UNITED
STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
| (Mark One) | |
| þ | Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 For the quarterly period ended September 30, 2005 |
| or | |
| o | Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934 For the transition period from ________ to ________ |
Commission File Number 0-31499
Eden
Bioscience Corporation
(Exact name of registrant as specified in its charter)
| Washington | 91-1649604 | |
| (State or other jurisdiction
of incorporation or organization) |
(IRS Employer Identification No.) |
11816 North Creek Parkway N.
Bothell, Washington 98011-8201
(Address of principal executive offices, including zip code)
(425)
806-7300
(Registrant’s 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 past 12
months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to
such filing requirements for the past 90 days.
Yesþ No o
Indicate by check mark whether the registrant is an
accelerated filer (as defined in Rule 12b-2 of the
Securities Exchange Act of 1934). Yeso No þ
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yeso No þ
State the number of shares outstanding of each of the
registrant’s classes of common equity, as of the latest
practicable date:
| Class | Outstanding as of October 21, 2005 | |
| Common Stock, $.0025 Par Value | 24,395,870 |
Eden Bioscience Corporation
Index to Form 10-Q
-1-
Table of Contents
PART I -- FINANCIAL INFORMATION
Item 1.
Unaudited Financial Statements.
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
CONDENSED
CONSOLIDATED BALANCE SHEETS
(Unaudited)
| ASSETS | ||||||||
| September 30, 2005 |
December 31, 2004 |
|||||||
| Current assets: | ||||||||
| Cash and cash equivalents | $ | 8,631,786 | $ | 11,860,385 | ||||
| Accounts receivable, net of sales allowances | 103,136 | 39,946 | ||||||
| Inventory, current portion | 1,898,019 | 3,487,586 | ||||||
| Prepaid expenses and other current assets | 162,277 | 498,670 | ||||||
| Total current assets | 10,795,218 | 15,886,587 | ||||||
| Inventory, non-current portion | 1,937,962 | -- | ||||||
| Property and equipment, net | 8,151,278 | 13,887,573 | ||||||
| Other assets | 287,116 | 1,561,902 | ||||||
| Total assets | $ | 21,171,574 | $ | 31,336,062 | ||||
| LIABILITIES AND SHAREHOLDERS’ EQUITY | ||||||||
| Current liabilities: | ||||||||
| Accounts payable | $ | 229,299 | $ | 190,648 | ||||
| Accrued liabilities | 1,604,646 | 1,206,411 | ||||||
| Current portion of accrued loss on facility subleases | -- | 507,748 | ||||||
| Current portion of capital lease obligations | 1,880 | 11,572 | ||||||
| Total current liabilities | 1,835,825 | 1,916,379 | ||||||
| Accrued loss on facility subleases, net of current portion | -- | 2,037,613 | ||||||
| Capital lease obligations, net of current portion | -- | 761 | ||||||
| Other long-term liabilities | 243,062 | 771,934 | ||||||
| Total liabilities | 2,078,887 | 4,726,687 | ||||||
| Commitments and contingencies | ||||||||
| Shareholders’ equity: | ||||||||
| Preferred stock, $.01 par value, 10,000,000 shares authorized; no shares | ||||||||
| issued and outstanding at September 30, 2005 and December 31, 2004 | -- | -- | ||||||
| Common stock, $.0025 par value, 100,000,000 shares authorized; issued | ||||||||
| and outstanding shares – 24,395,870 shares at September 30, 2005; | ||||||||
| 24,381,870 shares at December 31, 2004 | 60,990 | 60,955 | ||||||
| Additional paid-in capital | 132,541,547 | 132,535,982 | ||||||
| Accumulated other comprehensive loss | (21,762 | ) | (37,675 | ) | ||||
| Accumulated deficit | (113,488,088 | ) | (105,949,887 | ) | ||||
| Total shareholders’ equity | 19,092,687 | 26,609,375 | ||||||
| Total liabilities and shareholders’ equity | $ | 21,171,574 | $ | 31,336,062 | ||||
The accompanying notes are an integral part of these statements.
-2-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||
| Product sales, net of sales allowances | $ | 343,398 | $ | 368,383 | $ | 3,175,347 | $ | 871,721 | ||||||
| Operating expenses: | ||||||||||||||
| Cost of goods sold | 585,730 | 331,436 | 1,760,089 | 1,482,329 | ||||||||||
| Research and development | 807,237 | 863,334 | 2,713,085 | 2,260,521 | ||||||||||
| Selling, general and administrative | 1,233,315 | 1,170,213 | 4,202,805 | 3,564,780 | ||||||||||
| Lease termination loss | 2,260,538 | -- | 2,260,538 | -- | ||||||||||
| Total operating expenses | 4,886,820 | 2,364,983 | 10,936,517 | 7,307,630 | ||||||||||
| Loss from operations | (4,543,422 | ) | (1,996,600 | ) | (7,761,170 | ) | (6,435,909 | ) | ||||||
| Other income (expense): | ||||||||||||||
| Interest income | 83,781 | 59,887 | 223,507 | 158,506 | ||||||||||
| Interest expense | (72 | ) | (1,086 | ) | (538 | ) | (2,376 | ) | ||||||
| Total other income | 83,709 | 58,801 | 222,969 | 156,130 | ||||||||||
| Loss before income taxes | (4,459,713 | ) | (1,937,799 | ) | (7,538,201 | ) | (6,279,779 | ) | ||||||
| Income taxes | -- | -- | -- | -- | ||||||||||
| Net loss | $ | (4,459,713 | ) | $ | (1,937,799 | ) | $ | (7,538,201 | ) | $ | (6,279,779 | ) | ||
| Basic and diluted net loss per share | $ | (0 18) | $ | (0 08) | $ | (0 31) | $ | (0 26) | ||||||
| Weighted average shares outstanding used | ||||||||||||||
| to compute net loss per share | 24,395,870 | 24,372,261 | 24,389,716 | 24,367,725 | ||||||||||
The accompanying notes are an integral part of these statements.
-3-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
| Nine Months Ended September 30, | ||||||||
| 2005 | 2004 | |||||||
| Cash flows from operating activities: | ||||||||
| Net loss | $ | (7,538,201 | ) | $ | (6,279,779 | ) | ||
| Adjustments to reconcile net loss to cash used in operating activities: | ||||||||
| Depreciation and amortization | 1,737,971 | 1,182,944 | ||||||
| Accretion expense | 20,821 | 18,479 | ||||||
| Deferred rent payable | 33,704 | 37,917 | ||||||
| (Gain) Loss on disposal of property and equipment | (84,806 | ) | 1,302 | |||||
| Loss on property and equipment on lease termination | 3,480,883 | -- | ||||||
| Termination of lease obligations | (2,724,124 | ) | -- | |||||
| Forfeiture of security deposit on lease termination | 1,250,000 | -- | ||||||
| Loss on facility sublease | -- | 202,007 | ||||||
| Changes in assets and liabilities: | ||||||||
| Accounts receivable | (75,562 | ) | (67,371 | ) | ||||
| Inventory | 80,242 | (913,011 | ) | |||||
| Prepaid expenses and other assets | 360,537 | 417,856 | ||||||
| Accounts payable | 38,717 | 54,523 | ||||||
| Accrued liabilities | 358,737 | (47,125 | ) | |||||
| Accrued loss on facility subleases | (336,915 | ) | (388,176 | ) | ||||
| Net cash used in operating activities | (3,397,996 | ) | (5,780,434 | ) | ||||
| Cash flows from investing activities: | ||||||||
| Purchases of property and equipment | -- | (2,586 | ) | |||||
| Proceeds from disposal of fixed assets | 204,228 | 6,700 | ||||||
| Net cash provided by investing activities | 204,228 | 4,114 | ||||||
| Cash flows from financing activities: | ||||||||
| Payment of capital lease obligations | (10,453 | ) | (13,432 | ) | ||||
| Proceeds from issuance of common stock | 5,600 | 8,730 | ||||||
| Net cash used in financing activities | (4,853 | ) | (4,702 | ) | ||||
| Effect of foreign currency exchange rates on cash and cash equivalents . | (29,978 | ) | 6,872 | |||||
| Net decrease in cash and cash equivalents | (3,228,599 | ) | (5,774,150 | ) | ||||
| Cash and cash equivalents at beginning of period | 11,860,385 | 19,823,339 | ||||||
| Cash and cash equivalents at end of period | $ | 8,631,786 | $ | 14,049,189 | ||||
| Supplemental disclosures: | ||||||||
| Cash paid for interest | $ | 538 | $ | 2,376 | ||||
The accompanying notes are an integral part of these statements.
-4-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1.
Organization and Summary of Significant Accounting Policies
Organization
and Business
Eden
Bioscience Corporation (“Eden Bioscience” or the “Company”) was
incorporated in the State of Washington on July 18, 1994. Eden Bioscience is a
plant health technology company focused on developing, manufacturing and marketing
innovative natural-based protein products for agriculture.
The
Company is subject to a number of risks including, among others: dependence on a
limited number of products and the development and commercialization of those products,
which may not be successful; the need to develop adequate sales and marketing
capabilities to commercialize the Company’s products; reliance on independent
distributors and retailers to sell the Company’s products; competition from other
companies with greater financial, technical and marketing resources; and other risks
associated with commercializing a new technology.
Basis of
Presentation
The
accompanying unaudited condensed consolidated financial statements have been prepared in
accordance with U.S. generally accepted accounting principles for interim financial
information and pursuant to the instructions to Form 10-Q. Accordingly, they do not
include all of the information and notes required by U.S. generally accepted accounting
principles for complete financial statements. The balance sheet at December 31, 2004 has
been derived from the audited financial statements at that date but does not include
all of the information and notes required by U.S. generally accepted accounting
principles for complete financial statements. These financial statements and notes
should be read in conjunction with the financial statements and notes as of and for the
year ended December 31, 2004 included in the Company’s Annual Report on Form 10-K,
which was filed with the Securities and Exchange Commission on March 25, 2005.
In
the opinion of management, the unaudited condensed consolidated financial statements
include all adjustments, consisting only of normal recurring adjustments, necessary to
state fairly the financial information set forth therein. Results of operations for the
three months and nine months ended September 30, 2005 are not necessarily indicative of
the results expected for the full fiscal year or for any future period.
