ENZON INC (ENZN)
Quarterly Report (SEC form 10-Q)
Management's Discussion and Analysis of Financial Condition and Results of Operations
Information contained herein contains "forward-looking statements" which can be identified by the use of forward-looking terminology such as "believes," "expects," "may," "will," "should," or "anticipates" or the negative thereof or other variations thereon or comparable terminology, or by discussions of strategy. No assurance can be given that the future results covered by the forward-looking statements will be achieved. The matters set forth in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1999, which is incorporated herein by reference, constitute cautionary statements identifying important factors with respect to such forward-looking statements, including certain risks and uncertainties, that could cause actual results to vary materially from the future results indicated in such forward-looking statements. Other factors could also cause actual results to vary materially from the future results indicated in such forward-looking statements.
Results of Operations
Three months ended December 31, 1999 vs. Three months ended December 31, 1998
Revenues. Revenues for the three months ended December 31, 1999 were $3,765,000, as compared to $3,798,000 for the three months ended December 31, 1998. The components of revenues are sales, which consist of our sales of products and royalties on the sale of these products by others, and contract revenues. Sales decreased by 1% to $3,747,000 for the three months ended December 31, 1999, as compared to $3,782,000 for the prior year. The decrease was due to a decrease in ONCASPAR revenues. The decrease in ONCASPAR revenues was offset in part by an increase in ADAGEN sales of approximately 12%, due to an increase in patients receiving ADAGEN treatment. Net sales of ADAGEN were $3,296,000 for the three months ended December 31, 1999 and $2,936,000 for the three months ended December 31, 1998. We market ADAGEN internally and ONCASPAR through marketing agreements in the U.S. and Canada with Rhone-Poulenc Rorer Pharmaceuticals Inc. ("RPR") and in Europe with MEDAC GmbH ("MEDAC"). ONCASPAR revenues are comprised of manufacturing revenues, as well as royalties on sales of ONCASPAR by RPR. ONCASPAR revenues for the quarter decreased due to declines in manufacturing and royalty revenues which resulted from difficulties encountered in our manufacturing process and the changes made to our labeling and distribution procedures, as described below.
During 1998, we began to experience manufacturing problems with ONCASPAR. The problems were due to an increase in the levels of particulates in batches of ONCASPAR which resulted in an increased rejection rate for this product. As a result of these manufacturing problems, we agreed with the FDA to temporary labeling and distribution modifications for ONCASPAR. We took over distribution of ONCASPAR directly to patients on an as-needed basis and instituted additional inspection and labeling procedures prior to distribution. In addition, during May 1999, the FDA required us to limit distribution of the product to only those patients who are hypersensitive to native L-asparaginase. In November 1999, the FDA lifted this restriction.
We have been able to manufacture several batches of ONCASPAR which contain acceptable levels of particulates and anticipate a final resolution of the problem during the fourth quarter of fiscal 2000. It is expected that RPR will resume distribution of ONCASPAR at that time. There can be no assurance that this solution will be acceptable to the FDA. If we are unable to resolve this problem, the FDA may not permit us to continue to distribute this product. An extended disruption in the marketing and distribution of ONCASPAR may have a material adverse impact on future ONCASPAR sales.
We expect sales of ADAGEN to increase at rates comparable to those achieved during the last two years as additional patients are treated. We also anticipate ONCASPAR sales will remain at reduced levels until we resolve the manufacturing problem and RPR resumes normal distribution of the product. We cannot assure that any particular sales levels of ADAGEN or ONCASPAR will be achieved or maintained.
We had export sales of $1,089,000 for the three months ended December 31, 1999 and $945,000 for the three months ended December 31, 1998. Of these amounts, sales in Europe were $975,000 for the three months ended December 31, 1999 and $863,000 for the three months ended December 31, 1998.
