preferred Stock, Series E Preferred Stock and Series F Preferred Stock being entitled to dividends based upon the number of shares of Common Stock into which such share of Series D Preferred Stock, Series E Preferred Stock or Series F Preferred Stock, respectively, could be converted at the record date for the determination of shareholders entitled to receive such dividend or, if no such record date is established, on the date such dividend is declared; provided, however, that the holders of the Series F Preferred Stock -------- ------- shall not be entitled to receive dividends or distributions payable in Common Stock or other securities by reason of any such dividend or distribution that is declared or paid on the Common Stock if and to the extent pursuant to Section 9 hereof, (i) such dividend or distribution would result in an adjustment to the conversion price of the Series F Preferred or (ii) the holders of the -3- Series F Preferred Stock would subsequently be entitled to receive such dividend or distribution. Section 5. Liquidation Rights of Series F Preferred Stock. ---------------------------------------------- (a) Preference. In the event of any liquidation, dissolution or ---------- winding up of the Company, whether voluntary or involuntary, the holders of the Series F Preferred Stock and Series E Preferred Stock then outstanding shall be entitled to be paid out of the assets of the Company available for distribution to its shareholders, whether such assets are capital, surplus, or earnings, before any payment or declaration and setting apart for payment of any amount shall be made in respect of the Junior Stock, but only after any preference is paid or set apart for the Series D Preferred Stock, an amount equal to one hundred dollars ($100.00) per share of Series F Preferred Stock and an amount equal to one hundred dollars ($100.00) per share of Series E Preferred Stock, then after such preference is paid with respect to the Series F Preferred Stock and Series E Preferred Stock, in the case of the Series E Preferred Stock an amount equal to any declared and unpaid dividends thereon, and in the case of the Series F Preferred Stock an amount equal to any accrued and unpaid dividends whether or not declared, and no more. If upon any liquidation, dissolution, or winding up of the Company, whether voluntary or involuntary, after the distribution of any preference on the Series D Preferred Stock is paid or set apart, the assets to be distributed to the holders of the Series E Preferred Stock and Series F Preferred Stock shall be insufficient to permit the payment to such shareholders of the full preferential amounts aforesaid, then all of the remaining assets of the Company to be distributed shall be distributed among the holders of the Series E Preferred Stock and Series F Preferred Stock ratably in accordance with their respective liquidation preferences. (b) Remaining Assets. After the payment or distribution to the holders ---------------- of the Series D Preferred Stock, the Series E Preferred Stock and the Series F Preferred Stock of the full preferential amounts aforesaid, the holders of the Junior Stock then outstanding shall be entitled to receive ratably all remaining assets of the Company to be distributed. Section 6. Merger, Consolidation. --------------------- (a) At any time, in the event of: (1) any consolidation or merger of the Company with or into any other corporation or other entity or person (other than a merger of a wholly owned subsidiary into the Company), or (2) a sale or other disposition of all or substantially all of the assets of the Company, then: (A) After the full payments, if any, required to be made to the holders of the Series D Preferred Stock shall have been made, holders of the Series E Preferred Stock and Series F Preferred Stock shall receive, for each share of such stock in cash or in securities (including, without limitation, debt securities) received from the acquiring corporation, or a combination thereof, at the closing of any such transaction, an amount equal to $100.00 (appropriately adjusted for subdivisions or combinations of -4- the Series E Preferred Stock or Series F Preferred Stock), then after such preference is paid with respect to the Series E Preferred Stock and Series F Preferred Stock, an amount equal to all declared and unpaid dividends on each share of Series E Preferred Stock and an amount equal to all accrued and unpaid dividends on each share of Series F Preferred Stock (whether or not earned or declared, to and including the date full payment shall be tendered to such holders with respect to such transaction), and no more; provided, however, in ----------------- the event of any such transaction, if the amounts available to be distributed to the holders of the Series E Preferred Stock and Series F Preferred Stock shall be insufficient to permit the payment to such shareholders of the full amounts provided for in this Section 6(a)(2)(A), then the amounts to be so distributed shall be distributed ratably in accordance with their respective preferences; and (B) after the payment or distribution to the holders of the Series D Preferred Stock, the holders of the Series F Preferred Stock and to the holders of the Series E Preferred Stock of the full preferential amounts stated in Section 6(a)(2)(A) hereof, the remaining proceeds of such transaction shall be distributed ratably to the holders of Junior Stock then outstanding. (b) Any securities or other property to be delivered to the holders of the Series E Preferred Stock, Series F Preferred Stock or Common Stock pursuant to Section 6(a) hereof shall be valued as follows: (1) Securities not subject to investment letter or other similar restrictions on free marketability: (A) If traded on a securities exchange, the value shall be deemed to be the average of the closing prices of the securities on such exchange over the 30-day period ending three (3) days prior to the closing; (B) If actively traded over-the-counter, the value shall be deemed to be the average of the closing bid prices over the 30-day period ending three (3) days prior to the closing; and (C) If there is no active public market, the value shall be the fair market value thereof, as mutually determined by the Company and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (2) The method of valuation of securities subject to investment letter or other restrictions on free marketability shall be to make appropriate discount from the market value determined as above in paragraph (1)(A), (B) or (C) to reflect the approximate fair market value thereof, as mutually determined by the Company and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (3) All other securities or other property shall be valued at the fair market value thereof, as mutually determined by the Company and the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. -5- (4) If the holders of a Majority of the Series F Preferred Stock, 75% of the Series E Preferred Stock and the Company are unable to reach agreement on any valuation matter, such valuation shall be submitted to and determined by a nationally recognized independent investment banking firm selected by the Board, 75% of the Series E Preferred Stock and a Majority of the Series F Preferred Stock (or, if such selection cannot be made, by a nationally recognized independent investment banking firm selected by the American Arbitration Association in accordance with its rules). (c) In the event the requirements of Section 6(a) hereof are not complied with, the Company shall forthwith either: (1) Cause such closing to be postponed until such time as the requirements of this Section 6 have been complied with; or (2) Cancel such transaction, in which event the rights, preferences and privileges of the holders of the Series E Preferred Stock and Series F Preferred Stock shall revert to and be the same as such rights, preferences and privileges existing immediately prior to the date of the first notice referred to in Section 6(d) hereof. (d) The Company shall give each holder of record of Series E Preferred Stock and Series F Preferred Stock written notice of such impending transaction not later than thirty (30) days prior to the shareholders' meeting called to approve such transaction, or thirty (30) days prior to the closing of such transaction, whichever is earlier, and shall also notify such holders in writing of the final approval of such transaction. The first of such notices shall describe the material terms and conditions of the impending transaction and the provisions of this Section 6, and the Company shall thereafter give such holders prompt notice of any material changes. The transaction shall in no event take place sooner than thirty (30) days after the Company has given the first notice provided for herein or sooner than ten (10) days after the Company has given notice of any material changes provided for herein; provided, however, that such -------- ------- periods may be shortened upon the written consent of the holders of a Majority of the Series F Preferred Stock and 75% of the Series E Preferred Stock. (e) The provisions of this Section 6 are in addition to the protective provisions of Section 10 hereof. Section 7. Redemption. ---------- (a) Restriction on Redemption and Purchase. Except as expressly -------------------------------------- provided in this Section 7, the Company shall not have the right to purchase, call, redeem or otherwise acquire for value any or all of the Series F Preferred Stock. (b) Optional Redemption. On, or at any time after, the fourth ------------------- anniversary of the Commitment Date, the Company may, at its option, redeem the Series F Preferred Stock in whole or in part, at the Optional Redemption Price hereinafter specified; provided, however, that the Company shall not redeem Series F Preferred Stock or give notice of any redemption unless the Company has sufficient and lawful funds to redeem the outstanding Series F Preferred Stock to then be called for -6- redemption. The date on which the Series F Preferred Stock is to be redeemed pursuant to this Section 7(b) is herein called the "Redemption Date." If fewer --------------- than all of the then-outstanding shares of Series F Preferred Stock are to be redeemed, such redemption will be made ratably among all holders of Series F Preferred Stock in proportion to the respective number of shares held thereby. (c) Redemption Price. The Optional Redemption Price of the Series F ---------------- Preferred Stock (the "Optional Redemption Price") shall be an amount per share ------------------------- equal to $100.00 plus all accrued and unpaid dividends thereon, whether or not earned or declared, to and including the Redemption Date. The Redemption Price may be paid, at the Company's discretion, in cash, shares of Common Stock (valued at the Common Stock Value on the Redemption Date) or any combination thereof. (d) Redemption Notice. The Company shall, not less than thirty (30) ----------------- days nor more than sixty (60) days prior to the Redemption Date, give written notice ("Redemption Notice"), to each holder of record of Series F Preferred ----------------- Stock to be redeemed. The Redemption Notice shall state: (1) That total number of the shares of Series F Preferred Stock being redeemed; (2) The number of shares of Series F Preferred Stock held by the holder which the Company intends to redeem; (3) The Redemption Date and Redemption Price; (4) That the holder's right to convert the Series F Preferred Stock will terminate on the Redemption Date; and (5) The time, place and manner in which the holder is to surrender to the Company the certificate or certificates representing the shares of Series F Preferred Stock to be redeemed. (e) Payment of Redemption Price and Surrender of Stock. On the -------------------------------------------------- Redemption Date, the Redemption Price of the Series F Preferred Stock scheduled to be redeemed or called for redemption shall be payable to the holders of the Series F Preferred Stock. On or before the Redemption Date, each holder of Series F Preferred Stock to be redeemed, unless the holder has exercised his right to convert the shares as provided in Section 9 hereof, shall surrender the certificate or certificates representing such shares to the Company, in the manner and at the place designated in the Redemption Notice, and thereupon the Redemption Price for such shares shall be payable to the order of the person whose name appears on such certificate or certificates as the owner thereof, and each surrendered certificate shall be canceled and retired. (f) Termination of Rights. If the Redemption Notice is duly given, --------------------- and if at least ten (10) days prior to the Redemption Date the Redemption Price is either paid or made available for payment through the arrangement specified in subsection (g) below, then notwithstanding that the certificates evidencing any of the -7- shares of Series F Preferred Stock so called or scheduled for redemption have not been surrendered, all rights with respect to such shares shall forthwith after the Redemption Date cease and terminate, except only (i) the right of the holders to receive the Redemption Price without interest upon surrender of their certificates therefor or (ii) the right to receive Common Stock plus dividends upon exercise of the conversion rights provided in Section 9 hereof on or before the Redemption Date. (g) Deposit of Funds. At least ten (10) days prior to the Redemption ---------------- Date, the Company shall deposit with any bank or trust company in San Diego, California, having a capital and surplus of at least $100,000,000 as a trust fund, cash or shares of Common Stock in an amount equal to the aggregate Redemption Price of all shares of the Series F Preferred Stock scheduled to be redeemed or called for redemption and not yet redeemed, with irrevocable instructions and authority to the bank or trust company to pay, on or after the Redemption Date or prior thereto, the Redemption Price to the respective holders upon the surrender of their share certificates. The deposit shall constitute full payment of the shares to their holders, and from and after the date of such deposit (even if prior to the Redemption Date), the shares shall be deemed to be redeemed and no longer outstanding, and the holders thereof shall cease to be shareholders with respect to such shares and shall have no rights with respect thereto, except the right to receive from the bank or trust company payment of the Redemption Price of the shares, without interest, upon surrender of their certificates therefor and, on or before the Redemption Date, the right to convert such shares and receive accrued and unpaid dividends as provided in Section 9 hereof. Any monies or securities so deposited and unclaimed at the end of one year from the Redemption Date shall be released or repaid to the Company, after which the holders of shares called for redemption shall be entitled to receive payment of the Redemption Price only from the Company. Section 8. Voting Rights. Except as may otherwise be required by law ------------- or as set forth in Section 10 hereof, the Series F Preferred Stock shall have no voting rights. Section 9. Conversion. The holders of Series F Preferred Stock shall ---------- have the following conversion rights: (a) Right to Convert. Each share of Series F Preferred Stock shall be ---------------- convertible at any time at the option of the holder thereof, into fully paid and nonassessable shares of Common Stock. (b) Conversion Price. The Series F Preferred Stock shall be ---------------- convertible into the number of shares of Common Stock which results from dividing the Conversion Price (as hereinafter defined) in effect at the time of conversion into $100.00 (appropriately adjusted for subdivisions or combinations of the Series F Preferred Stock) for each share of Series F Preferred Stock being converted. The Conversion Price shall, subject to adjustment from time to time as provided below, be (i) the Common Stock Value on the Surrender Date (as defined in subsection (c) below), if the Common Stock Value on the Surrender Date is equal to or less than $3.75 (in either case, appropriately adjusted for subdivisions and combinations of shares of Common Stock and dividends on Common Stock payable in shares of Common Stock) and (ii) $3.75, if the Common Stock Value on the Surrender Date is more than $3.75 (appropriately adjusted for -8- subdivisions and combinations of shares of Common Stock and dividends on Common Stock payable in shares of Common Stock) (the "Conversion Price"). ---------------- (c) Mechanics of Conversion. Each holder of Series F Preferred Stock ----------------------- who desires to convert the same into shares of Common Stock shall surrender the certificate or certificates therefor, duly endorsed, at the office of the Company or of any transfer agent for the Series F Preferred Stock or Common Stock, and shall give written notice to the Company at such office that such holder elects to convert the same and shall state therein the number of shares of Series F Preferred Stock being converted. Thereupon the Company shall promptly issue and deliver to such holder a certificate or certificates for the number of shares of Common Stock to which such holder is entitled and shall promptly pay in cash or, if the Company so elects or is legally or financially unable to pay such dividends in cash, Common Stock (valued at the Common Stock Value at the time of surrender), all accrued and unpaid dividends on the shares of Series F Preferred Stock being converted, whether or not earned or declared, to and including the time of conversion. Such conversion shall be deemed to have been made immediately prior to the close of business on the date of such surrender (the "Surrender Date") of the certificate representing the shares of -------------- Series F Preferred Stock to be converted, and the person entitled to receive the shares of Common Stock issuable upon such conversion shall be treated for all purposes as the record holder of such shares of Common Stock on the Surrender Date. (d) Adjustment for Stock Splits and Combinations. If the Company at -------------------------------------------- any time or from time to time after the Commitment Date effects a subdivision of the outstanding Common Stock, the Conversion Price then in effect immediately before that subdivision shall be proportionately decreased, and conversely, if the Company at any time or from time to time after the Commitment Date combines the outstanding shares of Common Stock into a smaller number of shares, the Conversion Price then in effect immediately before the combination shall be proportionately increased. Any adjustment under this subsection (d) shall become effective at the close of business on the date the subdivision or combination becomes effective. (e) Adjustment for Certain Dividends and Distributions. If the -------------------------------------------------- Company at any time or from time to time after the Commitment Date makes, or fixes a record date for the determination of holders of Common Stock entitled to receive, a dividend or other distribution payable in additional shares of Common Stock, then and in each such event the Conversion Price then in effect shall be decreased as of the time of such issuance or, in the event such record date is fixed, as of the close of business on such record date, by multiplying the Conversion Price then in effect by a fraction (1) the numerator of which is the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date, and (2) the denominator of which shall be the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date plus the number of shares of Common Stock issuable in payment of such dividend or distribution; provided, however, that if -------- ------- such record date is fixed and such dividend is not fully paid or if such distribution is not fully made on the date fixed therefor, the Conversion Price shall be recomputed accordingly as of the close of business on such record date and thereafter the Conversion Price shall be -9- adjusted pursuant to this subsection (e) as of the time of actual payment of such dividends or distributions. (f) Adjustments for Other Dividends and Distributions. In the event ------------------------------------------------- the Company at any time or from time to time after the Commitment Date makes, or