-----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, Nb53B5hGtZappRvJEAa3FQcdDsxQUvMNaEyNVB6LPL7zoYIweOGRSOTMlKlV56CI OD7T5VBMjTBOleZi2QOBrQ== 0000950117-01-000594.txt : 20010329 0000950117-01-000594.hdr.sgml : 20010329 ACCESSION NUMBER: 0000950117-01-000594 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20001231 FILED AS OF DATE: 20010328 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ORTEC INTERNATIONAL INC CENTRAL INDEX KEY: 0000889992 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MEDICAL LABORATORIES [8071] IRS NUMBER: 113068704 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-27368 FILM NUMBER: 1582835 BUSINESS ADDRESS: STREET 1: 3960 BROADWAY STREET 2: BLDG 28 CITY: NEW YORK STATE: NY ZIP: 10032 BUSINESS PHONE: 7183264698 10-K 1 0001.txt ORTEC INTERNATIONAL, INC. 10-K ================================================================================ U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ------------- (Mark One) |X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000 |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ________________ TO_______________ Commission file number 0-27368 ORTEC INTERNATIONAL, INC. (Exact name of issuer as specified in its charter) Delaware 11-3068704 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3960 Broadway New York, NY (Address of principal 10032 executive offices) (Zip Code) Registrant's telephone number, (212) including area code: 740-6999 ---------------- Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.001 par value Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities 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 in response to Item 405 of Regulation S-K contained in this form, and no disclosure will be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. |_| ---------------- The number of shares outstanding of the Registrant's common stock is 9,691,608 (as of 3/26/01). The aggregate market value of the voting stock held by nonaffiliates of the Registrant was approximately $52,433,556 as of March 26, 2001, based upon a closing price on such date of $6.25, as listed on the Nasdaq SmallCap Market. DOCUMENTS INCORPORATED BY REFERENCE - None ================================================================================ ORTEC INTERNATIONAL, INC. INDEX TO ANNUAL REPORT ON FORM 10-K FILED WITH THE SECURITIES AND EXCHANGE COMMISSION YEAR ENDED DECEMBER 31, 2000 ITEMS IN FORM 10-K Page ---- Facing page Part I - ------ Item 1. Business .................................................... 1 Item 2. Properties .................................................. 13 Item 3. Legal Proceedings ........................................... 14 Item 4. Submission of Matters to a Vote of Security Holders .................................. None Part II - ------- Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters ............................. 14 Item 6. Selected Financial Data ..................................... 16 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations ............... 17 Item 7a. Quantitative and Qualitative Disclosures About Market Risk ................................................. None Item 8. Financial Statements and Supplementary Data ................. 21 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure ...................... None Part III - -------- Item 10. Directors and Executive Officers of the Registrant .......... 21 Item 11. Executive Compensation ...................................... 23 Item 12. Security Ownership of Certain Beneficial Owners and Management ....................................... 27 Item 13. Certain Relationships and Related Transactions .............. 29 Part IV - ------- Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K...................................... 31 Signatures............................................................... 32 Financial Statements..................................................... F-1 PART I Item 1. BUSINESS Overview We are a development stage tissue engineering company that has developed a proprietary and patented technology which we call Composite Cultured Skin, which is used to stimulate the repair and regeneration of human skin. We often refer to our Composite Cultured Skin by its initials, CCS. Our Composite Cultured Skin is a two layered tissue engineered dressing that consists of human derived skin cells, both dermal and epidermal, supported within a porous collagen matrix. The composite matrix is seeded with keratinocytes for epidermal growth and fibroblasts for dermal growth. This active dressing stimulates the repair, replacement and regeneration of human skin. When our CCS is applied to the wound site, it produces a mix of growth factors that stimulates wound closure. We have recently achieved a number of milestones toward our goal of the commercial sale of our CCS including: o On February 21, 2001, the FDA granted our application for commercial sale of our product for use on patients with recessive dystrophic epidermolysis bullosa undergoing hand reconstruction, as well as to treat donor site wounds created during that surgery. This is the most severe form of epidermolysis bullosa, a condition in which a newborn's skin constantly blisters and can peel off at the slightest touch and leave painful ulcerations and permanent scarring, resulting in deformity of the hands and feet. While the epidermolysis bullosa patient population that our CCS will address is small, the FDA's approval gives us our first opportunity for the commercial sale of CCS. We plan to launch a focused marketing program for sale of our CCS for the treatment of these epidermolysis bullosa wounds. Our marketing program will be directed to a small number of regional hospitals with expertise in treating epidermolysis bullosa. o We have completed the pivotal clinical trial for the use of our CCS for the treatment of donor site wounds and we have filed our application with the FDA to permit us to make commercial sales of our CCS for the treatment of donor site wounds. The results of that trial which we submitted to the FDA show that there was a clinically and statistically shorter time to 100% wound closure when our CCS was used compared to the use of a current standard of care in that trial. The median differential in those healing times ranged from four to seven days. o We have received encouraging results, to date, from the pivotal clinical trial of our CCS for the treatment of venous ulcers. These results show our CCS significantly 1 more effective in treating venous ulcer wounds than a standard of care now used. Eight weeks after treatment the CCS treated group achieved 100% healing in 47% of the patients treated, compared to 26% of the patients in the standard of care treated group. The results in that trial for the CCS treated group compared favorably with the reported results of the clinical trials that were conducted by Organogenesis for its Apligraf product. In the clinical trial for use of Apligraf for the treatment of venous ulcers, six months after treatment (as compared to eight weeks after treatment in the clinical trial of our CCS) 47% of the patients treated achieved 100% healing, compared to 19% of the patients in the standard of care treated group in the Apligraf trial. o In September 2000, our manufacturing facilities were inspected and approved by the FDA for the manufacture and commercial sale of our CCS. o We have released a preliminary analysis of our pilot trial using our CCS for the treatment of diabetic ulcers. That analysis shows that at 12 weeks 56% of the patients treated with our CCS achieved 100% wound closure compared to 29% of the patients in the group treated with the current standard of care used in that trial. We expect to receive 12 week data for all the diabetic ulcers patients treated in that pilot trial in the second quarter of 2001. Our CCS addresses large markets. We intend to utilize our CCS for the treatment of numerous skin wounds, such as venous stasis ulcers, autograft donor site wounds, diabetic foot ulcers, indeterminate depth burns and epidermolysis bullosa. We believe that our CCS could be used for up to 1 million patients, representing a potential market of approximately $3.5 billion. Each market is explained briefly below. See "Forward Looking Statements." Venous Stasis Ulcers. Approximately 700,000 Americans are plagued with venous stasis ulcers. This type of ulcer is generally found in the lower leg proximate to the ankle and can result from trauma, but is typically associated with chronic venous insufficiency. Chronic venous insufficiency occurs when the venous valves don't close completely and blood is allowed to flow back from the deep venous system through the perforator veins into the superficial venous system. The weight of the backlogged blood pushes on the surrounding tissues of the lower leg and produces swollen, hyperpigmented ankles. Over time the pressure will cause tissue breakdown and an ulcer will form. Roughly 50% of venous leg ulcers are successfully treated with traditional methods, which include compression therapy followed by suggested regular walking and resting with the legs elevated for two hours a day. The remaining 50% of venous ulcers patients, totaling about 350,000, are candidates for our CCS. We believe that the average selling price for our CCS will be $975 per unit for all the medical conditions described above. Our belief is based on the known selling price of our primary competitor's product. If each patient suffering with venous ulcers has only one ulcer and each ulcer has to be treated with four units 2 of our CCS (in our venous ulcers clinical trial we have so far used up to four units per ulcer), the potential market revenue for venous ulcers is approximately $1.4 billion. Donor Site Wounds. There are about 1.2 million people treated annually for burns at medical facilities across the United States. A vast majority of the burns, about 96%, cover a relatively small portion of the total body surface area and are treated on an outpatient basis in doctors' offices, hospitals and burn units. Roughly 4%, or 50,000, of the burn cases are severe and, we believe, require autograft transplants, thereby creating donor site wounds. A donor site wound is the result of an autograft, which involves removing a piece of healthy skin from an uninjured part of the body to cover an open wound at another location on the body. We estimate that the typical severe burn case in which autograft transplant procedures are required to be used creates four donor site wounds per patient, or a total of approximately 200,000 donor site wounds created in the United States each year. Due to differing severity of burns, we estimate that our CCS can be used to treat the donor site wounds resulting from autograft transplants in about 43% of the 50,000 (or 21,500) severely burned patients. At an average of eight of our CCS units per patient, (2 units of our CCS per donor site wound and 4 donor sites wounds per patient), we estimate potential market revenues of approximately $167 million per year from the use of our CCS for the treatment of donor site wounds. Indeterminate Depth Burns. While we are pursuing approval from the FDA to market our CCS for treatment of donor site wounds in burn patients, we believe there is also the opportunity to use our CCS for the treatment of certain indeterminate depth wounds directly without involvement of autograft transplants. In order to do so we will have to design and conduct a clinical trial for the use of our CCS for the treatment of indeterminate depth burns. To date, we have not allocated resources for a clinical trial for indeterminate depth burns because we have committed our resources to concentrate on the venous and diabetic ulcers markets. However, the market for treatment of indeterminate depth burns with our CCS is one that we could pursue in the future. As we noted above, there are approximately 50,000 severely burned patients each year in the United States and we believe that 43% of those patients require autograft transplants. The other 57% of these 50,000 patients with severe burns, about 28,500 patients, do not require autograft transplants. It is this group whose burns we believe can be treated directly with our CCS. In such treatment we assume that we will need six CCS units to treat each patient, creating a potential market revenue of approximately $167 million. Of the other 1.15 million people who are treated for lesser burns, we believe that about 15%, or 170,000 patients, can be treated with our CCS. We assume 3 that if one unit of our CCS is used for the treatment of each of those 170,000 patients, there is a potential market revenue of approximately $166 million. All together, the potential market revenue for the treatment of indeterminate depth burns with our CCS is approximately $336 million annually. However, as we have noted above, we cannot use our CCS to treat burns until we conclude an FDA approved clinical trial to prove the safety and the efficacy of our CCS in the treatment of indeterminate depth burns. We are not conducting that clinical trial now. Diabetic Foot Ulcers. Diabetic foot ulcers will affect about 2 million of the 14 million diabetics in the United States during their lifetime. We estimate that there are between 800,000 and 1,200,000 Americans infected with diabetic foot ulcers each year. The ulcers are open sores that remain after the destruction of surface tissue. There are approximately 67,000 amputations each year from the complications created by these ulcers. Current treatments, which include off-loading of pressure, debridement, maintenance of a moist wound environment, wound cleansing and nutritional support, will cure between 50% and 60% of most diabetic ulcers. Assuming that there are 800,000 persons infected with diabetic foot ulcers each year and that 50% are cured with traditional treatments, the remaining nearly 400,000 patients are candidates for use of our CCS to treat their ulcers. In our pilot clinical trial for the use of our CCS to treat diabetic foot ulcers, we have up to now used up to six units of our CCS to treat each ulcer. If we assume the use of four units of our CCS to treat each diabetic foot ulcer, there is a potential annual market of $1.5 billion from the sale of our CCS to treat diabetic foot ulcers. Epidermolysis Bullosa. Few babies born with severe epidermolysis bullosa survive the first year and those that do are bombarded with constant blistering, which causes scarring that constricts the skin so much that the hands can become disfigured and fingers and toes can fuse together requiring reconstructive surgery. In 1986 a national registry was established to track the number of people with epidermolysis bullosa. Our CCS is for use by epidermolysis bullosa patients who have the dystrophic and junctional form of the disease, a population of about 900 according to the national registry's database. Advocacy groups for epidermolysis bullosa patients argue that the registry's estimate is significantly under reported. Although we have received FDA approval for the sale of our CCS for treatment of patients with recessive dystrophic epidermolysis bullosa undergoing hand reconstruction, as well as to treat donor site wounds created during that surgery, our sales efforts will be focused on a small number of regional hospitals with expertise in treating epidermolysis bullosa. Consequently, we do not expect to have significant revenues from the sale of our CCS for the treatment of epidermolysis bullosa. 4 We have developed the technology for the cryopreservation of our product without diminishing its effectiveness. Cryopreservation is the freezing of our product which gives it a minimum shelf life of six months, as opposed to a few days when our product is not cryopreserved. We are using our product in its cryopreserved form in our pivotal clinical trial for the treatment of venous ulcers and we intend to use it in our pivotal trial for the treatment of diabetic ulcers. Our immediate focus is to use our CCS to treat acute and chronic skin wounds. However, we believe that there is an opportunity to apply our core technologies to repair selected structural tissues such as tendon, ligament, cartilage, bone and blood vessels. While we believe that our bi-layered product will be effective in treating the medical conditions in our target markets, many companies and academic institutions have developed, or are capable of developing, products or other technologies that are or may be competitive with our CCS. We know of only one other company, Organogenesis, Inc., that has developed a bi-layered product, Apligraf, to treat the same wounds as our CCS. Organogenesis has licensed Novartis, Inc. to market Apligraf and Apligraf, having received FDA approval, is currently being sold for the treatment of venous and diabetic ulcers. We believe that our CCS will have certain competitive advantages over other comparable bio-engineered products in that our CCS: (i) has demonstrated superior clinical results in recently released clinical data, accelerating healing in comparison to standard of care and other competitive products; (ii) has the capability to be less expensive to produce and easier for the physician to handle and use; and (iii) can be stored and delivered in a cryopreserved form, providing production and distribution efficiencies. As a development stage company we have not yet sold any products. Our activities have been limited to human clinical trials of our CCS and research and development. From the creation of our company in March 1991 through December 31, 2000, we have spent approximately $13.8 million for human clinical trials and research and development, not including employee salaries. From inception in March 1991 through December 31, 2000, we have sustained a net loss of $43.3 million and expect to continue to incur substantial operating losses until at least 2003. At our current rate of spending, our cash and cash equivalents on hand at December 31, 2000 (approximately $9.3 million) will enable us to continue our operations through the end of 2001, assuming that we will not incur unexpected costs. Before the end of 2001 we will be required to raise additional funds (through sale of our securities or debt financing) to complete our clinical trials and to produce and market our CCS. Our failure to receive additional financing will have a material adverse effect on us and our operations. Also, in order to produce our CCS for treatment of medical conditions with large patient populations we may have to build larger production facilities