-----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, FNv4eGnZARuBgoFzWdoklIQJ2MZ+Vf50oDbQpHIJZL6ddAkHWQFiK1HH8lYOotpD SXjDT/m8zrEHM5bnZzRjOQ== 0001116679-05-001053.txt : 20050331 0001116679-05-001053.hdr.sgml : 20050331 20050331154844 ACCESSION NUMBER: 0001116679-05-001053 CONFORMED SUBMISSION TYPE: 10KSB PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 20041231 FILED AS OF DATE: 20050331 DATE AS OF CHANGE: 20050331 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: 1934 Act SEC FILE NUMBER: 000-19724 FILM NUMBER: 05720131 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 pp10ksb.txt DECEMBER 31, 2004 ================================================================================ 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, 2004 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: (858) 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 (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. [X] The issuer's revenues for the most recent fiscal year were $457,016. The aggregate market value of the voting common stock held by non-affiliates of the issuer on March 28, 2005 was $31,524,218. Stock held by directors, officers and shareholders owning 5% or more of the outstanding common stock (as reported on Schedules 13D and 13G) were excluded as they may be deemed affiliates. This determination of affiliate status is not a conclusive determination for any other purpose. The number of shares of the registrant's common stock outstanding as of March 28, 2005 was 41,847,261. DOCUMENTS INCORPORATED BY REFERENCE: Portions of the following document are incorporated by reference in Part III of this report: Definitive Proxy Statement to be filed with the Commission no later than April 30, 2005 with respect to the registrant's 2005 Annual Meeting of Stockholders. Transitional Small Business Disclosure Format: Yes No X ------- ------- ================================================================================ PROTEIN POLYMER TECHNOLOGIES, INC. FORM 10-KSB FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004 TABLE OF CONTENTS Page No. -------- PART I........................................................................ 2 Item 1. Description of Business.......................................... 2 Item 2. Description of Property.......................................... 14 Item 3. Legal Proceedings................................................ 14 Item 4. Submission of Matters to a Vote of Security Holders.............. 15 PART II....................................................................... 16 Item 5. Market for Common Equity, Related Stockholder Matters and Small Business Issuer Purchases of Equity Securities................... 16 Item 6. Management's Discussion and Analysis............................. 18 Item 7. Financial Statements............................................. F-1 Item 8. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure............................................. 24 Item 8A. Controls and Procedures.......................................... 24 PART III...................................................................... 24 Item 9. Directors, Executive Officers; Compliance with Section 16(a) of the Exchange Act................................................. 24 Item 10. Executive Compensation........................................... 24 Item 11. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.................................. 24 Item 12. Certain Relationships and Related Transactions................... 24 Item 13. Exhibits and Reports on Form 8-K................................. 24 Item 14. Principal Accountant Fees and Services........................... 24 Signatures................................................................ 29
-1- PART I Item 1. Business 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, 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. We undertake 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. Company Background Protein Polymer Technologies, Inc., a Delaware corporation, is a development-stage biotechnology company incorporated on July 6, 1988. We are engaged in the research, development, production and clinical testing of medical products based on materials created from our patented technology to produce proteins of unique design. Since 1992, we have focused primarily on developing materials technology and products to be used for: o soft tissue augmentation; o tissue adhesives and sealants; o wound healing support; and o drug delivery devices. We have also developed coating technology that can efficiently modify and improve the surface properties of traditional biomedical devices. Our primary goal is to develop medical products for use inside the body with significantly improved patient outcomes as compared to current products and practices. We began studies to identify our most promising materials technology for use in soft tissue augmentation products in 1996. In December 1999, we initiated human clinical testing of a product based on our technology for the treatment of female stress urinary incontinence. This pilot clinical study is ongoing. The investigational device exemption approved by the U.S. Food and Drug Administration ("FDA") allows us to test the safety and effectiveness of the incontinence product in women over the age of 40 who have become incontinent due to the shifting of their bladder or the weakening of the muscle at its base that controls the flow of urine, or both problems combined. We estimate that more than 2.5 million women begin to experience stress urinary incontinence in the United States each year. In most untreated cases, the problem becomes progressively more pronounced. Due to limited efficacy or invasiveness of current treatments, only a small proportion of the women experiencing stress -2- urinary incontinence are clinically treated, relying instead on pads and plugs and the like that only address the symptoms. In contrast, our product is injected, typically in an outpatient procedure, into urethral tissue at the base of the bladder forming a solid implant that provides support to the muscles controlling the flow of urine. We believe that our product, if approved, will prove to be easy for the physician to use, offer enduring effectiveness, and avoid most of the other limitations of urethral bulking products on the market or in development. In January 2000, we entered into an agreement with Femcare, Ltd. for the commercialization of our incontinence product in Europe and Australia. In 2004, Femcare notified us that it was going to close its urology business. We are in discussions with Femcare regarding termination of the license agreement. The soft tissue augmentation materials technology underlying the incontinence product has the potential to be effective and desirable in a number of other clinical applications. In November 2000, the FDA approved our investigational device exemption to begin human clinical testing of a tissue augmentation product based on this technology for use in cosmetic and reconstructive surgery applications. The product is injected into or under the skin for the correction of dermal contour deficiencies (facial lines, wrinkles, scars, etc.) In April 2001, we initiated human clinical testing of the product. This pilot clinical study is ongoing. We estimate that approximately 500,000 cosmetic tissue augmentation procedures using injected materials (e.g. collagen or fat) were performed in the U.S in 2001, representing about one-half of the worldwide market. With a product demonstrating greater durability than currently available materials, we believe the number of procedures could grow dramatically. Between 1994 and 1997, our efforts were focused predominantly on the development of tissue adhesive and sealant technology. We have demonstrated both the adhesive performance and the biocompatibility of our product formulations in animal models, including the resorption of the adhesive matrix in conjunction with the progression of wound healing. We remain committed to the commercial development of our tissue adhesive and sealant technology and have worked to determine the most significant market and product opportunities for its use. In 2004, we completed feasibility assessments of a surgical sealant formulation for cardiovascular, pulmonary and gastrointestinal procedures. In April 2001, we entered into agreements with Spine Wave, Inc. to develop and commercialize an injectable protein-based formulation for the repair of damaged or deteriorated spinal discs. Based on our proprietary tissue adhesive technology, the product under development has the potential to be an effective outpatient surgical treatment for chronic low back pain. Low back pain is the leading cause for healthcare expenditures in the United States and the fastest growing major segment of the orthopedic industry, with a market of $2.1 billion in revenues and a growth rate of more than 25% annually, according to a February 2000 Viscogliosi Bros., LLC, Spine Industry Analysis Series report. The leading surgical treatments for spine include spinal fusions, discectomies, and laminectomies, but the market for disc replacement and repair is expected to grow more rapidly than other treatments as new products are approved over the next five years. Within the overall spine market, it is estimated that the potential market for treatment or replacement of spinal discs will surpass $1 billion by 2007. As a result of the agreements we executed, Spine Wave has acquired an exclusive, worldwide license to our technology for use in spinal and other defined orthopedic applications. In return, we received equity in Spine Wave, we will receive royalties on the sale or sublicensing of licensed products, if any. In addition to the license agreement we agreed, in a separate supply and services agreement, to provide Spine Wave with certain research and development services, including supply of materials to Spine Wave for pre-clinical and clinical testing. Spine Wave is responsible for clinical testing, regulatory approvals, and commercialization. In 2004, Spine Wave's NuCore(TM) Injectable Disc Nucleus product based on the licensed technology began human clinical testing in Europe. -3- In December 2000, we signed a broad-based, worldwide exclusive license agreement with Genencor International, Inc. enabling Genencor to potentially develop a wide variety of new products for industrial markets. In October 2002, the license agreement was amended to provide Genencor with an additional one-year option to initiate development in the field of non-medical personal care products. Subsequently, this option expired. In March 2005 we entered into a further amendment with Genencor to include personal care products in the field of the license agreement. Our cash balance as of December 31, 2004 was $82,000. We believe this amount in combination with continuing contractual commitments is sufficient to meet our anticipated capital requirements through the end of April 2005. Substantial additional capital resources will be required to fund our research, development, manufacturing and business development activities. We believe there may be a number of alternatives available to meet the continuing capital requirements of our operations, such as collaborative agreements and public or private financings. We are currently in discussions with potential financing sources and collaborative partners and funding in the form of equity investments, license fees, milestone payments or research and development payments could be generated. There can be no assurance that any of these fundings will be consummated in the timeframes needed for continuing operations or on terms favorable to us. If adequate funds are not available, we will be required to significantly curtail our operating plans and would likely have to sell or license out significant portions of our technology, and possibly cease operations. (See the Liquidity and Capital Resources section of Management's Discussion and Analysis for further discussion.) To the extent sufficient resources are available, we continue to research the use of our technology for other tissue repair and medical device applications, principally for use in supporting the wound healing process, including devices based on tissue engineering, and in drug delivery devices. Technology We are 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 implanted within the body. The goal of biomaterials development historically has been to produce inert materials, i.e., materials that elicit little or no response from the living system. However, we believe that such conventional biomaterials are constrained by their inability to convey appropriate messages to the cells that surround them, the same messages that are conveyed by proteins in normal human tissues. The products we have targeted for development 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. We believe 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 our proprietary core technology, we produce 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. We have demonstrated that our 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 -4- limitation of conventional biomaterials. In addition, materials made from our polymers have demonstrated excellent biocompatibility in a variety of pre-clinical safety studies. Our 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. Our 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 that 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, our technology results in the creation of new proteins with unique properties. We have demonstrated an ability to create materials that: o combine properties of different proteins found in nature; o reproduce and amplify selected activities of natural proteins; o eliminate undesired properties of natural proteins; and o incorporate synthetic properties via chemical modifications. This ability is fundamental to our 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. Fundamental Protein Polymers Our 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 skin, lungs and arteries, elastin fibers must expand and contract over a lifetime, 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, our proprietary technology 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. We have 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 Our technology and materials have the potential to create products useful in a variety of medical markets. Our current development efforts are principally focused on completion of our pilot clinical studies for our -5- hydrogel bulking agents for soft tissue augmentation, preparations for their scale-up and manufacturing process validation, our work for Spine Wave on a product for spinal disc repair, and preclinical development of a new surgical sealant designed to prevent air and fluid leaks following lung, gastrointestinal, and cardiovascular surgery. Opportunities for research and development of product candidates for other medical uses continue to be evaluated. All of our product candidates are subject to pre-clinical and clinical testing requirements for obtaining the FDA's marketing approval. The actual development of 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 hyaluronic acid or 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, vesico-ureteral reflux, gastroesophageal reflux, fecal incontinence, the reversible blockage of fallopian tubes for birth control, and the augmentation of vocal chords. We believe 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. Our bulking agents are unique in that they are soluble in water at room temperature, thus can be easily injected through a 30-gauge needle and able to rapidly spread throughout the native tissue architecture. With the increase from room to body temperature, the polymer solution irreversibly transforms 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. Previously, we have shown gels of similar composition to persist at least 18 months in an animal model. 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 an appropriately sized 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 we are aware are either preformed gels, difficult to administer by injection, or polymer solutions mixed with a chemical cross-linking agent prior to injection. We believe that such technologies are limited in their overall performance including durability, biocompatibility and ease of administration. In August 1999, we obtained the FDA's approval of our investigational device exemption to begin human clinical testing of a product based on our technology for the treatment of female stress urinary incontinence. We began pilot clinical testing of the product's safety and efficacy in December 1999. We currently project expanding into a multi-site pivotal clinical study in 2006, to the extent resources are available. -6- In November 2000, we obtained the FDA's approval of our investigational device exemption to begin human clinical testing of a product based on our technology for use in cosmetic and reconstructive surgery applications. The product is injected into or under the skin for the correction of dermal contour deficiencies (facial lines, wrinkles, scars, etc.) caused by aging or disease. We began pilot clinical testing of the product's safety and efficacy in April 2001. We currently project expanding into a multi-site pivotal clinical study in 2006, to the extent resources are available. Tissue Adhesives and Sealants Certain tissue adhesives and sealants that seek to avoid the limitations of sutures, staples, pins and screws have been developed and marketed for a number of years 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 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. The FDA approved one such product, BioGlue(R), in 2001 for use as an adjunct to sutures and staples in open surgery to repair large arteries. 