fixes a record date for the determination of holders of Common Stock entitled to receive, a dividend or other distribution payable in securities of the Company other than shares of Common Stock, then and in each such event provision shall be made so that the holders of Series F Preferred Stock shall receive upon conversion thereof, in addition to the number of shares of Common Stock receivable thereupon, the amount of securities of the Company which they would have received had their Series F Preferred Stock been converted into Common Stock on the date of such event and had they thereafter, during the period from the date of such event to and including the conversion date, retained such securities receivable by them as aforesaid during such period, subject to all other adjustments called for during such period under this Section 9 with respect to the rights of the holders of the Series F Preferred Stock. (g) Adjustment for Reclassification, Exchange and Substitution. In ---------------------------------------------------------- the event that at any time or from time to time after the Commitment Date, the Common Stock issuable upon the conversion of the Series F Preferred Stock is changed into the same or a different number of shares of any class or classes of stock, whether by recapitalization, reorganization, reclassification or otherwise (other than a subdivision or combination of shares or stock dividend provided for elsewhere in this Section 9), then and in any such event, as a condition of such recapitalization, reorganization, reclassification or other change, provision shall be made so that each holder of Series F Preferred Stock shall have the right thereafter to convert such stock into the kind and amount of stock and other securities and property receivable upon such recapitalization, reorganization, reclassification or other change, by holders of the maximum number of shares of Common Stock into which such shares of Series F Preferred Stock could have been converted immediately prior to such recapitalization, reorganization, reclassification or change, all subject to further adjustment as provided herein. (h) Certificate of Adjustment. In each case of an adjustment or ------------------------- readjustment of the Conversion Price or the number of shares of Common Stock or other securities issuable upon conversion of the Series F Preferred Stock, the Company shall cause its chief financial officer to compute such adjustment or readjustment in accordance with the provisions hereof and prepare a certificate showing such adjustment or readjustment, and shall mail such certificate, by first class mail, postage prepaid, to each registered holder of the Series F Preferred Stock at the holder's address as shown in the Company's books. The certificate shall set forth such adjustment or readjustment, showing in reasonable detail the facts upon which such adjustment or readjustment is based. (i) Notices of Record Date. In the event of (i) any taking by the ---------------------- Company of a record of the holders of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend or other distribution, or (ii) any capital reorganization of the Company, any reclassification or recapitalization of the capital stock of the Company, any merger or consolidation of the -10- Company with or into any other corporation (other than a merger of a wholly owned subsidiary into the Company), or any transfer of all or substantially all of the assets of the Company to any other person or any voluntary or involuntary dissolution, liquidation or winding up of the Company, the Company shall mail to each holder of Series F Preferred Stock at least thirty (30) days prior to the record date specified therein, a notice specifying (1) the date on which any such record is to be taken for the purpose of such dividend or distribution and a description of such dividend or distribution, (2) the date on which any such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up is expected to become effective, and (3) the date, if any, that is to be fixed, as to when the holders of record of Common Stock (or other securities) shall be entitled to exchange their shares of Common Stock (or other securities) for securities or other property deliverable upon such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up. (j) Automatic Conversion. -------------------- (1) Each share of Series F Preferred Stock shall automatically be converted into shares of Common Stock based on the then effective Conversion Price (A) immediately upon the closing after the Commitment Date of an underwritten public offering pursuant to an effective registration statement under the Securities Act of 1933, as amended, covering the offering and sale of Common Stock for the account of the Company in which the public offering price equals or exceeds $2.50 per share of Common Stock (appropriately adjusted for subdivisions and combinations of shares of Common Stock and dividends on Common Stock payable in shares of Common Stock) and the obligation of the underwriters with respect to which is that if any of the securities being offered are purchased, all such securities must be purchased; provided, however, that such -------- ------- conversion shall be conditioned upon payment by the Company of all accrued and unpaid dividends on the outstanding Series F Preferred Stock, whether or not earned or declared, to and including the date of such conversion, payable either in cash or Common Stock (valued at the Common Stock Value), or both, (B) upon the receipt by the Company of a written notice from the holders that the number of shares of the Series F Preferred Stock representing more than 50% of the total number of such shares originally issued by the Company electing unconditionally to convert such shares of Series F Preferred Stock and (C) immediately upon written notice by the Company given at any time after the average Common Stock Value over a twenty-day period equals or exceeds $5.00 (appropriately adjusted for subdivisions and combinations of shares of Common Stock and dividends on Common Stock payable in shares of Common Stock). (2) Upon the occurrence of any of the events specified in paragraph (1) above the outstanding shares of Series F Preferred Stock shall be converted automatically without any further action by the holders of such shares and whether or not the certificates representing such shares are surrendered to the Company or its transfer agent; provided, however, that the Company shall not be -------- ------- obligated to issue certificates evidencing the shares of Common Stock issuable upon such conversion unless the certificates evidencing such shares of Series F Preferred Stock are either delivered to the Company or its transfer agent as provided below, or the holder notifies the Company or its transfer agent that such certificates have been lost, stolen or destroyed and executes an agreement satisfactory to the Company to indemnify the Company from any loss incurred by it in connection with such certificates. Upon the occurrence of such -11- automatic conversion of the Series F Preferred Stock, the holders of Series F Preferred Stock shall surrender the certificates representing such shares at the office of the Company or any transfer agent for the Series F Preferred Stock or Common Stock. Thereupon, there shall be issued and delivered to such holder promptly at such office and in its name as shown on such surrendered certificate or certificates, a certificate or certificates for the number of shares of Common Stock into which the shares of Series F Preferred Stock surrendered were convertible on the date on which such automatic conversion occurred, and the Company shall promptly pay in cash or Common Stock (taken at the Common Stock Value as of the date of such conversion), or both, all accrued and unpaid dividends on the shares of Series F Preferred Stock being converted, whether or not earned or declared, to and including the date of such conversion. (k) Fractional Shares. No fractional shares of Common Stock shall be ----------------- issued upon conversion of Series F Preferred Stock. In lieu of any fractional share to which the holder would otherwise be entitled, the Company shall pay cash equal to the product of such fraction multiplied by the Common Stock Value on the date of conversion. (l) Reservation of Stock Issuable Upon Conversion. The Company shall --------------------------------------------- at all times reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the conversion of the shares of the Series F Preferred Stock, such number of its shares of Common Stock as shall from time to time be sufficient to effect the conversion of all outstanding shares of the Series F Preferred Stock; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect the conversion of all then outstanding shares of the Series F Preferred Stock, the Company will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purpose. (m) Notices. Any notice required or permitted by this Section 9 or ------- any other provision of this Certificate of Designation to be given to a holder of Series F Preferred Stock or to the Company shall be in writing and be deemed given upon the earlier of actual receipt or three (3) days after the same has been deposited in the United States mail, by certified or registered mail, return receipt requested, postage prepaid, and addressed (i) to each holder of record at the address of such holder appearing on the books of the Company, or (ii) to the Company at 10655 Sorrento Valley Road, San Diego, California 92121, or (iii) to the Company or any holder, at any other address specified in a written notice given to the other for the giving of notice. (n) Payment of Taxes. The Company will pay all taxes (other than ---------------- taxes based upon income) and other governmental charges that may be imposed with respect to the issue or delivery of shares of Common Stock upon conversion of shares of Series F Preferred Stock, including without limitation any tax or other charge imposed in connection with any transfer involved in the issue and delivery of shares of Common Stock in a name other than that in which the shares of Series F Preferred Stock so converted were registered. (o) No Dilution or Impairment. The Company shall not amend its ------------------------- Certificate of Incorporation or participate in any reorganization, transfer of assets, -12- consolidation, merger, dissolution, issue or sale of securities or any other voluntary action, for the purpose of avoiding or seeking to avoid the observance or performance of any of the terms to be observed or performed hereunder by the Company, but will at all times in good faith assist in carrying out all such action as may be reasonably necessary or appropriate in order to protect the conversion rights of the holders of the Series F Preferred Stock against dilution or other impairment. (p) Validity of Conversion Shares. The Corporation agrees that it ----------------------------- will from time to time take all such actions as may be necessary to assure that all shares of Common Stock which may be issued upon conversion of any share of Series F Preferred Stock will, upon issuance, be legally and validly issued, fully paid and nonassessable and free from all liens and charges with respect to the issue thereof (other than liens imposed by the holders of such shares); and, without limiting the generality of the foregoing, the Corporation agrees that it will from time to time take all such action as may be necessary to assure that the par value per share, if any, of the Common Stock is at all times equal to or less than that which would be required to maintain the status of the Common Stock as fully paid without additional payment from the holders of the Series F Preferred Stock. Section 10. Restrictions and Limitations. So long as any shares of ---------------------------- Series F Preferred Stock remain outstanding, the Company shall not, and shall not permit any Subsidiary to, without the vote or written consent by the holders of at least a Majority of the Series F Preferred Stock: (a) Increase or decrease the aggregate number of authorized shares of Series F Preferred Stock; (b) Increase or decrease the par value of the Series F Preferred Stock; (c) Alter or change the powers, preferences or special rights of the Series F Preferred Stock so as to affect them adversely; or (d) authorize, create or issue any new class or series of capital stock or any other securities convertible into equity securities of the Company (other than Common Stock) having a preference over, or being on a parity with, the Series F Preferred Stock with respect to voting, dividends, redemption, liquidation or dissolution of the Company, other than the Series D Preferred Stock and Series E Preferred Stock. Section 11. No Reissuance of Series F Preferred Stock. No share or ----------------------------------------- shares of Series F Preferred Stock acquired by the Company by reason of redemption, purchase, conversion or otherwise shall be reissued, and all such shares shall be cancelled, retired and eliminated from the shares which the Company shall be authorized to issue. -13- IN WITNESS WHEREOF, Protein Polymer Technologies, Inc. has caused this Certificate to be signed and attested by its duly authorized officers this ____ day of _________, 1998. PROTEIN POLYMER TECHNOLOGIES, INC. By: _____________________________ J. Thomas Parmeter, President Attest: By: __________________________ Philip J. Davis, Secretary -14- EX-10.34 4 SECURITIES PURCHASE AGREEMENT EXHIBIT 10.34 SERIES E SECURITIES PURCHASE AGREEMENT ----------------------------- THIS SECURITIES PURCHASE AGREEMENT (this "Agreement") is entered into --------- as of April 13, 1998 among Protein Polymer Technologies, Inc., a Delaware corporation (the "Company"), and the other Persons listed on Annex A hereto ------- (sometimes referred to herein individually as "Investor" and sometimes -------- collectively as "Investors"). --------- 1. Definitions. Unless the context otherwise requires, the terms ----------- defined in this Section 1 shall have the meanings herein specified for all purposes of this Agreement, applicable to both the singular and plural forms of any of the terms herein defined. All accounting terms defined in this Section 1 and those accounting terms used in this Agreement not defined in this Section 1 shall, except as otherwise provided for herein, be construed in accordance with those generally accepted accounting principles that the Company is required to employ by the terms of this Agreement. If and so long as the Company has any Subsidiary, the accounting terms defined in this Section 1 and those accounting terms appearing in this Agreement but not defined in this Section 1 shall be determined on a consolidated basis for the Company and each of its Subsidiaries, and the financial statements and other financial information to be furnished by the Company pursuant to this Agreement shall be consolidated. "1996 Annual Report" shall mean the Company's Report on Form ------------------ 10-KSB for the fiscal year ended December 31, 1996. "Action" shall mean any action, suit, arbitration or other ------ legal, administrative or other proceeding by or before any court, arbitrator or Governmental Entity. "Agreement" shall mean this Securities Purchase Agreement. --------- "Board" shall mean the Board of Directors of the Company. ----- "California Securities Law" shall mean the California ------------------------- Corporate Securities Law of 1968, as amended. "Certificate" shall have the meaning assigned to it in ----------- Section 2 hereof. "Closing" and "Closing Date" shall have the meanings ------- ------------ assigned to such terms in Section 3(b) hereof. "Code" shall mean the Internal Revenue Code of 1986, as ---- amended. "Common Stock" shall mean the Company's common stock, par ------------ value $0.01 per share. "Commission" shall mean the Securities and Exchange ---------- Commission. "Conversion Stock" shall have the meaning assigned to it in ---------------- Section 2 hereof. "Equity Security" shall mean the Common Stock, or any --------------- security convertible into the Common Stock, or any security carrying any warrant or right to subscribe to or purchase the Common Stock, or any such warrant or right. "First Warrants" shall have the meaning assigned to such -------------- term in Section 2 hereof. "First Warrant Stock" shall have the meaning assigned to ------------------- such term in Section 2 hereof. "Form 10-QSB" shall mean the Company's Quarterly Report on ----------- Form 10-QSB for the quarterly period ended September 30, 1997. "Governmental Entity" shall mean any federal, state, local ------------------- or foreign governmental bureau, commission, board, agency or instrumentality. "Holder" of any security shall mean the record or ------ beneficial owner of such security. A Holder of Preferred Stock shall be treated as the Holder of the Conversion Stock underlying the Preferred Stock and a Holder of a Warrant shall be treated as the Holder of the Warrant Stock underlying the Warrant. "Holders of 75% of the Preferred Stock" shall mean, on a ------------------------------------- given date, the Person or Persons who are the Holders of greater than 75% of the outstanding Preferred Stock. "Initial Investors" shall mean those Investors purchasing ----------------- Preferred Stock and Warrants at the Closing. "Investor" shall have the meaning assigned to it in the -------- introductory paragraph of this Agreement. "Material Adverse Effect" shall mean a material and adverse ----------------------- effect on the business, assets, property, business prospects, or financial condition of the Company. "Person" shall mean any natural person, corporation, trust, ------ association, company, partnership, joint venture and other entity and any government, governmental agency, instrumentality or political subdivision. -2- "Preferred Stock" shall have the meaning assigned to it in --------------- Section 2 hereof. "Required Payment" shall mean, with respect to each ---------------- Investor, the number of shares of Preferred Stock purchased by such Investor, multiplied by $100.00, as set forth on Annex A hereto. "Restricted Stock" means (i) the Common Stock issued or ---------------- issuable to the Investors upon conversion of the Preferred Stock issued and sold pursuant to this Agreement or upon exercise of the Warrants and (ii) any Common Stock issued or issuable (either directly or upon the conversion or exercise of any warrant, right, or other security) with respect to the Common Stock referred to in clause (i) above by way of a stock dividend or stock split or in connection with a combination of shares, reclassification, recapitalization, merger or consolidation or reorganization; provided, however, that such shares -------- ------- of Common Stock shall only be treated as Restricted Stock if and so long as they have not been (x) sold to or through a broker or dealer or underwriter in a public distribution or a public securities transaction, or (y) sold in a transaction exempt from the registration and prospectus delivery requirements of the Securities Act under Section 4(1) thereof so that all transfer restrictions and restrictive legends with respect to such Common Stock are removed upon the consummation of such sale and the Company receives an opinion of counsel for the Company (with a copy to the seller of such Common Stock), which shall be in form and content reasonably satisfactory to the Company, to the effect that such Common Stock in the hands of the purchaser is freely transferable without restriction or registration under the Securities Act in any public or private transaction. "Rule 144" shall mean Rule 144 of the Commission under the -------- Securities Act. "Second Warrants" shall have the meaning assigned to such --------------- term in Section 2 hereof. "Second Warrant Stock" shall have the meaning assigned to --------------------- such term is Section 2 hereof. "Securities" shall have the meaning assigned to it in ---------- Section 2 hereof. "Securities Act" shall mean the Securities Act of 1933, as -------------- amended. "Stock Plans" shall mean the Company's 1989 Stock Option ----------- Plan, 1992 Stock Option Plan, 1996 Non-Employee Directors' Stock Option Plan and Employee Stock Purchase Plan, collectively. "Subsequent Closing" and "Subsequent Closing Date" shall ------------------ ----------------------- have the meanings assigned to such terms in Section 3(c) hereof. -3- "Subsidiary" shall mean any Person, at least 50% of the ---------- outstanding voting stock of which is at the time owned or controlled directly or indirectly by the Company or by one or more of such subsidiary entities or both, where "voting stock" means any shares of stock having general voting power in electing the board of directors. "Warrants" shall mean the First Warrants and Second -------- Warrants, collectively. "Warrant Stock" shall mean the First Warrant Stock and ------------- Second Warrant Stock, collectively. 