which will require significant additional funding. If we secure the additional funding we need, receive FDA approval for commercial sales of our CCS for treatment of medical conditions with large patient populations and successfully market 5 our CCS, we believe that we will have the opportunity to reach cash break even in 2003. Revenues from sales of our CCS to treat epidermolysis bullosa patients could begin as early as the second half of this year. Ortec was organized in 1991 under the laws of the State of Delaware for the purpose of acquiring, developing, testing and marketing our skin replacement product. Our executive offices are located at 3960 Broadway, New York, New York, and our telephone number is (212) 740-6999. The Product Background Human skin is composed of cells and matrix proteins that are tough yet flexible and protect the body against abrasion, water loss, and infection. For cells to function normally within tissues, the cells must interact with the proteins that surround them. When certain tissues become damaged, normal healthy cells attempt to repair the deficient site by moving into the damaged area, dividing, and depositing new matrix proteins that very often result in scars. Scars do not function like normal tissue since the area is surrounded by excessive amounts of matrix proteins. In the case of burns, wounds and other skin diseases, where the human body cannot repair the tissue by spontaneous healing, there are several medical treatments that are available, but no treatment that provides completely satisfactory results. For chronic wounds like epidermolysis bullosa and diabetic ulcers, the conventional approach is cleaning, disinfecting the site, and then treating with moist dressings; while for venous stasis ulcers the conventional treatment after cleaning and disinfecting is compression therapy. Another approach is grafting the wound site with the patient's own healthy tissue, which is called an autograft transplant. Physicians have for years been using skin transplanted from one site of a patient's body onto a wound site that no longer has the capacity to heal spontaneously. This approach creates a second wound site where the healthy tissue is harvested and is of limited use when patients are left with a minimal amount of healthy tissue for grafting. Physicians have sought to replace autograft transplants with substitute synthetic or natural materials which would eliminate the medically undesirable problems that accompany autograft transplants, such as the creation of additional wound sites, possible infection and scarring. Another approach that has been developed in recent years is the replication of human skin in a laboratory setting in order to create an artificial skin that can be transplanted onto diseased or injured patients. Major problems encountered by scientists include the rejection of the artificial skin by the patient's immune system and significant contraction of the transplant after healing, causing cosmetically undesirable scarring. 6 Our Composite Cultured Skin Our Composite Cultured Skin is a device consisting of two layers of immature human-derived skin cells (dermal and epidermal) supported in a permeable bi-layered collagen matrix. When applied to an area needing skin regeneration, our Composite Cultured Skin stimulates the body's healthy cells to rapidly regenerate and remodel the human skin. Our Composite Cultured Skin is not a skin transplant or an artificial skin, but rather a tissue engineered dressing which, we believe, provides an optimal environment for the production and delivery of a multitude of growth factors which appear to promote migration of the patient's own healthy cells into the wound site resulting in accelerated skin regeneration and wound healing. Rejection of our Composite Cultured Skin is mitigated because in approximately two weeks the entire Composite Cultured Skin dressing is absorbed by the body and the cells from our product are no longer present. We believe that our Composite Cultured Skin's bi-layered structure and porous collagen matrix are key differentiating product features which provide a superior structure for cell migration and tissue regeneration. We believe that the immature cells in our Composite Cultured Skin produce an optimal mixture of growth factors that stimulate the patient's own natural healing process. The open collagen structure also allows the patients own dermal and epidermal cells to proliferate and migrate into the wound site, as well as to allow the return of blood vessels to the wound site. The Composite Cultured Skin dressing is absorbed by the body in approximately 7-14 days and is replaced by the patient's own skin. Benefits There are currently three primary and distinct approaches to the repair and regeneration of skin: the acellular (no cell) approach, the cell-based unilayered approach, and the cell based bi-layered approach. The acellular approach uses a non-living material, particularly cadaver skin, collagen, silicone, or an ointment to treat the wound. The cell-based approaches employ living cells in order to closely replicate human skin cells and stimulate wound repair and tissue regeneration. The unilayered approach, although a cell-based approach, utilizes either living epidermal or dermal cells, but not both. The approach we believe to be the most advanced is the bi-layered, dermal and epidermal, approach. The only bi-layered product other than our Composite Cultured Skin that is available for sale is Apligraf, a product developed by Organogenesis, Inc. We believe our Composite Cultured Skin induces faster wound healing and reduces pain and complications generally associated with open wounds. We also believe that autograft donor sites treated with our Composite Cultured Skin tend to be ready for recropping earlier than sites treated with the current standard of care. 7 We believe that our Composite Cultured Skin is easier to use than the existing available bi-layered technology because the composition and packaging of our product allows the surgeon or other physician to easily remove our Composite Cultured Skin from its packaging and simply drape it over the wound. Our product can generally be applied to a wound in less than one minute. We further believe our product constitutes a cost effective alternative to conventional standards of wound care. The conventional treatment for acute wounds such as venous and diabetic ulcers, burns and autograft donor sites can be expensive and require multiple doctor visits and potentially lengthy hospitalization. Because of the more rapid healing process we expect from treating these wounds with our Composite Cultured Skin, the length of hospital stays and the number of follow up visits to doctors may be reduced substantially. In addition, our ability to cryopreserve our product allows for a longer shelf life for storage of our product, which we believe will make it more appealing to the end user - the physician or hospital. See "Disclosure Regarding Forward Looking Statements." Regulatory Process and Clinical Trials Regulatory Framework. We are subject to extensive government regulation. Products for human treatment are subject to rigorous pre-clinical and clinical testing procedures as a condition for approval by the FDA and by similar authorities in foreign countries for commercial sale. The FDA regulates the manufacture, distribution and promotion of medical devices in the United States, pursuant to the Federal Food, Drug and Cosmetic Act and regulations promulgated thereunder. Our Composite Cultured Skin is subject to these regulations and is currently classified as a medical device. We must obtain pre-market approval by the FDA prior to commercial sale of our Composite Cultured Skin. Pre-market approval requires proof of safety and efficacy through human clinical trials. Pre-market approval is a lengthy and expensive process. Although we have secured pre market approval from the FDA for commercial sales of our product for use on patients with recessive dystrophic epidermolysis bullosa undergoing reconstructive hand surgery and to treat donor site wounds created during that surgery, we can give no assurance that we will obtain pre-market approval for our Composite Cultured Skin for the treatment of medical conditions with large patient populations. To obtain pre-market approval, we must submit an application to the FDA, supported by extensive data, including human clinical trial data, and documentation to prove the safety and efficacy of the device. Applicable regulations provide that the FDA has 180 days to review an application for pre-market approval during which time an advisory committee usually evaluates the application and makes recommendations to the FDA. While the FDA has responded to applications for pre-market approval within that time period, reviews usually 8 occur over a significantly protracted period of twelve to twenty-four months. Many devices are never cleared for marketing. If human clinical trials of a proposed device are required and the device presents a possible or unknown risk, the manufacturer or distributor of the device has to file an application for an investigative device exemption with the FDA prior to commencing such trials. The application for an investigative device exemption must be supported by data, including the results of animal and other testing. If the application for an investigative device exemption is approved, human clinical trials may begin. The human clinical trials for medical devices may consist of two stages: the first is a feasibility study/pilot trial, in which a small group of patients is tested in order to collect preliminary safety and effectiveness data; the second, a pivotal trial, requires testing of a larger patient population to determine a fuller understanding of safety and to confirm efficacy of the device for the targeted medical conditions. We have developed rigorous internal standards for testing and compiling data necessary for FDA filings. We conduct feasibility studies for all the medical conditions we propose to treat with our Composite Cultured Skin prior to filing applications with the FDA for pivotal trials. We assume that this process has allowed us to submit more precise protocols to the FDA, clearly defining the clinical objectives we wish to support in the pivotal trial phase. We engage in an ongoing dialogue with the FDA in an effort to manage the approval process both effectively and efficiently. At the present time we - have received FDA approval for commercial sales of our product for use on patients with recessive dystrophic epidermolysis bullosa undergoing hand reconstructive surgery and to treat donor site wounds created during that surgery. - have completed the pivotal trial for use of our product in treating all donor site wounds and have filed an application with the FDA for pre-market approval for commercial sale of our product for treatment of all donor site wounds. - are conducting a pivotal clinical trial for use of our product in its cryopreserved form for the treatment of venous ulcers. - are conducting a pilot clinical trial for the use of our product for the treatment of diabetic ulcers. Description of the Production Process Composite Cultured Skin cells are derived from infant foreskins obtained during routine circumcisions. The immature, neonatal cells are highly reproductive and provide enhanced 9 proliferation and rapid remodeling of the human skin. We separate the epidermis from the dermis and treat each of these layers to release individual keratinocyte (epidermal) and fibroblast (dermal) cells, which are the primary cellular components of human skin. We grow the fibroblast and keratinocyte cells in culture in large quantities, then freeze and store them as a cell bank, ready for use. Prior to the use of each cell line, we conduct extensive testing and screening in accordance with current FDA guidelines to ensure that the cells are free of presence of bacterial contaminants, viruses, pathogens, tumorigenicity or other transmittable diseases. We then apply the dermal fibroblast cells to a proprietary, cross-linked bovine collagen sponge to form the dermal layer matrix and we grow the epidermal keratinocyte cells on a separate non-porous layer of collagen. We then incubate and supply this composite matrix with the proper nutrients to allow the cells to multiply and for the fibroblasts to permeate inside and anchor to the porous collagen sponge. The top layers of keratinocyte cells and bottom layers of fibroblast cells in the collagen matrix, together, constitute our proprietary Composite Cultured Skin, which we can then deliver to customers in a "fresh" or cryopreserved state. Original Research. Our technology was developed by Dr. Mark Eisenberg, a physician in Sydney, Australia. Dr. Eisenberg is an officer and director and one of the founders of Ortec. He has been involved in biochemical and clinical research at the University of New South Wales in Australia for over twenty five years, focusing primarily on treating the symptoms of epidermolysis bullosa. In 1987, through his work on epidermolysis bullosa, Dr. Eisenberg first succeeded in growing epidermal layers of human skin, which he successfully applied as an allograft on an epidermolysis bullosa patient. An allograft is a transplant other than with the patient's own skin. Dr. Eisenberg continued his research which eventually led to the development of our Composite Cultured Skin - a tissue-engineered dressing which consists of both the dermal and epidermal layers. The current research for our proprietary technology is performed at our laboratory in New York City and in our laboratory in Sydney, Australia. European Market In June 1999 we entered into an agreement with Grupo Ferrer International, SA. of Barcelona, Spain, giving Grupo Ferrer the exclusive right for a period of ten years to market our Composite Cultured Skin in Spain. The agreement requires Grupo Ferrer to pay for all clinical, regulatory and marketing expenses necessary to gain regulatory approval for the commercial sale of our Composite Cultured Skin in Spain. Grupo Ferrer is one of the largest pharmaceutical companies in Spain. We believe that regulatory approval for the sale of our Composite Cultured Skin for the treatment of venous and diabetic ulcers may be secured more quickly in Spain than in the United States, even though Grupo Ferrer will use the results of our clinical trials in the United States as the basis for seeking regulatory approval in Spain. Of the different medical conditions creating skin wounds which we believe our Composite Cultured Skin can treat, venous and diabetic ulcers have the largest patient populations. We also believe 10 that securing regulatory approval in Spain may facilitate our ability to register and ultimately sell our Composite Cultured Skin in the large markets of other European Common Market countries. Regulatory Strategies, Product Development and Sales We employ a team of regulatory and clinical professionals, both full time employees and consultants, with extensive knowledge in strategic regulatory and clinical trial planning to support our product development efforts through every stage of the development and FDA approval process. We also employ persons with extensive knowledge and experience in the marketing and sale of new FDA approved products for treatment of many medical conditions, including experience in securing approval of third party payors (insurance companies, Medicare, Medicaid) for use of new medical products. Production and Supply We believe that production capacity at our facility in the Audubon Biomedical Science and Technology Park in New York City should be sufficient to meet demands for our Composite Cultured Skin for the initial volume required by the FDA's approval for its use in epidermolysis bullosa surgery and, if approved by the FDA, for donor site wounds. For sale of our Composite Cultured Skin for other medical conditions, based on our sales projections, we will need larger production facilities. Such facilities will have to be FDA validated and approved. Any manufacturing, whether by us or by a third party manufacturer, for any future commercial scale production of our Composite Cultured Skin will have to be in compliance with the good manufacturing processes and quality system regulations mandated by the FDA. Our production facility in the Audubon Biomedical Science and Technology Park was inspected and approved by the FDA in September 2000 for the manufacturing of our Composite Cultured Skin for commercial sale. Competition We are aware of several companies that are actively engaged in the research and development of products for the repair and regeneration of skin. As we noted previously, there are currently three primary and distinct approaches to the repair and regeneration of skin: the acellular (no cell) approach, including the use of cadaver based products; the cell-based unilayered (epidermal or dermal cell) approach, and the cell based bi-layered (epidermal and dermal cell) approach. The approach we believe to be the most advanced and effective is the bi-layered approach. There is also a procedure which cultures the patient's own epidermal cells to create an epidermis like layer. That procedure takes a number of weeks to create that epidermal layer. Genzyme Biosurgery is currently selling such a product for treatment of severely burned patients only, pursuant to an FDA humanitarian device exemption. 