Cost of Sales. Cost of sales, as a percentage of sales, improved to 21% for the three months ended December 31, 1999 as compared to 27% for the prior year. The improvement was primarily due to a charge taken in the three months ended December 31, 1998 related to the write-off of ONCASPAR finished goods on hand and in the
distribution pipeline. The increased write-off of ONCASPAR finished goods was attributable to the manufacturing problems previously discussed.
Research and Development. Research and development expenses increased by 5% to $1,933,000 for the three months ended December 31, 1999 from $1,848,000 for the same period last year. The increase was due to increased payroll and related expenses as well as the acquisition of certain patent rights. Our research and development expenses are focused on the clinical development of PEG-camptothecin which is in Phase I clinical trials as well as preclinical development of other PEG compounds.
Selling, General and Administrative. Selling, general and administrative expenses for the three months ended December 31, 1999 increased by 33% to $2,810,000, as compared to $2,108,000 in 1998. The increase was primarily due to, increased legal fees related to litigation and ongoing arbitration proceedings, as well as increased patent filing and defense costs. Our marketing and distribution costs for ONCASPAR were also higher in comparison to the prior year, due to the changes in distribution previously discussed. Currently, we are responsible for the marketing and distribution of this product until RPR resumes distribution of the product. During the prior year, a portion of these costs were RPR's responsibility.
Six months ended December 31, 1999 vs. Six months ended December 31, 1998
Revenues. Revenues for the six months ended December 31, 1999 decreased by $107,000 to $6,679,000 as compared to $6,786,000 for the same period last year. The components of revenues are sales, which consist of sales of our products and royalties on the sale of these products by others, and contract revenues. Sales decreased by 2% to $6,617,000 for the six months ended December 31, 1999, as compared to $6,718,000 for the prior year. The decrease was due to a decline in ONCASPAR revenues. The decrease in ONCASPAR revenue was offset in part by an increase in ADAGEN sales of approximately 11%, resulting from an increase in patients receiving ADAGEN treatment. Net sales of ADAGEN, which we market, were $6,042,000 for the six months ended December 31, 1999 and $5,428,000 for the six months ended December 31, 1998. The decrease in ONCASPAR revenues was due to declines in manufacturing and royalty revenues resulting from difficulties encountered in our manufacturing process and the resulting changes in labeling and distribution previously described. We had export sales of $2,007,000 for the six months ended December 31, 1999 and $1,723,000 for the six months ended December 31, 1998. Of these amounts, sales in Europe were $1,748,000 for the six months ended December 31, 1999 and $1,487,000 for the six months ended December 31, 1998.
Cost of Sales. Cost of sales, as a percentage of sales, improved to 30% for the six months ended December 31, 1999 as compared to 35% for the six months ended December 31, 1998. The improvement was primarily due to a charge taken in 1998 related to the write-off of ONCASPAR finished goods on hand and in the distribution pipeline. The prior year's write-off of ONCASPAR finished goods was attributable to the manufacturing problems previously discussed.
Research and Development. Research and Development expenses increased by 5% to $3,590,000 for the six months ended December 31, 1998 from $3,423,000 in the same period last year. The increase was due to increased payroll and related expenses as well as the acquisition of certain patent rights.
Selling, General and Administrative. Selling, general and administrative expenses for the six months ended December 31, 1999 increased by 41% to $5,136,000, as compared to $3,644,000 in the prior year. The increase was primarily due to increased legal fees related to litigation and ongoing arbitration proceedings, increased patent filing and defense costs, and increased ONCASPAR marketing and distribution costs.
Liquidity and Capital Resources
Total cash reserves, including cash and cash equivalents as of December 31, 1999 were $23,262,000, as compared to $24,674,000 as of June 30, 1999. The decrease in total cash reserves was due to the payment of approximately $1,542,000 in cumulative accrued dividends on 80,000 shares of Series A Preferred Stock during the quarter ended December 31, 1999. The 80,000 shares of Series A Preferred Stock were converted into 181,818 shares of common
stock during the six months ended December 31, 1999. We invest our excess cash in a portfolio of high-grade marketable securities and United States government-backed securities.