2. Authorization of Securities. The Company has authorized the --------------------------- issue and sale of up to (i) 55,000 shares of its Series E Convertible Preferred Stock, par value $0.01 per share (the "Preferred Stock"), having the rights, --------------- preferences and privileges set forth in the Certificate of Designation (hereinafter referred to as the "Certificate") attached hereto as Annex B, (ii) ----------- warrants, having terms and conditions in the form of Warrant attached hereto as Annex C (collectively, the "First Warrants"), to purchase up to an aggregate of -------------- 2,400,000 shares of Common Stock (the "First Warrant Stock") and (iii) warrants, ------------------- having terms and conditions in the form of Warrant attached hereto as Annex D (collectively, the "Second Warrants"), to purchase up to an aggregate of --------------- 1,200,000 shares of Common Stock (the "Second Warrant Stock"). The Common Stock -------------------- into which the Preferred Stock is convertible is sometimes referred to herein as the "Conversion Stock"; and the Preferred Stock, the Warrants, the Warrant Stock ---------------- and the Conversion Stock are sometimes referred to herein individually and collectively as the "Securities." ---------- 3. Sale and Purchase of Preferred Stock and Warrants. ------------------------------------------------- (a) Upon the terms and subject to the conditions herein contained, the Company agrees to sell to each Initial Investor, and each Initial Investor severally agrees to purchase from the Company, at the Closing on the Closing Date, (i) the number of shares of Preferred Stock, and (ii) the First Warrants and the Second Warrants to purchase the number of shares of First Warrant Stock and Second Warrant Stock, in each case as set forth opposite its name on Annex A hereto, and each Initial Investor shall pay to the Company the Required Payment. (b) The initial closing of the sale to and purchase by the Initial Investors of the Preferred Stock and Warrants (the "Closing") shall ------- occur at the offices of Paul, Hastings, Janofsky & Walker, 555 South Flower Street, Los Angeles, California, at the hour of 10 o'clock A.M., California time, on April 24, 1998 or at such different time or day as the Initial Investors and the Company shall agree (the "Closing Date"). At the Closing, the ------------ Company will deliver to each Investor instruments or certificates evidencing the Securities being purchased by it, each of which shall be registered in such Initial Investor's name as stated on Annex A hereto, against delivery to the Company of payment by cashier's check or wire transfer, or such other form acceptable to the Company, in an amount equal to the Required Payment of such Initial Investor. -4- (c) After the Closing, additional shares of Preferred Stock (which, together with the Preferred Stock issued at the Closing, shall not exceed 55,000 shares in the aggregate), additional First Warrants (which, together with the First Warrants issued at the Closing, shall not represent the right to acquire more than 2,400,000 shares of First Warrant Stock in the aggregate) and additional Second Warrants (which together with the Second Warrants issued at the Closing, shall not represent the right to acquire more than 1,200,000 shares of Second Warrant Stock in the aggregate), may be issued at one or more subsequent closings (each, a "Subsequent Closing") which are held ------------------ May 15, 1998. Each Subsequent Closing shall be effective upon the date (a "Subsequent Closing Date") of the Company's receipt from an Investor of a - ------------------------ cashier's check or wire transfer funds in the amount of such Investor's Required Payment. Effective upon each such Subsequent Closing, the applicable Investor shall also enter into and become a party to this Agreement and the Registration Rights Agreement as if such Investor had executed such agreements at the Closing. (d) Notwithstanding the foregoing, no shares of Preferred Stock, and no Warrants, shall be offered or sold after the Closing to any Investor if, in the opinion of the Company and its counsel, (i) such offer and sale would not be exempt from the registration and prospectus delivery requirements of the Securities Act and exempt from the registration or qualification requirements of all applicable state securities laws, or (ii) such offers and sales would detract from or adversely affect the availability and effectiveness of the exemption from or compliance with such federal and state requirements relied upon in respect of the offer and sale of Preferred Stock and Warrants to the Initial Investors at the Closing. (e) At the Closing, the Company shall prepare Annex A with respect to the Investors purchasing Preferred Stock and Warrants at the Closing. Promptly after each Subsequent Closing, the Company shall amend Annex A as appropriate. 4. Register of Securities; Restrictions on Transfer of Securities; --------------------------------------------------------------- Removal of Restrictions on Transfer of Securities. - ------------------------------------------------- 4.1 Register of Securities. The Company or its duly ---------------------- appointed agent shall maintain a separate register for the shares of Preferred Stock, Warrants and Common Stock, in which it shall register the issue and sale of all such securities. All transfers of the Securities shall be recorded on the register maintained by the Company or its agent, and the Company shall be entitled to regard the registered holder of the Securities as the actual holder of the Securities so registered until the Company or its agent is required to record a transfer of such Securities on its register. Subject to Section 4.2(c) hereof, the Company or its agent shall be required to record any such transfer when it receives the Security to be transferred duly and properly endorsed by the registered holder thereof or by its attorney duly authorized in writing. 4.2 Restrictions on Transfer. ------------------------ (a) Each Investor understands and agrees that the Securities it will be acquiring have not been registered under the Securities Act, and that accordingly they will not be fully transferable except as permitted under various -5- exemptions contained in the Securities Act, or upon satisfaction of the registration and prospectus delivery requirements of the Securities Act. Each Investor acknowledges that it must bear the economic risk of its investment in the Securities for an indefinite period of time since they have not been registered under the Securities Act and therefore cannot be sold unless they are subsequently registered or an exemption from registration is available. (b) Each Investor hereby represents and warrants to the Company that: (i) Such Investor is acquiring the Securities it has agreed to purchase (and, if applicable, will acquire the Warrant Stock and Conversion Stock) for investment purposes only, for its own account, and not as nominee or agent for any other Person, and not with the view to, or for resale in connection with, any distribution thereof within the meaning of the Securities Act. (ii) Such Investor knows of no public solicitation or advertisement of an offer in connection with the Securities. (iii) Such Investor has carefully reviewed this Agreement. Such Investor has had, during the course of the transaction and prior to its purchase of the Preferred Stock and Warrants, the opportunity to ask questions of and receive answers from the Company concerning the terms and conditions of the offering and to obtain additional information necessary to verify the accuracy of any information furnished to it or to which it had access. Such Investor has received all information that it has requested regarding the Company and believes that such information is sufficient to make an informed decision with respect to the purchase of the Preferred Stock and Warrants. Without limiting the generality of the foregoing, such Investor has received a copy of (A) the 1996 Annual Report, (B) the Form 10-QSB, and (C) the Risk Factors attached as Annex E hereto. (iv) Such Investor is able to bear the economic risk of its investment in the Preferred Stock and Warrants and has such knowledge and experience in financial and business matters that it is capable of evaluating the merits and risks of, and protecting its interests with respect to, its investment in the Preferred Stock and Warrants. Such Investor is aware of the risk involved in its investment in the Preferred Stock and Warrants and has determined that such investment is suitable for it in light of its financial circumstances and available investment opportunities. (v) This Agreement, when executed and delivered by such Investor, constitutes the legal, valid and binding obligation of such Investor and is enforceable against such Investor in accordance with its terms. (vi) Such Investor is an "accredited investor" as that term is defined in Rule 501 of Regulation D promulgated under the Securities Act. (vii) Such Investor's jurisdiction of formation or incorporation (if applicable) and principal place of business or its residency as set forth on the signature page hereof or the annexes hereto by such Investor are accurate. -6- (viii) The purchase by such Investor of the Preferred Stock and Warrants hereunder does not violate or conflict with any law or regulation applicable to such Investor. (ix) No Person engaged by such Investor has, or will have, any right or claim against the Company for any commission, fee or other compensation as a finder or broker, or in any similar capacity. (c) Each Investor hereby further agrees with the Company as follows: (i) Subject to Section 4.3 hereof, the instruments or certificates evidencing the Securities it has agreed to purchase, and each instrument or certificate issued in transfer thereof, will bear the following legend: "The securities evidenced by this certificate have not been registered under the Securities Act of 1933 and have been taken for investment purposes only and not with a view to the distribution thereof, and, except as stated in an agreement between the holder of this certificate, or its predecessor in interest, and the issuer corporation, such securities may not be sold or transferred unless there is an effective registration statement under such Act covering such securities or the issuer corporation receives an opinion, in form and content reasonably satisfactory to the issuer corporation, of counsel reasonably acceptable to the issuer corporation (which may be counsel for the issuer corporation) stating that such sale or transfer is exempt from the registration and prospectus delivery requirements of such Act." (ii) The instruments or certificates representing such Securities, and each instrument or certificate issued in transfer thereof, will also bear any legend required under any applicable state securities law. (iii) Prior to any proposed sale, assignment, transfer or pledge of any Securities by an Investor, unless there is in effect a registration statement under the Securities Act covering the proposed transfer, the Investor shall give written notice to the Company of such Investor's intention to effect such transfer, sale, assignment or pledge. Each such notice shall describe the manner and circumstances of the proposed transfer, sale, assignment or pledge in sufficient detail and shall be accompanied at such holder's expense by either (A) an unqualified written opinion of legal counsel who shall, and whose legal opinion shall, be reasonably satisfactory to the Company addressed to the Company, to the effect that the proposed transfer of the Securities may be effected without registration under the Securities Act, or (B) a "no action" letter from the Commission to the effect that the transfer of such securities without registration will not result in a recommendation by the staff of the Commission that action be taken with respect thereto, whereupon the holder of such Securities shall be entitled to transfer such Securities in accordance with the terms of the notice delivered by the holder to the Company. The Company will not require such a legal opinion or "no action" letter in any transaction in compliance with Rule 144, unless otherwise required by the Company's independent transfer agent. -7- (iv) Such Investor consents to the Company's making a notation on its records or giving instructions to any transfer agent of the Common Stock, Warrants or Preferred Stock in order to implement the restrictions on transfer of the Securities mentioned in this subsection (c). (d) Each Investor, or each Person executing this Agreement on behalf of an Investor, further represents and warrants to the Company that such Investor or other Person, as the case may be, has been duly authorized to, and has, and as of the Closing, and Subsequent Closing if applicable, will have, full power and authority (including corporate, if applicable) to, execute and deliver this Agreement and the Registration Rights Agreement on behalf of such Investor, and to make the representations and warranties to the Company in this Section 4 on behalf of such Investor, and to perform the obligations of such Investor, if any, under this Agreement and the Registration Rights Agreement. 4.3 Removal of Transfer Restrictions. Any legend endorsed -------------------------------- on a certificate evidencing a Security pursuant to Section 4.2(c)(i) hereof and the stop transfer instructions and record notations with respect to such Security shall be removed and the Company shall issue a certificate without such legend to the holder of such Security (a) if such Security is registered under the Securities Act, (b) if such holder provides the Company with an opinion, in form and content reasonably satisfactory to the Company, of counsel (which may be counsel for the Company) reasonably acceptable to the Company to the effect that a public sale or transfer of such Security may be made without registration under the Securities Act or (c) if such Security may be sold under Rule 144. 5. Representations and Warranties by and Covenants of the Company. In -------------------------------------------------------------- order to induce each Investor to enter into this Agreement and to purchase the Preferred Stock and Warrants, the Company hereby represents and warrants to each Investor that, except as set forth on Annex F hereto: 5.1 Organization, Standing, etc. The Company is a corporation duly --------------------------- organized, validly existing and in good standing under the laws of the State of Delaware, and has all requisite corporate power and authority to carry on its business as presently conducted and as proposed to be conducted, to own and hold its properties and assets, to enter into this Agreement, to issue the Securities and to carry out the provisions hereof and the terms of the Certificate and the Securities. 5.2 Certificate and Bylaws. The copies of the Certificate of ---------------------- Incorporation and Bylaws of the Company which have been delivered to (or made available for inspection by) the Investors prior to the execution of this Agreement are true and complete and have not been amended or repealed, except for the amendments to the Certificate of Incorporation that will be accomplished by the filing of the Certificate with the Delaware Secretary of State. 5.3 Subsidiaries. The Company has no Subsidiaries or affiliated ------------ companies and does not otherwise own or control, directly or indirectly, any equity interest in any corporation, association or business entity. -8- 5.4 Qualification. The Company is duly qualified as a foreign ------------- corporation and in good standing in the State of California. The Company is not qualified to do business as a foreign corporation in any other jurisdiction and such qualification is not required as of the date hereof, except where the failure to be so qualified would not have a Material Adverse Effect. 5.5 Capital Stock. ------------- (a) As of the Closing Date, the authorized capital stock of the Company will consist of (i) 5,000,000 shares of preferred stock, par value $0.01 per share, 71,600 shares of which have been designated as Series D Preferred Stock, 2,000,000 shares of which have been designated as Series X Junior Participating Preferred Stock, 55,000 shares of which have been designated as the Series E Preferred Stock and 27,317 shares of which have been designated as the Series F Preferred Stock; and (ii) 25,000,000 shares of Common Stock; and the Company will have no authority to issue any other capital stock. There are 28,213.42 shares of Series D Preferred Stock issued and outstanding, of which (A) 26,420 shall be exchanged for an equal number of shares of Series F Preferred Stock on or about the Closing, (B) 896.42 shares may be converted into Common Stock and (C) 897 shares may be exchanged for an equal number of shares of Series F Preferred Stock after the Closing, no shares of Series X Preferred issued and outstanding, no shares of Series E Preferred Stock issued and outstanding and no shares of Series F Preferred Stock issued and outstanding, and, as of the Closing, before giving effect to the transactions contemplated by this Agreement, 10,437,028 shares of Common Stock are issued and outstanding, and all such outstanding shares of Series D Preferred Stock and Common Stock have been duly authorized, validly issued, fully paid and nonassessable. (b) The Company has reserved a total of 2,509,758 shares of Common Stock for issuance upon the exercise of stock options or purchase rights granted under the Stock Plans or under other stock option agreements. (c) Except as contemplated by this Agreement or as expressly provided in Annex F to this Agreement, the Company has no outstanding subscription, option, warrant, right of first refusal, preemptive right, call, contract, demand, commitment, convertible security or other instrument, agreement or arrangement of any character or nature whatever under which the Company is or may be obligated to issue Common Stock, preferred stock or other Equity Security of any kind. 5.6 Corporate Acts and Proceedings. The Company has, and as of the ------------------------------ Closing will have, full corporate power and authority to execute and deliver this Agreement and to perform its obligations hereunder and the transactions contemplated hereby. All corporate acts and proceedings required for the authorization, execution and delivery of this Agreement and the offer, issuance and delivery of the Securities and the performance of this Agreement and the terms of the Certificate have been lawfully and validly taken or will have been so taken prior to the Closing. 5.7 Compliance with Other Instruments. The execution, delivery and --------------------------------- performance by the Company of this Agreement and the observance of the terms of the Certificate (a) will not require from the Board or stockholders of the Company any -9- consent or approval that has not been validly and lawfully obtained, (b) will not require the Company to obtain or effect any authorization, consent, approval, license, exemption of or filing or registration with any Person, except such as shall have been lawfully and validly obtained prior to the Closing, (c) will not cause the Company to violate or contravene, except where such violation or contravention would not have a Material Adverse Effect, (i) any provision of law, (ii) any rule or regulation of any Governmental Entity or the National Association of Securities Dealers, (iii) any order, writ, judgment, injunction, decree, determination or award binding upon the Company, or (iv) any provision of the Certificate of Incorporation or Bylaws of the Company, (d) will not cause the Company to violate or be in conflict with, result in a breach by the Company of or constitute (with or without notice or lapse of time or both) a default by the Company under, any material agreement, lease or instrument, commitment or arrangement to which the Company is a party or by which the Company or any of its properties, assets or rights are bound or affected, except where such violation, conflict, breach or default would not have a Material Adverse Effect, and (e) will not result in the creation or imposition of any lien. The Company is not in violation of, or (with or without notice or lapse of time or both) in default under, any term or provision of its Certificate of Incorporation or Bylaws or of any indenture, loan or credit agreement, note agreement, deed of trust, mortgage, security agreement or other agreement, lease or other instrument, commitment or arrangement to which the Company is a party or by which any of the Company's properties, assets or rights are bound or affected, except where such violation or default would not have a Material Adverse Effect. 