Liquidity
The
Company’s operating expenditures have been significant since its inception. The
Company currently anticipates that its operating expenses will significantly exceed net
product sales and that net losses and working capital requirements will consume a
material amount of its cash resources. If net product sales do not significantly
increase in the near term, the Company will have to further reduce its operating
expenses. The Company’s future capital requirements will depend on the success of
its operations. Management of the Company believes that the balance of its cash and
cash equivalents at September 30, 2005 will be sufficient to meet its anticipated cash
needs for net losses, working capital and capital expenditures for more than the next
12 months, although there can be no assurance in that regard. After the next 12 months,
if net product sales do not significantly increase, the Company will have to further
reduce operating expenses or secure additional financing. The Company may be unable to
obtain adequate or favorable financing at that time or at all and may cease operations.
The sale of additional equity securities could result in dilution to the Company’s
shareholders.
Estimates
Used in Financial Statement Preparation
The
preparation of financial statements in conformity with U.S. generally accepted
accounting principles requires management to make estimates and assumptions that affect
the reported amounts and classification of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Examples include
depreciable lives of property and equipment; expense accruals; provisions for sales
allowances, warranty claims, inventory valuation and classification; cash flow
projections and determination of asset group used in evaluating whether asset impairment
loss is recorded; losses on facility subleases and bad debts. Such estimates and
assumptions are based on historical experience, where applicable, management’s
plans and other assumptions. Estimates and assumptions are reviewed periodically and
the effects of revisions are reflected in the consolidated financial statements
prospectively when they are determined to be necessary. Actual results could differ
from these estimates.
-5-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Accounts
Receivable
Accounts
receivable balances are reported net of customer-specific related sales allowances of
$103,000 at September 30, 2005 and $11,000 at December 31, 2004. In determining the
adequacy of the allowance for doubtful accounts, the Company considers a number of
factors, including the aging of the accounts receivable portfolio, customer payment
trends, the financial condition of its customers, historical bad debts and current
economic trends. Based upon an analysis of outstanding net accounts receivable, no
allowance for doubtful accounts was recorded at September 30, 2005 or December 31, 2004.
Inventory
Inventory
is valued at the lower of average cost or market. Costs include material, labor and
overhead. Inventory expected to be utilized in the next twelve-month period is
classified as current and inventory expected to be utilized beyond that period is
classified as non-current. In determining the classification of inventory, the Company
considers a number of factors, including historical sales experience and trends,
existing distributor inventory, expansion into new markets, introduction of new products
and estimates of future sales growth.
Property
and Equipment
Equipment
and leasehold improvements are stated at historical cost. Improvements and replacements
are capitalized. Maintenance and repairs are expensed when incurred. The provision for
depreciation and amortization is determined using straight-line and units-of-production,
which allocate costs over their estimated useful lives of two to 20 years. Equipment
leased under capital leases is depreciated over the shorter of its estimated useful life
or lease term, which is five years. Leasehold improvements are amortized over the
shorter of their estimated useful lives or lease term, which range between two to ten
years.
In
October 2004, the Company began marketing lab and office space it occupied and estimated
it would sublease substantially all of this space by the end of 2005. Based on the
sublease market at that time, the Company believed that a portion of the leasehold
improvements and certain equipment related to the lab space would not be recovered from
the receipt of future sublease payments. Therefore, the estimated useful life of a
portion of leasehold improvements and certain equipment related to this lab space was
reduced from January 2011, the end of the lease term, to December 31, 2005. In the
first eight months of 2005, amortization and depreciation of $947,000 was included in
research and development expense in the condensed consolidated statements of
operations. The lease of this lab and office space was terminated effective August 31,
2005 and resulted in a $3.5 million impairment loss on leasehold improvements and
certain equipment that was transferred to the landlord.
Revenue
The Company recognizes revenue from product sales, net
of sales allowances, when product is delivered to its
distributors and all significant obligations of the Company
have been satisfied, unless acceptance provisions or other
contingencies or arrangements exist, including whether
collection is reasonably assured. If acceptance provisions
or contingencies exist, revenue is deferred and recognized
later if such provisions or contingencies are satisfied. As
part of the analysis of whether all significant obligations
of the Company have been satisfied or situations where
acceptance provisions or other contingencies or arrangements
exist, the Company considers the following elements, among
others: sales terms and arrangements, historical experience
and current incentive programs. Distributors do not have
price protection or product-return rights. The Company
provides an allowance for warranty claims based on
historical experience and expectations. Shipping and
handling costs related to product sales that are paid by the
Company are included in cost of goods sold.
In
February 2004, the Company received approval to sell Messenger in Spain. The Company
initiated marketing activities in March 2004, but the approval was not received in time
to pre-position product in the trade channel to meet initial sales activity. In order to
ensure that an adequate supply of Messenger was quickly disbursed in the new
distribution channel and to limit the amount of working capital required by new
distributors at this early stage of introduction, the Company granted flexible and/or
extended payment terms to distributors in this new market. Because of this combination
of factors, revenues from these product deliveries are deferred and recognized when
payment is received. The Company recognized net revenue of $153,000
-6-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
from these
deliveries when payment was received in the three months ended September 30, 2005 and
$226,000 in the three months ended September 30, 2004. The Company recognized net
revenue of $602,000 from these deliveries when payment was received in the nine months
ended September 30, 2005 and $317,000 in the nine months ended September 30, 2004. Gross
revenues of $258,000 and cost of goods sold of $73,000 were deferred at September 30,
2005 and will be recognized when payment is received.
Sales
allowances represent allowances granted to independent distributors for sales and
marketing support and are based on the terms of the distribution agreements or other
arrangements. Sales allowances are estimated and accrued when the related product sales
are recognized or when services are provided and are paid in accordance with the terms
of the then-current distributor program agreements or other arrangements. Distributor
program agreements expire annually, generally on December 31.
Gross
product sales and sales allowances are as follows:
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||
| Gross product sales | $ | 371,418 | $ | 427,120 | $ | 3,758,215 | $ | 907,342 | ||||||
| Sales allowances | (28,020 | ) | (58,737 | ) | (674,239 | ) | (130,858 | ) | ||||||
| Elimination of previously recorded sales | ||||||||||||||
| allowance liabilities | -- | -- | 91,371 | 95,237 | ||||||||||
| Product sales, net of sales allowances | $ | 343,398 | $ | 368,383 | $ | 3,175,347 | $ | 871,721 | ||||||
Net
product sales by geographical region were:
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||
| United States | $ | 185,009 | $ | 141,912 | $ | 2,477,537 | $ | 555,207 | ||||||
| Spain | 153,278 | 226,471 | 602,369 | 316,514 | ||||||||||
| Other regions | 5,111 | -- | 95,441 | -- | ||||||||||
| Product sales, net of sales allowances | $ | 343,398 | $ | 368,383 | $ | 3,175,347 | $ | 871,721 | ||||||
Due
to the growing seasons of targeted crops and current portfolio of Harp-N-Tek products,
the Company expects grower usage of Harp-N-Tek products to be highly seasonal. Based on
the recommended application timing in targeted crops and information received from
distributors, the Company expects the second quarter to be the most significant period
of use. Product sales to distributors are also expected to be seasonal. However, actual
timing of orders received from distributors will depend on many factors, including the
amount of Harp-N-Tek products in distributors’ inventories.
Sales
Incentives
The
Company sometimes offers sales incentives, often in the form of free product, to
distributors and other customers. Costs associated with such incentives are recognized
as costs of sales in the later of the period in which (a) the associated revenue is
recognized by the Company or (b) the sales incentive is offered to the customer.
In
September 2003, with the cooperation of its distributors, the Company instituted a “buy
one, get one free” promotion at the grower level that ran through the end of 2003.
Near the end of 2003, the Company announced a reduction of approximately 50% in the
price of Messenger and introduced Messenger STS, an improved formulation in January
2004 at this lower price point. At the same time, the Company announced to distributors
that it planned to send them additional products at no charge in order to reduce the
average cost of their existing inventories of Messenger. In the first nine months of
2004, the Company delivered approximately 400,000 ounces of Messenger products at no
charge to distributors.
Stock
Compensation
The
Company has elected to apply the disclosure-only provisions of SFAS No. 123, “Accounting
for Stock-Based Compensation,” as amended by SFAS No. 148, “Accounting for
Stock-Based Compensation – Transition and Disclosure, an Amendment of SFAS No. 123.” Accordingly,
the Company accounts for stock-based compensation using the intrinsic
-7-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
value method
prescribed in Accounting Principles Board Opinion No. 25, “Accounting for
Stock Issued to Employees,” and related interpretations. The following table
illustrates the effect on net loss and loss per share as if the Company had applied the
fair value recognition provisions of SFAS No. 123 to stock-based compensation.
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||
| Net loss, as reported | $ | (4,459,713 | ) | $ | (1,937,799 | ) | $ | (7,538,201 | ) | $ | (6,279,779 | ) | ||
| Deduct: Total stock-based employee | ||||||||||||||
| compensation expense under fair value | ||||||||||||||
| based method | (161,650 | ) | (225,264 | ) | (489,611 | ) | (625,390 | ) | ||||||
| Pro forma net loss | $ | (4,621,363 | ) | $ | (2,163,063 | ) | $ | (8,027,812 | ) | $ | (6,905,169 | ) | ||
| Loss per share: | ||||||||||||||
| Basic and diluted – as reported | $ | (0.18 | ) | $ | (0.08 | ) | $ | (0.31 | ) | $ | (0.26 | ) | ||
| Basic and diluted – pro forma | $ | (0.19 | ) | $ | (0.09 | ) | $ | (0.33 | ) | $ | (0.28 | ) | ||
Net Loss
Per Share
Basic
net loss per share is the net loss divided by the weighted average number of shares
outstanding during the period. Diluted net loss per share is the net loss divided by
the sum of the weighted average number of shares outstanding during the period plus the
additional shares that would have been issued had all dilutive warrants and options
been exercised, less shares that would be repurchased with the proceeds from such
exercise using the treasury stock method. The effect of including outstanding options
and warrants is antidilutive for all periods presented. Therefore, options and warrants
have been excluded from the calculation of diluted net loss per share. Shares issuable
pursuant to stock options and warrants that have not been included in the above
calculations because they are antidilutive totaled 2,504,251 and 2,676,751 as of
September 30, 2005 and 2004, respectively.
2. Stock Options
The
following table summarizes stock option activity since December 31, 2004:
| Number of Options |
|||||
| Balance at December 31, 2004 | 2,620,578 | ||||
| Options granted | 50,000 | ||||
| Options cancelled | (166,327 | ) | |||
| Balance at September 30, 2005 | 2,504,251 | ||||
No
warrants to purchase shares of the Company’s common stock were issued during the
nine-month period ended September 30, 2005.