11 The Company considers its primary competitors to be Organogenesis, Inc. and Advanced Tissue Sciences, Inc. The FDA approved Organogenesis' Apligraf, which employs the bi-layered approach, for treatment of venous ulcers in May 1998 and for the treatment of diabetic ulcers in June 2000, and Organogenesis is selling Apligraf through a joint venture with Novartis Pharmaceuticals Corporation. Advanced Tissue, through a joint venture agreement with Smith & Nephew PLC, markets Transcyte, a unilayer, non-absorbable biosynthetic matrix, seeded with dermal fibroblast cells, which acts as a temporary wound covering for severe burns and as a covering for partial thickness burns. Advanced Tissue's Dermagraft product for the treatment of diabetic foot ulcers was rejected by the FDA in June 1998 and additional trials were mandated by the FDA to prove efficacy. In August 2000 advanced tissue submitted the results of their additional trials to the FDA We believe that the following are the greater benefits derived by patients when they use our Composite Cultured Skin. o Our Composite Cultured Skin can be cryopreserved so that it can be stored by the hospital or clinic instead of awaiting shipment. o Our Composite Cultured Skin uses a porous collagen matrix and undifferentiated epidermal and dermal fibroblast cells, resulting in a vigorous growth factor production which appears to enable a quicker healing process. o Our Composite Cultured Skin is "user friendly". The physician opens a cassette, peels off the protective mesh and immediately lays the Composite Cultured Skin on the wound. The process should take as little as one minute. We believe that many of our competitors may have greater financial and other resources than we do and most of them have conducted and continue to conduct human clinical trials, some of which are at more advanced stages than our human clinical trials. Although we are not aware of any biologically active skin repair product that has received pre-market approval from the FDA except as discussed above, there may be other companies having greater financial resources than we do who may develop other skin regeneration or wound healing technologies that may be more effective than our Composite Cultured Skin, or that may make our Composite Cultured Skin obsolete. Patents and Proprietary Rights We have two U.S. patents for the technology for our Composite Cultured Skin, both of which expire in 2011. We have also been granted corresponding patents in Europe (for most of the countries in Europe) and in Australia and New Zealand, Ireland, Israel, Japan, Thailand, 12 and South Africa. We are prosecuting patent claims in Canada, The Russian Federation, Brazil and China. In December 2000 and January 2001, we filed four additional patent applications with the United States Patent Office directed to further aspects of our Composite Cultured Skin technology. The patent applications focus on our cryopreservation, cell and manufacturing processes, and a cardiovascular application of our technology. One of our competitors filed an opposition with the European Patent Office challenging the validity of our European patent. The opposition in Europe may not be resolved for more than a year. The expiration date of our European patent is dependent upon the resolution of such opposition. The result in Europe will not affect the validity of our patent in the United States. However, our patents might be successfully challenged in court proceedings, invalidated or rendered unenforceable. Our success will depend, in part, on our ability to maintain patent protection for our technology, both in the United States and other countries. Our patents may be infringed, invalidated or circumvented by others. Others may also develop technologies or processes that are the same or substantially as effective as ours, thereby by-passing the benefits of our patent protection. Therefore, our United States and foreign patents may not provide us with any commercial benefits. Nor can we give any assurance that our currently pending patent applications will be granted. Several of our competitors, including Organogenesis, Inc., Advanced Tissue Sciences, Inc., Genzyme Biosurgery Repair Inc., Integra Life Sciences and LifeCell Corporation, have been granted patents relating to their particular artificial skin technologies. See "Competition". Employees We presently employ 71 people on a full-time basis, including five executive officers. Including our executive officers, we employ 69 persons in New York City and 2 people at our laboratory in Sydney, Australia. We also have part time employees, 3 in New York and 2, including Dr. Eisenberg, in Australia. We anticipate hiring additional employees in the areas of quality assurance, manufacturing, marketing and research and development as our needs arise and based on our finances. Item 2. PROPERTIES We occupy an aggregate of 17,000 sq. ft. of space in Columbia University's Audubon Biomedical Science and Technology Park in New York City, pursuant to four separate lease agreements, for laboratory and office space. We use our laboratories for assay development, wound healing research, biomaterial development, bioprocess development, histology, quality assurance testing and for two clean rooms where we produce our product. As of December 13 31, 2000 we were paying an aggregate of $43,829 rent per month for use of all our space at the Audubon facility. We also lease approximately 5,000 square feet of space at 147-155 Queen Street, Beaconsfield, Sydney, Australia, on a month to month basis, where we operate a research laboratory to conduct our research and development activities in Australia. We pay rent in Australian dollars, which at the current rate of exchange amounts to approximately US$25,402 per year. We rent this space from Dr. Mark Eisenberg's father's estate on terms that we believe are not less favorable to us than for rental of similar space in Sydney, Australia, from non-related third parties. ITEM 3. LEGAL PROCEEDINGS We are disputing a claim of approximately $250,000 made against us by a consulting firm we had retained to assist us in gathering and analyzing the data from our pivotal clinical trial for the use of our Composite Cultured Skin for the treatment of donor site wounds and in preparing our submission of such data to the FDA for pre-market approval for the commercial sale of our CCS for treatment of donor site wounds. We believe that such consulting firm did not render such service competently and we had to retain and pay a different firm to perform such services and assist us in that recent submission to the FDA. PART II Item 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Market Information Our common stock is listed on the NASDAQ SmallCap Market under the symbol "ORTC". The following table sets forth the high and low sales prices of our common stock as reported by NASDAQ for each full quarterly period from January 1, 1999 through December 31, 2000. 14
2000 High Low First Quarter 17.00 7.00 Second Quarter 11.13 6.00 Third Quarter 11.00 7.00 Fourth Quarter 11.15 5.50 1999 High Low First Quarter 14.00 8.13 Second Quarter 10.25 7.00 Third Quarter 12.75 7.13 Fourth Quarter 10.00 5.13
Security Holders To the best of our knowledge at March 1, 2001, there were 131 record holders of our common stock. We believe that as of such date there were an additional 1,646 beneficial owners of our common stock, whose shares are held in "street name." Dividends We have not paid, and have no current plans to pay, dividends on our common stock. Recent Sales of Unregistered Securities During the fourth quarter of 2000 we granted to 53 employees and 3 consultants options under our Employee Stock Option Plan to purchase an aggregate of 315,306 shares of our common stock, at exercise prices ranging from $5.75 to $10.00 per share. The grant of such options was exempt from the registration requirements of the Act pursuant to the provisions of Section 4(2) of the Act because such option grants did not involve any public offering and because such option grants did not constitute sales of securities. 15 Item 6. Selected Financial Data The following selected financial data are derived from the Company's financial statements and should be read in conjunction with, and are qualified in their entirety by, the financial statements and related notes and the Management's Discussion and Analysis included elsewhere in this Annual Report:
Statement of operations data Years Ended December 31, 1996 1997 1998 1999 2000 ------------ ------------ ------------ ------------ ------------ Revenues - interest income $ 171,057 $ 291,602 $ 572,549 $ 368,711 $ 586,623 ------------ ------------ ------------ ------------ ------------ Expenses Research and development 964,864 1,178,836 1,933,877 3,106,908 4,191,317 Rent 85,076 166,498 252,397 473,010 535,443 Consulting 261,633 474,908 908,495 834,180 838,383 Personnel 730,357 1,901,409 4,060,629 3,742,632 4,763,662 General and administrative 727,192 1,320,488 1,725,201 2,152,968 2,297,769 Interest and other expense 51,703 75,126 104,,605 99,522 89,712 ------------ ------------ ------------ ------------ ------------ 2,820,825 5,117,265 8,985,204 10,409,220 12,716.286 ------------ ------------ ------------ ------------ ------------ Net loss $ (2,649,768) $ (4,825,663) $ (8,412,655) $(10,040,509) $(12,129,663) ============ ============ ============ ============ ============ Net loss per share of common stock Basic and diluted $ (.64) $ (1.01) $ (1.43) $ (1.51) $ (1.37) ============ ============ ============ ============ ============ Weighted average common stock outstanding Basic and diluted 4,110,507 4,782,239 5,878,971 6,634,874 8,847,295 ============ ============ ============ ============ ============ Balance sheet data As of December 31, Working capital $ (6,848,650) $ 12,982,711 $ 9,368,901 $ 11,009,660 $ 7,966,410 Total assets 8,791,925 14,998,414 12,391,039 15,011,645 11,719,760 Long-term debt, excluding current maturities 460,774 722,704 1,152,180 1,044,857 912,489 Stockholders' equity 7,716,998 13,716,618 10,390,759 12,370,720 9,392,325 Cumulative From March 12, Statement of operations data 1991 (inception) to Years Ended December 31, December 31, 2000 ------------ Revenues - interest income $ 2,057,700 ------------ Expenses Research and development 13,765,354 Rent 1,590,297 Consulting 3,813,362 Personnel 16,343,730 General and administrative 9,330,798 Interest and other expense 483,436 ------------ 45,326,977 ------------ Net loss $(43,269,277) ============ Net loss per share of common stock Basic and diluted $ (10.41) ============ Weighted average common stock outstanding Basic and diluted 4,157,780 ============
16 Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with our financial statements and notes thereto. This discussion may be deemed to include forward looking statements. General Since Ortec's inception we have been principally engaged in the research and development of our skin regeneration product for use in the treatment of chronic and acute wounds, such as venous and diabetic skin ulcers, indeterminate depth burns and autograft donor site wounds. We have not had any revenues from operations since Ortec's inception in 1991 because we cannot make any sales of our product until we receive approval from the FDA to do so. We have incurred a cumulative net loss of approximately $43.3 million as of December 31, 2000. We expect to continue to incur substantial losses until at least 2003 due to continued spending on research and development programs, the funding of clinical trials and regulatory activities and the costs of manufacturing, marketing, sales, distribution and administrative activities. Our revenues consist only of interest income. To date, we have received no revenue from the sale of our Composite Cultured Skin. While we may make commercial sales of our product for use in surgeries on patients with recessive dystrophic epidermolysis bullosa, which has a small patient population, we are not permitted to engage in commercial sales of our product for treatment of skin wounds with larger patient populations, until such time, if ever, as we receive requisite FDA and/or other foreign regulatory approvals for such sales. As a result, we do not expect to record significant product sales until such approvals are received. We anticipate that future revenues and results of operations may continue to fluctuate significantly depending on, among other factors, the timing and outcome of applications for regulatory approvals, our ability to successfully manufacture, market and distribute our product and/or the establishment of collaborative arrangements for the manufacturing, marketing and distribution of our product. We anticipate that our operating activities will result in substantial net losses until at least 2003. We are currently conducting or have completed clinical trials of our Composite Cultured Skin in the treatment of autograft donor site wounds, venous and diabetic ulcers and chronic ulcers resulting from epidermolysis bullosa. 17 Results of Operations Year Ended December 31, 2000 to Year Ended December 31, 1999 Revenues. Interest income increased by approximately $218,000 from approximately $369,000 in 1999 to approximately $587,000 in 2000 because of larger cash and cash equivalent balances in 2000 that resulted from sale of common stock. Research and Development. Our research and development expenses for the year ended December 31, 2000 increased to $4.2 million from $3.1 million for the year ended December 31, 1999, which amounts do not include consulting expenses, a significant portion of which we paid for research and development. Such consulting expenses for research and development amounted to approximately $838,000 in 2000 and approximately $834,000 in 1999. The increase in research and development expenses relates primarily to the costs associated with the increase in clinical trial activity, cryopreservation research and for enhancement and other applications of our Composite Culture Skin. General and Administrative. Our general and administrative expenses for the year ended December 31, 2000 amounted to $2.3 million and $2.2 million for the year ended December 31, 1999. Personnel. Our personnel expenses for the year ended December 31, 2000 increased to $4.8 million from $3.7 million for the year ended December 31, 1999. This increase resulted from the larger number of persons we employed because of our increased research for product development, to conduct our clinical trials, to prepare for manufacturing scale up and for marketing of our CCS, and for additional personnel required in administrative positions because of such increased staff. Rent. Our expenses for rent for the year ended December 31, 2000 increased to $535,000 from $473,000 for the year ended December 31, 1999. The increase in rent expense in 2000 as compared to 1999 is the result of the increase in the amount of space we occupied at Columbia University's Audubon Biomedical Science and Technology Park in New York City for additional laboratories we built for research and development, and to accommodate the additional personnel we employed in 2000. Year Ended December 31, 1999 to Year Ended December 31, 1998 Revenues. Interest income decreased approximately $204,000 from approximately $573,000 in 1998 to approximately $369,000 in 1999 because of lower average cash and marketable securities balances in 1999 that resulted from the sale of common stock. Research and Development. Our research and development expenses for the year ended December 31, 1999 increased to approximately $3.1 million from approximately $1.9 million 18 for the year ended December 31, 1998, which amounts do not include consulting expenses, a significant portion of which we paid for research and development. Such consulting expenses for research and development amounted to approximately $834,000 in 1999 as compared to approximately $908,000 in 1998. The increase in research and development expenses related primarily to the costs associated with the increase in clinical trial activity, cryopreservation research and for enhancement and other applications of our Composite Cultured Skin. General and Administrative. Our general and administrative expenses for the year ended December 31, 1999 increased to approximately $2.2 million from approximately $1.7 million for the year ended December 31, 1998. The increase in general and administrative expenses for the year ended December 31, 1999 as compared to the same period in 1998 was the result of (i) the increase in costs associated with professional services received from financial consultants, attorneys and accountants and (ii) the increased overhead costs resulting from the increase in personnel. Personnel. Our personnel expenses for the year ended December 31, 1999 decreased to approximately $3.7 million from approximately $4.1 million for the year ended December 31, 1998. Cash compensation paid by us to our personnel actually increased $1.6 million from $2.1 million in 1998 to $3.7 million in 1999, but non-cash compensation in the form of stock options decreased from $1.9 million in 1998 to $64,715 in 1999. The increased cash compensation in 1999 compared to 1998 resulted from the larger number of persons we employed because of our increased research and development, including the conducting and preparation for clinical trials, and for which additional personnel were required in administrative positions. Rent. Our expenses for rent for the year ended December 31, 1999 increased to $473,000 from $252,000 for the year ended December 31, 1998. The increase in rent expense in 1999 as compared to 1998 was the result of new office and laboratory space we rented at Columbia University's Audubon Biomedical Science and Technology Park in New York City for a full year in 1999 and for only part of the year in 1998. Liquidity and Capital Resources Since inception (March 12, 1991) through December 31, 2000, we have accumulated a deficit of approximately $43.3 million and we expect to continue to incur substantial operating losses for the next two years. We have financed our operations primarily through private placements of our common stock, our initial public offering and the exercise of our publicly traded Class A warrants at the end of 1997. From inception to December 31, 2000 we have received proceeds from the sale of equity securities, net of share issuance expenses, of approximately $49.9 million. 19 In 2000 we used net cash for operating activities of approximately $11.6 million. Cash used in operating activities resulted primarily from our net loss of $12.1 million offset by non-cash depreciation and amortization. In 2000 we realized cash provided by our financing activities of approximately $9.0 million. We received approximately $9.1 million in 2000 from sale of our common stock net of share issuance costs which was offset by payments of $127,000 on capital leases and $35,000 for purchases of treasury stock We invested a total of approximately $641,000 consisting of $552,000 for property, plant and equipment and $90,000 for patents. Since inception, we have spent approximately $3.9 million for property, plant and equipment, excluding capital lease agreements, and approximately $732,000 for patents. The capital lease agreements consist primarily of laboratory equipment. Our capital funding requirements will depend on numerous factors, including the progress and magnitude of our research and development programs and our clinical trials, the time involved in obtaining regulatory approvals for the use of our Composite Cultured Skin for the treatment of skin wounds with large patient populations, the cost involved in filing and maintaining patent claims, technological advances, competitor and market conditions, our ability to establish and maintain collaborative arrangements, the cost of manufacturing scale-up and the cost and effectiveness of commercialization activities and arrangements. We have raised funds in the past through the public and private sale of securities, and may raise funds in the future through public or private financings, collaborative arrangements or from other sources. The success of such efforts will depend in large part upon continuing developments in our clinical trials. We continue to explore and, as appropriate, enter into discussions with other companies regarding the potential for equity investment, collaborative arrangements, license agreements or development or other funding programs in exchange for marketing, distribution or other rights to our Composite Cultured Skin. However, such discussions with other companies may not result in any investments, collaborative arrangements, agreements or funding, and the necessary additional financing through debt or equity financing may not be available to us on acceptable terms, if at all. Furthermore, any arrangements resulting from these discussions may not reduce our funding requirements. If we cannot secure additional funding when needed, we will be required to scale back our research and development programs, clinical trials and administrative activities and our business and financial results and condition would be materially adversely affected. At our current rate of spending, our cash and cash equivalents on hand at December 31, 2000 (approximately $9.3 million) will enable us to continue our operations through the end of 2001. 20 Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Reference is made to the Financial Statements referred to in the accompanying Index, setting forth the financial statements of the Company, together with the report of Grant Thornton LLP, dated February 21, 2001. PART III Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. Directors and Executive Officers Our directors and executive officers are as follows:
