Viragen, Inc.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2006
OR
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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: 001-15823
VIRAGEN, INC.
(Exact name of registrant as specified in its charter)
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Delaware
(State or other jurisdiction of
incorporation or organization)
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59-2101668
(I.R.S. Employer Identification No.) |
865 SW 78th Avenue, Suite 100, Plantation, Florida 33324
(Address of principal executive offices) (Zip Code)
(954) 233-8746
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed
by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 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 [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer,
or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in
Rule 12b-2 of the Exchange Act.
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Large accelerated filer o
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Accelerated filer x
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Non-accelerated filer o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes o No x
As of May 8, 2006, there were 45,765,687 shares of the registrants common stock outstanding, par
value $0.01.
VIRAGEN, INC. AND SUBSIDIARIES
INDEX
1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
VIRAGEN, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
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Three Months Ended |
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Nine Months Ended |
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March 31, |
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March 31, |
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2006 |
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2005 |
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2006 |
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2005 |
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Product sales |
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$ |
98,643 |
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$ |
80,078 |
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$ |
300,802 |
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$ |
163,043 |
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Costs and expenses |
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Cost of sales |
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681,394 |
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604,944 |
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1,708,285 |
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1,835,556 |
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Inventory write-down, net |
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194,284 |
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539,900 |
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Research and development |
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1,171,415 |
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1,279,549 |
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3,250,228 |
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3,280,856 |
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Selling, general and administrative |
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1,490,637 |
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2,027,142 |
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4,870,839 |
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5,744,764 |
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Amortization of intangible assets |
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38,874 |
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43,681 |
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116,269 |
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127,564 |
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Interest expense |
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890,033 |
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1,450,799 |
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4,174,875 |
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4,084,656 |
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Other income, net |
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(507,668 |
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(82,233 |
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(656,709 |
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(1,526,091 |
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Loss before income taxes and
minority interest |
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(3,666,042 |
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(5,243,804 |
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(13,357,269 |
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(13,924,162 |
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Income tax benefit |
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10,957 |
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10,957 |
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32,871 |
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32,871 |
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Minority interest in loss of
subsidiary |
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388,091 |
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1,138,213 |
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Net loss |
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(3,655,085 |
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(4,844,756 |
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(13,324,398 |
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(12,753,078 |
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Deduct required dividends on convertible
preferred stock, Series A |
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537 |
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537 |
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1,612 |
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1,612 |
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Deduct required dividends on convertible
preferred stock, Series J |
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37,719 |
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37,719 |
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Deduct discount relating to value of
warrants issued with convertible
preferred stock, Series J |
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929,675 |
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929,675 |
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Net loss attributable to common stock |
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$ |
(4,623,016 |
) |
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$ |
(4,845,293 |
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$ |
(14,293,404 |
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$ |
(12,754,690 |
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Basic and diluted net loss per share of
common stock, after deduction for
dividends and discount on convertible
preferred stock |
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$ |
(0.10 |
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$ |
(0.13 |
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$ |
(0.35 |
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$ |
(0.35 |
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Weighted average common shares basic
and diluted |
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44,237,680 |
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36,568,385 |
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40,779,807 |
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36,568,385 |
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See notes to consolidated condensed financial statements which are an integral part of these statements.
2
VIRAGEN, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
(Unaudited)
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March 31, |
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June 30, |
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2006 |
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2005 |
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ASSETS |
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Current assets |
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Cash and cash equivalents |
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$ |
3,680,249 |
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$ |
6,885,537 |
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Accounts receivable |
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64,368 |
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39,350 |
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Inventories |
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1,741,685 |
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2,349,513 |
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Prepaid expenses |
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402,295 |
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820,922 |
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Other current assets |
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318,828 |
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832,610 |
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Total current assets |
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6,207,425 |
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10,927,932 |
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Property, plant and equipment |
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Land, building and improvements |
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5,474,005 |
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5,327,018 |
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Equipment and furniture |
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5,565,660 |
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5,670,671 |
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Construction in progress |
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19,630 |
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11,039,665 |
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11,017,319 |
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Less accumulated depreciation |
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(5,446,317 |
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(5,262,769 |
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5,593,348 |
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5,754,550 |
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Goodwill |
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3,676,028 |
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3,653,159 |
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Developed technology, net |
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1,502,111 |
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1,608,585 |
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Deposits and other assets |
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247,865 |
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40,566 |
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$ |
17,226,777 |
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$ |
21,984,792 |
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LIABILITIES AND STOCKHOLDERS EQUITY |
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Current liabilities |
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Accounts payable |
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$ |
504,120 |
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$ |
749,561 |
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Accrued expenses and other liabilities |
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1,200,600 |
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1,116,637 |
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Current portion of convertible notes and debentures |
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426,272 |
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16,104,994 |
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Line of credit and short term borrowings |
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10,568 |
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224,245 |
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Current portion of long-term debt |
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66,484 |
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33,228 |
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Total current liabilities |
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2,208,044 |
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18,228,665 |
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Convertible notes and debentures, less current portion |
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11,121,391 |
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Long-term debt, less current portion |
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608,503 |
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598,104 |
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Deferred income tax liability |
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423,670 |
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456,540 |
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Royalties payable |
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107,866 |
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107,866 |
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Commitments and contingencies |
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Stockholders equity |
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Convertible 10% Series A cumulative preferred
stock, $1.00 par value. Authorized 375,000 shares;
2,150 shares issued and outstanding at March 31,
2006 and June 30, 2005. Liquidation preference
value: $10 per share, aggregating $21,500 at
March 31, 2006 and June 30, 2005 |
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2,150 |
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2,150 |
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Convertible Series J 24% cumulative convertible
preferred stock, $1.00 par value. Authorized
60,000 shares; 52,150 shares issued and
outstanding at March 31, 2006. Liquidation
preference value: $100 per share, aggregating
$5,215,000 at March 31, 2006 |
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5,215,000 |
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Common stock, $.01 par value. Authorized
250,000,000 shares at March 31, 2006 and
100,000,000 shares at June 30, 2005; 45,378,284
shares issued and outstanding at March 31, 2006;
37,087,677 shares issued and outstanding at June
30, 2005 |
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453,783 |
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370,877 |
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Capital in excess of par value |
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155,763,598 |
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146,580,467 |
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Accumulated deficit |
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(160,973,523 |
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(146,680,119 |
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Accumulated other comprehensive income |
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2,296,295 |
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2,320,242 |
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Total stockholders equity |
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2,757,303 |
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2,593,617 |
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$ |
17,226,777 |
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$ |
21,984,792 |
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See notes to consolidated condensed financial statements which are an integral part of these statements.
3
VIRAGEN, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
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Nine Months Ended |
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March 31, |
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2006 |
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2005 |
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OPERATING ACTIVITIES |
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Net loss |
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$ |
(13,324,398 |
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$ |
(12,753,078 |
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Adjustments to reconcile net loss to net cash used in operating activities: |
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Depreciation and amortization |
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634,296 |
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744,166 |
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Amortization of intangible assets |
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116,269 |
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127,564 |
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Inventory write-down, net |
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194,284 |
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539,900 |
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Loss on disposal of property, plant and equipment |
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13,350 |
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Amortization of fees paid with common stock |
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60,000 |
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Net gain on foreign exchange remeasurement |
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(2,952 |
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(196,012 |
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Gain on remeasurement of subsidiary intercompany liability |
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(595,776 |
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Compensation expense on stock options and warrants |
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13,218 |
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Minority interest in net loss of subsidiary |
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(1,138,213 |
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Amortization of discount on convertible debentures and promissory
notes |
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2,806,263 |
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2,564,467 |
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Amortization of deferred financing costs |
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443,577 |
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389,987 |
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Deferred income tax benefit |
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(32,871 |
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(32,871 |
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Increase (decrease) relating to operating activities from: |
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Accounts receivable |
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(23,855 |
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(4,857 |
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Inventories |
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(43,136 |
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(166,387 |
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Prepaid expenses |
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461,666 |
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906,976 |
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Other current assets |
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616,806 |
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19,295 |
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Accounts payable |
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(245,657 |
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(424,171 |
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Accrued expenses and other liabilities |
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305,641 |
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26,377 |
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Net cash used in operating activities |
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(8,067,499 |
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(9,932,633 |
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INVESTING ACTIVITIES |
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Purchase of short-term investments |
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(5,519,700 |
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Maturity of short-term investments |
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2,843,550 |
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Additions to property, plant and equipment |
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(461,184 |
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(173,726 |
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Proceeds from sale of property, plant and equipment |
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24,738 |
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Contribution received for capital investment in Sweden |
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278,005 |
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Net cash used in investing activities |
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(461,184 |
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(2,547,133 |
) |
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FINANCING ACTIVITIES |
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Proceeds from sales of preferred stock, Series J and warrants |
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4,687,798 |
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Proceeds from sale of convertible debentures and warrants |
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1,194,895 |
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Payments on convertible debentures |
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(250,000 |
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Payments on line of credit and short term borrowings, net |
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(262,184 |
) |
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(1,054,309 |
) |
Payments on long-term debt, net |
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(54,602 |
) |
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(579,243 |
) |
Repurchase of preferred stock, Series A |
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(1,000 |
) |
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Net cash provided by (used in) financing activities |
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5,315,907 |
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(1,634,552 |
) |
Effect of exchange rate fluctuations on cash and cash equivalents |
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7,488 |
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128,598 |
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Decrease in cash and cash equivalents |
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(3,205,288 |
) |
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(13,985,720 |
) |
Cash and cash equivalents at beginning of period |
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6,885,537 |
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22,753,271 |
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Cash and cash equivalents at end of period |
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$ |
3,680,249 |
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$ |
8,767,551 |
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During the nine months ended March 31, 2006 and 2005, we had the following non-cash
financing activities:
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Nine Months Ended |
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March 31, |
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2006 |
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2005 |
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Conversion of convertible notes into common stock |
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$ |
7,950,000 |
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$ |
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Purchase of insurance with note payable |
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51,554 |
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Purchase of equipment with notes payable |
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|
94,053 |
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|
See notes to consolidated condensed financial statements which are an integral part of these statements.
4
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
NOTE A OVERVIEW AND BASIS OF PRESENTATION
We are a biopharmaceutical company engaged in the research, development, manufacture and sale
of pharmaceutical proteins for the treatment of viral and malignant diseases. Our product portfolio
includes: Multiferon® (multiple-subtype, natural human alpha interferon) targeting a broad range of
infectious and malignant diseases; and humanized monoclonal antibodies targeting specific antigens
over-expressed on many types of cancers in humans. We are also pioneering the development of Avian
Transgenic Technology, with the Roslin Institute, as a revolutionary manufacturing platform for the
large-scale, efficient and economical production of therapeutic proteins and antibodies.
As of March 31, 2006, we owned approximately 81.2% of Viragen International, Inc. We operate
primarily through Viragen International, Inc., and its wholly owned subsidiaries, ViraNative AB
(ViraNative), a company located in Umeå, Sweden, and Viragen (Scotland) Limited (Viragen
(Scotland)), a company located near Edinburgh, Scotland. ViraNative and Viragen (Scotland) house
our manufacturing and research laboratory facilities.
The accompanying unaudited interim consolidated condensed financial statements include
Viragen, Inc., Viragen International, Inc. and all subsidiaries, including those operating outside
the United States of America. All significant intercompany balances and transactions have been
eliminated. Minority interest in net loss of subsidiary represents the minority stockholders
share of the net loss of Viragen International. During April 2005, the stockholders equity of
Viragen International decreased to a deficit position. Because the minority stockholders are not
required to fund the deficit, we ceased attributing a portion of Viragen Internationals losses to
the minority stockholders at that time. Since then, Viragen has absorbed 100% of Viragen
Internationals losses and will continue to do so until Viragen International has positive
stockholders equity.
The accompanying unaudited interim consolidated condensed financial statements for Viragen,
Inc. have been prepared in conformity with accounting principles generally accepted in the United
States, consistent in all material respects with those applied in our Annual Report on Form 10-K
for the fiscal year ended June 30, 2005, filed with the Securities and Exchange Commission. These
statements have been prepared in accordance with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, certain information and footnote disclosures normally included in
financial statements included in our Annual Report on Form 10-K have been condensed or omitted.
The accompanying unaudited interim consolidated condensed financial statements should be read in
conjunction with Managements Discussion and Analysis of Financial Condition and Results of
Operations contained in this report and the audited consolidated financial statements and
accompanying notes included in our Annual Report on Form 10-K for the fiscal year ended June 30,
2005.
The preparation of financial statements in accordance with accounting principles generally
accepted in the United States requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the financial statements and the reported
amounts of income and expenses during the reporting period. The accounting estimates that require
managements most difficult and subjective judgments include: the assessment of recoverability of
goodwill and long-lived assets; and the valuation of inventories. Actual results could differ
materially from those estimates.
The interim financial information is unaudited, but, in the opinion of management, reflects
all adjustments, including normal recurring adjustments, considered necessary for a fair
presentation of the results of the interim periods presented. Operating results for the three and
nine months ended March 31, 2006 are not necessarily indicative of the results that may be expected
for the fiscal year ending June 30, 2006.
5
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE A OVERVIEW AND BASIS OF PRESENTATION (Continued)
During the three and nine months ended March 31, 2006 we incurred net losses of approximately
$3.7 million and $13.3 million, respectively. During the fiscal years ended June 30, 2005, 2004
and 2003, we incurred significant net losses of approximately $26.2 million, $18.2 million and
$17.3 million, respectively, and had an accumulated deficit of approximately $161.0 million as of
March 31, 2006. We had cash and cash equivalents totaling approximately $3.7 million and working
capital of approximately $4.0 million at March 31, 2006. We anticipate additional future losses as
we commercialize our natural human alpha interferon product and conduct additional research and
development activities and clinical trials to obtain additional regulatory approvals. We believe
we have sufficient cash to support operations, including those of our subsidiaries, through June
2006. We will require substantial additional funding to support our operations subsequent to June
2006. As we do not anticipate achieving sufficient cash flows from operations, we are seeking
additional capital through equity or debt financings. No assurance can be given that additional
capital will be available when required or upon terms acceptable to us. Our inability to generate
substantial revenue or obtain additional capital through equity or debt financings would have a
material adverse effect on our financial condition and our ability to continue operations.
Accordingly, if we are unable to obtain additional financing by the end of June 2006, we could be
forced to significantly curtail or suspend our operations, including laying-off employees,
recording asset impairment write-downs and other measures.
Due to our financial condition, the report of our independent registered public accounting
firm on our June 30, 2005 consolidated financial statements includes an explanatory paragraph
indicating that these conditions raise substantial doubt about our ability to continue as a going
concern. The accompanying consolidated condensed financial statements do not include any
adjustments relating to the recoverability and classification of asset carrying amounts or the
amount and classification of liabilities that might result from the outcome of these uncertainties.