5.8 Binding Obligations. ------------------- (a) This Agreement constitutes the legal, valid and binding obligations of the Company, enforceable against the Company in accordance with its terms, except as such enforcement is limited by bankruptcy, insolvency and other similar laws affecting the enforcement of creditors' rights generally, and by general equitable principles. (b) The Warrants are duly authorized and, when executed, delivered and paid for in accordance with the terms of this Agreement, will be free and clear of all liens and restrictions, other than liens that may have been created or suffered by the Investor and restrictions imposed by the Securities Act, state securities laws or this Agreement. (c) The Preferred Stock is duly authorized and, when issued in accordance with the terms of this Agreement, will be duly authorized, validly issued and outstanding, fully paid and nonassessable and free and clear of all liens and restrictions, other than liens that might have been created or suffered by the Investors and restrictions imposed by the Securities Act, state securities laws or this Agreement. (d) The Conversion Stock and Warrant Stock have been duly authorized and, when issued in accordance with the terms of the Certificate and the Warrants, respectively, will be duly authorized, validly issued and outstanding, fully paid and nonassessable and free and clear of all liens and restrictions, other than liens that might have been created or suffered by the Investors and restrictions imposed by the Securities Act, state securities laws or this Agreement. -10- 5.9 Securities Laws. Subject to the accuracy of the representations --------------- and warranties contained in Section 4.2, the offer, issue and sale of the Preferred Stock, Warrants, Conversion Stock and (assuming no transfers of the Warrants and no change in applicable law between the date hereof and the date of exercise of the Warrants) the Warrant Stock are and will be exempt from the registration and prospectus delivery requirements of the Securities Act, and are and will be exempt from qualification under the California Securities Law and the state securities laws of the jurisdictions where the Investors are resident. 5.10 Financial Statements. Included in the Form 10-QSB are the -------------------- Company's unaudited balance sheet (the "Balance Sheet") as of September 30, 1997 ------------- (the "Balance Sheet Date"), and the unaudited statement of operations for the ------------------ nine-month period then ended. Included in the 1996 Annual Report are the Company's audited balance sheets as of December 31, 1995 and 1996 and the audited statements of operations, cash flow and shareholders' equity for the period then ended, together with the related opinion of Ernst & Young LLP, independent certified public accountants. The foregoing financial statements (i) are complete and correct in all material respects and are in accordance with the books and records of the Company, (ii) present fairly the financial condition of the Company at the Balance Sheet Date and other dates therein specified and the results of operations and changes in financial position of the Company for the periods therein specified, and (iii) have been prepared in accordance with generally accepted accounting principles applied on a basis consistent with prior accounting periods, except that the unaudited financial statements are subject to year-end audit adjustments and do not contain footnotes or statements of shareholders' equity and cash flow. 5.11 Changes. Since the Balance Sheet Date, except as disclosed in ------- the Form 10-QSB or on Annex F, there has been no event which would have a Material Adverse Effect, and the Company has not (a) mortgaged, pledged or subjected to Lien any of its material assets, tangible or intangible, (b) sold, transferred or leased any of its assets, (c) cancelled or compromised any material debt or claim, or waived or released any right, of material value, (d) suffered any physical damage, destruction or loss (whether or not covered by insurance) having a material effect, (e) declared or paid any dividends on or made any other distributions with respect to, or purchased or redeemed, any of its outstanding Equity Securities, except for accrued dividends on the Series D Preferred Stock, or (f) suffered or experienced any material adverse change or loss in its business other than its continuing losses from operations. 5.12 Material Agreements of the Company. The Company is not a party ---------------------------------- to or otherwise bound by any written or oral agreement, instrument or arrangement that is material to the Company except for those agreements listed in Item 13 of the 1996 Annual Report or as set forth on Annex F hereto. The Company has furnished or made available to each Investor true and complete copies of all such agreements and all other agreements, instruments and other documents requested by any Investor or its authorized representative. 5.13 Litigation. There is no Action pending and, to the best ---------- knowledge of the Company, there is no material Action threatened against the Company or its properties, assets or business. To the Company's best knowledge, the Company is not in -11- default with respect to any order, writ, judgment, injunction, decree, determination or award of any court or of any Governmental Entity. 5.14 Brokers or Finders. Except as set forth on Annex F hereto, the ------------------ Company has not incurred, and will not incur, directly or indirectly, as a result of any action taken by the Company, any liability for brokerage or finders' fees or agents' commissions or any similar charges in connection with this Agreement. The Company agrees to indemnify and hold harmless the Investors from any damages they incur as a result of any claims for such fees, commissions or charges. 5.15 Disclosure. The representations and warranties of the Company ---------- contained herein, when read together with the annexes hereto and the Form 10-QSB and the 1996 Annual Report do not contain any untrue statement of material fact or omit to state a material fact necessary to make the statements therein, in light of the circumstances under which they are made, not misleading. 5.16 Intellectual Property. --------------------- (a) To the best of its knowledge, the Company has sufficient title to and ownership of, free and clear of all liens, claims and encumbrances of any nature, all patents, patent rights, patent applications, inventions, trademarks, service marks, trade names, copyrights and information, proprietary rights and processes necessary for the conduct of its business; and the use by the Company of the foregoing does not conflict with or constitute an infringement of the rights of others. (b) The Company has not received any communications alleging that it has violated, and has no knowledge that the Company has violated, or by conducting its business, the Company will not, to the best of its knowledge, violate, any of the patents, patent applications, inventions, trademarks, service marks, trade names, copyrights or trade secrets, confidential information, proprietary rights or processes of any other person. 5.17 Retirement Obligations. Except as set forth on Annex F hereto, ---------------------- the Company does not have any Employee Benefit Plan as defined in the Employee Retirement Income Security Act of 1974, as amended, other than as disclosed in the 1996 Annual Report. 5.18 No Governmental Consent or Approval Required. Based in part on -------------------------------------------- the representations made by the Investors in Section 4 of this Agreement, no authorization, consent, approval or other order of, declaration to, or registration, qualification, designation or filing with, any federal, state or local governmental agency or body is required by or from the Company for or in connection with the valid and lawful authorization, execution and delivery by the Company of this Agreement or any other agreement entered into by the Company in connection with this Agreement, and consummation of the transactions contemplated hereby or thereby, or for or in connection with the valid and lawful authorization, issuance, sale and delivery of the Preferred Stock and the Warrants or for or in connection with the valid and lawful authorization, reservation, issuance, sale and delivery of the Conversion Stock and the Warrant Stock, other than the filing of the Certificate with the Delaware Secretary of State, the -12- qualification (or taking of such action as may be necessary to secure an exemption from qualification, if available) of the offer and sale of the Preferred Stock and Warrants under the California Securities Law and other applicable state or federal securities laws, which filings and qualifications, if required, will be accomplished in a timely manner so as to comply with such qualification or exemption from qualification requirements. 5.19 NASD Compliance. The Company's Common Stock is registered --------------- pursuant to Section 12(g) of the Exchange Act and is listed on the the Nasdaq SmallCap Market and, except as set forth on Annex F hereto, the Company has taken no action designed to, or likely to have the effect of, terminating the registration of the Common Stock under the Exchange Act or de-listing the Common Stock from the Nasdaq SmallCap Market, nor has the Company received any notification that the Securities and Exchange Commission or the National Association of Securities Dealers, Inc. is contemplating terminating such registration or listing. 5.20 Reporting Status. Except as set forth on Annex F hereto, the ---------------- Company has filed in a timely manner all documents that the Company was required to file under the Exchange Act during the 12 months preceding the date of this Agreement and such documents complied in all material respects with the Commission's requirements as of their respective filing dates, and the information contained therein as of the date thereof did not contain any untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein in light of the circumstances under which they were made not misleading. 5.21 Listing. The Company shall use its best efforts to comply with ------- all requirements of the National Association of Securities Dealers, Inc. with respect to the issuance of the Securities and the listing of the Common Stock issuable upon exercise of the Warrants and conversion of the Preferred Stock on the Nasdaq SmallCap Market. 5.22 No Financing Security Interests in Intellectual Property. For -------------------------------------------------------- so long as at least 5,500 shares of Preferred Stock remain outstanding, the Company agrees that it shall not give a security interest in or assign any of its Intellectual Property in connection with any financing transaction without the prior written consent of the Holders of 75% of the Preferred Stock. For the purposes of this Section 5.22, Intellectual Property shall include, but not be limited to, all copyrights, trademarks, trade names, service marks, patents, patent applications, patents pending, developmental ideas and concepts, proprietary processes, blueprints, drawings, formulas, designs, reports, technical data and all other proprietary information used or useful in connection with the Company's business. 6. Conditions of Parties' Obligations. ---------------------------------- 6.1 Conditions of Investors' Obligations at the Closing. The ---------------------------------------------------- obligation of each Investor to purchase and pay for the Preferred Stock and Warrants which it has agreed to purchase on the Closing Date (or, if applicable, the Subsequent Closing Date) is subject to the fulfillment prior to or on the Closing Date (or, if applicable, the Subsequent Closing Date) of the following conditions, any of which may be waived in whole or in part by such Investor. -13- (a) No Errors, etc. The representations and warranties -------------- of the Company under this Agreement shall be deemed to have been made again on the Closing Date (or, if applicable, the Subsequent Closing Date) and shall then be true and correct in all material respects. (b) Compliance with Agreement. The Company shall have ------------------------- performed and complied with, in all material respects, all agreements and conditions required by this Agreement to be performed or complied with by it on or before the Closing Date (or, if applicable, the Subsequent Closing Date). (c) Certificate of the Company. With respect to the -------------------------- Closing only, the Company shall have delivered to each Investor a certificate of the Company dated the Closing Date, executed by its President, certifying the satisfaction of the conditions specified in subsections (a), (b), (e), (f) and (g) of this Section 6.1. (d) Opinion of Counsel. Paul, Hastings, Janofsky & Walker ------------------ LLP, counsel to the Company, shall have furnished an opinion to the Investors covering the matters set forth in Sections 5.1, 5.5(a), 5.6, 5.8 and 5.9. (e) Certificate. The Certificate shall have been filed ----------- with the Delaware Secretary of State. (f) Qualification. All authorizations, approvals or ------------- permits, if any, of any governmental authority or regulatory body of the United States or of any state that are required from the Company in connection with the lawful issuance and sale of the Preferred Stock and Warrants to the Investors pursuant to this Agreement shall have been duly obtained and shall be effective on and as of the Closing. (g) Exchange and Approval of Series D Preferred Stock. ------------------------------------------------- The holders of 26,420 shares of Series D Preferred Stock shall have agreed to exchange such shares for an equal number of Series F Preferred Stock, and the holders of a majority of the outstanding shares of Series D Preferred Stock shall have consented to the issuance of the Series E Preferred Stock and the other transactions contemplated hereby. (h) Minimum Investment. The Initial Investors shall be ------------------ committed to purchase not less than 25,000 shares of Preferred Stock at the Closing. (i) Proceedings and Documents. All corporate and other ------------------------- proceedings in connection with the transactions contemplated at the Closing and all documents incident thereto shall be reasonably satisfactory in form and substance to the Investors and their counsel, and the Investors shall have received all such counterpart originals and certified or other copies of such documents as they may reasonably request. (j) Expiration of Stockholder Notification Period. In --------------------------------------------- accordance with the corporate governance requirements of the National Association of Securities Dealers applicable to the Company and the financial viability exception granted to the Company by Nasdaq in lieu of stockholder approval of the transactions contemplated by this Agreement, the Company shall have mailed the notification required by Nasdaq to its stockholders at least ten days prior to the Closing Date and such ten day period shall have lapsed. -14- 6.2 Conditions of Company's Obligations. The Company's ----------------------------------- obligation to issue and sell the Preferred Stock and Warrants to the Investors on the Closing Date (or, if applicable, the Subsequent Closing Date) is subject to the fulfillment prior to or at such date of (i) the conditions precedent specified in paragraphs (e), (f), (g) and (h) of Section 6.1 hereof, (ii) the condition described in Section 3(c) hereof, if applicable, and (iii) the representations and warranties of the Investors under this Agreement shall be deemed to have been made again on the Closing Date (or, if applicable, the Subsequent Closing Date) and shall then be true and correct. 7. Approvals Required for Subsequent Closings. Without the consent ------------------------------------------ of the Holders of 75% of the Preferred Stock, the Company shall not issue any additional shares of the Preferred Stock after the Closing, whether at a Subsequent Closing or otherwise. 8. Rights of First Refusal. ----------------------- 8.1 Subsequent Offerings. Each Investor shall have the right -------------------- of first refusal to purchase, pro rata, all (or any part of all) Equity Securities that the Company may, from time to time, propose to sell and issue after the Closing Date, other than the Equity Securities excluded by Section 8.5 hereof. Each Investor's pro rata share of such Equity Securities is the ratio of the number of shares of Common Stock with respect to which such Investor is deemed to be a Holder immediately prior to the issuance of such Equity Securities to the total number of shares of Common Stock with respect to which all Investors are deemed to be Holders immediately prior to the issuance of such Equity Securities. 8.2 Exercise of Rights. If and each time the Company proposes ------------------ to issue any Equity Securities, it shall give each Investor written notice of its intention, describing the Equity Securities, the price, and the general terms and conditions upon which the Company proposes to issue the same. Each Investor shall have twenty (20) days from the giving of such notice to agree to purchase its pro rata share of such Equity Securities for the price and upon the terms and conditions specified in the notice by giving written notice to the Company and stating therein the quantity of Equity Securities to be purchased. Each Investor shall have a right of over allotment such that if any Investor fails to exercise its rights hereunder to agree to purchase its pro rata portion of the Equity Securities, the other Investors may agree to purchase the nonpurchasing Investor's portion on a pro rata basis, within ten (10) days from the end of such twenty (20) day period. 8.3 Issuance of Equity Securities to Other Persons. If the ---------------------------------------------- Investors fail to exercise in full the rights of first refusal within such twenty (20) plus ten (10) days, the Company shall have sixty (60) days thereafter to complete the sale of the Equity Securities in respect of which the Investors' rights were not exercised, at a price and upon general terms and conditions no more favorable to the purchasers thereof than specified in the Company's notice to the Investors pursuant to Section 8.2 hereof. If the Company has not sold all of such Equity Securities within such sixty (60) days, the Company shall not thereafter issue or sell any of such Equity Securities, without first offering such securities to the Investors in the manner provided above. 