Name Age Position - ---- --- -------- Steven Katz, Ph.D. 56 Chairman of the Board of Directors and Chief Executive Officer Dr. Mark Eisenberg 63 Senior Vice President, Research and Development, and Director Ron Lipstein 45 Vice Chairman of the Board of Directors, Secretary, Treasurer and Chief Financial Officer Alain M. Klapholz 44 Vice President, Operations, and Director Costa Papastephanou 55 President William Schaeffer 53 Chief Operating Officer Joseph Stechler 49 Director Steven Lilien, Ph.D. 53 Director
Steven Katz, one of our founders, has been a director since our inception in 1991 and was elected Chairman of our Board of Directors in September 1994. He has been employed by us since 1991. Dr. Katz has also been a professor of Economics and Finance at Bernard M. Baruch College in New York City since 1972. He has a Ph.D. in Finance and Statistics as well as an MBA and an MS in Operations Research, both from New York University. Dr. Mark Eisenberg, one of our founders, has been a director and Senior Vice President since 1991. Dr. Eisenberg has also been a consultant to us since 1991. See "Eisenberg Consulting Agreement". He has been a physician in private practice in Sydney, Australia since 1967. He is a member and co-founder of the dystrophic epidermolysis bullosa clinic at the 21 Prince of Wales Hospital for children in Sydney, Australia. He has done extensive research on epidermolysis bullosa disease. Ron Lipstein, one of our founders, has been our Secretary, Treasurer, Chief Financial Officer and a director since 1991. In January 2001 Mr. Lipstein was elected Vice Chairman of our Board of Directors. He has been employed by us since 1991. Mr. Lipstein is a certified public accountant. Alain M. Klapholz, one of our founders, has been our Vice President and a director since 1991. He has been employed by us since 1991. Mr. Klapholz has an MBA from New York University. Costa Papastephanou was employed by us in February 2001 as our president. Prior to joining us, he was employed by Bristol Myers-Squibb for 30 years, the last 14 of which he was with Bristol Myers' Convatec, a multinational ostomy and wound care management division. His last position at Convatec was as President of the global chronic care division, where he was responsible for that division's sales and marketing, clinical trials, research and development, manufacturing, quality assurance and regulatory affairs. William Schaeffer, has been our Chief Operating Officer since May 1998. Prior to joining us, Mr. Schaeffer was employed by Johnson & Johnson for more than 25 years. His last position was Vice President, Quality Assurance Worldwide for Johnson & Johnson's Cordis, Inc., where he was also a member of its Management Board. Mr. Schaeffer has also held senior management positions at Johnson & Johnson's Ethicon, Inc., Johnson & Johnson Cardiovascular and Ortho Diagnostics, Inc. His responsibilities have included process development, manufacturing and quality assurance for a broad range of medical devices developed, produced and distributed by Johnson & Johnson. Joseph Stechler has been a director since 1992. He has been President and CEO of Stechler & Company, an investment management firm, since 1986, and from 1990 to January 1997, he was the general partner of Old Ironsides Capital, L.P., an investment fund. Prior to 1986, he was a securities analyst with several investment firms. Mr. Stechler has a JD degree from Columbia University and an LLM degree in corporate law from New York University. Steven Lilien has been a director of Ortec since February 1998. He has been chairman of the accounting department of Bernard M. Baruch College in New York City for the past fourteen years and is currently the Weinstein Professor of Accounting there. He is a certified public accountant and has a Ph.D. in accounting and finance and an MS, both from New York University. All directors hold office until the next annual meeting of stockholders and the election and qualification of their successors. Our non employee directors were compensated for their services and attendance at meetings in 2000 through the grant of options pursuant to our 22 Employee Stock Option Plan and payment of $5,000 to Dr. Steven Lilien for his services as chairman of our audit committee. Officers are elected annually by the Board of Directors and serve at the discretion of the Board of Directors. Section 16(a) Beneficial Ownership Reporting Compliance In 2000 Messrs. Steven Katz, Ron Lipstein, Alain Klapholz and William D. Schaeffer failed to file on a timely basis Form 4 as required by Section 16(a) of the Securities and Exchange Act reporting stock options granted to each of them on October 3, 2000, under the Company's Employee Stock Option Plan. Such reports were filed by them in December 2000 instead of November 2000. Messrs. Katz, Lipstein and Klapholz are all directors and executive officers, and Mr. Schaeffer is an executive officer, of the Company. Eisenberg Consulting Agreement Pursuant to a consulting agreement dated June 7, 1991, as amended on September 1, 1992, with Dr. Eisenberg, we have retained the services of Dr. Eisenberg as a consultant until June 6, 2005. Under such consulting agreement, Dr. Eisenberg is required to devote 20 hours per week to Ortec. We pay Dr. Eisenberg an annual fee at the rate of $73,000. Dr. Eisenberg's fee is subject to annual increases based on certain formulas. Dr. Eisenberg has agreed not to compete with us until one year after termination of his consulting agreement. Item 11. EXECUTIVE COMPENSATION Compensation of Executive Officers The following table sets forth the compensation paid by us for our fiscal years ended December 31, 2000, 1999 and 1998 to our Chief Executive Officer and to each of our executive officers whose compensation exceeded $100,000 on an annual basis (collectively, the "Named Officers"). 23 SUMMARY COMPENSATION TABLE
Long Term Annual Compensation Compensation ------------------- ------------ Securities Name and Other Annual Underlying Principal Position Year Salary($) Bonus($) Compensation($) Options/SARs - ------------------ ---- -------- -------- --------------- ------------ Steven Katz .................. 2000 209,807 94,605 9,000* 129,278 Chief Executive 1999 200,000 35,000 9,000* 50,000 Officer and Chairman 1998 200,000 9,000* 230,750 Ron Lipstein ................ 2000 179,712 78,105 9,000* 118,128 Vice Chairman, 1999 165,000 50,000 9,000* 35,000 Secretary, 1998 165,000 9,000* 220,000 Treasurer and CFO Alain Klapholz .............. 2000 159,808 30,000 23,300 Vice President 1999 150,000 15,000 10,000 and Director 1998 150,000 70,000 William Schaeffer .......... 2000 167,308 17,000 Chief Operating Officer 1999 157,871 30,000 20,000
- ---------- * In lieu of health insurance. Board Compensation Mr. Joseph Stechler and Dr. Steven Lilien are our only non employee directors. For his services in 2000 as a director and as chairman of our audit committee, in February 2001 we paid Dr. Lilien $5,000 and granted him 7 year options to purchase 7,500 shares of our common stock. For his services in 2000 as a director and as a member of our audit committee, in February 2001 we granted Mr. Stechler 7 year options to purchase 7,500 shares of our Common Stock. Such options were granted under our Employee Stock Option Plan and are exercisable at $8.75 per share each. 24 Option Grants in Last Fiscal Year The following table sets forth certain information regarding options granted during the fiscal year ended December 31, 2000 by us to the Named Officers:
Potential Realizable Value at Assumed Annual Rates of Stock Price Appreciation for Individual Grants Option Term ----------------- ----------- (a) (b) (c) (d) (e) (f) (g) Number of % of Total Securities Options/SARs Underlying Granted to Exercise or Options/SARs Employees in Base Price Expiration Name Granted Fiscal Year (1) ($/Share) Date 5% ($) 10% ($) ---- ------- --------------- --------- ---- ------ ------- Steven Katz 3,900 0.89 6.75 4/16/07 10,717 24,975 18,300 4.20 6.50 5/29/07 48,425 112,850 2,100 0.48 7.00 8/2/07 5,984 13,946 16,200 3.71 9.94 10/3/07 65,538 152,732 62,378 14.30 10.00 10/30/07 253,941 591,791 26,400 6.05 5.75 12/20/07 61,798 144,015 Ron Lipstein 3,250 0.75 6.75 4/16/07 8,931 20,812 15,250 3.50 6.50 05/29/07 40,354 94,042 1,750 0.40 7.00 8/2/07 4,987 11,622 13,500 3.09 9.94 10/3/07 54,615 127,276 62,378 14.30 10.00 10/30/07 253,941 591,791 22,000 5.04 5.75 12/20/07 51,498 120,013 Alain Klapholz 1,300 0.30 6.75 4/16/07 3,572 8,325 6,100 1.40 6.50 5/29/07 16,142 37,617 700 0.16 7.00 8/2/07 1,995 4,649 5,400 1.24 9.94 10/3/07 21,853 50,923 8,800 2.02 5.75 10/30/07 20,599 48,005 William D. Schaeffer (2) 1,800 0.41 6.75 4/16/07 4,946 11,527 9,150 2.10 6.50 5/29/07 24,212 56,425 1,050 0.24 7.00 8/2/07 2,992 6,973 5,000 1.15 9.94 10/3/07 20,228 47,139
- ---------------------- (1) Options to purchase a total of 436,206 shares of common stock were granted to our employees, including the Named Officers, during the fiscal year ended December 31, 2000. (2) The options granted to Mr. Schaeffer vest as follows: 25% one year after the date of grant, an additional 25% two years after, an additional 25% three years after and the remaining 25% four years after the date of grant. 25 Aggregated Options Exercised in Last Fiscal Year and Fiscal Year End Option Value The following table sets forth certain information regarding options (which include warrants) exercisable during 2000 and the value of the options held as of December 31, 2000 by the Named Officers. None of the Named Officers exercised any options in 2000 nor did Messrs. Katz, Lipstein or Klapholz hold any options which were not exercisable at December 31, 2000. At December 31, 2000, Mr. Schaeffer held 41,062 options which were not yet exercisable.
Value of Unexercised Number of Unexercised Options at In-the-Money Options Name Fiscal Year End at Fiscal Year End (1) - ---- --------------- ---------------------- Steven Katz 475,028 $0 Ron Lipstein 473,128* 0 Alain Klapholz 152,300 0 William D. Schaeffer 19,688 0 William D. Schaeffer 41,062 (not exercisable) 0
- ---------- * Includes warrants to purchase 15,000 shares held by Mr. Lipstein's minor children. (1) The closing price of our common stock on December 31, 2000, as listed on the Nasdaq SmallCap Market, was less than the exercise price of all the options Compensation Committee Interlock and Insider Participation None of Ortec's executive officers serves as a member of the compensation committee or on the board of directors of another entity, one of whose executive officers serves on Ortec's Board of Directors. The Compensation Committee of our Board of Directors determines compensation policies applicable to our five executive officers. Messrs. Steven Katz, Mark Eisenberg and Steven Lilien are the members of the Compensation Committee. Mr. Katz is an executive officer of Ortec. Although Dr. Mark Eisenberg is not an executive officer of Ortec, he is employed by Ortec on a part time basis devoting his time to research in our facility in Australia. The compensation paid to Dr. Eisenberg is determined by an agreement between Dr. Eisenberg and Ortec entered into on June 7, 1991 and amended on September 1, 1992. 26 Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth certain information regarding beneficial ownership of our common stock as of February 28, 2001 by (i) each person (or group of affiliated persons) who we know owns beneficially more than 5% of the outstanding shares of our common stock, (ii) each of our executive officers and directors, and (iii) all of our executive officers and directors as a group. Except as indicated in the footnotes to this table, the persons named in this table have sole voting and investment power with respect to all shares of common stock shown as beneficially owned by them.
Amount and Percentage of Name and Address Nature of Outstanding of Beneficial Owner Beneficial Ownership Shares Owned** - ------------------- -------------------- -------------- Steven Katz* 693,690(1) 6.8% Mark Eisenberg* 596,000 6.1% Ron Lipstein* 761,599(2) 7.5% Alain Klapholz* 456,406(3) 4.6% Costa Papastephanou* 0 William D. Schaeffer* 21,688(4) *** Joseph Stechler 817,666(5) 8.4% 15 Engle Street Englewood, NJ 07631 Steven Lilien 20,900(6) *** 19 Larchmont Street Ardsley, NY 10502 George Soros 1,153,900(7) 11.9% 888 Seventh Avenue, 33rd Floor New York, NY 10106 Franklin Resources, Inc. 666,666(8)(9) 6.9% 77 Mariners Island Boulevard San Mateo, CA 94404 Pequot Capital Management, Inc. 2,150,807(8)(9) 22.0% 5000 Nyala Farm Road Westport, CT 06880 All officers and directors as 3,367,949(1-6) 30.6% a group (eight persons)
- ---------- * The address of these persons is at the Company's offices, 3960 Broadway, New York, NY 10032. 27 ** The number of shares of common stock beneficially owned by each person or entity is determined under rules promulgated by the Securities and Exchange Commission. Under such rules, beneficial ownership includes any shares as to which the person or entity has sole or shared voting power or investment power. Included among the shares owned by such person are any shares which such person or entity has the right to acquire within 60 days after February 28, 2001. Unless otherwise indicated, each person or entity referred to above has sole voting and investment power with respect to the shares listed. The inclusion herein of any shares deemed beneficially owned does not constitute an admission of beneficial ownership of such shares. *** Less than 1%, based upon information available to us. (1) Does not include shares owned by Dr. Katz's children, their spouses and his grandchildren. Dr. Katz disclaims any beneficial interest in such shares. Includes 525,028 shares issuable to Dr. Katz upon his exercise of outstanding options and warrants. (2) Includes 33,600 shares owned by Mr. Lipstein's minor children. Mr. Lipstein disclaims any beneficial interest in such 33,600 shares. Also includes 503,128 shares issuable to Mr. Lipstein and 15,000 to his minor children upon his and their exercise of outstanding options and warrants. (3) Includes 31,500 shares owned by Mr. Klapholz' minor children. Mr. Klapholz disclaims any beneficial interest in such 31,500 shares. Also includes 162,300 shares issuable to Mr. Klapholz upon his exercise of outstanding options. (4) Includes 19,688 shares issuable to Mr. Schaeffer upon his exercise of outstanding options. (5) Includes shares owned by Stechler & Company and 30,000 shares owned by a charitable foundation of which Mr. Stechler and another member of his family are the trustees. Also includes 75,500 shares issuable to Mr. Stechler upon his exercise of outstanding options or warrants. (6) Includes 20,500 shares underlying options granted under the Company's Stock Option Plan. (7) As reported by Mr. Soros on a Form 4 filed by him with the Securities and Exchange Commission which recites that this number includes 722,238 shares held for the account of Quasar International Partners C.V. ("Quasar") and 431,572 shares held for the account of Lupa Family Partners ("Lupa"). Soros Fund Management LLC serves as principal investment manager of Quasar (a Netherlands Antilles limited partnership) and, as such, and Mr. George Soros as Chairman of Soros Fund Management LLC, may be deemed to have investment discretion over and the power to direct the voting and disposition of the shares held for the account of Quasar. Lupa is a New York 28 limited partnership. In his capacity as a general partner of Lupa, Mr. Soros may be deemed to have voting and dispositive power with respect to shares held for the account of Lupa. (8) As reported on Forms 13G filed by such persons with the Securities and Exchange Commission. (9) Shares held by investment funds. These have sole or shared investment and/or voting power for these shares. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Consulting Agreement See "Eisenberg Consulting Agreement" for a description of our consulting agreement with Dr. Mark Eisenberg. Change of Control Agreements Our Board of Directors has authorized agreements with our four executive officers in the event of a "change of control" of Ortec. In the agreements with Messrs. Katz, Lipstein and Klapholz "change of control" of Ortec will be defined as a change in the ownership or effective control of Ortec or in the ownership of a substantial portion of Ortec's assets, but in any event if Messrs. Katz, Lipstein and Klapholz and Dr. Mark Eisenberg no longer constitute a majority of our Board of Directors. The payments to be made to such three executive officers in the event of a change of control range from 2 to 2.99 times the compensation paid by us to such executive in the twelve-month period prior to the change of control. The change of control agreements with Messrs. Katz, Lipstein and Klapholz will provide that in the event that such change of control occurs, the expiration dates of all options and warrants which have been granted to such executive officers and which expire less than three years after such change of control, will be extended so that such options and warrants expire three years after such change of control, and that at Messrs. Katz, Lipstein or Klapholz' election, we will lend such executive officer upon his exercise of any of his warrants or options, interest free and repayable after three years, the funds needed by such executive officer to pay the exercise price. We believe that such payments to most, if not all, of these three executive officers will, if they are made, constitute "golden parachute" payments under the Internal Revenue Code and to the extent the change of control payments made to an individual executive officer exceeds the average annual compensation paid by us to such executive officer in the five year period prior to such change of control (a) such excess will not be able to be deducted by us in calculating our income for income tax purposes and (b) a special excise tax equal to 20% of such excess will have to be paid by the executive officer receiving such excess payments. The 29 change of control agreements will provide that we will pay such excise tax payable by such executive officer. The change of control agreement with Mr. Schaeffer will provide that all his options will vest immediately upon a change of control of Ortec. The agreement with Mr. Schaeffer will define "change of control" as a merger or consolidation of Ortec with another company or the sale by us of all or substantially all of our assets. FORWARD LOOKING STATEMENTS This Annual Report includes statements that are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding our expectations, hopes, beliefs, intentions or strategies regarding the future, that are based on the beliefs of our management, as well as assumptions made by and information currently available to us. When used in this document, the words "anticipate," "believe," "estimate," and "expect" and similar expressions, as they relate to us are intended to identify such forward-looking statements. Such statements reflect the current views of our management with respect to future events and are subject to certain risks, uncertainties and assumptions, including those described in this annual report. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated or expected. We do not intend to update these forward-looking statements. AVAILABILITY OF FORM 10-K We will provide a copy of our annual report on Form 10-K for the year ended December 31, 2000, filed with the Securities and Exchange Commission, including our financial statements and the financial statement schedules, to any of our stockholders and to any person holding our warrants or options to purchase shares of our common stock, upon written request and without charge. Such written request should be directed to Mr. Ron Lipstein, Secretary, at Ortec International, Inc., 3960 Broadway, New York, NY 10032. 30 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) Financial Statements and Financial Statement Schedules. (i) Financial Statements: See Index to Financial Statements. (ii) Financial Statement Schedules All financial statement schedules have been omitted since either (i) the schedule or condition requiring a schedule is not applicable or (ii) the information required by such schedule is contained in the Financial Statements and Notes thereto or in Management's Discussion and Analysis of Financial Condition and Results of Operation. (b) Reports on Form 8-K. We filed one report on Form 8-K in the fourth quarter of 2000. (c) Exhibits. Exhibit No. Description 3.1 Agreement of Merger of the Skin Group, Ltd. and the Company dated July 9, 1992 (1) 3.2 Original Certificate of Incorporation (1) 3.3 By-Laws (1) 4.1 Form of Certificate evidencing shares of Common Stock (1) 10.1 Agreement for Consulting Services dated as of June 7, 1991 by and between the Company and Dr. Mark Eisenberg (1) 23 Consent of Grant Thornton LLP (2) - ---------- (1) Filed as an Exhibit to the Company's Registration Statement on Form SB-2 (File No. 33-96090), or Amendment 1 thereto, and incorporated herein by reference. (2) Filed herewith. 31 SIGNATURES In accordance with Section 13 or 15(d) of the Exchange Act, the registrant has caused this report to be signed on its behalf by the undersigned, thereto duly authorized. Registrant: ORTEC INTERNATIONAL, INC. By: /s/ Steven Katz ------------------- Steven Katz, Ph.D. Chairman and Chief Executive Officer Dated: March 26, 2001 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 Title Date - --------- ----- ---- /s/ Steven Katz Chairman, Chief Executive March 26, 2001 - ------------------------ Officer and Director Steven Katz, Ph.D. (Principal Executive Officer) Senior Vice President, - ------------------------ Research and Development and Dr. Mark Eisenberg Director /s/ Ron Lipstein Vice Chairman, Chief Financial March 26, 2001 - ------------------------ Officer, Secretary, Ron Lipstein Treasurer and Director (Principal Financial and Accounting Officer) /s/ Alain M. Klapholz Vice President, Operations March 27, 2001 - ------------------------ and Director Alain M. Klapholz Director - ------------------------ Joseph Stechler /s/ Steven Lilien Director March 27, 2001 - ------------------------ Steven Lilien 32 Ortec International, Inc. (a development stage enterprise) INDEX TO FINANCIAL STATEMENTS
Page ---- Report of Independent Certified Public Accountants F-2 Financial Statements Balance Sheets as of December 31, 2000 and 1999 F-3 Statements of Operations for the years ended December 31, 2000, 1999 and 1998, and for the cumulative period from March 12, 1991 (inception) to December 31, 2000 F-5 Statement of Shareholders' Equity for the cumulative period from March 12, 1991 (inception) to December 31, 2000 F-6 Statements of Cash Flows for the years ended December 31, 2000, 1999 and 1998, and for the cumulative period from March 12, 1991 (inception) to December 31, 2000 F-10 Notes to Financial Statements F-12 - F-36
F-1 REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Board of Directors and Stockholders Ortec International, Inc. We have audited the accompanying balance sheets of Ortec International, Inc. (a development stage enterprise) (the "Company") as of December 31, 2000 and 1999, and the related statements of operations, shareholders' equity and cash flows for each of the three years in the period ended December 31, 2000, and for the period from March 12, 1991 (inception) to December 31, 2000. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Ortec International, Inc. at December 31, 2000 and 1999, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2000, and for the period from March 12, 1991 (inception) to December 31, 2000, in conformity with accounting principles generally accepted in the United States of America. GRANT THORNTON LLP New York, New York February 21, 2001 F-2 Ortec International, Inc. (a development stage enterprise) BALANCE SHEETS December 31,
ASSETS 2000 1999 ------------ ------------ CURRENT ASSETS Cash and cash equivalents $ 9,292,478 $ 12,604,027 Other current assets 88,878 1,701 ------------ ------------ Total current assets 9,381,356 12,605,728 PROPERTY AND EQUIPMENT, AT COST Laboratory equipment 1,768,872 1,345,367 Office furniture and equipment 857,031 778,364 Leasehold improvements 1,333,144 1,283,686 ------------ ------------ 3,959,047 3,407,417 Less accumulated depreciation and amortization (2,223,064) (1,566,002) ------------ ------------ 1,735,983 1,841,415 OTHER ASSETS Patent application costs, net of accumulated amortization of $159,460 in 2000 and $107,594 in 1999 572,089 533,592 Deposits and other assets 30,332 30,910 ------------ ------------ $ 11,719,760 $ 15,011,645 ============ ============
F-3 Ortec International, Inc. (a development stage enterprise) BALANCE SHEETS (continued) December 31,
LIABILITIES AND SHAREHOLDERS' EQUITY 2000 1999 ------------ ------------ CURRENT LIABILITIES Accounts payable and accrued expenses $ 872,760 $ 886,388 Accrued compensation 226,208 232,781 Accrued professional fees 176,528 341,716 Accrued interest 7,081 7,935 Capital lease obligation - current 5,151 Loan payable - current 132,369 122,097 ------------ ------------ Total current liabilities 1,414,946 1,596,068 LONG-TERM LIABILITIES Loan payable - noncurrent 912,489 1,044,857 COMMITMENTS AND CONTINGENCIES SHAREHOLDERS' EQUITY Common stock, $.001 par value; authorized, 25,000,000 shares; 9,711,608 shares issued, 9,691,608 shares outstanding, at December 31, 2000 and 8,221,843 shares issued, 8,206,143 shares outstanding at December 31, 1999 9,712 8,222 Additional paid-in capital 52,829,535 43,644,902 Deficit accumulated during the development stage (43,269,277) (31,139,614) Treasury stock, at cost (20,000 shares at December 31, 2000 and 15,700 shares at December 31, 1999) (177,645) (142,790) ------------ ------------ 9,392,325 12,370,720 ------------ ------------ $ 11,719,760 $ 15,011,645 ============ ============
The accompanying notes are an integral part of these statements. F-4 Ortec International, Inc. (a development stage enterprise) STATEMENTS OF OPERATIONS
Cumulative from March 12, 1991 Year ended December 31, (inception) to ------------------------------------------------------ December 31, 2000 1999 1998 2000 ------------ ------------ ------------ ------------ Revenue Interest income $ 586,623 $ 368,711 $ 572,549 $ 2,057,700 ------------ ------------ ------------ ------------ Expenses Research and development 4,191,317 3,106,908 1,933,877 13,765,354 Rent 535,443 473,010 252,397 1,590,297 Consulting 838,383 834,180 908,495 3,813,362 Personnel 4,763,662 3,742,632 4,060,629 16,343,730 General and administrative 2,297,769 2,152,968 1,725,201 9,330,798 Interest and other expense 89,712 99,522 104,605 483,436 ------------ ------------ ------------ ------------ 12,716,286 10,409,220 8,985,204 45,326,977 ------------ ------------ ------------ ------------ Net loss $(12,129,663) $(10,040,509) $ (8,412,655) $(43,269,277) ============ ============ ============ ============ Net loss per share Basic and diluted $ (1.37) $ (1.51) $ (1.43) $ (10.41) ============ ============ ============ ============ Weighted average shares outstanding Basic and diluted 8,847,295 6,634,874 5,878,971 4,157,780 ============ ============ ============ ============
The accompanying notes are an integral part of these statements. F-5 Ortec International, Inc. (a development stage enterprise) STATEMENT OF SHAREHOLDERS' EQUITY
Deficit accumulated Common stock Additional during the ------------------------- paid-in development Shares Amount capital stage ----------- ----------- ----------- ----------- March 12, 1991 (inception) to December 31, 1991 Issuance of stock Founders 1,553,820 $ 1,554 $ (684) First private placement ($.30 cash per share) 217,440 217 64,783 The Director ($1.15 and $5.30 cash per share) 149,020 149 249,851 Second private placement ($9.425 cash per share) 53,020 53 499,947 Share issuance expenses (21,118) Net loss $ (281,644) ----------- ----------- ----------- ----------- Balance at December 31, 1991 1,973,300 1,973 792,779 (281,644) Issuance of stock Second private placement ($9.425 cash per share) 49,320 49 465,424 Stock purchase agreement with the Director ($9.425 cash per share) 31,820 32 299,966 Share issuance expenses (35,477) Net loss (785,941) ----------- ----------- ----------- ----------- Balance at December 31, 1992 2,054,440 2,054 1,522,692 (1,067,585) Issuance of stock Third private placement ($10.00 cash per share) 132,150 132 1,321,368 Stock purchase agreement with Home Insurance Company ($9.00 cash per share) 111,111 111 999,888 Stock purchase agreement with the Director ($9.425 cash per share) 21,220 21 199,979 Shares issued in exchange for commission ($10.00 value per share) 600 1 5,999 Share issuance expenses (230,207) Net loss (1,445,624) ----------- ----------- ----------- ----------- Balance at December 31, 1993 (carried forward) 2,319,521 2,319 3,819,719 (2,513,209) Total Treasury shareholders' stock equity ----------- ----------- March 12, 1991 (inception) to December 31, 1991 Issuance of stock Founders $ 870 First private placement ($.30 cash per share) 65,000 The Director ($1.15 and $5.30 cash per share) 250,000 Second private placement ($9.425 cash per share) 500,000 Share issuance expenses (21,118) Net loss (281,644) ----------- Balance at December 31, 1991 513,108 Issuance of stock Second private placement ($9.425 cash per share) 465,473 Stock purchase agreement with the Director ($9.425 cash per share) 299,998 Share issuance expenses (35,477) Net loss (785,941) ----------- Balance at December 31, 1992 457,161 Issuance of stock Third private placement ($10.00 cash per share) 1,321,500 Stock purchase agreement with Home Insurance Company ($9.00 cash per share) 999,999 Stock purchase agreement with the Director ($9.425 cash per share) 200,000 Shares issued in exchange for commission ($10.00 value per share) 6,000 Share issuance expenses (230,207) Net loss (1,445,624) ----------- Balance at December 31, 1993 (carried forward) 1,308,829
F-6 Ortec International, Inc. (a development stage enterprise) STATEMENT OF SHAREHOLDERS' EQUITY (continued)
Deficit accumulated Common stock Additional during the ------------------------- paid-in development Shares Amount capital stage ----------- ----------- ----------- ----------- (brought forward) 2,319,521 $2,319 $ 3,819,719 $ (2,513,209) Issuance of stock Fourth private placement ($10.00 cash per share) 39,451 40 397,672 Stock purchase agreement with Home Insurance Company ($10.00 cash per share) 50,000 50 499,950 Share issuance expenses (8,697) Net loss (1,675,087) ----------- ----------- ----------- ----------- Balance at December 31, 1994 2,408,972 2,409 4,708,644 (4,188,296) Rent forgiveness 40,740 Net loss (1,022,723) ----------- ----------- ----------- ----------- Balance at December 31, 1995 2,408,972 2,409 4,749,384 (5,211,019) Initial public offering 1,200,000 1,200 5,998,800 Exercise of warrants 33,885 34 33,851 Fifth private placement ($6.49 cash per share) 959,106 959 6,219,838 Share issuance costs (1,580,690) Stock options issued for services 152,000 Net loss (2,649,768) ----------- ----------- ----------- ----------- Balance at December 31, 1996 (carried forward) 4,601,963 4,602 15,573,183 (7,860,787) Total Treasury shareholders' stock equity ----------- ----------- (brought forward) $ 1,308,829 Issuance of stock Fourth private placement ($10.00 cash per share) 397,712 Stock purchase agreement with Home Insurance Company ($10.00 cash per share) 500,000 Share issuance expenses (8,697) Net loss (1,675,087) ----------- Balance at December 31, 1994 522,757 Rent forgiveness 40,740 Net loss (1,022,723) ----------- Balance at December 31, 1995 (459,226) Initial public offering 6,000,000 Exercise of warrants 33,885 Fifth private placement ($6.49 cash per share) 6,220,797 Share issuance costs (1,580,690) Stock options issued for services 152,000 Net loss (2,649,768) ----------- Balance at December 31, 1996 (carried forward) 7,716,998
F-7 Ortec International, Inc. (a development stage enterprise) STATEMENT OF SHAREHOLDERS' EQUITY (continued)
Deficit accumulated Common stock Additional during the ------------------------- paid-in development Shares Amount capital stage ----------- ----------- ----------- ----------- (brought forward) 4,601,963 $ 4,602 $15,573,183 $ (7,860,787) Exercise of warrants 1,158,771 1,159 10,821,632 Share issuance costs (657,508) Stock options and warrants issued for services 660,000 Net loss (4,825,663) ----------- ----------- ----------- ----------- Balance at December 31, 1997 5,760,734 5,761 26,397,307 (12,686,450) Exercise of warrants 221,486 221 1,281,736 Stock options and warrants issued for services 1,920,111 Sixth private placement 200,000 200 1,788,498 Warrants issued in Sixth private placement 211,302 Share issuance costs (48,000) Purchase of 6,600 shares of treasury stock (at cost) Net loss (8,412,655) ----------- ----------- ----------- ----------- Balance at December 31, 1998 6,182,220 6,182 31,550,954 (21,099,105) Exercise of warrants 14,103 14 14,089 Stock options and warrants issued for services 64,715 Seventh private placement ($8.75 cash per share) 389,156 389 3,168,396 Warrants issued in Seventh private placement 468,291 Eighth private placement ($5.50 cash per share) 1,636,364 1,637 8,998,365 Share issuance costs (619,908) Purchase of 9,100 shares of treasury stock (at cost) Net loss (10,040,509) ----------- ----------- ----------- ----------- Balance at December 31, 1999 (carried forward) 8,221,843 8,222 43,644,902 (31,139,614) Total Treasury shareholders' stock equity ----------- ----------- (brought forward) $ 7,716,998 Exercise of warrants 10,822,791 Share issuance costs (657,508) Stock options and warrants issued for services 660,000 Net loss (4,825,663) ------------- Balance at December 31, 1997 13,716,618 Exercise of warrants 1,281,957 Stock options and warrants issued for services 1,920,111 Sixth private placement 1,788,698 Warrants issued in Sixth private placement 211,302 Share issuance costs (48,000) Purchase of 6,600 shares of treasury stock (at cost) $ (67,272) (67,272) Net loss (8,412,655) --------- ------------- Balance at December 31, 1998 (67,272) 10,390,759 Exercise of warrants 14,103 Stock options and warrants issued for services 64,715 Seventh private placement ($8.75 cash per share) 3,168,785 Warrants issued in Seventh private placement 468,291 Eighth private placement ($5.50 cash per share) 9,000,002 Share issuance costs (619,908) Purchase of 9,100 shares of treasury stock (at cost) (75,518) (75,518) Net loss (10,040,509) --------- ------------- Balance at December 31, 1999 (carried forward) (142,790) 12,370,720
F-8 Ortec International, Inc. (a development stage enterprise) STATEMENT OF SHAREHOLDERS' EQUITY (continued)