Viragen received a deficiency letter from the American Stock Exchange (Amex) dated March 1,
2006, advising that, based upon its review of Viragens financial statements included in its
Quarterly Report on Form 10-Q for the quarter ended December 31, 2005, the Company does not meet an
additional continued listing standard. Specifically, Viragen is not in compliance with Section
1003(a)(i) of the Amex Company Guide, because the Companys stockholders equity is less than
$2,000,000 and it sustained losses from continuing operations and/or net losses in two of its three
most recent fiscal years. Previously, Viragen received a deficiency letter from Amex dated
September 20, 2005, advising that, based upon its review of Viragens financial statements included
in its Annual Report on Form 10-K for the fiscal year ended June 30, 2005, Viragen is not in
compliance with Amexs continued listing standards. Specifically, Viragen is not in compliance
with Section 1003(a)(ii) of the Amex Company Guide, because the Companys stockholders equity is
less than $4,000,000 and it sustained losses from continuing operations and/or net losses in three
out of its four most recent fiscal years, and Section 1003(a)(iii) of the Amex Company Guide,
because the Companys stockholders equity is less than $6,000,000 and it sustained losses from
continuing operations and/or net losses in its five most recent fiscal years. Viragen submitted a
plan to Amex which outlines Viragens plans to regain compliance with Amexs continued listing
standards. On October 25, 2005, Amex notified Viragen that it accepted Viragens plan of
compliance and granted Viragen an extension of time until March 20, 2007 to regain compliance with
Amexs continued listing standards. Viragen will be subject to periodic review by Amex during the
extension period. Failure to make progress consistent with the plan or to regain compliance with
the continued listing standards by the end of the extension period could result in Viragens shares
being delisted from Amex. We have provided quarterly updates to Amex regarding our progress with
the plan.
6
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE A OVERVIEW AND BASIS OF PRESENTATION (Continued)
Viragens outstanding convertible debt contains a provision that in the event its common stock
is no longer traded on the Amex, New York Stock Exchange or NASDAQ, the debt holders have the right
to request repayment of their investment with related accrued interest. Given Viragens current
financial position, if the convertible debt holders were to request repayment, we would be unable
to repay these amounts and would be in default of the debt agreements.
NOTE B STOCK-BASED COMPENSATION
At March 31, 2006, we had one active stock-based compensation plan, the 1997 Stock Option
Plan, which is approved by our stockholders. Our 1995 Stock Option Plan expired in May 2005 and no
new options may be granted under this plan. Prior to July 1, 2005, we accounted for these plans
under the recognition and measurement provisions of Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees, and related Interpretations, as permitted by Financial
Accounting Standards Board (FASB) Statement No. 123, Accounting for Stock-Based Compensation. No
stock-based compensation cost was recognized in the statement of operations for the three and nine
months ended March 31, 2005 as all options granted under the plans had an exercise price equal to
the market value of the underlying common stock on the date of grant.
Effective July 1, 2005, we adopted the fair value recognition provisions of FASB Statement No.
123(R), Share-Based Payment, using the modified-prospective-transition method. Under that
transition method, stock-based compensation cost recognized subsequent to July 1, 2005 includes:
(a) compensation cost for all share-based payments granted prior to, but not yet vested as of July
1, 2005, based on the grant date fair value estimated in accordance with the original provisions of
FASB Statement No. 123, and (b) compensation cost for all stock-based compensation granted
subsequent to July 1, 2005, based on the grant-date fair value estimated in accordance with the
provisions of FASB Statement No. 123(R). For the three and nine months ended March 31, 2006, we
recognized approximately $4,000 and $13,000, respectively, of stock-based compensation costs in the
statements of operations for all stock options granted to employees and directors prior to July 1,
2005, which were not fully vested as of July 1, 2005. The amount
of unrecognized stock-based compensation for these stock options that
have not vested is approximately $51,000, which will be recognized
over the next three years. No stock-based compensation was granted
during the nine months ended March 31, 2006.
The following table illustrates the effect on net loss and loss per common share if we had
applied the fair value recognition provisions of FASB Statement No. 123(R) to measure stock-based
compensation for the three and nine months ended March 31, 2005.
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
March 31, 2005 |
|
|
March 31, 2005 |
|
Net loss as reported |
|
$ |
(4,844,756 |
) |
|
$ |
(12,753,078 |
) |
Stock based compensation determined under the fair
value method |
|
|
(26,440 |
) |
|
|
(80,993 |
) |
|
|
|
|
|
|
|
Pro forma net loss |
|
|
(4,871,196 |
) |
|
|
(12,834,071 |
) |
Preferred stock dividends, Series A |
|
|
(537 |
) |
|
|
(1,612 |
) |
|
|
|
|
|
|
|
Pro forma net loss attributable to common stock |
|
$ |
(4,871,733 |
) |
|
$ |
(12,835,683 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro forma net loss per common share after deduction
of required dividends on preferred stock: |
|
|
|
|
|
|
|
|
Basic and diluted as reported |
|
$ |
(0.13 |
) |
|
$ |
(0.35 |
) |
Basic and diluted pro forma |
|
$ |
(0.13 |
) |
|
$ |
(0.35 |
) |
7
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE C INVENTORIES
Inventories consist of raw materials and supplies, work in process, and finished product.
Finished product consists of purified natural human alpha interferon that is available for sale.
Costs of raw materials and supplies are determined on a first-in, first-out basis. Costs of work in
process and finished product, consisting of raw materials, labor and overhead are recorded at a
standard cost (which approximates actual cost). Excess/idle capacity costs represent fixed
production costs incurred at our Swedish manufacturing facility, which were not absorbed as a
result of the production of inventory at less than normal operating levels. Excess/idle capacity
costs are expensed in the period in which they are incurred and are included in cost of sales.
Our inventories are stated at the lower of cost or market (estimated net realizable value). If
the cost of the inventories exceeds their expected market value, provisions are recorded currently
for the difference between the cost and the market value. These provisions are determined based on
estimates. The valuation of our inventories also requires us to estimate excess inventories and
inventories that are not saleable. The determination of excess or non-saleable inventories
requires us to estimate the future demand for our product and consider the shelf life of the
inventory. If actual demand is less than our estimated demand, we could be required to record
inventory write-downs, which would have an adverse impact on our results of operations. During the
quarter ended December 31, 2005, we determined that a portion of our work in process inventory
would not be converted to finished product prior to expiration. Therefore, we recorded a
write-down for this inventory of approximately $104,000. During the quarter ended September 30,
2005, a freezer at one of our facilities in Sweden malfunctioned causing the temperature of certain
work in process to rise above the approved levels for frozen product. As a result, we are unable
to utilize this inventory for commercial purposes and we recorded a net write-down of approximately
$91,000, which was net of an insurance recovery of approximately $486,000.
Inventories consisted of the following at March 31, 2006 and June 30, 2005:
|
|
|
|
|
|
|
|
|
|
|
March 31, |
|
|
June 30, |
|
|
|
2006 |
|
|
2005 |
|
Finished product |
|
$ |
564,564 |
|
|
$ |
19,234 |
|
Work in process |
|
|
850,352 |
|
|
|
2,031,981 |
|
Raw materials and supplies |
|
|
326,769 |
|
|
|
298,298 |
|
|
|
|
|
|
|
|
Total inventories |
|
$ |
1,741,685 |
|
|
$ |
2,349,513 |
|
|
|
|
|
|
|
|
Certain raw materials used in the manufacture of our natural human alpha interferon product,
including human white blood cells, are only available from a limited number of suppliers. We are
dependent on our suppliers to allocate a sufficient portion of their capacity to meet our needs.
8
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE D GOODWILL AND OTHER INTANGIBLE ASSETS
On September 28, 2001, Viragen International, Inc., our majority owned subsidiary, acquired
all of the outstanding shares of BioNative AB (BioNative), a privately held biotechnology company
located in Umeå, Sweden. Subsequent to the acquisition, BioNative was renamed ViraNative. The
initial purchase consideration consisted of 2,933,190 shares of Viragen International common stock.
In January 2002, ViraNative achieved two milestones defined in the acquisition agreement. As a
result, the former shareholders of ViraNative were issued an additional 8,799,570 shares of Viragen
International common stock.
The goodwill reported in our balance sheets as of March 31, 2006 and June 30, 2005 arose from
Viragen Internationals acquisition of ViraNative and the subsequent achievement of the milestones.
Subsequent to the initial recording of goodwill, the carrying amount has increased as a result of
foreign currency fluctuations between the U.S. dollar and the Swedish Krona. The following table
reflects the changes in the carrying amount of goodwill for the nine months ended March 31, 2006:
|
|
|
|
|
Balance as of June 30, 2005 |
|
$ |
3,653,159 |
|
Foreign exchange adjustment |
|
|
22,869 |
|
|
|
|
|
Balance as of March 31, 2006 |
|
$ |
3,676,028 |
|
|
|
|
|
In accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other
Intangible Assets, goodwill is not amortized but is reviewed for impairment on an annual basis or
sooner if indicators of impairment arise. We periodically evaluate that acquired business for
potential impairment indicators. Our judgments regarding the existence of impairment indicators are
based on legal factors, market conditions, and the operational performance of the acquired
business. As of April 1, 2005, we evaluated our goodwill for impairment. The impairment review
indicated that our goodwill was impaired and, as a result, we recorded a goodwill impairment charge
of approximately $6.9 million during the fourth quarter of fiscal 2005. Future changes in the
estimates used to conduct the impairment review, including revenue projections or market values,
could cause our analysis to indicate that our goodwill is further impaired in subsequent periods
and result in a write-off of a portion or all of our goodwill.
The developed technology intangible asset reported in our balance sheets as of March 31, 2006
and June 30, 2005 arose from Viragen Internationals acquisition of ViraNative on September 28,
2001. A detail of our developed technology intangible asset as of March 31, 2006 and June 30, 2005
is as follows:
|
|
|
|
|
|
|
|
|
|
|
March 31, |
|
|
June 30, |
|
|
|
2006 |
|
|
2005 |
|
Developed technology |
|
$ |
2,201,370 |
|
|
$ |
2,187,675 |
|
Accumulated amortization |
|
|
(699,259 |
) |
|
|
(579,090 |
) |
|
|
|
|
|
|
|
Developed technology, net |
|
$ |
1,502,111 |
|
|
$ |
1,608,585 |
|
|
|
|
|
|
|
|
9
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE D GOODWILL AND OTHER INTANGIBLE ASSETS (Continued)
Our developed technology consists of the production and purification methods developed by
ViraNative prior to the acquisition by Viragen International. This technology was complete and
ViraNative had been selling the resultant natural interferon product prior to the acquisition by
Viragen International. Developed technology was recorded at its estimated fair value at the date of
acquisition. Subsequent to the initial recording of this intangible asset, the gross carrying
amount has increased by approximately $551,000 as a result of foreign currency fluctuations between
the U.S. dollar and the Swedish Krona.
Developed technology is being amortized over its estimated useful life of approximately 14
years. The 14 year life assigned to this asset was determined using a weighted average of the
remaining lives of the patents on the various components of the production and purification
processes.
NOTE E CONVERTIBLE NOTES AND DEBENTURES
Details of our convertible notes and debentures outstanding at March 31, 2006 and June 30,
2005 are as follows:
|
|
|
|
|
|
|
|
|
|
|
March 31, |
|
|
June 30, |
|
|
|
2006 |
|
|
2005 |
|
Outstanding principal |
|
$ |
13,800,000 |
|
|
$ |
20,000,000 |
|
Less discounts |
|
|
(2,252,337 |
) |
|
|
(3,895,006 |
) |
|
|
|
|
|
|
|
|
|
|
11,547,663 |
|
|
|
16,104,994 |
|
Less current portion, net of discounts |
|
|
(426,272 |
) |
|
|
(16,104,994 |
) |
|
|
|
|
|
|
|
Long term portion |
|
$ |
11,121,391 |
|
|
$ |
|
|
|
|
|
|
|
|
|
At March 31, 2006, the convertible notes and debentures balance was comprised of convertible
notes issued on June 18, 2004, with an outstanding principal amount of $12.05 million, and
convertible debentures issued September 15, 2005 with an outstanding principal amount of $1.75
million. At June 30, 2005, the convertible notes and debentures balance was comprised solely of
convertible notes issued on June 18, 2004, with an outstanding principal amount of $20.00 million.
In September 2005, the terms of the notes issued on June 18, 2004 were modified resulting in a
reclassification of the principal due from current to long term.
September 15, 2005 Convertible Debentures
On September 15, 2005, Viragen, Inc. entered into a securities purchase agreement under which
Viragen sold its convertible, amortizing debentures in the aggregate principal amount of $2.0
million to four returning institutional investors. Under the terms of the agreement, Viragen
received approximately $1.2 million, net of original issue discounts of $570,000, a $200,000
finders fee and legal expenses. This agreement also provided for the issuance to the purchasers of
an aggregate of 952,381 three-year common stock purchase warrants exercisable at a price of $1.25
per share.
10
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE E CONVERTIBLE NOTES AND DEBENTURES (Continued)
The debentures are convertible at a conversion price of $1.05 per share, subject to
adjustment, including in the event that Viragen subsequently issues securities at less than the
conversion price then in effect (other than an exempt issuance as defined in the debentures).
The debentures provide for amortization in 32 equal monthly installments of principal, commencing
on January 1, 2006. Monthly amortization payments may be made, at Viragens option, in cash,
accompanied by a 10% premium, or in shares of its common stock at a 5% discount to market price
(computed by reference to the volume weighted average price of Viragens common stock during the
five trading day period immediately preceding the amortization due date). Viragen has the right to
require the debenture holders to convert their debentures in the event that the volume weighted
average price of Viragen common stock exceeds $2.00 per share for 30 consecutive trading days, the
resale of the shares issuable upon conversion of the debentures are covered by an effective
registration statement, and certain other conditions are met.
In lieu of interest, the debentures provided for an original issue discount equal to $570,000,
the equivalent of 9.5% interest over the three year life of the debentures. For the three and nine
months ended March 31, 2006, we recognized approximately $74,000 and $156,000, respectively, as
interest expense from the amortization of the original issue discount.
The warrants issued in connection with these debentures are exercisable during the three year
period ending September 15, 2008. Subject to certain conditions, Viragen has the right to call the
warrants if the volume weighted average price for Viragen common stock exceeds 250% of the
prevailing exercise price of the warrants for 20 consecutive trading days. The relative fair value
of these warrants was calculated to be approximately $166,000 using a Black-Scholes valuation
model. The relative fair value of these warrants was recorded as a discount on the principal amount
of the debentures and will be amortized to interest expense using the effective interest rate
method over the life of the debentures. For the three and nine months ended March 31, 2006, we
recognized approximately $22,000 and $46,000, respectively, as non-cash interest expense from the
amortization of the discount that arose from the issuance of the warrants.
We incurred costs of approximately $290,000 in connection with the debentures issued under the
September 15, 2005 securities purchase agreement, which primarily consisted of the finders fees,
registration fees and legal and accounting expenses. These costs will be amortized to interest
expense over the life of the debentures using the effective interest rate method. For the three
and nine months ended March 31, 2006, we recognized approximately $38,000 and $80,000,
respectively, as interest expense from the amortization of these debt issuance costs.