3. Inventory
Inventory,
at average cost, consists of the following:
| September 30, 2005 |
December 31, 2004 |
|||||||
| Raw materials | $ | 544,543 | $ | 579,385 | ||||
| Bulk manufactured goods and work in process | 1,788,858 | 1,906,681 | ||||||
| Finished goods | 1,502,580 | 1,001,520 | ||||||
| Total inventory | 3,835,981 | 3,487,586 | ||||||
| Less non-current portion of inventory | (1,937,962 | ) | -- | |||||
| Current portion of inventory | $ | 1,898,019 | $ | 3,487,586 | ||||
The
non-current portion of inventory at September 30, 2005 consists primarily of raw
materials and bulk manufactured goods that the Company does not expect to utilize in
the next twelve months. Prior to September 30, 2005, the Company expected all
inventories to be utilized in the twelve month period subsequent to the balance sheet
date.
-8-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
4. Property
and Equipment
Property
and equipment, at cost, consists of the following:
| September 30, 2005 |
December 31, 2004 |
|||||||
| Equipment | $ | 11,032,757 | $ | 12,460,206 | ||||
| Equipment under capital leases | 19,418 | 66,646 | ||||||
| Leasehold improvements | 3,670,654 | 10,817,391 | ||||||
| Total property and equipment | 14,722,829 | 23,344,243 | ||||||
| Less accumulated depreciation and amortization | (6,571,551 | ) | (9,456,670 | ) | ||||
| Net property and equipment | $ | 8,151,278 | $ | 13,887,573 | ||||
The
Company recorded depreciation and amortization of $552,342 and $528,288 for the three
months ended September 30, 2005 and 2004, respectively, and $2,135,990 and $1,573,425
for the nine months ended September 30, 2005 and 2004, respectively.
5. Accrued
Liabilities
Accrued
liabilities consist of the following:
| September 30, 2005 |
December 31, 2004 |
|||||||
| Compensation and benefits | $ | 311,666 | $ | 307,313 | ||||
| Research and development field trial expenses | 262,287 | 256,873 | ||||||
| Facility costs | 280,599 | 232,097 | ||||||
| Promotions | 36,200 | 95,415 | ||||||
| Sales allowances | 464,245 | 84,769 | ||||||
| Warranty | 74,871 | 75,000 | ||||||
| Other | 174,778 | 154,944 | ||||||
| Total accrued liabilities | $ | 1,604,646 | $ | 1,206,411 | ||||
6. Warranty
Liability
The
Company provides a limited warranty to customers that products, at the time of the first
sale, conform to the chemical description on the label and under normal conditions are
reasonably fit for the purposes referred to in the directions for use, subject to
certain inherent risks. The warranty accrual percentage, which has ranged between zero
and five percent, and warranty liability are reviewed periodically and adjusted as
necessary, based on historical experience, the results of product quality testing and
future expectations. There were no significant changes to the Company’s warranty
liability during the nine months ended September 30, 2005.
7. Leases
On
September 9, 2005, the Company entered into an Amendment of Lease and Termination
Agreement with the landlord to terminate the lease of 63,200 square feet of research
and office space in Bothell, Washington. The lease originally expired January 11, 2011.
Average annual rent and operating costs under the lease were approximately $1.9
million. The termination was effective as of August 31, 2005.
Approximately
34,300 square feet of the space subject to the lease was subleased. The sublease had an
initial term that expired in December 2007. Average annual rent and operating costs
under the sublease were approximately $1.2 million. In connection with the Amendment of
Lease and Termination Agreement, the existing sublease was transferred to the landlord.
The
lease termination resulted in a loss totaling $2,260,538. The lease termination loss is
comprised of a termination fee totaling $1,500,000, consisting of $250,000 cash and the
forfeiture of a $1,250,000 security deposit (previously included in long-term other
assets on the balance sheet), an asset impairment loss on leasehold improvements and
equipment at the leased facility totaling $3,480,883, and other costs, offset by the
write-off of liabilities recorded for accrued losses on facility subleases and rent
expense in excess of rent payments totaling $2,724,124.
-9-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
In
September 2004, as a result of another company’s default under a five year sublease
agreement, the Company recorded a loss of $202,007 based upon an estimate of the time
needed to re-sublease the space and expected future rents to be collected.
8. Major
Customers
Net
product sales to the following distributors accounted for more than ten percent of net
revenues for the periods indicated:
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||
| Customer A | $ | 87,700 | $ | 61,600 | $ | 421,300 | $ | 138,400 | ||||||
| Customer B | 79,700 | -- | ** | -- | ||||||||||
| Customer C | 73,600 | 114,600 | 337,300 | 136,100 | ||||||||||
| Customer D | ** | ** | 455,000 | ** | ||||||||||
| Customer E | -- | 66,500 | -- | ** | ||||||||||
| Customer F | -- | 41,700 | ** | 110,100 | ||||||||||
**
Less than ten percent
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations.
This
discussion and analysis should be read in conjunction with our unaudited condensed
consolidated financial statements and accompanying notes thereto included in this
report and with our 2004 audited financial statements and notes thereto included in our
Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission
on March 25, 2005.
This
Quarterly Report on Form 10-Q contains forward-looking statements that involve risks and
uncertainties, such as statements of our plans, objectives, expectations and intentions.
We use words such as “anticipate,” “believe,” “expect,” “future” and
“intend,” the negative of these terms and similar expressions to identify
forward-looking statements. However, these words are not the exclusive means of
identifying such statements. In addition, any statements that refer to expectations,
projections or other characterizations of future events or circumstances are
forward-looking statements. Our actual results could differ materially from those
anticipated in these forward-looking statements for many reasons, including the factors
described below and under the caption “Factors That May Affect Our Business, Future
Operating Results and Financial Condition” set forth at the end of this Item 2.
You should not place undue reliance on these forward-looking statements, which apply
only as of the date of this report. The cautionary statements made in this report apply
to all forward-looking statements wherever they appear in this report. We undertake no
obligation to publicly release any revisions to these forward-looking statements that
may be made to reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
Overview
We
are a plant health technology company that markets a line of products based on Eden
Bioscience’s proprietary harpin protein technology and manufacturing processes.
These products are marketed under the umbrella brand of Harp-N-TekTM and are used in
agricultural and horticultural production as well as the Home & Garden market. We
believe that Harp-N-Tek products enhance plant health and improve overall plant
production and output quality. Harpins are naturally occurring proteins produced by
disease-causing bacteria that attack plants. Harpin proteins are not a part of the
destructive disease complex but instead serve the beneficial purpose of alerting plants
to the fact that they are under attack. They activate signaling receptors present in
most plants designed to specifically detect the presence of harpin proteins. This
warning signal is transmitted throughout the plant and turns on the plant’s
intrinsic ability to protect itself by deploying both growth and defense responses.
Eden Bioscience’s Harp-N-Tek products provide these harmless yet potent
signal-inducing harpin proteins and protein extracts, which trigger beneficial
responses designed to protect plants, to help plants grow through stress, to improve
plants’ uptake of nutrients, and to enhance the overall level of plant health.
We
have incurred significant operating losses since inception. At September 30, 2005, we
had an accumulated deficit of $113 million. We incurred net losses of $7.5 million and
$6.3 million for the nine months ended September 30, 2005 and 2004, respectively, and
annual losses of $8.9 million in 2004, $11.2 million in 2003 and $23.5 million in 2002.
We expect to incur significant additional net losses as we proceed with the
commercialization of our current products and the development of new products and
technologies.
-10-
Results of
Operations
Three months
and nine months ended September 30, 2005 and 2004
Revenues
We
generated our first product sales revenue in August 2000. Product sales revenue to date
has resulted primarily from sales of Messenger, our initial product, and Messenger STS,
an improved formulation of Messenger introduced in January 2004, as well as N-Hibit™,
ProAct™, MightyPlant™ and other related products (hereafter referred to
collectively as “Harp-N-Tek™ products”) primarily to distributors in the
United States and Spain. Revenues from product sales are recognized when (a) the product
is delivered to independent distributors, (b) we have satisfied all of our significant
obligations and (c) any acceptance provisions or other contingencies or arrangements
have been satisfied, including whether collection is reasonably assured. As part of the
analysis of whether all of our significant obligations have been satisfied or situations
where acceptance provisions or other contingencies or arrangements exist, we consider
the following elements, among others: sales terms and arrangements, historical
experience and current incentive programs. Our distributor arrangements provide no price
protection or product-return rights. Product sales revenue is reported net of applicable
sales allowances, as follows:
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||
| Gross product sales | $ | 371,418 | $ | 427,120 | $ | 3,758,215 | $ | 907,342 | ||||||
| Sales allowances | (28,020 | ) | (58,737 | ) | (674,239 | ) | (130,858 | ) | ||||||
| Elimination of previously recorded sales | ||||||||||||||
| allowance liabilities | -- | -- | 91,371 | 95,237 | ||||||||||
| Product sales, net of sales allowances | $ | 343,398 | $ | 368,383 | $ | 3,175,347 | $ | 871,721 | ||||||
Gross
product sales revenue for the third quarter of 2005 was $371,000, a decrease of $56,000
(13%) from $427,000 in the same quarter of 2004. This decrease was primarily a result
of lower revenue recognized in Spain. We believe this is a result of drought conditions
in Spain which caused growers to delay their purchases until later in the growing
season.. Gross product sales for the first nine months of 2005 totaled $3,758,000, an
increase of $2,851,000 (314%) from $907,000 for the same period of 2004. The increase is
a result of sales of Messenger in foreign markets, sales growth in the home and garden
market and sales of our new Harp-N-Tek products – N-Hibit, ProAct and MightyPlant.
Sales of new products produced over 50% of total revenue in the nine months ended
September 30, 2005. Sales in the quarter and nine months ended September 30, 2004 were
negatively impacted by high levels of inventory in the channel and free product
provided under the price reduction program. Sales in the first nine months of 2005 were
made primarily to 51 distributors, three of which accounted for an aggregate of 38% of
net product sales revenue. Sales in the first nine months of 2004 were made primarily to
41 distributors, three of which accounted for an aggregate of 44% of net product sales
revenue. Based on our experience and seasonality, we expect sales in the second half of
2005 to be significantly lower than in the first half of 2005.