8.4 Termination of Rights of First Refusal. The rights of -------------------------------------- first refusal established by this Section 8 shall terminate when there are no longer more than 10,000 shares of Preferred Stock outstanding. -15- 8.5 Excluded Securities. The rights of first refusal ------------------- established by this Section 8 shall have no application to any of the following Equity Securities: (a) Preferred Stock or Warrants issued pursuant to this Agreement, including without limitation pursuant to Section 3(c) or 7 hereof, (b) the Conversion Stock or the Warrant Stock, (c) stock issued pursuant to any rights or agreements (including, without limitation, convertible securities, options and warrants) outstanding on the date hereof as set forth on Annex F pursuant to Section 5.5(c) hereof, (d) any Common Stock issued to employees, officers, directors, consultants or advisors of the Company for the primary purpose of soliciting or retaining their services, whether issued pursuant to the Stock Plans or otherwise, (e) any Equity Securities issued for a consideration other than cash pursuant to a merger, consolidation, acquisition or similar business combination, (f) any Equity Securities issued in connection with any stock split, stock dividend or reverse stock split, (g) any Equity Securities issued in a bona fide, firmly underwritten public offering registered under the Securities Act, (h) any Equity Securities which the Holders of a 75% of Preferred Stock agree shall not be subject to this Section 8 and (i) shares of the Company's Series D Preferred Stock or Series F Preferred Stock outstanding on the date hereof and shares of Common Stock issuable upon conversion thereof or as a dividend thereon. 8.6 Prior Rights. Nothwithstanding anything to the contrary ------------ herein, the rights set forth in this Section 8 are subject to the prior rights of first refusal of the Series D Preferred Stock and Series F Preferred Stock. 9. Registration of Restricted Stock. -------------------------------- 9.1 Required Registration. --------------------- (a) Subject to the existing registration rights of the holders of Series D Preferred Stock, within ninety (90) to one hundred twenty (120) days after the Closing Date, the Company shall prepare and file a registration statement under the Securities Act, on a form selected by the Company, covering the Restricted Stock and shall use its commercially reasonable efforts to cause such registration statement to become effective as expeditiously as possible and to remain effective until the earlier to occur of the date (i) the Restricted Stock covered thereby have been sold, or (ii) by which all Restricted Stock covered thereby may be sold under Rule 144, without volume limitations. (b) Following the effectiveness of a registration statement filed pursuant to this section, the Company may, at any time, suspend the effectiveness of such registration for up to 45 days, as appropriate (a "Suspension Period"), by giving notice to the Holders of Restricted Stock, if - ------------------ the Company shall have determined that the Company may be required to disclose any material corporate development which disclosure may have a Material Adverse Effect on the Company. Notwithstanding the foregoing, no more than two Suspension Periods (i.e., 90 days) may occur in immediate succession. The Company shall use its best efforts to limit the duration and number of any Suspension Periods. The Holders of Restricted Stock agree that, upon receipt of any notice from the Company of a Suspension Period, the Holders of Restricted Stock shall forthwith discontinue disposition of Restricted Stock covered by such registration statement or prospectus until the Holders of Restricted Stock (i) are advised in writing by the Company that the use of the applicable prospectus may be resumed, (ii) have received copies of a supplemental or amended prospectus, if applicable, and (iii) have received copies of any additional or supplemental filings which are incorporated or deemed to be incorporated by reference into such prospectus. -16- 9.2 Registration Procedures. When the Company effects the ----------------------- registration of the Securities under the Securities Act pursuant to Section 9.1(a) hereof, the Company will, at its expense, as expeditiously as possible: (a) In accordance with the Securities Act and the rules and regulations of the Commission, prepare and file with the Commission a registration statement with respect to such securities and use its commercially reasonable efforts to cause such registration statement to become and remain effective for the period described herein, and prepare and file with the Commission such amendments to such registration statement and supplements to the prospectus contained therein as may be necessary to keep such registration statement effective for such period and such registration statement and prospectus accurate and complete for such period; (b) Furnish to the Holders of securities participating in such registration such reasonable number of copies of the registration statement, preliminary prospectus, final prospectus and such other documents as such Holders may reasonably request in order to facilitate the public offering of such securities; (c) Use its commercially reasonable efforts to register or qualify the securities covered by such registration statement under such state securities or blue sky laws of such jurisdictions as such participating Holders may reasonably request within twenty (20) days following the original filing of such registration statement, except that the Company shall not for any purpose be required to execute a general consent to service of process or to qualify to do business as a foreign corporation in any jurisdiction where it is not so qualified; (d) Notify the Holders participating in such registration, promptly after it shall receive notice thereof, of the date and time when such registration statement and each post-effective amendment thereto has become effective or a supplement to any prospectus forming a part of such registration statement has been filed; (e) Notify such Holders promptly of any request by the Commission for the amending or supplementing of such registration statement or prospectus or for additional information; (f) Prepare and file with the Commission, promptly upon the request of any such Holders, any amendments or supplements to such registration statement or prospectus which, in the opinion of counsel for such Holders, is required under the Securities Act or the rules and regulations thereunder in connection with the distribution of the Restricted Stock by such Holders; (g) Prepare and promptly file with the Commission, and promptly notify such Holders of the filing of, such amendments or supplements to such registration statement or prospectus as may be necessary to correct any statements or omissions if, at the time when a prospectus relating to such securities is required to be delivered under the Securities Act, any event has occurred as the result of which any such prospectus or any other prospectus as then in effect would include an untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading; (h) In case any of such Holders is required to deliver a prospectus at a time when the prospectus then in circulation is not in compliance with the Securities Act or the rules and regulations of the Commission, prepare promptly upon -17- request such amendments or supplements to such registration statement and such prospectus as may be necessary in order for such prospectus to comply with the requirements of the Securities Act and such rules and regulations; and (i) Advise such Holders, promptly after it shall receive notice or obtain knowledge thereof, of the issuance of any stop order by the Commission suspending the effectiveness of such registration statement or the initiation or threatening of any proceeding for that purpose and promptly use its best efforts to prevent the issuance of any stop order or to obtain its withdrawal if such stop order should be issued. 9.3 Expenses. With respect to any registration effected -------- pursuant to Section 9.1 hereof, all fees, costs and expenses of and incidental to such registration and the public offering in connection therewith shall be borne by the Company; provided, however, that the Holders of Restricted Stock shall bear their own legal fees, if any, and their pro rata share of any underwriting discounts or commissions, if any. 9.4 Indemnification. --------------- (a) The Company will indemnify and hold harmless each Holder of shares of Restricted Stock which are included in a registration statement pursuant to the provisions of Section 9 hereof and any underwriter (as defined in the Securities Act) for such Holder, and any person who controls such Holder or such underwriter within the meaning of the Securities Act, and any officer, director, employee, agent, partner or affiliate of such Holder, from and against, and will reimburse such Holder and each such underwriter, controlling person, officer, director, employee, agent, partner and affiliate with respect to, any and all claims, actions, demands, losses, damages, liabilities, costs and expenses to which such Holder or any such underwriter or controlling person or any such officer, director, employee, agent, partner or affiliate may become subject under the Securities Act or otherwise, insofar as such claims, actions, demands, losses, damages, liabilities, costs or expenses arise out of or are based upon (i) any untrue statement or alleged untrue statement of any material fact contained in such registration statement, any prospectus contained therein or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, or (ii) any breach of any representation, warranty, agreement or covenant of the Company contained herein; provided, however, that the Company will not be liable in any such case to the extent that any such claim, action, demand, loss, damage, liability, cost or expense is caused by an untrue statement or alleged untrue statement or omission or alleged omission so made in strict conformity with information furnished by such Holder, such underwriter or such controlling person or such officer, director, employee, agent, partner or affiliate in writing specifically for use in the preparation thereof. (b) Each Holder of shares of the Restricted Stock which are included in a registration pursuant to the provisions of Section 9 hereof will indemnify and hold harmless the Company, and any Person who controls the Company within the meaning of the Securities Act, from and against, and will reimburse the Company and such controlling Persons with respect to, any and all losses, damages, liabilities, costs or expenses to which the Company or such controlling Person may become subject under the Securities Act or otherwise, insofar as such losses, damages, liabilities, costs or expenses are caused by any untrue or alleged untrue statement of any material fact contained in such registration statement, any prospectus contained therein or any amendment or supplement thereto, or are caused by the omission or the alleged -18- omission to state therein a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances in which they were made, not misleading, in each case to the extent, but only to the extent, that such untrue statement or alleged untrue statement or omission or alleged omission was so made in reliance upon and in strict conformity with written information furnished by such Holder specifically for use in the preparation thereof. Notwithstanding the foregoing, the liability of any Holder of Restricted Stock pursuant to this subsection (b) shall be limited to an amount equal to the per share sale price (less any underwriting discount and commissions) multiplied by the number of shares of Restricted Stock sold by such Holder pursuant to the registration statement which gives rise to such obligation to indemnify (less the aggregate amount of any damages which such Holder has otherwise been required to pay in respect of such losses, damages, liabilities, costs or expenses or any substantially similar losses, damages, liabilities, costs or expenses arising from the sale of such Restricted Stock). (c) Promptly after receipt by a party indemnified pursuant to the provisions of paragraph (a) or (b) of this Section 9.4 of notice of the commencement of any action involving the subject matter of the foregoing indemnity provisions, such indemnified party will, if a claim thereof is to be made against the indemnifying party pursuant to the provisions of paragraph (a) or (b), notify the indemnifying party of the commencement thereof; but the omission so to notify the indemnifying party will not relieve it from any liability which it may have to an indemnified party otherwise than under this Section 9.4 and shall not relieve the indemnifying party from liability under this Section 9.4 unless such indemnifying party is prejudiced by such omission. In case such action is brought against any indemnified party and it notifies the indemnifying party of the commencement thereof, the indemnifying party shall have the right to participate in, and, to the extent that it may wish, jointly with any other indemnifying party similarly notified, to assume the defense thereof, with counsel reasonably satisfactory to such indemnified party, and after notice from the indemnifying party to such indemnified party of its election so to assume the defense thereof, the indemnifying party will not be liable to such indemnified party pursuant to the provisions of such paragraph (a) or (b) for any legal or other expense subsequently incurred by such indemnified party in connection with the defense thereof other than reasonable costs of investigation. No indemnifying party shall be liable to an indemnified party for any settlement of any action or claim without the consent of the indemnifying party. No indemnifying party will consent to entry of any judgment or enter into any settlement which does not include as an unconditional term thereof the giving by the claimant or plaintiff to such indemnified party of a release from all liability in respect to such claim or litigation. (d) If the indemnification provided for in subsection (a) or (b) of this Section 9.4 is held by a court of competent jurisdiction to be unavailable to a party to be indemnified with respect to any claims, actions, demands, losses, damages, liabilities, costs or expenses referred to therein, then each indemnifying party under any such subsection, in lieu of indemnifying such indemnified party thereunder, hereby agrees to contribute to the amount paid or payable by such indemnified party as a result of such claims, actions, demands, losses, damages, liabilities, costs or expenses in such proportion as is appropriate to reflect the relative fault of the indemnifying party on the one hand and of the indemnified party on the other in connection with the statements or omissions which resulted in such claims, actions, demands, losses, damages, liabilities, costs or expenses, as well as any other relevant equitable considerations. The relative fault of the indemnifying party and of the indemnified party shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a -19- material fact or the omission or alleged omission to state a material fact relates to information supplied by the indemnifying party or by the indemnified party and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. Notwithstanding the foregoing, the amount any Holder of Restricted Stock shall be obligated to contribute pursuant to this subsection (d) shall be limited to an amount equal to the per share sale price (less any underwriting discount and commissions) multiplied by the number of shares of Restricted Stock sold by such Holder pursuant to the registration statement which gives rise to such obligation to contribute (less the aggregate amount of any damages which such Holder has otherwise been required to pay in respect of such claim, action, demand, loss, damage, liability, cost or expense or any substantially similar claim, action, demand, loss, damage, liability, cost or expense arising from the sale of such Restricted Stock). No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution hereunder from any person who was not guilty of such fraudulent misrepresentation. 9.5 Reporting Requirements Under the Exchange Act. The Company --------------------------------------------- shall timely file such information, documents and reports as the Commission may require or prescribe under Section 13 of the Exchange Act. The Company acknowledges and agrees that the purposes of the requirements contained in this Section 7.5 are (a) to enable the Holders of Restricted Stock to comply with the current public information requirement contained in paragraph (c) of Rule 144 should any such Holder ever wish to dispose of any of the Restricted Stock without registration under the Securities Act in reliance upon Rule 144 (or any other similar exemptive provision) and (b) to qualify the Company for the use of registration statements on Form S-3. 9.6 Stockholder Information. The Company may require each ----------------------- Holder of Restricted Stock to furnish the Company such information with respect to such Holder and the distribution of its Restricted Stock as the Company may from time to time reasonably request in writing as shall be required by law or by the Commission in connection therewith. 10. Miscellaneous. ------------- 10.1 Waivers and Amendments. ---------------------- (a) With the written consent of the Holders of 75% of the Preferred Stock then outstanding, the obligations of the Company and the rights of the Holders of the Securities under this Agreement may be waived (either generally or in a particular instance, either retroactively or prospectively and either for a specified period of time or indefinitely), and with the same consent the Company, when authorized by resolution of its Board, may enter into a supplementary agreement for the purpose of changing in any manner or eliminating any of the provisions of this Agreement or of any supplemental agreement or modifying in any manner the rights hereunder of the Holders of the Securities and the Company; provided, however, that no such waiver or -------- ------- supplemental agreement shall reduce the aforesaid proportion of Preferred Stock, the Holders of which are required to consent to any waiver or supplemental agreement, without the consent of the Holders of all of the Preferred Stock. (b) Upon the effectuation of each such waiver, consent or agreement of amendment or modification, the Company shall promptly give written notice thereof to the Holders of the Preferred Stock who have not previously consented thereto in writing. -20- 10.2 Effect of Waiver or Amendment. Each Investor acknowledges ----------------------------- that by operation of Section 10.1 hereof the Holders of 75% of the Preferred Stock then outstanding will, subject to the limitations contained in such Section 10.1, have the right and power to diminish or eliminate certain rights of such Investor under this Agreement. 10.3 Rights of Holders Inter Se. Each Holder of Securities -------------------------- shall have the absolute right to exercise or refrain from exercising any right or rights which such Holder may have by reason of this Agreement or any Security, including, without limitation, the right to consent to the waiver of any obligation of the Company under this Agreement and to enter into an agreement with the Company for the purpose of modifying this Agreement or any agreement effecting any such modification, and such Holder shall not incur any liability to any other Holder or Holders of Securities with respect to exercising or refraining from exercising any such right or rights. 10.4 Exculpation Among Investors and Holders. Each Investor --------------------------------------- acknowledges that it is not relying upon any other Investor, or any officer, director, employee, agent, partner or affiliate of any such other Investor, in making its investment or decision to invest in the Company or in monitoring such investment. Each Investor agrees that no Investor nor any controlling person, officer, director, stockholder, partner, agent or employee of any Investor shall be liable for any action heretofore or hereafter taken or omitted to be taken by any of them relating to or in connection with the Company or the Securities, or both. Without limiting the generality of the foregoing, no Investor (nor any of its affiliates, officers, directors, stockholders, partners, agents or employees) or other Holder of any Security shall have any obligation, liability or responsibility whatsoever for the accuracy, completeness or fairness of any or all information about the Company or any Subsidiary or their respective properties, business or financial and other affairs, acquired by such Investor or Holder from the Company or the respective officers, directors, employees, agents, representatives, counsel or auditors of either, and in turn provided to another Investor or Holder, nor shall any such Investor (or such other Person) have any obligation or responsibility whatsoever to provide any such information to any other Investor (or such other Person) or Holder or to continue to provide any such information if any information is provided. 