Resale of the shares issuable upon conversion or payment of the debentures and upon exercise
of warrants is registered under our Form S-3 registration statement (File No. 333-129319) filed
with the Securities and Exchange Commission, which was declared effective on November 9, 2005. If,
following the effective date of the registration statement, the registration statement ceases to
remain effective for ten consecutive calendar days, but no more than an aggregate of fifteen days
during any twelve month period, or if Viragen fails to deliver unlegended shares to the investors
as and when required, Viragen is subject to the payment of liquidated damages, payable in cash,
based on a percentage of the aggregate purchase price of the then outstanding balance of the
convertible debentures.
11
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE E CONVERTIBLE NOTES AND DEBENTURES (Continued)
During the nine months ended March 31, 2006, we made cash payments aggregating $275,000 to the
September 15, 2005 convertible debenture holders, which represented four of the 32 monthly
installments on these debentures, including the additional 10% premium for principal payments made
in cash. As of March 31, 2006, $1.75 million of the principal amount of these convertible
debentures remained outstanding.
June 2004 Convertible Notes, as amended
On April 1, 2004, we entered into purchase agreements for the issuance and sale of 7%
convertible promissory notes due March 31, 2006 and common stock purchase warrants in the aggregate
amount of $20 million. The notes were placed with a group of new and returning institutional
investors. The $20 million purchase price for the notes and warrants was placed in escrow pending
satisfaction of all conditions precedent to closing, including receipt of stockholder approval for
the sale of the notes and warrants, as well as a one for ten reverse split of our common stock. On
June 11, 2004, our stockholders voted to approve the sale of the notes and a one for ten reverse
split of our common stock. On June 18, 2004, we completed the sale of the notes and warrants.
Under the terms of these agreements, we received approximately $18.96 million, net of finders fees
and legal expenses. These agreements also provided for the issuance to the purchasers of an
aggregate of 5,357,051 three-year common stock purchase warrants that were exercisable at $1.819
per share.
On September 15, 2005, we entered into agreements with each of the eight holders of these
notes to:
|
|
|
extend the maturity date of the notes from March 31, 2006 to August 31, 2008; |
|
|
|
|
provide for mandatory conversion of the notes if the volume weighted average price for
the Companys common stock exceeds $2.00 per share for 30 consecutive trading days; |
|
|
|
|
amend the adjustment provisions of the notes and the warrants issued in connection
therewith to provide for full ratchet rather than weighted average adjustments in the
event that the Company issues securities in the future (other than an exempt issuance as
defined in the notes) for a price of less than the then current conversion price of the
notes or 119% of the then current exercise price of the warrants, as the case may be. Full
ratchet adjustments reduce the conversion and exercise prices to the lowest price at which
Viragen may issue securities in the future. Weighted average adjustments reduce the
conversion and exercise prices to a lower price, weighted based upon the average price at
which Viragens shares have been sold; |
|
|
|
|
expand the definition of exempt issuance under the notes and related warrants to
exclude from the adjustment provisions of the notes and related warrants, the Companys
issuance of shares (a) in a firm commitment public offering by a reputable underwriter, (b)
under equity compensation plans approved by a majority of the Companys independent
directors or a majority of the non-employee members of a committee of the board, (c) in
connection with any future acquisition of the minority interest in Viragen International,
Inc. and (d) in connection with strategic transactions not undertaken for the primary
purpose of raising capital. |
12
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE E CONVERTIBLE NOTES AND DEBENTURES (Continued)
Under the terms of the agreements, the conversion price of the convertible notes was reduced
to $1.05 per share and the exercise price of the related common stock purchase warrants was reduced
to $1.25 per share. As a result of the reduction in the exercise price of common stock purchase
warrants, the holders were entitled to an additional 2.4 million common stock purchase warrants
with an exercise price of $1.25 per share. The conversion price of the notes and exercise price of
the warrants are subject to reductions, with certain exceptions, if we enter into additional
financing transactions for the sale of our stock below the market price or below the conversion
price of the notes or below the exercise price of the warrants.
As a result of the amendments to the June 2004 convertible notes and the financial condition
of the Company, the modifications to the notes (which included a reduction of the conversion price
and extension on the maturity date) were accounted for as a troubled debt restructuring under SFAS
No. 15, Accounting by Debtors and Creditors for Troubled Debt Restructurings and EITF 02-04,
Determining Whether a Debtors Modification or Exchange of Debt Instruments is within the Scope of
FASB Statement No. 15. A modification in a troubled debt restructuring is accounted for
prospectively. As a result of the reduced exercise price of the warrants and the issuance of
additional warrants on September 15, 2005, we recorded an additional discount of approximately
$427,000 on the principal amount of the notes. This additional discount, together with the
unamortized original discount as of the modification date, will be amortized over the new term of
the notes using the effective interest rate method.
The relative fair value of the warrants initially issued was calculated to be approximately
$3,264,000 using a Black-Scholes valuation model. The relative fair value of these warrants was
recorded as a discount on the principal amount of the notes. As discussed above, we recorded an
additional discount of approximately $427,000 on the principal amount of the notes due to the
reduction of the exercise price of the warrants and the issuance of additional warrants. The
aggregate discount is being amortized to interest expense using the effective interest rate method
over the life of the notes. For the three and nine months ended March 31, 2006, we recognized
non-cash interest expense from the amortization of this discount of approximately $218,000 and
$1,233,000, respectively, compared to $404,000 and $1,096,000 for the three and nine months ended
March 31, 2005. All common stock purchase warrants issued in connection with this transaction
remain unexercised as of March 31, 2006.
As a result of the calculated effective conversion price of the notes, a beneficial conversion
amount of approximately $4,372,000 was calculated and recorded as a discount on the principal
amount of the notes at the date of issuance. This discount is being amortized to interest expense
using the effective interest rate method over the life of the notes. For the three and nine months
ended March 31, 2006, we recognized non-cash interest expense from the amortization of this
discount of approximately $217,000 and $1,372,000, respectively, compared to $541,000 and
$1,468,000 for the three and nine months ended March 31, 2005.
In connection with the April 1, 2004 purchase agreements, we incurred costs of approximately
$1,161,000. These costs primarily consisted of the finders fee of 5%, or $1 million, the fair
value of 80,000 three-year common stock purchase warrants exercisable at a price of $1.516 per
share issued to the finder, and legal and accounting expenses. These costs are being amortized to
interest expense over the life of the notes using the effective interest rate method. For the
three and nine months ended March 31, 2006, we recognized interest expense from the amortization of
these debt issuance costs of approximately $58,000 and $364,000, respectively, compared to $144,000
and $390,000 for the three and nine months ended March 31, 2005.
13
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE E CONVERTIBLE NOTES AND DEBENTURES (Continued)
Interest on the notes remains payable quarterly and is payable in cash or, at our option, in
shares of our common stock based upon the average market price of our common stock during the 20
consecutive trading days prior to and including the interest payment date, subject to certain
conditions.
These notes may be prepaid at 110% of their face amount, plus the issuance to note holders of
additional warrants to purchase the number of shares of our common stock into which the notes would
otherwise have been convertible, at an exercise price equal to the prevailing conversion price of
the notes. If issued on prepayment, the warrants may be exercised for the period that would have
been the remaining life of the notes had they not been prepaid. We also have the right to require
note holders to convert their notes, subject to certain limitations; provided that the volume
weighted average price of our common stock exceeds $2.00 per share for 30 consecutive trading days.
As of March 31, 2006, $12.05 million of the principal amount of these convertible notes
remained outstanding. The amount of interest on these notes for the three and nine months ended
March 31, 2006 at 7% totaled approximately $232,000 and $861,000, respectively. Quarterly interest
due April 1, 2006 was satisfied through the issuance of 387,403 shares of our common stock valued
at $0.60 per share. Quarterly interest due January 1, 2006 was satisfied through the issuance of
576,857 shares of our common stock valued at $0.49 per share. Quarterly interest due October 1,
2005 was satisfied through the payment of approximately $258,000 in cash and the issuance of
142,322 shares of our common stock valued at $0.61 per share.
Resale of the shares issuable upon conversion or payment of the notes and related interest and
upon exercise of warrants are registered under our Form S-3 registration statement (File No.
333-117338) filed with the Securities and Exchange Commission, which was declared effective on July
28, 2004. If, following the effective date of the registration statement, the registration
statement ceases to remain effective or if Viragen fails to deliver unlegended shares to the
investors as and when required, Viragen is subject to the payment of liquidated damages, payable in
cash, based on a percentage of the aggregate purchase price of the then outstanding balance of the
convertible notes.
14
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE F DEBT
Line of Credit and Short Term Borrowings
Our Swedish subsidiary maintained an overdraft facility, denominated in Swedish Krona, with a
bank in Sweden. The maximum borrowing capacity on this overdraft facility was approximately
$767,000 at June 30, 2005. Borrowings outstanding under this overdraft facility were at a floating
rate of interest, which was approximately 5.25% at June 30, 2005. The overdraft facility expired at
the end of February 2006 and outstanding borrowings at that time were repaid. There was no
outstanding balance under this overdraft facility as of June 30, 2005. This overdraft facility was
secured by certain assets of ViraNative including inventories and accounts receivable.
During August 2005, we obtained short term financing of approximately $52,000 for the purchase
of certain corporate insurance policies. Outstanding borrowings under this arrangement bear
interest at an effective rate of 7.45%. Principal and interest payments of approximately $5,000 are
payable in ten equal monthly installments. The outstanding balance on this short term borrowing was
approximately $11,000 as of March 31, 2006.
During June 2005, we obtained short term financing of approximately $224,000 for the purchase
of certain corporate insurance policies. Outstanding borrowings under this arrangement bear
interest at an effective rate of 6.86%. Principal and interest payments of approximately $26,000
are payable in nine equal monthly installments. This short term financing was paid in full as of
March 31, 2006. The outstanding balance on this short term borrowing was approximately $224,000 as
of June 30, 2005.
Long-Term Debt
Our Swedish subsidiary has a 25-year mortgage with a Swedish bank obtained to purchase one of
our facilities in Sweden. The outstanding principal balance on this loan, which is payable in
Swedish Krona, was approximately $610,000 and $631,000 at March 31, 2006 and June 30, 2005,
respectively. This loan carries a floating rate of interest, which was approximately 5.75% at March
31, 2006 and 5.25% at June 30, 2005. We are required to make quarterly payments of principal and
interest of approximately $17,000 under this agreement. This loan matures in September 2024 and is
secured by the related land and building, including improvements, which had a carrying value of
approximately $2.4 million and $2.3 million as of March 31, 2006 and June 30, 2005, respectively.
During November 2005, we obtained financing denominated in British Pounds of approximately
$84,000 for the purchase of certain laboratory equipment. Outstanding borrowings under this
arrangement bear interest at an effective rate of 7.92%. Following an initial payment of principal
and interest of approximately $15,000, principal and interest payments are payable in 33 monthly
installments on a stepped reducing balance basis; nine payments of approximately $3,700, twelve
payments of approximately $2,200 and twelve payments of approximately $1,500. The outstanding
balance on this borrowing was approximately $56,000 as of March 31, 2006.
15
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE G PREFERRED STOCK
Viragen is authorized to issue a total of 1,000,000 shares of preferred stock, par value $1.00
per share. Viragens board of directors may issue preferred stock by resolutions, without any
action of the stockholders. These resolutions may authorize issuance of preferred stock in one or
more series. In addition, the board of directors may fix and determine all privileges and rights
of the authorized preferred stock series including:
|
|
|
dividend and liquidation preferences, |
|
|
|
|
voting rights, |
|
|
|
|
conversion privileges, and |
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|
|
|
redemption terms. |
Series A Preferred Stock
Viragen established the 10% Series A Cumulative Convertible preferred stock in November 1986.
Each share of series A preferred stock is immediately convertible, at the option of the holder,
into .426 shares of our common stock. Dividends on the series A preferred stock are cumulative and
have priority over dividends, if any, paid on our common stock or subsequently created series of
preferred stock. These dividends are payable in either cash or common stock, at Viragens option.
The series A preferred stock has voting rights only if dividends are in arrears for five
annual dividends. In such event, the holders of series A preferred stock have the right to elect
two directors. Voting rights terminate upon payment of the cumulative dividends. Viragen may
redeem the series A preferred stock at any time after expiration of ten consecutive business days
during which the bid or last sale price for our common stock is $60.00 per share or higher. There
is no mandatory redemption or sinking fund obligation for the series A preferred stock.
Owners of the series A preferred stock are entitled to receive $10.00 per share, plus accrued
and unpaid dividends, upon liquidation, dissolution or winding up of Viragen. This obligation must
be satisfied before any distribution or payment is made to holders of the common stock or other
stock of Viragen junior to the series A preferred stock.
Series J Preferred Stock
On March 21, 2006, we completed a private placement of $5.215 million of our series J
preferred stock and warrants to purchase shares of our common stock. We received net proceeds of
approximately $4.7 million in connection with this transaction.
16
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE G PREFERRED STOCK (Continued)
Each share of series J preferred stock, par value $1.00 per share, has a stated value of $100.
The holders of outstanding series J preferred stock are entitled to receive preferential dividends
in cash out of any funds of Viragen before any dividend or other distribution will be paid or
declared and set apart for payment on any shares of any Viragen common stock, or other class of
stock presently authorized or to be authorized, except for Viragens series A preferred stock, at
the rate of 24% per annum on the stated value, payable in cash on the earlier of (a) annually in
arrears commencing February 28, 2007 and annually thereafter in cash or (b) upon redemption, as
hereinafter provided, following the closing of any subsequent financing (whether done in one or
more financings of debt or equity) by Viragen with gross proceeds equal to or greater than
$5,000,000. To the extent not prohibited by law, dividends must be paid to the holders not later
than five business days after the end of each period for which dividends are payable. For the
three months ended March 31, 2006, we accrued approximately $38,000 in dividends on the series J
preferred stock. These dividends are presented as an increase in our net loss attributable to our
common stock.
The series J preferred stock is convertible into Viragen common stock, at the option of the
investors, together with accrued and unpaid dividends if elected by the investors, at a conversion
price of $1.25 per share, subject to adjustment. Viragen and the investors each have the option at
such time as we complete a subsequent financing for gross proceeds of $5,000,000 or more to have
Viragen redeem all or a portion of their series J preferred stock and any accrued and unpaid
dividends, rounded up to the year end of the year of redemption. In addition, under certain
circumstances, we have the right to redeem the series J preferred stock if our common shares trade
at $2.50 or higher for a period of 10 consecutive trading days.
The series J preferred stock has been recorded as equity rather than a liability, as the right
of redemption of the series J preferred stock by either the investors or Viragen is contingent upon
a subsequent financing for gross proceeds of $5,000,000 or more, which has not occurred and is
within Viragens control. In addition, it is expected that
subsequent financings will be for equity securities as opposed to
debt securities.
For each share of series J preferred stock purchased, investors received warrants to purchase
80 shares of common stock at an exercise price of $1.25 per share, subject to adjustment, for a
term of five years from the date of issuance. The warrants include a cashless exercise provision.
No redemption rights for the warrants are provided to either Viragen or the investors.