To date, our sources of cash have been the proceeds from the sale of our stock through public offerings and private placements, sales of ADAGEN, sales of ONCASPAR, sales of our products for research purposes, contract research and development fees, technology transfer and license fees and royalty advances. Our current sources of liquidity are cash, cash equivalents and interest earned on such cash reserves, sales of ADAGEN, sales of ONCASPAR, sales of our products for research purposes and license fees.
Under our amended license agreement with RPR, we received a payment of $3,500,000 in advance royalties in January 1995. Royalties due under the amended license agreement will be offset against an original credit of $5,970,000, which represents the royalty advance plus reimbursement of certain amounts due RPR under the original agreement and interest expense, before cash payments will be made under the agreement. The royalty advance is shown as a long-term liability. The corresponding current portion of the advance is included in accrued expenses on the consolidated balance sheets. We will reduce the advance as royalties are recognized under the agreement. Through December 31, 1999, an aggregate of $4,369,000 in royalties payable by RPR has been offset against the original credit.
As of December 31, 1999, we had 27,000 shares of Series A Preferred stock outstanding. These preferred shares are convertible into approximately 61,364 shares of common stock. Dividends accrue on the remaining outstanding shares of Series A Preferred Stock at a rate of $54,000 per year. As of December 31, 1999, there were accrued and unpaid dividends totaling $514,000 on the shares of Series A Preferred stock outstanding. We have the option to pay these dividends in either cash or common stock.
We are currently in discussions with RPR related to a disagreement over the purchase price we charged RPR for ONCASPAR under our supply agreement with RPR. RPR has asserted that we have overcharged them under the supply agreement in the amount of $2,329,000. We believe our costing and pricing of ONCASPAR complies with the supply agreement. RPR has also asserted that we should be responsible for its lost profits while ONCASPAR is under the temporary labeling and distribution modifications. RPR contends that its lost profits through December 31, 1999 were $5,194,000. We do not agree with RPR's claims. We do not believe the ultimate resolution of either matter will have a materially adverse effect on our financial results or operations.
We are being sued, in the United States District Court for the District of New Jersey, by LBC Capital Resources, Inc., a former financial advisor. LBC is asserting that under the May 2, 1995 letter agreement between us and LBC, LBC was entitled to a commission in connection with our January and March 1996 private placements, comprised of $500,000 and warrants to purchase 1,000,000 shares of our common stock at an exercise price of $2.50 per share. LBC has claimed $3,000,000 in compensatory damages, plus punitive damages, counsel fees and costs for the alleged breach of the letter agreement. We have entered into an agreement with LBC (known as the Stipulation of Damages) which provides that if we are found liable to LBC in this suit, the damages for these claims would be limited to $2,750,000 in cash. LBC has also asserted that it is entitled to an additional fee of $175,000 and warrants to purchase 250,000 shares of our common stock to the extent the warrants issued to investors in the private placements are exercised. We believe that no compensation is due to LBC under the letter agreement and deny any liability under the letter agreement. We intend to defend this lawsuit vigorously and believe the ultimate resolution of this matter will not have a material adverse effect on our financial position. However, if we were required to issue warrants to LBC we would be required to incur a non-cash expense for each warrant issued equal to the difference between the exercise price of the warrants ($2.50) and the then current market price of our common stock.
We believe that our existing cash resources should be sufficient to fund our capital and operational requirements at current levels for the forseeable future. Upon exhaustion of our current cash reserves, our continued operations will depend on our ability to realize significant revenues from the commercial sale of our products, raise additional funds through equity or debt financing, or obtain significant licensing, technology transfer or contract research and development fees. We cannot make any assurance that these sales, financings or revenue generating activities will be successful.
Year 2000
In 1999 we completed a review of our business systems, including computer systems and manufacturing equipment, and queried our customers and vendors as to their progress in identifying and addressing problems that their systems may face in correctly interrelating and processing date information in the year 2000. To date, we have not experienced any significant problems related to the year 2000 problem, either in our systems or the systems of our vendors or customers.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