10.5 Brokers or Finders. Each Investor represents and warrants ------------------ to the Company and each other Investor that, as a result of such Investor's actions, except as set forth under Section 5.14 of Annex F, no Person has, or as a result of the transaction as contemplated herein will have, any right or valid claim against the Company or any other Investor for any commission, fee or other compensation as a finder or broker, or in a similar capacity. 10.6 Notices. All notices, requests, consents and other ------- communications required or permitted hereunder shall be in writing and shall be given personally, by air courier (with signed acknowledgment of receipt) or by facsimile transmission (with confirmation of transmission): (a) If to any Holder of any of the Securities, addressed to such Holder at its address (or to its telecopier number) shown on his or its signature page hereto, or at such other address (or telecopier number) as such Holder may specify by written notice to the Company, or -21- (b) If to the Company, addressed to it at 10655 Sorrento Valley Road, San Diego, California 92121 (or, if by telecopier, to (619) 558-6477) or at such other address (or telecopier number) as the Company may specify by written notice to the Investors, and each such notice, request, consent and other communication shall for all purposes of the Agreement be treated as being effective or having been given upon receipt. 10.7 Severability. Should any one or more of the provisions of ------------ this Agreement or of any agreement entered into pursuant to this Agreement be determined to be illegal or unenforceable, all other provisions of this Agreement and of each other agreement entered into pursuant to this Agreement, shall be given effect separately from the provision or provisions determined to be illegal or unenforceable and shall not be affected thereby. 10.8 Parties in Interest. All the terms and provisions of this ------------------- Agreement shall be binding upon and inure to the benefit of the respective successors of the parties hereto. This Agreement shall not run to the benefit of or be enforceable by any Person other than a party to this Agreement and his or its successors and permitted assigns. 10.9 Headings. The headings of the Sections and paragraphs of -------- this Agreement have been inserted for convenience of reference only and do not constitute a part of this Agreement. 10.10 Choice of Law. Except where the issue for determination ------------- is one of corporate law, in which case the Delaware General Corporation Law shall govern, it is the intention of the parties that the internal substantive laws, and not the laws of conflicts, of California should govern the enforceability and validity of this Agreement, the construction of its terms and the interpretation of the rights and duties of the parties. 10.11 Expenses. Each party to this Agreement shall bear its own -------- costs and expenses incurred with the negotiation and execution of this Agreement and the performance of the transactions contemplated hereby. 10.12 Counterparts. This Agreement may be executed in any ------------ number of counterparts and by different parties hereto in separate counterparts, with the same effect as if all parties had signed the same document. All such counterparts shall be deemed an original, shall be construed together and shall constitute one and the same instrument. 10.13 Publicity. No party hereto shall originate any press --------- release or other public announcement, written or oral, relating to this Agreement, or to performance hereunder or the existence of any arrangement among the parties hereto without the prior approval of the other parties hereto which may be the subject of such press release or announcement, except to the extent that such press release or announcement is reasonably concluded by a party to be required by applicable law. The Investors acknowledge that the Company will be required to file a copy of this -22- Agreement, and the other agreements and instruments contemplated hereby, with the Commission and to describe these transactions in its public filings. 10.15 Board Seat. The Company shall use its best efforts to ---------- nominate one person proposed by the Holders of 75% of the Preferred Stock to serve as a director on the Board. IN WITNESS WHEREOF, the undersigned has caused this Agreement to be duly executed as of the date first above written. PROTEIN POLYMER TECHNOLOGIES, INC. By _______________________________ J. Thomas Parmeter, President -23- [INVESTOR SIGNATURE PAGE TO PURCHASE AGREEMENT] The foregoing Agreement is hereby accepted as of the date first above written. ____________________________________ By: __________________________________ Name: ____________________________ Title: _____________________________ Address for Notices: _____________________ _____________________ _____________________ _____________________ Attention: ____________ Telecopy: (___) ___-____ -24- EX-10.35 5 FORM OF FIRST WARRANTS EXHIBIT 10.35 FIRST WARRANT TO PURCHASE SHARES OF COMMON STOCK OF PROTEIN POLYMER TECHNOLOGIES, INC. THE WARRANTS REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AND NEITHER THESE WARRANTS NOR ANY INTEREST THEREIN MAY BE TRANSFERRED, HYPOTHECATED OR OTHERWISE DISPOSED OF WITHOUT REGISTRATION UNDER THAT ACT OR AN OPINION OF COUNSEL ACCEPTABLE TO THE COMPANY THAT SUCH REGISTRATION IS NOT REQUIRED. No. E1-__ Warrant to Purchase _______ Shares April __, 1998 of Common Stock, $.01 Par Value WARRANT TO PURCHASE COMMON STOCK of PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation Void after the date set forth in the first paragraph hereof This certifies that, for value received, ______________, or registered assigns ("Holder") is entitled, subject to the terms set forth below, to ------ purchase from Protein Polymer Technologies, Inc., a Delaware corporation (the "Company"), ______ shares of Common Stock, $.01 par value, of the Company (such - -------- class of stock being referred to herein as "Common Stock"), as constituted on ------------ April ___, 1998 (the "Issue Date"), upon surrender of this Warrant, at the principal office of the Company referred to below, with the subscription form attached hereto duly executed, and simultaneous payment therefor in the consideration specified in Section 1 hereof, at the price of $2.50 per share (the "Purchase Price"). This Warrant must be exercised, if at all, prior to the -------------- last day of the eighteenth calendar month after the Issue Date. The shares of Common Stock issued or issuable upon exercise of this Warrant are sometimes referred to as the "Warrant Shares." The term "Warrants" as used herein shall -------------- -------- include this Warrant and any warrants delivered in substitution or exchange therefor as provided herein. 1. Exercise. This Warrant may be exercised at any time or from time -------- to time, on any business day, for all or part of the full number of shares of Common Stock during the period of time called for hereby, by surrendering it at the principal office of the Company, 10655 Sorrento Valley Road, First Floor, San Diego, California 92121, with the subscription form duly executed, together with payment for the Warrant Shares payable in cash, by check for same day funds and/or by delivery and cancellation of promissory notes evidencing indebtedness of the Company. No other form of consideration shall be acceptable for the exercise of this Warrant. A Warrant shall be deemed to have been exercised immediately prior to the close of business on the date of its surrender for exercise as provided above, and the person entitled to receive the shares of Common Stock issuable upon such exercise shall be treated for all purposes as the holder of such shares of record as of the close of business on such date. As soon as practicable on or after such date, and in any event within 10 days thereof, the Company shall issue and deliver to the person or persons entitled to receive the same a certificate or certificates for the number of shares of Common Stock issuable upon such exercise. Upon any partial exercise, the Company will issue and deliver to Holder a new Warrant or Warrants with respect to the shares of Common Stock not so transferred. No fractional shares of Common Stock shall be issued upon exercise of a Warrant. In lieu of any fractional share to which Holder would be entitled upon exercise, the Company shall pay cash equal to the product of such fraction multiplied by the Common Stock Value (as defined in the Company's Certificate of Designation of Series E Preferred Stock) on the date of exercise. 2. Payment of Taxes. All shares of Common Stock issued upon the ---------------- exercise of a Warrant shall be duly authorized, validly issued and outstanding, fully paid and non-assessable. Holder shall pay all taxes and other governmental charges that may be imposed in respect of the issue or delivery thereof and any tax or other charge imposed in connection with any transfer involved in the issue of any certificate for shares of Common Stock in any name other than that of the registered Holder of the Warrant surrendered in connection with the purchase of such shares, and in such case the Company shall not be required to issue or deliver any stock certificate until such tax or other charge has been paid or it has been established to the Company's satisfaction that no tax or other charge is due. 3. Transfer and Exchange. This Warrant and all rights hereunder are --------------------- transferable, in whole but not in part, only with the prior approval of the Company, which consent shall not be unreasonably withheld. If such a proposed transfer is so approved, this Warrant is transferable on the books of the Company maintained for such purpose at its principal office referred to above by Holder in person or by duly authorized attorney, upon surrender of this Warrant properly endorsed and upon payment of any necessary transfer tax or other governmental charge imposed upon such transfer. Each taker and holder of this Warrant, by taking or holding the same, consents and agrees that this Warrant, when endorsed in blank, shall be deemed negotiable and that when this Warrant shall have been so endorsed, the Holder hereof may be treated by the Company and all other persons dealing with this Warrant as the absolute owner hereof for any purpose and as the person entitled to exercise the rights represented hereby or to the transfer hereof on the books of the Company, any notice to the contrary notwithstanding; but until such transfer on such books, the Company may treat the registered Holder hereof as the owner for all purposes. 4. Certain Adjustments. ------------------- 4.1 Adjustment for Reorganization, Consolidation, Merger. In ---------------------------------------------------- case of any reorganization of the Company (or any other corporation, the stock or other securities of which are at the time receivable on the exercise of this Warrant) after the -2- Issue Date, or in case, after such date, the Company (or any such other corporation) shall consolidate with or merge into another corporation (other than the merger of a wholly owned subsidiary into the Company) or convey all or substantially all its assets to another corporation, then and in each such case Holder, upon the exercise hereof as provided in Section 1 at any time after the consummation of such reorganization, consolidation, merger or conveyance, shall be entitled to receive, in lieu of the stock receivable upon the exercise of this Warrant prior to such consummation, the stock or other securities or property to which such Holder would have been entitled upon such consummation if such Holder had exercised this Warrant immediately prior thereto. 4.2 Adjustments for Dividends in Common Stock. If the Company ----------------------------------------- at any time or from time to time after the Issue Date makes, or fixes a record date for the determination of holders of Common Stock entitled to receive, a dividend payable in additional shares of Common Stock, then and in each such event the Purchase Price then in effect shall be decreased as of the time of such issuance or, in the event such record date is fixed, as of the close of business on such record date, by multiplying the Purchase Price then in effect by a fraction (1) the numerator of which is the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date, and (2) the denominator of which shall be the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date plus the number of shares of Common Stock issuable in payment of such dividend; provided, however, that if such record date is fixed and such dividend is not fully paid on the date fixed therefor, the Purchase Price shall be recomputed accordingly as of the close of business on such record date and thereafter the Purchase Price shall be adjusted pursuant to this Section 4.2 as of the time of actual payment of such dividends. 4.3 Stock Split and Reverse Stock Split. If the Company at any ----------------------------------- time or from time to time after the Issue Date effects a subdivision of the outstanding Common Stock, the Purchase Price then in effect immediately before that subdivision shall be proportionately decreased and the number of shares of Common Stock theretofore receivable upon the exercise of this Warrant shall be proportionately increased. If the Company at any time or from time to time after the Issue Date combines the outstanding shares of Common Stock into a smaller number of shares, the Purchase Price then in effect immediately before that combination shall be proportionately increased and the number of shares of Common Stock theretofore receivable upon the exercise of this Warrant shall be proportionately decreased. Each adjustment under this Section 4.3 shall become effective at the close of business on the date the subdivision or combination becomes effective. 4.4 Accountants' Certificate as to Adjustment. In each case of ----------------------------------------- an adjustment in the shares of Common Stock receivable on the exercise of the Warrants, the Company at its expense shall cause independent public accountants of recognized standing selected by the Company (who may be the independent public accountants then auditing the books of the Company) to compute such adjustment in accordance with the terms of the Warrants and prepare a certificate setting forth such adjustment and showing the facts upon which such adjustment is based. The Company will forthwith mail a copy of each such certificate to each holder of a Warrant at the time outstanding. -3- 5. Loss or Mutilation. Upon receipt by the Company of evidence ------------------ satisfactory to it (in the exercise of reasonable discretion) of the ownership of and the loss, theft, destruction or mutilation of any Warrant and (in the case of loss, theft or destruction) of indemnity satisfactory to it (in the exercise of reasonable discretion), and (in the case of mutilation) upon surrender and cancellation thereof, the Company will execute and deliver in lieu thereof a new Warrant of like tenor. 6. Reservation of Common Stock. The Company shall at all times --------------------------- reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the exercise of the Warrant, such number of its shares of Common Stock as shall from time to time be sufficient to effect exercise of the Warrant; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect such exercise, the Company will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purpose. 7. Notices of Record Date. In the event of (i) any taking by the ---------------------- Company of a record of the holders of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend or other distribution, or (ii) any capital reorganization of the Company, any reclassification or recapitalization of the capital stock of the Company, any merger or consolidation of the Company with or into any other corporation (other than a merger of a wholly owned subsidiary into the Company), or any transfer of all or substantially all of the assets of the Company to any other person or any voluntary or involuntary dissolution, liquidation or winding up of the Company, the Company shall mail to the Holder at least thirty (30) days prior to the record date specified therein, a notice specifying (1) the date on which any such record is to be taken for the purpose of such dividend or distribution and a description of such dividend or distribution, (2) the date on which any such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up is expected to become effective, and (3) the date, if any, that is to be fixed, as to when the holders of record of Common Stock (or other securities) shall be entitled to exchange their shares of Common Stock (or other securities) for securities or other property deliverable upon such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up. 8. Investment Representation and Restriction on Transfer. ----------------------------------------------------- 8.1 Securities Law Requirements. --------------------------- (a) By its acceptance of this Warrant, Holder hereby represents and warrants to the Company that this Warrant and the Warrant Shares will be acquired for investment for its own account, not as a nominee or agent, and not with a view to the sale or distribution of any part thereof, and that it has no present intention of selling, granting participations in or otherwise distributing the same. By acceptance of this Warrant, Holder further represents and warrants that it does not have any contract, undertaking, agreement or arrangement with any person to sell, transfer or grant participations to any person, with respect to this Warrant or the Warrant Shares. -4- (b) By its acceptance of this Warrant, Holder understands that this Warrant is not, and the Warrant Shares will not be, registered under the Securities Act of 1933, as amended (the "Act"), on the basis that the issuance of this Warrant and the Warrant Shares are exempt from registration under the Act pursuant to Section 4(2) thereof, and that the Company's reliance on such exemption is predicated on Holder's representations and warranties set forth herein. (c) By its acceptance of this Warrant, Holder understands that the Warrant and the Warrant Shares may not be sold, transferred, or otherwise disposed of without registration under the Act, or an exemption therefrom, and that in the absence of an effective registration statement covering the Warrant and the Warrant Shares or an available exemption from registration under the Act, the Warrant and the Warrant Shares must be held indefinitely. In particular, Holder is aware that the Warrant and the Warrant Shares may not be sold pursuant to Rule 144 promulgated under the Act unless all of the conditions of Rule 144 are satisfied. Among the conditions for use of Rule 144 are the availability of current information about the Company to the public, prescribed holding periods which will commence only upon Holder's payment for the securities being sold, manner of sale restrictions, volume limitations and certain other restrictions. By its acceptance of this Warrant, Holder represents and warrants that, in the absence of an effective registration statement covering the Warrant or the Warrant Shares, it will sell, transfer or otherwise dispose of the Warrant and the Warrant Shares only in a manner consistent with its representations and warranties set forth herein and then only in accordance with the provisions of Section 8.1(d). (d) By its acceptance of this Warrant, Holder agrees that in no event will it transfer or dispose of any of the Warrants or the Warrant Shares other than pursuant to an effective registration statement under the Act, unless and until (i) Holder shall have notified the Company of the proposed disposition and shall have furnished the Company with a statement of the circumstances surrounding the disposition, and (ii) if reasonably requested by the Company, at the expense of the Holder or transferee, it shall have furnished to the Company an opinion of counsel, reasonably satisfactory to the Company, to the effect that (A) such transfer may be made without registration under the Act and (B) such transfer or disposition will not cause the termination or the non- applicability of any exemption to the registration and prospectus delivery requirements of the Act or to the qualification or registration requirements of the securities laws of any other jurisdiction on which the Company relied in issuing the Warrant or the Warrant Shares. 