The relative fair value of the warrants issued in connection with the series J preferred stock
was calculated to be approximately $930,000 using a Black-Scholes valuation model resulting in a
discount to the series J preferred stock. This relative fair value was presented as an increase in
our net loss attributable to our common stock. The full amount of the discount was recognized at
the date of issuance because the series J preferred stock is
immediately convertible and is not subject to mandatory redemption.
We incurred costs of approximately $591,000 in connection with the sales and issuance of our
series J preferred stock, which primarily consisted of the finders fees, registration fees and
legal and accounting expenses. These costs were recorded as a reduction in capital in excess of
par.
Dawson James Securities, Inc. served as placement agent for the transaction, and received a
placement agent cash fee of 8% of monies raised and a non-accountable expense fee of an additional
2% of monies raised. The placement agent also received warrants to purchase 667,520 shares of our
common stock (8% of the shares issuable upon conversion of the series J preferred stock and
exercise of the related warrants). The placement agent warrants are exercisable at $1.25 per
warrant share for a 60-month period.
17
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE G PREFERRED STOCK (Continued)
We filed a registration statement with the Securities and Exchange Commission to permit the
resale of the common shares underlying the series J preferred stock and warrants on April 19, 2006.
If we are unable to cause the registration statement to be declared effective on or before July 18,
2006, we are obligated to pay the holders of our series J preferred stock liquidated damages in
cash equal to 1.5% of the stated value of the series J preferred stock per month. Liquidated
damages will not accrue nor be payable for times during which the shares covered by the prospectus
are transferable by the holder pursuant to Rule 144(k) under the Securities Act of 1933, as
amended.
NOTE H CAPITAL STOCK
As of March 31, 2006, there were 45,378,284 shares of our common stock outstanding and
34,139,940 shares of our common stock issuable upon exercise or conversion of the following
securities:
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|
|
|
|
June 2004 convertible notes (convertible at $1.05 per share
through August 2008) |
|
|
11,476,194 |
|
September 2005 convertible debentures (convertible at $1.05 per
share through September 2008) |
|
|
1,666,669 |
|
Debt and equity offering warrants (exercisable at an average
price of $1.16 through March 2011) |
|
|
16,424,877 |
|
Officers, employees, and directors options (exercisable at an
average price of $4.47 through March 2014) |
|
|
299,284 |
|
Consultant warrants (exercisable at an average price of $18.82
through February 2009) |
|
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100,000 |
|
Convertible preferred stock, Series A |
|
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916 |
|
Convertible preferred stock, Series J |
|
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4,172,000 |
|
|
|
|
|
|
|
|
34,139,940 |
|
|
|
|
|
During the nine months ended March 31, 2006, we issued an aggregate of 7,571,428 shares of our
common stock upon the conversion of $7.95 million in principal of our June 2004 convertible notes,
which are convertible at $1.05 per share. Quarterly interest due January 1, 2006 on our June 2004
convertible notes was satisfied through the issuance of 576,857 shares of our common stock valued
at $0.49 per share. Quarterly interest due October 1, 2005 was satisfied through the issuance of
142,322 shares of our common stock valued at $0.61 per share and the payment of approximately
$258,000 in cash.
Subsequent to March 31, 2006, we issued an aggregate of 387,403 shares of our common stock
valued at $0.60 per share as payment of approximately $232,000 of interest due on our June 2004
convertible notes. We also granted 843,000 stock options to employees and directors with an
exercise price of $0.57 per share. The options vest one-half upon the
date of grant and one-half upon the first anniversary of the date of
grant. The options were granted from our 2006 Equity Compensation Plan, which is subject to
stockholder approval. As a result, management is evaluating the
accounting treatment of this transaction under SFAS No. 123(R)
and the results of that evaluation will be disclosed in our annual
report on Form 10-K for our fiscal year ending June 30, 2006.
18
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE I COMPREHENSIVE LOSS
Comprehensive loss is comprised of our net loss and other comprehensive income (loss). Other
comprehensive income (loss) refers to revenue, expenses, gains and losses that under accounting
principles generally accepted in the United States are included in comprehensive loss but are
excluded from net loss as these amounts are recorded directly as an adjustment to stockholders
equity. Our other comprehensive income (loss) consists of foreign currency translation
adjustments. The following table sets forth the computation of comprehensive loss for the periods
indicated:
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|
|
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|
|
|
|
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Three Months Ended |
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Nine Months Ended |
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March 31, |
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March 31, |
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2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
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Net loss |
|
$ |
(3,655,085 |
) |
|
$ |
(4,844,756 |
) |
|
$ |
(13,324,398 |
) |
|
$ |
(12,753,078 |
) |
Other comprehensive income (loss): |
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Currency translation adjustment |
|
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240,589 |
|
|
|
(1,101,859 |
) |
|
|
(23,947 |
) |
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506,102 |
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|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss |
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$ |
(3,414,496 |
) |
|
$ |
(5,946,615 |
) |
|
$ |
(13,348,345 |
) |
|
$ |
(12,246,976 |
) |
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|
|
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NOTE J ROYALTY AGREEMENT
In November 1986, we entered into a royalty agreement with Dialysis Corporation of America
(DCA, formerly Medicore, Inc.) with respect to interferon, transfer factor and products using
interferon and transfer factor. The agreement was subsequently amended in November 1989 and May
1993. The amended agreement provides for a maximum cap on royalties to be paid to DCA of
$2,400,000. It includes a schedule of royalty payments of:
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5% of the first $7,000,000 of sales, |
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4% of the next $10,000,000, and |
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3% of the next $55,000,000 |
These royalties are to be paid until the total of $2,400,000 is achieved. The amended
agreement also states that royalties of approximately $108,000 accrued prior to May 1993 under the
agreement are payable to DCA as the final payment. From May 1993 through September 2001, we paid
royalties under the amended agreement totaling approximately $70,000.
Royalties owed to DCA of approximately $90,000, based on our natural human alpha interferon
sales from October 1, 2001 through June 30, 2003, were payable in three installments: $30,000 was
payable by August 1, 2003; $30,000 was payable by August 1, 2004; and $30,000 was payable by August
1, 2005. The three installments totaling $90,000, plus $4,500 in interest, have been made.
Subsequent to June 30, 2003, in accordance with the terms of the amended agreement, royalties are
paid to DCA based on sales of natural human alpha interferon on a quarterly basis. For the three
months ended March 31, 2006 and 2005, royalties due under the agreement totaled approximately
$5,000 and $4,000, respectively. For the nine months ended March 31, 2006 and 2005, royalties due
under the agreement totaled approximately $15,000 and $8,000, respectively.
19
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE K TRANSACTIONS WITH RELATED PARTIES
We provide certain administrative services including management and general corporate
assistance to Viragen International, our majority owned subsidiary. We also incur certain costs
attributable to Viragen International including insurance and rent. These expenses are charged on
the basis of direct usage, when identifiable, or on the basis of estimated time spent. We believe
that the expenses allocated to Viragen International are representative of the operating expenses
incurred on their behalf. For the three and nine months ended March 31, 2006, expenses allocated to
Viragen International totaled approximately $287,000 and $938,000, respectively, compared to
approximately $353,000 and $1,038,000 for the three and nine months ended March 31, 2005,
respectively.
Viragen (Scotland), a wholly owned subsidiary of Viragen International, conducts research and
development and performs administrative functions on our behalf. These costs incurred by Viragen
(Scotland) relate to oncology and avian transgenic projects and are allocated to us as incurred.
For the three and nine months ended March 31, 2006, research and development costs allocated by
Viragen (Scotland) totaled approximately $705,000 and $1,714,000, respectively, compared to
approximately $521,000 and $1,254,000 for the three and nine months ended March 31, 2005,
respectively. The amount of administrative expenses allocated by Viragen (Scotland) was nil and
approximately $6,000 for the three and nine months ended March 31, 2006, respectively, compared to
approximately $25,000 and $96,000 for the three and nine months ended March 31, 2005.
During the nine months ended March 31, 2005 we recorded a $596,000 gain on the remeasurement
of a liability to us by Viragen (Scotland), which was denominated in U.S. dollars. This amount has
been recorded in the other income line item of our statement of operations. In prior periods, this
liability had been translated at historical exchange rates since this liability was determined to
be long-term in nature. This determination was based on the fact that Viragen (Scotland) did not
have the ability or intent to repay the liability to us. Beginning in fiscal 2002, Viragen
(Scotland) began gradually settling the liability by charging us for services performed on our
behalf. Management anticipates the liability will be settled through these charges in the near
term. Therefore, it was determined that the account should no longer be considered long-term and
thus translation at current exchange rates is appropriate. Since the liability was denominated in
U.S. dollars and the Pound Sterling had been strengthening against the U.S. dollar over the last
few years, the remeasurement of the liability resulted in a gain. Had the determination been made
when Viragen (Scotland) began settling the liability with charges to us in prior periods and the
liability been remeasured at then current exchange rates, the impact on the statements of
operations would not have been material and there would have been no effect on total stockholders
equity as such currency gains are reclassifications from accumulated other comprehensive income.
20
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE K TRANSACTIONS WITH RELATED PARTIES (Continued)
In connection with the acquisition of ViraNative discussed in Note D, the former shareholders
of ViraNative are entitled to additional shares of Viragen International common stock contingent
upon the attainment of certain milestones related to regulatory approvals:
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8,799,570 additional shares when and if a Mutual Recognition Procedures application is
filed and receives approval from the requisite national and European Union regulatory
authorities for the use, sale and marketing of Multiferon® in European Union
member countries, one of which must be Germany; and |
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|
2,933,190 additional shares when and if Multiferon® has been approved by the
requisite regulatory bodies in the European Union for the treatment of Melanoma or when
Multiferon® has been approved by the requisite regulatory bodies for sale in
the United States of America. |
If and as each of these milestones is met, additional shares of Viragen International will be
issued.
NOTE L CONTRIBUTION
During the nine months ended March 31, 2005, we received a contribution in the amount of
$278,000 from a business development agency in Sweden. This contribution was awarded in connection
with our capital investment in our renovated facility in Umeå, Sweden, which was completed during
our fiscal year ended June 30, 2004. This contribution was recorded as a reduction of the cost of
the building improvements. We could be required to repay a portion of this contribution if we do
not meet certain conditions under the award, including, but not limited to, keeping the facility in
operation. The amount we could be required to repay decreases on an annual basis beginning in July
2005. After July 2005, we could only be required to repay 70% of the award. Upon the second,
third and fourth anniversaries, the repayment amount decreases to 45%, 25% and 10%, respectively,
of the award. At this time, we have no reason to believe we will be required to repay any portion
of the contribution.
NOTE M RECENT ACCOUNTING PRONOUNCEMENTS
In November 2004, the FASB issued FASB SFAS No. 151, Inventory Costs an Amendment of ARB No.
43, Chapter 4. SFAS No. 151 amends ARB 43, Chapter 4, to clarify that abnormal amounts of idle
facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as
current-period charges. Historically, we have expensed such costs as incurred. In addition, SFAS
No. 151 requires that allocation of fixed production overheads to the costs of conversion be based
on the normal capacity of the production facilities. The provisions of SFAS No. 151 are effective
for inventory costs incurred during fiscal years beginning after June 15, 2005. The adoption of the
provisions of SFAS No. 151 as of the beginning of our 2006 fiscal year, which commenced July 1,
2005, did not have a material impact on our financial position or results of operations.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections a
replacement for APB Opinion No. 20 and FASB Statement No. 3. SFAS No. 154 provides guidance on
accounting for and reporting of accounting changes and error corrections. It requires prior period
financial statements to be restated for voluntary changes in accounting principles. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years beginning after
December 15, 2005. We have no plans to adopt a voluntary change in accounting principle and believe
that the adoption of SFAS No. 154 will not have an effect on our consolidated financial statements.
21
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE M RECENT ACCOUNTING PRONOUNCEMENTS (Continued)
In June 2005, the FASB ratified the consensus reached by the Emerging Issues Task Force (EITF)
on EITF Issue No. 05-02 The Meaning of Conventional Convertible Debt Instrument in Issue No.
00-19 (EITF No. 05-02). The abstract clarified the meaning of conventional convertible debt
instruments and confirmed that instruments which meet its definition should continue to receive an
exception to certain provisions of EITF Issue No. 00-19 Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Companys Own Stock (EITF No. 00-19). The
guidance should be applied to new instruments entered into and instruments modified in periods
beginning after June 29, 2005. The adoption of EITF No. 05-02 has not had a material impact on our
consolidated financial statements.
In September 2005, the FASB reported that the EITF postponed further deliberations on Issue
No. 05-04 The Effect of a Liquidated Damages Clause on a Freestanding Financial Instrument Subject
to Issue No. 00-19 (EITF No. 05-04) pending the FASB reaching a conclusion as to whether a
registration rights agreement meets the definition of a derivative instrument. The legal agreements
related to our convertible notes and debentures include a freestanding registration rights
agreement. Once the FASB ratifies the then-completed consensus of the EITF on EITF No. 05-04, we
will assess the impact on our consolidated financial statements of adopting the standard and, if an
impact exists, follow the transition guidance for implementation.
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid Financial
Instrument an amendment of FASB Statements No. 133 and 140, which resolves issues addressed in
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, Implementation Issue
No. D1, Application of Statement 133 to Beneficial Interests in Securitized Financial Assets. SFAS
No. 155, among other things, permits the fair value remeasurement of any hybrid financial
instrument that contains an embedded derivative that otherwise would require bifurcation; clarifies
which interest-only strips and principal-only strips are not subject to the requirements of SFAS
No. 133; and establishes a requirement to evaluate interests in securitized financial assets to
identify interests that are freestanding derivatives or that are hybrid financial instruments that
contain an embedded derivative requiring bifurcation. SFAS No. 155 is effective for all financial
instruments acquired or issued in a fiscal year beginning after September 15, 2006. We have not yet
assessed the impact the adoption of SFAS No. 155 will have on our financial position and results of
operations for our fiscal year beginning July 1, 2006.
22
VIRAGEN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE N LITIGATION SETTLEMENT
Viragen received $300,000 in recovery of legal fees and settlement of litigation it filed in a
malicious prosecution and conspiracy action against a former plaintiff and plaintiffs counsel.
This amount was record in other income, net in the statement of operations.
In October 1997, Viragen, Viragens former president, Cytoferon Corp., a former affiliate of
Viragens former president, were named as defendants in a civil action brought in the United States
District Court of Florida. (Walter L. Smith v. Cytoferon Corp. et al; Case No.:
97-3187-CIV-MARCUS). The suit alleged the defendants violated federal and state securities laws,
federal and state RICO statutes, fraud, conspiracy, breach of fiduciary duties and breach of
contract. The plaintiff was seeking an unspecified monetary judgment and the delivery of 441,368
shares of Viragen common stock. Viragen filed a motion to dismiss, denying the allegations and
requesting reimbursement of costs.
In November 1997, plaintiff filed a notice of voluntary dismissal with the federal court. In
December 1998 the U.S. District Court awarded Viragen reimbursement of attorneys fees and expense
under Rule 11 of the federal Rules of Civil Procedure and Private Securities Litigation Reform Act.
We recovered $31,000 during fiscal 2000.