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 have also been approved in the U.S. or are under development. Unique features of the tissue adhesive technology we have developed include the combination of high strength, 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. Non-resorbable adhesives or sealants are used where the damaged tissues will not heal. Resorbable adhesives or sealants are used for temporary repairs while the tissue is healing. We have demonstrated both the adhesive performance and the biocompatibility of our product formulations in animal models, including the resorption of the adhesive matrix in conjunction with the progression of wound healing. We have worked to determine the specific markets and products providing the most significant opportunities for the use of our adhesive and sealant technology. Our tissue adhesive technology combines a protein polymer designed specifically to react in a highly efficient manner under physiological conditions with multiple classes of cross-linking agents. These two fluid components are mixed just prior to their delivery to the treatment site, which can be accomplished through a fine gauge needle. The material then rapidly cures to a tough, elastic hydrogel that strongly adheres to surrounding tissues. Chemical cross-linking of the protein polymer allows for the development of a hydrogel with much more robust mechanical properties than can be achieved with the protein polymer alone (i.e. in comparison to our bulking agents). By varying components of the formulation, including the type of cross-linker used, the properties of the final product are tailored to particular clinical needs (e.g., flow properties, set-up speed, adhesive strength and resorption rate). As a result of our evaluations of the medical market needs, the properties achievable with our technology, and the capabilities of competitive technologies, we initially focused our product development interests on certain orthopedic applications, particularly those related to the repair of the spinal disc for the treatment of chronic low back pain. Beginning in April 2001, Spine Wave has funded our efforts to develop an injectable protein-based formulation for the repair of spinal discs damaged either by injury or aging. Based on our proprietary tissue -7- adhesive technology, the product under development has potential to be an effective outpatient surgical treatment for chronic low back pain. Spine Wave is progressing with the use of this technology for the treatment of spinal disc conditions. We have completed feasibility assessments of a surgical sealant formulation for cardiovascular, pulmonary and gastrointestinal procedures and are preparing to begin preclinical safety studies to support an investigational device exemption seeking FDA approval for human clinical testing, to the extent resources are available. We are seeking to establish additional partnerships to pursue the commercial development of such products. In these types of applications, the use of sutures and staples for closing the wound may permit leaks of air, in the case of pulmonary (lung) surgery, and fluids, particularly blood in any surgery, and also gastrointestinal (GI) fluids in the case of surgery on the colon (GI tract). In such surgeries, the use of an effective sealant -- as an adjunct to sutures or staples -- to prevent leaks could reduce hospitalization stays, reduce post-operative pain and complications, and lower associated mortality rates. We estimate that about 500,000 gastrointestinal, 300,000 lung, and over 1.5 million cardiovascular surgical procedures are performed each year worldwide where the use of a sealant has the opportunity to significantly reduce complications and costs. Wound Healing Support 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, we believe that a principal treatment goal in all instances is to stimulate wound healing while regenerating functional (as opposed to scar) tissue. We have developed protein polymers which we believe 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. We believe that such materials, if successfully developed, could improve the wound-healing process by providing physical support at the wound site 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 based on tissue engineering. This program is in the early stages of research, which we have 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. We believe 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. Our soft tissue augmentation products, wound healing matrices, and medical-device coating technology all provide platforms for drug delivery applications, serving as controlled-release drug depots. The protein polymer materials we have developed exhibit exceptional biocompatibility, provide for control over rates of -8- 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. Manufacturing, Marketing and Distribution Pre-clinical 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"). We have implemented, and continue to implement, polymer production and quality control procedures, and have made certain facilities renovations to operate in conformance with FDA requirements. We believe our current polymer production capacity is sufficient for supplying our development programs with the required quality and quantity of materials needed for feasibility and pre-clinical testing and initial ("pilot") clinical testing. To expand beyond initial clinical trials, we will require additional manufacturing capacity. We are considering several methods for increasing production of our biomedical product candidates to meet pivotal clinical trial and commercial requirements. For example, we may expand our existing facility to produce needed quantities of materials under FDA's GLP and QSR regulations for clinical and commercial use. Alternatively, we 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 our margins or our ability to comply with applicable governmental regulations. The actual method or combination of methods that we may ultimately pursue will depend on a number of factors, including availability, cost and our assessment of the ability of such production methods to meet our commercial objectives. We have entered into agreements with Spine Wave for marketing and distribution of products for use in spinal and other defined orthopedic applications. We currently expect that our other biomedical products, if any were commercialized, would be marketed and distributed by corporate partners. While this arrangement could minimize our marketing costs and facilitate wider distribution of any biomedical products we may develop, these arrangements could possibly reduce our revenues and profits as compared to what would be possible if we 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." Collaborative and License Agreements Because of the highly technical focus of our business, we must conduct extensive research and development prior to any commercial production of our biomedical products or the biomaterials from which they are created. During this development stage, our ability to generate revenues is limited. Because of this limitation, we do not have sufficient resources to devote to extensive testing or marketing of our products. Our primary method to expand our product development, testing and marketing capabilities is to seek to form collaborative arrangements with selected corporate partners with specific resources that we believe complement our business strategies and goals. 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. In December 1999, we began human clinical testing of our product for the treatment of female stress urinary incontinence. In April 2001, we began human clinical testing of our product for use in the correction of dermal contour deficiencies. -9- Information regarding our significant collaborative and license agreements is set forth below under the heading "Management's Discussion and Analysis." Other Agreements We are discussing other potential collaboration agreements with prospective marketing partners. There can be no assurance that we will continue such discussions or that we will 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, we are party to certain materials evaluation agreements regarding biomedical applications of our 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 we 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 our biomaterials are as components of end-use products for biomedical and other specialty applications. End-use products using or incorporating our biomaterials would compete with other products that rely on the use of alternative materials. For example, bulking agents for soft tissue augmentation are currently marketed based on bovine and human collagen, hyaluronic acid, and, outside the U.S., silicone particles. Similarly, all targeted applications of our potential products will compete with other products having the same or similar applications. The areas of business in which we engage and propose to engage are characterized by intense competition and rapidly evolving technology. Competition in the biomedical and surgical repair markets is particularly significant. Our 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 our own. Academic institutions and other public and private research organizations are also conducting research and seeking patent protection in the same or similar application areas, and may commercialize products on their own or through joint ventures. Most of our competitors depend on synthetic polymer technology rather than protein engineering for developing products. However, we believe that DuPont, BioElastics Research, Ltd. and several university laboratories are currently conducting research into similar protein engineering technology. The primary elements of competition in the biomedical and surgical repair products market are performance, cost, safety, reliability, convenience and commercial production capabilities. We believe that our ability to compete in this market will be enhanced by the breadth of our issued patent claims, our other pending patent applications, our early entry into the field and our experience in protein engineering. Patents and Trade Secrets We are aggressively pursuing domestic and international patent protection for our technology, making claim to an extensive range of recombinantly prepared structural and functional proteins, the DNA encoding these proteins, methods for preparing this synthetic repetitive DNA, methods for the production and purification of protein polymers, end-use products incorporating such materials and methods for their use. Due to this multi-layered patent strategy, each of our products under development is protected by multiple patents claiming different aspects of the underlying inventions. The United States Patent and Trademark Office has issued twenty-five patents to us. Additionally, we have five U.S. patent applications pending. We have been granted five U.S. patents, which broadly cover the polymer compositions used in our -10- product development efforts and/or the DNA encoding these polymers. These polymers are generally defined by the use of repetitive amino acid sequences found in naturally occurring proteins (e.g. silk, elastin, collagen, keratin). The last of these patents will expire in 2015. Additionally, we have been granted two U.S. patents which specifically cover polymer compositions based on repetitive silk and elastin units and the DNA encoding these polymers. The last of these patents will expire in 2014. The silk/elastin copolymers used in our soft tissue augmentation products and our tissue adhesive products, including the spinal disc repair product, and the genes used to produce them have amino acid and/or DNA sequences within the claims of all seven of these patents. We also have been granted a U.S. patent that covers the method of using polymers such as these silk/elastin copolymers for soft tissue augmentation. This patent will expire in 2017. We have been granted seven U.S. patents covering our tissue adhesive and sealant technology. Three of these patents cover the cross-linked polymer compositions and/or methods of using our polymers and a cross-linking agent to adhere or seal tissues, including the filling of defects in tissues. The spinal disc repair product under development, as well as other anticipated products based on our adhesive and sealant technology, fall within the claims of all three of these patents. The last of these patents will expire in 2015. One of the remaining four patents covers the special case of our polymers that are capable of being cross-linked by enzymes, such as those found naturally in the body, which will expire in 2015. The other three remaining patents cover the special case where primers are used to enhance the mechanical strength of protein-based tissue adhesives and sealants. Both of these patents will expire in 2017. We have been granted two U.S. patents covering the methods used to construct the synthetic DNA encoding proteins having repetitive amino acid sequences. The claims of these patents are not limited by the specific amino acid sequence of the polymers produced using the methods. Therefore, they provide very broad coverage of our core technology. Both of these patents will expire in 2014. We have been granted and maintain eight U.S. patents that are not currently central to our product development focus. However, they either do or may support the interests of licensees of our technology or may support our future product development efforts. One of the patents specifically covers DNA encoding a polymer useful for in vitro cell culture, which will expire in 2010. Two of the patents specifically cover collagen-like proteins and the DNA encoding them, both of which will expire in 2013. One of the patents specifically covers a purification method for silk-like proteins, developed for large-scale industrial use, which will expire in 2010. Two of the patents specifically cover compositions, formed objects and methods of making such objects, combining traditional thermoplastic resins and proteins providing chemical or biological activity. Both of these patents will expire in 2015. Two of the patents specifically cover our water-insoluble polymers that have been chemically modified to make them water-soluble. The last of these two patents will expire in 2015. Although we believe our existing issued patent claims provide a competitive advantage, there can be no assurance that the scope of our patent protection is or will be adequate to protect our technology or that the validity of any patent issued will be upheld in the future. Additionally, with respect to our 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 us. Although we do not currently have any operations outside the U.S., we anticipate that our potential products will be marketed on a worldwide basis, with possible manufacturing operations outside the U.S. Additionally, current or potential products of our licensees are, or are expected to be, marketed on a worldwide basis with current or potential manufacturing operations outside the U.S. Accordingly, international patent applications corresponding to the major U.S. patents described above have been filed in foreign countries. Due to translation costs and patent office fees, international patents are significantly more expensive to obtain and maintain 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 -11- a patent grant. We carefully consider these factors in consultation with our 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, we file for patents in Europe and Japan. Currently, we maintain fourteen issued foreign patents, and seven pending foreign applications. One of the issued foreign patents is in Europe and the scope of its claims broadly covers protein polymers having functional activity, including those polymers used in our soft tissue augmentation and tissue adhesive products under development. This patent will expire in 2009. Generally, we only maintain foreign patents or applications in Europe and Japan, unless otherwise required due to our license agreements. Because of the uncertainty concerning patent protection and the unavailability of patent protection for certain processes and techniques, we also rely upon trade secret protection and continuing technological innovation to maintain our competitive position. Although all our employees have signed confidentiality agreements, there can be no assurance that our proprietary technology will not be independently developed by other parties, or that secrecy will not be breached. Additionally, we are 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. We cannot predict whether we 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 our business, we employ various trademarks and trade names in packaging and advertising our products. We have assigned the federal registration of our ProNectin(R) trademark and our SmartPlastic(R) trademark for ProNectin F Activated Cultureware to Sanyo Chemical Industries, Ltd. in connection with the sale to Sanyo of our cell culture business in February 2000. We intend to protect and promote all of our trademarks and, where appropriate, will seek federal registration of our 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. Our 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, our activities are subject principally to regulation under the Occupational Safety and Health Act and the Food, Drug and Cosmetic Act (including amendments and updates) of both the U.S. and the State of California. Extensive pre-clinical 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. We are 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) and applicable Quality System Regulations (QSR). Where we have conducted such testing, our company may choose to file product approval submissions ourselves 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 our materials. There can be no assurance that we, or our customers, will be able to obtain or maintain the necessary approvals from the FDA or corresponding international regulatory authorities, or that we will be able to maintain a Master File in accordance with FDA regulations. In either case, our anticipated business could be adversely affected. To the extent we manufacture medical devices, or a component material supplied to a medical device manufacturer, we will be required to conform commercial manufacturing operations to the FDA's QSR requirements. We would also be required to register our facility with the FDA as an establishment involved in the manufacture of medical devices. QSR requirements are rigorous, and there can be no assurance that compliance could be obtained in a timely manner and without the expenditure of substantial resources, if at all. International quality system requirements, e.g., ISO 9001 issued by the International Organization for Standardization, is the -12- quality model used by medical product manufacturers and is required for the sale of medical devices in Europe. ISO 9001 standards are similar to the FDA's QSR. In August 1999, we obtained the FDA's approval of our investigational device exemption to begin human clinical testing of our product for the treatment of female stress urinary incontinence. We initiated clinical testing of this product in December 1999. In November 2000, we obtained FDA approval to begin human clinical testing of a product for use in cosmetic and reconstructive surgery for the correction of dermal contour deficiencies (facial lines, wrinkles, scars, etc.) We initiated clinical testing of this product in April 2001. We have implemented, and continue to implement, polymer production and quality control procedures, and have made certain facilities renovations, to operate in conformance with FDA requirements. Our 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 us to obtain pre-manufacturing approval for any new "chemical material" we produce for commercial use that does not fall within the FDA's regulatory jurisdiction. We believe we are currently in substantial compliance with all such laws and regulations. Although we intend to use our best efforts to comply with all environmental laws and regulations in the future, there can be no assurance that we 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 Our business may expose us to potential product liability risks whenever human clinical testing is performed, or upon the use of any commercially marketed medical product. Prior to beginning human clinical testing of our investigational devices, we procured product liability insurance. We are maintaining this insurance, expanding the coverage as appropriate in concert with the clinical use of our products. There can be no assurance, however, that we will be able to continue 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 our business. Executive Officers of the Registrant Name Age Position with the Company - ---- --- ------------------------- J. Thomas Parmeter 65 Chairman of the Board of Directors, Chief Executive Officer Donald S. Kaplan 58 President and Chief Operating Officer Joseph Cappello, Ph.D. 48 Vice President, Research and Development, Chief Technical Officer and Director, Clinical Research Franco A. Ferrari, Ph.D. 54 Vice President, Laboratory Operations and Polymer Production and Director, Molecular Genetics John E. Flowers 48 Vice President, Planning and Operations Janis Y. Neves 54 Director, Finance and Administration, Treasurer and Corporate Secretary Mr. Parmeter has been the Company's Chief Executive Officer and Chairman of the Board of Directors since its inception in July 1988 (and, from July 1988 to April 2004 its President; from July 1988 to July 1992, its -13- 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. Kaplan has been the Company's President and Chief Operating Officer since April 2004. Previously, he was the President of Matrix Technology, a start-up medical device company he founded in 2001. From 1996 to 2000, he was an independent consultant in the areas of surgical devices and medical research and manufacturing. From 1980 to 1995, Dr. Kaplan was employed by U.S. Surgical Corporation, initially as Vice President, Materials Science, and from 1992 to 1995 as Senior Vice President, Operations and Technology. Dr. Cappello has been the Company's Vice President, Research and Development since February 1997 and Chief Technical Officer since February 1993. He has been the Company's Director, Clinical Research, since July 2002. From September 1988 to February 1993, he was the Company's Senior Research Director, Protein Engineering. 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. 