8.2 Legends; Stop Transfer. ---------------------- (a) All certificates evidencing the Warrant Shares shall bear a legend in substantially the following form: The securities represented by this certificate have not been registered under the Securities Act of 1933. These securities have been acquired for investment and not with a view to distribution and may not be offered for sale, sold, pledged or otherwise transferred in the absence of an effective registration statement for such securities under the Securities Act of 1933 or an opinion of counsel reasonably satisfactory in form and content to the issuer that such registration is not required under such Act. -5- (b) The certificates evidencing the Warrant Shares shall also bear any legend required by any applicable state securities law. (c) In addition, the Company shall make, or cause its transfer agent to make, a notation regarding the transfer restrictions of the Warrant and the Warrant Shares in its stock books, and the Warrant and the Warrant Shares shall be transferred on the books of the Company only if transferred or sold pursuant to an effective registration statement under the Act covering the same or pursuant to and in compliance with the provisions of Section 8.1(d). 9. Notices. All notices and other communications from the Company ------- to the Holder of this Warrant shall be mailed by first-class registered or certified mail, postage prepaid, to the address furnished to the Company by Holder. 10. Change; Waiver. Neither this Warrant nor any term hereof may be -------------- changed, waived, discharged or terminated orally, but only by an instrument in writing signed by the party against which enforcement of the change, waiver, discharge or termination is sought. 11. Headings. The headings in this Warrant are for purposes of -------- convenience in reference only, and shall not be deemed to constitute a part hereof. 12. Governing Law. This Warrant is delivered in California and shall ------------- be construed and enforced in accordance with and governed by the internal laws, and not the law of conflicts, of such State; provided however, that to the extent that an issue of determination is one of corporation law, then the Delaware General Corporation Law shall govern. PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation By ______________________________________ J. Thomas Parmeter, President -6- SUBSCRIPTION FORM ----------------- (To be executed only upon exercise of Warrant) The undersigned, registered owner of this Warrant, irrevocably exercises this Warrant and purchases ____________ of the number of shares of Common Stock, $.01 par value, of PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation, purchasable with this Warrant, and herewith makes payment therefor, all at the price and on the terms and conditions specified in this Warrant. DATED:______________ ------------------------------------ (Signature of Registered Owner) ------------------------------------ (Street Address) ------------------------------------ (City) (State) (Zip) -7- FORM OF ASSIGNMENT ------------------ FOR VALUE RECEIVED the undersigned, registered owner of this Warrant, hereby sells, assigns and transfers unto the Assignee named below all of the rights of the undersigned under the within Warrant, with respect to the number of shares of Common Stock, $.01 par value, set forth below: Name of Assignee Address No. of Shares - ---------------- ------- ------------- and does hereby irrevocably constitute and appoint _________________________ _________________________________________________ Attorney to make such transfer on the books of PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation, maintained for the purpose, with full power of substitution in the premises. DATED: ___________________ -------------------------------------- (Signature) -------------------------------------- (Witness) -8- EX-10.36 6 FORM OF SECOND WARRANTS EXHIBIT 10.36 SECOND WARRANT TO PURCHASE SHARES OF COMMON STOCK OF PROTEIN POLYMER TECHNOLOGIES, INC. THE WARRANTS REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AND NEITHER THESE WARRANTS NOR ANY INTEREST THEREIN MAY BE TRANSFERRED, HYPOTHECATED OR OTHERWISE DISPOSED OF WITHOUT REGISTRATION UNDER THAT ACT OR AN OPINION OF COUNSEL ACCEPTABLE TO THE COMPANY THAT SUCH REGISTRATION IS NOT REQUIRED. No. E2-__ Warrant to Purchase _______ Shares April __, 1998 of Common Stock, $.01 Par Value SECOND WARRANT TO PURCHASE COMMON STOCK of PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation Void after the date set forth in the first paragraph hereof This certifies that, for value received, ______________, or registered assigns ("Holder") is entitled, subject to the terms set forth below, to ------ purchase from Protein Polymer Technologies, Inc., a Delaware corporation (the "Company"), ______ shares of Common Stock, $.01 par value, of the Company (such - -------- class of stock being referred to herein as "Common Stock"), as constituted on ------------ April __. 1998 (the "Issue Date"), upon surrender of this Warrant, at the ---------- principal office of the Company referred to below, with the subscription form attached hereto duly executed, and simultaneous payment therefor in the consideration specified in Section 1 hereof, at the price of $5.00 per share (the "Purchase Price"). This Warrant must be exercised, if at all, prior to the -------------- last day of the thirty-sixth calendar month after the Issue Date. The shares of Common Stock issued or issuable upon exercise of this Warrant are sometimes referred to as the "Warrant Shares." The term "Warrants" as used herein shall -------------- -------- include this Warrant and any warrants delivered in substitution or exchange therefor as provided herein. 1. Exercise. This Warrant may be exercised at any time or from time -------- to time, on any business day, for all or part of the full number of shares of Common Stock during the period of time called for hereby, by surrendering it at the principal office of the Company, 10655 Sorrento Valley Road, First Floor, San Diego, California 92121, with the subscription form duly executed, together with payment for the Warrant Shares payable in cash, by check for same day funds and/or by delivery and cancellation of promissory notes evidencing indebtedness of the Company. No other form of consideration shall be acceptable for the exercise of this Warrant. A Warrant shall be deemed to have been exercised immediately prior to the close of business on the date of its surrender for exercise as provided above, and the person entitled to receive the shares of Common Stock issuable upon such exercise shall be treated for all purposes as the holder of such shares of record as of the close of business on such date. As soon as practicable on or after such date, and in any event within 10 days thereof, the Company shall issue and deliver to the person or persons entitled to receive the same a certificate or certificates for the number of shares of Common Stock issuable upon such exercise. Upon any partial exercise, the Company will issue and deliver to Holder a new Warrant or Warrants with respect to the shares of Common Stock not so transferred. No fractional shares of Common Stock shall be issued upon exercise of a Warrant. In lieu of any fractional share to which Holder would be entitled upon exercise, the Company shall pay cash equal to the product of such fraction multiplied by the Common Stock Value (as defined in the Company's Certificate of Designation of Series E Preferred Stock) on the date of exercise. 2. Payment of Taxes. All shares of Common Stock issued upon the ---------------- exercise of a Warrant shall be duly authorized, validly issued and outstanding, fully paid and non-assessable. Holder shall pay all taxes and other governmental charges that may be imposed in respect of the issue or delivery thereof and any tax or other charge imposed in connection with any transfer involved in the issue of any certificate for shares of Common Stock in any name other than that of the registered Holder of the Warrant surrendered in connection with the purchase of such shares, and in such case the Company shall not be required to issue or deliver any stock certificate until such tax or other charge has been paid or it has been established to the Company's satisfaction that no tax or other charge is due. 3. Transfer and Exchange. This Warrant and all rights hereunder are --------------------- transferable, in whole but not in part, only with the prior approval of the Company, which consent shall not be unreasonably withheld. If such a proposed transfer is so approved, this Warrant is transferable on the books of the Company maintained for such purpose at its principal office referred to above by Holder in person or by duly authorized attorney, upon surrender of this Warrant properly endorsed and upon payment of any necessary transfer tax or other governmental charge imposed upon such transfer. Each taker and holder of this Warrant, by taking or holding the same, consents and agrees that this Warrant, when endorsed in blank, shall be deemed negotiable and that when this Warrant shall have been so endorsed, the Holder hereof may be treated by the Company and all other persons dealing with this Warrant as the absolute owner hereof for any purpose and as the person entitled to exercise the rights represented hereby or to the transfer hereof on the books of the Company, any notice to the contrary notwithstanding; but until such transfer on such books, the Company may treat the registered Holder hereof as the owner for all purposes. 4. Certain Adjustments. ------------------- 4.1 Adjustment for Reorganization, Consolidation, Merger. In ---------------------------------------------------- case of any reorganization of the Company (or any other corporation, the stock or other securities of which are at the time receivable on the exercise of this Warrant) after the Issue Date, or in case, after such date, the Company (or any such other corporation) shall -2- consolidate with or merge into another corporation (other than the merger of a wholly owned subsidiary into the Company) or convey all or substantially all its assets to another corporation, then and in each such case Holder, upon the exercise hereof as provided in Section 1 at any time after the consummation of such reorganization, consolidation, merger or conveyance, shall be entitled to receive, in lieu of the stock receivable upon the exercise of this Warrant prior to such consummation, the stock or other securities or property to which such Holder would have been entitled upon such consummation if such Holder had exercised this Warrant immediately prior thereto. 4.2 Adjustments for Dividends in Common Stock. If the Company ----------------------------------------- at any time or from time to time after the Issue Date makes, or fixes a record date for the determination of holders of Common Stock entitled to receive, a dividend payable in additional shares of Common Stock, then and in each such event the Purchase Price then in effect shall be decreased as of the time of such issuance or, in the event such record date is fixed, as of the close of business on such record date, by multiplying the Purchase Price then in effect by a fraction (1) the numerator of which is the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date, and (2) the denominator of which shall be the total number of shares of Common Stock issued and outstanding immediately prior to the time of such issuance or the close of business on such record date plus the number of shares of Common Stock issuable in payment of such dividend; provided, however, that if such record date is fixed and such dividend is not fully paid on the date fixed therefor, the Purchase Price shall be recomputed accordingly as of the close of business on such record date and thereafter the Purchase Price shall be adjusted pursuant to this Section 4.2 as of the time of actual payment of such dividends. 4.3 Stock Split and Reverse Stock Split. If the Company at any ----------------------------------- time or from time to time after the Issue Date effects a subdivision of the outstanding Common Stock, the Purchase Price then in effect immediately before that subdivision shall be proportionately decreased and the number of shares of Common Stock theretofore receivable upon the exercise of this Warrant shall be proportionately increased. If the Company at any time or from time to time after the Issue Date combines the outstanding shares of Common Stock into a smaller number of shares, the Purchase Price then in effect immediately before that combination shall be proportionately increased and the number of shares of Common Stock theretofore receivable upon the exercise of this Warrant shall be proportionately decreased. Each adjustment under this Section 4.3 shall become effective at the close of business on the date the subdivision or combination becomes effective. 4.4 Accountants' Certificate as to Adjustment. In each case of ----------------------------------------- an adjustment in the shares of Common Stock receivable on the exercise of the Warrants, the Company at its expense shall cause independent public accountants of recognized standing selected by the Company (who may be the independent public accountants then auditing the books of the Company) to compute such adjustment in accordance with the terms of the Warrants and prepare a certificate setting forth such adjustment and showing the facts upon which such adjustment is based. The Company will forthwith mail a copy of each such certificate to each holder of a Warrant at the time outstanding. -3- 5. Loss or Mutilation. Upon receipt by the Company of evidence ------------------ satisfactory to it (in the exercise of reasonable discretion) of the ownership of and the loss, theft, destruction or mutilation of any Warrant and (in the case of loss, theft or destruction) of indemnity satisfactory to it (in the exercise of reasonable discretion), and (in the case of mutilation) upon surrender and cancellation thereof, the Company will execute and deliver in lieu thereof a new Warrant of like tenor. 6. Reservation of Common Stock. The Company shall at all times --------------------------- reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the exercise of the Warrant, such number of its shares of Common Stock as shall from time to time be sufficient to effect exercise of the Warrant; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect such exercise, the Company will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purpose. 7. Notices of Record Date. In the event of (i) any taking by the ---------------------- Company of a record of the holders of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend or other distribution, or (ii) any capital reorganization of the Company, any reclassification or recapitalization of the capital stock of the Company, any merger or consolidation of the Company with or into any other corporation (other than a merger of a wholly owned subsidiary into the Company), or any transfer of all or substantially all of the assets of the Company to any other person or any voluntary or involuntary dissolution, liquidation or winding up of the Company, the Company shall mail to the Holder at least thirty (30) days prior to the record date specified therein, a notice specifying (1) the date on which any such record is to be taken for the purpose -of such dividend or distribution and a description of such dividend or distribution, (2) the date on which any such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up is expected to become effective, and (3) the date, if any, that is to be fixed, as to when the holders of record of Common Stock (or other securities) shall be entitled to exchange their shares of Common Stock (or other securities) for securities or other property deliverable upon such reorganization, reclassification, transfer, consolidation, merger, dissolution, liquidation or winding up. 8. Investment Representation and Restriction on Transfer. ----------------------------------------------------- 8.1 Securities Law Requirements. --------------------------- (a) By its acceptance of this Warrant, Holder hereby represents and warrants to the Company that this Warrant and the Warrant Shares will be acquired for investment for its own account, not as a nominee or agent, and not with a view to the sale or distribution of any part thereof, and that it has no present intention of selling, granting participations in or otherwise distributing the same. By acceptance of this Warrant, Holder further represents and warrants that it does not have any contract, undertaking, agreement or arrangement with any person to sell, transfer or grant participations to any person, with respect to this Warrant or the Warrant Shares. -4- (b) By its acceptance of this Warrant, Holder understands that this Warrant is not, and the Warrant Shares will not be, registered under the Securities Act of 1933, as amended (the "Act"), on the basis that the issuance of this Warrant and the Warrant Shares are exempt from registration under the Act pursuant to Section 4(2) thereof, and that the Company's reliance on such exemption is predicated on Holder's representations and warranties set forth herein. (c) By its acceptance of this Warrant, Holder understands that the Warrant and the Warrant Shares may not be sold, transferred, or otherwise disposed of without registration under the Act, or an exemption therefrom, and that in the absence of an effective registration statement covering the Warrant and the Warrant Shares or an available exemption from registration under the Act, the Warrant and the Warrant Shares must be held indefinitely. In particular, Holder is aware that the Warrant and the Warrant Shares may not be sold pursuant to Rule 144 promulgated under the Act unless all of the conditions of Rule 144 are satisfied. Among the conditions for use of Rule 144 are the availability of current information about the Company to the public, prescribed holding periods which will commence only upon Holder's payment for the securities being sold, manner of sale restrictions, volume limitations and certain other restrictions. By its acceptance of this Warrant, Holder represents and warrants that, in the absence of an effective registration statement covering the Warrant or the Warrant Shares, it will sell, transfer or otherwise dispose of the Warrant and the Warrant Shares only in a manner consistent with its representations and warranties set forth herein and then only in accordance with the provisions of Section 8.1(d). (d) By its acceptance of this Warrant, Holder agrees that in no event will it transfer or dispose of any of the Warrants or the Warrant Shares other than pursuant to an effective registration statement under the Act, unless and until (i) Holder shall have notified the Company of the proposed disposition and shall have furnished the Company with a statement of the circumstances surrounding the disposition, and (ii) if reasonably requested by the Company, at the expense of the Holder or transferee, it shall have furnished to the Company an opinion of counsel, reasonably satisfactory to the Company, to the effect that (A) such transfer may be made without registration under the Act and (B) such transfer or disposition will not cause the termination or the non- applicability of any exemption to the registration and prospectus delivery requirements of the Act or to the qualification or registration requirements of the securities laws of any other jurisdiction on which the Company relied in issuing the Warrant or the Warrant Shares. 