In November 1997, the plaintiff filed a complaint in the Circuit Court of the 11th
Judicial Circuit of Miami-Dade County, Florida (Case No.: 97-25587 CA30) naming the same
defendants. The suit alleged breach of contract, fraud, violation of Floridas RICO statute and
breach of fiduciary duties. It sought an unspecified monetary judgment and specific performance
delivery of 441,368 shares of Viragen common stock.
In January 2001, the Circuit Court ruled in favor of Viragen on all counts related to the
Circuit Court case and all counts against Viragen were dismissed. In July 2002, the Circuit Court
ruled in favor of Viragens former president and Cytoferon Corp. and all counts against these
defendants were also dismissed. Following these rulings Viragen sought recovery of these related
litigation costs from the plaintiff and his counsel and were awarded $210,000. In April 2003 the
plaintiff and their counsel appealed the award which was upheld.
In February 2001, Viragen filed a lawsuit, (Viragen, Inc. v. Walter Larry Smith, W. Richard
Leuck, Roland St. Louis, Jr., Esq., Juan C. Martinez, Esq., St. Louis, Guerra, Auslander, P.A. and
John Does Nos. 1-10, Case No. 01-3842 CA01) in a malicious prosecution and conspiracy action in an
attempt to recapture the losses incurred by Viragen stemming from the complaint filed against
Viragen in November 1997.
Viragens claims relating to both the recovery of legal fees and the February 2001 lawsuit
Viragen filed for malicious prosecution against the former plaintiff and his counsel were settled
in full with the $300,000 payment to Viragen. At this time, Viragen has no outstanding litigation.
23
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
Introduction
We are a biopharmaceutical company focused on the research, development, manufacture and
commercialization of innovative technologies and products used to treat infectious diseases and
cancers in humans. Through collaborations with recognized experts, companies and institutions
worldwide we are developing leading-edge science to combat viral diseases, melanoma, ovarian
cancer, breast cancer and other cancers.
Our product and technology portfolio includes,
|
|
|
Multiferon®, natural leukocyte-derived multi-subtype interferon alpha, used in
the treatment of a number of viral diseases and cancer indications. |
|
|
|
|
Avian Transgenics, whereby we intend to develop and use transgenic chickens to
produce therapeutic proteins and antibodies for human use in the whites of eggs. |
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VG101, an antibody to the GD3 antigen, which is over-expressed on malignant
melanoma tumors, thereby preventing the bodys natural immune system from stopping
cancer cell growth and proliferation. |
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VG102, an antibody to the CD55 antigen, which is over-expressed on nearly all
solid cancerous tumors and which prevents the bodys natural immune system from
killing cancer cells. |
We own approximately 81.2% of Viragen International, Inc. We operate primarily through Viragen
International Inc., and its wholly owned subsidiaries, ViraNative AB (ViraNative), a company
located in Umeå, Sweden, and Viragen (Scotland) Limited (Viragen (Scotland)), a company located
near Edinburgh, Scotland. ViraNative and Viragen (Scotland) house our manufacturing and research
laboratory facilities.
Cautionary Factors That May Affect Future Results
This document and other documents we may file with the Securities and Exchange Commission
contain forward-looking statements. Also, our management may make forward-looking statements orally
to investors, analysts the media and others. Forward-looking statements express our expectations or
predictions of future events or results. They are not guarantees and are subject to many risks and
uncertainties. There are a number of factors many beyond our
control that could cause actual
events or results to be significantly different from those described in the forward-looking
statement. Any or all of our forward-looking statements in this report or in any other public
statements we make may turn out to be wrong.
Forward-looking statements might include one or more of the following:
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anticipated debt or equity financings; |
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projections of future revenue; |
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anticipated clinical trial commencement dates, completion timelines or results; |
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anticipated receipt of regulatory approvals; |
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descriptions of plans or objectives of management for future operations, products or services; |
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forecasts of future economic performance; and |
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descriptions or assumptions underlying or relating to any of the above items. |
Forward-looking statements can be identified by the fact that they do not relate strictly to
historical or current facts. They use words such as anticipate, estimate, expect, project,
intend, plan, believe or words of similar meaning. They may also use words such as would,
should, could or may.
24
Factors that may cause actual results to differ materially include the risks and uncertainties
discussed below, as well as in the Risk Factors section included in our Prospectus (File No.
333-133397) filed with the Securities and Exchange Commission on April 19, 2006. You should read
them. You should also read the risks and uncertainties identified from time to time in our reports
on Form 10-Q or 10-K, and registration statements on Form S-3 and amendments, if any, to these
documents. Viragen will provide you with a copy of any or all of these reports at no charge. Copies
of these documents may also be obtained free of charge from our
website at www.viragen.com or the
Securities and Exchange Commission website at www.sec.gov. The information on our website is
neither incorporated into, nor a part of, this report.
Our business, results of operations and financial condition could be materially and adversely
affected by a number of risks and uncertainties, which could result in our having to curtail or
possibly suspend or cease operations. These risks and uncertainties include the following:
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whether we are able to secure sufficient financing in order to maintain our
operations, complete clinical trials and successfully market our product and otherwise
continue as a going concern; |
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whether the efficacy, production, price and timing of approvals of our natural human
alpha interferon will enable us to compete with other well established, highly
capitalized, biopharmaceutical companies; |
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whether our stock price will enable us to conduct future financings; |
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whether we are able to service our indebtedness and/or repay indebtedness as and
when due, and otherwise meet our obligations to our lenders; |
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whether we are able to maintain our listing on the American
Stock Exchange; |
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whether we can generate revenue sufficient to offset our historical losses and
achieve profitability; |
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whether clinical testing confirms the efficacy of our product, and results in the
receipt of regulatory approvals. We have not sought the approval of our natural human
alpha interferon product from the U.S. Food and Drug Administration or its European
Union counterparts, except Sweden; |
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whether our patent applications result in the issuance of patents, or whether
patents and other intellectual property rights provide adequate protections in the
event of misappropriation or infringement by third parties; |
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whether our avian transgenics program will succeed in being able to produce targeted
drugs in egg whites of transgenic chickens in commercially viable quantities; and |
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whether, despite receipt of regulatory approvals, our products are accepted as a
treatment superior to that of our competitors. |
Our natural human alpha interferon product was developed and is manufactured in Sweden. Our
avian transgenic and certain oncology programs are also being researched and developed in Europe.
Our dependence on foreign manufacturing and expected international sales exposes us to a number of
risks, including:
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unexpected changes in regulatory requirements; |
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tariffs and other trade barriers, including import and export restrictions; |
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political or economic instability; |
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compliance with foreign laws; |
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transportation delays and interruptions; |
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difficulties in protecting intellectual property rights in foreign countries; and |
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foreign currency exchange risks.
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25
Recent Developments
Approval of Multiferon®
On February 17, 2006, we were notified that the Swedish Medical Products Agency approved
Multiferon® for the first-line adjuvant treatment of high-risk (Stages IIb-III) malignant melanoma
following dacarbazine (DTIC) after surgical removal of tumors. Approval for Multiferon® in
sequential combination with DTIC was granted based on clinical trial data that demonstrated a
statistically significant advantage over untreated controls.
Effective March 2006, our sales staff in Sweden began promoting this new indication to
physicians. While there can be no assurance, we expect incremental sales gains over the next
several quarters. We have committed to conducting a new Phase III, post-marketing clinical trial in
high-risk melanoma. This trial will compare our novel DTIC and Multiferon® treatment regimen to
that of longer duration recombinant interferon therapy. We anticipate approximately 1,000 patients
to be enrolled in this new trial possibly in as many as 20 different countries around the world.
We plan to initiate enrollment in this trial in the fall of 2006. Working with the Swedish
authorities and external regulatory consultants, we are planning for an application for broad
European registration for Multiferon® using the Mutual Recognition Procedure.
Series J 24% Cumulative Convertible Preferred Stock
On March 21, 2006, we completed a private placement of our series J preferred stock and
warrants to purchase shares of our common stock. Viragen received gross proceeds of approximately
$5.2 million in connection with this transaction. A more complete description of this transaction
is contained below in Liquidity and Capital Resources.
American Stock Exchange Notice
Viragen received a deficiency letter from the American Stock Exchange (Amex) dated March 1,
2006, advising that, based upon its review of Viragens financial statements included in its
Quarterly Report on Form 10-Q for the quarter ended December 31, 2005, Viragen does not meet an
additional continued listing standard. Specifically, Viragen is not in compliance with Section
1003(a)(i) of the Amex Company Guide, because Viragens stockholders equity is less than
$2,000,000 and it sustained losses from continuing operations and/or net losses in two of its three
most recent fiscal years.
On September 22, 2005, Viragen disclosed that it had received a deficiency letter from the
Amex dated September 20, 2005, advising that, based upon its review of Viragens financial
statements included in its Annual Report on Form 10-K for the fiscal year ended June 30, 2005,
Viragen is not in compliance with Amexs continued listing standards. Specifically, Viragen is not
in compliance with Section 1003(a)(ii) of the Amex Company Guide, because Viragens stockholders
equity is less than $4,000,000 and it sustained losses from continuing operations and/or net losses
in three out of its four most recent fiscal years, and Section 1003(a)(iii) of the Amex Company
Guide, because Viragens stockholders equity is less than $6,000,000 and it sustained losses from
continuing operations and/or net losses in its five most recent fiscal years.
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In response to the September 20, 2005 letter from Amex, Viragen submitted a compliance plan to
Amex, which outlines Viragens plans to regain compliance with Amexs continued listing standards.
On October 25, 2005, Amex notified Viragen that it accepted Viragens plan of compliance and
granted Viragen an extension of time until March 20, 2007 to regain compliance with Amexs
continued listing standards. Viragen is subject to periodic review by Amex during the extension
period and we have provided quarterly updates to Amex regarding our progress with the plan. Failure
to make progress consistent with the plan or to regain compliance with the continued listing
standards by the end of the extension period could result in Viragens shares being delisted from
Amex.
Other Announcements
On January 18, 2006, Viragen announced that its OVA System achieved expression of
significant quantities of the human protein, interferon beta-1a, in the whites of eggs laid by
transgenic hens. Interferon-beta is a key component of the human immune system and is the active
ingredient in several leading multiple sclerosis (MS) therapies. While these results are believed
to be the first in a series of anticipated milestones that are hoped to demonstrate that an
avian-expressed version of beta-interferon can be produced for human use, aspects of the
avian-manufacturing process must be further refined in order to validate the technology and confirm
its economical benefits before entering into commercial production. It is this projects aim to
develop a cost-effective biomanufacturing system for the large-scale production of human
therapeutic proteins.
On February 7, 2006, we reported on the progression of anti-viral studies using Multiferon®
being conducted by the U.S. Army Medical Research Institute of Infectious Diseases (USAMRIID).
These studies have found Multiferon® to have significant activity when used in vitro against
certain Category A pathogens, a class of highly virulent viral threats, which have the potential
to be used in biowarfare. In this research collaboration, Viragen International and USAMRIID have
agreed to conduct a study program designed to evaluate Multiferon® against specific viral agents.
Additional studies will evaluate Multiferon® as a possible broad-acting anti-viral product, which
may be used as a first-line of defense against unknown infectious agents or when no therapeutic or
vaccine exists. These studies are expected to be completed in 2006 and will help determine the
potential role of Multiferon® as a bio-defense product.
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Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations is based upon
our financial statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial statements requires
management to make estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported amounts of income and expenses
during the periods. On an on-going basis, we evaluate our estimates, including those related to
inventories, depreciation, amortization, asset valuation allowances, contingencies and litigation.
We base our estimates on historical experience and on various other assumptions that are believed
to be reasonable under the circumstances, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily apparent from other
sources. Actual results may differ from these estimates under different assumptions or conditions.
We believe that the following critical accounting policies affect our more significant judgments
and estimates used in the preparation of our financial statements.
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Inventories. Inventories consist of raw materials and supplies, work in process and
finished product. Finished product consists of purified natural human alpha interferon
that is available for sale. Costs of raw materials and supplies are determined on a
first-in, first-out basis. Costs of work in process and finished product, consisting of
raw materials, labor and overhead are recorded at a standard cost (which approximates
actual cost). Excess/idle capacity costs are expensed in the period in which they are
incurred and are recorded in cost of sales. Our inventories are stated at the lower of
cost or market (estimated net realizable value). If the cost of our inventories exceeds
their expected market value, provisions are recorded currently for the difference between
the cost and the market value. These provisions are determined based on estimates. The
valuation of our inventories also requires us to estimate excess inventories and
inventories that are not saleable. The determination of excess or non-saleable inventories
requires us to estimate the future demand for our product and consider the shelf life of
the inventory. If actual demand is less than our estimated demand, we could be required to
record inventory write-downs, which would have an adverse impact on our results of
operations. |
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Long-lived assets. In accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, we review our long-lived assets, including intangible
assets, for impairment whenever events or changes in circumstances indicate that the
carrying amount of these assets may not be fully recoverable. The assessment of possible
impairment is based on our ability to recover the carrying value of our asset based on our
estimate of its undiscounted future cash flows. If these estimated future cash flows are
less than the carrying value of the asset, an impairment charge is recognized for the
difference between the assets estimated fair value and its carrying value. As of the date
of these financial statements, we are not aware of any items or events that would cause us
to adjust the recorded value of our long-lived assets, including intangible assets, for
impairment. |
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Goodwill. In accordance with SFAS No. 142, Goodwill and Other Intangible Assets,
goodwill is not amortized. Goodwill is reviewed for impairment on an annual basis or sooner
if indicators of impairment arise. Management has selected April 1st as the
date of our annual impairment review. All of our goodwill arose from the acquisition of
ViraNative in September 2001 and the subsequent achievement of certain milestones defined
in the acquisition agreement. We periodically evaluate that acquired business for
potential impairment indicators. Our judgments regarding the existence of impairment
indicators are based on legal factors, market conditions, and the operational performance
of the acquired business. During the fourth quarter of fiscal 2005, we completed our annual
impairment review of our goodwill. The impairment review indicated that our goodwill was
impaired and, as a result, an impairment charge of approximately $6.9 million was recorded
during the fourth quarter of fiscal 2005. Changes in the estimates used to conduct our
impairment review, including revenue |
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projections or market values, could cause our analysis to indicate that our goodwill is
further impaired in subsequent periods and result in a write-off of a portion or all of our
goodwill. |
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Stock-based compensation. Effective July 1, 2005, we adopted the fair value recognition
provisions of FASB Statement No. 123(R), Share-Based Payment, using the
modified-prospective-transition method. Under that transition method, stock-based
compensation cost recognized subsequent to July 1, 2005 should include: (a) compensation
cost for all share-based payments granted prior to, but not yet vested as of July 1, 2005,
based on the grant date fair value estimated in accordance with the original provisions of
Statement No. 123, and (b) compensation cost for all stock-based compensation granted
subsequent to July 1, 2005, based on the grant-date fair value estimated in accordance with
the provisions of Statement No. 123(R). The amount of stock-based compensation costs
included in our statement of operations for the current period for stock options granted to
employees and directors prior to July 1, 2005, which were not fully vested as of July 1,
2005, is immaterial to our results of operation. No stock-based compensation was granted
during the three and nine months ended March 31, 2006. The issuance of stock-based
compensation in the future will require the use of estimates when determining the fair
value of the stock-based compensation for purposes of expense recognition in our statement
of operation. We intend to use the Black-Scholes valuation model and estimates consistent
with those we have historically used for pro forma disclosures of stock-based compensation.