Net
product sales revenue from sales to foreign customers totaled $158,000 and $226,000 in
the three months ended September 30, 2005 and 2004, respectively, and $698,000 and
$316,000 in the nine months ended September 30, 2005 and 2004, respectively. These sales
were made primarily to distributors in Europe. In February 2004, we received approval
to sell Messenger in Spain. We initiated marketing activities in March 2004, but the
approval was not received in time to meet initial sales activity. In order to ensure
that an adequate supply of Messenger was quickly disbursed in the new distribution
channel and to limit the amount of working capital required by our new distributors at
this early stage of introduction, we granted flexible and/or extended payment terms to
distributors in this new market. Because of this combination of factors, revenues from
these product deliveries were deferred and will be recognized when payment is received.
We recognized net revenue of $153,000 from these deliveries when payment was received in
the three months ended September 30, 2005 and $226,000 in the three months ended
September 30, 2004. We recognized net revenue of $602,000 from these deliveries when
payment was received in the nine months ended September 30, 2005 and $317,000 in the
nine months ended September 30, 2004. Gross revenues of $258,000 and cost of goods sold
of $73,000 were deferred at September 30, 2005 and will be recognized when payment is
received.
Net
sales of Messenger to consumers in the home and garden market in the United States
totaled $40,000 and $28,000 in the three months ended September 30, 2005 and 2004,
respectively, and $375,000 and $181,000 in the nine months ended September 30, 2005 and
2004, respectively. Based on our experience and seasonality, we expect fourth quarter
sales of our home and garden products to be comparable to third quarter.
-11-
In
December 2003, we announced a reduction of approximately 50% in the price of Messenger
and determined that Messenger STS would sell for approximately the same price as
Messenger. We also announced to distributors that we planned to send them additional
ounces of Messenger STS at no charge in order to reduce the average cost of their
existing inventories of Messenger. In the first nine months of 2004, we delivered
approximately 400,000 ounces of free Messenger STS. In the last quarter of 2004, we
delivered approximately 70,000 ounces of free Messenger STS. This free product
substantially increased channel inventory and negatively affected our Messenger STS
sales to distributors. We do not expect distributors that hold significant inventories
of Messenger STS to place additional orders until their current inventories are reduced.
Due
to the growing seasons of our targeted crops and our current portfolio of Harp-N-Tek
products, we expect grower usage of Harp-N-Tek products to be highly seasonal. Based on
the recommended application timing in our targeted crops and information received from
our distributors, we expect the second quarter to be the most significant period of use.
Our product sales to distributors are also expected to be seasonal. However, actual
timing of orders received from distributors will depend on many factors, including the
amount of Harp-N-Tek products in distributors’ inventories.
Sales Allowances
Sales
allowances represent allowances granted to independent distributors for sales and
marketing support and are based on the terms of the distribution agreements or other
arrangements. Sales allowances are estimated and accrued when the related product sales
are recognized or when services are provided and are paid in accordance with the terms
of the then-current distributor program agreements or other arrangements. Distributor
program agreements expire annually, generally on December 31.
Sales
allowances during the three months ended September 30, 2005 totaled $28,000 (8% of gross
product sales) compared to $59,000 (14% of gross product sales) in the comparable
period of 2004. Sales allowances for the nine months ended September 30, 2005 and 2004
include the reduction by $91,000 and $95,000, respectively, of sales allowance
liabilities recognized in prior quarters that will not be paid because actual amounts
earned by distributors were less than amounts previously estimated. Excluding these
sales allowance reductions, sales allowances during the nine months ended September 30,
2005 totaled $674,000 (18% of gross product sales) compared to $131,000 (14% of gross
product sales) in the comparable period of 2004. We expect 2005 sales allowances to
average approximately 15-20% of total gross product sales based on current product
specific distributor programs.
Cost of Goods
Sold
Cost
of goods sold consists primarily of the cost of products sold to distributors, idle
capacity charges and the cost of products used for promotional purposes. Cost of goods
sold was $586,000 in the third quarter of 2005, an increase of $255,000 (77%) compared
to $331,000 in the third quarter of 2004. This increase was primarily due to less
manufacturing activity in the third quarter of 2005 compared to the same quarter of 2004
which resulted in higher idle capacity costs being charged directly to cost of goods
sold. Cost of goods sold for the first nine months of 2005 was $1.8 million compared to
$1.5 million in the same period of 2004. An increase in cost of products sold related to
higher sales volumes in 2005 was offset by a reduction in idle capacity charges
resulting from additional manufacturing activities in 2005 compared to 2004 and the
write-off in 2004 of Messenger labels that were not used due to the introduction of
Messenger STS. We completed our current manufacturing operations in the second quarter
of this year and we expect idle capacity charges to continue in the fourth quarter of
2005.
Research and
Development Expenses
Research
and development expenses consist primarily of personnel, field trial, laboratory,
regulatory, patent and facility expenses. Research and development expenses decreased
$56,000 (6%) from $863,000 in the third quarter of 2004 to $807,000 in the same quarter
of this year. This decrease was primarily a result of lower facility and field trial
costs and a gain from the sales of certain assets, which was offset by an increase in
depreciation and amortization. For the first nine months of 2005, research and
development costs were $2.7 million, an increase of $400,000 (17%) from $2.3 million in
the same period last year. This increase was primarily due to an increase in
depreciation and amortization expense that resulted from reducing the estimated useful
life of leasehold improvements and certain equipment at our research facility. Prior to
terminating this facility lease effective August 31, 2005, we were pursuing additional
tenants to sublease this lab and office space and we had expected to complete the
sublease by December 2005.
-12-
Selling,
General and Administrative Expenses
Selling,
general and administrative expenses consist of payroll and related expenses for sales
and marketing, executive and administrative personnel; advertising, marketing and
professional fees; and other corporate expenses. Selling, general and administrative
expenses were $1.2 million in the third quarter of 2005 and 2004. For the first nine
months of 2005, selling, general and administrative costs were $4.2 million, an increase
of $0.6 million (17%) from $3.6 million in the same period last year. This increase
resulted primarily from additional spending on advertising and marketing costs for the
home and garden market and for the introduction of our new products during the first
half of 2005.
In
April 2003, we subleased approximately 7,300 square feet of office space to another
company under a five year sublease agreement. Due to declines in the real estate
market, the rent we pay on the subleased space exceeded the initial rent to be collected
under the sublease and we recorded a loss of $213,000. Due to the subtenants financial
difficulties, the subtenant later reduced the rental payment and an additional loss of
$159,000 was recorded in the quarter ended September 30, 2003. The subtenant vacated the
space in October 2004. As a result, we recorded an additional loss of $202,000 at
September 30, 2004 based upon an estimate of the time needed to re-sublease the space
and expected future rents to be collected.
Lease
Termination Loss
On
September 9, 2005, we entered into an Amendment of Lease and Termination Agreement with
the landlord to terminate the lease of 63,200 square feet of research and office space
in Bothell, Washington. The lease originally expired January 11, 2011.
Average annual rent and operating costs under the lease were approximately $1.9 million.
The termination was effective as of August 31, 2005.
Approximately
34,300 square feet of the space subject to the lease was subleased. The sublease had an
initial term that expired in December 2007. Average annual rent and operating costs
under the sublease were approximately $1.2 million. In connection with the Amendment of
Lease and Termination Agreement, the existing sublease was transferred to the landlord.
The
lease termination resulted in a loss totaling approximately $2.3 million. The lease
termination loss is comprised of a termination fee totaling $1.5 million, consisting of
$250,000 cash and the forfeiture of a $1.25 million security deposit (previously
included in long-term other assets on the balance sheet at December 31, 2004); other
costs, and an asset impairment loss on leasehold improvements and equipment at the
leased facility totaling approximately $3.5 million, offset by the write-off of
liabilities recorded for accrued losses on facility subleases and rent expense in excess
of rent payments totaling approximately $2.7 million.
Interest Income
Interest
income consists of earnings on our cash and cash equivalents. Interest income increased
$65,000 from $159,000 in the first nine months of 2004 to $224,000 in the same period
of this year. The change was due to higher interest rates in 2005 offset by
significantly lower average cash balances available for investment in the nine months
ended September 30, 2005 compared to the same period in 2004.
Income Taxes
We
have generated a net loss from operations for each period since we began doing business.
As of December 31, 2004, we had accumulated approximately $101.9 million of net
operating loss carryforwards for federal income tax purposes, which expire between 2009
and 2024, and approximately $9.6 million in foreign tax net operating loss
carryforwards, which expire between 2006 and 2009. We have provided a valuation
allowance against our net deferred tax assets because of the significant uncertainty
surrounding our ability to realize them. The annual use of these net operating loss
carryforwards may be limited in the event of a cumulative change in ownership of more
than 50%.
-13-
Liquidity
and Capital Resources
Our
operating expenditures have been significant since our inception. We currently
anticipate that our operating expenses will significantly exceed net product sales and
that net losses and working capital requirements will consume a material amount of our
cash resources. If net product sales do not significantly increase in the near term, we
will have to further reduce our operating expenses. Our future capital requirements will
depend on the success of our operations. We believe that the balance of our cash and
cash equivalents at September 30, 2005 will be sufficient to meet our anticipated cash
needs for net losses, working capital and capital expenditures for more than the next
12 months, although there can be no assurance in that regard. After the next 12 months,
if net product sales do not significantly increase, we will have to further reduce
operating expenses or secure additional financing. We may be unable to obtain adequate
or favorable financing at that time or at all and may be required to cease operations.
In this regard, our common stock listing was transferred from The Nasdaq National Market
to The Nasdaq Capital Market on October 10, 2005. We elected to seek a
transfer to The Nasdaq Capital Market because we had been unable to regain compliance
with Nasdaq's minimum $1.00 bid price requirement for continued listing. By transferring
to The Nasdaq Capital Market, we have been afforded an additional 180-calendar day
grace period, or until March 31, 2006, in which to satisfy Nasdaq's $1.00 minimum bid
price requirement. To regain compliance, the closing bid price of our common stock has
to remain at $1.00 per share or more for a minimum of ten consecutive trading days. If
we do not regain compliance with the minimum bid price rule by March 31, 2006, our
common stock will be delisted. Trading on the Nasdaq Capital Market may have a negative
impact on the value of our common stock, because securities trading on the Nasdaq
Capital Market typically are less liquid than those traded on The Nasdaq National
Market. As a result, it may be more difficult for us to raise capital. Moreover, if our
common stock is delisted from The Nasdaq Capital Market, it could become even more
difficult for us to raise capital and would further reduce the market liquidity for our
common stock. The sale of additional equity securities could result in dilution to our
shareholders.