Deficit accumulated Common stock Additional during the ------------------------- paid-in development Shares Amount capital stage ----------- ----------- ----------- ----------- (brought forward) 8,221,843 $ 8,222 $43,644,902 (31,139,614) Exercise of options and warrants 175,532 175 327,107 Stock options and warrants issued for services 56,265 Ninth private placement ($15.00 cash per share) 66,667 67 999,938 Warrants issued in Ninth private placement 23,000 Tenth private placement ($6.75 cash per share) 1,247,566 1,248 8,419,823 Share issuance costs (641,500) Purchase of 4,300 shares of treasury stock (at cost) Net loss (12,129,663) ----------- ----------- ----------- ----------- Balance at December 31, 2000 9,711,608 $9,712 $52,829,535 (43,269,277) =========== =========== =========== =========== Total Treasury shareholders' stock equity ----------- ----------- (brought forward) $ (142,790) $12,370,720 Exercise of options and warrants 327,282 Stock options and warrants issued for services 56,265 Ninth private placement ($15.00 cash per share) 1,000,005 Warrants issued in Ninth private placement 23,000 Tenth private placement ($6.75 cash per share) 8,421,071 Share issuance costs (641,500) Purchase of 4,300 shares of treasury stock (at cost) (34,855) (34,855) Net loss (12,129,663) ----------- ----------- Balance at December 31, 2000 $ (177,645) $ 9,392,325 =========== ===========
The accompanying notes are an integral part of this statement. F-9 Ortec International, Inc. (a development stage enterprise) STATEMENTS OF CASH FLOWS
Cumulative from March 12, 1991 Year ended December 31, (inception) to ------------------------------------------------ December 31, 2000 1999 1998 2000 ------------ ------------ ------------ ------------ Cash flows from operating activities Net loss $(12,129,663) $(10,040,509) $ (8,412,655) $(43,269,277) Adjustments to reconcile net loss to net cash used in operating activities Depreciation and amortization 708,928 597,528 438,778 2,392,761 Unrealized loss on marketable securities 11,404 Realized loss on marketable securities 5,250 Non-cash stock compensation and interest 56,265 64,715 1,920,111 2,853,091 Purchases of marketable securities (6,298) (17,540,589) (19,075,122) Sales of marketable securities 771,956 18,358,964 19,130,920 (Increase) decrease in assets Prepaid expenses 588 (588) Other current assets (87,177) (625) 6,001 (88,876) Increase (decrease) in liabilities Accounts payable and accrued liabilities (186,243) 762,650 253,727 1,370,404 ------------ ------------ ------------ ------------ Net cash used in operating activities (11,637,890) (7,849,995) (4,976,251) (36,669,445) ------------ ------------ ------------ ------------ Cash flows from investing activities Purchases of property and equipment, excluding capital leases (551,630) (705,277) (1,099,666) (3,871,981) Payments for patent applications (90,363) (124,917) (79,056) (731,549) Organization costs (10,238) Deposits 578 787 22,517 (28,349) Purchases of marketable securities (594,986) Sale of marketable securities 522,532 ------------ ------------ ------------ ------------ Net cash used in investing activities (641,415) (829,407) (1,156,205) (4,714,571) ------------ ------------ ------------ ------------
F-10 Ortec International, Inc. (a development stage enterprise) STATEMENTS OF CASH FLOWS (continued)
Cumulative from March 12, 1991 Year ended December 31, (inception) to ------------------------------------------------ December 31, 2000 1999 1998 2000 ------------ ------------ ------------ ------------ Cash flows from financing activities Proceeds from issuance of notes payable $ 515,500 Proceeds from issuance of common stock $ 9,748,358 $ 12,419,181 $ 5,700,393 53,527,522 Share issuance expenses (618,500) (387,908) (48,000) (3,582,105) Purchase of treasury stock (34,855) (75,518) (67,272) (177,645) Proceeds from issuance of loans payable 20,379 600,000 1,446,229 Repayment of capital lease obligations (5,151) (30,706) (41,853) (107,204) Repayment of loan payable (122,096) (111,678) (93,390) (430,303) Repayment of notes payable (515,500) ------------ ------------ ------------ ------------ Net cash provided by financing activities 8,967,756 11,833,750 6,049,878 50,676,494 ------------ ------------ ------------ ------------ NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (3,311,549) 3,154,348 (82,578) 9,292,478 Cash and cash equivalents at beginning of period 12,604,027 9,449,679 9,532,257 -- ------------ ------------ ------------ ------------ Cash and cash equivalents at end of period $ 9,292,478 $ 12,604,027 $ 9,449,679 $ 9,292,478 ============ ============ ============ ============ Supplemental disclosures of cash flow information: Noncash financing activities Capital lease obligations $ -- $ -- $ -- $ 118,903 Deferred offering costs included in accrued professional fees -- -- -- 314,697 Forgiveness of rent payable -- -- -- 40,740 Share issuance expenses - warrants 23,000 232,000 -- 255,000 Cash paid for interest 90,565 100,418 153,677 407,336 Cash paid for income taxes 41,286 53,671 38,442 155,048
The accompanying notes are an integral part of these statements. F-11 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS December 31, 2000 and 1999 NOTE A - FORMATION OF THE COMPANY AND BASIS OF PRESENTATION Formation of the Company Ortec International, Inc. ("Ortec" or the "Company") was incorporated in March 1991 as a Delaware corporation to secure and provide funds for the further development of the technology developed by Dr. Mark Eisenberg of Sydney, Australia, to replicate in the laboratory, composite cultured skin for use in skin transplant procedures (the "Technology"). Pursuant to a license agreement dated June 7, 1991, Dr. Eisenberg had granted Ortec a license for a term of ten years, with automatic renewals by Ortec for two additional ten-year periods, to commercially use and exploit the Technology for the development of products. In April 1998, Dr. Eisenberg assigned his patent for the Technology to Ortec for no consideration. The Skin Group, Ltd. (the "Skin Group") also was formed as a Delaware corporation, in March 1991, to raise funds for development of the Technology. On July 27, 1992, the Skin Group was merged with and into Ortec. Owners of Skin Group shares were given .83672 of an Ortec share for each Skin Group share. The merger was accounted for as if it were a pooling of interests and, accordingly, the accompanying financial statements include the accounts of the Skin Group for all periods presented. Basis of Presentation The Company is a development stage enterprise, and has neither realized any operating revenue nor has any assurance of realizing any future operating revenue. Successful future operations depend upon the successful development and marketing of the Composite Cultured Skin. Initial Public Offering On January 19, 1996, the Company completed an initial public offering ("IPO") of 1,200,000 units. Each unit consisted of one share of the Company's common stock, one Class A warrant to purchase one share of common stock at $10, of which 1,083,780 were exercised and the balance was not exercised and has expired as of December 31, 1998, and one Class B warrant to purchase one share of common stock at $15, of which 11,400 were exercised and the balance was not exercised and has expired as of December 31, 2000. F-12 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE A (continued) The IPO raised gross proceeds of approximately $6,000,000, of which $800,000, $537,500 and approximately $315,000 were used to pay underwriting commissions, notes payable and deferred offering costs, respectively, thereby providing the Company with net proceeds of approximately $4,347,500. NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES 1. Research and Development Costs The Company is in the business of research and development and therefore, all research and development costs, including payments related to products under development and research consulting agreements and personnel costs, are expensed when incurred. 2. Depreciation and Amortization Property and equipment are carried at cost, less any grants received for construction. In 1996, the Company received a $400,000 grant toward the construction of its new laboratory and office facilities and it received an additional grant of $130,000 in 1998. (see Note I). Office furniture and equipment and laboratory equipment are depreciated on the straight-line basis over the estimated lives of the assets (5 years). Leasehold improvements are amortized over the shorter of the term of the related lease or life of the asset. 3. Patent Application Costs Patent application costs relate to the Company's U.S. patent application and application fees in foreign jurisdictions and consist of legal fees and other direct fees. The recoverability of the patent application costs is dependent upon, among other matters, obtaining FDA approval for use on the underlying technology as a medical device. F-13 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE B (continued) 4. Foreign Currency Translation The Company conducts some of its research and development at its laboratory in Sydney, Australia. However, because all Australian expenditures are funded from the United States, the Company has determined that the functional currency of its Australian office is the U.S. dollar. Accordingly, current assets and current liabilities are remeasured into the functional currency using current exchange rates and non-current assets and liabilities are remeasured using historical exchange rates. Expense accounts are remeasured using the average rate in effect for the year. Gains and losses arising from the remeasurement of foreign currency are included in the results of operations for all periods presented. 5. Use of Estimates In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. 6. Income Taxes 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 respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the years in which those temporary differences are expected to be recovered 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. 7. Cash and Cash Equivalents For purposes of the statement of cash flows, the Company considers all highly liquid debt instruments purchased with original maturities of three months or less to be cash equivalents. Cash equivalents consist principally of money market funds. The fair value of cash and cash equivalents approximates the recorded amount because of the short-term maturity of such instruments. Cash and cash equivalents includes approximately $25,000 and $9,900, at December 31, 2000 and 1999, respectively of bank balances denominated in Australian dollars. F-14 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE B (continued) 8. Net Loss Per Share Net loss per common share is based on the weighted-average number of common shares outstanding during the periods. Basic net loss per share is computed by dividing the net loss by the weighted-average common shares outstanding for the period. Diluted net loss per share reflects the weighted-average common shares outstanding plus the potential dilutive effect of securities or contracts which are convertible to common shares, such as options, warrants, and convertible preferred stock. Options and warrants to purchase shares of common stock were not included in the computation of diluted net loss per share in each of the years presented because to do so would have been antidilutive for the periods presented. (See Notes G and H.) The amount of options and warrants excluded are as follows:
Years ended December 31, ------------------------ 2000 1999 1998 --------- --------- ------- Warrants 609,773 764,091 678,609 ========= ========= ======= Stock options 1,524,106 1,122,500 944,500 ========= ========= =======
9. Impairment of Long-Lived Assets The Company reviews long-lived assets, which consist of fixed assets and patent application costs, for possible impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The Company has determined that no provision is necessary for the impairment of long-lived assets at December 31, 2000. 10. New Accounting Pronouncements In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 ("SFAS No. 133"), "Accounting for Derivative Instruments and Hedging Activities", which establishes accounting and reporting standards for derivative instruments and for hedging activities. SFAS No. 133, as amended by SFAS No. 138, is effective for all fiscal quarters of fiscal years beginning after June 15, 2000. The Company does not anticipate that the adoption of the statement will have a material impact on its financial statements. F-15 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE C - CONCENTRATION OF CREDIT RISK The Company maintains cash and cash equivalent balances at four financial institutions located in New York City. The accounts are insured by the Securities Investors Protection Corporation up to $500,000 and the FDIC up to $100,000. Uninsured balances aggregate to approximately $8,681,000 and $11,458,000 at December 31, 2000 and 1999, respectively. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk. NOTE D - PATENTS Patent application costs are stated at cost less amortization computed by the straight-line method principally over 14 years. The Company's U.S. patent was issued in 1994 and expires in 2011. There can be no assurance that any patent will provide commercial benefits to the Company. NOTE E - CAPITAL LEASE OBLIGATION The Company had entered into several capital lease agreements with terms of two to three years at effective interest rates ranging from 12.22% to 15.48%. The agreements ended during the year ended December 31, 2000. As of December 31, 2000 and 1999, the Company has recorded $118,903 in equipment purchased under capital leases and $118,903 and $113,856 in accumulated amortization, respectively. F-16 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE F - LOAN PAYABLE During 1996, the Company obtained a loan from the landlord of its new laboratory for the construction of, and equipment for, the leased facility. During 1997, the Company modified the terms of the loan as a result of increased build-out costs incurred in the construction of the facility. An adjustment has been made in 1997 to record additional interest and principal. The adjusted loan payments are due in monthly installments of $10,103, including interest at an effective rate of 7.98%, through July 2006. During 1998, the Company obtained an additional loan from the landlord for improvements to the leased facility. During 1999, the Company modified the terms of the additional loan as a result of increased build-out costs incurred. The adjusted loan payments are due in monthly installments of $7,605, including interest at an effective rate of 8.6%, through March 2008. Minimum payments to be made under the terms of the loans are as follows:
Year ending December 31, 2001 $ 212,503 2002 212,503 2003 212,503 2004 212,503 2005 212,503 2006 and thereafter 283,676 ---------- 1,346,191 Less amount representing interest 301,333 ---------- Net present value of future loan payments $1,044,858 ========== Current portion $ 132,369 Noncurrent portion 912,489 ---------- $1,044,858 ==========
F-17 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G - EQUITY TRANSACTIONS Each share of the Company's common stock is entitled to one vote. In January 1993, Ortec effected a stock split and granted twenty new shares of common stock of $.001 par value for each outstanding share of common stock. This stock split is retroactively reflected in the accompanying financial statements and all references to shares are to the new shares with per share amounts appropriately adjusted. Pursuant to an agreement between Dr. Eisenberg and the other founders (the "Other Founders"), a business relationship was formed by the founders for the manufacture and sale of products derived from the Technology (the "Business Agreement"). Under the terms of the Business Agreement, Dr. Eisenberg, who was the owner of all the capital stock of Ortec (600,000 shares) agreed to license the Technology to Ortec and sell 70% of Ortec's shares for a purchase price of $1,000,000 to the Skin Group. Dr. Eisenberg was paid $85,000 in connection with this agreement as reimbursement for his expenses ($35,000 during the period from inception (March 12, 1991) to December 31, 1991 and $50,000 during the year ended December 31, 1992). The "Other Founders" initially owned all of the stock of the Skin Group (953,820 shares). In March 1991, the Skin Group issued, in a private placement, 217,440 shares for $65,000. In June and October 1991, the Skin Group issued 130,160 and 18,860 shares, to a director of the Company (the "Director") for $150,000 and $100,000, respectively. Commencing in November 1991, the Skin Group issued 79,480 shares under a second private placement for $750,006 (including 26,460 shares during the year ended December 31, 1992). On July 27, 1992, the Skin Group was merged with and into Ortec. Also under the second private placement 22,860 shares of Ortec were issued for $215,467. In addition, the Director was granted warrants to purchase 7,360 shares of Ortec at $9.425 per share. Pursuant to a stock purchase agreement entered into with the Director in June 1992, 53,040 shares of Ortec were sold to the Director for a total purchase price of $499,998. In addition, the Director was granted warrants to purchase 79,570 shares at an exercise price of $9.425 per share, such warrants were exercised on December 29, 1998. The purchase price was payable in installments and shares and warrants were issued in installments pro rata with the payment of the purchase price. During the years ended December 31, 1993 and 1992, the Director paid $200,000 and $299,998, respectively, and was issued 21,220 and 31,820 shares, respectively. F-18 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued) Further, in connection with the Director's purchase of the 53,040 shares, in 1993, the Other Founders granted to the Director options to purchase from them an aggregate of 74,000 Ortec shares, at a price of $5 per share. In 1993, the Director exercised such option in part, and purchased 49,000 shares from the Other Founders at the option price of $5 per share. The remaining balance of such options expired April 15, 1994. Pursuant to a third private placement that commenced in January 13, 1993, and concluded on March 31, 1993, Ortec sold an aggregate of 109,650 shares at $10 per share ($1,096,500). Subsequent to such offering, in 1993, the Company sold an additional 22,500 shares at $10 per share ($225,000). In connection with such purchases, all purchasers received certain registration rights. Pursuant to a Stock Purchase Agreement dated July 19, 1993, by and between Ortec and the Home Insurance Company ("Home Insurance"), the Company sold to Home Insurance 111,111 shares of common stock for an aggregate purchase price