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. Ms. Neves has been the Company's Director of Finance since November 1998, Controller since January 1990 and Corporate Secretary since June 2004. From July 1988 until January 1990, Ms. Neves was the Company's Business Office Manager. All of our executive officers were elected by the Board of Directors and serve at its discretion. No family relationships exist between any of the officers or directors of our company. Employees As of March 30, 2005, we had 17 full-time employees, of whom five have employment contracts with our company and four hold Ph.D. degrees. We are highly dependent on the services of our 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 our development objectives, our business opportunities and prospects. The recruitment and retention of additional qualified management and scientific personnel is also critical to our success. There can be no assurance that we 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 We do not own any real property. We lease approximately 27,000 square feet in San Diego, California from Del Mar Partnership. The leased property includes our administrative offices, which encompass approximately 4,000 square feet, and our laboratory facilities, which encompass approximately 15,000 square feet. The current annual rent for this space is approximately $638,000. We currently sublease at cost an additional 6,000 square feet of office and laboratory space in our present facility. The master lease expires in May 2008. The sublease originally expired at the end of January 2003, but is currently continuing on a month-to-month basis. We believe that our current facilities are adequate to meet our needs until the end of 2005. Item 3. Legal Proceedings None. -14- 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 2004. -15- PART II Item 5. Market for Common Equity, Related Stockholder Matters and Small Business Issuer Purchases of Equity Securities. NASDAQ Delisting Prior to September 1999, our common stock traded on The Nasdaq Stock Market under the symbol "PPTI". Our common stock was delisted from the NASDAQ Small Cap Quotation System, effective September 20, 1999. The reasons for the delisting were failure to maintain the minimum bid requirement of $1.00 per share for our common stock, and failure to meet the minimum net asset requirement of $2 million. Our common stock is now traded on the "over-the-counter" NASD Bulletin Board. To access the quotations for our common stock, use the call letters PPTI.OB. The high and low bid prices set forth below represent inter-dealer prices without retail markups, markdowns or commissions, and may not represent actual transactions. The source of the high and low information set forth below was provided by Yahoo Finance (http://chart.yahoo.com). ------------------------------------- Trade Prices ------------ 2004 High Low ---- ---- --- First Quarter $0.550 $0.320 Second Quarter 0.430 0.300 Third Quarter 0.780 0.300 Fourth Quarter 0.720 0.430 2003 First Quarter $0.980 $0.600 Second Quarter 0.800 0.550 Third Quarter 0.600 0.410 Fourth Quarter 0.560 0.420 ------------------------------------- As of March 28, 2005, we had approximately 172 shareholders of record of our common stock; we estimate we had approximately 1,500 beneficial holders. We have never paid cash dividends on our common stock. We currently intend to retain earnings, if any, for use in the operation and expansion of our business and therefore do not anticipate paying any cash dividends on our common stock in the foreseeable future. Equity Compensation Plan Information The following table provides information as of December 31, 2004 regarding equity compensation plans (including individual compensation arrangements) under which our equity securities are authorized for issuance. -16-
- ------------------------------- ---------------------- ------------------------ ------------------------ Number of securities remaining available Number of Securities for future issuance to be issued upon Weighted-average under equity exercise of exercise price of compensation plans outstanding options, outstanding options, (excluding securities Plan Category warrants and rights warrants and rights reflected in column (a)) - ------------------------------- ---------------------- ------------------------ ------------------------ (a) (b) (c) Equity Compensation Plans approved by security holders Stock Option Plans(1) 10,164,450 $0.723 2,271,550 Employee Stock Purchase Plan(2) - - 39,116 Equity Compensation Plans not approved by security holders(3) 1,724,050 $0.728 n/a - ------------------------------- ---------------------- ------------------------ ------------------------
(1) Includes shares of common stock to be issued upon exercise of stock options granted under the 1989 Employee Stock Option Plan, the 1992 Employee Stock Option Plan, the 2002 Employee Stock Option Plan, and the 1996 Non-employee Director's Stock Option Plan. (2) Includes shares of common stock available for future issuance under the Employees Stock Purchase Plan. (3) Includes shares of common stock to be issued upon exercise of out-of-plan non-qualified options granted. - ------------------------------------- Recent Sales of Unregistered Securities In October 2004, certain holders of warrants issued in conjunction with sale of Series I Convertible Preferred Stock of the Company exercised their warrants to purchase common stock. Certain of such warrants were due to expire at the end of September 2004, but the Company extended the exercise period of these warrants until the end of October 2004. The exercise prices of such warrants were between $0.58 and $1.73 per share. As an incentive to exercise the warrants early, the Company reduced the exercise price to $0.50 per share for all of such warrants to the extent such warrants were exercised on or before October 29, 2004. As a result, the Company raised $545,156. In March 2004, certain holders of warrants exercised their warrants to purchase common stock. These warrants were due to expire at the end of March 2004. The exercise prices of such warrants were between $0.40 and $0.55 per share. As an incentive to exercise the warrants early the Company offered to reduce the exercise price of the warrants to $0.25 per share and offered each holder the issuance of a new warrant, for a similar number of shares, at an exercise price of $0.55 per share. As a result, the Company raised $246,250. The newly issued warrants will expire on the last day of January 2005. The issuances of the warrants where exercise was noted above were exempt from registration under Section 4(2) of the Securities Act, as they were issued to accredited investors pursuant to requirements of Rule 506 of Regulation D promulgated under the Securities Act. The Company used the proceeds from such warrant exercises for working capital and general corporate purposes. -17- 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, 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. We undertake 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 Protein Polymer Technologies, Inc., is a development-stage biotechnology company engaged in the research, development, production and clinical testing of medical products based on materials created from our patented technology to produce proteins of unique design. Since 1992, we have focused primarily on developing technology and products to be used for soft tissue augmentation, tissue adhesives and sealants; wound healing support; and drug delivery devices. We have been unprofitable to date, and as of December 31, 2004 had an accumulated deficit of $(52,736,661). Protein polymers are synthetic proteins created "from scratch" through chemical DNA (gene) synthesis, and produced in quantity by traditional large-scale microbial fermentation methods. As a result, protein polymers contain no human or animal components that could potentially transmit or cause disease. Due to their synthetic design, protein polymers are capable of combining the biological functionality of natural proteins with the chemical functionality and exceptional physical properties of synthetic polymers. Our primary goal is to develop medical products for use inside the body with significantly improved outcomes as compared to current products and practices. Our product candidates for surgical repair, augmentation and regeneration of human tissues are in various stages of research and development. The more advanced programs are 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, tissue adhesive formulations for the repair of spinal discs damaged due to injury or aging, and preclinical development of a new surgical sealant designed to prevent air and fluid leaks following lung, gastrointestinal, and cardiovascular surgery. We currently are devoting the majority of our resources to the development and FDA approval of these products. Because of our technology's breadth of commercial opportunity, we are pursuing multiple routes for commercial development. Currently, we independently are developing the incontinence and the dermal augmentation products, which share similar technology and product characteristics. We have established a comprehensive license and development agreement with Genencor International for the use of our materials and technology to develop, manufacture and commercialize products for industrial markets. Genencor International is one of the world's largest manufacturers of industrial enzymes and other biologically derived products. Through this arrangement, we will receive milestone payments, and eventually royalties on the sale of products. For development and commercialization of our spinal disc repair product, we entered into agreements with Spine Wave, Inc., that will provide us with both near term research and development support and eventually royalties -18- on the sale of licensed products. Significant Collaborative Agreements Our collaborative development agreements generally contain provision for specific payments for defined activities, services, royalties on the sales of developed products, and/or the accomplishment of performance benchmarks. These agreements also may provide for equity investments or other financial incentives. Technology license agreements usually are associated with collaborative development agreements, but occasionally we will agree to a license without an accompanying development agreement. Spine Wave In April 2001, we entered into agreements with Spine Wave, Inc., to develop and commercialize an injectable protein-based formulation for the repair of spinal discs damaged either by injury or aging. As consideration for entering into an exclusive, worldwide license agreement with Spine Wave, we received one million shares of the founding common stock in Spine Wave, valued initially at $10,000. The shares of founding common stock were subject to a vesting schedule; however, Spine Wave's right to repurchase unvested shares terminated in 2002 upon their merger with VERTx, Inc. Royalties from the sale or sublicensing of licensed products will be determined in the future based on the gross margin (sales revenue less the cost of goods) realized by Spine Wave from the sale of the products. In connection with the license agreement, we entered into a separate supply and services agreement to provide Spine Wave with a variety of research and development services, and to supply materials to Spine Wave for pre-clinical and clinical testing. Spine Wave, in return, agreed to reimburse us for both our direct costs and the associated overhead costs for the services provided. During 2001, we recognized contract revenues of $450,000 related to activities performed under the collaborative agreement. In March 2002, we executed additional agreements with Spine Wave that expanded our contractual research and development relationship, and that offered us additional equity incentives in the form of Spine Wave common stock and warrants. Under the amended supply and services agreement, we, on behalf of Spine Wave, are proceeding with pre-clinical safety and performance studies of a product for spinal disc repair to support Spine Wave's filing of an investigational device exemption with the FDA to obtain approval to initiate human clinical testing. During the subsequent period leading to regulatory marketing approval, our contractual responsibilities include the supply of product to be used in clinical testing. Research and development services performed for Spine Wave are reimbursed including both direct costs and associated overhead costs. Spine Wave is responsible for clinical testing, regulatory approvals, and commercialization. For the year ended December 31, 2004 and for the period of project inception to date we received $453,000 and $4,914,000, respectively, in contract revenue from Spine Wave which represents the reimbursement of direct costs plus overhead costs allocated to the research and development resources used in performing the collaborative activities. Additional equity incentives offered in conjunction with the expanded supply and services agreement of March 17, 2002 consist of a four year warrant to purchase 1,000,000 shares of Spine Wave common stock at an exercise price of $0.50 per share (recently issued Spine Wave preferred stock was also priced at $0.55 per share), and 400,000 shares of common stock valued at $0.05 per share subject to repurchase at cost until each of three performance goals is achieved. The performance goals consist of: (i) completion of certain studies for filing an investigational device exemption application (100,000 shares); (ii) completion of additional studies for filing of the investigational device exemption and provision of inventory for the pilot clinical study (150,000 shares); and (iii) completion of certain manufacturing arrangements, and production of certain quantities of product (150,000 shares). As of December 31, 2004, two of the three performance goals had been met. In October 2003, we executed a second amendment to the supply and services agreement with Spine Wave that further defined the cost basis for reimbursement of services provided by us to Spine Wave. -19- Significant License Agreements Our license agreements usually include provision for up-front compensation and eventual royalties on the sale of licensed products. Terms of license agreements typically commence as of the date executed and continue for a period of the greater of twenty (20) years from execution date or the date upon which the last of the patented technology under license expires. Femcare, Ltd. In January 2000, we entered into an agreement with Femcare, Ltd. ("Femcare"), for the commercialization in Europe and Australia of our product for treatment of stress urinary incontinence. Under the terms of the license agreement, Femcare paid a $1 million non-refundable license fee in exchange for the patented technology and a three year commitment from us to provide support to Femcare in its efforts to clinically test our products in Great Britain and to achieve European regulatory approval. We have not incurred any research and development costs associated with our support efforts to date. As a result of the arrangement, we recognized approximately $333,000 in deferred license fee revenue for each of 2000, 2001, and 2002. In 2004, Femcare notified us that it was going to close its urology business. We are in discussions with Femcare regarding termination of the license agreement. Genencor International, Inc. - ---------------------------- In December 2000, we signed a broad-based, worldwide exclusive license agreement with Genencor International, Inc. ("Genencor") enabling Genencor to potentially develop a wide variety of new products for industrial markets. In October 2002, the license agreement was amended to provide Genencor with an additional one-year option to initiate development of products in the field of non-medical personal care. In March 2005, the license was amended to fully incorporate the field of personal care products into the license. As a result of the agreements, Genencor may use our patented protein polymer design and production technology, in combination with Genencor's extensive gene expression, protein design, and large-scale manufacturing technology, to design and develop new products with improved performance properties for defined industrial fields and the field of non-medical personal care products. In return for the licensed rights, Genencor paid us an up-front license fee of $750,000, and will pay royalties on the sale of any products commercialized by Genencor under the agreement. The licensed technology was transferred to Genencor upon execution of the license agreement without any further product development obligation on our part. Future royalties on the net sales of products incorporating the technology under license and developed by Genencor will be calculated based on a royalty rate to be determined at a later date. In addition, we are entitled to receive up to $5 million in milestone payments associated with Genencor's achievement of various industrial product development milestones incorporating the licensed technology. There is no limitation on the amount of milestone payments we can receive from Genencor for Genencor's product development in the field of non-medical personal care products. In March 2005 we received a second license milestone payment of $250,000 from Genencor for Genencor's initiation of a product development project based on technology licensed from us. In connection with the license agreement, Genencor was issued two warrants, each convertible by formula into $500,000 of our common stock. The first warrant has subsequently expired. The second warrant could be converted into 1,250,000 shares at an exercise price of $0.40 per share. As a result of the collaboration, in 2000 we recognized $750,000 in license fee revenue (less the issuance of warrants to purchase $1 million of our common stock valued at $319,000). The agreement terminates on the date of expiration of the last remaining patent. -20- Research and Development We currently maintain detailed project costs (direct costs plus allocated overhead) for contractual research and development services. However, we do not maintain cost breakdowns for our internal research and development projects due to the extensive degree of overlap between our tissue augmentation projects such as common manufacturing, quality control, and developmental product testing. Our product for the treatment of female stress urinary incontinence is in pilot human clinical testing. Due to the rate of patient enrollment, we now project beginning pivotal clinical testing during 2005. We expect these trials, including patient follow-up, will take approximately 24 months, and the subsequent Food and Drug Administration review of our pre-market approval submission may take an additional 12 months. Assuming this schedule is met and the product is approved, U.S. sales of the product are projected to begin in 2008. Commercial manufacturing process development and completion of the clinical trials are estimated to cost approximately $10 million. Our tissue augmentation product for use in cosmetic and reconstructive surgery applications is in pilot human clinical testing. We recently obtained FDA approval to expand the pilot clinical study to obtain additional data in support of our application to begin a pivotal clinical study. We now project beginning pivotal clinical testing during 2005. We expect these trials, including patient follow-up, will take approximately 15 months, and the subsequent Food and Drug Administration review of our pre-market approval submission may take up to an additional 12 months. Assuming this schedule is met and the product is approved, U.S. sales are projected to begin in 2007. Our estimate for the pivotal clinical trial has been updated and is now projected to cost approximately $3.2 million. This product is based on the same manufacturing technology as our product for the treatment of female stress urinary incontinence, and thus, the incremental cost of manufacturing development is estimated to be approximately $0.1 million. We currently do not have sufficient cash to complete the development of these products. We anticipate obtaining the necessary cash either by additional equity financings, or by sharing the cost of development with potential marketing partners, or a combination of both methods. If we are unable to obtain the necessary cash, it will have a material adverse effect on us. Our spinal disc repair product being developed for our licensee, Spine Wave, Inc., is in pre-clinical testing. The timing of this project is under the control of Spine Wave. Under our contract with Spine Wave, we are responsible for development of the formulated product, its pilot manufacturing process, and product production for both clinical trials. Spine Wave is responsible for funding all expenses associated with these activities. Contract revenue received from Spine Wave is approximately equal to our cost (direct project costs plus allocated laboratory and corporate overhead expenses) of the work performed. Total research and development costs for the year ended December 31, 2004 and for the period of project inception to date are approximately $453,000 and $4,914,000 respectively. To the extent sufficient capital resources are available, we continue to research the use of our patented technology to produce proteins of unique design for other tissue repair and medical device applications, principally for use in supporting the wound healing process, including devices based on tissue engineering, and in drug delivery devices. Our strategy for most of our programs is to enter into collaborative development agreements with 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 payments and milestone payments, we expect to continue incurring operating losses for the next several years. Results of Operations Contract and Licensing Revenue. We received $453,000 in contract and licensing revenue for the year ended December 31, 2004 as compared to $1,597,000 for the year ended December 31, 2003, and $3,011,000 for -21- the year ended December 31, 2002. Contract revenue for the past year primarily represents payments of $453,000 from Spine Wave, for materials and services provided in the development of an adhesive product for the repair of spinal discs. We received $1,584,000 and $2,427,000 in contract revenue from Spine Wave in 2003 and 2002 respectively. We received no licensing revenue in 2004 or 2003. Licensing revenue in 2002 primarily represents the amortized portion of an up-front license payment of $1 million (being recognized ratably over a period of three years) from Femcare for the commercial rights to our incontinence product in Europe and Australia, and a license milestone payment of $250,000 from Genencor for Genencor's initiation of a product development project based on technology licensed from us. Licensing revenue in 2001 comprised the amortized license payments from Femcare. Interest Income. Interest income was $4,000 for the year ended December 31, 2004, as compared to $20,000 for 2003 and $7,000 for 2002. 