At
September 30, 2005, our cash and cash equivalents totaled $8.6 million, a decrease of
$3.3 million from the balance of $11.9 million at December 31, 2004. Prior to October
2000, we financed our operations primarily through the private sale of our equity
securities, resulting in net proceeds of approximately $36.5 million through September 30,
2000. In October 2000, we received approximately $91.5 million in net proceeds from the
initial public offering of 6,670,000 shares of our common stock. To a lesser extent, we
have financed our equipment purchases through lease financings.
Net
cash used in operations decreased $2.4 million (41%) from $5.8 million in the first nine
months of 2004 to $3.4 million in the same period of 2005. Net cash used in operations
in the first nine months of 2005 resulted primarily from a net loss of $7.5 million,
which includes depreciation and amortization expense of $1.7 million and a loss on
lease termination of $2.3 million, and fluctuations in various asset and liability
balances totaling $426,000. We expect that net cash used in operations will continue to
be significant.
We
conduct our operations in two primary functional currencies: the U.S. dollar and the
euro. Historically, neither fluctuations in foreign exchange rates nor changes in
foreign economic conditions have had a significant impact on our financial condition or
results of operations. We currently do not hedge our foreign currency exposures and
are, therefore, subject to the risk of exchange rate fluctuations. We may invoice our
international customers in U.S. dollars and euros, as the case may be. We are exposed
to foreign exchange rate fluctuations as the financial results of foreign subsidiaries
are translated into U.S. dollars in consolidation. Foreign exchange rate fluctuations
did not have a material impact on our financial statements in the nine months ended
September 30, 2005 or 2004.
The
following are our contractual obligations as of September 30, 2005 associated with our
capital and operating lease obligations:
| Payments Due by Period | |||||||||||||||||
| (in thousands) | |||||||||||||||||
| Total | Less Than 1 Year |
1-3 Years |
3-5 Years |
More Than 5 Years |
|||||||||||||
| Capital lease obligations, including interest | $ | 2 | $ | 2 | $ | -- | $ | -- | $ | -- | |||||||
| Operating lease obligations | 521 | 428 | 92 | -- | -- | ||||||||||||
| Total | $ | 523 | $ | 430 | $ | 92 | $ | -- | $ | -- | |||||||
-14-
Critical
Accounting Policies, Estimates and Judgments
Our
critical accounting policies are more fully described in Note 1 to our consolidated
financial statements included in our most recent Annual Report on Form 10-K, which was
filed with the Securities and Exchange Commission on March 25, 2005. Certain of our
accounting policies require the application of significant judgment by management in
selecting the appropriate assumptions for calculating financial estimates. By their
nature, these judgments are subject to an inherent degree of uncertainty. These
judgments are based on historical experience, terms of existing contracts, commonly
accepted industry practices, information provided by our customers and other assumptions
that we believe are reasonable under the circumstances. Our estimates and assumptions
are reviewed periodically and the effects of revisions are reflected in the consolidated
financial statements in the period in which they are determined to be necessary. Actual
results may differ from these estimates under different assumptions or conditions. Our
critical accounting policies and estimates include:
Revenue
Recognition
We
sell the majority of our products to independent, third-party distributors. Our
arrangements with those distributors provide no price protection or product-return
rights. We recognize revenue from product sales, net of sales allowances, when product
is delivered to our distributors and all of our significant obligations have been
satisfied, unless acceptance provisions or other contingencies or arrangements exist,
including whether collection is reasonably assured. If acceptance provisions or
contingencies exist, revenue is recognized after such provisions or contingencies have
been satisfied. As part of the analysis of whether all of our significant obligations
have been satisfied or situations where acceptance provisions or other contingencies or
arrangements exist, we consider the following elements, among others: sales terms and
arrangements, including customer payment terms, historical experience and current
incentive programs.
Sales
allowances represent allowances granted to independent distributors for sales and
marketing support and are based on the terms of the distribution agreements or other
arrangements. Sales allowances are estimated and accrued when the related product sales
are recognized or when services are provided and are paid in accordance with the terms
of the then-current distributor program agreements or other arrangements.
We
also record, at the time revenue is recognized, a liability for warranty claims based on
a percentage of sales. The warranty accrual percentage, which has ranged between zero
and five percent, and warranty liability are reviewed periodically and adjusted as
necessary, based on historical experience, the results of product quality testing and
future expectations. Changes in our estimate of the warranty liability are recorded in
cost of goods sold.
Accounts
Receivable and Allowance for Doubtful Accounts
Accounts
receivable balances are reported net of customer-specific related sales allowances. In
determining the adequacy of the allowance for doubtful accounts, we consider a number
of factors, including the age of outstanding invoices, customer payment trends, the
financial condition of our customers, historical bad debts and current economic trends.
Based upon our analysis of outstanding net accounts receivable at September 30, 2005, no
allowance for doubtful accounts was recorded. Changes in the factors above or other
factors could result in a significant charge.
Inventory
Our
inventory is valued at the lower of cost or market on an average cost basis. We
regularly review inventory balances to determine whether a write-down is necessary. We
consider various factors in making this determination, including recent sales history
and predicted trends, industry market conditions, general economic conditions, the age
of our inventory and recent quality control data. Changes in the factors above or other
factors could result in significant additional inventory cost reductions and write-offs.
We
also review our inventory to determine inventory classification. Inventory expected to
be utilized in the next twelve-month period is classified as current and inventory
expected to be utilized beyond that period is classified as non-current. In determining
the classification of inventory, the Company considers a number of factors, including
historical sales experience and trends, existing distributor inventory, expansion into
new markets, introduction of new products and estimates of future sales growth. Changes
in the factors above or other factors could result in significant changes in
classification of inventory.
Valuation of
Property and Equipment
We
periodically review the carrying values of our property and equipment to determine
whether such assets have been impaired. An impairment loss must be recorded pursuant to
SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” when
the undiscounted net cash flows expected to be realized from the use of such assets are
less than their carrying value. The determination of undiscounted
-15-
net cash flows
expected requires us to make many estimates, projections and assumptions, including the
lives of the assets, future sales and expense levels, additional capital investments or
expenditures necessary to maintain the assets, industry market trends and general and
industry economic conditions. Our property and equipment consists primarily of assets
used to manufacture and sell our products and assets used in our research and
administration. For the purpose of assessing asset impairment, we have grouped all of
these assets together in one asset group because our administration and research support
our manufacturing and sales activities and do not have a separate identifiable cash
flow.
Based
upon our most recently completed analysis of net cash flows expected to be realized from
our remaining investments in property and equipment, including consideration of the
reduction of rent and operating costs and write-off of leasehold improvements and
equipment associated with the lease termination, no additional impairment loss was
recorded. The critical estimates in the analysis are our ability to significantly
increase sales over the next five years while controlling operating expenses at about
current levels over the next four years. If net product sales do not significantly
increase in the near term or if expenses significantly increase over the current level,
a significant impairment loss may need to be recorded.
Factors That
May Affect Our Business, Future Operating Results and Financial Condition
You
should carefully consider the risks described below, together with all of the other
information included in this Quarterly Report on Form 10-Q. The risks and uncertainties
described below are not the only ones facing our company. If any of the following risks
actually occurs, our business, financial condition or operating results could be harmed.
We have a
history of losses since inception, we expect to continue to incur losses and we may not
achieve or sustain profitability.
We
have incurred operating losses in each quarter since inception and we expect to continue
to incur further operating losses for the foreseeable future. From our inception in
July 1994 to September 30, 2005, we have accumulated a deficit of $113 million. For the
nine months ended September 30, 2005, we incurred a net loss of $7.5 million. For the
years ended December 31, 2004, 2003, 2002, 2001 and 2000, we had net losses of $8.9
million, $11.2 million, $23.5 million, $23.7 million and $15.7 million,
respectively. To date, our revenues have been limited. For example, there were no sales
in the fourth quarter of 2001 and annual net sales decreased from $3.5 million in 2001
to $1.9 million in 2002, $1.8 million in 2003 and $1 million in 2004. We expect our
future revenues to come primarily from the sale of Messenger STS, employ, MightyPlant,
ProAct™, N-Hibit™ and other products and these sales are highly uncertain.
We
expect to continue to devote substantial resources to funding sales and marketing
activities in the United States and foreign countries, maintaining and operating our
manufacturing facility and funding our research and development activities. As a result,
we will need to generate significant revenues to achieve and maintain profitability. We
may never generate profits, and if we do become profitable, we may be unable to sustain
or increase profitability on a quarterly or annual basis.
We
currently anticipate that our operating expenses will significantly exceed net product
sales and that net losses and working capital requirements will consume a material
amount of our cash resources. If net product sales do not significantly increase in the
near term, we will have to further reduce our operating expenses. We believe that the
balance of our cash and cash equivalents at September 30, 2005 will be sufficient to
meet our anticipated cash needs for net losses, working capital and capital expenditures
for more than the next 12 months, although there can be no assurance in that regard.
We may
have to reduce or cease operations if we are unable to meet our funding requirements.
We
will require substantial additional funding to continue our sales and marketing and
research and development activities in the United States and foreign countries and to
maintain and operate our manufacturing facilities. If we are unable to generate
sufficient cash flow from operations, or obtain funds through additional financing, we
may have to delay, curtail or eliminate some or all of our research and development,
field-testing, marketing or manufacturing programs or cease all operations. For
example, we reduced our workforce by 34% in May 2003 and by 23% in May 2002,
significantly curtailing certain research and development activities and our European
and Mexican operations. Our future capital requirements will depend on the success of
our operations.
-16-
If
our capital requirements vary from our current plans, we may require additional
financing sooner than we anticipate. Financing may be unavailable to us when needed or
on acceptable terms.
Our
common stock listing was transferred from The Nasdaq National Market to The Nasdaq
Capital Market (formerly known as The Nasdaq SmallCap Market); we currently are not in
compliance with The Nasdaq Capital Market minimum bid requirement and failure to regain
and maintain compliance with this and other continued listing standards could result in
delisting and adversely affect our market price and liquidity.