of $999,999, or $9 per share. In connection with such purchase, Home Insurance received certain registration rights. In addition, in 1993, the Company issued 600 shares to an individual as compensation for commissions in connection with the sale of the Company's shares. Such commissions are included in share issuance expenses. The stock issued was valued at $10 per share. In August 1993, the Director entered into a stock option agreement with Dr. Eisenberg and the Other Founders, pursuant to which he received the right to purchase an aggregate of 100,000 shares owned by such persons in various amounts and at various times, at a purchase price of $10 per share. As of December 31, 1993, the Director had exercised options and purchased 5,000 shares under such agreement at $10 per share. The remaining balance of such options has expired. Pursuant to a fourth private placement consummated in July 1994, Ortec sold an aggregate of 39,451 shares at between $10 and $10.25 per share for aggregate proceeds of $397,712. Pursuant to a Stock Purchase Agreement dated July 22, 1994, between Ortec and Home Insurance, the Company sold to Home Insurance 50,000 shares of common stock for an aggregate purchase price of $500,000, or $10 per share. In connection with such purchase, Home Insurance received certain registration rights and warrants to purchase 10,000 shares of common stock at $12 per share, which expired on July 21, 1997. F-19 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued) On January 19, 1996, the Company completed an initial public offering ("IPO") of 1,200,000 units for aggregate proceeds of $6,000,000. Each unit consisted of one share of the Company's common stock, one Class A warrant to purchase one share of common stock at $10 and one Class B warrant to purchase one share of common stock at $15. As of December 31, 1998, 1,083,780 Class A warrants were exercised and the balance expired unexercised. The Class B warrants were originally set to expire in January 1999. The Company extended the expiration date to March 31, 2000. The Class B warrants are subject to redemption by the Company at $.01 per warrant. The Company received gross proceeds of approximately $1,282,000 and $10,823,000 and net proceeds of approximately $1,262,000 and $10,165,000 as a result of the exercise of warrants in 1998 and 1997, respectively. In November 1996, the Company completed a private placement of its securities from which it received gross proceeds of $6,220,797 and net proceeds of approximately $5,733,000 (after deducting approximately $487,000 in placement fees and other expenses of such private placement). The Company sold 959,106 shares of common stock in such private placement at average prices of $6.49 per share. In addition, the Company granted five-year warrants to placement agents to purchase such number of shares equal to 10% of the number of shares of common stock sold by such placement agents, exercisable at prices equal to 120% of the prices paid for such shares. Pursuant to the purchasers' request, the Company registered all 959,106 shares. During 1992 and 1993, the Company issued warrants to purchase 6,660 shares at $9.425 per share, and during 1995 the Company issued warrants to purchase 2,000 shares at $10 per share to members of the Scientific Advisory Board of the Company. During 1996 and 1997, the Company issued warrants to purchase 242,101 shares at $6 to $12 per share to the Director and certain others. These warrants expire at various dates through November 2001. F-20 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued) On January 20, 1996, the Company granted "lock-up warrants" entitling shareholders to purchase an aggregate of 389,045 shares of the Company's common stock at a price of $1.00 per share. All unexercised warrants expired on January 18, 2000. At different times during 1996, seven persons exercised such warrants and purchased 33,885 shares of common stock at the $1.00 per share exercise price. The issuance of such lock-up warrants was in consideration for such shareholders signing lock-up agreements agreeing not to sell or transfer shares of the Company's common stock purchased at prices of $9.00 or more per share until January 20, 1997. At different times during the third quarter of 1997, eight persons exercised such warrants and purchased an aggregate of 21,210 shares of common stock at the $1.00 per share exercise price. During 1998, nine persons exercised such warrants and purchased an aggregate of 96,077 shares of common stock at the $1.00 per share exercise price. During 1999, five persons exercised such warrants and purchased an aggregate of 14,103 shares of common stock at the $1.00 per share exercise price. There were no underwriting discounts or commissions given or paid in connection with any of the foregoing warrant exercises. During the third quarter of 1997, the Company granted to one person and its seven designees four-year warrants to purchase an aggregate of 37,500 shares of common stock, at an exercise price of $12.00 per share. Such warrants are not exercisable until July 18, 1998 and were granted in consideration for consulting services rendered to the Company. During the fourth quarter of 1997, the Company granted to one person and its six designees four-year warrants to purchase an aggregate of 37,500 shares of common stock, at an exercise price of $12.00 per share. Such warrants are not exercisable until July 18, 1998 and were granted in consideration for consulting services rendered to the Company. During 1998, warrants for 18,700 shares, mentioned in the two previous paragraphs, were exercised utilizing the cashless exercise option of the warrant agreement. The Company issued 6,204 shares under this exercise. During the third quarter of 1997, the Company granted to one person a one-year warrant to purchase an aggregate of 625 shares of common stock, at an exercise price of $12.00 per share. Such warrants were granted in consideration for consulting services rendered to the Company. The warrant was exercised during 1998. The Company recorded consulting expense of approximately $64,000 as a result of these grants during the year ended December 31, 1998. F-21 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued) During the fourth quarter of 1997, the Company granted five-year warrants to its three executive officers to purchase an aggregate of 240,000 shares of common stock, at an exercise price of $12.00 per share. Such warrants were granted in consideration for services rendered to the Company. The exercise of such warrants is contingent upon the occurrence of certain events, which were considered probable at December 31, 1997. As of December 31, 1998, five of the six events have occurred so that 185,000 of those warrants are now vested. As a result, the Company recorded compensation expense of approximately $80,000 in December 1997 and $1,185,000 for the year ended December 31, 1998. The balance of the warrants became vested upon the exercise of warrants owned by a director in December 1998 in accordance with the terms of certain compensation provisions as approved by the Company's Board of Directors. In consideration for services rendered by him as a director of the Company in the five-year period from 1992 to 1996 for which he never received compensation, the Company extended by one year to December 31, 1998 the expiration date of warrants owned by a director to purchase an aggregate of 86,930 shares, exercisable at $9.425 per share. As a result, the Company recorded compensation expense of approximately $420,000, during the fourth quarter of 1997. All of these warrants were exercised on December 29, 1998. During the fourth quarter of 1998, the Company granted five-year options to its three executive officers to purchase an aggregate of 520,750 shares of common stock, at exercise prices ranging from $12.13 to $12.44 per share. The exercise of such options was contingent upon the occurrence of certain events. All of these options became vested upon the exercise of warrants owned by a director in December 1998 in accordance with the terms of certain compensation provisions as approved by the Company's Board of Directors. As a result, the Company recorded compensation expense of approximately $495,000 in December 1998. In December 1998, the Company completed a private placement of its securities from which it received proceeds of $2,000,000. In addition, the Company granted three-year warrants to the Purchaser to purchase 50,000 shares at $12 per share. The Company sold 200,000 shares of common stock in such private placement. The Company assigned value to the common stock and warrants issued of $1,788,698 and $211,302 based upon the relative fair market value of the stock at the date of issuance and the estimated fair value of the warrants using the Black-Scholes option pricing model. F-22 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued) In March 1999, the Company completed a private placement of 389,156 shares of its common stock to twenty investors from which it received proceeds of approximately $3,405,000. In addition, each investor also received a three-year warrant to purchase 20% of the number of shares of the Company's common stock such investor purchased in such private placement. The prices at which such warrants are exerciseable are $12.50 per share for one half, and $14.50 per share for the other half, of the number of shares issuable upon exercise of such warrants. The Company assigned value to the common stock and warrants issued to the investors of $3,168,785 and $236,291 based upon the relative fair market value of the stock at the date of issuance and the estimated fair market value of the warrants using the Black-Scholes option pricing model. Oscar Gruss & Son, Incorporated ("Gruss") acted as placement agent in such private placement. For its services as placement agent, the Company paid Gruss $272,406 and granted Gruss a five-year warrant to purchase an aggregate of 38,915 shares of the Company's common stock at an exercise price of $10.50 per share. The value assigned to the Gruss warrants was $232,000. Other share issuance costs amounted to $106,002. In December 1999, the Company completed a private placement of 1,636,364 shares of its common stock to two institutional funds from which it received proceeds of approximately $9,000,000. Share issuance costs amounted to approximately $9,500. In March 2000, the Company completed a private placement of 66,667 shares of its common stock to one fund from which it received proceeds of approximately $1,000,000. In addition, the Company paid a placement agent who introduced the Company to the fund a fee of approximately $43,400 and granted such placement agent a five year warrant to purchase 2,667 shares of the Company's common stock at an exercise price of $15.00 per share. The value assigned to the warrant was $23,000, which was reflected as share issuance costs. Other share issuance costs amounted to $3,200. In September 2000, the Company completed a private placement of 1,247,566 shares of its common stock to ten investors from which it received approximately $8,421,000. In addition, the Company paid the placement agent who introduced the Company to the investors a fee of approximately $525,400. Other share issuance costs amounted to approximately $46,500. F-23 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued) The following table summarizes warrant activity during the period from March 12, 1991 (inception) through December 31, 2000 (excluding the Class A and B warrants which were issued during the IPO):
Price range Shares ----------- ------ March 12, 1991 (inception) to December 31, 1991 Granted $ 9.425 7,360 -------- Balance, December 31, 1991 9.425 7,360 Granted 9.425 55,080 -------- Balance, December 31, 1992 9.425 62,440 Granted 9.425 - 12.00 48,230 -------- Balance, December 31, 1993 9.425 - 12.00 110,670 Granted 12.00 10,000 -------- Balance, December 31, 1994 9.425 - 12.00 120,670 Granted 10.00 4,000 Expired 9.425 (2,680) -------- Balance, December 31, 1995 9.425 - 12.00 121,990 Granted 1.00 - 10.00 511,606 Exercised 1.00 (33,885) Expired 12.00 (2,450) -------- Balance, December 31, 1996 1.00 - 12.00 597,261 Granted 12.00 - 14.25 330,625 Expired 12.00 (10,000) -------- Balance, December 31, 1997 1.00 - 14.25 917,886 Granted 12.00 - 14.00 75,000 Exercised 1.00 - 12.00 (205,852) Expired 12.00 (108,425) -------- Balance, December 31, 1998 (carried forward) 1.00 - 14.25 678,609
F-24 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE G (continued)
Price range Shares ----------- ------ Balance, December 31, 1998 (brought forward) $ 1.00 - 14.25 678,609 Granted 12.50 - 14.50 116,745 Exercised 1.00 (14,103) Expired 6.00 - 9.425 (17,160) -------- Balance, December 31, 1999 1.00 - 14.25 764,091 Granted 15.00 2,667 Exercised 12.00 (2,000) Expired 1.00 -10.00 (154,985) -------- Balance, December 31, 2000 $ 7.70 - 15.00 609,773
The following table summarizes warrant data as of December 31, 2000:
Weighted average Weighted Weighted remaining average average Range of Number contractual exercise Number exercise exercise prices outstanding life price exercisable price --------------- ----------- ---- ----- ----------- ----- $7.70 to $10.50 148,976 1.44 years $8.58 148,976 $8.58 $12.00 to $12.50 383,218 1.55 years $12.05 383,218 $12.05 $14.00 to $15.00 77,579 1.96 years $14.32 77,579 $14.32
F-25 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE H - STOCK OPTIONS AND WARRANTS In April 1996, the Board of Directors and stockholders approved the adoption of a stock option plan (the "Plan"). The Plan provides for the grant of options to purchase up to 350,000 shares of the Company's common stock. These options may be granted to employees, officers of the Company, nonemployee directors of the Company and consultants to the Company. The Plan provides for granting of options to purchase the Company's common stock at not less than the fair value of such shares on the date of the grant. The options generally vest ratably over a four year period and expire after seven years. In August 1998, the stockholders and Board of Directors ratified and approved an amended and restated 1996 Stock Option Plan increasing the maximum number of shares of the Company's common stock for which stock options may be granted from 350,000 to 1,550,000 shares. In August 2000, the stockholders and Board of Directors ratified and approved the second amendment to the Company's Amended and Restated 1996 Stock Option Plan increasing the number of shares of the Company's common stock for which options have been or could be granted under the Plan from 1,550,000 to 3,000,000 shares. The following table summarizes the stock option activity through December 31, 2000:
Weighted average Number exercise price ------ -------------- Granted - adoption of stock option plan 156,000 $ 7.08 --------- Balance, December 31, 1996 156,000 7.08 Granted 123,000 11.94 Forfeited, expired (3,000) 6.63 --------- Balance, December 31, 1997 276,000 9.25 Granted 689,750 12.10 Exercised (6,750) 7.42 Forfeited, expired (14,500) 11.19 --------- Balance, December 31, 1998 944,500 11.17 399,000 10.87 Granted (221,000) 14.93 --------- Forfeited, expired Balance, December 31, 1999 (carried forward) 1,122,500 10.33
F-26 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE H (continued) Balance, December 31, 1999 (brought forward) 1,122,500 $10.33 Granted 449,956 7.96 Exercised (3,500) 7.00 Forfeited, expired (44,850) 8.27 Balance, December 31, 2000 1,524,106 $12.30 =========
The following data has been provided for exercisable options:
December 31, ------------ 2000 1999 1998 ----------- ----------- ----------- Number of options 1,237,706 947,950 793,700 Weighted average exercise price $12.02 $10.74 $11.19 Weighted remaining contractual life 3.95 years 4.18 years 4.7 years
The exercise price for all stock options awarded has been determined by the Board of Directors of the Company. The weighted average fair value at the date of grant for options granted during the year ended December 31, 2000 was $4.37. The following table summarizes option data as of December 31, 2000:
Weighted average Weighted Weighted remaining average average Range of Number contractual exercise Number exercise exercise prices outstanding life price exercisable price --------------- ----------- ------------ ------- ----------- --------- $5.75 to $7.50 547,800 5.6 years $6.42 340,100 $6.40 $8.00 to $10.44 362,806 5.1 years 9.57 289,606 9.55 $10.50 to $14.25 597,500 2.7 years 12.46 593,000 12.47 $14.25 to $21.38 16,000 2.4 years 20.75 15,000 19.66 --------- --------- 1,524,106 $12.30 1,237,706 $12.02 ========= ====== ========= ======
F-27 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE H (continued) In October 1995, the Financial Accounting Standards No. 123 ("SFAS No. 123"), "Accounting for Stock-Based Compensation," established financial accounting and reporting standards for stock-based employee compensation plans. The financial accounting standards of SFAS No. 123 permit companies to either continue accounting for stock-based compensation under existing rules or adopt SFAS No. 123 and reflect the fair value of stock options and other forms of stock-based compensation in the results of operations as additional expense. The disclosure requirements of SFAS No. 123 require companies which elect not to record the fair value in the statement of operations to provide pro forma disclosures of net income and earnings per share in the notes to the financial statements as if the fair value of stock-based compensation had been recorded. The Company follows Accounting Principles Board Opinion No. 25 and its related interpretations in accounting for its stock-based compensation plans. The Company recognized approximately $1,696,000 of compensation expense for options and warrants issued to officers and directors of the Company in 1998. Such options and warrants were accounted for as variable option grants. Such options and warrants had vested prematurely in December 1998, upon the exercise of warrants owned by a director of the Company, in accordance with the terms of certain compensation provisions provided for and approved by the Company's Board of Directors. The Company utilized the Black-Scholes option-pricing model to quantify the expense of options and warrants granted to nonemployees and the pro forma effects on net loss and net loss per share of the fair value of the options and warrants granted to employees during the years ended December 31,2000, 1999 and 1998. The following assumptions were made in estimating fair value.