We account for our stock-based compensation arrangements with non-employees in accordance
with Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for
Stock-Based Compensation and related guidance, including Emerging Issues Task Force (EITF)
No. 96-18, Accounting for Equity Instruments That Are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods or Services. Accordingly, we recognize as
expense the estimated fair value of such instruments as calculated using the Black-Scholes
valuation model. The estimated fair value is re-determined each quarter using the
methodologies allowable by SFAS No. 123 and EITF No. 96-18 and the expense is amortized
over the vesting period of each option or the recipients contractual arrangement, if
shorter. |
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Convertible debt and equity issued with stock purchase warrants. Viragen accounts for
the issuance of and modifications to its convertible debt issued with stock purchase
warrants in accordance with APB No. 14, Accounting for Convertible Debt and Debt Issued
with Stock Purchase Warrants, EITF No. 98-5, Accounting for Convertible Securities with
Beneficial Conversion Features or Contingently Adjustable Conversion Ratios, EITF No.
00-27, Application of Issue No. 98-5 to Certain Convertible Instruments and SFAS No. 15,
Accounting by Debtors and Creditors for Troubled Debt Restructurings. The determination of
the relative fair value of the components of our convertible debentures issued with common
stock purchase warrants requires the use of estimates. Changes in those estimates would
result in different relative values being attributed to the components, which could result
in more or less discount on the principal amount of the debt and more or less related
interest expense. In addition, the accounting guidance for these transactions is highly
complex and evolving. Future interpretations of the existing guidance or newly issued
guidance in this area could require us to change our accounting for these transactions. |
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Revenue recognition. We recognize revenue from sales of our natural human alpha
interferon product when title and risk of loss has been transferred, which is generally
upon shipment. Moreover, recognition requires persuasive evidence that an arrangement
exists, the price is fixed and determinable, and collectibility is reasonably assured. |
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Liquidity and Capital Resources
As of March 31, 2006, we had approximately $3.7 million in cash and cash equivalents down from
approximately $6.9 million as of June 30, 2005. As of March 31, 2006, we had working capital of
approximately $4.0 million, compared to a working capital deficit of approximately $7.3 million as
of June 30, 2005. The change in working capital is primarily attributed to the reclassification of
our convertible notes from current to long-term as a result of the amendments dated September 15,
2005, which extended the due date of the notes from March 31, 2006 to August 31, 2008. Cash used
to fund operations during the nine months ended March 31, 2006 totaled approximately $8.1 million.
In addition, we made capital investments of approximately $461,000, primarily for equipment and
renovations at our Swedish subsidiary as well as research and development equipment at our Scottish
subsidiary. The equipment purchases and renovations at our Swedish subsidiary were necessary to
replace or modernize certain portions of our production and administrative facilities. During the
nine months ended March 31, 2006, we received net proceeds of approximately $5.9 million from the
sale of our convertible debentures with a face value of $2.0 million and $5.2 million of our series
J convertible preferred stock. These financing transactions are discussed in further detail below.
Principal and interest payments on our convertible notes and debentures totaled approximately
$533,000 for the nine months ended March 31, 2006. Principal payments on our short and long-term
financing obligations, excluding convertible notes and debentures, totaled approximately $317,000
for the nine months ended March 31, 2006.
We have experienced losses and a negative cash flow from operations since inception. During
the nine months ended March 31, 2006 we incurred a net loss of approximately $13.3 million. During
the fiscal years ended June 30, 2005, 2004 and 2003, we incurred significant net losses of
approximately $26.2 million, $18.2 million and $17.3 million, respectively, and had an accumulated
deficit of approximately $161.0 million as of March 31, 2006. We anticipate additional future
losses as we commercialize our natural human alpha interferon product and conduct additional
research activities and clinical trials to obtain additional regulatory approvals. We believe we
have sufficient cash to support operations, including those of our subsidiaries, through June 2006.
We will require substantial additional funding to support our operations subsequent to June 2006.
As we do not anticipate achieving sufficient cash flows from operations for the foreseeable future,
we are seeking additional capital through equity or debt financings. No assurance can be given that
additional capital will be available when required or upon terms acceptable to us. Our inability to
generate substantial revenue or obtain additional capital through equity or debt financings would
have a material adverse effect on our financial condition and our ability to continue operations.
Accordingly, if we are unable to obtain additional financing by the end of June 2006, we could be
forced to significantly curtail or suspend our operations, including laying-off employees,
recording asset impairment write-downs and other measures.
We are engaged in active discussions with potential sources of financing, and are hopeful that
we will succeed in securing the additional funds necessary to sustain operations. We are also
engaged in active discussions with prospective licensees of Multiferon® in the European Union. We
anticipate that a component of any licensing arrangements we may enter into will include our
receipt of license fees, our receipt of which will have a positive effect on our working capital.
At this time we are unable to predict whether we will consummate license arrangements for
Multiferon® in the European Union or when we will receive license fees from any license agreement
that we may enter into.
Due to our financial condition, the report of our independent registered public accounting
firm on our June 30, 2005 consolidated financial statements includes an explanatory paragraph
indicating that these conditions raise substantial doubt about our ability to continue as a going
concern. The accompanying consolidated condensed financial statements do not include any
adjustments relating to the recoverability and classification of asset carrying amounts or the
amount and classification of liabilities that might result from the outcome of these uncertainties.
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Our future cash requirements are dependent upon many factors, including:
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revenue generated from the sale of our natural human alpha interferon product; |
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market conditions and our ability to service our convertible debt; |
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progress with future clinical trials; |
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the costs associated with obtaining regulatory approvals; |
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the costs involved in patent applications; |
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competing technologies and market developments; and |
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our ability to establish collaborative arrangements and effective
commercialization activities. |
For the remainder of fiscal 2006, we anticipate the need of approximately $3.0 million for
operating activities, $50,000 for investing activities and $300,000 to service our current
financing obligations.
Series J 24% Cumulative Convertible Preferred Stock
On March 21, 2006, we completed a private placement of series J preferred stock and warrants
to purchase shares of our common stock. We received gross proceeds of approximately $5.2 million
in connection with this transaction.
Each share of series J preferred stock, par value $1.00 per share, has a stated value of $100.
The holders of outstanding series J preferred stock are entitled to receive preferential dividends
in cash out of any funds of Viragen before any dividend or other distribution will be paid or
declared and set apart for payment on any shares of any Viragen common stock, or other class of
stock presently authorized or to be authorized, except for Viragens series A preferred stock, at
the rate of 24% per annum on the stated value, payable in cash on the earlier of (a) annually in
arrears commencing February 28, 2007 and annually thereafter in cash or (b) upon redemption, as
hereinafter provided, following the closing of any subsequent financing (whether done in one or
more financings of debt or equity) by Viragen with gross proceeds equal to or greater than
$5,000,000. To the extent not prohibited by law, dividends must be paid to the holders not later
than five business days after the end of each period for which dividends are payable.
The series J preferred stock is convertible into Viragen common stock, at the option of the
investors, together with accrued and unpaid dividends if elected by the investors, at a conversion
price or rate of $1.25 per share, subject to adjustment. Viragen and the investors each have the
option at such time as we complete a subsequent financing for gross proceeds of $5,000,000 or more
to have Viragen redeem all or a portion of their series J preferred stock and any accrued and
unpaid dividends, rounded up to the year end of the year of redemption. In addition, under certain
circumstances, we have the right to redeem the series J preferred stock if our common shares trade
at $2.50 or higher for a period of 10 consecutive trading days.
For each share of series J preferred stock purchased, investors received warrants to purchase
80 shares of common stock at an exercise price of $1.25 per share, subject to adjustment, for a
term of five years from the date of issuance. The warrants include a cashless exercise provision.
No redemption rights for the warrants are provided to either Viragen or the investors.
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We filed a registration statement with the Securities and Exchange Commission to permit the
resale of the common shares underlying the series J preferred stock and warrants on April 19, 2006.
If we are unable to cause the registration statement to be declared effective on or before July
18, 2006, we are obligated to pay investors liquidated damages in cash equal to 1.5% of the stated
value of the series J preferred stock per month. Liquidated damages will not accrue nor be payable
for times during which the shares covered by the prospectus are transferable by the holder pursuant
to Rule 144(k) under the Securities Act of 1933, as amended.
The net proceeds from the offering of approximately $4.7 million are being used for working
capital purposes.
Dawson James Securities, Inc. served as placement agent for the transaction, and received a
placement agent cash fee of 8% of monies raised and a non-accountable expense fee of an additional
2% of monies raised. The placement agent also received warrants to purchase common stock in an
amount equal to 8% of the shares issuable upon conversion of the series J preferred stock and
exercise of the related warrants (an aggregate of 667,520 warrants). The placement agent warrants
are exercisable at $1.25 per warrant share for a 60-month period.
Line of Credit
Our Swedish subsidiary maintained an overdraft facility, denominated in Swedish Krona, with a
bank in Sweden. The maximum borrowing capacity on this overdraft facility was approximately
$767,000 at June 30, 2005. Borrowings outstanding under this overdraft facility were at a floating
rate of interest, which was approximately 5.25% at June 30, 2005. The overdraft facility expired at
the end of February 2006 and outstanding borrowings at that time were paid. There was no
outstanding balance under this overdraft facility as of June 30, 2005. This overdraft facility was
secured by certain assets of ViraNative including inventories and accounts receivable.
Convertible Notes and Debentures
On June 18, 2004, we completed the sale of convertible notes and common stock purchase
warrants in the aggregate amount of $20 million. We received approximately $18.96 million, net of
finders fees and legal expenses. On September 15, 2005, we entered into agreements with each of
the note holders to extend the maturity date of the notes from March 31, 2006 to August 31, 2008
and reduce the conversion price. These convertible notes are convertible immediately by the
investors, in whole or in part, into shares of our common stock at a conversion price equal to
$1.05. This conversion price, with certain exceptions, is subject to reductions if we enter into
additional financing transactions for the sale of our stock below the public trading price and
below the conversion price.
Interest remains payable quarterly at an annual rate of 7%. Quarterly interest payments are
payable in cash or, at our option, in shares of our common stock based upon the average market
price of our common stock during the 20 consecutive trading days prior to and including the
interest payment date, subject to certain conditions.
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These notes may be prepaid at 110% of their face amount, plus the issuance to note holders of
additional warrants to purchase the number of shares of our common stock into which the notes would
otherwise have been convertible, at an exercise price equal to the prevailing conversion price of
the notes. If issued on prepayment, the warrants may be exercised for the period that would have
been the remaining life of the notes had they not been prepaid. We also have the right to require
note holders to convert their notes, subject to certain limitations; if the volume weighted average
price of our common stock exceeds $2.00 per share for 30 consecutive trading days.
As of March 31, 2006, $12.05 million of the principal amount of these convertible notes
remained outstanding. Interest on these notes for the nine months ended March 31, 2006 at 7%
totaled approximately $861,000. The quarterly interest due April 1, 2006 of approximately $232,000
was satisfied through the issuance of 387,403 shares of our common stock valued at $0.60 per share.
The quarterly interest due January 1, 2006 of approximately $284,000 was satisfied through the
issuance of 576,857 shares of our common stock valued at $0.49 per share. The quarterly interest
due October 1, 2005 of approximately $345,000 was satisfied through the payment of approximately
$258,000 in cash and the issuance of 142,322 shares of our common stock valued at $0.61 per share.
On September 15, 2005, we entered into a securities purchase agreement under which we sold our
convertible, amortizing debentures in the aggregate principal amount of $2.0 million to four
returning institutional investors. Under the terms of the agreement, Viragen received approximately
$1.2 million, net of original issue discounts of $570,000, a $200,000 finders fee and legal
expenses. This agreement also provided for the issuance to the purchasers of an aggregate of
952,381 three-year common stock purchase warrants exercisable at a price of $1.25 per share.
The debentures are convertible at a conversion price of $1.05 per share, subject to
adjustment, including in the event that Viragen subsequently issues securities at less than the
conversion price then in effect. The debentures provide for amortization in 32 equal monthly
installments of principal, commencing on January 1, 2006. Monthly amortization payments may be
made, at Viragens option, in cash, accompanied by a 10% premium, or in shares of its common stock
at a 5% discount to market price (computed by reference to the volume weighted average price of
Viragens common stock during the five trading day period immediately preceding the amortization
due date). Viragen has the right to require the debenture holders to convert their debentures in
the event that the volume weighted average price of Viragen common stock exceeds $2.00 per share
for 30 consecutive trading days, the resale of the shares issuable upon conversion of the
debentures are covered by an effective registration statement, and certain other conditions are
met.
In lieu of interest, the debentures provided for an original issue discount equal to $570,000,
the equivalent of 9.5% interest over the three year life of the debentures.
During the nine months ended March 31, 2006, we made cash payments aggregating $275,000 to the
September 15, 2005 convertible debenture holders, which represented four of 32 monthly installments
on these debentures, including the additional 10% premium.
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American Stock Exchange Notice
Viragens outstanding convertible debt contains a provision that in the event its common stock
is no longer traded on the Amex, New York Stock Exchange or NASDAQ, the debt holders have the right
to request repayment of their investment with related accrued interest. Given Viragens current
financial position, if the convertible debt holders were to request payment, we would be unable to
repay these amounts and would be in default of the debt agreements.
Viragen received a deficiency letter from the American Stock Exchange (Amex) dated March 1,
2006, advising that, based upon its review of Viragens financial statements included in its
Quarterly Report on Form 10-Q for the quarter ended December 31, 2005, the Company does not meet an
additional continued listing standard. Specifically, Viragen is not in compliance with Section
1003(a)(i) of the Amex Company Guide, because the Companys stockholders equity is less than
$2,000,000 and it sustained losses from continuing operations and/or net losses in two of its three
most recent fiscal years. Previously, Viragen received a deficiency letter from the American Stock
Exchange (Amex) dated September 20, 2005, advising that, based upon its review of Viragens
financial statements included in its Annual Report on Form 10-K for the fiscal year ended June 30,
2005, Viragen is not in compliance with Amexs continued listing standards. Specifically, Viragen
is not in compliance with Section 1003(a)(ii) of the Amex Company Guide, because the Companys
stockholders equity is less than $4,000,000 and it sustained losses from continuing operations
and/or net losses in three out of its four most recent fiscal years, and Section 1003(a)(iii) of
the Amex Company Guide, because the Companys stockholders equity is less than $6,000,000 and it
sustained losses from continuing operations and/or net losses in its five most recent fiscal years.