Our
common stock listing was transferred from The Nasdaq National Market to The Nasdaq
Capital Market on October 10, 2005. We elected to seek a transfer to The
Nasdaq Capital Market because we had been unable to regain compliance with Nasdaq's
minimum $1.00 bid price requirement for continued listing. By transferring to The
Nasdaq Capital Market, we have been afforded an additional 180-calendar day grace
period, or until March 31, 2006, in which to satisfy Nasdaq's $1.00 minimum bid price
requirement. To regain compliance, the closing bid price of our common stock has to
remain at $1.00 per share or more for a minimum of ten consecutive trading days. If we
do not regain compliance with the minimum bid price rule by March 31, 2006, Nasdaq
will provide us written notification that our common stock will be delisted. In such
case, we have the right to appeal Nasdaq’s delisting determination to a
Listing Qualifications Panel. Trading on The Nasdaq Capital Market may have a negative
impact on the value of our common stock, because securities trading on The Nasdaq
Capital Market typically are less liquid than those traded on The Nasdaq National
Market. Furthermore, we will not be eligible to relist our common stock on The Nasdaq
National Market unless and until our common stock maintains a minimum bid price of
$5.00 per share for 90 consecutive trading days and we otherwise comply with the initial
listing requirements for The Nasdaq National Market
If
our common stock were to be delisted from The Nasdaq Capital Market, we may seek
quotation on a regional stock exchange, if available. Such listing could reduce the
market liquidity for our common stock. If our common stock is not eligible for
quotation on another market or exchange, trading of our common stock could be conducted
in the over-the-counter market on an electronic bulletin board established for unlisted
securities such as the Pink Sheets or the OTC Bulletin Board. As a result, an investor
would find it more difficult to dispose of, or obtain accurate quotations for the price
of, our common stock.
If
our common stock is delisted from The Nasdaq Capital Market, and if we fail to obtain
quotation on another market or exchange, and if the trading price remains below $5.00
per share, then trading in our common stock might also become subject to the
requirements of certain rules promulgated under the Securities Exchange Act of
1934, which require additional disclosure by broker-dealers in connection with any
trade involving a stock defined as a “penny stock” (generally, any equity
security not listed on a national securities exchange or quoted on Nasdaq that has a
market price of less than $5.00 per share, subject to certain exceptions). Many
brokerage firms are reluctant to recommend low-priced stocks to their clients.
Moreover, various regulations and policies restrict the ability of shareholders to
borrow against or “margin” low-priced stocks, and declines in the stock price
below certain levels may trigger unexpected margin calls. Additionally, because brokers’ commissions
on low-priced stocks generally represent a higher percentage of the stock price than
commissions on higher priced stocks, the current price of the common stock can result in
an individual shareholder paying transaction costs that represent a higher percentage
of total share value than would be the case if our share price were higher. This factor
may also limit the willingness of institutions to purchase our common stock. Finally,
the additional burdens imposed upon broker-dealers by these requirements could
discourage broker-dealers from facilitating trades in our common stock, which could
severely limit the market liquidity of the stock and the ability of investors to trade
our common stock
We
currently depend on products that are based on the same new technology, and our
development and commercialization of those products may not be successful.
For
the immediately foreseeable future we will be dependent on the successful development
and commercialization of six products in our Harp-N-Tek product portfolio (Messenger,
Messenger STS, ProAct, N-Hibit, employ and MightyPlant) which are based on the same new
technology. We have had only limited sales of Messenger since its introduction in August 2000
and we began marketing employ in November 2003, Messenger STS in January 2004,
MightyPlant in April 2004 and N-Hibit and ProAct in early 2005. These six products may
not be commercially successful. Our products may not prove effective or economically
viable for all crops or markets. In addition, because our products have not been put to
widespread commercial use over significant periods of time, no assurance can be given
that adverse consequences might not result from their use, such as soil or other
environmental degradation, the development of negative effects on animals or plants or
reduced benefits in terms of crop yield or protection.
-17-
The
markets for our products and other harpin-based products we may develop are unproven.
Our products have not gained, and may not gain, commercial acceptance or success. If we
are unable to successfully achieve broad market acceptance of our products, we may not
be able to generate enough product revenues in the future to achieve profitability. A
variety of factors will determine the success of our market development and
commercialization efforts and the rate and extent of market acceptance of our products,
including our ability to implement and maintain an appropriate pricing policy and
general economic conditions in agricultural markets, including commodity prices,
climatic conditions and the extent that growers, regulatory authorities and the public
accept new agricultural practices and products developed through biotechnology.
We have
experienced limited grower usage of Messenger and Messenger STS, and independent
distributors hold significant inventories of Messenger STS.
Based
on information received from distributors, we estimate that distributors sold 66,000
ounces of Messenger in 2000, 596,000 ounces in 2001, 684,000 ounces in 2002, 734,000
ounces in 2003 and 800,000 ounces in 2004. During the first nine months of 2005, we
estimate that distributors sold 718,000 ounces to growers, compared to 730,000 ounces
in the same period of 2004. We estimate that Messenger and Messenger STS inventory held
by distributors at September 30, 2005 was approximately 270,000 ounces. We sent
distributors approximately 470,000 ounces of additional Messenger STS for free in 2004
as part of an effort to lower the average cost of their year-end Messenger inventories
by approximately 50%. This free product significantly increased channel inventory and
negatively affected our sales to distributors. We do not expect distributors that hold
significant inventories of Messenger or Messenger STS to place additional orders for our
products until their current inventories are reduced, which will adversely affect our
sales and results of operations.
Inability
to develop adequate sales and marketing capabilities could prevent us from successfully
commercializing our current products and other products we may develop.
We
currently have limited sales and marketing experience and capabilities. Our internal
sales and marketing staff consist primarily of sales and marketing specialists who are
trained to educate growers and independent distributors on the uses and benefits of our
products. We will need to further develop our sales and marketing capabilities in order
to enhance our commercialization efforts, which will involve substantial costs. These
specialists require a high level of technical expertise and knowledge regarding our
products’ capabilities and other plant protection and yield enhancement products
and techniques. We cannot assure you that our specialists and other members of our sales
and marketing team will successfully compete against the sales and marketing operations
of our current and future competitors that may have more established relationships with
distributors, retailers and growers. Failure to recruit, train and retain important
sales and marketing personnel, such as our sales and marketing specialists, or the
inability of new sales and marketing personnel to effectively market and sell our
current products and other products we may develop, could impair our ability to gain
market acceptance of our products and cause our sales to suffer.
We may be
unable to establish or maintain successful relationships with independent distributors
and retailers, which could adversely affect our sales.
We
intend to rely on independent distributors and retailers of agri-chemicals to distribute
and assist with the marketing and sale of our current products and any other products
we may develop. We have engaged several independent distributors and retailers for the
distribution and sale of our products. Our future revenue growth will depend in large
part on our success in establishing and maintaining these sales and distribution
channels. We are continuing to develop our distribution network and we may be unable to
establish or maintain these relationships in a timely or cost-effective manner.
Moreover, we cannot assure you that the distributors and retailers on which we rely will
focus adequate resources on selling these products or will be successful in selling
them. Many of our potential distributors and retailers are in the business of
distributing and sometimes manufacturing other, possibly competing, plant protection and
yield enhancement products and may perceive our products as a threat to various product
lines currently being manufactured or distributed by them. In addition, the distributors
and retailers may earn higher margins by selling competing products or combinations of
competing products. If we are unable to establish or maintain successful relationships
with independent distributors and retailers, we will need to further develop our own
distribution and sales and marketing capabilities, which would be expensive and
time-consuming and the success of which would be uncertain.
-18-
Three
distributors accounted for an aggregate of 38% of net product sales revenue in first
nine months of 2005 and three distributors accounted for an aggregate of 44% of our net
sales revenue in the same period of 2004. If any distributor that purchases a
significant amount of our products were to discontinue purchasing our products at any
time, our sales would be adversely affected. In addition, the failure of any of these
distributors, or of any other distributor to which we extend a significant amount of
credit, to pay its account, now or in the future, may harm our operating results.
If our
ongoing or future field trials are unsuccessful, we may be unable to achieve market
acceptance or obtain regulatory approval of our current products or any other products
we may develop.
The
successful completion of multiple field trials in domestic and foreign locations on a
wide variety of crops is critical to the success of our product development and
marketing efforts. If our ongoing or future field trials are unsuccessful or produce
inconsistent results or adverse side effects, or if we are unable to collect reliable
data, regulatory approval of our current products or any other products we may develop
could be delayed or withheld or we may be unable to achieve market acceptance of these
products. Although we have conducted successful field trials on a broad range of crops,
we cannot be certain that additional field trials conducted on a greater number of
acres, or on crops for which we have not yet conducted field trials, will be successful.
Moreover, the results of our ongoing and future field trials are subject to a number of
conditions beyond our control, including weather-related events such as droughts and
floods, severe heat and frost, hail, tornadoes and hurricanes. Generally, we pay third
parties, such as consultants and universities, to conduct our field trials for us.
Incompatible crop treatment practices or misapplication of the product by third parties
could interfere with the success of our field trials.
We are
largely in the development stage and are subject to the risks of a new enterprise and
the commercialization of a new technology.
We
began our operations in 1994 and began the marketing and sale of our first product,
Messenger, in the third quarter of 2000. Our stage of development, our novel technology
and the uncertain nature of the market in which we compete make it difficult to assess
our prospects or predict our future operating results. We are subject to risks and
uncertainties frequently encountered in the establishment of a new business enterprise,
particularly in the rapidly changing market for plant protection and yield enhancement
products. These risks include our inability to develop a company capable of supporting
commercial activities, including manufacturing, quality control and assurance,
regulatory approval and compliance, marketing, sales, distribution and customer service.
Our inability to adequately address these risks could cause us to be unprofitable or to
cease operations.
International
expansion will subject us to risks associated with international operations, which could
adversely affect both our domestic and international operations.
Our
success depends in part on our ability to expand internationally as we obtain regulatory
approvals to market and sell our current products, and any other products we may
develop, in other countries. We recently began selling our products in Spain. We have
been conducting field trials in several international locations and we have personnel in
Europe to develop operations in that region. International expansion of our operations
could impose substantial burdens on our resources, divert management’s attention
from domestic operations or otherwise adversely affect our business. Furthermore,
international operations are subject to several inherent risks, such as different
regulatory requirements and reduced protection of intellectual property rights, which
could adversely affect our ability to compete in international markets and could have a
negative effect on our operating results.
The high
level of competition in our market may result in price reductions, reduced margins or
the inability of our products to achieve market acceptance.
The
market for plant protection and yield enhancement products is intensely competitive,
rapidly changing and undergoing consolidation. We may be unable to compete successfully
against our current or future competitors, which may result in price reductions, reduced
margins or the inability to achieve market acceptance of our current products or any
other products we may develop. For example, from September to December 2003 we offered
growers a “buy one, get one free” promotion and in January 2004 we introduced
Messenger STS at a price that is approximately 50% of the 2003 price of Messenger.