Year ended December 31, ----------------------- 2000 1999 1998 ------- ------- ------- Risk-free interest rate 4.5% 5% 5% Expected option life 7 years 3 years 3 years Expected volatility 65% 65% 65%
F-28 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE H (continued) Had compensation cost been determined under SFAS No. 123 for the years ended December 31, 2000, 1999 and 1998, net loss and loss per share would have been increased as follows:
Year ended December 31, ----------------------- 2000 1999 1998 ------------ ------------ ------------ Net loss As reported $(12,129,663) $(10,040,509) $ (8,412,655) Pro forma $(13,948,132) $(11,149,970) $(11,609,531) Net loss per share As reported $ (1.37) $ (1.51) $ (1.43) Pro forma $ (1.58) $ (1.68) $ (1.97)
In addition, the Company recognized approximately $56,000, $65,000 and $160,000 in consulting expenses in 2000, 1999 and 1998, respectively, for options and warrants granted to independent consultants and investment bankers for services rendered to the Company. NOTE I - COMMITMENTS AND CONTINGENCIES Agreement With Dr. Eisenberg Pursuant to an amended agreement, the Company has engaged the services of Dr. Eisenberg as a consultant through August 31, 2005. The consulting agreement may be renewed for an additional two years unless terminated by either party prior to such renewal period. Under the agreement, Dr. Eisenberg is obligated to devote twenty hours per week to Company business and is entitled to an annual compensation for such services with annual increases, as defined. In addition, Dr. Eisenberg is paid $58 per hour for services in excess of twenty hours per week. The agreement also provides for a bonus in the event the Company files for the registration of any patent. The bonus, which shall be determined by the Board of Directors of the Company, shall not be less than $30,000 per patent registration, but may not aggregate more than $60,000 during any twelve-month period. As of December 31, 1999 and for the cumulative period since inception, no bonuses have been earned by Dr. Eisenberg. For each of the years ended December 31, 2000, 1999 and 1998, Dr. Eisenberg earned approximately $73,000 for consulting services and approximately $688,000 for the period from inception to December31, 2000, which is included in research and development expense. Included in accrued professional fees at December 31, 2000 and 1999 are $21,411 and $37,494, respectively, representing unpaid consulting fees to Dr. Eisenberg. F-29 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE I (continued) Supply Agreements In October 1991, the Company entered into an agreement with Cornell University Medical College ("Cornell"), a medical institution in New York City, for Cornell to produce and supply the Company, on an exclusive basis and using Dr. Eisenberg's technology, all of the cultured skin equivalent necessary for the Company's use in human clinical tests in the United States. Fees earned by Cornell amounted to approximately $1,145,000 for the period from inception to December 31, 1996. The Cornell arrangement was terminated as of December 31, 1996. Research Agreement In January 1997, the Company entered into an agreement with the New Jersey Center for Biomaterials and Medical Devices (the "New Jersey Center"), whereby the Company and the New Jersey Center will collaborate on research focusing on the development of collagen-based biomaterials for soft tissue repair, specifically targeting the development of a second generation collagen matrix to be used for the production of the Company's Composite Cultured Skin. The New Jersey Center is a cooperative research initiative sponsored by the University of Medicine and Dentistry of New Jersey, Rutgers University and the New Jersey Institute of Technology, and receives financial support from the New Jersey Commission of Science and Technology. The Company contributed $40,000 of the $100,000 cost of such research in 1998, $45,000 in 1999 and the final $15,000 in 2000. Occupancy Arrangements The Company leases approximately 5,000 square feet of space in Sydney, Australia, on a month-to-month basis, in which the Company operates a research laboratory to conduct its research and development activities in Australia and to produce the Composite Cultured Skin used in the operations conducted in Australia. The Company pays rent in Australian dollars, which at the current rate of exchange, amounts to approximately US $26,000 per year. This space is rented from Dr. Mark Eisenberg's father on terms that the Company believes are not less favorable to it than for rental of similar space in Sydney, Australia, from nonrelated third parties. During the year ended December 31, 1995, Dr. Eisenberg's father waived the rights to $40,740 of unpaid rent which was accounted for as additional paid-in capital. Total rent expense under the lease for the years ended December 31, 2000, 1999 and 1998, was approximately $30,000, $33,000 and $32,000, respectively. F-30 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE I (continued) In March 1996, the Company entered into a five-year lease with Columbia University for the Company's new laboratory and offices in Columbia's new Audubon Biomedical Science and Technology Park in New York City. Construction of the new laboratory and office facility was completed in July 1996 and became fully operational in November 1996. In 1996, the Company also granted Columbia a warrant expiring March 2001 to purchase 5,000 shares of common stock at an exercise price of $10 per share. In addition, Columbia had agreed to provide the Company with a grant of $400,000 and a ten-year self-amortizing loan with interest at the rate charged by Columbia's bank for up to an additional $600,000, to build and equip the Company's laboratory. During 1998, the Company received the $600,000 loan and an additional grant of $130,000 and entered into two leases with Columbia for additional space in the building. During 2000, the Company extended the two leases for another year and entered into a new lease for additional space in the building. The Company utilizes its laboratory facilities to produce its Composite Cultured Skin for use in the remaining FDA-approved human clinical trials and for further research to develop the Company's proprietary technology for treatment of other wounds. The Company conducts a major portion of its operations at a leased facility in New York, New York. The lease term for the original lease is five years, expiring in June 2001 and one year for the additional three leases. The minimum rental payments due over the term of the leases at December 31, 2000 are as follows:
Year ending December 31, 2001 $304,108 ========
Total rent expense under the lease for the years ended December 31, 2000, 1999 and 1998 was approximately $505,100, $454,700 and $241,800, respectively. Government Regulation The Company is subject to extensive government regulation. Products for human treatment are subject to rigorous preclinical and clinical testing procedures as a condition for approval by the Food and Drug Administration ("FDA") and by similar authorities in foreign countries prior to commercial sale. Presently, the Company is continuing to submit the results of its human clinical trials to the FDA; however, it is not possible for the Company to determine whether the results achieved from the human clinical trials will be sufficient to obtain FDA approval. F-31 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE J - RELATED PARTY TRANSACTIONS Prior to December 31, 1998, the "Other Founders" were paid fees for services rendered of approximately $980,000 in the aggregate, for the period from inception to December 31, 1998. In addition, in 1996, $140,000 was paid to a director as cash compensation for services as placement agent in connection with the November 1996 private placement. Also, the director received 30,500 warrants (see Note G). In December 1997, the Company extended the expiration date on warrants to the director to purchase 86,930 shares, exercisable at $9.425 per share, resulting in compensation expense of approximately $420,000 (see Note G). The Company paid approximately $35,000 and $25,000 for the years ended December 31, 1997 and 1996, respectively, as fees for accounting services, to a stockholder (approximately $100,000 for the period from inception to December 31, 1997). Also during the year ended December 31, 1996, the Company repaid loans of approximately $247,000 from the net proceeds of the "IPO" to officers. Prior to June 1996, the Company's executive offices were located in office space leased by a company owned by an officer, founder and director of the Company on a rent-free basis. Change of Control In December 1998, the Company's Board of Directors authorized agreements between the Company and its four executive officers which state that in the event of a "change of control" certain "special compensation arrangements" will occur. A "change of control" is defined as a change in the ownership or effective control of the Company or in the ownership of a substantial portion of the assets of the Company, but in any event if certain members of the Company's Board of Directors no longer constitute a majority of the Board of Directors. In the event that such change of control occurs, the agreements will provide three of its officers additional compensation, interest-free loans to exercise their stock options and warrants, and extensions of the expiration dates of all of their then outstanding options and warrants. In addition, for all four of the officers, in the event of a change of control, all unvested options and warrants will vest immediately upon such change of control. F-32 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE K - INCOME TAXES The Company has deferred start-up costs for income tax purposes and intends to elect to amortize such costs over a period of 60 months, under Section 195(b) of the Internal Revenue Code, when the Company commences operations. At December 31, 2000, the Company had net operating loss carryforwards of approximately $10,699,000 for Federal and New York State income tax purposes expiring through 2020. Due to the merger of skin group with and into Ortec in July 1992, the net operating losses and other built-in deductions existing at that time were subject to annual limitations pursuant to Internal Revenue Code Section 382. The Company's ability to utilize net operating losses and other built-in deductions generated after that date may be limited in the future due to additional issuances of the Company's common stock or other changes in control, as defined in the Internal Revenue Code and related regulations. For financial statement purposes, a valuation allowance of approximately $18,206,000 and $12,760,000 at December 31, 2000 and 1999, respectively, has been recognized to offset entirely the deferred tax assets related to the Company's operating loss carryforwards and other temporary differences related to the deferral of start-up expenses for tax purposes, as the realization of such deferred tax assets is uncertain. Components of the Company's deferred tax asset are as follows:
December 31, ----------------------------------- 2000 1999 ------------ ------------ Net operating loss carryforwards $ 4,922,000 $ 3,295,000 Deferral of start-up costs 13,284,000 9,465,000 ------------ ------------ 18,206,000 12,760,000 Valuation allowance (18,206,000) (12,760,000) ------------ ------------ Net deferred tax asset $ -- $ -- ============ ============
F-33 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE K (continued) The following reconciles the income taxes computed at the Federal Statutory rate to the amounts recorded in the Company's statement of operations:
Year ended December 31, Cumulative from --------------------------------------------------- March 12, 1991 (inception) 2000 1999 1998 to December 31, 2000 ------------ ------------ ------------ -------------------------- Income tax benefit at the Statutory rate $ (4,124,000) $ (3,414,000) $ (2,860,000) $(14,712,000) State and local income taxes, net of Federal benefit (961,000) (795,000) (666,000) (3,494,000) Effect of valuation allowance 5,085,000 4,209,000 3,526,000 18,206,000 ------------ ------------ ------------ ------------ Total $ -- $ -- $ -- $ -- ============ ============ ============ ============
The Company's net operating loss tax carryforwards expire as follows: December 31, 2006 $ 76,000 December 31, 2007 233,000 December 31, 2008 511,000 December 31, 2009 597,000 December 31, 2010 440,000 December 31, 2011 677,000 December 31, 2012 839,000 December 31, 2018 1,189,000 December 31, 2019 2,602,000 December 31, 2020 3,535,000 ----------- $10,699,000 ===========
F-34 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE L - OPERATIONS IN OTHER GEOGRAPHIC AREAS Long-lived assets which consists of fixed assets and patents are as follows as of December 31, 2000 and 1999
2000 1999 ---------- ---------- United States $2,246,423 $2,325,036 Australia 61,649 49,971 ---------- ---------- $2,308,072 $2,375,007 ========== ==========
NOTE M - FAIR VALUE OF FINANCIAL INSTRUMENTS Statement of Financial Accounting Standards No. 107 ("SFAS No. 107"), "Fair Value of Financial Instruments," requires disclosure of the estimated fair value of an entity's financial instrument assets and liabilities. For the Company, financial instruments consist principally of cash and cash equivalents and loan payable. The following methods and assumptions were used to estimate the fair value of each class of financial instrument for which it is practicable to estimate that value. Cash and Cash Equivalents The carrying value reasonably approximates fair value because of the short maturity of those instruments. Loan Payable Based on borrowing rates currently available to the Company for bank loans with similar terms and maturities, the carrying value of the Company's loan payable approximates the fair value. F-35 Ortec International, Inc. (a development stage enterprise) NOTES TO FINANCIAL STATEMENTS (continued) December 31, 2000 and 1999 NOTE N - QUARTERLY FINANCIAL DATA (UNAUDITED) Summarized quarterly financial for the years ended December 31, 2000 and 1999, is as follows:
Quarter Ended ------------- March 31, June 30, -------------------------- -------------------------- 2000 1999 2000 1999 ----------- ----------- ----------- ----------- Total revenue $ 164,467 $ 111,894 $ 139,328 $ 106,198 Net loss $(2,650,531) $(2,248,479) $(2,811,949) $(2,453,741) Net loss per share Basic and diluted $ (.32) $ (.36) $ (.33) $ (.37) Quarter Ended ------------- September 30, December 31, -------------------------- -------------------------- 2000 1999 2000 1999 ----------- ----------- ----------- ----------- Total revenue $ 103,810 $ 90,981 $ 179,018 $ 59,638 Net loss $(3,408,097) $(2,812,363) $(3,259,086) $(2,525,926) Net loss per share Basic and diluted $ (.38) $ (.43) $ (.34) $ (.35)
F-36 EXHIBIT INDEX Exhibit No. Description 3.1 Agreement of Merger of the Skin Group, Ltd. and the Company dated July 9, 1992 (1) 3.2 Original Certificate of Incorporation (1) 3.3 By-Laws (1) 4.1 Form of Certificate evidencing shares of Common Stock (1) 10.1 Agreement for Consulting Services dated as of June 7, 1991 by and between the Company and Dr. Mark Eisenberg (1) 23 Consent of Grant Thornton LLP (2) - ---------- (1) Filed as an Exhibit to the Company's Registration Statement on Form SB-2 (File No. 33-96090), or Amendment 1 thereto, and incorporated herein by reference. (2) Filed herewith. EX-23 2 0002.txt EXHIBIT 23 Exhibit 23 CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS We have issued our report dated February 21, 2001, accompanying the financial statements included in the Annual Report of Ortec International, Inc. on Form 10-K for the year ended December 31, 2000. We hereby consent to the incorporation by reference of said report in the Registration Statements of Ortec International Inc. on Forms S-3 (File No. 333-42850 effective August 23, 2000, File No. 333-46352, effective September 29, 2000, File No. 333-52019, effective May 7, 1998 and File No. 333-80979, effective October 14, 1999) and on Forms S-8 (File No. 333-47671, effective March 10, 1998 and File No. 333-80799, effective June 16, 1999). GRANT THORNTON LLP New York, New York March 28, 2001 -----END PRIVACY-ENHANCED MESSAGE-----