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. Research and Development Expenses. Research and development expenses for the year ended December 31, 2004 were $2,284,000, compared to $2,360,000 for 2003, and $2,699,000 in 2002. The fluctuations are primarily due to variations in clinical testing and regulatory consulting costs. The cost of conducting human clinical testing began in December 1999 for our product for the treatment of stress urinary incontinence, and in 2001 for our tissue augmentation product for use in cosmetic and reconstuctive surgery. Other related expenses include those for expanded manufacturing capacity and manufacturing process development, quality assurance efforts, and outside testing services. We expect our 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 preclinical development of our surgical sealants, increased human clinical testing, increased manufacturing requirements, increased use of outside testing services, and increased research and development services for Spine Wave. Selling, General and Administrative Expenses. Selling, general and administrative expenses for the year ended December 31, 2004 were $1,738,000, as compared to $1,451,000 for 2003, and $1,336,000 in 2002. Although these expenses have been fairly consistent over the past three years, we did experience some increases during 2004 in the areas of insurance coverage and legal services. To the extent possible, we continue to concentrate on controlling costs reflected in reduced travel, office supplies, and non-regulatory consulting costs. We expect our selling, general and administrative expenses will increase in the future, to the extent additional capital is obtained, consistent with supporting our research and development efforts and as business development, patent, legal and investor relations activities require. Operating Losses. For the year ended December 31, 2004, we recorded a net loss applicable to common shareholders of $4,330,000, or $0.11 per share, as compared to $5,055,000, or $0.15 per share for 2003, and $1,294,000, or $0.05 per share for 2002. The difference in the net losses and the losses per share between 2004 and 2003, and 2002, is primarily due to differences in license and contract fees received from collaborative partners, and in 2003 an "imputed dividend" expense associated with the sale of preferred stock. In connection with the sale of Series I Convertible Preferred Stock in March and May 2003, we recorded a non-cash "imputed dividend" expense of $1,928,237 in order to account for the difference between the fair market value of the common stock and the conversion price of the preferred stock into common stock. The 2004, 2003 and 2002 losses and per share calculations also include $278,000 of undeclared dividends in each year with respect to our preferred stock. We expect to incur increasing operating losses for the next several years, to the extent additional capital is obtained, based upon the continuation of the development and testing of our product for the treatment of female stress urinary incontinence and our product for the correction of dermal contour deficiencies, the associated FDA approval process, and the tissue adhesives program, as well as expected increases in our other research and development, manufacturing and business development activities. Our results depend in part on our ability to establish strategic alliances and generate contract revenues, increased research, development and manufacturing efforts, pre-clinical and clinical product testing and commercialization expenditures, expenses -22- incurred for regulatory compliance and patent prosecution, and other factors. Our results will also fluctuate from period to period due to timing differences. Inflation To date, we believe that inflation and changing prices have not had a material impact on our continuing operations. However, given the State of California's continuing energy problems, our utility costs have increased significantly over the past two years, and these increases are expected to continue for the foreseeable future. Liquidity and Capital Resources As of December 31, 2004, we had cash, cash equivalents and short-term investments totaling $82,000, as compared to $1,085,000 at December 31, 2003. As of December 31, 2004, we had working capital of $(1,531,000), compared to $1,192,000 at December 31, 2003. We do not have any off balance sheet financing activities and do not have any special purpose entities. We had no long-term capital lease obligations as of December 31, 2004 or December 31, 2003. For the year ended December 31, 2004, our cash expenditures for capital equipment and leasehold improvements totaled $1,600, compared with $90,000 for the same period in the prior year. To the extent capital is available, we anticipate that these expenditures will be increased in 2005 for laboratory renovations and additional equipment required to meet the FDA's applicable Quality System regulation as we scale up our manufacturing operations to meet product requirements for expanded clinical testing. We may enter into capital equipment lease arrangements in the future if available at appropriate rates and terms. We believe our existing available cash, cash equivalents and short-term investments as of March 28, 2005, in combination with continuing contractual commitments will be sufficient to meet our anticipated capital requirements through the end of April 2005. Substantial additional capital resources will be required to fund continuing expenditures related to our research, development, manufacturing and business development activities. In addition we are pursuing a number of alternatives available to meet the continuing capital requirements of our operations, such as collaborative agreements and public or private financings. Further, we are continuing our reimbursed services to Spine Wave. We are currently in discussions with potential financing sources and collaborative partners, and additional funding in the form of equity investments, license fees, milestone payments or research and development payments could be generated. There can be no assurance that any of these fundings will be consummated in the timeframes needed for continuing operations or on terms favorable to us. If adequate funds are not available, we will be required to significantly curtail our operating plans and would likely have to sell or license out significant portions of our technology, and possibly cease operations. -23- 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 Independent Registered Public Accounting Firm........................ F-2 Balance Sheets at December 31, 2004 and 2003................................... F-3 Statements of Operations for the years ended December 31, 2004 and 2003 and the period July 6, 1988 (inception) to December 31, 2004................ F-4 Statements of Stockholders Equity for the period July 6, 1988 (inception) to December 31, 2004........................................................ F-5 Statements of Cash Flows for the years ended December 31, 2004 and 2003 and the period July 6, 1988 (inception) to December 31, 2004................ F-8 Notes to Financial Statements.................................................. F-10
F-1 Report of Independent Registered Public Accounting Firm ------------------------------------------------------- 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) (the "Company") as of December 31, 2004 and 2003, and the related statements of operations, stockholders' equity (deficit), and cash flows for the years then ended and for the period July 6, 1988 (inception) to December 31, 2004. 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 audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides 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) as of December 31, 2004 and 2003, and the results of its operations and its cash flows for the years then ended and for the period July 6, 1988 (inception) to December 31, 2004, in conformity with accounting principles generally accepted in the United States of America. The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the financial statements, the Company has reported accumulated losses during the development stage aggregating $52,737,000, had a working capital deficiency of $1,531,000 as of December 31, 2004 and is dependent on additional financing to fund operations through the end of 2005 and beyond. These factors raise substantial doubt about it the Company's ability to continue as a going concern. Management's plans as to these matters are described in Note 1. The 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. PETERSON & CO., LLP San Diego, California February 28, 2005 F-2 Protein Polymer Technologies, Inc. (A Development Stage Company) Balance Sheets
December 31, 2004 2003 ------------------------------- Assets Current assets: Cash and cash equivalents $ 82,222 $ 1,085,314 Contracts receivable - 252,026 Current portion of rent receivable 60,000 184,527 Prepaid expenses 12,770 25,799 ------------------------------- Total current assets 154,992 1,547,666 Deposits 29,679 29,679 Rent receivable, net of current portion and reserve of $157,296 and $0 at 2004 and 2003 respectively 104,527 - Equipment and leasehold improvements, net 84,580 114,411 ------------------------------- $ 373,778 $ 1,691,756 =============================== Liabilities and stockholders' equity (deficit) Current liabilities: Accounts payable $ 315,357 $ 168,659 Deposits payable 33,000 - Notes payable, related party 1,032,842 - Accrued expenses 201,910 162,609 Deferred revenue 102,784 - Deferred rent - 24,111 ------------------------------- Total current liabilities 1,685,893 355,379 Commitments (Notes 5 and 7) Stockholders' equity: Convertible Preferred Stock, $.01 par value, 5,000,000 shares authorized, 82,945 and 86,095 shares issued and outstanding at December 31, 2004 and 2003, respectively - liquidation preference of $8,294,500 and $8,609,500 at December 31, 2004 and December 31, 2003, respectively 7,749,917 8,064,917 Common stock, $.01 par value, 120,000,000 shares authorized, 39,651,123 and 36,830,857 shares issued and outstanding at December 31, 2004 and 2003, respectively 396,523 368,319 Additional paid-in capital 43,278,106 41,587,518 Deficit accumulated during development stage (52,736,661) (48,684,377) ------------------------------- Total stockholders' equity 1,312,115 1,336,377 ------------------------------- $ 373,778 $ 1,691,756 ===============================
The accompanying notes are an integral part of these financial statements. 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, ------------------------------------------------- 2004 2003 2004 ------------------------------------------------- Revenues: Contract and licensing revenue $ 453,038 $ 1,597,415 $ 11,309,039 Interest income, net 3,973 19,903 1,270,823 Product and other income 5 - 694,784 ------------------------------------------------- Total revenues 457,016 1,617,318 13,274,646 Expenses: Research and development 2,283,820 2,359,643 37,029,568 Selling, general and 1,738,401 1,450,914 21,961,696 administrative ------------------------------------------------- Total expenses 4,022,221 3,810,557 58,991,264 ------------------------------------------------- Net loss (3,565,205) (2,193,239) (45,716,618) Undeclared and/or paid dividends on preferred stock 764,718 2,862,219 9,699,508 ------------------------------------------------- Net loss applicable to common shareholders $ (4,329,923) $ (5,055,458) $ (55,416,126) ================================================= Net loss per common share - basic and diluted $ (.11) $ (.15) ================================= Shares used in computing net loss per common share - basic and diluted 38,212,119 34,362,427 =================================
The accompanying notes are an integral part of these financial statements. F-4 Protein Polymer Technologies, Inc (A Development Stage Company) Statements of Stockholders' Equity For the period July 6, 1988 (inception) to December 31, 2004
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 4,000 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 Receivables accumulated from sales during of common Total Additional development common 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
The accompanying notes are an integral part of these financial statements. F-5 Protein Polymer Technologies, Inc (A Development Stage Company) Statements of Stockholders' Equity For the period July 6, 1988 (inception) to December 31, 2004
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 Issuance of common stock under stock purchase plan 19,429 194 - - Issuance of common stock and warrants for services rendered and debt issued 16,941 180 - - Issuance of Series G preferred stock, net of issuance costs - - 21,000 2,074,596 Conversion of Series E preferred stock into common stock 731,000 7,310 (9,138) (913,750) Exercise of common stock and Series E warrants at $.50 per share 1,848,900 18,489 - - Net Loss and comprehensive loss - - - - ---------------------------------------------------- Balance at December 31, 1999 13,443,510 134,447 91,064 8,761,072 Issuance of common stock under stock purchase plan 287,303 2,873 - - Issuance of warrants and stock options for services rendered - - - - Exercise of common stock options 85,500 855 - - Exercise of common stock warrants at $.50 per share 4,215,000 42,150 - - Conversion of Series E preferred stock into common stock 879,000 8,790 (10,988) (1,098,800) Net Loss and comprehensive loss - - - - ---------------------------------------------------- Balance at December 31, 2000 18,910,313 $ 189,115 80,076 $ 7,662,272 Deficit Receivables accumulated from sales during of common Total Additional development common Stockholder 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 Issuance of common stock under stock purchase plan 15,111 - - 15,305 Issuance of common stock and warrants for services rendered and debt issued 26,440 - - 26,620 Issuance of Series G preferred stock, net of issuance costs - - - 2,074,596 Conversion of Series E preferred stock into common stock 906,440 - - - Exercise of common stock and Series E warrants at $.50 per share 905,961 - - 924,450 Net Loss and comprehensive loss - (4,257,531) - (4,257,531) ---------------------------------------------------- Balance at December 31, 1999 28,403,077 (37,245,495) - 53,101 Issuance of common stock under stock purchase plan 186,096 - - 188,969 Issuance of warrants and stock options for services rendered 345,244 - - 345,244 Exercise of common stock options 73,240 - - 74,095 Exercise of common stock warrants at $.50 per share 2,065,350 - - 2,107,500 Conversion of Series E preferred stock into common stock 1,090,010 - - - Net Loss and comprehensive loss - (2,498,077) - (2,498,077) ---------------------------------------------------- Balance at December 31, 2000 $ 32,163,017 $(39,743,572) $ - $ 270,832
The accompanying notes are an integral part of these financial statements. F-6 Protein Polymer Technologies, Inc (A Development Stage Company) Statements of Stockholders' Equity For the period July 6, 1988 (inception) to December 31, 2004