Many
companies are engaged in developing plant protection and yield enhancement products. Our
competitors include major international agri-chemical companies, specialized
biotechnology companies and research and academic institutions. Many of these
organizations have significantly more capital, research and development, regulatory,
manufacturing, distribution, sales, marketing, human and other resources than we do. As
a result, they may be able to devote greater resources to the development, manufacture,
promotion or sale of their products, receive greater resources and support from
independent distributors, initiate or withstand substantial price competition or take
advantage of acquisition or other opportunities more readily. Furthermore, these large
agri-chemical companies have a more diversified product offering than we do, which may
give them an advantage in meeting customer needs by enabling them to offer integrated
solutions to plant protection and yield enhancement.
-19-
Age and
actual storage conditions of our products may cause them to degrade, which could
adversely affect market acceptance of our products or our results of operations.
Our
products are currently being stored in large quantities under various conditions by us
and by distributors. Most of this material was manufactured in 2001, 2002, 2004 and
2005. We have conducted two year long-term stability studies that indicate Messenger is
stable for at least two years under our recommended storage conditions. Further, the
results of recently completed re-testing of Messenger manufactured in 2000 indicate that
it is still stable with similar biological activity and performance as of the original
manufacture date. No assurance can be given, however, that actual storage conditions
will not cause our products’ quality to degrade over a shorter time period.
The
inventory of Messenger held by us and by distributors is aging and may not meet our
quality standards, which could adversely affect market acceptance of our products and
our results of operations.
Our
inventory at September 30, 2005 includes approximately 2.6 million ounces of Messenger
and Messenger STS that was manufactured in 2001, 2002, 2004 and 2005. In addition, we
estimate that distributors own approximately 270,000 ounces of Messenger and Messenger
STS that was manufactured between 2001 and 2004. Due to the age of this inventory, we
conducted limited re-testing of Messenger samples produced in 2000 and 2001. In 2003, we
voluntarily recalled and replaced approximately 10,000 ounces of Messenger owned by
distributors that our limited re-testing indicated had degraded below our quality
control standards.
Although
results of our limited re-testing indicate that a portion of inventory manufactured in
2001 and 2002 continues to meet our quality standards, no assurance can be given that
this material will continue to meet our quality standards, nor can we predict if or when
this material might fail to meet our quality standards. If our limited re-testing
program indicates that additional material has degraded below our quality standards, we
may have to record additional inventory write-downs and, although we are not required
to, may choose to replace any such product owned by distributors or growers, which could
adversely affect the market acceptance of our products or our results of operations.
Inability
to obtain regulatory approvals, or to comply with ongoing and changing regulatory
requirements, could delay or prevent sales of our current products or any other products
we may develop.
The
field testing, manufacture, sale and use of plant health products, including Messenger,
Messenger STS, ProAct, N-Hibit, employ, MightyPlant and other products we may develop,
are extensively regulated by the EPA and/or state, local and foreign governmental
authorities. These regulations substantially increase the cost and time associated with
bringing our current products and any other products we may develop to market. If we do
not receive the necessary governmental approvals to test, manufacture and market these
products, or if the regulatory authorities revoke our approvals or grant them subject to
restrictions on their use, we may be unable to sell these products and our business may
fail.
We
are required to obtain regulatory approval from certain state and foreign regulatory
authorities before we market our products in those jurisdictions. Some of these
jurisdictions may apply different criteria than the EPA in connection with their
approval processes. Although we are authorized to sell Messenger and Messenger STS in 48
states for use on virtually all crops for crop production and disease management, and
to sell Messenger and Messenger STS in California for use on citrus for yield
enhancement and on strawberries, citrus, grapes and fruiting vegetables, such as
tomatoes and peppers, for disease management, we have not received approval of
Messenger, Messenger STS or N-Hibit for use on other crops in California. In Colorado,
Messenger is approved for use on virtually all crops for home and garden use. ProAct
has been approved for use in 47 states, including Colorado, and is pending approval in
all other states except California. We have also received authorization to sell
Messenger, or are exempt from formal authorization requirements, in at least 26 foreign
countries, including Spain, Germany, Mexico, China and six Central American countries.
Our registration in China is temporary and limited to the sale of Messenger for use on
tomatoes, peppers, tobacco, and rapeseed. Our registration in Spain is limited to the
sale of Messenger for use on tomatoes, peppers, cucumbers, melons, strawberries,
lettuce, citrus and olives. The EPA has approved the use of Messenger STS and we are
currently in the process of obtaining foreign registrations for this product, but there
can be no assurance that such registrations will be obtained on acceptable terms.
-20-
Neither
employ nor MightyPlant are pesticides and they are not regulated by the EPA. However,
several states and foreign governments regulate both products. Many states regulate
employ as a plant amendment or soil conditioner and some of these states and foreign
regulatory authorities require the submission and review of performance data and other
information prior to granting their approval. We are authorized to sell employ in 33
states and no foreign countries. MightyPlant is classified by most states as a
fertilizer and we are now in the process of obtaining state approvals for its sale. We
are authorized to sell MightyPlant in 45 states and no foreign countries. However,
there can be no assurance that we will obtain approval to sell employ or MightyPlant in
other states or foreign countries.
If
we significantly modify our current products’ designs as a result of our ongoing
research and development projects, additional EPA and other regulatory approvals may be
required. Moreover, we cannot assure you that we will be able to obtain approval for
marketing additional harpin-based products or product extensions that we may develop.
For example, while the EPA has in place a registration procedure for products such as
Messenger that is streamlined in comparison to the registration procedure for chemical
pesticides, there can be no assurance that all of our products or product extensions
will be eligible for the streamlined procedure or that the EPA will not impose
additional requirements that could make the procedure more time-consuming and costly for
any future products we may develop.
Even
if we obtain all necessary regulatory approvals to market and sell our current products
and any other products we may develop, these products will be subject to continuing
review and extensive regulatory requirements. The EPA, as well as state and foreign
governmental authorities, could withdraw a previously approved product from the market
upon discovery of new information, including an inability to comply with regulatory
requirements or the occurrence of unanticipated problems with the product, or for other
reasons. In addition, federal, state and foreign regulations relating to crop production
and protection products developed through biotechnology are subject to public concerns
and political circumstances and, as a result, regulations have changed and may change
substantially in the future. These changes may result in limitations on the
manufacturing, marketing or use of our current products or any other products we may
develop and commercialize.
Our
product development efforts, which are based on an innovative technology that is
commercially unproven, may not be successful.
Our
harpin and harpin-related technology is new and commercially unproven. It may take years
and significant capital investment to develop viable enhancements of our current
products or any new products we may develop based on our harpin and harpin-related
technology. Risks inherent in the development of products based on innovative
technologies include the possibility that:
Our
operating results are likely to fluctuate, resulting in an unpredictable level of sales
and earnings and a decrease in our stock price.
Our
operating results for a particular quarter or year are likely to fluctuate, which could
result in uncertainty surrounding our level of sales and earnings and possibly result
in a decrease in our stock price. For example, there were no sales of Messenger in the
fourth quarter of 2001 and annual net product sales decreased 70% from 2001 to 2004.
Numerous other factors will contribute to the unpredictability of our operating results.
In particular, our sales are expected to be highly seasonal. Sales of plant protection
and yield enhancement products depend on planting and growing seasons, climatic
conditions and economic and other variables, which we expect to result in substantial
fluctuations in our quarterly sales and earnings. For example, weather-related events
such as droughts and floods, severe heat and frost, hail, tornadoes and hurricanes could
decrease demand for our products and any future products we may develop, and have an
adverse impact on our operating results from quarter to quarter. In addition, most of
our expenses, such as employee compensation and lease payments for facilities and
equipment, are relatively fixed. Our expense levels are based, in part, on our
expectations regarding future sales. As a result, any shortfall in sales relative to
our expectations could cause significant changes in our operating results from quarter
to quarter. Other factors may also contribute to the unpredictability of our operating
results, including the amount of our products carried in inventory by independent
distributors and retailers, the amount of free product to be given to retailers, the
size and timing of significant customer transactions, the delay or deferral of customer
use of our products and the fiscal or quarterly budget cycles of our customers. For
example, customers may purchase large quantities of our products under a promotion such
as “buy one, get one free” in a particular quarter to store and use over long
periods of time, or time their purchases to coincide with the availability of capital,
either of which may cause significant fluctuations in our operating results for a
particular quarter or year.
-21-
Inability
to protect our patents and proprietary rights in the United States and foreign countries
could limit our ability to compete effectively since our competitors may take advantage
of our patents or proprietary rights.
Our
success depends on our ability to obtain and maintain patent and other proprietary-right
protection for our technology and products in the United States and other countries. If
we are unable to obtain or maintain these protections, we may not be able to prevent
third parties from using our proprietary rights. We also rely on trade secrets,
proprietary know-how and continuing technological innovation to remain competitive. We
have taken measures to protect our trade secrets and know-how, including the use of
confidentiality agreements with our employees, consultants and advisors. It is possible
that these agreements may be breached and that any remedies for breach will not make us
whole. We generally control and limit access to, and the distribution of, our product
documentation and other proprietary information. Despite our efforts to protect these
proprietary rights, unauthorized parties may copy aspects of our products or obtain and
use information that we regard as proprietary. We also cannot guarantee that other
parties will not independently develop our know-how or otherwise obtain access to our
technology.
The
laws of some foreign countries do not protect proprietary rights to the same extent as
the laws of the United States, and many companies have encountered significant problems
and incurred significant costs in protecting their proprietary rights in these foreign
countries.
Patent
law is still evolving with respect to the scope and enforceability of claims in the
fields in which we operate. We are like many biotechnology companies in that our patent
protection is highly uncertain and involves complex legal and technical questions for
which legal principles are not firmly established. Our patents and those patents for
which we have license rights may be challenged, narrowed, invalidated or circumvented.
In addition, our issued patents may not contain claims sufficiently broad to protect us
against third parties with similar technologies or products, or provide us with any
competitive advantage. We are not certain that our pending patent applications will be
issued. Moreover, our competitors could challenge or circumvent our patents or pending
patent applications.
The
U.S. Patent and Trademark Office and the courts have not established a consistent policy
regarding the breadth of claims allowed in biotechnology patents. The allowance of
broader claims may increase the incidence and cost of patent interference proceedings
and the risk of infringement litigation. On the other hand, the allowance of narrower
claims may limit the value of our proprietary rights.