Viragen submitted a plan to Amex which outlines Viragens plans to regain compliance with Amexs
continued listing standards. On October 25, 2005, Amex notified Viragen that it accepted Viragens
plan of compliance and granted Viragen an extension of time until March 20, 2007 to regain
compliance with Amexs continued listing standards. Viragen will be subject to periodic review by
Amex during the extension period. Failure to make progress consistent with the plan or to regain
compliance with the continued listing standards by the end of the extension period could result in
Viragens shares being delisted from Amex. We have provided quarterly updates to Amex regarding our
progress with the plan.
Change in Filer Status
Effective December 31, 2005, we computed our market capitalization in the manner prescribed by
rules of the Securities and Exchange Commission. Based upon that computation, our market
capitalization was less than $50 million as of December 31, 2005. As a result, SEC rules provide
that effective June 30, 2006, we will no longer meet the SECs definition of an accelerated filer
and, based upon current rules, we will no longer be subject to the provisions of Section 404 of the
Sarbanes-Oxley Act of 2002 nor be required to provided managements report on the effectiveness of
our internal controls over financial reporting in our June 30, 2006 annual report of Form 10-K. As
a result of this change in filer status, we expect to achieve cost savings over prior year with
respect to Section 404 compliance costs, including lower professional fees.
34
Off Balance Sheet Arrangements
Under SEC regulations, we are required to disclose any off-balance sheet arrangements that
have or are reasonably likely to have a current or future effect on our financial condition,
changes in financial condition, revenues or expenses, results of operations, liquidity, capital
expenditures or capital resources that are material to investors. An off-balance sheet
arrangement means a transaction, agreement or contractual arrangement to which any entity that is
not consolidated with us is a party, under which we have:
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Any obligation under certain guarantee contracts; |
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Any retained or contingent interest in assets transferred to an unconsolidated entity or
similar arrangement that serves as credit, liquidity or market risk support to that entity
for such assets; |
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Any obligation under a contract that would be accounted for as a derivative instrument,
except that it is both indexed to our stock and classified in stockholders equity in our
statement of financial position; and |
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Any obligation arising out of a material variable interest held by us in an
unconsolidated entity that provides financing, liquidity, market risk or credit risk
support to us, or engages in leasing, hedging or research and development services with us. |
As of the date of this report, we do not have any off-balance sheet arrangements that we are
required to disclose pursuant to these regulations. In the ordinary course of business, we enter
into operating lease commitments, purchase commitments and other contractual obligations. These
transactions are recognized in our financial statements in accordance with generally accepted
accounting principles in the United States.
Recent Accounting Pronouncements
In November 2004, the FASB issued FASB SFAS No. 151, Inventory Costs an Amendment of ARB No.
43, Chapter 4. SFAS No. 151 amends ARB 43, Chapter 4, to clarify that abnormal amounts of idle
facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as
current-period charges. Historically, we have expensed such costs as incurred. In addition, SFAS
No. 151 requires that allocation of fixed production overheads to the costs of conversion be based
on the normal capacity of the production facilities. The provisions of SFAS No. 151 are effective
for inventory costs incurred during fiscal years beginning after June 15, 2005. The adoption of the
provisions of SFAS No. 151 as of the beginning of our 2006 fiscal year, which commenced July 1,
2005, did not have a material impact on our financial position or results of operations.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections a
replacement for APB Opinion No. 20 and FASB Statement No. 3. SFAS No. 154 provides guidance on
accounting for and reporting of accounting changes and error corrections. It requires prior period
financial statements to be restated for voluntary changes in accounting principles. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years beginning after
December 15, 2005. We have no plans to adopt a voluntary change in accounting principle and believe
that the adoption of SFAS No. 154 will not have an effect on the Companys consolidated financial
statements.
In June 2005, the FASB ratified the consensus reached by the Emerging Issues Task Force
(EITF) on EITF Issue No. 05-02 The Meaning of Conventional Convertible Debt Instrument in Issue
No. 00-19 (EITF No. 05-02). The abstract clarified the meaning of conventional convertible debt
instruments and confirmed that instruments which meet its definition should continue to receive an
exception to certain provisions of EITF Issue No. 00-19 Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Companys Own Stock (EITF No. 00-19). The
guidance should be applied to new instruments entered into and instruments modified in periods
beginning after June 29, 2005. The adoption of EITF No. 05-02 has not had a material impact on our
consolidated financial statements.
In September 2005, the FASB reported that the EITF postponed further deliberations on Issue
No. 05-04 The Effect of a Liquidated Damages Clause on a Freestanding Financial Instrument Subject
to Issue No. 00-19 (EITF No. 05-04) pending the FASB reaching a conclusion as to whether a
registration rights agreement meets the definition of a derivative instrument. The legal agreements
related to our convertible notes and debentures include a freestanding registration rights
agreement. Once the FASB ratifies the then-completed consensus of the EITF on EITF No. 05-04, we
will assess the impact on our consolidated financial statements of adopting the standard and, if an
impact exists, follow the transition guidance for implementation.
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid Financial
Instrumentan amendment of FASB Statements No. 133 and 140, which resolves issues addressed in
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, Implementation Issue
No. D1, Application of Statement 133 to Beneficial Interests
in Securitized Financial Assets. SFAS
No. 155, among other things, permits the fair value remeasurement of any hybrid financial
instrument that contains an embedded derivative that otherwise would require bifurcation; clarifies
which interest-only strips and principal-only strips are not subject to the requirements of SFAS
No. 133; and establishes a requirement to evaluate interests in securitized financial assets to
identify interests that are freestanding derivatives or that are hybrid financial instruments that
contain an embedded derivative requiring bifurcation. SFAS No. 155 is effective for all financial
instruments acquired or issued in a fiscal year beginning after September 15, 2006. We have not yet
assessed the impact the adoption of SFAS No. 155 will have on our financial position and results of
operations for our fiscal year beginning July 1, 2006.
35
Results of Operations
Product sales
For the three months ended March 31, 2006, product sales totaled approximately $99,000
compared to approximately $80,000 for the three months ended March 31, 2005. For the nine months
ended March 31, 2006, product sales totaled approximately $301,000 compared to approximately
$163,000 for the nine months ended March 31, 2005. These increases in product sales are attributed
to an increase in Multiferon® sales volume in Chile, Mexico, Sweden, and Germany.
We have entered into several agreements for the distribution of our natural human alpha
interferon, Multiferon®, in various countries. To date, we have not recognized revenue
from many of these agreements. The majority of these agreements require that the distributor obtain
the necessary regulatory approvals, which, in some cases, have not yet been obtained. Regulatory
approval is a mandatory step in the marketing of a drug, but it is by no means the final challenge
in marketing a biopharmaceutical product. In most countries, product pricing and reimbursement
authorization must also be approved before a drug product can be marketed.
There are other challenges associated with international marketing activities including:
language and cultural barriers, in some cases poorly organized regulatory infrastructure and/or
compliance procedures in certain countries where Multiferon® may be marketed,
performance of our distribution partners, competition, governments willingness to promote cheaper
generic products and the general populations inability to afford private care drug products. It
will take significant time to overcome these challenges with no assurance that a particular market
will ever be effectively penetrated.
Cost of Sales
Cost of sales, which includes excess/idle production costs, totaled approximately $681,000 for
the three months ended March 31, 2006 compared to approximately $605,000 for the same period in the
prior year. This increase in the current quarter is primarily attributed to an increase in costs
associated with the renovations to one of our manufacturing facilities in Sweden, including
certification costs, consulting fees and increased depreciation.
Cost of sales totaled approximately $1.71 million for the nine months ended March 31, 2006
compared to approximately $1.84 million for the same period in the prior year. This decrease in
cost of sales is primarily attributed to decreased excess/idle capacity as a result of cost cutting
measures while production levels are at a minimum. Excess/idle capacity represents fixed
production costs incurred at our Swedish manufacturing facilities, which were not absorbed as a
result of the production of inventory at less than normal operating levels. For the three and nine
months ended March 31, 2006 and March 31, 2005, excess/idle capacity costs were primarily due to
minimal production activities as a result of low sales demand. We will continue to incur
excess/idle production costs until we generate higher sales demand and resume production at normal
operating levels that absorb our fixed production costs.
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Inventory Write-down, net
During the quarter ended December 31, 2005, we determined that a portion of our work in
process inventory would not be converted to finished product prior to expiration. Therefore, we
recorded a write-down for this inventory of approximately $104,000.
During the quarter ended September 30, 2005, a freezer at our facility in Sweden malfunctioned
causing the temperature of certain work in process inventory to rise above the approved levels for
frozen product. Accordingly, we recorded a net write-down of approximately $91,000 of work in
process inventory. This loss is net of an insurance recovery of approximately $486,000, which we
collected in October 2005.
During the quarter ended December 31, 2004, we recorded a write-down of approximately $540,000
of our finished product inventory. Upon evaluating the shelf-life of certain lots of our
Multiferon® inventory, near-term sales forecasts and consideration of alternative uses,
a write-down of the value of this inventory was deemed necessary.
Research and Development Costs
Research and development costs include scientific salaries and support fees, laboratory
supplies, consulting fees, contracted research and development, equipment rentals, repairs and
maintenance, utilities and research related travel. For the three months ended March 31, 2006,
research and development costs totaled approximately $1.17 million compared to approximately $1.28
million for the three months ended March 31, 2005. For the nine months ended March 31, 2006,
research and development costs totaled approximately $3.25 million compared to approximately $3.28
million for the nine months ended March 31, 2005. Research and development expenses for the nine
months ended March 31, 2005 reflect the reversal of a long-standing trade liability of
approximately $0.18 million. Excluding the impact of this reversal, period over period research and
development expenses were lower for the three and nine months ended March 31, 2006 due to a
decrease in consulting fees for regulatory matters, contracted research and development and legal
fees related to intellectual property.
We will continue incurring research and development costs, including projects associated with
Multiferon® as well as other projects to more fully develop potential commercial
applications of our natural human alpha interferon product, as well as broaden our potential
product lines in the areas of avian transgenics and oncology. We anticipate expenditures to
increase over the next twelve months, particularly in the area of regulatory-related consulting
fees, toxicology studies and clinical trial costs. Our ability to successfully conclude additional
clinical trials, a prerequisite for expanded commercialization of any product, is dependent upon
our ability to raise significant additional funding necessary to conduct and complete these trials.
Selling, General and Administrative Expenses
Selling, general and administrative expenses include administrative personnel salaries and
related expenses, office and equipment leases, utilities, repairs and maintenance, insurance,
legal, accounting, consulting, depreciation and amortization expenses. Selling, general and
administrative expenses totaled approximately $1.49 million for the three months ended March 31,
2006 compared to approximately $2.03 million for the three months ended March 31, 2005. The
decrease of approximately $0.54 million over prior year is primarily attributed to a decrease in
personnel related expenses and accounting and consulting fees. This decrease was partially offset
by an increase in depreciation on capital improvements.
37
For the nine months ended March 31, 2006, selling, general and administrative expenses totaled
approximately $4.87 million compared to approximately $5.74 million for the nine months ended March
31, 2005. The decrease of approximately $0.87 million over prior year is primarily attributed to a
decrease in personnel related expenses, travel related expenses, consulting and legal fees.
Our successful commercialization of Multiferon® will require additional marketing
and promotional activities and clinical trials, which are dependent upon our ability to raise
significant additional funding, or our ability to generate sufficient cash flow from operations.
We anticipate that selling related expenses will increase beyond fiscal 2006. This increase is
expected due to the planned expansion of our Multiferon® sales efforts. These increases
will be incurred in sales personnel related expenses, consulting fees, travel related expenses,
promotional materials and other marketing related costs.
Amortization of Intangible Assets
Amortization of intangible assets represents the amortization of our acquired developed
technology. This developed technology is being amortized over its estimated useful life of
approximately 14 years. For the three and nine months ended March 31, 2006, amortization of
intangible assets totaled approximately $39,000 and $116,000, respectively, compared to
approximately $44,000 and $128,000 during the three and nine months ended March 31, 2005,
respectively. The period over period decreases are due to the strengthening of the U.S. dollar
against the Swedish Krona.
Interest Expense
Interest expense for the three months ended March 31, 2006 totaling approximately $890,000
primarily represents interest expense on our June 2004 convertible notes and September 15, 2005
convertible debentures. This interest expense was comprised of principal interest totaling
approximately $232,000 and non-cash interest expense related to the amortization of the discounts
on these notes and debentures and related closing costs totaling approximately $626,000. Interest
expense for the nine months ended March 31, 2006 totaling approximately $4.17 million primarily
represents interest expense on our June 2004 convertible notes and our September 15, 2005
convertible debentures. This interest expense was comprised of principal interest totaling
$861,000 and non-cash interest expense related to the amortization of the discounts on these notes
and debentures and related closing costs totaling approximately $3.25 million.
Interest expense for the three months ended March 31, 2005 totaling approximately $1.45
million primarily represents interest expense on our June 2004 convertible notes consisting of
principal interest payments totaling $0.35 million and non-cash interest expense related to the
amortization of the discounts on these notes and related closing costs totaling approximately $1.09
million. Interest expense for the nine months ended March 31, 2005 totaling approximately $4.08
million primarily represents interest expense on our June 2004 convertible notes consisting of
principal interest payments totaling $1.04 million and non-cash interest expense related to the
amortization of the discounts on these notes and related closing costs totaling approximately $2.95
million.
Also included in interest expense is interest incurred on the debt facilities maintained by
our Swedish and Scottish subsidiaries. These debt facilities have interest rates ranging from
5.25% to 7.92%. Interest expense on these debt facilities for the three and nine months ended
March 31, 2006 totaled approximately $13,000 and $32,000, respectively, compared to approximately
$11,000 and $74,000 for the three and nine months ended March 31, 2005.
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Other Income, net
The primary components of other income, net, are interest earned on cash and cash equivalents
and short-term investments, grant income from government agencies in Scotland, sublease income on
certain office space in our facility in Scotland, transaction gains or losses on foreign exchange,
remeasurement gains or losses on assets and liabilities denominated in currencies other than the
functional currency, gains or losses on the disposal of property, plant and equipment, and income
generated from research and development support services provided by our Swedish subsidiary.
Other income, net, for the three months ended March 31, 2006, totaled approximately $508,000
compared to approximately $82,000 for the three months ended March 31, 2005. This increase of
approximately $426,000 is primarily attributed to a gain from the settlement of legal proceedings
of $300,000. Other income, net, for the nine months ended March 31, 2006, totaled approximately
$657,000 compared to approximately $1.53 million for the nine months ended March 31, 2005. This
decrease of approximately $869,000 is primarily attributed to less foreign exchange gains including
the gain recorded in December 2004 due to the remeasurement of the intercompany payable from
Viragen (Scotland) and higher interest income in fiscal 2005 on higher cash balances. Our foreign
exchange gains and losses arise from the remeasurement of British Pound denominated accounts and
short-term investments.
Income Tax Benefit
We are subject to tax in the United States, Sweden, and the United Kingdom. These
jurisdictions have different marginal tax rates. For the three and nine months ended March 31,
2006, our income tax benefit totaled approximately $11,000 and $33,000, respectively, which were
the same as for the three and nine months ended March 31, 2005. Income tax benefit for these
periods arose from of the amortization expense on certain intangible assets. Due to the treatment
of the identifiable intangible assets under Statement of Financial Accounting Standards (SFAS) No.