Common stock Preferred stock ---------------------------------------------------- Shares Amount Shares Amount ---------------------------------------------------- Issuance of Series H preferred stock, net of issuance costs - - 12,182 1,218,258 Issuance of common stock under stock purchase plan 14,837 148 - - Issuance of stock options for services rendered - - - - Exercise of common stock options 3,500 35 - - Exercise of common stock warrants at $.50 per share 2,492,000 24,920 - - Conversion of Series E preferred stock into common stock 320,000 3,200 (4,000) (400,000) Net Loss and comprehensive loss - - - - ---------------------------------------------------- Balance at December 31, 2001 21,740,650 $ 217,418 88,258 $ 8,480,530 Conversion of Series E preferred stock into common stock 515,000 5,150 (6,438) (643,750) Conversion of Series G preferred stock into common stock 1,140,000 11,400 (5,700) (570,000) Exercise of common stock warrants, net of associated costs 6,260,000 62,600 - - Issuance of common stock under stock purchase plan 47,385 474 - - Exercise of common stock options 28,500 285 - - Net Loss and comprehensive loss - - - - ------------------------------------------------ Balance at December 31, 2002 29,731,535 $ 297,327 76,120 $ 7,266,780 Issuance of Series I preferred stock, net of issuance costs - - 32,550 2,889,650 Conversion of Series E preferred stock into common stock 4,175,000 41,750 (20,875) (1,921,513) Conversion of Series G preferred stock into common stock 30,000 300 (150) (15,000) Conversion of Series I preferred stock into common stock 281,818 2,818 (1,550) (155,000) Exercise of common stock warrants at $.10 and $.40 per share 2,590,000 25,900 - - Imputed dividend associated with issuance of warrants - - - - Issuance of common stock under stock purchase plan 20,504 204 - - Exercise of common stock options 2,000 20 - - Net Loss and comprehensive loss - - - - ---------------------------------------------------- Balance at December 31, 2003 36,830,857 $ 368,319 86,095 $ 8,064,917 Conversion of Series G preferred stock into common stock 530,000 5,300 (2,650) (265,000) Conversion of Series I preferred stock into common stock 90,909 909 (500) (50,000) Exercise of Series G warrants at $.25 per share 2,075,312 20,753 - - Financing related fees - - - - Warrants issued in connection with notes payable - - - - Imputed dividend associated with repricing and issuance of warrants - - - - Issuance of common stock under stock purchase plan 20,545 207 - - Exercise of common stock options 103,500 1,035 - - Net Loss and comprehensive loss - - - - ---------------------------------------------------- Balance at December 31, 2004 39,651,123 $ 396,523 82,945 $ 7,749,917 ==================================================== Deficit Receivables accumulated from sales during of common Total Additional development common Stockholder paid-in capital stage stock equity ---------------------------------------------------- Issuance of Series H preferred stock, net of issuance costs - - - 1,218,258 Issuance of common stock under stock purchase plan 9,836 - - 9,984 Issuance of stock options for services rendered 1,834 - - 1,834 Exercise of common stock options 1,610 - - 1,645 Exercise of common stock warrants at $.50 per share 1,221,080 - - 1,246,000 Conversion of Series E preferred stock into common stock 396,800 - - - Net Loss and comprehensive loss - (3,146,829) - (3,146,829) ---------------------------------------------------- Balance at December 31, 2001 $ 33,794,177 $(42,890,401) $ - (398,276) Conversion of Series E preferred stock into common stock 638,600 - - - Conversion of Series G preferred stock into common stock 558,600 - - - Exercise of common stock warrants, net of associated costs 1,601,950 - - 1,664,550 Issuance of common stock under stock purchase plan 15,103 - - 15,577 Exercise of common stock options 9,805 - - 10,090 Net Loss and comprehensive loss - (1,016,158) - (1,016,158) ---------------------------------------------------- Balance at December 31, 2002 $ 36,618,235 $(43,906,559) $ - 275,783 Issuance of Series I preferred stock, net of issuance costs 1,928,237 (1,928,237) - 2,889,650 Conversion of Series E preferred stock into common stock 1,879,763 - - - Conversion of Series G preferred stock into common stock 14,700 - - - Conversion of Series I preferred stock into common stock 152,182 - - - Exercise of common stock warrants at $.10 and $.40 per share 327,600 - - 353,500 Imputed dividend associated with issuance of warrants 656,342 (656,342) - - Issuance of common stock under stock purchase plan 9,879 - - 10,083 Exercise of common stock options 580 - - 600 Net Loss and comprehensive loss - (2,193,239) - (2,193,239) ---------------------------------------------------- Balance at December 31, 2003 $ 41,587,518 $(48,684,377) $ - 1,336,377 Conversion of Series G preferred stock into common stock 259,700 - - - Conversion of Series I preferred stock into common stock 49,091 - - - Exercise of Series G warrants at $.25 per share 770,653 - - 791,406 Financing related fees (50,000) - - (50,000) Warrants issued in connection with notes payable 132,499 - - 132,499 Imputed dividend associated with repricing and issuance of warrants 487,079 (487,079) - - Issuance of common stock under stock purchase plan 7,606 - - 7,813 Exercise of common stock options 33,960 - - 34,995 Net Loss and comprehensive loss - (3,565,205) - (3,565,205) ---------------------------------------------------- Balance at December 31, 2004 $ 43,278,106 $(52,736,661 $ - $ (1,312,115) ====================================================
The accompanying notes are an integral part of these financial statements. F-7 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, 2004 2003 2004 ------------------------------------------------- Operating activities Net loss $ (3,565,205) $ (2,193,239) $ (45,716,618) Adjustments to reconcile net loss to net cash used for operating activities: Stock and warrants issued for services rendered and debt interest - - 472,676 Depreciation and amortization 31,350 56,576 2,446,310 Amortization of discounts on notes payable 115,342 - 115,342 Write-off of purchased technology - - 503,500 Changes in assets and liabilities: Contracts receivable 184,527 (252,026) - Rent receivable 87,499 (184,527) (164,527) Prepaid expenses 13,029 4,974 (12,770) Deposits - - (29,679) Accounts payable 146,698 (220,450) 315,357 Deposits payable 33,000 - 33,000 Accrued expenses 39,301 364 201,910 Deferred revenue 102,784 - 102,784 Deferred rent (24,111) (24,111) - ------------------------------------------------- Net cash used for operating activities (2,835,786) (2,812,439) (41,732,715) Investing activities Purchase of technology - - (570,000) Purchase of equipment and improvements (1,518) (90,058) (2,088,862) Purchases of short-term investments - - (16,161,667) Sales of short-term investments - - 16,161,667 ------------------------------------------------- Net cash used for investing activities (1,518) (90,058) (2,658,862) Financing activities Net proceeds from issuance of common stock 784,212 364,183 24,004,471 Net proceeds from issuance of preferred stock - 2,889,650 18,398,068 Net proceeds from convertible notes and detachable - - 1,068,457 warrants Net proceeds from issuance of debt - related party 1,050,000 - 1,050,000 Payments on capital lease obligations - - (288,770) Payment on note payable - - (242,750) Proceeds from note payable - - 484,323 ------------------------------------------------- Net cash provided by financing activities 1,834,212 3,253,833 44,473,799 ------------------------------------------------- Net increase (decrease) in cash and cash (1,003,092) 351,336 82,222 equivalents Cash and cash equivalents at beginning of the 1,085,314 733,978 - period ------------------------------------------------- Cash and cash equivalents at end of the period $ 82,222 $ 1,085,314 $ 82,222 =================================================
The accompanying notes are an integral part of these financial statements F-8
For the period July 6, 1988 (inception) to Years ended December 31, December 31, 2004 2003 2004 ------------------------------------------------- Supplemental disclosures of cash flow information Equipment purchased by capital leases $ - $ - $ 288,772 Interest paid 3,661 758 151,194 Imputed dividend on Series E stock - - 3,266,250 Conversion of Series D preferred stock to common stock - - 2,142,332 Conversion of Series E preferred stock to common stock - 1,921,513 5,277,813 Conversion of Series G preferred stock to common stock 265,000 15,000 850,000 Imputed dividend on Series I stock - 1,928,237 1,928,237 Imputed dividend on warrants issued and repriced 487,079 656,342 1,143,421 Conversion of Series I preferred stock to common stock 50,000 155,000 205,000 Series D stock issued for Series C stock - - 2,073,925 Series C dividends paid with Series D stock - - 253,875 Series D dividends paid with common stock - - 422,341
The accompanying notes are an integral part of these financial statements F-9 Protein Polymer Technologies, Inc. (A Development Stage Company) Notes to Financial Statements 1. Organization and Significant Accounting Policies Organization and business activities Protein Polymer Technologies, Inc. ("PPTI" or 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, conducting clinical testing of its product candidates, exploring marketing channels and recruiting personnel. Going Concern and Liquidity The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company has incurred losses since inception and has accumulated losses during the development stage aggregating $52,737,000. As of December 31, 2004, the Company had cash, cash equivalents and short-term investments totaling $82,000 as compared to $1,085,000 at December 31, 2003 and as of December 31, 2004, the Company had negative working capital of $1,531,000 compared to a working capital of $1,192,000 at December 31, 2003. The Company believes its available cash, cash equivalents and short-term investments, in combination with anticipated additional contract and license payments will be sufficient to meet its anticipated capital requirements through the end of April 2005. Prior to the commercialization of its products, substantial additional capital resources will be required to fund continuing operations related to the Company's research, development, manufacturing, clinical testing, 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. Further, the Company is currently in discussions with several potential financing sources and collaborative partners and funding in the form of equity investments, license fees, milestone payments or research and development payments could be generated. There can be no assurance that any of these fundings will be consummated in the time frames needed for continuing operations or on terms favorable to the Company. If adequate funds in the future 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, and possibly cease operations. Cash and cash equivalents The Company considers all highly liquid investments purchased with a maturity of three months or less at the time of purchase to be cash equivalents. F-10 1. Organization and Significant Accounting Policies (continued) 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 three to seven years, using the straight-line method. Leasehold improvements are amortized over the shorter of the lease term or life of the asset. Impairment of Long-Lived Assets Long-lived assets and certain identifiable intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. If the fair value is less than the carrying amount of the asset, a loss is recognized for the difference. Fair value is determined based on market quotes, if available, or is based on valuation techniques. Revenue and Expense Recognition Research and development contract revenues are recorded as earned in accordance with the terms and performance requirements of the contracts. If the research and development activities are not successful, the Company is not obligated to refund payments previously received. Fees from the sale or license of technology are recognized on a straight-line basis over the term required to complete the transfer of technology or the substantial satisfaction of any performance related responsibilities. License fee payments received in advance of amounts earned are recorded as deferred revenue. Milestone payments are recorded as revenue based upon the completion of certain contract specified events that measure progress toward completion under certain long-term contracts. Royalty revenue related to licensed technology is recorded when earned and in accordance with the terms of the license agreement. Research and development costs are expensed as incurred. Significant Collaborative Research and License Agreements The Company's collaborative development agreements generally contain provision for specific payments for defined activities, services, royalties on the sales of developed products, and/or the accomplishment of performance benchmarks. These agreements also may provide for equity investments or other financial incentives. Technology license agreements usually are associated with collaborative development agreements, but occasionally the Company will agree to a license without an accompanying development. Spine Wave, Inc. In April 2001, the Company entered into agreements with Spine Wave, Inc. to develop and commercialize an injectable protein-based formulation for the repair of spinal discs damaged either by injury or aging. As consideration for entering into an exclusive, worldwide license agreement with Spine Wave, the Company received one million shares of the founding common stock in Spine Wave, valued initially at $10,000. The shares of founding common stock were subject to a vesting schedule; however, Spine Wave's right to repurchase unvested shares terminated in 2002 upon their merger with VERTx, Inc. Royalties from the sale or sublicensing of licensed products will be determined in the future based on the gross margin (sales revenue less the cost of goods) realized by Spine Wave from the sale of the products In connection with the license agreement, the Company entered into a separate supply and services agreement to provide Spine Wave with a variety of research and development services, and to supply materials to Spine Wave for pre-clinical and clinical testing. Spine Wave, in return, agreed to reimburse the Company for both our direct costs and the associated overhead costs for the services provided. During 2001, the Company recognized contract revenues of $450,000 related to activities performed under the collaborative agreement. F-11 1. Organization and Significant Accounting Policies (continued) In March 2002, the Company executed additional agreements with Spine Wave, Inc. that expanded its contractual research and development relationship, and that offered the Company additional equity incentives in the form of Spine Wave common stock and warrants. Under the amended supply and services agreement, the Company, on behalf of Spine Wave, is proceeding with pre-clinical safety and performance studies of a product for spinal disc repair to support Spine Wave's filing of an investigational device exemption with the FDA to obtain approval to initiate human clinical testing. During the subsequent period leading to regulatory marketing approval, the Company's contractual responsibilities include the supply of product to be used in clinical testing and preparation for commercial manufacturing operations. Research and development services performed for Spine Wave are reimbursed including both direct costs and associated overhead costs. Spine Wave is responsible for clinical testing, regulatory approvals, and commercialization. For the year ended December 31, 2004 and for the period of project inception to date the Company received $457,000 and $4,918,000, respectively, in contract revenue from Spine Wave which represents the reimbursement of direct costs plus overhead costs allocated to the research and development resources used in performing the collaborative activities. Additional equity incentives offered in conjunction with the expanded supply and services agreement of March 17, 2002 consist of a four year warrant to purchase 1,000,000 shares of Spine Wave common stock at an exercise price of $0.50 per share, and 400,000 shares of common stock valued at $0.05 per share subject to repurchase at cost until each of three performance goals is achieved. The performance goals consist of: (i) completion of certain studies for filing an investigational device exemption application (100,000 shares); (ii) completion of additional studies for filing of the investigational device exemption and provision of inventory for the pilot clinical study (150,000 shares); and (iii) completion of certain manufacturing arrangements, and production of certain quantities of product (150,000 shares). As of December 31, 2004, the first two of the three performance goals had been met. In October 2003, a second amendment to Supply and Services Agreement was executed. The amendment further defined the cost basis for reimbursement of services by Spine Wave. Significant License Agreements The Company's license agreements usually include provision for up-front compensation and eventual royalties on the sale of licensed products. Terms of license agreements typically commence as of the date executed and continue for a period of the greater of twenty (20) years from execution date or the date upon which the last of the patented technology under license expires. Femcare, Ltd . In January 2000, The Company entered into an agreement with Femcare, Ltd. ("Femcare"), for the commercialization in Europe and Australia of the Company's product for treatment of stress urinary incontinence. Under the terms of the license agreement, Femcare paid a $1 million non-refundable license fee in exchange for the patented technology and a three year commitment from the Company to provide support to Femcare in its efforts to clinically test the products in Great Britain and to achieve European regulatory approval. The Company did not incur any research and development costs associated with its support. As a result of the arrangement, the Company recognized approximately $333,000 in deferred license fee revenue for years ended December 31, 2000, 2001 and 2002. Subsequently, Femcare notified the Company that it was closing its urology business and ceasing all product development efforts pertaining to the licensed technology. The Company is in discussions with Femcare regarding the termination of the license agreement. F-12 1. Organization and Significant Accounting Policies (continued) Genencor International, Inc. In December 2000, the Company signed a broad-based, worldwide exclusive license agreement with Genencor International, Inc. ("Genencor") enabling Genencor to potentially develop a wide variety of new products for industrial markets. In October 2002, the license agreement was amended to provide Genencor with an additional one-year option to initiate development of products in the field of non-medical personal care. As a result of the agreements, Genencor may use our patented protein polymer design and production technology, in combination with Genencor's extensive gene expression, protein design, and large-scale manufacturing technology, to design and develop new products with improved performance properties for defined industrial fields and the field of non-medical personal care products. In return for the licensed rights, Genencor paid the Company an up-front license fee of $750,000, and will pay royalties on the sale of any products commercialized by Genencor under the agreement. The licensed technology was transferred to Genencor upon execution of the license agreement without any further product development obligation on our part. Future royalties on the net sales of products incorporating the technology under license and developed by Genencor will be calculated based on a royalty rate to be determined at a later date. In addition, the Company is entitled to receive up to $5 million in milestone payments associated with Genencor's achievement of various industrial product development milestones incorporating the licensed technology. There is no limitation on the amount of milestone payments the Company can receive from Genencor for Genencor's product development in the field of non-medical personal care products. In December 2002 the Company received a license milestone payment of $250,000 from Genencor for Genencor's initiation of a product development project based on technology licensed from the Company. In connection with the license agreement, Genencor was issued two warrants, each convertible by formula into $500,000 of our common stock. The first warrant has expired. The second warrant could be converted into 1,250,000 shares at an exercise price of $0.40 per share. As a result of the collaboration, in 2000 the Company recognized $750,000 in license fee revenue (less the issuance of warrants to purchase $1 million of the Company's common stock valued at $319,000). The agreement terminates on the date of expiration of the last remaining patent. Accounting for Stock-Based Compensation SFAS No. 123, "Accounting for Stock-Based Compensation", encourages but does not require companies to record compensation cost for stock-based employee compensation plans at fair value (See SFAS 123R below under Recently Issued Accounting Pronouncements). The Company has chosen to continue to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees", and related interpretations. Accordingly, compensation cost for stock options is measured as the excess, if any, of the quoted market price of the Company's stock at the date of the grant over the amount an employee must pay to acquire the stock. Had compensation cost for the Company's stock option awards been determined based upon the fair value at the grant date for awards from 2001 through 2004 and recognized on a straight-line basis over the related vesting period, in accordance with the provisions of SFAS No. 123, the Company's net loss and loss per share for 2004 and 2003 would have been increased to the proforma amounts indicated below: F-13 1. Organization and Significant Accounting Policies (continued)
2004 2003 -------------- --------------- Net loss as applicable to common shareholders $ (4,329,923) $ (5,055,458) Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (454,620) (1,961,688) -------------- --------------- Pro forma net loss $ (6,291,611) $ (5,510,078) ============== =============== Earnings per share: Basic - as reported $ (0.11) $ (0.15) Basic - pro forma $ (0.16) $ (0.16)
The fair value was estimated using the following weighted-average assumptions: a risk free interest rate of 3.50% for 2004 and 3.77% for 2003; a volatility factor of the expected market price of the Company's common stock of 128% for 2004 and 124% for 2003, expected option lives of 10 years for 2004 and 10 years for 2003, 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 management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. The pro forma effect on net loss for 2004 and 2003 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. The Company accounts for stock options granted to consultants in accordance with Emerging Issues Task Force, or EITF, Issue 96-18, "Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring or in Conjunction with Selling Goods or Services". Net loss per common share Basic earnings per share is calculated using the weighted-average number of outstanding common shares during the period. Diluted earnings per share is calculated using the weighted-average number of outstanding common shares and dilutive common equivalent shares outstanding during the period, using either the as-converted method for convertible notes and convertible preferred stock or the treasury stock method for options and warrants. The net loss per common share for the years ended December 31, 2004 and 2003 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 2004 and 2003 has been adjusted for accumulated and/or paid dividends on the preferred stock. F-14 1. Organization and Significant Accounting Policies (continued) Use of estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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. Income Taxes The Company records income taxes using the asset and liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their future respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recorded or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established to reduce the deferred tax asset if it is more likely than not the related tax benefits will not be realized in the future. Reclassification Certain account reclassifications have been made to the financial statements of the prior year in order to conform to classifications used in the current year. These changes had no impact on previously stated financial statements of the Company. Recently issued accounting pronouncements In December 2004, the Financial Accounting Standards Board issued SFAS No. 123(R), "Share-Based Payment". SFAS No. 123(R) replaces SFAS No. 123 "Accounting for Stock-Based Compensation", and supersedes APB Opinion No. 25, "Accounting for Stock Issued to Employees". SFAS No. 123(R) requires compensation costs related to share-based payment transactions to be recognized in the financial statements over the period that an employee provides service in exchange for the award. SFAS No. 123(R) is effective for period beginning after June 15, 2005. The Company plans to adopt SFAS No. 123(R) on July 1, 2005, the beginning of its third fiscal quarter. SFAS 123(R) eliminates the alternative to use the intrinsic value method of accounting that was provided in SFAS 123 as originally issued. In accordance with SFAS No. 148, the Company has been disclosing the impact on net income and earnings per share had the fair value based method been adopted. If the fair value method had been adopted, net loss for 2004 and 2003 would have been increased by $1,961,688 and $454,620, respectively, than reported and loss per share would have increased approximately $0.05 and $0.01 in 2004 and 2003, respectively. 2. Equipment and Leasehold Improvements Equipment and leasehold improvements consist of the following: F-15 2. Equipment and Leasehold Improvements (continued)
December 31, 2004 2003 ------------------------------- Laboratory equipment $ 1,184,000 $ 1,349,000 Office equipment 200,000 94,000 Leasehold improvements 306,000 306,000 ------------------------------- 1,690,000 1,749,000 Less accumulated depreciation and amortization (1,605,000) (1,635,000) ------------------------------- $ 85,000 $ 114,000 ===============================
Depreciation expense was $31,000 and $57,000 for the years ended December 2004 and 2003, respectively. During the year ended December 31, 2004, the Company wrote-off fully depreciated assets in the amount of $61,000 for assets no longer in service. 3. Rent Receivable The Company subleases 6,183 square feet of its office and research facilities under a month to month arrangement for $13,000 per month plus utilities. From December 2002 until July 2004, the sublessee was unable to make monthly rental payments due to a lack of funding. In August 2004 the sublessee resumed making rental payments and as of September 2004 an additional $5000 per month is being paid as credit against previous rental obligations. Obligations under the sublease are secured by certain listed property and equipment of the sublessee. At December 31, 2004 and 2003 the amount past due from the sub-lessee is $264,000 and $185,000, net of reserve of $157,000 and $0, respectively. 4. Accrued Expenses Accrued expenses consist of the following:
December 31, 2004 2003 ------------------------------- Payroll and employee benefits $ 125,000 $ 132,000 Legal and professional fees 31,000 22,000 Accrued interest 35,000 - Property tax 8,000 9,000 Other 3,000 - ------------------------------- $ 202,000 $ 163,000 ===============================
5. Stockholders' Equity Convertible Preferred Stock On March 25 and May 12, 2003, we raised a total of $3,255,000 (less expenses) from the sale of 32,550 shares of our Series I Convertible Preferred Stock ("Series I Stock") priced at $100 per share, with warrants to purchase an aggregate of 2,582,669 shares of common stock to a small group of institutional and accredited investors. Each share of Series I Stock is convertible at any time at the election of the holder into approximately 181 shares of common stock at a conversion price of $0.55 per share, subject to certain anti-dilution adjustments. In connection with this transaction, we recorded non-cash "imputed dividend" of $1,928,237 in order to account for the difference between the fair market value of the common stock and the conversion price of the preferred stock into common stock. Each share of Series I Stock received two common stock warrants. One warrant was exercisable at any time for F-16 approximately 27 shares of common stock at an exercise price of $0.88 per share, and expired 18 months after the close of the offering; the other warrant was exercisable at any time for approximately 18 shares of common stock at an exercise price of $1.65 per share, and expires 48 months after the close of the offering. In connection with the issuance of the Series I Stock, additional warrants to purchase 819,543 shares of common stock at an exercise price of $0.65 per share, expired 18 months after the close of the offering were issued, as well as warrants to purchase 204,998 shares of common stock at an exercise price of $0.58 per share, warrants to purchase 27,340 shares of common stock at an exercise price of $0.68 per share, warrants to purchase 30,748 shares of common stock at an exercise price of $0.92 per share and warrants to purchase 20,500 shares of common stock at an exercise price of $1.73 per share, each expiring 5 years after the close of the offering. No underwriters were engaged by us in connection with such issuance and, accordingly, no underwriting discounts were paid. The offering 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. On July 24, 2001, the Company had a private placement of 12,182 shares of Series H convertible Preferred Stock and warrants to purchase an aggregate of 304,550 shares of common stock with a small group of institutional and accredited investors in exchange for cash and convertible notes totaling $1.2 million. Each share of Series H Preferred Stock is convertible at any time at the election of the holder into 133.33 shares of common stock at a conversion price of $0.75 per share, subject to certain anti-dilution adjustments. No underwriters were engaged by the Company in connection with such issuance and, accordingly, no underwriting discounts were paid. The offering 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. Each share of Series H Preferred Stock also received two common stock warrants. One warrant was exercisable at any time for 15 shares of common stock at an exercise price of $1.50 per share, and expired approximately 12 months after the close of the offering; the other warrant was exercisable at any time for 10 shares of common stock at an exercise price of $2.00 per share, and expired approximately 24 months after the close of the offering. During March 2001, the Company issued convertible notes to two current shareholders in exchange for a total of $800,000. The notes provided for an interest rate of 7% and both principal and interest were convertible into Series H Preferred Stock at a common equivalent price of $0.75 per share. The notes were converted in July 2001. On August 16, 1999, the Company received $1,775,000 for 17,750 shares of Series G Preferred Stock from several institutional and accredited individual investors. On September 15, 1999, the Company received an additional $325,000 for 3,250 shares of Series G Preferred Stock, for a total of $2,100,000. Each share of Series G Convertible Preferred Stock was priced at $100 per share. Each share can be converted at any time by the holder into common stock at a price of $0.50 per share, subject to certain antidilution adjustments. Each share of Preferred Stock also receives a common stock warrant, exercisable for 12 months, that allows the holder to acquire 200 shares of PPTI common stock at a price of $0.50 per share. In April 1999, the Company received approximately $508,000 from the exercise of redeemable publicly traded warrants originally issued as part of PPTI's Initial Public Offering. Following the close of business on April 15, 1999, the remaining unexercised redeemable, publicly traded, warrants expired. On May 12, 1999, the Company received approximately $416,000 from the exercise of warrants issued in conjunction with the private placement of the Company's Series E Convertible Preferred Stock. F-17 5. Stockholders' Equity (continued) In 1998, the Company raised approximately $5.4 million from the sale of 54,437 shares of 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 common stock and the conversion price of the preferred stock into common stock. Each share of Series E Stock was 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. In March 2003, the Company offered the holders of Series E Convertible Preferred Stock a reduction in the conversion price to $0.50 per share with the provision that all holders of the Series E Convertible Preferred stock agree to convert. As a result, all of the shares of Series E Convertible Preferred Stock were converted into 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 expired approximately 18 months after the close of the offering; the other warrant was exercisable at any time for 20 shares of common stock at an exercise price of $5.00 per share, and expired 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. These warrants have now expired. 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. The 18 month and 24 month warrants have now expired. 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 are 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 are 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 stock equals or exceeds $5.00 per share over a period of twenty business days. The Series D and F Stock have a liquidation preference of $100 per share plus accumulated dividends. Series D, F, and H Convertible Preferred Stock have been designated as non-voting stock. F-18 5. Stockholders' Equity (continued) Exercise and Exchange of Warrants In October 2004, certain holders of warrants issued in conjunction with sale of Series I Convertible Preferred Stock of the Company exercised their warrants to purchase common stock. Certain of such warrants were due to expire at the end of September 2004, but the Company extended the exercise period of such warrants until the end of October 2004. The exercise prices of such warrants were between $0.58 and $1.73 per share. As an incentive to exercise the warrants early, the Company reduced the exercise price to $0.50 per share for all of such warrants to the extent such warrants were exercised on or before October 29, 2004. As a result, the Company raised $545,156. In connection with the repricing of warrants to the investors, the Company recorded an imputed dividend in the amount of $183,212 to reflect the additional benefit created for these investors. In March 2004, certain holders of warrants exercised their warrants to purchase common stock. These warrants were due to expire at the end of March 2004. The exercise prices of such warrants were $0.40 and $0.55 per share. As an incentive to exercise the warrants early the Company offered to reduce the exercise price of the warrants to $0.25 per share and offered each holder the issuance of a new warrant, for a similar number of shares, at an exercise price of $0.55 per share. As a result, the Company raised $246,250. The newly issued warrants will expire on the last day of January 2005. In connection with the repricing of warrants and the issuance of new warrants to the investors, the Company recorded an imputed dividend in the amount of $303,867 to reflect the additional benefit created for these investors. In June 2003, certain holders of warrants exercised their warrants to purchase common stock, these warrants were due to expire in August 2003. The exercise prices of such warrants were $0.40 and $0.10 per share. As an incentive to exercise the warrant early the Company offered each holder the issuance of a new warrant, for a similar number of shares, at an exercise price of $0.55 per share. As a result, the Company raised $353,500, through the exercise of 2,590,000 previously outstanding warrants, and issued 2,590,000 new warrants that expired on March 26, 2004, to the extent they were not exercised. In connection with the issuance of new warrants to the investors, the Company recorded an imputed dividend in the amount of $656,342 to reflect the additional benefit created for these investors. In August 2002, certain holders of warrants, issued in connection with the sale of Series G Preferred Stock, exercised their warrants to purchase common stock which were due to expire in August 2003. The original exercise price was $0.40 per share. As an incentive to exercise the warrant early, the Company offered each holder a reduced exercise price of $0.30 per share and the issuance of a new warrant for a similar number of shares at an exercise price of $0.10 per share. As a result, the Company raised $683,000. During January 2002, certain holders of warrants, issued in connection with the sale of Series G Preferred Stock, exercised their warrants to purchase common stock which were due to expire in February 2002. The original exercise price was $0.50 per share. As an incentive to exercise the warrant early, the Company offered each holder a reduced exercise price of $0.25 and the issuance of a new eighteen month warrant for a similar number of shares at an exercise price of $0.40 per share. As a result the Company raised $990,000. During March 2001, certain holders of warrants issued in connection with the sale of Series G Preferred Stock exercised their warrants to purchase common stock, which were due to expire in February, 2001, but which had been extended by the Company's Board of Directors originally until February 2002. The original exercise price was $1.50 per share. As an incentive to exercise the warrant early, the Company offered to reduce the exercise price to $0.50 and offer each holder a new one year warrant for a similar number of shares at an exercise price of $1.00 per share. As a result, the Company raised $1,246,000 (less expenses). F-19 5. Stockholders' Equity (continued) Notes Payable, related party On July 2, 2004, the Company issued notes with detachable warrants payable to several of its current shareholders in exchange for $150,000 in cash. The notes become due on March 31, 2005 with interest at a rate of 10% per annum. The detachable warrants were for the purchase of 60,000 shares of the Company's common stock at $0.37 per share. The warrants have a term of three years and become exercisable upon issue. The Company allocated the investment proceeds to the debt and warrants based on their relative fair values. The relative fair value of the warrants was determined to be $13,730, which was recorded as debt discount, a reduction of the carrying amount of the debt. This amount is being amortized to interest expense over the term of the debt. The fair value of the warrants was based on the Black-Scholes model. The Black-Scholes calculation incorporated the following assumptions: 0% dividend yield, 138% volatility, 1.98% average risk-free interest rate, a three-year life and an underlying common stock value of $0.33 per share. For the year ended December 31, 2004, debt discount of $13,730 was amortized to interest expense. On August 2, 2004, the Company issued a note with detachable warrants payable to one of its current shareholders in exchange for $250,000 in cash. The note becomes due on March 31, 2005 with interest at a rate of 10% per annum. The detachable warrants were for the purchase of 100,000 shares of the Company's common stock at $0.37 per share. The warrants have a term of three years and become exercisable upon issue.. The Company allocated the investment proceeds to the debt and warrants based on their relative fair values. The relative fair value of the warrants was determined to be $23,995, which was recorded as debt discount, a reduction of the carrying amount of the debt. This amount is being amortized to interest expense over the term of the debt. The fair value of the warrants was based on the Black-Scholes model. The Black-Scholes calculation incorporated the following assumptions: 0% dividend yield, 133% volatility, 1.98% average risk-free interest rate, a three-year life and an underlying common stock value of $0.35 per share. For the year ended December 31, 2004, debt discount of $23,995 was amortized to interest expense. On August 19, 2004, the Company issued a note with detachable warrants payable to one of its current shareholders in exchange for $250,000 in cash. The note becomes due on March 31, 2005 with interest at rate of 10% per annum. The detachable warrants were for the purchase of 100,000 shares of the Company's common stock at $0.45 per share. The warrants have a term of three years and become exercisable upon issue. The Company allocated the investment proceeds to the debt and warrants based on their relative fair values. The relative fair value of the warrants was determined to be $33,802, which was recorded as debt discount, a reduction of the carrying amount of the debt. This amount is being amortized to interest expense over the term of the debt. The fair value of the warrants was based on the Black-Scholes model. The Black-Scholes calculation incorporated the following assumptions: 0% dividend yield, 140% volatility, 1.98% average risk-free interest rate, a three-year life and an underlying common stock value of $0.52 per share. For the year ended December 31, 2004, debt discount of $33,802 was amortized to interest expense. On September 9, 2004, the Company issued a note with detachable warrants payable to one of its current shareholders in exchange for $250,000 in cash. The note becones due on March 31, 2005 with interest at a rate of 10% per annum. The detachable warrants were for the purchase of 100,000 shares of the Company's common stock at $0.45 per share. The warrants have a term of three years and become exercisable upon issue. The Company allocated the investment proceeds to the debt and warrants based on their relative fair values. The relative fair value of the warrants was determined to be $41,949, which was recorded as debt discount, a reduction of the carrying amount of the debt. This amount is being amortized to interest expense over the term of the debt. The fair value of the warrants was based on the Black-Scholes model. The Black-Scholes calculation incorporated the following assumptions: 0% dividend yield, 141% volatility, 1.98% average risk-free interest rate, a three-year life and an underlying common stock value of $0.67 per share. For the year ended December 31, 2004, debt discount of $41,949 was amortized to interest expense. F-20 5. Stockholders' Equity (continued) On December 22, 2004, the Company issued a note with detachable warrants payable to one of its current shareholders in exchange for $150,000 in cash. The note has a three month term with interest at a rate of 10% per annum. The detachable warrants were for the purchase of 60,000 shares of the Company's common stock at $0.50 per share. The warrants have a term of three years and become exercisable upon issue. The Company allocated the investment proceeds to the debt and warrants based on their relative fair values. The relative fair value of the warrants was determined to be $19,065, which was recorded as debt discount, a reduction of the carrying amount of the debt. This amount is being amortized to interest expense over the term of the debt. The fair value of the warrants was based on the Black-Scholes model. The Black-Scholes calculation incorporated the following assumptions: 0% dividend yield, 127% volatility, 1.98% average risk-free interest rate, a three-year life and an underlying common stock value of $0.50 per share. For the year ended December 31, 2004, debt discount of $1,906 was amortized to interest expense. Employee Stock Purchase Plan 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 Company's Board of Directors may modify the Plan at any time. During 2004, a total of 20,545 shares were purchased under the Plan at prices ranging from $0.36 to $0.47. 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. Stock Options 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. In April 2003, the 1996 Plan was amended to increase the number of options available for grant to 1,750,000, and the annual award to each Director to 80,000. Such grants of options to purchase 80,000 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 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 Company's Board of Directors (or a designated committee of the Board) administers the 1996 Plan. At December 31, 2004, 1,129,950 options to purchase common stock have been granted under the 1996 Plan with 1,129,950 options exercisable. In April 2002, the Company adopted the 2002 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. In April 2003, the plan was amended to increase the number of options available for grant to 9,000,000. The options will expire ten years from their respective dates of grant. Options become exercisable ratably over periods of up to three years from the dates of grant. The purchase price of each option approximated the fair market value of the common stock on the date of grant. At December 31, 2004, 7,348,500 options to purchase common stock had been granted under the 2002 Plan with 3,693,243 options exercisable. F-21 5. Stockholders' Equity (continued) 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 1992 Stock Option Plan expired as of December 31, 2002. The options granted 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. The purchase price of each option approximated the fair market value of the common stock on the date of grant. At December 31, 2004, 1,383,500 options to purchase common stock had been granted under the 1992 Plan with 1,121,000 with options exercisable. The Company adopted the 1989 Stock Option Plan, which provided 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. The 1989 Stock Option Plan expired as of March 17, 1999. The options granted will expire ten years from their respective dates of grant. Options granted in the plan became exercisable ratably over periods of up to five years from the date of grant. At December 31, 2004, 302,500 options to purchase common stock have been granted under the 1989 Plan with 302,500 options exercisable. Since inception, the Company has granted non-qualified options outside the option plans to employees, directors and consultants. At December 31, 2004, 1,724,000 options to purchase common stock have been granted with 901,834 options exercisable. The following table summarizes the Company's stock option activity:
Years ended December 31 ---------------------------------------------------------------------- 2004 2003 2002 ---------------------------------------------------------------------- Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Options Price Options Price Options Price ---------------------------------------------------------------------- Outstanding - beginning of year 9,592,000 $0.91 2,605,500 $0.90 2,124,000 $1.09 Granted 2,400,000 $0.57 6,988,500 $0.71 692,500 $0.35 Exercised (103,500) $0.34 (2,000) $0.30 (28,500) $0.35 Forfeited/Expired - - - - (182,500) $1.05 ---------------------------------------------------------------------- Outstanding - end of year 11,888,500 $0.11 9,592,000 $0.76 2,605,500 $0.90 ====================================================================== Exercisable - end of year 7,148,527 $0.76 2,725,900 $0.91 1,936,000 $1.01 ======================================================================
The exercise prices for options outstanding as of December 31, 2004 range from $0.22 to $3.75. The weighted average remaining contractual life of these options is approximately 7.80 years. 6. Stockholder Protection Agreement In 1997, the Company's Board of Directors 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 Company's outstanding shares of common stock, with certain permitted exceptions. The Rights then generally allow the holder to acquire additional shares of the Company's capital stock at a discounted price. The 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. F-22 7. Commitments The Company leases its office and research facilities totaling 27,000 square feet under an operating lease, which expires in May 2008. The facilities lease is subject to an annual escalation based upon the Consumer Price Index in 2004 and an adjustment of one hundred two percent (102%) of the previous year's rent annually from 2005 through 2008. 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 lease payments are as follows: Year Ending Operating Leases December 31, -------------- ----------------- 2005 669,000 2006 682,000 2007 695,000 2008 233,000 ----------------- Total minimum operating lease payments $2,279,000 ================= Rent expense, net of rental income, was approximately $567,000, $478,000, $457,000, and $5,887,000 for the years ended December 31, 2004, 2003 and 2002 and for the period July 6, 1988 (inception) through December 31, 2004, respectively. Rental income was approximately $66,000, $157,000 and 163,000 for the years ended December 31, 2004, 2003 and 2002, respectively and $656,000 for the period July 6, 1988 (inception) through December 31, 2004. 8. Income Taxes At December 31, 2004, the Company had net operating loss carryforwards of approximately $42,054,282 for federal income tax purposes, which may be applied against future income, if any, and will begin expiring in 2005 unless previously utilized. In addition, the Company had California net operating loss carryforwards of approximately $15,361,557, which will begin expiring in 2005. 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, certain limitations 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 $1,723,011 and $930,061, respectively, which will begin expiring in 2005 unless previously utilized. Some of these carryforward benefits may be subject to limitations imposed by the Internal Revenue Code. The Company believes these limitations will not prevent carryforward benefits from being realized. F-23 8. Income Taxes, continued Significant components of the Company's deferred tax assets as of December 31, 2004 are shown below. A valuation allowance of $18,934,292 has been recognized to offset the deferred tax assets as realization of such assets is uncertain.
2004 2003 --------------------------------- Deferred tax assets: Net operating loss carryforwards $ 16,077,000 $ 14,526,000 Federal & state tax credits 2,715,000 2,177,000 Other, net 142,000 228,000 --------------------------------- Total deferred tax assets 18,934,000 16,931,000 Valuation allowance for deferred tax assets (18,934,000) (16,931,000) --------------------------------- Net deferred tax assets $ - $ - =================================
9. 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, 2004, the Company had not made a contribution to the 401(k) Savings Plan. F-24 Item 8. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None. Item 8A. Controls and Procedures Disclosure Controls and Procedures The Company carried out an evaluation, under the supervision and with the participation of the Chief Executive Officer (the principal executive officer) and Director of Finance, Controller (the principal financial officer), of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Securities and Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this report. Based on that evaluation, the Company's Chief Executive Officer and Director of Finance, Controller have concluded that such disclosure controls and procedures were effective in alerting them in a timely manner to material information relating to the Company required to be included in its periodic reports filed with the Securities and Exchange Commission. PART III Items 9, (except the information required to be disclosed regarding our Code of Ethics under Item 406 of Regulation S-B), 10, 11, 12 and 14 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, 2005. Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance With Section 16(a) of the Exchange Act We have adopted a written Code of Conduct that applies to everyone in the Company, including our Chief Executive Officer (the principal executive officer) and Director of Finance, Controller (the principal financial officer). A copy of our Code of Conduct is attached to this report as Exhibit 14.1. Other information called for by Part III, Item 9 is incorporated by reference from the Company's Definitive Proxy Statement to be filed by the Company with the Securities and Exchange Commission no later than April 30, 2005. Item 13. Exhibits The following documents are included or incorporated by reference: Exhibit Number Description ------ ----------- 3.1 (3) Certificate of Incorporation of the Company. 3.1.1 (3) Certificate of Designation of Series X Senior Participating Preferred Stock. 3.1.2 (9) Certificate of Designation of Series E Convertible Preferred Stock. 3.1.3 (9) Certificate of Designation of Series F Convertible Preferred Stock. 3.1.4 (10) Certificate of Designation of Series G Convertible Preferred Stock. 3.1.5 (15) Certificate of Designation of Series H Convertible Preferred Stock. 3.1.6 (18) Certificate of Designation of Series I Convertible Preferred Stock. F-25 3.2 (9) Bylaws of the Company, as amended. 10.1 (1) 1989 Stock Option Plan, together with forms of Incentive Stock Option Agreement and Nonstatutory Option Agreement. 10.2 (2) 1992 Stock Option Plan of the Company, together with forms of Incentive Stock Option Agreement and Nonstatutory Option Agreement. 10.3 (1) Form of Employee's Proprietary Information and Inventions Agreement. 10.4 (1) Form of Consulting Agreement. 10.5 (1) Form of Indemnification Agreement. 10.6 (2) License Agreement, dated as of April 15, 1992, between the Board of Trustees of the Leland Stanford Junior University and the Company. 10.7 (3) Securities Purchase Agreement related to the sale of the Company's Series D Preferred Stock. 10.8 (4) 1996 Non-Employee Directors' Stock Option Plan. 10.9 (5) Stockholder Protection Agreement, dated August 22, 1997, between the Company and Continental Stock Transfer & Trust Company as rights agent. 10.10 (6) Employee Stock Purchase Plan, together with Form of Stock Purchase Agreement. 10.11 (7) Lease, with rider and exhibits, dated April 13, 1998, between the Company and Sycamore/San Diego Investors. 10.12 (8) First Amendment to Stockholder Protection Agreement dated April 24, 1998, between the Company and Continental Stock Transfer & Trust Company as rights agent. 10.13 (9) 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. 10.14 (10) Securities Purchase Agreement related to the sale of the Company's Series G Convertible Preferred Stock. 10.15 (10) Second Amendment to Stockholder Protection Agreement, dated July 26, 1999 between the Company and Continental Stock Transfer and Trust Company as rights agent. 10.16 (11)** License and Development Agreement dated as of January 26, 2000 between the Company and Prospectivepiercing Limited, to be known as Femcare Urology Limited. 10.17 (11)** Supply Agreement dated as of January 26, 2000 between the Company and Femcare Urology Limited. 10.18 (11)** Escrow Agreement dated as of January 26, 2000 between the Company and Femcare Urology Limited. F-26 10.19 (11) License Agreement dated as of February 18, 2000 between the Company and Sanyo Chemical Industries, Ltd. 10.20 (12)** License Agreement dated December 21, 2000 between the Company and Genencor International, Inc. 10.21 (12) Form of Warrant to Purchase Common Stock issued in connection with License Agreement between the Company and Genencor International, Inc. 10.22 (13) Securities Purchase Agreement related to the sale of the Company's Series H Preferred Stock. 10.23 (15)** Founder Stock Purchase Agreement dated April 12, 2001 between the Company and Spine Wave, Inc. 10.24 (15)** License Agreement dated April 12, 2001 between the Company and Spine Wave, Inc. 10.25 (15)** Escrow Agreement dated April 12, 2001 between the Company and Spine Wave, Inc. 10.26 (15)** Supply and Services Agreement dated April 12, 2001 between the Company and Spine Wave, Inc. 10.27 (16)** Amendment No. 1 to Supply and Services Agreement dated February 12, 2002 between the Company and Spine Wave, Inc. 10.28 (16)** Stock Purchase and Vesting Agreement dated March 21, 2002 between the Company and Spine Wave, Inc. 10.29 (14) Warrant to Purchase Shares of Common Stock of Spine Wave, Inc. issued to the Company. 10.30 (17) First Amendment to the License Agreement dated October 1, 2002 between the Company and Genencor International, Inc. 10.31 (17) Employment Agreement, dated as of December 31, 2002, between the Company and J. Thomas Parmeter. 10.32 (17) Employment Agreement, dated as of December 31, 2002, between the Company and John E. Flowers. 10.33 (17) Employment Agreement, dated as of December 31, 2002, between the Company and Joseph Cappello. 10.34 (17) Employment Agreement, dated as of December 31, 2002, between the Company and Franco A. Ferrari. 10.35 (18) 2002 Stock Option Plan, and forms of Incentive Stock Option Agreement and Non-Statutory Stock Option Agreement. 10.36 (19)** Amendment No. 2 to Supply and Services Agreement dated October 1, 2003 between the Company and Spine Wave, Inc. 14.1 Code of Conduct. F-27 23.1 Consent of Peterson & Co., Independent Registered Public Accounting Firm. 31.1 Certification of Chief Executive Officer pursuant to Securities Exchange Act Rules 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Director of Finance (Principal Financial Officer) pursuant to Securities Exchange Act Rules 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chief Executive Officer and Director of Finance (Principal Financial Officer) pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. - --------------------- (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-KSB for the fiscal year ended December 31, 1992, as filed with the Commission on March 31, 1993. (3) Incorporated by reference to Registrant's Report on Form 10-QSB for the quarter ended September 30, 1995, as filed with the Commission on October 25, 1995. (4) 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. (5) Incorporated by reference to Registrant's Current Report on Form 8-K, as filed with the Commission on August 27, 1997. (6) 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 15, 1998. (7) Incorporated by reference to Registrant's Report on Form 10-QSB for the quarter ended March 31, 1998, as filed with the Commission on May 15, 1998. (8) Incorporated by reference to Registrant's Report on Form 10-QSB for the Quarter ended June 30, 1998, as filed with the Commission on August 14, 1998 (9) Incorporated by reference to Registrant's Report on Form 10-KSB for the fiscal year ended December 31, 1998, as filed with the Commission on March 5, 1999. (10) Incorporated by reference to Registrant's Report on Form 10-QSB for the quarter ended September 30, 1999, as filed with the Commission on November 12, 1999. (11) Incorporated by reference to Registrant's Report on Form 10-KSB for the fiscal year ended December 31, 1999, as filed with the Commission on March 24, 2000. F-28 (12) Incorporated by reference to Registrant's Report on Form 10-KSB for the fiscal year ended December 31, 2000, as filed with the Commission on February 22, 2001. (13) Incorporated by reference to Registrant's Report on Form 10-QSB for the quarter ended September 30, 2001, as filed with the Commission on November 14, 2001. (14) Incorporated by reference to Registrant's Report on Form 10-QSB for the quarter ended September 30, 2002, as filed with the Commission on November 13, 2002. (15) Incorporated by reference to Registrant's report on Form 10-KSB/A for the fiscal year ended December 31, 2001 as filed with the Commission on March 5, 2003. (16) Incorporated by reference to Registrant's report on Form 10-QSB/A for the period ended September 30, 2002 as filed with the Commission on March 5, 2003. (17) Incorporated by reference to Registrant's report on Form 10-KSB for the fiscal year ended December 31, 2002 as filed with the Commission on March 28, 2003. (18) Incorporated by reference to Registrant's report on Form 10-QSB for the period ended March 31, 2003 as filed with the Commission on May 14, 2003. (19) Incorporated by reference to Registrant's report on Form 10-KSB for the fiscal year ended December 31, 2003 as filed with the Commission on March 28, 2003. ** Portions of this document have been redacted pursuant to a Request for Confidential Treatment filed with the Securities and Exchange Commission. F-29 SIGNATURE In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. PROTEIN POLYMER TECHNOLOGIES, INC. March 30, 2005 By:/S/ J. THOMAS PARMETER ----------------------- J. Thomas Parmeter Chairman of the Board, Chief Executive Officer 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 March 30, 2005 - ----------------------- Executive Officer, President J. Thomas Parmeter (Principal Executive Officer) /S/ JANIS Y. NEVES Director of Finance, Controller, March 30, 2005 - ------------------- and Secretary Janis Y. Neves (Principal Financial Officer) /S/ EDWARD G. CAPE Director March 30, 2005 - ------------------- Edward G. Cape, Ph.D. /S/ DONALD S. KAPLAN Director March 30, 2005 - --------------------- Donald S. Kaplan, Ph.D. /S/ KERRY L. KUHN Director March 30, 2005 - ------------------ Kerry L. Kuhn, M.D. /S/ STEVEN M. LAMON Director March 30, 2005 - -------------------- Steven M. Lamon /S/ STEVE PELTZMAN Director March 25, 2005 - ----------------------------- Steve Peltzman. /S/ WILLIAM N. PLAMONDON Director March 28, 2005 - ------------------------- William N. Plamondon