Other
companies may claim that we infringe their intellectual property or proprietary rights,
which could cause us to incur significant expenses or be prevented from selling our
current products or any other products we may develop in the future.
Our
success depends on our ability to operate without infringing the patents and proprietary
rights of third parties. Product development is inherently uncertain in a rapidly
evolving technological environment in which there may be numerous patent applications
pending, many of which are confidential when filed, with regard to similar
technologies. Future patents issued to third parties may contain claims that conflict
with our patents. Although we believe that our current products do not infringe the
proprietary rights of any third parties, third parties could assert infringement claims
against us in the future. Any litigation or interference proceedings, regardless of
their merit or outcome, would probably be costly and require significant time and
attention of our key management and technical personnel. Litigation or interference
proceedings could also force us to:
If we do
not adequately distinguish our products from genetically modified plants and products,
public concerns over those products could negatively impact market acceptance of our
products.
Claims
that the output of genetically modified plants is unsafe for consumption or that these
plants pose a danger to the environment have led to public concerns and negative
attitudes about genetically modified crops, particularly in Europe. We intend to
distinguish our products and other topically applied harpin technologies from
genetically modified plants and products. Our products are topically applied and do not
modify the plant’s DNA. If the public or our customers perceive our products as
products that genetically modify plants, market acceptance and registration of our
products could be delayed, impaired or limited in countries with strong political
resistance to genetically modified plants.
-22-
We may be
exposed to product liability claims, which could adversely affect our operations.
We
may be held liable or incur costs to settle product liability claims if our current
products or any products we may develop, or any products that use or incorporate any of
our technologies, cause injury or are found unsuitable during product testing,
manufacturing, marketing, sale or use. These risks exist even with respect to any
products that have received, or may in the future receive, regulatory approval,
registration or clearance for commercial use. We cannot guarantee that we will be able
to avoid product liability exposure.
We
currently maintain product liability insurance at levels we believe are sufficient and
consistent with industry standards for companies at our stage of development. We cannot
guarantee that our product liability insurance is adequate, and, at any time, it is
possible that such insurance coverage may not be available on commercially reasonable
terms or at all. A product liability claim could result in liability to us greater than
our assets and insurance coverage. Moreover, even if we have adequate insurance
coverage, product liability claims or recalls could result in negative publicity or
force us to devote significant time and attention to matters other than those that
arise in the normal course of business.
Rapid
changes in technology could render our current products or any other products we may
develop unmarketable or obsolete.
We
are engaged in an industry characterized by extensive research efforts and rapid
technological development. Our competitors, many of which have substantially greater
technological and financial resources than we do, may develop plant protection and yield
enhancement technologies and products that are more effective than ours or that render
our technology and products obsolete or uncompetitive. To be successful, we will need to
continually enhance our current products and any other products we may develop and to
design, develop and market new products that keep pace with new technological and
industry developments.
Inability
to comply with regulations applicable to our facilities and procedures could delay,
limit or prevent our research and development or manufacturing activities.
Our
research and development and manufacturing facilities and procedures are subject to
continual review and periodic inspection. To comply with the regulations applicable to
these facilities and procedures, we must spend funds, time and effort in the areas of
production, safety and quality control and assurance to help ensure full technical
compliance. If the EPA or another regulator determines that we are not in compliance,
regulatory approval of our current products or any other products we may develop could
be revoked, delayed or withheld or we may be required to limit or cease our research and
development or manufacturing activities or pay a monetary fine. If we were required to
limit or cease our research and development activities, our ability to develop new
products would be impaired. In addition, if we were required to limit or cease our
manufacturing activities, our ability to produce our current products in commercial
quantities would be impaired or prohibited, which could have an adverse effect on our
sales.
Inability
to produce high quality products could impair our business.
To
be successful, we will have to manufacture our current products in large quantities at
acceptable costs while also preserving high product quality. If we cannot maintain high
product quality on a large scale, we may be unable to achieve market acceptance of our
products and our sales would likely suffer. Moreover, we do not have back-up
manufacturing systems and, as a result, the failure of any component required in the
manufacturing process could delay or impair our ability to manufacture our products in
the quantities that we may require.
We
intend to continue to make changes to our manufacturing processes and facilities in
order to improve the efficiency and quality of our manufacturing activities. We cannot
guarantee that we will be successful in this regard or that the changes we make will
improve our manufacturing activities. We may encounter difficulties in the production
of our current products or any future products we may develop, including problems
involving manufacturing processes or yields, packaging, distribution, storage, quality
control and assurance, shortages of qualified personnel or compliance with regulatory
requirements. Even if we are successful in developing our manufacturing capability and
processes, there can be no assurance that we will satisfy the requirements of our
distributors or customers.
-23-
If
third-party manufacturers fail to perform adequately, we could be unable to meet demand
and our revenues could be adversely affected.
When
our manufacturing plant is operating, we depend on independent manufacturers for
large-scale fermentation services and to perform certain other portions of our
production process. We intend to engage additional third-party manufacturers as
necessary to perform these processes. Any failure or delay in the ability of our
current or any future manufacturers to provide us with material they produce could
adversely affect our ability to produce our current products in the quantities necessary
to satisfy the requirements of our distributors or customers, or could increase our
costs associated with obtaining such materials. In addition, the time and resources that
our current or future third-party manufacturers devote to our business are not within
our control. We cannot ensure that our current or future third-party manufacturers will
perform their obligations to meet our quality standards, that we will derive cost
savings or other benefits from our relationships with them or that we will be able to
maintain a satisfactory relationship with them on terms acceptable to us. Moreover,
these manufacturers may support products that compete directly or indirectly with ours,
or offer similar or greater support to our competitors. If any of these events were to
occur, our business and operations could be adversely affected.
Inability
to address strain on our resources caused by growth could result in ineffective
management of our business.
If
we experience growth and add manufacturing, marketing, sales, field development or other
personnel, both domestically and internationally, during the commercialization of our
current products, we expect that our operating expenses and capital requirements will
increase. Our ability to manage growth effectively requires us to continue to expend
funds to improve our operational, financial and management controls, reporting systems
and procedures. In addition, we must effectively expand, train and manage our employee
base. We will be unable to effectively manage our business if we are unable to timely
and successfully alleviate the strain on our resources caused by growth in our business,
which could adversely affect our operating results.
Inability
to retain our key employees or other skilled managerial or technical personnel could
impair our ability to maintain or expand our business.
We
are highly dependent on the efforts and abilities of our current key managerial and
technical personnel, particularly Dr. Rhett R. Atkins, our President and Chief
Executive Officer, and Dr. Zhongmin Wei, our Chief Scientific Officer and Vice President
of Research. Our success will depend in part on retaining the services of Drs. Atkins
and Wei and our other existing key management and technical personnel and on attracting
and retaining new, highly qualified personnel.
Inability
to retain our existing key management or technical personnel or to attract additional
qualified personnel could, among other things, delay our sales, marketing,
manufacturing and research and development efforts. Moreover, in our field, competition
for qualified management and technical personnel is intense and many of the companies
with which we compete for experienced personnel have greater financial and other
resources than we do. As a result, we may be unable to recruit, train and retain
sufficient qualified personnel.
Item 3.
Quantitative and Qualitative Disclosures About Market Risk.
Our
financial instruments include primarily cash and cash equivalents. We do not use
derivative financial instruments, nor do we engage in hedging activities. Also, we do
not have any outstanding variable rate debt. Because of the relatively short-term
average maturity of our investment funds, we do not expect interest rate fluctuations
to significantly affect the aggregate value of our financial assets.
Our
operations are currently based primarily in the U.S. and Europe. Transactions in the
U.S. are denominated in U.S. dollars and transactions in our European unit are generally
denominated in foreign currencies, primarily Euros. The balance of foreign
currency-denominated assets and liabilities at September 30, 2005 was not significant.
Item 4.
Controls and Procedures.
Under
the supervision and with the participation of management, including our President and
Chief Executive Officer and our Chief Financial Officer, we have carried out an
evaluation of the effectiveness of our disclosure controls and procedures (as defined in
Rule 13a-15(e) under the Securities Exchange Act of 1934) as of the end of the fiscal
quarter covered by this report. Based on that evaluation, our President and Chief
Executive Officer and our Chief Financial Officer concluded that our disclosure
controls and procedures are effective as of the end of such quarter. There have been no
changes in our internal control over financial reporting during the quarter covered by
this report that have materially affected, or are reasonably likely to materially
affect, our internal control over financial reporting.
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PART II -- OTHER INFORMATION
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds.
(b) Use of
proceeds.
On
September 26, 2000, the SEC declared effective our Registration Statement on Form S-1,
as amended (Registration No. 333-41028), as filed with the SEC in connection with our
initial public offering. Proceeds to Eden Bioscience, after accounting for $7.0 million
in underwriting discounts and commissions and approximately $1.6 million in other
expenses of the offering, were approximately $91.5 million.
As
of September 30, 2005, of the net offering proceeds, we have used approximately $18.6
million to expand and enhance our manufacturing, research and development and
administration facilities, and approximately $64.3 million for working capital and
general corporate purposes. The remaining portion of the net offering proceeds has been
invested in cash equivalent investments. Our use of the proceeds from the offering does
not represent a material change in the use of proceeds described in the prospectus
included as part of the Registration Statement.
Item 6.
Exhibits.
Exhibits
10.1, 31.1 and 31.2 are being filed as part of this quarterly report on Form 10-Q.
Exhibits 32.1 and 32.2 are being furnished with this quarterly report on Form 10-Q.
(a) Exhibits.
| Exhibit Number |
Description |
| 10.1 | Form of Option Letter Agreement for Directors and Officers |
| 31.1 | Rule 13a-14(a) Certification (Chief Executive Officer). |
| 31.2 | Rule 13a-14(a) Certification (Chief Financial Officer). |
| 32.1 | Section 1350 Certification (Chief Executive Officer). |
| 32.2 | Section 1350 Certification (Chief Financial Officer). |
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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.
| EDEN BIOSCIENCE CORPORATION | |||
| Date: | October 28, 2005 | ||
| By: | /s/ Rhett R. Atkins | ||
| |
|||
| Rhett R. Atkins | |||
| President and Chief Executive Officer | |||
| By: | /s/ Bradley S. Powell | ||
|
|
|||
| Bradley S. Powell | |||
| Vice
President of Finance, Chief Financial
Officer and Secretary (principal financial and accounting officer) |
|||
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