109, Accounting for Income Taxes, our balance sheet reflects a deferred income tax liability of
approximately $0.42 million as of March 31, 2006, all of which is related to our developed
technology intangible asset acquired on September 28, 2001.
Based on our accumulated losses, a full valuation allowance is provided to reduce deferred
income tax assets to the amount that will more likely than not be realized. As of June 30, 2005,
we had net operating loss carry-forwards of approximately $85.1 million for U.S. federal income tax
purposes. The expiration dates on these net operating loss carry-forwards range from 2006 through
2025. At June 30, 2005, Viragen (Scotland) and ViraNative had net operating loss carry-forwards
totaling approximately $25.8 million and $13.8 million, respectively.
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Research and Development Projects
Our research and development programs include ongoing studies in support of Multiferon®, our
avian transgenics platform, two humanized antibodies and next-generation interferon alpha products.
Multiferon®
We are continuing our research and development activities on Multiferon® in a number of areas.
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We have completed validation of a new pre-filled syringe dosage form of Multiferon® and
we are preparing for submissions to the Swedish regulatory authorities for approval. |
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We are continuing to work with scientists at the U. S. Army Medical Research Institute
of Infectious Diseases to assess the applicability of Multiferon® in the prevention and
treatment of infections by Category A pathogens. |
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We are preparing for the start of a new post-marketing Phase III clinical trial in up
to 1,000 patients with high-risk melanoma. |
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We are in the process of identifying potential new indications for Multiferon® in other
oncology indications. This could result in decisions to initiate new Phase II and Phase
III clinical trials in the near future. |
Avian Transgenics
Our avian transgenic manufacturing program is designed to enable us to produce protein-based
drugs, including monoclonal antibodies, inside the whites of eggs laid by transgenic chickens. Our
goal is to develop a technology which will enable us to offer a viable and cost-effective
alternative for the large-scale production requirements of the biopharmaceutical industry and also
for our own therapeutic protein products. Existing protein production technologies are often
inefficient and costly. We believe that this technology will allow us to offer the
biopharmaceutical industry an efficient method of production of their protein-based products. It
is envisaged that this technology will have a higher capacity, lower manufacturing costs and may be
able to offer improvements to the products themselves.
We believe our avian transgenics project could offer a rapid and cost effective way to produce
large volumes of therapeutic proteins. In addition to meeting the current and future alternative
production demands of the biopharmaceutical industry and generating significant revenue for us,
this project could also accelerate the progress of several life-saving drugs to the market.
To date, we have succeeded in proof-of-principle of our avian transgenics system with two
product candidates; a form of VG101, the anti-GD3 antibody was successfully expressed as reported in June
2005; Interferon beta-1a was successfully expressed in January 2006. We continue to evaluate
methods to optimize expression levels as well as methods for recovery and purification of these
active ingredients.
For the three and nine months ended March 31, 2006, costs incurred in the field of avian
transgenics totaled approximately $0.43 million and $1.13 million, respectively. For the fiscal
years ended 2005, 2004 and 2003, we incurred costs related to the avian transgenics project
totaling approximately $1.69 million, $1.87 million and $0.95 million, respectively. Since the
date of inception of this project, we have incurred approximately $7.24 million in research and
development costs.
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Antibodies
We have selected two monoclonal antibodies for our research and development projects based
largely upon (1) prior pre-clinical information, and (2) prior testing in humans. Both
of our current antibody projects appear to present significant
advantages in these respects and both offer the potential to be
developed into a platform based technology.
VG101
In 1999, we entered into a collaborative research and development agreement with
Sloan-Kettering Institute (SKI) for the joint development of an antibody to the GD3 antigen, which
is over-expressed on several types of cancer cells, most notably melanoma. This agreement was
extended in February 2002 and will expire in February 2007, unless extended by mutual consent or
unless we exercise our option for an exclusive license agreement. It is believed that antibodies
to the GD3 antigen are able to elicit anti-tumor effects, thereby destroying cancer cells, which
have the over-expressed antigen on their surface.
SKI clinicians have previously studied the mouse form of this antibody in a fairly extensive
manner in numerous human clinical trials. However, use of mouse-derived antibodies typically
influences the outcome of testing in humans in that the human body reacts to mouse antibody as if
it was a foreign invader, thereby reducing the overall efficacy, and tolerability, of the product.
SKI was able to demonstrate that this antibody had beneficial effects
in patients with various stages of
melanoma. SKI also found that the antibody had therapeutic
utility when used alone, but greater therapeutic utility when used with other compounds. If the
antibody can be produced in a humanized form, thereby eliminating at least some of the undesirable
effects, whether used alone or in combination with other products, it could offer significant
improvement in this disease setting. Importantly, to date, there are no other products available to
successfully treat Stage IV melanoma and so if the antibody can be
shown to be efficacious against this stage of the disease, then it
would represent a significant opportunity.
At the current time, we have developed production processes for humanized forms of the
antibody, including the avian transgenics technology. These antibodies will be shared with SKI
clinicians for comparability testing, done in parallel with studies at our Viragen (Scotland)
laboratories. We are not able to predict subsequent study dates for this antibody.
During the fiscal years 2006 and 2005, we incurred minimal costs associated with our VG101
project. Since the date of inception of this project, we have incurred approximately $1.5 million
in research and development costs.
Estimated completion dates, completion costs, and future material net cash inflows, if any,
for the above oncological projects are not reasonably certain and are not determinable at this
time. The timelines and associated costs for the completion of biopharmaceutical research and
product development programs are difficult to accurately predict for various reasons, including the
inherent exploratory nature of the work. The achievement of project milestones is dependent on
issues which may impact development timelines and can be unpredictable and beyond Viragens
control. These issues include; availability of capital funding, presence of competing technologies,
unexpected experimental results which may cause the direction of research to change, accumulated
knowledge about the intrinsic properties of the candidate product, the availability of contract
cell banking and manufacturing slots for the preparation of current Good Manufacturing Practices
grade material, results from preclinical and clinical studies, potential changes in prescribing
practice and patient profiles and regulatory requirements.
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VG102
In April 2005, we executed a global exclusive license with Cancer Research Technology UK for
the rights to develop and commercialize an anti-CD55 antibody. This specific antibody was developed
through the research of Professor Lindy Durrant of the University of Nottingham, UK. The CD55
antigen is significantly over-expressed on nearly all solid tumors in humans. Early studies at
Nottingham demonstrated that the antibody was able to bind only to
malignant tumor antigen and furthermore,
it was shown to bind in a highly novel manner, different from all anti-CD55 antibodies known in the
scientific literature. This novelty underpins the intellectual property surrounding VG102, in
addition to other intellectual property we have created through our development activities. The
CD55 antigen has been shown to block the bodys natural immune system from attacking and killing
cancer cells. Theoretically, if an antibody can be developed that binds selectively to tumor CD55
antigen, this protective mechanism could be removed and the natural immune system, or concomitantly
or sequentially administered anti-tumor agents, would then be able to destroy cancer cells.
Importantly, Professor Durrant has produced the mouse form of this antibody and has
administered it successfully to humans in immunoscintigraphy studies (imaging). These studies
demonstrated the specificity of binding only to tumor antigen, and not normal cells, and
demonstrated tolerability in humans, albeit small numbers and dosages, without safety incident. It
is this data, and our own exploratory data in our laboratories, that has led us to license what we
believe may become an important addition to the arsenal for fighting a number of types of cancer.
At the current time we have developed production processes for humanized versions of this
antibody to continue pre-clinical studies, and we hope to be ready to initiate toxicology studies
in early 2007, followed by meetings with regulatory authorities to agree upon clinical development
protocols. We have not yet selected a target indication for this antibody. At this time, we are not
able to predict any date for the start of clinical trials.
For the three and nine months ended March 31, 2006, costs incurred related to the VG102
project totaled approximately $0.14 million and $0.37 million, respectively. For the fiscal years
ended 2005, 2004 and 2003, we incurred costs related to the VG102 project totaling approximately
$0.58 million, $0.21 million and $0.14 million, respectively. Since the date of inception of this
project, we have incurred approximately $1.90 million in research and development costs.
Other Projects
At the current time we are contemplating additional research and development projects that
would be complimentary to existing projects, particularly in oncology indications. These may
include projects identified through our own internal research efforts, and those of our
consultants, or the research efforts of third parties.
The completion of our ongoing and contemplated research and development projects is dependent
upon our ability to raise significant additional funding or our ability to identify potential
collaborative partners that would share in project costs. Our future capital requirements are
dependent upon many factors, including: revenue generated from the sale of our natural human alpha
interferon product, progress with future clinical trials; the costs associated with obtaining
regulatory approvals; the costs involved in patent applications; competing technologies and market
developments; and our ability to establish collaborative arrangements and effective
commercialization activities.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
Market risk generally represents the risk of loss that may result from the potential change in
value of a financial instrument as a result of fluctuations in interest rates and market prices.
Our market risk exposure relates to cash and cash equivalents and short-term investments. We invest
excess cash in highly liquid instruments with maturities of less than twelve months as of the date
of purchase. These investments are not held for trading or other speculative purposes. Changes in
interest rates affect the investment income we earn on our investments and, therefore, impact our
cash flows and results of operations.
We have not traded or otherwise transacted in derivatives nor do we expect to do so in the
future. We have established policies and internal processes related to the management of market
risks which we use in the normal course of our business operations.
Interest Rate Risk
The fair value of long-term debt is subject to interest rate risk. While changes in market
interest rates may affect the fair value of our fixed-rate long-term debt, we believe a change in
interest rates would not have a material impact on our financial condition, future results of
operations or cash flows.
Foreign Currency Exchange Risk
We conduct operations in several different countries. The balance sheet accounts of our
operations in Scotland and Sweden, including intercompany accounts that are considered long-term in
nature, are translated to U.S. dollars for financial reporting purposes and resulting adjustments
are made to stockholders equity. The value of the respective local currency may strengthen or
weaken against the U.S. dollar, which would impact the value of stockholders investment in our
common stock. Fluctuations in the value of the British Pound and Swedish Krona against the U.S.
dollar have occurred during our history, which have resulted in unrealized foreign currency
translation gains and losses, which are included in accumulated other comprehensive income and
shown in the equity section of our balance sheet. Intercompany trading accounts, which are
short-term in nature, are remeasured at current exchange rates as of the balance sheet dates and
any gains or losses are recorded in other income.
While most of the transactions of our U.S. and foreign operations are denominated in the
respective local currency, some transactions are denominated in other currencies. Transactions
denominated in other currencies are accounted for in the respective local currency at the time of
the transaction. Upon settlement of this type of transaction, any foreign currency gain or loss
results in an adjustment to income.
Our results of operations may be impacted by the fluctuating exchange rates of foreign
currencies, especially the British Pound and Swedish Krona, in relation to the U.S. dollar. Most of
the revenue and expense items of our foreign subsidiaries are denominated in the respective local
currencies. The strengthening of these local currencies against the U.S. dollar will result in
greater revenue, expenses, assets and liabilities of our foreign subsidiaries, when translated into
U.S. dollars. During the nine months ended March 31, 2006, the U.S. dollar strengthened against the
British Pound by approximately 3.6% but weakened against the Swedish Krona by approximately 0.6%.
We do not currently engage in hedging activities with respect to our foreign currency
exposure. However, we continually monitor our exposure to currency fluctuations. We have not
incurred significant realized losses on exchange transactions. If realized losses on foreign
transactions were to become significant, we would evaluate appropriate strategies, including the
possible use of foreign exchange contracts, to reduce such losses.
We were not adversely impacted by the European Unions adoption of the Euro currency. Our
foreign operations to date have been located in Scotland and Sweden, which have not participated in
the adoption of the Euro as of March 31, 2006.
43
Item 4. Controls and Procedures
Disclosure Controls Evaluation and Related CEO and CFO Certifications
We conducted an evaluation of the effectiveness of the design and operation of our disclosure
controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q.
The controls evaluation was done under the supervision and with the participation of management,
including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO).
Attached as exhibits to this Quarterly Report on Form 10-Q are certifications of the CEO and
the CFO, which are required in accord with Rule 13a-14 of the Exchange Act. This Item 4, Controls
and Procedures, includes the information concerning the controls evaluation referred to in the
certifications and it should be read in conjunction with the certifications for a more complete
understanding of the topics presented.
Definition of Disclosure Controls and Procedures
Disclosure controls and procedures are designed to reasonably assure that information required
to be disclosed in our reports filed under the Exchange Act, such as this Quarterly Report on Form
10-Q, is recorded, processed, summarized and reported within the time periods specified in the
Securities and Exchange Commissions rules and forms. Disclosure controls and procedures are also
designed to reasonably assure that such information is accumulated and communicated to our
management, including the CEO and CFO, as appropriate to allow timely decisions regarding required
disclosure. Our disclosure controls and procedures include components of our internal control over
financial reporting, which consists of control processes designed to provide reasonable assurance
regarding the reliability of our financial reporting and the preparation of financial statements in
accordance with accounting principles generally accepted in the United States.
Limitations on the Effectiveness of Controls
Our management, including the CEO and CFO, does not expect that our disclosure controls and
procedures or our internal control over financial reporting will prevent all error and all fraud. A
control system, no matter how well designed and operated, can provide only reasonable, not
absolute, assurance that the control systems objectives will be met. Further, the design of a
control system must reflect the fact that there are resource constraints, and the benefits of
controls must be considered relative to their costs. Because of the inherent limitations in all
control systems, no evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, have been detected, thus misstatements due to error or fraud may
occur and not be detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple error or mistake.
Additionally, controls can be circumvented by the individual acts of some persons, by collusion of
two or more people, or by management override of control.
Conclusions
Based upon the controls evaluation, our CEO and CFO have concluded that, subject to the
limitations noted above, as of the end of the period covered by this Quarterly Report on Form 10-Q,
our disclosure controls and procedures were effective to provide reasonable assurance that material
information relating to Viragen and its consolidated subsidiaries is made known to management,
including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting (as defined in
Rules13a-15(f) of the Exchange Act) that occurred during the quarter ended March 31, 2006 that has
materially affected, or is reasonably likely to materially affect, our internal control over
financial reporting.
44
PART II OTHER INFORMATION
Item 6. Exhibits
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4.1
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Certificate to set forth Designations, Preferences, and Rights of
Series J 24% Cumulative Convertible Preferred Stock, $1.00 par value
per share (incorporated by reference to Exhibit 4.1 of Viragen,
Inc.s Form 8-K filed with the Securities and Exchange Commission on
March 13, 2006) |
31.1
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Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2
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Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1
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Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2
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Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 |
45
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned thereunto duly authorized.
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Viragen, Inc.
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Date: May 8, 2006 |
By: |
/s/ Dennis W. Healey
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Dennis W. Healey |
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Executive Vice President and
Principal Financial Officer |
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Date: May 8, 2006 |
By: |
/s/ Nicholas M. Burke
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Nicholas M. Burke |
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Vice President, Controller and
Principal Accounting Officer |
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46
INDEX OF EXHIBITS
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Exhibit No.
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Description |
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31.1
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Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2
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Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1
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Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2
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Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |