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 March 31, 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.) |
3830
Monte Villa Parkway, Suite 100
Bothell, Washington 98021-7266
(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. Yes þ 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). Yes o 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 May 12, 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 | ||||||||
| March
31, 2005 |
December
31, 2004 |
|||||||
| Current assets: | ||||||||
| Cash and cash equivalents | $ | 9,934,817 | $ | 11,860,385 | ||||
| Accounts receivable, net of sales allowances | 732,301 | 39,946 | ||||||
| Inventory | 3,733,963 | 3,487,586 | ||||||
| Prepaid expenses and other current assets | 585,900 | 498,670 | ||||||
| Total current assets | 14,986,981 | 15,886,587 | ||||||
| Property and equipment, net | 13,070,147 | 13,887,573 | ||||||
| Other assets | 1,568,674 | 1,561,902 | ||||||
| Total assets | $ | 29,625,802 | $ | 31,336,062 | ||||
| LIABILITIES AND SHAREHOLDERS’ EQUITY | ||||||||
| Current liabilities: | ||||||||
| Accounts payable | $ | 354,040 | $ | 190,648 | ||||
| Accrued liabilities | 1,135,364 | 1,206,411 | ||||||
| Current portion of accrued loss on facility subleases | 511,329 | 507,748 | ||||||
| Current portion of capital lease obligations | 8,409 | 11,572 | ||||||
| Total current liabilities | 2,009,142 | 1,916,379 | ||||||
| Accrued loss on facility subleases, net of current portion | 1,908,407 | 2,037,613 | ||||||
| Capital lease obligations, net of current portion | – | 761 | ||||||
| Other long-term liabilities | 791,307 | 771,934 | ||||||
| Total liabilities | 4,708,856 | 4,726,687 | ||||||
| Commitments and contingencies | ||||||||
| Shareholders’ equity: | ||||||||
| Preferred stock, $.01 par value, 10,000,000 shares authorized; no shares | ||||||||
| issued and outstanding at March 31, 2005 and December 31, 2004 | – | – | ||||||
| Common stock, $.0025 par value, 100,000,000 shares authorized; | ||||||||
| 24,381,870 issued and outstanding shares at March 31, 2005 and | ||||||||
| December 31, 2004 | 60,955 | 60,955 | ||||||
| Additional paid-in capital | 132,535,982 | 132,535,982 | ||||||
| Accumulated other comprehensive loss | (43,276 | ) | (37,675 | ) | ||||
| Accumulated deficit | (107,636,715 | ) | (105,949,887 | ) | ||||
| Total shareholders’ equity | 24,916,946 | 26,609,375 | ||||||
| Total liabilities and shareholders’ equity | $ | 29,625,802 | $ | 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 March 31, | ||||||||
| |
||||||||
| 2005 | 2004 | |||||||
| Product sales, net of sales allowances | $ | 1,154,486 | $ | 213,401 | ||||
| Operating expenses: | ||||||||
| Cost of goods sold | 528,317 | 657,997 | ||||||
| Research and development | 926,317 | 676,309 | ||||||
| Selling, general and administrative | 1,454,704 | 1,276,698 | ||||||
| Total operating expenses | 2,909,338 | 2,611,004 | ||||||
| Loss from operations | (1,754,852 | ) | (2,397,603 | ) | ||||
| Other income (expense): | ||||||||
| Interest income | 68,305 | 51,923 | ||||||
| Interest expense | (281 | ) | (719 | ) | ||||
| Total other income | 68,024 | 51,204 | ||||||
| Loss before income taxes | (1,686,828 | ) | (2,346,399 | ) | ||||
| Income taxes | – | – | ||||||
| Net loss | $ | (1,686,828 | ) | $ | (2,346,399 | ) | ||
| Basic and diluted net loss per share | $ | (0.07 | ) | $ | (0.10 | ) | ||
| Weighted average shares outstanding used to compute net loss per share | 24,381,870 | 24,361,990 | ||||||
The accompanying notes are an integral part of these statements.
-3-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
| Three Months Ended March 31, | ||||||||
| |
||||||||
| 2005 | 2004 | |||||||
| Cash flows from operating activities: | ||||||||
| Net loss | $ | (1,686,828 | ) | $ | (2,346,399 | ) | ||
| Adjustments to reconcile net loss to cash used in operating activities: | ||||||||
| Depreciation and amortization | 610,444 | 528,818 | ||||||
| Gain on sale of equipment | (16,410 | ) | – | |||||
| Accretion expense | 6,734 | 5,977 | ||||||
| Deferred rent payable | 12,639 | 12,639 | ||||||
| Changes in assets and liabilities: | ||||||||
| Accounts receivable | (693,173 | ) | (104,620 | ) | ||||
| Inventory | (81,759 | ) | (55,649 | ) | ||||
| Prepaid expenses and other assets | (94,741 | ) | 37,619 | |||||
| Accounts payable | 163,514 | 160,188 | ||||||
| Accrued liabilities | (60,842 | ) | (200,767 | ) | ||||
| Accrued loss on facility subleases | (125,625 | ) | (128,709 | ) | ||||
| Net cash used in operating activities | (1,966,047 | ) | (2,090,903 | ) | ||||
| Cash flows from investing activities: | ||||||||
| Proceeds from sale of equipment | 50,000 | – | ||||||
| Net cash provided by investing activities | 50,000 | – | ||||||
| Cash flows from financing activities: | ||||||||
| Reduction in capital lease obligations | (3,924 | ) | (6,070 | ) | ||||
| Net cash used in financing activities | (3,924 | ) | (6,070 | ) | ||||
| Effect of foreign currency exchange rates on cash and cash equivalents . | (5,597 | ) | 128 | |||||
| Net decrease in cash and cash equivalents | (1,925,568 | ) | (2,096,845 | ) | ||||
| Cash and cash equivalents at beginning of period | 11,860,385 | 19,823,339 | ||||||
| Cash and cash equivalents at end of period | $ | 9,934,817 | $ | 17,726,494 | ||||
| Supplemental disclosures: | ||||||||
| Cash paid for interest | $ | 281 | $ | 719 | ||||
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 ended March 31, 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 March 31, 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 generally accepted accounting
principles in the United States requires management to make estimates and assumptions
that affect the reported amounts 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 and inventory valuation; cash flow projections 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
$286,000 at March 31, 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 March 31, 2005 or December 31, 2004.
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, units-of-production and
accelerated methods, 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 currently occupies and
estimates it will sublease substantially all of this space by the end of 2005. Based on
the current sublease market, the Company believes that a portion of the leasehold
improvements and certain equipment related to the lab space will 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 has
been reduced from January 2011, the end of the lease term, to December 31, 2005. In the
first quarter of 2005, amortization and depreciation of $355,000 was included in
research and development expense in the condensed consolidated statements of operations
and amortization and depreciation of $1.1 million is expected to be recorded over the
remainder of 2005.
Revenues
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 2005, 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 $259,000 from these
deliveries when payment was received in the quarter ended March 31, 2005 and zero in the
quarter ended March 31, 2004. Gross revenues of $435,000 and cost of goods sold of
$117,000 were deferred at March 31, 2005 and will be recognized when payment is received.
Sales
allowances represent allowances granted to independent distributors for sales and
marketing support, product warehousing and delivery and information exchange and are
estimated based on the terms of the distribution arrangements currently in place. Sales
allowances are accrued when the related product sales are recognized and are paid in
accordance with the terms of the then-current distributor program arrangement.
Distributor program arrangements expire annually, generally on December 31.
-6-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Gross
product sales and sales allowances are as follows:
| Three Months Ended March 31, | ||||||||
| |
||||||||
| 2005 | 2004 | |||||||
| Gross product sales | $ | 1,365,217 | $ | 132,158 | ||||
| Sales allowances | (302,102 | ) | (13,994 | ) | ||||
| Reduction of previously recorded sales allowance liabilities | 91,371 | 95,237 | ||||||
| Product sales, net of sales allowances | $ | 1,154,486 | $ | 213,401 | ||||
| Net product sales by geographical region were: | ||||||||
| Three Months Ended March 31, | ||||||||
| |
||||||||
| 2005 | 2004 | |||||||
| United States | $ | 895,362 | $ | 213,401 | ||||
| Spain | 210,074 | – | ||||||
| Other regions | 49,050 | – | ||||||
| Product sales, net of sales allowances | $ | 1,154,486 | $ | 213,401 | ||||
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 quarter of 2004,
the Company delivered approximately 202,000 ounces of Messenger products at no charge
to distributors.