F-30 EXHIBIT INDEX 14.1 Code of Conduct 23.1 Consent of Peterson & Co. LLP, Independent Registered Public Accounting Firm. 31.1 Certification of Chief Executive Officer pursuant to Securities Exchange Act Rules 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Director of Finance (Principal Financial Officer) pursuant to Securities Exchange Act Rules 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32.1 Certification of Chief Executive Officer and Director of Finance (Principal Financial Officer) pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. EX-14 2 ex14-1.txt EX. 14.1 - CODE OF CONDUCT Exhibit 14.1 Protein Polymer Technologies, Inc. Standards of Business Conduct and Ethics INTRODUCTION It is the policy and practice of Protein Polymer Technologies, Inc. to conduct all aspects of its business in accordance with legal and regulatory requirements and with the highest standards of ethical behavior. Each of the company's employees and members of its board of directors are expected to adhere to all applicable Standards of Business Conduct and Ethics set forth herein. These standards are intended to serve as a guide to help each employee and director maintain the highest ethical and professional standards when interacting with co-workers, customers, contractors, vendors, competitors, governments, stockholders and local communities. All references in these standards to the company also include its subsidiaries. These standards emphasize the absolute commitment that the company, its management and board of directors have made to integrity and fairness. It is not intended as a complete list of acceptable and unacceptable actions. Rather, it provides general guidance. Any questions or concerns about these standards or other company policies that an employee has should be directed to the vice president at the head of his or her group or to the chief executive officer. The board may modify these standards from time to time. Any changes to these standards will be provided to employees and directors of the company. STANDARDS OF BUSINESS CONDUCT These standards relate to those day-to-day behaviors that are particularly important to the company's business and to the preservation of its good name and reputation. Adherence to the standards is critical to the company's success and inspires trust and confidence on the part of its employees, customers, directors, business partners, suppliers and stockholders. INTEGRITY Integrity is, and must continue to be, the basis of all of the company's corporate relationships. Each employee and director is expected to practice the highest standards of honesty, accuracy and integrity at all times. COMPLIANCE WITH LAWS It is the company's policy to comply with all laws, rules and regulations applicable to the company, its business and its operations. It is the personal responsibility of each employee and director to adhere to the standards and restrictions imposed by those laws, rules and regulations. This concept is fundamental to the company's commitment to integrity and ethical conduct. Generally, employees and directors who have material non-public information about the company or other companies, including our suppliers and customers, as a result of their relationship with the company are prohibited by law and company policy from trading in securities of the company or such other companies, as well as from communicating such information to others who might trade on the basis of that information. Any employee or director who is uncertain about the legal rules involving his or her purchase or sale of any company securities or any securities in issuers that he or she is familiar with by virtue of his or her work for the company should consult with the company's chief executive officer before making any such purchase or sale. EMPLOYEE RELATIONS The company promotes a workplace that is free from prejudice and harassment and is based on a foundation of mutual respect, open communication, integrity and a fundamental understanding that its employees are its most valuable resource. The company affords equal employment opportunity to all qualified persons without regard to race, religion, sex, marital status, age, veteran's status, disability, national origin or other protected characteristics. This means equal opportunity in regard to each individual's terms and conditions of employment and in regard to any other matter that affects in any way the working environment of the employee. CORPORATE SECURITY AND SAFETY The company strives to ensure a secure and safe work environment for all its employees. To that end, employees should immediately report any suspicious or potentially hazardous situation to their supervisor or to senior management. Reports may be made in writing, anonymously, if the individual so chooses, or orally. If an individual chooses to identify himself or herself, such individual's identity will be kept confidential. No retaliatory action will be taken against employees making good faith reports. Suspicious or potentially hazardous situations may include, but are not limited to: unknown persons on company property; threatening language/behavior from any person on company property; earthquake or fire damage; hazardous materials spillage/leakage; or inappropriate/incorrect use of equipment. ETHICAL BUSINESS PRACTICES The company does not seek competitive advantages through illegal or unethical business practices. Each employee and director should endeavor to deal fairly with the company's clients, service providers, suppliers, competitors, customers, and other employees and directors. No employee or director should take unfair advantage of anyone through manipulation, concealment, abuse of privileged information, misrepresentation of material facts, or any unfair dealing practice. HONESTY WITH PUBLIC DISCLOSURE AND WITH REGULATORS AND OTHER GOVERNMENT OFFICIALS Because the company is subject to a variety of laws and regulations, it is the company's policy that all public communications and all reports, certifications, claims and statements made to or filed with any government agency or official, including the Securities and Exchange Commission, and other relevant Federal agencies, be full, accurate, timely and understandable. All employees and directors who are involved in the company's disclosure process are responsible for acting in furtherance of these standards. In particular, these individuals are required to maintain familiarity with the disclosure requirements applicable to the company and are prohibited from knowingly misrepresenting, omitting, or causing others to misrepresent or omit, material facts about the company to others, whether within or outside the company, including the company's independent auditors. CONFIDENTIAL AND PROPRIETARY INFORMATION The protection of confidential and proprietary information is vital to the company's success. No employee or director should reveal or divulge any such information, unless required to do so in the -2- ordinary process of carrying out day-to-day responsibilities and then only with the knowledge and approval of the appropriate member of senior management or unless legally mandated. Confidential and proprietary information includes, among other things, any non-public information concerning the company, including its businesses, products, financial performance, results or prospects, and any non-public information provided by a third party with the expectation that the information will be kept confidential and used solely for the business purpose for which it was conveyed. Each employee is required to sign an Employee Proprietary Information and Inventions Agreement, promising that he or she will not divulge company confidential or proprietary information or material outside of the company; in addition, it acknowledges that the ideas, inventions, products and processes developed while working for the company are the sole property of the company. CONFLICTS OF INTEREST The company expects each employee and director to exercise sound judgment in pursuing the company's best interests. Employees and directors should avoid situations where their personal interests, investments or associations would conflict with their ability to exercise good judgment on behalf of the company or are inconsistent with or opposed to the best interests of the company. Conflicts of interest may arise directly with employees, directors, or through family connections. Conflicts of interest also arise when an employee or director, or a member of his or her family, receives improper personal benefits as a result of his or her position with the company. Every employee and director has the obligation to bring to the attention of the chairman of the audit committee of the company's board any business dealings that he or she feels may present even the appearance of a conflict of interest. The company's audit committee will then make a determination as to whether such a conflict of interest exists. IMPROPER INFLUENCES: GIFTS AND ENTERTAINMENT Employees and directors must not offer, make, solicit or receive a bribe, kickback, illegal political contribution or other improper payment, and the company does not condone any such activity on the part of its employees. No employee or director should accept from any organization or individual that has, or is seeking to have, a business relationship with the company any gift or gratuity of material value or excessive or extravagant entertainment or other similar gratuities. In applying these guidelines, employees and directors must use common sense and good judgment to avoid the appearance of impropriety. CORPORATE OPPORTUNITIES Employees and Directors owe a duty to the company to advance the company's legitimate business interests when the opportunity to do so arises. Employees and directors are prohibited from taking for themselves (or directing to a third party) a business opportunity that is discovered through the use of corporate property, information or position, unless the company has already been offered the opportunity and an appropriate member of senior management or a director has declined the opportunity on behalf of the company, in writing. More generally, employees and directors are prohibited from using corporate property, information or position for personal gain or competing with the company. Sometimes the line between a benefit to the employee or director and a benefit to the company is difficult to draw, and sometimes both types of such benefits may be derived from certain activities. The only prudent course of conduct for employees and directors is to make sure that an appropriate member of senior management approves, beforehand, any use of company property or services that is not solely for the benefit of the company. -3- BOARD MEMBERSHIPS The company encourages service by its employees as directors on corporate boards. Any employee so desiring to serve must obtain the prior written approval of the chief executive officer of the company. MAINTENANCE OF CORPORATE BOOKS, RECORDS, DOCUMENTS AND ACCOUNTS All company books, records and documents must be kept in such a way as to accurately and completely reflect all company transactions. Knowingly providing false, incomplete or inaccurate information is improper and, in some situations, illegal. Certain types of information and documents must be updated or amended if changes become known. Employees must not withhold or fail to provide information to their supervisors or management. Each employee and director must cooperate fully with the Finance Department, as well as the independent public accountants who audit the company's financial records, and provide complete and accurate information to them to help ensure that all of the company's books and records are accurate and up-to-date. COMPANY ASSETS The company has a duty to safeguard its assets, including its cash and cash investments, facilities and equipment, inventory, computers, computer software, records (including written documents, email documents, and phone messages), customer information, human resources, and patents, copyrights and trademarks. Company assets are to be used for company business only. REPORTING AND COMPLIANCE PROCEDURES Any employee or director who knows or believes that any other employee or representative of the company has engaged or is engaging in company-related conduct that violates applicable law or these standards should report such information to the chief executive officer of the company. You may report such conduct openly or anonymously without fear of retaliation. The company will not discipline, discriminate against or retaliate against any employee who reports such conduct, unless it is determined that the report was made with knowledge that it was false, or who cooperates in any investigation or inquiry regarding such conduct. If the chief executive officer of the company receives information regarding an alleged violation of these standards, he or she shall, as appropriate, (a) evaluate such information, (b) if the alleged violation involves an executive officer or a director, inform the board of directors of the alleged violation, (c) determine whether it is necessary to conduct an informal inquiry or a formal investigation and, if so, initiate such inquiry or investigation and (d) if the alleged violation involves an executive officer or a director, report the results of any such inquiry or investigation, together with a recommendation as to disposition of the matter, to the board of directors for action. Employees, officers and directors are expected to cooperate fully with any inquiry or investigation by the company regarding an alleged violation of these standards. Failure to cooperate with any such inquiry or investigation may result in disciplinary action, up to and including discharge. In the event the alleged violation involves any persons other than an executive officer or director, the chief executive officer shall determine whether violations of these standards have occurred and, if so, shall determine the disciplinary measures to be taken against such person. In the event that the alleged violation involves an executive officer or a director, the board of directors shall determine whether a violation of these standards has occurred and, if so, shall determine the disciplinary measures to be taken against such executive officer or director. -4- Failure to comply with the standards outlined in these standards will result in disciplinary action including, but not limited to, reprimands, warnings, probation or suspension without pay, demotions, reductions in salary, discharge and restitution. Certain violations of these standards may require the company to refer the matter to the appropriate governmental or regulatory authorities for investigation or prosecution. Moreover, any supervisor who directs or approves of any conduct in violation of these standards, or who has knowledge of such conduct and does not immediately report it, also will be subject to disciplinary action, up to and including discharge. ACCOUNTING COMPLAINTS The company's policy is to comply with all applicable financial reporting and accounting regulations applicable to the company. Any employee or director who has concerns or complaints regarding questionable accounting or auditing practices may confidentially, and anonymously if they wish, submit such concerns or complaints in writing to the audit committee of the board of directors, which, subject to its duties arising under applicable law, regulations and legal proceedings, will treat such submissions confidentially. Such submissions may be directed to the attention of the audit committee, or any director who is a member of the audit committee, at the principal executive offices of the company. The audit committee will evaluate the merits of any concerns or complaints received by it and authorize such follow-up actions, if any, as it deems necessary or appropriate to address the substance of the concern or complaint. The company will not discipline, discriminate against or retaliate against any employee who reports a complaint or concern, unless it is determined that the report was made with knowledge that it was false. WAIVER From time to time, the company may waive certain provisions of these standards. Any waiver of these standards for executive officers or directors may be made only by the board or committee of the board to which such responsibility has been delegated and must be promptly disclosed in accordance with applicable law. ACKNOWLEDGEMENT I have received and read these Standards of Business Conduct and Ethics, and I understand its contents. I agree to comply fully with the standards, policies and procedures contained in these standards and related policies and procedures. I acknowledge that this document is a statement of policies for business conduct and does not, in any way, constitute an employment contract or an assurance of continued employment. - --------------------------- Printed Name - --------------------------- Signature - --------------------------- Date -5- EX-23 3 ex23-1.txt EX. 23.1 - CONSENT OF PETERSON & CO., LLP Exhibit 23.1 CONSENT OF PETERSON & CO., LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We consent to the incorporation by reference in the Registration Statements on Forms S-2 (Nos. 333-108923, 333-105656, 333-37676, 333-63468, 333-73906, 333-84766), Forms S-3 (Nos. 333-19695, 333-62761, 333-45759, 333-07861) and Forms S-8 (Nos. 333-105854, 033-61704, 033-61708, 033-63046, 333-24991, 333-26319, 333-60011) of our report dated February 28, 2005, included in the Annual Report on Form 10-KSB of Protein Polymer Technologies, Inc. for the year ended December 31, 2004, with respect to the financial statements, included in this Form 10-KSB. PETERSON & CO., LLP San Diego, California March 30, 2005 EX-31 4 ex31-1.txt EX. 31.1 - 302 CERT OF CEO Exhibit 31.1 SECTION 302 CERTIFICATION of the Chief Executive Officer I, J. Thomas Parmeter, the Chief Executive Officer of Protein Polymer Technologies, Inc., certify that: 1. I have reviewed this annual report on Form 10-KSB of Protein Polymer Technologies, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this report; 4. The small business issuer's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the small business issuer and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the small business issuer's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the small business issuer's internal control over financial reporting that occurred during the small business issuer's fourth fiscal quarter that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and 5. The small business issuer's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer's auditors and the audit committee of the small business issuer's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting. Date: March 31, 2005 /S/ J. THOMAS PARMETER - ---------------------- J. Thomas Parmeter Chief Executive Officer EX-31 5 ex31-2.txt EX. 31.2 - 302 CERT OF DIRECTOR OF FINANCE Exhibit 31.2 SECTION 302 CERTIFICATION of the Director of Finance (Principal Financial Officer) I, Janis Y. Neves, the Director of Finance of Protein Polymer Technologies, Inc., certify that: 1. I have reviewed this annual report on Form 10-KSB of Protein Polymer Technologies, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this report; 4. The small business issuer's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the small business issuer and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the small business issuer's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the small business issuer's internal control over financial reporting that occurred during the small business issuer's fourth fiscal quarter that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and 5. The small business issuer's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer's auditors and the audit committee of the small business issuer's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting. Date: March 31, 2005 /S/ JANIS Y. NEVES - ------------------ Janis Y. Neves Director of Finance EX-32 6 ex32-1.txt EX. 32.1 - 906 CERT OF CEO AND DIR. OF FINANCE Exhibit 32.1 CERTIFICATIONS PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Annual Report of Protein Polymer Technologies, Inc. (the "Company") on Form 10-KSB for the period ended December 31, 2004 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), the undersigned hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /S/ J. THOMAS PARMETER - ---------------------- J. Thomas Parmeter Chief Executive Officer March 31, 2005 In connection with the Annual Report of Protein Polymer Technologies, Inc. (the "Company") on Form 10-KSB for the period ended December 31, 2004 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), the undersigned hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /S/ JANIS Y. NEVES - ------------------ Janis Y. Neves Director of Finance March 31, 2005 -----END PRIVACY-ENHANCED MESSAGE-----