8.2 Legends; Stop Transfer. ---------------------- (a) All certificates evidencing the Warrant Shares shall bear a legend in substantially the following form: The securities represented by this certificate have not been registered under the Securities Act of 1933. These securities have been acquired for investment and not with a view to distribution and may not be offered for sale, sold, pledged or otherwise transferred in the absence of an effective registration statement for such securities under the Securities Act of 1933 or an opinion of counsel reasonably satisfactory in form and content to the issuer that such registration is not required under such Act. -5- (b) The certificates evidencing the Warrant Shares shall also bear any legend required by any applicable state securities law. (c) In addition, the Company shall make, or cause its transfer agent to make, a notation regarding the transfer restrictions of the Warrant and the Warrant Shares in its stock books, and the Warrant and the Warrant Shares shall be transferred on the books of the Company only if transferred or sold pursuant to an effective registration statement under the Act covering the same or pursuant to and in compliance with the provisions of Section 8.1(d). 9. Notices. All notices and other communications from the Company ------- to the Holder of this Warrant shall be mailed by first-class registered or certified mail, postage prepaid, to the address furnished to the Company by Holder. 10. Change; Waiver. Neither this Warrant nor any term hereof may be -------------- changed, waived, discharged or terminated orally, but only by an instrument in writing signed by the party against which enforcement of the change, waiver, discharge or termination is sought. 11. Headings. The headings in this Warrant are for purposes of -------- convenience in reference only, and shall not be deemed to constitute a part hereof. 12. Governing Law. This Warrant is delivered in California and shall ------------- be construed and enforced in accordance with and governed by the internal laws, and not the law of conflicts, of such State; provided however, that to the extent that an issue of determination is one of corporation law, then the Delaware General Corporation Law shall govern. PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation By________________________________________ J. Thomas Parmeter, President -6- SUBSCRIPTION FORM ----------------- (To be executed only upon exercise of Warrant) The undersigned, registered owner of this Warrant, irrevocably exercises this Warrant and purchases ____________ of the number of shares of Common Stock, $.01 par value, of PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation, purchasable with this Warrant, and herewith makes payment therefor, all at the price and on the terms and conditions specified in this Warrant. DATED:______________ ------------------------------------------------ (Signature of Registered Owner) ------------------------------------------------ (Street Address) ------------------------------------------------ (City) (State) (Zip) -7- FORM OF ASSIGNMENT ------------------ FOR VALUE RECEIVED the undersigned, registered owner of this Warrant, hereby sells, assigns and transfers unto the Assignee named below all of the rights of the undersigned under the within Warrant, with respect to the number of shares of Common Stock, $.01 par value, set forth below: Name of Assignee Address No. of Shares - ---------------- ------- ------------- and does hereby irrevocably constitute and appoint __________________________ _________________________________________________ Attorney to make such transfer on the books of PROTEIN POLYMER TECHNOLOGIES, INC., a Delaware corporation, maintained for the purpose, with full power of substitution in the premises. DATED: ___________________ --------------------------------- (Signature) --------------------------------- (Witness) -8- EX-10.37 7 LETTER OF AGREEMENT Exhibit 10.37 Protein Polymer Technologies, Inc. 10655 Sorrento Valley Road San Diego, California 92121 April 13, 1998 Johnson & Johnson Development Corporation One Johnson & Johnson Plaza New Brunswick, New Jersey 08933-7002 Re: Protein Polymer Technologies, Inc. ---------------------------------- Ladies and Gentlemen: This letter agreement (this "Agreement") is entered into as of April --------- 13, 1998 between Protein Polymer Technologies, Inc., a Delaware corporation (the "Company") and Johnson and Johnson Development Corporation, a New Jersey ------- corporation ("JJDC") in which JJDC (i) agrees to the exchange of shares of the ---- Company's Series D 10% Cumulative Convertible Preferred Stock ("Series D -------- Preferred Stock") for an equal number of shares of the Company's Series F 10% - --------------- Cumulative Convertible Preferred Stock ("Series F Preferred Stock"), having the ------------------------ rights, preferences and privileges set forth in the Certificate of Designation (hereinafter referred to as the "Certificate") attached hereto as Annex A, (ii) ----------- as the majority holder of the Series D Preferred Stock, waives any rights of first refusal to the Company's proposed private placement of Series E Convertible Preferred Stock ("Series E Preferred Stock") and issuance of ------------------------ warrants in connection therewith, (iii) as the majority holder of the Series D Preferred Stock, consents to the amendment of the definition of "Registrable Securities" in the Amended and Restated Registration Rights Agreement dated as of September 14, 1995 (the "Registration Rights Agreement") among the Company ----------------------------- and the holders of Series D Preferred Stock, to include the shares issuable upon conversion of the Series F Preferred Stock, (iv) as the majority holder of the Series D Preferred Stock and sole holder of the Series F Preferred Stock, consents to the registration rights of the Series E Preferred Stock, and (v) as the majority holder of the Series D Preferred Stock, consents to the creation of the Series E Preferred Stock and the Series F Preferred Stock. 1. Exchange of Shares. ------------------ Upon the terms and subject to the conditions herein contained, JJDC agrees to deliver and exchange an aggregate of 27,317 shares of Series D Preferred Stock, and the Company agrees to issue and deliver an aggregate of 27,317 shares of Series F Preferred Stock. At the initial closing (the "Closing") which shall occur at the offices of Paul, Hastings, Janofsky & ------- Walker, 555 South Flower Street, Los Angeles, California, at the hour of 10 o'clock A.M., California time, on April 24, 1998 or at such different time or day as JJDC and the Company shall agree (the "Closing Date"), the Company will ------------ deliver to JJDC instruments or certificates evidencing the shares of Series F Preferred Stock, registered in the name of JJDC, against delivery to the Company of 26,420 shares of Series D Preferred Stock held by JJDC. JJDC shall Johnson & Johnson Development Corporation April 13, 1998 Page 2 remain the holder of 897 shares of Series D Preferred Stock (the "Remaining --------- Shares") until such time as the holders of the other remaining 896.42 shares of - ------ Series D Preferred Stock (the "Other Remaining Shares") shall be converted into ---------------------- shares of the Company's common stock, par value $.01 per share ("Common Stock"). ------------ Upon the conversion of the Other Remaining Shares, the Remaining Shares shall be exchanged automatically into an equal number of Series F Preferred Stock. Upon notification from the Company that the Other Remaining Shares have been converted into Common Stock, the Company will deliver to JJDC instruments or certificates evidencing the 897 shares of Series F Preferred Stock, registered in the name of JJDC, against delivery to the Company of the Remaining Shares. 2. Representations and Warranties of JJDC. -------------------------------------- a. JJDC hereby represents and warrants to the Company that it is acquiring the Series F Preferred Stock (and, if applicable, will acquire the shares of Common Stock issuable upon conversion of the Series F Preferred Stock (the "Conversion Stock")) for investment purposes only, for its own ---------------- account, and not as nominee or agent for any other person, and not with the view to, or for resale in connection with, any distribution thereof within the meaning of the Securities Act of 1933, as amended (the "Securities Act"). -------------- b. This Agreement, when executed and delivered by JJDC, constitutes the legal, valid and binding obligation of JJDC and is enforceable against JJDC in accordance with its terms. c. JJDC is an "accredited investor" as that term is defined in Rule 501 of Regulation D promulgated under the Securities Act. 3. Representations and Warranties by the Company. In order to --------------------------------------------- induce JJDC to enter into this Agreement and to exchange its shares of Series D Preferred Stock for shares of Series F Preferred Stock, the Company hereby represents and warrants to JJDC as follows: a. Organization, Standing, etc. The Company is a --------------------------- corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, and has all requisite corporate power and authority to carry on its business as presently conducted and as proposed to be conducted, to own and hold its properties and assets, to enter into this Agreement, to issue the Series F Preferred Stock and Conversion Stock and to carry out the provisions hereof. b. Certificate and Bylaws. The copies of the ---------------------- Certificate of Incorporation and Bylaws of the Company which have been delivered to (or made available for Johnson & Johnson Development Corporation April 13, 1998 Page 3 inspection by) JJDC prior to the execution of this Agreement are true and complete and have not been amended or repealed, except for the amendments to the Certificate of Incorporation that will be accomplished by the filing of the Certificate with the Delaware Secretary of State. c. Qualification. The Company is duly qualified as a ------------- foreign corporation and in good standing in the State of California. The Company is not qualified to do business as a foreign corporation in any other jurisdiction and such qualification is not required as of the date hereof, except where the failure to be so qualified would not have a material adverse effect. d. Capital Stock. ------------- (1) As of the Closing Date, the authorized capital stock of the Company will consist of (i) 5,000,000 shares of preferred stock, par value $0.01 per share, 71,600 shares of which have been designated as Series D Preferred Stock, 2,000,000 shares of which have been designated as Series X Junior Participating Preferred Stock, 55,000 shares of which have been designated as the Series E Preferred Stock and 27,317 shares of which have been designated as the Series F Preferred Stock; and (ii) 25,000,000 shares of Common Stock; and the Company will have no authority to issue any other capital stock. There are 28,213.42 shares of Series D Preferred Stock issued and outstanding, of which (A) 26,420 shall be exchanged for an equal number of shares of Series F Preferred Stock concurrently with the Closing, (B) 896.42 shares may be converted into Common Stock, and (C) 897 shares may be exchanged for an equal number of shares of Series F Preferred Stock after the Closing, no shares of Series X Preferred issued and outstanding, no shares of Series E Preferred Stock issued and outstanding and no shares of Series F Preferred Stock issued and outstanding, and, as of the Closing, before giving effect to the transactions contemplated by this Agreement, 10,437,028 shares of Common Stock are issued and outstanding, and all such outstanding shares of Series D Preferred Stock and Common Stock have been duly authorized, validly issued, fully paid and nonassessable. e. Corporate Acts and Proceedings. The Company has, and as ------------------------------ of the Closing will have, full corporate power and authority to execute and deliver this Agreement and to perform its obligations hereunder and the transactions contemplated hereby. All corporate acts and proceedings required for the authorization, execution and delivery of this Agreement and the offer, issuance and delivery of the Series F Preferred Stock and Conversion Stock and the performance of this Agreement have been lawfully and validly taken or will have been so taken prior to the Closing. f. Compliance with Other Instruments. The execution, --------------------------------- delivery and performance by the Company of this Agreement (a) will not require from the Company's Board of Directors or stockholders of the Company any consent or approval that has not been Johnson & Johnson Development Corporation April 13, 1998 Page 4 validly and lawfully obtained, (b) will not require the Company to obtain or effect any authorization, consent, approval, license, exemption of or filing or registration with any person, except such as shall have been lawfully and validly obtained prior to the Closing, (c) will not cause the Company to violate or contravene, except where such violation or contravention would not have a material adverse effect (i) any provision of law, (ii) any rule or regulation of any governmental entity, (iii) any order, writ, judgment, injunction, decree, determination or award binding upon the Company, or (iv) any provision of the Certificate of Incorporation or Bylaws of the Company, (d) will not cause the Company to violate or be in conflict with, result in a breach by the Company of or constitute (with or without notice or lapse of time or both) a default by the Company under, any material agreement, lease or instrument, commitment or arrangement to which the Company is a party or by which the Company or any of its properties, assets or rights are bound or affected, except where such violation, conflict, breach or default would not have a material adverse effect, and (e) will not result in the creation or imposition of any lien. g. Binding Obligations. ------------------- (1) This Agreement constitutes the legal, valid and binding obligations of the Company, enforceable against the Company in accordance with its terms, except as such enforcement is limited by bankruptcy, insolvency and other similar laws affecting the enforcement of creditors' rights generally, and by general equitable principles. (2) The Series F Preferred Stock is duly authorized and, when issued in accordance with the terms of this Agreement, will be duly authorized, validly issued and outstanding, fully paid and nonassessable and free and clear of all liens and restrictions, other than liens that might have been created or suffered by JJDC and restrictions imposed by the Securities Act, state securities laws or this Agreement. h. Securities Laws. Subject to the accuracy of the --------------- representations and warranties contained in Section 2, the offer, issue and sale of the Series F Preferred Stock are exempt from the registration and prospectus delivery requirements of the Securities Act, and are exempt from qualification under the California Securities Law of 1968, as amended. 4. Waiver of Rights of First Refusal. As the majority holder of --------------------------------- the Series D Preferred Stock, JJDC hereby waives its rights of first refusal to the Company's proposed private placement of Series E Preferred Stock and issuance of warrants in connection therewith. 5. Consent to Amendment of Registration Rights Agreement. As the ----------------------------------------------------- majority holder of the Series D Preferred Stock, JJDC hereby consents to the amendment of the definition of "Registrable Securities" in the Registration Rights Agreement to include the shares issuable upon conversion of the Series F Preferred Stock. Johnson & Johnson Development Corporation April 13, 1998 Page 5 6. Consent to Registration Rights of the Series E Preferred -------------------------------------------------------- Stock. As the majority holder of the Series D Preferred Stock and sole holder - ----- of the Series F Preferred Stock, JJDC hereby consents to the registration rights of the Series E Preferred Stock contained in that certian Securities Purchase Agreement of even date herewith (the "Series E Securities Purchase Agreement") -------------------------------------- among the Company and the other persons listed on the signature pages thereof, a copy of which has hitherto been delivered to JJDC. 7. Consent to Creation of Series E and Series F Preferred Stock. ------------------------------------------------------------ As the majority holder of the Series D Preferred Stock, JJDC hereby consents to the creation of the Series E Preferred Stock and the Series F Preferred Stock, and the filing of the respective Certificates of Designations with respect thereto with the Delaware Secretary of State. 8. Redemption. The Company covenants and agrees that in the ---------- event the Company elects to redeem the Series E Preferred Stock, the Company shall, at the time of such redemption, also redeem the Series F Preferred Stock. 9. Miscellaneous. ------------- a. Waivers and Amendments. The rights of the parties hereto ---------------------- may be waived, amended or modified (either generally or in a particular instance, either retroactively or prospectively and either for a specified period of time or indefinitely) only in a writing signed by both of the parties hereto. b. Notices. All notices, requests, consents and other ------- communications required or permitted hereunder shall be in writing and shall be given personally, by air courier (with signed acknowledgment of receipt) or by facsimile transmission (with confirmation of transmission) (i) if to the Company at the address listed above (or if by telecopier, to (619) 558-6477) or at such other address (or telecopier number) as the Company may specify by written notice to JJDC, or (ii) if to JJDC at the address listed above or if by telecopier to (908) 524-5045; and each such notice, request, consent and other communication shall for all purposes of the Agreement be treated as being effective or having been given upon receipt. c. Severability. Should any one or more of the provisions ------------ of this Agreement be determined to be illegal or unenforceable, all other provisions of this Agreement shall be given effect separately from the provision or provisions determined to be illegal or unenforceable and shall not be affected thereby. d. Parties in Interest. All the terms and provisions of ------------------- this Agreement shall be binding upon and inure to the benefit of the respective successors of the parties hereto. Johnson & Johnson Development Corporation April 13, 1998 Page 6 e. Headings. The headings of the paragraphs of this -------- Agreement have been inserted for convenience of reference only and do not constitute a part of this Agreement. f. Choice of Law. Except where the issue for ------------ determination is one of corporate law, in which case the Delaware General Corporation Law shall govern, it is the intention of the parties that the internal substantive laws, and not the laws of conflicts, of California should govern the enforceability and validity of this Agreement, the construction of its terms and the interpretation of the rights and duties of the parties. g. Counterparts. This Agreement may be executed in any ------------ number of counterparts and by different parties hereto in separate counterparts, with the same effect as if all parties had signed the same document. All such counterparts shall be deemed an original, shall be construed together and shall constitute one and the same instrument. PROTEIN POLYMER TECHNOLOGIES, INC. By:_____________________________ J. Thomas Parmeter President and Chief Executive Officer ACCEPTED AND AGREED TO: JOHNSON & JOHNSON DEVELOPMENT CORPORATION By: _____________________________ Name: _________________________ Title: __________________________ EX-23.1 8 CONSENT OF ERNST & YOUNG EXHIBIT 23.1 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statements on Forms S-3 (Nos. 333-19695, 333-62761, 333-45759) and Forms S-8 (Nos. 33-61704, 33-61708, 33-68046), of our report dated February 5, 1999 with respect to the financial statements of Protein Polymer Technologies, Inc. included in the Annual Report (Form 10-KSB) for the year ended December 31, 1998. ERNST & YOUNG LLP San Diego, California March 2, 1999 EX-27 9 FINANCIAL DATA SCHEDULE
5 12-MOS 12-MOS DEC-31-1998 DEC-31-1997 JAN-01-1998 JAN-01-1997 DEC-31-1998 DEC-31-1997 1,348,148 325,021 0 974,817 9,965 5,548 0 0 0 2,970 1,449,607 1,541,706 2,073,486 1,876,026 (1,475,039) (1,106,462) 2,225,231 2,347,887 850,022 691,686 0 0 0 0 7,600,226 2,667,403 26,657,399 22,882,241 (32,987,964) (24,083,511) 2,225,231 2,347,887 67,096 76,917 255,824 722,958 4,158 26,141 29,158 61,141 5,864,819 5,115,750 0 0 26,692 7,763 (5,638,203) (4,453,933) 0 0 (5,638,203) (4,453,933) 0 0 0 0 0 0 (5,638,203) (4,453,933) (.88) (.52) (.88) (.52)
-----END PRIVACY-ENHANCED MESSAGE-----