Stock
Compensation
The
Company has elected to apply the disclosure-only provisions of Statement of Financial
Accounting Standards (“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 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 income and earnings per share as if the Company had
applied the fair value recognition provisions of SFAS No. 123 to stock-based
compensation.
| Three Months Ended March 31, | ||||||||
| |
||||||||
| 2005 | 2004 | |||||||
| Net loss, as reported | $ | (1,686,828 | ) | $ | (2,346,399 | ) | ||
| Deduct: Total stock-based employee compensation expense | ||||||||
| under fair value based method | (173,528 | ) | (154,337 | ) | ||||
| Pro forma net loss | $ | (1,860,356 | ) | $ | (2,500,736 | ) | ||
| Loss per share: | ||||||||
| Basic and diluted - as reported | $ | (0.07 | ) | $ | (0.10 | ) | ||
| Basic and diluted - pro forma | $ | (0.08 | ) | $ | (0.10 | ) | ||
-7-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Net Loss per
Share
Basic
net loss per share is the net loss divided by the average number of shares outstanding
during the period. Diluted net loss per share is the net loss divided by the sum of the
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 2,754,499 and 2,756,091 as of March 31, 2005 and 2004, respectively.
2. Stock
Options and Warrants
The
following table summarizes stock option activity since December 31, 2004:
| Number
of Options |
|||||
| Balance at December 31, 2004 | 2,620,578 | ||||
| Options granted | 10,000 | ||||
| Options cancelled | (76,079 | ) | |||
| Balance at March 31, 2005 | 2,554,499 | ||||
As
of March 31, 2005, the Company had warrants outstanding to purchase 200,000 shares of
its common stock at $15.00 per share. The warrants are currently exercisable and expire
in August 2005. No warrants to purchase shares of the Company’s common stock were
issued during the three-month period ended March 31, 2005.
3. Inventory
Inventory,
at average cost, consists of the following:
| March
31, 2005 |
December
31, 2004 |
|||||||
| Raw materials | $ | 565,903 | $ | 579,385 | ||||
| Bulk inventory and work in progress | 2,089,911 | 1,906,681 | ||||||
| Finished goods | 1,078,149 | 1,001,520 | ||||||
| Total inventory | $ | 3,733,963 | $ | 3,487,586 | ||||
4. Property
and Equipment
Property
and equipment, at cost, consists of the following:
| March
31, 2005 |
December
31, 2004 |
|||||||
| Equipment | $ | 12,359,408 | $ | 12,460,206 | ||||
| Equipment under capital leases | 66,646 | 66,646 | ||||||
| Leasehold improvements | 10,817,391 | 10,817,391 | ||||||
| Total property and equipment | 23,243,445 | 23,344,243 | ||||||
| Less accumulated depreciation and amortization | (10,173,298 | ) | (9,456,670 | ) | ||||
| Net property and equipment | $ | 13,070,147 | $ | 13,887,573 | ||||
The Company
recorded depreciation and amortization of $610,444 and $528,818 for the three months
ended March 31, 2005 and 2004, respectively.
-8-
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
5. Accrued
Liabilities
Accrued
liabilities consist of the following:
| March 31, 2005 |
December 31, 2004 |
|||||||
| Compensation and benefits | $ | 315,108 | $ | 307,313 | ||||
| Research and development field trial expenses | 201,054 | 256,873 | ||||||
| Facility costs | 235,179 | 232,097 | ||||||
| Promotions | 69,362 | 95,415 | ||||||
| Sales allowances | 14,853 | 84,769 | ||||||
| Warranty | 75,000 | 75,000 | ||||||
| Other | 224,808 | 154,944 | ||||||
| Total accrued liabilities | $ | 1,135,364 | $ | 1,206,411 | ||||
6. Warranty
Liability
The
warranty accrual percentage, which has ranged between zero and five percent, is reviewed
periodically and adjusted as necessary, based on historical experience, the results of
product quality testing and future expectations. There were no changes to the Company’s
warranty liability during the three months ended March 31, 2005.
7. 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 March 31, | ||||||||
| 2005 | 2004 |
|||||||
| Customer A | $ | 213,000 | $ | – | ||||
| Customer B | 167,000 | – | ||||||
| Customer C | 117,000 | – | ||||||
| Customer D | ** | 43,000 | ||||||
| Customer E | ** | 29,000 | ||||||
| Customer F | ** | 13,000 | ||||||
**
Less than ten percent.
-9-
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 focused on developing, manufacturing and marketing
innovative products for agriculture using our natural-based protein harpin technology.
We have a fundamentally new, patented and proprietary technology that we believe
enhances plant health and improves overall crop production and quality. We believe our
technology provides growers with valuable benefits by increasing crop yields, quality
and shelf-life; by improving the plant’s ability to suppress certain diseases and
other environmental stresses; and by enhancing the uptake of nutrients.
We
have incurred significant operating losses since inception. At March 31, 2005, we had an
accumulated deficit of $107.6 million. We incurred net losses of $1.7 million and $2.3
million for the quarters ended March 31, 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.
Results of
Operations
Three Months
Ended March 31, 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 March 31, | ||||||||
| 2005 | 2004 | |||||||
| Gross product sales | $ | 1,365,217 | $ | 132,158 | ||||
| Sales allowances | (302,102 | ) | (13,994 | ) | ||||
| Reduction of previously recorded sales allowance liabilities | 91,371 | 95,237 | ||||||
| Product sales, net of sales allowances | $ | 1,154,486 | $ | 213,401 | ||||
-10-
Gross
product sales revenue for the first quarter of 2005 was $1,365,000, an increase of
$1,233,000 from $132,000 in the same quarter 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 quarter ended March 31, 2005. Sales
in the quarters ended March 31, 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 quarter of 2005 were made primarily to 30 distributors, three of
which accounted for an aggregate of 43% of net product sales revenue. Sales in the
first quarter of 2004 were made primarily to 13 distributors, three of which accounted
for an aggregate of 40% of net product sales revenue. We expect sales in the second
quarter of 2005 to exceed sales in the first quarter of 2005.
Net
product sales to foreign customers totaled $259,000 and zero in the three months ended
March 31, 2005 and 2004, respectively, and were made primarily to distributors
in Europe. In February 2004, we received approval to sell Messenger in Spain. We
initiated marketing activities in March 2005, 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, revenue from these product deliveries was deferred and will
be recognized when payment is received. We recognized net revenue of $259,000 from these
deliveries when payment was received in the quarter ended March 31, 2005 and zero in the
quarter ended March 31, 2004. Gross revenues of $435,000 and cost of goods sold of
$117,000 were deferred at March 31, 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 $183,000 and $82,000 in the three months ended March 31, 2005 and 2004,
respectively. We expect sales of our home and garden products to continue to increase in
the second quarter of 2005.
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 approximately
550,000 ounces of Messenger STS at no charge in order to reduce the average cost of
their existing inventories of Messenger. In the first quarter of 2004, we delivered
approximately 202,000 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, product warehousing and delivery and information exchange and are
estimated based on the terms of the distribution arrangements. Sales allowances are
accrued when the related product sales revenue is recognized and are paid in accordance
with the terms of the then-current distributor program arrangement. Distributor program
arrangements expire annually, generally on December 31.
Sales
allowances for the quarters ended March 31, 2005 and 2004 include the reduction by
$91,000 and $95,000, respectively, of sales allowance 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 quarter ended March 31, 2005 totaled $302,000 (22% of gross product sales)
compared to $14,000 (11% of gross product sales) in the comparable quarter 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
-11-
volumes in 2005
was offset by a reduction in idle capacity charges resulting from additional
manufacturing activities in 2005 and the write-off in 2004 of Messenger labels that were
not used due to the introduction of Messenger STS.
Research and
Development Expenses
Research
and development expenses consist primarily of personnel, field trial, laboratory,
regulatory, patent and facility expenses. Research and development expenses increased
$250,000 (37%) from $676,000 in the first quarter of 2004 to $926,000 in the same
quarter of this 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. We are pursuing
additional tenants to sublease lab and office space at our research and administrative
building and we expect to complete this by December 2005.
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 increased $178,000 (14%) from $1.3 million in the first quarter of 2004 to $1.5
million in the same quarter of 2005. 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.
Interest Income
Interest
income consists of earnings on our cash and cash equivalents. Interest income increased
$16,000 from $52,000 in the first quarter of 2004 to $68,000 in the same quarter 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 quarter ended March 31, 2005
compared to the same quarter 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 $101.5 million of net
operating loss carryforwards for federal income tax purposes, which expire between 2009
and 2024, and approximately $9.1 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%.
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 March 31, 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, in April 2005, we received a delisting warning letter from the Nasdaq
Stock Market notifying us that the closing price per share for our common stock was
below the $1.00 minimum bid price for 30 consecutive trading days and that, as a result,
we no longer meet Nasdaq's continued listing criteria. Nasdaq provided us with 180
calendar days, or until October 3, 2005, to regain compliance. To regain compliance
with the minimum bid price requirement, the closing bid price of our common stock must
remain above $1.00 for a minimum of ten consecutive trading days. If we do not regain
compliance by October 3, 2005, which, as of the date of this report, we have been unable
to do, and are not eligible to transfer our common stock to The Nasdaq SmallCap Market
and qualify for an additional 180-day compliance period, our common stock will be
delisted from The Nasdaq National Market. Nasdaq delisting could make it more difficult
for us to raise capital. The sale of additional equity securities could result in
dilution to our shareholders.
-12-
At
March 31, 2005, our cash and cash equivalents totaled $9.9 million, a decrease of $2.0
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 $125,000 from $2.1 million in the first three months
of 2004 to just under $2 million in the same period of 2005. Net cash used in operations
in the first three months of 2005 resulted primarily from a net loss of $1.7 million,
which includes depreciation and amortization expense of $610,000, and fluctuations in
various asset and liability balances totaling $893,000. 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 three months ended March
31, 2005 or 2004.
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, product warehousing and delivery and information exchange 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.
-13-
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 March 31, 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.
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 to be realized from the use of such assets are less
than their carrying value. The determination of undiscounted 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.
In
October 2004, the Company began marketing lab and office space it currently occupies and
estimates it will sublease substantially all of this space by the end of 2005. Based on
the current sublease market, the Company believes that a portion of the leasehold
improvements and certain equipment related to the lab space will 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 has
been reduced from January 2011, the end of the lease term, to December 31, 2005. In the
first quarter of 2005, amortization and depreciation of $355,000 was included in
research and development expense in the condensed consolidated statements of operations
and amortization and depreciation of $1.1 million is expected to be recorded over the
remainder of 2005.
Based
upon our most recently completed analysis of net cash flows expected to be realized from
our remaining investments in property and equipment, 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. Another critical assumption is
that we will continue our current facility leases. If we do not continue our leases, we
may incur a significant impairment loss on leasehold improvements and equipment at these
facilities and other significant losses. Changes in the factors above or other factors
could result in significantly different cash flow estimates and a significant
impairment charge.
Loss on
Facility Subleases
As
of March 31, 2005, we subleased approximately 34,300 square feet of laboratory and
office space to other companies. One subtenant vacated approximately 7,300 square feet
of office space in October 2004. As a result, the Company recorded an additional loss of
$202,000 in 2004. In determining the loss on these facility subleases, we considered a
number of factors, including the financial condition of the subtenants, subtenants’ investments
in improvements, amounts of security deposits, estimated time needed to sublease space
and estimated rents to be collected. Based on our analysis, we estimate that rents will
be collected and that one subtenant will exercise a three-year extension option. Changes
in the factors above or other factors could result in a significant increase in the loss.
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
-14-
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 March 31, 2005, we have accumulated a deficit of $107.6 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 March 31, 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.
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.
As of the date
of this report, we do not meet the $1.00 minimum bid requirement for continued listing
on The Nasdaq National Market and, as a result, our common stock may be delisted from
The Nasdaq National Market, which could further depress our stock price and make it more
difficult for us to raise capital.
Our
common stock is currently listed on The Nasdaq National Market. To maintain this
listing, we must satisfy ongoing listing requirements, including consistently
maintaining a minimum bid price for our common stock of $1.00 per share or more. In
April 2005, we received a delisting warning letter from the Nasdaq Stock Market
notifying us that the closing price per share for our common stock was below the $1.00
minimum bid price for 30 consecutive trading days and that, as a result, we no longer
meet Nasdaq's continued listing criteria. Nasdaq provided us with 180 calendar days, or
until October 3, 2005, to regain compliance. To regain compliance with the minimum bid
price requirement, the closing bid price of our common stock must remain above $1.00 for
a minimum of ten consecutive trading days. If we do not regain compliance by October 3,
2005, which, as of the date of this report, we have been unable to do, and are not
eligible to transfer our common stock to The Nasdaq SmallCap Market and qualify for an
additional 180-day compliance period, our common stock will be delisted from The Nasdaq
National Market. Nasdaq also notes in the delisting warning letter that the 180-day
period relates exclusively to the bid price deficiency and that we may be delisted
during the 180-day period for failure to maintain compliance during this period with any
other listing requirements. If we were to lose our Nasdaq National Market status, we
would likely seek listing of our common stock in the over-the-counter market, which is
viewed by many investors as a less liquid marketplace. Among other things, our common
stock may then constitute “penny stock,” which would
-15-
place increased
regulatory burden upon brokers, making them less likely to make a market in our stock.
Loss of our Nasdaq National Market status could also make it more difficult for us to
raise capital or complete acquisitions and would also complicate compliance with state
“blue sky” laws.
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.
The
markets for our products and other harpin-based products we may develop are unproven.
Messenger, Messenger STS, employ and MightyPlant have not gained, and may not gain,
commercial acceptance or success. N-Hibit and ProAct 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 three months of 2005, we
estimate that distributors sold 214,000 ounces to growers, compared to 172,000 ounces
in the same period of 2004. We estimate that Messenger and Messenger STS inventory held
by distributors at March 31, 2005 was approximately 418,000 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.
-16-
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 retailer 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.
Three
distributors accounted for an aggregate of 43% of net product sales revenue in first
three months or 2005 and three different distributors accounted for an aggregate of 40%
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
-17-
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.
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 2000, 2001, 2002 and
2004. We have conducted laboratory studies that indicate Messenger is stable for at
least two years under our recommended storage conditions and the results of recently
completed re-testing of Messenger manufactured in 2000 indicate that it is stable for
more than four years. 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 March 31, 2005 includes approximately 2.9 million ounces of Messenger and
Messenger STS that was manufactured in 2000, 2001, 2002 and 2004. In addition, we
estimate that distributors own approximately 418,000 ounces of Messenger and Messenger
STS that was manufactured between 2000 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
2000, 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 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
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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 in 37 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.
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 46 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:
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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.
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.
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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.
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
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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.
If third-party
manufacturers fail to perform adequately, we could be unable to meet demand and our
revenues could be impaired.
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.
As
we 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.
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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
We
do not currently hold any derivative instruments, and we do not engage in hedging
activities. Also, we do not have any outstanding variable-rate debt and currently do not
enter into any material transactions denominated in foreign currency. Because of the
relatively short-term average maturity of our investment funds, such investments are
sensitive to interest rate movements. Our direct exposure to interest rate and foreign
exchange rate fluctuation is currently not material to our results of operations. We
believe that the market risk arising from the financial instruments we hold is not
material.
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.
PART II — OTHER INFORMATION
Item 2.
Unregistered Sales of Equity Securities and 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.
To
date, 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 $63 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
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.
| Exhibit
Number |
Description |
| 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: | May 10, 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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